The Only Thing Settled About Arbitrability is its Continued Litigatibility

Introduction

Although both the United States Supreme Court and the South Carolina Supreme Court often attempt to define arbitrability -- the question of whether a contractual provision purporting to send disputes to arbitration is enforceable --  the case-by-case analysis applied in considering it means that like the Lernaean Hydra, a determination on one set of facts will only spawn numerous other challenges.  

The South Carolina Court of Appeals' recent decision in Smith v. D.R. Horton, Inc., et al. is the latest in this line of arbitrability cases, affirming a circuit court determination that an arbitration clause in a purchase agreement was unenforceable because it was unconscionable. 

For this Blog's previous posts chronicling arbitrability decisions and related topics, see Recent Cases on the Reach of the S.C. and Federal Arbitration Acts, Asserting the Right to Compel Arbitration, Arbitrating Arbitrability: Part One of the Effect of Recent SCOTUS Decisions on Arbitration in South Carolina, Shady Grove and Class Actions: Part Two of the Effect of Recent SCOTUS Decisions on Arbitration in South Carolina, or Deconstructing Bazzle: Stolt-Nielsen and Class Arbitration.  Or see Effects of Recent U.S. Supreme Court Decisions on Arbitrations and Class Action Litigation in South Carolina.

Background


The Smiths filed a construction defect case against builder D.H. Horton ("Horton") alleging negligence, breach of contract, breach of warranties, and unfair trade practices, in connection with a house they purchased from Horton.  Horton moved to compel arbitration based upon an arbitration clause found in Section 14(g) of the purchase agreement.  The arbitration clause was a subsection of the purchase agreement's Section 14 "Warranties and Dispute Resolution." The circuit court considered  Section 14 "Warranties and Dispute Resolution" "as a whole," and denied Horton's motion to compel because certain provisions contained in Section 14 made the arbitration clause unconscionable.

Unconscionability and Arbitration Agreements

 "In South Carolina, unconscionability is defined as the absence of meaningful choice on the part of one party due to one-sided contract provisions, together with terms that are so oppressive that no reasonable person would make them and no fair and honest person would accept them." Simpson v. MSA of Myrtle Beach. ("Simpson").  "In analyzing claims of unconscionability in the context of arbitration agreements, the Fourth Circuit [Court of Appeals] has instructed courts to focus generally on whether the arbitration clause is geared towards achieving an unbiased decision by a neutral decision-maker." Id.

The Court of Appeals affirmed the trial court's decision based upon "the supreme court's analysis in Simpson," and citing Section 14(c)'s disclaimer of of certain warranties and Section 14(i)'s limitation of liability provisions as examples of "oppressive and one-sided provisions."

Prima Paint, a Court's Limited Role in Considering Unconscionability, and Severability

Horton claimed that the rule of Prima Paint Corp. v. Flood and Conklin Mfg. Co. (“Prima Paint”) prevented court consideration of other provisions in the purchase agreement outside the arbitration clause.  

According to Prima Paint, the issue of contract validity (as opposed to the issue of the validity of an arbitration agreement found within that contract) is for the arbitrator, not the courts. Prima Paint’s rationale is that the Federal Arbitration Act (FAA) applies only to those agreements to arbitrate between parties, and therefore a court is empowered only to hear a “discrete challenge” to the parties’ arbitration agreement.     Justice Black, dissenting in Prima Paint, characterized the Court’s holding as “fantastic” and inconsistent with the language of § 2 of the FAA.  The Court of Appeals, perhaps echoing Justice Black, has referred previously to the Prima Paint rule as a “surprising result,” See New Hope Missionary Baptist Church v. Paragon Builders, because the FAA empowers a court to hear an unconscionability challenge to an arbitration agreement that is part of a contract, but not the contract itself.

In considering the purchase agreement, the Court of Appeals acknowledged the application of Prima Paint in South Carolina:   "'[A]n arbitration clause is separable from the contract in which it is embedded and the issue of its validity is distinct from the substantive validity of the contract as a whole.' Munoz v. Green Tree Fin. Corp. (citing Prima Paint).'" However, the Court of Appeals construed Horton's claim as seeking to sever the offending provisions from the purchase agreement and send the remainder of the purchase agreement to arbitration.  Accordingly, because the Simpson court determined that severability was not an appropriate remedy, the Court of Appeals declined to do so also. 

Of course, Horton undoubtedly sees "separability" and "severability" as two very different things. Likewise, echoing Munoz, a ruling on whether the FAA applied to the purchase agreement might have brought the issue of separability into sharper focus.  However, the Court of Appeals did not address the issue of whether the FAA or the South Carolina Uniform Arbitration Act ("SCUAA") applied to the purchase contract, based on its disposition of the case on unconscionability grounds.

Conclusion

Although I am not in the prediction business, there is some sense that this case may receive further examination.  The takeaway for practitioners is that arbitrability involves a unique and ongoing interplay of state and federal law, and getting a handle on that context is essential for both trying to get into (or stay out of) arbitration. 

