State ex rel. Riley v. Lorillard Tobacco

• Decision Date: 28 March 2008
• Docket Number: 1060988.,1060989.,1060990.
• Citation: 1 So.3d 1
• Parties: STATE of Alabama, by and through Governor Bob RILEY and Attorney General Troy King v. LORILLARD TOBACCO COMPANY, INC., et al.
• Court: Alabama Supreme Court

1 So.3d 1

STATE of Alabama, by and through Governor Bob RILEY and Attorney General Troy King v. LORILLARD TOBACCO COMPANY, INC., et al.

1060988.

1060989.

1060990.

Supreme Court of Alabama.

March 28, 2008.

Rehearing Applications Denied June 27, 2008.

Troy King, atty. gen., Keith Miller, chief deputy atty. gen., James W. Davis, asst. atty. gen., and Scott L. Rouse, deputy

legal advisor, office of the Governor, for appellant.

Vernon L. Wells II of Walston Wells & Birchall, LLP, Birmingham; William J. Baxley, Dillard, Dauphin, McKnight & Barclift, Birmingham; Thomas J. Frederick of Winston & Strawn LLP, Chicago, Illinois; and James D. Mathias and Brett Ingerman of DLA Piper US LLP, for appellee Philip Morris USA Inc.

Samuel H. Franklin and William H. Brooks of Lightfoot, Franklin & White, LLC, Birmingham, for appellees R.J. Reynolds Tobacco Company and Lorillard Tobacco Company.

Stephen R. Patton and Douglas G. Smith of Kirkland & Ellis, LLP, Chicago, Illinois; and Marjorie P. Lindblom, Peter A. Bellacosa, and Mark W. Rasmussen of Kirkland & Ellis, LLP, New York, New York, for appellee R.J. Reynolds Tobacco Company.

Penny P. Reid of Weil, Gotshal & Manges, LLP, New York, New York, for appellee Lorillard Tobacco Company.

Alfred F. Smith, Jr., of Bainbridge, Mims, Rogers & Smith, LLP, Birmingham; and Robert J. Brookhiser and Elizabeth W. McCallum of Howrey, LLP, Washington, D.C., for appellees Commonwealth Brands, Inc., Compania Industrial De Tabacos Monte Pax, SA, Daughters & Ryan, Inc., Farmers Tobacco Company of Cynthiana, Inc., House of Prince A/S Japan Tobacco International U.S.A., Inc., King Maker Marketing, Inc., Liberty Brands, LLC, Liggett Group LLC, Peter Stokkebye International A/S P.T. Djarum, Santa Fe Natural Tobacco Company, Inc., Sherman's 1400 Broadway, N.Y.C., Inc., Top Tobacco, L.P., Vibo Corporation d/b/a General Tobacco, Virginia Carolina Corporation, Inc., and Von Eicken Group.

SEE, Justice.

The State of Alabama ("the State") appeals from an order of the Montgomery Circuit Court compelling arbitration and denying the State's motion for a declaratory order in an underlying action involving tobacco-product manufacturers. We affirm in part, reverse in part, and remand.

Facts and Procedural History

In 1998, the State and 45 other states, the District of Columbia, Puerto Rico, the Virgin Islands, American Somoa, the Northern Mariana Islands, and Guam (collectively "the settling states") entered into a master settlement agreement ("the agreement") with Philip Morris USA, Inc., R.J. Reynolds Tobacco Company, Inc., Lorillard Tobacco Company, Inc., and Brown & Williamson Tobacco Corporation. These four tobacco-product manufacturers are referred to in the agreement as the original participating manufacturers ("original PMs").¹ The agreement arose out of lawsuits filed by the settling states seeking to recover health-care costs for smoking-related illnesses.² Under the terms of the agreement, the settling states agreed to dismiss the lawsuits and to release the tobacco-product manufacturers from all future claims. In return, the tobacco-product manufacturers agreed to abide by specific advertising and marketing restrictions and to make annual payments based upon each tobacco-product manufacturer's nationwide cigarette sales.

The agreement allowed other tobacco-product manufacturers to join in the agreement and thereby to avoid future litigation. Nearly 40 smaller manufacturers did so. These tobacco-product manufacturers became known as the subsequent participating manufacturers ("subsequent PMs"). The original PMs and the subsequent PMs are collectively referred to as the participating manufacturers ("PMs"). The tobacco-product manufacturers that chose not to enter into the agreement are referred to as the nonparticipating manufacturers.

