FTC Challenge to Patent-Settlement Tactics Transferred to Federal Court in Pennsylvania

This posting was written by Jeffrey May, Editor of CCH Trade Regulation Reporter.

A closely-watched Federal Trade Commisison (FTC) case against Cephalon, Inc.—the manufacturer of the prescription wakefulness drug Provigil—for impeding the entry of generic substitutes through patent settlement arrangements has been transferred from the federal district court in Washington, D.C. to the federal district court in the Eastern District of Pennsylvania. Cephalon had requested the transfer to the federal court in Pennsylvania, where putative class actions alleging antitrust claims against the company are pending.

The FTC filed the case in the federal district court in Washington, D.C. in February, challenging Cephalon’s patent settlement agreements with four drug manufacturers that each planned to sell a generic version of Provigil. Cephalon purportedly paid the firms to refrain from selling generic Provigil until 2012.

The agency contended that the conduct denied patients access to lower-cost, generic versions of Provigil and forced consumers and other purchasers to pay hundreds of millions of dollars a year more for Provigil.

Pay-for-Delay Settlement Tactics

The FTC contended that the conduct involved "pay-for-delay" settlement tactics that threatened the Hatch-Waxman statute, which was designed to encourage the speedy introduction of generics. The agency has targeted these types of agreements before; however, two recent federal appellate court decisions have rejected antitrust challenges to a patent holder’s compensation to a generic rival.

FTC Grounds for Opposing Transfer

The FTC opposed transfer on three grounds: (1) that Cephalon failed to make an adequate case for transfer; (2) that the United States was entitled to deference in choosing its forum for antitrust actions; and (3) that transfer to the Eastern District of Pennsylvania would unduly delay the government’s prosecution of the case to the detriment of consumers nationwide.

First, the court addressed the “threshold question”: whether the FTC could have brought this case in the Eastern District of Pennsylvania. Cephalon both resided and transacted business there. Moreover, the operative settlement agreements were all negotiated from that location. Thus the bulk of the events giving rise to this claim occurred within the Eastern District of Pennsylvania, the court decided.

Deference for FTC Choice of Forum

While the FTC’s choice of venue was entitled to heightened respect, there were no meaningful ties between the District of Columbia and the events or parties that gave rise to the action. Therefore, the FTC’s selection of the District of Columbia as its chosen forum was not entitled to substantial deference. The convenience of the parties and witnesses tipped slightly in favor of Cephalon, in the court’s view.

Risk of Inconsistent Judgments

The interest of justice also dictated that transfer was appropriate to avoid subjecting Cephalon to the risk of inconsistent judgments. Absent transfer to the Eastern District of Pennsylvania, Cephalon would have been forced simultaneously to litigate two cases in two different courts arising out of precisely the same conduct.

The court suggested that the FTC might have an interest in inconsistent judgments. Cephalon had argued that the Commission was “openly shopping for a circuit split on the issue of reverse-payment Hatch-Waxman settlements.” Whatever legitimate interest the FTC may have in achieving a circuit split and getting the issue before the U.S. Supreme Court, the court refused to subject one defendant to the burden of inconsistent judgments based on the same events.

The April 28, 2008, decision in FTC v. Cephalon, Inc., Civil Action No. 08-0244 (JDB), will appear in CCH Trade Cases.

FTC Final Order Requires ENH to Conduct Separate Negotiations with MCOs

This posting was written by Jeffrey May, Editor of CCH Trade Regulation Reporter.

The Federal Trade Commission has issued an order providing rules for how Evanston Northwestern Healthcare Corporation (ENH)—an operator of hospitals in Chicago North Shore suburbs—must negotiate with health insurance companies or managed care organizations. The order comes in light of the Commission’s 2007 determination that ENH’s acquisition of Highland Park Hospital in 2000 violated antitrust laws.

Last year, after determining that the acquisition was anticompetitive, the FTC decided not to require divestiture of Highland Park Hospital—the preferred remedy for an anticompetitive acquisition. Instead, the Commission determined that “in light of unique circumstances” a more appropriate remedy would be to require ENH to establish separate and independent negotiating teams—one for Evanston and Glenbrook Hospitals and another for Highland Park Hospital.

Attorneys for the FTC and ENH offered proposed remedial orders. On April 28, the Commission released its final order, saying that it was attempting to “replicate the competitive conditions that existed prior to ENH’s 2000 acquisition of Highland Park as much as possible, short of divestiture.”

Scope of the Order

In deciding the impact of the consummated merger on competition, the Commission had focused on the market for acute inpatient hospital services. ENH unsuccessfully argued that, based on the Commission’s analysis of competition, the scope of the order should be limited to managed care contracts for inpatient services and exclude contracts for outpatient services.

Noting its broad discretion in fashioning remedies for anticompetitive conduct, the Commission held that payors must be able to negotiate separately with the ENH teams for all hospital services, not just inpatient services. In justifying the scope of the order, the FTC also pointed to the fact that payors usually make contracting decisions based on the price of the entire set of hospital services and do not contract separately for inpatient and outpatient services. The Commission stated that “for payors, the option to negotiate separately with Highland Park solely for inpatient services would be of dubious value.”

When contacted by a payor to negotiate a managed care contract, ENH must set up separate and independent negotiating teams. A payor can decide to contract jointly for both Highland Park and Evanston after notification by ENH of the Commission’s order. Payors have the option to re-open and re-negotiate current contracts.

The Commission excluded government payors, such as Medicare and Medicaid, from the scope of the order. It noted, however, that other governmental entities, such as a municipality procuring health care coverage for its employees as a self-insured entity, would be able to negotiate separately for all hospital services.

Firewall to Prevent Information Sharing

The Commission’s order calls for firewalls to minimize the risk that competitively sensitive information will be shared by the Evanston and Highland Park negotiating teams. Under the order, the Evanston and Highland Park negotiating teams are not permitted to engage in negotiations with payors who opt to negotiate jointly for hospital services at all three ENH hospitals. Thus, ENH can negotiate jointly for services at all three hospitals with payors who opt-out of separate negotiations, but the two teams used to negotiate for Evanston and Highland Park separately may not be involved in the joint negotiations.

Rejected was an ENH proposal that the ENH negotiating team would be responsible for the negotiations with Evanston when payors elected to negotiate for Evanston separate from Highland Park, and for negotiating all services at all ENH hospitals when payors opted to negotiate for all three ENH hospitals together.

Dispute Resolution Mechanism

The order requires the negotiating teams to negotiate with payors in good faith. When the hospitals and those negotiating with them cannot reach agreement, the dispute will be sent to mediation in accordance with the Commercial Mediation Rules of the American Arbitration Association (AAA). If the dispute cannot be settled by mediation, then it will be settled by binding arbitration in accordance with the AAA’s Commercial Arbitration Rules. The Commission will retain jurisdiction over violations or possible violations of the order.

The Commission’s order also requires ENH to give prior notification to the Commission for any future acquisitions of hospitals in the Chicago area. The order terminates in 20 years.

The Commission opinion and order regarding In the Matter of Evanston Northwestern Healthcare Corporation, FTC Dkt. 9315, will be reported in CCH Trade Cases.

Fruit Juice Snacks Packaging Could Deceive “Reasonable Consumer”

This posting was written by William Zale, Editor of CCH Advertising Law Guide.

Purchasers of Gerber “Fruit Juice Snacks” stated California statutory false advertising and unfair competition claims and could plausibly prove that a reasonable consumer would be deceived by the product's packaging, the U.S. Court of Appeals in San Francisco has ruled.

The federal district court in San Diego erred in concluding—without considering any evidence beyond the packaging—that the purchasers failed to state claims, according to the appellate court.

Use of “Fruit Juice,” Images of Fruit

The purchasers, who were parents of small children, brought a class action challenging the use of the words “Fruit Juice” juxtaposed alongside images of fruits such as oranges, peaches, strawberries, and cherries. The purchasers contended that this juxtaposition was deceptive because the product contained no fruit juice from any of the fruits pictured on the packaging and because the only juice contained in the product was white grape juice from concentrate.

The purchasers challenged a statement on the side panel of the packaging describing the product as made “with real fruit juice and other all natural ingredients,” even though the two most prominent ingredients were corn syrup and sugar. The purchasers also challenged another side panel statement, namely, that the product was “one of a variety of nutritious Gerber Graduates foods and juices.” The purchasers challenged Gerber’s decision to label the product a “snack” instead of a “candy,” “sweet,” or a “treat.” Finally, the purchasers alleged that the phrase “naturally flavored” did not comply with applicable type size requirements.

