The Federal Trade Commission (FTC) and Department of Justice (DOJ) jointly issued new Draft Merger Guidelines on July 19, 2023.^[1] The Draft Merger Guidelines were created with the goal “to better reflect how the agencies determine a merger’s effect on competition in the modern economy and evaluate proposed mergers under the law.” There are significant changes from the current guidelines both substantively and in form. These changes are consistent with the Biden Administration agencies’ public statements and reflect the FTC’s and DOJ’s approach to merger investigations and enforcement actions over the last two years. The draft is subject to a sixty-day comment period that closes on September 18.

The changes come on the heels of the agencies’ proposal on June 27 to update the premerger notification form under the Hart-Scott-Rodino (HSR) Act. The proposed form update, the first of its kind in forty-five years, would substantially increase the time, effort, and cost of making the filings of buyers and sellers.^[2] The FTC notice estimates that HSR filings would require an average of 144 hours to prepare as compared to the current average of thirty-seven hours. If the proposed changes are adopted, the FTC estimates that “complex” filings would require approximately 259 hours to complete. Many of the proposed changes appear aimed at providing substantial additional information related to the types of harm underlying the Draft Merger Guidelines.

Broadly, the draft confirms the agencies’ interest in increased enforcement, particularly in tech and labor markets; decreased mergers; skepticism regarding merger-related efficiencies; concern for nascent competitors; distrust of “big”; and preference for organic growth.

To better understand the proposed changes to the Merger Guidelines, we highlight some of the most significant changes below.

Reducing the threshold for a presumption of anticompetitive effects

Guideline 1 lowers the threshold for determining when a transaction results in a “highly concentrated market” to the level used by the guidelines issued in the 1980s and 1990s. Guideline 1 describes the use of the Herfindahl-Hirschman Index (“HHI”) to calculate market concentration. The HHI sums the squares of the market share of each competitor in the market. Under the 2010 merger guidelines, “[b]ased on their experience, the Agencies classif[ied] markets” with an HHI over 2,500 as “highly concentrated.” Transactions resulting in highly concentrated markets that involved an increase of more than 200 points were presumed to be likely to enhance market power.

Pursuant to draft Guideline 1, the agencies not only reduce the standard for a “highly concentrated” HHI to 1,800 from 2,500, but they also reduce the level of the post-transaction delta from 200 to 100. Accordingly, mergers in markets with HHIs greater than 1,800 and an increase of greater than 100 “cause[] undue concentration and trigger[] a structural presumption that the merger[s] may substantially lessen competition or tend to create a monopoly.”

Another change is the addition of the “structural presumption” that mergers leading to a market share in excess of 30 percent are illegal.

Creating a dominance concept under U.S. law

Dominance is not a concept enshrined in U.S. antitrust law, but it has been a part of merger analysis in Europe. Guideline 7 seeks to discourage any transaction that makes it harder for remaining competitors to compete. The guideline suggests a firm could be treated as “dominant” with a market share as low as 30 percent and also indicates that transactions that might increase switching costs, interfere with use of competitive alternatives, deprive rivals of economies of scale, eliminate a nascent competitive threat, or “in any other way” entrench the combined firm’s position could be challenged. The agencies will view any merger involving a dominant firm with intense scrutiny.

Focus on mergers that “further a trend” towards market concentration

Guideline 8 declares that the agencies will now scrutinize mergers in markets that have been trending toward concentrated, and thereby the proposed transaction may substantially lessen competition. The guideline sets forth two factors to establish this trend: (1) if a market has shown a history of consolidation, such as a market with an HHI exceeding 1,000 and approaching 1,800, or (2) if the merger would increase the rate of concentration, such as increases in HHI over 200.

Adding examination of serial acquisitions as a whole

Guideline 9 notes that the agencies have created another pathway to target mergers that might, in the past, have evaded agency scrutiny: challenging a pending transaction based on past lawfully consummated mergers and company documents reflecting a strategy of growth through acquisition. Specifically, if either of the parties has a pattern or strategy of consolidation through acquisition, the agencies will examine the impact of the cumulative strategy to determine if that strategy may substantially lessen competition or tend to create a monopoly. If the agencies find that the strategy or acquisition history of a firm is suspect, they may combine multiple acquisitions for the purposes of their analysis of other indicia of lessening competition. Many interpret Guideline 9 as a reflection of skepticism of private equity transactions.

Suggesting increased enforcement of mergers involving multi-sided platforms

In another warning shot at the tech industry, the agencies made clear in Guideline 10 that anticompetitive effects on a single platform may make a merger illegal. The agencies view such platforms as markets themselves and platform operators as having conflicts of interest to the extent they use their platform to sell products. Thus, a merger between a platform operator and a seller of goods who uses the platform will attract the attention of the agencies even if the merger would be totally innocuous if viewed only in the market of the products sold by the acquired seller.

Considering impacts on labor markets

Guideline 11 confirms that the agencies will consider labor markets as they would other supply markets in analyzing mergers, where employers are competing buyers for labor. When assessing the degree to which the merging firms compete for labor, the agencies will consider whether the merger may result in lower wages or slowed wage growth, worse benefits or working conditions, or any other degradation of workplace quality.

Market definition: Considering bundling

The agencies stated in an appendix detailing how they define markets that they will consider bundled products in a single relevant market, even if such conduct would not violate Section 2 of the Sherman Act. Bundling is conditioning the sale of a product in one market on the sale of a product in another market, or otherwise linking the sales of two products. By considering bundled products together, the agencies may be able to find that firms exceed the thresholds described above based on control of products outside the market directly affected by the transaction.

Efficiencies: Relegated to the appendix

While the current guidelines give an explanation of how efficiencies may “enhance the merged firm’s ability and incentive to compete, which may result in lower prices” and other consumer benefits, the proposed guidelines are less clear on the impact of efficiencies to the agencies’ analysis. The relevant section (IV.3.) begins with a quote from United States v. Philadelphia Nat’l Bank that “possible economies [from a merger] cannot be used as a defense to illegality.” 374 U.S. 321, 371 (1963). It goes on to identify certain “cognizable efficiencies” which “must be of sufficient magnitude and likelihood” to “prevent the creation of a monopoly.”

***

In sum, the draft Merger Guidelines should provide greater transparency to businesses considering acquisitions and enshrine evolving FTC and DOJ policies that have increased the risk of merger investigations and enforcement actions under the current administration.

Appendix of Significant Form Changes

• Parties. Identification of entities within the ultimate parent entity (UPE) or acquired entity, minority shareholders, and other non-controlling entities, and create new requirements to identify certain other interest holders that may exert influence, as well as officers, directors, and board observers.
  • Organize the list of entities held by the UPE or acquired entity by operating company, and for each such operating company or business, provide d/b/a(s) and f/k/a(s) within the three years preceding filing.
  • For the acquiring UPE, report minority holders of (1) the acquiring entity, (2) any entity directly or indirectly controlled by the acquiring entity, (3) any entity that directly or indirectly controls the acquiring entity, and (4) any entity within the acquiring person that has been or will be created in contemplation of, or for the purposes of, effectuating the transaction. For entities affiliated with a master limited partnership, fund, or investment group, the “doing business as” or “street name” of that group would also be required.
  • For the acquiring UPE, identify certain individuals (other than employees) or entities that, in relation to the acquiring entity or any entity it directly or indirectly controls or is controlled by, who (i) provide credit in conjunction with or result of the transaction, provided credit totaling 10% or more of the value of the entity; or (ii) are holders of non-voting securities, warrants, or options would be limited to those the value of which equals or exceeds 10% of the entity or could be converted to 10% or more of the voting securities or non-corporate interests of the company.
• Officers, Directors, and Board Observers. Identify the officers, directors, and board observers (or in the case of unincorporated entities, individuals exercising similar functions) of the acquired entity(s) and entities within acquiring person(s), as applicable, for the prior two years, and for each individual, identify any other companies for which those individuals would serve or have served during the prior two years as officers, directors, or board observers. Provide the same information for the prospective officers, directors, or board observers of the acquired and acquiring entities after the transaction, as well as for any officers, directors, or board observers of new entities created as a result of the transaction (and, in each case, for unincorporated entities, individuals serving those functions). If it would be impossible to identify the specific officers, directors, and board observers, filers should describe who would have the authority to choose them.
• Transaction Information. The acquiring UPE will be required to briefly describe the business operations of all entities within the acquiring person to provide a clear overview of all aspects of the acquiring person’s pre-transaction business.
  • The acquiring and acquired person will be required to submit a narrative describing all strategic rationales for the transaction, including, those related to competition for current or known planned products or services that would or could compete with a current or known planned product or service of the other reporting person, expansion into new markets, hiring the sellers’ employees (so-called acqui-hires), obtaining certain intellectual property, or integrating certain assets into new or existing products, services or offerings. Also, identification of which documents submitted with the HSR filing support the rationale(s) described in the narrative.
  • Provide a diagram of the deal structure along with a corresponding chart that would explain the relevant entities and individuals involved in the transaction.
• Agreements and Timeline. Require filing persons to produce (i) all agreements, inclusive of schedules, exhibits, and the like, that relate to the transaction, regardless of whether both parties to the transaction are signatories; (ii) all agreements between any entity within the acquiring person and any entity within the acquired person in effect at the time of filing or within the year prior to the date of filing, including but not limited to, licensing agreements, supply agreements, non-competition or non-solicitation agreements, purchase agreements, distribution agreements, or franchise agreements; and (iii) narrative timeline of key dates and conditions for closing.
• Competition and Overlaps. In addition to the transaction-related documents currently required under Item 4(c) and 4(d) prepared by or for officers and directors, filing persons would also need to submit (i) documents prepared by or for supervisory deal team lead(s) and (ii) drafts of responsive transaction-related documents if that document was provided to an officer, director, or supervisory deal team lead(s).
  • Periodic Plans and Reports. Submission of (i) semi-annual and quarterly plans and reports that discuss market shares, competition, competitors, or markets of any product or service that is provided by both the acquiring person and acquired entity, if those documents were shared with a chief executive of an entity involved in the transaction, or with certain individuals who report directly to a chief executive; and (ii) all plans and reports submitted to the board of directors (or, in the case of unincorporated entities, individuals exercising those functions) that discuss market shares, competition, competitors, or markets of any product or service that is provided by both the acquiring person and acquired entity.
  • Submission of an organizational chart(s) reflecting the position(s) within the filing person’s organization held by identified authors, and for privileged documents, the recipients of each document submitted with the HSR filing. Identification of the individuals searched for responsive documents.
• Competition Analysis. Each filing person would be required to list each current or known planned product or service that competes with (or could compete with) a current or known planned product of the other filer. For each such overlapping product or service, the filing person would provide sales, customer information (including contacts), a description of any licensing arrangements, and any non-compete or non-solicitation agreements applicable to employees or business units related to the product or service.
• Supply Relationships. Filing persons would report (i) sales to the other filing person and to any other business that, to the best of the filing person’s knowledge, uses its product, service, or asset as an input for a product or service that competes or is intended to compete with the other filing person’s products or services; (ii) information (including contact information and a description of the supply agreement) for other customers that use the product, service, or asset to compete with other filing person; (iii) similar information for purchases made from the other filing person and from any other business that, to the best of the filing person’s knowledge, competes with the other filing party to provide a substantially similar product, service, or asset.
• Labor Markets. Filers would need to classify their workers into occupational categories based on the Standard Occupational Classification (SOC) system, list the five largest categories of workers by the relevant 6-digit SOC classification, provide the total number of employees for each 6-digit code identified, and identify any penalties or findings that were issued against the acquiring person or acquired entity by the U.S. Department of Labor’s Wage and Hour Division, the National Labor Relations Board, or the Occupational Safety and Health Administration during the five-year period before the filing.
  • For each of the five largest SOC codes in which both parties employ workers, the filing persons would be required to list the overlapping Economic Research Service’s Commuting Zones from which the employees commute and the total number of employees within each commuting zone.
• NAICS Information. Filing persons would need to (i) list every NAICS code that describes the products or services offered and use end notes as needed to clarify selections and any potential overlap where the same revenues are reported in more than one NAICS code; (ii) require acquiring persons and acquired entities with more than one operating company or unit to identify which entity(s) derives revenue in each code; (iii) acquiring person would be required to identify any NAICS codes for products and services under development if those codes would overlap with the codes for current or known pipeline products or services of the acquired entity(s); and (iv) acquired person would identify the NAICS codes that would apply to the products or services of the acquired entity(s) that are under development or pre-revenue and anticipated to have annual revenue totaling mo re than $1 million within the following two years.
• Minority-Held Entity Overlaps. List all the minority-held entities of the acquiring person and its associates or acquired entity (as appropriate) and proposes once again to require identification of those that, to the filing person’s knowledge or belief, would derive revenue in the same NAICS codes or have operations in the same industry as the other filing person.
• Prior Acquisitions. Both the acquiring person and the acquired entity will be required to provide information about prior acquisitions for the previous ten years and eliminate the threshold for listing prior acquisitions, which currently limits reporting to only acquisitions of entities with annual net sales or total assets greater than $10 million in the year prior to the acquisition.
• Foreign Subsidies. Persons making an HSR filing would be required to disclose information about foreign subsidies from countries or entities that threaten U.S. strategic or economic interest.
• Defense Information. Both the acquiring and acquired person would identify whether they have existing or pending defense or intelligence procurement contracts, as defined by 10 U.S.C. 101(a)(6) and 50 U.S.C. 3033(4), valued at $10 million or more, and provide identifying information about the award and relevant DoD or IC personnel.
• Document Preservation. Filers would need to identify and list all communications systems or messaging applications on any device used by the acquiring or acquired person (as appropriate) that could be used to store or transmit information or documents related to its business operations and affirm that all necessary steps have taken to prevent destruction of documents and information related to the transaction, include suspension of auto-deletion protocols.
• Foreign Filings. Require parties to identify the foreign jurisdictions where each has already filed or is preparing notifications to be filed as well as a list of the jurisdictions where it has a good faith belief it will file.