4th Circuit Issues Two Standing Opinions On the Same Day

Introduction

Attorneys and judges burn a great deal of time and energy debating and determining the issue of "standing": broad brush whether there is a "case or controversy" sufficient to invoke the power of a court to hear it. The wildly different factual scenarios in those cases applying standing requirements (compare Sea Pines v. SCDNR with Smiley v. SCDHEC) sometimes make it difficult to square how and why standing exists in one case, but not in another.

On April 5th, the 4th Circuit Court of Appeals issued a pair of opinions, Lansdowne on the Potomac Homeowners Association, Inc. v. OpenBand at Lansdowne, LLC and Southern Walk at Broadlands Homeowner's Association, Inc. v. OpenBand at Broadlands, LLC, applying the constitutional standing test to two very similar fact patterns and reaching different conclusions.  Comparing the analyses in the two cases may be helpful to practitioners.

It is absolutely untrue that I decided to blog on this topic because of my ongoing crusade regarding proper office posture.  

Background

Plaintiffs Lansdowne and Southern Walk are homeowners' associations (HOAs) for residential developments in Northern Virginia.  Both contracted with OpenBand (and a variety of OpenBand entities) to have OpenBand be the exclusive provider of the vaunted "triple-play" (phone, cable/video, internet) in their communities.  (Both entities also conveyed exclusive easements to OpenBand, and covenanted that neither would grant any utility easement to any entity other than OpenBand).

In 2007, after OpenBand had been providing services to the Lansdowne and Southern Walk communities for several years, the Federal Communications Commission ("FCC") issued an Order declaring exclusive contracts between cable operators and "multiple dwelling units" to be anti-competitive and therefore null and void (the Exclusivity Order). The requirements of the Exclusivity Order are codified at 47 C.F.R. Section 76.2000. (In 2005, the South Carolina General Assembly enacted a similar statute, S.C. Code Section 58-9-295).

After unsuccessful attempts to initiate negotiations with competitors of OpenBand, Lansdowne and Southern Walk both filed separate declaratory judgment actions in United States District Court for the Eastern District of Virginia, seeking determinations that their arrangements with OpenBand ran afoul of the Exclusivity Order.

This is where the cases took different directions, based on whether each constituted a "case or controversy," and only one plaintiff remained standing (Rim Shot) at the conclusion of the cases.

Lansdowne - Individual and Organizational Standing 

Following discovery, District Court Judge Anthony J. Trenga considered cross-motions for summary judgment on the claim that the OpenBand arrangements with Lansdowne violated the Exclusivity Order, and issued an order permanently enjoining OpenBand from enforcing any video service exclusivity provision against Lansdowne or its residents.
 
The 4th Circuit reviewed the determination that Lansdowne had standing in its own right to challenge the Exclusivity Order applying the test originally announced in Lujan v. Defenders of Wildlife. In order to have constitutional standing to bring a lawsuit, a party must show 1) an injury in fact that is both a) concrete and particularized and b) actual or imminent, and not conjectural or hypothetical; 2) traceable to the challenged action of the Defendant; and 3) it is likely that the injury will be redressed by a favorable decision.  (For a discussion of the three basic types of standing, see ATC South, Inc. v. Charleston County, et al.)

Judge Wilkinson determined that Lansdowne met all three factors:

Injury in Fact. 

Lansdowne purchases services directly from OpenBand for its community center and office space, and as a result is personally harmed by the exclusivity provisions in its contractual arrangements with OpenBand.  Therefore, Lansdowne the HOA suffered an individual injury, as opposed to any injury suffered by the members of the HOA who also purchase services from OpenBand.  Moreover, Lansdowne also demonstrated organizational or associational standing to sue on behalf of its members, by introducing affidavits from individual members showing their injuries.

Lansdowne's allegations of its personal injury and those on behalf of its individual members did not exist in Southern Walk, as described below.

Traceable to the Actions of OpenBand (Causation).  

OpenBand argued that any injury that Lansdowne might suffer as a result of missing out on video service competition would be caused by the independent "decisions by competing companies not to offer service to Lansdowne."  The court disagreed, pointing out that causation in the standing context includes an injury "'produced by [the] determinative or coercive effect' of the defendant's conduct 'upon the action of someone else.'"  In other words, "fairly traceable" means just that: you can show the chain of events from OpenBand's actions to Lansdowne's injury, not merely that OpenBand's "conduct is the last link in the causal chain leading to an injury . . . "

Redressability.  

The lack of competition caused by the exclusivity provisions in the OpenBand arrangements would be eliminated if Lansdowne had the right to (wait for it . . . .) competitors for the provision of video services.      

