Opinion
CIVIL ACTION NO. 3:01CV-336-H.
August, 2001
MEMORANDUM OPINION
Plaintiff, Liafail, Inc., brings this diversity case in the Western District of Kentucky based upon breach of contract, fraud and unjust enrichment. Defendants, Learning 2000, Inc., et al., ("L2K"), move to dismiss asserting the absence of proper subject matter jurisdiction, personal jurisdiction, and venue. The motion requires the Court to determine whether the rationale in Prima Paint Corp. v. Flood Conklin Mfg., 388 U.S. 395, 403-04 (1967), which holds that arbitration clauses are valid unless the clause itself was fraudulently procured or induced, should logically extend to forum selection clauses. For the reasons stated, the Court decides that the Prima Paint analysis applies equally to forum selection clauses and transfers this case to the District of Delaware.
I.
Liafail entered into three agreements with Defendants concerning the licensing and distribution of a computer software program (the "Software"). Liafail alleges that Defendant James Richard Story represented that he had the connections and resources to successfully distribute and market the Software. The first "Exclusive Distribution Agreement and Agreement of Sale of Software" ("Original Agreement"), signed on January 31, 1997, granted Defendant SFD, Inc. ("SFD") (a company owned by Story) the right to distribute and market the Software in exchange for certain royalties. The Original Agreement contains a forum selection clause which designates the state and federal courts of Kentucky as having exclusive jurisdiction over disputes arising from the agreement.
By the year 2000 Liafail believed SFD had breached the Original Agreement. At about this time SFD unilaterally assigned L2K its entire interest in the Original Agreement. Liafail threatened to terminate the Original Agreement. Story persuaded Liafail to release L2K of all its claims under the Original Agreement in exchange for a 20 percent share of L2K stock and the promise of taking L2K public. Liafail alleges that Story represented plans for an initial public offering ("IPO") were well underway, including discussions with investment bankers who valued the company at one billion dollars. Story also promised to remedy defects in L2K's performance under the Original Agreement. Based on these promises and representations, Liafail and L2K entered a second "Agreement and Release" on August 15, 2000 (the "Second Agreement"). Told by L2K attorneys preparing for the IPO that the Second Agreement needed restructuring, the parties executed a third "Asset Purchase Agreement" on September 27, 2000. The Asset Purchase Agreement terminated and superceded both the Original Agreement and the Second Agreement. More important for our purposes, it contained a forum selection clause designating the state and federal courts of Delaware as having exclusive jurisdiction over disputes arising from it.
Plaintiff asserts he was fraudulently induced to enter the Second Agreement and the Asset Purchase Agreement and that these agreements are therefore void and unenforceable, leaving the terms of the Original Agreement in force. Whether federal or Kentucky law decides this question is not clear. The best view seems to be that federal law applies. See, International Software Sys. v. Amplicon, 77 F.3d 112, 114 (5th Cir. 1996). However, the result appears the same regardless.
II.
It is well settled that an arbitration clause is enforceable despite an allegation that the contract, as a whole, is the product of fraud. In Prima Paint the Supreme Court rejected the argument that a plaintiff cannot be forced into arbitration where it claims the entire contract (including the arbitration clause at issue) was fraudulently induced. Prima Paint Corp, 388 U.S. at 403-04. Construing the Federal Arbitration Act, 9 U.S.C. § 2, to contain an "unmistakably clear congressional purpose that the arbitration procedure . . . be speedy and not subject to delay and obstruction in the courts," the Court held that arbitration clauses may be treated as severable from the documents in which they appear and, unless the alleged fraud goes to the making of the arbitration clause itself, the clause is enforceable despite allegations that the contract as a whole was fraudulently induced. Id.; Ferro Corp. v. Garrison Indus., Inc. 142 F.3d 926, 931 (6th Cir. 1998). Thus, where fraud is alleged in connection with a contract containing an arbitration clause, the parties must arbitrate the issue of fraud in the inducement.
Arbitration agreements are similar to forum selection clauses. Indeed, the Supreme Court has called such agreements a "subset" of forum selection clauses. Scherk v. Alberto-Culver Co., 417 U.S. 506, 519 (1974). In The Bremen v. Zapata Off Shore Co., 407 U.S. 1, 8-15 (1972), the Court held that, absent a strong showing of fraud or undue influence, a forum selection clause is valid and enforceable. Scherk explained that The Bremen's exception for contracts affected by fraud "does not mean that any time a dispute arising out of a transaction is based upon an allegation of fraud . . . the clause is unenforceable . . . [r]ather it means that an arbitration or forum-selection clause in a contract is not enforceable if the inclusion of that clause in the contract was the product of fraud or coercion." 417 U.S. at 519 n. 14. The Court supported this proposition citing Prima Paint. Id. The logical extension of these cases suggests that the Prima Paint rule should apply to forum selection clauses as well.
