Illegal Briefs: Israeli Undergarment Importer Can Assert Chapter 75 Claim in M.D.N.C.

When do treble damages need a passport?  In a Middle District opinion Wednesday, the Court held that a foreign plaintiff may assert an unfair and deceptive trade practices claim in North Carolina under certain circumstances.

Ada Liss Group (2003) v. Sara Lee Corp. (M.D.N.C. No. 06-CV-610) involved a decade-long dispute between North Carolina's hosiery manufacturer and its exclusive distributor of certain products in Israel.  Under a 1994 Distributorship Agreement, Ada Liss bought the exclusive right to distribute Bali-branded women's intimate apparel to retailers in Israel.  (Although we at this blog normally include a topically appropriate image with every post, we'll exercise some restraint and discretion on this one).  Sara Lee agreed not to sell such products to anyone else in Israel or to sell them to anyone whom Sara Lee "knows or has reason to believe is likely to resell or deliver the Products to customers located in the Territory."

Beginning in 2000, Ada Liss noticed Bali imports other than its own in the Israeli marketplace ("parallel imports"), apparently the result of a Sara Lee distributor in Miami who purchased the products from Sara Lee at prices far lower than those charged to Ada Liss.   Later, a New York distributor began distributing the same products in Israel.

Sara Lee and Ada Liss entered into a Settlement Agreement and a 2004 Distributorship Agreement.  Under those agreements, Sara Lee agreed to "mark" products sold to the other distributors in order to determine the source if those products showed up in Israel.  Ada Liss, in turn, released its claims against Sara Lee from 1994 through the date of the Settlement Agreement.

The parallel imports problem continued, however.  Ada Liss sued under various contract and tort theories, alleging that Sara Lee was not marking the products, never intended to do so, and fraudulently induced Ada Liss to enter into the two 2004 agreements only to obtain the release of a multi-million dollar liability.  Ada Liss further alleged that Sara Lee continued to sell Bali products to the other distributors with actual knowledge that those distributors were sending the products to Israel.  The matter came before Judge Tilley on the parties' respective objections to a report and recommendation of Judge Dixon on Sara Lee's motion to dismiss and Ada Liss's motion for partial summary judgment.

Ada Liss asserted a Chapter 75 claim for unfair and deceptive trade practices based on allegations of Sara Lee's deceptive conduct as well as allegations of common law fraud.  Sara Lee challenged the Court's subject matter jurisdiction over this claim based on an earlier Middle District decision, The "In" Porters, S.A. v. Hanes Printables, Inc., 663 F. Supp. 494 (M.D.N.C. 1987).  In "In" Porters, Judge Gordon held that a foreign plaintiff may not assert a Chapter 75 claim in North Carolina absent "a substantial state interest in the litigation such that application of North Carolina’s law is ‘neither arbitrary nor unfair,’" which in turn required a showing of "'a substantial effect on the plaintiff’s in-state operations'" (emphasis in original) to trigger the jurisdictional requirements of North Carolina's long-arm statute.  The dispute in "In" Porters concerned an exclusive distributorship in France for products purchased from a defendant's Belgian subsidiary.  Although there were negotiations in North Carolina, none of those negotiations were tainted by fraud or gave rise to the Chapter 75 claim.

In Ada Liss, Judge Tilley affirmed that "In" Porters was still good law, but distinguished it on the facts.  As he described the earlier case, "The problem for the ‘In’ Porters plaintiff was that the record showed exclusively foreign misconduct with damages to the plaintiff’s exclusively foreign operations."  In contrast,

where Sara Lee–itself a North Carolina resident–is alleged to have committed fraud in North Carolina against Ada Liss, the question of extra-territorial application of the UDTP statute, which was fatal to the UDTP claim in ‘In’ Porters, is simply not at issue. Because the conduct alleged took place in North Carolina, the court does not have to search for an impact on the Plaintiff’s state operations or a strong state interest. There is no inquiry into the sufficiency of Plaintiff’s relationship to North Carolina in a case involving local acts under 1-75.4(3).