Southern Walk- No Individual or Organizational Standing

OpenBand filed a motion to dismiss for a lack of jurisdiction, claiming that Southern Walk lacked standing to bring the lawsuit.  District Court Judge Gerald Bruce Lee agreed that Southern Walk had failed to plead facts sufficient to establish individual or representative standing, refused to allow Southern Walk to amend its complaint, and dismissed the case with prejudice.  (As an aside, the district court cited to a case, Friends of the Earth, Inc. v. Laidlaw Envtl. Servs. (TOC), Inc., with ties to South Carolina.  This case is another example of tortured facts and torturous procedural history). 

Individual Standing.

Southern Walk first alleged that its status as a party to the numerous contractual arrangements with OpenBand containing illegal exclusivity provisions established its standing to maintain suit.  Judge Motz disagreed.  Although status as a party to a contract or having an interest in a contract may confer standing as a statutory proposition (See the South Carolina Uniform Declaratory Judgements Act), constitutional standing requires a party to meet each prong of the Lujan test.

Next, Southern Walk alleged personal harm due to the contract's requirement that it pay OpenBand for services when its members failed to pay.  The 4th Circuit conceded that harm is concrete and particularized, but non-redressable by any determination voiding the exclusivity provisions.  In other words, Southern Walk's obligation to pay OpenBand did not hinge on the exclusivity provisions in its contracts, but would exist "regardless of the outcome of this action." Also, because Southern Walk was not a customer of OpenBand's services (unlike Lansdowne), it could not show any economic injury to itself (as opposed to its members).

Organizational/Representational Standing.

In order to establish standing as a representative of its members, Southern Walk bore the burden of demonstrating 1) its own members would have standing to sue in their own right; 2) the interest the organization seeks to protect are germane to the organization's purpose; and 3) neither the claim nor the relief sought requires the participation of individual members in the lawsuit. The United States Supreme Court clarified this test in Summers v. Earth Island Institute, requiring that Southern Walk "make specific allegations establishing that at least one identified member had suffered or would suffer harm." Unfortunately Southern Walk's complaint neither identified any such specific member, nor attached affidavits containing allegations of specific individual injury.  And the court disagreed that Southern Walk met any exception to Summers.

Conclusion

The 4th Circuit vacated the district court's dismissal of Southern Walk's complaint with prejudice.  (A suit that is dismissed for lack of jurisdiction cannot be dismissed with prejudice because no decision has been reached on the merits). The dismissal of the complaint without prejudice will allow Southern Walk another opportunity to amend its complaint.  Southern Walk's subsequent amended complaint may focus on demonstrating its organizational standing. 

Some Uses Just Don't Belong: Land Use Law and "Caddyshack"

Introduction

The South Carolina Supreme Court recently issued Dunes West Golf Club v. Town of Mt. Pleasant.  Justice Kittredge, writing for a unanimous court, (and in an opinion footnoted as heavily as a David Foster Wallace essay) affirmed the trial court's grant of summary judgment to the Town of Mt. Pleasant (Town).   Dunes West Golf Club (Dunes West) had challenged both a zoning change that prevented residential development on all golf courses in Mount Pleasant, as well as the Town's subsequent denial of Dunes West's request to rezone its golf course property in order to allow residential development.

Of course I, like other arrested adolescents of my vintage, can't even see or hear the word "golf", much less read an opinion about zoning and land use in and around golf courses, without conjuring up characters, images and quotes from the 1980 movie Caddyshack, and the friendly environs of the Bushwood Country Club. (This affectation has threatened to bleed over into the courtroom, as more than once I have fought the urge to say "Your honor, Your Honor.")
 

As a result, the following is what happens when the Bar meets Bushwood, takings meets Ty Webb, due process meets Danny Noonan, zoning meets D'Annunzio . . . you get the idea.  Let me make clear that in no way am I comparing any of the parties in this case to characters in the movie.  I don't know any of the people involved in these facts.

Background

"Cemeteries and golf courses are the worst uses of real estate."  Al Czervik.

The Town, no stranger to zoning controversies (see for example Ion v. Town of Mt. Pleasant), caught wind of a trend where golf courses were being converted into residential home sites. At the time, Dunes West and other developments were zoned as "planned development districts," a flexible designation that allowed golf courses that were part of larger developments to be converted to residential development without approval by the Town-- subject to limited setback and density requirements.   These planned development districts were first authorized as part of the South Carolina Local Government Comprehensive Planning Enabling Act of 1994 (the "Act").

The Town, through its planning commission,  proposed an ordinance (Ordinance) creating a new zoning district- the Conservation Recreation Open Space (CR-O)-- that would apply to all golf courses in the Town and prohibit uses inconsistent with that open space designation (e.g. residential development).

The Ordinance went through the process mandated by Section 6-29-760 of the Act and the Town Ordinances, including consideration by the planning commission and the Town Council, and was enacted over Dunes West's objection.  The Ordinance changed the zoning for all of the Dunes West property on or near its golf course (the "Golf Course Property") from DWPD to CR-O.  As a result, Dunes West could not develop the Golf Course Property without rezoning it, which would require consideration by the planning commission and approval by the Town.

