Viacom Int'l Inc. v. Winshall, No. 513, 2013 (Del. July 16, 2013)
In this en banc decision, the Delaware Supreme Court affirmed the Court of Chancery’s decision granting summary judgment in favor of Winshall and denying Viacom’s motion for summary judgment to vacate an arbitration determination. In so holding, the Court resolved certain inconsistencies in prior trial court decisions relating to the distinction between procedural and substantive arbitrability.
This case arose out of a 2006 merger, pursuant to which Viacom cashed out the stockholders of Harmonix Music Systems, Inc. (“Harmonix”) in consideration for cash and contingent earn-out payments based on Harmonix’s financial performance in 2007 and 2008. Winshall, the designated stockholder representative, challenged Viacom’s 2008 earn-out statement. Consistent with the terms of the merger agreement, the disputed matters (the “Earn-Out Disagreements”) were submitted for resolution by BDO USA LLP (“BDO”). During the pre-hearing submissions, the parties focused on the propriety of Viacom’s deduction of costs of unsold inventory. Viacom argued that if it could not properly deduct the costs of Harmonix’s unsold inventory, it could account for the inventory by taking a write-down deduction. Winshall challenged this argument on the grounds that the inventory write-down was not included in the 2008 earn-out statement from Viacom. BDO noted that the inventory write down was not included in the Earn-Out Disagreements submitted to BDO and inquired whether the parties agreed to have BDO consider these matters, but Winshall did not agree. Thereafter, BDO issued its decision, agreeing with Winshall and noting that it did not consider the possible inventory write down because Viacom had not identified the write down in the 2008 earn-out statement and because the parties did not agree to add the issue to the list of matters to be resolved by BDO. Two weeks later, Viacom filed a complaint seeking, among other things, a declaration vacating BDO’s determination on the grounds that it constituted manifest error. The Court of Chancery granted Winshall’s motion for summary judgment, denied Viacom’s motion for summary judgment and confirmed BDO’s determination of the amount of the 2008 earn-out payments.
Viacom’s first argument was that BDO’s decision should be vacated under Section 10(a)(3) of the Federal Arbitration Act because BDO’s refusal to hear evidence pertaining to the inventory write down rendered the arbitration fundamentally unfair. The Supreme Court concluded that this argument lacked merit. In doing so, the Court distinguished the facts at hand from other cases where other courts have found misconduct. Here, the Court found, BDO did not ignore relevant evidence. Rather, BDO decided that evidence concerning an inventory write down could not be considered without the consent of the parties as the issue was not identified in the original documents governing the scope of the arbitration.
Viacom’s second argument was that the Court of Chancery erred in finding that BDO decided the arbitrability of the inventory write-down issue and according deference to such determination. The Court likewise rejected these arguments, finding that BDO had, in fact, determined that the inventory write-down issue was not arbitrable under the applicable circumstances. The Court also rejected Viacom’s arguments that the issue was one of substantive arbitrability, which should have been decided by a court and not an arbitrator. Under federal law, “questions of substantive arbitrability are limited to the narrow circumstances where contracting parties would likely have expected a court to have decided the gateway matter…. [and] ‘procedural’ questions that grow out of the dispute and bear on its final disposition should be left to the arbitrator.” John Wiley & Sons, Inc. v. Livingston, 376 U.S. 543, 557 (1964). Applying the US Supreme Court’s holding in Livingston, the Court concluded that the inventory-write down issue was an issue of procedural arbitrability, properly decided by the arbitrator. The Court further noted that prior Court of Chancery decisions, including HDS Inv. Hldg. Inc. v. Home Depot, Inc., 2008 WL 4606262 (Del. Ch. Oct. 17, 2008) and Nash v. Dayton Superior Corp., 728 A.3d 59 (Del. Ch. 1998), have addressed similar post-closing financial disputes and concluded that such similar matters presented questions of substantive arbitrability. The Supreme Court found that the holdings in such cases misconstrued the distinction between procedural and substantive arbitrability, and stated that “the only question that the court should decide is whether the subject matter in dispute falls within it. If the subject matter to be arbitrated is the calculation of an earn-out, or the amount of working capital, or the company’s net worth at closing, all issues as to what financial or other information should be considered in performing the calculations are decided by the arbitrator.” As a result, the holdings in HDS and Nash and other decisions consistent therewith were overruled. Based upon the foregoing, the Supreme Court affirmed the decision of the Court of Chancery.