Board responsibilities are complex and continue to grow, with directors being held accountable for the governance, oversight, and, if necessary, management of the organization. This evolution of board responsibilities is long-term and has been further intensified by the pandemic and the economic uncertainty facing organizations of all types today. The chief legal officer (“CLO”), the chief financial officer (“CFO”), and other senior officers join the chief executive officer (“CEO”) as those with the senior-most responsibilities from the management side in ensuring that proper governance, oversight, and management are occurring.
The recent, ongoing developments regarding the survival of certain banks, and perhaps even the future shape of the banking industry as a whole, stand as a testament to the fact that the CEO, CFO, and the general counsel (“GC”) and CLO must join with the board and others in focusing on operational and capital cash flows. Indeed, both the CEO and CFO were named as defendants in securities litigation arising from the failures of Silicon Valley Bank and Signature Bank. Too often, companies deemed to be healthy have not focused on cash flows, which are often the critical indicator of a company’s ability to survive. Troubled companies understand the importance of the cash flows—for some, unfortunately, when it is too late.
Case Study
Sophisticated businesses, large and otherwise, recognize the importance of tracking cash flows. One of the authors of this article served as the CFO of a diversified holding company that was the managing general partner of two sizable general partnerships. In each one, the other two general partners were major insurance companies. However, the experiences in a partnership setting are equally applicable to a corporate structure.
Each partnership met quarterly. An important component of these meetings was the CFO’s review and discussion of financial and operational results. Every one of these discussions focused on partnership cash flows—basically, the receipts and disbursements from the normal course of operations, investment income, capital expenditures, and other significant cash items. Cash was addressed comprehensively.
All of the partners agreed that this was more useful than reviewing the income statement because it avoided esoteric accounting entries, as well as footnotes that may be confusing and distracting. The cash data was much more understandable and gave a clearer picture of financial performance, a picture that was supported by money in the bank or other liquid assets.
These meetings were an exercise in highly effective governance. The general partner representatives were informed and involved, and their institution had “skin in the game.” They understood the business and recognized that the tracking of the cash flows was the most effective way to stay on top of the business. They designated to their respective internal audit staffs the responsibility for reviewing the accounting work of the managing general partner’s accounting staff and that of the partnership’s external auditor.
Cash Flow Emphasis: Can’t Be Overrated
Directors of any company, in any line of business, would do well to adopt effective techniques to improve their financial oversight. Continuous oversight and interpretation of cash flows by board and senior management are essential. Very simply, cash flows are the organization’s lifeblood.
Cash flows can be measured in an effective, timely manner; and, to repeat, cash data can be much more understandable and give a clearer financial picture than an income statement. The comparison of budgeted to actual receipts and disbursements often gives a much clearer financial picture than reported revenues and expenses and net income on a generally accepted accounting principles (“GAAP”) income statement. Discussions about the causes of cash flow variances can uncover problems and opportunities without the need for approximations or adjustments. The cash flows either did, or did not, occur within the particular time period.
Operational and capital cash flows are concrete results not easily subject to manipulation. Thus, they can serve as a safeguard against efforts to manipulate income through revisions in accruals or reclassifications of operating expenses to capital expenditures. They can also avoid misunderstanding of results that include unbudgeted, one-time charges or results that have been adjusted to exclude such charges.
Accurate cash flow information can also help to highlight possible weaknesses in controls and negative developments not readily apparent in income statement measures, as in a case where a strong, corporate emphasis on customer sales growth, combined with a relaxing of the company’s product financing and credit granting controls, may be increasing risk to an unacceptable level.
It should be noted that certain cash flow information can be very complex—for example, the statement of cash flows that is presented in GAAP. This cash flow information is viewed by some as arcane and difficult to understand. Further, it does not provide the useful insights of business unit receipts and disbursements.
Authority for Cash Flow Management and Cash Control
Who should be given the authority for budgeting the operational cash flows, tracking the actual cash flows, developing the variance reports, and providing explanations of the variances that occur? There are many options. However, an effective approach involves having the company’s operating units work with a centralized financial unit such as treasury, financial analysis, or accounting or some combination of these financial units. The board typically looks to the CFO to play a major role in structuring the team responsible for budgeting, measuring, and explaining cash flows. Both the internal auditor and the external auditor can provide input to the team and assist in ensuring accuracy.
Analytical Model
An analytical model, as shown here, aids in understanding and monitoring operational and capital cash flows. To analyze performance, such a model is developed and monitored for each business unit that generates cash flows. The model identifies basic requirements such as working capital, capital expenditures, and debt service and determines if cash flows will be adequate.
If operational cash flows do not provide enough for adequate working capital, do not fund budgeted capital expenditures, or do not cover the required debt service, the business operation is in the “crisis” zone. The options for the business operation are to “fix” or to “liquidate.”
Cash Flows: The Analytical Model.
The model also determines a risk-adjusted return on equity. When added to the basic capital requirements, this establishes the market capital requirements. As can be seen in the cash flows model, if the operational cash flows exceed the basic capital requirements but fall short of market capital requirements, the business operation is “underperforming.” While not in “crisis” mode, steps need to be taken to improve performance.
If the operational cash flows exceed the market capital requirements, the operation is in the “performing” zone. This shows an opportunity to invest and grow, pay down debt, buy back stock, or make cash distributions to equity holders.
This relatively simple presentation of cash flow data can give the board a solid understanding of whether its firm generates a positive cash flow and if its cash flow is adequate to meet present and future needs. This ability to monitor whether a firm is generating a sufficient cash flow will improve a board’s oversight and control system, in good times and bad. A board that understands the components of basic capital and market capital requirements, and how they are affected by cash flows, has considerable insight into the risks confronting the firm and can effectively address its oversight responsibilities.
Cash Control Activity
Cash control activity comprises two parts. The first involves managing the firm’s receipts and disbursements. The second involves monitoring the company-wide cash position.
Controlling a firm’s cash inflows and outflows involves monitoring information and control reports between the firm’s operations centers and its cash management center; then, the flow of control reports from the cash management center to senior financial management. To effectively monitor cash inflows and outflows, the firm focuses on the following: the varying liquidity requirements and forecasting difficulties facing the different operations centers, development and implementation of effective reporting guidelines, and the manner and frequency with which periodic variance reports are developed and transmitted.
Liquidity Requirements and Forecasting Difficulties
Any attempt at developing an effective cash control system must start with the varying liquidity requirements and forecasting difficulties of the firm. Different sectors of a firm often have different liquidity needs and face unique problems in developing their forecasts.
Good cash forecasts are built on the correct recognition of the amounts of inflows and outflows expected to take place, and when these are expected to occur. The various areas within the firm may be able to forecast the timing for these cash flows, but they experience difficulty in estimating the amounts involved.
Electricity and gas utilities are examples of firms with this type of problem. As winter and summer approach, forecasters must predict the weather conditions in order to determine the projected revenues and expenses in the forecasting period. The timing of the revenues does not pose much of a problem for these firms because most bill a certain percentage of their customers on each day during the month.
With flows for previous forecasting periods available, it is not difficult to accurately estimate the percentage of revenues expected at a point in time. The problem is estimating the total amount of revenues for the period. Similarly, the timing of major outflows is predictable, but the problem is forecasting the amounts (like revenues) that will be affected by actual weather conditions.
Senior financial management must have consolidated cash forecasts early enough to permit them to react to the problems forecasted. This leads to the requirement that the cash management center obtain the data from the areas within the firm responsible for forecasting early enough to permit the consolidation of the data. The different areas may require varying lead times, particularly those subject to volatile revenues based on uncontrollable factors such as weather, and those with foreign exchange exposure.
Timing of the cash forecasts depends on when the various areas are able to prepare their estimates and on the time required to consolidate them and prepare the other cash-related data. Once the reporting times are set, they must be observed. This is particularly critical in the early stages of implementing a cash control system.
Each area of activity within the firm is constantly confronted with operating pressures, making it difficult for the various areas to complete their forecasts on time. However, those responsible for this activity need to know that their forecasts are being used and are important to the well-being of the entire company. Also, the cash management center needs to respond immediately when the forecasts are not received on time. Those areas that are late should be contacted as soon as the deadline has been missed, with a follow-up in writing. A further method for enforcing the guidelines is to maintain a checklist of the times at which the forecasts are received and forward the checklist to senior financial management.
Company-wide Cash Flow Reporting Structures
Similar consideration must be given to shaping the guidelines for reporting the actual cash inflows and outflows. These guidelines must be realistic and recognize the constraints that each of the areas faces.
An important point in the reporting of the inflows and outflows is the tie between cash management and cash control. The same information required for the cash management center can also be used for cash control purposes. A basic structure is set out here.
Reporting Relationships for Cash Flows.
Controlling the company-wide cash position requires the monitoring of all headquarters, division, and subsidiary bank accounts. Monitoring the headquarters-controlled cash position should be fairly straightforward because the cash management center is in constant communication with the headquarters’ accounting staff. Guidelines for maintaining the cashbook on each bank account, handling the support data, and reconciling the accounts are established in accordance with the requisites for internal control.
A means of monitoring non-headquarters-controlled accounts on a current basis must be developed. A weekly report indicating beginning and ending balances and total inflows and outflows along with monthly bank reconciliations permits timely monitoring of these accounts.
The importance of a firm’s cash flows has focused increased attention on the need for cash control systems. An effective cash control system enables the monthly, weekly, or daily monitoring of operation centers’ cash flows. This, in turn, creates an awareness of any unwarranted cash flow variances on a timely basis.
Cash Is King
Cash is “king” not only today—it has always been king.
One story that is often heard in financial circles describes the damage to a major firm whose board reviewed quarterly financial results with its sole focus on the income statement. The company’s board was told that operating income for the quarter was $490 million and was projected to increase to $525 million in the following quarter. According to this data, everything looked rosy, and no further questions were raised. However, the cash flow for the following quarter was projected to be a negative $475 million, a $1 billion difference. The firm filed for bankruptcy a few months later. Whether apocryphal or not, the point of the story is clear: ignoring cash flows can be dangerous for corporate health and bad for directors who should know better.
Understanding and monitoring cash flows is an important aid to boards in addressing their continually expanding responsibilities to oversee and direct their firms. Monitoring cash flows is an important tool in effective risk management, serves as a powerful check and balance on other forms of financial and operational reporting, and can aid in fraud detection. CFOs should coordinate the necessary financial and operational resources and take the lead in monitoring cash flows and, in doing so, create effective presentations to keep board members on top of the truest measure of a company’s finances—adequate cash flow. Also, CLOs can and should be an important check and balance regarding the existence and effectiveness of the cash flow management and control structure and their boards’ understanding and oversight of the structure.
As co-chairs of the American Bar Association’s 2021 European Private Target Mergers & Acquisitions Deal Points Study, published in early 2023, we thank all our friends and colleagues around the world (listed in the credits) who invested their time in providing responses to the online questionnaire, and those who double-checked the validity and consistency of data. This publication of the Market Trends Subcommittee of the ABA Business Law Section’s M&A Committee is a valuable resource reflecting the main trends observed in share deals targeting European businesses; it includes current data and comparisons with prior editions as well as with the US Private Target M&A Deal Points Studies.
Study Sample
The latest edition of the EU Study analyzes share purchase deals for acquisitions of privately held targets in Europe signed or completed in 2019, 2020, or 2021 that met the following criteria: (a) transaction value was at least EUR 15 million; (b) the transaction was a pure share deal; and (c) the target or a substantial part of its assets or operations were in Europe.
The deal points analyzed in the EU Study include Financial Provisions, Pervasive Qualifiers, Representations and Warranties, Covenants, Conditions to Closing, Indemnification Provisions, and Dispute Resolution Mechanism.
Unlike the US Private Target studies, which rely on publicly available transactional documents, the EU Study sample consists of sanitized share purchase agreements provided by working group members’ firms in Austria, Czech Republic, Denmark, Finland, France, Germany, Italy, Lithuania, Luxembourg, Norway, Portugal, Romania, Spain, Switzerland, the United Kingdom, and the United States. As acquisition deal documents are not generally publicly available in Europe, the contribution by working group members’ firms is key for the existence of the EU Study.
The study sample consisted of:
106 acquisition agreements
subject to applicable law in 18 different jurisdictions – usually (in 75% of deals) the target’s jurisdiction
with transaction values ranging from EUR 15M to EUR 4.49B (median transaction value: EUR 41M)
for targets in a broad array of industries (the top three: technology, industrial goods & services, and healthcare)
with Corporate buyers representing a majority (51%), the remaining buyers being Financial (37%) and Entrepreneurial (11%).
How to Get a Copy of the EU Private Target Deal Points Study
All members of the M&A Committee of the Business Law Section received an e-mail alert on January 25, 2023, with a link to the study. If you are not currently a member of the M&A Committee but don’t want to miss future e-mail alerts, committee membership is free to Business Law Section members, and you can sign up on the M&A Committee’s homepage. ABA members who are not currently members of the Business Law Section can sign up to join on the Section’s membership webpage.
The published editions of the European Private Target Deal Points Study are available for download by M&A Committee members from the Market Trends Subcommittee’s Deal Points Studies page on the ABA’s website. Also available at that link are the most recently published versions of the other studies published by the Market Trends Subcommittee, including the US Private Target Mergers & Acquisitions Deal Points Study, Canadian Public Target M&A Deal Points Study, Carveout Transactions M&A Deal Points Study, and Strategic Buyer/Public Target M&A Deal Points Study.
The next edition of the EU Study is already in the making, to cover deals signed or closed in 2022 or 2023. We invite interested practitioners to reach out to participate.
When an entity shares data outside of its organization, the following questions often arise: Does the FCRA or GLBA (or both) apply to the specific type of data sharing? And how do these laws impact a company’s financial privacy notices?
The answer to these questions comes down to the relationship between the Gramm-Leach-Bliley Act and its implementing Regulation P (GLBA) and the Fair Credit Reporting Act and its implementing Regulation V (FCRA), and the common financial privacy notice used to satisfy disclosure and opt-out requirements under both laws. To understand which law governs the particular data sharing at issue, the key questions to ask are: With whom you are sharing the data (affiliates or non-affiliates), and for what purposes?
Data Sharing with Non-Affiliates: GLBA
The GLBA requires that a financial institution provide a privacy notice to consumers: (i) prior to disclosing nonpublic personal information (NPI) about the consumer to any non-affiliated third party (outside of certain exceptions); or (ii) at or before the time that the institution enters into a continuing customer relationship with that consumer. Among other things, the notice must provide the consumer with the right to opt out of the disclosure of NPI to non-affiliated third parties. Stated another way, the GLBA only specifically restricts the sharing of NPI with a non-affiliated third party. In the financial privacy notice model form on the website of the Consumer Financial Protection Bureau (CFPB), certain categories of sharing relate specifically to the GLBA opt-out requirement and its exceptions. Namely, the model form lists these categories that discuss sharing:
“For our everyday business purposes—such as to process your transactions, maintain your account(s), respond to court orders and legal investigations, or report to credit bureaus;”
“For our marketing purposes—to offer our products and services to you;”
“For joint marketing with other financial companies;” and
“For non-affiliates to market to you.”
The financial institution must describe whether it shares each type of specific information under the above categories and whether the consumer can limit the sharing. The first three categories describe exceptions to the GLBA requirement, which means that a consumer does not have a federal right to limit those types of sharing (although opt-out rights may exist under state laws, and an institution also is free to offer a voluntary opt-out opportunity). Sharing under the fourth category (non-affiliate marketing) is subject to the GLBA opt-out requirement and affirmative opt-in requirements under certain state laws. Properly populating these categories is critical to maintaining GLBA compliance regarding when NPI may be shared with non-affiliates.
Data Sharing with Affiliates: FCRA
In contrast to the GLBA, the FCRA regulates sharing of information between affiliated entities. An “affiliate” is generally any company that controls, is controlled by, or is under common control with another company. Generally, whenever consumer information is shared between affiliates, the FCRA will come into play. However, understanding the type of information shared and for what purposes (i.e., marketing or non-marketing purposes) will determine how the information is disclosed in the notice and whether the consumer has a right to opt out of the sharing and/or use of such information. FCRA affiliate sharing and marketing rules impact the following sections of the financial privacy notice:
“For our affiliates’ everyday business purposes—information about your transactions and experiences;”
“For our affiliates’ everyday business purposes—information about your creditworthiness;” and
“For our affiliates to market to you.”
Therefore, the first question is to assess whether the sharing is for an everyday business purpose or a marketing purpose. In the everyday business purpose context, the entity must next ask whether the sharing relates to “information about transactions and experiences” or “information about creditworthiness.” Both of these the categories map to the FCRA’s definition of a “consumer report.”
Specifically, for purpose of “information about transactions and experiences,” a consumer report does not include any:
report containing information solely as to transactions or experiences between the consumer and the person making the report; [or]
communication of that information among persons owned by common ownership or affiliated by corporate control.
For purpose of “creditworthiness” a consumer report does not include:
communication of other information among persons related by common ownership or affiliated by corporate control, if it is clearly and conspicuously disclosed to the consumer that the information may be communicated amongst such persons and the consumer is given the opportunity, before the time that the information is initially communicated, to direct that such information not be communicated among such persons.
Transactions and Experience vs. Creditworthiness
This means that if a financial institution wishes to share “transaction and experience” information with an affiliate, the financial institution must disclose that fact on the financial privacy notice, but does not have to give the consumer an opt-out right. If a financial institution wishes to disclose “creditworthiness” information with an affiliate in a manner that might otherwise cause the information to be considered a “consumer report” (i.e., for the affiliate’s everyday business purposes), the financial institution must disclose that fact on the financial privacy notice and provide the consumer with an opt-out right; otherwise, the financial institution risks being considered a “consumer reporting agency,” making it subject to a variety of burdensome regulatory requirements.
The FCRA itself does not provide clear guidance as to what constitutes “transaction or experience” information. However, the Federal Trade Commission, the former regulatory agency for the FCRA, explained in a 2011 staff report called “40 Years of Experience with the Fair Credit Reporting Act” (which, by the way, is an excellent FCRA resource) that:
[r]eports limited to transactions or experiences between the consumer and the entity making the report are not consumer reports. An opinion that is based only on transactions or experiences between the consumer and the reporting entity is also within the exception. For example, a creditor’s description of an account as “slow pay” would not be a consumer report if the description was based on the creditor’s own experience and did not come from a [consumer reporting agency].
The FTC also noted that a list provided by a creditor showing customers who have an account balance of $10,000 or more would be transaction or experience information. In contrast, any information beyond the reporting entity’s own first-hand transactions or experiences with a consumer would not qualify as transaction and experience, and the consumer would be entitled to opt out of such sharing to the extent that the information bears on the consumer’s creditworthiness or other personal characteristics, and is being shared in a manner that might otherwise cause the financial institution to be considered a consumer reporting agency. Moreover, application information “supplied by the consumer (including lists of [the consumer’s] assets and liabilities, and lists of the names of companies from whom the customer has purchased insurance and securities) is not the creditor’s ‘transaction or experience’ information because it includes the customer’s transactions with entities other than the creditor.”
Sharing for Marketing Purposes
In addition, if the sharing is for marketing purposes as opposed to everyday business purposes, specific rules under the FCRA will govern the use of such information. The FCRA provides that a regulated person may not use “eligibility information” about a consumer received from an affiliate to make a solicitation for marketing purposes to the consumer, unless:
it is clearly and conspicuously disclosed to the consumer;
the consumer is “provided a reasonable opportunity and a reasonable and simple method to ‘opt out,’”; and
the consumer has not opted out.
Under the FCRA, when eligibility information is shared to make solicitations for marketing purposes, the entity must disclose the sharing and provide an opportunity for the consumer to opt out before the information may be used for marketing purposes. Note that this opt-out is separate from the opt-out provided when sharing occurs between affiliates for everyday business purposes.
At a broad level, “eligibility information” is defined to mean any information that would be a “consumer report” under the FCRA, but for the exceptions for “transaction and experience” information and information that is shared under the authority of the affiliate-sharing opt-out. Thus, it generally includes any written, oral, or other communication of any information that bears on a consumer’s creditworthiness, credit standing, credit capacity, character, general reputation, personal characteristics, or mode of living that is used (or expected to be used) or collected in whole or in part for the purpose of serving as a factor in establishing the consumer’s eligibility for: (A) credit or insurance to be used primarily for personal, family, or household purposes; (B) employment purposes; or (C) any other permissible purpose under the FCRA. However, note that eligibility information does not include “aggregate or blind data that does not contain personal identifiers such as account numbers, names, or addresses.”
Thus, when eligibility information is shared between affiliates for solicitation or marketing purposes, this sharing must be properly disclosed in the “affiliates to market to you” category on the notice, and the consumer must have a right to opt out of the use of such information for marketing purposes.
Conclusion
It can be difficult to grasp the nuances between the GLBA and FCRA and how the different categories of data sharing in the financial privacy notice relate to the requirements under each law. But understanding the interplay between these two laws is critical when sharing any consumer information, no matter who the recipient is.
In a perfect world, all technology vendors would present their clients with balanced legal agreements that perfectly represent the commercial deal between the parties and fully meet the client’s business and legal requirements. Unfortunately, we don’t live in a perfect world, and experience has shown that some vendors are better than others at creating transparent and fair contracts. Based on my own experience, the following list may be helpful to counsel acting on behalf of users in negotiating technology services agreements.
1. RFPs and vendor proposals do matter.
If the client began the contracting process by issuing a Request for Proposal (RFP) and then awarding the deal to the winning vendor based on the vendor’s proposal, then it is critical to incorporate the vendor’s proposal in the contract by reference. This ensures that the extensive promises made by the vendor in its response to the RFP are actually included in the contract. This is not only fair to the client but fair to all the other proponents that were not chosen for the transaction. The winning vendor’s proposal is not supposed to be a marketing bluff: clients do rely upon the representations and promises made in such documents, and the successful proponent should be held accountable.
Unfortunately, some vendors do attempt to disavow their own proposals, even going so far as to say that their responses are not legal contracts that did not pass through the vendor’s own legal approval, and so cannot be incorporated into the final contract. This approach seemingly undercuts the trust process at the beginning of the relationship and strikes me as a red flag that the vendor may be acting unscrupulously and seeking to distance themselves from the various commitments made in their proposal, potentially including pricing and other key assurances. If the client accepts this and decides to proceed with such vendor regardless, it will be important for the client to scrupulously ensure that all of the critical components contained in the vendor’s proposal (and the requirements of the client’s RFP) are actually expressly included in the vendor’s contract, including those related to security/cyber resilience, location of vendor personnel, service levels, certifications, etc.
2. Read the SOW(s).
The Statement of Work (SOW) is the document that describes, in very plain and detailed language, the scope of the actual deliverables and services to be provided by the vendor, applicable project phases/timelines/milestones, pricing, the various responsibilities of the parties, any assumptions/dependencies, staffing, compensation to be paid by the client and any other salient business terms. Unfortunately, SOWs are often the place where some vendors try to reject critical legal and business terms otherwise contained in the main body of the services agreement, through the insertion of net new (and flatly contradictory) terms. This includes the repudiation of legal representations/warranties, the addition of different payment and termination provisions (and sometimes inclusion of robust termination fees), deemed acceptance provisions, attempts to override service levels, etc.
Equally problematic are SOWs that are poorly drafted with many capitalized and undefined terms, vague or no real vendor obligations (or merely commitments to define critical technological or other requirements after the SOWs are signed by the parties—what lawyers like to call “agreements to agree”) and no actual timelines/deadlines. While many lawyers are not comfortable drafting SOWs, it is a vast error not to have client-side tech lawyers do at least one review of the draft SOW before signing with a view to eliminate intentional or otherwise inadvertent language that contradicts the main legal document or otherwise undercuts it.
3. Understand the vendor’s services.
It is important for lawyers counselling clients in the tech space to understand which services/technology are under the control of the vendor in question, versus the portions that are under the control of the vendor’s own affiliates, or any third-party subcontractors of the vendor and other large outsourcing providers. Such an understanding is crucial from the perspective of the flow-down conditions that one should include in the technology services agreement. Vendors should be fully responsible (and liable) for the actions and omissions of their own affiliates and direct subcontractors, particularly in the areas of privacy, cybersecurity, and performance. However, it will be more difficult for vendors to make bespoke promises on behalf of larger vendors, such as Microsoft and Amazon.
Depending on their own regulatory/compliance requirements, some clients may wish to control whether the vendor can assign some of its rights and performance obligations under the relevant agreement to certain approved affiliates or control the use of subcontractors, i.e., only to those located in certain geographic locations/countries or control where their client/user data is being processed. All of this must be understood and documented in the technology contract signed by the vendor.
4. Use the right form of technology agreement.
There are multiple considerations concerning the form of the technology agreement. Firstly, some vendors use a cascade of interrelated and interdependent agreements to form their contract, so it is critical for client counsel to review all of them and understand their order of precedence to ensure that amendments are made to various documents as necessary.
Secondly, certain large vendors employ omnibus “one-size fits all” contracts that incorporate various international terms that are inappropriate for the particular transaction. These include global data protection agreements and services agreements that (inappropriately) reference and hold US and Canadian customers responsible for complying with European data protection laws, anti-corruption law, anti-bribery laws, antislavery laws, export controls and other non-relevant provisions. Thus, clients should insist that their vendors use localized services agreements that contain appropriate terms regarding governing laws, jurisdictions, applicable data protection laws (including mandatory data/security breach notification provisions, including timelines) so that the client can satisfy its own regulatory and legal requirements. If localized versions of the services agreement are not available, then the client and its counsel should factor in the additional time required to negotiate the necessary amendments to make them so.
Lastly, the negotiated amendments must be appropriately incorporated into the overriding/master vendor document, as many standard vendor tech contracts contain a myriad of hyperlinks to ever-changing standard form agreements located on the vendor’s website that would override and contradict these carefully negotiated amendments. Be especially careful to ensure that the relevant Order Form/document specifically references the amended Master Services Agreement and related Exhibits rather than boilerplate standard form terms.
5. Open-source licenses are real agreements, and compliance matters.
While I am a proponent of the use of open-source software (OSS) in technology offerings, I remain dismayed by those vendors that deny their usage of OSS, or otherwise plead ignorance that such OSS is governed by actual OSS licenses, each with their own legal requirements and compliance obligations. While litigation involving OSS is relatively rare, it does occur, as evidenced by the recent 2022 case Software Freedom Conservancy Inc. v. Vizio Inc. In this decision, the US District Court for the Central District of California confirmed that the Software Freedom Conservancy could proceed on a breach of contract claim against product maker Vizio for using OSS (licensed under the GNU General Public License Version 2 and the GNU Lesser General Public License Version 2.1.) in violation of those agreements, confirming the validity of OSS agreements as both copyright licenses and as contractual agreements, each with separate remedies. In other words, OSS licenses are real legal agreements.
Accordingly, if the vendor does use OSS, its technology contracts should contain explicit representations and warranties that confirm the vendor’s usage of such OSS complies with the applicable OSS licenses that governs such code on an ongoing basis to ensure that the client is not in breach of any such OSS licenses through its use. Moreover, client counsel should also seek an indemnity from the vendor if such vendor is in breach of any applicable OSS license, uses any incorrect OSS license or incorrectly combines them in a way that makes the client susceptible to any damages/claims.
6. Future-proof your technology agreement as much as possible.
Technology contracts exist in a rapidly changing environment, and it is important to recognize that the tech transaction does not end at contract execution. As much as possible, tech contracts should be drafted in ways that ensure critical terms remain relevant during the life of the agreement. References to crucial privacy and other legislation should contain language that may be amended or replaced. References to intellectual property representations/warranties and indemnities should not refer to patents that were granted at the date of the agreement’s execution, but instead should be ongoing. The contract should also allow for parties to manage technological change through provisions regarding change management and should contain appropriate governance provisions for ongoing monitoring of performance, and periodic re-evaluation and adjustments, if required, to service levels and other mutually agreed service considerations.
Other recommended provisions include informal and formal dispute resolution, and scheduling periodic meetings with the vendor to get insight as to new product roadmaps, development, etc. While this may make the contract longer, it is worth it if the agreement provides an appropriate vehicle to further manage customer risk, forestall commercial disputes and account for necessary changes during the life cycle of the business arrangement.
7. Anticipate and manage the exit.
Lastly, all good things must come to an end, and tech agreements are notorious for ignoring the exit, as the parties don’t want to deal with the prospective divorce during the “honeymoon” phase of negotiating the original contract. However, preparing for an orderly and a smooth exit is a critical concern for most clients, especially those that may become heavily dependent on their vendor. If the client anticipates it will require a wind-down phase to transition off the vendor’s services and seek a replacement provider, then they must build this requirement into the contract, including the length of the termination assistance period, any changes to the services, the fees for such termination assistance services (if different from the standard fees), whether a transition assistance plan is required, and any limitations that could impact the client’s right to obtain such ongoing services.
The return of customer data, including timing, format, and any related costs, should also be addressed, as well as any ongoing right of the vendor to use client data post-termination/expiration, including client generated data, even in any anonymized/de-identified form. Clients should also ensure through their legal agreements that customer data is never “held hostage” in the event of any fee disputes or otherwise. The tech contract should also robustly address the secure destruction/deletion of all client data and any other critical exit-related terms, including which limited provisions of the agreement (representations/warranties, limitations of liability, indemnities, confidentiality, audit rights, etc.) should survive termination/expiration of the agreement (and for how long). There should be no surprises.
Federal Government Response to Dobbs Begins to Take Shape
Diane Dygert
Seyfarth Shaw LLP 233 South Wacker Drive Suite 8000 Chicago, Illinois 60606-6448 (312) 460-5000 [email protected] www.seyfarth.com
Taking Surprise out of the No Surprises Act
Caroline Pieper
Seyfarth Shaw LLP 233 South Wacker Drive Suite 8000 Chicago, Illinois 60606-6448 (312) 460-5000 [email protected] www.seyfarth.com
Ninth Circuit Discusses Use of Occupational Data in Long-Term Disability ERISA Benefits Denial
Kathleen Cahill Slaught
Seyfarth Shaw LLP 560 Mission Street 31st Floor San Francisco, CA 94105 (415) 397-2823 [email protected] www.seyfarth.com
Ryan Tikker
Seyfarth Shaw LLP 2029 Century Park East Suite 3500 Los Angeles, California 90067-3021 (310) 277-7200 [email protected] www.seyfarth.com
Employers May Have to Pay More in 2022 Under New ACA Limits
Joy Sellstrom Mary Kennedy
Seyfarth Shaw LLP 233 South Wacker Drive Suite 8000 Chicago, Illinois 60606-6448 (312) 460-5000 [email protected] [email protected] www.seyfarth.com
Leaked Opinion Becomes Reality—Roe v. Wade is Overturned
Diane Dygert
Seyfarth Shaw LLP 233 South Wacker Drive Suite 8000 Chicago, Illinois 60606-6448 (312) 460-5000 [email protected] www.seyfarth.com
H.R. 7780 – Mental Health Matters Act Passes House
Kathleen Cahill Slaught
Seyfarth Shaw LLP 560 Mission Street 31st Floor San Francisco, CA 94105 (415) 397-2823 [email protected] www.seyfarth.com
Ryan Tikker
Seyfarth Shaw LLP 2029 Century Park East Suite 3500 Los Angeles, California 90067-3021 (310) 277-7200 [email protected] www.seyfarth.com
Between a Rock and a Hard Place…ESG Investments in 401(k) Plan Line-Ups
Linda Haynes
Seyfarth Shaw LLP 233 South Wacker Drive Suite 8000 Chicago, Illinois 60606-6448 (312) 460-5000 [email protected] www.seyfarth.com
Matthew Catalano
Seyfarth Shaw LLP 620 Eighth Avenue 32nd Floor New York, New York 10018-1405 (212) 218-3319 [email protected] www.seyfarth.com
Class Action Lawsuit Filed Against Washington State’s Long Term Cares Act – Dismissed!
Liz Deckman Kira Johal
Seyfarth Shaw LLP 999 Third Avenue Suite 4700 Seattle, Washington 98104-4041 (206) 946-4929 [email protected] [email protected] www.seyfarth.com
SECURE 2.0: Here We Go Again
Liz Deckman
Seyfarth Shaw LLP 999 Third Avenue Suite 4700 Seattle, Washington 98104-4041 (206) 946-4929 [email protected] www.seyfarth.com
Sarah Magill Christina Cerasale
Seyfarth Shaw LLP 233 South Wacker Drive Suite 8000 Chicago, Illinois 60606-6448 (312) 460-5000 [email protected] [email protected] www.seyfarth.com
No More Surprises, But Much Uncertainty Over Non-Network Bills
Diane Dygert Ben Conley
Seyfarth Shaw LLP 233 South Wacker Drive Suite 8000 Chicago, Illinois 60606-6448 (312) 460-5000 [email protected] [email protected] www.seyfarth.com
Ninth Circuit Clarifies De Novo Review Standard and Newly-Raised Arguments in ERISA Litigation
Kathleen Cahill Slaught
Seyfarth Shaw LLP 560 Mission Street 31st Floor San Francisco, CA 94105 (415) 397-2823 [email protected] www.seyfarth.com
Ryan Tikker
Seyfarth Shaw LLP 2029 Century Park East Suite 3500 Los Angeles, California 90067-3021 (310) 277-7200 [email protected] www.seyfarth.com
§ 1.1. Do We Finally Have a Final Answer on ESG Investments and ERISA’s Fiduciary Duties?
At the end of November, the DOL issued final regulations on ERISA’s fiduciary duties when investing plan assets. According to the DOL, these final regulations retain the longstanding core principles that an ERISA fiduciary must focus on the relevant risk-return factors when evaluating plan investments, and the fiduciary duty to manage plan assets includes managing (and potentially exercising) the rights associated with ownership of such assets (e.g., proxy voting). As we’ve covered on our blog over the last several years, the DOL’s guidance concerning ERISA’s fiduciary duties and responsibilities when evaluating plan investments and the potential role of environmental, social and governance (ESG) factors in that analysis has changed significantly.
§ 1.1.1. Evolution of DOL Guidance on ESG
Over the years, the DOL has provided guidance concerning ERISA’s fiduciary duties and responsibilities when investing plan assets, including the role of factors that are arguably non-economic or “non-pecuniary” (e.g., ESG or sustainability factors) in those duties. The DOL’s guidance on this topic has evolved and varied over time as the economic environment and administrations have changed.
§ 1.1.2. 2015
In Interpretive Bulletin 2015-01 (IB 2015-1), the DOL allowed that a fiduciary could make investment decisions considering non-pecuniary factors, such as ESG, as “tie breakers” — i.e., the expected risk-return characteristics of alternative proposed investments are the same. Further, the DOL acknowledged that when the fiduciary prudently determined that the investment is justifiable based solely on its economic considerations, then there is no need to evaluate collateral factors as tie breakers. In that bulletin, however, the DOL also acknowledged that in some cases ESG may have a direct relationship with the economic and financial value of the plan’s investment. In those instances, ESG factors are not merely collateral considerations or tie breakers, but rather are a proper component of the fiduciary’s analysis of the economic merits of competing investment choices.
§ 1.1.3. 2018 through 2020
In Field Assistance Bulletin 2018-01 (FAB 2018-01), the DOL appeared to limit IB 2015-1 by warning fiduciaries against taking an expansive view on whether ESG factors are economically relevant to a prudent investment selection. That same administration in June 2020 followed up with proposed regulations addressing the topic. Those regulations indicated that ERISA fiduciaries should focus on “pecuniary” factors when evaluating an investment or investment strategy, and it cast doubt on whether ESG factors could meet that standard. The same DOL also then issued proposed rules in August 2020 regarding a fiduciary’s responsibility when exercising shareholder rights (including voting proxies) associated with the plan’s assets.
When both of those rules were finalized and published in November and December 2020, they indicated that plan fiduciaries must evaluate investments and investment strategies based solely on “pecuniary” factors; made it clear that the DOL was skeptical that ESG factors were pecuniary in nature; and severely restricted a fiduciary’s ability to vote proxies for the plan’s assets.
§ 1.1.4. 2021 through 2022
The current administration announced in March 2021 that it would not enforce the 2020 regulations and subsequently issued proposed regulations revising those rules. Those proposed regulations continued to emphasize the importance of the risk-return analysis of a proposed investment, but they also made it clear that such an analysis could include evaluating the potential economic effects of climate change and other ESG factors on the proposed investment. Those proposed regulations were finalized in November 2022, which we discuss below.
§ 1.1.5. Longstanding Principles Affirmed
In the preamble to the final regulations, the DOL emphasized that the final rule does not change the following “longstanding principles”:
ERISA’s duties of prudence and loyalty require ERISA fiduciaries to focus on risk and return factors when investing plan assets; and
An ERISA fiduciary’s duty to manage plan assets includes exercising rights associated with those assets (e.g., proxy voting).
The regulation provides that an ERISA fiduciary will satisfy ERISA’s duties of loyalty and prudence when considering an investment or investment course: (a) if the fiduciary has given “appropriate consideration” to the facts that the fiduciary “knows or should know” are relevant to that particular investment or investment course, and (b) acts accordingly. For this purpose, “appropriate consideration” includes:
The fiduciary determines that the investment or investment course of action is reasonably designed to further the plan’s purpose when considering the potential risk and return compared to the potential risk and return of reasonably available alternatives; and
For plans that are not participant-directed plans (e.g., not 401(k) plans), the fiduciary considers the following factors: the diversification of the portfolio; the liquidity and current return of the portfolio relative to the plan’s anticipated cash flow requirements; and the projected return of the portfolio relative to the plan’s funding objectives.
In the preamble, the DOL indicates that the new language in the final rule establishes the following three principles:
A fiduciary’s decision must be based on the factors that the fiduciary “reasonably determines are relevant to a risk and return analysis, using appropriate investment horizons consistent with the plan’s investment objectives and taking into account the funding policy of the plan”.
The risk and return factors may include the economic effects of climate change and other ESG factors.
The weight given to any factor “should appropriately reflect and assessment of its impact on risk and return”.
The preamble also confirms that, under the final rule, an ERISA fiduciary is not required to consider ESG factors when making an investment decision. This is a change from the proposed regulations which (at the very least) suggested that an evaluation of ESG factors was required when evaluating an investment or investment course of action. The 2020 final rule included special documentation requirements when a fiduciary decided that alternative investments were economically indistinguishable and the fiduciary “breaks the tie” by relying on other factors. The new 2022 final rule eliminated those special requirements because the DOL concluded that they were unnecessary given that the existing ERISA fiduciary duties and responsibilities are commonly understood to include documenting investment decisions.
§ 1.1.6. Defined Contribution Plans
The final rule includes some minor changes to clarify how ERISA’s loyalty and prudence duties apply to participant-directed defined contribution plans (e.g., 401(k) plans). The DOL cautions in the preamble that these clarifications do not suggest that a lower standard applies when a fiduciary of a participant-directed defined contribution plan is making an investment decision. Also in the preamble, the DOL agreed with a commentor that the relevant analysis when constructing a menu of investment options for such a plan involves answering the following:
“First, how does a given fund fit within the menu of funds to enable plan participants to construct an overall portfolio suitable to their circumstances? Second, how does a given fund compare to a reasonable number of alternative funds to fill the given fund’s role in the overall menu?”
The DOL regulation also includes special guidance with respect to the duty of loyalty for such fiduciaries. Specifically, a fiduciary does not breach ERISA’s duty of loyalty solely because the fiduciary considers preferences expressed by participants in a manner consistent with the fiduciary’s duty of prudence. The DOL justified including this new provision by noting that accommodating participant stated preferences could increase participation and ultimately lead to greater retirement security. This does not mean, however, that a fiduciary may add (or continue to offer) an imprudent investment option in a participant-directed plan that participants prefer. According to the preamble, this new language does not reflect a change in the DOL’s position.
The final rule retains the rescission of the prior prohibition against a qualified default investment alternative (“QDIA”) or any component of the QDIA from having any “investment objectives, goals, or principal investment strategies that include, consider, or indicate the use of one or more non-pecuniary factors in its investment objectives”. According to the preamble, the DOL now believes that such a requirement would not protect plan participants and could only serve to harm participants. The DOL does caution that selecting (and retaining) a QDIA continues to be subject to the same fiduciary duties and responsibilities under the final rule as all other investments.
§ 1.1.7. Exercising Shareholder Rights
In the final regulation, the DOL recognizes that the “fiduciary act of managing plan assets includes the management of voting rights (as well as other shareholder rights) appurtenant to shares of stock.” It also emphasizes that the fiduciary duty to manage plan assets includes exercising the shareholder rights associated with those assets, and fiduciaries should exercise those rights to protect the plan’s interests. As a result, fiduciaries should weigh the cost and effort of voting proxies (or exercising other shareholder rights) against the significance of the issue to the plan. In addition, consistent with the proposal, the final regulation:
Eliminates several provisions that were previously couched as “safe harbors” because the DOL was concerned that fiduciaries would believe they had permission to abstain from voting proxies without properly considering the plan’s interests as a shareholder; and
Prohibits a fiduciary from following the recommendations of a proxy advisory firm or other service provider unless the fiduciary determines that the firm or other service provider’s proxy voting guidelines are consistent with ERISA’s fiduciary duties and responsibilities.
§ 1.1.8. Plans Covered by Final Regulation
It is important to remember that this regulation only applies to plans that are subject to ERISA’s fiduciary duties and responsibilities for investing plan assets. As a result, they do not apply to: plans excluded from ERISA (e.g., governmental plans, church plans that have not elected to be covered under ERISA); plans without assets (e.g., unfunded welfare plans); and plans that are not subject to ERISA’s fiduciary rules (e.g., supplemental executive retirement plans, “top hat” deferred compensation plans).
§ 1.1.9. Conclusion
With these final regulations: we are still left with the question of whether it is ill-advised for plan fiduciaries to engage in “ESG investing” especially for those investments based solely on ESG considerations. While the final rule acknowledges that ESG factors may be appropriate factors to consider in the risk and return analysis, with the continued proliferation of class-action litigation attacking plan fees and investment selections for participant-directed defined contribution plans, a properly structured fiduciary process (including appropriate documentation of that process) remains a must.
Linda Haynes and Diane Dygert
§ 1.2. PBGC Addresses Withdrawal Liability Assumptions for First Time in New Proposed Rule
On July 8, 2022, the Pension Benefit Guaranty Corporation (“PBGC”) published its final rule (“Final Rule’) on the Special Financial Assistance (“SFA”) Program established under the American Rescue Plan Act of 2021 (“ARPA”). The Final Rule contains a number of significant developments and amendments from the interim final rule (“IFR”), including for example, expanding investment options for SFA assets, providing for separate interest rate assumptions for SFA versus non-SFA assets, loosening restrictions for benefit increases, and adding a new condition for phased recognition of SFA assets in calculating withdrawal liability. The Final Rule becomes effective on August 8, 2022. There is a thirty (30) day public comment period solely on the new phase-in condition for withdrawal liability starting from the Final Rule publication date.
Under the SFA Program, a financially troubled multiemployer pension plan may receive a one-time lump sum payment intended to be sufficient to allow it to pay all benefits due from the date the SFA payment is received through the last day of the plan year ending in 2051. We previously wrote about the IFR and explained the various eligibility conditions for SFA and the calculations involved. (Click here for our earlier Legal Update titled PBGC Issues Much Anticipated Interim Final Rule On Special Financial Assistance Under American Rescue Plan Act).
The following is a high-level summary of the key changes and developments from the Final Rule.
§ 1.2.1. Separate Interest Rate Assumptions for SFA and Non-SFA Assets
Under the Final Rule, the SFA amount will now be calculated using two different interest rate assumptions: one for SFA assets and another for non-SFA assets. This is an important development because the interest rates are used to calculate the total SFA amount, and with this new approach, plans should receive more in financial aid in most instances. Previously under the IFR, plans were required to use the same interest rate assumption for both SFA and non-SFA assets. This did not take into account that the IFR also required SFA and non-SFA assets to be segregated, with SFA assets limited to more conservative investments. Thus, using the same interest rate assumption for both pools of assets was not an accurate way for plans to project actual expected investment returns. This also meant that the SFA could fall short of the amount the plan would need to pay all benefits due through the plan year ending 2051.
Recognizing this issue, the Final Rule now bifurcates the required interest rate assumptions as follows:
For Non-SFA assets, the interest rate is the lesser of: (i) the rate used by the plan for zone certification status before January 1, 2021; and (ii) the third segment funding rate plus 200 basis points; and
For SFA asserts, the interest rate is the lesser of: (i) the rate used by the plan for zone certification status before January 1, 2021; and (ii) the average of the three funding segment rates plus 67 basis points.
For plans whose applications are approved on or before August 8, 2022 (i.e., the Final Rule date), a supplemental application must be filed with the PBGC to take advantage of the two different interest rate assumptions. If an application is still pending as of August 8, 2022, then the plan will need to withdraw the application, revise and refile.
§ 1.2.2. Investment of SFA Assets
The Final Rule allows plans to invest up to 33% of SFA assets in return seeking investments (e.g., publicly traded common stock, equity funds that invest primarily in public shares, bonds, etc.), with the remaining 67% restricted to investment grade fixed income securities. Previously under the IFR, 100% of SFA assets were required to be invested in investment grade fixed income securities. This development adds an important element in the investment of SFA assets, and it could significantly increase the likelihood that plans will be able to avoid insolvency through 2051.
For plans receiving SFA amounts before August 8, 2022, the investment restrictions under the IFR will continue to apply unless a supplemental application is filed with the PBGC.
Seong Kim, Alan Cabral, Ryan Tzeng, and Ronald Kramer
§ 1.3. MPRA Plans
The Final Rule revises the methodology for determining the SFA amount for plans that suspended benefits under the Multiemployer Pension Reform Act of 2014 (“MPRA”).
Previously under the IFR, a single method was used to calculate SFA amounts for plans that suspended benefits under the MPRA (“MPRA plans”) and those that did not (“non- MPRA plans”). Under the MPRA, benefit suspensions were approved if plans could demonstrate that such suspensions would enable the plan to avoid insolvency indefinitely. To qualify for SFA, MPRA plans must permanently reinstate any suspended benefits. However, under the IFR, an MPRA plan would only receive amounts necessary to avoid insolvency through 2051. Thus, under the IFR, MPRA plans were faced with the dilemma of either keeping any benefit suspensions in place to avoid insolvency indefinitely, or receiving SFA, reinstating benefits, and risking insolvency in the future.
To help alleviate this issue, the Final Rule provides that the SFA amount for MPRA plans is the greater of the following:
The SFA amount calculated without regard to any benefit suspensions (i.e., a non-MPRA plan);
The lowest SFA amount that is sufficient to ensure the plan’s projections demonstrate increasing assets in 2051; and
The SFA amount equal to the present value of reinstating suspended benefits through 2051 (including make-up payments).
§ 1.3.1. Retroactive Benefit Increases
The Final Rule allows retroactive benefit increases beginning ten years after receiving SFA, provided the plan can demonstrate to the PBGC that it will continue to avoid insolvency. The IFR did not permit retroactive benefit increases at all during the SFA period (i.e., through 2051), and only permitted prospective benefit increases when certain conditions were satisfied.
§ 1.3.2. Merger Involving SFA Plans
The IFR contained a number of restrictions and conditions, including PBGC approval, that are applicable in the event of merger of a plan receiving SFA. The Final Rule, however, removes restrictions on prospective benefit increases, allocation of assets, and allocation of expenses. The PBGC explained that such conditions would “unduly impede beneficial mergers.” In addition, a merged plan may apply for a waiver of certain other restrictions.
§ 1.3.3. Transfer from SFA Plan to Health Plan
While the PBGC was initially hesitant to permit reallocation of contributions between SFA plans and other employee benefit plans, the Department of Labor suggested that there may be circumstances that would justify good faith reallocations of income or expenses between plans (e.g., health benefit cost increases due to legislative changes). Addressing this narrow circumstance, the Final Rule now permits an SFA plan to apply to the PBGC for permission to temporarily reallocate to a health plan up to 10% of the contribution rate negotiated on or before March 11, 2021. The SFA plan must demonstrate that the reallocation of contributions is necessary to address an increase in healthcare costs required by a change in Federal law, and that the reallocation does not increase the risk of insolvency for the SFA plan. Plans can begin applying five years after receiving SFA, and reallocation of contributions relating to any single change in Federal law can last for no more than five years, with a limit of ten years cumulatively for all reallocation requests.
§ 1.3.4. Withdrawal Liability
The Final Rule adds a “phase-in” feature intended to ensure that SFA funds are not used to subsidize employer withdrawals.