“Reasonable Consumer” Test

Claims under the California false advertising and unfair competition statutes were governed by a “reasonable consumer” test, the appellate court observed. Under that standard, the purchasers had to show that members of the public were likely to be deceived.

The lower court based its decision solely on its own review of an example of the packaging. While the primary evidence in a false advertising case is the advertising itself, California courts had recognized that whether a business practice was deceptive would usually be a question of fact not appropriate for decision without consideration and weighing of evidence from both sides, according to the appellate court.

The April 21, 2008 decision in Williams v. Gerber Products Co. will be reported at CCH Advertising Law Guide ¶62,925.

Airline Chiefs Cite Fuel Costs, International Competition as Major Reasons to Merge

This posting was written by Sarah Borchersen-Keto, CCH Washington Correspondent.

The chief executives of Delta Air Lines and Northwest Airlines, testifying before House and Senate Committees on April 24, cited the unprecedented rise in fuel costs and increased international competition as key factors behind their proposed merger. They also stressed that the proposed merger will not lead to any lessening of competition.

Delta CEO Richard H. Anderson told a Senate Judiciary subcommittee that the combined airline would be able to withstand an 80 percent greater increase in fuel prices than either airline standing alone, and still maintain profitability.

Fuel is “Game-Changer”

“This financial strength and flexibility, much greater than either airline standing alone, will provide additional resources to help weather this unprecedented fuel cost environment and a softening domestic market,” Anderson said. In a hearing earlier in the day before the House Judiciary Committee’s antitrust taskforce Anderson told lawmakers, “oil is a game-changer,” noting that oil prices have driven five carriers into bankruptcy since the start of the year.

Northwest CEO Douglas M. Steenland noted that with fuel prices at record highs, and amid an economic slowdown, “we remain financially challenged.” He noted that high fuel costs have significantly eroded the benefits of restructuring at both airlines.

Heightened International Competition

Delta and Northwest also pointed to heightened international competition, particularly as a result of open skies agreements, as another major reason to merge. Steenland stated that “large, well-funded foreign airlines” have been increasing their service to the U.S. because of open skies. Anderson said the continuation of the open skies policies requires the carriers to combine their networks in order to compete.

Turning to concerns over the competitive nature of a Delta-Northwest merger, Steenland told the hearing that a merged carrier would maintain all of Delta and Northwest’s hubs, serve more domestic and international destinations than any other carrier, while also serving 140 small communities in the U.S. Anderson, meanwhile, stressed the complementary nature of the carriers’ two networks, with Northwest focusing on the upper northwest, and Delta’s domestic focus centering on the east and mountain west.

“Momentous Matter”

At the House antitrust taskforce hearing chairman Rep. John Conyers (D-Mich.) described the proposed merger as a “momentous matter” which required adequate time to consider the many aspects of the deal. “We need to consider where this merger will take us,” Conyers said, adding that if approved it could lead to a “cascade of other mergers.”

While warning of a situation in which three mega-carriers compete with a handful of low-cost carriers, Conyers also acknowledged that if the merger is rejected “we could end up with more carriers in bankruptcy, negating more union contracts, including pension and health care benefits.”

Attorney Ads Not Subject to Heightened Scrutiny Under Colorado Law

This posting was written by Mark Engstrom, Editor of CCH State Unfair Trade Practices Law.

Attorney advertising was not subject to a heightened standard of scrutiny under the Colorado Consumer Protection Act (CPA), the federal district court in Denver has ruled.

Neither case law nor the Colorado rules of professional conduct supported a special standard for attorney advertising. In fact, the Colorado Supreme Court’s decision in Crowe v. Tull (CCH State Unfair Trade Practices Law ¶31,147) stated precisely the opposite: “[the] potential for consumer targeting demonstrates the need for the same protections against deceptive legal advertising as exists for other purveyors of goods and services.”

Moreover, rules governing attorney ethics had no bearing on the question of whether an advertisement was misleading for purposes of the CPA, the court stated. This was one of the major points of Crowe, which explained that “[w]hile safeguarding the public against consumer fraud may at times be an ancillary consequence of the disciplinary system, its rules and remedies are not tailored to that specific purpose.”

If the ethics rules warranted a heightened CPA standard for attorney advertising, the Crowe court would have said so when it considered the effect of the ethics rule at issue, the court observed.

In this instance, the plaintiffs (clients of the defendant attorney) had not—and could not have—alleged that the representations at issue were factually unsubstantiated. Claims that the attorney would “work hard to get clients every dollar (clients) deserve” were statements of intent or opinion, not statements of verifiable fact, the court concluded.

Accordingly, the plaintffs’ motion for reconsideration of the summary rejection of their CPA claim was denied.

The April 3 decision, Pappas v. Frank Azar & Associates, P.C., will appear in the CCH State Unfair Trade Practices Law.

False Ad Suit Against Poultry Producer Not Barred by USDA Label Approval

This posting was written by William Zale, Editor of CCH Advertising Law Guide.

Advertising by Tyson Foods that its chicken was “Raised Without Antibiotics that impact antibiotic resistance in humans” could violate the Lanham Act’s false advertising prohibition, even though the U.S. Department of Agriculture approved Tyson’s use of the phrase on labels, the federal district court in Baltimore has ruled.

Competitors Sanderson Farms and Perdue Farms sued Tyson for nationally advertising its chicken as “Raised Without Antibiotics” by means of television commercials, radio spots, print ads, billboards, posters and other media. In addition, Tyson advertised several forms of the qualified claim that its chicken was “Raised Without Antibiotics that impact antibiotic resistance in humans.”

The competitors alleged that Tyson’s chicken feed contained “ionophores”—molecules that kill microorganisms—and that ionophores are antibiotics.

“Raised Without Antibiotics”

The Food Safety and Inspection Service of the USDA originally approved Tyson’s use of a “Raised Without Antibiotics” label. FSIS subsequently revoked that approval and specifically stated that ionophores are antibiotics. FSIS informed Tyson that it could no longer use a product label claiming that its chicken was “Raised Without Antibiotics.” Subsequently, the label was qualified to read “Raised Without Antibiotics that impact antibiotic resistance in humans.”

The competitors clearly stated a claim upon which relief could be granted by asserting that the unqualified advertising claim “Raised Without Antibiotics” was literally false, the court held. Without current USDA approval for its label, Tyson could not rely on the USDA’s former, briefly held position as a defense.

Qualified Ad Claim

The competitors also could pursue their suit on the ground that Tyson’s use of the qualifying phrase—“that impact antibiotic resistance in humans”—was ineffective at curing the literal falsity of the root claim—“Raised Without Antibiotics,” the court determined.

The competitors asserted that Tyson’s non-label advertisements containing the qualified claim were false or misleading to the consumer public despite the fact that the USDA had determined that the qualified claim was not “false or misleading” under the Poultry Products Inspection Act. While FSIS’s determination involved a highly technical and scientific review of the proposed label language, it did not involve a review of whether the language was misleading to the consumer when combined with images and promotional slogans, the court observed.

Consumer Survey

The competitors submitted a 600-participant survey to show that Tyson’s qualifying language had no demonstrable consumer impact. The survey buttressed the allegation that Tyson’s qualified claim meant something different to the consumer public, when viewed as part Tyson’s advertisements, than it meant to the experts and scientists at the USDA during the label approval process.

A non-label false advertising claim brought under the Lanham Act was not precluded even though the advertising phrase at issue was approved for use on labels by the USDA, the court concluded. The opposite conclusion would extend USDA expertise into an area—advertising—that the agency had no congressional authority to enter, while at the same time significantly curtailing the congressional protections explicitly accorded to “persons engaged in . . . commerce” under the Lanham Act, the court said.

The April 15, 2008 decision in Sanderson Farms, Inc. v. Tyson Foods, Inc. will be reported in CCH Trade Regulation Reports and CCH Advertising Law Guide.

FTC Determination that Rambus Abused Standard-Setting Process Vacated

This posting was written by Jeffrey May, Editor of CCH Trade Regulation Reporter.

The Federal Trade Commission failed to demonstrate that Rambus Inc.’s actions before a standard setting organization (SSO) amounted to exclusionary conduct “under settled principles of antitrust law,” the U.S. Court of Appeals in Washington, D.C. has decided. Thus, the agency did not prove that the licensor of computer memory technologies unlawfully acquired its monopoly power in the relevant markets for four technologies that had been incorporated into industry standards for dynamic random access memory (DRAM) chips.

