California Cannabis Supply Chain Contracts: Fee-Shifting Provisions

California’s cannabis regime is set up to separate every point in the supply chain into different license types: cultivation, manufacturing, distribution, testing, and retail sales, to name a few. Except for a few vertically integrated companies, virtually all cannabis businesses must rely on other companies in the supply chain to get products from farm to consumer.

To that end, our California cannabis attorneys regularly draft “supply chain” agreements, which is a broad term that includes cannabis contracts such as purchase agreements, distribution agreements, manufacturing agreements, supply agreements, license agreements, and so on. We have been publishing a series of posts identifying common issues with cannabis supply chain contracts in California and will continue to do so in the coming months. If you haven’t already read earlier articles on this topic, I suggest you start with the following:

Today, I’m going to dive into a pretty dry, but very important provision in supply chain agreements. Frankly, it’s an important topic for any contract but this series is about supply chain contracts so we’re sticking with that.

For some background, the general rule in the United States is that in actions based under a contract (i.e., claims for breach of a contract or to interpret or enforce a contract), each side bears their own attorneys’ fees. That means that if a party wins or loses, it generally must pay its own legal fees but not the legal fees of the other side. This is called the “American Rule” and is in contrast to the “English Rule” where the loser pays the winner’s legal fees. I won’t get into the nuances of the differences between these two systems but there is a ton of scholarship on which one is better, if you’re into reading that sort of thing.

One other important side note about the American Rule is that there are a lot of exceptions. The government often creates statutes (codified laws) that provide for fee shifting in disputes. For example, attorneys fees can get shifted in some cases under the federal Lanham Act or state counterpart statutes. In these cases, the laws will lay out the specific standards by which fees can be shifted. More on this later.

Turning to supply chain agreements, parties that want to shift fees will need to be cognizant of the American Rule and realize that fee shifting’s probably not going to happen without an attorneys’ fees provision. Even parties who don’t want to shift fees may still think it’s a good idea to actually say that in the contract so that it’s abundantly clear and so that nobody wastes time dealing with the issue during litigation.

Fee-shifting provisions often are set in the miscellaneous section of a contract or otherwise somewhere towards the end, and are usually bunched up with the governing law and dispute resolution clauses for obvious reasons. There are many different ways to write them and a lot of different nuances. For example:

Some jurisdictions may require specificity when listing out the kinds of fees that are recoverable. If the clause just says attorneys’ fees, the prevailing party may not be able to get expert witness or other legal consultant fees reimbursed. In that same sense, court or arbitration fees or appellate fees may not be recoverable if not called out.
Most contracts will specify that only reasonable attorneys’ fees are recoverable. This can lead to a lot of fighting over what fees are and are not recoverable. For example, if a party’s attorney spent 10 hours billing on something that the average attorney would arguably have spent 2 hours on, the party who is being forced to pay those fees will often resist them. Going line by line through billing records can be a time consuming process. Even if a contract doesn’t specify that only reasonable fees are reimbursable, a court or arbitrator still may read that standard in and not award unreasonably high fee awards.
Usually the language used in these clauses refers to the “prevailing party” getting its fees. Given the complexity of commercial litigation these days, it’s not always crystal clear who the prevailing party is. What if there are more than two parties in litigation and a number of cross-complaints, where each party prevails on a few claims but loses on the rest? Contracts can really drill down on this and may define prevailing party more or just note that the “substantially prevailing party” gets its fees.

To add one more twist to this, remember how I said that there are some exceptions to the American Rule for statutory fee-shifting laws? Well what happens if there is an action that has a contract that is silent as to shifting fees or explicitly bars fee shifting, and in that same action statutory claims are advanced that have fee-shifting clauses? It can be pretty easy for parties to end up in these situations to be honest, especially where contracts involve intellectual property because many different IP statutes have fee-shifting provisions–and many supply chain agreements involve IP.

The answer to the above question is very complicated and will depend heavily on the judge, jurisdiction, and whether the written agreement is just silent on the matter or explicitly bars fees. There may be instances in which courts don’t allow fees related to some tasks in litigation but allow them in others. It really is a fact-dependent issue and is wise for parties to consider depending on the type of contract.

While this is definitely a dry area of the law, it’s something that is important for contracting parties to consider. Stay tuned to the Canna Law Blog for more on California cannabis supply chain agreements.