1. The first merger guidelines were issued by the DOJ, Antitrust Division, in 1968. Different iterations of have been revised and refined in 1982, 1984, 1992, 1997, and 2010. ↑

2. A summary of many of the key changes to the form is provided as an appendix here. ↑

This case,^[1] heard before the U.S. District Court for the District of Columbia (“the court”), concerns the enforcement of an arbitral award against the Republic of Djibouti in favor of Doraleh Container Terminal SA (“DCT”), arising out of a dispute over the development and operation of a port. Parties entered into a Concession Agreement where DCT agreed to build and develop a new international container terminal on the Red Sea in Doraleh, Djibouti, in exchange for DCT’s exclusive right to handle container shipping in Djibouti and payment of royalties. The agreement also provided for arbitration of any dispute between the parties in London under London Court of International Arbitration (LCIA) Rules if it could not be amicably settled. 

A dispute arose, Djibouti commenced arbitration, DCT made a counterclaim, and ultimately, an award was issued in favor of DCT. DCT commenced this action in the District of Columbia to enforce the award.

Djibouti sought to vacate the award, arguing that (i) the tribunal exceeded its authority, (ii) the tribunal violated Djibouti’s due process rights, and (iii) the award would be contrary to U.S. public policy if enforced.

The court rejected all of Djibouti’s arguments and granted DCT’s petition to confirm the award. The court did not accept Djibouti’s argument that the court lacked subject matter jurisdiction over the petition.

In respect of the tribunal’s authority, the court found that the dispute resolution clause in the parties’ contract was broad enough to encompass the counterclaims raised by DCT, and that the tribunal did not exceed its authority by deciding on those counterclaims.

There were no surprises in this decision. Addressing Djibouti’s claim of violation of due process, the court found that Djibouti had actual notice of the proceedings and was given an opportunity to be heard, but chose not to participate. Therefore, the court held that Djibouti’s due process rights were not violated. Finally, with respect to Djibouti’s argument that enforcing the award would be contrary to U.S. public policy, the court held that this argument failed because a purely compensatory award does not violate U.S. public policy. The court noted that Djibouti’s argument relied solely on a case involving specific performance, which was not applicable here.

This case is significant because it reinforces the principle of deference to arbitral awards under the New York Convention. The court emphasized the strong public policy in favor of enforcing arbitral awards and noted that a party seeking to vacate an award faces a heavy burden of proof. The court also clarified that due process rights are satisfied by actual notice and an opportunity to be heard, and that a party’s failure to participate in the proceedings will not be grounds for vacating the award. A party who takes the risk by not participating in arbitration proceedings may be bound by the outcome of the arbitration even if they disagree with the result.

This case also reinforces the principle of finality of arbitration awards and the limited grounds upon which they can be challenged. The court’s decision emphasizes that challenges to an arbitral award must be based on specific, narrow grounds provided under the New York Convention, and not on a general dissatisfaction with the award. The court pointed out that its discretion in refusing to enforce an award could only be on the grounds explicitly set forth under Article V of the Convention.

The court discredited what it called Djibouti’s “disguised attempt to challenge the award on grounds that could have been brought before the arbitrator.”^[2] It noted that despite being invited to comment on DCT’s authority, Djibouti declined to respond and instead raised its argument of lack of authority before the court for the first time. In light of this, the court did not accept Djibouti’s argument as an authentic challenge to the court’s subject matter jurisdiction.

This outcome is very much in line with the consistent approach of U.S. courts to a very narrow interpretation of the scope of the few grounds for declining to enforce an arbitral award under the New York Convention. This case serves as a warning of the consequences that follow should a party choose not to participate in an arbitration when given the opportunity. A party’s refusal to participate will not be looked upon sympathetically by the court, as such a lost opportunity is “self-inflicted.”^[3] Parties should therefore use every opportunity to raise all arguments before the arbitral tribunal and not expect the court to entertain new arguments which could have been raised before the arbitral tribunal.

This article originally appeared in International Law News, the quarterly magazine of the ABA International Law Section, in the Spring 2023 issue (Volume 50, Issue 3). Join the International Law Section to read the full issue and access other resources regarding international law.

1. Doraleh Container Terminal SA v. Republic of Djibouti, No. 20-02571, 2023 WL 2016934. At the date of writing, this decision is pending appeal. ↑

2. Id. at *5. ↑

3. Id. at *7. ↑

Problems with lack of affordability and access to housing are longstanding in the U.S. The CFPB has indicated that “minority households… continue to lack fair and equitable access to credit,” including mortgage lending.^[1] These unmet needs, along with historical and ongoing discrimination such as redlining, exacerbate the racial wealth gap and leave many communities of color overlooked and underserved. However, equity and racial justice are policy priorities of the Biden Administration.^[2] Special Purpose Credit Programs (SPCPs) may fill the gaps in affordability and access to housing. Special-purpose credit programs provide unique standards to make loan qualification easier for underserved populations. While applicants must meet a clearly defined set of criteria to take advantage of these programs, the purpose of a SPCP is to provide access to credit for groups that might have a difficult time qualifying for credit because their communities were underserved in the past.

The Equal Credit Opportunity Act (ECOA) and its implementing regulation, Regulation B, permit creditors to offer or participate in SPCPs to meet special needs through:

• Any credit assistance program authorized by federal or state law for the benefit of an economically disadvantaged class of persons;
• Any credit assistance program offered by a non-for-profit organization for the benefit of its members or an economically disadvantaged class of persons; or
• Any SPCP offered by a for-profit organization, or in which such an organization participates to meet special social needs, if:
  • the program is established and administered pursuant to a written plan that identifies the class of persons that the program is designed to benefit under the procedures and standards for extending credit under the program; and
  • the program is established and administered to extend credit to a class of persons who, under the organization’s customary standards of creditworthiness, probably would not receive such credit or would receive it on less favorable terms than are ordinarily available to other applicants applying to the organization for a similar type and amount of credit.^[3]

In January 2021, the CFPB issued an Advisory Opinion (AO) indicating the content required in a written plan used by a for-profit organization that establishes and administers a SPCP under the ECOA and Regulation B.^[4] In addition, the AO clarifies the data that may be appropriate to inform for-profit organizations’ determination that an SPCP is needed to benefit a certain class of persons.

Nonetheless, some stakeholders expressed uncertainty as to the treatment of ECOA and Regulation B SPCPs under the Fair Housing Act (FHA). While SPCPs are specified under ECOA, they are not specified under the FHA. However, in December 2021 the Department of Housing and Urban Development issued guidance confirming SPCPs for real estate loans or credit assistance that are compliant with ECOA and Regulation B generally would not violate the FHA.^[5]

In February 2022, the CFPB joined with seven other federal agencies and released a statement appealing to lenders to consider ways to heighten credit access through SPCPs in ways that could enhance lenders’ serving historically disadvantaged communities.^[6]

Homeownership is one of the primary ways in which American families build and pass on wealth to the next generation. Lenders have an interest in meeting the credit needs of underserved communities while meeting and furthering business objectives. SPCPs can be used to expand credit access for underserved borrowers who have been overlooked but can repay their debt. SPCPs are one way to address this gap and bring fair access to financial services to additional potential homeowners.

Government agencies and lenders are identifying new ways to advance equity by increasing homeownership opportunities for underserved populations. Numerous financial institutions have dedicated billions of dollars to increasing ways to meet the needs of underserved communities. Further, lenders are increasingly interested in taking more proactive means to develop lending opportunities for members of communities of color that have faced discrimination and historically been excluded from access to credit and housing. These endeavors can be a fundamental part of a financial institution’s efforts to serve a broader community. However, lenders must be cognizant to undertake these activities in compliance with the obligations of ECOA, Regulation B, and the FHA.

Note that the applicable agencies do not determine whether a program qualifies for special purpose credit status. Accordingly, financial institutions must determine whether their programs qualify for special purpose credit status.

This article is based on a CLE program that took place during the ABA Business Law Section’s 2022 Hybrid Annual Meeting. To learn more about this topic, view the program as on-demand CLE, free for members.

1. Tim Lambert, “Using special purpose credit programs to serve unmet credit needs.” Consumer Financial Protection Bureau blog, July 19, 2022. ↑

2. “Advancing Equity and Racial Justice Through the Federal Government,” The White House (last accessed Apr. 5, 2023). The Biden Administration has recognized that the housing affordability crisis is disproportionately impacting low-income communities and communities of color. Second, the Biden Administration believes that lack of affordable housing is a barrier to opportunity. Third, the Biden Administration has proposed a number of policies to address the affordable housing crisis, many of which are framed as equity issues.

   In his 2023 budget, President Biden proposed a number of initiatives to address racial and economic disparities in housing, such as expanding access to homeownership for Black and Hispanic families and providing rental assistance to families with children, including: (i) increasing funding for the Low Income Housing Tax Credit (LIHTC), (ii) further reforming the Affirmatively Furthering Fair Housing (AFFH) rule, and (iii) providing new Project-Based Rental Assistance (PBRA) to extremely low-income (ELI) renter households. See “FACT SHEET: President Biden’s Budget Lowers Housing Costs and Expands Access to Affordable Rent and Home Ownership,” The White House, Mar. 9, 2023. ↑

3. 12 C.F.R. § 1002.8. ↑

4. Equal Credit Opportunity (Regulation B); Special Purpose Credit Programs, 86 Fed. Reg. 3762 (Jan. 15, 2021). ↑

5. See “Office of General Counsel Guidance on the Fair Housing Act’s Treatment of Certain Special Purpose Credit Programs That Are Designed and Implemented in Compliance with the Equal Credit Opportunity Act and Regulation B,” U.S. Department of Housing and Urban Development General Counsel, Dec. 6, 2021. ↑

6. See “Interagency Statement on Special Purpose Credit Programs Under the Equal Credit Opportunity Act and Regulation B,” Feb. 22, 2022. ↑

In May and June, three new states enacted comprehensive consumer data privacy laws. On May 19, 2023, Montana Governor Greg Gianforte signed the Montana Consumer Data Privacy Act into law; the act takes effect on October 1, 2024. On June 18, 2023, Texas Governor Greg Abbott signed the Texas Data Privacy and Security Act into law, with most of its provisions taking effect on July 1, 2024. And on July 18, 2023, Oregon Governor Tina Kotek signed the Oregon Consumer Privacy Act into law; it will take effect on July 1, 2024. These are the newest states to enact comprehensive data privacy laws, following California, Virginia, Colorado, Utah, Connecticut, Iowa, Indiana, and Tennessee.

The Montana, Oregon, and Texas privacy laws generally impose similar obligations to those provided for under the comprehensive privacy laws that other states have passed. However, there are key distinctions in these laws that can have a large impact on a business’s data processing. Accordingly, potentially covered businesses should carefully evaluate the law’s applicability, disclosure obligations, specific requirements related to opt-out rights, and data protection assessment requirements.

The Montana Privacy Act generally applies to entities that both:

• conduct business in Montana or produce products or services that are targeted to the residents of Montana; and
• control or process the personal data of:
  • at least 50,000 consumers; or
  • at least 25,000 consumers and derive more than 25% of gross revenue from the sale of personal data.