Dunes West's Rezoning Requests

"[I]f I kill all the golfers, they'll lock me up and throw away the key."  Carl Spackler.

Dunes West, recognizing that only legal means could allow it to put more houses on the Golf Course Property, submitted two different zoning requests seeking designations permitting houses to be built near the golf course.  One of several alternatives considered by Dunes West (before and after the rezoning requests) involved demarcating certain "out-of-bounds" areas suitable for lots.

Out-of-bounds, of course, was where the Havercamps spent the balance of their afternoons while attempting to play the Bushwood course.

The rezoning requests "prompted spirited debate," and widespread opposition.  The planning commission, acting in its advisory capacity, recommended in both instances that the requests be denied based on the factors for a rezoning set out in the Town's development regulations.  Dunes West withdrew its first request prior to its consideration by the Town Council, and the Town Council denied the second request.

Dunes West then filed an action in state court alleging that the actions of the Town in rezoning the Golf Course Property to CR-O and denying Dunes West's rezoning requests were illegal. 

Dunes West's Claims

Equal Protection

"I think this place is restricted Wang, so don't tell 'em you're Jewish. Okay, fine." -Al Czervik.

While Bushwood is free to discriminate on whatever basis it sees fit because it is a private country club (See 42 U.S.C. Section 2000(e)), the Equal Protection Clause in the 14th Amendment prevents unreasonable discrimination by governmental bodies (federal, state and local).  A claim that a particular government action (usually a statute or ordinance) violates the right to equal protection is analyzed by a court based upon how the action classifies those it affects, as well as the particular right the plaintiff alleges to have been violated.  Accordingly, the level of analysis (scrutiny) a government action will receive incorporates those concepts.  In general, the more scrutiny a government action receives, the more likely it is to be struck down by a reviewing court.

Suspect Classes (Strict Scrutiny).  The government must show that the challenged classification serves a compelling state interest and that the classification is necessary to serve that interest.   Several classifications receiving this high scrutiny include race (Mr. Wang, Smoke Porterhouse) (see Loving v. Virginia), national origin (Maggie O'Hooligan, Sandy McFiddish) (see Korematsu v. United States), and religion (Bishop Fred Pickerling, Danny Noonan).

Quasi-suspect classes (Intermediate Scrutiny). The government must show that the challenged classification serves an important state interest and that the classification is at least substantially related to serving that interest.  Clark v. Jeter.  Classifications receiving this "middle-tier" scrutiny include gender (Judge Smails' niece Lacy, Mrs. Smails, and Mrs. Havercamp) and illegitimacy (debatedly Spaulding Smails).

All Other Classifications  (Simple or Rational Basis Scrutiny). If the classification does not implicate a suspect class or abridge a fundamental right, the rational basis test is used.  Denene v. City of Charleston.  The application of the rational basis test requires a court to determine 1) whether the law treats similarly situated entities differently; 2) if so, whether the legislative body has a rational basis for that disparate treatment; and 3) whether the disparate treatment bears a rational relationship to a legitimate government purpose.

Generally government legislation treating one group (not a suspect class) differently from another financially is valid as long as the government can show the distinction is rationally related to a legitimate purpose.  (See U.S. R.R.B. v. Fritz, upholding a statute maintaining "windfall" retirement benefits to some retirees but not others was valid because it accomplished the statute's purpose in helping to maintain retirement system).  Back to Bushwood, (and just for purposes of analogy), no one would begrudge the Club its right to draw distinctions between its members and its caddies (although it did so at its peril).  Look, I just wanted to work Caddy Day into the post, and who could blame me?

Dunes West pointed to another golf course development in the Town that had successfully rezoned from CR-O in order to undertake residential development, and claimed the Town had no rational basis to treat Dunes West differently. However, there were "significant differences" between the two petitions for rezoning, one of which is that the Dunes West proposal "caused multiple alternations to the areas of play," while the other proposal did little to alter areas of play. In other words, the Town had a rational basis to treat the two petitions differently.

Substantive Due Process

  "I'll slap an injunction on them so fast it will make their heads spin." Judge Elihu Smails

Due process rights (found in the 5th and 14th Amendments of the Constitution) prevent the government from denying you something or taking certain rights away from you without certain procedures taking place. And the concept of "substantive due process" prohibits government action that takes away certain established rights. In the zoning context a successful substantive due process claim requires a demonstration that the government action arbitrarily and capriciouly deprived someone of a property right recognized and protected by state law.  Sunset Cay, LLC v. City of Folly Beach. 

Perhaps the clearest example of such a protected property right is a "vested right." The South Carolina Vested Rights Act, beginning at S.C. Code Section 6-29-1510,  establishes a vested right to develop property when a site specific development plan is approved by a local government body.  In other words, if all of the conditions set out in the Vested Rights Act have been satisfied, a local government cannot prevent the property from being developed by attempting to rezone it or otherwise take that development right away.

