Today's General Counsel, V10 N4, August/September 2013 by Today's General Counsel

AUG/ SEPT 2013 VOLUME 1 0 / NUMBER 4 TODAYSGENER A LCOUNSEL.COM

JUDGMENT CALLS Avoiding the Need for Accounting Restatements Social Media, the Double-Edged Sword Opting-Out of Corporate Class Actions GCs and Cyber-Security Matter Management Attorney Fee Awards

INTELLECTUAL PROPERTY

Don’t Overreach on Your Damages Theory Strange Rule: What In-House Lawyers Aren’t Allowed to See

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Love Conquers All, Except Workplace Power Dynamics

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aug/ sept 2013 toDay’s gEnEr al counsEl

Editor’s Desk

Class action lawsuits can be a corporation’s worst nightmare when they are defendants, but as Thomas J. Wiegand, and Lucas Walker point out in this issue of Today’s General Counsel, they are often plaintiffs, and like all class members they have the opportunity to opt out of the class and litigate their own claims. Knowing if, when, and how to do that can be crucial, because individual settlements with entities that have the resources to pursue them are often substantially higher than class members’ recovery. Weigand and Walker mention the Tyco International securities class settlement of 2007, in which 300 corporate plaintiffs decided to opt out. An analysis indicated that, even though it paid a record $3 billion to settle with the class, defendant Tyco had negotiated a very favorable settlement. The opt-outs did much better. Two New Jersey pension funds, for example, settled for $73 million a year later. Whether to opt-out as a plaintiff or not is a minor issue compared to those that arise when a corporation becomes the defendant in a class action lawsuit. The corporation’s audit committee has the primary responsibility for avoiding that unhappy eventuality when material inaccuracies in financial statements are the problem. Michael Garcia and Tiffani Lee advise committee members to spend time quarterly with management in order understand accounting judgments, because such judgment calls are the biggest factor in misstatements. Office romances can lead to litigation too, hopefully not class actions but difficult cases nonetheless. It is the hidden affairs that cause the most legal trouble, according to Emily Miller and Stephen Miller, probably because they often take place between a superior and a subordinate – a recipe for litigation. The Millers provide a template for investigating and resolving

those issues before they have financial as well as emotional repercussions. Steve Maslowski and Ruben H. Muñoz discuss how record setting awards for patent infringement can be reversed because the plaintiff runs afoul of the entire market value rule, and Antonio Turco and Gary Daniel point out some small but crucial differences between our intellectual property laws and those of Canada.

Bob Nienhouse, Editor-In-Chief bnienhouse@TodaysGC.com

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aug/ sept 2013 toDay’s gener al counsel

Departments

BAD FAITH CLAIMS AGAINST INSURERS

TECH E&O INSURANCE 101

HOW MATTER MANAGEMENT WORKS FOR LEGAL DEPARTMENTS

LITIGATION AS A TOOL OF ECONOMIC DEVELOPMENT

GENERAL COUNSEL MUST ADDRESS CYBER-SECURITY

LITTLE GUIDANCE FOR LOWER COURTS IN FTC V. ACTAVIS

FEE AWARDS IN ARBITRATION

OPTING OUT OF A CLASS ACTION

Lynda Bennett Liability is one thing, damages are another.

Alba Alessandro For many kinds of businesses, it’s a must.

Ted Best The promise of a technology investment.

Steven P. Blonder Economic development leads to anti-trust suits.

Mark E. Harrington Your company has been hacked – or will be.

Leslie E. John, Jason A. Leckerman and Paul Greenberg Supreme Court decision muddies the waters for anti-trust litigation.

Bruce G. Paulsen and Jeffrey M. Dine Many avenues, but the attempt could backfire.

Thomas J. Wiegand and Lucas Walker When corporations are plaintiffs.

Page 52

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aug/ sept 2013 toDay’s gener al counsel

Departments Editor’s Desk Executive Summaries

Page 22

intEllEc tual ProPErt y

16 | In-House Attorneys Can’t View Crucial Documents Elizabeth A. Niemeyer and Smith R. Brittingham IV Multi-party accommodation is required.

18 Choose Your Damages Theory Carefully |

Steve D. Maslowski and Ruben H. Muñoz Don’t overreach.

E-DiscovEry

HuMan rEsourcEs

GovErnancE

22 | Time To Rethink E-Discovery

28 | Love Conquers All

Will Hoffman Apply advances in learning psychology.

Emily S. Miller and Stephen A. Miller Thin line between chemistry and harassment.

34 | Audit Committee Responsibilities And The Risk Of Restatement

24 | Social Media Content Discoverable, Must Be Preserved Chris Forstner Recent decisions confirm key role in litigation.

26 | Manage Risks To Reap Social Media Rewards

30 | Financial Consequences Of Play-Or-Pay Health Care Mandate

Michael E. Garcia and Tiffani G. Lee Avoiding material inaccuracies.

canaDa / cross-BorDEr

38 | IP Systems In Canada and the U.S. are Similar but Not Identical By Antonio Turco and Gary Daniel So close it’s easy to overlook the differences.

Callan Carter Plan now to avoid penalties.

Jodi Vickerman Distinction between public and private is crucial. Page 18

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Alba Alessandro Lynda Bennett Ted Best Steve Blonder Smith R. Brittingham IV Callan Carter Gary Daniel Jeff Dine Chris Forstner Michael E. Garcia Paul Greenberg Mark Harrington Will Hoffman

Leslie E. John Jason A. Leckerman Tiffani G. Lee Steve Maslowski Emily S. Miller Stephen A. Miller Ruben Munoz Elizabeth A. Niemeyer Bruce Paulsen Antonio Turco Jodi Vickerman Lucas Walker Thomas J. Wiegand

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AUG/ SEPT 2013 TODAY’S GENER AL COUNSEL

Executive Summaries INTELLEC TUAL PROPERT Y

E-DISCOVERY

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In-House Attorneys Can’t View Crucial Documents

Choose Your Damages Theory Carefully

Time to Rethink E-Discovery

By Elizabeth A. Niemeyer and Smith R. Brittingham IV Finnegan, Henderson, Farabow, Garrett & Dunner, LLP

By Steve D. Maslowski and Rubén H. Muñoz Akin Gump Strauss Hauer & Feld LLP

The standard version of a Section 337 administrative protective order from the ITC provides only one level of confidentiality: outside counsel, and others identified in the APO who have subscribed and agreed to be bound by its terms, have access. Notably, the APO grants in-house counsel no access to information designated confidential. Since a number of documents in a Section 337 investigation contain confidential information from at least one entity, and often multiple entities, the vast majority of documents – including the most significant ones – are designated confidential. As a result, in-house counsel often cannot even see documents containing their own company’s information, including content of the final decision on whether the company won or lost. Unless all parties reach accommodation, in-house counsel must rely almost entirely on the sanitized and non-specific information provided by outside counsel regarding the status of an investigation. This puts in-house counsel in a quandary. They must advise management on how to proceed, but that recommendation is rarely based on first-hand knowledge of the crucial evidence and arguments on which the case will rise or fall. Understanding the APO, including the obligations of outside counsel to strictly adhere to its terms and work within its limits, can help in-house counsel devise agreements with the other parties to increase and expedite access to information. In-house counsel have several options to increase access. They require cooperation between parties. The authors describe some options, with the pros and cons of each.

In an effort to maximize damages awards, patent owners may be tempted to push the limits of the recovery boundaries beyond those permitted by law. Record-setting damages awards have been reversed on appeal and others have been tossed on post-trial motions for running afoul of the “entire market value rule.” This rule permits recovery on the sales of an accused product only if the patented component or feature drove the demand for the “entire product.” In cases involving multi-component products, proof that the rule applies is exceedingly difficult. Courts view the application of the entire market value rule as the exception to a more general rule which mandates that royalties be tied to the “smallest salable patent-practicing unit.” Thus, one of the first questions a patent owner should ask when evaluating the soundness of its damages theory should be whether the royalty base it has selected is adequately tied to the smallest salable unit to which the patented invention relates. Courts recognize two broad categories of damages: lost profits, which are available to patent owners who compete in the market and would have made a sale “but for” the infringement; and reasonable royalties, which are available to all patent owners, regardless of whether they compete in the market. The entire market value rule applies to both categories. Thus, it is incumbent upon patent owners and accused infringers alike to understand the applicability of the rule, as well as its limitations.

By Will Hoffman Hoffman Law

You can significantly reduce the expense and risk of e-discovery by demanding a cooperative approach, automating the exclusion of most electronically stored information, using non-waiver orders to reduce the cost of privilege review and restructuring the attorney-review stage. Cooperation has strategic advantages. It increases predictability and control over the information that is preserved and disclosed. It leads to agreements that influence the pace and extent of discovery. Above all, it substantially reduces risk. Courts urge transparency and demand cooperation. Judicial opinions decry lack of cooperation among the parties, and in some cases failure to cooperate has been deemed sanctionable. Cooperation should be a major goal throughout the discovery process. Most responsive ESI is of little significance, even if it is privileged. With proper waivers in place, the savings from not undertaking a documentby-document review of that ESI far outweigh any potential negative consequences of producing unimportant, privileged ESI. Although the last decade has seen a revolution in discovery technology, little progress has been made improving eyes-on review. This is largely attributable to the legal community’s unawareness of the revolution in understanding memory and the science of learning. Research shows that those with substantial knowledge of a topic make decisions quicker and more accurately than those who have little comparable knowledge. Properly educated reviewers assess and code documents faster and more accurately, thus substantially reducing cost and risk.

THE MAGA ZINE FOR THE GENER AL COUNSEL, CEO & CFO AUG/ SEPT 2013

Executive Summaries

E-DISCOVERY

HUMAN RESOURCES

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Social Media Content Discoverable, Must Be Preserved

Manage Risks to Reap Social Media Rewards

Love Conquers All

By Chris Forstner Murphy & McGonigle

By Jodi Vickerman Kroll Ontrack

Lawyers have increasingly turned to social media information for evidence in civil litigation. This happens most commonly in employment disputes and personal injury matters, but will likely be occurring in future securities class actions, intellectual property disputes and regulatory investigations. The potential of social media information to win or lose a case has led to several disputes over discoverability in civil litigation. These disputes have resulted in several key decisions that shed light on how discovery rules will apply to social media content, and companies using or contemplating using social media should take note. It is clear that social media content is discoverable, and if you control the content you will be held responsible for it in discovery, even if the information resides in the hands of a third party service provider. Litigants are expected to overcome technical challenges associated with discovery of social media content. Courts will also hold litigants accountable for failure to preserve relevant social media content. The duty to preserve differs from jurisdiction to jurisdiction, but in most cases, it is settled that a party has an obligation to preserve relevant information once litigation is reasonably foreseeable. If relevant information is lost after the duty attaches, the failing party may be sanctioned for spoliation. Companies must be prepared with plans to produce their social media content when called upon to do so, and to preserve such content as they would any other form of electronically stored information.

The benefits of social media are considerable, but there are risks associated with their use for marketing or intercompany communication. Social media sites are gold mines of evidence for data investigations and litigation. Uniform standards with regard to discoverability, preservation, collection and authentication have yet to emerge. While courts are generally settled that social media is discoverable, case law is undecided as to when and under what circumstances. Many state and federal courts have dismissed social media privacy claims, reasoning that voluntarily posting an array of personal information to a website precludes any expectation of privacy. While most case law suggests greater permissiveness for social media and a strong likelihood that privacy concerns will be outweighed by the relevance of the information, a clear standard has yet to emerge. Until such a standard emerges, organizations should anticipate such requests and have a plan in place. Since data from social media is generally discoverable, all discovery obligations apply, including the duty to preserve. Regardless of the collection method, it is imperative to document the process thoroughly and obtain the user’s consent or a court order before collecting. Usually production of social media data involves the user of the site, not the social media companies. Authenticating evidence from social media sites is a growing issue. Legal professionals often have to take measures to eliminate the possibility that someone other than the account owner posted the information.

By Emily S. Miller and Stephen A. Miller Cozen O’Connor

Love conquers all, except disparities in workplace power dynamics. But in a recent survey concerning workplace romances, 39 percent of respondents admitted to dating a co-worker at least once. Seventy percent of those relationships fizzled before marriage. Critically, 29 percent of survey respondents admitted to having dated someone above him or her in the company’s chain of command, and 35 percent of those kept their romance a secret. It is those hidden affairs that represent the gravest threat of litigation, especially when they involve a superior and a subordinate. The unequal distribution of power creates the potential for sexual harassment claims. The longer such relationships carry on without company knowledge, the more exposure the company may face. Companies should seek outside expertise when particularly risky co-worker couplings are first revealed – for example, relationships with disparity in the workplace power dynamics between the parties or relative to the legal department. Sticking the company’s collective head in the sand is a poor option. If improper conduct has occurred, the investigator needs to advise the company how to mitigate damage, with respect to both legal liability and employee morale. That may include disciplining employees or implementing revised policies, as well as figuring out how to explain those actions to the workforce and the market at large. Relevant promotion decisions and employment conditions will need to be re-examined. The long-term benefits of implementing corrective measures far outweigh any short-term awkwardness due to the investigation.

AUG/ SEPT 2013 TODAY’S GENER AL COUNSEL

Executive Summaries HUMAN RESOURCES

CANADA /CROSS–BORDER

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Financial Consequences of PlayOr-Pay Health Care Mandate

Audit Committee Responsibilities and the Risk of Restatement

IP Systems in Canada and the U.S. Are Similar But Not Identical

By Callan Carter Trucker Huss

GOVERNANCE

For employers, the most important provision in the Affordable Care Act will be the play-or-pay mandate. It requires employers with the equivalent of 50 or more full-time employees to provide adequate and subsidized group health plan coverage to all full-time employees and their dependents. This requirement was originally scheduled to take effect in 2014 but was postponed to January 1, 2015. Even though the new effective date is more than a year away, it is important to start modeling the impact of this mandate. There are a lot of calculations to perform to determine how much playing or paying will cost. The play-or-pay provision applies to employers with the equivalent of 50 or more full-time employees in the prior calendar year. The author outlines the process by which an employer can determine if it falls within that guideline. If the provision applies, the employer must offer “minimum essential coverage” which provides “minimum value” at an “affordable price” to substantially all of its full-time employees (not full-time equivalents), or risk paying an excise tax. For a plan to provide minimum value, it must pay 60 percent of the claims incurred by participants (including co-pays, deductibles, co-insurance, etc.). The IRS and HHS offer an online minimum value calculator to determine if a plan provides minimum value. Failing to satisfy the “play” requirement will subject an employer to a non-deductible penalty (the “pay”), which could have a significant economic impact.

By Michael E. Garcia and Tiffani G. Lee Holland & Knight

Accounting judgments about revenue recognition, accruing losses and assessing fair value are principally the responsibility of management. A company’s audit committee functions in an oversight role over financial reporting and must assure itself that the financial statements are reasonably accurate, complete and fair. Ultimately, some accounting judgments will be subjected to audit. The audit committee has the primary oversight role and is the agency of communication with the company’s independent auditors. As a result, it is important that management and the audit committee understand the areas in which the company makes significant accounting judgments. A best-practices approach should be developed to apply in those situations. The exercise of accounting judgment can lead to a restatement – an admission that a company’s past financial statements were materially inaccurate – which may expose the company to considerable risk. The authors suggest that members of the audit committee spend time with C-suite management on at least a quarterly basis, to understand the accounting judgments being made and management’s approach to them. Questions to ask include: Do the critical accounting policies and judgments described in the notes to financial statements accurately reflect current realities? Have there been significant changes in business that impact accounting? Have there been any unique or significant transactions during the period? The authors describe the areas of accounting in which most restatements originate, and provide a list of best practices to avoid material inaccuracies.

By Antonio Turco and Gary Daniel Blake, Cassels and Graydon LLP

The intellectual property systems of Canada and the United States are so similar that the differences can easily be overlooked. This article highlights 10 differences that can cause crossborder problems. Canada does not have a “work for hire” doctrine. Work created by an employee may be owned by the employer, but the copyright on work created by an independent contractor belongs to the contractor, even if it is created on retainer. Accordingly, an explicit assignment of copyright is required where the creator is not an employee. The Canadian Copyright Act requires that any assignment of copyright be in writing. In Canada, moral rights may only be waived, unlike in the United States, where they can be assigned. Canada does not have the concept of “fair use.” Statutory exceptions to copyright infringement, called “fair dealing,” are limited to certain identified purposes. Canada has no equivalent to International Trade Commission proceedings and no so-called “border orders,” which are available through U.S. Customs and Border Protection. However, recently proposed amendments to the Copyright Act and the Trademarks Act would enable Canadian border agents to detain goods they suspect infringe copyright or trademark rights, and permit them to share information with intellectual property rights owners in order to allow them to pursue legal remedies. The authors caution that their list is not exhaustive, and U.S. companies doing business in Canada should make themselves aware of IP laws and regulations that might affect them.