There were four other legal issues of note in the opinion.  First, both the 1994 and 2004 Distributorship Agreements contained an exculpatory clause for incidental or consequential damages and lost profits, but the Court rejected Sara Lee's attempted application of the clause to willful or intentional conduct.  The clause applied to contractual claims and, under certain circumstances, could have applied to ordinary negligence claims, but an exculpatory provision for intentional wrongdoing "not only lacks clear textual support in the agreement, it also has no basis in contract law and defies sound public policy."  The Court considered the absence of North Carolina case law on the subject to be a function of the clarity of the rule: 

[T]he issue is so obviously contrary to sound law and policy that courts simply have not written opinions on the subject. The precedent created if contracts with exculpatory clauses for intentional torts became enforceable would be noxious. Parties could simply circumvent tort law altogether, eliminating the natural check on intentional misconduct that comes from the potential for extensive tort liability.

Second, the Court held that Ada Liss stated a claim for fraud and negligent misrepresentation in addition to its contract claims.  Although the economic loss doctrine prevents tort recovery for purely contractual claims, the Court concluded that Ada Liss's allegations were sufficient to support its tort claims because they suggested a fraudulent scheme that commenced before the formation of a contract between the parties.

Third, the Court rejected Ada Liss's separate claim for breach of the covenant of good faith and fair dealing, holding that there was no "special relationship between the parties" that would give rise to such a claim independent of a breach of contract claim.

Finally, Judge Tilley adopted the Magistrate's recommendation to award summary judgment to Ada Liss on the issue of breach of the 2004 Settlement Agreement for failure to mark products sold to third parties as required by the agreement.

 

Full Opinion

 

 

Lien Waiver Can Subordinate Materialman's Whole Claim to Lender

It's not often that the Business Court is called upon to address matters of construction law.  Yesterday, though, the Court held that a general contractor's lien waiver constituted a waiver both as to the amount and the priority of the contractor's claims.

In Wachovia Bank, N.A. v. Superior Construction Corp., Wachovia was the construction lender and Superior was the general contractor on "The Preserve," a condominium development in Brunswick County that was owned by Intercoastal Living, LLC, now in receivership.  The project was only partially completed, and litigation ensued.  (A number of lawsuits were filed against Superior and Intercoastal, many of which were designated to Judge Jolly as exceptional cases.  The Wachovia case, however, was designated by the Chief Justice as a complex business case).

Under North Carolina's materialman's lien statutes, including N.C.G.S. § 44A-10, a claim of lien relates back to the first furnishing of labor or materials at the site of the improvement.  Such a lien takes priority over encumbrances arising after that "first furnished" date.

Based on the allegations of the complaint, Superior first furnished labor and materials to the site approximately one month before Wachovia obtained a promissory note and deed of trust for over $22 million.  Under the lien statutes and absent any other facts, Superior would have been in good shape.

There were other facts, though:  During the course of construction, Wachovia, like most construction lenders, required Superior to execute lien waivers in order to obtain interim payments.  Superior executed two such lien waivers in connection with payment applications totaling over $850,000.

Wachovia filed a declaratory judgment action, then was substituted out as plaintiff.  Fortunately for the new plaintiff, Wachovia attached the lien waivers to its complaint, which allowed the new plaintiff to move for judgment on the pleadings under Rule 12(c) on the basis of those waivers.

Judge Jolly determined that the pleadings "clearly establish that Defendant Superior executed the Waivers in exchange for consideration from Wachovia."  The question for the Court was the scope of those waivers.

Superior and its bonding company argued that, although a lien waiver reduces the amount that may be claimed in a subsequent lien proceeding, such a waiver cannot alter the date to which a lien relates back.  The Court rejected that argument:

If a party chooses lawfully to change its position on a hierarchy of liens, by contractual waiver or otherwise, the party still remains certain and secure of its new position. While making such a business agreement may not be wise in hindsight, the law does not prevent the parties from doing so.

The Court also ruled that N.C.G.S. § 44A-12, which prohibits lien waivers "made 'in anticipation of and in consideration for the awarding of a contract . . . for the making of an improvement upon real property,'" was not implicated by the lien waivers at issue.  

 

Full Opinion

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Supreme Court Rejects Chapter 75 Claim Between Partners

In modern business litigation in North Carolina, it is increasingly rare to see a complaint that does not contain a claim under G.S. § 75-1.1 for unfair or deceptive trade practices.  Courts that have prevented the statute from having almost unlimited application have done so by determining that particular activities are not "in or affecting commerce."  The Supreme Court continued that pattern last week, holding that a dispute between partners did not trigger Chapter 75 liability.