The only courts to consider this issue directly have reached precisely that conclusion. The Fifth Circuit has read Scherk to require that "[f]raud and overreaching must be specific to a forum selection clause in order to invalidate it." Hansworth v. The Corporation, 121 F.3d 956, 963 (5th Cir. 1997); see also, Stamm v. Barclays Bank, 960 F. Supp. 724, 729 (S.D.N.Y. 1997) ("A claim of fraud in the inducement of a contract is insufficient to invalidate a forum selection or choice-of-law clause found in that contract . . . it is the inclusion of those specific clauses plaintiffs seek to avoid that must have been induced by fraud."). Many courts handling the numerous Lloyd's of London cases agree. In these cases, plaintiffs typically complained that the agreements were procured by fraud. The forum selection clauses were uniformly upheld. See e.g., Lipcon v. Underwriters at Lloyd's, London, 148 F.3d 1285, 1296 (11th Cir. 1998); Richards v. Lloyd's of London, 135 F.3d 1289, 1294 (11th Cir. 1998); Allen v. Lloyd's of London, 94 F.3d 923, 929 (4th Cir. 1996); Roby v. Corp. of Lloyd's, 996 F.2d 1353, 1363 (2nd Cir. 1993).
Neither the Sixth Circuit nor the Kentucky Supreme Court has expressly applied the Prima Paint rule to forum selection clauses. However, each has articulated a strong presumption favoring the enforcement of forum selection clauses. See e.g., Shell v. Sturge, Ltd., 55 F.3d 1227, 1229 (6th Cir. 1995); Prezocki v. Bullock Garages, Inc., 938 S.W.2d 888, 889 (Ky. 1997) ("the forum selection clause . . . should be enforced as prima facie valid, unless appellants present the trial court with countervailing circumstances that would render the clause `unreasonable'."). Defendants do not argue that the selection clause itself is unreasonable.
This Court agrees that such clauses should be enforced absent significant countervailing circumstances or specific fraud as to that clause. If a forum selection agreement could be avoided every time an issue going to the formation of the contract is raised, the efficiency and certainty of choice of law and forum achieved by forum selection clauses would be largely nullified. For all these reasons, the Court holds that a forum selection clause is enforceable against an allegation that the contract as a whole was induced by fraud.
Here, the alleged fraud is directed at the Second Agreement and the Asset Purchase Agreement in their entirety, not to the Delaware forum selection clause in particular. The claim is essentially that Defendants lied by representing L2K was on the verge of an initial public offering. No fraud is alleged with regard to the forum selection clause itself. Under Prima Paint and Scherk the issue of whether the Asset Purchase Agreement was fraudulently induced is for a Delaware court to decide.
III.
Finding the Delaware forum selection clause in the Asset Purchase Agreement is enforceable, the Court must treat Defendant's motion as one to transfer under 28 U.S.C. § 1404(a). Stewart Organization, Inc. v. Ricoh Corp., 487 U.S. 22, 28 (1988). A motion to transfer under § 1404(a) requires Court to weigh in the balance a number of case-specific factors. The presence of a forum-selection clause such as the parties entered into in this case is a significant factor that figures centrally in the calculus. Id. In this case Plaintiff's have not shown Delaware is an unreasonably inconvenient forum or that they will suffer prejudice in Delaware's courts. Giving effect to the parties' intent expressed in the forum selection clause, the Court will order that this case be transferred to the District of Delaware.
Section 1404(a) provides that "For the convenience of parties and witnesses, in the interest of justice, a district court may transfer any civil action to any other district or division where it might have been brought."
The court in Delaware may well find the Asset Purchase Agreement was induced by fraud rendering the Original Agreement, and the forum selection clause specifying Kentucky, the only valid contract between the parties. Should this occur Plaintiff could appropriately move the Delaware court to transfer the case back to this Court.
The Court will enter an order consistent with this Memorandum Opinion.
ORDER
Defendants have moved to dismiss. For reasons stated in the accompanying Memorandum Opinion, the Court ultimately considers the motion as one to transfer. Being otherwise sufficiently advised,
IT IS HEREBY ORDERED that this case be transferred to the United States District Court for the District of Delaware.