The court set aside a Commission opinion finding Rambus engaged in monopolistic conduct in violation of the FTC Act (2006-2 Trade Cases ¶75,364), as well as the Commission’s remedy order (2007-1 Trade Cases ¶75,585).

The FTC determined that Rambus, while participating in the standard-setting process in the 1990s, deceptively failed to disclose to the SSO the patent interests it held in the four DRAM technologies. According to the agency, Rambus’s deceptive conduct before the SSO significantly contributed to its acquisition of monopoly power.

Anticompetitive Effect

“Deceptive conduct—like any other kind—must have an anticompetitive effect in order to form the basis of a monopolization claim,” the court explained. Even if Rambus’s conduct was deceptive, the Commission did not demonstrate that the company inflicted any harm on competition.

The court said that the Commission’s conclusion that Rambus’s conduct was exclusionary depended on a syllogism: “Rambus avoided one of two outcomes by not disclosing its patent interests; the avoidance of either of those outcomes was anticompetitive; therefore Rambus’s nondisclosure was anticompetitive.”

The Commission determined that if Rambus fully disclosed its intellectual property, then the SSO either would have excluded Rambus’s patented technologies from its DRAM
standards or would have demanded assurances of “reasonable and nondiscriminatory” license fees (RAND assurances), the court explained. The Commission did not, however, determine that one or the other of these two possible outcomes was more likely.

Assuming that avoidance of the first of these possible outcomes was anticompetitive, that Rambus’s more complete disclosure would have caused the SSO to adopt a different standard, then Rambus’s failure to disclose harmed competition. But there was insufficient evidence that the SSO would have standardized other technologies had it known the full scope of Rambus’s intellectual property.

The Commission’s syllogism could not survive because the loss of a RAND commitment from Rambus would not harm competition. The SSO’s loss of an opportunity to seek favorable licensing terms was not an antitrust harm, in the court’s view.

Remand

In ordering remand to the Commission for further proceedings, the court questioned whether there was sufficient evidence that Rambus engaged in deceptive conduct at all. It expressed “serious concerns about strength of the evidence relied on to support some of the Commission’s crucial findings regarding the scope of [the SSO’s] patent disclosure policies and Rambus’s alleged violation of those policies.” The court described the Commission’s findings as “murky” and pointed to instance where the Commission took an “aggressive interpretation of rather weak evidence.”

Rambus Statement

Rambus issued an April 22 statement that it was “very pleased with this decision.” The company said that “the decision, especially combined with the jury verdict in March reaching the same conclusion, should put the issue to rest and allow us to focus on running our business.”

In a March 26 press release, Rambus announced that a jury in the federal district court in San Jose, California, found in its favor in an antitrust case brought by memory manufacturers Hynix Semiconductor, Micron Technologies, and Nanya Technology
Corporation. The jury determined that Rambus acted properly while a member of the standard-setting organization, according to Rambus.

The April 22, 2008, decision in Rambus, Inc. v. Federal Trade Commission, No. 07-1086, will appear in CCH Trade Regulation Reports.

Japan Airlines Agrees to Plead Guilty to Fixing Cargo Shipping Prices

This posting was written by Jeffrey May, Editor of CCH Trade Regulation Reporter.

Japan Airlines International Co. Ltd. has joined the list of other global air carriers—including British Airways Plc., Korean Air Lines, and Quantas Airways Limited—that have admitted to participating in a conspiracy to fix rates for international cargo shipments.

According to a one-count information, filed in the federal district court in Washington, D.C., Japan Airlines International (JAL) engaged in a conspiracy to eliminate competition by fixing the rates for international shipments of cargo to and from the United States and elsewhere between April 2000 and February 2006.

During the time period covered by the felony charge, JAL was the largest carrier of cargo between the United States and Japan and earned almost $2 billion from its cargo flights to and from the United States, it was alleged.

“This pice-fixing conspiracy inflicted a heavy toll on American businesses and consumers,” said Thomas O. Barnett, Assistant Attorney General in charge of the Department of Justice Antitrust Division. “Japan Airlines is the fourth carrier to admit to its involvement in this cartel and to agree to cooperate with an ongoing investigation.”

Last August, British Airways and Korean Air Lines pleaded guilty to similar charges and were each fined $300million. Earlier this year, Quantas pleaded guilty and was sentenced to pay a $61 million criminal fine for its role in the price fixing conspiracy.

The U.S. antritrust case is Japan Airlines International Co. Ltd., U.S. No. 4932, CCH Trade Regulation Reports ¶45,108. Further details appear here on the Department of Justice website.

Antitrust Enforcers Announce International Competition Network’s Recommended Practices

This posting was written by Jeffrey May, Editor of CCH Trade Regulation Reporter.

The heads of the federal antitrust agencies were in Kyoto, Japan, earlier this week, promoting antitrust convergence at the seventh annual International Competition Network (ICN) Conference. The ICN conference, hosted by the Japan Fair Trade Commission, was held on April 14-16, 2008.

More than 500 delegates and competition experts participated, representing more than 70 antitrust agencies from around the world, along with competition experts from international organizations and the legal, business, consumer, and academic communities.

The ICN adopted new “Recommended Practices” to improve merger analysis and assessment of unilateral conduct, according to the agencies. In addition, the ICN’s cartel working group issued a report stressing the importance of effective cartel settlement systems.

Views of U.S. Enforcers

“As competition laws continue to take root throughout the world, the international competition community faces an increasing challenge to ensure that competition agencies can develop and maintain the institutional capacity to be effective champions for consumers,” said FTC Chairman William E. Kovacic.

“The Kyoto Conference took us another big step on the long journey to building effective, pro-consumer competition agencies,” Kovacic noted. “Through its Competition Policy Implementation Working Group and other projects, the ICN is playing a leading role in bringing agencies together to share their experience to strengthen our mutual goal of combating anticompetitive practices and improving the lives of our consumers.”

Thomas O. Barnett, Assistant Attorney General in charge of the Department of Justice Antitrust Division, identified the ICN as “a leading forum for identifying best practices among antitrust enforcement agencies and promoting international convergence in antitrust enforcement." He added that the “Recommended Practices adopted at this conference are an important milestone in the ICN's efforts to develop consensus in the substantive analysis of mergers and unilateral conduct."

Merger Analysis Recommended Practices

ICN members adopted three new Recommended Practices for Merger Analysis. The new Recommended Practices for merger analysis included the concepts that:

(1) merger review analysis should provide a comprehensive framework for assessing whether a merger is likely to harm competition significantly;

(2) market shares and measures of market concentration play an important role in merger analysis but generally are not conclusive indicators that a merger is likely to harm competition significantly; and

(3) assessment of firm entry and/or expansion by existing competitors should be an integral part of the analysis of the competitive effects of a merger.

Unilateral Conduct Recommended Practices

In addition, ICN members adopted a set of Recommended Practices for review of unilateral conduct. The Recommended Practices provide that a firm should not be found to possess substantial market power without a comprehensive consideration of factors affecting competitive conditions in the market. The Recommended Practices further provide that agencies should use a sound analytical framework, firmly grounded in economic principles, in determining whether a firm has substantial market power, and that assessment of entry and expansion conditions should be an integral part of the analysis.

Announcements by the Federal Trade Commission and the Department of Justice appear here and here, respectively. Further information about the ICN can be found at the organization’s website: http://www.internationalcompetitionnetwork.org/

Nondisclosure of Franchisor Supplier Contracts Was Not Fraudulent Inducement of Franchisees

This posting was written by Pete Reap, Editor of CCH Business Franchise Guide.

A sandwich shop franchisor's failure to disclose facts about its contracts with franchise suppliers did not constitute fraud or fraud by omission in inducing a putative class of Illinois sandwich shop franchisees to enter into franchise agreements, the federal district court in Chicago has decided.

There was no tenable argument that the franchisor had a duty to disclose certain facts about its contracts with suppliers or that the franchisees reasonably relied upon alleged misrepresentations and omissions made by the franchisor. Thus, the franchisees’ claims for fraudulent inducement and for violation of the federal RICO statute were dismissed.

Duty to Disclose

The franchisees alleged that the franchisor committed fraud by, among other things, failing to disclose certain key facts to them about its contracts with franchise suppliers. However, absent a duty to disclose, the franchisor could not be held liable for a failure to make disclosures. No duty to disclose existed in the present circumstances because it was well established under Illinois law that parties to a contract, including franchise contracts, did not owe a fiduciary duty to one another, the court held.

