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In re Petition of The Organic Cow, LLC ) Docket No. HEP-97-006

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I. Findings of Fact:

The Northeast Dairy Compact Commission, having received and considered the Original Proposed Findings of Fact, Conclusions of Law, and Decision of the Hearing Commission, Petitioner’s Response of March 13, 1998, and the record developed in the proceedings, finds and, pursuant to 7 CFR § 1381.4(d), takes official notice of the following facts:

1. The Organic Cow, LLC, is a Vermont limited liability corporation with its principal place of business in Tunbridge, Vermont. The Organic Cow was originally founded as a producer-handler operation by Peter and Bunny Flint and was incorporated in Vermont as The Organic Cow, Inc. in 1993. The Flints built the company from their Tunbridge farm and rapidly expanded sales of organic milk all over New England and along the East Coast. With increased sales, The Organic Cow, Inc. steadily increased its purchases of organic milk from organic dairy farmers located throughout New England and New York. The Organic Cow is at present the dominant market outlet in New England for the production and sale of organic milk.

 

2. The Organic Cow was organized in Vermont as a limited liability corporation by H. P. Hood, Inc. and Bunny and Peter Flint, effective May 1, 1997. The corporation was registered as The Organic Cow, LLC with the Vermont Secretary of State’s Office on April 11, 1997 by H. P. Hood, Inc., 90 Everett Ave., Chelsea, MA . The April 11, 1997 registration with the Secretary of State was executed by John A. Kaneb, Chairman and CEO of H.P. Hood and lists H.P. Hood as the organizer and initial manager member of the limited liability corporation. Peter and Bunny Flint, co-founders of The Organic Cow, Inc., are the other members of the limited liability corporation and serve as vice-presidents.

 

3. The Organic Cow, LLC is organized as a member-managed limited liability corporation, with H. P. Hood, Inc. designated as the member-manager. H.P. Hood, Inc.’s investment in the limited liability corporation represents a 70 percent share. The Flints’ interests represent the remaining 30 percent share. Pursuant to 11 V.S.A. § 3023, the Articles of Organization for the limited-liability corporation indicate that "The Members are not to be liable for the debts and obligations of the Company under [11 V.S.A. § 3043]".

 

4. The corporation’s operations are run by a management team composed of Peter and Bunny Flint and two persons, one of whom reports directly to a vice-president of H.P. Hood, Inc. The other person reports to Bunny Flint.

 

5. The Organic Cow, LLC, owns and operates a milk processing plant at Tunbridge, Vermont which processes and packages certified organic Class I fluid milk, and processed manufactured dairy products, for distribution in New England and other states. It is subject to the Compact over-order price regulation as a pool plant pursuant to 7 CFR § 1301.5.

 

6. The Organic Cow, LLC is obligated under fixed term output contracts to pay producers of certified organic milk in Vermont, New York and Massachusetts no less than $18.00 per hundredweight, regardless of the milk’s utilization. With provision of additional quality premiums, petitioner pays an average of $19.36 per hundredweight for milk it procures from producers in these states. Petitioner is obligated to pay $18.25 per hundredweight to producers in the state of Maine. With quality premiums, Maine producers receive an average of $19.61 per hundredweight.

 

7. Horizon Organic Dairy, Inc., the major competitor of petitioner in the New England organic milk market, is obligated by its producer contracts with the CROPP cooperative to pay a base price of $21.25 per hundredweight for certified organic milk which it distributes in New England through Farmland Dairies, Inc.

 

8. Organically-produced fluid milk and milk products are not differentiated from non-organic fluid milk and milk products under the federal Milk Market Order system of regulated milk prices. For purposes of the federal Milk Market Order system, petitioner operates a regulated pool plant under Market Order #1 and pays the applicable classified price, including the applicable Class I fluid price, established thereby for all milk processed at its facility.

 

9. Other than an exemption for producer-handlers and operation of a de minimus exemption (quantities under 300 quarts per day on average), all Class I fluid milk, organic and non-organic, distributed in New England is regulated uniformly under the Northeast Interstate Dairy Compact and the Compact over-order price regulation.

 

10. As a Compact pool plant, petitioner is required to make payment of the Compact over-order obligation for all Class I distributions in the (New England) regulated area. Petitioner has, as of the close of this record on March 13, 1998, met its obligation to make any such payments. Petitioner is also obligated, under the regulation, to provide disbursement to producers of the Compact over-order producer price for all of its receipts of producer milk. With Class I utilization for milk marketed in New England averaging approximately 50% and allowing for other deductions, petitioner would receive back approximately 40% of the Compact over-order obligation paid in for disbursement to producers if and when it meets its obligation to pay the over-order obligation.