Under the IFR, all SFA funds must be included as plan assets in determining unfunded vested benefits. As a result, it is likely that withdrawal liability would be significantly reduced when calculated immediately after plans receive SFA funding. After the changes in the Final Rule, however, the reduction in withdrawal liability will be more gradual, as plans are required to “phase-in” the recognition of SFA assets.
The phase-in period begins the first plan year in which the plan receives SFA and extends through the end of the plan year in which the plan expects SFA to be exhausted. To determine the amount of SFA assets excluded each year, the plan multiplies the total amount of SFA by a fraction, the numerator of which is the number of years remaining in the phase-in period, and the denominator is the total number or years in the phase-in period. The phased recognition of SFA assets does not apply to plans that received SFA funds under the terms of the IFR unless a supplemental application is filed. If the plan files a supplemental application, the phased recognition applies to withdrawals occurring on or after the date the plan files the supplemental application.
Solely for this new condition for determining withdrawal liability, there is a thirty (30) day public comment period starting on July 8, 2022, the date of publication of the Final Rule in the Federal Register.
§ 1.3.5. SFA Measurement Date and Lock-In Applications
To provide filers with more flexibility, the Final Rule redefines the “SFA measurement date” as the last day of the third calendar month preceding the plan’s initial application date. Previously under the IFR, the SFA measurement date was defined as the last day of the calendar quarter preceding the plan’s initial application date. In addition, the Final Rule creates a mechanism to permit plans in priority groups 5, 6, and any additional priority groups established by the PBGC, to file a “lock-in application.” A lock-in application allows the plan to freeze its base data (i.e., SFA measurement date, census data, non-SFA interest rate assumption, and SFA interest rate assumption) when it is unable to file an application because the PBGC has temporarily closed the filing window. Eligible plans may file lock-in applications after March 11, 2023, and on or before December 31, 2025.
§ 1.3.6. Conclusion
As practitioners continue to digest the new Final Rule, there may be other issues that come up that are not addressed. As noted above, there will also be a thirty (30) day public comment period solely on the phase-in approach to calculating withdrawal liability, which may lead to additional changes. We will continue to monitor for further developments in that regard, and for any additional clarifying guidance from the PBGC. Stay tuned…
Ryan Tzeng, Joel Wilde, Alan Cabral, and Seong Kim
§ 1.4. Can 401(K) Fee Dispute Cases Survive Based on Bare Allegations Supported by Monday-Morning Quarterbacking?
2022 has seen an increase in putative class actions brought under the Employee Retirement Income Security Act (ERISA) (29 U.S.C. §§ 1109 and 1132) against plan fiduciaries. Plaintiffs typically allege that plan fiduciaries breached the duties that ERISA imposes of employee retirement plans, namely, that the fiduciaries breached their duties of loyalty and prudence by including subpar investment options in employee 401(k) plans. These suits are seemingly driven by Monday-morning quarterbacking, where disillusioned plan participants with the benefit of hindsight contend that investment decisions were imprudent. In fact, since 2019, over 200 lawsuits challenging retirement plan fees have been filed against employers in every industry. See Jacklyn Willie, Suits Over 401(k) Fees Nab $150 Million in Accords Big and Small, Bloomberg Law (Aug. 23, 2022), https://bit.ly/3Uel7y5.
A 401(k) fee case involving such a dispute, Matney v. Barrick Gold of N. Am., Inc., 2022 WL 1186532 (D.Ut. Apr. 21, 2022), and the corresponding appeal filed to the Tenth Circuit Court of Appeals, is garnering significant attention from the U.S. Chamber of Commerce and several other business groups. The Chamber of Commerce, the American Benefits Counsel, the ERISA Industry Committee, and the National Mining Association recently filed an amicus brief in November 2022 urging the Tenth Circuit Court of Appeals to affirm the district court’s decision to dismiss the ERISA lawsuit against Barrick Gold of North America, Inc.
§ 1.4.1. The Matney Decision
The plaintiffs in Matney alleged that the plan fiduciaries violated ERISA when it failed to monitor, investigate, and ensure plan participants paid reasonable investment management fees and recordkeeping fees during a period of time. The plaintiffs alleged that each plan participant’s retirement assets covered expenses incurred by the plan, including individual investment fund management fees and recordkeeping fees, which were allegedly excessive, costing the proposed class millions of dollars in direct losses and lost investment opportunities. In support of their claims, the plaintiffs provided example of fees (measured as expense ratios) charged by a select group of funds in the plan, compared to fees charged by other funds in the marketplace. Id. at *5.
In April 2022, U.S. District Judge Tena Campbell dismissed the suit, finding that the plaintiff participants had failed to state a claim. Judge Campbell found that the plaintiffs made “apples to oranges” comparisons that did not plausibly infer a flawed monitoring decision making process.” Id. at *10. The court ultimately found that ERISA does not require plan fiduciaries to offer a particular mix of investment options, whether that be ones that favor institutional over retail share classes, ones that favor collective investment trusts (CITs) to mutual funds, or ones that choose passively-managed over actively-managed investments. Id.
As to the plaintiff participants’ concerns over allegedly improper recordkeeping fee arrangement with Fidelity, Judge Campbell dismissed this claim as well, finding that the court could not infer that the process was flawed, or that a prudent fiduciary in the same circumstances would have acted differently.
Finally, Judge Campbell found that in the context of the participants’ allegations of violations of ERISA’s duty of loyalty, they did not allege facts creating a reasonable inference that the plan fiduciaries were disloyal to the plan participants. On the contrary, Judge Campbell concluded that their allegations of disloyalty were conclusions of law or altogether conclusory and unsupported statements. Id. at *14.
§ 1.4.2. The Matney Amicus
The Amicus Brief filed in support of the Defendants-Appellees noted that in many ERISA fee cases like the plaintiff participants in Matney, the complaint contains no allegations about the fiduciaries’ decision-making process, which is a key element in an ERISA fiduciary-breach claim. Instead, complaints including the one in Matney typically contain allegations with the benefit of 20/20 hindsight that plan fiduciaries failed to select the cheapest or best-performing funds, or the cheapest recordkeeping option, often using inapt comparisons to further the point. Then, the plaintiffs ask the court to make a logical leap from the circumstantial allegations that the plan’s fiduciaries must have failed to prudently manage and monitor the plan’s investment line-up.
The Amicus Brief further averred that allowing suits to proceed like the 401(k) fee dispute case in Matney risks having the effect of severely harming employees’ retirement savings. Indeed, failing to dismiss meritless cases at the pleading stage would invite costly discovery and pressure plan sponsors into a narrow range of options available to participants, like passively-managed, low-cost index funds.
§ 1.4.3. Conclusion
We are closely watching the pending Matney appeal in front of the Tenth Circuit. Following the United States Supreme Court’s decision in Hughes v. Northwestern Univ., 142 S.Ct. 737 (2022), we have been monitoring how courts have interpreted this ruling and its impact on the 401(k) excessive fee space. The Hughes case requires a context-specific inquiry to assess the fiduciaries’ duties to monitor all plan investments and remove any imprudent ones and ultimately reaffirmed the need for courts to evaluate the plausibility pleading requirement established by Rule 8(a), Twombly, and Iqbal. It remains to be seen how other Circuit Courts interpret Hughes and how they will respond to this recent flurry of 401(k) fee cases.
Kathleen Cahill Slaught and Ryan Tikker
§ 1.5. Are We There Yet? Emergency Declarations and COVID Relief Are Extended into 2023
HHS has announced that the COVID-19 Public Health Emergency (PHE) has been extended another 90 days, and will run until January 11, 2023.
In response to the COVID-19 pandemic, two separate emergency declarations have been in effect: (1) the COVID-19 PHE and (2) the COVID-19 National Emergency. These emergency declarations provide different types of COVID-related relief for participants and group health plans. While the COVID-19 pandemic is winding down, these emergency declarations and their related relief remain in effect.
§ 1.5.1. The COVID-19 Public Health Emergency
HHS first declared the COVID-19 PHE in January 2020. The COVID-19 PHE declarations last for 90 days unless an extension is granted. Since January 2020, the COVID-19 PHE has been renewed every 90 days.
HHS recently extended the COVID-19 PHE an additional 90 days. This means that the COVID-19 PHE will run until January 11, 2023, unless another extension is granted.
Accordingly, the COVID-19 PHE will permit the following COVID-related relief to continue into 2023:
COVID-19 Testing: in-network and out-of-network COVID-19 testing are at no cost to participants.
COVID-19 Vaccines: in-network COVID-19 vaccines are at no cost indefinitely, but after the end of the COVID-19 PHE, plans may impose cost-sharing for non-network administration.
Expanded Telehealth Coverage: telehealth coverage is permitted to be offered to employees whether or not the employee is enrolled in the employer’s medical plan.
SBC Advanced Notice Requirements: the SBC advanced notice requirements for mid-year changes are relaxed when necessary to implement COVID-19 coverages/benefits.
The Biden Administration has advised that it will provide at least 60 days’ advanced notice prior to allowing the PHE to expire, so unless the Administration provides such notice before mid-November, it is reasonable to assume the PHE will be extended again.
§ 1.5.2. The COVID-19 National Emergency
Unlike the COVID-19 PHE, the COVID-19 National Emergency is declared by the President and the declarations last for one-year unless an extension is granted. On March 13, 2020, the COVID-19 National Emergency was announced, and it has been extended every year since. Currently, the COVID-19 National Emergency is set to expire on March 1, 2023.
The COVID-19 National Emergency gave rise to the “Outbreak Period” in which certain deadlines were extended to provide relief from COVID-19. The COVID-19 National Emergency will permit the Outbreak Period to continue into 2023, which will permit the following deadlines to be extended until the earlier of (a) one year after the deadline, or (b) 60 days after the end of the Outbreak Period:
COBRA election deadline
COBRA premium payment deadline
HIPAA special enrollment deadline
ERISA claims filing deadline
Fiduciary relief for delayed provision of notices
Keep in mind, the deadlines applicable to the Outbreak Period are determined on an individual by individual basis and cannot last more than one year from the date the individual or plan was first eligible for relief. For more information regarding the COVID-19 National Emergency and Outbreak Period, see our prior Legal Updates.
Please contact the employee benefits attorney at Seyfarth Shaw LLP with whom you usually work if you have any questions regarding the COVID-19 PHE or COVID-19 National Emergency.
Ben Conley and Mary Kennedy
§ 1.6. Are Birth Control and Plan B Next? Texas Judge Targets Preventative Care Mandate in the Name of Religious Liberty
To promote healthier lifestyles in an effort to ultimately reduce the cost of health care in the United States, the Affordable Care Act (ACA) requires private health plans to provide first dollar coverage for evidence-based preventive care. As a result, such things as immunizations and cancer screenings must be covered without the requirement to pay a co pay or meet a deductible. A recent decision by a federal district court in Texas allows employer plan sponsors to exclude coverage for certain preventive treatments to which they objected.
One of the results of this ACA preventive care requirement was to empower the Federal Government to deem certain medical treatments as being effective preventive care and thus necessary for coverage by group health plans. In Braidwood Management Inc v Becerra, 4:20-cv-00283 (N.D. TX), a Court found that an employer who objected to a certain preventive treatment on religious grounds could be exempted from offering that otherwise mandated treatment.
Specifically, in this matter the Court held that the professed Christian beliefs of a for-profit employer exempted it from providing PrEP, a medication that lowers the risk of HIV transmission by over 99%, despite coverage of PrEP being mandated as an effective preventive treatment under the Affordable Care Act. In reaching this holding, the Court noted that the employer objected to covering PrEP as:
[H]e believes that (1) the Bible is “the authoritative and inerrant word of God,” (2) the “Bible condemns sexual activity outside marriage between one man and one woman, including homosexual conduct,” (3) providing coverage of PrEP drugs “facilitates and encourages homosexual behavior, intravenous drug use, and sexual activity outside of marriage between one man and one woman,” and (4) providing coverage of PrEP drugs in Braidwood’s self-insured plan would make him complicit in those behaviors.
The Government argued that the employer put forth no evidence that PrEP increased any of the activities to which it objected. The Court found that argument irrelevant, since the employer believed that PrEP had this impact. The Court also acknowledged that despite this religious objection, the Government had a compelling interest in mandating that benefit plans offer PrEP. However, the Court nevertheless found this compelling interest insufficient to trump the employer’s religious beliefs because the government did not prove how exempting religious for-profit employers from the mandate would impact the compelling interest of slowing/stopping HIV transmission. The Court further noted that the Government could simply solve the issue by paying for PrEP for individuals covered by a health program that did not cover PrEP.
This ruling is significant in that it shows the increasing tension in jurisprudence between public health of employees and society-at-large on the one hand and the religious rights of private employers on the other. Importantly, this line of case law could also raise tension under Title VII as Courts thread the permissibility of an employer’s religious belief to oppose homosexual behavior and its legal mandate not to discriminate against homosexual employees.
The impact of this ruling is not limited to PrEP. Rather, this ruling provides fertile ammunition for employers to argue that their religious beliefs justify their exemption from a whole host of otherwise required medical treatments, including birth control and Plan-B. Stay tuned as we continue to track legislation and court rulings that impact access to health care coverage.
Sam Schwartz-Fenwick
§ 1.7. Agency FAQs Reveal Employers Continue to Struggle with No Surprises Act & Transparency in Coverage Implementation
With staggered effective dates continuing over the course of the next several years, the No Surprises Act (NSA) and Transparency in Coverage requirements impose a number of additional compliance obligations on group health plan sponsors. The DOL, HHS and the Treasury recently issued joint guidance in the form of Frequently Asked Questions (FAQs) attempting to clarify a number of these obligations.
§ 1.7.1. Guidelines for Transparency in Coverage Machine-Readable Files Notice
As described in earlier legal updates, the agency Transparency in Coverage guidelines contain a host of new requirements, including the requirement that plans make machine-readable files publicly available on the plan’s website no later than 7/1/2022. The agencies had previously indicated that if an employer-sponsored plan maintained no such website, the employer would be required to post the files (or a link to the files) on their public-facing website. Needless to say, this caused great consternation among large employers that carefully curate their public-facing website, so the new FAQs elaborate on and relax this requirement.
Under the new guidance, an employer can satisfy the posting requirement through a link posted on the plan’s third-party administrator (TPA) or insurance carrier’s public website alone. To rely on a TPA/carrier posting, the plan/employer must enter into a written agreement with the TPA/carrier under which the vendor assumes this obligation. (But the guidance reiterates that if the vendor fails to properly post the machine-readable files on its website, the plan will remain liable for violating the disclosure requirements.)
Employers who posted a link to the machine-readable files on their own public website may choose to remove it once they have a written agreement in place.
§ 1.7.2. Guidelines for Disclosure of NSA Notice
The NSA requires entities governed by the NSA (including health plans, insurance carriers and providers) to notify affected individuals of their rights with respect to balance billing. The DOL offered a model notice to satisfy this requirement. Because the regulations were broadly applicable to a diverse array of entities, there was some uncertainty surrounding how they applied in the context of group health plans. The FAQs attempted to clarify this uncertainty as follows:
The FAQs specify the three ways in which plans and issuers must satisfy the notice obligation:
Make the notice publicly available. It remains unclear what this means in the context of an employer-sponsored group health plan. Presumably the website posting referenced below should satisfy this obligation, but further guidance would be welcome.
Post the notice on the public website of the plan. Here, the agencies clarify that a plan with no public website (i.e., most employer-sponsored health plans) can satisfy this obligation by entering into a written agreement with the plan’s insurance carrier or TPA under which the TPA/carrier posts the information on a public website where information is normally made available to participants. The FAQs reiterate that the plan ultimately remains liable for any failure on the part of its TPA/carrier.
Include information regarding protections against balance billing on any Explanation of Benefits (EOB) subject to the new requirements.
As noted above, the DOL has provided a model notice and has updated its model since initial issuance. The FAQs would permit plans to use either version for plan years beginning before January 1, 2023, but thereafter plans must use the revised notice.
The FAQs also clarified that for plans not subject to state balance billing obligations (which would include most self-funded plans), any information in the notice applicable to state guidelines can be removed.
§ 1.7.3. Confirms Applicability to Plans with No Network and Plans Only Offering In-Network Coverage
Because the NSA generally affords protections with respect to non-network services, there was some uncertainty surrounding whether and to what extent those protections would apply for plans with no network (e.g., reference-based pricing plans) or plans that only extend in-network coverage. The FAQs included several clarifications on these points.
Because the NSA requires that certain non-network claims be processed as if they were performed in-network, there had been some uncertainty regarding whether and to what extent these rules apply to (a) plans with no network, or (b) plans with no non-network coverage. The FAQs confirm that the provisions do apply to these types of plans, at least with respect to emergency services and air ambulance services.
In contrast, the provisions that prohibit balance billing and/or limit cost sharing for non-emergency services apply only to services provided by a nonparticipating provider with respect to a visit to a participating health care facility. Therefore, the prohibitions on balance billing and/or provisions that limit cost sharing for nonemergency services provided by nonparticipating providers with respect to a visit to certain participating facilities would never be triggered if a plan does not have a network of participating facilities.
If a plan has no network, the payment amount should be calculated using the NSA’s existing hierarchy (All-Payer Model Agreement, state law, or qualifying payment amount (QPA) using an eligible database).
The FAQs reiterate earlier guidance that requires plans with no network to impose reasonable guardrails to ensure that the plan does not subvert the Affordable Care Act’s limits on out-of-pocket maximums.
The FAQs clarify that if a plan limits network coverage to emergency air ambulance services, then it must only provide non-network coverage for emergency (not nonemergency) air ambulance services.
The FAQs also clarify that the air ambulance provisions apply to pick-ups outside of the U.S. and provide guidance on how to determine the QPA in that context.
§ 1.7.4. Confirms Applicability to Behavioral Health Crisis Facility
The FAQs confirm that the NSA protections can apply in the context of a behavioral health crisis facility if the services otherwise meet the definition of “emergency services” and are provided in connection with a visit to a facility that meets the definition of an “emergency department of a hospital” or “independent freestanding emergency department”.
§ 1.7.5. Clarifications Regarding Calculation of Qualifying Payment Amount
While the NSA attempted to establish a framework for plans to calculate the QPA in most instances (with a fallback allowing plans to rely on an eligible database if data was unavailable), there remain some circumstances where such calculation is not adequately addressed. The FAQs provide certain clarifications for these situations, including the following.
Plans must calculate a median rate based on each provider specialty if the plan’s payment rates vary based on specialty.
If plans offer multiple benefit options across different TPAs, the FAQs clarify that the plan must only determine the QPA for an NSA-protected service based on the rate for the TPA administering the benefit option in which the participant has enrolled (i.e., no coordination across TPAs is required).
The FAQs reiterate that the EOB relating to an NSA claim must include all required information under the NSA rather than directing the participant or provider to a website where that information is available.
Joy Sellstrom and Ben Conley
§ 1.8. Equal Access to Travel Benefits
As more employers announce that they cover travel benefits under their medical plans that will allow participants to be reimbursed for certain travel expenses necessary in order to access otherwise covered medical benefits, proponents on the pro-choice and anti-abortion platforms seek ways to support or block those benefits.
In the weeks since the Dobbs decision was released, the ripple effects of the decision continue to arise in unexpected ways. Litigants are challenging as discriminatory under Title VII, employer travel benefits that enable employees to travel in order terminate pregnancies in states where it remains legal. Specifically, litigants have begun to assert that providing travel benefits for the purpose of terminating a pregnancy is unlawful if the employer does not also allow travel benefits for pregnant women who intend to carry their pregnancy to term.
There is a long history of employees using Title VII as a tool to ensure equal benefit treatment in situations where only certain classes of employees are eligible for a benefit. The nuance in the recent challenges is that employees during pregnancy do not typically need to travel for a benefits purpose (e.g., to receive adequate prenatal care). Further, to date these claims do not appear to be an allegation that only certain pregnant employees have access to a travel benefit to terminate a pregnancy. This makes the success of this type of claim far from certain. However, even if these cases are dismissed for failure to state a cognizable claim, this type of action remains significant in showing the new types of litigation claims that employers will need to contend with post-Dobbs. It is expected that other cases may be filed under Title VII asserting claims of religious discrimination. For instance, an employee may claim that their religious rights are being infringed on if they are tasked with approving abortion related travel benefits and abortion violates their religious beliefs.
To navigate this increasingly divisive environment, it remains a best practice to clearly communicate the scope of any post- Dobbs policy and to work with counsel to ensure that the policy is properly tailored to best mitigate litigation risk in a rapidly changing legal climate. Please stay tuned as we continue to provide updates on litigation and statutory trends post-Dobbs.
Sam Schwartz-Fenwick and Ada Dolph
§ 1.9. Sixth Circuit Affirms Dismissal of 401(K) Breach of Fiduciary Duty Case, Supports Selection of Actively-Managed Funds
In a published opinion on June 21, 2022, Smith v. CommonSpirit Health, 37 F.4th 1160 (6th 2022) a three-judge panel affirmed a Kentucky district court’s dismissal of a putative class action against a plan administrator and plan sponsor. The plaintiff, Yousaun Smith, claimed breaches of fiduciary duty in violation of the Employee Retirement Income Security Act (ERISA), 29 U.S.C. § 1132(a)(2). Smith worked for Catholic Health Initiatives, now known as CommonSpirit Health, and participated in the CommonSpirit defined-contribution 401(k) plan.
Smith claimed that CommonSpirit breached its duty of prudence by offering several actively managed investment funds when index funds available on the market offered higher returns and lower fees. Particularly, he pointed to three-year and five-year periods in which three actively managed funds trailed related index funds in their rates of returns.
The panel also considered the contention that actively managed funds were per se imprudent for inclusion because they might underperform more conservative investment options over a set period of time.
“[T]here is nothing wrong with permitting employees to choose them in hopes of realizing above-average returns over the course of the long lifespan of a retirement account – sometimes through high-growth investment strategies, sometimes through highly defensive investment strategies. . . It is possible indeed that denying employees the option of actively managed funds, especially for those eager to undertake more or less risk, would itself be imprudent.” Instead, the Sixth Circuit found that offering actively managed funds in addition to passively managed funds was merely a reasonable response to customer behavior. Id. at 1166.
The Sixth Circuit also considered whether CommonSpirit violated its fiduciary duty by imprudently offering specific actively managed funds. ERISA and Supreme Court precedent require that plan fiduciaries ensure that all fund options remain prudent options.
The panel, however, found that Smith did not plausibly plead that CommonSpirit violated this obligation either. Smith pointed to the performance of the Fidelity Freedom Funds versus the Fidelity Freedom Index Funds, over a five-year period, noting that the actively-managed freedom funds trailed the index funds by as much as 0.63 percentage points per year. The Sixth Circuit wrote that it was still prudent to offer an actively managed fund that costs more but may generate greater returns over the long haul. It also rejected that a participant could simply point to a fund with better performance to create a showing of imprudence. That alone is not itself sufficient. Instead, the panel wrote that these claims, “require evidence that an investment was imprudent from the moment the administrator selected it, that the investment became imprudent over time, or that the investment was otherwise clearly unsuitable for the goals of the fund based on ongoing performance.” Id. at 1166.
The Sixth Circuit also noted that its decision paralleled the Eighth Circuit’s in a similar claim, where the Eighth Circuit rejected an employees’ claim that plan administrators breached a fiduciary duty by offering actively managed stock and real estate funds in addition to passively managed ones, where it concluded that it was “not imprudent for a fiduciary to provide both investment options.” Davis v. Washington Univ. in St. Louis, 960 F.3d 478, 485 (8th Cir. 2020). In fact, the two general investment options “have different aims, different risks, and different potential awards that cater to different investors. Comparing apples to oranges is not a way to show that one is better or worse than the other.” Id.
This supports that a plaintiff participant cannot merely point to another index investment that has performed better in a five-year snapshot of a fund to plausibly plead an imprudent decision. Necessarily, this construction could mean that every actively managed fund with below-average results over the most-recent five-year period could create a plausible ERISA violation. This rings true when one considers that the lifespan of these funds may be a 50-year period. We will continue to watch the challenge of these 401(k) disputes and how courts handle similar cases at the motion to dismiss level. These matters have become increasingly more common over the past year.
Kathleen Cahill Slaught and Ryan Tikker
§ 1.10. Novel Retirement Plan Correction Opportunity Offered by the IRS
On June 3, 2022, the IRS announced the launch of a “pre-examination” compliance program. Under the new program, the IRS sends letters to plan sponsors about an upcoming examination of their retirement plan or plans. The letter gives the plan sponsor 90 days to voluntarily review its retirement plan(s) for plan document and operational compliance, and self-report any errors and/or corresponding corrections back to the IRS no later than the end of the 90 day period. Following the IRS’s review of the plan sponsor’s response, the IRS can issue a closing letter or may choose to conduct a limited or full scope audit. Like all pilot programs, the IRS will evaluate the program’s effectiveness and determine whether it will be a permanent fixture of its compliance strategy. So is this new pre-examination compliance program a good thing or a bad thing for plan sponsors? Will the IRS use this to expand its audit abilities by having plan sponsors do its work for them, or will the program end up reducing the odds of a plan being subject to a full scope audit that could drag on for months or longer?
§ 1.10.1. Background
If you listen carefully, you may occasionally hear employee benefits practitioners applaud the IRS’ Employee Plans Compliance Resolution System (aka EPCRS), described in Revenue Procedure 2021-30, as being one of the most successful compliance programs in IRS history. This may be so. The program is designed to allow plan sponsors the opportunity to make reasonable corrections of retirement plan tax errors without penalty (and in many cases without even identifying the plan sponsor), other than the imposition of a user fee if a filing is made with the IRS. Moreover, since the form of its initial pilot program in the early 1990s, EPCRS has periodically and consistently evolved to further address difficulties facing plan sponsors intending to be compliant, but who are occasionally set-back by the complexities of the retirement plan regimes.
§ 1.10.2. New IRS Pilot Program
The latest compliance-related enterprise is a new pilot program, announced last month, which concerns compliance errors discovered upon IRS examinations of retirement plans (i.e., plan audits). When such errors are discovered by the IRS upon audit, EPCRS is often no longer available and the consequences can be particularly costly. Inevitably, it would be significantly less expensive for a plan sponsor who self-identifies errors and utilizes EPCRS before being notified of the examination. But that doesn’t always happen.
The essence of the new pilot program is to give plan sponsors a “90-day warning” to self-identify and report any errors that would have been precluded from EPCRS, had the errors been identified by the IRS on exam.
If a plan sponsor fails to respond within the 90-day window, the IRS will schedule an exam.
Errors that the plan sponsor identifies, may be either self-corrected if otherwise eligible under EPCRS. If not eligible for self-correction under EPCRS, the plan sponsor can enter into a closing agreement with the IRS to make the appropriate corrections at the cost of the voluntary compliance program (aka VCP) fee—which is likely to be a small fraction of the cost that would be facing the plan sponsor if the error(s) were discovered by the IRS upon examination.
After reviewing the plan sponsor’s response, the IRS may just enter into a closing agreement bringing the matter to an end, but reserves the right to conduct a limited or full scope exam, presumably if the response is not up to snuff.
We’re told from our industry sources that the IRS has unofficially stated that the pilot program presently is limited only to 100 defined contribution plans that have been identified for potential errors relating to compliance with the requirements of Internal Revenue Code section 415 (the annual contribution limit applicable to tax-favored retirement plans). If the pilot program is successful, the IRS intends to apply it more broadly.
§ 1.10.3. Benefits Counsel’s Perspective
Through a non-cynical lens, an expanded version of this program can be a win-win for plan sponsors and the IRS. Plan sponsors get a valuable heads up that an exam is coming and a “second chance” to correct errors. On the other hand, the IRS presumably can more efficiently allocate its resources.
Naturally, if you receive one of these letters, our advice is to conduct a robust review of the issues identified in the letter and prepare an appropriate response with the help of your Seyfarth Shaw employee benefits counsel.
We encourage you to contact us immediately if you receive one of these notices from the IRS.
Benjamin Spater
§ 1.11. PBGC Finally Publishes Final Rule on Special Financial Assistance Program
On July 8, 2022, the Pension Benefit Guaranty Corporation (“PBGC”) published its final rule (“Final Rule’) on the Special Financial Assistance (“SFA”) Program established under the American Rescue Plan Act of 2021 (“ARPA”). The Final Rule contains a number of significant developments and amendments from the interim final rule (“IFR”), including for example, expanding investment options for SFA assets, providing for separate interest rate assumptions for SFA versus non-SFA assets, loosening restrictions for benefit increases, and adding a new condition for phased recognition of SFA assets in calculating withdrawal liability. The Final Rule becomes effective on August 8, 2022. There is a thirty (30) day public comment period solely on the new phase-in condition for withdrawal liability starting from the Final Rule publication date.
Under the SFA Program, a financially troubled multiemployer pension plan may receive a one-time lump sum payment intended to be sufficient to allow it to pay all benefits due from the date the SFA payment is received through the last day of the plan year ending in 2051. We previously wrote about the IFR and explained the various eligibility conditions for SFA and the calculations involved. (Click here for our earlier Legal Update titled PBGC Issues Much Anticipated Interim Final Rule On Special Financial Assistance Under American Rescue Plan Act).
The following is a high-level summary of the key changes and developments from the Final Rule.
§ 1.11.1. Separate Interest Rate Assumptions for SFA and Non-SFA Assets
Under the Final Rule, the SFA amount will now be calculated using two different interest rate assumptions: one for SFA assets and another for non-SFA assets. This is an important development because the interest rates are used to calculate the total SFA amount, and with this new approach, plans should receive more in financial aid in most instances. Previously under the IFR, plans were required to use the same interest rate assumption for both SFA and non-SFA assets. This did not take into account that the IFR also required SFA and non-SFA assets to be segregated, with SFA assets limited to more conservative investments. Thus, using the same interest rate assumption for both pools of assets was not an accurate way for plans to project actual expected investment returns. This also meant that the SFA could fall short of the amount the plan would need to pay all benefits due through the plan year ending 2051.
Recognizing this issue, the Final Rule now bifurcates the required interest rate assumptions as follows:
For Non-SFA assets, the interest rate is the lesser of: (i) the rate used by the plan for zone certification status before January 1, 2021; and (ii) the third segment funding rate plus 200 basis points; and
For SFA assets, the interest rate is the lesser of: (i) the rate used by the plan for zone certification status before January 1, 2021; and (ii) the average of the three funding segment rates plus 67 basis points.
For plans whose applications are approved on or before August 8, 2022 (i.e., the Final Rule date), a supplemental application must be filed with the PBGC to take advantage of the two different interest rate assumptions. If an application is still pending as of August 8, 2022, then the plan will need to withdraw the application, revise and refile.
§ 1.11.2. Investment of SFA Assets
The Final Rule allows plans to invest up to 33% of SFA assets in return seeking investments (e.g., publicly traded common stock, equity funds that invest primarily in public shares, bonds, etc.), with the remaining 67% restricted to investment grade fixed income securities. Previously under the IFR, 100% of SFA assets were required to be invested in investment grade fixed income securities. This development adds an important element in the investment of SFA assets, and it could significantly increase the likelihood that plans will be able to avoid insolvency through 2051.
For plans receiving SFA amounts before August 8, 2022, the investment restrictions under the IFR will continue to apply unless a supplemental application is filed with the PBGC.
§ 1.11.3. MPRA Plans
The Final Rule revises the methodology for determining the SFA amount for plans that suspended benefits under the Multiemployer Pension Reform Act of 2014 (“MPRA”).
Previously under the IFR, a single method was used to calculate SFA amounts for plans that suspended benefits under the MPRA (“MPRA plans”) and those that did not (“non- MPRA plans”). Under the MPRA, benefit suspensions were approved if plans could demonstrate that such suspensions would enable the plan to avoid insolvency indefinitely. To qualify for SFA, MPRA plans must permanently reinstate any suspended benefits. However, under the IFR, an MPRA plan would only receive amounts necessary to avoid insolvency through 2051. Thus, under the IFR, MPRA plans were faced with the dilemma of either keeping any benefit suspensions in place to avoid insolvency indefinitely, or receiving SFA, reinstating benefits, and risking insolvency in the future.
To help alleviate this issue, the Final Rule provides that the SFA amount for MPRA plans is the greater of the following:
The SFA amount calculated without regard to any benefit suspensions (i.e., a non- MPRA plan);
The lowest SFA amount that is sufficient to ensure the plan’s projections demonstrate increasing assets in 2051; and
The SFA amount equal to the present value of reinstating suspended benefits through 2051 (including make-up payments).
§ 1.11.4. Retroactive Benefit Increases
The Final Rule allows retroactive benefit increases beginning ten years after receiving SFA, provided the plan can demonstrate to the PBGC that it will continue to avoid insolvency. The IFR did not permit retroactive benefit increases at all during the SFA period (i.e., through 2051), and only permitted prospective benefit increases when certain conditions were satisfied.
§ 1.11.5. Merger Involving SFA Plans
The IFR contained a number of restrictions and conditions, including PBGC approval, that are applicable in the event of merger of a plan receiving SFA. The Final Rule, however, removes restrictions on prospective benefit increases, allocation of assets, and allocation of expenses. The PBGC explained that such conditions would “unduly impede beneficial mergers.” In addition, a merged plan may apply for a waiver of certain other restrictions.
§ 1.11.6. Transfer from SFA Plan to Health Plan
While the PBGC was initially hesitant to permit reallocation of contributions between SFA plans and other employee benefit plans, the Department of Labor suggested that there may be circumstances that would justify good faith reallocations of income or expenses between plans (e.g., health benefit cost increases due to legislative changes). Addressing this narrow circumstance, the Final Rule now permits an SFA plan to apply to the PBGC for permission to temporarily reallocate to a health plan up to 10% of the contribution rate negotiated on or before March 11, 2021. The SFA plan must demonstrate that the reallocation of contributions is necessary to address an increase in healthcare costs required by a change in Federal law, and that the reallocation does not increase the risk of insolvency for the SFA plan. Plans can begin applying five years after receiving SFA, and reallocation of contributions relating to any single change in Federal law can last for no more than five years, with a limit of ten years cumulatively for all reallocation requests.
§ 1.11.7. Withdrawal Liability
The Final Rule adds a “phase-in” feature intended to ensure that SFA funds are not used to subsidize employer withdrawals.
Under the IFR, all SFA funds must be included as plan assets in determining unfunded vested benefits. As a result, it is likely that withdrawal liability would be significantly reduced when calculated immediately after plans receive SFA funding. After the changes in the Final Rule, however, the reduction in withdrawal liability will be more gradual, as plans are required to “phase-in” the recognition of SFA assets.
The phase-in period begins the first plan year in which the plan receives SFA and extends through the end of the plan year in which the plan expects SFA to be exhausted. To determine the amount of SFA assets excluded each year, the plan multiplies the total amount of SFA by a fraction, the numerator of which is the number of years remaining in the phase-in period, and the denominator is the total number or years in the phase-in period. The phased recognition of SFA assets does not apply to plans that received SFA funds under the terms of the IFR unless a supplemental application is filed. If the plan files a supplemental application, the phased recognition applies to withdrawals occurring on or after the date the plan files the supplemental application.
Solely for this new condition for determining withdrawal liability, there is a thirty (30) day public comment period starting on July 8, 2022, the date of publication of the Final Rule in the Federal Register.
§ 1.11.8. SFA Measurement Date and Lock-In Applications
To provide filers with more flexibility, the Final Rule redefines the “SFA measurement date” as the last day of the third calendar month preceding the plan’s initial application date. Previously under the IFR, the SFA measurement date was defined as the last day of the calendar quarter preceding the plan’s initial application date.
In addition, the Final Rule creates a mechanism to permit plans in priority groups 5, 6, and any additional priority groups established by the PBGC, to file a “lock-in application.” A lock-in application allows the plan to freeze its base data (i.e., SFA measurement date, census data, non-SFA interest rate assumption, and SFA interest rate assumption) when it is unable to file an application because the PBGC has temporarily closed the filing window. Eligible plans may file lock-in applications after March 11, 2023, and on or before December 31, 2025.
§ 1.11.9. Conclusion
As practitioners continue to digest the new Final Rule, there may be other issues that come up that are not addressed. As noted above, there will also be a thirty (30) day public comment period solely on the phase-in approach to calculating withdrawal liability, which may lead to additional changes. We will continue to monitor for further developments in that regard, and for any additional clarifying guidance from the PBGC.
Ryan Tzeng, Joel Wilde, Alan Cabral, and Seong Kim
§ 1.12. Federal Government Response to Dobbs Begins to Take Shape
As we have been covering, the Supreme Court has overturned Roe v. Wade in their Dobbs v. Jackson Women’s Health Organization, leaving it to states to regulate access to abortion in their territory. The Biden Administration’s response to the overturning of Roe V. Wade in Dobbs v. Jackson Women’s Health Organization is taking shape and it has directed the Federal governmental agencies to look at what they can and should do to protect women’s health and privacy. Over the last few weeks, those agencies have been weighing in.
Initially, during the week of June 27th, we saw the following agency activity:
Tri-Agency Guidance re Contraceptive Coverage: On June 27th, the agencies responsible for enforcing the provisions of the Affordable Care Act (ACA) — the Departments of Health and Human Services, Labor, and Treasury – issued a letter directed to health plans and insurers “reminding” them that group health plans must cover, without cost-sharing, birth control and contraceptive counseling for plan participants. They note that they are concerned about a lack of compliance with this mandate, and that they will be actively enforcing it.
HHS Guidance re HIPAA Privacy: Shortly after, HHS issued guidance regarding the privacy protections offered by HIPAA relating to reproductive health care services covered under a health plan, including abortion services. This guidance reminds covered entities that HIPAA permits, but may not require, disclosure of PHI when such disclosure is required by law, for law enforcement purposes, or to avert a serious threat to health or safety. The guidance described the following disclosure scenarios, without an individual authorization, as breaching HIPAA’s privacy obligations:
“Required by Law:” An individual goes to a hospital emergency department while experiencing complications related to a miscarriage during the tenth week of pregnancy. A hospital workforce member suspects the individual of having taken medication to end their pregnancy. State or other law prohibits abortion after six weeks of pregnancy but does not require the hospital to report individuals to law enforcement. Where state law does not expressly require such reporting, HIPAA would not permit a disclosure to law enforcement under the “required by law” provision.
“For Law Enforcement Purposes:” A law enforcement official goes to a reproductive health care clinic and requests records of abortions performed at the clinic. If the request is not accompanied by a court order or other mandate enforceable in a court of law, HIPAA would not permit the clinic to disclose PHI in response to the request.
“To Avert a Serious Threat to Health or Safety:” A pregnant individual in a state that bans abortion informs their health care provider that they intend to seek an abortion in another state where abortion is legal. The provider wants to report the statement to law enforcement to attempt to prevent the abortion from taking place. However, HIPAA would not permit this as a disclosure to avert a serious threat to health or safety because a statement indicating an individual’s intent to get a legal abortion, or any other care tied to pregnancy, does not qualify as a serious an imminent threat to the health and safety of a person or the public, and it generally would be inconsistent with professional ethical standards.
On Friday, July 9th, the Biden administration issued an “Executive Order on Protecting Access to Reproductive Healthcare Services.” The Executive Order creates the Interagency Task Force on Reproductive Healthcare Access and instructs different agencies in broad brushstrokes in at least three areas:
Access to Services: The Secretary and Health and Human Services is to identify possible ways to:
protect and expand access to abortion care, including medication abortion, and other reproductive health services such as family planning services;
increase education about available reproductive health care services and contraception;
ensure all patients receive protections for emergency care afforded by law.
The Secretary of Health and Human Services is directed to report back to the President in 30 days on this point.
Legal Assistance: The Attorney General and Counsel to the President will encourage lawyers to represent patients, providers and third parties lawfully seeking reproductive health services.
Physical Protection: The Attorney General and Department of Homeland Security will consider ways to ensure safety of patients, providers, third parties, and clinics, pharmacies and other entities providing reproductive health services.
Privacy and Data Protection: Agencies also will consider ways to: address privacy threats, e.g., the sale of sensitive health-related data and digital surveillance, protect consumers’ privacy when seeking information about reproductive health care services, and strengthen protections under HIPAA with regard to reproductive healthcare services and patient-provider confidentiality laws.
It did not take long for the agencies to respond:
On Monday, July 11th, in a letter to health care providers, HHS Secretary Xavier Becerra said that the federal Emergency Medical Treatment and Active Labor Act requires health care providers to stabilize a patient in an emergency health situation. Given the Supremacy Clause of the Constitution, that statute takes precedence over conflicting state law. As a result, that stabilization treatment could include abortion services if needed to protect the woman’s life.
Also on Monday, the Federal Trade Commission announced that it is taking action to ensure that sensitive medical data, including location tracking data on electronic applications, is not illegally shared. The FTC gave several examples of existing enforcement activity and noted it will aggressively pursue other violations.
We are certain to see more responses to the Executive Order and will update this space. Should you have any questions, please contact your Seyfarth attorney. We will continue to monitor and provide updates as developments unfold.
Emily Miller, Ben Conley, and Sam Schwartz-Fenwick
§ 1.13. Taking Surprise Out of the No Surprises Act
The cost of health care is on the rise, and patients across the United States are more frequently experiencing a bit of shock when their medical bills arrive in their mailbox. Even before the COVID-19 pandemic, rising health care costs were top of mind for many, including lawmakers.
Many states have passed restrictions or prohibitions on surprise billing, which often occurs when patients receive emergency or out-of-network care and the providers bill the difference between their billed charges and the amount paid by the patient’s health plan. This is also referred to as balance billing and the costs are usually both significant and unexpected. It often occurs in emergency care but can occur in nonemergency situations—for example, when an individual is unknowingly treated by an out-of-network provider at an in-network facility.
As other price transparency rules and legislation relating to welfare plans started flooding in during recent years, Congress passed legislation addressing the balance-billing issue at the federal level. On December 27, 2020, the No Surprises Act (NSA) was signed into law as part of the Consolidated Appropriations Act of 2021 (CAA). It is one of the many recent targeted efforts to increase price transparency in the health care world and reduce sticker shock when individuals are paying for care.
The law went into effect January 1, 2022, and aims to reduce surprise billing experienced by patients when they unwillingly or unintentionally receive services from an out-of-network provider. Since the initial passage of NSA, regulations and guidance have been released attempting to clarify the rules for plans, issuers and providers, and a number of court cases have been filed.
With the vast array of recent legislation impacting health and welfare plans, many employers are struggling to navigate the complex requirements being imposed as well as the practical implications of NSA. This article will review some of the key provisions of the law related to surprise billing, cost sharing and dispute resolution between providers and plans, and it will provide a list of action steps for health plan sponsors.
§ 1.13.1. What Types of Health Plans Are Subject to NSA?
Generally, NSA applies to insured and self-insured group health plans that provide coverage for emergency services, including both nongrandfathered and grandfathered plans under the Patient Protection and Affordable Care Act (ACA). However, group health plans constituting “excepted benefit” plans, health reimbursement arrangements, account-based group health plans and short-term limited duration insurance plans are not required to comply. NSA also applies to providers and health plan issuers.
§ 1.13.2. Emergency Care and Out-of-Network Air Ambulance Services
Under NSA, health plans must cover “emergency services” (including post-emergency stabilization services and out-of-network air ambulance services) without prior authorization, regardless of network status, without limiting the definition of emergency medical condition to those based only on diagnosis codes and regardless of any other plan provision (other than those related to an exclusion, coordination of benefits or permissible waiting period). Out-of-network emergency care requirements and limits cannot be more restrictive than those applicable to in-network care.
In addition, certain cost-sharing requirements are imposed on out-of-network emergency care. These provisions require health plans to pay claims at certain minimum levels of coverage and provide patient cost sharing equal to in-network levels. The cost-sharing requirements are discussed in greater detail below.
§ 1.13.3. Nonemergency Care from Out-of-Network Providers at In-Network Facilities
The emergency care rules described above also apply if a patient receives covered benefits under a plan from an out-of-network provider at an in-network facility, unless certain notice and consent requirements are satisfied by the provider. Where a patient receives nonemergency care and/or poststabilization services, balance billing may generally occur after notice and consent are provided and obtained by the provider. However, even if a provider issues notice and obtains consent, balance billing is still prohibited for certain types of nonemergency services, such as ancillary services relating to emergency care, diagnostic services and services provided by out-of-network providers when no in-network providers are available to provide care at the facility.
It is important to note that emergency care and air ambulance services cannot be balance billed even if the provider gives notice and obtains consent. Rather, balance billing may occur after notice and consent only for certain types of nonemergency care and poststabilization.
§ 1.13.4. Cost-Sharing Requirements
Although ACA already provides financial protection against excessive cost sharing by requiring minimum levels of coverage for emergencies and other situations, NSA expands the scope of these protections and also adds a prohibition against balance billing. Under NSA, cost sharing for emergency care and out-of-network services provided at in-network facilities must be the same as in-network cost sharing (based on the “recognized amount”) and must count toward in network deductibles and out-of-pocket maximums. The recognized amount is the lesser of billed charges or (1) the All-Payer Model Agreement of the Social Security Act (SSA), (2) applicable state law where the SSA All-Payer Model Agreement does not apply or (3) the qualifying payment amount (QPA) (the lesser of the median contract rate for the plan in the applicable geographic region or the provider’s billed charge).
For purposes of self-funded group health plans, the QPA is likely the applicable standard unless the plan has decided to opt in to applicable state law. For fully insured plans, the applicable standard is likely state law. If the QPA is the recognized amount for a certain claim, the plan must provide a disclosure to the provider indicating the QPA, information on the independent dispute resolution (IDR) process, contact information for the plan and a statement certifying that the QPA was calculated in accordance with NSA.
§ 1.13.5. Payment Disputes and the Independent Dispute Resolution Process
NSA lays out specific procedures for providers to follow in objecting to payment amounts and outlines mandatory procedures for negotiating and settling payment disputes with health plans. A binding IDR process is available to plans and providers for determining an out-of-network rate for services covered by NSA once the parties have openly negotiated with each other for 30 days.
The plan or provider must affirmatively initiate the IDR process. If the process is utilized by the parties to determine a payment rate, the IDR entity will consider the QPA, services provided, historical contracts, the training and experience of the provider, and the market share of the plan and provider. The parties may jointly select a certified IDR entity within three business days after the initiation of the IDR process; if an IDR entity is not selected on a timely basis, an IDR entity will be selected for the parties and assigned no later than six business days after the IDR process has been initiated. The DOL, HHS and IRS maintain a list of certified IDR entities online and, in April 2022, released the Federal Independent Dispute Resolution (IDR) Process Guidance for Disputing Parties for certified IDR entities to follow in administering the IDR process.’ Several lawsuits have been filed by providers over the payment dispute process, and one court has vacated part of a prior interim federal rule requiring IDR entities to give deference to the QPA (removing the presumption in favor of the QPA during an arbitration).
Although the IDR process does not replace the ACA external review requirements (which are used to resolve disputes between plans and individuals over adverse benefit determinations), it is possible for a dispute to go through both the IDR process and the external review process. For example, a claim initially denied but later required to be covered as a result of the external review process might subsequently go through the IDR process in order to determine the payment amount.
§ 1.13.6. Publicly Available Notice
NSA requires plans and providers to post a publicly available notice regarding the various balance-billing protections under the law. The notice should be posted on a public website of the plan and included on each explanation of benefits for an item or service to which the NSA requirements apply. A model notice has been made available by the agencies.
§ 1.13.7. Enforcement of NSA
In order to enforce the rules under NSA, agencies can rely on enforcement mechanisms under the Employee Retirement Income Security Act of 1974 (ERISA), the Internal Revenue Code and the Public Health Service Act. In addition, the agencies may increase enforcement mechanisms available to them through future rulemaking.
§ 1.13.8. Future Guidance Expected
Additional guidance is expected from the agencies relating to NSA and implementation of its new rules. Employers and plan sponsors should keep a close eye on the headlines and court decisions in order to ensure continued compliance. In addition, employers should not forget about other ongoing price transparency efforts including, but not limited to, additional price transparency requirements within CAA (such as an advance explanation of benefits and a price comparison tool) and the transparency in coverage regulations requiring health plans to disclose in-network provider negotiated rates, historical out-of-network allowed amounts for providers, and in-network negotiated rates and historical net prices for covered prescription drugs.
§ 1.13.9. Recommended Action Steps for Health Plan Sponsors
Health plan sponsors should consider the following steps to work toward compliance with NSA.
Review and update the definition of emergency services under the plan to ensure the scope of the definition complies with NSA. Emergency care now encompasses a much broader scope of services—including some services not typically thought of as emergency.
