Separate NY Arbitration on Adjustments to Historic Tobacco Settlement

New York State Supreme Court Justice Charles E. Ramos of Manhattan has set the framework under which New York State's entitlement to approximately $800 million a year from the tobacco industry will be tested.

At issue is the industry's claim that it should receive a downward adjustment in the payments required by the historic $248 billion settlement reached in 1998 with 52 states and territories. The adjustment the industry is seeking for 2004, the year that is the subject of the litigation, has been pegged at $1.1 billion. Though the funds in question stem from 2004 calculations, the issues raised will most likely recur every year, and the 1998 accord requires that the annual payments extend in perpetuity.

In a pair of rulings in January, Ramos said that New York state has a right to seek its own separate arbitration on claims that manufacturers have lost market share. Ramos is the first judge in the nation to rule that a state is entitled to its own, separate arbitration on claims that cigarette manufacturers have lost market share because of the obligations imposed by the 1998 settlement.

In the second ruling, Ramos rejected the state's contention that he should decide whether it has carried out its obligation under the 1998 pact to collect payments on cigarettes sold on Indian reservations. Instead, he ruled that issue must be decided as a part of the individual New York state arbitration.

The tobacco industry has appealed the ruling allowing New York to have its own arbitration, said Stephen R. Patton of Kirkland & Ellis in Chicago, who represents R.J. Reynolds Tobacco Co. Patton said he could not comment on pending litigation.

Dana Biberman of the New York Attorney General's Office is in charge of overseeing the 1998 pact. She said the state is appealing the ruling requiring the question of enforcement on Indian reservations to be arbitrated. Biberman also declined to comment on ongoing litigation.

Both rulings involve claims by cigarette makers that signed the 1998 pact that they are protected by a settlement provision designed to prevent non-signatories from gaining a competitive advantage. The pact imposes marketing and advertising restrictions, and requires the companies to make annual payments to the states. Payments have been running at about $6.2 billion a year.

About 45 companies have agreed to abide by the pact, but approximately 80 operate outside of it. To prevent the 80 non-signers from gaining an advantage, the accord ordered each state to adopt a law requiring non-participating companies to pay the state an amount equivalent to what the pact's participants paid for each cigarette sold within its borders. Those payments are held in escrow to satisfy any future smoking-related claims against the non-signers.

The applicable escrow payment in calculating the adjustment for 2004 was 2 cents for each cigarette sold in a state. During 2003, the year relevant to the calculation, New York collected $1.8 million on cigarettes sold by non-signing companies.

Market Share Adjustment

The 1998 pact also provides that 45 participants, who are responsible for making annual payments, are entitled to have those payments reduced to the extent that the provisions of the accord, including restrictions on advertising and marketing, cause them to lose market share to the non-participants in any single year.

However, states are protected from contributing funds to make up for the market loss as long as they can show they both adopted the model law that created the mechanism for determining the per-cigarette fee required of non-participants, and that they 'diligently enforced' the statute's requirements. The pact also set up a mechanism to determine whether participating manufacturers had lost market share and whether participation in the settlement was a significant factor in the loss. The agreement set 2004 as the first year for which the participating companies could qualify for an adjustment of their payments based on a showing that they had lost market share in 2003.

Under the agreement, the Brattle Group, a San Francisco firm, was appointed as an independent auditor to determine the degree of market share loss and whether the signers were entitled to an adjustment. The Battle Group determined that, based on a 6 percent market share loss, the signers were entitled to a $1.1 billion adjustment for 2004.

The Brattle Group's finding left open the question of whether any state should be held liable for the reduction because it had failed to diligently enforce the statutes. The settlement requires that the burden of funding the adjustment falls on a proportional basis on those states that failed to enforce their statutes diligently.

Litigation in New York

The Brattle Group's findings set the stage for the current litigation. New York is seeking its own separate arbitration while the industry is seeking a single nationwide arbitration. So far, 16 states have agreed to use Abner Mikva, a former judge of the U.S. Court of Appeals for the District of Columbia Circuit, in a multi-state arbitration. Separately, the industry has designated former U.S. Judge William G. Bassler of the District of New Jersey to be its arbitrator for a single nationwide arbitration in which all the states will participate.

