Climate change matters and related calls for regulation are in headlines daily. On August 9, 2021, the UN’s Intergovernmental Panel on Climate Change (IPCC) published the first major international assessment of climate-change research since 2013. The IPCC report will inform negotiations at the 2021 UN Climate Change Conference, also known as COP26, beginning on October 31, 2021 in Glasgow.
Chair Gary Gensler of the Securities and Exchange Commission (SEC) has made climate change headlines of his own in recent weeks. On July 16, 2021, Chair Gensler appointed Mika Morse to the newly created role of Climate Counsel on his policy staff, further demonstrating the importance of climate policy to the SEC’s agenda. In addition, the Reg Flex Agenda includes “Climate Change Disclosure” – whether to “propose rule amendments to enhance registrant disclosures regarding issuers’ climate-related risks and opportunities.” (See our client alert on the Reg Flex Agenda here.) Chair Gensler has also been very active on Twitter. On July 28, 2021, he posted a video on his Twitter feed addressing the question: “What does the SEC have to do with climate?”
In prepared remarks at the Principles for Responsible Investment “Climate and Global Financial Markets” webinar later that same day, Chair Gensler shared that he has “asked SEC staff to develop a mandatory climate risk disclosure rule proposal for the Commission’s consideration by the end of the year,” and offered detailed insights into potential elements of that rulemaking. Chair Gensler’s remarks began, like many conversations this summer, with a reference to the Olympics. Drawing a connection between the games and public company disclosure, he contended having clear rules to judge performance is critical in both forums. Taking the analogy further, Chair Gensler observed the events competed in at the Olympics, as well as who can compete in them, have evolved substantially since the first modern games in 1896. Likewise, he suggested, the categories of information investors require to make an informed investment decision also evolve over time and that the framework for public company disclosure must take appropriate steps to modernize.
The following Gibson Dunn attorneys assisted in preparing this update: Hillary Holmes, Elizabeth Ising, Lori Zyskowski, and Patrick Cowherd.
© 2021 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
On August 18, 2021, EPA released a final rule revoking tolerances for chlorpyrifos residues on food.[1] EPA took this action to “stop the use of the pesticide chlorpyrifos on all food to better protect human health, particularly that of children and farmworkers.”[2] The agency will also issue a Notice of Intent to Cancel under the Federal Insecticide, Fungicide, and Rodenticide Act to cancel registered food uses of the chemical associated with the revoked tolerances.
Chlorpyrifos is an “insecticide, acaricide and miticide used primarily to control foliage and soil-borne pests,” in a large variety of agricultural crops, including soybeans, fruit and nut trees, and other row crops.[3] EPA sets “tolerances,” which represent “the maximum amount of a pesticide allowed to remain in or on a food.”[4] Under the Federal Food, Drug, and Cosmetic Act (FFDCA), EPA “shall modify or revoke a tolerance if the Administrator determines it is not safe.”[5]
Yesterday’s revocation follows a recent order from the U.S. Court of Appeals for the Ninth Circuit instructing EPA to issue a final rule in response to a 2007 petition filed by the Pesticide Action Network North America and Natural Resources Defense Council requesting that EPA revoke all chlorpyrifos tolerances on the grounds that they were unsafe.[6] EPA previously responded to and denied the original petition and subsequent objections to its denial. A coalition of farmworker, environmental, health, and other interest groups then challenged the denials in court.[7] In April 2021, a split panel of the Ninth Circuit ruled that EPA’s failure either to make the requisite safety findings under the FFDCA or issue a final rule revoking chlorpyrifos tolerances was “in derogation of the statutory mandate to ban pesticides that have not been proven safe,” and ordered the agency to grant the 2007 petition, issue a final rule either revoking the tolerances or modifying them with a supporting safety determination, and cancel or modify the associated food-use registrations of chlorpyrifos.[8]
In response, EPA has granted the 2007 petition and issued a final rule that revokes all chlorpyrifos tolerances listed in 40 CFR 180.342.[9] In issuing this rule, EPA noted that, based on currently available information, it “cannot make a safety finding to support leaving the current tolerances” in place.[10] The final rule becomes effective 60 days after publication in the Federal Register, and the revocation of tolerances becomes effective six months thereafter.
EPA indicated it followed the Ninth Circuit’s instruction by issuing the rule under section 408(d)(4)(A)(i) of the FFDCA, which allows issuance of a final rule “without further notice and without further period for public comment.”[11] EPA indicated its intent to review comments on the previously issued proposed interim decision, draft revised human health risk assessment, and draft ecological risk assessment for chlorpyrifos.[12] The Agency also intends to review registrations for the remaining non-food uses of the chemical.[13]
Prior to EPA’s action, certain states including Hawaii, New York, and Oregon had restricted the sale or use of the pesticide.[14] California prohibited the sale, possession, and use of chlorpyrifos for nearly all uses by the end of 2020.[15]
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[1] U.S. EPA, Pre-Publication Notice of Final Rule re Chlorpyrifos (Aug. 18, 2021), https://www.epa.gov/system/files/documents/2021-08/pre-pub-5993-04-ocspp-fr_2021-08-18.pdf.