 

11. Pursuant to 7 CFR § 1381.4(c), the hearing panel issued an Order on August 28, 1997 granting petitioner’s request for payment into escrow of all monthly Compact over-order obligations and administrative assessments, pending resolution of its petition for an exemption. Petitioner has not, as of the close of this record, made any payments into escrow under the Compact over-order price regulation and as provided for by the hearing panel’s Order.

 

12. Petitioner’s balance sheet accounting, including for the relevant July, 1997 – December, 1997 period when the Compact over-order price regulation was in effect, shows a substantial negative balance over and above the amount due and owing under petitioner’s over-order obligation. Petitioner’s income and expense statements for the same period also indicate substantial operating losses.

 

13. Notwithstanding the express provision of the limited liability corporation’s Articles of Organization establishing that the members are not liable for the debts and obligations of the Company, H.P. Hood has provided loans in excess of $1 million to cover on-going operating expenses for The Organic Cow, LLC during the same period described in Finding 13, above.

 

14. In the Spring of 1997, petitioner participated in the Compact Commission’s rulemaking procedure leading to establishment of the Compact over-order price regulation. Some of petitioner’s producer contracts expired during the period, from April 28 through August 1997 when petitioner had notice of its over-order obligation. Renewals of some of these contracts could have been renegotiated to take into account the Compact over-order obligation and the producer price distribution while petitioner had notice of the pending price regulation. It is reasonable to infer that some or all of the producer suppliers would renegotiate rather than lose its business relationship with The Organic Cow.

 

II. Conclusions of Law

Petitioner seeks an exemption from the Compact over-order price regulation for the certified organic, Class I, milk that it processes and packages for distribution in New England. It asserts that the Compact over-order price regulation, as applied to the certified organic milk for which it is committed to pay an average of $19.36 (or $19.61 in Maine) per hundredweight, is not in accordance with law. It raises three arguments in support of this assertion:

Under the Handler Exemption Procedures, 7 CFR Part 1381, petitioner has the burdens of production and persuasion to prove that "any order, Compact over-order price or administrative assessment, or any provision of such order or assessment, or any obligation imposed in connection therewith is not in accordance with law." The Commission must analyze the evidence in the record in light of each of petitioner’s arguments to assess whether the petitioner has met its burden.

1. Whether the Compact Over-order Price Regulation Works an Unconscionable Hardship on the Petitioner Which Does Not Further the Purposes of the Compact.

Petitioner argues that the Compact over-order price regulation will cause an extraordinary ("unconscionable") hardship on it which will cause it to go out of business. Petitioner contends that such undue hardship is particularly inappropriate given that it is obligated by contract to make payment to its supplying farmers in amounts well in excess of that yielded by the Compact over-order obligation and producer price. The evidence presented by petitioner in support of this factual claim is not persuasive.

It is to be noted that petitioner’s hardship argument is not based on a legal claim of right. Rather, it is a fact-based argument that seeks to have the Commission exercise its discretion to create an exemption from regulation for The Organic Cow’s processing and distribution of certified organic milk in the New England market. In May, 1997, the petitioner, through Peter Flint, requested that the Commission create an exemption for certified organic milk as an exercise of its quasi-legislative discretion during the Compact over-order rulemaking process. The Commission declined.

In making a hardship argument in this proceeding, the petitioner is renewing its request for an exemption from the Commission, in this instance in exercise of its quasi-judicial discretion. The Commission concludes that such an exercise of discretion in its adjudicative role would require substantial and compelling evidence of an unreasonable hardship. Because the Commission does not find petitioner’s argument and presentation of evidence to be persuasive, it does not choose to so exercise its discretion.

Petitioner filed detailed financial records with and presented lengthy testimony before the Hearing Panel in support of its claim that the price regulation works an unconscionable hardship. The record establishes that The Organic Cow, LLC is presently in distressed financial circumstances. Petitioner’s balance sheet for the period including July, 1997 – December, 1997, when the over-order price regulation was in effect, shows a substantial negative balance over and above the amount due and owing under petitioner’s Compact over-order obligation. Petitioner’s income and expense statements for the same period also indicate substantial operating losses.

The Corporation is in this situation despite the fact that it has to date made no payment as required under the Compact over-order price regulation. In other words, petitioner has simply established that the Corporation has reached its distressed financial circumstances by operation of the marketplace, without the working of any adverse impact attributable to the Compact over-order price regulation. In view these facts, it certainly cannot be said that petitioner has established that operation of the regulation, alone, has served to work a financial hardship on the Corporation.

The record presented establishes that the Corporation has obtained loaned funds from H.P. Hood, Inc. in excess of $1 million to provide for operating expenses and obligations during this period of distressed operation. The Corporation met some of its operating expenses with these funds but decided not to pay its legal obligation under the Compact over-order price regulation, as of the close of this record. Notwithstanding these preferential payments, petitioner’s distressed financial situation appears to persist.