Review and update cost-sharing provisions under the plan, taking into consideration the requirement that cost sharing for emergency care and out-of-network services at in-network facilities must be the same as in-network cost sharing.
Review processes for calculating in-network accumulators (e.g., deductibles and out-of-pocket maximums) in light of the requirement that cost sharing for emergency care and out-of-network services at in-network facilities must count toward in-network deductibles and out-of-pocket maximums.
Analyze and update standards reviewing emergency care claims so as not to run afoul of the requirement that claims not be denied automatically based solely on diagnosis codes.
If the plan is a self-funded group health plan, decide whether to opt in to state law or rely on the QPA for purposes of setting the “recognized amount’ If the QPA will be utilized, determine what the median contract rate will be based on.
Draft a publicly available notice (keeping in mind that the agencies have developed a model notice) discussing the protections under NSA, and determine how the public notice will be made available for the plan. Consider whether it should be included in the plan’s summary plan description(s) (SPD(s)) or other plan-related materials (e.g., explanation of benefits, open enrollment materials, etc.).
Connect with third-party administrators and insurance carriers regarding delegation of and responsibility for handling payment disputes and the IDR process. This may include reviewing and negotiating service agreements with plan service providers to determine whether and how they will implement compliance with the IDR requirements on behalf of the plan.
Consult with legal counsel to determine whether the plan and/or SPD should be updated to reflect or describe the payment dispute and IDR process.
Monitor guidance issued by the agencies and court rulings relating to NSA and other ongoing price transparency efforts.
Periodically and consistently review and update provider network directories so that plan participants are aware of which providers are considered in network. Carriers should make these changes, but plan sponsors should monitor carriers and update contracts to ensure directories are kept up to date.
Review and update ongoing fiduciary compliance efforts relating to the plan, including establishing a fiduciary committee, adopting or revising policies and procedures for the fiduciary committee, and monitoring plan service providers.
Caroline Pieper
§ 1.14. Ninth Circuit Discusses Use of Occupational Data in Long-Term Disability ERISA Benefits Denial
In an unpublished decision, a three-judge panel of the Ninth Circuit in Kay v. Hartford Life and Accident Ins. Co., 2022 WL 4363444 (9th Cir. 2022) reversed Judge Michael Anello’s decision out of the Southern District of California to deny Plaintiff Anne Kay’s claim for benefits under the Employee Retirement Income Security Act (ERISA).
Kay had stopped working in August 2015 due to escalating back pain. She applied for and received disability benefits under her employer’s long-term disability plan, administered by Hartford Life and Accident Insurance Company. Hartford terminated her benefits in July 2016 and upheld its termination in an administrative appeal, finding that she was not disabled from performing her occupation as it is recognized in the general workplace.
The Ninth Circuit found that the district court abused its discretion by denying Kay’s motion to augment the record. Id. at *1. In an ERISA case, a court may exercise its discretion to consider evidence outside of the administrative record only when circumstances clearly establish that additional evidence is necessary to conduct an adequate de novo review of the benefit decision. The Ninth Circuit wrote that because ERISA guarantees plan participants a statutory right to a “full and fair review” of a disability claim, additional evidence is necessary when an administrator tacks on a new reason for denying benefits in a final decision, thereby precluding the plan participant from responding to that rationale for denial at the administrative level.
In denying Kay’s claim for LTD benefits, Hartford offered a new rationale based on new supporting evidence. As a clinical specialist, Kay was required to travel up to 80% of the time, to work over 40 hours per week, and to move equipment that weighed upwards of 270 pounds. Hartford’s initial determination was based on a finding that she was not disabled from these duties. In Hartford’s denial of her appeal, the administrator concluded that the travel and lift requirements were not essential to her occupation in the “general workplace.” To support this rationale, Hartford produced a new occupational report defining the essential duties of Kay’s role as a hybrid of two definitions from the Department of Labor’s Dictionary of Occupational Titles, and a medical report from a physician concluding that Kay was not disabled from performing those duties. Id.
The district court denied Kay’s motion to augment the administrative record with evidence intended to refute Hartford’s new rationale. The Ninth Circuit found that in so doing, the district court effectively insulated the Hartford’s decision from a “full and fair review.”
The Ninth Circuit also found that it was also an error for Hartford and the District Court to define Kay’s position to omit the 80% travel and 270-pound lifting requirements. Id. at *2. The Hartford plan definition of occupation included the employee’s vocation “as it is recognized in the general workplace.” Id.
The Ninth Circuit recognized that while the DOT are an appropriate source for insurers applying a “general workplace” or “national economy” standard to consider an employee’s occupational duties, a proper administrative review requires that the insurer analyze, in a reasoned and deliberative fashion, what the claimant actually does before it determines what the essential duties of a claimant’s occupation are. Id.
In this case, the Ninth Circuit found that the record reflected that Hartford’s occupational specialist defined Kay’s occupation by matching DOT titles to generic job descriptions from Indeed.com and failed to select DOT titles that approximated her actual job responsibilities, including her position’s extensive travel and lifting requirements. Id.
While Hartford’s policy definition explicitly did not define occupation as including the specific job Kay was performing, the Ninth Circuit found that the occupational review needed to better match with her actual job duties. Failing to do so would not be a reasoned and deliberate analysis, as is required by Ninth Circuit precedent. As for the impact of this decision, questions remain as to how closely a theoretical job in the “general workplace” or “national economy” standard will need to match with an employee’s actual job duties. Plan administrators should review the participant’s actual job duties when evaluating the essential duties of the job and be sure to document all references for the administrative record.
Kathleen Cahill Slaught and Ryan Tikker
§ 1.15. Employers May Have to Pay More in 2022 under New ACA Limits
The IRS has announced adjustments decreasing the affordability threshold for plan years beginning in 2023, which may cause employers to have to pay more for ACA compliant coverage in 2023.
The IRS recently released adjustments decreasing the affordability threshold for plan years beginning in 2023 in Revenue Procedure 2022-34.
Under the Affordable Care Act (ACA), applicable large employers (ALEs) that do not offer affordable minimum essential coverage to at least 95% of their full-time employees (and their dependents) under an eligible employer-sponsored health plan may be subject to an employer shared responsibility penalty. Generally speaking, coverage is affordable if the employee-required contribution for self-only coverage is no more than 9.5% (as adjusted each year) of the employee’s household income. The adjusted percentage for 2022 is 9.61%. For more information regarding the 2022 affordability threshold, see our prior Blog Post here.
§ 1.15.1. Adjusted Percentage for 2023
Under Revenue Procedure 2022-34, the adjusted percentage for 2023 will be 9.12%. This is a decrease of 0.49% from the 2022 affordability threshold of 9.61%, and is the lowest affordability threshold to date by far.
§ 1.15.2. Federal Poverty Line (FPL) Safe Harbor
Making calculations based on each employee’s household income would be administratively burdensome. Accordingly, there are three safe harbors for determining affordability based on a criterion other than an employee’s household income; namely an employee’s Form W-2 wages, an employee’s rate of pay, or the FPL. If one or more of the safe harbor methods can be satisfied, an offer of coverage is deemed affordable. The FPL safe harbor is the easiest to apply, since an employer has to do just one calculation and can ignore employees’ actual wages, and is intended to provide employers with a predetermined maximum required employee contribution that will in all cases result in coverage being deemed affordable. Under the FPL safe harbor, employer-provided coverage offered to an employee is affordable if the employee’s monthly cost for self-only coverage does not exceed the adjusted percentage (9.12% for 2023) of the federal poverty line for a single individual, divided by 12. The federal poverty guidelines in effect 6 months before the beginning of the plan year may be used for an employer to establish contribution amounts before the plan’s open enrollment period.
For plan years beginning in 2023, a plan will meet the ACA affordability requirement under the FPL safe harbor if an employee’s required contribution for self-only coverage does not exceed $103.28 per month.
Given the large decrease in the adjusted percentage, employer-sponsored health coverage that was considered to be affordable prior to 2023 may no longer be considered affordable in 2023. Therefore, employers may have to pay more for ACA compliant employer-sponsored health coverage in 2023. If you have any concerns about the affordability of your health care coverage offerings, please reach out to one of our Employee Benefits attorneys directly.
Joy Sellstrom and Mary Kennedy
§ 1.16. Leaked Opinion Becomes Reality — Roe v. Wade Is Overturned
Culminating a flurry of late June opinions released by SCOTUS this week, the court today in Dobbs v. Jackson Women’s Health Organization has taken the extraordinary step of ending decades of precedent surrounding the protections for abortion-related services under the U.S. Constitution. The opinion has been widely anticipated since a draft opinion was leaked, and overturns the prior SCOTUS opinions in Roe v. Wade (1973) as well as Planned Parenthood v. Casey (1992).
The result is that states will be allowed to regulate abortion access within their borders. As we have previously covered, employers with facilities and employees in states which restrict access to abortion, prenatal, contraceptive and other similar services will be faced with a decision on how to ensure equal access for health plan services to their workforce.
Diane Dygert
§ 1.17. H.R. 7780 – Mental Health Matters Act Passes House
H.R. 7780, or the Mental Health Matters Act, passed the House by a 220-205 vote in September 2022. The bill has been received by the Senate and has been referred to the Committee on Health, Education, Labor, and Pensions. The Act claims that it would improve access to behavioral health services for children, students, and workers, respond to the growing behavioral health needs of communities across the country by investing in access to behavioral health services, equipping schools to better respond to the needs of its students, and improve access to behavioral health benefits in job-based health coverage.
The Act would authorize the Secretary of Labor to impose civil monetary penalties for violations of the Employee Retirement Income Security Act (ERISA) that were added by the Mental Health Parity and Addiction Equity Act. It also would authorize $275 million over ten years to the Department of Labor for enforcement of the Mental Health Parity Act and requirements of ERISA that relate to mental health and substance abuse disorder benefits.
It would also deem forced arbitration clauses, class action waivers, and representation waivers unenforceable for ERISA Section 502 claims and common law claims relating to a plan or benefits under a plan, when brought by or on behalf of a plan participant or beneficiary.
This bill garnered a reaction from the ERISA Industry Committee (ERIC), which is a national nonprofit organization exclusively representing the largest employers in the United States in their capacity as sponsors of employee benefit plans for their nationwide workforces. ERIC noted its opposition to the bill, citing that it would significantly increase costs and reduce access to benefits. In particular, ERIC noted that the bill proposes doubling the budget for the Employee Benefits Security Administration to fund litigation against plan sponsors. ERIC cautioned that the bill as currently written would also eliminate discretionary clauses (with respect to single-employer plans), which grant a plan administrator the authority to interpret the plan document and resolve disputes pursuant to the extensive DOL regulations.
In contrast, the White House urged passage of the legislation, citing that it will expand access to mental health and substance use services for youth, and help prevent Americans from being improperly denied mental health and substance use benefits by ensuring a fair standard of review by the courts and banning forced arbitration agreements.
It remains to be seen whether the Senate will pass the Mental Health Matters Act as written, or with watered-down provisions.
We will continue to watch the progression of the Mental Health Matters Act and its handling in the Senate. Passage of the Act as written would call for widespread changes to ERISA litigation generally, particularly whether its language regarding the elimination of discretionary clauses, arbitration clauses and class action waivers.
Kathleen Cahill Slaught and Ryan Tikker
§ 1.18. Between a Rock and a Hard Place… ESG Investments in 401(K) Plan Line-Ups
The ever-evolving landscape of environmental, social and governance (ESG) factors and 401(k) plan investment options may have just become even more complicated.
§ 1.18.1. Yet Another Twist
As we’ve covered on our blog over the last few years, the DOL’s guidance on whether environmental, social and governance (ESG) investments are an appropriate investment for ERISA plans has changed significantly. The Securities and Exchange Commission (“SEC”) has added a new potential twist that could place fiduciaries of retirement plans, like 401(k) plans, and the Board of Directors of companies that sponsor such plans in a very difficult position. Specifically, the SEC recently released correspondence related to its denial of the request from two different companies to exclude from its proxy materials a shareholder’s proposal concerning the investment options under the company’s retirement plan.
§ 1.18.2. The Shareholder’s Proposal
Shareholders in a public company have the right to bring certain matters to a vote in order to require the company to take an action that it otherwise might not take. Such shareholder proposals are typically voted on by shareholders using a “proxy voting” process, where a shareholder submits a proposal to the company for inclusion in the company’s proxy statement. If the proposal is included, shareholders can effectively vote for or against the proposal at a shareholder meeting. This proxy voting process is regulated by the SEC, and a company seeking to exclude a shareholder proposal from its proxy statement can request a “no action” letter from the SEC staff addressing whether the proposal can be excluded.
Here, the relevant shareholder’s proposal was for the Board to prepare a report reviewing the company’s retirement plan investment options and the Board’s assessment of how those options align with the company’s climate action goals. In its request, the shareholder asserted that:
every investment option in the company’s retirement plan (including the default investment option(s)) contains “major oil and gas, fossil-fired utilities, coal, pipelines, oil field services, or companies in the agribusiness sector with deforestation risk”; and
the retirement plan does not offer any equity funds that are “low carbon” and only includes a very limited number of funds that screened for “environmental/social impact.”
The shareholder also noted that the retirement plan investment options contradicted the company’s stated climate reduction commitment, which the shareholder asserted raises reputational risks for the company and could make it difficult to retain employees. Two companies sought to exclude this proposal from their proxy statements and requested a “no action” letter from the SEC staff permitting them to do so. These requests were denied.
§ 1.18.3. Evolution of SEC’s Position on Shareholder Proposals
The SEC’s refusal to exclude the proposal is part of a decades-long evolution of the SEC’s position on how to implement SEC Rule 14a-8 (the “Shareholder Proposal Rule”). Under the Shareholder Proposal Rule, a company may exclude shareholder proposals under certain circumstances, including where the proposal involves the company’s “ordinary business operations.” Before doing so companies generally request that the SEC staff issue a “no action” letter indicating the staff’s agreement that a shareholder proposal can be excluded. In a recent speech, the Director of the SEC’s Division of Corporate Finance laid out the history from the 1960s to today of how stakeholders sought to influence social policy through shareholder proposals and the SEC’s recognition that a proposal involving “substantial public policy” might go beyond “ordinary business” and might not be excluded.
Most recently, on November 3, 2021, the SEC staff published Staff Legal Bulletin 14L (CF), providing a broader interpretation of the Shareholder Proposal Rule than had been seen under the Trump-era SEC, and highlighting that proposals involving human capital and climate would be less likely to be excluded. Specifically, the SEC stated the “staff will no longer focus on determining the nexus between a policy issue and the company, but will instead focus on the social policy significance of the issue that is the subject of the shareholder proposal. In making this determination, the staff will consider whether the proposal raises issues with a broad societal impact, such that they transcend the ordinary business of the company.” This statement is significant as it reflects the continued march toward taking into account all stakeholders, a fundamental principle of ESG.
While Bulletin 14L advances the ESG focus of the Biden Administration, it received mixed reviews from the SEC Commissioners, with the SEC Chair praising it, while Commissioners Hester Pierce and Elad Roisman released a sharply critical statement. Thus, while the SEC staff has indicated it will take a broad approach to shareholder proposals, the open disagreement amongst Commissioners reflects that the SEC’s internal debate over the Shareholder Proposal Rule is far from over.
§ 1.18.4. What’s a Plan Fiduciary to Do?
In its request to exclude the shareholder’s proposal, the company raised two ERISA-related concerns. First, the company noted that the Board did not have responsibility for, or other control of, the company’s retirement plan. Second, the company asserted that applicable law (i.e., ERISA) mandates that a responsible fiduciary select retirement plan investment options solely in the interest of plan participants. In response, the shareholder asserted that the proposal was limited to a report and that it did not request or require any changes to the company’s retirement plan investment options. Further, the shareholder asserted that the proposal was consistent with the Biden administration’s initiatives for fiduciaries to consider climate impact when evaluating the investment options under a retirement plan.
So, what happens if the requested report concludes that the retirement plan’s investment options do not align with the company’s climate action goals, with the Board’s related assessment reaching the same conclusion? Does it put the company at risk for potentially having its retirement plan investment options misaligned with its overall ESG strategy? For many companies, the Board is not the ERISA fiduciary responsible for making decisions related to the retirement plan’s investments. So, the Board, itself, likely would not be in a position to actually change any investments as a result of such assessment.
The question then is what, if anything, should ERISA plan fiduciaries do with such a report?
Would some plan participants allege that the ERISA fiduciaries breached their fiduciary duties if they don’t change investment options as a result of such a report?
Would other plan participants allege a breach of fiduciary duty if the fiduciaries do change the investment options as a result of such a report?
ERISA requires plan fiduciaries to act in the sole interest of plan participants, even under the guidance cited by the shareholder here (and described here), and analyze the risk-return of a particular investment. So, plan fiduciaries could face allegations of breach of fiduciary duties if they simply change investments as a result of such a report without careful analysis.
The SEC’s ruling may be just another chapter in this story. If a company’s shareholders approve one of these proposals, it will be interesting to see the ultimate outcome. Yet another reason to stay tuned to the ever-evolving landscape of environmental, social and governance (ESG) factors, and ERISA’s fiduciary duties and responsibilities when evaluating a retirement plan’s investments.
Linda Haynes and Matthew Catalano
§ 1.19. Class Action Lawsuit Filed Against Washington State’s Long-Term Cares Act — Dismissed!
A federal judge has dismissed a class action lawsuit that challenged the Washington Long-Term Cares Act (“Cares Act”), ruling that because the Cares Act is not established or maintained by an employer and/or employee organization, it is not an employee benefit plan and therefore not governed or preempted by ERISA. The Court also held that the premiums assessed by the Cares Act constitute a state tax. As such, only state courts, not U.S. federal courts, have jurisdiction to rule on the Cares Act.
§ 1.19.1. Background
As we discussed in our prior blog post and legal update, the Washington Cares Act passed in 2019 and was set to begin collecting payroll taxes from Washington employees in January 2022 to help pay for the long-term care (“LTC”) expenses of the State’s residents. However, Governor Inslee announced in December 2021 that the State would pause collection of the tax from employers until lawmakers reassessed revisions to the program.
§ 1.19.2. Latest Developments
On April 25, 2022, Judge Zilly of the U.S. District Court for the Western District of Washington dismissed a class action lawsuit that challenged the Cares Act, holding that the Court does not have jurisdiction for two reasons: (1) the Cares Act is not governed or preempted by the federal Employee Retirement Income Security Act of 1974, as amended (“ERISA”) and thus ERISA does not confer jurisdiction on the federal courts; and (2) the Cares Act’s premium constitutes a tax, and the Tax Injunction Act drastically limits federal district court jurisdiction to interfere with local concerns as to the collection of taxes. As a result, the Court dismissed the action as any legal challenges to the Cares Act must be brought in state court.
§ 1.19.3. Not Pre-Empted by ERISA
In its opinion, the Court noted that ERISA applies to employee benefit plans that are established or maintained by an employer and/or employee organization. The Court determined that the Cares Act was a creation of the Washington legislature, which is neither an employer or an employee organization as defined by ERISA; therefore, the Cares Act is not an ERISA-covered employee benefit plan. In so doing, the Court rejected plaintiffs’ assertion that the State acted as an employer when it passed the Cares Act. This was because the Cares Act assesses a premium on all covered employees in the State, not just those employed by the State. Consequently, the Court determined that the State acted as a sovereign when it adopted the Cares Act, unlike when it adopts employee health or pension benefit plans that extend or accrue benefits only to individuals while they are employed by the State.
§ 1.19.4. Cares Act’s Premiums Constitute a Tax
The State’s motion to dismiss the lawsuit argued that the Cares Act’s premiums were a tax imposed on employees’ wages and thus, the federal court lacks jurisdiction as state tax challenges must be brought in state courts. To determine whether the Cares Act’s premiums are a tax or insurance premium, the court reviewed three factors set forth in prior case law:
The entity imposing the premium assessment was the State legislature (not an administrative agency), making it more likely to be a tax;
The parties required to pay the premium assessment include a large group of people, and the broader the group affected, the more likely it is to be a tax; and
The ultimate use of the premium assessment is to directly benefit all members of the public who paid premiums for the requisite period and meet the criteria for receiving LTC services. Therefore, the Cares Act provides a general benefit to the public, making it more likely to be a tax, even if the amounts collected under it are segregated in special funds.
The Court agreed with the defendants that the Cares Act is analogous to the unemployment insurance scheme, payments which are undisputedly taxes. Therefore, the federal Court lacked jurisdiction pursuant to the Tax Injunction Act, under which state courts have exclusive jurisdiction over challenges to state taxes.
§ 1.19.5. Takeaways for Employers
The ruling in Pacific Bells LLC et al. V. Inslee et al. demonstrates that despite the challenges to the Cares Act in federal court, further challenges may very well be made in state court. During oral arguments, plaintiffs sought a ruling from the Court that the Cares Act premiums constitute an income tax that is barred by the Washington State Constitution. The Court noted that such arguments should be litigated within the State’s administrative and/or judicial system.
Liz Deckman
§ 1.20. SECURE 2.0: Here We Go Again
The SECURE Act, passed just before the onset of the COVID-19 pandemic at the end of 2019, significantly altered the retirement plan landscape. In 2021, another bill, Securing a Strong Retirement Act of 2021, was considered but never passed. The bill was revised and reconsidered in 2022, renamed the Securing a Strong Retirement Act of 2022 (“SECURE 2.0”), recently passed the House on March 29, 2022, and has been referred to the Senate. SECURE 2.0 builds on the SECURE Act and, if enacted, will require another close review of current retirement plan provisions and administration.
Is SECURE 2.0, as passed by the House, better than the original SECURE Act? Below are some of its provisions so plan sponsors and administrators can decide for themselves.
Required Minimum Distributions. The original SECURE Act raised the RMD age from 70-1/2 to age 72 beginning in 2020. Under SECURE 2.0, the RMD age would increase to age 73 in 2023, age 74 in 2030, and age 75 in 2033. Also, excise taxes for certain RMD failures would be reduced.
Mandatory Cashout Limit. The mandatory cashout limit, when distributions can be made without a participant’s consent, would increase to $7,000 from $5,000 in 2023.
Automatic Enrollment and Escalation in New 401(k) and 403(b) Plans. Newly established 401(k) and 403(b) plans would be required to automatically enroll eligible employees at 3% with automatic increases on and after January 1, 2024. Plans in existence prior to the enactment of SECURE 2.0, along with other limited exceptions, would be exempt from this rule.
Catch-Up Contributions. Beginning in 2024, participants at ages 62, 63, and 64, would be able to contribute up to $10,000 (indexed for cost-of-living) as catch-up contributions, an increase from the current limit of $6,500. Additionally, beginning in 2023, all catch-up contributions (other than those made to SEPs or SIMPLE IRAs) must be Roth contributions.
Employer Matching Contributions on Student Loan Repayments. Beginning in 2023, 401(k), 403(b), and governmental 457(b) plans would be permitted to match a participant’s student loan payments similar to plan elective deferrals.
Long-Term/Part-Time Workers. The original SECURE Act amended the Code to provide that part-time employees who work at least 500 hours each year for three consecutive years must be eligible to make salary deferrals into a 401(k) plan. SECURE 2.0 would amend ERISA to include both 401(k) and 403(b) plans, and change the eligibility requirement to 500 hours in two years. The first group of part-time workers could become eligible for a plan in 2023, not 2024 as is the case under the original SECURE Act.
Roth Matching Contributions. For 401(k), 403(b), and governmental 457(b) plans, plan sponsors could permit employees to elect that matching contributions be treated as Roth contributions.
Hardship. For hardship withdrawals, plans would be permitted to rely on an employee’s self-certification that the employee has incurred a hardship. Additionally, SECURE Act 2.0 would harmonize the rules for hardship distributions under 403(b) plans with the 401(k) plan rules (e.g., making account earnings under a 403(b) plan available for hardship distributions).
403(b) Investment in Collective Investment Trusts. Investment in Collective Investment Trusts (CITs) is currently permitted in various plans, including 401(k) plans, and is often used as a lower cost investment option for participants. 403(b) plans have historically been prohibited from investing in CITs, but SECURE 2.0 would specifically allow it beginning in 2023.
Other interesting proposals in SECURE 2.0 include permitting employers to offer small financial incentives to encourage participation in 401(k) plans, and penalty-free withdrawals of plan account balances (of up to $10,000) to victims of domestic abuse. Also, while the proposal eliminates the requirement to provide certain annual notices to employees who have not enrolled in an individual account plan as long as they receive an annual reminder notice of plan eligibility, it also adds a requirement to provide paper statements to 401(k) plan participants at least once a year and at least once every three years to pension plan participants. Finally, the proposal notably does not include any provisions about the much talked about elimination of Roth conversions.
As noted, this bill has only been passed by the House. Although there was significant bipartisan support in the House, it is likely that the provisions will be modified as the bill makes its way through the Senate.
Liz Deckman, Sarah Magill and Christina Cerasale
§ 1.21. No More Surprises, but Much Uncertainty over Non-Network Bills
Last summer and fall, the Departments of Treasury, Labor, and Health and Human Services issued Interim Final Rules (IFRs), implementing the sweeping changes that applied to out-of-network health care providers and health plans under the No Surprises Act. While much of the IFR content was welcome relief for health plans and participants, not all providers were content with the new rules, leading to the filing of several lawsuits. One such lawsuit was recently decided by the federal court in the Eastern District of Texas, which has struck down portions of the IFRs related to determining disputed payment levels.
If a health plan and an out-of-network provider cannot agree on a payment amount, the No Surprises Act requires that the appropriate amount be determined by an independent arbitrator, referred to as an “IDR entity.” When choosing between the provider’s requested payment rate and the plan’s offer, the IDR entity is directed to consider the plan’s “qualifying payment amount” or “QPA.” As we described in our Legal Update, the QPA is the lesser of the provider’s billed charge or the plan’s median contracted rate for the same or similar service in the geographic region where the service is performed. The IDR entity is to consider the QPA, the training and experience of the provider, the market share of the plan and provider, any contract history, and the services provided. The Court said that the IFRs require the IDR entity to presume the plan’s QPA is correct, and consider other factors listed in the Act only if credible and demonstrate the appropriate rate is materially different from the QPA, which imposes a heightened burden to overcome the QPA presumption.
The Court found that the agencies did not follow proper notice and comment, and failed to follow the text of the No Surprises Act itself when it set forth its guidance as to how IDR entities were to give deference to the QPA when arriving at a provider’s payment amount. As a result, the Court vacated the portion of the IFRs at issue. The Court’s decision indicated that the No Surprises Act contained sufficient detail on the IDR process to allow arbitrations to proceed in the absence of the regulatory presumption in favor of the QPA as the appropriate payment level.
§ 1.21.1. What’s Next?
While the administration may appeal the ruling, the decision has nationwide impact immediately. Similar cases filed in other Federal districts may be put on hold pending any appeal, or revision of the IFRs in final rules.
§ 1.21.1. Implications for Plan Sponsors
Most plan sponsors have delegated the IDR process to their third-party administrators (or insurance carriers, in the case of fully-insured plans), so it is likely that no immediate action is required for most plans. Plan sponsors should be aware, however, that in the absence of the regulatory presumption in favor of the QPA, there is a greater risk that an arbitrator would side with the provider rather than the plan, resulting in potentially greater payment obligations from the plan sponsor.
Mark Casciari and Ronald Kramer
§ 1.22. Ninth Circuit Clarifies De Novo Review Standard and Newly Raised Arguments in ERISA Litigation
Recently, the Ninth Circuit addressed and further clarified the requirement of a “full and fair review” in the context of a long-term disability benefit case under the Employee Retirement Income Security Act (ERISA). In matters that go to litigation, the Ninth Circuit held that a district court may not rely on rationales that the plan administrator did not raise as grounds for denying a claim for benefits. By failing to make arguments during the administrative process, but raising them for the first time at litigation, this can be found to be a violation of the “full and fair review” afforded by ERISA.
In Collier v. Lincoln Life Assurance Co. of Boston, 53 F.4th 1180 (9th Cir. 2022) the Ninth Circuit considered an appeal under ERISA of a plan administrator Lincoln Life Assurance Company of Boston’s denial of her claim for long-term disability benefits. The participant Collier pursued an internal appeal after Lincoln denied her claim for LTD benefits. Lincoln again denied her claim. On de novo review, Judge James Selna of the Central District of California affirmed the administrator’s denial of her claim, finding that Collier was not credible and that she had failed to supply objective medical evidence to support her claim. The district court concluded that because a court must evaluate the persuasiveness of conflicting testimony and decide which is more likely true on de novo review, credibility determinations are inherently part of its review.
Apparently not so. The participant appealed, and the Ninth Circuit reversed, finding that the district court adopted new rationales that the plan administrator did not rely upon during the administrative process. The Ninth Circuit expressly held a district court clearly erred by adopting a newly presented rationale when applying de novo review.
The Ninth Circuit clarified that when a district court reviews de novo a plan administrator’s denial of benefits, it examines the administrative record without deference to the administrator’s conclusions to determine whether the administrator erred in denying benefits. It wrote that the district court’s task is to determine whether the plan administrator’s decision is supported by the record, not to engage in a new determination of whether the claimant is entitled to benefits. Id. at 1182.
The plaintiff Collier worked as an insurance sales agent when she experienced persistent pain in her neck, shoulders, upper extremities, and lower back, which she contended limited her ability to type and sit for long periods of time. She underwent surgery on her right shoulder and later returned to work, where she claimed that she continued to experience persistent pain. After applying for workers compensation, which recommended her employer institute ergonomic accommodations for Collier to allow her to work with less pain, Collier eventually stopped working, citing her reported pain as the cause.
After engaging in the administrative appeal process with Lincoln, she filed suit in the Central District of California. For the first time in its trial briefs, Lincoln argued that the participant was not credible. It further argued that her doctor’s conclusions were not supported by objective evidence, as they relied upon her subjective account of pain. Finally, Lincoln argued that her restriction could be accommodated with ergonomic equipment, such as voice-activated software. Id. at 1184.
As this was an ERISA action for LTD benefits, the administrative record was the only documentary evidence admitted by the district court. Judge Selna issued a findings of fact and conclusions of law affirming Lincoln’s denial of LTD benefits. Reviewing the decision de novo, Judge Selna concluded that Collier failed to demonstrate she was disabled under the terms of the plan. The court adopted Lincoln’s reasoning in determining she was not disabled, namely relying upon a finding that Collier’s pain complaints were not credible and that she failed to support her disability with objective medical evidence.
In reversing the decision by the district court, the Ninth Circuit wrote that a plan administrator “undermines ERISA and its implementing regulations when it presents a new rationale to the district court that was not presented to the claimant as a specific reason for denying benefits during the administrator process.” The Ninth noted it has “expressed disapproval of post hoc arguments advanced by a plan administrator for the first time in litigation.” Id. at 1186.
While the Ninth Circuit has held that a plan administrator may not hold in reserve a new rationale to present in litigation, it has not clarified whether the district court clearly errs by adopting a newly presented rationale when applying de novo review. It explicitly does so now, finding that a “district court cannot adopt post-hoc rationalizations that were not presented to the claimant, including credibility-based rationalizations, during the administrative process.” Id. at 1188.
The Collier ruling places strict mandates on plan administrators to specifically and expansively delineate the bases for denials at the administrative stage. Simply stating that a claimant does not meet a policy definition, such as the disability standard under the applicable plan, is now not enough.
Tucker Ellis LLP 950 Main Avenue, Suite 1100 Cleveland, OH 44113 216-696-2476 [email protected]
Giovanna Ferrari
Seyfarth Shaw LLP 560 Mission Street, Suite 3100 San Francisco, CA 94105 415-544-1019 [email protected]
§ 10.1 Introduction
Trial lawyers eagerly anticipate the day they begin opening statements in the courtroom and get to take their client’s matter to trial. With a trial comes a lot of hard work, preparation, and navigation of the civil rules and local rules of the jurisdiction. This chapter provides a general overview of issues that a lawyer will face in a courtroom, either civil or criminal. The authors have selected cases of note from the present United States Supreme Court docket, the federal Circuit Courts of Appeals, and selected federal District Courts, that provide a general overview, raise unique issues, expand or provide particularly instructive explanations or rationales, or are likely to be of interest to a broad cross section of the bar. It is imperative, however, that prior to starting trial, the rules of the applicable jurisdiction are reviewed.
§ 10.2 Pretrial Matters
§ 10.2.1 Pretrial Conference and Pretrial Order
Virtually all courts require a pretrial conference at least several weeks before the start of trial. A pretrial conference requires careful preparation because it sets the tone for the trial itself. There are no uniform rules across all courts, so practitioners must be fully familiar with those that affect the particular courtroom they are in and the specific judge before whom they will appear.
According to Federal Rule of Civil Procedure 16, the main purpose of a pretrial conference is for the court to establish control over the proceedings such that neither party can achieve significant delay or engage in wasteful pretrial activities.[1] An additional goal is facilitating settlement before trial commencement.[2] Following the pretrial conference, the judge will issue a scheduling order, which “must limit the time to join other parties, amend the pleadings, complete discovery, and file [pre-trial] motions.”[3]
A proposed pretrial conference order should be submitted to the court for review at the conference. Once the judge accepts the pre-trial conference order, the order will supersede all pleadings in the case.[4] The final pretrial conference order is separate from pretrial disclosures, which include all information and documents required to be disclosed under Federal Rule of Civil Procedure 26.[5]
§ 10.2.2 Motions in Limine
A motion in limine, which means “at the threshold,”[6] is a pre-trial motion for a preliminary decision on an objection or offer of proof. Motions in limine are important because they ensure that the jury is not exposed to unfairly prejudicial, confusing, or irrelevant evidence, even if doing so limits a party’s defenses.[7] Thus, a motion in limine is designed to narrow the evidentiary issues for trial and to eliminate unnecessary trial interruptions by excluding the document before it is entered into evidence.[8]
In ruling on a motion in limine, the trial judge has discretion to either rule on the motion definitively or postpone a ruling until trial.[9] Alternatively, the trial judge may make a tentative or qualified ruling.[10] While definitive rulings do not require a renewed offer of proof at trial,[11] a tentative or qualified ruling might well require an offer of evidence at trial to preserve the issue on appeal.[12] A trial court’s discretion in ruling on a motion in limine extends not only to the substantive evidentiary ruling, but also the threshold question of whether a motion in limine presents an evidentiary issue that is appropriate for ruling in advance of trial.[13] Where the court reserves its ruling on a motion in limine at the outset of trial and later grants the motion, counsel should remember to move to strike any testimony that was provided prior to the ruling.
Motions in limine are not favored and many courts consider it a better practice to deal with questions as to the admissibility of evidence as they arise at trial.[14]
§ 10.3 Opening Statements
One of the most important components of any trial is the opening statement—it can set the roadmap for the jury of how they can find in favor of your client. The purpose of an opening statement is to:
“acquaint the jury with the nature of the case they have been selected to consider, advise them briefly regarding the testimony which it is expected will be introduced to establish the issues involved, and generally give them an understanding of the case from the viewpoint of counsel making a statement, so that they will be better able to comprehend the case as the trial proceeds.”[15]
It is important that any opening statement has a theme or presents the central theory of your case. As a general rule, a lawyer presents facts and evidence, and not argument, during opening statements. Being argumentative and introducing statements that are not evidence can be grounds for a mistrial.[16] It is also important that counsel keep in mind any rulings on motions in limine prohibiting the use of certain evidence. Failure to raise an objection to matters subject to a motion in limine or other prejudicial arguments can result in the waiver of those rights on appeal.[17] And the “golden rule” for opening statements is that the jurors should not be asked to place themselves in the position of the party to the case.[18]
Defense counsel may decide to reserve their opening until their case in chief — this is a strategic decision and is typically disfavored in jury trials.
§ 10.4 Selection of Jury
§ 10.4.1 Right to Fair and Impartial Jury
The right to a fair and impartial jury is an important part of the American legal system. The right originates in the Sixth Amendment, which grants all criminal defendants the right to an impartial jury.[19] However, today, this foundational right applies in both criminal and civil cases.[20] This is because the Seventh Amendment preserves “the right of trial by jury” in civil cases, and an inherent part of the right to trial by jury is that the jury must be impartial.[21] Additionally, Congress cemented this right when it passed legislation requiring “that federal juries in both civil and criminal cases be ‘selected at random from a fair cross section of the community in the district or division where the court convenes.’”[22]
Examples of ways that jurors may not be impartial include: predispositions about the proper outcome of a case,[23] financial interests in the outcome of a case,[24] general biases against the race or gender of a party,[25] or general biases for or against certain punishments to be imposed.[26]
Over the years, impartiality has become more and more difficult to achieve. This is due mainly to citizens’ (potential jurors) readily available access to news, and the news media’s increased publicity of defendants and trials.[27] In Harris, the Ninth Circuit analyzed whether pre‑trial publicity of a murder trial biased prospective jurors and prejudiced the defendant’s ability to receive a fair trial.[28] The court recognized that “[p]rejudice is presumed when the record demonstrates that the community where the trial was held was saturated with prejudicial and inflammatory media publicity about the crime.”[29] However, the court found that despite immense publicity prior to trial, because the publicity was not inflammatory but rather factual, there was no evidence of prejudice in the case.[30]
§ 10.4.2 Right to Trial by Jury
All criminal defendants are entitled to a trial by jury and must waive this right if they elect a bench trial instead.[31] However, a criminal defendant does not have a constitutional right to a bench trial if he or she decides to waive the right to trial by jury.[32] In civil cases, the party must expressly demand a jury trial. Failure to make such a demand constitutes a waiver by that party of a trial by jury.[33] For example, in Hopkins, the Eleventh Circuit explained that a plaintiff waived his right to trial by jury in an employment discrimination case when he made no demand for a jury trial in his Complaint and did not file a separate demand for jury trial within 14 days after filing his complaint.[34] Some jurisdictions require payment of jury fees to reserve the right to a jury trial.
Additionally, not all civil cases are entitled to a trial by jury. First, the Seventh Amendment expressly requires that the amount in controversy exceed $20.[35] Additionally, only those civil cases involving legal, rather than equitable, issues are entitled to the right of trial by jury.[36] Equitable issues often arise in employment discrimination cases where the plaintiff seeks backpay or another sort of compensation under the ADA, ERISA, or FMLA.[37]
Another issue that arises in civil cases is contractual jury trial waivers. Most circuits permit parties to waive the right to a jury trial through prior contractual agreement.[38] Generally, the party seeking enforcement of the waiver “must show that consent to the waiver was both voluntary and informed.”[39]
§ 10.4.3 Voir Dire
Voir dire is a process of questioning prospective jurors by the judge and/or attorneys who remove jurors who are biased, prejudiced, or otherwise unfit to serve on the jury.[40] The Supreme Court has explained that “voir dire examination serves the dual purposes of enabling the court to select an impartial jury and assisting counsel in exercising peremptory challenges.”[41]
Generally, an oath should be administered to prospective jurors before they are asked questions during voir dire.[42] “While the administration of an oath is not necessary, it is a formality that tends to impress upon the jurors the gravity with which the court views its admonition and is also reassuring to the litigants.”[43] Moreover, jurors under oath are presumed to have faithfully performed their official duties.[44]
Federal trial judges have great discretion in deciding what questions are asked to prospective jurors during voir dire.[45] District judges may permit the parties’ lawyers to conduct voir dire, or the court may conduct the jurors’ examination itself.[46] Although trial attorneys often prefer to conduct voir dire themselves, many judges believe that counsel’s involvement “results in undue expenditure of time in the jury selection process,” and that “the district court is the most efficient and effective way to assure an impartial jury and evenhanded administration of justice.”[47]
“[I]f the court conducts the examination it must either permit the parties or their attorneys to supplement the examination by such further inquiry as the court deems proper or itself submit to the prospective jurors such additional questions of the parties or their attorneys as the court deems proper.”[48] However, a judge still has much leeway in determining what questions an attorney may ask.[49] For example, in Lawes, a firearm possession case, the Second Circuit found that it was proper for a trial judge to refuse to ask jurors questions about their attitudes towards police.[50] If, on appeal, a party challenges a judge’s ruling from voir dire, the party must demonstrate that trial judge’s decision constituted an abuse of discretion.[51] Thus, it is extremely difficult to win an appeal regarding voir dire questioning.[52]
§ 10.4.4 Jury Selection Methods
Each court has its own proceeds for jury selection. The two basic methods are the struck jury method and the jury box method (also known as strike-and-replace). At a high level, the methods differ with respect to how many prospective jurors are subject to voir dire and the order in which jurors can be challenged or struck from the jury panel. For example, the jury box method seats the exact number of jurors in the jury box needed to form a viable jury, and allows voir dire and challenges to those jurors.. The stuck method allows voir dire of a larger number of prospective jurors, usually the number of jurors needed to form a viable jury, plus enough prospective jurors to cover all preemptory challenges. Counsel should review local and judge rules to determine which method will be applied. Where there is no set rule or judicial preference, counsel may stipulate with opposing counsel as to the method.
§ 10.4.5 Challenge For Cause
A challenge “for cause” is a request to dismiss a prospective juror because the juror is unqualified to serve, or because of demonstrated bias, an inability to follow the law, or if the juror is unable to perform the duties of a juror. 18 U.S.C. § 1865 sets forth juror qualifications and lists five reasons a judge may strike a juror: (1) if the juror is not a citizen of the United States at least 18 years old, who has resided within the judicial district at least one year; (2) is unable to read, write, or understand English enough to fill out the juror qualification form; (3) is unable to speak English; (4) is incapable, by reason of mental or physical infirmity, to render jury service; or (5) has a criminal charge pending against him, or has been convicted of a state or federal crime punishable by imprisonment for more than one year.[53]
In addition to striking a juror for these reasons, an attorney may also request to strike a juror “for cause” under 28 U.S.C. § 1866(c)(2) “on the ground that such person may be unable to render impartial jury service or that his service as a juror would be likely to disrupt the proceedings.”[54]
A challenge “for cause” is proper where the court finds the juror has a bias that is so strong as to interfere with his or her ability to properly consider evidence or follow the law.[55] Bias can be shown either by the juror’s own admission of bias or by proof of specific facts that show the juror has such a close connection to the parties, or the facts at trial, that bias can be presumed. The following cases illustrate examples of challenges for cause:
S. v. Price: The Fifth Circuit explained that prior jury service during the same term of court is not by itself sufficient to support a challenge for cause. A juror may only be dismissed for cause because of prior service if it can be shown by specific evidence that the juror has been biased by the prior service.[56]
Chestnut v. Ford Motor Co.: The Fourth Circuit held that the failure to sustain a challenge to a juror owning 100 shares of stock in defendant Ford Motor Company (worth about $5000) was reversible error.[57]
United States v. Chapdelaine: The First Circuit found that it was permissible for trial court not to exclude for cause jurors who had read a newspaper that indicated co‑defendants had pled guilty before trial.[58]
Leibstein v. LaFarge N. Am., Inc.: Prospective juror’s alleged failure to disclose during voir dire that he had once been defendant in civil case did not constitute misconduct sufficient to warrant new trial in products liability action.[59]
Cravens v. Smith: The Eighth Circuit found that the district court did not abuse its discretion in striking a juror for cause based on that juror’s “strong responses regarding his disfavor of insurance companies.”[60]
§ 10.4.6 Peremptory Challenge
In addition to challenges for cause, each party also has a right to peremptory challenges.[61] A peremptory challenge permits parties to strike a prospective juror without stating a reason or cause.[62] “In civil cases, each party shall be entitled to three peremptory challenges. Several defendants or several plaintiffs may be considered as a single party for the purposes of making challenges, or the court may allow additional peremptory challenges and permit them to be exercised separately or jointly.”[63]
Parties can move for additional peremptory challenges.[64] This is common in cases where there are multiple defendants. For example, in Stephens, two civil codefendants moved for additional peremptory challenges so that each defendant could have three challenges (totaling six peremptory challenges for the defense).[65] In deciding whether to grant the defendants’ motion, the court recognized that trial judges have great discretion in awarding additional peremptory challenges, and that additional challenges may be especially warranted when co-defendants have asserted claims against each other.[66] The court in Stephens ultimately granted the defendants’ motion for additional challenges.[67]
Parties may not use peremptory challenges to exclude jurors on the basis of their race, gender, or national origin.[68] Although “[a]n individual does not have a right to sit on any particular petit jury, . . . he or she does possess the right not to be excluded from one on account of race.”[69] When one party asserts that another’s peremptory challenges seek to exclude jurors on inappropriate grounds under Batson, the party challenged must demonstrate a legitimate explanation for its strikes, after which the challenging party has the burden to show that the legitimate explanation was pre-textual.[70] The ultimate determination of the propriety of a challenge is within the discretion of the trial court, and appellate courts review Batson challenges under harmless error analysis.[71]
Finally, some courts have found that it is reversible error for a trial judge to require an attorney to use peremptory challenges when the juror should have been excused for cause. “The district court is compelled to excuse a potential juror when bias is discovered during voir dire, as the failure to do so may require the litigant to exhaust peremptory challenges on persons who should have been excused for cause. This result, of course, extinguishes the very purpose behind the right to exercise peremptory challenges.”[72] However, courts also acknowledge that an appeal is not the best way to deal with biased jurors. The Eighth Circuit recognized that “challenges for cause and rulings upon them . . . are fast paced, made on the spot and under pressure. Counsel as well as court, in that setting, must be prepared to decide, often between shades of gray, by the minute.”[73]
§ 10.5 Examination of Witnesses
§ 10.5.1 Direct Examination
Direct examination is the first questioning of a witness in a case by the party on whose behalf the witness has been called to testify.[74] Pursuant to Fed. R. Evid. 611(c), leading questions, i.e., those suggesting the answer, are not permitted on direct examination unless necessary to develop the witness’ testimony.[75] Leading questions are permitted as “necessary to develop testimony” in the following circumstances:
To establish undisputed preliminary or inconsequential matters.[76]
If the witness is being impeached by the party calling him or her.[80]
If the witness is frightened, nervous, or upset while testifying.[81]
If the witness is unresponsive or shows a lack of understanding.[82]
Additionally, it is improper for a lawyer to bolster the credibility of a witness during direct examination by evidence of specific instances of conduct or otherwise.[83] Bolstering occurs either when (1) a lawyer suggests that the witness’s testimony is corroborated by evidence known to the lawyer, but not the jury,[84] or (2) when a lawyer asks a witness a question about specific instances of truthfulness or honesty to establish credibility.[85] For instance, in Raysor, the Second Circuit found that it was improper for a witness to bolster herself on direct examination by testifying about her religion or faithful marriage.[86]
When a party calls an adverse party, or someone associated with an adverse party, the attorney has more leeway during direct examination. This is because adverse parties may be predisposed against the party direct-examining him. Because of this, the attorney may ask leading questions, and impeach or contradict the adverse witness.[87] Courts have broadened who they consider to be “associated with” or “identified with” an adverse party. Employees, significant others, and informants have all constituted adverse parties for purposes of direct examination.[88] Further, even if the witness is not adverse, an attorney may also ask leading questions to a witness who is hostile. In order to ask such leading questions, the direct examiner must demonstrate that the witness will be resistant to suggestion. This often involves first asking the witness non-leading questions in order to show that the witness is biased against the direct examiner.[89]
When a witness cannot recall a fact or event, the lawyer is permitted to help refresh that witness’s memory.[90] The lawyer may do so by providing the witness with an item to help the witness recall the fact or event. Proper foundation before such refreshment requires that:
the witness’s recollection to be exhausted, and that the time, place and person to whom the statement was given be identified. When the court is satisfied that the memorandum on its face reflects the witness’s statement or one the witness acknowledges, and in his discretion the court is further satisfied that it may be of help in refreshing the person’s memory, the witness should be allowed to refer to the document.[91]
However, the item/memorandum does not come into evidence.[92] In Rush, the Sixth Circuit found that although the trial judge properly permitted defense counsel to refresh a witness’s memory with the transcript of a previously recorded statement, the trial judge erred in allowing another witness to read that transcript aloud to the jury.[93]
Further, sometimes the party calling a witness wishes to impeach that witness. Generally, courts are hesitant to permit parties to impeach their own witnesses because the party who calls a witness is vouching for the trustworthiness of that witness, and allowing impeachment may confuse the jury or be unfairly prejudicial.[94] Prior to adoption of the Federal Rules of Evidence, a party could impeach its own witness only when the witness’s testimony both surprised and affirmatively damaged the calling party.[95]
However, Federal Rule of Evidence 607 states that “the credibility of a witness may be attacked by any party, including the party calling the witness.”[96] The Advisory Committee Notes of Rule 607 indicate that this rule repudiates the surprise and injury requirement from common law.[97] A party can impeach a witness through prior inconsistent statements, cross-examination, or prior evidence from other sources.[98] However, a party may not use Rule 607 to introduce otherwise inadmissible evidence to the jury.[99] Additionally, a party may not call a witness with the sole purpose of impeaching him.[100] Further, even courts that do not permit a party to impeach its own witness still permit parties to contradict their own witnesses through another part of that witness’s testimony.[101]
§ 10.5.2 Cross-Examination
Cross-examination provides the opposing party an opportunity to challenge what a witness said on direct examination, discredit the witness’s truthfulness, and bring out any other testimony that may be favorable to the opposing party’s case.[102] Generally under the federal rules, cross-examination is limited to the “subject matter” of the direct examination and any matters affecting the credibility of the witness.[103] The purpose of limiting the scope of cross-examination is to promote regularity and logic in jury trials, and ensure that each party has the opportunity to present its case in chief. However, courts tend to liberally construe what falls within the “subject matter” of direct examination.[104] For example, in Perez-Solis, the Fifth Circuit found that a witness’s brief reference to collecting money from a friend permitted opposing counsel to cross-examine him on all of his finances.[105] Additionally, the language of Fed. R. Evid. 611(b) states that although cross-examination “should not” go beyond the scope of direct examination, the court may exercise its discretion to “allow inquiry into additional matters as if on direct examination.”[106] However, if the questioning goes beyond the subject matter, it generally should not include leading questions.
