Opinion
08 Civ. 1581 (CM)
07-26-2011
GS EQUITIES, LTD, and EROSTRA, LLC, Plaintiffs, v. BLAIR RYAN CO., JAY PELSINGER, FRED PELSINGER and LEONIDES GUADARRAMA, Defendants.
DECISION AND ORDER (1) CONFIRMING ARBITRATION AWARD; (2) DENYING MOTION FOR VACATUR OF AWARD; (3) DENYING MOTION FOR LEAVE TO AMEND COMPLAINT; (4) DISMISSING COMPLAINT AS AGAINST DEFENDANT GUADARRAMA FOR FAILURE TO SERVICE PROCESS PER FED. R. CIV. P. 4(M); AND (4) DISMISSING ENTIRE ACTION WITH PREJUDICE :
Plaintiffs are distributors of herbal supplements. One of the plaintiffs, GS Equities, entered into two separate contracts with defendant Blair Ryan Co., pursuant to which Blair Ryan provided GS Equities with distribution rights to certain products. Both contracts contain a representation by Blair Ryan that the products to be supplied "contain all natural ingredients" and comply with all federal Food and Drug Agency (FDA) regulations. Plaintiffs claim that laboratory test revealed that the products supplied by Blair Ryan were not in fact "all natural," and that they were not FDA approved. In their original complaint, which was filed in 2008, plaintiffs alleged that this placed Blair Ryan in breach (which plaintiffs spelled "breech") of contract.
Both contracts are governed by Delaware law. Both contain alternative dispute resolution clauses, which called for mandatory mediation of "all unresolved disputes," to be followed by binding arbitration in Wilmington Delaware according o the rules of the American Arbitration Association.
The only parties to the contracts are GS Equities and Blair Ryan. Nonetheless, on February 15, 2008, GS Equities and Erostra (whose relationship to this dispute is nowhere explained) sued Blair Ryan and three individuals -- one from Florida, one from Texas and one from Mexico -- whose relationship to Blair Ryan was not explained in the complaint. None of those individuals was a party to either contract. The complaint alleged causes of action in breach of contract, breach of covenant of good faith and fair dealing, fraud (allegedly for misrepresentations about the natural ingredients and FDA approval that were made in the contracts), conversion, and RICO. The alleged predicate acts were violations of unspecified FDA regulations.
After being made aware of the alternative dispute resolution clause, the court stayed this action by order dated May 30, 2008, while GS Equities and Blair Ryan went to arbitration. Per the contract, all unresolved disputes between GS Equities and Blair Ryan that had anything to do with the contract were to have been submitted to arbitration. The arbitrators entered an award in favor of GS Equities and against Blair Ryan in the amount of $375,000 - which was but a small fraction of the $19 million sought by GS Equities.
GS Equities seeks confirmation of the arbitration award. Blair Ryan opposes confirmation and cross-moves for vacatur of the award, on the ground that the arbitrators manifestly disregarded governing law.
Plaintiffs also move for leave to amend their complaint to reallege their claims of fraud against defendants Jay and Fred Pelsinger, and their RICO claim against all defendants - even Blair Ryan as to whom they had a contractual obligation to arbitrate "all unresolved disputes" relating to their contractual relationship.
The arbitration award is confirmed; Blair Ryan's cross motion to vacate the award is denied. The motion for leave to amend the complaint is denied. This action is dismissed with prejudice.
Confirmation of the Arbitration Award
Venue: The Federal Arbitration Act (FAA) governs the cross-motions to confirm and vacate the arbitration award. Under the FAA, venue in this court is proper pursuant to 28 U.S.C. § 1391, Cortez Byrd Chips, Inc., v. Bill Harbert Construction Co., 529 U.S. 193 (2000). While the FAA contains a venue provision that calls for confirmation in the district in which the award was made, 9 U.S.C. § 10(a), plaintiffs admit that this provision is permissive, not exclusive. Venue is particularly appropriate in this court because plaintiffs selected the Southern District of New York as the place to sue defendants in connection with their arbitrable claims - notwithstanding the provision in the contract calling for arbitration in another district. Plaintiffs are stuck with their own choice of forum.
