State v. Philip Morris Inc.

DAVIS, J. This case involves a dispute between appellant, the State of Maryland, and appellees, Philip Morris USA, Inc., R.J. Reynolds Tobacco Co. and Lorillard Tobacco Co. (collectively, the original participating manufacturers) and more than forty ¹⁴³ small tobacco manufacturers (collectively, the subsequent participating manufacturers). In 1998, the original participating manufacturers and the State, along with fifty-one other states and territories (collectively, the settling states), signed the Master Settlement Agreement (MSA). The MSA resolved the settling states’ claims of wrongful marketing and advertising of cigarettes, as well as damages based upon the costs of treating smoking-related illnesses. In exchange for a release of liability, the original participating manufacturers 1 and subsequent participating manufacturers, who later joined the MSA, agreed to make annual payments that would be allocated among the settling states.

In March 2006, the independent auditor, responsible for determining the annual MSA payments, refused appellees’ request to reduce their payments for the 2003 calendar year. When the dispute continued, appellees requested arbitration pursuant to § XI(c) of the MSA. The State refused appellees’ demand and, on May 18, 2006, it sought declaratory relief from the Circuit Court for Baltimore City (Brown, J.), confirming that the independent auditor acted properly by not reducing the MSA payment. The original participating manufacturers responded on July 14, 2006, by filing a Motion to Compel Arbitration.

Thereafter, the subsequent participating manufacturers joined the original participating manufacturers’ motion. During the October 5, 2006 motions’ hearing, the parties argued, based upon the language and structure of the MSA, whether the present dispute was subject to arbitration or the exclusive jurisdiction of the Circuit Court for Baltimore City. In a written opinion, the court found that the arbitration provision was “clear” and applicable and rejected the State’s arguments, opining that they were “clearly in conflict with” the language of the MSA. Accordingly, on January 19, 2007, the Circuit Court for Baltimore City ordered that arbitration be compelled and denied the State’s Motion for Declaratory ¹⁴⁴ Order.

The State, thereafter, filed a timely notice of appeal, in which it presents the following questions for our review: 1. Under the 1998 Master Settlement Agreement between the State of Maryland and participating tobacco manufacturers, is the issue of whether the State was “diligent” in its enforcement of Maryland*s escrow statute against non-participating manufacturers (NPMs) (a) an issue within the Circuit Court for Baltimore City*s “exclusive jurisdiction” to implement and enforce the MSA, or instead (b) an issue subject to arbitration because it is a dispute “arising out of or relating to calculations performed by, or ... determinations made by” the accounting firm responsible for calculating the amount that the participating tobacco manufacturers owe the State under the MSA? 2. Do a series of 2003 agreements, subsequent to the Master Settlement Agreement, between the State and the original participating tobacco manufacturers, resolving the issue of the State*s “diligent enforcement” of its NPM escrow statute with respect to 1999-2002 tobacco sales, render non-arbitrable the present dispute concerning the State*s diligence in calendar year 2003, because the State*s enforcement activities in calendar year 2003 necessarily applied only to 1999-2002 tobacco sales? For the reasons that follow, we hold that the question of whether the State was diligent in its enforcement of Maryland’s escrow statute against non-participating manufacturers is an issue subject to arbitration and that the series of 2003 settlement agreements between the State and the original participating manufacturers do not render the present dispute non-arbitrable.

Accordingly, we affirm the judgment of the Circuit Court for Baltimore City. FACTUAL AND PROCEDURAL BACKGROUND A. The Master Settlement Agreement In 1996, the State brought suit in Baltimore City Circuit Court against the major American tobacco companies, alleging ¹⁴⁵ that the companies were engaged in wrongful advertising and marketing of cigarettes. Other states initiated similar actions in their own courts. In November 1998, the attorneys general of forty-six states, including Maryland and six territories, entered into a global agreement known as the MSA to resolve the litigation.

Under the MSA, the settling states agreed to dismiss any pending action and release all past and future claims in exchange for the original participating manufacturers to restrict the manner in which they market and advertise tobacco products and for each original participating manufacturer to make a substantial annual payment to be allocated among the settling states. On December 1, 1998, the Circuit Court for Baltimore City entered a consent decree and final judgment approving the MSA, thereby settling the previous civil action initiated by the State. As an incentive for additional tobacco manufacturers to join the MSA, the agreement provides that other tobacco manufacturers may voluntarily agree to abide by its provisions in the future and, in return, the settling states would release all past and future claims against them. The MSA refers to the tobacco manufacturers who enter the global agreement after its execution as the “subsequent participating manufacturers.” 2 Under the MSA, the subsequent participating manufacturers, like the original participating manufacturers, make annual payments to the settling states.