[2] U.S. EPA, News Releases from Headquarters, EPA Takes Action to Address Risk from Chlorpyrifos and Protect Children’s Health (Aug. 18, 2021), https://www.epa.gov/newsreleases/epa-takes-action-address-risk-chlorpyrifos-and-protect-childrens-health.
[3] https://www.epa.gov/ingredients-used-pesticide-products/chlorpyrifos.
[4] U.S. EPA, Regulation of Pesticide Residues on Food, https://www.epa.gov/pesticide-tolerances.
[5] See 21 U.S.C. § 346a(b)(2)(a)(i) (EPA “may establish or leave in effect a tolerance for a pesticide chemical residue in or on a food only if the Administrator determines that the tolerances is safe.”).
[6] Pre-Publication Notice of Final Rule re Chlorpyrifos at 6–7; League of United Latin Am. Citizens v. Regan, 996 F.3d 673 (9th Cir. 2021).
[7] Pre-Publication Notice of Final Rule re Chlorpyrifos at 7.
[8] League of United Latin Am. Citizens, 996 F.3d at 667, 703–04.
[9] Pre-Publication Notice of Final Rule re Chlorpyrifos at 8.
[11] League of United Latin Am. Citizens, 996 F.3d at 702; 21 U.S.C. § 346a(d)(4)(A)(1).
[12] U.S. EPA, EPA Takes Action to Address Risk from Chlorpyrifos and Protect Children’s Health.
[14] See Haw. S.B.3095 (Relating to Environmental Protection) (2018); N.Y. Dep’t of Environ. Conservation, Chlorpyrifos Pesticide Registration Cancellations and Adopted Regulation, https://www.dec.ny.gov/chemical/122311.html; O.A.R. 603-057-0545 (Permanent Chlorpyrifos Rule) (Dec. 15, 2020), available here.
[15] Cal. Dep’t of Pesticide Regulation, Chlorpyrifos Cancelation https://www.cdpr.ca.gov/docs/chlorpyrifos/index.htm.
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. Please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Environmental Litigation and Mass Tort practice group, or the following authors:
Abbey Hudson – Los Angeles (+1 213-229-7954, ahudson@gibsondunn.com)
David Fotouhi – Washington, D.C. (+1 202-955-8502, dfotouhi@gibsondunn.com)
Joseph D. Edmonds – Orange County (+1 949-451-4053, jedmonds@gibsondunn.com)
Jessica M. Pearigen – Orange County (+1 949-451-3819, jpearigen@gibsondunn.com)
Please also feel free to contact the following practice group leaders:
Environmental Litigation and Mass Tort Group:
Stacie B. Fletcher – Washington, D.C. (+1 202-887-3627, sfletcher@gibsondunn.com)
Daniel W. Nelson – Washington, D.C. (+1 202-887-3687, dnelson@gibsondunn.com)
© 2021 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
This client alert provides an overview of shareholder proposals submitted to public companies during the 2021 proxy season, including statistics and notable decisions from the staff (the “Staff”) of the Securities and Exchange Commission (the “SEC”) on no-action requests.
I. Top Shareholder Proposal Takeaways from the 2021 Proxy Season
As discussed in further detail below, based on the results of the 2021 proxy season, there are several key takeaways to consider for the coming year:
- Shareholder proposal submissions rose significantly. After trending downwards since 2016, the number of proposals submitted increased significantly by 11% from 2020 to 802.
- The number of social and environmental proposals also significantly increased, collectively overtaking governance proposals as the most common. Social and environmental proposals increased notably, up 37% and 13%, respectively, from 2020. In contrast, governance proposals remained steady in 2021 compared to 2020 and represented 36% of proposals submitted in 2021. Executive compensation proposal submissions also declined in 2021, down 13% from the number of such proposals submitted in 2020. The five most popular proposal topics in 2021, representing 46% of all shareholder proposal submissions, were (i) anti-discrimination and diversity, (ii) climate change, (iii) written consent, (iv) independent chair, and (v) special meetings.
- Overall no-action request success rates held steady, but the number of Staff response letters declined significantly. The number of no-action requests submitted to the Staff during the 2021 proxy season increased significantly, up 18% from 2020 and 19% from 2019. The overall success rate for no-action requests held steady at 71%, driven primarily by procedural, ordinary business, and substantial implementation arguments. However, the ongoing shift in the Staff’s practice away from providing written response letters to companies, preferring instead to note the Staff’s response to no-action requests in a brief chart format, resulted in significantly fewer written explanations, with the Staff providing response letters only 5% of the time, compared to 18% in 2020.
- Company success rates using a board analysis during this proxy season rose modestly, while inclusion of a board analysis generally remained infrequent. Fewer companies included a board analysis during this proxy season (down from 19 and 25 in 2020 and 2019, respectively, to 16 in 2021), representing only 18% of all ordinary business and economic relevance arguments in 2021. However, those that included a board analysis had greater success in 2021 compared to 2020, with the Staff concurring with the exclusion of five proposals this year where the company provided a board analysis, compared to four proposals in 2020 and just one proposal in 2019.