THE MAGA ZINE FOR THE GENER AL COUNSEL, CEO & CFO AUG/ SEPT 2013

Executive Summaries

FEATURES PAGE 40

PAGE 42

PAGE 44

Bad Faith Claims Against Insurers

Tech E&O Insurance 101

How Matter Management Works for Legal Departments

By Lynda Bennett Lowenstein Sandler

Most state law on bad faith by insurers is strong on liability, but weak on the award of damages. Each state has decisional law establishing that an insurance company owes a duty of good faith with respect to evaluating claims. Most states also embrace the proposition that in fulfilling its duty, an insurance company cannot place its own financial interests ahead of its insureds, particularly when considering settlement demands within the limits of a policy. The evidence required to demonstrate that an insurer has acted in bad faith varies widely. In some instances misconduct handling one claim is sufficient. In others, bad faith by the insurer can be shown only if the policyholder can demonstrate a “pattern and practice” of conduct. While insurers generally are not concerned about a finding of bad faith liability against them, they are concerned about the assertion of a bad faith claim if it will lead to immediate or broad discovery obligations. Assuming the policyholder has sufficient facts to establish bad faith, the next hurdle it faces is quantifying the damages that resulted. Often, it is difficult to quantify damages over and above the amount of the claim and attorney fees incurred in connection with pursuing coverage. Corporate policyholders must think creatively about how to capture lost opportunity costs, lost time value of money and other indirect costs.

By Alba Alessandro Hodgson Russ LLP

This article is a Q&A primer on technology errors and omissions insurance, or “Tech E&O.” A standard commercial general liability policy does not cover claims for programming errors or disputes over contract performance because tech claims do not fall under the definition of tangible property. A CGL policy can, however, cover some product failure if the failure causes damage to tangible property. Tech E&O insurance covers two basic risks. The first is financial loss of a third party from failure of the insured’s product to perform as intended. The second is financial loss of a third party arising from an act, error, or omission committed in the course of the insured’s performance of services. The policy typically covers defense costs and judgments up to the policy’s limits. There is usually coverage for liability arising out of the failure of the insured’s technology products, including hardware and software. Tech E&O policies are typically “claims made and reported” with an “as-soon- as-practicable” provision. Although tech E&O claims are in their infancy and case law is limited, traditional coverage issues apply. Is an insured obligated to disclose prior claims or lawsuits in the application form? What constitutes prior knowledge? Does a known weakness in the software or hardware constitute knowledge of circumstances that could lead to a claim? When does a company’s risk manager or chief technology officer need to report a potential claim? How soon does a company need to report to the carrier?

By Ted Best LexisNexis

Legal departments have a clear and compelling business case for using technology as a means to increase efficiency and productivity. Matter management technologies allow corporate counsel to have insight and access to all data related to a matter, from spend and budget to current status and upcoming tasks. Ideally, matter management provides visibility across all matters in which a corporation is currently engaged, plus the ability to drill down and see the detailed status, documents and financial information of a specific matter. Over time, matter management systems can provide a good sense of how long a project will take as well as average cost. This enables more effective negotiations and predictability in budgeting. Data driven options resonate with business leaders who are less accustomed to dealing with the complexities of legal strategy. The ability to have all information related to a case is valuable, because changes in matter status can have financial effects the business needs to know immediately. Given the multiple resources, documents and people that touch a matter at a given point in time, automation is the only realistic way to see the complete picture. Predictable budgets, reporting and analytics are tools that the C-Suite understands. They facilitate senior management’s understanding of inside counsel as strategic partners. Data and analytics enable general counsel to meet their objectives of reducing risk, ensuring they receive the best value for outside spending, and improving outcomes for the organization.

AUG/ SEPT 2013 TODAY’S GENER AL COUNSEL

Executive Summaries FEATURES

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Litigation As A Tool of Economic Development

General Counsel Must Address Cyber-Security

Little Guidance For Lower Courts In FTC v. Actavis

By Steven P. Blonder Much Shelist

By Mark E. Harrington Guidance Software, Inc.

By Leslie E. John, Jason A. Leckerman and Paul Greenberg Ballard Spahr LLP

Government at all levels is cashstrapped and mired in debt. In response, state and local governments often initiate a series of “economic development” measures, which largely involve heavily-lobbied public officials favoring targeted businesses with special incentives – tax abatements, subsidies, free land and other benefits -- and pitting businesses against each other, cities, states, or even their neighbors. One short-term financial fix is privatization, in which state or local government units sell services or assets – airports, parking, toll roads, and even state Medicaid programs and commerce departments – to private companies. When Chicago “leased” its parking meters to a Morgan Stanleyaffiliated entity, and its parking lot operations to another entity, the City received cash payments that helped resolve existing budget crises. But it also endured a public bashing in the press as a result of the ensuing price increases and operational challenges, plus a series of legal challenges both in court and in arbitration over the programs. While the ultimate success of these efforts will not be ascertained for decades, early returns from a municipal perspective are not promising. Lawsuits have been filed contesting inducements and other forms of economic development. They allege that direct aid to businesses violates state constitutions, and they cite various statutory restrictions on how a state or political subdivision may spend funds. In other instances, antitrust cases have been threatened by states in the face of corporate relocation, thus making litigation a central part of economic development strategy.

Preparing for cyber-attacks is now a critical part of overall risk management. The scope of cyber-threats and their potential impact on everything from corporate and executive reputation to long-term financial viability makes it clear that chief information security officers and their general counsel would do well to collaborate. This article outlines some initiatives that general counsel should undertake in order to approach enterprise risk management. Cyber-security and legal now directly intersect via compliance and regulatory rules related to privacy, protection of personal information, and disclosure of risks. In 2011. the SEC issued guidelines stating that publiclytraded companies must not only disclose instances of cyber-theft or attack, but they must report even when they are at material risk of such an event. If legal is not aware of such risks due to poor communication with IT and IS departments, it is at risk of violating SEC guidelines. Information security systems must be 100 percent successful in order to prevent breaches, while attackers need only be successful once. Realistically, cyber-breaches will occur – and are likely to have occurred already – in most large corporations. The ability to quickly triage alerts to pinpoint true threats is essential. So too is having the ability to assess the impact of a threat, discover which data is at risk, and halt a serious breach. Having forensic capability greatly improves the ability to glean evidence that is court-admissible, in the event that a breach leads to litigation.

In June, the U.S. Supreme Court issued its opinion in FTC v. Actavis, Inc., a decision that will have significant ramifications for the pharmaceutical industry. It will embolden the FTC and class action attorneys to bring challenges to settlements of patent infringement litigations. By encouraging continued litigation the case could not only impact the availability of new drugs but also could delay the entry of generics. The FTC challenged as anti-competitive under the antitrust laws settlements that brand-name and generic drug companies execute to end patent litigation when those settlements contain a cash payment from the brand to the generic companies. The FTC’s complaint in Actavis asserted that the brand and generic companies violated antitrust laws when the brand company allegedly paid cash in exchange for an agreement to abandon challenges to the brand’s patent, and to refrain from marketing a generic version of AndroGel until 2015. The Supreme Court, in a 5-3 vote, opted for a middle ground: the “rule of reason” standard used for most antitrust cases. According to the authors, the decision will have unintended, consequences for both pharmaceutical companies and consumers. It will discourage settlement of patent litigation because after settling, the parties would have to litigate the question of patent validity as part of a defense against an antitrust suit. It likely will delay the entry of generics by reducing the incentive to challenge brand patents and discourage investments in innovation.

THE MAGA ZINE FOR THE GENER AL COUNSEL, CEO & CFO AUG/ SEPT 2013

Executive Summaries

FEATURES PAGE 58

PAGE 62

Fee Awards in Arbitration

Opting Out of A Class Action

By Bruce G. Paulsen and Jeffrey M. Dine Seward & Kissel

By Thomas J. Wiegand and Lucas Walker MoloLamken LLP

The usual rule in litigation in the United States is that a losing party is not obligated to pay the prevailing party’s attorneys’ fees. But this article looks at several mechanisms by which parties to arbitration may recover, or face liability for, attorneys’ fees under the Federal Arbitration Act. Traditional state law hostility to awarding attorneys’ fees is generally superceded by the FAA’s direction that state laws hostile to arbitration are preempted. Various arbitral bodies have rules that allow for fee awards. Recent Supreme Court jurisprudence has broadened the scope of arbitration, limited the grounds for striking arbitration agreements and narrowed the grounds for challenging arbitral awards. The standard for granting sanctions such as fees against a party opposing enforcement of an arbitration is high, but it is not uniform across the circuits. Within the Second Circuit, for example, the rule has been that, under the court’s inherent power, “when a challenger refuses to abide by an arbitrator’s decision without justification, attorneys’ fees and costs may properly be awarded.” In arbitration, a request for attorneys’ fees in a statement of claim can act as an additional submission in the arbitration, opening the issue of attorneys’ fees against the party making the request. Losing parties, and their counsel, who are considering challenging an arbitration award, must carefully evaluate their arguments against the high bar of the FAA. The risk is not simply losing the fight against confirmation, but also paying the winners’ attorneys’ fees.

Corporations are typically class action defendants, but in some kinds of class actions they may be plaintiffs. As such they generally are distinct from consumer or employee class members both in their financial might and the dollar value of their claims. If a court allows a case to proceed on a class basis, class members have two options: staying on the sidelines and accepting their share of any recovery or “opting out” in favor of filing a separate action. Potential recovery in the latter circumstance for corporations and large investors can be substantial, and they have the resources and sophistication to pursue individual lawsuits. Plaintiffs opting out of securities and antitrust class settlements routinely garner payments many times what they would have recovered in the class settlement, but there is a lack of uniform guidance about when opt-out decisions need to be made. The authors discuss the optimum timing of such a decision and offer advice about tolling and the mechanics of class certification. Claims asserted in a putative class action can be a significant asset to class members with large claims of their own. To take advantage of that asset, however, advance preparation is indispensable. To facilitate moving swiftly on an individual action once certification is decided, a member of a putative class that might want to pursue its own claims should consider engaging counsel to investigate the issues, assess potential recovery and plan a course of action before a decision on class certification.

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AUG/ SEPT 2013 TODAY’S GENER AL COUNSEL

Intellectual Property

In-house Attorneys Can’t View Crucial Documents Getting Information From ITC Protective Orders By Elizabeth A. Niemeyer and Smith R. Brittingham IV

dministrative protective orders (APOs) issued in Section 337 investigations before the U.S. International Trade Commission provide strong protection against disclosure of confidential information, which in turn allows ITC litigants to produce highly sensitive information in the short discovery period that usually applies in such cases. Those strict limits on access to materials designated confidential, however, have frustrated in-house counsel for decades. The standard version of a Section 337 APO provides one level of confidentiality: Only outside counsel, and others identified in the APO, who have subscribed and agreed to be bound by its terms have access. Notably, the APO grants in-house counsel no access to information designated confidential. Since a number of documents in a Section 337 investigation contain confidential information from at least one entity, and often multiple entities, the vast majority of documents – including the most significant ones – are designated confidential. As a result, in-house counsel often cannot even see documents containing their own company’s information, including the final decision on whether the company won or lost. Unless all parties reach accommodation, in-house counsel must rely almost entirely on the sanitized and non-specific information provided by outside counsel regarding the status of an investigation and the company’s chance of success. This puts in-house counsel in a quandary. They must advise management on how to proceed, but that recommendation is rarely based on first-hand knowledge of the crucial evidence and the arguments on

which the case will rise or fall. Understanding the APO, including the obligations of outside counsel to strictly adhere to its terms and work within its limits, can help in-house counsel devise agreements with the other parties to increase and expedite access to information. PRACTICAL REALITIES

Two fundamental aspects of the APO affect the amount of information available to outside counsel. One is the volume of information that is designated confidential and thus is subject to disclosure restrictions. The second is the consequence for an individual who fails to properly handle confidential information. This state of affairs does not sit well with in-house counsel whose companies are involved in ITC cases. Comments from in-house counsel at a recent conference on ITC practice highlighted their frustration. To paraphrase one, “Sometimes I think they mark stuff confidential just so I can’t see it.” Another specifically pointed to a claim construction briefing that was marked confidential as evidence of what she viewed as overuse of the confidential designation by “junior attorneys” afraid of failing to mark something confidential. A better understanding of the breadth and scope of the APO can help improve access to information. Discovery in a Section 337 proceeding is broad and fast paced. That breadth and speed forces parties to be liberal in designating materials as confidential in order to timely comply with discovery obligations. Parties must produce thousands, and sometimes millions, of documents during discovery very quickly, leaving counsel essentially no time to selectively evaluate each document for confidentiality.

TODAYâ&#x20AC;&#x2122;S GENER AL COUNSEL AUG/ SEPT 2013

Intellectual Property Instead, confidentiality for most documents is evaluated based on their source and likelihood to be confidential, rather than by an individual review. Consequently, the bulk of the documents produced during discovery by parties and third parties is designated confidential. Deposition transcripts are also routinely designated confidential in their entirety, allowing parties to revisit

at a later date whether certain portions can be re-designated. Presenting hearing testimony on the confidential record is also routine in the ITC, where courtrooms are cleared of anyone not subscribed to the protective order. Regarding written materials filed and served during a Section 337 proceeding, the APO requires counsel to designate as confidential a paper that discloses

confidential information. That is, any brief, discovery response, or motion that discloses information from a confidential document, deposition, or hearing transcript, must be marked confidential. As a result, nearly all documents (including essentially all the major briefs) are marked confidential. Absent some accommodation, in-house counsel continued on page 20

Aug/ Sept 2013 today’s gener al counsel

Intellectual Property

Choose Your Damages Theory Carefully By Steve D. Maslowski and Ruben H. Muñoz

atent infringement litigation has become a necessary aspect of doing business in a technologycentered world. Whether the infringement lawsuit is filed by a competitor in the marketplace or a non-practicing entity whose assets are largely limited to patent rights, patent litigation involves a complex and often protracted process in which proving liability is only half of the battle. The other half is fought with the aid of damages experts whose job is to translate the harm caused by the infringement into a dollar figure that adequately compensates the patent owner. In an effort to maximize damages awards, patent owners may be tempted to push the limits of the recovery boundaries – regrettably, sometimes beyond those permitted by law. Recordsetting damages awards for patent infringement have been reversed on appeal, and numerous others have been tossed on post-trial motions for running afoul of the “entire market value rule.” This rule permits recovery on the sales of an accused product only if the patented component or feature drove the demand for the “entire product.” In cases involving multi-component products, proof that the rule applies is exceedingly difficult. Yet, patentees eager to reap the benefits of the rule’s application constantly test its limit. Damages awards in patent cases are governed by 35 U.S.C. § 284, a federal statute which does little more than set a lower boundary of no less than “a reasonable royalty for the use made of the invention by the infringer.” It is through case law spanning many decades that the law governing patent infringement damages has developed. Over time, courts have come to recognize two broad categories of damages: lost profits, which are available to patent owners who compete in the market and would have made a sale “but for” the infringement, and reasonable royalties, which are available to all

patent owners, regardless of whether they compete in the market. Importantly, the entire market value rule applies to both categories of damages. Thus, it is incumbent upon patent owners and accused infringers alike to understand the applicability of the rule as well as its limitations. To be sure, there is a strong incentive for a patent owner to seek damages based on the entire market value rule. An example based on the recent LaserDynamics v. Quanta decision from the Court of Appeals for the Federal Circuit – the court with exclusive appellate jurisdiction over all patent cases -- illustrates the point in the reasonable royalty context. The plaintiff owned a patent covering a method that enables optical disc drives used in laptop computers to automatically discriminate

between CDs and DVDs. The plaintiff proved at trial that the products sold by the defendant infringed the patent. Because the plaintiff was a non-practicing entity, it could only seek reasonable royalty damages. Calculation of damages in such a case is typically straightforward. It is usually the product of a royalty rate times a royalty base. Determination of a royalty rate is not an exact science, but it is generally derived by analyzing 15 factors (commonly referred to as the Georgia Pacific factors) which include, for example, the royalty rate that the patentee has accepted in similar prior transactions and rates typically paid by licensees for similar technology. Once the royalty rate is set, the magnitude of recovery for the plaintiff depends on the royalty base. In the