Limitations: The FAA sets a time limit for making motions to vacate, modify or correct an arbitration award. 9 U.S.C. § 12 provides that such a motion "must be served upon the adverse party of his attorney within three months after the award is filed or delivered." Unlike the venue provision, this limitations period is not permissive; it is mandatory. The failure to seek vacatur within the three month period prescribed by statute waives all defenses and requires that the award be confirmed. M.J. Wood, Inc., v. Conopco, Inc., 271 F. Supp. 2d 576 (S.D.N.Y. 2003); Yonir Technologies, Inc. v. Duration Systems (1992) Ltd., 244 F. Supp. 2d 195 (S.D.N.Y. 2002).
In this case, the motion is timely. The award in this action was delivered on July 27, 2010. Blair Ryan filed its motion to vacate the award on October 26, 2010 - the last possible day on which such a motion could be made. While some opinions discussing the limitations period refer to a 90 day limitations period, the statute plainly says "three months," not "90 days." October 26, 2010 is the last day of the third month following the delivery of the award.
Merits: The United States Supreme Court has held that the only grounds on which an arbitration award may vacated under the FAA are those set forth at 9 U.S.C. § 10. Hall Street Associates, LLC, v. Mattel, Inc., 552 U.S. 576 (2008). Blair Ryan seeks vacatur of the arbitration award on the ground that the arbitrators manifestly disregarded the law governing the parties' contract. It argues that manifest disregard of the law falls within the subsection (a)(4) of that statute, which provides that a district court may make an order vacating an arbitration award upon application of any party to the arbitration "(4) where the arbitrators exceeded their powers....." (which the parties agree is applicable here).
Blair Ryan argues that the United States Supreme Court has ruled that arbitrators may not consciously choose to ignore binding law that has been brought to their attention. Stolt-Nielsen S.A. v. Animalfeeds International Corp., 559 U.S. --, 130 S. Ct. 1758, 1768-69 (2010). That is not precisely what Stolt-Nielsen holds. Rather, in Stolt-Nielsen, the High Court held that arbitrators exceed their powers when they impose "[their] own conception of sound policy" on the parties. In that case, the policy choice in question was to permit class arbitration when an arbitration agreement was silent on the question; the arbitrators specifically indicated that they would interpret the parties' arbitration agreement to permit class arbitration "as a matter of public policy," without looking to see whether any "default rule" of either federal or New York law would allow them to construe the agreement's silence as indicating either consent or lack of consent.
The only mention of "manifest disregard for the law" came in a footnote. The majority concluded that the arbitrators' failure to examine pertinent law would constitute "manifest disregard" if such a standard existed -- but then suggested (although refused to decide) that the judicially-created "manifest disregard of the law" standard for vacating an award might not have survived the Court's decision in Hall Street Associates. Stolt-Nielsen, supra., at n.3
Lower courts are split over whether "manifest disregard of the law" is one wy that an arbitrator can exceed his powers, see, e.g., Wise v. Wachovia Securities, LLC (450 F. 3d 265 (7th Cir.) rehearing denied, cert. denied 549 U.S. 1047 (2006), or is a wholly separate "nonstatutory ground" for vacatur. Brabham v. A.G. Edwards & Sons, 376 F. 3d 377 (5th Cir. 2004); NCR Corp. v. Sac-Co., Inc., 43 F. 3d 1076 (6th Cir. 1995), rehearing denied and suggestion for rehearing en banc denied, cert. denied, 516 U.S. 906 (1995). If it be the latter, then Hall Street Associates effectively eliminated "manifest disregard" as a basis for overturning an arbitration award. Needless to say, the lower courts would appreciate guidance from the Supreme Court on this question.