- Withdrawals increased significantly. The overall percentage of proposals withdrawn increased significantly to the highest level in recent years. Over 29% of shareholder proposals were withdrawn this season, compared to less than 15% in 2020. This increase is largely attributable to the withdrawal rates of both social and environmental proposals, which rose markedly in 2021 compared to 2020 (increasing to 46% and 62%, respectively).
- Overall voting support increased, including average support for social and environmental proposals. Average support for all shareholder proposals voted on was 36.2% in 2021, up from the 31.3% average in 2020 and 32.8% average in 2019. In 2021, environmental proposals overtook governance proposals to receive the highest average support at 42.3%, up from 29.2% in 2020. Support for social (non-environmental) proposals also increased significantly to 30.6%, up from 21.5% in 2020—driven primarily by a greater number of diversity-related proposals voted on with increased average levels of support. Governance proposals received 40.2% support in 2021, up from 35.3% in 2020. This year also saw a double-digit increase in the number of shareholder proposals that received majority support (74 in total, up from 50 in 2020), with an increasing number of such proposals focused on issues other than traditional governance topics.
- Fewer proponents submitted proposals despite the increase in the number of proposals. The number of shareholders submitting proposals declined this year, with approximately 276 proponents submitting proposals (compared to more than 300 in both 2020 and 2019). Approximately 41% of proposals were submitted by individuals and 21% were submitted by the most active socially responsible investor proponents. As in prior years, John Chevedden and his associates were the most frequent proponents (filing 31% of all proposals in 2021 and accounting for 75% of proposals submitted by individuals). This year also saw the continued downward trend in five or more co-filers submitting proposals—down to 35 in 2021, from 54 in 2020 and 58 in 2019.
- Proponents continued to use exempt solicitations. Exempt solicitation filings continued to proliferate, with the number of filings reaching a record high again this year and increasing 30% over the last three years.
- Amended Rule 14a-8 in Effect. With the amendments to Rule 14a-8 now in effect for meetings held after January 1, 2022, companies should revise their procedural reviews and update their deficiency notices accordingly. However, it remains to be seen whether the new rules will lead to a decrease in proponent eligibility or result in an increase in proposals eligible for procedural or substantive exclusion, based on the new ownership and resubmission thresholds. The SEC’s recently announced Reg Flex Agenda indicates that the SEC intends to revisit Rule 14a-8 as a new rulemaking item in the near term, putting into question the future of the September 2020 amendments.
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Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these developments. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, or any of the following lawyers in the firm’s Securities Regulation and Corporate Governance practice group:
Elizabeth Ising – Washington, D.C. (+1 202-955-8287, eising@gibsondunn.com)
Thomas J. Kim – Washington, D.C. (+1 202-887-3550, tkim@gibsondunn.com)
Ronald O. Mueller – Washington, D.C. (+1 202-955-8671, rmueller@gibsondunn.com)
Michael Titera – Orange County, CA (+1 949-451-4365, mtitera@gibsondunn.com)
Lori Zyskowski – New York, NY (+1 212-351-2309, lzyskowski@gibsondunn.com)
Aaron Briggs – San Francisco, CA (+1 415-393-8297, abriggs@gibsondunn.com)
Courtney Haseley – Washington, D.C. (+1 202-955-8213, chaseley@gibsondunn.com)
Julia Lapitskaya – New York, NY (+1 212-351-2354, jlapitskaya@gibsondunn.com)
Cassandra Tillinghast – Washington, D.C. (+1 202-887-3524, ctillinghast@gibsondunn.com)
Geoffrey E. Walter – Washington, D.C. (+1 202-887-3749, gwalter@gibsondunn.com)
David Korvin – Washington, D.C. (+1 202-887-3679, dkorvin@gibsondunn.com)
© 2021 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
Decided August 12, 2021
Chrysafis v. Marks, No. 21A8
On Thursday, August 12, 2021, the Supreme Court granted Gibson Dunn’s request for an extraordinary writ of injunction pending appeal and held that New York State’s eviction moratorium law (“CEEFPA”)—which bars landlords from commencing or continuing eviction proceedings against any tenants who self-certify that they are suffering a COVID-related “hardship,” with no opportunity for property owners to challenge those hardship claims—is inconsistent with fundamental due process principles.
Background:
CEEFPA was enacted in December 2020 and extended in May 2021. The law prohibits New York property owners from filing eviction petitions, continuing pending eviction cases, or enforcing existing eviction warrants, even in cases initiated prior to the COVID 19 pandemic, if their tenants submit a “hardship declaration.” It also requires landlords to distribute these hardship declarations, along with government-drafted notices and government-curated lists of legal service providers, to their tenants.
On May 6, 2021, Pantelis Chrysafis, Betty S. Cohen, Brandie LaCasse, Mudan Shi, Feng Zhou, and the Rent Stabilization Association of NYC, Inc. (“Plaintiffs”), represented by Gibson Dunn partners Randy M. Mastro and Akiva Shapiro, filed suit in the U.S. District Court for the Eastern District of New York. Plaintiffs alleged that CEEFPA—which shuts them out of the housing courts without a hearing and compels them to convey government messages against their own wishes and interests—violates the Due Process Clause and the First Amendment.