The Oregon Consumer Privacy Act applies to any person that conducts business in Oregon or provides products or services to Oregon residents that in a calendar year:

• controls or processes data of 100,000 or more consumers (except to the extent such data is processed solely for the purpose of completing a payment transaction); or
• controls or processes data of 25,000 or more consumers, while deriving 25% or more of the person’s annual gross revenue from selling personal data.

Unlike the revenue and data volume thresholds in the Montana and Oregon laws, the Texas Data Privacy and Security Act has a small business exclusion. The Texas Data Privacy and Security Act generally applies to persons that conduct business in Texas or produce products or services consumed by residents of Texas and excludes small businesses as defined by the U.S. Small Business Administration (which applies to businesses with fewer than 500 employees). Further, while the Texas Data Privacy and Security Act does not apply broadly to small businesses, it does include a provision prohibiting small businesses from engaging in the sale of sensitive data without receiving prior consent from the consumer. All three new consumer data privacy laws include a number of exemptions, including for financial institutions subject to the Gramm-Leach-Bliley Act.

The Texas and Montana privacy laws impose separate responsibilities on controllers and processors. Both acts define a controller as an individual or legal entity that, “alone or jointly with others, determines the purpose and means of processing personal data.” A processor “processes personal data on behalf of a controller.” Determining whether a person is acting as a controller or processor with respect to a specific processing of data is a fact-based determination. A processor must adhere to the instructions of a controller and assist the controller in meeting its obligations, including obligations related to data security and breach notification, as well as providing necessary information to enable the controller to conduct and document data protection assessments.

Both the Montana and Texas privacy laws subject controllers to purpose specification and limitation requirements, data security requirements, disclosure requirements, nondiscrimination requirements, data protection assessment requirements, and opt-in consent requirements for sensitive data.

All three consumer data privacy laws provide consumers with a number of rights related to their personal data. Consumers, by submitting a request to the controller, have the right to know whether the controller is processing the consumer’s personal data; the right to correct inaccuracies; the right to delete their personal data; the right to receive access to the data; and the right to opt out from a controller’s processing of personal data used for the sale of the data, targeted advertising, or certain profiling.

The Oregon Consumer Privacy Act contains heightened protections (i.e., a requirement that data may not be processed without a consumer’s affirmative “opt-in” consent) for “sensitive data.” This includes personal data revealing racial or ethnic background; national origin; religious beliefs; mental or physical condition or diagnosis; sexual orientation; gender identity; crime victim status; citizenship or immigration status; genetic or biometric data; and precise geolocation data. The Oregon Consumer Privacy Act also requires controllers to provide a comprehensive privacy notice that includes: the categories of data processed; purposes for processing data; how to exercise consumer rights; categories of data shared with third parties and categories of third parties receiving data; and contact information.

Notably, none of the three new consumer data privacy laws provide consumers with a private right of action. The attorney general in each state holds the exclusive authority to enforce the law. In Texas and Montana, the attorneys general must provide written notice that includes the specific provisions that have been violated and an opportunity to cure the violation. The attorney general must provide thirty days’ written notice in Texas and sixty days’ written notice in Montana. If the controller or processor fails to cure the violation within the time period, the attorney general may initiate an enforcement action. In Oregon and Texas, the attorneys general can seek civil penalties of up to $7,500 for each violation.

Mortgage originators and secondary market issuers use automated valuation models (AVMs) in determining the worth of collateral securing mortgages on consumers’ principal dwellings. As part of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act), which added section 1125 to the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (FIRREA), Congress directed the Board of Governors of the Federal Reserve System (Board), the Office of the Comptroller of the Currency (OCC), the Federal Deposit Insurance Corporation (FDIC), the National Credit Union Administration (NCUA), the Federal Housing Finance Agency (FHFA), and the Consumer Financial Protection Bureau (CFPB) (hereinafter, the “Agencies”) to develop regulations for quality control standards for AVMs.

Section 1125 of FIRREA requires that AVMs meet quality control standards designed to:

1. ensure a high level of confidence in the estimates produced by automated valuation models;
2. protect against the manipulation of data;
3. seek to avoid conflicts of interest;
4. require random sample testing and reviews; and
5. account for any other such factor that the Agencies determine to be appropriate.

On June 21, 2023, the Agencies published a proposed rule (hereinafter the “Proposal”) in the Federal Register to implement the required quality control standards. Under the Proposal, the Agencies would require institutions that engage in certain credit decisions or securitization determinations to adopt policies, practices, procedures, and control systems to: (i) ensure that AVMs used in transactions to determine the value of mortgage collateral adhere to quality control standards designed to ensure a high level of confidence in the estimates produced by AVMs; (ii) protect against the manipulation of data; (iii) seek to avoid conflicts of interest; (iv) require random sample testing and reviews; and, (v) comply with applicable nondiscrimination laws.

Comments must be received by August 21, 2023.

What Is an AVM?

As described in the Proposal, the term ‘‘automated valuation model’’ is “commonly used to describe computerized real estate valuation models used for a variety of purposes, including loan underwriting and portfolio monitoring.” Section 1125 of FIRREA defines an AVM as ‘‘any computerized model used by mortgage originators and secondary market issuers to determine the collateral worth of a mortgage secured by a consumer’s principal dwelling.’’ The Proposal defines an AVM as any computerized model used by mortgage originators and secondary market issuers to determine the value of a consumer’s principal dwelling collateralizing a mortgage.

Which Transactions Would Be Covered?

The quality control standards in the Proposal would be applicable only to AVMs used in connection with making credit decisions or covered securitization determinations regarding a mortgage (covered AVMs), as defined in the Proposal.

Other uses of AVMs, such as for portfolio monitoring, do not involve making a determination of collateral value and thus are not within the scope of the Proposal. The Proposal further would not cover the use of AVMs in the development of an appraisal by a certified or licensed appraiser, nor in the review of the quality of already completed determinations of collateral value (completed determinations).

The Proposal would, however, cover the use of AVMs in preparing evaluations required for certain real estate transactions that are exempt from the appraisal requirements under the appraisal regulations issued by the OCC, Board, FDIC, and NCUA, such as transactions that have a value below the exemption thresholds in the appraisal regulations. In this regard, the Proposal would not incorporate a transaction-based exemption threshold, such as loans under $400,000.

Credit decisions are defined in the Proposal to mean a decision regarding whether and under what terms to originate, modify, terminate, or make other changes to a mortgage. The proposed definition of credit decision would include a decision regarding whether to extend new or additional credit or change the credit limit on a line of credit. Monitoring the value of the underlying real estate collateral in the mortgage originators’ loan portfolios would not be a credit decision for the purposes of the Proposal.

The OCC, Board, FDIC, NCUA, and FHFA would define dwelling to mean a residential structure that contains one to four units, whether or not that structure is attached to real property. The term would include an individual condominium unit, cooperative unit, factory-built housing, or manufactured home, if any of these are used as a residence. The proposed definition of dwelling also would provide that a consumer can have only one principal dwelling at a time. Thus, a vacation or other second home would not be a principal dwelling. However, if a consumer buys or builds a new dwelling that will become the consumer’s principal dwelling within a year or upon the completion of construction, the new dwelling would be considered the principal dwelling.

The CFPB proposes to codify the AVM requirements in Regulation Z. The definition of dwelling proposed by the other agencies is consistent with the CFPB’s existing Regulation Z. Unlike the Truth in Lending Act (TILA), however, title XI generally does not limit its coverage to credit transactions that are primarily for personal, family, or household purposes. Because this rulemaking is conducted pursuant to title XI rather than TILA, the CFPB proposes to revise Regulation Z and related commentary to clarify that this rule would apply when a mortgage is secured by a consumer’s principal dwelling, even if the mortgage is primarily for business, commercial, agricultural, or organizational purposes.

The Proposal would define mortgage as fully as the statute appears to envision, in the language of section 1125(d). Consequently, for this purpose, the Agencies would adopt in part the Regulation Z definition of ‘‘residential mortgage transaction.’’

The Proposal would also cover instances where an appraisal waiver is granted by an investor (such as a government-sponsored enterprise like Fannie Mae or Freddie Mac) and the investor uses an AVM.

Prior Guidance and Which Entities Would Be Covered by Which Agencies under the Proposal

Since 2010, the OCC, Board, FDIC, and NCUA have provided supervisory guidance on the use of AVMs by their regulated institutions in Appendix B to the Interagency Appraisal and Evaluation Guidelines (hereinafter “Guidelines”).

The Guidelines recognize that an institution may use a variety of analytical methods and technological tools in developing real estate valuations, provided the institution can demonstrate that the valuation method is consistent with safe and sound banking practices. The Guidelines recognize that the establishment of policies and procedures governing the selection, use, and validation of AVMs, including steps to ensure the accuracy, reliability, and independence of an AVM, is a sound banking practice. In addition to Appendix B of the Guidelines, the OCC, Board, and FDIC have issued guidance on model risk management practices (hereinafter “Model Risk Management Guidance”) that provides supervisory guidance on validation and testing of models.

The NCUA is not a party to the Model Risk Management Guidance. The NCUA monitors the model risk efforts of federally insured credit unions through its supervisory approach by confirming that the governance and controls for an AVM are appropriate based on the size and complexity of the transaction; the risk the transaction poses to the credit union; and the capabilities and resources of the credit union. The CFPB and FHFA are also not parties to the Guidelines or the Model Risk Management Guidance. The FHFA has separately issued model risk management guidance that provides the FHFA’s supervisory expectations for its regulated entities in the development, validation, and use of models.

Section 1125(c)(1) of FIRREA provides that compliance with regulations issued under section 1125 shall be enforced by, “with respect to a financial institution, or subsidiary owned and controlled by a financial institution and regulated by a Federal financial institution regulatory agency, the Federal financial institution regulatory agency that acts as the primary Federal supervisor of such financial institution or subsidiary.’’

Section 1125(c)(1) applies to a subsidiary of a financial institution only if the subsidiary is (1) owned and controlled by a financial institution and (2) regulated by a federal financial institution regulatory agency. Section 1125(c)(2) provides that, with respect to other participants in the market for appraisals of one-to-four-unit single-family residential real estate, compliance with regulations issued under section 1125 shall be enforced by the Federal Trade Commission, the CFPB, and a state attorney general.

The NCUA has long acknowledged that subsidiaries of federally insured credit unions—also referred to as credit union service organizations (CUSOs)—and their employees are not subject to regulation by the NCUA as contemplated by Congress under statutory provisions similar to section 1125(c). Unlike the Federal banking agencies that do have supervisory and regulatory authority over subsidiaries of their regulated institutions, the NCUA does not have authority to supervise or examine subsidiaries owned and controlled by federally insured credit unions. Rather, the NCUA’s regulations only indirectly affect CUSOs. For example, NCUA’s regulations permit federally insured credit unions to invest only in CUSOs that conform to certain specified requirements.

The Proposal would not alter that position. If the Proposal is made final, given that in the context of federally insured credit unions the authority under section 1125(c)(1) applies to subsidiaries owned and controlled by a federally insured credit union and regulated by the NCUA, the NCUA would not take action to enforce the requirements of this rule under section 1125(c)(1) with respect to CUSOs. Rather, under section 1125(c)(2), the Federal Trade Commission, the CFPB, and state attorneys general would have enforcement authority over CUSOs—whether owned by a state or federally chartered credit union—in connection with a final AVM rule. Accordingly, the Proposal would provide that the NCUA’s regulations apply to credit unions insured by the NCUA that are mortgage originators or secondary market issuers.

The NCUA is also proposing to amend its regulations to clearly include the proposed AVM regulations in the NCUA’s list of regulatory provisions applicable to federally insured, state-chartered credit unions. Accordingly, the Proposal would provide that insured credit unions must adhere to these NCUA requirements.

Required Procedures and Prohibition on Discrimination

The Proposal would require adopting and maintain policies, practices, procedures, and control systems to ensure that AVMs used in relevant transactions adhere to quality control standards addressing the first four factors laid out in Section 1125 of FIRREA. This would allow mortgage originators and secondary market issuers flexibility to set quality control standards for covered AVMs “based on the size of their institution and the risk and complexity of transactions for which they will use covered AVMs.”

These quality control factors are consistent with practices that many participants in the mortgage lending market already follow and with the Guidance described above.

The Agencies considered whether to propose more prescriptive requirements for the use of AVMs and decided not to do so. The Agencies concluded that the statute does not require the Agencies to set prescriptive standards for AVMs. Further, because section 1125 provides the Agencies with the authority to ‘‘account for any other such factor’’ that the Agencies ‘‘determine to be appropriate,” the Agencies also propose to include a fifth factor that would require mortgage originators and secondary market issuers to adopt policies, practices, procedures, and control systems to ensure that AVMs used in connection with making credit decisions or covered securitization determinations adhere to quality control standards designed to comply with applicable nondiscrimination laws.