New York has selected former Southern District Judge John S. Martin of Martin & Obermaier as its arbitrator in the proceeding approved by Justice Ramos' ruling. With that ruling the subject of an appeal, however, the industry has not yet selected an arbitrator for the New York arbitration. Under the 1998 settlement, each side picks an arbitrator and those two pick a third arbitrator. All three are required to be former federal judges.

'Conflicting Interests' Cited

In rejecting the participating manufacturers' claim to a nationwide arbitration, Ramos pointed to the 'conflicting interests' that the 52 states and territories have because only those who fail to diligently enforce their statutes will be subject to a reduction in their annual payment. That conflict arises, he wrote, because 'each state will attempt to shift the burden of the NPM [nonparticipating manufacturer] adjustment to sister states.'

The 1998 settlement requires each 'side' to pick an arbitrator. Given the conflicts between the states, he wrote, it is 'impossible for all the states to be fairly considered one 'side' in this arbitration.' Moreover, Ramos ruled, he does not have jurisdiction to order all 52 states and territories to appoint the same arbitrator, and nothing in the settlement agreement requires that they agree on a single arbitrator or provides a mechanism for the appointment of one.

Ramos, however, ruled against New York in its request that he assume jurisdiction over the question of whether the state was diligent in enforcing the pact upon Indian reservations. The participating manufacturers contend that New York has failed to collect the required fee of 2 cents per cigarette sold to non-Indians by tribal-owned companies based on reservations.

New York state counters that it has complied with the terms of Public Health Law '1399-oo, which requires that the state collect the per cigarette fee assessed each year against non-participating manufacturers, as measured by taxes collected on cigarette packs to which an excise stamp has been affixed. Because cigarettes sold on tribal lands to non-Indians do not have affixed tax stamps, the state is not required to collect the 2 cents per cigarette on those sales, the state contends.

Those competing claims will have to be resolved in the arbitration between New York State and the participating manufacturers, Ramos ruled. The result, he wrote, is required by the outcome of an earlier round of litigation which led to a ruling by the New York Court of Appeals that arbitration, not state court, is the proper forum for resolving any dispute related to the application of a market-share adjustment. Under the Court of Appeals ruling, Ramos wrote, he is 'constrained to refer virtually any claim that the State failed to diligently enforce the statute [required by the settlement] to arbitration.'

In the prior round of litigation, he initially ruled that he had jurisdiction over disputes related to the adjustment, but the Appellate Division, 1st Department, reversed in a ruling then affirmed by the Court of Appeals.

Enforcement History

For much of the last 14 years, according to Ramos' opinion, the state has refrained from seeking to collect taxes on cigarettes sold to non-Indians on tribal lands. To the extent that the state has sporadically attempted to collect taxes on cigarettes or other products sold on Indian lands, the result has often been violent confrontations between state troopers and tribal members.

In a document filed in the case of City of New York v. Attea, 06-cv-3620, pending in the Eastern District of New York, the Spitzer administration acknowledged that during the 12 years George E. Pataki was governor, the state had pursued 'what courts variously referred to as a 'policy of forbearance” with regard to the taxation of cigarettes sold to non-Indians on tribal lands.

The Spitzer administration did not directly state its position on continued forbearance but said it is attempting to get an injunction lifted which has blocked the taxing of cigarettes sold on reservations to non-Indians. In the case of Day Wholesale Inc. v. State of New York, 7668/06, which has been appealed to the Appellate Division, 4th Department, Justice Rose H. Sconiers in Buffalo had blocked enforcement of a 2005 law requiring that tax stamps be applied to all packages of cigarettes sold to non-Indians by tribal owned retailers and wholesalers.

The ruling requiring a single state arbitration was issued in the case that New York state brought against the tobacco industry in 1997, New York State v. Philip Morris, 40036/97. The ruling with respect to New York's obligation to enforce the settlement on Indian reservations came in a declaratory judgment action brought by the state last year, New York State v. Philip Morris, 400440/07.

Daniel Wise is a senior reporter for the New York Law Journal, a sister publication of this newsletter, in which this article first appeared.