Despite finding, after an evidentiary hearing, that Plaintiffs had adequately alleged irreparable harm, the district court declined to enter a preliminary injunction and dismissed the case on the merits. Among other things, the district court determined that CEEFPA did not implicate property owners’ procedural due process rights; that it only compelled commercial speech and was thus subject only to rational basis review; and that the government’s interest in combatting the pandemic outweighed the irreparable harm that Plaintiffs had demonstrated. A Second Circuit panel denied Plaintiffs’ motion for an emergency injunction pending appeal.
Issues:
1. Whether Plaintiffs’ constitutional challenge to CEEFPA was likely to succeed.
2. If so, whether the eviction moratorium should be enjoined on an emergency basis pending appeal.
Court’s Holding:
Yes and yes.
“[The moratorium] violates the Court’s longstanding teaching that ordinarily ‘no man can be a judge in his own case’ consistent with the Due Process Clause.”
Per Curiam Opinion of the Court
What It Means:
- CEEFPA’s prohibitions on initiating eviction proceedings, prosecuting existing eviction cases, and enforcing existing eviction warrants—along with its requirement that landlords distribute hardship declarations to tenants—cannot be enforced during the pendency of appellate proceedings in the Second Circuit and, potentially, before the Supreme Court. Six Justices agreed that the challenged “scheme”—under which, “[i]f a tenant self-certifies financial hardship,” the moratorium “generally precludes a landlord from contesting that certification and denies the landlord a hearing”—“violates the Court’s longstanding teaching that ordinarily ‘no man can be a judge in his own case’ consistent with the Due Process Clause.” Slip. op. 1 (citation omitted). While the analogy to other state and federal COVID-19 eviction moratoria is not exact, the decision suggests that government actors cannot close the courthouse doors for any extended period of time to landlords seeking to protect their property rights by prosecuting eviction actions.
- The majority effectively rejected the dissenting Justices’ arguments that emergency relief was unwarranted because, inter alia, CEEFPA is set to expire in a number of weeks and courts should defer to a state government’s pandemic-based defenses or justifications. See Slip. op. 3-4 (Breyer, J., dissenting). Moreover, even those dissenting Justices acknowledged “the hardship to New York landlords” that the eviction moratorium has caused, and they signaled that they might be inclined to grant a renewed application for emergency relief if the State were to extend the moratorium beyond its current expiration date of August 31. Slip. op. 4-5 (Breyer, J., dissenting).
The Court’s opinion is available here.
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the Supreme Court. Please feel free to contact Randy M. Mastro (+1 212.351.3825, rmastro@gibsondunn.com), Akiva Shapiro (+1 212.351.3830, ashapiro@gibsondunn.com), or the following practice leaders:
Appellate and Constitutional Law Practice
| Allyson N. Ho +1 214.698.3233 aho@gibsondunn.com | Mark A. Perry +1 202.887.3667 mperry@gibsondunn.com |
On August 6, 2021, a divided Securities and Exchange Commission (the “SEC”) voted to approve new listing rules submitted by The Nasdaq Stock Market LLC (“Nasdaq”) to advance board diversity through a “comply or disclose” framework and enhance transparency of board diversity statistics (the “Final Rules”). The Final Rules continue the use of listing standards by Nasdaq and other securities exchanges to improve corporate governance at listed companies (e.g., requiring independent board committees) and reflect similar movement in the market (e.g., Goldman Sachs’s requirement to have at least two diverse directors, including one woman, on boards of companies it helps take public after July 1, 2021).
Overview
There are three key components of the Final Rules. Under the Final Rules, certain Nasdaq-listed companies are required to:
- annually disclose aggregated statistical information about the board’s voluntary self-identified gender and racial characteristics and LGBTQ+ status in substantially the format set forth in new Nasdaq Rule 5606 (the “Board Diversity Matrix”)[1] for the current year and (after the first year of disclosure) the prior year (the “Board Diversity Disclosure Rule”); and
- either include on their board of directors, or publicly disclose why their board does not include, a certain number (as discussed below) of “Diverse”[2] directors (the “Board Diversity Objective Rule”).
As discussed below, the compliance period for the Board Diversity Disclosure Rule begins in 2022, while the Final Rules take a tiered approach for the compliance period for the Board Diversity Objective Rule, which begins in 2023. These compliance periods are subject to certain phase-in-periods for companies newly listing on Nasdaq.