The hearing Commission recognizes the hard labor expended by the Flints in building up The Organic Cow. The Commission further recognizes the pronounced benefit for the Corporation’s supplying farmers, which is the product of their labor. These producers are being paid a premium price for the milk they produce. In addition, the Flints have, almost single-handedly, helped to establish a market for the organic milk, sustainably produced by these supplying farmers from New England and New York.

Nonetheless, it is the business decisions and actions of The Organic Cow, LLC, rather than those of the the Flints, that are at issue here. Rather than prove the presence of any undue hardship on the Organic Cow, LLC attributable to imposition of the price regulation, the record reveals that the Corporation is in financial distress regardless of the Compact over-order obligation. Further, this financial distress continues notwithstanding the economic advantage that petitioner has enjoyed by ignoring its legal obligations under the Compact. While The Organic Cow, LLC has refused to pay the sums due and owing under the Compact, its competitors in both the organic and non-organic fluid milk market have continuously paid their Compact over-order obligations. Even with this significant economic advantage, the petitioner’s financial position and market share have apparently not improved sufficiently to demonstrate a profit.

Finally, the Commission notes that it is not persuaded by the degree of hardship claimed by petitioner. The record indicates that, at least, some of the producers would be willing to forego their producer payments under the Compact. In its additional, written, submission presented after the close of the presentation of testimony at the oral, January 15, 1998 hearing, petitioner conceded that at least some of its contracts could be construed to account for and accommodate the portion of the over-order obligation representing the producer price payment. Furthermore, the record established that petitioner had notice of the regulatory action during a period when some of the contracts that were up for renewal could have been revised to account for the producer payments. Petitioner, however, apparently chose to risk not making such revisions upon the belief that The Organic Cow, LLC would be exempted from the price regulation. That is another business judgment of the Corporation, the consequences for which the Corporation, and not the price regulation, is responsible.

Accounting for and accommodating payments in these contracts would have reduce the claimed harm by fully forty-percent, approximately, for each such payment. Accordingly, petitioner’s claim of hardship, at least in some measure, would have been less than as presented and could have been further reduced by petitioner’s own actions.

In sum, the Commission concludes that petitioner has failed to prove its hardship claim in view of the fact that the Corporation is in distressed circumstances despite having failed to make a single payment as required under the price regulation. The Commission is, therefore, not persuaded to exercise its discretion to grant an exemption on this ground.

2. Whether the Compact Over-order Price Regulation Acts an Unconstitutional Impairment of Contract.

Petitioner argues that the contracts with its producers are unconstitutionally impaired by the over-order price regulation under the Contracts Clause of the U. S. Constitution. The law is well settled that the Contracts Clause, on its face, applies only to state action. The Compact, and any regulations adopted pursuant to its authority, are creatures of federal law, however, and, therefore, not subject to the Contracts Clause.

Rather than the Contracts Clause, retroactive federal regulation of contractual relationships is subject to Fifth Amendment due process. To substantiate a claim of violation of its due process rights, petitioner must show that there was a substantial and unreasonable retroactive effect on its contractual rights and expectations. The first inquiry is, then, whether the "law has, in fact, operated as a substantial impairment of a contractual relationship." In its Statement of Facts at p. 7 of the petition, petitioner alleges that the regulation destabilizes its contracts. It has been established in the record, however, that the technical terms of the producer payment provisions in the contracts could be renegotiated to include the Compact over-order producer price distribution. The basic obligations and expectations of the petitioner and its suppliers would be left intact.

Further, petitioner had actual notice of both the passage of the Northeast Interstate Dairy Compact and the pendency of the Compact over-order price regulation at the time it was renegotiating a number of its contracts and could have included a contingency term to accommodate the regulation’s requirements. The Commission concludes, therefore, that there would be no substantial retroactive effect due to the Compact over-order regulation.

Notwithstanding whether there was sufficient substantial retroactive effect, the Commission concludes that any minimal effect of the regulation was simply a legislative adjustment to the rights and responsibilities of the contracting parties based "upon reasonable conditions and of a character appropriate to the public purpose justifying its adoption." The Compact, and the Compact over-order price regulation, were adopted under Congress’ authority to regulate commerce. It acted in the public interest to assure "the continued viability of dairy farming in the northeast, and to assure consumers of an adequate, local supply of pure and wholesome milk," which "is a matter of great importance to the health and welfare of the region." The Compact and its regulations were enacted to deal with a broad, generalized economic and social problem, operate in an area already subject to regulation, and effect only a temporary alteration of the contractual relationship, if any at all.

The Commission concludes that any minimal effect of the Compact and its regulation on petitioner’s contracts is outweighed by the broad purposes of the enabling legislation and the reasonableness of the regulation. The petitioner has, therefore, not met its burden to show the regulation violated Fifth Amendment due process in this regard.