One of the main goals of cross-examination is impeachment. The Federal Rules of Evidence explain three different methods of impeachment: (1) impeachment by prior bad acts or character for untruthfulness,[107] (2) impeachment by prior conviction of a qualifying crime,[108] and (3) impeachment by prior inconsistent statement.[109] Additionally, courts still apply common law principles and permit impeachment through three additional methods as well: (1) impeachment by demonstrating the witness’s bias, prejudice, or interest in the litigation or in testifying, (2) impeachment by demonstrating the witness’s incapacity to accurately perceive the facts, and (3) impeachment by showing contradictory evidence to the witness’s testimony in court.[110] The following present case examples of each of the six methods of impeachment:
Prior bad act or dishonesty: In O’Connor v. Venore Transp. Co.,[111] the First Circuit found that trial judge did not abuse discretion when he allowed defense counsel to cross-examine plaintiff with his prior tax returns with the purpose of demonstrating dishonesty.
Conviction of qualifying crime: In Smith v. Tidewater Marine Towing, Inc.,[112] the Fifth Circuit found that, in Jones Act action arising from injuries plaintiff received while working on a tugboat, defense counsel permissibly crossed the plaintiff about his prior convictions.
Prior inconsistent statement: In Wilson v. Bradlees of New England, Inc.,[113] a product liability case, the First Circuit found that defense counsel appropriately crossed plaintiff with an inconsistent statement made in a complaint filed in a different case against a different defendant.
Bias or prejudice: In Udemba v. Nicoli,[114] the First Circuit found that it was permissible for defense counsel to cross-examine the plaintiff’s wife about domestic abuse to show bias in a case involving excessive force claims against the police.
Incapacity to accurately perceive: In Hargrave v. McKee,[115] the Sixth Circuit found that the trial court should have permitted defense counsel to question a victim about how her ongoing psychiatric problems affected her perception and memory of events.
Contradictory evidence: In Barrera v. E. R. DuPont De Nemours and Co., Inc.,[116] the Fifth Circuit held, in a personal-injury action, that the trial judge erred in denying the use of evidence showing that plaintiff received over $1000 per month in social security benefits because the evidence was admissible to contradict defendant’s volunteered testimony on cross-examination that he did not have a “penny in his pocket.”
Once the right of cross-examination has been fully and fairly exercised, it is within the trial court’s discretion as to whether further cross-examination should be allowed.[117] In order to recall a witness, the party must show that the new cross-examination will shed additional light on the issues being tried or impeach the witness. Further, it is helpful if the party seeking recall demonstrates that it came into possession of additional evidence or information that it did not have when it previously crossed that witness.[118] Further, it is difficult to succeed on an appeal of a trial court’s failure to permit recall for further cross‑examination. This is because courts review a trial judge’s decision for abuse of discretion, and often find that the lack of recall was a harmless error.[119]
§ 10.5.3 Expert Witnesses
Experts are witnesses who offer opinion testimony on an aspect of the case that requires specialized knowledge or experience. Experts also include persons who do not testify, but who advise attorneys on a technical or specialized area to better help them prepare their cases. A few key criteria should be considered at the outset when choosing an expert. First is the level of relevant expertise and the ability to have the expert’s research, assumptions, methodologies, and practices stand up to the scrutiny of cross-examination. Many law firms, nonprofits, commercial services, and government agencies maintain lists of experts categorized by the expertise; those lists are a helpful place to begin. Alternatively, counsel may begin by researching persons who have spoken or written about the subject matter that requires expert testimony. An Internet search is, in many cases, the place to start when developing a list. Counsel also might consider using a legal search engine to identify persons who have provided expert testimony on the subject matter in the past. Westlaw and LexisNexis both maintain expert databases.
Any expert who is on counsel’s list of candidates should produce, in addition to his or her curriculum vitae (CV), a list of prior court and deposition appearances, as well as a list of publications over the last 10 years. In federal court, this information must be disclosed in the expert report, per Federal Rule of Civil Procedure 26(a)(2).[120]
Another consideration when retaining an expert is whether he or she will be a testifying expert, or whether the expert will only act in a consulting role in preparing the case for trial (non-testifying expert) because this will determine the discoverability of the expert’s opinions. Testifying experts’ opinion are always discoverable, while consulting experts’ opinions are nearly always protected from discovery.
A testifying expert must be qualified, and the proponent of an expert witness bears the burden of establishing the admissibility of the expert’s testimony by a preponderance of the evidence. Federal Rule of Evidence 702 sets forth a standard for admissibility, wherein a witness may be qualified as an expert by knowledge, skill, experience, training or education and may testify in the form of an opinion if they meet certain criteria. Opposing counsel may challenge the qualifications of the expert before the expert’s opinions are presented; to do so, opposing counsel can ask to voir dire the expert (usually outside of the presence of the jury). It is for the trial court judge to determine whether or not “an expert’s testimony both rests on a reliable foundation and is relevant to the task at hand,” thereby making it admissible.[121]
§ 10.6 Evidence at Trial
§ 10.6.1 Authentication of Evidence
With the exception of exhibits as to which authenticity is acknowledged by stipulation, admission, judicial notice, or exhibits which are self-authenticating, no exhibit will be received in evidence unless it is first authenticated or identified as being what it purports to be. Under the Federal Rules of Evidence, the authentication requirement is satisfied when “the proponent . . . produce[s] evidence sufficient to support a finding that the item is what the proponent claims it is.”[122]
When an item is offered into evidence, the court may permit counsel to conduct a limited cross-examination on the foundation offered. In reaching its determination, the court must view all the evidence introduced as to authentication or identification, including issues of credibility, most favorably to the proponent.[123] Of course, the party who opposed introduction of the evidence may still offer contradictory evidence before the trier of fact or challenge the credibility of the supporting proof in the same way that he can dispute any other testimony.[124] However, upon consideration of the evidence as a whole, if a sufficient foundation has been laid in support of introduction, contradictory evidence goes to the weight to be assigned by the trier of fact and not to admissibility.[125] It is important to note that many courts have held that the mere production of a document in discovery waives any argument as to its authenticity.[126]
While there are many topics to discuss regarding authentication of evidence, this section will focus on electronically stored information. Proper authentication of e-mails and other instant communications, as well as all computerized records, is of critical importance in an ever-increasing number of cases, not only because of the centrality of such data and communications to modern business and society in general, but also due to the ease in which such electronic materials can be created, altered, and manipulated. In the ordinary course of events, a witness who has seen the e-mail in question need only testify that the printout offered as an exhibit is an accurate reproduction.
Web print out – Printouts of Internet website pages must first be authenticated as accurately reflecting the content of the page and the image of the page on the computer at which the printout was made before they can be introduced into evidence; then, to be relevant and material to the case at hand, the printouts often will need to be further authenticated as having been posted by a particular source.[127]
Text message – When there has been an objection to admissibility of a text message, the proponent of the evidence must explain the purpose for which the text message is being offered and provide sufficient direct or circumstantial corroborating evidence of authorship in order to authenticate the text message as a condition precedent to its admission; thus, authenticating a text message or e-mail may be done in much the same way as authenticating a telephone call.[128]
Social networking services – Proper inquiry for determining whether a proponent has properly authenticated evidence derived from social networking services was whether the proponent adduced sufficient evidence to support a finding by a reasonable jury that the proffered evidence was what the proponent claimed it to be.[129]
§ 10.6.2 Objecting to Evidence
Objections must be specific. The party objecting to evidence must make known to the court and the parties the precise ground on which the objecting party is basing the objection.[130] The objecting party must also be sure to indicate the particular portion of the evidence that is objectionable.[131] However, a general objection may be permitted if the evidence is clearly inadmissible for any purpose or if the only possible grounds for objection is obvious.[132]
The purpose of a specific objection to evidence is to preserve the issue on appeal. On appeal, the objecting party will be limited to the specific objections to evidence made at trial. However, an objection raised by a party in writing is sufficiently preserved for appeal, even if that same party subsequently failed to make an oral, on-the-record objection.[133]
Objections to evidence must be timely so as to not allow a party to wait and see whether an answer is favorable before raising an objection.[134] Failure to timely object results in the evidence being admitted. Once the evidence is admitted and becomes part of the trial record, it may be considered by the jury in deliberations, the trial court in ruling on motions, and a reviewing court determining the sufficiency of the evidence.[135] In some instances, the trial judge may prohibit counsel from giving descriptions of the basis for his or her objections. However, the attorney must still attempt to get in the specific grounds for the objection on the record.[136]
Counsel objecting the evidence should remember to strike the evidence from the record after their objection is sustained.
§ 10.6.3 Offer of Proof
If evidence is excluded by the trial court, the party offering the evidence must make an offer of proof to preserve the issue on appeal.[137] For an offer of proof to be adequate to preserve an issue on appeal, counsel must state both the theory of admissibility and the content of the excluded evidence.[138] Although best practice is to make an offer of proof at the time an objection is made, an offer of proof made later in time, even if it is made at a subsequent conference or hearing, may be acceptable.[139] An offer of proof can take several different forms:
A testimonial offer of evidence, whereby counsel summarizes what the proposed evidence is supposed to be. Attorneys using this method should be cautious, however, as the testimony may be considered inadequate.[140]
An examination of a witness, whereby a witness is examined and cross-examined outside of the presence of a jury.[141]
A written statement by the examining counsel, which describes the answers that the proposed witness would give if allowed to testify.[142]
An affidavit, taken under oath, which summarizes a witness’s expected testimony and is signed by the witness.[143] However, this use of documentary evidence should be marked as an exhibit and introduced into the record for identification on appeal.[144]
There are exceptions to the offer of proof requirement. First, an offer of proof is unnecessary when the content of the evidence is “apparent from the context.”[145] Second, a cross-examiner who is conducting a proper cross-examination will be given more leeway by a court, since oftentimes the cross-examiner does not know what a witness will say if permitted to answer a question.[146]
§ 10.7 Closing Argument
Different than an opening statement, closing argument is the time for advocacy and argument on behalf of your client. It is not an unfettered right, however, and there are certain rules to remember about closing argument. First, present only that which was presented in evidence and do not deviate from the record.[147] You also do not want to comment on a witness that was unable to testify or suggest that a defendant’s failure to testify results in a guilty verdict.[148] Further, an attack on the credibility or honesty of opposing counsel is considered unethical.[149] But that does not mean lawyers cannot comment on the credibility of evidence and suggest reasonable inferences based on the evidence.[150] In addition, keep in mind, generally, courts are “reluctant to set aside a jury verdict because of an argument made by counsel during closing arguments.”[151]
§ 10.8 Judgment as a Matter of Law
Federal Rule of Civil Procedure 50 governs the standard for judgment as a matter of Law, sometimes referred to as a directed verdict in state court matters.[152] A motion for judgment as a matter of law “may be made at any time before the case is submitted to the jury” and the motion “must specify the judgment sought and the law and facts that entitle the movant to the judgment.”[153] But, “[a] motion under this Rule need not be stated with ‘technical precision,’” so long as “it clearly requested relief on the basis of insufficient evidence.”[154] Although it may be “better practice,” there is no requirement that the motion be made in writing.[155] The Sixth Circuit Court of Appeals has even held that it is “clearly within the court’s power” to raise the motion “sua sponte.”[156]
Importantly, Rule 50 uses permissive, not mandatory, language, which means, “while a district court is permitted to enter judgment as a matter of law when it concludes that the evidence is legally insufficient, it is not required to do so.” The Supreme Court has gone as far as to say “the district courts are, if anything, encouraged to submit the case to the jury, rather than granting such motions.”[157] There is a practical reason for this advice: if the motion is granted, then overturned on appeal, a whole new trial must be conveyed. Conversely, if the case is allowed to go to the jury, a post-verdict motion or appellate court can right any wrong with more ease.
In entertaining a motion for judgment as a matter of law, courts should review all of the evidence in the record, but, in doing so, the court must draw all reasonable inferences in favor of the nonmoving party, and it may not make credibility determinations or weigh the evidence.[158] Credibility determinations, the weighing of the evidence, or the drawing of legitimate inferences from the facts are jury functions, not those of a judge.[159] The question is not whether there is literally no evidence supporting the party against whom the motion is directed but whether there is evidence upon which the jury might reasonably find a verdict for that party. Since granting judgment as a matter of law deprives the party opposing the motion of a determination of the facts by a jury, it is understandable that it is to be granted cautiously and sparingly by the trial judge.
§ 10.9 Jury Instructions
§ 10.9.1 General
The purpose of jury instructions is to advise the jury on the proper legal standards to be applied in determining issues of fact as to the case before them.[160] The court may instruct the jury at any time before the jury is discharged.[161] But the court must first inform the parties of its proposed instructions and give the parties an opportunity to respond.[162] Although each party is entitled to have the jury charged with his or her theory of the case, the proposed instructions must be supported by the law and the evidence.[163]
§ 10.9.2 Objections
Federal Rule of Civil Procedure 51 provides counsel the ability to correct errors in jury instructions.[164] The philosophy underlying the provisions of Rule 51 is to prevent unnecessary appeals of matters concerning jury instructions, which should have been resolved at the trial level. An objection must be made on the record and state distinctly the matter objected to and the grounds for the objection.[165] Off-the-record objections to jury instructions, regardless of how specific, cannot satisfy requirements of the rule governing preservation of such errors.[166] A party may object to instructions outside the presence of the jury before the instructions and arguments are delivered or promptly after learning that the instructions or request will be, or has been, given or refused.[167] Even if the initial request for an instruction is made in detail, the requesting party must object again after the instructions are given but before the jury retires for deliberations, in order to preserve the claimed error.[168]
Whether a jury instruction is improper is a question of law reviewed de novo.[169] Instructions are improper if, when viewed as a whole, they are confusing, misleading, and prejudicial.[170] If an instruction is improper, the judgment will be reversed, unless the error is harmless.[171] A motion for new trial is not appropriate where the omitted instructions are superfluous and potentially misleading.[172]
Further, while some courts have been lenient on whether objections are made in accordance with Rule 51, many courts hold that one who does not object in accordance with Rule 51 is deemed to have waived the right to appeal. A patently erroneous instruction can be considered on appeal if the error is “fundamental” and involves a miscarriage of justice, but the movant claiming the error has the burden of demonstrating it is a fundamental error.[173]
§ 10.10 Conduct of Jury
§ 10.10.1 Conduct During Deliberations
Jury deliberations must remain private in order to protect the jury’s deliberations from improper, outside influence.[174] Control over the jury during deliberations, including the decision whether to allow the jurors to separate before a verdict is reached, is in the sound discretion of the trial court.[175] During this time, a judge may consider the fatigue of the jurors in determining whether the time of deliberations could preclude effective and impartial deliberation absent a break.[176] Although admonition of the jury is not required, one should be given if the jury is to separate at night and could potentially interact with third parties.[177]
The only individuals permitted in the jury room during deliberations are the jurors. However, in the case of a juror with a hearing or speech impediment, the court will appoint an appropriate professional to assist that individual and the presence of that professional is not grounds for reversal so long as the professional: (1) does not participate in deliberations; and (2) takes an oath to that effect.[178]
Courts have broad discretion in determining what materials will be permitted in the jury room.[179] Materials received into evidence are generally permitted,[180] including real evidence,[181] documents,[182] audio recordings,[183] charts and summaries admitted pursuant to Federal Rule of Evidence 1006,[184] video recordings,[185] written stipulations,[186] depositions,[187] drugs,[188] and weapons.[189] Additionally, jurors are typically permitted to use any notes he or she has taken over the course of trial.[190] Pleadings, however, are ordinarily not allowed.[191]
§ 10.10.2 Conduct During Trial
Traditionally, the trial judge has discretion to manage the jury during trial.[192] To ensure the jurors are properly informed, the court may, at any time after the commencement of trial, instruct the jury regarding a matter related to the case or a principal of law.[193] If a party wishes to present an exhibit to the jurors for examination over the course of trial, counsel should request that the court admonish the jury not to place undue emphasis on the evidence presented.[194] Additionally, the trial court may, in its informed discretion, permit a jury view of the premises that is the subject of the litigation.[195]
During trial, the court may allow the jury to take notes and dictate the procedure for doing so.[196] The trial court may permit note-taking for all of the trial or restrict the practice to certain parts.[197] A concern of permitting note-taking during trial is that jurors may place too much significance on their notes and too little significance on their recollection of the trial testimony.[198] To mitigate this risk, a judge should give a jury instruction informing each juror that he or she should rely on his memory and only use notes to assist that process.[199]
Allowing a juror to participate in examining a witness is within the discretion of the trial court,[200] although some courts have strongly opposed the practice.[201] If allowed, procedural protections should be encouraged to mitigate the risks of questions.[202] Additionally, the court should permit counsel to re-question the witness after a juror question has been posed.[203]
While trial is ongoing, jurors should not discuss the case among themselves[204] or share notes[205] prior to the case being submitted for deliberations. The same rule applies to communication between jurors and trial counsel[206] or jurors and the parties,[207] although accidental or unintentional contact may be excused.[208]
§ 10.11 Relief from Judgment
§ 10.11.1 Renewed Motion for Judgment as a Matter of Law
Pursuant to Federal Rule of Civil Procedure 50(b) a party may file a “renewed” motion for judgment as a matter of law, previously known as a “motion for directed verdict,” asserting that the jury erred in returning a verdict based on insufficient evidence.[209] However, in order to file a renewed motion, a party must have filed a Rule 50(a) pre-verdict motion for judgment as a matter of law before the case was submitted to the jury.[210] The renewed motion is limited to issues that were raised in a “sufficiently substantial way” in the pre-verdict motion[211] and failure to comply with this process often results in waiver.[212] The renewed motion must be filed no later than 28 days after the entry of judgment.[213]
The standard for granting a renewed motion for judgment as a matter of law mirrors the standard for granting the pre-suit motion under Rule 50(a).[214] A party is entitled to judgment only if a reasonable jury lacked a legally sufficient evidentiary basis to return the verdict that it did.[215] In rendering this analysis, a court may not weigh conflicting evidence and inferences or determine the credibility of the witnesses.[216] Upon review, the court must:
(1) consider the evidence in the light most favorable to the prevailing party, (2) assume that all conflicts in the evidence were resolved in favor of the prevailing party, (3) assume as proved all facts that the prevailing party’s evidence tended to prove, and (4) give the prevailing party the benefit of all favorable inferences that may reasonably be drawn from the facts proved. That done, the court must then deny the motion if reasonable persons could differ as to the conclusions to be drawn from the evidence.[217]
The analysis reflects courts’ general reluctance to interfere with a jury verdict.[218]
§ 10.11.2 Motion for New Trial
Federal Rule of Civil Procedure 59 permits a party to file a motion for new trial, either together with or as an alternative to a 50(b) renewed motion for judgment as a matter of law.[219] Like a renewed motion for judgment as a matter of law, a motion for new trial must be filed no later than 28 days after an entry of judgment.[220]
Rule 59 does not specify or limit the grounds on which a new trial may be granted.[221] A party may move for a new trial on the basis that “the verdict is against the weight of the evidence, that the damages are excessive, or that, for other reasons, the trial was not fair . . . and may raise questions of law arising out of alleged substantial errors in admission or rejection of evidence.”[222] Other recognized grounds for new trial include newly discovered evidence,[223] errors involving jury instruction,[224] and conduct of counsel.[225] Courts often grant motions for new trial on the issue of damages alone.[226]
Unlike when reviewing a motion for judgment as a matter of law, courts may independently evaluate and weigh the evidence.[227] Additionally, the Court, on its own initiative with notice to the parties and an opportunity to be heard, may order a new trial on grounds not stated in a party’s motion.[228]
When faced with a renewed judgment as a matter of law or a motion for new trial, courts have three options. They may (1) allow judgment on the verdict, if the jury returned a verdict; (2) order a new trial; or (3) direct the entry of judgment as a matter of law.[229]
§ 10.11.3 Clerical Mistake, Oversights and Omissions
Federal Rule of Civil Procedure 60(a) provides that “the court may correct a clerical mistake or a mistake arising from oversight or omission whenever one is found in a judgment, order, or other part of the record. The court may do so on motion or on its own, with or without notice.” This rule applies in very specific and limited circumstances, when the record makes apparent that the court intended one thing but by mere clerical mistake or oversight did another; such mistake must not be one of judgment or even of misidentification, but merely of recitation, of the sort that clerk or amanuensis might commit, mechanical in nature.[230] It is important to note that this rule can be applied even after a judgment is affirmed on appeal.[231]
§ 10.11.4 Other Grounds for Relief
Federal Rule of Civil Procedure 60(b) provides for several additional means for relief from a final judgment:
mistake, inadvertence, surprise, or excusable neglect;
newly discovered evidence that, with reasonable diligence, could not have been discovered in time to move for a new trial under Rule 59(b);
fraud (whether previously called intrinsic or extrinsic), misrepresentation, or misconduct by an opposing party;
the judgment is void;
the judgment has been satisfied, released or discharged; it is based on an earlier judgment that has been reversed or vacated; or applying it prospectively is no longer equitable; or
any other reason that justifies relief.
Courts typically require that the evidence in support of the motion for relief from a final judgement be “highly convincing.”[232]
§ 10.12 Virtual Hearings and Trials
In the wake of the COVID-19 pandemic and numerous government shut downs, hearings and trials in both criminal and civil matters have been proceeding electronically. Since 2020, some jurisdictions have required parties to submit an application for a trial to proceed remotely.[233] Courts have almost universally found that the COVID-19 pandemic constitutes “good cause” to permit a remote trial. We also know that courts have been challenged but have ultimately found that trials by zoom are not an abuse of discretion.[234] Many courts now allow a portion of the trial participants to attend remotely.[235] Courts across the United States, however, are divided on whether remote or hybrid remote trials are necessary or practical.[236]
And while trials always present unique and challenging issues, virtual trials present a new set of challenges, especially jury trials. It brings about a whole new set of factors—what makes for a successful trial in person can be very different from a successful trial over a virtual platform. There are new considerations for jury selection, opening statement demonstratives, testimony by witnesses who are no longer in the same room as counsel, presentation of evidence when counsel can no longer bring binders or large boards, jury selection, and a myriad of other issues. What remains the same, however, is that preparation and practice are key. Being familiar with the local court’s practice and working out any technology issues in advance are critical to ensuring a successful virtual trial. To date, the Courts have not created consistent rules for remote trials; every judge has their preferred procedures and technology. Accordingly, it is important to review judge and court rules regarding remote proceedings. For example, many judges have rules that prohibit the coaching of witnesses through off-screen methods, dictate courtroom behavior and appearance, limit public access and recording, and provide guidance on presentation of documents including documents that are filed under seal.[237] These rules not only dictate how the trial proceeds day-to-day, but may provide a basis for motions in limine and should be discussed with your judge in the pre-trial conference.[238] To the extent there are hybrid remote proceedings (and/or social distance requirements in the courtroom), it is important to understand where jurors and witnesses will sit, how Plexiglass partitions may affect the presentation of evidence and argument, what new or different technology needs to be brought to the venue, and whether witnesses, jurors, and attorneys are able to remove masks during certain parts of the trial.
So the question remains will remote trials continue to be part of practice or not? Some would agree with the 1996 Advisory Committee Note to Federal Rule of Civil Procedure 43 “the importance of presenting live testimony in court cannot be forgotten” and that “the opportunity to judge the demeanor of a witness face-to-face is accorded great value in our tradition.”
[6]Luce v. United States, 469 U.S. 38, 40 n.2 (1984).
[7]United States v. Romano, 849 F.2d 812, 815 (3d Cir. 1988).
[8]Frintner v. TruPosition, 892 F. Supp. 2d 699 (E.D. Pa. 2012).
[9]United States v. LeMay, 260 F.3d 1018, 1028 (9th Cir. 2001).
[10]Wilson v. Williams, 182 F.3d 562, 565-66 (7th Cir. 1999).
[11]Id. at 566 (“Definitive rulings, however, do not invite reconsideration.”).
[12]Fusco v. General Motors Corp., 11 F.3d 259, 262-63 (1st Cir. 1993).
[13]Flythe v. District of Columbia, 4 F. Supp. 3d 222 (D.D.C. 2014).
[14]U.S. v. Denton, 547 F. Supp. 16 (E.D. Tenn. 1982).
[15]Henwood v. People, 57 Colo 544, 143 P. 373 (1914). An opening statement presents counsel with the opportunity to summarily outline to the trier of fact what counsel expects the evidence presented at trial will show. Lovell v. Sarah Bush Lincoln Health Center, 397 Ill. App. 3d 890, 931 N.E.2d 246 (4th Dist. 2010).
[16]Testa v. Mundelein, 89 F.3d 445 (7th Cir. 1996) (“being argumentative in an opening statement does not necessarily warrant a mistrial, but being argumentative and introducing something that should not be allowed into evidence may be a predicate for a mistrial.”).
[17]Krengiel v. Lissner Copr., Inc., 250 Ill App. 3d 288, 621 N.E.2d 91 (1st Dist. 1993) (“party whose motion in limine has been denied must object when the challenged evidence is presented at trial in order to preserve the issue for review, and the failure to raise such an objection constitutes a waiver of the issue on appeal.”).
[18]Forrestal v. Magendantz, 848 F.2d 303, 308 (1st Cir. 1988) (suggesting to jury to put itself in shoes of plaintiff to determine damages improper because it encourages the jury to depart from neutrality and to decide the case on the basis of personal interest and bias rather than on the evidence.).
[31]People v. Jordan, 2019 IL App (1st Dist.) 161848.
[32]Singer v. United States, 380 U.S. 24, 36 (1965) (finding that it is constitutionally permissible to require prosecutor and judge to consent to bench trial, even if the defendant elects one); United States v. Talik, No. CRIM.A. 5:06CR51, 2007 WL 4570704, at *6 (N.D.W. Va. Dec. 26, 2007).
[33] Fed. R. Civ. P. 38; Hopkins v. JPMorgan Chase Bank, NA, 618 F. App’x 959, 962 (11th Cir. 2015).
[37]See Lutz v. Glendale Union High Sch., 403 F.3d 1061, 1069 (9th Cir. 2005) (“[W]e hold that there is no right to have a jury determine the appropriate amount of back pay under Title VII, and thus the ADA, even after the Civil Rights Act of 1991. Instead, back pay remains an equitable remedy to be awarded by the district court in its discretion.”); see also Bledsoe v. Emery Worldwide Airlines, 635 F.3d. 836, 840-41 (6th Cir. 2011) (holding “statutory remedies available to aggrieved employees under the Worker Adjustment and Retraining Notification (WARN) act provide equitable restitutionary relief for which there is no constitutional right to a jury trial.”).
[38]K.M.C. Co. v. Irving Tr. Co., 757 F.2d 752, 758 (6th Cir. 1985); Leasing Serv. Corp. v. Crane, 804 F.2d 828, 832 (4th Cir. 1986); Telum, Inc. v. E.F. Hutton Credit Corp., 859 F.2d 835, 837 (10th Cir. 1988).
[39]Zaklit v. Glob. Linguist Sols., LLC, 53 F. Supp. 3d 835, 854 (E.D. Va. 2014); see also Nat’l Equip. Rental, Ltd. v. Hendrix, 565 F.2d 255, 258 (2d Cir. 1977).
[40]United States v. Steele, 298 F.3d 906, 912 (9th Cir. 2002) (“The fundamental purpose of voir dire is to ‘ferret out prejudices in the venire’ and ‘to remove partial jurors.’”) (quoting United States v. Howell, 231 F.3d 615, 627-28 (9th Cir. 2000)); Bristol Steel & Iron Works v. Bethlehem Steel Corp., 41 F.3d 182, 189 (4th Cir. 1994) (stating that the purpose of voir dire is to ensure a fair and impartial jury, not to operate as a discovery tool by opposing counsel).
[47]Hicks v. Mickelson, 835 F.2d 721, 726 (8th Cir. 1987).
[48]U.S. v. Lewin, 467 F.2d 1132 (7th Cir. 1972) (citing Fed. R. Crim. P. 24(a)).
[49]U.S. v. Lawes, 292 F.3d 123, 128 (2d Cir. 2002); Hicks v. Mickelson, 835 F.2d 721, 723-26 (8th Cir. 1987).
[50]Lawes, 292 F.3d at 128 (noting that “federal trial judges are not required to ask every question that counsel—even all counsel—believes is appropriate”).
[51]Finks v. Longford Equip. Int’l, 208 F.3d 225, at *2 (10th Cir. 2000).
[52]Mayes v. Kollman, 560 Fed. Appx. 389, 395 n.13 (5th Cir. 2014); Richardson v. New York City, 370 Fed. Appx. 227 (2d Cir. 2010); c.f. Kiernan v. Van Schaik, 347 F.2d 775, 779 (3d Cir. 1965) (finding that judge’s refusal to ask prospective jurors questions about connection to insurance companies constituted reversible error).
[55]United States v. Bishop, 264 F.3d 535, 554-55 (5th Cir. 2001).
[56]United States v. Price, 573 F.2d 356, 389 (5th Cir. 1978).
[57]Chestnut v. Ford Motor Co., 445 F.2d 967 (4th Cir. 1971); c.f. United States v. Turner, 389 F.3d 111 (4th Cir. 2004) (finding that district court was within its discretion in failing to disqualify jurors who banked with a different branch of the bank that was robbed).
[58]United States v. Chapdelaine, 989 F.2d 28 (1st Cir. 1993).
[59]Leibstein v. LaFarge N. Am., Inc., 767 F. Supp. 2d 373 (E.D.N.Y. 2011), as amended (Feb. 15, 2011).
[60]Cravens v. Smith, 610 F.3d 1019, 1032 (8th Cir. 2010).
[61]See 28 U.S.C. § 1866 (stating that a juror may be “excluded upon peremptory challenge as provided by law”).
[62]Davis v. United States, 374 F.2d 1, 5 (1967) (“The essential nature of the peremptory challenge is that it is one exercised without a reason stated, without inquiry and without being subject to the court’s control.”).
[63] 28 U.S.C. § 1870; see also Fedorchick v. Massey-Ferguson, Inc., 577 F.2d 856 (3d Cir. 1978).
[64]Stephens v. Koch Foods, LLC, No. 2:07-CV-175, 2009 WL 10674890, at *1 (E.D. Tenn. Oct. 20, 2009).
[68]See Batson v. Kentucky, 476 U.S. 79 (1986) (race); J.E.B. v. Alabama ex rel. T.B., 511 U.S. 127 (1994) (gender); Rivera v. Nibco, Inc., 372 F. App’x 757, 760 (9th Cir. 2010) (national origin).
[70]Robinson v. R.J. Reynolds Tobacco Co., 86 F. App’x 73, 75 (6th Cir. 2004).
[71]Rivera v. Illinois, 556 U.S. 148 (2009); see also King v. Peco Foods, Inc., No. 1:14-CV-00088, 2017 WL 2424574 (N.D. Miss. Jun. 5, 2017).
[72]Kirk v. Raymark Indus., Inc., 61 F.3d 147, 157 (3d Cir. 1995) (holding, in asbestos litigation, that trial court’s refusal to remove two panelists for cause was error, and the party’s subsequent use of peremptory challenges to remedy the judge’s mistake required per se reversal and a new trial) (citations omitted).
[87]Elgabri v. Lekas, 964 F.2d 1255, 1260 (1st Cir. 1992).
[88]SeeRosa-Rivera v. Dorado Health, Inc., 787 F.3d 614, 617 (1st Cir. 2015) (employees); United States v. Bryant, 461 F.2d 912, 918-19 (6th Cir. 1972) (informants); United States v. Hicks, 748 F.2d 854, 859 (4th Cir. 1984) (girlfriend).
[89]SeeU.S. v. Cisneros-Gutierrez, 517 F.3d 751, 762 (5th Cir. 2008).
[90] Fed. R. Evid. 612 authorizes a party to refresh a witness’s memory with a writing so long as the “adverse party is entitled to have the writing produced at the hearing, to inspect it, to cross-examine the witness thereon, and to introduce in evidence those portions which relate to the testimony of the witness.”
[91]Rush v. Illinois Cent. R. Co., 399 F.3d 705, 715-22 (6th Cir. 2005).
[92]Rush v. Illinois Cent. R. Co., 399 F.3d 705, 715-22 (6th Cir. 2005).
[98]Util. Control Corp. v. Prince William Const. Co., 558 F.2d 716, 720 (4th Cir. 1977).
[99]United States v. Gilbert, 57 F.3d 709, 711 (9th Cir. 1995).
[100]United States v. Finley, 708 F. Supp. 906 (N.D. Ill. 1989).
[101]United States v. Finis P. Ernest, Inc., 509 F.2d 1256, 1263 (7th Cir. 1975); United States v. Prince, 491 F.2d 655, 659 (5th Cir. 1974).
[102]SeeDavis v. Alaska, 415 U.S. 308, 316, 94 S. Ct. 1105, 1110, 39 L. Ed. 2d 347 (1974) (“Cross-examination is the principal means by which the believability of a witness and the truth of his testimony are tested.”).
[103]See Fed. R. Evid. 611(b) (effective December 1, 2011) (“(b) Scope of Cross-Examination. Cross-examination should not go beyond the subject matter of the direct examination and matters affecting the witness’s credibility. The court may allow inquiry into additional matters as if on direct examination.”).
[104]See United States v. Perez-Solis, 709 F.3d 453, 463-64 (5th Cir. 2013); see alsoUnited States v. Arias-Villanueva, 998 F.2d 1491, 1508 (9th Cir. 1993) (cross-examination is within the scope of direct where it is “reasonably related” to the issues put in dispute by direct examination), overruled on other grounds; United States v. Moore, 917 F.2d 215 (6th Cir. 1990) (subject matter of direct examination under Rule 611(b) includes all inferences and implications arising from the direct); United States v. Arnott, 704 F.2d 322, 324 (6th Cir. 1983) (“The ‘subject matter of the direct examination,’ within the meaning of Rule 611(b), has been liberally construed to include all inferences and implications arising from such testimony.”).
[106]Id; see also MDU Resources Group v. W.R. Grace and Co., 14 F.3d 1274, 1282 (8th Cir. 1994), cert. denied, 513 U.S. 824, 115 S. Ct. 89, 130 L. Ed. 2d 40 (1994) (“When cross-examination goes beyond the scope of direct, as it did here, and is designed, as here, to establish an affirmative defense (that the statute of limitations had run), the examiner must be required to ask questions of non-hostile witnesses as if on direct.).
[107] Under Fed. R. Evid. 608, if the witness concedes the bad act, impeachment is accomplished. If the witness denies the bad act, Rule 608(b) precludes the introduction of extrinsic evidence to prove the act. In short, the cross-examining lawyer must live with the witness’s denial.
[108] To qualify, “the crime must have been a felony, or a misdemeanor that has some logical nexus with the character trait of truthfulness, such as when the elements of the offense involve dishonesty or false statement. The conviction must have occurred within ten years of the date of the witness’s testimony at trial, or his or her release from serving the sentence imposed under the conviction, whichever is later, unless the court permits an older conviction to be used, because its probative value substantially outweighs any prejudice, and it should, in the interest of justice, be admitted to impeach the witness. If the prior conviction is used to impeach a witness other than an accused in a criminal case, its admission is subject to exclusion under Rule 403 if the probative value of the evidence is substantially outweighed by the danger of unfair prejudice, delay, confusion or the introduction of unnecessarily cumulative evidence. If offered to impeach an accused in a criminal case, the court still may exclude the evidence, if its probative value is outweighed by its prejudicial effect.” Behler v. Hanlon, 199 F.R.D. 553, 559 (D. Md. 2001).
[109] Fed. R. Evid. 608 (bad acts or character of untruthfulness); Fed. R. Evid. 609 (qualifying crime); Fed. R. Evid. 613 (prior inconsistent statement).
[123]U.S. v. Goichman, 547 F.2d 778, 784 (3d Cir. 1976) (“[T]here need be only a prima facie showing, to the court, of authenticity, not a full argument on admissibility . . . . [I]t is the jury who will ultimately determine the authenticity of the evidence, not the court.”).
[125] Fed. R. Evid. 803(6), 902(11); United States v. Senat, 698 F. App’x 701, 706 (3d. Cir. 2017).
[126]See, e.g., Stumpff v. Harris, 31 N.E.3d 164, 173 (Ohio App. 2 Dist. 2015) (“Numerous courts, both state and federal, have held that items produced in discovery are implicitly authenticated by the act of production by the opposing party); Churches of Christ in Christian Union v. Evangelical Ben. Trust, S.D. Ohio No. C2:07CV1186, 2009 WL 2146095, *5 (July 15, 2009) (“Where a document is produced in discovery, ‘there [is] sufficient circumstantial evidence to support its authenticity’ at trial.”).
[128] Rules of Evid., Rule 901(a). Idaho v. Koch, 334 P.3d 280 (Idaho 2014).
[129]State v. Smith, 2015-1359 La. App. 4 Cir. 4/20/16, 2016 WL 3353892, *10-11 (La. Ct. App. 4th Cir. 2016); see also OraLabs, Inc. v. Kind Group LLC, 2015 WL 4538444, *4, Fn 7 (D. Colo. 2015) (in a patent and trade dress infringement action, the court admitted, over hearsay objections, Twitter posts offered to show actual confusion between the plaintiff’s and defendant’s products.).
[130]Jones v. U.S., 813 A.2d 220, 226-227 (D.C. 2002).
[133]U.S. v. Gomez-Alvarez, 781 F.3d 787, 792 (5th Cir. 2015).
[134]Jerden v. Amstutz, 430 F.3d 1231, 1237 (9th Cir. 2005).
[135]See, e.g., Hastings v. Bonner, 578 F.2d 136, 142-143 (5th Cir. 1978); United States v. Johnson, 577 F.2d 1304, 1312 (5th Cir. 1978); United States v. Jamerson, 549 F.2d 1263, 1266-67 (9th Cir. 1977).
[136]SeeUnited States v. Henderson, 409 F.3d 1293, 1298 (11th Cir. 2005).
[137]Inselman v. S & J Operating Co., 44 F.3d 894, 896 (10th Cir. 1995).
[138]SeeUnited States v. Adams, 271 F.3d 1236, 1241 (10th Cir. 2001) (“In order to qualify as an adequate offer of proof, the proponent must, first, describe the evidence and what it tends to show and, second, identify the grounds for admitting the evidence.”).
[139]Murphy v. City of Flagler Beach, 761 F.2d 622 (11th Cir. 1985).
[140]See id. at 1241-42 (“On numerous occasions we have held that merely telling the court the content of . . . proposed testimony is not an offer of proof.”).
[141] Fed. R. Evid. 103(c) (The trial court “may direct an offer of proof be made in question-and-answer form.”). See, e.g., United States v. Yee, 134 F.R.D. 161, 168 (N.D. Ohio 1991) (stating that “hearings were held for approximately six weeks” on whether DNA evidence was admissible).
[145] Fed. R. Evid. 103(a)(2); Beech Aircraft v. Rainy, 488 U.S. 153 (1988).
[146]Alford v. United States, 282 U.S. 687, 692 (1931).
[147]United States v. Harris, 536 F.3d 798, 812 (7th Cir. Ill. Aug. 6, 2008), overruled on other grounds.
[148]See, e.g., United States v. St. Michael’s Credit Union, 880 F.2d 579 (1st Cir. 1989); Griffin v. California, 380 U.S. 609, 615 (Apr. 28, 1965).
[149] Model Rule of Professional Conduct Rule 3.4(e).
[150]Jones v. Lincoln Elec. Co., 188 F.3d 709, 731 (7th Cir. 1999) (“We find nothing improper in this line of argument. Closing arguments are the time in the trial process when counsel is given the opportunity to discuss more freely the weaknesses in his opponent’s case.”).
[151]Vineyard v. County of Murray, Ga., 990 F.2d 1207, 1214 (11th Cir. 1993).
[152]See, Fed. R. Civ. P. 50(a)(1) (“If a party has been fully heard on an issue during a jury trial and the court finds that a reasonable jury would not have a legally sufficient evidentiary basis to find for the party on that issue, the court may: (A) resolve the issue against the party; and (B) grant a motion for judgment as a matter of law against the party on a claim or defense that, under the controlling law, can be maintained or defeated only with a favorable finding on that issue.”).
[154]Arch Ins. Co. v. Broan-NuTone, LLC, 509 F. App’x 453, fn. 5 (6th Cir. 2012) (quoting Ford v. Cnty. of Grand Traverse, 535 F.3d 483, 492 (6th Cir. 2008).
[155]U. S. Indus., Inc. v. Semco Mfg., Inc., 562 F.2d 1061, 1065 (8th Cir. 1977).
[156]Am. & Foreign Ins. Co. v. Gen. Elec. Co., 45 F.3d 135, 139 (6th Cir. 1995).
[157]Unitherm Food Sys., Inc. v. Swift-Eckrich, Inc., 546 U.S. 394, 405 (2006).
[158]Reeves v. Sanderson Plumbing Prod., Inc., 530 U.S. 133, 120 S. Ct. 2097, 147 L. Ed. 2d 105 (2000); citing Lytle v. Household Mfg., Inc., 494 U.S. 545, 554-555, 110 S.Ct. 1331, 108 L.Ed.2d 504 (1990); Liberty Lobby, Inc., supra, at 254, 106 S.Ct. 2505; Continental Ore Co. v. Union Carbide & Carbon Corp., 370 U.S. 690, 696, n.6, 82 S.Ct. 1404, 8 L.Ed.2d 777 (1962).
[162] Fed. R. Civ. P. 51(b) (1)-(2); see also Vialpando v. Cooper Cameron Corp., 92 F. App’x 612 (10th Cir. 2004) (explaining that “a district court can no longer give mid-trial instructions without first advising the parties of its intent to do so and giving the parties an opportunity to object to the proposed instruction.”).
[163]Apple Inc. v. Samsung Elecs. Co., No. 11-CV-01846-LHK, 2017 WL 3232424 (N.D. Cal. July 28, 2017); see also Daly, 491 F.2d.104 (affirming court’s omission of instructions on the due process requirements of the Fourteenth Amendment since no facts supported a violation).
[165]Estate of Keatinge v. Biddle, 316 F.3d 7 (1st Cir. 2002).
[166]Positive Black Talk Inc. v. Cash Money Records, Inc., 394 F.3d 357, 65 Fed. R. Evid. Serv. 1366 (5th Cir. 2004), abrogated on other grounds.
[167] Fed. R. Civ. P. 51(c)(2); Fed. R. Crim. P. 30(d); see also Abbott v. Babin, No. CV 15-00505-BAJ-EWD, 2017 WL 3138318, at *3 (M.D. La. May 26, 2017) (explaining that upon an untimely objection courts may only consider a plain error in the jury instructions).
[169]Chuman v. Wright, 76 F.3d 292, 294 (9th Cir. 1996).
[170]Benaugh v. Ohio Civil Rights Comm’n, No. 104-CV-306, 2007 WL 1795305 (S.D. Ohio June 19, 2007), aff’d, 278 F. App’x 501 (6th Cir. 2008).
[171]Chuman v. Wright, 76 F.3d 292, 294 (9th Cir. 1996) (reversing judgment since the instructions could allow a jury to find the defendant liable based on premise unsupported by law).
[172]United States v. Grube, No. CRIM C2-98-28-01, 1999 WL 33283321 (D.N.D. Jan. 16, 1999) (denying motion for new trial since the omitted instructions were superfluous and potentially misleading); see also Cupp v. Naughten, 414 U.S. 141, 94 S. Ct. 396, 397, 38 L. Ed. 2d 368 (1973); Lannon v. Hogan, 555 F. Supp. 999 (D. Mass.), aff’d, 719 F.2d 518 (1st Cir. 1983) (generally cannot seek such relief based on a claim of improper jury instructions, unless the error “so infect[ed] the entire trial that the resulting conviction violated the requirements of Due Process Clause and the Fourteenth Amendment.”).
[173]Fashion Boutique of Short Hills, Inc. v. Fendi USA, Inc., 314 F.3d 48 (2d Cir. 2002) (failure to make specific objections to jury instructions before jury retires to deliberate results in waiver, and Court of Appeals may review the instruction for fundamental error only.).
[174]United States v. Olano, 507 U.S. 725, 737 (1993).
[175]Cleary v. Indiana Beach, Inc., 275 F.2d 543, 545-46 (7th Cir. 1960); Sullivan v. United States, 414 F.2d 714, 715-16 (9th Cir. 1969).
[176]Cleary, 275 F.2d at 546; Magnuson v. Fairmont Foods Co., 442 F.2d 95, 98-99 (7th Cir. 1971).
[177]See United States v. Williams, 635 F.2d 744, 745-46 (8th Cir. 1980) (“It is essential to a fair trial, civil or criminal, that a jury be cautioned as to permissible conduct in conversations outside the jury room. Such an admonition is particularly needed before a jury separates at night when they will converse with friends and relatives or perhaps encounter newspaper or television coverage of the trial.”); United States v. Hart, 729 F.2d 662, 667 n.10 (10th Cir. 1984) (“[A]n admonition . . . should be given at some point before jurors disperse for recesses or for the day, with reminders about the admonition sufficient to keep the jurors alert to proper conduct on their part.”).
[178]United States v. Dempsey, 830 F.2d 1084, 1089-90 (10th Cir. 1987).
[179]United States v. Gross, 451 F.2d 1355, 1359 (9th Cir. 1971).
[180]United States v. Williams, 87 F.3d 249, 255 (8th Cir. 1996).
[194]United States. v. Venerable, 807 F.2d 745, 747 (8th Cir. 1986).
[195]United States v. Gray, 199 F.3d 547, 550 (1st Cir. 1999).
[196]United States v. Scott, 642 F.3d 791, 797 (9th Cir. 2011); United States v. Bassler, 651 F.2d 600, 602 n.3 (8th Cir. 1981).
[197]See, e.g., United States v. Darden, 70 F.3d 1507, 1537 (8th Cir. 1995) (court permitted note-taking while examining exhibits only); United States v. Porter, 764 F.2d 1, 12 (1st Cir. 1985) (court permitted note-taking only during opening statements, closing statements, and jury charge).
[198]United States v. Scott, 642 F.3d 791, 797 (9th Cir. 2011).
[199]See United States v. Rhodes, 631 F.2d 43, 45-46 (5th Cir. 1980) (“The court should also explain that the notes taken by each juror are to be used only as a convenience in refreshing that juror’s memory and that each juror should rely on his or her independent recollection of the evidence rather than be influenced by another juror’s notes.”).
[200]United States v. Richardson, 233 F.3d 1285, 1288-1289 (11th Cir. 2000).
[201]United States v. Rawlings, 522 F.3d 403, 408 (D.C. Cir. 2008); United States v. Bush, 47 F.3d 511, 514-516 (2nd Cir. 1995); DeBenedetto by DeBenedetto v. Goodyear Tire & Rubber Co., 754 F.2d 512, 516 (4th Cir. 1985).
[202] Perhaps the most important protection is a screening mechanism where questions are submitted to a judge and reviewed by counsel prior to the question being posed. Rawlings, 522 F.3d at 408; United States v. Collins, 226 F.3d 457, 463 (6th Cir. 2000).