New York State Supreme Court Justice Charles E. Ramos of Manhattan has set the framework under which New York State's entitlement to approximately $800 million a year from the tobacco industry will be tested.

At issue is the industry's claim that it should receive a downward adjustment in the payments required by the historic $248 billion settlement reached in 1998 with 52 states and territories. The adjustment the industry is seeking for 2004, the year that is the subject of the litigation, has been pegged at $1.1 billion. Though the funds in question stem from 2004 calculations, the issues raised will most likely recur every year, and the 1998 accord requires that the annual payments extend in perpetuity.

In a pair of rulings in January, Ramos said that New York state has a right to seek its own separate arbitration on claims that manufacturers have lost market share. Ramos is the first judge in the nation to rule that a state is entitled to its own, separate arbitration on claims that cigarette manufacturers have lost market share because of the obligations imposed by the 1998 settlement.

In the second ruling, Ramos rejected the state's contention that he should decide whether it has carried out its obligation under the 1998 pact to collect payments on cigarettes sold on Indian reservations. Instead, he ruled that issue must be decided as a part of the individual New York state arbitration.

The tobacco industry has appealed the ruling allowing New York to have its own arbitration, said Stephen R. Patton of Kirkland & Ellis in Chicago, who represents R.J. Reynolds Tobacco Co. Patton said he could not comment on pending litigation.

Dana Biberman of the New York Attorney General's Office is in charge of overseeing the 1998 pact. She said the state is appealing the ruling requiring the question of enforcement on Indian reservations to be arbitrated. Biberman also declined to comment on ongoing litigation.

Both rulings involve claims by cigarette makers that signed the 1998 pact that they are protected by a settlement provision designed to prevent non-signatories from gaining a competitive advantage. The pact imposes marketing and advertising restrictions, and requires the companies to make annual payments to the states. Payments have been running at about $6.2 billion a year.

About 45 companies have agreed to abide by the pact, but approximately 80 operate outside of it. To prevent the 80 non-signers from gaining an advantage, the accord ordered each state to adopt a law requiring non-participating companies to pay the state an amount equivalent to what the pact's participants paid for each cigarette sold within its borders. Those payments are held in escrow to satisfy any future smoking-related claims against the non-signers.

The applicable escrow payment in calculating the adjustment for 2004 was 2 cents for each cigarette sold in a state. During 2003, the year relevant to the calculation, New York collected $1.8 million on cigarettes sold by non-signing companies.

Market Share Adjustment

The 1998 pact also provides that 45 participants, who are responsible for making annual payments, are entitled to have those payments reduced to the extent that the provisions of the accord, including restrictions on advertising and marketing, cause them to lose market share to the non-participants in any single year.

However, states are protected from contributing funds to make up for the market loss as long as they can show they both adopted the model law that created the mechanism for determining the per-cigarette fee required of non-participants, and that they 'diligently enforced' the statute's requirements. The pact also set up a mechanism to determine whether participating manufacturers had lost market share and whether participation in the settlement was a significant factor in the loss. The agreement set 2004 as the first year for which the participating companies could qualify for an adjustment of their payments based on a showing that they had lost market share in 2003.

Under the agreement, the Brattle Group, a San Francisco firm, was appointed as an independent auditor to determine the degree of market share loss and whether the signers were entitled to an adjustment. The Battle Group determined that, based on a 6 percent market share loss, the signers were entitled to a $1.1 billion adjustment for 2004.

The Brattle Group's finding left open the question of whether any state should be held liable for the reduction because it had failed to diligently enforce the statutes. The settlement requires that the burden of funding the adjustment falls on a proportional basis on those states that failed to enforce their statutes diligently.

Litigation in New York

The Brattle Group's findings set the stage for the current litigation. New York is seeking its own separate arbitration while the industry is seeking a single nationwide arbitration. So far, 16 states have agreed to use Abner Mikva, a former judge of the U.S. Court of Appeals for the District of Columbia Circuit, in a multi-state arbitration. Separately, the industry has designated former U.S. Judge William G. Bassler of the District of New Jersey to be its arbitrator for a single nationwide arbitration in which all the states will participate.