The MSA annual payments are used to help the settling states achieve “significant funding for the advancement of public health” and “the implementation of important tobacco-related public health measures.” Pursuant to the MSA, the original participating manufacturers and the subsequent participating manufacturers (collectively, the participating manufacturers) do not make annual payments directly to the State or the other individual settling states. Instead, each partici ¹⁴⁶ pating manufacturer is required to make a single, nationwide annual payment into an escrow account on or before April 15. 3 The participating manufacturers’ payment obligations are calculated annually by an “Independent Auditor” 4 who shall: [Calculate and determine the amount of all payments owed pursuant to [the MSA], the adjustments, reductions and offsets thereto (and all resulting carry-forwards, if any), the allocation of such payments, adjustments, reductions, offsets and carry-forwards among the Participating Manufacturers and among the Settling States, and shall perform all other calculations in connection with the foregoing. MSA § XI(a); see MSA § IX(c)(2). The independent auditor calculates each participating manufacturer’s annual payment obligation pursuant to a comprehensive formula contained within the MSA.

The calculation begins with each original participating manufacturer paying into an escrow account its relative market share of the base amount for the calendar year. See § IX(c)(l). This amount is then subject to several reductions and adjustments. One adjustment is the “Non-Participating Manufacturer Adjustment” (NPM Adjustment), which is at issue.

MSA §§ IX(c)(j), XI(a)(l). Given the restrictions imposed by the MSA, the participating tobacco manufacturers were concerned that they would incur a competitive disadvantage to the non-participating manufacturers, who were not subject to the MSA’s strict market ¹⁴⁷ ing restrictions and payment obligations. The NPM Adjustment attempts to level the marketplace by reducing the annual payment obligation of the participating manufacturers if, as a collective group, it is proven that they lost market share to the non-participating manufacturers. The MSA provides that participating tobacco manufacturers may be eligible to take a NPM Adjustment if (1) the independent auditor determines that, during the year in question, the participating manufacturers collectively lose more than two percent of their pre-MSA market share to non-participating manufacturers and (2) an economic consulting firm determines that the MSA was a “significant factor” contributing to that loss.

MSA § IX(d)(l). Even if the two stated conditions are satisfied, thereby making the NPM Adjustment applicable, the MSA contains a mechanism for a settling state to avoid a reduction of payment. The MSA provides: A Settling State’s Allocated Payment shall not be subject to an NPM Adjustment: (i) 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.... MSA § IX(d)(2)(B) (emphasis added).

Accordingly, if a state has a “qualifying statute” in full force and effect and diligently enforces that statute, the auditor must reallocate that state’s share of the NPM Adjustment among the other states that do not qualify, “pro rata in proportion to their respective Allocable Shares.” MSA § IX(d)(2)(C). Maryland enacted the model “qualifying statute” contained in Exhibit T to the MSA, which is codified as Maryland’s Escrow Act (Chapter 169 of the Acts of 1999, as amended by Chapter 141 of the Acts of 2001). 5 The Escrow Act requires ¹⁴⁸ all non-participating tobacco manufacturers to deposit into escrow a fixed sum per cigarette sold that is slightly less than the per-cigarette cost imposed by the MSA on participating manufacturers. Escrow Act § 3. These escrowed funds may ultimately be used to satisfy a judgment that the State may obtain against a non-participating manufacturer.

Id. § 3(b)(2)(i). If the funds are not so used within twenty-five years, they are returned to the non-participating manufacturer. Id. § 3(b)(2)(iii). B. The Present Dispute The root of the dispute that underlies this appeal is the independent auditor’s calculation of the participating manufacturers’ annual payments for the 2003 calendar year.

In 2003, the independent auditor determined that the participating manufacturers’ total national market share was approximately six percent lower than their market share pre-MSA, satisfying the first condition of the NPM Adjustment. In March 2006, an economic consulting firm, selected pursuant to the MSA, determined that the MSA was a “significant factor,” contributing to that loss. 6 Accordingly, the participating manufacturers requested that the auditor apply the 2003 NPM Adjustment to their April 2006 payments. Maryland and the other settling states, however, urged the auditor to deny the NPM Adjustment on the ground that the settling states “diligently enforced” their qualifying statutes. After receiving letters from the State and participating manufacturers, the independent auditor released its preliminary calculations of the 2003 annual payments, which did not include the NPM Adjustment.