Specifically, the franchisees claimed: (1) that the franchisor required its franchisees to pay prices it knew to be higher than those the franchisees could get from third-party vendors for goods of equal or better quality; and (2) that the prices the franchisees paid were deliberately inflated by kickbacks from approved vendors to the franchisor. This conduct directly contradicted representations made in the franchisor's Uniform Franchise Offering Circular (UFOC) that contracts with suppliers would be made for the benefit of franchisees, according to the franchisees.

Importantly, however, the UFOC did not say that the supplier contracts would be made for the sole benefit of franchisees, the court reasoned. Instead, the agreement explicitly warned the franchisees that the franchisor could “receive payments from suppliers on account of such suppliers' dealings with Franchisee and other franchisees and may use all amounts so received without restriction and for any purpose Franchisor and its affiliates deem appropriate.”

The UFOC similarly warned the franchisees that the franchisor had the right to receive payments from suppliers. In light of such explicit contractual provisions, the court reached the same conclusion reached in an almost identical case (Westerfield v. Quizno’s Franchise Co., Inc., CCH Business Franchise Guide ¶13,734)—that it would be unreasonable for the franchisees to have assumed that the franchisor would not negotiate contracts with suppliers that would benefit the franchisor. Thus, even if the franchisor owed the franchisees a duty to disclose, the provisions in the franchise agreement and the UFOC clearly satisfied that duty, according to the court.

Contractual Disclaimers

The franchisees’ claims that the franchisor fraudulently induced them to enter into their franchise agreements through misrepresentations and omissions were without merit because, faced with unambiguous disclaimers and non-reliance clauses in the UFOC and franchise agreement, the franchisees could not have reasonably relied on any oral statements concerning likely profits and expenses, the court ruled.

The franchisees’ suggestion that the franchise agreement was unconscionable—and therefore could not be used to defeat their claims—was rejected. In assessing whether a contractual provision should be disregarded as unconscionable, Illinois courts looked to the circumstances at the time of the contract's formation, including the relative bargaining positions of the parties and whether the provision's operation would result in unfair surprise.

However, none of the clauses contained within the UFOC or the franchise agreement could be seen as creating an unfair surprise, the court determined. Before signing the franchise agreement, each franchisee was provided with the UFOC, which clearly disclosed the vendor rebates. Nor were the franchisees vulnerable consumers or helpless workers. Rather, they were business people who bought a franchise.

The decision is March 31, 2008 decision in Siemer v. Quizno's Franchise Co., Inc. appears at CCH Business Franchise Guide ¶13,869.

Congress Pledges to Vigorously Scrutinize Delta/Northwest Merger Proposal

This posting was written by Sarah Borchersen-Keto, CCH Washington Correspondent.

Congressional leaders pledged to vigorously scrutinize the proposed merger of Delta Air Lines and Northwest Airlines after the two carriers announced they plan to merge into a combined carrier worth $17.7 billion.

While Congress does not have the authority to halt a merger, it can force the Department of Transportation (DOT) and the Department of Justice (DOJ) to consider issues and evidence before making a final decision on the deal.

DOJ spokeswoman Gina Talamona said the department “is interested in examining the proposed transaction. The Antitrust Division will look at the competitive effects of the transaction and how the merger would affect consumers.”

Plans for Hearings

In an April 15 statement, Senate Antitrust Judiciary Subcommittee Chairman Herb H. Kohl (D-Wis.) said he plans to hold hearings to carefully examine the impact of the proposal, and possible further airline consolidation, on competition and consumers. While acknowledging the financial pressures on airlines, Senator Kohl said it was “vital” that consolidation does not lead to fare increases and service reductions.

Rep. James L. Oberstar (D-Minn.), Chairman of the House Transportation and Infrastructure Committee, described the merger proposal as “probably the worst development” in aviation history in the aftermath of deregulation. The merger would create a “globe-straddling mega-carrier” that would likely result in a further “cascade of mergers.” Rep. Oberstar said his committee will hold hearings on the matter, and will compile a record of factual information that will be presented to the DOJ.

“We will marshal all the forces we can within the Congress—and the communities served by existing carriers—to insist that the department does a very thorough, meticulous, workman-like analysis of this merger proposal,” Oberstar said in an April 15 release.

Route Overlap, Hub Concentration, Service Issues

A joint statement from Oberstar and House Aviation Subcommittee Chairman Jerry F. Costello (D-Ill.) urged the DOJ to focus on route overlap, hub concentration, and service to smaller communities in order to determine any anti-competitive impacts. The DOJ should also consider the potential domino effect of a merger, Oberstar and Costello said.

Meanwhile, House Judiciary Committee Chairman John Conyers (D-Mich.) announced that the committee’s Taskforce on Competition Policy and Antitrust Laws will hold a hearing on “Competition in the Airline Industry” on April 24.

Impact Beyond Costs/Benefits to Airlines

Sen. John D. Rockefeller IV (D-W. Va.), Chairman of the Senate Commerce Subcommittee on Aviation Operations, Safety and Security, called the Delta-Northwest announcement a “watershed moment for the aviation industry,” and said it is “absolutely critical that federal agencies dig down into the details of this merger before signing off on the dotted line.” At the same time, Congress has to make sure that the deal “won’t be measured solely through the costs and benefits to Delta and Northwest,” he said on April 15.

Statement by Airlines

The two carriers said their new airline, to be called Delta, will provide a stable platform for future growth in the face of significant economic pressures from rising fuel costs and intense competition. Small communities will have enhanced access to more destinations, they claimed, while passengers would enjoy greater choice and competitive fares.

In a joint statement, the carriers said that, by combining forces, they would create a global U.S. flag carrier strongly positioned to compete with foreign airlines that are continuing to increase service to the U.S.

How to Value a Franchise Depends on Why You’re Valuing It

This posting was written by Bruce S. Schaeffer of Franchise Valuations, Ltd., co-author of CCH Franchise Regulation and Damages.

Valuation of a franchise is an issue in many franchise disputes. It is calculated in several different ways, but usually is defined as what a hypothetical buyer would pay for it.

In such situations, an expert's valuation of a franchise generally takes into account many things such as the balance sheet, the cash flow, license rights, and the covenants and other restrictions on transfer placed on franchises such as the right of first refusal.

Business Valuation Concepts

Generally, the major terms used in business valuations are “fair market value,” which is a legal term, and “fair value,” which is an accounting term and both generally mean the same thing.

"Fair market value" is a term of art which has been the subject of court decisions in the gift and estate tax area since the 1930s and has developed a formidable body of law to refine its meaning. The basic definition is found in the Internal Revenue Code and in Revenue Ruling 59-60 where the Internal Revenue Service defined "Fair Market Value" as

the price at which the property would change hands between a willing buyer and a willing seller when the former is not under any compulsion to buy and the latter is not under any compulsion to sell, both parties having reasonable knowledge of relevant facts.

The hypothetical buyer and seller are assumed to be able, as well as willing, to trade.

Under this concept, there are three (and really only three) general methods that are acceptable for determining business value. These are—in legal terms—book value, capitalization of earnings, and comparable sales.

Context of Valuation: Divorce

However, in some cases all this theory may be superceded by the question: why are you valuing the franchise? For example, in divorce cases the judge may ignore the concept of “fair market value.”

The recent Tennessee case of Bertuca v. Bertuca is such a situation where the court specifically dismissed the concept of a sale. In that case the husband was the owner of several McDonald’s and the appellate court held the franchises should be valued simply as follows:

Cash Flow (per expert)................................$ 412,663
Capitalized at 12%....................................$ 3,438,858
Add: Current Assets...................................$ 1,016,829
Less: Current Liabilities..............................($ 525,891)
Less: Notes Payable 6/30/2005.....................($ 2,199,028)
Less: Rebuild Note...................................($ 950,000)
[An obligation to refurbish one of the units.]