Similarly, Czervik Construction had a vested right to build adjacent to Bushwood, presuming the proper zoning, development plan, and building permits had been obtained and approved. Therefore, any basis on which Judge Smails enjoined Czervik (perhaps an ordinance passed to prevent construction from going forward) would likely act as a denial of Czervik's due process rights (among other things).

Because Dunes West lacked any vested property right to develop the Golf Course Property, its substantive due process claim failed.

Arbitrary and Capricious Rezoning

 "Don't Count That.  I was interfered with . . .winter rules."- Judge Smails

Governmental bodies enjoy a great deal of deference with respect to the legislative decisions they make.  A court will not overturn a zoning decision unless it is "arbitrary and capricious."  In practical terms, this means a zoning decision will not be reversed unless there is no legitimate basis to support it-- and the decisionmaker wholly ignores the applicable rules (a zoning ordinance's requirements, purposes, or other objective standards) in reaching a decision.  As examples, issuing a ruling that is not based on an ordinance's specific criteria is arbitrary (Peterson Outdoor Advertising v. City of Myrtle Beach), as is a decision based solely on the fears of local residents (Bannum v. City of Columbia).

Dunes West claimed that the zoning boundaries used by the Town in rezoning were too broad and arbitrary.  However, as discussed above the plan applied to all golf courses in the Town, and using tax map parcels as boundaries serve the assessment purposes in the CR-O ordinance.

Takings

The 5th Amendment of the Constitution also prohibits private property from being taken for public use without just compensation.  Dunes West claimed that the downzoning of the property constituted an unlawful taking of its property.

Relevant Parcel 

"Well, we're waiting . . ."  -Judge Smails

In order for a court to determine what property might have been taken, the plaintiff must show that "relevant parcel" of land.  Dunes West claimed that the "relevant parcel" was not the entire 256 acres of the Golf Course Property, but instead the "discrete portion" it wanted to develop.  In response, Justice Kittredge pointed out that "[t]he obstacle Appellant presents here concerning its 'discrete portion' argument is that we cannot tell what that portion is."  In fact, Dunes West presented varying acreage amounts throughout the course of the case (and before the lawsuit), and its brief to the Supreme Court contained inconsistent acreage representations.

Because no "discrete portion" of the Golf Course Property could be properly identified, the Supreme Court did not have to encounter the "conceptual black hole" of relevant parcel analysis or concepts like "piecemealing" and "conceptual severance" associated with it.

Categorical Taking.  

As described in Lucas v. South Carolina Coastal Council (which involved property just across the Isle of Palms Connector from the Town), a categorical or per se  taking occurs when 1) a permanent physical invasion of property takes place, or 2) where a regulation "denies all economically beneficial or productive use of land." A governmental action requiring  public access to the Marina where Judge Smails kept The Flying WASP would be a physical invasion (See Kaiser Aetna v. United States), while a long delay in considering a fill permit sought by Bushwood followed by a denial of that permit might represent the latter type of claim. (See Resource Investments, Inc. v. U.S.).

The CR-O ordinance involved no physical invasion, and Dunes West maintained "economically beneficial uses" following its passage, as demonstrated by the positive cash flow created by the golf course. 

Penn Central Balancing Test

If the governmental action denies something less than all economically viable use, the court applies the factors set out in Penn Central Transportation Co. v. New York City: 1) the character of the government action; 2) the economic impact of the regulation on the claimant; and 3) the extent to which the regulation has interfered with distinct investment-backed expectations.

Unreasonable delay in considering and granting Ty Webb's request to rezone property as commercial for the purposes of building another lumber yard (since he has lost track of the other two) might constitute a Penn Central taking. Byrd v. City of Hartsville.

Applying this framework to the Town's actions, 1) the CR-O ordinance took none of Dunes West's property; 2) the Golf Course Property "retained significant value following the rezoning"; and 3) use of the Golf Course Property as a golf course was Dunes West's "primary expectation," since that is the only use to which it had ever been put, and the CR-O ordinance perpetuated that use rather than extinguishing it. 

Conclusion

"You'll Get Nothing and Like It."- Judge Smails to his nephew, Spaulding
 

None of Dunes West's claims against the Town were successful.  However, Dunes West has petitioned the Supreme Court for rehearing, at least keeping the possibility alive that the case could continue.  If it does, however, rest assured there will be no subsequent post based on CaddyShack II.

Proposed Regulation Would Make Mediation Mandatory In Certain S.C. Workers' Compensation Cases

By Lana Sims

The South Carolina Workers’ Compensation Commission has submitted to the General Assembly for approval a proposed regulation requiring parties to mediate certain claims.  

As set out in the Court-Annexed Alternative Dispute Resolution (ADR) Rules first adopted in 2006 by the South Carolina Supreme Court, (and making mediation mandatory in certain civil trial and family courts), mediation is defined as: 

An informal process in which a third-party mediator facilitates settlement discussions between parties.  Any settlement is voluntary.  In the absence of settlement, the parties lose none of their rights to trial.