The Proposal notes that existing nondiscrimination laws apply to appraisals, and AVMs and institutions have a preexisting obligation to comply with all federal laws, including federal nondiscrimination laws. For example, the Equal Credit Opportunity Act (ECOA) and its implementing Regulation B bar discrimination on a prohibited basis in any aspect of a credit transaction. The Agencies have long recognized that this prohibition extends to using different standards to evaluate collateral, which would include the design or use of an AVM in any aspect of a credit transaction in a way that would treat an applicant differently on a prohibited basis or result in unlawful discrimination against an applicant on a prohibited basis. Similarly, the Fair Housing Act prohibits unlawful discrimination in all aspects of transactions related to residential real estate transactions, including appraisals of residential real estate.

The Agencies note that, as with models more generally, there are increasing concerns about the potential for AVMs to produce property estimates that reflect discriminatory bias, such as by replicating systemic inaccuracies and historical patterns of discrimination. Models could discriminate because of the data used or other aspects of a model’s development, design, implementation, or use. Attention to data is particularly important to ensure that AVMs do not rely on data that incorporate potential bias and create discrimination risks.

Because AVMs arguably involve less human discretion than appraisals, AVMs have the potential to reduce human biases. Yet without adequate attention to ensuring compliance with federal nondiscrimination laws, AVMs also have the potential to introduce discrimination risks. Moreover, if models such as AVMs are biased, the resulting harm could be widespread because of the high volume of valuations that even a single AVM can process.

While existing nondiscrimination law applies to an institution’s use of AVMs, the Agencies propose to include a fifth quality control factor relating to nondiscrimination to heighten awareness among lenders of the applicability of nondiscrimination laws to AVMs. Specifying a fifth factor on nondiscrimination would create an independent requirement for institutions to establish policies, practices, procedures, and control systems to specifically address nondiscrimination, thereby further mitigating discrimination risk in use of AVMs. Specifying a nondiscrimination factor may also increase confidence in AVM estimates and support well-functioning AVMs. In addition, specifying a nondiscrimination factor could help protect against potential safety and soundness risks, such as operational, legal, and compliance risks, associated with failure to comply with nondiscrimination laws.

The Agencies propose that institutions would have the flexibility to design fair lending policies, procedures, practices, and control systems that are in compliance with fair lending laws and take into account their business models regarding the first four quality control factors listed above.

Proposed Implementation Period

The Agencies propose an effective date of the first day of a calendar quarter following the twelve months after publication in the Federal Register of any final rule based on the Proposal.

One thing you can do this summer to advance the Rule of Law is to take the recently launched American Bar Association (ABA) research survey on AI & Economic Justice, and share it widely with your networks, on your listservs, and in your community forums.

The question of how AI and AI regulation impact low-income and marginalized people is important for ensuring the Rule of Law. At its core, the Rule of Law is a political ideal that all citizens and institutions within a country, state, or community are accountable to the same laws. The Rule of Law is essential to a stable and healthy business environment, as it facilitates the social, political, and legal stability necessary for such an environment. As technology fundamentally transforms what people can do and how they interact, ensuring accountability at all levels of society, across all pockets and corners of society, becomes essential to the very fabric, integrity, and stability of our legal system. As issues of access to justice most often impact those with limited means, taking extra efforts to account for equal enforcement of the laws at the margins of society helps us better assess whether our system is, in fact, holding everyone accountable to the same standards. This injects our legal system, and our society at large, with considerable stability.

This bar year, through the leadership of the ABA’s Civil Rights and Social Justice Section (CRSJ) Chair Juan Thomas, the ABA has been focused on shedding light on economic justice issues that are inextricably connected to the CRSJ’s broader civil rights agenda. In line with the theme of economic justice, through collaboration between its Economic Justice and Privacy and Information Protection committees and with support and cooperation from across the ABA, CRSJ developed a project that focused on understanding how artificial intelligence impacts low-income people and other marginalized groups. According to CRSJ Chair Thomas, the project aims to “promote public policy solutions that understand and support the important balance between technological advancement and social justice.”

Initial research by the project leadership team showed that public attention on this issue was moving from one hot topic to the next, without any information on the overall or systematic harms and benefits that AI is creating for marginalized groups. There was a palpable need for an organized mapping of the impacts and touchpoints of AI and AI regulation for low-income people and other marginalized groups. To begin the work, CRSJ designed the AI & Economic Justice Survey.

To take the survey, please visit ambar.org/ai, the online landing page for the survey. Here, you will find more information about the project, a recording of a webinar where members of the AI & Economic Justice Project provide guidance on how to take the survey, and a link to the survey itself. Project leader Marilyn Harbur, co-chair of the Economic Justice Committee, emphasizes the importance of sharing the survey broadly with others as well as filling it out yourself. Alert your friends and colleagues, especially those working with clients located in remote areas. Project leader Alfred Mathewson sees that survey “as your opportunity to help the legal profession assure that no one is unfairly burdened by the A.I. explosion.” He encourages people to take the survey and to spread the word to colleagues and friends.

According to Chair Thomas, “The ABA Section of Civil Rights & Social Justice has launched the ‘AI & Economic Justice Project’ because artificial intelligence (AI) is shaping and changing aspects of our society in innovative ways. From facial recognition to deepfake technology to criminal justice, and health care, these applications are seemingly endless, and more is to come. However, with advances in AI, we must also be focused on protecting vulnerable communities, because in recent years, algorithmic decision-making has produced unfair bias: inequitable, discriminatory, and otherwise problematic results in significant areas of the American economy.”

The survey is a first-of-its-kind ABA research survey designed to identify the ways that AI and automation are impacting low-income and marginalized populations. It is an iterative survey that works to map out what remains a relatively unknown territory. What is learned this year will contribute to improving the survey for next year. Through iterative and annual surveys, the aim is to establish the ABA as a repository for important and time-sensitive information about the impact of technological change on low-income people and other marginalized groups. In addition to helping the ABA set and fine-tune policy, from a business perspective, such a repository would also support business lawyers by flagging areas of potential business risk and opportunity.

With the support and direction of CRSJ Chair Thomas and CRSJ Section Director Paula Shapiro, the project was lifted to the attention of the broader ABA community and has, thus, benefitted from the knowledge and skill of the broader ABA membership. A call for volunteers and support resulted in more than one hundred responses from members across the ABA and an ABA-wide convening on the proposed format and content of the survey. The convening was organized and facilitated by project leaders, including Christopher Frascella, Grant Fergusson, Susan Berstein, and Rubin Roy, with coordination from CRSJ Associate Director Alli Kielsgard and help from CRSJ interns.

In addition to being supported by a sizeable leadership team with members from across various ABA Sections and committees, the survey owes particular thanks to enthusiastic and expert partners from the Cybersecurity Legal Task Force, Judge Alvin Thompson and John Stout of the Business Law Section’s Rule of Law Working Group, and the Science and Technology Law Section, among others.

As an illustration of the project‘s approach, project leader James Pierson, co-chair of the Economic Justice committee, points to comments from FTC Commissioner Rebecca Kelly Slaughter in an August 2021 article on “Algorithms and Economic Justice.” There, Slaughter points out the need for balance, as the new technology is “neither a panacea for the world’s ills nor the plague that causes them.” Slaughter cites the words of MIT-affiliated technologist R. David Edelman, “AI is not magic; it is math and code.” She goes on to caution that “just as the technology is not magic, neither is any cure to its shortcomings. It will take focused collaboration between policymakers, regulators, technologists, and attorneys to proactively address this technology’s harms while harnessing its promise.”^[1]

In that spirit, the project leaders ask you to join them in focused collaboration in completing the survey and supporting the ABA AI & Economic Justice project with your expertise so that all members of society, particularly those who may be of a more vulnerable socioeconomic status or in a protected category under the law, may be beneficiaries and not targets or victims of advances in artificial intelligence.

This article is part of a series on intersections between business law and the rule of law, and their importance for business lawyers, created by the American Bar Association Business Law Section’s Rule of Law Working Group. Read more articles in the series.

1. Rebecca Kelly Slaughter with Janice Kopec and Mohamad Bata, “Algorithms and Economic Justice: A Taxonomy of Harms and a Path Forward for the Federal Trade Commission,” Yale Journal of Law & Technology, page 6 (August 2021). ↑

“ESG” refers to the three broad pillars of Environmental, Social, and Governance considerations, which have become increasingly important in assessing certain for-profit businesses, especially publicly traded ones. With ever-intensifying demands from regulators, investors, and the public for attention to ESG issues, for-profit companies are increasingly focused on ESG considerations, initiatives, and compliance. ESG-related shareholder and class-action litigation, governmental investigations, and enforcement actions in the corporate world have expanded at a rapid clip. In addition, regulators both in and outside of the United States have promulgated new mandatory rules, disclosure obligations, and enforcement mechanisms for ESG-related conduct. The Securities and Exchange Commission (“SEC”), the Federal Trade Commission (“FTC”), and state attorneys general have taken the regulatory enforcement lead domestically.

While there are no universal definitions of ESG, the three primary ESG pillars generally involve the following issues, among others:

• Environmental: climate change, resource depletion, waste and pollution, and deforestation.
• Social: working conditions, employee relations and DEIA, health and safety, interaction with local communities (including indigenous communities), and conflict and humanitarian crises.
• Governance: board diversity and structure, executive compensation, and ethics.

While ESG is a broader concept than Diversity, Equity, Inclusion, and Accessibility (“DEIA”), it includes and incorporates DEIA. DEIA programs fostering the hiring and promotion of African American employees and other underrepresented workers have been prominent in corporate America in recent years. For-profit corporations have been under enormous scrutiny of late regarding their hiring and promotion policies and practices—from both the left and right sides of the political aisle. A number of states have passed laws and issued executive orders requiring, or in some cases prohibiting, DEIA practices. Most recently, the U.S. Supreme Court’s June 2023 decision banning race-conscious college admissions—and the rationale underlying it—have raised concerns about the ruling’s potential broader implications, particularly in federal employment law, and perhaps even more broadly, such as in connection with federal funding. And even in advance of future court rulings, concerns have been raised about the possibility of some employers’ curtailing current diversity efforts in the workplace and halting new ones.

ESG and DEIA are controversial in some circles. There is a growing attack from the political right on corporate policies aimed at diversity in hiring and promotion and other social and environmental goals, with that attack taking the form of lawsuits, requesting agency investigations, congressional investigations, public pressure, and more.

So, what does any of this have to do with nonprofits? While nonprofit organizations are not subject to the specific ESG regulatory requirements and legal standards applicable to certain for-profit companies (such as those enforced by the SEC), nonprofits have incorporated DEIA into their programs, activities, governance, and operations for years, and they are increasingly voluntarily incorporating ESG principles and practices into their organizations. They may do so under pressure from their boards of directors, employees, grant-makers, donors, sponsors, advertisers, and other third parties. They also may do so in order to attract and retain a younger generation of staff that is increasingly sensitized to and mindful of ESG principles.

In doing so, nonprofits expose themselves to potential legal jeopardy in a wide array of areas. This article explains the legal risks inherent to ESG-related initiatives for nonprofit organizations and provides practical tips and guidance on how nonprofits can effectively mitigate those risks.

The Primary Legal Risks of Nonprofit ESG Programs

When a nonprofit organization voluntarily decides to weave ESG principles and practices into its organizational and operational fabric, it is taking on a certain degree of legal risk. To be sure, that risk is not anything remotely like the risk faced by for-profit companies—particularly publicly traded companies—that are subject to ESG statutory and regulatory mandates from the SEC and elsewhere. Nonprofits are not subject to such mandates. Nonetheless, nonprofits do face ESG-related legal risks. A non-exhaustive list of such risks follows.

Employment Law: ESG initiatives—particularly those that involve DEIA issues—can involve changes to hiring and promotion practices, workplace diversity, and employee compensation and benefits, which can trigger employment-related legal risks such as discrimination, harassment, and wrongful termination claims. This is nothing new, and laws like Title VII of the federal Civil Rights Act and state equivalents have been applied to nonprofit employers for more than fifty years. But what is new is the potential impact of the U.S. Supreme Court’s June 2023 ruling (Students for Fair Admissions v. Harvard and Students for Fair Admissions v. University of North Carolina) rejecting race-conscious admissions in higher education. While the new decision does not impede employers from pursuing diversity in their workforces (as it is limited solely to higher education admissions), many experts maintain that, as a practical matter, the ruling will likely discourage some employers from putting in place ambitious diversity policies in hiring and promotion—or prompt them to rein in existing policies—by encouraging new lawsuits in the employment arena under the new legal standard. In principle, the logic of the Court’s ruling on college admissions could threaten employer programs that, as of today, can take race into account if workers were previously excluded from a job category based on race or can do so to remove obstacles (such as unconscious bias) that prevent employers from having a more diverse workforce. But the more meaningful effect of the Court’s decision is likely to be greater pressure on policies that were already on questionable legal ground. These could include, for instance, staff leadership acceleration programs or internship programs that are open only to members of underrepresented groups. It also would not be surprising to see the Court use the ruling’s rationale to limit race-conscious initiatives in other aspects of nonprofit governance and management in the future, such as if federal funds are involved.