[210]Exxon Shipping Co. v. Baker, 554 U.S. 471, 486, 128 S. Ct. 2605, 2617 n.5, 171 L. Ed. 2d 570 (2008).
[211]CFE Racing Prod., Inc. v. BMF Wheels, Inc., 793 F.3d 571, 583 (6th Cir. 2015).
[212]Id. (explaining that the waiver rule serves to protect litigants’ right to trial by jury, discourage courts from reweighing evidence simply because they feel the jury could have reached another result, and prevent tactical victories at the expense of substantive interest as the pre-verdict motion enables the defending party to cure defects in proof) (quoting Libbey-Owens-Ford Co. v. Ins. Co. of N. Am., 9 F.3d 422, 426 (6th Cir. 1993)).
[213]Bowen v. Roberson, 688 F. App’x 168, 169 (3d Cir. 2017).
[214]McGinnis v. Am. Home Mortg. Servicing, Inc., 817 F.3d 1241, 1254 (11th Cir. 2016).
[215]Bavlsik v. Gen. Motors, LLC, 870 F.3d 800, 805 (8th Cir. 2017).
[218]See, e.g., Stragapede v. City of Evanston, Illinois, 865 F.3d 861, 866 (7th Cir. 2017), as amended (Aug. 8, 2017) (upholding jury verdict in favor of plaintiff for ADA violation when challenged in renewed 50(b) motion on grounds that the jury properly discounted employer’s evidence).
[221]Molski v. M.J. Cable, Inc., 481 F.3d 724, 729 (9th Cir. 2007) (noting that federal courts are guided by the common law’s established grounds for permitting new trials).
[222]Montgomery Ward & Co. v. Duncan, 311 U.S. 243, 251, 61 S.Ct. 189, 85 L.Ed. 147 (1940).
[223]Kleinschmidt v. United States, 146 F. Supp. 253, 257 (D. Mass. 1956) (explaining that a party seeking new trial on ground of newly discovered evidence has substantial burden to explain why the evidence could not have been found by due diligence before trial).
[224]Gross v. FBL Fin. Servs., Inc., 588 F.3d 614, 617 (8th Cir. 2009) (granting new trial in age discrimination case where jury instruction improperly shifted the burden of persuasion on a central issue).
[225]Warner v. Rossignol, 538 F.2d 910, 911 (1st Cir. 1976) (counsel’s conduct in going beyond the pleadings and evidence to speculate and exaggerate the plaintiff’s injuries, despite repeated warnings from the trial judge, warranted new trial).
[226]See, e.g., Bavlsik v. Gen. Motors LLC, No. 4:13 CV 509 DDN, 2015 WL 4920300, at *1 (E.D. Mo. Aug. 18, 2015) (granting new trial on issue of damages and rejecting defendants’ argument that the record demonstrated a compromised verdict).
[230]In re Transtexas Gas Corp., (5th Cir 2002), 303 F.3d 571.
[231]U.S. v. Mansion House Center North Redevelopment Co., (8th Cir. 1988), 855 F.2d 524, certiorari denied 109 S.Ct. 557, 488 U.S. 993, 102 L.Ed.2d 583 (district court had jurisdiction to modify judgment, even after it was affirmed on appeal, in order to clarify its intentions and conform judgment to parties’ pretrial stipulation).
[232] See United States v. Cirami, 563 F.2d 26, 33 (2d Cir. 1977).
[233]Flores v. Town of Islip, No. 18-CV-3549 (GRB)(ST), 2020 WL 5211052, at *1 (E.D.N.Y. Sept. 1, 2020) (the court granted a motion to proceed with a virtual trial but required counsel and the court staff to have a pre-trial conference to discuss the logistics of a virtual trial).
[234]In re Alle, No. 2:13-BK-38801-SK, 2021 WL 3032712 (C.D. Cal. July 19, 2021). Virginia, Illinois, and Washington courts have also overruled objections to conducting civil jury trial remotely.
[235] See Texas’ Forty-Fifth Emergency Order Regarding COVID-19 State Disaster, wherein Teaxs courts may, even without a participant’s consent, allow or require anyone involved in any hearing, deposition, or other proceeding of any kind—including but not limited to a party, attorney, witness, court reporter, grand juror, or petit juror—to participate remotely, such as by teleconference or videoconference.
[236]Compare Fulton County Superior Court, Georgia initiative to reduce trial backlog by conducting all jury selection remotely with Fourth Judicial Circuit, Florida conclusion that remote trials are too resource intensive.
[237] See, e.g., New Jersey Federal Bankruptcy Court Zoom Trial Guidelines.
[238] For example, see the State of Washington’s Best Practices for Remote Jury Trials, https://www.courts.wa.gov/newsinfo/content/Best%20Practices%20in%20Response%20to%20FAQ.PDF
Knobbe Martens 2040 Main St., 14th Floor Irvine, CA 92614 [email protected]
Contributors
Julia Hanson
Knobbe Martens 2040 Main St. 14th Floor Irvine, CA 92614 [email protected]
Raina Patel
Knobbe Martens 1155 Avenue of the Americas 24th Floor New York, NY 10036 [email protected]
Nyja Prior
Knobbe Martens 2040 Main St. 14th Floor Irvine, CA 92614 [email protected]
Fred Feyzi
Knobbe Martens 333 Bush Street 21st Floor San Francisco, CA 94104 [email protected]
Mengmeng Du
Knobbe Martens 2040 Main St. 14th Floor Irvine, CA 92614 [email protected]
§ I. Patent Cases
Arthrex, Inc. v. Smith & Nephew, Inc., 35 F.4th 1328 (Fed. Cir. 2022)
Facts: This case concerns whether the Commissioner for Patents has constitutional authority to decide petitions for rehearing regarding inter partes review (“IPR”) of a patent, which are normally decided only by the Director.
In 2015, Arthrex sued Smith & Nephew (“S&N”) alleging patent infringement. S&N petitioned for IPR, arguing that the Arthrex patent was anticipated. The Patent Trial and Appeal Board (“PTAB” or “Board”) of Administrative Patent Judges (“APJs”) instituted an IPR and agreed with S&N. Arthrex appealed the Board’s decision and the Board’s constitutional authority to issue the agency’s final decision. Arthrex argued that the President did not nominate the APJs nor did the Senate confirm them. The constitutional issue reached the Supreme Court in 2021. See United States v. Arthrex, Inc., 141 S. Ct. 1970 (2021). The Supreme Court reviewed the Appointments Clause and agreed that APJs could not issue any “final decision binding the Executive Branch.” The Supreme Court remedied this by allowing parties to request rehearing of board decisions by the Patent Office’s Acting Director.
On remand, Arthrex requested a rehearing, but the office of the Director was vacant. The rehearing decision thus fell to the Deputy Director, which was also vacant. Under an Agency Organization order, third in line is the Commissioner. The Commissioner denied Arthrex’s rehearing request and ordered that the Board decision be made final. Arthrex appealed to the Federal Circuit.
Held: The Commissioner has the authority to act as the Director and decide whether the Board will issue a rehearing under the Appointments Clause, Federal Vacancies Reform Act, and the Constitution’s separation of powers.
Reasoning: The Federal Circuit explained that under the Appointments Clause, Congress has the authority to vest appointment power in the Heads of Departments. Congress empowered the Secretary of Commerce to appoint the Commissioner of Patents, which the Federal Circuit found to fall within the Appointments Clause.
Arthrex argued that the Commissioner did not have the authority to issue a final binding decision because the Commissioner was not Presidentially appointed. The Federal Circuit rejected this argument because inferior officers may perform the functions and duties when a senior director position is vacant on a “temporary, acting basis.” The Federal Circuit further explained previous Supreme Court precedent that an inferior officer may assume the duties of a superior officer for limited periods under special circumstances without being Presidentially appointed and Senate confirmed.
Arthrex also argued that the Federal Vacancies Reform Act precluded the Commissioner from issuing a final decision. The Federal Circuit disagreed, finding that this Act only applied to non-delegable duties and that deciding rehearing requests is delegable. The Federal Circuit noted that the legislative intent of this Act was to limit what could be considered non-delegable and that no statutory language limited rehearing request decisions to the Director.
Finally, the Federal Circuit rejected Arthrex’s separation of powers argument. Arthrex argued that because the Commissioner could be removed for cause only, the Commissioner could not act as a Director since this would encroach upon Executive power. The Federal Circuit disagreed, explaining that the “for cause” restriction only applied to the Commissioner position; the President could at any time select a different acting Director.
Facts: This case concerns the enforceability of a forum selection clause for IP disputes to preclude inter partes review (“IPR”) of a patent at the Patent Office.
The parties signed a confidentiality agreement that included a forum selection clause for IP actions after the contract term. The agreement specified the District of Delaware as the forum but included administrative proceedings as a type of action subject to the clause. A mutual covenant not to sue barred administrative proceedings and patent validity challenges but ended with the term of the agreement. Sarepta filed an IPR, and Nippon Shinyaku sued in Delaware to enjoin Sarepta from continuing the IPR challenge.
The lower court held that Nippon Shinyaku had not shown a reasonable probability of succeeding on the argument that the agreement effectively barred IPRs. The district court noted IPRs cannot be brought in Delaware, the specified forum, and the mutual covenant not to sue deferred all IPRs for a limited time. The district court read the forum selection clause to apply to standard district court proceedings, but not to IPRs. If Sarepta was forced to wait out the delay imposed by the covenant not to sue, its IPR petitions would be time-barred, a result which the court found would be wrong.
Held: Applying Delaware law to interpret the contract, the Federal Circuit reversed, holding that the plain language of the contract’s forum selection clause effectively precluded IPRs despite that clause mentioning administrative agency actions (which include IPRs).
Reasoning: The Court reasoned that no tension or conflict exists between the forum-selection and no-suit clauses. The covenant not to sue broadly prohibited litigating any issue relating to patents, regardless of the forum. The forum selection clause allowed litigating any issue related to patents, if they can be brought in the District of Delaware. The Court noted that the parties are entitled to bargain away rights, including through use of forum selection clauses. The Court reversed the district court and ordered the entry of a preliminary injunction.
Weisner v. Google LLC, 51 F.4th 1073 (Fed. Cir. 2022)
Facts: This case concerns the patentability analysis for abstract ideas.
Weisner, an independent inventor, sued Google for infringement of four patents related to digital records and physical location history. The patents disclose a system that collects “leg history,” defined as “the accumulation of a digital record of a person’s physical presence across time.” Leg history can be collected automatically or entered manually. Two of the patents disclose using the leg history to improve search results by comparing a previous user’s entries (the “useful person”) to a searching person’s points of interest. The useful person and search results are based on commonalities of previously visited locations that the searching person also visited. Data from the leg history is then used to create a digital travel log of places the searching person previously visited, and in some cases, is used for future searches.
Google moved to dismiss at the pleading stage, arguing all four patents disclosed patent-ineligible subject matter. The Southern District of New York considered all four patents together because they shared identical specifications and had similar claims. The District Court agreed with Google and granted the motion. Weisner appealed.
Held: Patents directed to digital travel logs are generic and patent ineligible, but patents directed to improving search results, even if abstract, may be patent eligible.
Reasoning: The Federal Circuit divided the patents into two claim sets. Claim Set A disclosed only digital travel logs and Claim Set B disclosed digital travel logs and using location histories to improve search results. The Court applied the Alice analysis to both claim sets. Alice Corp. v. CLS Bank Int’l, 573 U.S. 208, 217 (2014). At Alice step one, the court “determine[s] whether the claims at issue are directed to … [a] patent-ineligible concept[,]” such as a law of nature, natural phenomena, or an abstract idea. Id. at 217. If so, the Court moves to Alice step two to “consider the elements of each claim both individually and ‘as an ordered combination’ to determine whether the additional elements ‘transform the nature of the claim’ into a patent-eligible application.” Id. In other words, step two is “a search for an ‘inventive concept.’” Id. at 217-18 (quoting Mayo, 566 U.S. at 72).
At Alice step one for Claim Set A, the Court reasoned that humans consistently have kept travel logs and diaries compiling dates and times. In rejecting Weisner’s argument that this travel history was limited to members only (i.e., individuals using the digital record system), the Federal Circuit explained that this was nothing more than “attorney argument” that was not disclosed in the complaint, the patent claims, or specifications. Because Claim Set A was directed to an abstract idea, the Court turned to Alice step two. The Court determined that the specification and claims described components that are conventional and non-inventive. The Court again rejected Weisner’s argument that reserving exclusive access for subscribers or “members” is transformative.
Turning to Claim Set B, the Federal Circuit applied Alice step one to determine that the accumulation of location histories is described in a generic fashion, but that improvements to digital searching were described with sufficient detail. The Court ultimately concluded that Claim Set B is directed to an abstract idea, but that the claims are eligible under Alice step two. The Court reasoned that Claim Set B implemented a specific solution to a technological problem by prioritizing conventional search results. By specifying the mechanism through which the improved search results are achieved, the claims could be patent eligible.
Dissent: Judge Hughes dissented, arguing that all four patents were ineligible. Judge Hughes reasoned that the only improvement was the addition of new searchable data, namely location history.
Am. Nat’l Mfg. Inc. v. Sleep No. Corp., 52 F.4th 1371 (Fed. Cir. 2022)
Facts: This case concerns claim amendments in inter partes review (“IPR”) proceedings.
American National filed IPR petitions challenging many claims of two patents owned by Sleep Number. The Patent Trial and Appeal Board found all but six of the challenged claims unpatentable. Sleep Number filed motions to amend contingent on a finding of unpatentability. Sleep Number not only proposed to amend the patent claims to match those that withstood the challenge, but also proposed amendments “for consistency with terms used in the industry and in related patents.” American National opposed on multiple grounds, including: (1) the amendments were not responsive to a ground of unpatentability; (2) the relevant specification contained an error rendering the claims nonenabled; and (3) the proposed amendments invited a potential change in inventorship. The Board rejected American National’s arguments and granted Sleep Number’s motions to amend. American National appealed and Sleep Number cross appealed.
Held: A party may amend claims during an IPR proceeding to address other issues not responsive to an unpatentability ground, as long as the amendment is also responsive to an unpatentability ground.
Reasoning: The Court first affirmed that the Board could consider proposed claim amendments that are not responsive to an unpatentability ground in IPR proceedings. The Court endorsed the Board’s analysis of this issue in Lectrosonics, Inc. v. Zaxcom, Inc., No. IPR2018-01129, 2019 WL 1118864, at *2 (P.T.A.B. Feb. 25, 2019) (precedential), which interpreted 37 C.F.R. § 42.121(a)(2)(i). That regulation requires that amendments be responsive to a ground of unpatentability. Under Lectrosonics, initially responsive amendments may also address other issues, such as those arising under Section 101 and Section 112.
The Court next rejected American National’s argument that an admitted error in the specification of a priority application necessarily results in non-enablement. Relying on PPG Indus. v. Guardian Indus. Corp., 75 F.3d 1558 (Fed. Cir. 1996), the Court held that obvious specification errors need not destroy enablement if a person of ordinary skill in the art would readily recognize them as errors. Considering the error here obvious in view of the specification itself, the Court affirmed the Board on this issue.
The Court also rejected American National’s argument that adding a term to the claims that was only used in related patents (incorporated by reference and with additional inventors) raised an inventorship issue. The patents themselves made clear that the term was well known in the art, so reciting well-known terms in amended claims does not affect inventorship.
Finding none of the remaining arguments by either American National or Sleep Number persuasive, the Court affirmed the Board’s decisions granting Sleep Number’s motion to amend.
LG Elecs. Inc. v. Immervision, Inc., 39 F.4th 1364 (Fed. Cir. 2022)
Facts: This case concerns how to treat a prior art reference containing an obvious error.
Immervision owns a patent relating to capturing and displaying digital panoramic images using panoramic objective lenses. LG filed two inter partes review (IPR) petitions, each challenging a dependent claim of the patent. Fundamental to LG’s obviousness argument was the Tada reference, which is a U.S. patent claiming priority from and incorporating by reference a Japanese priority patent application. Tada explicitly taught nearly all limitations of the challenged claim but missed one element relating to a particular function of the lenses. To cure this deficiency of Tada, LG’s expert reconstructed the lens in one figure in Tada using the information retrieved from an “aspheric coefficients” table in the Japanese priority document and testified that the reconstructed lens would function as claimed. In response, Immervision’s expert followed the same approach but pointed out an error in the table. Immervision argued that such incorrect disclosure cannot support any obviousness ground. In its final written decision, the Board sided with Immervision and concluded that LG failed to prove that the claim was obvious over Tada. LG appealed.
Held: Obviously erroneous disclosure in prior art reference cannot be used in an invalidity challenge.
Reasoning: On appeal, neither side disputed that the “aspheric coefficients” in the Tada table were erroneous. The question was whether substantial evidence supported the Board’s finding that the error would have been apparent to a person of ordinary skill in the art, causing them to disregard the disclosure.
The Court first set forth the legal standard for evaluating obvious errors in prior art, revisiting In re Yale, 434 F.2d 666 (C.C.P.A. 1970). Yale held that obvious errors in prior art would not prevent a “true inventor” from seeking patent protection later. The Court regarded the Yale standard as sound law and rejected LG’s two interpretations of Yale.
LG contended that the Yale standard imposes a “temporal urgency” requirement: because Immervision’s expert spent over ten hours to correct it, the error was not obvious. The Court disagreed, but recognized that the time and effort an ordinary skilled artisan spent on spotting an error might be a relevant factor. LG also suggested that Yale should be limited to typographical errors, but the Court rejected this.
Applying the Yale standard, the Court agreed that the Board correctly identified several aspects of the table that would alert the ordinary skilled artisan to the error in the aspheric coefficients. These aspects included that the table was corrected in the issued U.S. patent, that comparison between U.S. and Japanese versions showed a transcription error, and that other disclosures in the specification were inconsistent.
Considering the parties’ remaining arguments unpersuasive, the Court affirmed the Board’s finding upholding the claim as supported by substantial evidence.
International Business Machines Corp. v. Zillow Group, Inc., 50 F.4th 1371 (Fed. Cir. 2022)
Facts: This case concerns the subject matter eligibility of computer method claims.
International Business Machines (“IBM”) sued Zillow for infringement of several patents on computer displays of geospatial data. The patents taught displaying layered data on a spatially oriented display (like a map), based on nonspatial display attributes (like visual characteristics—color hues, line patterns, shapes, etc.)
Zillow moved for judgment on the pleadings, arguing ineligible subject matter under 35 U.S.C. § 101. Patent eligibility is assessed using a two-part inquiry developed in the case Alice Corp. v. CLS Bank Int’l, 573 U.S. 208, 217 (2014). The first inquiry is whether a patent claim is “directed to” an ineligible law of nature, natural phenomena, or abstract idea. If not, the subject matter of the claim is eligible. If so, the court determines whether the claim nonetheless includes an inventive concept sufficient to transform the nature of the claim into a patent-eligible application.
After applying the two-step framework in Alice, the district court found that two of the patents were ineligible as “directed to abstract ideas, contained no inventive concept, and failed to recite patentable subject matter.” IBM appealed, arguing that the District Court erred under the second step of the Alice framework.
Held: A patentee’s allegation that computer method claims made data analysis more efficient, without reference to the function or operation of the computer itself, was not sufficient to overcome a challenge under 35 U.S.C. § 101.
Reasoning: On appeal, IBM relied on an expert declaration stating that the claimed method allowed for better visualization of data, which in turn resulted in more efficient data analysis. Citing cases applying the Alice framework to software, the Federal Circuit noted that [the step-one] inquiry often turns on whether the claims focus on specific asserted improvements in computer capabilities or instead on a process or system invoking computers merely as a tool. The Federal Circuit found that any improved efficiency of IBM’s patents did not improve the functions of the computer itself, as the claims could be performed by hand and would yield the same improved efficiency.
Dissent: Judge Stoll dissented in part, arguing that IBM had adequately alleged that two of the claims were patent eligible. Judge Stoll reasoned that the claims addressed physical limitations with computer displays wherein large datasets would be “densely packed” and rendered “incomprehensible.”
§ II. Copyright Cases
Unicolors, Inc. v. H&M Hennes & Mauritz, L.P., 142 S. Ct. 941 (2022)
Facts: This case interprets the Copyright Act safe harbor provision, 17 U.S.C. § 411(b), which excuses inaccurate copyright registrations as long as the copyright holder lacked “knowledge it was inaccurate.”
Unicolors owns copyrights in fabric designs and sued H&M for copyright infringement. After the jury found infringement, H&M moved for judgment as a matter of law, arguing that Unicolors’ registration was invalid as inaccurate, negating the suit (a valid copyright registration for the work was a prerequisite for the lawsuit). Unicolors had improperly filed a single application for 31 separate works which were not “included in the same unit of publication” in violation of the Copyright Office regulation in 37 C.F.R. § 202.3(b)(4). Unicolors claimed ignorance of this regulation and inaccuracy, and should be excused by the safe harbor provision. The trial court agreed and denied H&M’s motion.
The Ninth Circuit disagreed with the trial court as it reasoned that the safe harbor provision did not excuse mistakes of law. Unicolors subsequently sought review of the scope of the safe harbor provision by the Supreme Court.
Held: In a 6-3 decision, the Supreme Court held that the safe harbor provision, 17 U.S.C. § 411(b), excuses inaccuracy in a copyright registration that arises from both lack of knowledge of fact and law.
Reasoning: The majority confirmed that Unicolors’ mistake was one of law as it concerned a legal labeling issue that lay people must look to experts to resolve and Unicolors was unaware of the legal mistake when it made the registration.
The majority next interpreted the safe harbor provision to excuse both factual and legal mistakes for several reasons. First, the provision only requires a lack of “knowledge,” which historically means the fact or condition of being aware of something, and does not distinguish between factual or legal mistakes. Second, nearby statutory provisions indicate that had Congress wanted to make such a distinction it knew how to accomplish that explicitly. Third, cases decided before the enactment of this provision overwhelmingly held that mistakes of both law and fact were excused and Congress did not intend to alter this. Last, the majority believed the legislative intent was to facilitate copyright registration by nonlawyers, which supports excusing mistakes of law. Finding none of H&M’s arguments persuasive, the majority vacated the Ninth Circuit’s decision and remanded the case.
Dissent: Justice Thomas dissented, joined by Justice Alito and Justice Gorsuch. The dissent would have dismissed the writ of certiorari without interpreting the statute since Unicolors did not raise the point in the courts below and there was no existing circuit split on the issue.
Gray v. Hudson, 28 F.4th 87 (9th Cir. 2022)
Facts: This case concerns proving music copyright infringement through circumstantial evidence.
The plaintiffs, a group of Christian hip-hop artists, sued singer Katy Perry and several others for copyright infringement in 2016, claiming that Katy Perry’s 2013 hit “Dark Horse” copied a similar ostinato (i.e., a repeating musical phrase or rhythm) in their song “Joyful Noise.” Instead of showing direct copying, the plaintiffs used circumstantial evidence of substantial similarity between the ostinatos in “Joyful Noise” and “Dark Horse.” A jury awarded the plaintiffs $2.8 million in damages. The defendants then moved for judgment as a matter of law (JMOL), which the trial court granted because it found that the ostinato was not copyrightable original expression, or alternatively, the copyright was so “thin” that it could be infringed only by “virtually identical” works, which had not been proven by the plaintiffs. The appeal followed.
Held: A repeating musical phrase or rhythm may not be copyrightable.
Reasoning: The Ninth Circuit reviewed the trial court’s grant of JMOL de novo and agreed with the trial court that plaintiffs had not shown the originality of the Joyful Noise ostinato.
At the outset, the Court revisited the framework for copyright infringement. The Court noted that instead of proving direct copying, the plaintiffs proved that (1) the defendants had “access” to their work and (2) the ostinatos in the works are “substantially similar.” The Court found the second prong dispositive. The Ninth Circuit has traditionally applied a two-part test comprising “extrinsic” and “intrinsic” components and required that “[b]oth tests [are] satisfied for the works to be deemed substantially similar.” Apple Computer, Inc. v. Microsoft Corp., 35 F.3d 1435, 1442 (9th Cir. 1994); Skidmore as Tr. for Randy Craig Wolfe Tr. v. Led Zeppelin, 952 F.3d 1051, 1064 (9th Cir. 2020). While the extrinsic test considers similarities between the ideas and expression of the works from an objective viewpoint, the intrinsic test focuses on what an ordinary reasonable observer thinks. While courts defer to a jury’s finding of intrinsic similarity, courts must also ensure that the objective extrinsic test is satisfied.
Noting the jury’s finding of intrinsic similarity, the Court addressed the extrinsic test. Because this necessarily identifies the “protected material” in a plaintiff’s work, the Court considered the threshold issue of what in the Joyful Noise ostinato qualified as original expression. Upon examining the trial record, the Court concluded that the Joyful Noise ostinato consisted entirely of unprotectible commonplace elements (e.g., the length of each ostinato, the rhythm, the timbre, the musical texture, the use of synthesizers to accompany vocal performers, the pitch sequences, and the scale degrees), as conceded by the plaintiffs’ expert. The plaintiffs argued originality existed in the combination of elements. The Court disagreed, concluding that even the arrangement of musical building blocks in the ostinato was “manifestly conventional.” Accordingly, the Court held that the extrinsic test has not been satisfied.
Finding none of the plaintiffs’ remaining arguments persuasive, the Court affirmed the trial court’s order.
§ III. Trademark/Trade Dress Cases
Meenaxi Enterprise Inc. v. The Coca Cola Company, 38 F.4th 1067 (Fed. Cir. 2022)
Facts: This case involves the requirements for maintaining a statutory cause of action under § 14(3) of the Lanham Act, 15 U.S.C. § 1064(3), for activities outside the United States.
The Coca-Cola Company sought to cancel Meenaxi Enterprise, Inc.’s registrations for THUMS UP and LIMCA under § 14(3) of the Lanham Act, 15 U.S.C. § 1064(3), asserting that Meenaxi was using these marks to misrepresent the source of its goods. Since the 1970s, Coca-Cola has distributed Thums Up cola and Limca lemon-lime soda in India and other foreign markets and obtained registrations for both marks in those countries. Meenaxi distributed Thums Up cola and Limca lemon-lime soda in the United States since 2008 and registered the marks THUMS UP and LIMCA in connection with soft drinks (among other goods) in International Class 32 with the United States Patent and Trademark Office. Coca-Cola claimed that Meenaxi traded on Coca-Cola’s goodwill with Indian-American consumers by misleading them into thinking that Meenaxi’s beverages were the same as those sold by Coca-Cola in India. The Trademark Trial and Appeal Board (“Board”) held in Coca-Cola’s favor and cancelled Meenaxi’s registrations.
Held: To maintain a statutory cause of action under the Lanham Act for activities solely conducted outside the United States, the claimant must provide concrete evidence of reputational injury or lost sales.
Reasoning: The Federal Circuit reversed the Board’s decision to cancel Meenaxi’s registrations. The Federal Circuit held that Coca-Cola failed to establish a statutory cause of action based on lost sales or reputational injury. The Federal Circuit noted that the territoriality principle was not implicated as Coca-Cola based its claim solely on its alleged injury occurring in the United States. The Federal Circuit reasoned that third-party sales of Coca-Cola’s Indian products in the US were limited, and Coca-Cola failed to provide survey evidence that Americans of Indian descent would know the marks’ reputation in India. Thus, Coca-Cola failed to prove the marks’ reputation in the U.S. or establish the right to bring a statutory cause of action under § 14(3) of the Lanham Act, 15 U.S.C. § 1064(3).
Concurrence: Judge Reyna concurred to express that the case should have been governed by the territoriality principle and the well-known mark exception. The territoriality principle indicates that trademark rights do not extend beyond the geographic territory with which the marks are recognized unless the mark itself falls within the limited well-known mark exception.
In re Elster, 26 F.4th 1328 (Fed. Cir. 2022)
Facts: This case concerns the protections of the First Amendment and the registrability of a trademark in contravention of section 2(c) of the Lanham Act.
The applicant Elster sought to register TRUMP TOO SMALL for use on shirts in International Class 25. Elster indicated that this mark stemmed from an exchange between Donald Trump and Senator Marco Rubio during the 2016 presidential primary debate and aims to “convey[ ] that some features of President Trump and his policies are diminutive.” The Examining Attorney refused the application on two grounds: under section 2(c) of the Lanham Act which prohibits registration of a mark that “comprises a name . . . identifying a particular living individual” without the individual’s “written consent”; and section 2(a) of the Lanham Act, which bars registration of trademarks that “falsely suggest a connection with persons, living or dead.” § 1052(c); 1052(a). Elster appealed the refusal, asserting that the mark was political commentary, so refusal infringed on his First Amendment rights as content-based discrimination.
The Trademark Trial and Appeal Board (“Board”) affirmed the Examining Attorney’s refusal solely on section 2(c). The Board noted the government’s compelling interest to protect the named individual’s rights of privacy and publicity. Elster appealed.
Held: The government has no valid interest that could overcome the First Amendment protections afforded to the political criticism embodied in Elster’s TRUMP TOO SMALL mark and the application of section 2(c) to the Elster’s mark is unconstitutional.
Reasoning: The Federal Circuit reasoned that speech that is otherwise protectable does not lose protection merely because the speech is sought as a trademark and is commercial. Because section 2(c) as applied to Elster’s case constituted content-based discrimination, the government must prove that it has an interest in limiting speech on privacy or publicity grounds if that speech involves criticism of government officials.
Regarding President Trump’s privacy interest, the Federal Circuit noted that as a public figure, he enjoys no right of privacy protecting him from criticism in the absence of actual malice. As for publicity grounds, the Federal Circuit made two points. First, President Trump’s name was not used to exploit his commercial interests or dilute the commercial value of his name. Second, registration would not suggest President Trump has endorsed Elster’s products. Because of the President’s status as a public official, and because Elster’s mark communicates his disagreement with and criticism of the then-President’s approach to governance, the government has no interest in restricting Elster’s speech from trademark protection.
The Federal Circuit did not articulate whether to apply strict scrutiny or intermediate scrutiny and noted that the result would be the same under either standard. The Federal Circuit also reserved the question of whether section 2(c) on its face is overbroad and therefore unconstitutional.
Paul Hastings LLP 1117 S. California Avenue Palo Alto, CA 94304 (650) 320-1802 phone (650) 320-1900 fax [email protected]
Assistant Editor
Shera Kwak
Paul Hastings LLP 515 South Flower Street, Twenty-Fifth Floor Los Angeles, CA 90071 (213) 683-6000 phone (213) 627-0705 fax [email protected]
Contributors
Samantha Aceves
Sinclair Braun LLP 16501 Ventura Blvd., Suite 400 Encino, CA 91436 213.429.6116 phone 213.429.6101 fax [email protected]
Matthew S. Aibel
Paul Hastings LLP 200 Park Avenue New York, NY 10166 (212) 318.6991 phone (212) 752.3391 fax [email protected]
Phillip Arencibia
Duane Morris LLP 201 S. Biscayne Boulevard, Suite 3400 Miami, FL 33131-4325 (305) 960-2339 phone (305) 675-0772 fax [email protected]
Carlos Bacio
Ogletree Deakins Nash Smoak & Stewart 695 Town Center Drive, Suite 1500 Costa Mesa, CA 92626 (714) 800-7900 phone [email protected]
Cassidy Bolt
Paul Hastings LLP 4747 Executive Drive San Diego, Ca 92121 (858) 458-3037 phone (858) 458-3137 fax [email protected]
Barry Brown
Applied Materials, Inc. Global Employment Law P.O. Box 58039 Santa Clara, CA 95052 (408) 748-5329 [email protected]
Kaveh Dabashi
Paul Hastings LLP 200 Park Avenue New York, NY 10166 (212) 318.6658 phone (212) 230-7658 fax [email protected]
Dogan Ervin
Seyfarth Shaw LLP 2029 Century Park East, Suite 3500 Los Angeles, CA 90067
Caitlin H. Falk
Paul Hastings LLP 515 South Flower Street, Twenty-Fifth Floor Los Angeles, CA 90071 (213) 683-6000 phone (213) 627-0705 fax [email protected]
Candace H. Hart
Sinclair Braun LLP 16501 Ventura Blvd., Suite 400 Encino, CA 91436 (213) 429-6121 phone (213) 429-6101 fax [email protected]
Lindsey C. Jackson
Paul Hastings LLP 515 South Flower Street, Twenty-Fifth Floor Los Angeles, CA 90071 (213) 683-6000 phone (213) 627-0705 fax [email protected]
Julian A. Jackson-Fannin
Duane Morris LLP 201 S. Biscayne Boulevard, Suite 3400 Miami, FL 33131-4325 (305) 960-2253 phone (305) 402-0544 fax [email protected]
Judy Kang
Jackson Lewis P.C. 725 South Figueroa Street Suite 2500 Twenty-Fifth Floor Los Angeles, CA 90017 (213) 689-0404 phone (213) 689-0430 fax [email protected]
Alex Kargher
Sinclair Braun LLP 16501 Ventura Blvd., Suite 400 Encino, CA 91436 213.429.6116 phone 213.429.6101 fax [email protected]
Rakhi Kumar
Paul Hastings LLP 515 South Flower Street, Twenty-Fifth Floor Los Angeles, CA 90071 (213) 683-6000 phone (213) 627-0705 fax [email protected]
Boris Lubarsky
Paul Hastings LLP 1117 S. California Avenue Palo Alto, CA 94304 (650) 320-1825 phone (650)320-1900 fax [email protected]
Robert Milligan
Seyfarth Shaw LLP 2029 Century Park East, Suite 3500 Los Angeles, CA 90067 (310) 201-1579 phone (310) 201-5219 fax [email protected]
Matthew Monforte
Paul Hastings LLP 101 California Street, Forty-Eighth Floor San Francisco, CA 94111
Emily Monroe
Paul Hastings LLP 515 South Flower Street, Twenty-Fifth Floor Los Angeles, CA 90071 (213) 683-6174 phone (213) 996-3174 fax [email protected]
Victoria Morgan
Paul Hastings LLP 515 South Flower Street, Twenty-Fifth Floor Los Angeles, CA 90071 (213) 683-6000 phone (213) 627-0705 fax [email protected]
Natasha Nicholson Gaviria
Paul Hastings LLP 200 Park Avenue New York, NY 10166 (212) 318.6675 phone (212) 319.4090 fax [email protected]
Aja Nunn
Paul Hastings LLP 515 South Flower Street, Twenty-Fifth Floor Los Angeles, CA 90071 (213) 683-6000 phone (213) 627-0705 fax [email protected]
Alan M. Rivera
Littler Mendelson P.C. 500 Capitol Mall, Suite 2000, Sacramento, CA 95814 (916) 830-7265 phone (916) 914-2216 fax [email protected]
Richard Rothman
Paul Hastings LLP 2050 M Street NW Washington, DC 20036 (202) 551-1949 phone (202) 551-0449 fax [email protected]
Joshua Salinas
Seyfarth Shaw LLP 2029 Century Park East, Suite 3500 Los Angeles, CA 90067 (310) 201-1514 phone (310) 201-5219 fax [email protected]
Sachiko Taniguchi
Paul Hastings LLP 200 Park Avenue New York, NY 10166 (212) 318.6000 phone (212) 319-4090 fax [email protected]
§ 1.1. Introduction
Over the last few years, we have continued to see a large push for a narrowing of the use of noncompetition agreements, including the Biden Administration issuing an executive order directing multiple federal departments and agencies to take action against the unfair use of noncompete agreements and revise guidance on no-poach agreements. On January 5, 2023, the Federal Trade Commission (“FTC”) gave notice of a proposed rule to ban noncompete clauses for all workers, including independent contractors, volunteers, and interns. The proposed rule broadly prohibits traditional post-employment noncompetes and would result in significant changes for employers that routinely use noncompetes to protect their valuable trade secrets. If it becomes effective, the rule would require employers to rescind existing noncompete agreements within 180 days of publication of a final rule and to provide individualized notice to all current and former workers previously covered by a noncompete that the noncompete is no longer in effect. Further, this rule supersedes any state law contrary to the noncompete ban, but not any law providing greater protections for workers. The public comment period ended on March 20, 2023, after which the FTC will review the comments and publish a final rule. If and when the rule goes into effect, protecting trade secrets will be more important than ever for employers.
Additionally, the continued remote work and access to technology during these unprecedented times will continue to create more opportunities for departing employees to retain and misuse their former employer’s confidential information. Trade secret misappropriation litigation will continue to be on the rise. This Chapter provides an overview of recent developments in case law and will continue to serve as a practical guide for business law practitioners navigating new changes in employee mobility issues and the protection of trade secrets.
§ 1.2. Employee Mobility: Breach of Duty of Loyalty; Breach of Fiduciary Duties
§ 1.2.1. United States Supreme Court
There were no qualifying decisions by the United States Supreme Court.
§ 1.2.2. First Circuit
There were no qualifying decisions within the First Circuit.
§ 1.2.3. Second Circuit
Zurich Am. Life Ins. Co. v. Nagel, 590 F. Supp. 3d 702 (S.D.N.Y. 2022), reconsideration denied, 2022 WL 1173885 (S.D.N.Y. 2022). The District Court found that an employee emailing documents to his personal account or retaining those documents after his employment was terminated did not constitute a breach of his fiduciary duties to the company because there is no evidence that he ever shared those documents with anyone other than his lawyer. Because the employee did not use the information to compete or divert business opportunities from his former employer, simply sending and keeping the information was not a breach of fiduciary duty. Further, the employee’s attempt to use those documents to leverage a severance package did not constitute a breach of fiduciary duty.
§ 1.2.4. Third Circuit
There were no qualifying decisions within the Third Circuit.
§ 1.2.5. Fourth Circuit
Adnet, Inc. v. Soni, 2021 U.S. Dist. LEXIS 177825 (E.D. Va. 2021), appeal filed (Oct. 20, 2021). The U.S. District Court for the Eastern District of Virginia denied an employer’s motion for summary judgment of claims brought against three employees for breach of loyalty, tortious interference, and business conspiracy, and granted the employees competing motion. There, the U.S. Army awarded a contract to the employer. The employer hired three employees who incorporated their own company providing similar services as the employer. The Army transitioned the work originally awarded to the employer to a third party, General Dynamics Technology, Inc. (GDIT). The employer and the employees’ company competed for the subcontract with GDIT. GDIT awarded the subcontract to the employees’ company. The work with GDIT was to begin after the employees’ job termination with the employer. The District Court denied the employer summary judgment on its breach of the duty of loyalty claim, and granted the employees competing motion, because the employer did not have a preexisting contractual or client relationship with GDIT and the employees were preparing for future employment rather than soliciting employer’s current clients. The District Court also denied the employer summary judgment on the tortious interference claim because the employer failed to establish the existence of a valid contractual relationship or business expectancy. Finally, the District Court also denied the employer summary judgment on its conspiracy claims because their predicate acts failed.
Additional Cases of Note
LStar Dev. Grp., Inc. v. Vining, 2021 U.S. LEXIS 181972 (E.D.N.C. 2021) (denying defendant’s motion to dismiss plaintiff’s breach of fiduciary duty and conflict of interest claim which alleged that employees violated their duty of loyalty to plaintiff by forming defendant entity using plaintiff’s money, equipment, employees, and facility to operate the entity, and attempted to divert plaintiff’s corporate business opportunities to defendant entity).
§ 1.2.6. Fifth Circuit
Trench Tech Int’l, Inc. v. Tech Con Trenching, Inc., 2022 U.S. Dist. LEXIS 100280 (N.D. Tex. 2022). Trench Tech Int’l designs, manufactures, and sells trench-digging machines. Trench-Tech, Ltd. (owned by Trench Tech Int’l), was the domestic seller of parts for Trench Tech Int’l. An owner of Trench Tech Int’l had a son who worked for Trench Tech Ltd. The son downloaded design drawings owned by Trench Tech Int’l to his personal laptop. He and another Trench Tech Ltd. employee then left for a competitor, Tech Con Trenching (Tech Con). Tech Con allegedly used the downloaded information to build several machines. Trench Tech Int’l and Trench Tech Ltd. (Plaintiffs) sued Tech Con and the former employees (Defendants) for trade secret misappropriation and breach of fiduciary duty, among other claims. Defendants moved for summary judgment, arguing, in part, that the son owed a duty of confidence and fiduciary duty only to his direct employer, Trench-Tech, Ltd., and not to the owner of the trade secrets, Trench Tech Int’l. The court rejected this argument, noting that defendants failed to cite any authority restricting a confidential or fiduciary relationship to employer-employee relationships. The son was entrusted with trade secrets and “knew” of his duty to maintain their confidentiality. As such, the formalities of plaintiffs’ formation did not preclude a finding that he breached his duties.
Additional Cases of Note
Winsupply E. Houston v. Blackmon, 2021 U.S. Dist. LEXIS 225067 (S.D. Tex 2021) , appeal dismissed 2022 U.S. App. LEXIS 34871 (5th Cir. (Tex.) 2022) (denying preliminary injunction stemming from defendant’s alleged breach of fiduciary duty where (1) defendant had already terminated her employment with the plaintiff, thus ending her fiduciary duty to the plaintiff and (2) the plaintiff’s ultimate harm—loss of customer sales—could be compensated by a damages award).
§ 1.2.7. Sixth Circuit
There were no qualifying decisions within the Sixth Circuit.
§ 1.2.8. Seventh Circuit
Cary v. Northeast Ill. Reg’l Commuter R.R. Corp., 2021 U.S. Dist. LEXIS 244865 (N.D. Ill. 2021). Cary resigned from her position with Metra. In connection with her employment and resignation, Cary sued Metra and forwarded certain confidential documents to her attorney and her own personal email address. Metra filed a counterclaim against Cary for breach of fiduciary duty based on Cary’s act of forwarding the confidential documents. Cary moved to dismiss the counterclaim and argued that forwarding documents to oneself and one’s counsel cannot support a claim for breach of fiduciary duty. Metra argued that any act sharing of sharing confidential documents outside the workplace could support its claim. The Court found that each party’s position was “too extreme.” While the Court noted that no Illinois court had directly addressed this issue, it found that “Illinois law would likely not punish an employee who lawfully obtains records; discloses only those records reasonably necessary to develop a lawsuit; and discloses the records only to the employee’s attorneys and, later, to the pertinent government agency.” Nevertheless, Metra’s counterclaim survived due to the need for more information regarding the nature of the confidential documents at issue.
§ 1.2.9. Eighth Circuit
Moeschler v. Honkamp Krueger Fin. Servs., Inc., 2021 U.S. Dist. LEXIS 179787, (D. Minn. 2021). The U.S. District Court for the District of Minnesota denied the employer’s motion for a preliminary injunction seeking to restrict a former employee’s ability to work for a direct competitor, in part on the grounds that soliciting customers from memory does not constitute statutory misappropriation of trade secrets. Former employee, Peter Moeschler (Moeschler), resigned from his position at asset management company, Honkamp Krueger Financial Services, Inc. (HKFS), to work for competitor Mariner, LLC (Mariner). The same day that he resigned, he filed an action for declaratory judgment that HKFS’s restrictive covenants were unenforceable. HKFS filed counterclaims against Moeschler and Mariner alleging breach of contract, violation of Iowa’s Uniform Trade Secrets Act (IUTSA), and tortious interference with contractual relations. Moeschler called former clients based on public information or phone numbers he had committed to memory, which HKFS claimed resulted in an $11 million loss of assets to Mariner. Moeschler submitted an affidavit stating that he deleted all business contacts at the time of his resignation and that he hired a forensic expert to ensure he did not have protected information on his personal devices. The court declined to consider names and general information retained in a former employee’s memory to be trade secrets, so Moeschler had not used or disclosed trade secrets. However, the District Court did find that although he did not violate IUTSA, HKFS had established a likelihood of success on the claim that Moeschler breached an agreement prohibiting use of HKFS’s client contacts. Nonetheless, the court denied HKFS’s motion for a preliminary injunction on the grounds that HKFS failed to establish irreparable harm.
§ 1.2.10. Ninth Circuit
Aitkin v. USI Ins. Serv., LLC, 607 F. Supp. 3d 1126 (D. Ore. 2022). District of Oregon held that breach of garden leave provision could not serve as a predicate breach for breach of loyalty claim law under Oregon law. Plaintiff submitted his resignation on February 4, 2021. Defendants argue that because plaintiff failed to provide 60-days’ notice as required by the Employment Agreement, his resignation was not effective until April 4, 2021. Defendants claimed that plaintiff breached a duty of loyalty he owed to USI between February 4, 2021, and April 4, 2021, when he publicly displayed on his LinkedIn page that he worked for Alliant and directed his former USI clients to call Alliant representatives.
While the court acknowledged that plaintiff breached the garden leave provision of his Employment Agreement by not providing 60-days’ notice, the employee has the power to terminate his employment at any time. Thus, defendants could not compel plaintiff to remain their employee after he resigned, and his resignation was effective on the date he provided. And plaintiff only owed defendants a duty of loyalty until the date and time he effectively resigned.
Accordingly, for defendants to have a viable claim that plaintiff breached his duty of loyalty, they must present facts showing plaintiff’s breaching conduct before he resigned on February 4, 2021. Defendants provide no such evidence. Defendants only allegation that plaintiff engaged in conduct breaching his duty of loyalty is that on information and belief, plaintiff participated in and withheld information about a planned group departure from USI. But under Oregon law, nothing prevents an employee under contract from seeking other employment. Oregon law generally favors the freedom of employees to choose where they work. Because defendants present no evidence that plaintiff engaged in conduct that breached his duty of loyalty while he was employed at USI, the Court granted summary judgment for plaintiff on this claim.
Best Label Co. v. Custom Label & Decal, LLC, 2022 WL 1189884 (N.D. Cal. 2022). California district court found that alleged unlawful statements made to divert business to customers were not preempted by state trade secret statute. Defendants argued causes of action for breach of duty of loyalty, unlawful interference with prospective economic advantage, and statutory unfair competition, respectively, are superseded by CUTSA. While it is true that CUTSA can supersede other claims, it only does so if the claim(s) are based on the same nucleus of facts as the misappropriation of trade secrets claim for relief. Plaintiff argued it premised these claims on defendants’ alleged statements made to divert business to plaintiff’s competitor, defendant CLD, while the individual defendants still worked for plaintiff. Plaintiff also premised these causes of action upon defendants’ alleged solicitation of BLCI/BLC LLC employees to join its competitor, defendant CLD, while defendants were still employed by BLCI/BLC LLC. The court found that they stand as independent claims, supported by alleged facts beyond misappropriation of trade secrets, and therefore were not superseded by CUTSA.
§ 1.2.11. Tenth Circuit
Southwest Preferred Fin., Inc. v. Bowermeister, 2022 N.M. App. Unpub. LEXIS 190 (N.M. Ct. App. 2022). Plaintiff Southwest Preferred Financial, Inc. (“Southwest”) appealed the judgment of the district court dismissing all of Southwest’s claims following a bench trial. The appellate court affirmed the district court’s judgment dismissing all claims. Southwest hired Jason Bowermeister (“Bowermeister”) to fill an entry-level, unskilled position at Southwest’s gold and precious metals store. He signed a written agreement not to compete in 2012 and another noncompete agreement in 2013 that was significantly more expansive. The 2013 noncompete agreement prohibited Bowermeister from working for or forming any competitive business within 25 miles of anywhere Southwest had a physical store or anywhere Southwest has an internet presence for three years following termination of employment. Bowermeister resigned and then later formed a business that bought and sold precious metal and coins. Southwest initiated a lawsuit; the district court held a bench trial and concluded that the noncompete agreement was too large and wide, and it was not supported by consideration because Bowermeister did not receive an increase when he signed the new agreement in 2013. Southwest failed to establish that there were any damages proximately caused by competition from Bowermeister’s business, and Southwest failed to offer any evidence of harm as a result of Bowermeister’s conduct that resulted in a breach of the duty of loyalty. The appellate court, affirming the district court’s dismissal of all claims, agreed with the district court that the 2013 agreement was unreasonably restrictive in terms of the length of time, the geographic area, and the types of employment precluded, which was sufficient to make the agreement unenforceable, and that Southwest did not suffer any harm as a result of a breach of fiduciary duty or breach of the duty of loyalty.