VALUE....................................................$ 780,768

The husband had appealed the trial court’s ruling as to valuation but the appellate tribunal held:

Mr. Bertuca next complains that the trial court failed to consider the non-marketability of his interest in [the franchises]. Since our determination as to value is based upon the earnings value of the partnership, that value would not be impacted by the lack of marketability of Mr. Bertuca's interest unless it appeared from the record that his needs or situation were such that a sale of his interest would be necessary or desirable. The trial court very carefully drafted its ruling in the case allowing Mr. Bertuca to pay the amount awarded over time so that he would not [*21] have to sell his partnership interest in order to satisfy the award. Since the partnership indebtedness is serviced by the income derived from the business and will be paid in seven years, the value of the business significantly increases with time and we are satisfied it is in Mr. Bertuca's best interest to maintain his interest in the partnership. There is no indication in the record that Mr. Bertuca has any intention of selling his interest in [the franchises]. Thus the value of the business is not affected by the lack of marketability and discounting the value for non-marketability in such a situation would be improper. Anderson, 2006Tenn. App. LEXIS 592, 2006 WL 2535393, at*4.

And the court went on to add:

Mr. Bertuca makes a similar argument with regard to the trial court's failure to reduce the value due to the buy-sell agreement applicable to his ninety percent partnership interest. He correctly points out that a trial court should consider such an agreement when determining the value of a business. See, Harmon v. Harmon, No. W1998-00841-COA-R3-CV, 2000 Tenn. App. LEXIS 137, 2000 WL 286718, at *9-10 (Tenn.Ct.App. March 2, 2000). As with Mr. Bertuca's lack of marketability argument, such a provision only affects the value if he plans to sell his interest [*22] in the partnership and the record is devoid of any suggestion that he intends to do so. The buy-sell provision, therefore, does not affect the value of his interest in the partnership determined on a value of earnings basis.

So much for the concept of “fair market value” in divorce proceedings! It appears that if there is to be no sale, some courts will not use a hypothetical sale as a basis for valuation.

Bertuca v. Bertuca, 2007 Tenn. App. LEXIS 690, (filed November 14, 2007) will appear in the CCH Business Franchise Guide.This decision was provided by David Beyer, Esq. of DLA Piper, for which the author expresses special gratitude.

Additional information on franchise valuation issues appears in CCH Franchise Regulation and Damages by Byron E. Fox and Bruce S. Schaeffer.

Federal Trade Commission Testimony Supports Proposed 2008 Reauthorization Act

This posting was written by Jeffrey May, Editor of CCH Trade Regulation Reporter.

All four current FTC commissioners testified before the Senate Commerce Committee on April 8, discussing a proposal to reauthorize the agency for the next seven years. The Commission generally supports the proposed “Federal Trade Commission Reauthorization Act of 2008” (S. 2831), according to the prepared congressional testimony.

FTC Chairman William E. Kovacic began by telling the committee that the agency “welcome[d] and encourage[d] [Congressional] efforts to continue to see that the agency [was] put on a footing that permits it to deliver effective competition and consumer protection programs.”

He was encouraged by the legislation's efforts to increase agency funding and its long-range approach. The bill would provide Fiscal Year 2009 funding at $264 million and would increase the budget by 10 percent per year for the next seven years.

Authority to Seek Civil Penalties

The Commission testimony supported provisions in the proposed legislation that would enable the agency to seek civil penalties for knowing violations of Section 5 of the FTC Act. The Commission reiterated its support for new authority to seek civil penalties in areas where its existing remedies are insufficient to achieve the law enforcement goal of deterrence, such as spyware, data security, and telephone records pretexting.

In addition, the FTC supported the bill's grant of authority to litigate its own civil penalty cases. Currently, the agency is required to refer civil penalty cases to the Department of Justice.

Commissioner Jon Leibowitz reported that the FTC “unequivocally supports” Section 7 of the proposed 2008 FTC Reauthorization Act, which would give the FTC the ability to challenge practices that aid or abet violations of the FTC Act.

“Making it easier for the Commission to challenge those who provide assistance to others who are violating Section 5 of the FTC Act could help the agency attack the infrastructure that supports Internet fraud,” according to Commissioner Leibowitz’s testimony.

Repeal of Common Carrier Exemption

The Commission testified in favor of the bill's proposed repeal of the telecommunications common carrier exemption. This “outdated” exemption bars the FTC from reaching certain conduct by telecommunications companies, according to the agency. Its repeal would allow the FTC to protect consumers who are dealing with unfair or deceptive practices in consumer billing and advertising by phone companies and wireless service providers.

Extension of Jurisdiction over Nonprofits

Currently, the FTC’s jurisdiction over nonprofits is limited by the definition of “corporation” in the FTC Act. The Commission supports the bill's efforts to extend its jurisdiction to certain nonprofit entities, according to the testimony. Section 6 of the proposed 2008 FTC Reauthorization Act would reach nonprofit entities that have tax-exempt status under Section 501(c)(3) of the Internal Revenue Code.

The Commission said that it would benefit from broadening this provision to cover certain other nonprofits, such as Section 501(c)(6) trade associations.

Rulemaking Proceedings

The proposed FTC reauthorization bill would allow the FTC to conduct rulemaking on consumer protection issues under the streamlined rulemaking procedures of Section 553of the Administrative Procedures Act (APA), which are generally available to federal agencies. APA procedures would be much less time-consuming than procedures under the agency's current Magnuson-Moss authority.

In light of the issues in the subprime mortgage lending industry, “the FTC believes that it should have the authority to use APA procedures to promulgate rules whenever the banking agencies and National Credit Union Administration commence rulemaking under the FTC Act.”

Noting differing views among the commissioners on the subject of adopting APA rulemaking on a notice-and-comment basis, Commissioner J. Thomas Rosch expressed his personal view that “APA rulemaking authority for consumer protection matters would greatly increase the Commission's effectiveness in dealing with certain types of practices.” Rosch pointed to the subprime lending area as an example.

Recent Enforcement Efforts

In addition to addressing the proposal introduced by Senator Byron Dorgan (North Dakota), the prepared testimony recalled some FTC law enforcement actions since September, when the Commission last provided reauthorization testimony. Commissioner Pamela Jones Harbour covered the enforcement highlights in her oral statement.

The text of the prepared testimony appears here on the FTC website and will be reported at CCH Trade Regulation Reports ¶50,228. A videocast of the testimony appears here at the Senate website.

Class Certification of Buyers of Canadian Cars Reversed, Vacated

This posting was written by Darius Sturmer, Editor of CCH Trade Regulation Reporter.

Certification of classes seeking injunctive relief under federal antitrust laws and damages under 20 state antitrust and consumer protection laws against automobile manufacturers was improper, a divided U.S. Court of Appeals in Boston has decided. The putative classes alleged that the manufacturers had conspired to avoid price competition by keeping motor vehicles intended for sale in Canada out of the U.S. market.

A grant of certification to the purchasers seeking injunctive relief under federal law (2006-1 Trade Cases ¶75,289) was reversed, and that claim was dismissed. Certification of the state antitrust claims was vacated and remanded to federal district court for reconsideration and for determination of several issues concerning the existence of federal jurisdiction.

Injunctive Relief Class

The proposed injunctive relief class, which consisted of consumers nationwide who had purchased cars in Canada, sought an injunction that would: (1) require the manufacturers to honor warranties in the United States on all new motor vehicles sold in Canada; (2) prohibit them from blacklisting Canadian exporters; (3) prohibit them from exchanging information such as blacklists and methods for avoiding export sales; (4) block chargebacks to Canadian dealers; (5) stop the tracking of Canadian cars' vehicle identification numbers; (6) prohibit U.S. manufacturers from penalizing U.S. dealers for buying or selling Canadian vehicles; (7) prohibit trade associations from discouraging or acting to prevent Canadian exports; and (8) ban the manufacturers' withholding of safety recall information based on a vehicle's export status.

The consumers lacked standing to pursue injunctive relief because no live controversy existed, the court stated. The consumers did not face a threat of injury both real and immediate, as was required for Article III standing. An exchange rate anomaly in which the U.S. dollar hit an apex between 1998 and 2003 that had not been seen in the previous 50 years, allegedly precipitating massive arbitrage opportunities for selling Canadian cars in the United States had long since ceased, according to the court.

The subsequent fall in the value of the U.S. dollar alone eliminated any realistic current threat. Any claim that exchange rates could again tilt in favor of the United States dollar substantially enough to create additional arbitrage opportunities was merely speculative and hypothetical. Because no live controversy existed, dismissal of the claim was appropriate, the court concluded.

State Law Damages Classes

The consumers pursuing state law damages claims had not yet established that common evidence could be used to prove the impact of the alleged conspiracy on them on a classwide basis and that common questions predominated in the litigation, the appellate court decided.