The agreement requires each PM to make an annual lump-sum payment into an escrow account. The balance of that account is then distributed among the settling states based upon their predetermined allocable shares. The payment obligation of each PM is determined by an independent auditor, as defined in the agreement ("the auditor").³ The agreement provides that the auditor "shall calculate and determine the amount of all payments owed pursuant to this Agreement, the adjustments, reductions and offsets thereto ..., [and] the allocation of such payments, adjustments, reductions, offsets and carry-forwards ..., and shall perform all other calculations in connection with the foregoing." § XI(a)(1). In determining the payment obligation of each PM, the auditor begins with an annual aggregate base payment obligation enumerated in the agreement for all PMs for each particular year. The auditor then apportions the aggregate base payment among the PMs based upon each PM's national market share of tobacco products. If the auditor determines that the amount of the aggregate base payment is subject to any reductions, adjustments, or offsets listed in the agreement, the payment obligation of each PM is reduced accordingly.

The nonparticipating-manufacturer adjustment is one of the adjustments included in the agreement. The drafters of the agreement acknowledged that the nonparticipating manufacturers could receive an economic advantage from not being subject to the payment obligations and marketing restrictions in the agreement, and that, as a result, the PMs could suffer a loss in market share to the nonparticipating manufacturers. The nonparticipating-manufacturer adjustment entitles the PMs to an adjustment of the aggregate base payment if the aggregate market share of the PMs during the year for which the payment is being calculated was more than two percentage points below their 1997 market share and if a nationally recognized firm of economic consultants ("the firm") "determines that the disadvantages experienced as a result of the provisions of this Agreement were a significant factor contributing to the Market Share Loss for the year in question." § IX(d)(1)(C).

Even if the nonparticipating-manufacturer-adjustment requirements are satisfied and the PMs' payments are therefore due to be reduced, the agreement provides that the allocated payment to a settling state nonetheless may be exempt from such reduction "if such Settling State continuously had a Qualifying Statute ... in full force and effect during the entire calendar year immediately preceding the year in which the payment in question is due, and diligently enforced the provisions of such statute during such entire calendar year." § IX(d)(2)(B).⁴ If a settling state qualifies for this exemption from a reduction in payment, that state's share of the nonparticipating-manufacturer adjustment is reallocated pro rata among the nonexempt states in proportion to the nonexempt states' allocable shares.

The agreement further provides that, "except as provided in subsections IX(d), XI(c), and XVII(d)," the state court that approved the agreement "shall retain exclusive jurisdiction for the purposes of implementing and enforcing this Agreement and ... shall be the only court to which disputes under this Agreement ... are presented as to such Settling State." § VII(a). That court for the State is the Montgomery Circuit Court. One of the exceptions to a state court's exclusive jurisdiction under the agreement is the arbitration provision, namely § XI(c), which provides:

"Any dispute, controversy, or claim arising out of or relating to calculations performed by, or any determinations made by, the Independent Auditor (including, without limitation, any dispute concerning the operation or application of any of the adjustments, reductions, offsets, carry-forwards and allocations described in subsection IX(j) or subsection XI(i)) shall be submitted to binding arbitration before a panel of three neutral arbitrators, each of whom shall be a former Article III federal judge. Each of the two sides to the dispute shall select one arbitrator. The two arbitrators so selected shall select the third arbitrator. The arbitration shall be governed by the United States Federal Arbitration Act."

The auditor has refused to apply the nonparticipating-manufacturer adjustment to the PMs' annual payments for 2006. In 2004, while calculating the payment each PM owed for 2003, the auditor determined that the PMs had suffered an adequate market-share loss as compared to their 1997 market share. Thus, the matter was referred to the firm to determine whether the agreement was a significant factor contributing to the PMs' market-share loss. In March 2006, the firm determined that the economic obligations and marketing restrictions of the agreement were a significant factor that contributed to the PMs' market-share loss for 2003. The original PMs, therefore, asked the auditor to apply the nonparticipating-manufacturer adjustment to the 2006 payments to the settling states. The auditor declined to do so because the auditor, at the settling states' request, presumed that each settling state had enacted and was diligently enforcing a qualifying statute. In a March 7, 2006, letter to the PMs and the settling states, the auditor specifically noted that "[t]he Independent Auditor is not charged with the responsibility under the Agreement of making a determination regarding this issue ... [and] is not qualified to make the legal determination as to whether any particular Settling State has `diligently enforced' its Qualifying Statute." The auditor further noted that the auditor would continue to employ the same method in calculating the PMs annual payment amount until this dispute was resolved by the parties or by a trier of fact. The original PMs paid the full amounts calculated by the auditor, without the nonparticipating-manufacturer adjustment, despite the fact that the original PMs maintained that the auditor should have applied the adjustment. However, R.J. Reynolds Tobacco Company, Inc., and Lorillard Tobacco Company, Inc., placed the sum...