A Michigan Federal Court has ruled that the motion to dismiss stage is no place to test the merits of claims that a wine supplier’s termination of a distribution agreement with a wine distributor. 

Cana Distributors, a Michigan based wholesaler of wine, sued PortoVino, a supplier of wine (link to complaint), alleging that PortoVino’s termination of their distribution agreement violated MCL §436.1305, Michigan’s statute detailing rights and remedies for the termination of wine distribution agreements. Cana asserted that PortoVino should have paid reasonable compensation for the diminished value of Cana’s business and instead proceeded in “bad faith” alleging it “concocted claims of misconduct by Plaintiff” in an attempt to terminate for a reason under the statute which would allow termination without fair compensation. Cana’s suit seeks fair compensation along with fees and exemplary damages for the asserted failure to act in good faith.

In denying PortoVino’s motion to dismiss the claims of Cana Distributors the Court put off claims by PortoVino that Cana’s actions gave it grounds to terminate as unripe for determination at the motion to dismiss stage. 

What’s interesting are the two grounds for termination PortoVino asserts as they both involve the distributor’s alleged failure to timely pay for the products. 1) Cana’s failure to pay for goods PortoVino supplied is evidence of “insolvency” allowing termination pursuant to MCL §436.1305(11)(a), and 2) Cana was prohibited from purchasing alcohol on credit pursuant to MCL §436.2013.

MCL §436.1305(11)(a) reads:

(11) Notwithstanding subsections (7) and (10), a supplier may immediately terminate, cancel, not renew, or discontinue an agreement on written notice given in the manner and containing the information required by subsection (10) if any of the following occur:

  (a) Insolvency of the wholesaler, the filing of any petition by or against the wholesaler under any bankruptcy or receivership law, or the dissolution or liquidation of the wholesaler that materially affects the wholesaler’s ability to remain in business.

In rejecting an outright determination that the failure to pay debts is “insolvency” under Michigan law, the Court corrected the asserted citations filed by PortoVino holding that failure to pay debts amounts to evidence that requires a factual determination and is not a legal determination:

Pursuant to MCL § 436.1305(11)(a), a supplier may terminate an agreement if the wholesaler is insolvent. PortoVino cites Cana’s history of untimely payments or failures to pay as conclusive evidence that Cana is insolvent, then asserts that conclusion of insolvency as an affirmative defense. ECF No. 2, PageID 47. PortoVino asserts that “a debtor who is not paying debts as they become due is presumed to be insolvent.” ECF No. 2 PageID 47. PortoVino quotes John Ceci, P.L.L.C. v. Johnson, 2010 WL 1872927 (Mich. Ct. App. May 11, 2011) which purports to quote MCL § 566.32(2), but MCL § 566.32(2) actually states “A debtor that is generally not paying the debtor’s debts as they become due other than as a result of a bona fide dispute is presumed to be insolvent.” Based on its presumption that Cana was insolvent and pursuant to MCL 436.1305(11)(a), PortoVino believed it had the right to terminate its agreement with Cana. ECF No. 2 PageID 47. 

The Court notes that PortoVino’s argument may constitute evidence of insolvency, but this argument does not establish as a matter of law that Cana was insolvent. PortoVino’s assertion (which is something the Court does not consider or determine when deciding a motion to dismiss) constitutes only an affirmative defense to justify PortoVino’s termination of its agreement with Cana. 

As for the other argument, PortoVino asserts that the failure to pay amounted to a sale on credit in violation of Michigan law.

MCL §436.2013 states:

A sale or purchase of alcoholic liquor made in a state liquor store and by all types of licensees shall be for cash only, except for the following:

 (a) A customer’s charge account with a specially designated merchant who is not a holder of a license authorizing sale of alcoholic liquor for consumption on the premises.

  (b) A sale to a bona fide registered guest of a class B hotel or class A hotel, if the extension of credit does not exceed 30 days.

  (c) A sale to an industrial account if the extension of credit does not exceed 30 days.

  (d) A sale to a person holding an authorized credit card from a credit card agency.

  (e) A sale to a professional account, or an industrial account of class C licensee or a tavern, whose major business is food, if the extension of credit does not exceed 30 days.

  (f) A sale by a private club to a bona fide member.

The Court found this argument unpersuasive.

PortoVino argues that, pursuant to MCL § 436.2013, the purchase of alcoholic liquor made by licensees shall be for cash only. PortoVino states that, when Cana took possession of wine supplied by PortoVino without simultaneously paying PortoVino, PortoVino inadvertently supplied wine on credit, causing PortoVino to involuntarily break a Michigan law. ECF No. 2, PageID 46. For these reasons, PortoVino asserts it should not be bound to conduct business with Cana. ECF No. 2, PageID 48. The Court is not persuaded by PortoVino’s argument that allegedly breaking the law gives PortoVino a right as a matter of law, to break the contract. PortoVino rests its argument on the verbiage of MCL § 436.2013, but cites no authority to support this contention. 

The Court also recognized Cana’s assertions regarding this argument, that it takes two to tango, may prohibit PortoVino from asserting the credit extension as a reason for termination:

Cana contends the “doctrine of estoppel prevents one from challenging transactions in which he or she actively participated.” Id. at PageID 195. Cana contends that PortoVino repeatedly offered to sell products to Cana on credit, and PortoVino’s assertion that it was forced to extend credit to Cana is “patently false and intentionally misleading.” Id. 

You can read the full order here.

In all, the assertions about the failure to pay timely amounting to insolvency and the potential problems associated with extended credit should interest distributors as the “insolvency” language finds its way into most franchise statutes as a grounds for immediate termination. The clause is usually combined with bankruptcy, but if the law implies “insolvency” for the simple failure to pay a bill while other operations and payments are ongoing, it would create a potential end-run around what the clause generally implies, which is serious financial deficit or close to going bust.

Also, the credit issue keeps popping up but it is not likely to be an issue in wholesaler agreement disputes. Ongoing reminders that the extension of credit beyond 30 days can have consequences. See 27 CFR 6.21(f) and 27 CFR 6.65, and Industry Circular 22-01 and this $350,000 offer in compromise for a wholesaler’s violations of the consignment rules at 27 USC 205(d) and 27 CFR 11.21 for offering “extended payment terms.” The crux of the matter here is that if improper credit was issued, then the law was broken and the supplier can break the contract. But that is far from evident under the cases cited and under general legal principles and avoids the issue of the requirement for proper notice of violations under most alcohol franchise laws. So while it may be an issue as between the regulatory bodies and the entity extending credit, it is far from obvious that this is a grounds for termination that we’ll start to see applied as a right of termination for good cause without reasonable compensation under alcohol franchise laws between suppliers and wholesalers.

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