For several years, parties with disputes pending at the Workers’ Compensation Commission have been encouraged to mediate their cases before going to a hearing.  However, under Proposed Regulation 67-1801, which can be found here, parties must mediate the following claims prior to a hearing:

• claims arising under S.C. Code § 42-9-10;

• claims where permanent and total disability are alleged under S.C. Code § 42-9-30(21);

• occupational disease cases;

• third-party lien reduction cases;

• contested death claims; 

•  mental/mental injury claims;

•  cases of concurrent jurisdiction under the South Carolina Workers’ Compensation Act and the Federal Longshore and Harbor Workers’ Compensation Act.

Like the ADR Rules referenced above, the Proposed Regulation mandates that parties must mediate in good faith.  Moreover, information exchanged in mediation must be held in confidence, and cannot be used as evidence in any proceeding.

The General Assembly is expected to affirmatively approve the Proposed Regulation upon its return in January.  Absent legislative action, the Proposed Regulation will become law on May 8, 2013.

Lana Sims and Earl Ellis of Ellis Lawhorne have a very active ADR practice, mediating workers’ compensation claims and a wide variety of civil litigation matters.  The two have conducted more than 600 workers’ compensation mediations in the past two years, and look forward to mediating claims under the procedures set out in the Proposed Regulation.

Disadvantaged and Minority Business Certification in South Carolina

Introduction

In South Carolina there are several programs designed to benefit those businesses owned and controlled by “disadvantaged” individuals.  The key to obtaining certification or designation under all these programs is a demonstration that a qualified individual “owns” and “controls” the business.  While those terms certainly appear straightforward, there are pitfalls for those businesses who do not understand the application process, the applicable rules, and their purposes.

Background and Benefits of Certification

Both federal and state law encourage the participation of businesses owned by certain groups in government contracts.  On the federal level, these businesses are called Disadvantaged Business Enterprises (DBEs), and on the state level they are called Minority Business Enterprises (MBEs).  (There are other flavors of certification as well, but this post addresses the most common).

Federal Law and DBEs: Participation in Federal Projects

The DBE Rules, found beginning at 49 C.F.R. § 26.1, provide that no less than 10% of the federal funds spent in connection with South Carolina projects receiving federal funding from the Federal Aviation Administration (FAA), the Federal Highway Administration (FHWA), or the Federal Transit Administration (FTA) should be spent with DBE firms. In practical terms, this means that the DBE Rules encourage DBE participation in highway contracts, airport improvement projects,

The South Carolina Department of Transportation (SCDOT) administers a Unified Certification Program (UCP) on behalf of all agencies who implement these projects, and makes certification decisions according to the criteria set out in the DBE Rules.  SCDOT also maintains a Unified DBE Directory listing all businesses certified as DBEs in South Carolina.

State Law and MBEs:  Participation in State Agency Procurement, Tax Credits, and Tie-Breaking Bid Preference

The South Carolina Consolidated Procurement Code references a "socially and economically disadvantaged small business," a term used interchangeably with "MBE."

Each state agency must a develop a MBE Utilization Plan, which includes goals to spend 10% of expended funds with MBEs certified by the South Carolina Office of Small and Minority Business Assistance (OSMBA), and to solicit certified MBEs in each category of goods or services for which those MBEs are qualified. OSMBA maintains a list of certified minority vendors for use by state agencies. 

Per S.C. Code Ann. Section 12-6-3350, firms with state contracts subcontracting with MBEs are eligible for a state income tax credit equal to 4% of the payments to MBE subcontractors on a state contract (up to $50,000 in any one year).  Additionally, any tie bids involving a MBE under the competitive sealed bidding provisions of the South Carolina Procurement Code must be awarded to the MBE.

OSMBA applies the DBE Rules in its determinations, as well as the provisions of S.C. Code Ann. Regs. 19-445.2160.

Certification Requirements

Under the DBE Rules and South Carolina law, a firm must demonstrate several things in order to obtain certification. 

 

Small Business. The firm must be a “small business,” with average annual gross receipts over the previous three fiscal years of no more than $22.41 million (as of the date of this post- the figure is adjusted from time to time).

Ownership by a Disadvantaged Individual.  Second, the owner must be a socially and economically disadvantaged individual.  The members of a number of minority groups, including women, Black Americans, Hispanic Americans, Native Americans, Asian-Pacific Americans, and Subcontinent Asian Americans enjoy a rebuttable presumption of social and economic disadvantage under the DBE Rules.  Under the South Carolina Consolidated Procurement Code, social disadvantage is established by membership in a particular minority group, but economic disadvantage is made on a case-by-case basis.  In addition, the disadvantaged individual's personal net worth cannot exceed $1.32 million.

