On March 23, 2017, the Arizona Supreme Court, in a rare split decision authored by Vice Chief Justice John Pelander, changed Arizona law with respect to a litigant’s right to recover its reasonable attorney's fees under a contractual fee-shifting provision. The recipient of a favorable judgment in Arizona is no longer inevitably deemed to be the prevailing party under a contractual fee-shifting provision. Now there are additional considerations that go into the mix.
In 2003, American Power Products (“American”) and CSK Auto (“CSK”) entered into a vendor agreement wherein American promised to sell scooters and other items to CSK on an open account. Like many agreements involving at least one Arizona-based party, this one contained both an Arizona choice-of-law provision and a typical fee-shifting provision entitling the undefined “prevailing party” in any dispute arising out of the agreement to recover its reasonable attorney’s fees. In 2005, American sued CSK for breach of the contract, seeking five million dollars in damages. CSK, in turn, filed counterclaims against American, seeking nearly a million in damages.
Prior to trial in 2011, CSK served a written settlement offer in the amount of $1,000,001 on American pursuant Ariz. R. Civ. P. 68. But American decided to proceed to trial, where the jury awarded it $10,733. Meanwhile, CSK’s counterclaims were dismissed with prejudice. Applying the “totality of the litigation test” and a virtually unbroken line of Arizona Court of Appeals decisions construing the third sentence of A.R.S. § 12-341.01(A), Arizona's statutory fee-shifting provision (“[t]his section shall not be construed as altering, prohibiting or restricting present or future contracts or statutes that may provide for attorney fees”) to mean that, where the parties have placed a fee-shifting provision in their contract, it applies to the exclusion of A.R.S. 12-341.01(A), the trial court awarded American $775,000 in attorneys’ fees, together with costs and interest. Notably, the amount of attorneys' fees awarded to American was significantly less than the amount American requested in its fee application.
On appeal, CSK argued that, despite the contractual fee-shifting provision, the trial court should have turned to the second sentence of A.R.S § 12-341.01(A) and concluded that CSK and not American was the prevailing party. That sentence provides that, “[i]f a written settlement offer is rejected and the judgment finally obtained is equal to or more favorable to the offeror than an offer made in writing to settle any contested action arising out of contract, the offeror is deemed to be the successful party.” Relying on its own precedent, Division 1 of the Arizona Court of Appeals rejected CSK’s argument and upheld the trial court’s decision.
The Arizona Supreme Court framed the issue as whether the fee-shifting provision of the vendor agreement was to be interpreted to the exclusion of § 12-341.01(A) or instead harmonized with that discretionary fee-shifting statute. Reversing both lower courts, the Supreme Court held that because the agreement contained an Arizona choice of law provision, it impliedly incorporated A.R.S. § 12-341.01(A), including the sentence upon which CSK relied. It further held that, in the absence of a conflicting definition of the term “prevailing party” in the contract itself, the “definition” of successful party in the second sentence of the statute would control.
Applying that definition, the Supreme Court held that CSK was the prevailing party and entitled to recover its attorneys’ fees, despite the fact that it lost on American’s claim and on its own counterclaims, because its offer was greater than the amount American was awarded at trial. More specifically, it found CSK was the prevailing party from the date of its offer, and, thus, entitled to recover its attorneys’ fees from the date of the offer onward. The Court further held that the the trial court lacked discretion to deny CSK its request for attorneys’ fees because, unlike the statutory fee-shifting provision, the contractual fee-shifting provision made an award of fees to the prevailing parties mandatory. Still, the Court pointed out that American was the prevailing party prior to the date CSK’s offer was made, entitling it to recover the reasonable attorneys’ fees it incurred prior to that date.
The lone dissent by Justice Anne A. Scott Timmer pointed out that the majority’s decision was contrary to the command of the third sentence of § 12-341.01(A). We note that the third sentence served as the basis for a multitude of fee-shifting decisions by the Arizona Court of Appeals upon which Arizona lawyers and their clients have relied for decades both (a) in ordering their contractual affairs when it comes to fee-shifting and (b) in formulating their applications for attorney's fees (or their challenges thereto). We further note that, if the Supreme Court’s rationale that the choice-of-law provision makes the entirety of Arizona law a part of a contract is correct, then the third sentence of the statute was incorporated into the vendor agreement as well.
The implications of the Supreme Court’s decision in American Power Products will be fairly far-reaching. While some will argue that the decision will serve the important goal of encouraging parties to give settlement offers all the consideration they are due, others will contend the decision will serve as a catalyst for lawyers to engage in even more sharp practices and gamesmanship in the course of litigation. In light of the decision, both actual and prospective participants in disputes involving contractual fee-shifting provisions will want to reassess the likelihood of recovering their reasonable attorneys’ fees if they prevail at trial. As for future contractual parties in Arizona, they and their lawyers will want to consider whether, in order to avoid the risks flowing from the Supreme Court’s decision, it would behoove them to (a) define the term “prevailing party” within the body of any fee-shifting provision they elect to incorporate into their agreement, (b) omit an Arizona choice-of-law provision from their agreement, or (c) include an Arizona choice-of-law provision with an explicit caveat that the second sentence of A.R.S. § 12-341.01(A) is neither impliedly nor explicitly incorporated therein.