§ 1.2.12. Eleventh Circuit
Klaas v. Allstate Ins. Co., 21 F.4th 759 (11th Cir. (Ala.) 2021), cert. denied 143 S. Ct. 233 (2022) and 143 S. Ct. 85 (2022). Allstate, an insurance company, informed former employees who retired after 1990—in 2013—that it would stop paying the premiums on their life insurance policies at the end of 2015. For many years, Allstate offered employees who met certain qualifications life insurance that continued into retirement, and Allstate provided its employees with information about life insurance in summary plan descriptions. The summary plan descriptions reserved for Allstate the right to modify or terminate the benefit plan. Allstate had previously made representations, both orally and in writing, to employees that their retiree life insurance benefits were “paid up” or “for life.” After the company made this decision, two putative classes sued Allstate seeking declaratory and injunctive relief and alleged that Allstate (1) violated the Employee Retirement Income Security Act of 1974 (ERISA) by no longer paying the insurance premiums and (2) breached its fiduciary duty to them by failing to provide full and accurate information about their retiree life insurance. The district court granted summary judgment to Allstate on all claims, concluding that the benefit plan documents unambiguously gave Allstate the power to terminate the life insurance benefits and that retiree classes’ claims for breach of fiduciary duty were time barred. The plaintiffs appealed, arguing that the district court (1) erred by concluding that the language in the benefit plan documents was unambiguous and by failing to consider extrinsic evidence and (2) incorrectly determined that their breach of fiduciary duty claims were untimely. The Eleventh Circuit held that (1) Allstate’s actions did not give rise to an ERISA § 502(a)(1)(B) claim because the summary plan descriptions unambiguously gave Allstate the right to terminate the retiree life insurance and the district court correctly granted summary judgment to Allstate. The Eleventh Circuit also held that none of the employees filed their respective suits within six years of the last action by the employer that could constitute a breach of fiduciary duty so the actions occurred outside of statute of repose period and were subject to summary judgment.
Gimeno v. NCHMD, Inc., 38 F.4th 910 (11th Cir. (Fla.) 2022). Plaintiff Raniero Gimeno’s spouse, Justin Polga, was employed by NCHMD, Inc., which is a subsidiary of NCH Healthcare System, Inc. During the initial hiring process, with the help from NCHMD’s human resources staff, Polga completed enrollment paperwork for life insurance benefits through an ERISA plan. Gimeno was the primary beneficiary under the plan, and NCH Healthcare was the named plan administrator. Polga elected to receive supplemental coverage, but did not submit the necessary evidence of insurability form because it was not included in the enrollment paperwork. NCHMD’s human resources staff did not notify him that the form was necessary or missing. Nonetheless, for three years, NCHMD deducted premiums corresponding to the supplemental life insurance coverage from Polga’s paychecks. Polga died, and Gimeno filed a claim for benefits with the plan’s insurance company under 29 U.S.C. § 1132(a)(1)(B), which allows a beneficiary to bring a civil action “to recover benefits due to him under the terms of his plan.” The insurance company refused to pay any supplemental benefits because it had never received the form. Gimeno sought leave to amend his complaint to assert his claims for breach of fiduciary duty under section 1132(a)(3), but the district court denied. The appellate court reversed and remanded to allow Gimeno to bring a claim for breach of fiduciary duty. The appellate court found that both NCHMD and NCH Healthcare were fiduciaries under ERISA as those who “‘exercise[] any discretionary authority or discretionary control respecting management’ or ‘administration’ of the plan.” In finding NCHMD as a fiduciary despite it not being a named administrator, the appellate court relied on the factual circumstances under which NCHMD’s human resources staff effectively assumed the function of administrating the plan for Polga.
§ 1.2.13. D.C. Circuit
Hirecounsel D.C., LLC v. Connolly, 2021 U.S. Dist. LEXIS 242370 (D.D.C. 2021) (unpublished). Defendant Connolly worked for plaintiff, HIRECounsel D.C., LLC, a legal staffing and document management company. Connolly, based in HIRECounsel’s Boston office, worked as a managing director of client relations. Connolly signed an agreement with HIRECounsel. The agreement contained a nondisclosure covenant, which forbid the use, disclosure, or removal of HIRECounsel’s confidential information. The agreement also contained a noncompetition restriction, which lasted for 12 months and forbid Connolly from being employed by a competitor of HIRECounsel within 75 miles of any its offices. Connolly eventually resigned from HIRECounsel and joined a competitor, Beacon Hill Staffing, LLC, in their Boston office. Further, HIRECounsel learned that Connolly allegedly screenshotted confidential information during a virtual meeting with superiors who had shared their computer screens with meeting participants. Connolly then allegedly forwarded the screenshot to his personal email address ten days before resigning. HIRECounsel sued alleging two breaches of contract and a violation of the District of Columbia Uniform Trade Secrets Act (DCUSA). Connolly moved to dismiss. In his Motion to Dismiss, Connolly argued that the noncompete provision was unenforceable because it was not reasonable. The court disagreed, noting that HIRECounsel has legitimate business interests in stopping former employees from taking confidential client information to competing firms. Further, the court noted that courts applying DC law have upheld 100-mile restrictive noncompete agreements. Second, Connolly argued that HIRECounsel failed to allege a violation of the nondisclosure covenant. The court disagreed. The court noted that HIRECounsel sufficiently described the image as containing “a confidential internal report” and that forwarding the image to his personal email violated the agreement. Finally, Connolly argued that he did not misappropriate trade secrets under DCUTSA because he did not access the information without permission nor did he use it for purposes other than work at HIRECounsel. The court disagreed, noting that he took the screenshot for use unrelated to his employment with HIRECounsel and that it was improper for him to email the screenshot to his personal email ten days before resigning. The court also noted that the plain language of DCUTSA does not require an improper use; simply acquiring a trade secret through an improper means is sufficient to violate the statute.
§ 1.2.14. State Cases
There were no qualifying decisions within the State Cases.
§ 1.3. Restrictive Covenants: Covenants Not to Compete
§ 1.3.1. United States Supreme Court
There were no qualifying decisions by the United States Supreme Court.
§ 1.3.2. First Circuit
Idexx Lab’ys v. Bilbrough, 2022 U.S. Dist. LEXIS 136676 (D. Me. 2022), report and recommendation adopted, dismissed by, 2022 U.S. Dist. LEXIS 181179 (D.Me. Oct. 4, 2022). Magistrate Nivoson of the U.S. District Court of Maine recommended dismissal of plaintiff Idexx Laboratories’ (Idexx) claim against its former employee, Bilbrough. The Court reasoned that the majority of courts have rejected the theory that the Inevitable Disclosure Doctrine (IDD) applies based on the language and history of the Defend Trade Secrets Act (DTSA). Idexx alleged that Bilbrough would necessarily misappropriate its trade secrets in his current employment at a competitor in violation of the federal DTSA and the Maine Uniform Trade Secrets Act (MUTSA). Thus, Idexx sought to enjoin him from disclosing Idexx’s trade secrets and from working on product offers that implicated the trade secret information. The Court dismissed the claim for failing to assert an actionable federal claim. Regarding his motion to dismiss, Bilbrough focused on the third element of a misappropriation claim, arguing Idexx had not sufficiently alleged an actionable “use” of its trade secrets. Idexx’s claim was based on the information Bilbrough knew and the concern that he would disclose the information. The Court found that to the extent there is an ambiguity in the DTSA, a review of the development of the statute suggests Congress did not intend the IDD to apply to DTSA claims. Based on the plain language of the statute, the Court held that the IDD does not apply to claims brought pursuant to the DTSA, thus Idexx had not alleged an actionable claim under the DTSA. Regarding the MUTSA claim, the Court stated that whether a court could apply the IDD is an open question under Maine law and therefore, the issue should be decided in state court.
§ 1.3.3. Second Circuit
New York Packaging II LLC v. Mustang Mktg. Grp. LLC, 2022 WL 604136 (E.D.N.Y. 2022). The District Court found that a company looking to enforce a covenant not to compete had failed to show that irreparable harm would occur if a former employee breached its noncompete clause. The Court rejected the argument that irreparable harm must be assumed based on an alleged breach of the noncompete. It also held that general allegations of loss of client relationships and customer good will is not sufficient to show irreparable harm.
§ 1.3.4. Third Circuit
Howmedica Osteonics Corp. v. Howard, 2022 WL 16362464 (D.N.J. 2022). Defendants Howard and Petulla were two surgical supply sales employees who lived and worked in California for a New Jersey-based corporation. Their employment agreements contained New Jersey choice-of-law provisions, as well as noncompete and customer nonsolicit provisions. Both Howard and Petulla resigned to go to a competitor. The court conducted a conflict-of-law analysis and determined that California’s interest was not materially greater than New Jersey’s and as such, the noncompete’s enforceability should be evaluated under New Jersey law. The court found New Jersey’s interest was as great as California’s because Howmedica’s senior leadership team was partially based in New Jersey; the company’s research and development, finance, and operations departments were located in New Jersey; the equipment and inventory were shipped from New Jersey; and the agreements were voluntarily negotiated to designate New Jersey law to control. The court found that under New Jersey law, the agreements were enforceable because customer relationships and goodwill are protectable interests under New Jersey law. They were not overly broad in scope at 12 and 18 months respectively and were limited to the geographic area the sales employees serviced. The court, however, blue-penciled the definition of customer to include only current customers, not prospective customers. The court granted summary judgment to Howmedica on its breach-of-contract claims for violations of the restrictive covenants.
Syzygy Integration LLC v. Harris, 616 F. Supp. 3d 439, 2022 WL 2869317 (E.D. Pa. 2022), appeal dismissed 2022 WL 18587916 (3d Cir. (Pa.) 2022. Harris signed an operating agreement with plaintiff Syzygy midway through his employment. Syzygy is a government contractor providing communications technology to the military, law enforcement, and other related agencies. The operating agreement entitled Harris to 2% of the membership interests in Syzygy and also contained various restrictive covenants, including an agreement not to compete. After Harris resigned in March of 2022, he received a buyout of his shares of the company. Syzygy learned of Harris’s intent to join a competitor and brought suit seeking an injunction in April 2022. Despite the fact that since joining the competitor firm, Harris had not solicited any customers, been a part of any client pitches, or done any sort of business development, the court found that he was likely in violation of his noncompete because he had become “engaged in ‘any other business’ which competes ‘in whole or in part’ with any business engaged in by” Syzygy. The court held that Syzygy’s minor breaches of the operating agreement, by failing to provide Harris with certain tax forms, did not relieve him of his obligations to comply with the agreement. The court granted the application for the preliminary injunction enforcing the noncompete agreement under Pennsylvania law, and blue-penciled the five-year agreement with no geographic restriction to one with no geographic restriction for two years.
Rago v. Trifecta Techs., Inc., 2022 WL 2916688 (E.D. Pa. 2022). A former executive Rago worked for Trifecta Technologies. He brought suit against Trifecta for failure to pay wages pursuant to his employment agreement. Trifecta brought counterclaims against Rago claiming he breached his noncompetition and employment agreements by disparaging the company and competing with it after his termination. He moved to dismiss the counter claims for breach of the noncompetition agreement because he signed that agreement three days after he signed his employment agreement with Trifecta. He argued that because he already had agreed to the terms and conditions of employment, the noncompetition agreement was not supported by adequate consideration and was not “ancillary to an employment relationship” as required under Pennsylvania law. The court denied Rago’s motion to dismiss the counterclaims because his employment agreement that was signed three days prior to the noncompete referred to the noncompete agreement. Thus, as to the argument that the noncompete was not supported by adequate consideration, the Court held that the three-day gap between signing the agreements did not evince an effort by Trifecta to impose a noncompete later on in the relationship, and instead the same consideration for the employment agreement was also adequate for the noncompete.
ADP, Inc. v. Levin, 2022 WL 1184202 (3rd Cir. (N.J.) 2022). Matthew Levin, ADP’s Chief Strategy Officer, resigned his position to join competitor Benefitfocus as its president and CEO. ADP quickly filed a breach-of-contract claim, seeking a temporary restraining order and a preliminary injunction to prevent Levin from starting his new job. ADP claimed that Levin’s move violated several Restrictive Covenant Agreements that he had signed which prohibited him from providing “substantially similar services” as ADP to a competing business for 12 months after he left ADP. The District Court declined to issue a temporary restraining order and ruled from the bench denying ADP’s request for a preliminary injunction without any written opinion. ADP subsequently appealed claiming that the District Court abused its discretion. Upon review, the Third Circuit Court found that the District Court abused its discretion by failing to make findings on the record in compliance with Rule 52 of the Federal Rules of Civil Procedure and applying the wrong legal standard. However, instead of issuing a reversal and remand, the Circuit Court exercised its power under Rule 52 to issue its own ruling affirming the District Court’s decision because it reached the same conclusion under the correct legal standard. The Circuit Court held that to satisfy the irreparable harm prong of the four-factor balancing test for ruling on a preliminary injunction, the moving party had to establish they would specifically and personally risk irreparable harm if relief was denied. The Circuit Court found that ADP failed to meet its burden because it offered only conclusory allegations of how Levin had the potential to harm ADP and failed to show that Levin might actually cause any of the potential harm in his new role. Therefore, although a party seeking a preliminary injunction is not required to show actual harm by violation of the restrictive covenants, they must make a showing that is more than just speculative by showing a connection between the alleged potential harm and the employee’s new role.
§ 1.3.5. Fourth Circuit
Power Home Solar, LLC v. Sigora Solar, LLC, 2021 U.S. Dist. LEXIS 163753 (W.D. Va. 2021).[1] The U.S. District Court for the Western District of Virginia held that a reasonable duration does not redeem a restrictive covenant where the function and geographic scope of the noncompete covenant vastly exceed a reasonable prohibition on trade. There, first, the noncompete covenant prohibited employees from engaging in “any employment or business” related to the commercial or residential solar-energy market in the entire United States. Second, the noncompete covenant’s geographic scope restricted all competition within 100 miles of each location of the employer’s locations. The District Court held that the noncompete covenant’s function and geographic scope were both exceptionally broad where it restricted employees from engaging in any employment or business related to the commercial or residential solar-energy market in the entire United States and effectively prohibited former employees from seeking employment in the solar-energy business in large swaths of the middle and eastern regions of the U.S.
§ 1.3.6. Fifth Circuit
Clark v. Truist Bank, 2022 U.S. Dist. LEXIS 17625 (N.D. Tex. 2022). Insurance broker Clark worked for insurance company McGriff Insurance Services in Texas. Clark and the predecessor company to McGriff, Regions Insurance, Inc., entered into an employment agreement that included a noncompete covenant providing that for two years following the end of his employment, Clark would not solicit, accept, service, or assist in the solicitation or acceptance of any insurance business of any customers for whom he had sold, serviced, managed, or consulted regarding insurance products in the 12 months before the end of his employment. Clark resigned and joined Edgewood Partners Insurance Center (EPIC). Nine of Clark’s customers moved their business from McGriff to EPIC to be serviced by Clark. McGriff sued, and moved for summary judgment to enforce the noncompete. After a brief application of the Texas Supreme Court’s three-part reasonableness test, the court found that Regions had a legitimate business interest in protecting its clients and business, and that a two-year prohibition on soliciting or servicing former customers whose accounts Clark serviced during his final year of employment did not unduly restrict Clark. Clark argued that the noncompete was unenforceable as to the nine clients who transferred to him because he did not solicit the clients, and McGriff had no protectable interest in customers who voluntarily left. This argument was rejected because the court “lack[ed] any indication” that Texas courts would narrow a noncompete in such a manner. Despite Texas law requiring an evaluation of any injury likely to the public due to noncompete enforcement, the court did not consider the impact of enforcement on a client’s right to work with the insurance broker of their choosing. The court found that the noncompete was enforceable and breached by Clark and granted McGriff’s motion.
Additional Cases of Note
Allied Pipe, LLC v. Paulsen, 2021 U.S. Dist. LEXIS 243510 (S.D. Tex. 2021)[2] (declining to set aside a noncompete clause as unreasonable where the defendant expressly agreed in the contract that “the restrictions imposed herein are: (i) reasonable as to scope, time, and area; [and] (ii) necessary for the protection of the Buyer and the Company’s legitimate business interests”); Sutherland Glob. Servs., Inc. v. Sengupta, 2021 U.S. Dist. LEXIS 254355 (W.D. Tex. 2021), report and recommendation adopted 2022 WL 566191 (W.D. Tex. 2022) (applying New York law) (finding a substantial threat of irreparable harm, despite plaintiff’s two-month delay in seeking injunctive relief, where the defendant’s new position was substantially similar to his position at plaintiff’s company and the defendant violated the noncompete agreement prior to his employment ending with the plaintiff); Winsupply E. Houston v. Blackmon, 2021 U.S. Dist. LEXIS 225067 (S.D. Tex. 2021), appeal dismissed 2022 U.S. App. LEXIS 34871 (5th Cir. (Tex.) 2022) (finding that the plaintiff did not have a valid noncompete agreement with defendant because the agreement—originally between the defendant and another company, which plaintiff purchased all of the equity in but remained a separate entity from—could not be assigned or transferred to the plaintiff without the defendant’s consent); Direct Biologics, LLC v. McQueen, 2022 U.S. Dist. LEXIS 94514 (W.D. Tex. 2022), appeal filed (June 2, 2022) (denying a preliminary injunction on the grounds that there was no irreparable injury; although defendant, who left for a competitor, was a highly-trained employee who possessed critical knowledge about plaintiff’s business, that alone was not enough to give rise to a presumption of irreparable injury, which some Texas courts have found where there is “proof that a highly trained employee is continuing to breach a non-competition covenant”).
§ 1.3.7. Sixth Circuit
RECO Equip., Inc. v. Wilson, 2021 U.S. App. LEXIS 32413 (6th Cir. (Ohio) 2021). Jeffrey Wilson and Joseph Craig Russo left their jobs at RECO Equipment, Inc., to start a competing business. Wilson’s employment contract stated that he could not compete with RECO for three years after leaving and within 50 miles. After Wilson and Russo left, RECO found that they had retained or taken its confidential information, including retaining a company cell phone and uploading company files to a personal DropBox account. RECO sued for breach of contract and misappropriation of trade secrets and moved for a preliminary injunction. The district court granted the motion, ordering Wilson to comply with the noncompete agreement, among other relief. On appeal, regarding the noncompete agreement, Wilson did not dispute that he breached the agreement by opening a competitor company. He argued only that the agreement was unenforceable because it was not reasonable, a requirement under Ohio law for noncompete agreements that must be established by clear and convincing evidence. The court held that RECO failed to meet this burden because it presented no evidence about whether the three-year restriction imposed undue hardship on Wilson—one of the factors necessary to find a noncompete agreement reasonable under Ohio law. Because RECO failed to establish that the noncompete agreement was reasonable, RECO could not, at that time, be likely to succeed on the merits of its breach-of-contract claim based on the noncompete agreement. Accordingly, the court vacated this part of the district court’s preliminary injunction.
Union Home Mortg. Corp. v. Cromer, 31 F.4th 356 (6th Cir. (Ohio) 2022). Erik Cromer worked as a managing loan officer for plaintiff and signed a noncompete as part of his employment. In January 2021, Cromer left for a competitor and plaintiff filed suit. The court held the noncompete provision preventing Cromer from working within a 100-mile radius in “the same or similar capacity” for 22 months was unenforceable as written. The court vacated the district court’s preliminary injunction holding that the lower court had failed to analyze whether the noncompete provision was reasonable under Ohio law and therefore enforceable.
§ 1.3.8. Seventh Circuit
Custom Truck One Source, Inc. v. Norris, 2022 U.S. Dist. LEXIS 34291 (N.D. Ind. 2022). Norris worked for CTOS as an account manager. As part of his employment agreement, Norris agreed to certain noncompetition provisions restricting his right to compete in a geographic area defined as the “Territory.” Norris resigned from CTOS and formed his own company, which operated in the same industry. Norris resided in (and operated his company from) the Territory; however, all of Norris’s clients were located outside the Territory. CTOS sued Norris for breach of the noncompetition clause and moved for a temporary restraining order. The Court addressed whether CTOS had a legitimate protectable interest in preventing Norris’s actions. Norris argued that the provision was unenforceable because all of Norris’s clients were based outside the Territory. Norris argued that CTOS only had a protectable interest in the place where competition occurred, and Norris did not compete for any customers within the Territory. CTOS argued that “the mere formation of a business inside the Territory” was a violation regardless of where the businesses’ customers were located. According to CTOS, Norris’s acts of sending emails and making calls from within the Territory were sufficient. The Court agreed that Norris was conducting business within the Territory through his formation of the business and his communications. However, it raised questions regarding whether CTOS could possibly have a legitimate, protectable interest in preventing Norris from operating within the Territory when he was only competing for clients outside the Territory. The Court concluded that CTOS failed to meet its burden of showing a likelihood of success on the merits and it denied CTOS’s motion.
Concentric, LLC v. Mages, 2021 U.S. Dist. LEXIS 194740 (E.D. Wis. 2021). Mages worked for Courtney Industrial Battery for 28 years. When Concentric purchased Courtney Industrial Battery, it offered Mages a position. Mages accepted the position and began working for Concentric. However, Mages did not sign an employment agreement with Concentric until two months after starting her new position. The employment agreement contained noncompetition and confidentiality provisions. Two years later, Mages resigned and began working for one of Concentric’s competitors. Concentric sued Mages and moved for a temporary restraining order. Mages argued that the noncompetition provisions of her employment agreement were unenforceable because they were not supported by consideration. Mages argued that she received no consideration because she was already working for Concentric when she signed the agreement. Concentric argued that its continued employment of Mages constituted adequate consideration because Mages’s employment was strictly conditioned upon signing the employment agreement. The Court found a likelihood that Concentric could show the employment agreement was supported by consideration. It highlighted evidence demonstrating that Mages negotiated her employment agreement during the period she worked for Concentric without a signed agreement in place and that Concentric would have terminated Mages if the negotiations failed.
In re Adegoke, 632 B.R. 154 (Bankr. N.D. Ill. 2021). Adegoke worked for 3Cloud for approximately one year before resigning. When he resigned, 3Cloud sued Adegoke for, among other things, breach of restrictive covenants in Adegoke’s employment agreement. Adegoke argued that the restrictive covenants were not enforceable because he was not employed for a “substantial period of time.” The Court noted that, in the context of post-employment restrictive covenants, Illinois courts indicated that an employment must last for a “substantial period of time” to support restrictive covenants. (Otherwise, an employer could hire an employee for a short period of time for the sole purpose of imposing restrictive covenants.) However, the Court found that a “substantial period of time” should not be required under the circumstances. 3Cloud had invested significant resources in training Adegoke. Despite Adegoke’s unsatisfactory performance, 3Cloud tried to maintain the employment relationship by moving Adegoke into a different role. 3Cloud never decreased Adegoke’s salary and it paid Adegoke a bonus. Nevertheless, Adegoke voluntarily chose to resign. Under the circumstances, the Court found that no “substantial period of time” was required. Nevertheless, in an abundance of caution, the Court proceeded to evaluate whether the employment satisfied the “substantial period of time” requirement. The Court noted a split in authority among Illinois cases regarding what constitutes a “substantial period of time:” some cases upheld a bright-line rule requiring two years of employment while others found that additional factors must be considered. The Court rejected the bright-line approach and found that, under the circumstances, Adegoke’s one year of employment constituted a “substantial period of time.”
DM Trans, LLC v. Scott, 38 F.4th 608 (7th Cir. (Ill.) 2022). Six employees left DM Trans, LLC d/ba Arrive to work for a competitor named Traffic Tech. Arrive sued the employees and Traffic Tech and moved for a temporary restraining order. The Court denied the TRO, and Arrive appealed. On appeal, the defendants argued that part of the appeal was moot under Texas law because the noncompetition provisions had expired (for all except one of the defendants) and because three of the employees no longer worked with Traffic Tech. Regarding the first issue, the Court determined that the claims were not moot because, under Texas law, the District Court had the equitable authority to extend the duration of the restrictive covenants. Thus, the restrictive covenants could still have legal effect despite the expiration of their term. Regarding the second issue, the Court found that the employees’ departure from Traffic Tech did not render the issues moot because injunctive relief could still be appropriate and effective. Specifically, the Court noted that injunctive relief might prevent Traffic Tech from rehiring the defendants or prevent the defendants from working with any similar competitor of Arrive. The Court retained jurisdiction over the appeal.
Gillaspy v. Club Newtone, Inc., 2021 U.S. Dist. LEXIS 157249 (N.D. Ind. 2021). Gillaspy worked as a fitness instructor for Club Newtone. Gillaspy asserted claims for sexual discrimination and harassment under Title VII. Club Newtone asserted a counterclaim against Gillaspy for breach of contract alleging, among other things, that Gillaspy entered into a noncompetition agreement and that since she ceased working for Club Newtone she breached Section 2 of said noncompetition agreement. According to Newtone, Section 2 of the noncompetition agreement precluded Gillaspy from entering into or attempting to enter into “Restricted Business,” interfering with Club Newtone’s employees, interfering with Club Newtone’s customers, and utilizing Club Newtone’s confidential information and intellectual property. Gillaspy moved to dismiss Club Newtone’s counterclaim on grounds that the Court lacked subject matter jurisdiction over Newtone’s breach-of-contract claim. In declining to exercise supplemental jurisdiction over Newtone’s breach-of-contract claim, the Court noted that Gillaspy’s Title VII claims and Club Newtone’s breach-of-contract counterclaim have no overlapping elements and the claims necessarily rely on different evidence. The Court went on to find that Club Newtone failed to explain how evidence of conduct occurring after Gillaspy was terminated will disprove or defend liability from Gillaspy’s Title VII claims, which involve how she was treated during her term of employment. As a result, the Court held that the employment relationship between the parties, standing alone, is insufficient to establish supplemental jurisdiction and dismissed Newtone’s breach-of-contract claim against Gillaspy.
§ 1.3.9. Eighth Circuit
Miller v. Honkamp Krueger Fin. Servs., Inc., 9 F.4th 1011 (8th Cir. (S.D.) 2021). The Eighth Circuit Court of Appeals overturned a preliminary injunction a South Dakota federal judge issued in favor of former employer Honkamp Krueger Financial Services, barring former employee Cara Miller from working at Mariner Wealth Advisors, her new employer, pending the outcome of the case. Miller had entered into an employment agreement with Honkamp that contained restrictive covenants, including a noncompete provision prohibiting her from working for a competitor for a year, and a nonsolicitation provision. Later, both parties entered into an ancillary agreement that updated the nonsolicitation agreement prohibiting Miller from accepting unsolicited clients. Honkamp was subsequently acquired by company Bluecora, Inc. and terminated Miller’s employment. Miller initiated an action against Honkamp and Bluecora seeking a declaration that the restrictive covenants and ancillary agreement were unenforceable. She also began working for Mariner Wealth Advisors, a direct competitor to Honkamp. Honkamp counter-claimed seeking a preliminary injunction enforcing the noncompete and nonsolicitation provisions against Miller and Mariner. The district court granted the preliminary injunction in favor of Honkamp. The Court of Appeals vacated the preliminary injunction and reversed the district court, holding that: (1) under Iowa law, the noncompete provision of an employment agreement did not survive termination of the employment agreement; and (2) under South Dakota law, the nonsolicitation provision, which prohibited Miller from accepting unsolicited business from her former clients, fell outside South Dakota statute setting out permissible exceptions to general prohibition on restraints on exercise of trade and thus was void as violating South Dakota public policy.
Progressive Techs., Inc. v. Chaffin Holdings, Inc., 33 F.4th 481 (8th Cir. (Ark.) 2022), reh’g en banc denied 2022 WL 2906576 (8th Cir. (Ark.) 2022). Progressive sought an injunction against David Chaffin and Chaffin Holdings, Inc. for breaching a noncompete agreement. Chaffin and Chaffin Holdings appealed the district court’s preliminary injunction entered against them. The Eighth Circuit Court of Appeals overturned a preliminary injunction, holding that Progressive has not shown a fair chance of prevailing on the breach of the noncompete agreement, including the noncustomer solicitation agreement. Chaffin owned Arkansas State Security, Inc., which sold and maintained video security equipment for school districts. Chaffin in 2013 sold his business to Progressive and agreed to continue working at the company as an employee. The parties entered into an employment agreement, which contained a noncompete agreement with four restrictive covenants: The first covenant (the competition restriction) barred Chaffin from being involved in the “Video Security Business” throughout the state of Arkansas for five years. The second covenant (the customer-solicitation restriction) barred Chaffin from soliciting any of Progressive’s current or prospective customers for video security sales or for the purpose of terminating their business with Progressive for five years. The third covenant (the employee-solicitation restriction) barred Chaffin from soliciting any Progressive employees for two years. The fourth covenant (the nondisclosure clause) barred Chaffin indefinitely from disclosing any proprietary information. After six-and-a-half years, Progressive terminated Chaffin. Chaffin began soliciting Progressive clients. Progressive sued, claiming Chaffin breached the restrictive covenants in the noncompete agreement and misappropriated trade secrets in violation of the Arkansas Trade Secrets Act. While the Court acknowledged the validity of strict noncompete agreements in relation to the sale of a business, the Court categorized the agreement here as an employment agreement, drawing more scrutiny. The Court found the restrictions too lengthy and went beyond what is required to protect Progressive’s interests.
Ronnoco Coffee, LLC v. Castagna, 2021 WL 5937427 (E.D. Mo. 2021). Plaintiff Ronnoco Coffee, LLC filed this action against Defendants Kevin Castagna and Jeremy Torres to enforce noncompetition and confidentiality agreements against each of them, and to enjoin the threatened misappropriation of trade secrets. Defendants had been employed by Trident Beverage, Inc. before Ronnoco acquired 80% of Trident’s shares. Thereafter, defendants were employed by both Trident and Ronnoco. Ronnoco and defendants entered into a Fair Competition Agreement, which expressly prohibited defendants from: 1) engaging in any business or activity that competes with “the business of” Ronnoco both during their employment and for two years after employment with Ronnoco; 2) from soliciting Ronnoco’s employees, clients, or customers; and 3) from disclosing Ronnoco’s confidential and proprietary information. Defendants left their employment and began working for Thirsty Coconut, a direct competitor of Trident. The Court granted Ronnoco’s Request for a Temporary Restraining Order, and Preliminary Injunction against defendants prohibiting defendants from violating the terms of their Agreement. At the end of the bench trial, the Court dissolved the injunction and dismissed the case. In analyzing the trade secret claim, the Court held that while Ronnoco owned Trident by a stock purchase where they bought 80%, the stock purchase did not equate to the purchase of assets, and therefore Trident was still the legal holder of the trade secrets. The Court found that it was a basic principle of corporate law that a subsidiary is a legal entity separate from its parent. The shareholders may be the same but their property is distinct. Thus the parent, Ronnoco, cannot sue to enforce the subsidiary, Trident’s, property, including the trade secrets alleged in this suit.
§ 1.3.10. Ninth Circuit
Aitkin v. USI Ins. Servs., LLC, 2022 WL 1439128 (9th Cir. (Ore.) 2022). The Ninth Circuit upheld a preliminary injunction issued against an insurance sales representative for violation of his noncompetition agreement under Oregon law. In affirming the district court order, the Ninth Circuit, found, among other reasons, that the noncompete clause did not violate public policy. The Court rejected the employee’s argument that his noncompete clause violated public policy because he is entitled to the goodwill generated from his client relationships. The Court found, as the district court noted, Oregon common law establishes that employers have a protectable interest in the goodwill generated by their employees.
Millennium Health, LLC v. Barba, 2021 WL 4690949 (9th Cir. (Ore.) 2021). The Ninth Circuit upheld a preliminary injunction against two healthcare employees for violation of their noncompetition agreements governed by Oregon law. On appeal, the employees only challenged the district court’s finding that the employer had a likelihood of success on the merits in enforcing the noncompetition agreements against them. They argued that an employee seeking to void a “voidable” noncompetition agreement cannot be preempted by their employer’s effort to enforce the covenant, especially where, as here, the employee has not yet formally left their employment or violated the agreement.
The Court rejected the employee’s argument. Oregon treats noncompetition agreements that do not comply with the statutory requirements of Oregon Revised Statute § 653.295 as “presumptively valid rather than void ab initio.” Neither employee received notice that a noncompetition agreement would be a condition of their employment two weeks prior to commencing their employment. Thus, their noncompetition agreements were voidable. Oregon courts treat a voidable noncompetition agreement as valid and enforceable if the employee has not taken affirmative steps to void the agreement at the time the employer seeks to invoke the noncompetition agreement. Because the agreement had not been voided at the time that defendant sought to invoke the contract, the agreement was valid and in effect.
§ 1.3.11. Tenth Circuit
There were no qualifying decisions within the Tenth Circuit.
§ 1.3.12. Eleventh Circuit
Vital Pharms., Inc. v. Alfieri, 23 F.4th 1282 (11th Cir. (Fla.) 2022). Vital, a producer of energy drinks, hired the four relevant individuals in 2019, and these individuals signed employment agreements, which contained three restrictive covenants. The four individuals agreed to: (1) not to work for a competing company during the term of their employment with Vital and for a period one year from their termination or cessation date, (2) not to solicit Vital employees to join a competing company (which was valid for one year from termination), and (3) never to disclose or to utilize for their own benefit, or for any third party’s benefit any of Vital’s confidential information, including its product formulae and its marketing sales information. These four individuals later joined Elegance Brands, which is a company that primarily produces alcoholic beverages, but developed a cannabidiol-infused caffeinated drink in 2019, Gorilla Hemp. Vital sued the four individuals and Elegance Brands alleging that (1) all the individuals violated their noncompete covenants by working for Elegance Brands within a year after leaving Vital, (2) one individual, Christopher Alfieri, violated the employee nonsolicitation covenant by encouraging the rest of the individuals to join Elegance Brands, and (3) Elegance Brands and Alfieri engaged in tortious interference with Vital’s contractual relationships with the other three former employees. Vital moved for a preliminary injunction and asked the district court to (1) enjoin all the individuals from violating their noncompete covenants by working for Elegance Brands during the one-year term of the covenants, (2) enforce Alfieri’s nonsolicitation covenant, and (3) asked Elegance Brands be enjoined from interfering with all the individuals’ restrictive covenants and from using any confidential information belonging to Vital. The district court granted the motion in part (1) determining that the restrictive covenants were valid and enforceable under Florida law since the covenants were justified by Vital’s “legitimate business interests” in its product formulae, in its other confidential information, and in its customer relationships and (2) rejecting the argument that Vital was required to “identify specific customers” to establish a legitimate business interest in its customer relationships. One of the individuals, Amy Maros, then appealed the preliminary injunction against her and Vital timely cross-appealed the partial denial of preliminary injunctive relief against Alfieri and another individual. The Eleventh Circuit held that: (1) Maros’s appeal was moot because the noncompete and employee nonsolicitation covenants in the employment agreement had already expired, (2) Vital did not prove its entitlement to all of the preliminary relief it obtained against Maros, because it could not rely on its customer relationships to establish a legitimate business interest as Vital failed to name and prove a substantial relationship with any specific clients, and (3) the district court abused its discretion when it applied the presumption of irreparable harm to the nondisclosure covenant, because there was no finding that Maros disclosed confidential information.
Perma-Liner Indus., LLC v. D’Hulster, 2022 U.S. Dist. LEXIS 93981 (M.D. Fla. 2022), report and recommendation adopted 2022 WL 3138995 (M.D. Fla. 2022). Perma-Liner, a company specializing in rehabilitating existing sewer systems without excavation, using cured-in-place-pipe technology, alleged that Gerald D’Hulster, the company’s founder and former president, competed against it in violation of restrictive covenants contained in four contracts between the parties. The parties entered into four contracts containing restrictive covenants between 2012 and 2019. These restrictive covenants prohibited D’Hulster from engaging in any competing business, soliciting customers or suppliers that transact business with Perma-Liner, and disclosing confidential information or soliciting employees of Perma-Liner. D’Hulster’s employment at Perma-Liner ended in April 2019. Perma-Liner alleged that, months later, D’Hulster formed a competing company, Paramount Pipe Lining Products and became its CEO, in breach of the restrictive covenants, months after his employment at Perma-Liner. Perma-Liner further alleged that D’Hulster solicited Perma-Liner’s customers, vendors, and employees, and was using Perma-Liner’s confidential information and trade secrets, including customer lists and intimate knowledge of Perma-Liner’s business, pricing, and operations, to compete with it. Perma-Liner additionally alleged that due to D’Hulster’s actions it led its company to lose customers and sales revenues due to forced discounting. Perma-Liner also contended that D’Hulster disclosed confidential and trade secret information he learned with Perma-Liner to create Paramount products that directly overlap with product lines that were developed by Perma-Liner through extensive research and development. D’Hulster denied any connection to Paramount, or that he violated the restrictive covenants. The court recommended the entry of a preliminary injunction that prohibits D’Hulster from having an interest in, or being employed by, a business in the United States that inspects and rehabilitates pipes, or soliciting Perma-Liner’s customers, employees, vendors or suppliers during the pendency of litigation. The court explained that Perma-Liner satisfied the four prerequisites for entry of a preliminary injunction as to the defendant’s alleged breach of the noncompetition and nonsolicitation provisions of the 2019 equity appreciate rights agreement cancellation acknowledgment and release.
Arrington v. Burger King Worldwide, Inc., 47 F.4th 1247 (11th Cir. (Fla.) 2022). Plaintiffs were all employees of Burger King franchise restaurants at some point between 2010 and 2018. From at least 2010 until 2018, Burger King incorporated into its standard franchise agreement, a “No-Hire Agreement.” The No-Hire Agreement restricted hiring any employee of Burger King or of another Burger King franchisee for six months after the employee leaves the first Burger King restaurant. Plaintiffs alleged antitrust violations, asserting that the No-Hire Agreement prevented them from obtaining employment at other Burger King restaurants and, as a result, caused them to be paid artificially depressed wages, suffer decreased benefits, and be deprived of job mobility. The district court dismissed the action, finding that Burger King and each of its independent franchisees together constituted a single enterprise, so they were not capable of conspiring under the Sherman Act. The appellate court reversed and remanded. The appellate court reviewed the independent nature of Burger King’s and its franchisees’ hiring process, including the standard franchise agreement that expressly emphasized the “independent nature of each franchisee’s relationship with Burger King,” and the Burger King Franchise Disclosure Document that explicitly embraced competition among Burger King and its franchisees. The court then found that, in the absence of the No-Hire Agreement, each independent Burger King restaurant would pursue its own economic interests when hiring employees. As a result, the court ruled that “the No-Hire Agreement deprive[d] the marketplace of independent centers of decision making about hiring, and therefore of actual or potential competition.”
§ 1.3.13. D.C. Circuit
There were no qualifying decisions within the D.C. Circuit.
§ 1.3.14. State Cases
Blue Mountain Enters., LLC v. Owen, 74 Cal. App. 5th 537 (2022), as modified (Jan. 19, 2022). The California Court of Appeal found that Business and Professions Code section 16601 applied to a three-year post-termination nonsolicitation of customer provision in an employment agreement and upheld the trial court’s decision to enforce the provision against the executive/seller who entered into a joint venture. The court found that section 16601 applied as a matter of law because the defendant disposed of all of his ownership interest in one transaction agreement while concurrently agreeing under an employment agreement and that both contracts, along with other contracts the parties executed, were drafted to accomplish the parties’ joint venture. The court also found that the trial court correctly found that the defendant’s letter for his new business constituted a solicitation as a matter of law because the letter went well beyond an announcement by actively encouraging customers to leave and do business with his new company.
Lastly, the court affirmed the trial court’s award of $600,000 in attorney fees to the plaintiff as the prevailing party on the grounds that plaintiff secured a temporary restraining order, a preliminary injunction, and a permanent injunction against defendant based on the breach of the customer nonsolicitation provision. The court found that the trial court was diligent in arriving at its attorney fee determination and that there was no basis on which to conclude that the trial court’s attorney fee award was “clearly wrong” or that the trial court otherwise abused its discretion in determining the amount of the attorney fee award.
Prudential Locations, LLC v. Gagnon, 151 Hawai’i 136 (2022). A brokerage firm brought action against a former broker, claiming the broker violated a noncompete agreement by establishing a new group and soliciting brokerage firm’s agents. The Circuit Court denied brokerage firm’s motion for partial summary judgment and granted the former broker’s motion for partial summary judgment. Brokerage firm appealed, and the Intermediate Court of Appeals vacated the order. The Supreme Court granted certiorari review.
The Hawaii Supreme Court held that the noncompete clause was not ancillary to the protection of non-trade-secret, confidential business information and that the desire to prevent a real estate broker from forming a competing firm was not a legitimate purpose for a noncompete clause. The mere termination of three agents’ employment with the brokerage firm and subsequent employment with real estate broker’s new firm did not demonstrate a violation of the nonsolicitation clause. Solicitation, for purposes of a nonsolicitation clause in an employment agreement, requires an active initiation of contact. The Court found that there was a genuine issue of material fact regarding the broker’s active initiation or contact with coworker that precluded summary judgment on brokerage firm’s claim that broker violated nonsolicitation clause.
Skaf v. Wyo. Cardiopulmonary Servs., P.C., 495 P.3d 887 (Wyo. 2021). The Wyoming Supreme Court reversed the district court’s order confirming an arbitration award, vacated the award, and remanded the case to the district court. Dr. Michel Skaf, a cardiologist, signed an agreement not to compete when he became a shareholder in Wyoming Cardiopulmonary Services (“WCS”). The noncompete clause stated that he could not practice medicine for a period of two years following termination of employment within a 100-mile radius of Casper, Wyoming and each outreach clinic. After WCS terminated Dr. Skaf for cause, he immediately set up his own practice in Casper, providing cardiology services to patients. In arbitration, an arbitrational panel determined that the covenant not to compete was enforceable once it modified the scope of the prohibited services and narrowed the geographic area. The district court confirmed the arbitration panel’s decision to enforce the covenant not to compete. Upon appeal, Dr. Skaf argued, in part, that a noncompete agreement between physicians is a violation of public policy and is always unenforceable and that the arbitration panel’s decision should be vacated because it rests on a manifest error of law (that the noncompete agreements are strongly favored in Wyoming and their enforcement promotes public policy). The Wyoming Supreme Court declined to find that physician noncompete agreements are per se void as against public policy, reasoning that the Wyoming Legislature has not acted to ban or limit physician noncompete agreements. Additionally, the Wyoming Supreme Court determined that the arbitration panel began with a manifest error by applying a nonexistent public policy that noncompete agreements are strongly favored in Wyoming, which led to another manifest error of law—rewriting restrictions in the covenant which resulted in wholesale contract revision.
Hassler v. Circle C. Res, 505 P.3d 169 (Wyo. 2022). The Wyoming Supreme Court concluded that it is no longer tenable for courts to use the blue-pencil rule to modify unreasonable noncompete agreements. Because plaintiff’s noncompete agreement was unreasonable on its face, the Court determined it was void in violation of public policy. Plaintiff Circle C provides day and residential habilitation services to disabled clients. Plaintiff hired defendant Ms. Charlene Hassler as a CNA to provide residential habilitation care in her home for one of its long-term adult clients. At the time of hire, plaintiff signed a noncompete and nonsolicitation agreement. Plaintiff was notified that the client was changing providers and that Ms. Hassler was leaving its employ. Client remained in Ms. Hassler’s home for residential habilitation services and transferred to another provider for day rehabilitation. Upon receiving a cease-and-desist letter from plaintiff’s attorney to stop her activities for at least one year, pursuant to the noncompete and nonsolicitation agreement, Ms. Hassler responded that she would not do paid services starting August 7, 2017. However, the client continued to live in Ms. Hassler’s home, and she occasionally helped with the client’s care. Moreover, Ms. Hassler was paid through Medicaid for her services.
To be enforceable, a noncompete agreement must be (1) in writing, (2) part of a contract of employment, (3) based on reasonable consideration, (4) reasonable in duration and geographical limitations, and (5) not against public policy. When courts encounter unenforceable restrictions on trade, they have taken three approaches. The blue-pencil approach enables the court to enforce the reasonable terms of the agreement once its unreasonable provisions are excised. Noting that allowing a court to reform an agreement that otherwise would be void strays from rational and well-established black letter rules of contract interpretation and enforcement, the Wyoming Supreme Court overruled adoption of the liberal blue-pencil rule. It concluded that the noncompete agreement at issue was unreasonable on its face and, therefore, void in violation of public policy.
LGCY Power, LLC v. Superior Court, 75 Cal. App. 5th 844 (2022). The California Court of Appeal found that where a California employee is sued by the employer for trade secret misappropriation in a separate state based on an out-of-state forum selection clause, the employee may separately sue in California to void the provision, despite the ongoing litigation in a sister state.
Despite finding employee’s claims related to the same transaction or occurrence as the employer’s case in Utah and the employee having already answered that complaint, the Court of Appeal affirmed the trial court’s decision overruling employer’s demurrer to dismiss the employee’s action. The Court held that although employee signed his employment agreement prior to Labor Code Section 925 taking effect, the employment agreement had been orally modified thereafter, and therefore the statute governed the agreement. The Court further reasoned Labor Code Section 925 provided for an exception to California’s compulsory cross complaint rules and the employee did not need to bring his claims as a cross-complaint in the Utah action. Lastly, the Court held an employee can request the contract be rendered void even after the employer has initiated litigation and the employee’s compulsory claims would have otherwise been due.
§ 1.4. Customer and Employee Nonsolicitation Agreements
§ 1.4.1. United States Supreme Court
There were no qualifying decisions by the United States Supreme Court.
§ 1.4.2. First Circuit
There were no qualifying decisions within the First Circuit.
§ 1.4.3. Second Circuit
Permanens Cap. L.P. v. Bruce, 2022 WL 3442270 (S.D.N.Y. 2022), report and recommendation adopted, 2022 WL 4298731 (S.D.N.Y. 2022). The District Court found that a provision prohibiting the solicitation of employees was unenforceable as it did not protect a legitimate interest of the employer, but rather prohibited the former employee from communicating with current employees about other job opportunities. It also found that a provision prohibiting solicitation of clients was unenforceable because it encompassed prospective, dormant, and occasional clients and prohibited more than active solicitation of clients, but also anything that could interfere, disrupt, or attempt to disrupt the former employer’s relationships with the clients, which was overly broad.
§ 1.4.4. Third Circuit
There were no qualifying decisions within the Third Circuit.
§ 1.4.5. Fourth Circuit
Power Home Solar, LLC v. Sigora Solar, LLC, 2021 U.S. Dist. LEXIS 163753 (W.D. Va. 2021).[3] The U.S. District Court for the Western District of Virginia held that an employer’s nonsolicitation clause was unenforceable because it was overly broad and unduly burdensome on its former employees. A competitor allegedly induced former employees to cease their employment with the employer and join the competitor. The employer asserts that its former employees breached the nonsolicitation covenant. The employer’s nonsolicitation covenant prohibited employees from contacting any of the employer’s active customers or customers that the employer solicited in the last two years while employed and for a period of 12 months following termination. The District Court found, however, that this covenant was too broad as it restricted employees from contacting any of the employer’s customers, regardless of the employee’s prior contact with them. The District Court also determined the nonsolicitation agreement was unduly burdensome because it prohibited a former employee’s contact with customers and those that the employer solicited (even if the customers did not become actual customers) over a two-year period. Thus, the District Court held the nonsolicitation agreement unenforceable because it was not narrowly tailored and was unduly burdensome.
Volt Power, LLC v. Butts, 2021 U.S. Dist. LEXIS 160586 (E.D.N.C. 2021). The U.S. District Court for the Eastern District of North Carolina denied summary judgment to a former employee, Butts, where it found triable issues of fact regarding Butts’s solicitation of Volt Power, LLC’s employees and customers. Volt’s employee manual prohibits personal use of Volt’s computers, network systems, electronic mail systems, and the like. Volt brought a breach-of-contract claim alleging that Butts violated the restrictive covenants prescribed under the executive common unit profits agreement by soliciting customers whom Butts worked with or whom he received confidential information from while working for Volt. Butts argued that Volt did not produce any evidence to support its solicitation allegation and moved for summary judgment. However, the court disagreed. Because there was evidence that a codefendant learned about potential opportunities with Volt’s competitor from Butts, several employees left Volt shortly after Butts resigned, Butts shared his new contact information with Volt employees, and a codefendant shared customer contact and bid information with Butts while said codefendant was still working for Volt, the court found there were still triable issues of fact and summary judgment was inappropriate as to the breach of the nonsolicitation agreement.