today’s gener al counsel aug/ sept 2013

Intellectual Property example above, the plaintiff had two choices – namely, $2.5 billion based on the revenues derived from the sales of the infringing laptops, or $40 million based on the revenues derived from the sale of the infringing optical disc drives that were included in the laptops. Not surprisingly, the plaintiff chose the former, and at a 2 percent royalty rate, the jury awarded it damages of $50 million. The plaintiff’s victory was shortlived, however. In post trial motions, the defendant challenged the applicability of the entire market value rule on grounds that the plaintiff had not proven that laptop sales were driven by the patented optical disc drive feature. The plaintiff argued in turn that the entire market value rule applied because given the choice between two otherwise equivalent laptops, customers would choose the one with the patented disc-discrimination feature. The trial court agreed with the defendant and set aside the $50 million jury award. The appellate court affirmed, and explained that proof that consumers would choose the laptop having the desired feature over one that did not says nothing as to whether the presence of that functionality is what drives the customer to purchase the product in the first place. In the example just discussed, had the plaintiff opted for a different royalty base, using, for example, the sales of the optical disc drives as opposed to the whole laptop, the damages award would have been reduced ten-fold, but the chances of the plaintiff obtaining a supportable damages award in the first instance would have very likely been improved. Although the attractiveness of a high royalty base is undeniable, patent owners need to consider the expense and time invested on a failed damages theory. Thus, the ultimate decision regarding what damages theory a patent owner should pursue involves a risk/ reward assessment. And, although no damages theory is impervious to attack, there are several guideposts that can aid a patent owner in making its reasonable royalty damages

theory less susceptible to challenge on grounds of misapplication of the entire market value rule. First, courts view the application of the entire market value rule as the exception to a more general rule which mandates that royalties be tied to the “smallest salable patent-practicing unit.” Thus, one of the first questions a patent owner should ask when evaluating the soundness of its damages theory should be whether the royalty base that it has selected is adequately tied to the smallest salable unit to which the patented invention relates. If the answer is no, the potential for misapplication of the entire market value rule is high. Unless the patent owner can prove through evidence, such as customer surveys, that the patented feature is in fact driving the demand for the product from which the royalty base is derived, the damages theory is likely to fail. Second, the use of a very small royalty rate does not immunize the patent owner from attack for misapplication of the entire market value rule. In many instances, to gain the sympathy of the jury, patent owners may be tempted to inflate the royalty base to make the royalty rate appear modest by comparison. After all, a very small percentage of a very large number may appear reasonable to a jury. Courts, however, have carefully scrutinized this issue and realize that disclosure to a jury of overall product revenues may skew the jury’s view of damages regardless of the contribution of the patented component to those revenues. Third, accounting difficulties such as the inability to readily calculate the value of the “smallest salable patentpracticing unit” do not justify the use of the entire market value rule to approximate a damages award as a percentage of any component or product. There are, of course, alternative methods, such as lump sum royalties to calculate a damages award. Thus, patent owners would be ill-advised to advocate application of the entire market value rule under the guise that it is the only realistic way of approximating the true royalty values that should be paid

for the sale of products with patented components or features. The damages portion of any patent infringement case requires as much, if not more, careful consideration and planning as the liability portion. Although there is the inevitable desire for a patent holder to go after the biggest damages award possible, that desire must be weighed against the risk of any such award collapsing because it runs afoul of the relevant legal principles, including the evolving law related to the entire market value rule, whether in a reasonable royalty or lost profits context. A proper understanding of the rule by both the client and its outside counsel will help minimize the risk in building a fallible damages case, and maximize the likelihood that any award will withstand scrutiny by the district court and the appeals court. ■

Steven Maslowski is a partner in the Philadelphia office of Akin Gump Strauss Hauer & Feld LLP. His practice focuses on patent litigation and client counseling in a range of technologies, from highly complex biological and chemical inventions to mechanical and electrical devices. He is an adjunct professor at Temple University Law School, teaching a course in patent litigation. smaslowski@akingump.com

Rubén Muñoz is counsel in the Philadelphia office of Akin Gump Strauss Hauer & Feld LLP. He practices in the area of intellectual property, with an emphasis on patent infringement litigation. He also has counseled clients in developing IP strategies around various clean technology inventions. rmunoz@akingump.com

Aug/ Sept 2013 today’s gener al counsel

Intellectual Property Can’t View Documents continued from page 17

have no access to them. As an example, a claim construction brief (which should logically rest on entirely public information) could quote from deposition testimony of an expert or named inventor, which was designated confidential by the defending attorney. Unless and until the quoted testimony is re-designated as public, opposing counsel is obligated to designate the brief as confidential. The APO provides specific procedures for having information re-designated, and they are time-consuming. Absent following those procedures, outside counsel is simply not at liberty to designate a document public that discloses information protected by the APO. The protective order provides broad protection to the litigants and third parties that produce confidential information, but with it comes an equally broad responsibility by outside counsel to protect that information. Outside counsel files an undertaking promising to protect confidential information produced under the APO. That requirement applies to all information that is designated as confidential, until such time as it has been un-designated either by the information supplier or the ITC following the appropriate procedures. Failing that duty can impact an attorney’s reputation and career in very real ways, including sanctions and prohibitions on future practice before the ITC. An attorney who fails to comply with his or her obligations under the APO, intentionally or accidentally and regardless of the level of care, risks significant damage to his or her reputation. Each year the Commission publishes a summary of APO violations and investigations from the previous year. A cursory review shows that APO violations are almost never intentional. In order to avoid being an example in the Federal Register, most people try to be very careful about handling and protecting confidential information. To ensure compliance, outside counsel has little choice but to designate many documents and materials confidential,

regardless of whether he or she considers the information confidential. This displeases in-house counsel, but outside counsel are unwilling to jeopardize their own reputation and career. INCREASING ACCESS

Despite these obstacles, in-house counsel have several options to increase access. They require cooperation between parties, so maintaining civil relations with opposing counsel can be beneficial. The most common accommodation requires outside counsel to prepare redacted documents that remove all confidential business information except that of their own client, and to seek opposing counsel’s approval to share that redacted document with the client. Depending on the volume of materials being filed and exchanged, it can take precious resources to prepare redacted briefs for review by the other side(s) and to review such redacted briefs for approval. This option continues to protect one’s confidential information from the other parties, while granting the client broader access to the arguments and evidence presented. However, because all other parties’ confidential information has been redacted, in-house counsel does not get a full picture of some significant issues. This option is also very labor intensive and, consequently, expensive, since it can involve significant attorney time to review, redact, and/or approve redacted papers. Another accommodation parties can reach allows access by in-house counsel to specific documents or types of documents. For example, all parties might agree that specific in-house personnel can receive expert reports, motions, written discovery, or the pre-hearing briefs in un-redacted form (aside from any third party confidential information). If such an agreement is reached, parties can formalize the agreement through a nondisclosure agreement if they desire. The parties might also agree that inhouse counsel should be permitted routine access to confidential information and be permitted to subscribe to the APO. Such an accommodation requires the agreement of all parties and approval by the judge. But since most adversaries in the ITC are also competitors in the market-

place, few entities are willing to grant such unfettered access, even subject to the requirements of the APO – even though such an agreement would be the simplest to execute and provide in-house counsel with the most complete information. The parties may also reach an agreement that is some combination of one or more of the above. Each case is different, and the business needs and interests of the parties will vary as well. In-house counsel are free to revisit the issue throughout the investigation, or raise the issue directly with counterparts on the other side. As a party’s needs change, so might its position on access to confidential information. All parties tend to have an interest in more access to information where feasible and appropriate. Having a dialog about access to confidential information, and understanding the breadth of the APO and the resulting burdens on outside counsel, can help in-house counsel reduce frustration by either reaching an agreement, or creating a framework that can be used to gain access to as much information as possible. ■

Elizabeth A. Niemeyer is a partner at Finnegan, Henderson, Farabow, Garrett & Dunner, LLP. She advises clients facing patent litigation in the electrical arts before the ITC and in federal district courts. elizabeth.niemeyer@finnegan.com

Smith Brittingham is a partner at Finnegan, Henderson, Farabow, Garrett & Dunner, LLP. He concentrates his practice on intellectual property litigation and has particular expertise in cases before the ITC. He previously served as a senior investigative attorney with the ITC’s Office of Unfair Import Investigations. smith.brittingham@finnegan.com

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aug/ sept 20 13 toDay’s gEnEr al counsEl

E-Discovery

Time to Rethink E-Discovery By Will Hoffman AUTOMATIC EXCLUSION OF ESI

Use automated tools to reduce the amount of electronically stored information needing further review. You can do more of this than you might realize. If it is done in-house, usually the process should be managed and conducted by a third-party, neutral expert. Use of in-house IT and other personnel presents many perils. Mistakes are inevitable. Don’t have your fingerprints on them. Include the following steps, with appropriate sampling and validation: • “De-NISTin.” Eliminate file types unlikely to contain responsive information (for example, program and operating system files) using the list of file types (and hash values) of the National Institute of Standards and Technology.

ou can significantly reduce the expense, risk and other burdens of e-discovery by implementing these four recommendations: • Demand a cooperative approach to discovery. • Automate the exclusion of most ESI. • Use non-waiver orders to reduce the cost of privilege review. • Restructure the attorney-review stage. Sophisticated corporate counsel usually understand the value of these precepts. Other corporate decisionmakers may not. By seeking “economical short-cuts” they may inadvertently undermine realization of optimum and cost-effective results. Outside counsel may also hesitate to embrace a different approach and model. If you are spending too much on discovery, demand a cooperative approach. Litigate substance, not discovery.

Cooperation has strategic advantages. It increases predictability and control over the information that is preserved and disclosed. It leads to agreements that influence the pace and extent of discovery. Above all, cooperation reduces risk. Courts urge transparency and demand cooperation. Judicial opinions decry lack of cooperation among the parties, and in some cases failure to cooperate has been deemed sanctionable. Maintain cooperation as a major goal throughout the discovery process. Your lawyers are sharp, diligent, and imaginative. Demand application of those skills to ensuring both sides cooperate on discovery. The question is not whether an aggressive discovery strategy is permissible. Rather, it is why would you want to spend the extra money. Keep in mind: dialogue, reasonableness, proportionality and collaboration. (These are basics that have been addressed in the work of the The Sedona Conference.)

• Metadata Filtering. Use metadata and other document characteristics – for example, key players and dates – to filter email and other ESI. • Domain Name Analysis. It’s possible to eliminate much email spam based on the sender’s name. • “De-duping” (Duplicate Consolidation). Consolidate for review identical and near-identical ESI, so that the same ESI is read only once. The savings can be quite dramatic. Data gathered by e-discovery researchers Kershaw and Howie show that, with these steps alone, one can eliminate more than four fifths of the original ESI. Essentially deductive, these processes rely on objective characteristics of the ESI. Thus, they share wide acceptance if properly implemented and documented. Most ESI can be trimmed away without sophisticated and expensive analytics, and thus at relatively low cost.

toDay’s gEnEr al counsEl aug/ sept 2013

E-Discovery

Even a simple change can slash costs. Kershaw and Howie found that a de-duping process could eliminate one-fifth to two-fifths of e-mail and other electronic files. On average, simple single-custodian de-duping eliminated 20 percent, but de-duping across custodians eliminated almost twice that. Despite the clear savings, however, only half the cases studied adopted the second approach. Use non-waiver orders to reduce the cost of privilege review. “Nothing causes litigators greater anxiety than the possibility of doing, or failing to do, something during a civil case that waives attorney-client privilege or work-product protection,” wrote U.S. District Judge Paul Grimm. Parties expend vast sums to ensure that no privileged information is produced. To reduce those sums while avoiding the risk of waiver, use Federal Rules of Evidence Rule 502(d) and (e), stipulated clawbacks, and similar agreements and orders. In fact, most responsive ESI is of little significance, even if privileged. With proper orders in place, the savings from not undertaking a documentby-document review of that ESI far outweigh any potential negative consequences of producing unimportant, privileged ESI. In particular, there is minimal risk of subject-matter waiver. Rule 502(d) provides that a federal court may order that privilege is not waived by a disclosure connected to pending litigation. If it does issue such an order, then the disclosure is also not a waiver in any other federal or state proceeding. Rule 502(e) provides that the parties may agree among themselves regarding the effect of a disclosure. Moreover, if incorporated into a court order, that agreement has the full, preclusive effect of a Rule 502(d) order. Rule 502 applies only to information covered by the attorney-client privilege or work-product doctrine. The parties may agree, however, that between them disclosure does not waive any other evidentiary privilege. Commonly, the primary test for waiver asks whether the disclosing party took reasonable care to avoid

disclosure. Remarkably, with Rule 502(d) orders and 502(e) agreements, the “reasonableness” requirement does not apply. The court order may provide for return of documents without waiver irrespective of the care taken by the disclosing party. The paramount goal is to avoid the excessive cost of the privilege review. The parties may even agree to allow the production of certain ESI without any pre-production review. The other side might still read your documents before returning them, but Rule 502(d) orders and 502(e) agreements alter the cost-benefit analysis. The parties can eliminate costly attorney review – or any privilege review – of minimally important, responsive ESI. Waiver is not a risk. Judge Grimm advises that explicit provisions in a 502(e) agreement are essential. “Keeping in mind that Rule 502(e) agreements may preclude waiver for inadvertent and purposeful disclosures of privileged and work-product protected information, parties should state the broad application intended in the agreement explicitly.” The parties also should detail what each must do, and when, upon discovering that privileged information has been produced. RESTRUCTURE THE ATTORNEY REVIEW STAGE

The attorney-review stage is often the most expensive aspect of major litigation. Although the last decade has seen a revolution in discovery technology, little progress has been made improving eyes-on review. This is largely attributable to the legal community’s unawareness of the revolution in cognitive psychology, understanding memory, and the science of learning, all of which provide insights on how people acquire, recall and apply knowledge. Those with substantial knowledge of a topic make decisions quicker and more accurately than those who have little comparable knowledge. Properly educated reviewers assess and code documents faster and more accurately, thus substantially reducing cost and risk. A fundamental flaw in document review projects is that training is mistaken for learning. Reviewer education

is judged by hours lectured and pages distributed rather than what is learned. If one were “training” a computer system, one would never evaluate success based on input. Two aspects of how people learn are central: encoding and retrieval. We learn by connecting concepts in memory, linking new information to what we already know (encoding). To use what we encode, we must retrieve it. Cues trigger the search in memory for the appropriate connected information. For example, the word “lawyer” may trigger the reviewer to search in memory and retrieve the instruction, “Mark a document containing the word ‘lawyer’ as ‘potentially privileged.’” Practicing retrieval provides something encoding cannot: memory searching. Current training concerns itself mostly with encoding, not retrieval. Recent research, however, suggests that retrieval may represent a greater learning activity than encoding. The very absence of routine written quizzes from training and subsequent updates is evidence of an out-of-date process. These insights, combined with the advent of sophisticated e-discovery systems, promise a faster, better, more cost-effective attorney review. You may maximize your net cost-benefit by engaging e-discovery counsel conversant with, and qualified to implement, these advances in cognitive science and learning. Notably, a number of these measures do not require the latest “next big thing” in e-discovery. Rather, they call for a different perspective and analysis, and the will to rethink e-discovery. ■

Will Hoffman consults as e-discovery counsel for law firms and companies and is an MCLE speaker, author and editor on discovery, information technology, and ethics. law@willhoffman.com

AUG/ SEPT 20 13 TODAYâ&#x20AC;&#x2122;S GENER AL COUNSEL

E-Discovery

Social Media Content Discoverable, Must Be Preserved By Chris Forstner

ocial media usage has exploded. A Pew Internet study recently estimated that more than twothirds of all online adults use at least one social networking site. For companies, social media platforms represent an opportunity to connect with potential consumers, drive new marketing campaigns and raise brand awareness. Itâ&#x20AC;&#x2122;s hard to find a major company that cannot be followed on Facebook or Twitter. At the same time, lawyers have turned to social media information as a source of evidence in civil litigation. This happens most commonly in the context of employment disputes and personal

injury matters, but it will likely end up as evidence in future securities class actions, intellectual property disputes, and regulatory investigations. The potential of social media information to win or lose a case has led to disputes over its discoverability in civil litigation. Litigants have battled over the relevance of social media content, how it must be collected and produced, and perhaps most importantly, how it must be preserved. These disputes have resulted in several key decisions that shed light on how discovery rules will apply to social media content, and companies using or contemplating using

social media should take note. First, to be clear: Social media content is discoverable. Courts see no reason to treat such communications any differently than emails or text messages. However, this does not mean that discovery of social media content is without limits. Traditional rules of discovery apply, and parties seeking discovery of social media content must demonstrate its relevance to the claims or defenses at hand. This has become particularly important in the personal injury context. Defendants often seek access to the private social media content of parties claiming physical injuries in the hopes of finding photos or

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E-Discovery

postings that would rebut their claims, for example. Several courts have required parties seeking discovery of private content to make some showing that the other party’s public content undermines its claims in the matter before granting the expanded discovery. Thus, social media content is fair game in modern litigation, but courts will place limits just as they would with any other category of information. Second, if you control the content, you will be held responsible for it in discovery, even if the information resides in the hands of a third party service provider. Courts routinely find that your ability to add, delete or modify social media content places it within your control. Thus, parties will be responsible for producing responsive material from their social media pages, and also preserving it, in accordance with preservation obligations. Third, courts expect litigants to overcome technical challenges associated with the discovery of social media content. In one recent case, In re White Tail Oilfield Services, LLC, (E.D. LA), the plaintiff failed to produce his Facebook page because he claimed that he did not know how to collect it. He claimed this even though the defendant’s discovery requests provided instructions on how to download Facebook information, and the defendant arranged for representatives of Facebook to show him how to do it. The defendant even offered to hire its own IT expert to demonstrate the process. Ultimately, the court ordered the plaintiff to produce the information within a short time, and the plaintiff settled his claims with the defendant a few weeks later. Fourth, courts will actually provide solutions to the problem of downloading the content. For example, in EEOC v. Original Honeybaked Ham Co. of Georgia, Inc. (D. Col.), the court fashioned a process whereby a special master would collect relevant social media content from several allegedly affected employees in a discrimination case. The defendant had sought access to the social media communications of the employees, after showing that at least one plaintiff’s Facebook postings discussed the case against the employer and included communications with other plaintiff employees.

