388 U.S. 395 (1967), 343, Prima Paint Corp. v. Flood & Conklin Mfg. Co.

Docket Nº:No. 343
Citation:388 U.S. 395, 87 S.Ct. 1801, 18 L.Ed.2d 1270
Party Name:Prima Paint Corp. v. Flood & Conklin Mfg. Co.
Case Date:June 12, 1967
Court:United States Supreme Court
 
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Page 395

388 U.S. 395 (1967)

87 S.Ct. 1801, 18 L.Ed.2d 1270

Prima Paint Corp.

v.

Flood & Conklin Mfg. Co.

No. 343

United States Supreme Court

June 12, 1967

Argued March 16, 1967

CERTIORARI TO THE UNITED STATES COURT OF APPEALS

FOR THE SECOND CIRCUIT

Syllabus

Respondent (F & C), a New Jersey corporation which manufactured and sold paint and paint products to wholesale customers in a number of States, entered into a contract with petitioner (Prima), a Maryland corporation, whereby F & C agreed to perform consulting and other services relating to the transfer of operations from F & C to Prima and agreed not to compete with Prima, for which Prima agreed to pay, over the six-year life of the contract, certain percentages of receipts from sales. The contract, which stated that it "embodies the entire understanding of the parties," contained a broad arbitration clause that

[a]ny controversy . . . arising out of this agreement, or the breach thereof, shall be settled by arbitration in the City of New York in accordance with the rules . . . of the American Arbitration Association.

Almost a year later, after the first payment had become due, Prima notified F C that F & C had broken the consulting agreement and an earlier agreement involving Prima's purchase of F & C's paint business. Prima's chief contention was that F & C had fraudulently represented that it was solvent and able to perform its obligations, whereas it was insolvent and planned to file a bankruptcy petition shortly after executing the consulting agreement. F & C responded by serving a notice of intention to arbitrate, whereupon Prima filed this diversity action in federal court for rescission of the consulting agreement on the basis of the alleged fraudulent inducement and contemporaneously sought to enjoin F & C from proceeding with arbitration. The United States Arbitration Act of 1925 provides, in § 2, that a written arbitration provision

in any . . . contract evidencing a transaction involving commerce . . . shall be valid, irrevocable, and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract;

in § 3, that a federal court in which suit is brought upon an issue referable to arbitration by an arbitration agreement must stay the court action pending arbitration once it has decided that the issue is arbitrable under the agreement; and, in § 4, that a federal court whose assistance is invoked by a party seeking to compel

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another to arbitrate, if satisfied that an arbitration agreement has not been honored and that "the making of the agreement for arbitration or the failure to comply [with the arbitration agreement] is not in issue," shall order arbitration. The District Court granted a motion filed by F & C to stay the action pending arbitration, and the Court of Appeals dismissed Prima's appeal.

Held:

1. The contract clearly evidenced a transaction involving interstate commerce, and came within the coverage of the Arbitration Act. P. 401.

2. In passing upon an application for a stay of arbitration under § 3 of the Act, a federal court may not consider a claim of fraud in the inducement of the contract generally, but "may consider only the issues relating to the making and performance of the agreement to arbitrate." Pp. 402-404.

3. The Act prescribes the manner in which federal courts are to treat questions relating to arbitration clauses in contracts which involve interstate commerce or admiralty, "subject matter over which Congress plainly has power to legislate." Hence, state rules allocating functions between court and arbitrator do not control. Pp. 404-405.

4. Since the claim of fraud here relates to inducement of the consulting agreement generally, rather than in the arbitration clause, and there is no evidence that the parties intended to withhold this issue from arbitration, there is no basis for granting a stay under § 3. Pp. 406-407.

360 F.2d 315, affirmed.

FORTAS, J., lead opinion

MR. JUSTICE FORTAS delivered the opinion of the Court.

This case presents the question whether the federal court or an arbitrator is to resolve a claim of "fraud in

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the inducement," under a contract governed by the United States Arbitration Act of 1925,1 where there is no evidence that the contracting parties intended to withhold that issue from arbitration.