Real, Substantial and Continuing Ownership.  Third, the disadvantaged individual must own at least 51% of the firm.  While that proposition appears completely objective, in practice the rules require that ownership be shown by substance as opposed to mere form.  Because the DBE Rules are designed to root out “fronts” where one or more non-disadvantaged individuals really own the firm, the SCDOT will seek support for the ownership proposition beyond the bare language in a shareholder or operating agreement. Accordingly, certain facts and arrangements may raise “red flags” with respect to ownership:

• The disadvantaged individual does not share in the risks and profits of the firm commensurate with her ownership interest;

• The disadvantaged individual obtains her interest in the firm by means of a gift or a transfer without adequate consideration, especially when the donor is non-disadvantaged and involved in the same business or a similar line of business as the firm;

• The disadvantaged individual obtains her ownership interest through a “sweetheart” deal, such as a promise to contribute capital, an unsecured note payable to the firm, or mere participation in the firm as an employee.

The DBE Rules also have some specific provisions addressing marital assets used to purchase ownership by a disadvantaged individual, so particular attention must be given to how that acquisition takes place.

Control. Fourth, the disadvantaged individual must demonstrate control of the firm.  Several “red flags” may demonstrate a lack of control by the disadvantaged individual, including:

• The firm relies on one or more other businesses for its resources (e.g. personnel, facilities, equipment, financial and/or bonding support), such that its independence is compromised.  If a non-DBE firm is in the position to exercise influence over the firm, then the disadvantaged individual may not truly control the firm.

• The disadvantaged individual lacks the power to direct the management and policies of the firm, and to make day-to-day and long-term decisions. 

• The disadvantaged individual has outside interests or other employment that compromises her ability to manage the firm.

• The disadvantaged individual lacks an overall understanding of the firm’s business.

• The disadvantaged individual lacks the absolute right to hire and fire;

• A non-disadvantaged individual who previously controlled the firm remains involved in the firm in some capacity;

• The non-disadvantaged partners of the firm have the right to bind the firm contractually without the concurrence of the disadvantaged individual.

Conclusion

An applicant seeking designation as a DBE or an MBE must demonstrate to the SCDOT or the OSMBA that the disadvantaged individual truly owns and controls the firm. Moreover, the applicable rules make clear that these programs are to be “narrowly tailored” to ensure that only those firms that fully meet eligibility standards can participate.  As a result, an applicant needs to make sure that it meets the letter and the spirit of each such requirement.

4th Circuit Adopts "Whole-Case Approach" in Upholding CAFA Remand

In AU Optronics Corporation and LG Display Co. v. State of South Carolina, the 4th Circuit Court of Appeals considered for the first time the issue of whether a state's lawsuit pursuing claims that may benefit some of its citizens is a "mass action" under the Class Action Fairness Act of 2005 ("CAFA").

BACKGROUND

The State of South Carolina brought separate actions against Defendants AU Optronics and LG Display (citizens of states other than South Carolina) in state court (Richland County) under the S.C. Antitrust Act and the SC Unfair Trade Practices Act (SCUTPA) and alleging a price-fixing conspiracy involving LCD panels.  The suits sought civil forfeitures, statutory penalties, and restitution for those South Carolina individuals who had purchased products utilizing these panels.  

Defendants removed the actions to the District of South Carolina, alleging that the cases satisfied the "minimal diversity" standards of  CAFA as “class actions” and “mass actions,” and the "complete diversity" standard of 28 U.S.C. Section 1332.  Defendants’ theory of removal was that even though the State is the only named plaintiff, the “real parties in interest” to the restitution claims are the citizens of South Carolina who purchased LCD panel products.  And if these citizens are parties, the cases satisfy both minimal diversity (any plaintiff is a citizen of a State different from any defendant), as well as complete diversity (all plaintiffs are citizens of a State different from all defendants).

District Judge Joseph F. Anderson, Jr.  remanded the cases because 1) South Carolina was the only “real party in interest” in these parens patriae (“parent of the country”) lawsuits wherein the state asserted a quasi-sovereign interest rather than the private interests of South Carolina citizens; and 2) South Carolina is not a “citizen” for purposes of diversity jurisdiction.

The Defendants then petitioned the 4^th Circuit Court of Appeals for permission to appeal under CAFA per 28 U.S.C. § 1453(c)(1) — an exception to the general rule in 28 U.S.C. §1447(d) that a district court’s remand order is not appealable.  The sole issue on appeal was whether the cases qualified as a “mass action” under 28 U.S.C. § 1332(d)(11)(B)(i).

THE COURT’S ANALYSIS

Defendants argued that a “claim-by-claim approach” (followed by the 5^th Circuit in Louisiana ex rel. Caldwell v. Allstate Ins. Co.) made South Carolina merely a “nominal or formal party only,” because the restitution sought by the State under S.C. Ann. Section 39-5-50(b) made the beneficiaries of that relief  “real parties in interest.” South Carolina and the district court (consistent with the 7^th and 9^th Circuits) took the “whole case approach,” emphasizing the “interest the state possesses in the lawsuit as a whole,” and reasoning that South Carolina “seeks substantial relief that is available to it alone.”