Based on this information, the court determined that further discovery of each plaintiffs’ social media content was warranted. The court ordered the plaintiffs to turn over their cell phones, social media passwords and email passwords to the special master. According to the order, the special master would search their social

an alert about his account being accessed from an unfamiliar IP address in New Jersey he deactivated his account, despite the fact that his counsel had spoken with defense counsel about having accessed his page. A few weeks later, defense counsel learned that Gatto had deactivated his

If you control the content, you will be held responsible for it in discovery, even if the information resides in the hands of a third party service provider. media content and messages, and collect relevant material. The judge planned to review the collected material and provide any responsive content to the EEOC for production to the defendant. Finally, courts will hold litigants accountable for failure to preserve relevant social media content. The duty to preserve differs from jurisdiction to jurisdiction, but in most cases, it is well settled that a party has an obligation to preserve relevant information once litigation is reasonably foreseeable. If relevant information is lost after the duty attaches, the failing party may be sanctioned for spoliation. This occurred recently in Gatto v. United Airlines, Inc. (D.N.J.). The plaintiff, Gatto, alleged that he was injured while unloading baggage from an airplane at John F. Kennedy Airport. He claimed that he was permanently disabled and that his injuries limited his physical and social activities. The defendants sought access to his Facebook page, and eventually the court ordered Gatto to provide an authorization for the release of his information from Facebook. Instead, Gatto provided his password to defense counsel. Shortly thereafter, one of the defendant’s attorneys accessed Gatto’s Facebook page to confirm that his password worked and print some content. Gatto claimed that he did not know defense counsel accessed his account. When he received

page. By this time, Facebook had deleted his deactivated page. The defendants sought an adverse inference instruction and monetary sanctions for spoliation in the loss of his Facebook content. The court denied the monetary sanctions, but granted the request for the adverse inference instruction. The court found that Gatto’s Facebook account information was clearly within his control, that he intentionally deactivated it and failed to reactivate in the time frame during which it was his responsibility to preserve the information. Social media will continue to play a large role in civil litigation in the coming years. Companies that see the benefits of a social media presence for business reasons must also appreciate the potential legal risk such sites have in litigation. They must be prepared to produce their social media content when called upon to do so, and to preserve such content as they would any other form of electronically stored information. ■

Chris Forstner is a partner at Murphy & McGonigle and head of the firm’s strategic discovery and information management group. He counsels on all aspects of information management, discovery in complex litigation, and responding to information requests in government and regulatory investigation matters. chris.forstner@mmlawus.com

aug/ sept 20 13 toDay’s gEnEr al counsEl

E-Discovery

Manage Risks to Reap Social Media Rewards By Jodi Vickerman

ocial media have emerged as staples of everyday communication, on par with e-mail and text messaging. Increasingly, businesses are leveraging Twitter, Facebook and Linkedin to market their products and strengthen their relationships with consumers. Beyond marketing products, many companies are using social networks such as Chatter and Yammer to communicate privately within the organization. The benefits of social media are considerable, but jumping on the bandwagon is not without risk. Social media sites are gold mines of evidence for data investigations and litigation, and uniform standards with regard to discoverability, preservation, collection and authentication have yet to emerge.

CIVIL CASES

Not surprisingly, social media is increasingly subject to discovery requests. Rule 26 of the Federal Rules of Civil Procedure permits the discovery of ESI “regarding any non-privileged matter that is relevant,” and social media is an important subset of relevant ESI. While courts are generally settled that social media is discoverable, case law is undecided as to when and under what circumstances. The driving issue behind many social media disputes is the distinction between public and private information. To date, many state and federal courts have dismissed social media privacy claims as wishful thinking, reasoning that voluntarily posting an array of personal information to a website infers an intention to share

which precludes any expectation of privacy. Under this line of reasoning, many courts have ordered parties to preserve all information and even provide all user names and passwords for access. But some recent cases illustrate that courts are unsettled about the scope of discoverable social media. Recently, a District of Colorado court ordered broad discovery of social media in a sexual harassment and retaliation class action, reasoning that such data was the equivalent of an “everything about me” folder containing a bevy of relevant information. On the other hand, when defendants in a class action in the Central District of California made a similarly broad request, the court found that the Federal Rules do not grant a “generalized right to rummage at will through information [a person] has

toDay’s gEnEr al counsEl aug/ sept 2013

E-Discovery

limited from public view.” Furthermore, the court found that the overly vague requests lacked the “reasonably particularity” to lead to admissible evidence under Rule 34(b), as it denied most of the defendant requests for social media. While most case law suggests greater permissiveness for social media and a strong likelihood that privacy concerns will be outweighed by the relevance of the information, a clear standard has yet to emerge. Until such a standard emerges, organizations should anticipate such requests and have a plan in place. PRESERVATION THROUGH AUTHENTICATION

Although case law related to requests for data from social media sites is still developing, such requests are becoming more likely. Handling social media presents some unique e-discovery challenges in a number of respects. • Preservation. Since data from social media is generally discoverable, all discovery obligations apply, including the duty to preserve, which falls to parties named in the matter. However, social media evidence is especially challenging for a number of reasons. This data changes frequently, it’s stored on third party servers, and it is often blocked by security and privacy settings. Furthermore, few if any technologies are available to assist with social media preservation. Based on these factors, timing is critical for the proper preservation of social media evidence. Counsel or the corporation should act immediately to defensibly capture data once content is identified as relevant to the litigation. • Collection. In contrast to collecting from email hard drives, social media collection is more analogous to existing web collection practices. However, as is the case with other data collection scenarios, it is advisable to avoid using self-collection methods. Self-collections raise several risks, including using the wrong thirdparty collection software (possibly damaging or deleting data), missing data, not adhering to proper collection procedures and changing metadata or overwriting files.

Although there is no preferred tool or solution for social media collection, Facebook now offers a feature called “download your information,” which allows a user to download his or her own content and store it in a zip file. This process, however, raises serious questions regarding chain of custody and metadata preservation. It is best to consult an outside expert when attempting to collect this data. Regardless of the collection method, it is imperative to document the process thoroughly and obtain the user’s consent or a court order before collecting. It is important to remember courts will not allow “friending” under false pretenses, meaning investigators cannot represent themselves as a “friend” (or other party unrelated to pending litigation) in order to gain access and surreptitiously collect data. • Review. Although the preservation and collection stages of social media e-discovery is receiving increased attention, relatively few cases thus far have discussed the complexities and challenges of processing and loading this data into a review tool. Are there “families” that need to be maintained? Should each user’s collection be one document or multiple documents? How do you collect information like videos from YouTube? Additionally, many social media collections are mere screen-shots without optical character recognition to facilitate review. When presented with these or any other issues related to social media review, it’s best to leverage a service provider’s expertise to ensure a defensible process. • Production. It is clear from recent case law that courts often will order production of social media in response to discovery requests. Usually this involves the user of the social media site producing the data, not the social media companies. An important issue that may affect this kind of data production is the applicability of the Stored Communications Act (SCA). Congress passed the SCA in 1986 as part of the Electronic Communications Privacy Act. Case law relating to social media production and the SCA is scarce, but the Central District of California determined that the SCA prohibited the disclosure of privately stored informa-

tion with respect to private messages, because social networking sites act as both Electronic Communication Services and Remote Computing Service Providers. • Authentication. Authenticating evidence from social media sites is an increasingly important issue. These are not self-authenticating documents, so legal professionals often have to take measures to eliminate the possibility that someone other than the account owner posted the relevant information. Courts have provided limited guidance on this issue to date, so practitioners should collect as much evidence as possible – including but not limited to subscriber reports from the service provider and the IP address related to the post – to resolve questions about ownership, access to the account and authorship of the post. Authentication entails much more than printing out a page before trial, so counsel should undertake exhaustive efforts early to ensure all the pieces add up. Overall, good management will reduce risk. A flat-out ban of social media is simply impractical. Instead, organizations should draft clear usage policies that disclose the company’s no-privacy policy with regard to these records and assert the right to monitor usage in the workplace or on company devices. These policies should be easy to understand, accessible and disseminated to all employees. But it’s also important to remember that with policies, no one size fits all. Each policy should reflect corporate culture and pertinent industry regulations. Social media are undoubtedly here to stay, but practices and laws regarding social media are still in a state of flux. Corporations and their counsel have no choice but to do what’s necessary to stay ahead of the curve. ■

Jodi A. Vickerman is staff Attorney for Kroll Ontrack, responsible for legal and technology content generation in support of the e-discovery services and software business lines. JVickerman@krollontrack.com

Aug/ Sept 2013 today’s geneR al counsel

Human Resources

Love Conquers All Except Disparity In Workplace Power Dynamics By Emily S. Miller and Stephen A. Miller

hat could be better than new love, except perhaps secret new love? Few in the throes of budding romance are willing to acknowledge the possibility that what is sweet now might sour later, let alone eventuate in a lawsuit. But when the romance in question is between co-workers, and especially where there is a supervisory relationship involved, the company hosting their courtship should take protective measures once the relationship comes to light. Otherwise, what began as an innocent (or not-so-innocent) dalliance could end in a nasty and costly lawsuit.

The problem is more pervasive than you might think. In a recent survey by CareerBuilder, 39 percent of respondents admitted to dating a co-worker at least once. Seventy percent of those relationships fizzled before marriage. More critically, 29 percent of survey respondents admitted to having dated someone above him or her in the company’s chain of command, and 35 percent of those kept their romance a secret. It is those hidden affairs that represent the gravest threat of litigation for companies. That is especially true when they involve a superior and a subor-

dinate; the unequal distribution of power creates the potential for sexual harassment claims by the subordinate. The longer such relationships carry on without the company’s knowledge, the more exposure the company may face. This is not a problem limited to lowlevel employees. It often affects C-suite employees, who presumably should know better. Take, for example, the following high-profile scandals involving leaders of major corporations: • In January 2013 Lockheed Martin fired Christopher Kubasik, who was scheduled to take the helm as the company’s CEO. Lockheed asked Kubasik

today’s geneR al counsel aug/ sept 2013

Human Resources

to resign after an internal investigation confirmed that he had engaged in “a close personal relationship” with a subordinate. The company explained that Mr. Kubasik’s actions were “inconsistent with [the company’s] values and standards.” Therefore, swift action was deemed necessary to demonstrate Lockheed Martin’s “unyielding commitment to holding every employee accountable for their actions.”

ed morale and caused some employees to doubt the company’s commitment to ethical principles. One might be tempted to dismiss the subject of workplace romances as little more than grist for the gossipmill, but the potential for liability is real. Companies need a clearly defined policy regarding personal relationships between colleagues. Most have such policies, but, as the preceding examples

One might be tempted to dismiss the subject of workplace romances as little more than grist for the gossip-mill, but the potential for liability is real.

• San Francisco-based technology company Square Inc. recently lost its Chief Operating Officer, Keith Rabois, who resigned after an employee accused him of sexual harassment. Mr. Rabois recommended that the individual apply for a job with the company after the two began a consensual relationship. The company was unaware of the romantic involvement until the sexual harassment allegations were raised. After an internal investigation, it was found that Mr. Rabois engaged in no official wrong-doing, but according to news reports he was found to have exercised poor judgment that called into question his ability to lead the company. • In 2012, Best Buy lost both its CEO and one of its founders as a result of the CEO’s romantic involvement with a subordinate. Once notified of the relationship, the company’s general counsel commissioned an internal investigation that confirmed CEO Brian Dunn’s extra-marital indiscretion. It also revealed that founder Richard Schulze had known about the relationship and chose to look the other way. The investigation further revealed that the CEO’s affair, and its handling by Schulze, negatively affect-

suggest, they are not always respected. More can and should be done. Companies should seek outside expertise and undertake an investigation when risky co-worker couplings are first revealed – for example, relationships with a disparity in the workplace power dynamics of one or both members of a couple relative to each other, or relative to the legal department. The investigator should collect all emails, text messages, telephone records, calendars, and expense reports that could contain information about the improper relationship. Relevant promotion decisions and employment conditions must be re-examined in light of the new information. Thereafter, the investigator should interview both parties to the relationship (separately), determine whether there has been any sexual harassment or coercion, and discover who else at the company facilitated or knew about the improper relationship. Sticking the company’s collective head in the sand is a poor option. If improper conduct has occurred, the investigator needs to advise the company how to mitigate any damage (with respect to both legal liability and employee morale). That may include

disciplining employees or implementing revised policies, as well as figuring out how to explain those actions to the workforce and the market at large. The long-term benefits of implementing corrective measures far outweigh any short-term awkwardness due to the investigation. A comprehensive investigation puts a company in a position to prevent additional liability resulting from the identified relationship. It also provides a “teaching moment.” The company gains an opportunity to demonstrate that no employee is above the law, and that its culture and commitment to integrity is strong. Candidly, this is an “opportunity” that most GCs would prefer not to receive. No one can blame them. Nonetheless, if recent statistics are any indication, it is an opportunity that awaits many company lawyers, like it or not. And the way that they respond will go a long way toward limiting legal liability and affirming the company’s core values. ■

Emily S. Miller is an associate at Cozen O’Connor. She practices with the firm’s Labor & Employment Group, concentrating in the representation of management in labor and employment matters. esmiller@cozen.com

Stephen A. Miller is a partner in Cozen O’Connor’s Commercial Litigation Group in Philadelphia. Prior to joining Cozen O’Connor, he clerked for Justice Antonin Scalia on the U.S. Supreme Court, and served as a federal prosecutor for nine years in the Southern District of New York and the Eastern District of Pennsylvania. samiller@cozen.com

Aug/ Sept 2013 todayâ&#x20AC;&#x2122;s geneR al counsel

Human Resources

Financial Consequences of Play-or-Pay Health Care Mandate By callan carter

today’s geneR al counsel aug/ sept 2013

Human Resources

or employers, probably the most important reform provision in the Affordable Care Act (ACA) is the play-or-pay mandate, also known as employer-shared responsibility. It requires employers with the equivalent of 50 or more full-time employees to provide adequate and subsidized group health plan coverage to all full-time employees and their dependents. This requirement was originally scheduled to take effect beginning in 2014 but in July 2013, it was postponed to January 1, 2015. Failing to satisfy this “play” requirement will subject an employer to a non-deductible penalty (the “pay”). This could have a significant economic impact on employers, so even though the new effective date is more than a year away at this point, it is important to start modeling how this mandate will impact your bottom line. There are many calculations to perform to determine how much playing or paying will cost you financially.

Who is a Large Employer? The play-or-pay provision applies to employers with the equivalent of 50 or more full-time employees in the prior calendar year. Large employers are determined by first counting the number of full-time employees. A “full-time” employee works at least 30 hours a week, or 130 hours per month on average. To that figure, add the number of full-time equivalent employees, which is determined by adding together the number of hours of the non-full-time employees (up to a maximum of 120 hours per month per employee) and dividing by 120. This calculation will need to be done for each month of the prior year, with the months’ totals divided by 12 to determine an average. If the resulting average is 50 or more, the employer is subject to the play-or-pay provisions. This calculation is done on a control group basis, including all employees of all members of a control group’s entities. There are rules for

subtracting seasonal employees if the total number of employees exceeds 50 for 120 days or less. Requirements “To Play” If the play-or-pay provision applies, the employer must either offer “minimum essential coverage” which provides “minimum value” at an “affordable price” to substantially all of its full-time employees (not full-time equivalents), or risk paying an excise tax. For a plan to provide minimum value, it must pay 60 percent of the claims incurred by participants (including co-pays, deductibles, co-insurance, etc.). The IRS and HHS offer an online minimum value calculator to determine if a plan provides minimum value. To be affordable, the participant must not be required to pay more than 9.5 percent of household income towards his or her share of the employee-only tier of medical coverage. Since most employers do not have access to household income information, the IRS created affordability safe harbors in its proposed regulations.

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Aug/ Sept 2013 today’s geneR al counsel

Human Resources

Compliance can be met with one of three safe harbors: the annual employee cost of the employee-only tier of the cheapest medical option (providing minimum value) doesn’t exceed 9.5 percent of the employee’s Form W-2, Box 1; 130 times the employee’s hourly rate of pay for a monthly income amount; or the state-specific, federally-established single individual federal poverty level, divided by 12 for a monthly income amount.