Whereas the lower court held that submissions by the putative classes' expert witnesses on this issue sufficed for purposes of showing common proof of impact—even though they "might be insufficient under some states' laws"—the appellate court majority disagreed with this conclusion.

A searching inquiry into the viability of the consumers' theory of injury was necessary, in the appellate court's view, because that theory was so novel and complex. It required the consumers to demonstrate that the manufacturers' actions resulted in an increase in dealer invoice prices and suggested retail prices in the United States to sort out the effects of any permissible vertical restraints from the effects of the alleged impermissible horizontal conspiracy. Only then could the consumers offer some means of determining that each member of the class was in fact injured. It was unclear to the appellate court how the consumers intended to make this connection.

Incomplete Damages Model

The lower court's acceptance of an incomplete damages model, based upon the incomplete record before it at the time, no longer sufficed, in the appellate court's view. Given that two years had passed and virtually all discovery in the case had been completed since the court's initial certification ruling, the time was more appropriate for the trial court to conduct that inquiry.

By now, the consumers should have worked out their models and formulas and the trial court should have a complete record before it from which to test the viability of the consumers' novel theory for proving common impact, the appellate court observed.

The decision is In re: New Motor Vehicles Canadian Export Antitrust Litigation, 2008-1 Trade Cases ¶76,100.

Purchasers Assert RICO Injury from Overvaluation of Homes

This posting was written by William Zale, Editor of CCH RICO Business Disputes Guide.

In a civil RICO action, home purchasers’ evidence could support the conclusion that a real estate developer’s activities proximately caused the purchasers’ alleged injuries in connection with the mortgage financing of overvalued homes, the federal district court in Harrisburg, Pennsylvania has ruled. In addition, the purchasers’ evidence could be found to prove that a mortgage lender’s alleged conspiracy with the developer and his companies proximately caused the purchasers’ alleged injuries.

Predicate Mail and Wire Fraud

The homeowners’ evidence could establish that the developer committed predicate violations of the mail and wire fraud statutes upon which the RICO claims were based, according to the court. In order to prove a scheme or artifice to defraud, the purchasers presented evidence of a consistent disparity between their actual payments and the developer’s advertisements representing that homes could be purchased for $1,000 down and $635 monthly payments.

The developer’s corporate network brokered all of the purchasers’ mortgage transactions and allegedly sold homes in excess of market value by arranging for inflated appraisals. As a result, the purchasers received loans greater than otherwise permitted under the applicable guidelines of a mortgage lender, according to the court.

Enterprise

A finding of a RICO “enterprise” separate from the scheme to defraud could be based on evidence that the developer—through controlled corporations—purchased land, constructed homes, and sold finished products throughout the 1990’s, the court determined. One corporation operated as realtor for the homes produced by its sister corporations. Another acted as broker for home buyers’ mortgages, arranging appraisals and obtaining financing for many buyers.

Several of the developer’s entities engaged in business transactions incident to the construction of residential real estate but unrelated to the loan advertisements and alleged acts of mail and wire fraud. A reasonable jury could conclude that the mail and wire fraud scheme was organized within the developer’s corporate network to maximize the profit of a distinct business venture engaged in the development and sale of real estate.

Injury Causation

The participation by the developer’s corporations in each of the mortgages reinforced the developer’s ability to perpetrate the alleged mortgage scheme, the court found. The developer’s companies brokered the mortgages for all of the purchasers’ homes, placing the companies in a position to favor appraisers and lenders who would provide the valuations and financing necessary to maintain the momentum of the development enterprise.

One appraiser and one mortgage lender serviced a considerable majority of the transactions. Purchasers proffered sufficient evidence that they suffered similar harm even when the appraiser or the lender did not participate in a particular transaction. A reasonable jury could conclude that the developer and his companies engaged in a RICO enterprise and proximately caused injury with respect to all of the sales transactions, according to the court.

Mortgage Lender’s Role in Conspiracy

The jury could also find that the lender conspired to inflate property values by providing financing opportunities that ordinarily would have been inaccessible to the purchasers, the court determined. The lender’s underwriters testified that mortgage applications from individuals with the purchasers’ credit ratings were routinely rejected early in the lending process. Despite this standard practice, the lender processed the applications.

The lender used appraisals performed by an individual, who previously had been on the lender’s review list, to justify financing to purchasers. An official of the lender inexplicably removed the appraiser from the list without conferring with his colleagues who had authority to place appraisers on review status. A reasonable jury could infer that the lender improperly removed the appraiser from the list, facilitating his role in the conspiracy, the court observed.

The lender also enabled many purchases through “Gold Key” programs, in which the developers’ companies improperly fronted the purchasers’ rent payments. Even though the complaining purchasers numbered over 100, apportionment of damages among them would be relatively straightforward. Contrary to the lender’s contention, entities to which it sold the mortgage paper were not better suited than were the purchasers to vindicate the alleged wrongs, according to the court.

The March 21 decision in Lester v. Percudani will be reported at CCH RICO Business Disputes Guide ¶11,461.

Federal Legislative Outlook, Privacy/Antitrust Issues Discussed at IAPP Privacy Summit

This posting was written by Thomas Long, Editor of CCH Privacy Law in Marketing.

Congress is unlikely to complete legislation on data security in the current term, David Strickland, counsel for the Senate Commerce Committee, said on March 27. Strickland was speaking at a panel discussion on legislative developments at the Privacy Summit held by the International Association of Privacy Professionals (IAPP) in Washington, D.C., on March 26-28.

"[Data security legislation] will be a high priority in the next Congress," Strickland said, "and the groundwork for that will be laid in this Congress."

House Judiciary Committee counsel, Ameer Gopalani, stated that he thinks "we can enact something," although legislation might not include the full gamut of issues. "If the committees can work together," he said, "we can nail down the strong policy" this year.

Desire for Uniformity, Predictability

Representing the private sector, Tony Hadley, Vice President of Government Affairs for credit reporting agency Experian, said, "Uniformity and predictability is what businesses want." At present, these qualities are lacking, with varying state laws making it hard to determine the applicable data security standards for nonfinancial entities. Hadley also advocated that the federal government exercise restraint in adding new regulations.

According to Strickland, the bill currently under examination in the Senate Commerce Committee (S. 1178) would cover entities not reached by the Gramm-Leach-Bliley Act and would probably extend the FTC’s Safeguards Rule to nonfinancial businesses.

With regard to online advertising, Strickland said that there would likely be a focus on the FTC’s approach to behavioral advertising, in an effort "to create a fulsome and effective industry self-regulatory regime." The committee is in "studying mode" on the issue, he said.

Emerging Antitrust Role for Privacy Professionals

The intersection of privacy and antitrust is creating a new role for chief privacy officers serving companies undergoing mergers and other transactions—that of participating in the antitrust due diligence process, privacy law expert Peter Swire observed at the IAPP Privacy Summit on March 28.

Viewing the differing ways businesses treat privacy as a form of non-price competition is a concept "clearly within the antitrust mainstream," according to Swire, a professor at the Moritz School of Law of the Ohio State University.

Although the Federal Trade Commission declined to interfere with a merger between Google and online advertising company DoubleClick last December, all five members of the Federal Trade Commission have recognized that privacy practices are relevant to the merger review process, Swire said.

He pointed out that FTC Commissioner Pamela Jones Harbour, in her dissent to the FTC’s approval of the deal, had predicted that, in future merger reviews involving combinations of data, the FTC would likely issue Second Requests asking detailed questions about privacy practices, data, and the effect of mergers on them.

In Swire’s view, the two key questions in examining privacy in an antirust context are: (1) is privacy a non-price factor that is important to consumers? and (2) will the merger reduce competition in privacy? There is a competitive advantage to having a good privacy reputation, Swire said, and there is evidence that businesses are competing on that basis.

Reducing privacy-related competition can negatively affect consumer welfare, according to Swire. In addition, privacy harms can lead to a reduction in the quality of a good or service, such as a shift from low-surveillance to high-surveillance practices by website operators. These harms provide possible reasons to block or place conditions on a merger.

About the IAPP

The IAPP is the world's largest association of privacy professionals. Based in York, Maine, the organization represents more than 4,700 members from businesses, governments, and academia across 32 countries. The IAPP's Executive Director is J. Trevor Hughes, co-author of CCH Privacy Law in Marketing. More information about the IAPP is available at http://www.privacyassociation.org.

FTC Privacy Principles Might Not Address Consumers’ Behavioral Advertising Issues: Survey

This posting was written by John W. Arden.