Third, the Final Rules provide for Nasdaq to offer certain listed companies access to a complimentary board recruiting service to help advance diversity on company boards (the “Board Recruiting Service Rule”). Companies that do not have a specified number of Diverse directors will have the opportunity to access “a network of board-ready diverse candidates” in order to help them meet the Board Diversity Objective Rule.[3]
Background and SEC Approval
Nasdaq first proposed these rules on December 1, 2020 (the “Proposed Rules”) as discussed in detail in our December client alert. On February 26, 2021, following the receipt of over 200 comment letters from Nasdaq-listed issuers, institutional investors, state and federal legislators, advocacy organizations and other parties, Nasdaq filed an amendment to the Proposed Rules, as well as a response letter to the SEC addressing the comments it received. While Nasdaq indicated that almost 85% of substantive comment letters supported the Proposed Rules, Nasdaq responded to concerns raised by commenters by: amending the Proposed Rules to provide more flexibility for boards with five or fewer directors; extending the compliance periods for newly listing Nasdaq companies; aligning the disclosure requirements with companies’ annual shareholder meetings; and adding a grace period for covered companies that fall out of compliance with applicable board diversity objectives. In its response letter, Nasdaq emphasized that the rules are not intended to impose a quota or numeric mandate on listed companies, as companies will have the choice to either meet the board diversity objectives or explain both their different approach and why it is appropriate for the company. Nasdaq also responded to commenter concerns that the Board Recruiting Service Rule could create a conflict of interest by emphasizing that companies are not required to use the complimentary recruiting service and, accordingly, Nasdaq will not penalize companies that do not utilize the service.
The SEC approved the Board Diversity Disclosure Rule and Board Objective Rule by a 3-2 party-line vote and approved the Board Recruiting Service Rule by a 4-1 vote, with only Commissioner Peirce voting against its approval.[4] The majority characterized the Final Rules as “improv[ing] the quality of information available to investors for making investment and voting decisions by providing consistent and comparable diversity metrics.”[5] As Chairman Gary Gensler explained, the Final Rules “reflect calls from investors for greater transparency about the people who lead public companies,” and will “allow investors to gain a better understanding of Nasdaq-listed companies’ approach to board diversity, while ensuring that those companies have the flexibility to make decisions that best serve their shareholders.”[6]
By contrast, Commissioners Peirce and Roisman expressed concern about the SEC’s approval of the Board Diversity Disclosure Rule and Board Diversity Objective Rule. Commissioner Roisman expressed concern that the SEC failed to “meet[] the legal standards that [it is] required to apply in evaluating rules proposed by self-regulatory organizations” and that approval of the Final Rules could result in the SEC “tak[ing] future action in which the agency must consider disclosure of the racial, ethnic, gender, or LGBTQ+ status of individual directors.”[7] Commissioner Peirce separately criticized the empirical evidence cited by Nasdaq in support of the proposed rule changes. She also argued that the Final Rules are outside of the scope of the SEC’s authority under the Securities Exchange Act of 1934, as amended, and “encourage discrimination and effectively compel speech by both individuals and issuers in a way that offends protected Constitutional interests.”[8]
Nasdaq’s Board Diversity Disclosure Rule
Under the Board Diversity Disclosure Rule, Nasdaq-listed companies, other than “Exempt Entities,”[9] are required to annually report aggregated statistical information about the Board’s self-identified gender and racial characteristics and self-identification as LGBTQ+ using the Board Diversity Matrix or in a substantially similar format. For the first year companies are required to provide only current year data, and in subsequent years companies must disclose data on both the current and prior year.
This statistical information must be provided in a searchable format (1) in the company’s proxy statement or information statement for its annual meeting of shareholders (“Proxy Materials”), (2) in an Annual Report on Form 10-K or Form 20-F (“Annual Report”), or (3) on the company’s website. If provided on its website, the company must also submit the disclosure to the Nasdaq Listing Center no later than 15 calendar days after the company’s annual shareholders meeting.
In addition to formatting and other non-substantive changes, the Final Rules reflect several changes to the matrix and related instructions initially included with the Proposed Rules.[10] The amended instructions also clarify that companies may include supplemental data in addition to the statistical information required in the Board Diversity Matrix. However, companies may not substantially alter the matrix. Nasdaq provides on its website examples of the Board Diversity Matrix and the alternative disclosure matrix for Foreign Issuers as well as examples of acceptable and unacceptable matrices.
Nasdaq’s Board Diversity Objective Rule
The Final Rules require most Nasdaq-listed companies, other than Exempt Entities and companies with boards consisting of five or fewer members (“Smaller Boards”), to:
- have at least two self-identified “Diverse”[11] members of its board of directors; or
- explain why the company does not have the minimum number of directors on its board who self-identify as “Diverse.”
Of the two self-identified Diverse directors, at least one director must self-identify as Female and at least one director must self-identify as an Underrepresented Minority and/or LGBTQ+.
In response to commenter concerns, the Board Diversity Objective Rule provides additional flexibility for listed companies with Smaller Boards. Specifically, Smaller Boards are required only to have at least one self-identified Diverse director. In addition, companies with Smaller Boards in place prior to becoming subject to the Board Diversity Objective Rule are permitted to add a sixth director who is Diverse in order to meet the one Diverse director requirement for Smaller Boards. However, if the company later increases its board to more than six members, it will become subject to the two Diverse director requirement.
Where a listed company determines instead to explain why it does not meet the applicable diversity objectives, Nasdaq emphasized that it will not evaluate the substance or merits of that explanation. However, companies must detail the reasons why they do not have the applicable number of Diverse directors instead of merely stating that they do not comply with the Board Diversity Objective Rule.
Compliance Periods
Under the Final Rules, the compliance periods for both the Board Diversity Disclosure Rule and the Board Diversity Objective Rule were extended.
