Information contained in this publication is intended for informational purposes only and does not constitute legal advice or opinion, nor is it a substitute for the professional judgment of an attorney.
On September 20, 2018, the Colorado Court of Appeals issued an impressive 41-page decision on the scope of arbitration agreements and the duty of loyalty in Colorado, Digital Landscape Inc. v. Media Kings LLC, 2018 COA 142 (Colo. App. Sept. 20, 2018). The court concluded that clauses requiring arbitration of all claims “arising under” an agreement are broad and that such language is not intended to limit the scope of arbitrable claims. Indeed, the court held that such clauses can include even unpled claims for breach of the duty of loyalty by independent contractors that usurp an opportunity of the principal.
Colorado has long been a proponent of arbitration. Since the General Assembly adopted the Uniform Arbitration Act in 2004, courts have not hesitated to enforce arbitration agreements. See, e.g., Colo. Rev. Stat. § 13-22-206 (Colorado Uniform Arbitration Act). Similar to federal courts, the Colorado Supreme Court has recognized a strong policy favoring arbitration, even in cases in which the agreement is ambiguous. See Lane v. Urgitus, 145 P.3d 672, 678 (Colo. 2006). To further this policy, when an arbitration provision is valid and enforceable, a district court is divested of jurisdiction over any claims that are submitted to arbitration. Without an agreement to the contrary, the scope of an arbitration agreement will be determined by a court. See City & County of Denver v. Dist. Court, 939 P.2d 1353, 1363 (Colo. 1997). Until recently, however, neither Colorado, nor the U.S. Court of Appeals for the Tenth Circuit, had addressed the current circuit split regarding whether including “arising under” language in an arbitration clause narrows the scope of disputes that are subject to arbitration.
Colorado has also been a bastion of fair competition. Among other things, Colorado recognizes that employees owe a duty of loyalty to their employers, at least since the landmark decision of Jet Courier Services, Inc. v. Mulei, 771 P.2d 486, 494 (Colo. 1989). The policy is simple: commercial competition must be conducted through honesty and fair dealing, and an employee should “not be permitted to exploit the trust of his employer so as to obtain an unfair advantage in competing with the employer in a matter concerning the latter’s business.” Id. at 492 (citation omitted).
But since the Jet Courier case, the Colorado appellate courts have rarely taken up the contours of the duty. Questions of what conduct would violate the duty of loyalty, and whether it applied to contractual relationships beyond that of employer-employee, remained largely unresolved . . . at least until the Colorado Court of Appeals shed some light in Digital Landscape Inc. v. Media Kings LLC, 2018 COA 142 (Colo. App. Sept. 20, 2018).
Defendant Media Kings LLC (“Media”) had entered into a contract to provide marketing services to third-party Transcendent Marketing, LLC (“Transcendent”). Media then contracted with Digital Landscape Inc. (“Digital”) to provide advertising services to Transcendent. Media agreed to pay Digital a portion of its earnings from Transcendent. But Media failed to pay Digital, and Digital filed suit for breach of contract.
Meanwhile, someone from Digital had told Transcendent that Media had not paid, and Transcendent asked Digital to take over the project. Media therefore counterclaimed for breach of the implied covenant of good faith and faith dealing, breach of a confidentiality provision, intentional interference with contract, and misappropriation of trade secrets. Digital alleged that Media had disclosed confidential information to Transcendent, solicited Transcendent’s business, disparaged Media to Transcendent, and stolen Transcendent as a client.
Because of an arbitration clause in the agreement between Digital and Media, the district court ordered arbitration. After a hearing, the arbitrator awarded Digital damages on its breach-of-contract claim. The arbitrator also construed the claim for breach of the implied covenant of good faith and fair dealing as a breach of the duty of loyalty, and awarded Digital damages for that claim as well. Given the award to both sides, the arbitrator concluded that neither party had prevailed, and refused to award attorneys’ fees to either party.
Digital then petitioned the court to vacate the award on the counterclaim as exceeding the arbitrator’s jurisdiction. Both the district court and the court of appeals found the claims subject to arbitration under the broad “arising under” language of the agreement.