State Laws and Executive Orders Restricting DEIA Policies, Trainings, and Practices: Effective July 2022, Florida’s Individual Freedom Act, or the so-called “Stop WOKE” law, restricts diversity-related training in private Florida workplaces—including nonprofits based in Florida or (presumably) that have Florida-based employees—and also bars the teaching of critical race theory in K-12 schools and universities. That law is currently the subject of litigation that is working its way through the courts. In February 2023, Texas Governor Greg Abbott issued a memorandum to state agencies warning them to not use any DEIA programs in hiring that are “inconsistent” with Texas law, including setting diversity goals or interview targets for diverse candidates. While the memorandum is limited to public employers, it is unclear whether the governor may take similar action toward private employers in Texas. While California had adopted laws requiring certain racial, ethnic, and gender diversity on boards of directors of public companies headquartered in California, both laws have been struck down by courts, and appeals are underway. Observers widely expect a proliferation of such laws and executive orders restricting DEIA policies, trainings, and practices in a variety of “red” states. Beyond the employment realm, it would not be surprising to see new state laws and executive orders that could effectively prohibit DEIA initiatives in other aspects of nonprofit governance and management, such as board composition, volunteer leader selection, and grantmaking, as well as government grants, contracts, and cooperative agreements.

Misrepresentation and Greenwashing: There is a risk of publicly misrepresenting or overstating a nonprofit’s ESG performance, which could lead to charges of “greenwashing” or otherwise engaging in deceptive or misleading conduct. This could result in donor or funder backlash, reputational damage, and potentially even regulatory enforcement by state attorneys general, as well as private litigation. While nonprofits should always be mindful of these longstanding risks of making misleading or non-substantiated claims in connection with all of their programs and activities—well beyond ESG—the legal and public relations risks can be particularly acute here.

“Derivative” Suits: Nonprofits that incorporate ESG into their investment policy statement and base investment decisions, in part, on ESG criteria and then face material investment losses may risk being on the opposite end of “derivative”-type lawsuits alleging that the nonprofit’s board of directors and/or investment committee were not prudent stewards of the organization’s resources.

Data Privacy and Security: Nonprofits’ ESG activities often involve, in part, collecting, processing, and storing sensitive data about volunteer leaders, employees, donors, funders, and other stakeholders. There is a risk of data breaches or mishandling of information, which could result in legal action, regulatory penalties, and reputational harm. If a data breach occurs, there is an ever-increasing web of requirements imposed by state, federal, and international laws that must be followed.

Mitigating the Legal Risks of Nonprofit ESG Programs

To mitigate these legal risks, there are a number of proactive steps that nonprofit organizations can take. Below is a non-exhaustive list:

• Ensure that your nonprofit’s employment policies and practices are fully compliant with all current federal and state legal standards in areas involving discrimination, harassment, wrongful termination, and otherwise. This necessarily means ensuring that any current or future employment diversity initiatives are narrowly tailored as permitted by current law and do not result in discrimination. It also means not overreacting to the June 2023 U.S. Supreme Court decision involving race-conscious college admissions but keeping a close eye on future legal developments in the employment context. For those nonprofits with remote employees in different states, remember that state employment laws generally apply to any employee who regularly works from the state, irrespective of where the organization is based. Be sure to always consult with employment counsel fluent in both federal law and the laws of the applicable states. Finally, outside of the workplace setting, keep an eye on future rulings from the U.S. Supreme Court that could apply the rationale underlying the college admission decision to other aspects of nonprofit governance and management, for instance if federal funds are involved.
• While Florida’s Individual Freedom Act includes nonprofits based in Florida (and presumably those with Florida-based employees) in its restrictions on diversity-related training in private Florida workplaces, most other state laws and executive orders to date that restrict DEIA policies, trainings, and practices do not apply to nonprofits. That may well change in the coming months and years, however, particularly in certain “red” states. It is important to stay on top of all new state developments in this area—both those affecting the workplace and those potentially affecting other aspects of nonprofit governance and management—and take all necessary steps to comply with them.
• Ensure that all public statements regarding your nonprofit’s ESG performance are accurate, fully substantiated with appropriate data and documentation, and not in any way overstated, misleading, or deceptive.
• Working with a professional investment advisor, adopt an investment policy statement that reflects the nonprofit’s priorities, goals, risk tolerance, and financial needs but that is defensible as being reasonable, prudent, and appropriate. Be sure to revisit it on a regular basis and update it as needed.
• Implement strong data privacy and security measures to protect sensitive information about nonprofit volunteer leaders, employees, donors, funders, and other stakeholders and to mitigate the risk of data breaches or mishandling of such information. If a data breach occurs, be sure to closely follow the ever-increasing requirements imposed by state, federal, and international laws.
• Develop clear and consistent ESG policies and practices that align with your nonprofit’s values and mission, as well as expectations of donors, funders, and other stakeholders.
• Regularly engage with stakeholders such as donors, funders, and employees to ensure that your nonprofit’s ESG initiatives are transparent and meet their needs.
• Maintain up-to-date knowledge of applicable state, federal, and international ESG-related laws and regulations, and ensure full compliance with them.
• As with all areas of legal risk management, work with experienced legal counsel to help your nonprofit navigate the complex and ever-changing legal landscape governing ESG initiatives.

Conclusion

While ESG initiatives are thus far not mandated for nonprofit organizations as they are for certain for-profit companies, for a variety of reasons, increasingly nonprofits are voluntarily incorporating ESG principles and practices into their organizations and operations. In doing so, nonprofits can gain certain benefits but also expose themselves to potential legal risk in a wide array of areas. That being said, if properly understood and appreciated by nonprofit executives and leaders, those risks can be effectively mitigated by incorporating a number of practical tips and suggestions.

For more information, contact Mr. Tenenbaum at [email protected].

The purpose of this commentary is twofold: (1) to identify deficiencies in the 340B statute^[1] related to the use of multiple contract pharmacies and delivery to them—deficiencies that have resulted in the need for courts to resolve issues through judicial interpretation, and (2) to encourage policymaker action to address these deficiencies.

Overview of 340B Program

Under the 340B program, the federal government requires drug manufacturers participating in Medicare or Medicaid to sell certain covered drugs to qualifying health-care organizations at discounted prices.^[2] Health-care organizations that qualify to enter the program—referred to as covered entities—include hospitals and providers serving low-income or rural populations.^[3] The maximum price that drug manufacturers may charge a covered entity for covered drugs is the average manufacturer price for the preceding quarter minus a statutorily mandated rebate.^[4] The discounts provided to covered entities typically range from 20 to 50 percent off the market price of eligible drugs.^[5] As of 2020, there were approximately 50,000 registered 340B covered entity sites, with 2021 discounted drug purchases totaling $44 billion,^[6] or approximately 7.6 percent of the $576.9 billion of nationwide pharmaceutical purchases in 2021.^[7]

Conceptually, covered entities can stretch scarce resource dollars by profiting from the difference between their 340B drug resales—paid at full Medicare and insurance reimbursement rates—and the discounted drug acquisition costs. Covered entities can use the profits to finance affordable patient care for underserved communities.^[8]

Misconduct

However, there are risks that covered entities and drugmakers may operate in ways that contradict Congress’s intentions. For example, of the 189 audits of covered entities performed by regulators in 2022, sixty-six—more than one-third—included findings of misconduct.^[9] Likewise in 2022, regulators issued at least thirty-four citations to drug manufacturers requiring refunds to covered entities.^[10]

Part of this contradiction can be attributed to statutory silence—the 340B statute does not require covered entities to use their profits in a way that subsidizes needed-but-unprofitable care.^[11] But even where the statute expressly prohibits abusive activities, certain business practices by covered entities have amplified the risks of abuse.^[12]

Covered Entities’ Use of Multiple Contract Pharmacies

Of particular concern is the covered entity practice of using multiple contract pharmacies to handle the delivery and dispensing of purchased 340B drugs.^[13]

When the 340B program first began, few covered entities had their own in-house pharmacies to manage purchased drugs.^[14] Thus, in order to expand the reach of the 340B program, the Department of Health and Human Services (“HHS”) allowed covered entities to dispense 340B drugs through contract pharmacies—pharmacies not owned or operated by covered entities.^[15]

The extent to which covered entities can use contract pharmacies to dispense medications purchased under the 340B program for their patients raises some concerns.^[16] Drug manufacturers have alleged that covered entities use multiple contract pharmacies to engage in prohibited practices,^[17] such as diversion of discount drugs to ineligible patients^[18] or duplicative discounting.^[19]

Federal Support for Covered Entities’ Use of Multiple Contract Pharmacies

Despite these concerns, federal regulators have required drugmakers to accept covered entity demands for use of multiple contract pharmacies. Under the HHS “ship to, bill to” process, the covered entity owns the drugs after purchase and is billed directly for them, but the drugmaker must physically deliver the drugs to all contract pharmacies that the covered entity designates.^[20] Beginning in 2010, HHS permitted covered entities to use an unlimited number of contract pharmacies as long as applicable legal requirements were satisfied. Drugmakers objected to the practice out of fears that it enables covered entities to avoid compliance mechanisms.^[21]

Pushback from Drugmakers

The 340B statute says nothing about contractual delivery terms, where drugmakers must physically deliver drugs sold, or what party has the right to make the delivery determination. Rather, the statute only imposes price restrictions on drugmakers.^[22] Thus, in 2020, three drugmakers—Sanofi, Novo Nordisk, and AstraZeneca—began requiring 340B covered entities to accept the drugmakers’ conditions for place of delivery.^[23] Essentially, the three drugmakers offered to deliver purchased drugs to either an in-house pharmacy or a single contract pharmacy of the covered entity’s choosing, but not multiple contract pharmacies.^[24]

HHS: Advisory Opinion No. 20-06

HHS responded by issuing Advisory Opinion No. 20-06, which stated that once drugs have been “purchased by” covered entities, the delivery point is irrelevant to the agreement.^[25] Likewise, because contract pharmacies have long been used in connection with the 340B program, HHS found that drugmaker-imposed restrictions on their use was impermissible.^[26] Thus, according to HHS, covered entities should be free to require physical delivery to contract pharmacies—and drugmakers must comply.^[27]

HHS: Lack of Broad Rulemaking and Interpretive Authority

Unfortunately for federal regulators, HHS lacks broad rulemaking or interpretative authority to achieve its policy goals.^[28] In general, a federal agency’s administrative powers are limited to those powers delegated to it statutorily by Congress.^[29] Furthermore, while courts will generally defer to reasonable agency interpretations of ambiguous statutes,^[30] such deference is granted only when the agency acts under statutorily delegated rulemaking authority.^[31] If an agency adopts a statutory interpretation beyond its statutory authority, the interpretation lacks the force of law.^[32]

Regarding the 340B program, HHS has only narrow rulemaking authority pertaining to three specific administrative functions. First, Congress authorized HHS to establish an administrative dispute resolution process for drugmakers and covered entities contesting the conduct of their counterparties.^[33] Second, the statute allows HHS to establish by regulation a schedule of civil monetary penalties for violations.^[34] Neither of these provisions grants HHS the authority to create contractual rights or impose contractual duties upon drugmakers or covered entities in their dealings with each other.

Finally, the statute directs HHS to issue regulations to define the standards and methodology for calculating the maximum price that drugmakers can charge covered entities—referred to as the ceiling price in the statute.^[35] This provision deals with the complex process of determining the average manufacturer price and the statutorily mandated rebate to which covered entities are entitled for each drug covered by the statute.^[36] Thus, HHS does have some authority to create substantive contractual rights between covered entities and drugmakers—the agency establishes the maximum price for any sale. But the authority to calculate the ceiling price is not necessarily a grant of authority to regulate other aspects of the contractual relationship between the drugmaker and the covered entity.