Recognizing that the parties disputed whether the NPM Adjustment should apply, the auditor stated that “the Independent Auditor is not charged with the responsibility under the MSA of making a determination regarding this issue. More importantly, the Independent Auditor is not qualified to make the legal determination as to ¹⁴⁹ whether any particular Settling State has ‘diligently enforced’ its Qualifying Statute.” Although the independent auditor did not, in its preliminary calculations or elsewhere, explicate its current approach to determining whether a NPM Adjustment applies, apparently its approach was to presume that the settling states were diligently enforcing their qualifying statutes. When the auditor issued its final calculations in March 2006, the calculations again did not include the NPM Adjustment. Following the release of the independent auditor’s final calculations, on May 22, 2006, counsel for the participating tobacco manufacturers wrote former Attorney General Joseph Curran to request that the State submit to arbitration on the issue of whether Maryland diligently enforced the Escrow Act during the 2003 calendar year. 7 On May 18, 2006, the State asked the Baltimore City Circuit Court for declaratory relief, declaring that the auditor properly determined not to reduce the participating manufacturers’ MSA payments to reflect a NPM Adjustment. 8 As the approving court of the MSA, Baltimore City Circuit Court “retain[ed] exclusive jurisdiction for the purposes of implementing and enforcing [the MSA],” except as otherwise provided in the MSA.

At issue is one of the exceptions, an arbitration provision governing the resolution of disputes regarding the auditor’s calculations and determinations: 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-for ¹⁵⁰ wards 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.

MSA § XI(c). On July 14, 2006, the original participating manufacturers filed a Motion to Compel Arbitration and to Dismiss or, in the Alternative, Stay the State’s Motions. Thereafter, the subsequent participating manufacturers joined the original participating manufacturers’ Motion to Compel Arbitration. 9 The Circuit Court for Baltimore City heard arguments on October 5, 2006. After examining the provisions of the MSA in order to determine whether the question of diligent enforcement was arbitrable, the court concluded, in its written opinion, that “[t]he language of the MSA is clear in its directive to submit a dispute such as this one to arbitration” and that “[t]he state’s argument based on logistics and impracticality is unpersuasive and fails to overcome the controlling language of the MSA.” Accordingly, on January 19, 2007, the court ordered that arbitration be compelled.

The State subsequently filed this appeal. ANALYSIS I The State comprehensively argues that a determination of whether it “diligently enforced” its Escrow Act does not “arise out of’ or “relate to” a “calculation performed by” or “any determination made by” the independent auditor. Accordingly, the State maintains that the question of diligent enforce ¹⁵¹ ment must be resolved by the Circuit Court for Baltimore City. In response, appellees argue that, because the underlying dispute is over the independent auditor’s determination not to apply the NPM Adjustment, it clearly falls within the MSA’s arbitration provision.

Thus, to answer the question of whether diligent enforcement is subject to arbitration or the exclusive jurisdiction of the Baltimore City Circuit Court, we look to the plain language of the MSA. 10 ¹⁵² A. Plain Language of the MSA The construction of a written contract is a question of law, subject to de novo review by an appellate court. Bennett v. Wright, 167 Md.App. 291, 295 , 892 A.2d 1164 (2006). As a fundamental principle of contract construction, we seek to ascertain and effectuate the intention of the contracting parties. The “primary source for determining the intention of the parties is the language of the contract itself.” Id.

(citing Young v. Anne Arundel, 146 Md.App. 526, 585-86 , 807 A.2d 651 , cert. denied, 372 Md. 432 , 813 A.2d 259 (2002); see General Motors Acceptance Corp. v. Daniels, 303 Md. 254, 261 , 492 A.2d 1306 (1985)) (“[Cjlear and unambiguous language of an agreement will not give away to what the parties thought that the agreement meant.”). In ascertaining the true meaning of a contract, “the contract must be construed in ¹⁵³ its entirety and, if reasonably possible, effect must be given to each clause so that a court will not find an interpretation which casts out or disregards a meaningful part of the language of the writing unless no other course can be sensibly and reasonably followed.” Cochran v. Norkunas, 398 Md. 1, 17 , 919 A.2d 700 (2007) (citing Sagner v. Glenangus Farms, 234 Md. 156, 167 , 198 A.2d 277 (1964)). i. A MSA Court’s Exclusive Jurisdiction is Restricted Pursuant to § VII(a) of the MSA, Baltimore City Circuit Court has primary enforcement responsibility. The MSA enforcement provision provides: Jurisdiction.