What is the “Pay” Tax? If an employer doesn’t offer qualified coverage to at least 95 percent of full-time employees, and if one fulltime employee qualifies for federal premium assistance for coverage purchased under an Exchange, the employer will owe the IRS a nondeductible annual payment equal to $2,000 multiplied by the number of full-time employees (whether or not they have coverage), minus 30 fulltime employees. For purposes of the payment, only full-time employees (not full-time equivalents) are counted. The $2,000 is an annual penalty, imposed monthly. So if the employer plays for some months and pays for some months, 1/12 of the $2,000 are required for non-playing months. If an employer offers coverage to at least 95 percent of full-time employees, but doesn’t provide minimum value or offers it at an unaffordable price, and at least one full-time employee qualifies for federal premium assistance for coverage, or one of the five percent of full-time employees not covered qualifies for federal premium assistance, the employer will owe the IRS a non-deductible annual payment equal to $3,000 per employee receiving federal premium assistance. This is levied up to a maximum of $2,000 multiplied by the number of full-time employees, minus 30. An individual or family qualifies for federal premium assistance if household income is less than 400 percent of the federal poverty level. Thus, full-time employees who are

reasonably well-paid may qualify for premium assistance. Who is a Full-Time Employee That Must be Offered Coverage? To “play,” the employer must offer qualified coverage to full-time employees. The determination of a full-time employee can be convoluted, and depends on whether the employee is ongoing or new. The IRS’ January 2013 proposed regulations set forth the required record keeping and administrative requirements for determining full-time status. For ongoing employees, the employer must use a standard “lookback” measurement period of 3-12 months to determine whether each employee worked on average 30 or more hours per week. At the end of the measurement period, the employer determines how each employee will be classified for the following “stability period,” which must be 6-12 months in length. However, the stability period for full-time employees can’t be shorter than the standard look-back measurement period, and the stability period for non-full-time employees cannot be longer than the standard look-back period. In essence, your measurement periods and stability periods will be the same length. The employer may use an optional “administrative period” of up to 90 days to complete classification calculations and open enrollment for the stability period associated with each standard look-back measurement period. An administrative period must overlap with the prior stability period to prevent a coverage gap. If an employee is “full-time” at the end of a standard measurement period, the employee keeps the classification during the associated stability period, regardless of hours worked. New employees expected to work more than 30 hours per week are classified as “full-time” from their start date, and must be offered coverage to begin no later than the 91st day. For new variable hour and seasonal employees, an initial measurement

period of 3-12 months must be used to determine whether each employee worked, on average, 30 or more hours per week. At the end of the measurement period, the employer determines classification for the following stability period, which must be the same length as the regular stability period for ongoing employees. However, the stability period for full-time employees cannot be shorter than the initial measurement period, and cannot be shorter than six months. The stability period for non-full-time employees can’t be longer than the initial measurement period plus one month, and cannot exceed the standard look-back measurement period in which the initial period ends. The employer may use an optional administrative period of up to 90 days to complete classification calculations and open enrollment for the stability period associated with each initial measurement period. Once an employee has been working for an entire standard look-back measurement period, that employee is transitioned into the ongoing employee standard measurement period. To calculate hours of service, the actual hours of service for hourly employees must be counted. For non-hourly employees, the actual hours can be counted or equivalencies can be used to credit eight hours for each day worked (or 40 hours for each week worked). You must credit every hour for which you pay an employee whether it is for services performed or inactive service (like vacation). You must also count unpaid leave for FMLA, jury duty and military leave. As with most healthcare reform provisions, we encourage you to keep abreast of future guidance for more details and possible changes. ■

Callan Carter is Special Counsel at Trucker Huss, where she focuses on health and welfare benefits. ccarter@truckerhuss.com.

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aug/ sept 2013 today’s Gener al counsel

Governance

Audit Committee Responsibilities and the Risk of Restatement By Michael e. Garcia and tiffani G. lee

very company must make accounting judgments that are incorporated into its financial statements. Most restatements arise in areas of accounting judgment, where Generally Accepted Accounting Principles (GAAP) are unclear, or where circumstances support varying applications of those principles. This article discusses some of the risks and challenges in exercising accounting judgment, and includes suggestions on how an audit committee and C-suite management can work

together to prevent restatements. Accounting judgments – recognizing revenue in complex arrangements, accruing losses and assessing fair value – are principally the responsibility of management. A company’s audit committee functions in an oversight role over financial reporting and must, therefore, assure itself that the financial statements are reasonably accurate, complete and fair. Ultimately, some accounting judgments will be subjected to an audit. The audit committee has the primary oversight role for accounting and is

the agency of communication with the company’s independent auditors. As a result, it becomes increasingly important that management and the audit committee understand the areas in which the company makes significant accounting judgments. Ideally a best-practices approach is developed to apply in those situations. EFFECTIVE OVERSIGHT

In order to oversee properly, an audit committee must understand the areas in which the company makes significant

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Governance

accounting judgments. For example, if the plan includes growth through acquisitions, accounting judgments will necessarily be made in the area of purchase accounting. And many companies have to make accounting judgments about when to book revenue, when to write-down goodwill and how to classify assets and liabilities. Areas of significant accounting judgments are typically described in the notes to the company’s financial statements, but this is not the end of the inquiry. Particular attention should be given to financial statement items subject to future conditions and transactions where GAAP has changed or is unclear.

total – involved circumstances in which accounting judgment was exercised. Those instances were in regards to revenue recognition, goodwill impairment, classification of assets and liabilities, and purchase accounting. Revenue recognition was the most common circumstance in which a restatement resulted in litigation. It typically involved situations where a company’s accountants exercised judgment over the timing of booking revenue, or accounting for rebates under factually-complex business arrangements with customers. In many of these cases, material weaknesses in internal controls were

a public company defending litigation based upon a restatement. BEST PRACTICES

In adopting a best practices approach, management and the audit committee should consider the follwoing: • Make sure accounting department personnel have enough knowledge, experience and depth to make the types of judgments that may arise. Restatement cases often involve inadequate staffing or inexperienced accounting personnel. One sign that staffing may be a problem is account reconciliations that are either un-

In practical terms, a restatement is an admission that a company’s past financial statements were materially inaccurate. The exercise of accounting judgment can lead to a restatement: the correction of one or more of a company’s previously-issued financial statements. A restatement is necessary when it is determined that a previous statement contains a material misstatement, which can result from simple clerical errors, application of the wrong method, overlooking material facts, or improperly motivated financial reporting. In practical terms, a restatement is an admission that a company’s past financial statements were materially inaccurate. Of course, a negative restatement affects investor confidence and often causes a stock price decline. It also exposes the company to the risk of litigation. For purposes of this article, the authors analyzed a sampling of about 50 instances in 2012, where public companies filed a Form 8-K advising that previously-issued financial statements could not be relied upon. That analysis revealed that a number of the restatements announced came to light during an audit. Most did not result in litigation. However, of the 11 restatements that did result in litigation, most – eight

also discovered. The cases involved problems such as untimely and unsupported account reconciliations, insufficient documentary support for entries, the failure to consult technical and accounting experts in complex areas, insufficient numbers of qualified accounting personnel and deficient controls over the financial statement process. Improving the processes and controls around the way in which accounting judgment is exercised can decrease the likelihood of a restatement and provide important defenses if an accounting judgment is questioned. Public companies can address the risks and challenges associated with the exercise of accounting judgment by improving the communication and coordination between C-suite management and the audit committee. The audit committee can establish ground rules for management, but management input is important to make sure the audit committee understands the areas in which accounting judgment is usually exercised and the processes used in making them. Poor processes and poor documentation have been the downfall of many

timely or deficient. Audit committee members should consider inquiring about the timeliness and quality of account reconciliations and management’s plan to correct them. • Problems may arise if lower-level accounting staff lack public accounting experience, but even experienced accounting personnel can find themselves in unfamiliar territory. As an example, it is not uncommon for controllers and CFOs to be called upon to make an accounting judgment in an area in which they have no prior experience, or where their experience is not current in light of changes in GAAP. In those instances the best course of action might be to seek the advice of the audit committee or of outside professionals, including the outside auditor. • Maintain regular communication. On at least a quarterly basis, members of the audit committee should spend time with C-suite management to understand the accounting judgments being made and management’s approach to them. Questions to ask include: Do the critical accounting policies and judgments described in

aug/ sept 2013 today’s Gener al counsel

Governance

the notes to financial statements accurately reflect current realities? Have there been any significant changes in the business that impact accounting? Have there been any significant changes in GAAP? Have there been any unique/significant transactions during the period? In addition, management should initiate discussions with the audit committee when it changes its approach or as material or significant transactions arise.

nies should adopt a communications strategy with respect to their outside auditors. Beginning in 2012, auditors (governed by the Public Company Accounting Oversight Board – the PCAOB) were required to have more frequent and in-depth communication with clients. An enhanced understanding of the auditors’ approach and a proactive communications strategy can improve the effectiveness of the audit. To ensure that it can be effective in its role, the audit committee should:

• Maintain contemporaneous supporting documentation. Because the exercise of accounting judgment often involves close calls based upon existing facts and circumstances, management should understand the importance of contemporaneously documenting accounting positions on all significant transactions.

• Understand matters about which management communicates with auditors, particularly in the area of accounting judgments.

Many restatements arise because circumstances thought to exist at the time of the accounting decision cannot be supported at yearend. Restatements may be avoided if documentation clearly shows a

• Communicate with the auditor on an interim basis and get a clear understanding of the work that is being done, particularly any work done on significant transactions. Matters considered to be below the auditors’

• Engage the auditor in discussions about its threshold determinations of materiality, and identify areas of potential risk.

Poor processes and poor documentation have been the downfall of many a public company defending litigation based upon a restatement.

change in the current period. A position memorandum prepared before financial statements are filed, which documents the judgments being made and the reasons for them, is far more credible than a memorandum prepared after questions arise. Not surprisingly, after-the-fact accounting position memoranda are typically viewed with skepticism by auditors, lawyers for shareholders and the SEC. In addition to improving coordination between C-suite management and the audit committee, public compa-

materiality scope/threshold during a review may nonetheless come under scrutiny during the year-end audit because auditors’ standards of review on an interim basis differ from what they consider at year-end. • Be aware if there are significant transactions under review on an interim basis for which management has not provided sufficient information to the auditor. This information will assist management to contemporaneously document its judgment.

Otherwise, the company may face the post-restatement litigation situation in which the company and auditors disagree on the information that was actually supplied by the company. Overall, the audit committee’s strategy with the auditors should be geared to exercising appropriate oversight over financial reporting and avoiding any surprises at year-end. The exercise of accounting judgment poses risks and challenges, including the risk of a restatement of financial results and the risk of litigation. By adopting best practices with respect to the interactions between C-suite management and the audit committee, and with respect to the audit committee’s interaction with the outside auditor, companies can minimize those risks. ■

Michael E. Garcia is a partner at Holland & Knight, practicing in the Securities Litigation Group. His practice includes the defense of federal securities class action litigation and securities enforcement matters. He represents public companies and public accounting firms as well as their officers, directors and employees in investigations by the SEC and other government agencies. michael.garcia@hklaw.com

Tiffani G. Lee is a partner at Holland & Knight, in the firm’s South Florida Litigation Group. Her practice includes business litigation and securities litigation. She is experienced in the defense of securities fraud actions, shareholder derivative actions and actions alleging various business torts. tiffani.lee@hklaw.com

TodaysGC Daily Newsletter The daily newsletter is a terrific advertising vehicle to reach 46,000 corporate subscribers. With a high open rate, the newsletter is unmatched as a marketing vehicle within the corporate counsel community.

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AUG/ SEPT 2013 TODAY’S GENER AL COUNSEL

Canada/Cross–Border

IP Systems in Canada and the U.S. are Similar but not Identical Ten Canadian IP Pitfalls By Antonio Turco and Gary Daniel

anada and the United States share many things, including the Great Lakes and the world’s longest undefended border. In many ways, the two countries are so similar that the differences tend to be overlooked. That is certainly true of the countries’ respective intellectual property systems, where similarities often lead to complacency. In the spirit of good cross-border relations, this article will highlight ten common intellectual property issues U.S. companies should be aware of that arise from those differences.

Canada does not have a “work for hire” doctrine. Work created by employees in the context of their employment may be owned by the employer, but the copyright on work created by an independent contractor belongs to the contractor, even if it is created on retainer.

Accordingly, an explicit assignment of copyright is required where the author or creator of the work is not an employee. The Canadian Copyright Act requires that any assignment of copyright be in writing. It is generally good practice to have such a written assignment even in the case of employees, especially in situations where intellectual property is a significant asset.

In Canada moral rights may only be waived, unlike in the United States, where they can be assigned. And in Canada, moral rights subsist in all copyright works.

In Canada, for the use of a trademark by someone other than its owner to enure to the benefit of the trademark owner, the use must be pursuant to a license under which the trademark owner maintains direct

or indirect quality control. Control by means other than a license – for example, through share ownership – is insufficient. Other than specific and very narrow provisions relating to pharmaceutical preparations, there is no general provision in Canada for deemed-control by a related company. Thus, a trademark license is generally required in Canada even where a trademark is used by a wholly-owned subsidiary or other non-arm’s length affiliate of the trademark owner. While the trademark license agreement does not necessarily need to be in writing, it is prudent to at least have an agreement in place containing quality control provisions, if only as a matter of evidence.

Canada does not have the concept of “fair use.” In Canada, statutory exceptions to copyright infringement,

today’s gener al Counsel aug/ sept 2013

Canada/Cross–Border called “fair dealing,” are limited to certain identified purposes. Fair dealing exists only where use is made for the purposes of research, private study, criticism or review, news reporting, education, parody or satire. Fair dealing in Canada requires the use to be “fair,” but the Copyright Act is silent on what factors should be considered in making that determination. Canadian courts have enumerated six factors to consider: (1) the purpose of the dealing, (2) the character of the dealing, (3) the amount of the dealing, (4) alternatives to the dealing, (5) the nature of the work, and (6) the effect of the dealing on the work.

Canada does not have specific anti-dilution legislation. However the Canadian Trademarks Act protects against the unauthorized use of registered trademarks in a way that would have the effect of depreciating the value of the goodwill attaching thereto, provided that the offending trademark is identical to the registered trademark. The Supreme Court of Canada has set out a four-part test to find a depreciation of goodwill: First, the plaintiff’s registered trademark must have been used by the defendant in association with goods or services. Second, the plaintiff’s registered trademark must be sufficiently well known to have significant goodwill attached to it. Third, the defendant’s mark must be used in a manner likely to affect the goodwill. That is, by resulting in consumers’ making a linkage between the goodwill attaching to the registered trademark and the defendant’s use of its mark. Fourth, the likely effect of such use would be to depreciate the value of the goodwill attaching to the registered trademark.

The Canadian presence requirements (CPR) of the Canadian Internet Registration Authority mandate, among other things, that the owner of a <.ca> domain name be a Canadian individual, a corporation under the laws of Canada or the owner of a Canadian trademark registration. If an entity is relying on its ownership of a Canadian trademark registration to satisfy the CPR, the domain name must consist of

or include the exact word component of that registered trademark. Many entities attempt to skirt the CPR by retaining a third party to hold the domain name. This is technically not permitted by the Canadian Internet Registration Authority registrant agreement, since only an “Affiliate” (as defined in the registrant agreement) can register or hold a domain name as agent for someone else. One option to deal with the CPR is to register or transfer the domain name to a corporation existing under the laws of Canada – for example, to a Canadian subsidiary. However, establishing a Canadian subsidiary raises other issues that may make this option less than ideal.

While some jurisdictions provide for statutory rights in confidential information (for example, the United States has both federal and state statutes relating to the misappropriation of trade secrets), this is not the case in Canada, where protection is based on the common law. Although in some cases – for example, in an employeremployee relationship – a court may find a duty of confidentiality, it is good practice to ensure that an agreement governing confidentiality is in place between parties prior to the exchange of confidential information.

There is no statutory authority for a Canadian court to award treble damages in the case of wilful patent infringement. However, a successful plaintiff in a patent infringement action is typically given the choice of an award of damages or an accounting of the profits made by the infringer by reason of its infringement.

Certain types of remedies and procedures may not exist at all outside the United States, or exist in a very different way. For example, Canada has no equivalent to International Trade Commission proceedings, and no socalled “border orders” like those available through U.S. Customs and Border Protection. Generally speaking, the only forum in which to enforce rights is a court of law, even though certain practical remedies can be obtained from administrative tribunals.

Recently proposed amendments to the Copyright Act and the Trademarks Act would enable Canadian border agents to detain goods they suspect infringe copyright or trademark rights, and permit them to share information with presumed intellectual property rights owners in order to allow them to pursue their legal remedies.

Along the same lines, Canada has no equivalent to the Digital Millennium Copyright Act. Accordingly, some of the rights afforded to copyright holders in the United States will not be available in Canada or will be available in a different format. Recent amendments to the Copyright Act have introduced a “notice and notice” regime, which will allow copyright holders to contact suspected infringers through Internet service providers. However, those provisions are not yet in force.