In particular, the Plaintiff pled statutory causes of action (S.C. Code § 39-3-180,  S.C. Ann. Section 39-5-50, and S.C. Code § 39-5-110) that must be brought by the Attorney General in the name of the state.  As a result, the availability of restitution “is incidental to the State’s overriding interest and to the substance of these proceedings.” 

OBSERVATIONS

You may be asking yourself why Defendants appealed only the “mass action” remand determination, and abandoned their contention that the case belonged in federal court as a “class action.” 

As a general proposition, the prospect of undergoing a Rule 23 class certification process with an unwilling Plaintiff may be too much to wrap one's head around, much less implement.  I would be interested to know how that process would proceed. Would the state be required to find a class representative?   

Also, the South Carolina Unfair Trade Practices Act prohibits class actions. S.C. Code Ann. § 39-5-140 provides that an injured person may “bring an action individually, but not in a representative capacity”.    The South Carolina Supreme Court has confirmed that a “class action” is a “representative action” forbidden by this statutory provision.  Dema v. TenetPhysician Services-Hilton Head, Inc.  

A “mass action,” however, is at least arguably not a “representative action.”  In re DirectTV Early Cancellation Litigation (“In other words, a class action is a representative action where a named plaintiff or plaintiffs represents a large number of similarly situated people who are not a part of the lawsuit, while a mass action is not representative because every plaintiff is named in the case.”)  

While South Carolina sued Defendants pursuant to S.C. Code Ann. § 39-5-110 and § 39-5-50 of the SCUTPA, and not S.C. § 39-5-140, the public policy prohibiting class actions in the latter clearly wouldn’t have helped the Defendants’ arguments that the suits should remain in federal court as "class actions."  Characterizing the cases as "mass actions" avoided the ruling in Dema. 

This Ain't Backup (And Maybe Not Storage, Either): SC Supreme Court Considers the Stored Communications Act

It has scarcely been a month since this post describing Jennings v. Jennings, and the the S.C. Court of Appeals' construction of the Stored Communications Act.

The South Carolina Supreme Court granted Certiorari to review the opinion, and on October 10th reversed the decision of the Court of Appeals.  Three of the five Justices on the Court issued opinions in the case, underscoring the difficulties in construing this law enacted before the advent of browsers and webmail.   

Click here for the facts.

The Majority Opinion: This is not Backup

Justice Hearn rejected the rationale of the Court of Appeals that Mr. Jennings' single copies of previously opened Yahoo emails were stored "for purposes of backup protection" pursuant to Section 2510(17)(B) of the Wiretap Act:  "We decline to hold that retaining an opened e-mail constitutes storing it for backup protection under the Act."  Employing the ordinary meaning of "backup" as "one that serves as a substitute or support," Justice Hearn reasoned that since Mr. Jennings possessed the only copies of these emails, nothing was being "backed up" by those messages.  Therefore, the messages were not in electronic storage.  This is the rationale used in U.S. v. Weaver (mentioned in the previous post).

The Chief Justice's Concurrence: This Isn't Even Electronic Storage

Chief Justice Toal concurred in result (joined by Justice Beatty), but preferred the more "traditional interpretation" of the SCA as advanced by the Department of Justice, according to which the "backup provision" historically was designed to make sure the government could not avoid the privacy protections of the SCA by going after "backup copies of unopened emails" made by an internet service provider for its "administrative purposes."  This interpretation requires meeting the requirements of both Section 2510(17) (A) and (B) of the Wiretap Act: 

(17) "electronic storage" means-

(A) any temporary, intermediate storage of a wire or electronic communication incidental to the electronic transmission thereof; and

(B) any storage of such communication by an electronic communication service for purposes of backup protection of such communication. 

According to the Chief Justice, the difficulty with the Weaver rationale as adopted by the majority is that "the privacy protections of personal e-mail are contingent upon the operation of the e-mail system used."  In other words, web-based email services might only "store" an email in one place, while the operation of a program (such as Microsoft Outlook) through which messages are downloaded might result in a copy being stored for "backup" purposes.  The "traditional interpretation" avoids these possible "illogical results."

Justice Pleicones' Concurrence:  You Are Both Right, But Here is a Different Reason Why

And finally, Justice Pleicones also concurred in result, taking the view that Section 2510(17) (A) and (B) reference two distinct types of storage, and that therefore "an e-mail is protected if it falls under the definition of either subsection (A) or (B)."  Justice Pleicones agreed with the Majority's conclusion that the emails in question were not protected under Section 2510(17)(B), but reasoned that the "backup" referenced in that subsection is a specific type of copy used by an ISP to "back up its own servers," and does not include an original email transmitted to the recipient.