In White v. Thompson, partners in a Bladen County fabrication and welding business enjoyed initial success, but "eventually fell victim to disagreements and infighting among the partners."  Two partners filed suit alleging that the third partner started a competing business that diverted the business of the original partnership.  The plaintiffs asserted that their partner's conduct constituted breach of fiduciary duty and unfair and deceptive trade practices.  The jury found in plaintiffs' favor and awarded judgment in the amount of $138,195 against the former partner.  The trial court ruled that the acts were unfair and deceptive and trebled the judgment amount pursuant to G.S. § 75-16.

Both defendants appealed, and a divided panel of the Court of Appeals reversed as to the former partner.  (Mack Sperling reported the Court of Appeals' decision to you last May).  Plaintiff appealed to the Supreme Court as of right based on the dissent in the Court of Appeals.

Justice Newby examined several prior Chapter 75 cases, including HAJMM Co. v. House of Raeford Farms, Inc., 328 N.C. 578, 403 S.E.2d 483 (1991).  HAJMM established that securities transactions and other "capital-raising activities" are not "in or affecting commerce" so as to trigger Chapter 75 liability.  The Court also cited Bhatti v. Buckland, 328 N.C. 240, 400 S.E.2d 440 (1991), for the proposition that the General Assembly intended to regulate conduct between market participants in two categories:  "(1) interactions between businesses, and (2) interactions between businesses and consumers."  (The Business Court has relied on the HAJMM line of cases to reject internally-generated Chapter 75 claims on several occasions,  including J Freeman Floor Co., LLC v. Freeman (May 14, 2009) (unpublished) (usurpation of LLC opportunities, dismissed on basis of Court of Appeals' opinion in White); Reid Pointe, LLC v. Stevens, 2008 NCBC 15, 2008 WL 3846174 (Aug. 18, 2008) (discharging LLC manager and demanding capital call); Kaplan v. O.K. Technologies, LLC (June 27, 2008) (unpublished) (dispute among LLC members), and Maurer v. Slickedit, Inc., 2005 NCBC 1, 2005 WL 1412496 (May 16, 2005) (dismissal as CEO, denial of board participation, and failure to take action to sell company)).

As the Supreme Court stated, Section 75-1.1 "is not focused on the internal conduct of individuals within a single market participant, that is, within a single business. . . .  As a result, any unfair or deceptive conduct contained solely within a single business is not covered by the Act."  Because the dispute was between partners, the Court affirmed the decision of the Court of Appeals reversing the trial court judgment.

Justice Hudson, joined by Justice Timmons-Goodson, dissented.  She criticized the majority's holding for relying on an outdated statement of purpose contained in a disco-era version of the statute.  She also distinguished HAJMM  on the grounds that the capital-raising activities in that case were not the core function of the company, whereas the disputes in White involved two partnerships competing for the business of a particular customer.

The bottom line is that, although White doesn't exactly break new ground given that HAJMM has been the law of North Carolina for nearly 20 years, the Supreme Court declined the opportunity to retreat from HAJMM and expand the scope of the unfair and deceptive trade practices statute.  The upside for North Carolina businesses is that treble damages should continue to be unavailable in internal corporate disputes.

Supreme Court Opinion

Court of Appeals Opinion

Arbitration Clause Unenforceable Based on Authenticity and Credibility Concerns

Both the North Carolina Uniform Arbitration Act and the Federal Arbitration Act are stacked in favor of the enforcement of arbitration provisions.  That does not mean that a defendant's motion to compel arbitration is a foregone conclusion, as a Business Court decision from Tuesday reminded us.

In Capps v. Blondeau, the Plaintiff inherited a significant estate from her aunt and used the estate to establish two trusts.  At some point over the next several years, she began to suffer from dementia, and her broker allegedly took advantage of the situation.  Plaintiff's guardian sued her broker and his brokerage firm, among others, alleging claims including breach of fiduciary duty, constructive fraud, constructive trust, RICO, and Chapter 75 violations.

At issue as a threshold matter was whether a valid arbitration agreement existed between Plaintiff and the brokerage firm.  (The Court permitted a limited discovery period confined to the validity of the arbitration provision).  This was more than a perfunctory challenge by the Plaintiff for several reasons:

  • There was conflicting testimony concerning whether the purported signature was, in fact, Plaintiff's.  Although Plaintiff testified that the signatures were hers, her testimony overall exhibited aspects of dementia, and she testified that she had never seen the forms before.
  • The brokerage firm was unable to produce the original forms bearing Plaintiff's signature.  It produced electronic copies, but probably did not help its authenticity argument by tendering "specimen" copies of the forms at issue that differed in format and in language with the forms purportedly bearing the Plaintiff's signature.
  • The brokerage firm's document retention procedures (or lack thereof) violated applicable SEC and FINRA regulations.
  • The two affidavits of the broker were rejected by the Court as largely speculative.  In addition, the broker's concurrent federal indictment and guilty plea to investment advisory fraud ruined his credibility and constituted an admission of a party opponent that he lied to and defrauded the Plaintiff.