Wolff v. CapeSide Psychiatry, PLLC, 2021 U.S. Dist. LEXIS 153818 (D.S.C. 2021). The U.S. District Court for the District of South Carolina held that the nonsolicitation clause of an independent contractor agreement was enforceable because it contained essential terms, was sufficiently definite, and included specific nonsolicitation requirements. Wolff entered the agreement with CapeSide Psychiatry where Wolff was to provide telepsychiatry services to patients. The agreement included a nonsolicitation clause that applied during any and all periods of engagement with CapeSide Psychiatry and for two years thereafter. Pursuant to the agreement, Wolff was prohibited from enticing, soliciting, or encouraging, directly or indirectly, any of CapeSide Psychiatry’s employees, agents, representatives, or independent contractors to leave CapeSide Psychiatry’s employment. Wolff was also prohibited from soliciting or discouraging any patient, customer, or prospective customer from doing business with CapeSide Psychiatry. Because the ICA and the nonsolicitation clause contained enough detail and the required terms were sufficiently definite, the court found the ICA and nonsolicitation clause enforceable.
§ 1.4.6. Fifth Circuit
Sunbelt Rentals, Inc. v. Holley, 2022 U.S. Dist. LEXIS 64557 (N.D. Tex. 2022), appeal dismissed 2022 U.S. App. LEXIS 29597 (5th Cir (Tex.) 2022). Jimmy Holley worked at Sunbelt Rentals for over 20 years, during which time Holley signed an employment agreement containing a nonsolicitation clause. Holley later resigned and began a new job at a competitor company. Sunbelt sued Holley, claiming Holley actively solicited former customers in breach of his nonsolicitation agreement. Sunbelt sought a preliminary injunction to prohibit Holley’s solicitation. At issue was the type of conduct that establishes solicitation. Holley argued the term “solicit” required active conduct, while Sunbelt claimed the term “solicit” included a broader range of conduct. The court discussed a spectrum of possible solicitation conduct, finding that a reasonable construction of a nonsolicitation clause must include more than just active conduct. The court found that solicitation could include conduct between the middle of two extremes – active employee conduct on one side, and requests instigated entirely by former clients on the other. The court examined Holley’s conduct, including his testimony that at the time of his resignation, he communicated to clients the contact information of his successor at Sunbelt and did not provide any clients with information about his new employment. The court denied Sunbelt’s request for a preliminary injunction to prohibit Holley’s solicitation, noting that although Holley’s conduct contained bad facts, his behavior did not rise to the level of solicitation.
Additional Cases of Note
Allied Pipe, LLC v. Paulsen, 2021 U.S. Dist. LEXIS 243510 (S.D. Tex. 2021)[4] (finding sufficient consideration supported the enforceability of the nonsolicitation agreement where plaintiffs provided defendant access to confidential information).
§ 1.4.7. Sixth Circuit
Hobbs v. Fifth Third Bank, N.A., 2021 U.S. Dist. LEXIS 227661 (S.D. Ohio 2021). Myron Hobbs, an insurance broker, moved to a new employer and brought along some of his long-term customers. He agreed to a nonsolicitation provision with the new employer prohibiting him from engaging with current or prospective customers for 24 months following termination. After several acquisitions and “corporate machinations” by the employer that left “the operative facts here a little murky,” Hobbs’s relationship with his employer soured. He would not sign a general release of claims or an offer letter sent by the entity that purchased his employer’s assets. His employer treated this as a resignation. Hobbs sued for, among other things, breach of contract, and sought a preliminary injunction preventing the employer from enforcing the restrictive covenants in his employment agreement or telling customers or potential customers that Hobbs was precluded from doing business with them. Although the typical procedural posture would be for the former employers to seek a preliminary injunction to prevent Hobbs from violating the restrictive covenants, the court did not find the posture of this case to be precluded. The court proceeded to the four preliminary-injunction factors, first concluding that Hobbs “established some likelihood of success” on at least one of his arguments and therefore that the first factor “weighs at least somewhat in his favor.” But Hobbs failed the second factor: whether movant would suffer irreparable injury without the injunction. The court agreed with Hobbs that the damages associated with depriving Hobbs of a right to solicit existing customers would be at least somewhat speculative, which supports finding irreparable harm. But the court disagreed that injunctive relief would remedy or prevent this harm. Hobbs pointed to his long-term customers’ fear of becoming enmeshed in a lawsuit as the harm to be prevented, but the court explained that a preliminary injunction would not extinguish such a fear. Specifically, adjudication on the merits would still proceed, with both parties likely seeking discovery from the long-term customers and embroiling them in the lawsuit despite a preliminary injunction. The court held that preliminary injunctive relief was therefore improper based on this conclusion for factor two.
Slinger v. Pendaform Co., 2022 U.S. App. LEXIS 16391 (6th Cir. (Tenn.) 2022). Jack Slinger was fired for cause from Pendaform, a plastic-manufacturing company, for saying “don’t be the last man standing” to his coworkers. Pendaform alleged Singer violated the nonsolicitation clause in his employment agreement which bars “soliciting any of [PendaForm’s employees] to resign from their employment.” The court held that a nonsolicitation clause that bars soliciting employees to resign their employment is void under Wisconsin law as an unreasonable restraint on trade. The court relied on precedent from the Wisconsin Supreme Court which found similar nonsolicitation clause unenforceable.
§ 1.4.8. Seventh Circuit
There were no qualifying decisions within the Seventh Circuit.
§ 1.4.9. Eighth Circuit
There were no qualifying decisions within the Eighth Circuit.
§ 1.4.10. Ninth Circuit
Aya Healthcare Servs., Inc. v. AMN Healthcare, Inc., 9 F.4th 1102 (9th Cir. (Cal.) 2021). The Ninth Circuit held in a dispute between two health care staffing agencies that nonsolicitation provisions in business-to-business collaboration agreements are not per se violations of the Sherman Act.
The Ninth Circuit framed the issue on appeal as whether a nonsolicitation provision in a collaboration agreement constitutes a “naked” restraint on trade warranting a per se Section 1 violation. Aya argued it did. Alternatively, Aya argued that the nonsolicitation provision violated Section 1 under a rule-of-reason analysis. The United States Department of Justice (DOJ) weighed in and filed an amicus brief arguing that all naked nonsolicitation agreements between market competitors are per se violations.
The Ninth Circuit rejected the arguments of both Aya and the DOJ. The Ninth Circuit explained that while Section 1 bars restraints on trade, courts distinguish between naked restraints and ancillary restraints. Naked restraints are explicitly anticompetitive. Ancillary restraints, while restraints on competition, are subordinate, collateral, and necessary to a legitimate transaction. Naked restraints are per se violations of Section 1, while ancillary restraints are evaluated through a three-step, burden-shifting, rule-of-reason factual analysis.
The Ninth Circuit then looked at the purpose of the nonsolicitation provision and the broader market effects. The Ninth Circuit said that given the purpose of an agreement was to supply travel nurses, the nonsolicitation provision was necessary for AMN to ensure it would not lose personnel. AMN could not meaningfully enter into staffing subcontractor agreements without nonsolicitation protections. Absent staffing subcontractors, there would be less nurses for hospitals facing chronic nurse shortages. Thus, the Ninth Circuit determined that the nonsolicitation agreement was ancillary to the collaboration agreement and had important pro-competitive benefits for the health care market.
§ 1.4.11. Tenth Circuit
ORP Surgical, LLP v. Howmedica Osteonics Corp., 2022 U.S. Dist. LEXIS 84398 (D. Colo. 2022), amended and superseded by 2022 U.S. Dist. LEXIS 170132 (D. Colo. 2022), appeal dismissed 2022 WL 19039680 (10th Cir. (Colo.) 2022).[5] After a bench trial, the District Court found in favor of plaintiff/counter-defendant ORP Surgical, LLP (“ORP”) on its breach-of-contract claim and all counterclaims (breach of the two agreements, unfair trade practices, and tortious interference) and entered judgment in favor of defendant Howmedica Osteonics Corp., a subsidiary of Stryker Corp. (“Stryker”) on ORP’s claim for corporate raiding. Stryker contracted with ORP, an independent company with sales representatives, who sold Stryker products on commission. Stryker and ORP had entered into two agreements: the joint sales representative agreement (“joint SRA”) and the trauma sales representative agreement (“trauma SRA”), which both granted ORP the exclusive right to sell Stryker products in certain locations, specified which non-Stryker products ORP could and could not sell, and permitted either party to voluntarily terminate the contract so long as they complied with certain post-termination restrictions. In the event of a termination of the contract, ORP would be prohibited from selling competitive products for a year and in exchange, Stryker would pay ORP “restriction payments” equal to ORP’s commissions from Stryker sales made in the previous 12 months before termination. Additionally, both contracts included one-year nonsolicitation/non-divert provisions that would survive the contracts. Stryker terminated the contracts, contending that because termination was for “cause,” Stryker was not bound by the contracts’ terms and was not obligated to pay the restriction payments. ORP contended that there was no “cause” and that the payment obligations, sales restrictions, and nonsolicit/non-divert covenants applied.
The District Court found that Stryker’s independent “causes” for terminating the joint SRA and the trauma SRA were not credible and Stryker did not have “cause” to terminate the contracts, concluding that ORP was entitled to the restriction payments outlined in the contracts (applying New Jersey law to interpret the contracts). Additionally, the District Court determined that Stryker breached the contracts’ provisions regarding nonsolicitation of any current employee or independent contractor working for ORP, as evidenced by compelling evidence of solicitation and diversion that the defendants and their witnesses could not credibly explain away. Further, while Stryker attempted to argue that the sales representatives would have come to Stryker of their own accord, the District Court reasoned that the contracts prohibited all solicitation and diversion, not only necessary or effective solicitation and diversion. The District Court concluded that ORP is entitled to damages.
§ 1.4.12. Eleventh Circuit
Usi Ins. Servs. LLC v. Se. Series of Lockton Co., LLC, 2022 U.S. Dist. LEXIS 96215 (N.D. Ga. 2022). Three employees left USI to go work for Lockton, which are competing insurance brokerage firms. In 2017, USI purchased all issued and outstanding equity interests of Wells Fargo Insurance Services. At the time of the stock purchase and sale agreement, Dean Anderson, Taylor Anderson, and Roger Maldonado were employed by USI. Dean Anderson and Taylor Anderson executed employment agreements when employed by Wells Fargo Insurance Services, which applied to their employment with USI. Upon the closing of the purchase agreement between Wells Fargo Insurance Services and USI, Roger Maldonado accepted an at-will position at USI’s office in Atlanta, Georgia. Lockton reviewed the employment agreements of all the employees including whether the recruit was subject to a noncompete or nonsolicit provision and when and how a recruit could resign from their employer. USI filed a lawsuit and set forth the following three tortious interference with contractual and business relations claims: Lockton (1) engaged in wrongful and malicious conduct designed to induce the Andersons to breach the notice provisions and the duty of loyalty provisions of their employment agreements, (2) engaged in wrongful and malicious conduct designed to have Maldonado and the Andersons breach their noncompete covenants, client noncompete covenants, and nonsolicitation covenants, and (3) wrongfully and maliciously raided USI’s Aviation Practice Group. Lockton in its counterclaims set forth the following two substantive claims against USI: (1) tortious interference with contractual and business relations based on USI’s alleged false and misleading statements about Lockton’s ability to service its customers, and (2) deceptive trade practices based on the same allegations of false and misleading statements by USI regarding Lockton’s ability to service its customers. On March 10, 2021, the court dismissed the counterclaim for deceptive trade practice and the claim asserting tortious interference with business relations and the tortious interference with contractual relations claim to the extent that it was based on USI attorney communications. On March 29, 2022, the court held that the defendant Lockton was not entitled to summary judgment on all three tortious interference with contractual and business relations claims because while aware of the employment agreements, Lockton directly induced the employees to breach multiple provisions of their agreements plus provided them legal counsel and indemnity with regard to any legal challenges they faced from USI. The court concluded accordingly that Lockton was not entitled to summary judgment on USI’s claims against it based on an absence of evidence of improper conduct.
§ 1.4.13. D.C. Circuit
There were no qualifying decisions within the D.C. Circuit.
§ 1.4.14. State Cases
There were no qualifying decisions within the State Cases.
§ 1.5. Misappropriation of Trade Secrets
§ 1.5.1. United State Supreme Court
There were no qualifying decisions by the United States Supreme Court.
§ 1.5.2. First Circuit
Amyndas Pharms., S.A. v. Zealand Pharma A/S, 48 F.4th 18 (1st Cir. (Mass.) 2022). The First Circuit Court of Appeals affirmed a Massachusetts District Court decision to dismiss all claims against a foreign corporation according to a binding forum selection clause. Amyndas Pharmaceuticals (Amyndas) entered into a confidential disclosure agreement (CDA) with Zealand Denmark to share information pursuant to business and services relationships between the parties and their respective affiliates. In April 2017, the biotechnology companies ultimately terminated the CDA. In August 2018, Zealand Denmark announced a collaboration with Alexion to develop complement-targeted therapeutics. Amyndas filed a complaint alleging misappropriation of trade secrets. The Court ultimately held that the forum selection clause in the CDA was mandatory and unambiguous. Even so, Amyndas argued that enforcing the clause would be unreasonable in the interest of public policy and as such, the Court should refuse to enforce the forum selection clause. These arguments included the bulk of the alleged conduct occurring in the US, a strong US preference for plaintiff’s choice of forum, and the inconvenience of litigating in a distant forum. The Court stated that though the Defend Trade Secrets Act (DTSA) guarantees a federal forum for trade secret theft claims under 18 U.S.C. § 1836, the DTSA was not meant to supersede the forum selection decisions of sophisticated parties except regarding unusual cases. The entry of judgments under Fed. R. Civ. P. 54(b) is reserved for unusual cases in which the costs and risks of multiplying the number of proceedings and of overcrowding the appellate docket are outbalanced by pressing needs of the litigants for an early and separate judgment. Given Amyndas’s failure to identify facts to suggest this issue qualified as an unusual case, the Court maintained its enforcement of the forum selection clause. The fact that the DTSA provides a federal cause of action with some extraterritorial reach does not prevent private parties from contracting either outside it or around it.
§ 1.5.3. Second Circuit
Turret Labs USA, Inc. v. CargoSprint, LLC, 2022 U.S. App. LEXIS 6070 (2d Cir. (N.Y.) 2022). This case affirmed that parties asserting trade secret misappropriation claims under the Defend Trade Secrets Act (“DTSA”) or New York law, must specifically detail in a pleading the “reasonable measures” employed to maintain the secrecy of the alleged trade secret. Prior to this case, the Second Circuit had not construed the meaning of the DTSA’s “reasonable measures” requirement. In Turret Labs, the Second Circuit affirmed the lower court’s granting of a motion to dismiss, concluding that plaintiff Turret Labs failed to adequately allege that “reasonable measures” were taken. Although there was an agreement providing the plaintiff’s customer with exclusive access to the alleged trade secret, the agreement did not contractually obligate the customer to maintain confidentiality of the alleged secret. The Second Circuit explained that the DTSA gives scant guidance on what constitutes “reasonable measures” to keep information secret. The analysis “will often focus on who is given access, and on the importance of confidentiality and nondisclosure agreements to maintaining secrecy.” The Second Circuit also concluded that plaintiff Turret Labs’s failure to execute a contract with a nondisclosure obligation undermined its trade secret misappropriation claim. The Court further noted that any of the alleged security measures in place, such as servers in restricted areas and software access restricted by passwords, were basically irrelevant because all customers of Turret Labs’s customer could view the functionality.
§ 1.5.4. Third Circuit
Warman v. Loc. Yokels Fudge, LLC, 2022 WL 17960722 (W.D. Pa. 2022). Plaintiffs were an individual Warman, a trust with the same name, and a chocolate company Chocolate Moonshine, LLC that brought suit against a competing fudge maker and certain individuals to whom plaintiffs had previously licensed their recipe claiming trade secret theft under the Defend Trade Secrets Act (DTSA) and the Pennsylvania Uniform Trade Secrets Act (PUTSA). The defendants argued that all of the ingredients of the recipe, the unified process and operation of making the fudge are in the public domain, have been well known for decades and are disclosed in a patent issued to another party in 1968. Plaintiffs contended that while this information was generally known, its specific trade secret recipe and process was not public, and that several ingredients and techniques changed since the publication of the 1968 recipe. Plaintiff moved for summary judgment on the DTSA and PUTSA claims at the close of discovery, but the court denied the motion. The court held that while a fudge recipe can be a trade secret and the recipe at issue has been found to be a trade secret in prior decisions in state court, there were too many disputed issues of fact that needed to be resolved at trial, including how much the trade secret had been transformed from the original 1968 recipe, whether the compilation of ingredients and processes is unique, the extent to which the claimed trade secret was known outside plaintiffs’ business, and whether reasonable measures were taken to protect it.
§ 1.5.5. Fourth Circuit
AirFacts, Inc. v. Amezaga, 30 F.4th 359 (4th Cir. (Md.) 2022). The U.S. Court of Appeals for the Fourth Circuit vacated a district court ruling and held that “commercial use” was not a threshold requirement to obtaining reasonable royalty damages under the Maryland Uniform Trade Secrets Act (MUTSA). In AirFacts, an employer sued its former employee for trade secret misappropriation of software when the former employee disclosed the software to a noncompetitor third party during the job-interview process. The district court held the employer was ineligible for reasonable royalty damages because it failed to prove the information was disclosed for commercial use. The Fourth Circuit disagreed. In referencing Fifth and Tenth Circuit decisions, the Fourth Circuit held it was inappropriate to condition such awards on commercial use because the MUTSA authorizes reasonable royalty damages for unauthorized disclosure or use of a trade secret. The Fourth Circuit explained that although “commercial use” is not a threshold requirement, courts may factor how the trade secret was used when conducting their analyses. The Fourth Circuit also refused to decide the royalties issue on the merits and limited its holding to rejecting the district court’s ruling that the employer was ineligible for reasonable royalty damages, not that the employer was entitled to said damages.
Additional Cases of Note
GlaxoSmithKline, LLC v. Brooks, 2022 U.S. Dist. LEXIS 27483 (D. Md. 2022) (granting employer’s motion for a temporary restraining order against former employee where employee had access to and improperly obtained trade secret information before and after resignation, the alleged misappropriation risked a devastating impact on employer’s business, and any intrusion on the former employee’s privacy in conducting a forensic analysis on her devices was not outweighed by employer’s interest in confirming that any misappropriated data has been removed from employee’s personal accounts and devices).
§ 1.5.6. Fifth Circuit
Oracle Elevator Holdco, Inc. v. Exodus Sols., LLC, 2021 U.S. Dist. LEXIS 169833 (S.D. Tex. 2021). Oracle Elevator Holdco (Oracle) provides elevator services such as maintenance and repair. Another elevator company, Exodus, provides similar services to Oracle in overlapping locations. David Luxemburg (David) worked as a general manager for Oracle. His daughter, Sarah Luxemberg (Sarah), worked as the owner and operator of Exodus. On multiple occasions, David emailed his daughter pricing proposals that he had originally sent to customers on behalf of Oracle. Upon learning of these communications, Oracle terminated David and sued him for misappropriation of trade secrets. The court analyzed various factors to determine whether the pricing proposals constituted a trade secret. Two factors weighed in favor of finding a trade secret: (1) the information in the pricing proposals could provide value to competitors since customers often chose the lowest bid when deciding to contract with an elevator company and (2) without her father’s emails, Sarah would not have been able to “properly” acquire Oracle’s pricing information. But three significant factors weighed against such finding: (1) Nearly all Oracle personnel had access to the pricing information, (2) Oracle merely guarded the pricing information with password protection rather than, for example, marking the information as confidential, and (3) neither considerable time nor considerable expense was necessary to create the pricing proposal. As such, the court found that the pricing proposals did not constitute a trade secret and David was not liable for misappropriation.
Additional Cases of Note
Cox Operating, LLC, v. Wells Fargo, N.A., 2021 U.S. Dist. LEXIS 239133 (S.D. Tex. 2021), appeal dismissed 2022 WL 1916855 (5th Cir. (Tex.) 2022) (holding that plaintiff’s alleged trade secret, the status of ongoing negotiations for financing, had no “independent economic value” because it “took no investment to create and has no demonstrated value for royalties”); Giddy Holdings, Inc. v. Kim, 2022 U.S. Dist. LEXIS 87679 (W.D. Tex. 2022) (granting plaintiff’s summary judgment motion where defendant improperly acquired his former employer’s trade secrets by accessing them “after his termination” and then misappropriated those trade secrets by using the company’s “investor contact list” to reach out to investors via Twitter as well as screenshotting marketing data from his company account, also after his termination); Maxim Healthcare Staffing Servs., Inc. v. Mata, 2022 U.S. Dist. LEXIS 4944 (W.D. Tex. 2022) (granting plaintiff’s motion for preliminary injunction prohibiting former employee and competitor from using trade secrets, finding that former employee and competitor acquired a contract proposal unique to plaintiff through improper means); Pittsburgh Logistics Sys. v. Barricks, 2022 U.S. Dist. LEXIS 115706 (S.D. Tex. 2022) (determining that although defendant emailed himself his former employer’s customer list, defendant did not misappropriate trade secrets because defendant never used the customer list to garner customers); Sunbelt Rentals, Inc. v. Holley, 2022 U.S. Dist. LEXIS 64557 (N.D. Tex. 2022), appeal dismissed 2022 U.S. App. LEXIS 29597 (5th Cir (Tex.) 2022) (granting in part plaintiff’s request for a preliminary injunction, holding that plaintiff demonstrated a substantial likelihood of prevailing on its trade secret misappropriation claim where plaintiff established defendant forwarded confidential information to his personal email account); Winsupply E. Houston v. Blackmon, 2021 U.S. Dist. LEXIS 225067 (S.D. Tex. 2021), appeal dismissed 2022 U.S. App. LEXIS 34871 (5th Cir. (Tex.) 2022) (holding that plaintiff failed to prove its customer lists were trade secrets because the lists were publicly available and thus “readily ascertainable through proper means”).
§ 1.5.7. Sixth Circuit
Epazz, Inc. v. Nat’l Quality Assur. USA, Inc., __ F. App’x __, 2021 U.S. App. LEXIS 25942 (6th Cir. (Mich.) 2021). This “messy business dispute” relates to a software package that Jadian Enterprises licensed to National Quality Assurance USA, Inc. (NQA). Because this software was critical to NQA’s business and required significant support from Jadian Enterprises, the companies signed an escrow agreement that would allow NQA to obtain the software’s source code from a third party and use it to continue receiving the benefits afforded by the license agreement if Jadian Enterprises breached its agreement with NQA. The software package was later sold to Jadian, Inc., after which the technical support provided to NQA suffered. In response, NQA withheld payment, leading Jadian to withhold further support. Accordingly, NQA asked for, and received, the source code from the third party, and hired another company to provide the support it had wanted from Jadian. Jadian then sued for, among other things, trade secret misappropriation. The district court granted summary judgment to NQA on Jadian’s trade secret claims because the issues were “contractual issue[s], not a trade secret theory,” and allowing the trade secret claims to proceed “would improperly blur the line between contract and tort.” The Sixth Circuit affirmed, holding that any potential error in the summary judgment ruling was harmless, because the agreements between the parties allowed for NQA’s actions—obtaining the code from the third party and using it without paying further subscription fees—such that there could not have been trade secret misappropriation.
B&P Littleford, LLC v. Prescott Mach., LLC, __ F. App’x __, 2021 U.S. App. LEXIS 25590 (6th Cir. (Mich.) 2021). Ray Miller, the former CEO and president of B&P, left and started his own company and allegedly misappropriated trade secret schematics for the benefit of his new company. B&P performed a reasonable investigation at the time but was unable to find any evidence of misappropriation. In 2017, Miller hired a former employee of B&P who allegedly also misappropriated trade secret schematics. In 2018, B&P learned that Prescott Machinery was using B&P schematics and filed suit. The court reversed the district court’s summary judgment ruling that plaintiff’s trade secret claim was barred by a three-year statute of limitations which began to run in 2012. The court held that misappropriating one trade secret does not trigger the limitation period for a claim of misappropriation of a different, but related, trade secret. The court further held that B&P’s prior investigation had tolled the statute of limitation until discovery of misappropriation in 2018.
§ 1.5.8. Seventh Circuit
There were no qualifying decisions within the Seventh Circuit.
§ 1.5.9. Eighth Circuit
ImageTrend, Inc. v. Locality Media, Inc., 2022 U.S. Dist. LEXIS 211741 (D. Minn. 2022). ImageTrend Inc., an emergency medical services (EMS) software developer, alleged that their competitor, Locality Media, conspired with four of ImageTrend’s former employees to steal ImageTrend’s trade secrets. The amended complaint identified broad categories of documents and information, as well as several specific documents, but did not describe with sufficient specificity how those documents and information were inherently confidential or possessed economic value from their secrecy. The court therefore held that ImageTrend’s broad and vague allegations did not plausibly establish that any of the information at issue qualified as trade secret information under the Minnesota Uniform Trade Secrets Act (MUTSA) and the federal Defend Trade Secrets Act (DTSA), nor did the allegations plausibly connect any specific trade secret with a specific act of misappropriation. Thus, the court granted defendants’ motion to dismiss for counts alleging misappropriation of trade secrets.
§ 1.5.10. Ninth Circuit
Precision Indus. Contractors Inc. v. Jack R. Gage Refrigeration Inc., 2021 WL 3472377 (W.D. Wash. 2021). A Washington district court found that there was not sufficient evidence on summary judgment to establish misappropriation by a former employee who submitted competing bids for a competitor. The defendant former employee was provided access to plaintiff’s confidential information during employment, including strategies on how to secure winning bids and information about plaintiff’s existing and potential clients.
In the past, plaintiff had won about 75 percent of the bids it submitted for a specific client. Shortly after a client project was announced, defendant employee abruptly quit. Following this, plaintiff was only awarded one project for the client project even though it submitted five or six bids. Though there were other factors in play, plaintiff believed that part of the reason it lost bids was because defendant used plaintiff’s confidential information to submit bids to the client. Plaintiff eventually moved for summary judgment on its federal and state trade secret misappropriation claims, arguing that the defendant improperly took plaintiff’s confidential information, including bidding sheets, internal costs, manuals, and other techniques developed internally and exclusively for plaintiff’s own use.
Despite this, the court found that while defendant may have had access to some of plaintiff’s confidential information, that in itself did not demonstrate that he misappropriated the information. Moreover, the court noted that it was undisputed that defendant had decades of “know-how and experience,” including with submitting bids for industrial construction projects. In addition, defendant testified that he had no idea what plaintiff’s bids were going to be on the client project. In sum, there was no evidence that defendant misappropriated plaintiff’s trade secrets or acquired them through improper means, that he disclosed the trade secrets to his new company, or that he used the trade secrets in connection with submitting bids for the client project. Accordingly, summary judgment was denied as to plaintiff’s claims for trade secret misappropriation.
MBS Eng’g Inc. v. Black Hemp Box LLC, 2021 WL 2458370 (N.D. Cal 2021). A California district court ruled that plaintiff’s DTSA claim could proceed despite the defendants’ assertions that the company did not do enough to secure the technology’s secrecy when it sold the hemp dryers at issue without prohibiting buyers from reverse-engineering them. “It may be that the ease of reverse engineering bears on the question of what secrecy efforts were reasonable under the circumstances, but defendants cite no authority indicating that the mere possibility of reverse engineering by a third-party purchaser necessarily invalidates a trade secret,” the court stated. The court concluded, “[a]t most, this raises a fact question that should be resolved at summary judgment or trial.”
XpandOrtho Inc. v. Zimmer Biomet Holdings Inc., 2022 U.S. Dist. LEXIS 46698 (S.D. Cal. 2022). A California district court rejected defendant’s motion to dismiss finding allegations of trade secret misappropriation sufficient at the pleading stage. The court held that the identification of “thirteen general trade secrets along with explanations” in the complaint and allegations of facts supporting its efforts to maintain the secrecy of the trade secrets were sufficient. The court rejected defendant’s challenges to the allegations of misappropriation, reasoning that the plaintiff had alleged how defendant gained access to the trade secrets and how it used the information to develop its own offering. The court also found that plaintiff’s allegations that defendant refused to return or destroy the plaintiff’s information after calling off the acquisition were sufficient. Lastly the court rejected defendant’s contention that the trade secret claim sounded in fraud and was thus subject to Rule 9(b)’s heightened pleading requirement.
§ 1.5.11. Tenth Circuit
KeyBank Nat’l Ass’n v. Williams, 2022 U.S. Dist. LEXIS 40880 (D. Colo. 2022). The District Court found that defendants have not met their burden of demonstrating the absence of a genuine dispute as to material facts governing KeyBank’s trade secret misappropriation claims. This case involves defendants’ alleged misappropriation of trade secrets with their former employer, Plaintiff KeyBank National Association. Defendant Williams worked for KeyBank since 2007, and most recently was employed as a Senior Vice President and Regional Manager of Keybank’s commercial mortgage practice. Defendant Weldon was employed as Vice president in plaintiff’s Mortgage Bank group. Both defendants signed several agreements regarding trade secrets. In 2018, both defendants began negotiating new employment with Newmark Knight Frank. Defendant Williams provided Newmark with two types of documents: 1) PDFs containing portions of KeyBank’s internal tracking documents (“Pipeline Reports”) and 2) Excel sheets of the Pipeline Reports. The Pipeline Reports contain KeyBank’s confidential information, including KeyBank’s revenue and fees. Defendant Williams emailed copies of the Pipeline Reports to his personal email account prior to his departure.
To prove a claim for misappropriate of trade secrets, KeyBank must prove that: 1) KeyBank possessed a valid trade secrete; 2) the trade secret was acquired, disclosed, or used without consent, and 3) the person acquiring, disclosing, or using the trade secret knew or should have known that the trade secret was acquired by improper means. A claim for misappropriation does not require the “use” of the trade secret; rather, the claim can be established by the acquisition of a trade secret by another who knows or has reason to know that the trade secret was acquired by improper means. Rejecting the defendant’s reliance on a Sixth Circuit case Heartland Home Fin., Inc. v. Allied Home Mortg. Cap. Corp., 258 F. App’x 860, 861 (6th Cir. (Ohio) 2008) (unpublished), the Court determined that summary judgment was inappropriate for the trade secret claims.
§ 1.5.12. Eleventh Circuit
Fin. Info. Techs., LLC v. iControl Sys., USA, LLC, 21 F.4th 1267 (11th Cir. (Fla.) 2021). Financial Information Technologies (Fintech) and iControl Systems (iControl) were competitors who sold niche computer software that rapidly processed electronic payments between retailers and wholesale distributors of alcoholic beverages. Fintech sued iControl, alleging that iControl violated the Florida Uniform Trade Secrets Act (FUTSA) by misappropriating seven Fintech trade secrets. The jury returned a general verdict in favor of Fintech, finding that iControl misappropriated Fintech’s trade secrets and, further, that iControl acted willfully and maliciously in doing so. iControl filed a motion for a new trial on liability and a renewed JMOL motion on damages, alleging that Fintech’s seven alleged trade secrets were never actually secret, and contending that Fintech failed to prove lost profits, as required under FUTSA. Fintech moved for a permanent injunction “prohibiting iControl from doing business in the regulated commerce industry.” The district court denied all three motions. The appellate court affirmed the district court’s judgement with respect to iControl’s liability and Fintech’s request for a permanent injunction, but reversed its judgement on damages. In affirming the two motions, the appellate court made two points. First, Fintech needed to show evidence of misappropriation only as to one as the jury rendered a general verdict. In so ruling, the court reviewed evidence indicating iControl improved its software by receiving assistance from Fintech’s former employees. Second, FUTSA only “authorizes the injunction of specific, identifiable trade secrets,” not “blanket restraint of competition.” Fintech’s request for injunction “wasn’t narrowly tailored and did not identify specific acts to be restrained,” nor was it provided for a specified period of time.
§ 1.5.13. D.C. Circuit
CoStar Grp., Inc. v. Leon Cap. Grp. LLC, 2022 U.S. Dist. LEXIS 101663 (D.D.C. 2022). Plaintiff CoStar Group, Inc. (CoStar) operates a commercial real estate information database. CoStar in turn licenses the database to users. Leon Capital (Leon), a real estate investment and development firm, agreed to a license contract with CoStar. Per their License Agreement, Leon agreed to follow CoStar’s Terms and Conditions, which included a limitation on “access or use” of the database by any “direct or indirect competitors of CoStar,” and the database’s Terms of Use, which provided that only “authorized users” may access the database and forbid “direct or indirect competitors of CoStar” from accessing the database. CoStar alleged that Leon violated both sets of terms. In particular, CoStar alleged that Leon was deemed an indirect competitor, breaking the agreement and requiring Leon to pay remaining annual fees. Additionally, CoStar alleged that Leon’s new Managing Director, Wood, accessed the databased with his former employer’s credentials and “mined” beneficial data for Leon. This access occurred after CoStar terminated Leon’s access. CoStar alleges that this action violated the Terms of Use, in the alternative were fraudulent and constituted unjust enrichment, and finally violated the Computer Fraud and Abuse Act (CFFA). Leon moved to dismiss all claims. Regarding the first claim for unpaid fees, the court ruled the issue moot and dismissed it because Leon had paid the fees after initial filings. Regarding the claims centered on Wood’s access, Leon contended that was a contract dispute between CoStar and Wood’s former employer. The court disagreed, stating that “it is beside the point whether Wood’s actions also violated some [other] agreement . . . .” Additionally, per the respondeat superior doctrine, Leon may be held accountable for Wood’s actions because he used a Leon device and accessed data favorable to Leon. The court concluded that Leon is an “indirect competitor” due to its sufficient direct investments in a directly competing firm. Finally, the court stated that even though Wood had valid credentials, in the sense that they allowed him to log into the database, his access was still unauthorized and therefore met the requirements of a CFAA claim.
§ 1.5.14. State Cases
There were no qualifying decisions within the State Cases.
§ 1.6. Damages
§ 1.6.1. United States Supreme Court
There were no qualifying decisions by the United States Supreme Court.
§ 1.6.2. First Circuit
There were no qualifying decisions within the First Circuit.
§ 1.6.3. Second Circuit
Hosp. Media Network v. Henderson, 209 Conn. App. 395 (Conn. App. Ct. 2021). In this case, the plaintiff employer had employed the defendant employee as its Chief Revenue Officer until 2013, when he was fired for cause. The plaintiff employer then brought an action against the former employee, claiming that, among other things, he violated the Connecticut Uniform Trade Secrets Act (“CUTSA”) and breached his fiduciary duties by simultaneously working for a private equity firm that was involved in the same business sector as plaintiff. The lower court ruled in favor of the plaintiff employer. The Connecticut Court of Appeals affirmed, but remanded the case for a new hearing on damages. The defendant employee then appealed the judgment rendered on remand awarding damages, claiming the trial court (1) exceeded the scope of the court’s remand order, and (2) awarded damages that were inequitable, and predicated on factual findings that were not supported by the record. As to the first point, the Connecticut Court of Appeals concluded that the lower court did not exceed the scope of the remand order. However, the Court of Appeals agreed with the defendant employee that the lower court committed error in ordering the defendant to disgorge $50,000 of the $150,000 consulting fees he received. The appellate court explained that its previous decision prohibited disgorgement of amounts earned by the defendant employee outside of his period of employment with the plaintiff employer, and that the court had previously assumed the defendant employee earned the consulting fees after his employment with the plaintiff employer had ended.
ML Fashion, LLC v. Nobelle GW, LLC, 2022 U.S. Dist. LEXIS 18634 (D. Conn. 2022). This case involves former employees leaving their employer ML Fashion, LLC to form a new competitor company. Plaintiff ML Fashion, LLC lodged a number of claims against the former employees, including but not limited to, claims under the Computer Fraud and Abuse Act (“CFAA”), the Defend Trade Secrets Act (“DTSA”), conversion, breach of fiduciary duty, breach of contract, and tortious interference with a noncompetition agreement. Defendants moved for the court to order plaintiffs to pay certain costs associated with a previously-filed action in the United States District Court for the Northern District of Illinois. They also sought a stay of the proceedings until plaintiffs pay those costs. The defendants also moved to dismiss the Complaint in its entirety, in addition to moving to stay discovery and moving to amend the scheduling order, pending resolution of the motion to dismiss. The court ultimately held that it was appropriate to award defendants costs under Federal Rules of Civil Procedure 41 where plaintiffs initially filed an action in Illinois and litigated it vigorously, imposing costs on defendants, then dismissed it voluntarily and refiled their claims in another court. This case serves as a reminder that parties will likely be subject to costs if Federal Rules of Civil Procedure 41 is violated, and that Federal Rules of Civil Procedure 41 does not require any showing of bad faith in order to recover such costs.
§ 1.6.4. Third Circuit
There were no qualifying decisions within the Third Circuit.
§ 1.6.5. Fourth Circuit
There were no qualifying decisions within the Fourth Circuit.
§ 1.6.6. Fifth Circuit
There were no qualifying decisions within the Fifth Circuit.
§ 1.6.7. Sixth Circuit
There were no qualifying decisions within the Sixth Circuit.
§ 1.6.8. Seventh Circuit
Select Rehab., LLC v. Painter, 2021 U.S. Dist. LEXIS 159437 (S.D. Ill. 2021). Painter and Vasquez worked for Select Rehabilitation. When they resigned from Select Rehabilitation and began working with a competitor, Select Rehabilitation sued for, among other things, breach of the Computer Fraud and Abuse Act (“CFAA”). Select Rehabilitation alleged that Painter and Vasquez stole trade secrets. Painter and Vasquez moved to dismiss the CFAA claim on the basis that Select Rehabilitation failed to allege damages that are recoverable under the act (which defines “damage” as impairment to the integrity or availability of data and “loss” as any reasonable cost to a victim). Select Rehabilitation argued that the misuse of trade secrets constituted recoverable damages under the CFAA. The Court acknowledged a split in authority regarding whether the loss in value of trade secrets (or a competitive edge) constituted damages under the CFAA, but it determined that Select Rehabilitation failed to allege recoverable damages. The Court found that the cases Select Rehabilitation relied upon had been “discredited due to statutory changes.” Allegations of an interruption in access to data were required to state a claim under the CFAA.
§ 1.6.9. Eighth Circuit
There were no qualifying decisions within the Eighth Circuit.
§ 1.6.10. Ninth Circuit
Bladeroom Group, Ltd. v. Emerson Elec. Co., 11 F.4th 1010 (9th Cir. (Cal.) 2021), amended and superseded on denial of reh’g en banc 20 F.4th 1231 (9th Cir. (Cal.) 2021). The Ninth Circuit reversed a $60 million verdict on the grounds that the district court should not have ignored the plain language in an NDA providing that confidentiality obligations would terminate after two years. The court rejected the district court’s reasoning that the two-year limit controlled because it was contrary to the parties’ intent and would lead to an absurd result.
Dr. V Prods., Inc. v. Rey, 68 Cal. App. 5th 793 (2021). A California appellate court found that an order denying a motion for attorneys’ fees under CUTSA is not an appealable order. In the case, plaintiff filed suit against a former employee, alleging the former employee converted and destroyed documents belonging to the plaintiff, which contained “proprietary company information.” After discovery, the plaintiff voluntarily dismissed its trade secret misappropriation claim, and the defendant moved for an award of attorneys’ fees under CUTSA which the court denied. The defendant appealed, and the plaintiff moved to dismiss on the grounds that a denial of a motion for attorneys’ fees under CUTSA is not an appealable order.
The defendant argued that “if a collateral order that directs payment of attorney fees (i.e. “payment of money”) is appealable, by parity of reasoning the opposite should be true.” The appellate court disagreed, citing to case law which made no mention of an order denying the payment of money being appealable. The court also cited other examples where “statutes are not always reciprocal to the parties” and where “some authorize an appeal by one side to a matter but deny that right to the other side.”
The defendant argued that an order denying fees under CUTSA is collateral to the litigation. The court disagreed and cited authority that a party may not normally appeal from a judgment on one cause of action if determination of other causes of action is pending. Defendant’s underlying motion addressed only one of respondent’s causes of action and six remained. The appellate court also stated that because the core of the lawsuit concerned destruction and conversion of corporate documents, the trade secret misappropriation claim was intertwined with the other claims and therefore not collateral. Accordingly, in California, an attorneys’ fees claimant must litigate all claims to conclusion at the trial level, before appealing the fees’ order.
Elation Sys. v. Fenn Bridge LLC, 71 Cal. App. 5th 958 (2021). The Court of Appeal concluded that the trial court erred in granting JNOV on plaintiff’s breach of nondisclosure claim. While the trial court correctly concluded that substantial evidence did not support the jury’s finding of harm or $10,000 in damages for that harm, the Court found that it should have awarded plaintiff nominal damages on this cause of action. The Court reasoned the breach of the nondisclosure was in itself a legal wrong, regardless of whether damage was inflicted. The Court of Appeal noted that, under Section 3360, California courts have held “‘[a] plaintiff is entitled to recover nominal damages for the breach of a contract, despite inability to show that actual damage was inflicted.’” The Court further reasoned that reversal should be granted where, as here, an award of nominal damages would provide “‘absolute entitlement to costs’” or “‘determine some question of permanent right.’” Reversal was appropriate because the nondisclosure provided either party could seek specific performance for a breach, and therefore an award of nominal damages would impact plaintiff’s rights to obtain further equitable relief, such as a permanent injunction preventing the former employee from further breaching the nondisclosure.
§ 1.6.11. Tenth Circuit
ORP Surgical, LLP v. Howmedica Osteonics Corp., 2022 U.S. Dist. LEXIS 84398 (D. Colo. 2022), amended and superseded by 2022 U.S. Dist. LEXIS 170132 (D. Colo. 2022), appeal dismissed 2022 WL 19039680 (10th Cir. (Colo.) 2022). The District Court determined that Stryker did not have “cause” to terminate the two contracts and concluded that ORP was entitled to the restriction payments outlined in the contracts.[6] The District Court awarded ORP $1,018,896 in damages for the restriction payments outlined in the joint SRA and $3,731,791.47 in damages for the restriction payments outlined in the trauma SRA. The District Court reasoned that there was insufficient evidence that Stryker’s solicitation and diversion tactics were the cause of the sales representatives leaving ORP for Stryker. The District Court explained that its order should not be misconstrued as an indication that Stryker’s solicitation and diversion tactics were okay, but awarded $1.00 in nominal damages for Stryker’s breach of the nonsolicitation provision because the Court cannot award damages where damages were not proved. The District Court awarded ORP reasonable attorney’s fees and expenses. Additionally, the District Court determined that Stryker failed to meet some of its preservation obligations and upon review of the special master’s observations, ordered Stryker and its counsel to reimburse ORP for the full amount of its shares of the special master’s fees and costs, half of which is to be paid by Stryker for its failure to preserve text messages and half to be paid by Stryker’s law firm for counsel’s misconduct during the discovery process.
§ 1.6.12. Eleventh Circuit
Ala. Aircraft Indus. v. Boeing Co., 2022 U.S. App. LEXIS 4039 (11th Cir. (Ala.) 2022). Alabama Aircraft Industries (Pemco) and Boeing were competitors in the aerospace industry. Pemco and Boeing decided to submit a joint bid to the United States Air Force concerning a contract to maintain, repair, and upgrade the Air Force’s fleet of KC-135 Stratotanker aircraft. Pemco and Boeing signed a contract, but the teaming arrangement fell apart when Boeing terminated the agreement upon finding that the Air Force reduced the number of KC-135s available for the contract. The two companies pursued the opportunity independently. Boeing’s bid was 1.28% lower than Pemco’s, and Boeing won the contract. Pemco went out of business and into bankruptcy. Pemco sued Boeing on several theories of liability, including a misappropriation-of-trade-secrets claim, damages of which allegedly amounted to $100 million. The district court dismissed the claim in a pretrial order, finding that the Alabama law, and not the parties’ choice of Missouri law for the agreement, applied and that the claim was time-barred under Alabama law. This was detrimental to Pemco as its claim was not time-barred under Missouri law. The appellate court reversed. The court reviewed the parties’ choice-of-law provision in the agreement, which provided “[t]he interpretation of this Agreement and the rights and liabilities of the parties to this Agreement shall be governed by the law of the state of Missouri[.]” The court found that the language was “broad enough to encompass Pemco’s misappropriation-of-trade-secrets claim,” noting that the parties intended Missouri law to govern the sort of misappropriation-of-trade-secrets claim that arose from “the exchange of proprietary information in connection with the parties’ teaming arrangement.” The court also performed the analysis under Alabama’s choice-of-law regime and reached the same conclusion based on a finding that Pemco suffered its trade secrets injury in Missouri. The court refused to apply Boeing’s preferred financial harm test, stating that it had no application under Alabama law, which distinguishes the concept of injury from the concept of damages.
§ 1.6.13. D.C. Circuit
Iron Vine Sec., LLC v. Cygnacom Sols., Inc., 274 A.3d 328 (D.C. 2022) (applying Virginia law). Appellant Iron Vine, a Virginia corporation, obtained a 10-year contract with the State Department in 2011. Per the State Department’s request, Iron Vine was to subcontract specific work from the State Department contract to Cygnacom, also a Virginia corporation. Iron Vine and Cygnacom entered into an agreement, stipulating to a mutual nonsolicitation agreement. Additionally, Cygnacom had noncompetition provisions with its own employees. One of those employees, Shanley, left Cygnacom and started his own company, Second Factor, with Cygnacom’s consent. Second Factor also subcontracted to work on the State Department contract. In late 2015, Iron Vine informed Cygnacom that it was not renewing the subcontract. On the same day, Iron Vine and Second Factor posted job advertisements matching those of Cygnacom employees. Together, the two companies hired six employees away from Cygnacom. Cygnacom sued Iron Vine, Second Factor, and Shanley with claims stemming from alleged breaches or interferences with the nonsolicitation and noncompetition agreements. At trial, the jury returned a verdict in favor of Cygnacom. On appeal, Iron Vine contends that the verdicts cannot stand because the nonsolicitation provision and noncompetition provisions are unenforceable under Virginia law. The court disagreed, finding the nonsolicitation provision enforceable because it was mutually accepted and the noncompetition provision narrowly drawn. Finally, Second Factor argued that the tortious interference award of compensatory damages is duplicative of the breach-of-contract award. The court held that Cygnacom cannot recover compensatory damages above its lost profits from the State Department contract unless they offer evidence of additional harm. Cygnacom argued that it lost business opportunities yet offered no evidence. As such, the court was not persuaded and ordered the trial court to reassess the compensatory damages.
§ 1.6.14. State Cases
There were no qualifying decisions within the State Cases.
See Section 1.4.5 for a summary of the court’s ruling on the issue of customer and employee nonsolicitation agreements. ↑
See Section 1.4.6 for a summary of the court’s ruling on the issue of customer and employee nonsolicitation agreements. ↑
See Section 1.3.5 for a summary of the court’s ruling on the issue of restrictive convents: covenants not to compete. ↑
See Section 1.3.6 for a summary of the court’s ruling on the issue of restrictive covenants: covenants not to compete. ↑
See Section 1.6.11 for a summary of the court’s ruling on the issue of damages. ↑
See Section 1.4.11 for a summary of the court’s ruling on the issue of customer and employee nonsolicitation agreements. ↑
The Honorable Meghan A. Adams Anna Brousell, Esquire
Superior Court, State of Delaware Leonard L. Williams Justice Center 500 N. King. St., Suite 10400 Wilmington, DE 19801 (302) 255-0634 phone [email protected] [email protected]
Jennifer C. Wasson, Esquire Carla M. Jones, Esquire
Potter Anderson & Corroon LLP 1313 N. Market St., 6th Floor Wilmington, DE 19801-6108 (302) 984-6122 phone [email protected]
Richards Layton & Finger One Rodney Square 920 North King Street Wilmington, DE 19801-6108 (302) 651-7503 phone [email protected]
§ 1.1. Introduction
This chapter summarizes the significant case law developments from state and federal courts across the country in 2021–22 concerning directors’ and officers’ liability insurance coverage claims. Noteworthy decisions included the following:
First Solar, Inc. v. Nat’l Union Fire Ins. Co. of Pittsburgh, PA, 274 A.3d 1006 (Del. 2022). The Delaware Supreme Court held that the insurance policy language dictates whether a claim relates back to an earlier claim under a claims-made liability policy, not the “fundamentally identical” standard.
Verizon Communications Inc. v. National Union Fire Ins. Co. of Pittsburgh, PA, 2022 WL 14437414 (Del. Super. Oct. 18, 2022). The Superior Court of Delaware’s Complex Commercial Litigation Division held that a settlement in a fraudulent transfer suit brought by a bankruptcy trustee for FairPoint Communications against Verizon Communications Inc. was covered under Verizon’s directors and officers liability policy.