Widespread adoption of the FTC’s proposed privacy principles regarding online behavioral advertising might not significantly impact consumers’ feelings about marketers’ use of their online activity to tailor advertisements, according to a recent survey of more than 2,500 adults.

In March 2008, adult consumers were asked how comfortable they were with websites’ use of information about their online activity “to tailor advertisements or contents” to their hobbies and interests. Only 41% of the respondents answered that they were either “very comfortable” (7%) or “somewhat comfortable” (34%). Fifty-nine percent of the respondents answered that they were either “not very comfortable” (34%) or “not comfortable at all” (25%).

In the report on the survey, Dr. Alan F. Westin observed that online advertisers have maintained that Internet users would appreciate receiving customized ads and content, thus reducing the annoying user-irrelevant offers.

“However, our results suggest that this potential outcome did not seem to influence a majority of online users to overcome their underlying concerns about tracking and profiling,” Dr. Westin wrote.

Effect of Privacy Safeguards

In order to determine whether website operators can help users feel more comfortable by implementing privacy safeguards, the survey sponsors drew on the FTC staff’s proposed privacy principles, which were issued on December 20, 2007 (see “Trade Regulation Talk,” December 21, 2007).

The relevant principles follow:

1. Transparency and consumer control. Websites that collect data for behavioral advertising should provide a statement informing users of such collection of data and allow consumers to choose whether to have their information collected.

2. Reasonable security, and limited data retention, for consumer data. Companies collecting data should provide reasonable security for such data and retain the data for only as long as is necessary to serve a legitimate business or law enforcement need.

3. Affirmative express consent for material changes to existing privacy promises. A company must keep any promises it makes on handling and protection of consumer data. Before a company can change its policy and use data in a manner materially different manner, it should obtain affirmative express consent from affected consumers.

4. Affirmative express consent to using sensitive data for behavioral advertising. Companies should only collect sensitive data for behavioral advertising if they obtain affirmative express consent from the consumer to receive such advertising.

Further information regarding the principles appears here at the FTC website.

The same respondents to the first question were asked: “If a web site adopted and followed all of these policies, how comfortable would you then be with companies using information about your online activities to serve customized ad or content to you?”

With these new conditions, 55% of the respondents answered that they were “very comfortable” (9%) or “somewhat comfortable” (46%). Forty-five percent answered that they were “not very comfortable” (26%) or “not comfortable at all” (19%).

Thus, there was a 14 percentage point shift among comfortable consumers (from 41% to 55%) when the FTC recommended privacy and security policies were applied.

Consumers Still Not “Very Comfortable”

“However, it should be noted that the adoption and installation of the four privacy safeguards did not significantly increase the percentage of adult Net users who said they would be ‘very comfortable’ with profiling and customization. This set of users increased only 2%, from 7% to 9% . . .”

Dr. Westin suggested that the increase of comfortable consumers to only 55% may reflect a skepticism that web sites would really follow the privacy and security safeguards and a concern that there would be no user remedies or protective regulation to control such web sites that did not follow the safeguards.

Nevertheless, the survey strongly indicated that the current profiling of users and customization of advertising, without the adoption of privacy and security policies, would not satisfy a strong majority of the online user community, the report concluded.

The study is “How Online Users Feel About Behavioral Marketing and How Adoption of Privacy and Security Policies Could Affect Their Feelings,” results of a Harris Interactive/Westin Survey, March 10-17, 2008, sponsored by Privacy Consulting Group, Alan F. Westin and Robert R. Belair.

Further information about the study appears here at the Harris Interactive website.

“Light” Cigarette Purchasers Cannot Pursue RICO Class Action

This posting was written by William Zale, Editor of CCH Advertising Law Guide.

In a case asserting that tobacco companies' marketing and branding deceived smokers into believing that “light” cigarettes were healthier than “full-flavored” cigarettes, certification of a class of light cigarette purchasers was reversed by the U.S. Court of Appeals of New York City. Individual issues of reliance, injury, damages, and timeliness outweighed issues susceptible to common proof, according to the court.

Allegedly Healthier Cigarettes

The smokers sought $800 billion in treble damages on the theory that the companies’ implicit representation that lights were healthier led them to buy lights in greater quantity than they otherwise would have and at an artificially high price, resulting in overpayment for cigarettes.

The Federal Trade Commission in 1955 adopted the Cigarette Advertising Guides, which proscribed any implicit or explicit health claims in cigarette advertising except claims that a cigarette was substantially lower in nicotine or tar. The FTC's Cambridge Filter Method—introduced in 1967—relied upon a machine to test the tar and nicotine content of cigarettes.

The FTC method was quite unreliable, the court noted, because most light smokers obtained just as much tar and nicotine as they would if they smoked full-flavored cigarettes, principally by “compensating”—either inhaling more smoke per cigarette or buying more cigarettes. The tobacco companies apparently had been aware of this phenomenon for some time, the court observed.

The National Cancer Institute, in a monograph published in 2001, concluded that there was no convincing evidence that changes in cigarette design between 1950 and the mid-1980s had resulted in an important decrease in the disease burden caused by cigarette use.

Injury, Reliance

The injury causation element of the smokers' RICO claims predicated on mail and wire fraud could be only half-satisfied by a widespread and uniform misrepresentation through a national marketing campaign. The other half—reliance on the misrepresentation—could not be the subject of general proof because in this case reliance was too individualized, the court determined.

The smokers contended that they should be entitled to a presumption of reliance in light of the market shift from nonfiltered to filtered to low tar cigarettes. However, given the lack of an appreciable drop in the demand for or the price of light cigarettes after the truth about them was revealed in the monograph, the smokers' argument that the companies' misrepresentation caused the market to shift and the price of lights to be inflated failed as a matter of law, the court held. Neither an actual, quantifiable injury to business or property nor collective damages were susceptible to proof on a class-wide basis.

Statute of Limitations

Finally, the smokers offered no reliable means of collectively determining how many class members' claims were barred by the four-year RICO statute of limitations, the court found. As the district court had noted, a troubling critical problem in the case (filed in May 2004) was that some members of the class almost certainly were aware long before 2000 that light cigarettes were not appreciably safer for them than regular cigarettes.

Two class representatives apparently understood the phenomenon of “compensation” and its attendant risks prior to May 2000, and the smokers offered no reliable means of collectively determining how many class members' claims were time-barred, the court said.

The April 3, 2008 decision in McLaughlin v. American Tobacco Co. will be reported at CCH RICO Business Disputes Guide ¶11,465.

Pharmacy Chain to Improve Document Disposal to Settle Texas Information Security Claims

This posting was written by Thomas Long, Editor of CCH Privacy Law in Marketing.

The State of Texas has reached a settlement of claims that CVS Pharmacy, Inc. violated state laws regulating the disposal of customer records containing sensitive personal information, Texas Attorney General Greg Abbott announced on March 26. Under an agreed final judgment, CVS will pay the state $315,000 and will overhaul its information security program.

According to the complaint filed by the Attorney General, thousands of CVS's business records containing sensitive personal information regarding customers were found in a trash dumpster behind a CVS store in Liberty, Texas.

These business records included sales receipts, refund slips, and prescription labels containing such information as customers' names, addresses, dates of birth, credit card numbers and expiration dates, driver’s license numbers, telephone numbers, type of medicine prescribed, insurance company, and prescribing physician.

Shredding, Erasing, or Destruction of Disposed Records

The complaint asserted that CVS's conduct violated Texas Business and Commerce Code Sec. 35.48(d)—which requires businesses disposing of records containing personal information regarding customers to shred or erase the records—and Sec. 48.102 of the Texas Identity Theft and Enforcement and Protection Act—which requires businesses to (1) implement and maintain reasonable procedures to protect and safeguard from unlawful use or disclosure any sensitive personal information that it collected or maintained in the regular course of business and (2) destroy or arrange for the destruction of its customer records containing sensitive personal information within its control that were not retained by it.

“Recognizing that identity theft is one of the nation’s fastest growing crimes, the Texas Legislature passed laws to protect Texas consumers,” Attorney General Abbott said. “This agreement ensures that CVS will implement new procedures that will better safeguard their customers’ personal information. The Office of the Attorney General will continue aggressively enforcing laws that protect Texans from identity theft.”

The agreed final judgment orders CVS, when disposing of records containing personal information, to modify the records by shredding them, erasing them, or otherwise making them unreadable or undecipherable. Records that are pending modification must be kept in secured, locked containers or otherwise stored securely.