- Listed companies (other than newly listing companies) now must comply with the Board Diversity Disclosure Rule by the later of (1) August 6, 2022, or (2) the date the company files its Proxy Materials (or, if the company does not file Proxy Materials, the date it files its Annual Report) for the company’s annual shareholders meeting held during the 2022 calendar year.
- Listed companies (other than newly listing companies) now must comply with the Board Diversity Objective Rule as follows:
- At Least One Diverse Director by 2023: A company listed on the Nasdaq Global Select Market, Nasdaq Global Market or Nasdaq Capital Market must have, or explain why it does not have, one Diverse director by the later of (1) August 6, 2023, or (2) the date the company files its Proxy Materials (or, if the company does not file Proxy Materials, the date it files its Annual Report) for the company’s annual shareholders meeting held during the 2023 calendar year.
- At Least Two Diverse Directors:
- A company listed on the Nasdaq Global Select Market or Nasdaq Global Market with more than five directors must have, or explain why it does not have, at least two Diverse directors by the later of (1) August 6, 2025, or (2) the date the Company files its Proxy Materials (or, if the company does not file Proxy Materials, the date it files its Annual Report) for the company’s annual shareholders meeting held during the 2025 calendar year.
- A company listed on the Nasdaq Capital Market with more than five directors must have, or explain why it does not have, at least two Diverse directors by the later of (1) August 6, 2026, or (2) the date the Company files its Proxy Materials (or, if the company does not file Proxy Materials, the date it files its Annual Report) for the company’s annual shareholders meeting held during the 2026 calendar year.
Phase-in Periods for Newly Listing Companies
Under the Final Rules, a company newly listing on Nasdaq will be subject to certain phase-in-periods for compliance with the Board Diversity Disclosure Rule and Board Diversity Objective Rule, as long as the company was not previously subject to a substantially similar requirement of another national securities exchange.
A company newly listing on Nasdaq must comply with the requirements of the Board Diversity Disclosure Rule within one year of its listing date.
For the Board Diversity Objective Rule, Nasdaq extended the phase-in period in response to comments. The Final Rules take a tiered approach based on the Nasdaq market on which the company is newly listing and the size of the company’s board:
- A company newly listing on the Nasdaq Global Select Market or the Nasdaq Global Market must have or explain why it does not have:
- at least one Diverse director by the later of (a) one year from the listing date, or (b) the date the company files its Proxy Materials (or, if the company does not file Proxy Materials, its Annual Report) for the company’s first annual shareholders meeting after its listing; and
- at least two Diverse directors by the later of (a) two years from the listing date, or (b) the date the company files its Proxy Materials (or, if the company does not file Proxy Materials, its Annual Report) for the company’s second annual shareholders meeting after its listing.
- A company newly listing on the Nasdaq Capital Market must have, or explain why it does not have, at least two Diverse directors by the later of (1) two years from the listing date, or (2) the date the company files its Proxy Materials (or, if the company does not file Proxy Materials, its Annual Report) for the company’s second annual shareholders meeting after its listing.
- A company newly listing on the Nasdaq Global Select Market, Nasdaq Global Market or Nasdaq Capital Market with a Smaller Board must have, or explain why it does not have, at least one Diverse director by the later of (1) two years from the listing date, or (2) the date the company files its Proxy Materials (or, if the company does not file Proxy Materials, its Annual Report) for the company’s second annual shareholders meeting after its listing.
In addition, companies that cease to be a Foreign Issuer, a Smaller Reporting Company or an Exempt Entity will be permitted to satisfy the applicable requirements of the Board Diversity Objective Rule by the later of (1) one year from the date the company’s status changes, or (2) the date the company files its Proxy Materials (or, if the company does not file Proxy Materials, its Annual Report) during the calendar year following the date the company’s status changes.
Grace Period for Board Diversity Objective Rule
The Final Rules also provide a grace period for listed companies that fall out of compliance with the Board Diversity Objective Rule because of a board vacancy. In such a circumstance, a non-compliant company will have until the later of (1) one year from the date of the vacancy, or (2) the date the company files its Proxy Materials (or, if the company does not file Proxy Materials, its Annual Report) for its annual shareholder meeting in the calendar year after the year in which the vacancy occurs, to comply with the Board Diversity Objective Rule. During this period, the company is not required to explain why it is not compliant with the Board Diversity Objective Rule, and it may publicly disclose that it is relying on the board vacancy grace period.
Cure Period
If a listed company fails to comply with the Board Diversity Objective Rule, Nasdaq’s Listing Qualifications Department will notify the company that it has until the later of the company’s next annual shareholders meeting, or 180 days from the event that caused the deficiency, to cure the deficiency.
If a listed company fails to comply with the Board Diversity Disclosure Rule, it will have 45 days after notification of non-compliance by Nasdaq’s Listing Qualifications Department to submit a plan to regain compliance. Based on that plan, Nasdaq could provide the company with up to 180 days to regain compliance.