There are numerous other differences between the Canadian and U.S. intellectual property systems. This list should serve as a reminder that such differences exists, and help counsel as they keep an eye out for them. ■

Antonio Turco is a partner at Blakes. He focuses on litigation related to intellectual property rights, including patents, copyright, trade-marks, industrial designs and trade secrets. antonio.turco@blakes.com

Gary Daniel is a partner at Blakes. He advises clients regarding obtaining, enforcing and licensing trade-marks and copyright in Canada. His practice involves adversarial and advocacy-based proceedings before the Trademarks Opposition Board and the Ontario and Federal Courts. gary.daniel@blakes.com

Bad Faith Claims Against Insurers Handling By States Varies Widely By Lynda Bennett

THE MAGA ZINE FOR THE GENER AL COUNSEL, CEO & CFO aug/ sept 2013

ny company faced with a coverage denial is likely to ask the question: Will the insurance company change its position if we sue them for bad faith? The short answer is usually no. In general, insurance companies do not live in fear of bad faith exposure. Most state law on bad faith is strong on liability, but weak on the award of damages. As a general proposition, each state has decisional law establishing that an insurance company owes a duty of good faith and fair dealing in both selling of insurance policies and evaluating claims submitted for coverage. Most states also embrace the general proposition that in fulfilling its duty of good faith and fair dealing an insurance company cannot place its own financial interests ahead of its insureds when adjusting claims, and particularly when considering settlement demands within the limits of a policy. The level of evidence required to demonstrate that an insurer has acted in bad faith varies widely. In some instances, misconduct in handling one claim is sufficient. In others, the policyholder must demonstrate a “pattern and practice” of conduct across a large number of claims. States disagree about when an improper coverage denial crosses the line from being “wrong” into being driven by bad faith. Courts routinely try to strike a balance between imposing bad faith liability every time an insurer denies a claim, and allowing the insurers’ to issue knee-jerk denials and/or conduct endless claims investigations that ultimately lead to avoiding payment or paying less than fair value. But courts employ squishy standards in determining when claims that are “not fairly debatable” lead to a finding of bad faith, and parties spend significant time and resources grappling with that imprecise standard. Most bad faith decisions result from facts that involve sympathetic plaintiffs who have been left in the lurch. Courts will punish insurance companies for bad faith if the facts reveal that the insurer made lowball settlement offers, took entrenched and indefensible positions in evaluating the insured’s potential liability in third-party liability claims, failed to investigate the claim before denying it, or delayed payment of undisputed portions of the claim to obtain leverage for the parts that are disputed. Assuming the policyholder has sufficiently compelling facts to establish bad faith liability, the next hurdle it faces is quantifying damages. By the time bad faith is evaluated, the policyholder already has established entitlement to coverage. At that point, policy-

holders routinely seek recovery of attorneys’ fees they have incurred. Courts nationally are mixed on that issue. Some will award attorneys’ fees as an exception to the American Rule (that parties in a lawsuit are responsible for their own legal fees), in recognition that insurers should be punished for bad faith conduct and to deter against future improper denials and/or improper claims handling practices. Other courts may allow attorney fee awards under liability policies, but not firstparty property policies. Still others are averse to awarding attorney fees at all. Policyholders also may attempt to recover consequential damages that flow from an insurer’s bad faith. Often, it is difficult for policyholders to quantify damages over and above the amount of the claim and attorney fees incurred in connection with pursuing it. Corporate policyholders must think creatively about how to capture such items as lost opportunity costs and lost time value of money. Some states have addressed this issue by developing statutory relief. Typically, these bad faith statutes establish that the policyholder, functioning as a private attorney general, is entitled to recover any fees and costs incurred in pursuing the insurer’s bad faith. Some statues also call for the policyholder’s damages to be subject to a damages multiplier. These statutes have proved to be a useful tool for policyholders to use against recalcitrant insurers. Finally, it is important to note that while insurers generally are not concerned about a finding of bad faith liability against them, they are concerned about the assertion of a bad faith claim if it will lead to immediate or broad discovery obligations. In some jurisdictions, courts bifurcate the issue of bad faith from the issue of the coverage denial. In those jurisdictions, insurers effectively argue that policyholders are not entitled to take any discovery related to the bad faith claim unless and until they establish that the coverage denial was improper. Some jurisdictions reject any insurer attempts to hold off bad faith discovery for years, and allow broad and immediate discovery into the insurer’s claims-handling practices, not only regarding the policyholder’s claim but also claims submitted by other policyholders. Insurers abhor producing information for any claims other than the one asserted by the policyholder directly. Thus, asserting a bad faith claim and having the ability to enforce discovery rights early in litigation can serve as substantial leverage against the insurer and lead to an earlier and more favorable resolution of a disputed claim. ■

Lynda Bennett is a partner at Lowenstein Sandler. She chairs the firm’s insurance recovery practice. She counsels clients with respect to contractual insurance requirements, new insurance products, innovative risk management tools and assessment of their insurance programs. lbennett@ lowenstein.com

Tech E&O Insurance 101 By Alba Alessandro

THE MAGA ZINE FOR THE GENER AL COUNSEL, CEO & CFO aug/ sept 2013

or many businesses, technology errors and omissions insurance (Tech E&O) has become a necessity. What would happen, for example, if a custom software developer created software for an e-commerce retail customer and the software turned out to have a code error that resulted in a $300,000 loss? The software developer at that point would regret not having purchased Tech E&O insurance: Traditional commercial general liability (CGL) policies do not cover damages for such technical errors and omissions. Here are some common questions and errors about this increasingly important insurance product: Who Needs Tech E&O Insurance? Technology consultants/integrators of software, hardware and systems architects, internet service providers, application service providers, software developers, telecommunications providers, internet retailers, data processor and non-technology businesses with network exposure, and general technology services are all at risk of exposure without Tech E&O insurance. This insurance is essential to avoid the coverage gap with a traditional commercial general liability (CGL) policy. In general terms, what is Tech E&O insurance? Tech E&O insurance covers two basic risks. The first is a third party’s financial loss from failure of the insured’s product to perform as intended or expected. The second is financial loss of a third party arising from an act, error, or omission committed in the course of the insured’s performance of services for another. The policy typically covers defense costs and judgments up to the policy’s limits of liability (generally $5-10 million to as high as $25 million). What does it cover? Tech E&O insurance protects against business interruption caused by software crashes, hardware failures, network interruptions, coding errors, IT consultation (not covered by CGL), data breaches (intentional or accidental), malpractice when companies are sued for failing to maintain accepted technology professionals’ standards of care, breach of contract for failing to perform contracted services in a timely manner and within the contractual terms, loss of client data, nonperformance, failure to meet software benchmarks during the creation of a new program, data loss due to hackers or vi-

ruses, intellectual property rights (IPR) lawsuits related to online content and false claims about the security of a company’s site. Where is the gap in coverage? A typical CGL policy affords coverage if there is “property damage” caused by an “occurrence.” Property damage is typically “physical injury to tangible property, including all resulting loss of use of that property,” and “loss of use of tangible property that is not physically injured.” An occurrence is generally defined as “an accident, including a continuous or repeated exposure to conditions, which results, during the policy period, in bodily injury or property damage neither expected nor intended from the standpoint of the insured.” A standard CGL policy does not cover claims for programming errors or disputes over contract performance because tech claims do not fall under the definition of tangible property. A CGL policy can however cover some product failure if the insured’s product fails and causes damage to tangible property. What are the standard types of coverages? Under a Tech E&O policy, coverage is usually afforded for liability arising out of the failure of the insured’s technology products (including hardware and software) to perform the function or serve the purpose intended or arising out of rendering or failing to render technology services for a fee. Specifically, the types of coverage include: 1. Technology and internet errors and omissions: Covers acts, errors or omissions in the provision of technology services or the sale of technology products. 2. Electronic media liability: Covers infringement of copyright trademark, invasion of privacy, libel, slander, plagiarism, or negligence arising out of the electronic publishing, dissemination, releasing, gathering, transmission, production, webcasting or other distribution of electronic content on the Internet. 3. Network operations security liability: Covers liability arising out of the failure of network security, including unauthorized access or unauthorized use of corporate systems, a denial of service attack or transmission of malicious code. 4. Privacy liability: Covers loss arising out of the organization’s failure to protect sensicontinued on page 47

How Matter Management Works For Legal Departments By Ted Best

ncreasingly, general counsel are reporting to the CEO and being viewed as strategic partners. They are being looped into issues before a crisis emerges, rather than after it has occurred. This clearly shows the increased value corporations are placing on their legal departments, as the regulatory environment continues to get more complex. At the same time, businesses are poised for growth as the recession ebbs. This means companies are embarking on new initiatives or pursuing M&A transactions to accelerate or sustain growth. These are activities that require legal work.

THE MAGA ZINE FOR THE GENER AL COUNSEL, CEO & CFO aug/ sept 2013

The result of the collision of these two realities is greater demands on existing legal resources without additional investment. The expectation is for corporate legal departments to do more with less, while delivering increasingly mission-critical services to the business as a whole. This means that now more than ever, legal departments have a clear and compelling case for using technology as a means to increase efficiency and productivity, and in particular to automate matter management. Matter management systems allow corporate counsel to have insight and access to all data related to a matter, from spend and budget to current status and upcoming tasks. Ideally, matter management provides inside counsel with visibility across all matters in which a corporation is currently engaged, plus the ability to drill down and see the detailed status, documents and financial information of a specific matter.

Fee and Rate Management. Legal work certainly is not a commodity and value is often of greater concern than the average cost-per-hour of a firm. However, over time, matter management systems can provide a good sense of how long a project will take, as well as average cost. This leads to more effective negotiations and predictability in budgeting. Matter Strategy. At what point does it become more advantageous to settle than litigate? By providing analytics about previous matters, time costs and outcomes, legal departments can make data-driven decisions. Data-driven options resonate with business leaders who are less accustomed to dealing with the complexities of legal strategy. Making Risks More Visible. What is the status of a given matter? What is the overall risk profile of my portfolio? With multiple touch points on a given matter, and with several mem-

Matter management systems can help general counsel gain control over the evolving mix of legal risk, vendor management processes and cost containment challenges. This is no small feat, considering that many small-to-mid-sized U.S. companies can spend upwards of $10 million on outside counsel that are working on hundreds of matters. Some of the largest U.S. corporations may employ hundreds of in-house attorneys and still engage hundreds of outside firms for special expertise. Complicated or highly regulated industries such as pharmaceuticals, insurance and banking are prime examples. Matter management systems can help general counsel gain control over this evolving mix of legal risk, vendor management processes and cost containment challenges. Implementing standard processes around matter assignment, budgeting, invoice review and approval, docketing and matter status updates allows a legal department to work more efficiently and concentrate its efforts on delivering more value without dramatically increasing budgets. One benefit to automating manual processes is the data that is gathered can be used to drive better business and legal outcomes. Some examples include:

bers of staff both inside and outside a company collaborating on a project, the ability to have all information related to a case is quite valuable. Changes in matter status can have financial effects the business needs to know immediately. The common themes of these three primary benefits are managing legal costs without sacrificing quality, and decreasing risk and uncertainty by using data and analysis to drive better outcomes. Successful technology implementation requires research into business and human factors. Before shopping for software, focus on the requirements for the technical problem you are trying to solve, as well as the business concerns that relate to people and process. Here are some key aspects of the planning process: Goal-Setting. Having a vision for what you want to achieve starts with setting goals and writing them down. Blueprinting process and technology. How does the legal department get its work done? The answer to this question needs to include

aug/ sept 2013 today’s gener al counsel

the business workflow and technology tools used to enable that workflow. The concept is to create a process map that can be reviewed to identify where automation can bring efficiencies. Typical questions to answer are:

Edward Best is the Senior Director of Product Planning for LexisNexis, the provider of CounselLink. edward.best@ lexisnexis.com

• How is work requested from the legal department? • What is the process for approving requested projects? • How does the legal department take on a matter? • How is work assigned internally or externally? • How is a matter is tracked from inception to completion? • What technology already exists in the legal department? • How does the legal department report results to the business? Looking closely at people and how they will related to the technology. There’s a human aspect to any IT acquisition. It’s important to understand the level of technology sophistication of the target user base in order to determine the extent that you can, or should, automate their daily processes. By understanding your team’s ability to adopt technology, you can choose a system that is a good fit. Training and change management. Training should include the goals set out for the project, as well as instruction on how to navigate the application. There comes a time when you have documented your goals and processes. You understand the tools. You understaand the people and the existing technology infrastructure. You’ve trained your staff and your implementation is nearing completion – a process that can takes a little as eight weeks for smaller organizations and perhaps16 weeks for large organizations. At that point, here are five benefits you can expect to see:

Reduced Risk. Given the multiple resources, documents and people that touch a matter at a given point in time, automation is the only realistic way to see the complete picture.

Reliable Reporting. Visibility is part of the equation, but how to share information in a format that’s useful for decisionmaking is equally important. Whether that includes making a recommendation to the C-Suite or negotiating with outside counsel,

dashboard summaries and timely reporting are powerful ways to demonstrate the value of the legal department.

Consistency. Historical data from previous matters is helpful for future projects. Rather than start the planning process from the beginning, when the project is similar to previous matters, leveraging a knowledge base of key points, reference details and historical costs saves time, improves efficiency and, most importantly, uses data to drive measurable outcomes.

Increased Collaboration. Corporate counsel already has a plethora of data stored in existing applications. Matter management systems that are tightly integrated with these existing tools enable inside counsel to seamlessly leverage that information from an application they are already comfortable with.

Improved Relationships. Ideally, outside counsel are an extension of the in-house team. Capable matter management systems make collaboration with outside counsel easier, from the assignment of resources to project management and financial metrics that demonstrate the value of the work. Predictable budgets, reporting and analytics are tools that the C-Suite understands. They help senior management view inside counsel as strategic business partners. Moreover, data and analytics enable general counsel to meet their objectives of reducing risk, ensure they receive the best value for outside spending and ultimately improve outcomes for the organization. n

THE MAGA ZINE FOR THE GENER AL COUNSEL, CEO & CFO aug/ sept 2013

Tech E&O

continued from page 43

5. 6.

8. 9.

tive personal or corporate information in any format. Public relations problems from identity theft. Data breach: Covers expenses to retain a computer forensics firm to determine the scope of a breach, to comply with privacy regulations, to notify and provide credit monitoring services to affected individuals, and to obtain legal, public relations or crisis management services to restore the company’s reputation. Cyber-extortion: Covers extortion and associate expenses arising out of a criminal threat to release sensitive information or bring down a network. Miscellaneous professional liability: Covers acts, errors or omissions in the provision of services beyond technology services. Worldwide coverage.