Drawing on federal case law, the state appellate court addressed Digital’s claim that because the arbitration agreement applied to any disputes “arising under” the contract, as opposed to the broader language of “relating to” or “any act relating to the parties,” the claim of duty of loyalty was outside of the scope of the arbitration agreement. With no precedent from the Tenth Circuit, the court considered, in detail, case law from the First, Second, Third, Fifth, Sixth, Seventh, Eighth, and Eleventh Circuits. Consistent with the majority of courts, the Colorado Court of Appeals concluded that use of the phrase “arising under” in an arbitration clause, without any other limiting criteria, is insufficient to narrow the scope of an arbitration agreement. Instead, contrary to the position of the Second, Federal, and Ninth Circuits, the court concluded that the phrase “arising under” implies a broad scope consistent with both federal and Colorado policies favoring arbitration. In so holding, the court rejected the contention that parties must use the phrase “relating to” in order to draft an arbitration clause with a broad scope. The court noted that had the parties wished to limit the scope of the arbitration agreement, they could have drafted the arbitration clause to include qualifying language or to explicitly exclude particular types of claims from its scope. Without specific limiting language, the court concluded that there was no clear implication that the parties intended to narrow the scope of the arbitration clause.
With respect to the nascent duty-of-loyalty claim, the court stated that it must “look beyond the legal cause of action” to the “facts on which it was based.” Id. ¶ 74. Doing so, the court found that the facts alleging disparagement and conduct to usurp the contract with Transcendent could form the basis for a duty of loyalty claim, so long as Digital was Media’s agent.
Looking to the Restatement (Second) of Agency section 2, the court concluded that an independent contractor may be an agent subject to the duty of loyalty if the principal has sufficient control over some aspect of the relationship. Each court or arbitrator must consider the amount of control on a case-by-case basis because the amount of control is a question of fact. Considering the interactions between Digital and Media, the arbitrator had decided that Digital was acting as Media’s agent in its communications with Transcendent on the project. Digital therefore owed Media a duty of loyalty, even though it was an independent contractor.
The court further made clear that “an agent is subject to a duty not to compete with the principal concerning the subject matter of his agency.” Id. ¶ 76 (quoting Restatement (Second) of Agency § 393). Because Media had alleged that Digital disclosed confidential information, directly solicited Media’s client, and disparaged Media to its client, such “language obviously incorporated concepts of disloyalty.” Id. ¶ 86. The court also repeatedly emphasized that “[a] serious violation of a duty of loyalty . . . is a willful and deliberate breach of the contract of service by the agent . . . .” Id. ¶¶ 77, 84, 94 (quoting Restatement (Second) of Agency § 469 cmt. b). Given this analysis, the court upheld the award in favor of Media.
With this holding, it appears that Colorado courts will continue to broadly construe arbitration clauses. Thus, when drafting arbitration agreements, if parties wish to exclude certain claims from arbitration, presumably those claims should be explicitly called out in the arbitration agreement.
For the duty of loyalty, the Digital decision carries several significant implications. First, although previously unresolved by the Colorado courts, the Digital opinion clarifies that a duty-of-loyalty claim can be brought against an independent contractor, and is in no way limited to an employer-employee relationship.
Equally important, however, a plaintiff in an unfair competition case may attempt to pursue a duty-of-loyalty claim based on such “obvious” disloyal conduct as violation of a confidentiality agreement or disparagement. Such a claim would permit employers or other companies to seek damages they may not otherwise be entitled to claim, such as disgorgement of any amount paid to the former employee or contracting party, any loss of the plaintiff’s principal assets caused by the breach, and any lost profits the plaintiff could reasonably have expected to earn had the duty not been breached. See, e.g., T.A. Pelsue Co. v. Grand Enters., Inc., 782 F. Supp. 1476, 1487–88 (D. Colo. 1991).
Thus, in light of Digital, we may see an uptick of arbitrations, even in unfair competition cases, and an increasing number of claims for breach-of-the-duty of loyalty for conduct of independent contractors, as well as for the post-employment conduct of former employees.