Practical Considerations
While Nasdaq-listed companies have some time to bring their boards into compliance with the Board Diversity Objective Rule, director recruitment is a time-consuming task that requires careful decision making. Accordingly, Nasdaq-listed companies and pre-IPO companies considering listing on Nasdaq should review the current composition of their boards in order to assess whether to make any changes in light of the Final Rules. Although both Nasdaq and the SEC have emphasized that the Final Rules do not impose a mandate on listed companies to have a certain number of Diverse directors, companies will need to carefully consider the disclosure requirements and potential investor reaction should they elect not to have the minimum number of Diverse directors required under the Board Diversity Objective Rule.
In addition, Nasdaq-listed companies should consider adding questions to their D&O questionnaires to elicit responses regarding the self-identified diversity characteristics required to be disclosed in the Board Diversity Matrix (as well as by other diversity requirements such as California’s two board diversity laws, which impose diversity quotas for women and underrepresented minorities for publicly held companies with principal executive offices in California). As noted above, the Final Rules indicate that companies may also include supplemental data on their directors’ diversity characteristics. Accordingly, companies should consider whether their D&O questionnaires should include questions about other diversity characteristics, such as a director’s military service, disability status, language and/or culture.
We note that the Final Rules may face legal challenges from activists and other interest groups that have characterized the rules’ requirements as inconsistent with the Constitution’s equal protection principles and the Civil Rights Act of 1964. State laws that mandate board representation for women and other communities are already being challenged in court. For example, in June the U.S. Court of Appeals for the Ninth Circuit revived a legal challenge to California’s board gender diversity law. In its reversal of the District Court’s dismissal for lack of standing, the Ninth Circuit held that the plaintiff “plausibly alleged that [California’s board diversity law] requires or encourages him to discriminate based on sex” and therefore has standing to challenge the law.[12] And in July the Alliance for Fair Board Recruitment, a Texas-based nonprofit that submitted comments opposing approval of the Final Rules, filed suit against the state of California over both of its board diversity laws. The organization argues that the quotas require California corporations to impermissibly discriminate based on sex and race in selecting their board members.
It also remains to be seen whether the New York Stock Exchange will follow Nasdaq’s lead and adopt its own board diversity rules. Nonetheless, the SEC’s approval of Nasdaq’s Final Rules is in keeping with increased market focus on board diversification. And, in light of statements made by the majority in its approval of the Final Rules, the SEC appears poised to take future action to support board diversity initiatives.[13]
Exhibit A
Board Disclosure Format
| Board Diversity Matrix (As of [DATE]) | ||||
| Total Number of Directors | # | |||
| Female | Male | Non-Binary | Did Not Disclose Gender | |
| Part I: Gender Identity | ||||
| Directors | # | # | # | # |
| Part II: Demographic Background | ||||
| African American or Black | # | # | # | # |
| Alaskan Native or Native American | # | # | # | # |
| Asian | # | # | # | # |
| Hispanic or Latinx | # | # | # | # |
| Native Hawaiian or Pacific Islander | # | # | # | # |
| White | # | # | # | # |
| Two or More Races or Ethnicities | # | # | # | # |
| LGBTQ+ | # | |||
| Did Not Disclose Demographic Background | # | |||
|
Board Diversity Matrix (As of [DATE]) To be completed by Foreign Issuers (with principal executive offices outside of the U.S.) | ||||
| Country of Principal Executive Offices: | [Insert Country Name] | |||
| Foreign Private Issuer | Yes/No | |||
| Disclosure Prohibited Under Home Country Law | Yes/No | |||
| Total Number of Directors | # | |||
| Female | Male | Non-Binary | Did Not Disclose Gender | |
| Part I: Gender Identity | ||||
| Directors | # | # | # | # |
| Part II: Demographic Background | ||||
| Underrepresented Individual in Home Country Jurisdiction | # | |||
| LGBTQ+ | # | |||
| Did Not Disclose Demographic Background | # | |||
———
[1] The Board Diversity Matrix included in the Final Rules is reproduced as Exhibit A below and is also available at the Nasdaq Listing Center.
[2] Under the Final Rules, “Diverse” director means (1) a director who self-identifies her gender as female, without regard to the individual’s designated sex at birth (“Female”), (2) a director who self-identifies as one more or of: Black or African American, Hispanic or Latinx, Asian, Native American or Alaska Native, Native Hawaiian or Pacific Islander, or two or more races or ethnicities (“Underrepresented Minority”), and (3) lesbian, gay, bisexual, transgender or a member of the queer community (“LGBTQ+”).
[3] Nasdaq has provided a short primer on the Final Rules, which includes additional compliance information and related resources for listed companies.
[4] Although she voted against it, Commissioner Peirce indicated she did not object to the approval of the Board Recruiting Service Rule. See Commissioner Hester M. Peirce, “Statement on the Commission’s Order Approving Proposed Rule Changes, as Modified by Amendments No. 1, to Adopt Listing Rules Related to Board Diversity submitted by the Nasdaq Stock Market LLC” (Aug. 6, 2021) at note 3, available here.
[5] Commissioner Allison Herren Lee and Commissioner Caroline A. Crenshaw, “Statement on Nasdaq’s Diversity Proposal – A Positive First Step for Investors” (Aug. 6, 2021), available here.