What is a claim under a Tech E&O policy? A claim may arise from: an administrative/ regulatory proceeding by a governmental agency; cyber-extortion (credible threat or series of related threats directed at the insured’s computer system or a failure of network security); legal proceeding; or written demands for monetary or non-monetary damages. A Tech E&O policy often defines a claim in different terms than a standard CGL policy. What are loss/damages under a Tech E&O policy? They may include consequential damages, disgorgement/restitution, injunctive relief, judgments, legal expenses, pre-judgment and post-judgment interest and settlement. It is imperative the insured shop around to determine which insurer offers the broadest coverage. What are the notice provisions under a Tech E&O policy? These policies are typically “claims made and reported” with an “as soon as practicable” provision. The policy is triggered if the lawsuit or claim is made within the policy period; the insured reports to the insurer within the policy period or any extended period; and the notice is provided “as soon as practicable,” even if the policy has not yet expired. An insured’s obligation to provide notice of circumstances or “timely notice” is a recurring coverage issue. What types of exclusions apply under a Tech E&O policy? Typically they include:

1. General insurance exclusions (bankruptcy, dishonesty, intentional acts, expected or intended damages, SEC, unfair competition, piracy, and punitive damages). 2. Product-related exclusions. 3. Service and security-related exclusions, such as contractual liability, cost estimates exceeded and security breach. Cost estimates exceeded refers to exclusions for claims by customers that the cost of a project exceeded the estimate or proposed fee. Others include performance-delay, which arises out of the insured’s failure to meet project time deadlines, and is included to protect carriers against an insured’s overly optimistic promises. 4. Cyber risk-related exclusions (including personal injury, advertisement injury, intellectual property, and “public key infrastructure” exclusions. Intellectual property refers to infringement of patents, copyrights, or trademarks. Public key infrastructure (PKI) is a term used to describe technology that enables secure online transactions. What Types of Coverage Issues Arise Under a Tech E&O Policy? Although tech E&O claims are in their infancy and case law is limited, traditional coverage issues apply. Is an insured obligated to disclose prior claims or lawsuits in the application form? What constitutes prior knowledge? When does a company’s risk manager or chief technology officer need to report a potential claim? How soon does a company need to report to the carrier? Any company involved with technology should purchase tech E&O insurance in conjunction with the standard CGL555 policy, and be prepared. Although the facts and circumstances under a tech E&O policy are new, the types of insurance coverage disputes that will arise are not novel. ■

Alba Alessandro is a partner at Hodgson Russ LLP. She concentrates her practice on insurance coverage matters, with a focus on directors and officers liability. She provides advice to clients on insurance issues, including application of insuring agreements, policy exclusions, rescission, and allocation. aalessan@ hodgsonruss.com

aug/ sept 2013 todayâ&#x20AC;&#x2122;s gener al counsel

Litigation as a Tool of Economic DEvElopmEnt By Steven P. Blonder

THE MAGA ZINE FOR THE GENER AL COUNSEL, CEO & CFO aug/ sept 2013

overnment at all levels these days seems to be cash-strapped and mired in debt. State and local governments, in response, often initiate a series of measures loosely coined “economic development.” These efforts, which largely involve heavily-lobbied public officials favoring targeted businesses with special incentives – tax abatements, subsidies, free land and other benefits – often pit businesses against each other, cities, states, or even their neighbors. For an individual business owner, such incentive packages may provide capital for investment, construction of new facilities or relocation of existing facilities. They may also result in additional employment. But all this is a far cry from what was traditionally considered the intent of economic development: to serve as a catalyst for improving the standard of living in a particular community. States are engaging in high-profile, direct advertising campaigns specifically targeting businesses in other states. The state of Texas, for example, directly targets Illinois businesses through an ad campaign that focuses on the benefits of headquartering in Texas, benefits such as the lack of personal income taxes, a lower corporate tax rate and the financial solvency of the state. Wisconsin and Indiana also have invited Illinois businesses to relocate over the border, citing advantages in tax schemes and worker’s compensation programs. Whether or not such efforts prove successful, they open the door for businesses to seek

Federal deficits impact state and local governments as well as the federal government. Financial distress in cities and other municipalities is certainly nothing new: Between 1980 and 2010, 239 municipal entities filed for protection under federal bankruptcy law. But one recent estimate suggests that the aggregate debt among the states now exceeds $4 trillion, and recently several high-profile municipal bankruptcies have received public attention and spurred additional public discourse regarding cost-cutting opportunities. One short-term financial fix is privatization, in which state or local government units sell a variety of services or assets – airports, parking, toll roads, and even state Medicaid programs and commerce departments – to private companies. In the past few decades, governments worldwide have completed such deals. The expected results include reduced costs, higherquality services and business innovations that previously might have been hindered by government bureaucracy. On the flip side, cash infusions to government often prove to be short-term, while public relations problems and litigation are ongoing. When Chicago “leased” its parking meters to a Morgan Stanley-affiliated entity, and its parking lot operations to another entity, the City received cash payments that helped resolve existing budget crises. But it also endured a public bashing in the press

Wisconsin and Indiana have openly invited Illinois businesses to relocate over the border, citing advantages in tax schemes.

benefits that can improve their competitive position, either from the targeting state or their home state. The same type of activity also occurs at the municipal level, although usually without high-profile ad campaigns. Courts have consistently held that as long as governmental action is designed to fulfill a legitimate public purpose, a specific action taken is not subject to review. States rarely have single statutes that define “public purpose.” Even if they did, courts are not in the business of second-guessing the economic wisdom underlying government action absent indicia of bad faith, fraud, or abuse of authority.

as a result of ensuing price increases and operational challenges, plus a series of legal challenges both in court and in arbitration over the programs. While the ultimate success of these efforts will not be ascertained for decades, early returns from a municipal perspective are not promising. Several states, including California, Texas and Illinois, have at various times enacted state statutes providing for tax revenue to be collected based on where sales are sourced (i.e. where orders are accepted). In these states, municipalities enter into economic development agreements with businesses to allow the businesses to

aug/ sept 2013 todayâ&#x20AC;&#x2122;s gener al counsel

source their sales within the locale in exchange for a rebate of a significant percentage of the tax revenues generated. This practice pits municipality against municipality. But from a stateâ&#x20AC;&#x2122;s perspective, such practices provide economic advantages to the extent that they encourage companies that otherwise have no connection with the state to establish a presence for the purpose of sourcing sales. In other words, additional tax revenue is generated at the state level, which is a net positive for cash-strapped state governments.

United Airlines received incentives to move its headquarters from suburban Elk Grove Village in Illinois to the city of Chicago. These activities are generally accepted as good business practices that encourage economic development. But in North Dakota and elsewhere, there have been lawsuits contesting inducements and other forms of economic development. They allege that direct aid to businesses violates state constitutions, and they cite various statutory restrictions on how a state or political subdivision may spend funds.

Antitrust cases have been threatened by states in the face of corporate relocation, thus making litigation a central part of economic development strategy.

Steven P. Blonder is a principal at Chicago-based Much Shelist, in the Litigation and Dispute Resolution practice group. He focuses primarily in the areas of financial services, corporate governance and control, securities, real estate, regulation and business issues. sblonder@ muchshelist.com

These tax incentives have led to litigation in California and Illinois, with suits brought by municipalities or other governmental bodies that claim they are being deprived of tax revenue based on the sales-sourcing rules. The defendants in these cases are the municipalities offering the rebates, companies that have opened sales offices in these municipalities, and a variety of tax consultants who have assisted private companies in obtaining these benefits. Proponents of such tax incentives point to other generally accepted economic development programs such as tax increment financing (TIF), where companies are given incentives based on real estate taxes to relocate and develop blighted properties for corporate operations. Such incentives can run for many years and range in the millions of dollars. Opponents of this financing system decry the loss of revenue to school districts and other taxing bodies. Another criticism concerns fairness and the economic disparity between municipalities that are financially strong enough or large enough to absorb the loss of the tax revenue for a substantial period, as compared to other municipalities that lack the financial wherewithal to offer these types of long-term incentives. Other types of financial incentives are often made available by states or municipalities to encourage companies to relocate. For example, Boeing received inducements to move its headquarters out of Seattle to Chicago. Similarly,

In other instances, antitrust cases have been threatened by states in the face of corporate relocation, thus making litigation a central part of economic development strategy. Taken as a whole, the practice of using incentives derived from tax revenue for economic development, and the resulting dissension among municipalities, has led to a lot of costly litigation. Many governmental bodies see the Internet as a source of untapped wealth and the panacea for their economic challenges. In Illinois, for example, a measure was enacted that essentially forced online retailers to pay state taxes even if they lacked a physical presence in the state. They were subjected to state taxes because they were working with a marketing affiliate located in Illinois. Such marketing affiliates even included bloggers who used their own site to link to a product. Not surprisingly, this tax was deemed good for the struggling economy in Illinois, but it caused Internet retailers to end their relationships with marketing affiliates in the state. Many of the marketing affiliates relocated their operations out of the state, taking jobs and money with them. The revenue that Illinois expected to generate didnâ&#x20AC;&#x2122;t materialize, while the unintended consequences were severe. Every level of government is feeling the economic pinch. The result has been a myriad of programs designed to encourage local economic development. The unintended consequence has been increased litigation, in which cash-strapped governmental bodies use the court system as the newest form of economic development. n

THE THEGENERAL GENERAL

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GENERAL COUNSEL MUST

By Mark E. Harrington

U.S. lawmaker, knowledgeable about intelligence affairs, told the Wall Street Journal earlier this year that there are two types of American corporations today: those that have been hacked, and those have been hacked but donâ&#x20AC;&#x2122;t know it. Preparing for cyber-attacks was once considered the sole responsibility of information security (IS), but itâ&#x20AC;&#x2122;s now a critical part of overall risk management. The scope of cyber-threats and their potential impact on everything from corporate and executive reputation to long-term financial viability makes it clear that chief information security officers and their general counsel would do well to collaborate.

Cyber-security and legal now directly intersect via compliance and regulatory rules related to privacy, protection of personal information and disclosure of risks. For example, in 2011 the SEC issued new guidelines making it clear that publicly-traded companies must not only disclose significant instances of cyber-theft or attack, but report even when they are at material risk of such an event. If legal is not aware of such risks due to poor communication with IT and IS departments, it is at risk of violating SEC guidelines by failing to report appropriately to its shareholders. By making the effort to understand the threat landscape, the legal department can claim a place at the information-security table and gain insights that will result in more effective risk-management. A useful resource

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to begin this process is offered by the Department of Justice, in the cyber-crime section of the U.S. attorney’s website. The target of cyber-attacks will nearly always be sensitive data, including personally identifying information, trade secrets, intellectual property, protected health information and confidential personnel information. It is nearly impossible to protect this sensitive data without actually knowing the types, amount, and location of sensitive information throughout the IT system, including data on the networks of third-party suppliers and partners. Therefore, the first step is making an exhaustive inventory and location map. Specialized data-management products and expert professional services offerings are available to assist with this process. Traditionally, general counsel have not been involved in developing cyber-security policy, in part because the legal department does not have jurisdiction over IS, which is usually an independent department with a chief information officer who reports to the COO or CFO. Unfortunately, in some organizations, the perception is that prior consultation with attorneys on cyber-security, infrastructure, or risk-management might create delay. As a result, attorneys are often not brought into the cyber-security process until a crisis occurs. But in order to fully comprehend the risks of cyberthreats, legal teams need to be continuously involved in oversight, in addition to taking the lead in crisis-management. For public companies, the trading exchanges are adopting rules that require robust internal auditing. The New York Stock Exchange already has such a rule, and NASDAQ has proposed one. The NASDAQ rule, if implemented in its present form, will require companies to maintain an internal audit function (in addition to its current external audit and Sarbanes-Oxley procedures) to provide management and the audit committee with ongoing assessments of the company’s risk-management, and to implement a system of internal control. IS and IT technology will provide general counsel and risk managers with the capabilities to implement the internal audit function. Overall, a closer reporting structure between general counsel and risk management, IT, and IS will greatly facilitate these processes. As for what happens after a breach, most large corporations have invested time and resources into incident-response systems. The

majority also have some process for resolving the effects of a cyber-breach. What is often missing is a notification chain, including a plan for notifying the legal department. A second critical area to address is the insider-threat. While companies often have breach-protection systems, they usually face outwards. Many corporations have not yet taken measures that would address the potential or actual disgruntled employee, the “plant,” or someone willing for psychological or economic reasons to sell out to a competitor. It is helpful to remember that every crime requires access, opportunity, and motive. Many employees do have have both access and opportunity in the course of performing their jobs, so it is critically important to work with middle managers on an ongoing basis to understand when there may be a motive to take action. Risk-management teams may want to consider solutions that help them monitor for inappropriate data leaks, as well. Information security systems must be 100 percent successful in order to prevent breaches, while attackers need only be successful once. Realistically, cyber-breaches will occur and are likely to have occurred already in most large corporations. The ability to quickly evaluate alerts to determine true threats is essential. So is having the ability to assess the impact of a threat, discover which data is at risk and halt a serious breach. Having forensic capability also greatly improves the ability to glean evidence that is court-admissible if a breach leads to litigation. The best approach for some organizations may be to hire a dedicated cyber-threat attorney. Generally the best practice is to engage the services of a specialist before an incident takes place. In the case of a data breach, such a specialist helps clients define policies that ensure their organization abides by state and federal disclosure laws. Another recommendation is to bring in an operational risk manager who understands cyber-crime and can be trusted by both IS and the legal team. To be most effective, general counsel need to partner with the information security team so that together they can come up with the decisions, processes, policies, and tools that will lower overall risk. By becoming familiar with the threat landscape and bolstering remediation and rapid-response plans, general counsel can become well prepared to meet the cyber-security threats to their organizations. ■

Mark E. Harrington is general counsel and corporate secretary of Guidance Software, Inc. He previously held senior legal positions at technology companies, including Intel, and practiced at Munger, Tolles & Olson. mark.harrington@ guidancesoftware.com

Little Guidance For

Lower Courts In FTC v. Actavis By Leslie E. John, Jason A. Leckerman and Paul Greenberg

n June, the U.S. Supreme Court issued its long-awaited opinion in FTC v. Actavis, Inc., a decision that likely will have significant ramifications for the pharmaceutical industry. In the near term, it will embolden the Federal Trade Commission (FTC) and class action attorneys to bring additional challenges to settlements of patent infringement litigations. But more importantly, by encouraging continued litigation the case could not only impact the development and availability of new drugs but could delay the entry of generics. In Actavis, the FTC challenged as anti-competitive under the antitrust laws settlements that brand-name and generic drug companies executed to end ongoing patent litigation

when those settlements contained a cash payment from the brand to the generic companies. Under the statutory scheme for generic drug approval, known as the Hatch-Waxman Act, a generic drug manufacturer must file an application (known as an Abbreviated New Drug Application or ANDA) with the FDA before marketing its drug. The Hatch-Waxman Act recognizes that the brand company’s patents provide it with a lawful means of excluding generic competitors for a set period of time. The ANDA therefore must include a certification with respect to each of the patents used in the brand-name drug. One type, a “Paragraph IV” certification, states that the brand company’s patent is invalid, unenforceable, or will not be infringed by the generic product.

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When a generic files a Paragraph IV certification, it must notify the brand manufacturer, which then may decide to file a patent infringement action against the generic company. A patent infringement action filed within 45 days of the Paragraph IV notice automatically stays final approval of the generic drug for 30 months, or if and until a court rejects the infringement claim, whichever is sooner. If a generic company is the first to file an ANDA with a Paragraph IV certification, it is eligible for a period of market exclusivity of 180 days (or it may share that exclusivity if another generic has filed on the same day). Thus, generic companies strive for the lead position provided by the Act. Consumers benefit from the development of new drugs (dynamic efficiency) and from improved access to lower-priced versions of those drugs (static efficiency). The Hatch-Waxman Act represents a compromise intended to balance the desire to allow consumers timely access to cheaper drugs with the desire to maintain brand companiesâ&#x20AC;&#x2122; incentives to innovate. It does so mainly by providing additional protections for drug patents, while also providing incentives for generic companies to challenge these patents. As with most business-to-business litigations (and civil litigation more generally), most Hatch-Waxman patent cases historically have settled before trial. In a small minority of cases, these settlements include a â&#x20AC;&#x153;reverse payment,â&#x20AC;? meaning a cash payment from the plaintiff brand company to the defendant generic com-

pany. As part of such settlements, the parties may agree on the generic entry date. Reverse payments have been utilized in a quarter or fewer of all settlements of HatchWaxman cases over the last decade. During that period, nearly all major patented brand drugs were challenged by generics, and most settlements of the ensuing patent infringement litigation assured generic entry before patent expiration. As a result of these settlements, brand and generics achieve certainty on entry dates and generics secure greater resources and incentives, including cash incentives to challenge brands in the future. Generics account for more than 80 percent of prescription drug volumes, a percentage that continues to grow. The effective patent life of brand drugs (i.e., time on market without a generic) has fallen. Life expectancy has increased and infant mortality has decreased in large part because of the introduction of new and improved pharmaceuticals. In other words, the Hatch-Waxman Act has been extremely successful at getting generic entrants onto the market. It has achieved its goal of increased consumer access to cheaper drugs, while preserving important incentives for innovation. For a number of years, the FTC and class action lawyers have publicly opposed settlements that involve simultaneous financial consideration from the brand to the generic, repeatedly asking courts and Congress to consider them presumptively illegal. They have argued

Leslie E. John is a partner at Ballard Spahr LLP and practice leader of the Antitrust Group. She concentrates on antitrust and complex litigation and has represented clients in federal and state courts and before the U.S. Department of Justice and Federal Trade Commission. john@ ballardspahr.com

AUG/ SEPT 2013 TODAY’S GENER AL COUNSEL

Jason A. Leckerman is a litigation partner at Ballard Spahr LLP. He focuses on antitrust, product liability, pharmaceutical, and consumer fraud litigation, and he regularly counsels clients on antitrust compliance and risk. leckerman@ ballardspahr.com