Third Circuit Ruling

Clearly, regulators are limited in their ability to achieve policy goals via regulatory guidance. Thus, after HHS issued Advisory Opinion No. 20-06 and then violation letters to Sanofi, Novo Nordisk, and AstraZeneca (on the basis that the companies were in violation of the contract pharmacy delivery requirement as specified by the advisory opinion), the drugmakers challenged the regulatory actions in court.^[37] In January 2023, the U.S. Court of Appeals for the Third Circuit ruled in favor of the plaintiffs in Sanofi Aventis U.S. LLC v. U.S. Department of Health & Human Services.^[38] The case consolidated conflicting federal district court rulings over whether Advisory Opinion No. 20-06 and the resulting violation letters were valid.^[39]

According to HHS, the ability to regulate the delivery point was inherent to its statutory authority to regulate the “purchase” of eligible drugs.^[40] HHS relied on the Uniform Commercial Code (U.C.C.) for its logic.^[41] Under the U.C.C., by default, ownership of goods passes from seller to buyer when the seller’s delivery responsibilities are complete.^[42] According to HHS, because a “purchase” by a covered entity necessarily requires a transfer of ownership, HHS may dictate that the covered entity gets to designate how it takes title by designating the place of delivery.^[43]

Furthermore, in Advisory Opinion No. 20-06 and before the Third Circuit, HHS conceded its limited regulatory rulemaking authority^[44]—but that was of little consequence, according to the agency. Because it had long required that drugmakers sell to contract pharmacies, HHS claimed Advisory Opinion No. 20-06 did not create any new substantive rights or duties.^[45] HHS argued that this long-standing practice, combined with the statutory authority inherent in its role of regulating 340B sales relationships between drugmakers and covered entities, justified its regulatory actions.^[46]

The Third Circuit disagreed, finding that HHS’s requirements on drugmakers exceeded what the statute permits:

The “purchased by” provision imposes only a price term for drug sales to covered entities, leaving all other terms blank. HHS has suggested that covered entities get to fill in those blanks so long as they foot the bill. However, when Congress’s words run out, covered entities may not pick up the pen.^[47]

Essentially, because the statute’s language states nothing about how the parties are to handle physical shipment and delivery of purchased drugs, there is no indication that Congress intended to give covered entities the authority to dictate those terms in their purchase agreements with drugmakers.

Implicit in the Third Circuit’s opinion were concepts from the U.C.C. distinguishing different rights under a contract for the sale of goods.^[48] An understanding of these distinct rights is key to understanding the flaws in HHS’s logic, as HHS was essentially dictating what rights must arise in a sales contract between covered entities and drugmakers without the statutory authority to do so.

Under the U.C.C., a contract may exist even if the parties do not agree on all terms, with “gap filler” provisions operative only when the parties do not have express agreement on the specific term.^[49] Among the U.C.C. gap filler terms are default provisions on price^[50] and place of delivery.^[51] Under those provisions, the parties’ express agreement trumps the U.C.C. default terms.

The Third Circuit opinion acknowledged that the 340B program allowed HHS to restrict the parties’ abilities to set their prices—drugmakers must sell at no more than the ceiling price set by HHS.^[52] But because the 340B statute is silent regarding place of delivery, there is no corresponding restriction on negotiating delivery terms.^[53]

The HHS advisory opinion misconstrued the U.C.C. provisions on this point. By default, under the U.C.C., ownership of goods transfers when the seller’s delivery obligations are complete. But contractual parties are free to negotiate an alternative moment of title transfer.^[54] Furthermore, if the parties do not agree on a place of delivery, delivery of goods is deemed to occur at the seller’s place of business.^[55]

Thus, under the default U.C.C. provisions, ownership of goods transfers at the seller’s place of business, and delivery to the buyer’s chosen location is not required by the U.C.C. for transfer of title or completion of sale. Contrary to HHS’s interpretation, the U.C.C. expressly contemplates that the buyer and seller can negotiate these terms.

HHS took the position that because it is responsible for enforcing the parties’ rights and duties with regard to the sale as a whole, it can regulate these sale terms.^[56] But, as the Third Circuit held, the 340B statute does not empower HHS to impose these contractual terms on the parties.^[57] The statute only expressly permits HHS to regulate price.^[58] HHS’s limited 340B rulemaking and interpretive authority prevents it from conflating other sale rights to reconcile ambiguity in the statute and otherwise achieve policy goals.

Other Court Action

As of February 2023, similar cases were pending in the U.S. Court of Appeals for the Seventh Circuit and the U.S. Court of Appeals for the D.C. Circuit, and court watchers do not expect a circuit split.^[59]

Likewise, other courts have ruled in favor of drugmakers that received violation letters from HHS for imposing contract pharmacy restrictions. For example, in November of 2021, in a lawsuit by Novartis and United Therapeutics, the district court found that the plaintiffs’ conditions imposed on qualifying 340B entities did not violate Section 340B as alleged in HHS’s violation letters.^[60] The court also found that the drugmakers provided “credible evidence” that using multiple contract pharmacies “increased the potential for fraud in the 340B program.”^[61] The court recognized, however, that HHS has “legitimate concerns about the degree to which the manufacturers’ new conditions have made it difficult for covered entities to obtain certain drugs at discounted prices.”^[62]

Significant Challenges for Covered Entities

If, as the Third Circuit held, the 340B statute imposes restrictions only on price, drugmakers can force acceptance of all other contract terms—and will have gained significant leverage in negotiating purchase agreements with covered entities.

A 2022 survey of 482 covered entities with contract pharmacy relationships details an anticipated $448,000 per entity annual loss for critical-access hospitals and a $2.2 million per entity annual loss for more extensive facilities after fourteen drugmakers announced restrictions, with more than 75 percent of covered entities needing to cut programs and services if the restrictions remain permanent.^[63]

Congressional Action Needed

Drugmakers, pharmacy benefit managers, and covered entities have competing interests related to the profit on the drug sales. In between, federal regulators seek to control their own Medicare reimbursement costs while promoting the congressionally intended benefits to health-care providers. Unfortunately, ambiguity in the 340B statute raises questions about the appropriate interpretation of the statute and the scope of HHS’s authority to ensure compliance with program goals.

While the 340B program has the attention of some lawmakers, proposed legislation does not address the specific issues with contract pharmacies or the general issues of regulatory empowerment. For example, on April 6, 2023, Representatives Abigail Davis Spanberger and Dusty Johnson introduced the “PROTECT 340B Act of 2023” in the U.S. House of Representatives.^[64] The bill primarily addresses reimbursement discrimination against covered entities by health insurers and pharmacy benefit managers.^[65] While the bill acknowledges the use of contract pharmacies, it does not give HHS the explicit statutory authority to direct when and how contract pharmacies may be used in the delivery of drugs.^[66]

The multitude of policy questions surrounding the 340B program will not be answered through litigation alone. These questions go beyond the use of contract pharmacies by covered entities and restrictions by drugmakers. Like a loose thread on a sweater, the more one pulls on 340B, the more the legislation unravels. For example, it is unclear whether the program fulfills its goal of expanding care to needy communities.^[67] And from a policy standpoint, observers question the appropriate use of the revenue generated by covered entities from 340B discounted drugs and who should qualify as a “patient” of a covered entity.^[68] Other commentators have highlighted the numerous administrative difficulties associated with the 340B program.^[69]

Courts are only willing to implement HHS’s reforms with explicit statutory authority.^[70] As courts strike down HHS efforts to pursue policy goals, congressional inaction may signal implicit acquiescence of a paralyzed administrative agency. To preserve the long-standing and often critical role of contract pharmacies in the 340B system, Congress must pass legislation expressly empowering HHS to coordinate their use.

The views expressed in this publication represent those of the author(s) and do not necessarily represent the official views of HCA Healthcare or any of its affiliated entities.

1. Public Health Service Act § 340B, 42 U.S.C. § 256b (2022). ↑

2. Id. § 256b(a). ↑

3. Id. § 256b(a)(4); see also Casey W. Baker et al., Is the 340B Hospitals Battle at the Supreme Court Over?, 11 Pharmacy Times Health Sys. Edition 34 (2022). ↑

4. 42 U.S.C. § 256b(a)(1)–(2). The 340B program incorporates pricing mechanics of § 1927(c) of the Social Security Act (codified at 42 U.S.C. § 1396r-8(c)) for calculating the required rebates. ↑

5. Karen Mulligan, The 340B Drug Pricing Program: Background, Ongoing Challenges, and Recent Developments (U.S.C. Schaeffer Ctr. for Health Pol’y & Econ. 2021). ↑

6. See Bobby Clark & Marlene Sneha Puthiyath, The Federal 340B Drug Pricing Program: What It Is, and Why It’s Facing Legal Challenges, Commonwealth Fund (Sept. 8, 2022). ↑

7. Eric M. Tichy et al., National Trends in Prescription Drug Expenditures and Projections for 2022, 79 Am. J. Health-Sys. Pharmacy 1158 (2022). ↑

8. See Joseph D. Bruch & David Bellamy, Charity Care: Do Nonprofit Hospitals Give More than For-Profit Hospitals?, 36 J. Gen. Internal Med. 3279 (2021); see also, Baker, supra note 3; Am. Hosp. Ass’n v. Becerra, 142 S. Ct. 1896, 1905–06 (2022). ↑

9. Program Integrity: FY22 Audit Results, Health Res. & Servs. Admin. (last updated May 22, 2023). ↑

10. Manufacturer Notices to Covered Entities, Health Res. & Servs. Admin. (rev. July 2023). ↑

11. See Stuart Wright, OEI-05-13-00431, Memorandum Report: Contract Pharmacy Arrangements in the 340B Program 3 (2014); see also 340B Reporting and Accountability Act, S. 1182, 118th Cong. § 2 (2023), which would require covered entities to pass savings on to patients upon the resale of the drugs. ↑

12. Wright, supra note 11, passim. ↑

13. Id. ↑

14. See Sanofi Aventis U.S. LLC v. U.S. Dep’t of Health & Hum. Servs., 58 F.4th 696, 700 (3d Cir. 2023). ↑

15. 59 Fed. Reg. 25,110, 25,111–12 (May 13, 1994) (In response to a comment requesting that the use of contract pharmacies be disallowed, HHS stated, “It is a customary business practice for manufacturers to sell to intermediaries as well as directly to the entity. Entities often use purchasing agents or contract pharmacies, or participate in GPOs [group purchasing organizations]. By placing such limitations on sales transactions, manufacturers could be discouraging entities from participating in the program. Manufacturers may not single out covered entities from their other customers for restrictive conditions that would undermine the statutory objective.”); see also Sanofi, 58 F.4th at 700. ↑

16. Sanofi, 58 F.4th at 700. ↑

17. Id. ↑

18. 42 U.S.C. § 256b(a)(5)(B) (2022). ↑

19. Id. § 256b(a)(5)(A)(i). ↑

20. 75 Fed. Reg. 10,272, 10,276–77 (Mar. 5, 2010). ↑

21. Sanofi, 58 F.4th at 700. While HHS does have the ability to audit covered entities, including those that have a contract pharmacy model in place, it is unclear how effective this practice is at preventing unlawful activities. See Program Integrity: FY22 Audit Results, supra note 9. ↑

22. See 42 U.S.C. § 256b(a). ↑

23. Sanofi, 58 F.4th at 700–01. ↑

24. Id. ↑

25. Dep’t of Health & Hum. Servs. Off. Gen. Couns., Advisory Op. 20-06 on Contract Pharmacies Under the 340B Program 2–3 (Dec. 30, 2020) [hereinafter Advisory Op. 20-06]. Note that HHS rescinded Advisory Opinion 20-06 while the litigation was pending. Nevertheless, the U.S. Court of Appeals for the Third Circuit considered the advisory opinion because HHS continued to hold the positions asserted therein. See Sanofi, 58 F.4th at 703. ↑

26. Advisory Op. 20-06, supra note 25, at 3–5. ↑

27. See Sanofi, 58 F.4th at 704. ↑

28. See Pharm. Rsch. & Mfrs. of Am. v. U.S. Dep’t of Health & Hum. Servs., 43 F. Supp. 3d 28 (D.C. Cir. 2014). ↑

29. See id. at 35 (citing Bowen v. Georgetown Univ. Hosp., 488 U.S. 204, 208 (1988); Atl. City Elec. Co. v. Fed. Energy Regul. Comm’n, 295 F.3d 1, 8 (D.C. Cir. 2002)). ↑