I do not read Stolt-Nielsen as undoing more than a century of Supreme Court precedent holding that courts should vacate an arbitration panel's award "only in very unusual circumstances," First Options of Chicago, Inc., v. Kaplan, 514 U.S. 938 (1995). Nor do I understand the opinion to upset the long-settled rule that "If [an arbitration] award is within the submission, and contains the honest decision of the arbitrators, after a full and fair hearing of the parties, a court...will not set it aside for error, either in law or fact." Burchell v. Marsh, 58 U.S. 344, 349 (1855)(emphasis added); see also, Paperworker v. Misco, Inc., 484 U.S. 29, 38 (1987)("Courts...do not sit to hear claims of factual or legal error by an arbitrator as an appellate court does in reviewing decisions of lower courts."). When invoking Sec. 10(a)(4), the proper question is "whether the arbitrators had the power, based on the parties' submissions or the arbitration agreement, to reach a certain issue, not whether the arbitrators correctly decided that issue." Di Russa v. Dean Witter Reynolds Inc., 121 F. 3d 818, 824 (2d Cir. 1997). If the Supreme Court had intended to repeal authority that was so deeply entrenched in the law, I assume that it would have given appropriate guidance to the lower courts by saying so plainly. As the court did no such thing, I surmise that these longstanding principles govern (and constrain) judicial review of the arbitral award.
The rule that an arbitrator's manifest disregard of the law affords grounds to set aside an arbitration award pursuant to 9 U.S.C. § 10(a)(4) is a judicially-created gloss on a ground enumerated in the statute - the arbitrator exceeded his powers. An arbitrator cannot be faulted for incorrectly interpreting the law. The only basis on which an award can be vacated for manifest disregard is if the arbitrators "knew of the relevant [legal] principle, appreciated that this principle controlled the outcome of the disputed issue, and nonetheless willfully flouted the governing law by refusing to apply it." Stolt-Nielsen, supra., at n.3 In this Circuit, manifest disregard of the law by arbitrators refers to an error of law that was obvious and capable of being readily and instantly perceived by any average person who is qualified to serve as an arbitrator. The doctrine implies that the arbitrator appreciated the existence of some clearly governing principle of law but decided to ignore or pay no attention to it. Carte Blanche (Singapore) Pte., Ltd., v. Carte Blanche International Ltd., 888 F. 2d 260 (2d Cir. 1989). It presupposed something beyond and different from a mere error in law, or a failure by the arbitrators to understand the law or to make a mistake in applying it. As a result, if there is a "plausible reading" of an arbitral award that fits within the law, the award cannot be vacated. Duferco International Steel Trading v. T. Klaveness Shipping A/S, 333 F. 3d 383 (2d Cir. 2003).
Assuming (as the Supreme Court did in Stolt-Nielsen) that the "manifest disregard" standard survives Hall Street Associates, I look to the record before me to ascertain whether it demonstrates "manifest disregard" for the law, as opposed to a simple mistake of law - understanding that the former affords grounds for vacating the award but the latter does not. As the party seeking vacatur of an award that it fought to obtain, Blair Ryan bears the burden of establishing that the arbitrators manifestly disregarded the law.
As soon as plaintiff brought this action, Blair Ryan moved to compel arbitration.
Delaware law governs the interpretation of the contracts at issue. According to Blair Ryan, the principle of Delaware law that the arbitrators purportedly overlooked is that GS Equities could not maintain an action for breach of contract because the contract at issue contained a provision mandating notice and an opportunity to cure, with which GS Equities failed to comply. Harper v. Delaware Valley Broadcasters, Inc., 743 F. Supp. 1076, 1083-84 (D. Del. 1990), aff'd 932 F. 2d 959 (3d Cir. 1991). The provision of the contract that allegedly requires notice and an opportunity to cure is the following:
This Agreement may be terminated by either party upon
the material default of the other party unless such default is cured within thirty days after written notice thereof is received by the defaulting party.Douglas Aff't Ex. 2 (2005 Contract) at 4; (2006 Contract) at 11. Blair Ryan alleges that the arbitrators were told about the rule articulated in Harper and similar cases and simply refused to apply it to the above-quoted provision.