CUMIS Specialty Ins. Co., Inc. v. Kaufman, 2022 WL 10640903 (S.D.N.Y 2022). The United States District Court for the Southern District of New York denied the former Melrose Credit Union CEO’s motion to reconsider its ruling that CUMIS Specialty Insurance Company was not obligated to cover Kaufman’s legal costs in appealing his bribery conviction. The court held further that CUMIS was entitled further to recoup Kaufman’s post-sentencing expenses that the insurance company already paid.
§ 1.2. Claim
First Solar, Inc. v. Nat’l Union Fire Ins. Co. of Pittsburgh, PA, 274 A.3d 1006 (Del. 2022). The Delaware Supreme Court held that the insurance policy language dictates whether a claim relates back to an earlier claim under a claims-made liability policy, not the “fundamentally identical” standard.
In March 2014, First Solar Inc.’s (“First Solar”) stockholders filed a class action lawsuit against the company, alleging that it violated federal securities laws by making false or misleading public disclosures (“Smilovits Action”). First Solar’s primary insurer, National Union Fire Insurance Company of Pittsburgh, PA (“National Union”), provided coverage for the Smilovits Action under a 2011–2012 $10 million “claims made” directors and officers insurance policy (“D&O policy”). While the Smilovits Action was pending, on June 23, 2015, First Solar stockholders who opted out of the Smilovits Action filed a class action lawsuit, referred to as the Maverick Action, alleging violations of the same federal securities laws as the Smilovits Action, in addition to violations of Arizona statutes and claims for fraud and negligent misrepresentation.
When the Maverick Action was filed, First Solar had a $10 million “claims made” policy with National Union for 2014–2015 (the “Primary Policy”) and a $10 million layer of excess coverage with XL Specialty Insurance Company (the “Excess Policy”). After First Solar sought insurance coverage under the Primary Policy and Excess Policy for the Maverick Action, the insurers denied coverage under a “Related Claims” exclusion, which provided that a Related Claim is “a Claim alleging, arising out of, based upon or attributable to any facts or Wrongful Acts that are the same as or related to those that were . . . alleged in a Claim made against an Insured.” The insurers argued that the Maverick Action was a “related claim” to the Smilovits Action. Thereafter, First Solar brought the instant insurance coverage action against the insurers, asserting claims for breach of contract and declaratory judgment. The insurers moved to dismiss the complaint and First Solar filed a cross motion for partial summary judgment as to relatedness.
In considering whether the two claims were related, the Superior Court of Delaware’s Complex Commercial Litigation Division applied a “fundamentally identical” standard, ultimately finding that the exclusion applied. The court reasoned that the Smilovits and Maverick actions had “substantial similarities,” and were “fundamentally identical” because the lawsuits stemmed from the same original suit, were against “identical defendants,” overlapped in relevant time periods, alleged the same securities law violations, relied on the same specific disclosures, and pertained to the same underlying wrongful conduct—allegedly inflating First Solar’s stock price by misrepresenting cost-per-watt metrics and falsifying financial reports.
On appeal, the Delaware Supreme Court affirmed the Superior Court’s holding, but rejected the application of the “fundamentally identical” standard. The Supreme Court instead held that whether a claim relates back to an earlier claim is decided by the language of the policy, not the generic “fundamentally identical” standard. Applying the policy language at issue, the Supreme Court reasoned that the primary policy’s Related Claim provision was broad and the question on appeal was therefore whether the Maverick Action raised Claims that “aris[e] out of, [are] based upon or attributable to any facts or Wrongful Acts that are the same as or related to” the Smilovits Action. The Supreme Court held that the Maverick Action was a Related Claim under the Primary Policy because both actions were based on the same alleged misconduct—First Solar’s misrepresentations about the cost-per-watt of its solar power. Accordingly, there was no coverage for the Maverick Action.
Smartsheet, Inc. v. Federal Insurance Co., Case No. C22-315 MJP (W.D. Wash. Aug. 8, 2022). The United States District Court for the Western District of Washington denied the insurers’ motion to dismiss Smartsheet’s claim for coverage, holding that the underlying actions were not related. In 2018, the wife of Smartsheet’s founder, Brett Frei, filed an arbitration demand alleging that Frei induced her into selling her Smartsheet shares ahead of a tender offer at a much lower price as part of their divorce settlement. In 2019, Smartsheet investors who had sold Smartsheet shares in the tender offer brought a class action against Smartsheet, alleging that it failed to disclose plans of an initial public offering to induce investors to sell Smartsheet shares in the tender offer at a reduced price.
Smartsheet held insurance policies for 2018 and 2019 and submitted both claims to its insurers. The insurers claimed that the actions were interrelated and constituted a single claim dated on the first of the claims, 2018. Thus, the insurers determined, only the 2018 policy, and not the 2019 policy applied. Smartsheet sought declaratory relief that the two claims were not interrelated and that the later claim triggered the 2019 policy.
The court held that the two claims shared “only limited overlap and several key distinctions” and thus were unrelated and distinct claims within the relevant policy definitions. In particular, the 2018 demand concerned alleged misrepresentations by Frei to his wife regarding the tender offer, while the 2019 class action concerned omissions by Smartsheet to investors regarding the IPO. The court held that the two distinct claims lacked sufficient overlap to make the claims related.
§ 1.3. Loss
Federal Insurance Company v. Healthcare Information and Management Systems Society, Inc., 567 F.Supp.3d 893 (N.D. Ill. 2021). In this case, the defendant-insured was a non-profit corporation in the health information systems sector which was responsible for organizing one of the largest annual conferences in the U.S. The 2020 conference was cancelled due to the pandemic. Two exhibitors to this conference filed actions against the insured seeking breach of contract damages for failing to return fees paid and damages incurred from preparing for and travelling to the conference. One of the exhibitors filed a class action which was resolved via settlement.
Plaintiff-insurer filed a declaratory action seeking a declaration that, under the insurance policy it issued to the insured, it had no duty to defend or indemnify defendant-insured in these underlying actions. The insured counterclaimed, asserting that the policy did provide coverage and that the insurer breached the contract. The United States District Court for the Northern District of Illinois denied in part the insurer’s motion to dismiss the counterclaim, holding that the underlying claims constituted a loss under the policy and that the two exceptions to the policy’s coverage for loss were inapplicable.
The insurance policy at issue was titled “ForeFront Portfolio Not-For-Profit Organizations Policy.” The Directors and Officers section of this policy covered losses that the insured became legally obligated to pay on account of any claim made against it during the policy period. This section contained a “Professional Services Exclusion” and a “Contract Exclusion.” The Professional Services Exclusion provided no coverage for loss resulting from an actual or alleged failure to render any professional services. The Contract Exclusion provided that the insurer was not liable for loss on account of any claim arising from liability under any written or oral contract.
The court found that the claims constituted a loss under the policy because the settlement resolved all of the exhibitors’ claims, not only those that were restitutionary in nature. The Professional Services Exclusion did not apply because the underlying claims were not entirely based on the insured’s negligent provision of professional services, but instead sought reimbursement for damages resulting from the inability to sublet floor space at the conference. The court found that subleasing floor space was not necessarily a professional service and that the underlying complaints did not allege the insured exercised poor professional judgment when cancelling the conference. The Contract Exclusion did not apply because the underlying complaints sought more than contract damages and the settlement agreement settled all of the exhibitors’ claims, not just the contract claims. The court dismissed the insured’s counterclaim for a statutory penalty for bad faith denial of coverage because it had an insufficient factual basis and because the insurer’s complaint established a bona fide dispute about coverage.
G-New, Inc. dba Godiva Chocolatier, Inc. v. Endurance American Insurance Co., 2022 WL 4128608 (Del. Super. Sept. 12, 2022). The Superior Court of Delaware’s Complex Commercial Litigation Division held that a class action settlement was covered under Godiva’s directors and officers liability policy. Plaintiffs brought a class action suit against Godiva, alleging consumer protection violations based on the “Belgium 1926” label that appeared on Godiva’s products. The class action settled, and Godiva sought coverage under its insurance policies for the settlement. The insurers denied the coverage claims, asserting that the settlement was not a covered loss because Godiva’s unlawful conduct was intentional, and that the policy excludes from coverage unfair trade practices and fines or penalties imposed by law.
The court, however, held that the policy language contemplated settlements as covered losses and the insurers had not provided evidence that Godiva’s violation of law was knowing or willful. The Court noted further that the policy did not define “unfair trade practices” and insurers could not show that unfair trade practices were the equivalent of consumer fraud. Lastly, the court, relying on Delaware precedent, agreed that a settlement, which is meant to compensate plaintiffs, does not equate to a penalty imposed by law, which is meant to punish defendants.
§ 1.4. Securities Claim
Stillwater Mining Co. v. National Union Fire Ins. Co. of Pittsburgh, PA, 2021 WL 6068046 (Del. Super. Ct. Dec. 22, 2021). After approximately two years and much procedural wrangling, the Superior Court of Delaware’s Complex Commercial Litigation Division dismissed a Delaware policyholder’s amended complaint with prejudice for failure to state a claim on which relief could be granted. After Stillwater sought D&O coverage for an appraisal action, both the insurers and Stillwater filed complaints in Delaware regarding insurers’ obligation to pay defense costs and indemnify Stillwater for its settlement payment and interest resulting from the appraisal action. At the time both sides filed their actions, the Delaware Supreme Court was considering whether appraisal claims fell within the definition of a “securities claim” under D&O insurance in another case, In reSolera Insurance Coverage Appeals (“Solera II”). In its initial complaint, Stillwater argued that Delaware law governed its D&O policies.
The Superior Court stayed Stillwater’s case until the resolution of the Solera II appeal. After Solera II was resolved in insurers’ favor and the Superior Court lifted the stay, however, Stillwater sought to dismiss its case in favor of a coverage action it had filed in Montana, where its headquarters was located. In its Montana action, Stillwater already had moved for summary judgment on its D&O policies, arguing that Montana law applied. In the alternative, Stillwater asked the Delaware court to allow it to amend its complaint to add Montana-law claims. The insurers opposed Stillwater’s motion to stay and moved to dismiss its amended complaint.
According to the Superior Court, the “decision as to whether Delaware or Montana law applies is dispositive to the case. If Delaware law applies . . . the Delaware Supreme Court’s Solera II decision bars Stillwater from receiving coverage for the Appraisal Action, effectively deciding the instant action.” To determine the governing law, the court first considered whether an actual conflict existed between Montana and Delaware law. The parties disagreed on this question, with Stillwater arguing that Montana law imposed a higher burden on insurers for refusing to defend and insurers arguing that the relevant standards were materially identical. The court assumed a conflict of law existed and proceeded to analyze which state had the “most significant relationship” to the action, using the factor test set forth in the Restatement (Second) Conflict of Laws. The court explained that “Delaware precedent holds that the state of incorporation is the ‘center of gravity’ for D&O policies” and that Stillwater was incorporated in Delaware. The court gave little weight to the fact that Stillwater was headquartered in Montana or that the D&O policy contained Montana endorsements, noting that “a company’s principal place of business generally will not outweigh its state of incorporation in determining coverage for a D&O policy.” The court also found that Stillwater’s previous statements about the application of Delaware law to its policy and its failure to raise its Montana claims in its initial complaint underscored the conclusion that Delaware law applied.
Finally, the Superior Court addressed the doctrine of depecage, in which different states’ laws are applied to different aspects of a contractual relationship, noting that the doctrine is “disfavored generally, including in Delaware.” The court found that Stillwater had not articulated any compelling basis to apply the doctrine, which the court believed contradicted the Delaware Supreme Court’s emphasis on applying a single body of law to national and multi-national insurance programs.
Because Stillwater’s policy covered Stillwater only for “securities claims,” and the Appraisal Action was not a “securities claim” under Delaware law, the Superior Court dismissed Stillwater’s amended complaint with prejudice.
Verizon Communications Inc. v. National Union Fire Ins. Co. of Pittsburgh, PA, 2022 WL 14437414 (Del. Super. Oct. 18, 2022). The Superior Court of Delaware’s Complex Commercial Litigation Division held that a settlement in a fraudulent transfer suit brought by a bankruptcy trustee for FairPoint Communications against Verizon Communications Inc. was covered under Verizon’s directors and officers liability policy. The court held that the suit was a securities claim brought derivatively on behalf of Northern New England Spinco Inc., an entity that Verizon created for the transfer of landline assets and merged into FairPoint Communications. The Court held further that the trustee that brought the claim qualified as a security holder of Spinco, as a result of the merger between Spinco and FairPoint. The Court reasoned that because FairPoint held Spinco liabilities, such as payment on Spinco Notes, anyone holding the Spinco Notes were holders of Spinco debt securities. Thus, the trustee brought the fraudulent transfer suit as a Spinco security holder.
The policy defined a Securities Claim to include a claim “brought derivatively on the behalf of an Organization by a security holder of such Organization.” The policy defined “Organization” to include any for-profit entity Verizon controlled on or before the effective date of the policy. Holding that the suit constituted a securities claim, the Court determined that the settlement for the suit was covered under the insurance policy.
§ 1.5. Wrongful Act
The Options Clearing Corporation v. U.S. Specialty Ins. Co., 2021 WL 5577251 (Del. Super. Ct. Nov. 30, 2021). Plaintiff-insured, Options Clearing Corporation (“OCC”), moved for partial summary judgment on its D&O insurers’ obligation to cover defense costs arising out of two federal enforcement actions against it. Its insurers opposed, arguing that the actions were related to previous federal investigations and therefore barred by related claims exclusions. The Delaware Superior Court’s Complex Commercial Litigation Division granted summary judgment in OCC’s favor, finding that the current enforcement actions were not meaningfully linked to the earlier investigations to trigger the exclusions.
OCC’s policy contained an “event exclusion” precluding coverage for specified federal investigations and “Interrelated Wrongful Acts.” Three letters and responses relating to proceedings by a compliance division of the SEC (the “2012-14 Letters”) were identified as non-covered events in the event exclusion. The policy also contained a prior notice exclusion that barred coverage for Loss in connection with a Claim arising out of Wrongful Acts alleged or contained in “any claim which has been reported, or with respect to any notice has been given, under any policy of which this Policy is a renewal or replacement or which it may succeed in time.” OCC sought coverage for two enforcement actions (“Enforcement Actions”) brought by the Securities and Exchange Commission and the Commodity Futures Trading Commission in 2017 and 2018, respectively.
In opposing summary judgment, insurers argued that fact discovery was necessary to determine the exact scope and circumstances of the Enforcement Actions, and that the event exclusion was broad enough to exclude coverage for the Enforcement Actions as related to the 2012-14 Letters. Reviewing the policy language, the court determined that the relevant terms were clear and unambiguous, such that the terms “arising out of,” “based upon,” and “attributed to” meant “originating from or sharing some meaningful linkage.” Accordingly, the court concluded that to invoke either exclusion, the insurers had the burden to demonstrate a “meaningful link” between the Enforcement Actions and the 2012-14 Letters.
The Superior Court then compared the two types of claims. It found that merely having some facts in common was insufficient to establish a meaningful link; “there is bound to be some surface-level overlap” between the claims, and the insurers “did not bargain for the inclusion of any Claim that has ‘any fact in common’ with the [2012-14 Letters] or any Claim involving an SEC office.” Key differences existed between the claims, including the type of investigation, the investigation time periods, the regulations allegedly violated, the type of conduct alleged, and the nature of the relief sought. Those differences led the Court to conclude that the exclusions did not apply. The Superior Court also denied the insurers’ request for discovery, noting that “the Court takes no issue with the timing of [OCC’s] motion.” The policy terms were unambiguous, and discovery beyond the pleadings was unnecessary to the analysis. Thus, the court granted partial summary judgment in favor of OCC on the applicability of the exclusions.
Jarden, LLC v. ACE Am. Ins. Co., 2021 WL 3280495 (Del. Super. Ct. July 30, 2021), aff’d, 273 A.3d 752 (Del. 2022). The Delaware Superior Court’s Complex Commercial Litigation Division granted the insurers’ motion to dismiss, finding that an appraisal proceeding did not constitute a claim “for a Wrongful Act” as required by the D&O policies.
After the insured underwent a merger, several stockholders who voted against the merger filed appraisal petitions in the Delaware Court of Chancery under 8 Del. C. § 262, requesting that the Court of Chancery determine the fair value of the company’s shares at the time of the merger (the “Appraisal Action”). After trial, the Court of Chancery ordered the insured to pay a judgment of $177,406,216.48, consisting of the fair value of the petitioners’ shares plus interest. The insured then filed a complaint in the Superior Court seeking insurance coverage for the interest award and defense costs that it incurred in the Appraisal Action. In its original complaint, the insured claimed the Appraisal Action was a “Securities Claim” under the D&O Policies, relying in part on the Superior Court’s decision in Solera Holdings, Inc. v. XL Specialty Insurance Co. (“Solera I”), which at that time was on appeal to the Delaware Supreme Court. The parties moved to stay the proceedings pending resolution of the Solera I appeal.
Thereafter, the Delaware Supreme Court reversed Solera I, holding that an appraisal action was not “for a violation of law” and therefore did not fit the definition of a “securities claim” under the policy at issue in that case (“Solera II”). After Solera II was resolved, the insured filed an Amended Complaint in this action, which included claims for declaratory judgment and breach of contract relating to the insurers’ refusal to cover the defense costs and interest award incurred in the Appraisal Action. The insurers moved to dismiss the Amended Complaint, arguing that although the Appraisal Action was a “securities claim,” it was not made “for a Wrongful Act.”
First, the Superior Court accepted the position advocated by the insurers, and which the insured did not squarely dispute, that the D&O policies’ requirement that a claim be made “for” a “Wrongful Act” meant that it must “seek redress in response to, or as requital of,” that act. The Superior Court reasoned that this conclusion is the logical extension of the Supreme Court’s decision in Solera II because an appraisal claim purely is a creature of statute and does not involve any inquiry into claims of wrongdoing. Instead, an appraisal proceeding is “neutral in nature” and requires the Court of the Chancery to determine the fair value of the dissenting stockholder’s shares. Accordingly, the Superior Court concluded that an appraisal action is a statutory proceeding that does not seek redress in response to any corporate act. Finally, the Superior Court held that even if the Appraisal Action was a claim “for a Wrongful Act,” it did not arise out of an act committed before the Run-Off Date. The Superior Court reasoned as to appraisal actions, the act at issue is the merger’s effectuation, which did not occur before the Run-Off Date.
Liberty Insurance Underwriters, Inc. v. Cocrystal Pharma, Inc., 2022 WL 1624363 (D. Del. May 23, 2022). The United States District Court for the District of Delaware granted plaintiff-insurer’s request for a declaratory judgment and held that the defendant-insured’s insurance policy did not provide coverage for an SEC investigation or action, or derivative actions, and that the insurer did not engage in bad faith conduct when denying insured’s claim for coverage.
The insured, Cocrystal Pharma Inc., was formed in 2014 following a reverse merger of Biozone Pharmaceuticals, Inc. and Cocrystal Discovery, Inc. The insurers sold the insureds an insurance policy in 2015. In the policy, Cocrystal Pharma Inc. was the insured organization and Cocrystal’s directors and officers were the insured persons. The insured’s policy provided coverage for claims arising from the wrongful acts of the insured’s directors and officers. “Wrongful Act” was defined as “any actual or alleged error, misstatement, misleading statement, act, omission, neglect, or breach of duty, actually or alleged[ly] committed or attempted by the Insured Persons in their capacities as such . . . .” The policy provided that, in the event the insurer advanced defense costs and later litigation determined that any such costs were not covered by the policy, the insureds agreed to repay the insurer the amount that was not covered.
After the SEC initiated investigation of the insured, the insured provided notice to the insurer who ultimately agreed to reimburse the insured for expenses incurred in the investigation. The SEC subsequently filed suit against the insured alleging violation of the Securities and Exchange acts of 1933 and 1934. The insured made a claim against its policy based on this action, which the insurer denied asserting that the allegations in the SEC’s complaint occurred in 2013, prior to the policy’s start date. For this reason, the insurers also advised that it was seeking a recoupment of the advanced defense costs related to the investigation of the litigation.
The court found that the policy did not provide coverage for the SEC investigation or action because the conduct alleged in the SEC’s complaint did not constitute a wrongful act. The SEC alleged that the directors and officers engaged in conduct that occurred before Cocrystal Pharma Inc. was formed, when they were the directors and officers of Biozone. The court ordered the insured to repay its defense costs because the policy did not cover the wrongful conduct that the SEC had investigated. The insurer did not waive the right to recoup these funds by electing to not issue an updated reservation of rights letter because, under Delaware law, “the doctrine of waiver does not operate to expand or create coverage that the Parties did not negotiate and for which the Policy does not provide.”
The court also found that the policy did not cover derivative actions filed by the insured’s shareholders, which alleged violations of the Exchange Act, because these claims were not made until after the policy expired. As the conduct in the SEC litigation did not qualify as a wrongful act, the derivative actions also did not fall under the policy’s relation-back provision because there was nothing to which the derivative actions could relate back.
CVR Refining, LP, v. XL Specialty Insurance Co., 2021 WL 5492671 (Del. Super. Nov. 23, 2021). The Delaware Superior Court’ Complex Commercial Litigation Division granted the insured’s motion for partial summary judgment that alleged the insurer anticipatorily breached the insurance policy by denying coverage for defense costs associated with two putative class action lawsuits. The class actions contended that the insured improperly used a call right in the limited partnership agreement to buy out its public common unit holders and that CVR Refining manipulated the price of its stock to enable CVR Energy to call common units at an artificially depressed price. The insurer had indicated that it would not cover defense costs related to pending litigation against insured.
The section of the insurance policy relevant to the underlying claim, Endorsement No. 23, provided for a $2.5 million retention limit “with respect to any Claim . . . involving any: (a) acquisition, assumption, merger, consolidation or otherwise of any entity, asset, Subsidiary or liability described in Section VI General Conditions (D)(1) and (2). . . .” Section VI General Conditions (D)(1) and (2) covered any loss involving a claim for a Wrongful Act occurring after the acquisition of “any entity by merger, consolidation or otherwise such that the entity become a Subsidiary[,]” including acquisitions where the insured acquired assets or liabilities exceeding 40% of the insured’s total assets or liabilities.
The court found that that this section of the policy was unambiguous and that the purpose was to increase the deductible where the insured’s increased risk by acquiring entities, assets, or liabilities. The court held that the increase in retention required by Endorsement No. 23 did not apply to the underlying claims because they challenged a transaction that did not involve acquisition of a subsidiary or a buyback where assets or liabilities were acquired. The insured, therefore, was entitled to summary judgment that the insurer was obligated advance defense costs.
§ 1.6. Other Coverage Issues
J.P. Morgan Securities, Inc. v. Vigilant Insurance Company, 37 N.Y.3d 552 (2021). The New York Court of Appeals held that the insured’s disgorgement of funds as part of a settlement with the SEC was not excluded from insurance coverage as a “penalty imposed by law” under the insured’s insurance policy. The policy provided coverage for “loss” as a result of any claim that insured became liable to pay for “any civil proceeding or governmental investigation—for any wrongful act, which encompassed any actual or alleged act, error, omission, misstatement, neglect, or breach of duty. . . .” “Loss” included compensatory and punitive damages and excluded “fines or penalties imposed by law.” The SEC investigated and commenced an action against the insured which resolved in a settlement whereby the insured agreed to a disgorgement and civil money penalties, the latter of which it was required to treat as a penalty for tax purposes. The administrative settlement order stated the insured “facilitated late trading” and the “deceptive market timing activity” of certain clients.
The court found that a reasonable insured purchasing the policy at the time this policy was purchased would have understood the phrase “penalties imposed by law” to include coverage for the disgorgement payment. The court found that “penalty” was commonly understood to mean a monetary sanction exceeding actual damages that is designed to address a public wrong and aimed at deterrence and punishment. The court reasoned that “where a sanction has both compensatory and punitive components, it should not be characterized as punitive in the context of interpreting insurance policies.” The court found there was no genuine issue of material fact that the disgorgement payment served a compensatory goal and was estimated from the insured’s customers’ gains and the corresponding injury suffered by investors. The court further reasoned that when the insured purchased the policy, the SEC itself viewed disgorgement payments as an equitable remedy rather than a monetary penalty. The court reasoned that Kokesh v. SEC, 581 U.S. 455 (2017) did not control the disposition of this case because the meaning of “penalty” varies between contexts and the Supreme Court in that case was not interpreting the term “penalty” in an insurance contract. Moreover, Kokesh could not have informed the parties’ understanding of the meaning of this term because it was decided two decades after the parties executed the policy.
CUMIS Specialty Ins. Co., Inc. v. Kaufman, 2022 WL 10640903 (S.D.N.Y 2022). The United States District Court for the Southern District of New York denied the former Melrose Credit Union CEO’s, Alan Kaufman, motion to reconsider its ruling that CUMIS Specialty Insurance Company was not obligated to cover Kaufman’s legal costs in appealing his bribery conviction. The court held further that CUMIS is entitled further to recoup Kaufman’s post-sentencing expenses that the insurance company already paid.
After being convicted of bribery, Kaufman sought to appeal his conviction and requested an advancement of legal fees from CUMIS. CUMIS argued that legal fees for the appeal of Kaufman’s felony conviction were excluded under the policy’s dishonest or willful acts exclusion and remuneration exclusion. The court held that “New York law considers a criminal trial to be finally adjudicated upon conviction, and therefore held that the policy’s exclusions precluded coverage of Kaufman’s appeal costs.” Thus, Kaufman’s conviction constituted a final adjudication, releasing CUMIS from its obligation to pay Kaufman’s legal fees post-sentencing, including his appeal.
Infinity Q Capital Mgmt., LLC v. Travelers Casualty and Surety Co., 2022 WL 3902803 (Del. Super. Aug. 15, 2022). The Superior Court of Delaware’s Complex Commercial Litigation Division held that there was no genuine issue of fact as to whether warranty letters provided to insurers barred coverage and that the insurers were entitled to judgment as a matter of law. Upon procuring excess insurance coverage, Infinity Q provided the insurers with warranty letters representing that Infinity Q did not have “any knowledge or information of any act, error, omission, fact or circumstance that may give rise to a claim under the proposed insurance,” and that “any claim for, based upon, arising from, or in any way related to any act, error, omission, fact or circumstance of which any such person or entity has any knowledge or information shall be excluded from coverage under the proposed insurance.”
At the time, the Court found, Infinity Q executives were aware of an ongoing SEC investigation but did not disclose it to the insurers. Thus, the clear and unambiguous language of the prior knowledge exclusion in the warranty letters precluded defense and indemnity coverage for investigations, enforcements actions, and litigation arising out of the SEC’s inquiry into Infinity Q.
Seyfarth Shaw LLP Suite 1400 700 Milam Street Houston, TX 77002 (713) 238-1859 [email protected]
Patrick T. Muffo
Seyfarth Shaw LLP Suite 8000 233 S. Wacker Drive Chicago, IL 60606 (312) 460-35579 [email protected]
Avrohom Colev Posen
Seyfarth Shaw LLP 620 8th Avenue 32nd Floor New York, NY 10018 (212) 218-4649 [email protected]
§ 1.1. Introduction
As in past years, laws and regulations relating to cannabis and the cannabis industry are evolving at a dizzying pace. In order to put current developments in context, it is important to understand the current state of the law regarding marijuana.
The starting point is the Controlled Substances Act, 21 U.S.C. § 801 et. seq. (“CSA”), passed in 1970 to regulate the manufacture, use, and distribution of certain controlled substances for medical, scientific and industrial purposes and to prevent these substances from being used for illegal purposes. The CSA classified various drugs and chemicals into five categories, or schedules. Marijuana, along with heroin, cocaine, LSD and other substances, was placed on the most restrictive schedule, Schedule 1. The CSA prohibits the manufacture, distribution, sale possession or use of marijuana. Also, the CSA operates to prohibit the transportation of marijuana across state lines, even between states that have passed laws legalizing marijuana, as well as international borders.
Despite the existence of the CSA, as of today, thirty-nine states plus the District of Columbia, Guam, Puerto Rico and the U.S. Virgin Islands have laws legalizing marijuana for medical use, and twenty-one of those states, plus D.C. and Guam a have legalized marijuana for recreational use, as well. Legislation to legalize marijuana is currently expected to work its way through other state legislatures. Since the CSA is the law of the land, the question remains as to how states can “legalize” marijuana consistent with the preemption doctrine.
The laws relating to marijuana and hemp became very complicated at the end of 2018, with the passage of the Agricultural Improvement Act of 2018, the Farm Bill. It is important to understand that both hemp and marijuana come from the same species of plant, Cannabis sativa L., and both were included in the definition of marijuana in the CSA. Both marijuana and hemp contain a number of chemical compounds, the two most known of which are THC (the psychoactive compound) and CBD. The legal difference is that hemp contains less than 3% THC. Part of the confusion revolves around the other chemical compound, CBD, which is extremely popular and ubiquitous in the market place. CBD comes from both hemp and marijuana. Further complicating the situation is that there is no standard for measuring THC content in a cannabis plant, so what might be classified as hemp by one state might be classified as marijuana by a different state.
While hemp is technically legal under federal law, the Food and Drug Administration maintains jurisdiction over hemp (and therefore CBD) to the extent it is marketed as a food or dietary supplement or as a drug. Also, the state statutory and regulatory framework for hemp and CBD derived from hemp remains very confusing and is rapidly evolving.
This section will focus on recent case law developments in cannabis.
§ 1.2. Contracts
Praetorian Global Inc. v. Eel River Organics LLC, A164245 (Court of Appeal of the State of California, First Appellate District)
Date: October 10, 2022
Facts: In January 2019, the parties entered a contract under which Plaintiff licensed portions of its intellectual property to Defendant. In exchange, Defendant was to pay a monthly royalty, with a minimum total of $1 million due for the first year and $2 million due for the second year. The contract contained an arbitration clause under which the parties agreed to submit disputes to binding arbitration in Colorado. After Defendant failed to pay over $2 million owed under the contract, Plaintiff filed a demand for arbitration seeking damages for breach of contract. In August 2021, the arbitrator found for Plaintiff and rejected Defendant’s claim that the contract was illegal under former California Code of Regulations title 16, division 42, section 5032 (former section 5032), which prohibited entities licensed to conduct commercial cannabis activity from conducting such activity “on behalf of, at the request of, or pursuant to a contract with” an unlicensed entity. After the arbitrator entered the final award, Plaintiff filed a petition to confirm the award in the trial court. Defendant opposed on the ground that the arbitrator exceeded her powers by issuing an award enforcing an illegal contract. The court granted the petition in a summary order. A judgment confirming the award was entered on October 13, 2021.
Held: Affirmed.
Reasoning: The Court of Appeals of California, First District, Division One upheld the decision confirming the arbitration award even if the contract violated former section 5032. The Court concluded that the contract was enforceable because: (i) even if the contract was illegal, it was not void, because the statutory scheme does not contemplate unenforceability as a penalty; (ii) Defendant, as a cannabis business, not a consumer or member of the public, is not part of the group primarily in need of protection; and (iii) Defendant is the party more at fault and would be unjustly enriched if the contract was not enforced.
Brewfab LLC v. George Russo, 22-11003 (U.S. Court of Appeals for the Eleventh Circuit)
Date: October 13, 2022
Facts: Defendant appealed from the district court’s order granting summary judgment in favor of Plaintiff. In 2018, 3 Delta, Inc. (Delta) hired Plaintiff to build a machine for extracting cannabidiol oil. Delta and Plaintiff did not have a written contract. Instead, Delta and Plaintiff proceeded under an oral agreement whereby Plaintiff sent Delta invoices for the work it performed, and Delta paid those invoices. In December 2019, Delta stopped paying Plaintiff’s invoices. In turn, Plaintiff stopped shipping equipment to Delta and stopped working on the extraction machine. On January 30, 2020, Defendant, the president of Delta, had a conference call with Plaintiff’s owners to discuss the outstanding invoices and the work stoppage. After the conference call, Defendant sent the following text message to Rick Cureton, one of Plaintiff’s owners: “As per our conversation on Jan 30th 2020 I George Russo from 3 Delta do promise to pay brew fab in full all outstanding bills as of this date and all agreed upon work done for 3 delta future forward. I thank you for your patience.” Thereafter, Plaintiff resumed work and shipped additional equipment to Delta. But neither Delta nor Defendant paid the past due invoices and, on February 12, 2020, Delta instructed Plaintiff to stop all work. In August 2020, Plaintiff filed suit to recover the unpaid invoices and, among other claims, asserted claims against Defendant for breach of his personal guaranty—i.e., the text message. Defendant asserted that his text message was not a personal guaranty and that he sent the text message in his capacity as an officer of Delta. Defendant also asserted that the text message did not satisfy Florida’s statute of frauds and that it was not supported by consideration. The district court held that Defendant’s text message was a personal guaranty because its plain language acknowledged that “Defendant would personally finance Delta’s past and future invoices.” The district court further held that Defendant’s text message was an unambiguous and enforceable personal guaranty that satisfied Florida’s statute of frauds because: (1) the language “I george Defendant from 3 Delta” was an electronic signature under Florida law; (2) that language indicated that Defendant signed the text message in his personal capacity; and (3) the text message was supported by consideration, i.e., “Plaintiff’s voluntary return to work and delivery of equipment.”
Held: Affirmed.
Reasoning: The Court determined that: (i) the language of the text message was unambiguous; (ii) the language “I george Russo from 3 Delta” did not contain any descriptio personae for Defendant, and merely identified Defendant as an individual generally affiliated with Delta and not as an officer; (iii) the language “I george Russo from 3 Delta” constitutes an electronic signature under Florida law; and (iv) Defendant’s promise was a unilateral contract that covered future indebtedness for future work because Defendant’s promise became a binding guaranty agreement when Plaintiff accepted Defendant’s promise by resuming work and sending Delta additional equipment, after Defendant sent the text message.
§ 1.3. Insurance
Kinsale Ins. Co. v. JDBC Holdings, 3:20-cv-00008 (U.S. District Court for the Northern District of West Virginia)
Date: November 29, 2022
Facts: On October 31, 2019, a fire occurred at Defendant’s facility. On January 13, 2020, Plaintiff filed a civil action against defendant for rescission and declaratory relief. On October 28, 2022, a jury awarded Defendant $6,450,000.00, plus prejudgment interest for its insurance contract claim under the policy. Defendant then moved for the Court to declare that it substantially prevailed against Plaintiff, thereby entitling it to recover reasonable attorneys’ fees and costs.
Held: Defendant’s Motion for Judgment as a Matter of Law that it substantially prevailed was granted.
Reasoning: Defendant substantially prevailed because: (i) the Court previously ruled on summary judgment that Plaintiff had a duty to accept and pay the underlying insurance claim; and (ii) Plaintiff offered Defendant nothing on its claim prior to filing suit, and Defendant ultimately recovered the approximate amount demanded by Defendant prior to Plaintiff’s initiation of suit. The Court cited Thomas v. State Farm Auto. Ins. Co., 181 W.Va. 604, 383 S.E.2d 786 (1989), stating “[a]n insured ‘substantially prevails’…against his or her insurer when the action is settled for an amount equal to or approximating the amount claimed by the insured immediately prior to commencement of the action, as well as when the action is concluded by a jury verdict for such an amount.”
Admiral Insurance Company v. Just Brands LLC, 0:22-cv-60550-AHS (U.S. District Court for the Southern District of Florida)
Date: October 27, 2022
Facts: Erin Gilbert alleged she sustained serious and life-threatening injuries by using an e-cigarette manufactured, marketed, or distributed by Defendant. Defendant demanded a defense to the claim by its insurer (Plaintiff). Plaintiff filed suit arguing that the claim was barred by Defendant’s insurance policy.
Held: Joint stipulation filed in the Southern District of Florida dismissing the suit with prejudice.
Reasoning: No details about the settlement were provided, but Plaintiff was defending Defendant “subject to a reservation of rights.” Plaintiff stated in the Complaint that it was “uncertain of its rights and obligations under the policy,” and had asked the Court to issue a Declaration of Rights under the policy. Before the Court could issue such a Declaration, the parties settled.
§ 1.4. Real Estate
§ 1.4.1. Access to Leased Cannabis Property
Yan Hong Zeng v. Casimir-Shelton, LLC, No. 56396-7-II (Wash. Ct. App. Oct. 18, 2022)
Facts: Appellant, Casimir-Shelton, LLC (“Casimir”), appealed the trial court’s grant of summary judgment and order of specific performance of a purchase and sale agreement (“PSA”) in favor of Respondent, Yan Hong Zeng (“Zeng”).
Casimir owns a property in Shelton, Washington, which was leased to CM1, LLC (“CM1”) for use as a cannabis production facility. The lease included a provision stating that Casimir may not enter the premises without notice and escort by CM1 or their employee or agent at any time. In November 2020, Casimir entered into a PSA to sell the property to Zeng. The PSA included a feasibility contingency which allowed Zeng to conduct inspections of the property and required Casimir to permit access to the property “at reasonable times subject to the rights of and after legal notice to tenants.” On December 7, a few days before the feasibility period expired, Zeng’s broker requested access to the property for an inspection on December 9, but was told that the tenant, CM1, was not available until December 19. Zeng’s broker asked about extending the feasibility period, but Casimir refused unless some of the earnest money would become non-refundable or if additional earnest money was provided. Zeng refused and the feasibility period expired without waiver of the contingency by Zeng. Accordingly, the PSA terminated by its terms. Zeng filed a lawsuit against Casimir for specific performance of the PSA. The trial court granted Zeng’s motion for summary judgment and ordered specific performance of the PSA.
Held: Court of Appeals of Washington, Division 2, affirmed the trial court’s order granting summary judgment and specific performance in favor of Zeng and the award of Zeng’s attorney fees.
Reasoning: According to the PSA, Casimir was required to allow Zeng to inspect the property, as long as the rights of the tenant were respected. However, CM1 did not have the right under the lease to specify that only Cheung could serve as the escort for inspections or to require more than four days’ notice before allowing access. Therefore, Casimir should have ensured that CM1 allowed entry for the inspection during the feasibility period, even if Cheung was not available. Casimir’s failure to do so constituted a breach of the PSA.
§ 1.4.2. Breach of Contract and Fraud
1240 S. Bannock, LLC., v. Dennis Siem, et al., Case No. 2:21-cv-00183 (W.D. Mich. May 27, 2022)
Facts: The United States District Court, W.D. Michigan, Northern Division, addressed two motions to dismiss that were filed by defendants in a lawsuit brought by 1240 S. Bannock LLC (“Bannock”) against defendants Coldwell Banker Real Estate Group, Coldwell real estate agent Dennis Siem, and property owners Donald J. Nerat and Steven A. Nerat. Bannock’s amended complaint alleges claims of breach of contract (Count 1), fraud and silent fraud (Count 2) against the Nerats, and a claim of fraud and silent fraud (Count 3) against Siem and Coldwell.
The dispute arises from Bannock’s offer to purchase a strip mall located in Menominee, Michigan, which was owned by the Nerats. Bannock January 2021 written offer included an expiration date for acceptance, and the Nerats only accepted the offer several days after the expiration date, after which Bannock make an earnest money deposit and began inspecting the property However, in March 2021, the Nerats agreed to sell the property to another buyer without disclosing the latter agreement to Bannock. Subsequently, Bannock and the Nerats executed an amendment to the original purchase contract in April 2021, which made the sale and purchase of the property contingent on a third-party business first obtaining a retail marijuana license to operate a marijuana establishment at the property and to extend the closing date to July 1, 2021. Then, when preparing for closing, Bannock was informed that the Nerats had already sold the property to the third-party purchaser.
Held: The Court granted the defendants’ motions to dismiss because the plaintiff’s factual allegations fail to state a claim upon which relief may be granted as a matter of law.
Reasoning: The Court concluded that Bannock’s claims against the defendants failed to state a claim upon which relief could be granted under Federal Law because (i) the initial proposed agreement had expired prior to acceptance, and (ii) the subsequent amendment to the agreement was premised on a contingency that is illegal under federal law and, therefore, unenforceable.
§ 1.4.3. Leasing
Prime Care, Inc. v. Nguyen Phat Real Estate Inv., No. B304910 (Cal. Ct. App. Jan. 19, 2022)
Facts: In January 2019, the plaintiff, as tenant, entered into a commercial lease with the defendant, Nguyen Phat, as landlord, for an industrial building in Montebello, California, which stated that the premises would be used for “commercial cannabis distribution, manufacturing, cultivation, and retail delivery in accordance with all state and local licenses and laws.” The lease provided that the tenant was responsible for determining the suitability of the premises for their intended use and had been advised to satisfy themselves with respect to the size, condition, and compliance with applicable requirements of the premises. The lease also stated that the plaintiff had made the necessary investigations and assumed responsibility for their use of the premises. The tenant paid $150,000 to landlord after signing the lease, which included a deposit, advance rent, and other charges. However, before the tenant began operations, the City of Montebello determined that the property was not suitable for cannabis distribution due to its proximity to a residential area.
In this case, the tenant filed a complaint alleging five causes of action against the defendants, Nguyen Phat and Sam Ho (who was landlord’s manager): (i) negligence, (ii) fraud, (iii) negligent misrepresentation, (iv) rescission based on fraud, and (v) rescission based on unilateral mistake. The defendants demurred to the complaint, arguing that the plaintiff had assumed responsibility for determining the suitability of the premises for their intended use under the express terms of the lease and therefore could not prove negligence or any of the other claims. The trial court sustained the demurrer to the first cause of action for negligence and the remaining four causes of action with leave to amend. The plaintiff then filed an amended complaint, including its original negligence claim, as well as amended claims for fraud and negligent misrepresentation. The defendants again demurred, arguing that the amended complaint still did not sufficiently allege the necessary elements for these claims. The trial court sustained the demurrer without leave to amend and entered judgment of dismissal in favor of the defendants. The plaintiff appealed.
Held: The Court of Appeal, Second District, Division 5, affirmed the decisions of the trial court, with costs for the defendants.
Reasoning: In connection with the plaintiff’s claim for negligence (the first cause of action arguing that plaintiff’s argument that the defendants owed them a general duty of care, which was breached through their listing, advertising, leasing, and representations about the property), the Court found that the allocation of duties in the written agreement between the parties clearly stated that the plaintiff was responsible for determining the suitability of the property for their intended use and that the defendants had no such duty. Further, the Court found, with respect to the second and third causes of action, that the plaintiff did not adequately allege that they relied on the defendants’ false statements in order to establish their claims for fraud and negligent misrepresentation. Finally, in connection with the trial court’s denial of the plaintiff’s request for leave to amend actions one through four, the plaintiff failed to provide an explanation of how they would amend their allegations to adequately allege each element of their causes of action, and therefore did not demonstrate that an amendment would cure the defective pleadings. As a result, the Court upheld the trial court’s decision to sustain the demurrers to the plaintiff’s negligence claim.
§ 1.5. State Law
Northeast Patients Group et al. v. United Cannabis Patients and Caregivers of Maine, and Northeast Patients Group dba Wellness Connection of Maine et al. v. Kirsten Figueroa et al., case numbers 21-1719 and 21-1759 (1st Cir.)
Date: August 17, 2022
Facts: Northeast Patients Group is a corporation wholly owned by three Maine residents and that owns and operates three of Maine’s seven licensed dispensaries as a for-profit corporation. High Street Capital is a Delaware corporation that is owned exclusively by non-Maine residents and that wanted to acquire Northeast Patients Group. If the deal between the two companies proceeded, then the resulting company would violate the Maine Medical Marijuana Act’s residency requirement, because the “officers or directors” of that new company would not be only Maine residents. The Court struck down Maryland’s residency requirement for cannabis business owners, saying it was a clear violation of the constitutional doctrine that limits states’ power over interstate commerce.
Held: Affirmed.
Reasoning: The Court rejected Defendant’s argument that the residency requirement does not run afoul of the dormant Commerce Clause because “it is impossible for there to be an interstate market in any good that, under federal law, is contraband throughout the country.” The Court noted that Maine’s prohibition “reflects the reality that the market continues to operate,” and that, “the market is so robust that, absent the Medical Marijuana Act’s residency requirement, it would be likely to attract entrants far and wide.” The Court also pointed to Congress’s enactment of the Rohrabacher-Farr Amendment (which prohibits the U.S. Department of Justice from targeting companies that are acting in accordance with state cannabis regulations) stating that the amendment “hardly reflects a congressional understanding that the Controlled Substances Act succeeded in eradicating the interstate market in medical marijuana.” The Court goes on to add, “…whatever the circumstances may be with respect to other goods that Congress has deemed contraband, this is not a case in which Congress may be understood to have criminalized a national market with no expectation that an interstate market would continue to operate. Quite the opposite. Congress has taken affirmative steps to thwart efforts by federal law enforcement to shut down that very market, through the annual enactment of the Rohrabacher-Farr Amendment. And it has taken those steps, presumably, with an awareness of the beneficial consequences that those steps will have for consumers who seek to obtain medical marijuana.”
Variscite Inc. et al. v. City of Los Angeles et al., 2:22-cv-08685, (U.S. District Court for the Central District of California)
Date: December 8, 2022
Facts: Los Angeles created a licensing program for commercial cannabis related businesses that includes a social equity component, referred to as the “Social Equity Program.” Pursuant to the Social Equity Program, the storefront retail, delivery, and cultivation application processes are exclusively available until January 1, 2025, to individuals who have been verified by Los Angeles as a Social Equity Individual Applicant (“SEIA”). To be verified as a SEIA, an individual must submit evidence of two of the following three criteria: (a) a qualifying California cannabis arrest or conviction prior to November 8, 2016; and (b)(1) 10 years of residency in a disproportionately impacted area, or (b)(2) low income in the 2020 or 2021 calendar year. Plaintiff lived in Michigan and applied to be verified as a SEIA for the Lottery. Plaintiff’s application was ultimately rejected for failing to satisfy any of the verification criteria.
Held: Application for Temporary Restraining Order denied.
Reasoning: Plaintiff could not show how allowing the lottery to go ahead as planned would irreparably harm them. The Court noted that “Plaintiffs’ argument that they will suffer irreparable harm are based on their speculation that they would be able to successfully enter the commercial retail cannabis market, establish a loyal customer base, and make a profit…Plaintiffs’ monetary losses associated with the challenged provisions are purely speculative and insufficient to demonstrate irreparable harm.”
§ 1.6. Trademarks
§ 1.6.1. Trademark Protection for Delta-8 Marks
AK Futures LLC v. Boyd Street Distro, LLC, 35 F.4th 682 (9th Cir. 2022)
Facts: Appellant, Boyd Street Distro, LLC (“Boyd Street”), appealed the district court’s grant of a preliminary injunction in favor of Appellee, AK Futures, LLC (“AK Futures”).
AK manufactures the CAKE brand of e-cigarette and vaping products, including Delta-9 cannabis products. Boyd Street sold CAKE unauthorized products with virtually identical logos and branding at its downtown Los Angeles retail store. AK Futures hired a private investigator who purchased the counterfeit products and confirmed they were not authentic.
Boyd Street alleges it received a first batch of CAKE products from an unidentified “someone” selling the goods on consignment, and a second batch from an unidentified person holding himself out to be an authorized distributor of CAKE products.
Held: The Ninth Circuit Court of Appeals affirmed the district court’s order granting a preliminary injunction.
Reasoning: The Ninth Circuit reviewed the district court’s preliminary injunction analysis and agreed AK Futures was likely to succeed on the merits and had suffered irreparable harm. Boyd Street relied heavily on its argument that AK Futures could not own valid rights to its marks because AK Futures was not using the marks lawfully in commerce through its sale of Delta-8 products. AK Futures asserted its Delta-8 products were lawfully sold because the 2018 Agriculture Improvement Act (the “Farm Act”) legalized Delta-8. The Ninth Circuit ultimately sided with AK Futures and agreed the Farm Bill legalized Delta-8 products.
The Ninth Circuit focused extensively on the text of the Farm Bill including its definition of “Hemp.” This definition removed from schedule I and therefore legalized “the plant Cannabis Sativa L…with a delta-9 [THC] concentration of not more than 0.3 percent on a dry weight basis.” The Ninth Circuit noted AK Futures’ Delta-8 products included less than 0.3 percent THC and were therefore lawfully sold according to the Farm Act. Because the products were lawfully sold, AK Futures owned common law trademark rights in the marks used with the products and those rights were infringed by Boyd Street’s counterfeit sales of CAKE-branded products.
Connect with a global network of over 30,000 business law professionals