30. Chevron, U.S.A., Inc. v. Nat. Res. Def. Council, Inc., 467 U.S. 837 (1984). ↑

31. United States v. Mead, 533 U.S. 218, 226–27 (2001). ↑

32. See Pharm. Rsch. & Mfrs. of Am., 43 F. Supp. 3d at 36–37 (citing Mead, 533 U.S. at 234). ↑

33. 42 U.S.C. § 256b(d)(3)(A) (2022). This authority is limited to just six functions expressly enumerated in the statute—(1) designating or establishing a decision-making official or decision-making body to review and resolve claims by covered entities concerning overcharges, (2) establishing deadlines and procedures to make sure that claims are resolved fairly and expeditiously, (3) establishing discovery procedures for covered entities in connection with such claims, (4) requiring drugmakers to conduct audits of covered entities prior to initiating any claim for misconduct, (5) allowing consolidation of claims by more than one drugmaker against the same covered entity, and (6) allowing joint claims by multiple covered entities against the same drugmaker. See 42 U.S.C. § 256b(d)(3)(B); see also Pharm. Rsch. & Mfrs. of Am., 43 F. Supp. 3d at 42. ↑

34. 42 U.S.C. § 256b(d)(1)(B)(vi). ↑

35. Id. § 256b(d)(1)(B)(i)(I). ↑

36. See Pharm. Rsch. & Mfrs. of Am., 43 F. Supp. 3d at 43–44. ↑

37. Sanofi Aventis U.S. LLC v. U.S. Dep’t of Health & Hum. Servs., 58 F.4th 696, 701 (3d Cir. 2023). ↑

38. Sanofi, 58 F.4th 696. ↑

39. AstraZeneca Pharms. LP v. Becerra, 2022 U.S. Dist. LEXIS 27842 (D. Del. Feb. 16, 2022); Sanofi-Aventis U.S., LLC v. U.S. Dep’t of Health & Hum. Servs., 570 F. Supp. 3d 129 (D.N.J. 2021). ↑

40. Sanofi, 58 F.4th at 703–05. ↑

41. Advisory Op. 20-06, supra note 25, at 3. ↑

42. U.C.C. § 2-401(2) (2002). ↑

43. Advisory Op. 20-06, supra note 25, at 2–3. ↑

44. Sanofi, 58 F.4th at 703. ↑

45. Advisory Op. 20-06, supra note 25, at 4. ↑

46. Id. at 4–5. ↑

47. Sanofi, 58 F.4th at 704. ↑

48. U.C.C. art. 2 (2002). ↑

49. See id. § 2-204(3) (“Even though one or more terms are left open, a contract for sale does not fail for indefiniteness if the parties have intended to make a contract and there is a reasonably certain basis for giving an appropriate remedy.”). ↑

50. Id. § 2-305. ↑

51. Id. § 2-308. ↑

52. Sanofi, 58 F.4th at 704–05. ↑

53. Id. ↑

54. U.C.C. § 2-401(2) (“Unless otherwise explicitly agreed title passes to the buyer at the time and place at which the seller completes his performance concerning the physical delivery of the goods.” (emphasis added)). ↑

55. Id. § 2-308(a) (“Unless otherwise agreed . . . the place for delivery of goods is the seller’s place of business.” (emphasis added)). ↑

56. Sanofi, 58 F.4th at 704. ↑

57. Id. ↑

58. Id. ↑

59. Avalon Zoppo, SCOTUS Bound? After Appellate Ruling, What Is Next in 340B Drug Discount Cases?, N.Y. L.J., Feb. 15, 2023, at 2. ↑

60. Novartis Pharms. Corp. v. Espinosa, 2021 U.S. Dist. LEXIS 214824 (D.D.C. Nov. 5, 2021). ↑

61. Id. at *29. ↑

62. Id. ↑

63. 340B Health, Contract Pharmacy Restrictions Represent Growing Threat to 340B Hospitals and Patients Survey Results (2022). ↑

64. PROTECT 340B Act of 2023, H.R. 2534, 118th Cong. (2023). ↑

65. Id. § 3. ↑

66. Id. ↑

67. See Sunita Desai & J. Michael McWilliams, Consequences of the 340B Drug Pricing Program, 378 New Eng. J. Med. 539 (2018). ↑

68. See Mulligan, supra note 5. ↑

69. See Lowell M. Zeta, Comprehensive Legislative Reform to Protect the Integrity of the 340B Discount Program, 70 Food & Drug L.J. 481 (2015). ↑

70. See Novartis Pharms. Corp. v. Espinosa, 2021 U.S. Dist. LEXIS 214824, at *30 (D.D.C. Nov. 5, 2021) (“[A]ny future enforcement action must rest on a new statutory provision, a new legislative rule, or a well-developed legal theory that Section 340B precludes the specific conditions at issue here.”). ↑

Start-ups and emerging companies are always seeking future investment opportunities. In recent years, a financing alternative called Simple Agreements for Future Equity (“SAFEs”) has gained popularity and proven useful for emerging companies when conducting their early-stage raises. SAFEs offer an efficient mechanism for raising capital in the early stages of an emerging company.

SAFEs emerged due to the need to bridge the financing gap during early-stage investments where the value of the company was unknown or difficult to determine. SAFEs enable companies to raise capital by granting investors the right to receive equity in the future, upon the occurrence of specific triggering events. This article explores the key provisions and advantages of utilizing SAFEs in comparison to other financing instruments. Additionally, this article will outline some of the key issues emerging companies should be aware of when structuring SAFEs and how to best avoid pitfalls that may arise when utilizing this financing option.

What Are SAFEs?

SAFEs are company-friendly investment contracts between the company and each investor that give the investor the right to receive equity of the company in the future upon the occurrence of certain triggering events. The main purpose of a SAFE is to enable an early-stage investment in a company to bridge finances until the occurrence of a ‎larger financing round. Upon such future financing round, the advance investment will convert into shares, ‎with the investor benefiting either from a discount in purchase price or a capped value.

SAFEs have gained popularity in recent years due to their distinct advantages over convertible notes, a topic that will be covered in a future article. Convertible notes often create conflicts with existing debt obligations and involve complex negotiations among different investors and institutions. Conversely, SAFE agreements offer a streamlined model that eliminates the need for intricate discussions surrounding interest rates and specific terms. This simplified process benefits both companies and SAFE holders, making SAFEs an attractive financing option.

Structuring the SAFE

It is important to note that SAFEs come in different variations, such as post-money SAFEs and pre-money SAFEs. Post-money SAFEs provide investors with a predetermined ownership percentage in the company after the occurrence of a future financing round. On the other hand, pre-money SAFEs do not account for the valuation of the future financing when determining the ownership percentage. Companies should carefully consider which type of SAFE best aligns with their financing goals and the expectations of their potential investors, as post-money SAFEs may lead to unintended anti-dilution protection on a full-ratchet basis in the event of a down round.

Key Provisions

In order to understand the benefits of and potential drawbacks to utilizing SAFEs, companies should be aware of the key provisions in a SAFE agreement, namely provisions relating to triggering events, valuation caps, discount rates, and most favored nations clauses.

Triggering Events

One of the main characteristics of a SAFE is that equity rights are granted whereby if the company undergoes a triggering event (which is defined in each SAFE agreement), the SAFE will convert into securities of the company. Triggering events tend to be subsequent financings of the company or liquidity events, such as the company commencing the bankruptcy or dissolution process. When a triggering event occurs, the holder has the benefit of the SAFE converting to equity at the negotiated discount in the SAFE, which allows the holder to obtain rights as a shareholder. Upon a dissolution, SAFE holders who have not converted their SAFE into securities would be paid the purchase amount they were guaranteed by the company before common shareholders are paid.

Discount Rate

This is a discount to the price per share outlined in the SAFE agreement that will be issued by the company to SAFE holders upon a triggering event. It is an incentive for investors to enter into a SAFE agreement, because purchasing the SAFE at earlier stages locks investors in to convert their SAFEs at a lower price upon a triggering event.

As an example, a company may incentivize early-stage investors through offering a SAFE that will convert at a price per share of $1.00. Upon the occurrence of a future financing at $1.20/share, the SAFE holder will receive the upside because the financing (which would constitute a triggering event) allows the SAFE holder to convert their SAFE into shares at $1.00/share.

Valuation Caps

Valuation caps are often used to establish the upper limit on the valuation of the company at which a SAFE will convert into shares. This has the effect of creating a floor for the percentage of the company the investor is purchasing. The valuation cap ensures that the SAFE holder receives a lower price per share than subsequent investors.

Most Favored Nations Clause

Most favored nations clauses may be used to provide a SAFE holder with certainty that, upon a future financing, if the terms of the future financing are more favorable to the investors than the SAFE is to the SAFE holder, the SAFE holder will receive the benefit of receiving the best terms for themselves. This serves as another incentive for investors to acquire SAFEs, because they won’t face the repercussions of investing too early if subsequent financings contain better terms.

Investor Protection

To ensure investor protection, SAFEs can incorporate provisions that grant transparency and information rights to SAFE holders. Regular updates on the company’s financials, milestones, and progress can be provided to investors, enabling them to make informed decisions about their investment. By fostering a relationship of trust and transparency, companies can attract and retain investors who feel confident in the growth trajectory of the company.

Tax Implications

Companies and investors should be mindful of the potential tax implications associated with SAFEs. The tax treatment of SAFEs can vary depending on the jurisdiction and individual circumstances. It is advisable to consult with tax professionals who can provide guidance on the specific tax implications of SAFEs, including any applicable capital gains taxes, reporting obligations, and potential tax advantages or disadvantages. By understanding the tax implications, companies and investors can effectively plan and strategize their financial decisions, ensuring compliance and optimizing their tax positions.

Exit Strategies

SAFE holders should consider the potential exit strategies available to them. While SAFEs provide the opportunity to convert into equity upon triggering events, investors may also seek liquidity through other avenues. Acquisition by another company, initial public offerings (IPOs), or secondary market sales are possible exit strategies for investors. Companies can proactively communicate their long-term plans and potential exit scenarios to investors, allowing them to evaluate the feasibility of realizing their investments and potential returns. By understanding the available exit strategies, investors can make informed decisions about their participation in early-stage companies.

Limitations and Considerations

It is important to acknowledge that SAFEs may not be suitable for all companies or industries. While SAFEs offer advantages, institutional investors or certain industries may prefer more traditional financing instruments, such as convertible notes or preferred stock. Companies should carefully assess their financing goals, investor preferences, and industry norms before deciding to adopt SAFEs. Additionally, legal and regulatory considerations, including compliance with securities laws and the enforceability of SAFEs, should be evaluated. Consulting legal professionals can help companies navigate the legal landscape and ensure that SAFEs are structured and implemented in a legally compliant manner.

Conclusion

For start-ups and emerging companies, SAFEs provide a compelling capital raising alternative, particularly in the early stages or when the company’s valuation is not yet established. SAFEs offer a simplified process, company-friendly provisions, and lower costs compared to other financing instruments. Investors are incentivized to participate early through discounted rates upon conversion of the SAFE into securities and potential preferential treatment during insolvency scenarios. By leveraging SAFEs, companies can access streamlined capital and fuel their growth without hindering immediate progress.

The creation and implementation of SAFEs should involve consultation with legal professionals. Legal counsel can provide guidance on complying with applicable securities laws, assessing the enforceability of SAFEs in different jurisdictions, and addressing any jurisdiction-specific regulations. By seeking legal advice, companies can mitigate potential legal risks, ensure compliance, and protect the rights of both the company and the investors. Legal professionals can also assist in drafting and negotiating the terms of SAFEs to accurately reflect the intentions and expectations of the parties involved, further enhancing the legal robustness of the agreements.

Introduction

“I have not failed. I’ve just found ten thousand ways that won’t work.” — Thomas Edison

Failed ideas and inventions, also known as “negative information,” can be economically valuable because anyone starting with knowledge of the dead ends can avoid spending time and resources on attempts that are ultimately going to fail. Clearly, negative information is valuable, but how does an economist value negative information? In this article, we explore techniques to overcome the challenges of determining the value of negative information, and show how negative information can inform allegations of trade secret theft in IP disputes.

Edison’s quote implies that failed ideas and inventions are valuable because they embody information on what does not work when creating something new. Unlike successful ideas and inventions, however, negative information is not priced by the market and is unlikely to directly generate any income. And yet a need to value negative information can arise in trade-secret-related disputes. In fact, the Uniform Trade Secrets Act from 1979 explicitly recognizes negative information as “information that has commercial value from a negative viewpoint, for example the results of lengthy and expensive research which proves that a certain process will not work could be of great value to a competitor.”^[1]

Waymo’s February 23, 2017, lawsuit^[2] against Uber for alleged theft of its trade secrets illustrates both the existence of and the need for valuing negative information. According to Waymo, Uber tried and failed to develop its own technology for a self-driving car, so it acquired Otto, a company started by a former Waymo employee who allegedly misappropriated Waymo’s technology. Waymo alleged that its employee’s theft of its intellectual property, including information about “dead-end designs,” allowed Uber (through Otto) to save a substantial amount of development time and cost. Waymo also claimed that its “extensive experience with ‘dead-end’ designs” and research findings that were unsuited for the market continued to be critical for its ongoing development^[3] and likely underpinned Otto’s $680 million valuation at acquisition despite having been on the market for only six months. In this example, negative information consists of Waymo’s dead-end designs and know-how of what does not work when developing technology for a self-driving car.