Unfortunately for Blair Ryan, I cannot say that the arbitrators manifestly disregarded the applicable law by refusing to disallow the claim on the basis of the rule announced in Harper. The plain language of the cited clause seems pretty clear: if one party wants to terminate the contracts, it is required to give the contra-party notice and an opportunity to cure. But the clause says nothing about giving notice and an opportunity to cure as prerequisites to bringing a claim for breach of contract, which is what GS Equities did here. A party is ordinarily not required to terminate a contract in order to sue for damages. A party may, of course, elect to terminate if there has been a material breach, but the original complaint in this action sought only damages - not rescission and not a declaration that the contract was at an end.
Blair Ryan has not provided this court with any evidence that GS Equities took steps to terminate the contract without complying with the notice prerequisite -- let alone any evidence that the arbitrators were advised that GS Equities sought to terminate the contracts without giving notice. So it would be sheer speculation for this court to conclude that the arbitrators "appreciated" that Harper controlled the outcome of the arbitration but chose to ignore the rule. It is entirely possible that the arbitrators, having been told about Harper, read the case and concluded that it did not govern the outcome of the case, on the ground that the contract clause cited by Blair Ryan did not apply to suits for breach. Whether that is a correct view of the law is not for me to say, because I cannot vacate the award if all the arbitrators did was mistakenly apply the law to the facts before them. Blair Ryan has to show something "different and more." It has not done so. Therefore, I deny its motion to vacate the award for "manifest disregard of the law."
Blair Ryan has not provided any evidence that the issue was placed before the arbitrators, either. No portion of the record in the arbitration was provided to this court. Defendant tries to place the evidentiary burden on plaintiff, but while GS Equities should have provided the court with copies of those portions of the record on which it relies, it is Blair Ryan that should have provided the court with the arbitral record.
On the motion of a party, an arbitration award must be confirmed if there is no basis to vacate, modify or correct it. 9 U.S.C. § 9. Because Blair Ryan has not made the showing required to obtain vacatur, I grant GS Equities' motion and confirm the award.
The Motion for Leave To Amend
Leave to amend a pleading is to be granted liberally, Fed. R. Civ. P. 15(a), but a court is not required to prolong meritless litigation where leave to amend would be futile. Foman v. Davis, 371 U.S. 178 (1962); Milanese v. Rust-Oleum Corp., 244 F. 3d 104 (2d Cir. 2001); Moore's Federal Practice 3d, § 15.15[3] at 15-48.
Here, plaintiffs' proposed amended complaint, which drops the contract and conversion claims, and simply repleads, virtually in haec verba, its claims in fraud and RICO, does not come close to stating a claim for relief. Therefore, the court denies the motion for leave to amend because amendment would be futile. I also grant the defendants' motion - originally made three years ago and renewed recently -- to dismiss what remains of this action, with prejudice and with costs to defendants.
The Fraud Claim
Both the original complaint (Count III) and the proposed amended complaint (Count I) fail to state a claim for fraud against Jay and Fred Pelsinger.
The "fraud" identified by plaintiffs is as follows: the contracts contain a warranty and representation that the products will at all times contain all natural ingredients and will comply with all FDA regulations; the two Pelsinger defendants made the same representations that are contained in the contract; the products did not conform to the standards set in the contracts and were not approved by the FDA; absent these fraudulent representations, GS Equities would not have continued to fulfill its obligations under the contracts. (Am. Cplt. ¶28-29)
The precise misrepresentations are not pleaded; neither is any specific statement linked to any specific speaker. And the dates and circumstances of the purported misrepresentations are not pleaded, either.
The proposed amended complaint does nothing to cure the defective fraud pleading of the original complaint, which was deficient in exactly the same ways. there is no need to address defendants' Rule 9(b) argument at length, because neither the original complaint nor the proposed amended complaint comes close to meeting the requirement that fraud be pleaded with sufficient particularity. This ground was asserted in the original moving papers that were filed in 2008, so plaintiffs have been aware of this defect for three years. The fact that they have utterly failed to fill in the obvious holes in their pleading suggests that there is no need to give them a third bite at the apple.