The petitioner argues that the regulation is arbitrary and discriminatory and violates petitioner’s rights under the 5^th and 14^th amendments to the U.S. Constitution on the basis that:

The petitioner bears a substantial burden to overcome the presumption in favor of the reasonableness and constitutionality of legislative judgments such as those reflected in the Compact. "It is by now well established that legislative Acts adjusting the burdens and benefits of economic life come to the Court[s] with a presumption of constitutionality, and that the burden is on one complaining of a due process violation to establish that the legislature has acted in an arbitrary and irrational way." The petitioner must, therefore, prove that the alleged discriminatory treatment bears no rational relationship to a legitimate governmental interest for the purposes of finding any violation of its equal protection rights.

In enacting the Compact, the six New England states expressly limited the Compact Commission’s regulatory authority to distributions of Class I milk, as long as the federal Milk Market Order system remained in place. In consenting to the Compact, Congress expressly eliminated even the Compact Commission’s residual authority over milk utilized for manufactured purposes. The Commission’s authority as limited solely to Class I milk could not have been more firmly established than by this dual, sovereign, legislative action.

The clear legislative intent to limit the Commission’s regulatory authority to Class I milk is rationally related to the legitimate purpose, as provided in the Compact’s Statement of Purpose, of providing "a stable, local supply of pure, wholesome milk" as "a matter of great importance to the health and welfare of the region." The primary focus of the Compact and the over-order price regulation is, therefore, the Class I fluid, or beverage, milk market. It is eminently reasonable to impose the Compact over-order obligation and to make assessment for the administrative costs of the regulation on those who distribute Class I milk in New England as a cost of doing business in the region. The benefits of a stable local supply for both the industry and the consumers in the region are, thereby, supported by the burden imposed on the basis of sales in the region.

Furthermore, the regulation’s design around sales or distributions in the regulated region parallels and is coordinate with the federal Milk Market Order system. While petitioner criticizes the Commission’s regulation for "its slavish imitation of the federal Milk Market order regulations" at p. 12 of the petition, the Compact itself instructs the Commission to apply, adapt, and develop "the regulatory techniques historically associated with milk marketing." To further promote the express intent of the Compact’s Statement of Purpose that the regulations of the Compact Commission and the federal Market Order Administrator be complimentary and coordinate, Congress required the Market Administrator to provide technical assistance to the Compact Commission. To ensure such uniformity and consistency of regulation of milk pricing in New England, the Compact Commission has adapted and coordinated its over-order regulation with the federal Market Order. In the face of all these compelling considerations, the petitioner has failed to prove that the Compact and the regulation have no rational basis.

Petitioner raises as its final argument at p.14 of the petition that its "fundamental property and liberty rights are destroyed" by the regulation because it fails to credit or take into account the premiums above the amount of the producer pay price which the petitioner pays. Petitioner again fails meet its burden to prove no rational basis for the regulations policy on premiums.

As conceded in the petition, the Compact over-order regulation is parallel to the federal Market Order regulations in that it, as does the Market Order, takes no account of premiums paid by processors to producers in the market. Notwithstanding petitioner’s characterization of its premiums as not "market-based", they are clearly intended to establish a reliable supply of certified organic milk for the petitioner. In that vein, they are essentially indistinguishable from premiums offered by other processors of milk, organic and non-organic.

The Compact over-order price regulation was adopted only to establish a new, flat, Class I benchmark price for all milk marketed in New England, effective July 1, 1997. It is otherwise intended to be neutral in its effect on all other market forces that influence the supply of and demand for Class I milk in the New England market. In order to leave these market forces undisturbed to the degree possible, the regulation does not recognize or give credit for the nature or amount of price premiums paid by any processor, whether for organic or non-organic milk. Premiums, including those paid by the petitioner, provide important price signals in the marketplace that affect the volume of milk produced and consumed and the Commission intends not to interfere with those signals.

The Commission concludes that the regulation itself and its consistency with the federal Market Order further and are rationally related to legitimate governmental interests in ensuring the full functioning of all market forces aside from the regulated, minimum, flat price. The Commission concludes, therefore, that petitioner’s argument is without merit.

III. Decision

Based on the above findings of fact and conclusions of law, the hearing Commission orders the following:

1. Petitioner’s request for an exemption from the regulation of its certified organic milk distributed in the regulated area is denied.

2. Petitioner is ordered to pay into escrow pending any subsequent appeal filed in federal district court pursuant 7 CFR § 1381.5(a) all amounts due and payable for the petitioner’s Compact over-order obligation, administrative assessment, start-up assessment and 1% per month interest liability. Upon final resolution of any such appeal, the Commission shall disburse those escrowed funds as appropriate.

Entered this 31st day of March, 1998.

IT IS SO ORDERED

For the Commission

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Michael Wiers, Chair