The Court determined that securities brokerage agreements implicated interstate commerce and therefore triggered the application of the FAA.  Although the FAA requires doubts to be resolved in favor of arbitration, the existence of an agreement to arbitrate is governed by state common law contract formation principles.  

Judge Jolly held that the moving Defendants failed to meet their burden of proving that the parties agreed to arbitrate disputes between them.  The best evidence rule permits the use of electronic scans or specimens to prove the contents of a writing, but "if a party wishes to rely upon
such evidence, it must do better than what has been presented here."  Because the brokerage firm's "record keeping with regard to . . . the contended client agreement[] was sloppy and fragmented at best . . . the documentary evidence submitted by the moving Defendants was so problematic as to be inconclusive."  The only two witnesses with the potential to testify that the Plaintiff signed the agreement were the (mentally incompetent) Plaintiff and the (feloniously incredible) broker, neither of whom the Court was willing to rely upon.

Full Order

Document Dump Doesn't Do It Under Rule 33(c)

Discovery disputes are often fought at the margins, and the question for any attorney responding to written interrogatories is how much information is necessary to be responsive.  In an order Tuesday, the Business Court disapproved of one common tactic:  the generalized Rule 33(c) answer.

In case you haven't answered interrogatories in a while, recall that Rule 33(c) allows a responding party to point the propounding party to responsive business documents rather than the responding party poring over those documents itself to create a written answer:

(c)        Option to produce business records. – Where the answer to an interrogatory may be derived or ascertained from the business records of the party upon whom the interrogatory has been served or from an examination, audit or inspection of such business records, or from a compilation, abstract or summary based thereon, and the burden of deriving or ascertaining the answer is substantially the same for the party serving the interrogatory as for the party served, it is a sufficient answer to such interrogatory to specify the records from which the answer may be derived or ascertained and to afford to the party serving the interrogatory reasonable opportunity to examine, audit or inspect such records and to make copies, compilations, abstracts or summaries.

In Phillips & Jordan, Inc. v. Bostic, the parties already had been through a full round of briefing and a status conference on the plaintiff's motion to compel.  Plaintiff asserted that the Defendants' supplemental responses still weren't enough.  To the Court's frustration, Plaintiff did not identify specific responses that allegedly remained deficient, but the Court decided to address the issue anyway in order "to avoid further motions practice in a case where counsel cannot agree on the time of day. . . ."

Judge Diaz ruled that the Defendants could not use Rule 33(c) "to foist upon Plaintiff the obligation to comb through the records for materials responsive to the Discovery Requests."  The volume of documents at issue was an important factor for the Court:  over 200 bankers' boxes of paper documents in a warehouse, plus electronic records.  Also important was that "the records are in total disarray" (which the Court determined based on photographs submitted by the Plaintiff of the inside of the warehouse where the records were stored).

The Court accordingly held that the Defendants were not entitled to use Rule 33(c) because "the burden to derive or ascertain the relevant information from the records is not the same for Plaintiff as for the . . . Defendants."  As a result, the Defendants were ordered to cull through their records to identify responsive documents and to "produce documents in a manner such that Plaintiff (and, if necessary, the Court) can readily identify the set of documents that are responsive to each interrogatory or request for production." (emphasis in original).  The Court also required each Defendant to file an affidavit within 10 days of production specifically setting forth how that Defendant complied with the Court's order.

This order is not the death knell for Rule 33(c), which remains a valid response to interrogatories.  However, the Business Court appears willing to scrutinize the use of Rule 33(c) and the surrounding circumstances.  Based on this order, Business Court practitioners wanting to avoid being on the wrong end of a motion to compel might consider at least two responses:  (1) identify specific documents that the propounding party needs to review to determine the answer and (2) narrow the universe of those documents to make sure that the burden on the propounding party truly is equal to the burden on the responding party.  Practically, it may be easier just to answer the interrogatory with the information requested.

Full Order

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