Second, since the fraud described in the proposed amended complaint related to continuing performance under the contract, the mysterious Erostra LLC could not possibly have been defrauded, because it was not a party to the contracts, and so could not have been induced to continue performing under the contracts by anyone's representations. Any fraud claim asserted by Erostra must be dismissed out of hand.
Finally, the Pelsingers argue that the fraud claim is nothing more than an effort by GS Equities to dress up its already-adjudicated breach of contract claim in another costume - the costume of fraud - which the law does not permit.
Under New York law, allegations that contractual warranties and representations were fraudulent do not magically transform a contract dispute into a fraud action. Breaching a contract does not constitute fraud unless some legal duty to the plaintiff that is independent of the contract is violated. Any such independent duty must spring from circumstances extraneous to, and not constituting, elements of the contract itself. Bridgestone/Firestone, Inc., v. Recovery Credit Services, Inc., 98 F. 3d 13 (2d Cir. 1996); Mitsubishi Power System Americas, Inc. v. Babcock & Brown Infrastructure Group US, LLC, 2010 WL 275221 (Del. Ch. 2010).
According to the proposed amended complaint, the misrepresentations were allegedly made by the Pelsingers after the contract was signed in order to induce GS Equities from ceasing to perform under the contract. Such representations are neither collateral to nor extraneous to the terms of the parties' agreement. Plaintiff effectively acknowledges this by failing to address this argument in his brief responding to defendants' motion to dismiss and in opposition to the request for leave to amend.
Both Bridgestone and Mitsubishi, as well as the other cases cited by the defendants in their opposition to the motion for leave to amend (see Docket #14 at page 8) were decided by applying principles of New York law, because the contracts in those cases were governed by New York law. As we know (because G&S emphasized the point in its motion to confirm the arbitration award), the contract in this case is not governed by New York law; it is governed by Delaware law. However, neither the Pelsingers nor G&S (the party that emphasized the primacy of Delaware law in its discussion of the arbitral award) have cited to a single case that would tell the court whether Delaware adheres to the principle (well settled in New York) that warranties and representations not collateral or extrinsic to the contract cannot support a claim of fraud predicated on a breach of those warranties or representations.
In fact, plaintiffs - the parties seeking to amend - has not addressed defendants' futility argument at all! Plaintiffs limit their response to defendants' argument that they should not be granted leave to amend by parroting the familiar principle that leave to amend should be freely granted. (Docket #15 at page 6) They do not even bother to respond to defendants' argument - based on an equally familiar principle - that the liberal amendment rule does not apply when amendment would be futile.
The court has not located any Delaware authority that specifically addresses whether Delaware adheres to the precept of New York law discussed in Bridgestone/Firestone and Mitsubishi. However, by failing to address the Pelsingers' argument that any amendment of the fraud claim would be futile, plaintiffs have effectively conceded that Delaware law is no different from New York's, and abandoned any argument that legal futility does not bar further amendment of the fraud claim in the already-amended complaint. It is, of course, well settled that, "This Court may, and generally will, deem a claim abandoned when a plaintiff fails to respond to a defendant's arguments that the claim should be dismissed." Lipton v. Cnty. of Orange, 315 F.Supp.2d 434, 446 (S.D.N.Y.2004).
For all three of these reasons, the motion for leave to amend further the fraud claim against the Pelsingers is denied, with prejudice.
The RICO Claim
The proposed amended complaint's RICO claim suffers from exactly the same defects as the one pleaded in the original complaint. Therefore, Count IV of the original complaint is dismissed with prejudice and leave to amend to assert Count V (I think plaintiff means Count II) of the amended complaint is denied, because Plaintiffs' RICO claim is, as defendants assert, utterly frivolous.
18 U.S.C. § 1964(c) provides that "Any person injured in his person or property by reason of a violation of section 1962 of this chapter may sue therefor in any appropriate United States District Court." A party has a viable RICO claim when the defendants "conducts or participates, directly or indirectly, in the conduct of [an] enterprise's affairs through a pattern of racketeering activity. 18 U.S.C. § 1962(c). To make out a civil RICO claim , the plaintiff must show that he was injured by defendants' (1) conduct (2) of an enterprise (3) through a pattern (4) of racketeering activity. Plaintiffs have pleaded no facts tending to show any of the above:
First, they fail to allege any predicate act of "racketeering activity," let alone a "pattern" of such acts. Plaintiffs' pleading says only that defendants violated FDA regulations. 18 U.S.C. § 1961(1) defines the predicate acts that qualify as racketeering activity; violation of FDA regulations but that is not "racketeering activity" within the meaning of the statute.
