Summary of a Recent
Judicial Development in
Production Contracts

Court Finds Arbitration Clause Valid, Scope Includes
Plaintiffs' Fraudulent Inducement Claim

John Pesek
National AgLaw Center Research Associate

Summary of Decision

In Schoenrock v. John Morrell & Co., Inc., Nos. Civ. 03-848, 03-849 JRTFLN, 03-853 JRTFLN, 03-854 JRTFLN, 2003 WL 21639161 (D. Minn. July 2, 2003), the United States District Court for the District of Minnesota held that the disputed arbitration agreement was valid and enforceable, and that its scope was broad enough to cover the plaintiffs' fraudulent inducement claims.

Background

The defendant, which was the largest pork and hog processor in the world, entered into Hog Procurement Agreements ("agreements") which provided that the plaintiffs would supply it with hogs. Id. at *1. The plaintiffs negotiated with the defendant as a team and were provided with a standard agreement form. Id. The plaintiffs knew that some of the terms of the contract were negotiable, but claimed that they did not know that certain terms, such as the arbitration clause, could be negotiated. Id. On October 7, 1997, the plaintiffs signed the agreements. Id. The agreements provided that the plaintiffs would provide hogs and would receive a contract floor price for the delivered hogs. Id. The agreements stated that they could be extended except when the ledger was less than minus $50,000. Id. The plaintiffs alleged that the defendant would not extend the agreements, and the defendant claimed that the plaintiffs' ledgers were greater than minus $50,000. Id. The plaintiffs also alleged that the defendant demanded payment for the plaintiffs' negative ledger balances. Id.

Each of the plaintiffs sued in Minnesota state court, each alleging six counts and requesting identical relief. Id. The plaintiffs requested enforcement of certain terms of the agreements and sought a declaratory judgment that the defendant had forfeited its right to receive certain sums under the contract. Id. The defendant removed the cases to federal court and filed a motion to stay the proceedings pending arbitration. Id.

Arguments

The main arguments before the district court involved whether Minnesota or Ohio law should be used to resolve the case, and whether the arbitration provision in the agreements was enforceable against the plaintiffs. Id. at *2.

Analysis and Holdings

The agreements contained a choice of law provision that stated that Ohio law would govern all the parties' rights and obligations under the agreement. Id. The agreements also provided that the arbitration would be conducted according to the rules set by the American Arbitration Association (AAA). Id. The parties did not dispute that the Federal Arbitration Act (FAA) was applicable in this case, but they disagreed over the scope and validity of the arbitration clause in the agreements. Id. If the arbitration agreement was found valid, then the fraud in the inducement claim would be decided by the arbitrator. Id. The first step in the court's analysis was whether Minnesota law gave effect to the Ohio choice of law provision in the arbitration agreement. Id. at *3. The court noted that under Minnesota law, parties may agree which state's law should apply. Id. (citing Hagstrom v. Am. Circuit Breaker Corp., 518 N.W.2d 46, 48 (Minn. Ct. App. 1994)). Without a choice of law provision, the court may apply the "better law" methodology adopted by the Minnesota Supreme Court. See id. (citing Milkovich v. Saari, 203 N.W.2d 408 (Minn. 1973)). The choice of law provisions may be stricken from a contract if plaintiffs are unable to negotiate a choice of law term. See id. at *4 (citing Cell v. Moore & Schley Securities Corp., 449 N.W.2d 144, 147 (Minn. 1989)). In this case, the record was devoid of any evidence that the plaintiffs tried to negotiate the terms of the choice of law provision, and the defendant presented an affidavit of a Morrell employee who stated that the provision was not a "take it or leave it" provision. Id. Therefore, the court found that the choice of law provision should not be held invalid because of an inability to negotiate the term. Id.

The plaintiffs' next argument was that the Ohio choice of law provision violated Minnesota public policy as set forth in the Minnesota Packers and Stockyard Act. Id. The court found that the agreements did not indicate that the parties could not contract around its provisions. Id. The court explained that it would "not assume Minnesota's interest in protecting hog producers was more significant than its long-standing policy of enforcing contractual choice of law provisions." Id.

The plaintiffs' final argument under Minnesota law was that Ohio lacked minimum contacts with the dispute, thus violating constitutional requirements. Id. at *5. The court noted that a party's incorporation in a state could satisfy sufficient contacts for that state's law to govern a dispute. Id. (citing Carlock v. Pillsbury Co., 719 F. Supp. 791, 807-08 (D. Minn. 1989)). The defendant's state of incorporation was Ohio, so there were sufficient contacts to meet the constitutional requirements. Id. The court found the choice of law provision valid and Ohio law controlling. Id.

Under Ohio law, preprinted forms "do not constitute an 'absence of meaningful choice,'" which could invalidate a contract under Ohio law. See id. The court held that the record did not note that the plaintiffs lacked a meaningful choice; in fact, the plaintiffs negotiated for some time over some key provisions of the contract. Id. The plaintiffs never tried to negotiate the terms of the arbitration agreement or the choice of law clause, and the court held that mere inequality in bargaining power was not enough to render a contract unconscionable. Id. (citing Neubrander v. Dean Witter Reynolds, Inc., 610 N.E.2d 1089, 1091 (Ohio Ct. App. 1992)). The court held that the arbitration clause was valid and enforceable. Id. at *6.

The plaintiffs' last argument was that arbitration agreements did not encompass claims of fraudulent inducement. Id. The court noted that federal courts read the scope of arbitration agreements broadly to encourage arbitration, and that all disputes should be resolved in favor of coverage. Id. The court held that because the arbitration clause was valid and enforceable, its scope was broad enough to cover the claim of fraudulent inducement. Id. at *7.

The case was decided on July 2, 2003.