Cases similar to Waymo are common in the technology space, where cutting-edge research can often be unfruitful or unmarketable and yet informative for product development.^[4] In addition to ventures that are successful but only after many failed attempts (as in the Waymo example), negative information is often present in ventures that are ultimately deemed unsuccessful. Negative information can also be present in the valuation of ventures with significant research investments but prior to the development of any income-generating intellectual property.

The rationale for why negative information can be valuable is fairly intuitive; however, quantifying the value of negative information in general and particularly in the context of a trade secret dispute can be less straightforward. In the absence of comparables in the market and any attributable income, the only viable method for valuing negative information is a “cost to replicate” analysis.

A “cost to replicate” analysis attempts to answer a key “but-for” question: absent the alleged infringement of negative information, how much would it have cost the defendants to replicate the at-issue trade secret on their own? Importantly, the value of negative information is not how much it cost the plaintiffs in “creating” the negative information—a relatively simple accounting exercise—but what it would have cost the defendants to replicate it—an unknown counterfactual.

We begin in the next section with a brief note on recent trends in trade secret cases that underscore the importance of appropriately measuring the value of negative information.

Recent Trends in Trade Secret Cases in the US

Trade secret disputes in general—and particularly those in the technology space—have become more frequent due to a confluence of economic, legal, and regulatory factors. First, as the US workforce becomes increasingly more mobile—as has been the trend since the Great Recession^[5]—trade secret disputes are expected to increase. This is particularly true in the technology sector, where increasing demand and compensation have resulted in the largest churn in employees relative to all other job sectors.^[6] Negative information is at issue when an employee moves to a competitor and uses their knowledge of mistakes from their prior work to avoid making the same mistakes at their new place of employment. For example, in Novell, Inc. v. Timpanogos Research Group, Inc.,^[7] following a settlement between the parties, the defendant recognized that he “mistakenly believed that, because [he and others] had developed certain technology while employed by Novell, [they] could take elements of that technology with [them] when [they] left.”^[8]

Second, recent court decisions invalidated the patentability of certain types of subject matter (including patents related to software), thereby increasing reliance on trade secrets as an alternative for protecting intellectual property.^[9] All else being equal, a general increase in trade secrets implies a concurrent increase in trade secret disputes, including ones involving negative information.

Third, the Defend Trade Secrets Act of 2016 (DTSA) enabled business to sue and seek remedies for theft of trade secrets in either state or federal courts, thereby further increasing the likelihood of trade secret cases.^[10] And finally, trial outcomes for trade secret cases appear to be heavily skewed in favor of plaintiffs—almost 70% of the time in favor of plaintiffs—thus incentivizing plaintiffs to continue bringing their cases to court.^[11]

Typical Approaches to IP Valuation

As trade secrets disputes increase in volume and prominence, analysts need guidance for appropriately valuing the negative information components of these disputes. Valuation methods for intangible assets like intellectual property include income approaches, market approaches, or cost approaches.^[12] In the context of valuing negative information, the income and market approaches are typically inapplicable.

Income Approaches. Income approaches value intellectual property based on its potential to generate revenue or decrease future costs. For example, intellectual property that adds value to a product and increases its selling price can be valued by a discounted cash flow analysis of incremental profits. Negative information, however, does not manifest as any value-adding feature in a product or service and therefore lacks any attributable income. Market approaches value intellectual property based on arm’s-length transactions. For example, the price for licensing a patent can be informed by the licensor’s past or existing licenses for the same patent. Trade secrets are valuable in part because they are held in secret, and so it is rare for trade secrets in general to be licensed at arm’s length—and anyway it is difficult to imagine a traded market could exist for negative information.

Cost Approaches. Cost approaches are the valuation methods that can be applied to valuing negative information. A cost approach values intellectual property based on development costs. For negative information, cost approaches consider the costs avoided from not having to have invested in dead-end designs or failed procedures. For example, the costs incurred to develop intellectual property can inform on the cost savings proffered to a potential user of such intellectual property. Cost approaches don’t require consideration of future profits resulting from the use of intellectual property, which is useful because negative information is generally not associated with generating profit streams.

Academic studies of cost approaches distinguish between creation costs and re-creation costs.^[13] The former refers to the original development costs of intellectual property, while the latter are what it would cost to develop intellectual property at a later point in time, which may be different for multiple reasons, for instance changes in labor or materials prices, or advances in public knowledge.^[14]

A cost to replicate analysis aims to estimate re-creation costs, because it considers the cost the defendant would have incurred to replicate the intellectual property had they developed it themselves. In other words, the defendant saved itself development costs by misappropriating intellectual property. This can be considered unjust enrichment, and it can be calculated. In the Waymo-Uber matter, Waymo’s expert witness opined on Uber’s savings on development time by analyzing “the time periods that relate to the value of each of the trade secrets” and “the work that was foregone by virtue of… acquisition of the trade secrets.”^[15]

Cost to Replicate Analyses Can Be Complicated by Negative Information

Negative information can be valued with a cost to replicate analysis; however, there are complications unique to negative information. Academic studies have noted “the difficulty in proving that the nonuse of a mistake or dead-end experiment damaged the plaintiff or unjustly enriched the defendant.”^[16] When assessing economic harm, economic experts attempt to model the “but-for” world absent the alleged infringement. But it may be unreasonable to assume that defendants would have necessarily made the same mistakes or followed the same dead-ends as the plaintiffs did—in fact, defendants might have committed more errors, or made fewer mistakes. To illustrate using Waymo, let’s assume that Waymo undertook ten failed attempts prior to the successful development of its self-driving technology. Further, let’s assume that Uber acquired knowledge of these ten failed attempts, and with this negative information in hand, proceeded directly to developing its own successful technology for a self-driving car.

In this scenario, the value of Waymo’s negative information depends on how many of the ten failed attempts Uber would have undertaken in the but-for world. In part, that depends on the degree of interconnectedness of the failed attempts. Some efforts may necessitate sequential and iterative attempts, each new attempt learning from the prior ones; for other efforts the order may be random, making it imprudent to assume that the defendant in the but-for world would have undertaken the same number of attempts and in the same order as the plaintiff. So, while we can estimate the cost to replicate each of the attempts, we also have to have a choice framework to determine which of these failed attempts defendants would have pursued in the but-for world.

As a starting point for such a choice framework, we can examine plaintiffs’ failed attempts to identify which are relevant negative information. Waymo may have undertaken many failed experiments, not all of them necessarily linked to the development of its self-driving technology. Therefore, even before determining the potential mistakes the defendants would have likely made, experts must assess which failed experiments were undertaken in pursuit of the relevant goal (i.e., the product being replicated by the defendant).

Among plaintiffs’ relevant failed experiments, the damages expert must assess which ones would have been undertaken by the defendants in the but-for world, and which ones would have been undertaken in parallel or in sequence. In the Waymo case, Waymo’s expert analyzed the specific time periods for each trade secret before opining that some of the trade secrets, but-for the alleged misappropriation, “might have been done in a series,” while other trade secrets “probably would have gone in parallel.”^[17] If it appears that the plaintiff chose from several approaches at random until arriving at last at the successful one, it may be appropriate to assume that the defendant would have followed a different order of approaches, and so would not have made all the same mistakes before finally finding the successful approach. Damages experts should account for the defendants’ existing knowledge—for example, a more advanced incumbent competitor, already equipped with relevant knowledge, may perform fewer failed experiments than a new entrant in the market.

In deriving the choice framework, the expert should also be informed by the age of the negative information. Mistakes made in research many years ago may be less relevant to current technology, and therefore less likely to be repeated. Academic studies support such consideration of obsolescence when valuing intellectual property.^[18]

Similarly, changes in public knowledge will affect whether it is reasonable to assume a failed approach would have been tried in the but-for world. Since public knowledge by definition cannot be a trade secret, if any dead ends become publicly known before the alleged misappropriation by a defendant, then they should not be included in the analysis. This is especially relevant when plaintiffs release products into the market that make public certain results of their research. An example of this is when a company releases a product which incorporates a specific method, then the public may conclude that alternative methods are less desirable, making negative information about those alternative methods less valuable.

Determining which of the defendant’s projects were undertaken in pursuit of the relevant intellectual property requires understanding the defendant’s intent at the time of development. To this end, case-specific information in the form of documents produced in the usual course of business and testimony from those involved in the projects can be instrumental. Such information can guide the expert when modeling her choice framework. For instance, internal documents and testimony could indicate that defendants considered and were most likely to pursue a particular subset of the plaintiff’s full list of failed experiments. In such situations, the expert’s cost to replicate analysis would be deterministic and include the cost for the specific subset of experiments. Alternatively, when the testimony and documents do not identify a clear subset, the expert can resort to a probabilistic model. For example, if the defendants considered two experiments but did not indicate which one they would undertake, the expert could assign a 50 percent probability to both and calculate an expected value for her cost to replicate analysis.

Concluding Remarks

A well-supported valuation of negative information cannot be approached as a one-size-fits-all solution. Factors discussed in this article—including the number of potential failed ventures, the ordering of these ventures, and age of the technology in question—can vary from one case to another, which in turn impacts the expert’s modeling choices and final valuation. Nonetheless, identifying the relevant set of factors for consideration and appropriate means to account for them provides a useful framework for conducting the necessary individualized valuation of negative information.

Ideas and inventions that fail have economic value. We may associate market success with value, but the existence of negative information raises the possibility that some failed ideas and inventions can be valued in the right context. When Sir Isaac Newton said “if I have seen further, it is by standing on the shoulders of giants,” he was likely referring to those responsible for giant insightful failures as much as successful ones.

The opinions expressed are those of the authors and do not necessarily reflect the views of the firm or its clients. This article is for general information purposes and is not intended to be and should not be taken as legal advice.

1. Unif. Trade Secrets Act § 1 cmt., 14 U.L.A. 637–38 (1985). ↑

2. Waymo LLC v. Uber Techs. Inc. No. C 17-00939 WHA (N.D. Cal. Jan. 29, 2018). ↑

3. Waymo LLC v. Uber Techs., Inc., Complaint, at 10.

   Waymo also created a vast amount of confidential and proprietary intellectual property via its exploration of design concepts that ultimately proved too complex or too expensive for the mass market; Waymo’s extensive experience with “dead-end” designs continues to inform the ongoing development of Waymo’s LiDAR systems today. The details actually used in Waymo’s LiDAR designs as well as the lessons learned from Waymo’s years of research and development constitute trade secrets that are highly valuable to Waymo and would be highly valuable to any competitor in the autonomous vehicle space. ↑

4. See, e.g., Fitbit v. Jawbone (three separate lawsuits: D. Del. 15-cv-775 and D. Del. 15-cv-0990, and N.D. Cal 15-cv-4073); Genentech, Inc. v. JHL Biotech, Inc., No. C 18-06582 WHA (N.D. Cal. Mar. 1, 2019). ↑

5. Neil Eisgruber, “Trends in Trade Secret Litigation Report 2020,” Stout, Apr. 2, 2020, at 21. ↑

6. Paul Petrone, “See The Industries With the Highest Turnover (And Why It’s So High),” LinkedIn Learning Blog, Mar. 19, 2018. ↑

7. 46 U.S.P.Q.2d 1197, 1217 (Utah Dist. Ct. 1998). ↑

8. “Novell settles suit against Timpanogos,” Deseret News, Aug. 29, 1998. ↑

9. Eisgruber, supra note 6, at 16–18. ↑

10. Id. at 21. ↑

11. Id. at 17–18. ↑

12. Robert F. Reilly & Robert P. Schweihs, Valuing Intangible Assets 96 (1998). ↑

13. Id. at 97–98. ↑

14. Id. at 97–98. ↑

15. Deposition of Lambertus Hesselink (September 26, 2017) at 264:11–265:11, Waymo LLC v. Uber Techs. Inc., No. C 17-00939 WHA (N.D. Cal. Jan. 29, 2018) (“Hesselink Deposition”). ↑

16. Charles Tait Graves, The Law of Negative Knowledge: A Critique, 15 Tex. Intell. Prop. L.J. 387, 412. ↑

17. Hesselink Deposition, supra note 16, at 264:11–265:11. ↑

18. Reilly & Schweihs, supra note 13, at 99–100. ↑