Second, a claim that a party to a contract was provided with non-conforming goods - which, in the end, is what plaintiffs here claim - does not support a RICO claim, even if the plaintiff contends that he was provided with such goods on multiple occasions. D.R.S. Trading co. v. Fisher, 2002 WL 1482764, at *4 (S.D.N.Y. 2002); Jordan (Bermuda) Inv. Co. v. hunter Green Invs. Ltd., 154 F. Supp. 2d 682, 694 (S.D.N.Y. 2001).
Additionally, to the extent that this claim is pleaded on behalf of the mysterious Erostra LLC, it is dismissed for failure to allege how that entity (whatever it is) was injured in its person or property. The only allegations of injury are on the part of GS Equities, the contracting party - and the only injury alleged derives from the failure to supply conforming goods.
The above arguments apply to all defendants, but the RICO claim cannot be amended insofar as it is alleged against Blair Ryan for an entirely different reason. The arbitration clause applies to "any and all unresolved disputes hereunder" (i.e., under the contracts). On the face of the pleadings, both original and amended, the RICO claim qualifies as an "unresolved dispute[] hereunder," because it derives from the parties' contractual relationship. By not submitting it to arbitration along with the contract claims, GS Equities has forfeited its right to pursue its RICO claim against Blair Ryan.
Plaintiffs have pleaded exactly the same RICO claim twice. There is no need to give them leave to replead yet again, and to subject defendants and the court to yet another motion - especially where the asserted claim is one that has properly been described by courts as an in terrorem device and as "thermonuclear." Katzman v. Victoria's Secret Catalogue, 167 F.R.D. 649, 655 (S.D.N.Y. 1996) (quoting Miranda v. Ponce Fed. Bank, 948 F.2d 41, 44 (1st Cir. 1991)), aff'd 113 F.3d 1229 (2d Cir. 1997).The motion to dismiss the RICO claim is granted with prejudice; leave to replead is denied.
Claims Against Leonides Quadarrama
There is no evidence in the record that Leonides Quadarrama, a citizen of Mexico who is named as a defendant, has ever been served. The time to serve him has long since expired. Fed. R. Civ. P. 4(m). As against him, both the complaint and the proposed amended contain only a single, conclusory allegation - that he conspired with the other defendants to violate RICO. There is not even any allegation about what he did to participate in the conspiracy. There is no need to prolong this baseless litigation; no need to decide whether late service should be allowed - the RICO claim has been dismissed, so it would be futile to allow plaintiff more time to serve this defendant. The lone claim against Quadrrama is dismissed; no further amendment to clarify the claim against him will be allowed.
Claims by Erostra, LLC
The proposed amended complaint does nothing to clear up why Erostra is a proper party to this litigation. Even if any claims survived this motion, I would dismiss Erostra as a party plaintiff. As it was not a party to the contracts between GS Equities and Blair Ryan, it could not possibly have been defrauded into continuing to perform under the contracts, so it is not a proper plaintiff on the fraud claims. As there are no allegations about what Erostra is, let alone how it might have been damages in its business or property by the purported conspiracy, it is not a proper plaintiff on a RICO claim.
Conclusion
The arbitral award is confirmed. The Clerk of the Court is directed to enter judgment for G&S Equities in the amount of the award -- $375,000.
The complaint is dismissed with prejudice and with costs as to all defendants. The motion for leave to file the proposed second amended complaint is denied, because amendment would be futile.
The Clerk is directed to remove the motions at Docket #10 and #12 from the court's list of active motions, and to close this file.
This constitutes the decision and order of the court. Dated: July 26, 2011
/s/_________
U.S.D.J.