Each Participating Manufacturer and each Settling State acknowledge that the Court: (1) has jurisdiction over the subject matter of the action identified in Exhibit D in such Settling State and over each Participating Manufacturer; (2) shall retain exclusive jurisdiction for the purposes of implementing and enforcing this Agreement and the Consent Decree as to such Settling State; and (3) except as provided in subsections IX(d), XI(c) and Exhibit O, shall be the only court to which disputes under this Agreement or the Consent Decree are presented as to such Settling State. Id. (emphasis added). By virtue of this language, while Baltimore City Circuit Court has exclusive jurisdiction as to matters arising within the State, the court’s jurisdiction does not extend to matters involving section XI(c) of the MSA, which provides for arbitration. 11 Thus, § XI(c) constitutes an area of authority reserved from Baltimore City Circuit Court’s general enforcement jurisdiction. ¹⁵⁴ ii.

MSA § XI(c) Unambiguously Requires Arbitration The arbitration provision in § XI(c) of the MSA clause provides: (c) Resolution of Disputes. 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 IX(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. Id. (emphasis added).

The general phrase, “any dispute, controversy or claim arising out of or relating to .... ” delimits the substantive scope of the right to arbitrate under § XI(c), while the narrower parenthetical phrase that immediately follows the general phrase, describes a subset of disputes that clearly fall within the scope of arbitration and shall be submitted to arbitration. This subset illustrates the range of disputes included in the general clause and demonstrates that the MSA drafters intended that the listed disputes would be subject to arbitration. See, e.g., Puerto Rico Maritime Shipping Auth. v. I.C.C., 645 F.2d 1102 , 1112 (1981) (“including, without limitation” clause identifies examples that are specifically included in the general language they follow). Focusing on the language of the narrower, parenthetical phrase, it is necessary to “connect the dots.” Relevant to the issue sub judice is section IX(j), entitled “Order of Application of Allocations, Offsets, Reductions and Adjustments.” Pursuant to § IX(j), the sixth clause embodies the NPM Adjustment and sets forth that “the NPM Adjustment shall be applied to the results of clause ‘Fifth’ pursuant to subsections IX(d)(l) and (d)(2)____” Connecting the dots to § IX(d)(l), this section discusses the calculation of the NPM Adjustment for the original participating manufacturers, including the significant factor determina ¹⁵⁵ tion.

More importantly, section IX(d)(2)(A) provides that the NPM Adjustment “shall apply to the Allocated Payments of all Settling States, except as provided” in § IX(d)(2)(B), which sets forth that “[a] Settling State’s Allocated Payment shall not be subject to an NPM Adjustment ... if such Settling State continuously had a Qualifying Statute ... in full force and effect during the entire calendar year ... and diligently enforced the provisions of such statute during such entire calendar year....” Id. (emphasis added). Of import, this is the only MSA provision that mentions “diligent enforcement.” After giving effect to each clause and construing the MSA in its entirety, arbitration is mandatory. See Cochran, 398 Md. at 17 , 919 A.2d 700 .

The parenthetical “without limitation” clause directly identifies the diligent enforcement issue and sets forth that diligent enforcement, along with any other issue regarding the NPM Adjustment, is subject to arbitration. See, e.g., Connecticut v. Philip Morris, Inc., 279 Conn. 785 , 905 A.2d 42, 49-50 (2006) (opining that the “conclusion that the underlying dispute is arbitrable is buttressed by referring to the specific examples of arbitrable disputes enumerated in section IX(c) of the agreement”); Massachusetts v. Philip Morris, Inc., 448 Mass. 836 , 864 N.E.2d 505, 512 (2007) (clause “specifically includes disputes related to the adjustments described in IX(j))”. Furthermore, the general language that “any dispute” “arising out of or relating to” “calculations performed by or determinations made by, the Independent Auditor,” on even a basic level, makes the present dispute arbitrable, as the question of diligent enforcement “arises out of’ or “relates to” the auditor’s calculations and determinations. The State contends, however, that a finding of lack of diligence will “at most, result in a future calculation or determination made by the auditor.” The State relies on the California decision, In re Tobacco Cases I, 124 Cal.App.4th 1095, 1108 , 21 Cal.Rptr.3d 875 (2004), in support of its proposition.