The question arises from the following set of facts. On October 7, 1964, respondent, Flood & Conklin Manufacturing Company, a New Jersey corporation, entered into what was styled a "Consulting Agreement," with petitioner, Prima Paint Corporation, a Maryland corporation. This agreement followed by less than three weeks the execution of a contract pursuant to which Prima Paint purchased F & C's paint business. The consulting agreement provided that, for a six-year period, F & C was to furnish advice and consultation "in connection with the formulae, manufacturing operations, sales and servicing of Prima Trade Sales accounts." These services were to be performed personally by F & C's chairman, Jerome K. Jelin, "except in the event of his death or disability." F & C bound itself for the duration of the contractual period to make no "Trade Sales" of paint or paint products in its existing sales territory or to current customers. To the consulting agreement were appended lists of [87 S.Ct. 1803] F & C customers, whose patronage was to be taken over by Prima Paint. In return for these lists, the covenant not to compete, and the services of Mr. Jelin, Prima Paint agreed to pay F & C certain percentages of its receipts from the listed customers and from all others, such payments not to exceed $225,000 over the life of the agreement. The agreement took into account the possibility that Prima Paint might encounter financial difficulties, including bankruptcy, but no corresponding reference was made to possible financial problems which might be encountered by F & C. The agreement stated that it "embodies the entire understanding of the parties

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on the subject matter." Finally, the parties agreed to a broad arbitration clause, which read in part:

Any controversy or claim arising out of or relating to this Agreement, or the breach thereof, shall be settled by arbitration in the City of New York, in accordance with the rules then obtaining of the American Arbitration Association. . . .

The first payment by Prima Paint to F & C under the consulting agreement was due on September 1, 1965. None was made on that date. Seventeen days later, Prima Paint did pay the appropriate amount, but into escrow. It notified attorneys for F & C that, in various enumerated respects, their client had broken both the consulting agreement and the earlier purchase agreement. Prima Paint's principal contention, so far as presently relevant, was that F & C had fraudulently represented that it was solvent and able to perform its contractual obligations, whereas it was, in fact, insolvent, and intended to file a petition under Chapter XI of the Bankruptcy Act, 52 Stat. 905, 11 U.S.C. § 701 et seq., shortly after execution of the consulting agreement. Prima Paint noted that such a petition was filed by F & C on October 14, 1964, one week after the contract had been signed. F & C's response, on October 25, was to serve a "notice of intention to arbitrate." On November 12, three days before expiration of its time to answer this "notice," Prima Paint filed suit in the United States District Court for the Southern District of New York, seeking rescission of the consulting agreement on the basis of the alleged fraudulent inducement.2 The complaint asserted that the federal court had diversity jurisdiction.

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Contemporaneously with the filing of its complaint, Prima Paint petitioned the District Court for an order enjoining F & C from proceeding with the arbitration. F & C cross-moved to stay the court action pending arbitration. F & C contended that the issue presented -- whether there was fraud in the inducement of the consulting agreement -- was a question for the arbitrators, and not for the District Court. Cross-affidavits were filed on the merits. On behalf of Prima Paint, the charges in the complaint were reiterated. Affiants for F & C attacked the sufficiency of Prima Paint's allegations of fraud, denied that misrepresentations had been made during negotiations, and asserted that Prima Paint had relied exclusively upon delivery of the lists, the promise not to compete, and the availability of Mr. Jelin. They contended that Prima Paint had availed itself of these considerations for nearly a year without claiming "fraud," noting that Prima Paint was in no position to claim ignorance of the bankruptcy proceeding, since it had participated therein in February of 1965. They added that F & C was revested with its assets in March of 1965.

The District Court granted F & C's motion to stay the action [87 S.Ct. 1804] pending arbitration, holding that a charge of fraud in the inducement of a contract containing an arbitration clause as broad as this one was a question for the arbitrators, and not for the court. For this proposition it relied on Robert Lawrence Co. v. Devonshire Fabrics, Inc., 271 F.2d 402 (C.A.2d Cir.1959), cert. granted, 362 U.S. 909, dismissed under Rule 60, 364 U.S. 801 (1960). The Court of Appeals for the Second Circuit dismissed Prima Paint's appeal. It held that the contract in question evidenced a transaction involving interstate commerce; that, under the controlling Robert

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Lawrence Co. decision, a claim of fraud in the inducement of the contract generally -- as opposed to the arbitration clause itself -- is for the arbitrators, and not for the courts, and that this rule -- one of "national substantive law" -- governs even in the...

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