Training, Oversight Requirements

CVS must implement a training program to inform its Texas employees about the company’s enhanced information privacy and security procedures. In addition, each CVS store will be required to post signs explaining proper records storage and disposal procedures and must conduct unannounced compliance checks of at least three percent of its stores every six months.

CVS will also be required to designate an employee from its corporate office to oversee compliance with privacy protection laws. Store employees must be allowed to anonymously report any failures to comply with the program to a designated corporate-based employee or third party vendor. For five years, the compliance representative must forward a sworn statement to the Office of the Attorney General certifying that CVS has instituted and satisfied the required employee training.

The monetary payment to the State included $40,000 for attorney's fees and costs. The remaining $275,000 will be deposited in the general revenue fund and may be appropriated only for the investigation and prosecution of cases under the Identity Theft Enforcement and Protection Act.

The attorney general's office stated that its investigation revealed no confirmed incidents of personal information being misused, but consumers who patronized the affected CVS location should carefully monitor bank, credit card, and any similar financial statements for evidence of suspicious activity. All consumers should also annually obtain free copies of their credit reports, the office said.

The Agreed Final Judgment and Permanent Injunction in the case of Texas v. CVS Pharmacy, Inc., Texas Dist. Ct., Liberty County, No. CV-72881, appears here on the Texas Attorney General’s website. A news release on the action appears here.

FTC 2008 Annual Report Describes Agency Mission, Highlights Accomplishments

This posting was written by Darius Sturmer, Editor of CCH Trade Regulation Reporter.

Outgoing FTC Chairman Deborah Platt Majoras issued the Commission’s 2008 Annual Report at the American Bar Association’s Section of Antitrust Law Spring Meeting on March 28 in Washington, D.C.

The report, entitled “The FTC in 2008: A Force for Consumers and Competition,” described the agency’s competition and consumer protection missions and highlighted numerous accomplishments of the previous year.

Mergers and Acquisitions

The report cited the agency’s filing of federal court actions to block three mergers; a federal appellate court’s upholding of the FTC’s order requiring Chicago Bridge & Iron to divest cryogenic storage tank assets acquired from competitor Pitt-Des Moines in 2001; the Commission’s attainment of consent orders requiring significant divestitures in transactions such as Mylan’s acquisition of Merck’s generic subsidiary; and the FTC’s decision that Evanston Northwestern Healthcare Corporation’s acquisition of Highland Park Hospital enabled the corporation’s hospitals to raise prices through an exercise of market power.

The FTC also policed anticompetitive conduct in the health care, energy, real estate, and high-tech industries, with a particular focus on competitor collaboration and exclusionary conduct, according to the report. In one important case, the agency filed a new action against Cephalon, Inc., alleging the drug maker entered into illegal agreements to keep generic formulations of its branded product Provigil off the market.

Other Enforcement Initiatives

Among other significant enforcement initiatives were: (1) actions to stop deceptive lending, debt negotiation and settlement, debt collection, mortgage, and subprime credit schemes that prey on financially-strapped consumers; (2) cases to protect consumers’ personal and financial data from technology-driven threats during its collection, storage, use, and disposal; (3) continued enforcement efforts in the technology area against spyware, adware, and deceptive spam practices; (4) the filing of lawsuits against defendants who made deceptive health, safety, and weight loss claims; and (5) a major crackdown on Do Not Call violators, including six settlements against telemarketers that resulted in nearly $7.7 million in civil penalties.

Nonenforcement Issues

In addition to enforcement, the report noted that the agency held a public workshop on carbon offsets and renewable energy certificates as part of the review of the FTC Green Guides. The FTC also continued to grow and develop its Office of International Affairs, building on worldwide relationships to help the agency accomplish its laws enforcement and advocacy missions.

Further details regarding the former Chairman's presentation appears here on the FTC website. The 2008 Annual Report appears here.

Federal Enforcement Chiefs Offer Views at ABA Antitrust Spring Meeting

This posting was written by Jeffrey May, Editor of CCH Trade Regulation Reporter.

The then-current heads of both federal antitrust agencies reflected on their tenures during the March 28 enforcement roundtable at the American Bar Association Section of Antitrust Law Spring Meeting in Washington, D.C.

Deborah Platt Majoras addressed the meeting for the last time as FTC Chairman. She had announced her resignation, effective March 30, only days earlier. Majoras stated that the FTC has remained vigilant in enforcing the antitrust and consumer protection laws. She was surprised by criticism, especially from antitrust practitioners, of lax enforcement.

Chairman Defends FTC

In defense of the agency’s efforts, she pointed to the high number of cases that the agency has brought and continued to pursue. Majoras touted the agency’s recent victory in Chicago Bridge & Iron Company case (2008-1 Trade Cases ¶76,019). The Fifth Circuit upheld a Commission opinion ordering divestiture to restore competition in markets for industrial storage tanks following CB&I’s acquisition of certain Pitt-Des Moines, Inc. assets. Majoras said the decision showed that FTC merger analysis was sound.

Chairman Majoras also commented on the Commission’s continued efforts to challenge unlawful single firm conduct. She cited an enforcement action the FTC brought against Union Oil Company of California (Unocal), alleging that the company illegally acquired monopoly power in the technology market for producing a formulation of law-emissions gasoline by deceptively inducing California Air Resources Board to adopt reformulated gasoline standards that substantially overlapped with Unocal’s patent rights. Unocal settled the charges in 2005 (CCH Trade Regulation Reporter ¶15,755).

In closing, Majoras expressed pride in why the FTC did its job during her tenure. She said that the agency resisted political pressure and avoided bringing cases simply to improve statistics.

DOJ Targets Cartels

Thomas O. Barnett, Assistant Attorney General in charge of the Department of Justice Antitrust Division, told attendees that “now is the most dangerous time in the history of the world” to enter into a cartel agreement. The antitrust chief spoke of international cooperation in cartel investigations as well as in engaging with other nations, such as China and India, in the development of antitrust law.

Barnett also voiced his happiness with the Antitrust Division’s advocacy efforts during his tenure, particularly with the amicus curiae briefs the Justice Department has filed with the U.S. Supreme Court and the impact that they have had on the development of antitrust law.

Former Officials Sound Off

A day earlier, several former agency heads from the Clinton and Bush Administrations discussed federal antitrust enforcement at the Chair’s Showcase Program.

Former FTC Chairman Bob Pitofsky said that there had been underenforcement at the agencies during the last four or five years. He noted that the comment was directed primarily at the Antitrust Division. Pitofsky, who chaired the FTC from 1995 to 2001, pointed to the lack of unilateral conduct and vertical restraint cases brought by the Department of Justice during the previous eight years. He did add, however, that Justice Department cartel enforcement was “as good as it gets.” The former Commission chair was critical of the lax merger enforcement, noting that the some concerns had their roots in the Justice Department’s clearance of the Maytag/Whirlpool combination in 2006 (CCH Trade Regulation Reporter ¶50,209).

R. Hewett Pate, former Assistant Attorney General in charge of the Antitrust Division from 2002 to 2005, defended the Division’s recent merger enforcement record. He said that statistics pointing to a downturn in enforcement “prove very little.”

Timothy Muris, who succeeded Pitofsky as FTC Chairman, defended the agency’s enforcement record over the last eight years. He identified the Unocal and Bristol-Myers Squibb Company cases as two very important recent actions. In the case against Bristol-Myers Squibb, the FTC alleged that the drug maker delayed entry of generic cancer drugs through its patent practices. Bristol-Myers Squibb settled the FTC charges in 2003 (CCH Trade Regulation Reporter ¶15,373).

N-Data “Mistake”

Muris did question a recent FTC action, calling the agency’s suit against Negotiated Data Solutions LLC (N-Data) a “mistake.” The agency alleged that N-Data engaged in unfair methods of competition and unfair acts or practices in violation of the FTC Act by enforcing certain patents against makers of equipment employing Ethernet—a computer networking standard used in nearly every computer sold in the United States (CCH Trade Regulation Reporter ¶16,097). Muris suggested that the FTC’s recent successes might be causing it to overreach in its enforcement efforts.

A. Douglas Melamed, a former antitrust chief during the final months of the Clinton Administration, also questioned the wisdom of the N-Data case. He called it a dangerous precedent that could be used in boundless ways. Melamed believed that the alleged victims of the standard-setting conduct, such as Dell Computer, could have taken care of themselves. He saw no injury to competition in the case.