In In re Tobacco Cases I, the state of California petitioned the court for a determination as to whether a Danish participating manufacturer was responsible for a Latvian cigarette manufacturer’s ¹⁵⁶ sales in the United States. On appeal, the court held that a dispute concerning the Danish company’s obligation to make a payment for cigarettes sold by the Latvian company “will, at most, result in future calculations or determinations made by the Auditor regarding [the Danish company’s] obligations under the MSA.” Id. at 1109 , 21 Cal.Rptr.3d 875 . The Danish company’s obligation, in In re Tobacco Cases I, to make payments for cigarettes sold and the auditor’s calculations and determinations were attenuated, whereas a determination of whether Maryland diligently enforced the Escrow Act will directly and immediately result in a different MSA calculation. In the instant case, the auditor did not apply the NPM Adjustment to reduce the participating manufacturers’ annual payment, a determination that resulted in a calculation greater than if the auditor had applied the NPM Adjustment.

Accordingly, the question of diligent enforcement “arises out of’ or “relates to” the auditor’s calculations and determinations because it directly affects the amount of MSA payment the State and all other settling states receive. See, e.g., New York v. Philip Morris, Inc., 8 N.Y.3d 574 , 838 N.Y.S.2d 460 , 869 N.E.2d 636, 639 (2007) (“The plain language of the MSA compels arbitration.”); State ex rel. Stenehjem v. Philip Morris, 732 N.W.2d 720, 727 (N.D.2007) (“[W]e believe the plain and unambiguous language of the settlement agreement requires arbitration of the parties’ dispute.”). As such, the dispute “relates to” the “operation” or “application” of an “adjustment” or “allocation pursuant to IXQ).” iii.

Independent Auditor has express authority to make a “diligent enforcement” determination The structure of the arbitration clause provides clear evidence of the parties’ mutual understanding that, in performing the calculations and making the determinations, the independent auditor is not simply to make mathematical computations, as the State suggests, but to make and act upon preliminary determinations as to the operation and application of the adjustments, reductions, offsets, carry-forwards and alloca ¹⁵⁷ tions, if appropriate, in completing those calculations and determinations. Section XI(a) expressly empowers the independent auditor to “calculate and determine the amount of all payments owed pursuant to this Agreement, the adjustments, reductions and offsets thereto (and all resulting carry-forwards, if any), the allocation of such payments, adjustments, reductions, offsets and carry-forwards among the Participating Manufacturers and among the Settling States[J” Id. (emphasis added). This provision confirms the linkage between the final amounts of all payments owed pursuant to the MSA and the amounts of all adjustments, reductions and offsets applicable to those payments.

Accordingly, the auditor has authority to make “determinations” regarding appellees’ payments, including the “application” and “allocation” of a NPM Adjustment based on the diligent enforcement exemption. Furthermore, § IX(j) establishes the mandatory process by which “[t]he payments due under this Agreement shall be calculated” and sets forth in a list of thirteen sequentially numbered clauses, each of which describes or references a particular adjustment, reduction or offset that “shall be applied to” the results of the immediately preceding clause, providing that, “[i]n the event that a particular adjustment, reduction or offset referred to in a clause below does not apply to the payment being calculated, the result of the clause in question shall be deemed to be equal to the result of the immediately preceding clause.” MSA § IX(j). This clause requires the independent auditor, as the party responsible for performing the calculation in question, to make a threshold determination whether the adjustment is applicable before computing its amount and modifying the amount of the subject payment by applying the adjustment. Moreover, there is no MSA provision that delegates any payment-related issue to the MSA court.

If the parties had intended to create an exception to the auditor’s authority under § IX(a) to make payment-related determinations, as they did with the “significant factor” determination, they ¹⁵⁸ expressly would have done so. 12 To sever the question of diligent enforcement from the NPM Adjustment, thereby placing it before MSA courts is illogical and at odds with the MSA. The diligent enforcement question, mentioned in the MSA only as part of the NPM Adjustment, is an indispensable underlying issue of the overall NPM Adjustment and, thus, the determination and calculations are inextricably linked. See New Hampshire v. Philip Morris, 155 N.H. 598 , 927 A.2d 503, 512 (2007) (“Court is not aware of, any provisions in the MSA other than those regarding the NPM Adjustment, where the diligent enforcement of a Qualifying Statute has any relevance.”). Accordingly, the MSA empowers and deems the independent auditor competent 13 to determine, as part of a calculation or determination, whether any particular offset, adjustment, reduction