Paul Greenberg is a Managing Principal and Director at Analysis Group, an economic consulting firm. pgreenberg@ ballardspahr.com

that these settlements amount to agreements by competitors to allocate the market and are therefore unlawful under the antitrust laws. The FTC’s complaint in Actavis asserted that the brand and generic companies violated antitrust laws when the brand company allegedly paid the generic firms cash in exchange for their agreement to abandon their challenges to the brand’s patent and to refrain from marketing a generic version of AndroGel until 2015. In upholding the trial court’s dismissal of the FTC’s complaint, the 11th Circuit applied the “scope of the patent” test, stating that, absent “sham litigation or fraud in obtaining the patent, a reverse payment settlement is immune from antitrust attack so long as its anticompetitive effects fall within the scope of the exclusionary potential of the patent.” The court recognized that patent law necessarily makes legal restraints of trade that the antitrust laws may otherwise prohibit. The court rejected the FTC’s argument that reverse payments should be “presumptively unlawful.” Although the FTC and the defendants advocated in their briefs for the Supreme Court to adopt the “presumptively unlawful” and the “scope of the patent” tests, respectively, the Court, in a 5-3 vote, with Justice Breyer writing for the majority and with Justice Alito recused, opted instead for a middle ground: the rule of reason standard used for most antitrust cases. The rule of reason requires that courts balance the pro-competitive effects of a proposed restraint of trade against its anti-competitive effects. Under the rule of reason test, courts find unlawful any restraints of trade in which the anti-competitive effects outweigh the pro-competitive effects. In other words, courts should balance the procompetitive effects of a settlement that involves a payment from the brand company to the generic company against any anti-competitive effects. But the Court’s opinion leaves many questions. For instance, the Court emphasized that legality of the payment may depend in part on its size, both in absolute terms and in relation to potential litigation costs, as well as the absence of any justification for the payment other than to delay generic entry. The court also tried to downplay the need to assess the strength of the underlying patent or patents. The court spoke

favorably of settlements that are based entirely on negotiation over entry dates. Beyond those broad parameters, the Court provided little guidance to lower courts, stating that “trial courts can structure antitrust litigation so as to avoid, on the one hand, the use of antitrust theories too abbreviated to permit proper analysis, and, on the other, consideration of every possible fact or theory irrespective of the minimal light it may shed on the basic question, that of the presence of significant unjustified anti-competitive consequences.” The rule of reason test adopted by the Court presents substantial challenges and administrative burdens. Lower courts essentially will be left to develop standards for assessing reverse payments, and litigants and those they represent will have little or no certainty as to what matters. How will courts scrutinize deals that involve contemporaneous business agreements entered into by litigants? Will courts be able to assess whether a settlement is anti-competitive without assessing the strength of a patent? What does the assessment of “litigation costs” entail? In rejecting the scope of the patent test, the Court implicitly acknowledged that it saw no need for bright-line rules for companies or to provide parties with flexibility to settle. The decision is thus a departure from previous antitrust decisions from the Supreme Court that have set bright line rules to address what the Court saw as the in terrorem effect of antitrust actions. The Court’s decision likely will have long-term, seemingly unintended, consequences for both pharmaceutical companies and consumers. As the dissenting opinion in the case observed, the decision will discourage settlement of patent litigation because, “there would be no incentive to settle if, immediately after settling, the parties would have to litigate the same issue -- the question of patent validity -- as part of a defense against an antitrust suit.” It likely will delay the entry of generics by reducing the incentive to challenge brand patents and discourage investments in innovation. There will be increased litigation as litigants and the courts sort out the proper framework for these cases, and the consequences may extend beyond the pharmaceutical context. Paying an alleged infringer to drop its invalidity claim is a well-known feature of intellectual property litigation. Ultimately, this opinion may well be viewed as a Pyrrhic victory for consumers. ■

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AUG/ SEPT 2013 TODAY’S GENER AL COUNSEL

Fee Awards in Arbitration By Bruce G. Paulsen and Jeffrey M. Dine

eyond a limited set of circumstances, American litigants do not expect to be at risk of paying their opponents’ attorneys’ fees. The usual “American Rule,” however is subject to significant caveats in arbitration and arbitration enforcement, presenting unexpected risk for the unsuspecting litigant and strategic opportunity for the well-prepared. This article looks at the mechanisms by which parties to arbitration may recover, or face liability for, attorneys’ fees under the Federal Arbitration Act (FAA). The usual rule in litigation in the United States is that a losing party is not obligated to pay the prevailing party’s attorneys’ fees, absent a statutory fee shifting provision or contractual agreement. As the Supreme Court said in Alyeska Pipeline Service Co. v. The Wilderness Society, the American Rule “is deeply rooted in our history and in congressional

policy.” But this doesn’t apply in every area. Areas where litigants expect the possibility of statutory fee shifting on a routine basis include (with respect to federal claims) civil rights and discrimination, employment, wage and ERISA, consumer protection and some intellectual property claims. Sanctions under Rule 11 of the Federal Rules of Civil Procedure, of the United States Code or the federal courts’ inherent power to assess sanctions are other, albeit uncommon avenues for the potential recovery of a litigant’s attorneys’ fees. Arbitration presents a number of additional mechanisms by which arbitrators may award attorneys’ fees to the prevailing party. Traditional state law hostility to awarding attorneys’ fees is generally preempted by the FAA’s direction that state laws specifically hostile to arbitration are preempted. Thus, arbitrators may award

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attorneys’ fees in any circumstance where a court could do so, such as under a contractual or statutory provision. In international arbitration, it is not uncommon for the parties’ contract to choose the law of a country other than the United States. To the extent the law of that country anticipates fee shifting as a default, arbitrators will give the law effect, even where the seat of the arbitration is the United States. While the result would be the same in a United States court applying the foreign law, the prevalence of international arbitration in international commercial transactions suggest that the circumstance is more likely to occur in international arbitration. Moreover, the arbitration laws of some overseas venues – including Hong Kong, as well as England – provide for attorneys’ fee shifting. In addition, the rules of arbitral bodies themselves may provide for fee shifting. For example, in the United States, the rules of the Society of Maritime Arbitrators specifically permit the arbitrators to award attorneys’ fees

It’s clear the instinct of the losing party in an arbitration is to try to overturn the award by any means available. It’s important to remember, however, that acting on that instinct can be costly.

The usual rule in litigation in the United States is that a losing party is not obligated to pay the prevailing party’s attorneys’ fees. Keep in mind that arbitration awards in the United States are not self-executing. A party seeking to enforce an award under the FAA must bring a proceeding in seeking confirmation of the award as a judgment under section 9 of the FAA. Because Chapter 1 of the FAA, governing

Courts have become hostile to baseless efforts to avoid payment of awards or to vacate them. An award of attorneys’ fees against the challenging party is the possible consequence. in all circumstances. The rules of numerous other international arbitral bodies also provide for fee shifting. Additionally, arbitrators in the United States may award attorneys’ fees as a sanction under their own power to control the proceedings. Finally, a party may open itself up to an award of attorneys’ fees against it by procedural misstep. American litigants routinely put a request for attorneys’ fees in the ad damnum clause of their court complaints. Outside of the recognized exceptions to the American Rule, that request is generally meaningless. In arbitration, however, a request for attorneys’ fees in a statement of claim can act as an additional submission in the arbitration, opening up the issue of attorneys’ fees against the party making the request.

domestic awards, does not itself provide grounds for federal court jurisdiction, arbitration enforcement of domestic awards under the FAA must be sought in state court unless separate grounds for federal jurisdiction, such as diversity, exist. A party seeking to vacate the award must bring a proceeding under Section 10 of the FAA (or Section 11 to correct an error) within three months of its filing or delivery. The procedure for international awards is similar. Awards made in countries that are signatories to the Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the “New York Convention”) or the Inter-American Convention on International Commercial Arbitration (the “Panama Convention”) must also be confirmed, but federal courts have original jurisdiction over recognition.

Bruce G. Paulsen is a partner at law firm Seward & Kissel. He handles complex commercial, maritime and international disputes, including public securities cases, bankruptcy, insurance, maritime finance, and international sanctions compliance. paulsen@sewkis.com

aug/ sept 2013 today’s gener al counsel

Recent Supreme Court jurisprudence has broadened the scope of arbitration, limited the grounds for striking arbitration agreements and narrowed the grounds for challenge to arbitral awards. In 2008, in Hall Street Associates v. Mattel, Inc., the Supreme Court ruled that the only grounds for vacating an arbitration award under the FAA are those set out in Section 10: (1) Where the award was procured by corruption, fraud, or undue means. (2) Where there was evident partiality or corruption among the arbitrators. (3) Where the arbitrators were guilty of misconduct in refusing to postpone the hearing upon sufficient cause shown, refusing to hear pertinent and material evidence; or any other misbehavior by which the rights of any party have been prejudiced. (4) Where the arbitrators exceeded their powers, or so imperfectly executed them that a mutual, final, and definite award upon the subject matter submitted was not made.

The parties cannot alter those grounds, such as by agreeing in their contract that an arbitration award may be vacated for a mere error of

Jeffrey M. Dine is a senior associate at Seward & Kissel, whose practice includes commercial, intellectual property, bankruptcy and maritime litigation, arbitration and arbitration enforcement throughout the United States and abroad. dine@sewkis.com

Daniel Guzman, an associate in the litigation department at Seward & Kissel, assisted in the preparation of this article. guzman@sewkis.com

awards rendered within the United States may be subject to the requirements of both the applicable convention and the Sections 10 and 11 of the FAA. It’s important to note that because the grounds for avoiding confirmation are so narrow, courts have become hostile to baseless efforts to avoid payment of awards, or to vacate them. An award of attorneys’ fees against the challenging party is the possible consequence. As the Eleventh Circuit Court of Appeals held in B.L. Harbert International, LLC v. Hercules Steel Co. (a decision followed in a number of other circuits), when a party that loses an arbitration award drags the dispute through the court system without an objectively reasonable belief it will prevail, the promise of arbitration is broken. Arbitration’s allure is dependent upon the arbitrator being the last decision maker in all but the most unusual cases. If arbitration is to be a meaningful alternative to litigation, the parties must be able to trust that the arbitrator’s decision will be honored sooner rather than later. The standard for granting sanctions against a party opposing enforcement of an arbitration award remains high. That standard is not uniform across the circuits, and courts use the

Recent Supreme Court jurisprudence has broadened the scope of arbitration, and narrowed the grounds for challenge to arbitral awards. law. Because the arbitrators’ decision is awarded great deference, such that an award should be confirmed if the arbitrator is even “arguably construing” the contract, challenges to confirmation succeed infrequently. Parties seeking to void arbitration awards issued by tribunals sitting in foreign countries that are signatories to the New York Convention, or that qualify for enforcement under the Panama Convention, face an even higher bar. Confirmation will be denied only when one of the even narrower grounds under the those treaties can be demonstrated. International

various sanctions mechanisms generally available. Within the Second Circuit, for example, the longstanding rule has been that, “when a challenger refuses to abide by an arbitrator’s decision without justification, attorneys’ fees and costs may properly be awarded” under the court’s inherent power. Losing parties, and their counsel, who are considering challenging an arbitration award, must carefully evaluate their arguments against the high bar of the FAA . The risk is not simply losing the fight against confirmation, but also paying the winners’ attorneys’ fees. n

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Opting Out Of A Class Action Timing Crucial For Plaintiff Companies By Thomas J. Wiegand and Lucas Walker

orporations often consider class actions from the perspective of a defendant corporation under attack by the plaintiffsâ&#x20AC;&#x2122; bar, which is suing on behalf of consumers, small shareholders or employees with modest individual claims. But in some kinds of class actions, there can be more corporations on the plaintiff side than on the defense side. For example, a single defendant in a securities case or a handful of defendants in an antitrust conspiracy case might be pitted against a plaintiff class containing hundreds of corporations or large investors.

Corporate class members are distinct from consumer or employee class members, both in their financial might and the dollar value of their claims. A corporation that has been paying inflated prices for raw material due to a price-fixing conspiracy, or a state pension fund that holds millions of shares of stock that is the subject of a securities fraud suit, can have a claim for tens of millions of dollars or more. If a court allows a damages case to proceed on a class basis, class members have two basic options: staying on the sidelines and accepting their share of any recovery obtained

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School Professor John Coffee’s 2008 article, Accountability and Competition in Securities Class Actions: Why “Exit” Works Better than “Voice.” Professor Coffee found that plaintiffs opting out of securities and antitrust class settlements routinely earned payments several times, in some cases even 50 times, what they would have recovered in the class settlement. A plaintiff who files a separate action also enjoys control over both case strategy and settlement discussions. This article accepts as given that sometimes it is smart for a class member with significant potential damages to file its own lawsuit. Despite that accepted wisdom, there is a lack of uniform guidance about when opt-out decisions need to be made.

by class counsel, or “opting out” of the class in favor of filing a separate action. Class members with small claims, such as consumers or employees, do not have enough at stake to make opting out viable. Corporations and large investors face a much different question. Their potential recovery can be substantial, and they have the resources and sophistication to pursue it in an individual lawsuit. Almost 300 opt-outs decided not to join the Tyco International securities class settlement of December 2007, and, most recently, thousands of retailers with over 100,000 locations have optedout of the proposed $7.25 billion class settlement in the Visa/Mastercard Interchange Fee case. An opt-out plaintiff can often obtain a greater recovery than settling class members, as shown in research such as Columbia Law

CLASS NOTICE AND TOLLING THE STATUTE OF LIMITATIONS Once a class is certified, Federal Rule of Civil Procedure 23(c)(2) requires notice to class members informing them of the lawsuit, their right to opt out of the class, and the deadline for doing so. Because it often takes years before class certification is decided, the statute of limitations could potentially expire before class notice is sent out, effectively negating class members’ ability to opt out. To avoid the problem – and to stave off multiplicative “placeholder” lawsuits by class members concerned about limitations problems – nearly 40 years ago the Supreme Court held in American Pipe & Construction v. Utah that “the commencement of a class action suspends the applicable statute of limitations as to all asserted members of the class who would have been parties had the suit been permitted to continue as a class action.” If a district court denies class certification, the statute of limitations clock starts to run again, even if the named plaintiff appeals that decision. Denial of class certification does not mean that the underlying claims fail, but rather that there are procedural reasons why the claims cannot be litigated on a class basis. Thus, where there is solid evidence supporting the claims against the defendants, a putative class member with substantial claims of its own will likely want to file a standalone suit. And because the statute of limitations starts running again immediately upon the denial of class certification, that putative class member should prepare a complaint in advance of the certification decision.

Thomas J. Wiegand is a partner at MoloLamken LLP. His practice includes complex business litigation, class actions, white-collar criminal matters, antitrust matters, and state and federal government investigations. twiegand@ mololamken.com

aug/ sept 2013 today’s gener al counsel

The potentially brief window for bringing a timely individual action might cause some to consider filing suit before a decision on class certification. That approach carries significant risks of its own. The First, Sixth, and D.C. Circuits have held that a plaintiff that files its own action before a decision on class certification does not receive the benefit of American Pipe tolling, reasoning that a plaintiff that files prematurely was not relying on the pending class action. The Second, Ninth, and Tenth Circuits, however, have reached the opposite conclusion, allowing tolling in that situation. It is difficult to predict how other courts might decide the issue, so waiting to opt out until class certification is decided is the prudent path.

already has been sent to class members and the opt-out deadline has passed, it is important to know that the later settlement notice does not have to -- and probably will not be -- accompanied by another opportunity to opt out. Neither due process nor Rule 23 requires that class members be given a second chance to opt out of a class action. The parties are unlikely to include an opt-out provision in a settlement agreement on their own accord. Both class counsel and defendants have incentives to include as many potential plaintiffs in the final class settlement as possible. District courts have discretion under Rule 23(e)(4) to “refuse to approve a settlement unless it affords a new opportunity” to opt out, but they rarely exercise that au-

Corporate class members are distinct from consumer or employee members, both in their financial might and the dollar value of their claims. 64

lucas Walker is an associate at MoloLamken LLP. His practice focuses on appellate litigation as well as motions practice and issue development at the trial level. lwalker@ mololamken.com

What happens if the trial court does certify the class? The logic of American Pipe suggests that tolling would not end automatically upon a grant of class certification, because all class members (including those who later opt out) continue to have their claims pending. A class member would likely have at least until the opt-out deadline announced in the Rule 23(c) (2) class notice to file its own lawsuit, while still having the statute of limitations tolled. The Ninth Circuit has expressly so held, and the language of the Supreme Court’s decision in Eisen v. Carlisle supports that result. It is prudent, however, to hold off on filing an opt-out complaint until after receiving the Rule 23(c) notice. By using the court-approved opt-out window, plaintiffs should avoid a later court finding that they “jumped the gun” and therefore are not entitled to tolling. OPTING OUT OF A SETTLEMENT If class counsel and the defendants reach a settlement, Rule 23(e)(1) requires that class members be given notice of the terms. In practice, a single notice is often sent announcing both the certified class and the proposed settlement, because once a class is certified settlement can be fast in coming. But when an opt-out notice

thority, even though the Advisory Committee notes to the Rule recognize that a “decision to remain in the class is likely to be more carefully considered and is better informed when settlement terms are known.” Second chance opt-out requests have been rejected not only where a settlement was reached after the initial opt-out period, but even where settlement terms announced to class members during the first period later changed. Courts have also refused second-chance opt-outs even where a settlement swept more broadly than the class litigation itself, releasing parties or claims not identified in the class complaint. A company thus should not rely on the possibility of a second opt-out opportunity. Claims asserted in a putative class action can be a significant asset to class members with large claims of their own. To take advantage of that asset, however, advance preparation is indispensable. Any member of a putative class that might want to pursue its own claims should consider engaging counsel to investigate the issues involved, assess potential recovery, and plan a course of action before a decision on class certification. That approach will facilitate moving swiftly on an individual action once certification is decided. n

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