New York has selected former Southern District Judge John S. Martin of Martin & Obermaier as its arbitrator in the proceeding approved by Justice Ramos' ruling. With that ruling the subject of an appeal, however, the industry has not yet selected an arbitrator for the New York arbitration. Under the 1998 settlement, each side picks an arbitrator and those two pick a third arbitrator. All three are required to be former federal judges.

'Conflicting Interests' Cited

In rejecting the participating manufacturers' claim to a nationwide arbitration, Ramos pointed to the 'conflicting interests' that the 52 states and territories have because only those who fail to diligently enforce their statutes will be subject to a reduction in their annual payment. That conflict arises, he wrote, because 'each state will attempt to shift the burden of the NPM [nonparticipating manufacturer] adjustment to sister states.'

The 1998 settlement requires each 'side' to pick an arbitrator. Given the conflicts between the states, he wrote, it is 'impossible for all the states to be fairly considered one 'side' in this arbitration.' Moreover, Ramos ruled, he does not have jurisdiction to order all 52 states and territories to appoint the same arbitrator, and nothing in the settlement agreement requires that they agree on a single arbitrator or provides a mechanism for the appointment of one.

Ramos, however, ruled against New York in its request that he assume jurisdiction over the question of whether the state was diligent in enforcing the pact upon Indian reservations. The participating manufacturers contend that New York has failed to collect the required fee of 2 cents per cigarette sold to non-Indians by tribal-owned companies based on reservations.

New York state counters that it has complied with the terms of Public Health Law '1399-oo, which requires that the state collect the per cigarette fee assessed each year against non-participating manufacturers, as measured by taxes collected on cigarette packs to which an excise stamp has been affixed. Because cigarettes sold on tribal lands to non-Indians do not have affixed tax stamps, the state is not required to collect the 2 cents per cigarette on those sales, the state contends.

Those competing claims will have to be resolved in the arbitration between New York State and the participating manufacturers, Ramos ruled. The result, he wrote, is required by the outcome of an earlier round of litigation which led to a ruling by the New York Court of Appeals that arbitration, not state court, is the proper forum for resolving any dispute related to the application of a market-share adjustment. Under the Court of Appeals ruling, Ramos wrote, he is 'constrained to refer virtually any claim that the State failed to diligently enforce the statute [required by the settlement] to arbitration.'

In the prior round of litigation, he initially ruled that he had jurisdiction over disputes related to the adjustment, but the Appellate Division, 1st Department, reversed in a ruling then affirmed by the Court of Appeals.

Enforcement History

For much of the last 14 years, according to Ramos' opinion, the state has refrained from seeking to collect taxes on cigarettes sold to non-Indians on tribal lands. To the extent that the state has sporadically attempted to collect taxes on cigarettes or other products sold on Indian lands, the result has often been violent confrontations between state troopers and tribal members.

In a document filed in the case of City of New York v. Attea, 06-cv-3620, pending in the Eastern District of New York, the Spitzer administration acknowledged that during the 12 years George E. Pataki was governor, the state had pursued 'what courts variously referred to as a 'policy of forbearance” with regard to the taxation of cigarettes sold to non-Indians on tribal lands.

The Spitzer administration did not directly state its position on continued forbearance but said it is attempting to get an injunction lifted which has blocked the taxing of cigarettes sold on reservations to non-Indians. In the case of Day Wholesale Inc. v. State of New York, 7668/06, which has been appealed to the Appellate Division, 4th Department, Justice Rose H. Sconiers in Buffalo had blocked enforcement of a 2005 law requiring that tax stamps be applied to all packages of cigarettes sold to non-Indians by tribal owned retailers and wholesalers.

The ruling requiring a single state arbitration was issued in the case that New York state brought against the tobacco industry in 1997, New York State v. Philip Morris, 40036/97. The ruling with respect to New York's obligation to enforce the settlement on Indian reservations came in a declaratory judgment action brought by the state last year, New York State v. Philip Morris, 400440/07.

Daniel Wise is a senior reporter for the New York Law Journal, a sister publication of this newsletter, in which this article first appeared.