[6] Chairman Gary Gensler, “Statement on the Commission’s Approval of Nasdaq’s Proposal for Disclosure about Board Diversity and Proposal for Board Recruiting Service” (Aug. 6, 2021), available here.
[7] Commissioner Elad L. Roisman, “Statement on the Commission’s Order Approving Exchange Rules Relating to Board Diversity” (Aug. 6, 2021), available here.
[8] Commissioner Hester M. Peirce, “Statement on the Commission’s Order Approving Proposed Rule Changes, as Modified by Amendments No. 1, to Adopt Listing Rules Related to Board Diversity submitted by the Nasdaq Stock Market LLC” (Aug. 6, 2021), available here.
[9] Under the Final Rules, “Exempt Entities” means: (1) acquisition companies; (2) asset-backed issuers and other passive issuers (as set forth in Rule 5615(a)(1)); (3) cooperatives (as set forth in Rule 5615(a)(2)); (4) limited partnerships (as set forth in Rule 5615(a)(4)); (5) management investment companies (as set forth in Rule 5615(a)(5)); (6) issuers of non-voting preferred securities, debt securities, and derivative securities (as set forth in Rule 5615(a)(6)) that do not have equity securities listed on the Exchange; and (7) issuers of securities listed under the Rule 5700 series.
[10] The Board Diversity Matrix and related instructions were revised to refer to “Native American” instead of “American Indian” and include a definition of the term “Non-Binary.” For Foreign Issuers, the alternative disclosure matrix was amended to permit Foreign Issuers to note whether disclosure of the data required by the Board Diversity Disclosure Rule is prohibited under the company’s home country law.
[11] For Foreign Issuers the definition of “underrepresented individual” within the definition of “Diverse” was amended in the Final Rules to be based on identity in the country of the Foreign Issuer’s principal executive offices, as opposed to the Foreign Issuer’s home country jurisdiction.
[12] See Meland v. Weber, No. 20-15762 (9th Cir. 2021), available here.
[13] Notably, Commissioners Lee and Crenshaw emphasized their support for additional action to enhance both diversity and transparency and expressed the hope that the Final Rules are “a starting point for initiatives related to diversity, not the finish line.” Commissioner Allison Herren Lee and Commissioner Caroline A. Crenshaw, “Statement on Nasdaq’s Diversity Proposal – A Positive First Step for Investors” (Aug. 6, 2021), available here.
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After a busy start to the year, regulatory and policy developments related to Artificial Intelligence and Automated Systems (“AI”) have continued apace in the second quarter of 2021. Unlike the comprehensive regulatory framework proposed by the European Union (“EU”) in April 2021,[1] more specific regulatory guidelines in the U.S. are still being proposed on an agency-by-agency basis. President Biden has so far sought to amplify the emerging U.S. AI strategy by continuing to grow the national research and monitoring infrastructure kick-started by the 2019 Trump Executive Order[2] and remain focused on innovation and competition with China in transformative innovations like AI, superconductors, and robotics. Most recently, the U.S. Innovation and Competition Act of 2021—sweeping, bipartisan R&D and science-policy legislation—moved rapidly through the Senate.
While there has been no major shift away from the previous “hands off” regulatory approach at the federal level, we are closely monitoring efforts by the federal government and enforcers such as the FTC to make fairness and transparency central tenets of U.S. AI policy. Overarching restrictions or bans on specific AI use cases have not yet been passed at the federal level, but we anticipate (at the very least) further guidance that insists upon greater transparency and explainability to address concerns about algorithmic discrimination and bias, and, in the near term, increased regulation and enforcement of narrow AI applications such as facial recognition technology.
Our 2Q21 Artificial Intelligence and Automated Systems Legal Update focuses on these key regulatory efforts, and also examines other policy developments within the U.S. and EU that may be of interest to domestic and international companies alike.[3]
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Table of Contents
I. U.S. NATIONAL POLICY & REGULATORY DEVELOPMENTS
- Senate Passes Bipartisan U.S. Innovation and Competition Act (S. 1260) to Bolster Tech Competitiveness with China
- U.S. Launches National AI Research Resource Task Force and National Artificial Intelligence Advisory Committee
- Understanding “Trustworthy” AI: NIST Proposes Model to Measure and Enhance User Trust in AI Systems
- GAO Publishes Report “Artificial Intelligence: An Accountability Framework for Federal Agencies and Other Entities”
II. EU POLICY & REGULATORY DEVELOPMENTS
A. EDPB & EDPS Call for Ban on Use of AI for Facial Recognition in Publicly Accessible Spaces
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I. U.S. NATIONAL POLICY & REGULATORY DEVELOPMENTS
A. U.S. National AI Strategy
1. Senate Passes Bipartisan U.S. Innovation and Competition Act (S. 1260) to Bolster Tech Competitiveness with China
On June 8, 2021, the U.S. Senate voted 68-32 to approve the U.S. Innovation and Competition Act (S. 1260), intended to grow the boost the country’s ability to compete with Chinese technology by investing more than $200 billion into U.S. scientific and technological innovation over the next five years, listing artificial intelligence, machine learning, and autonomy as “key technology focus areas.”[4] $80 billion is earmarked for research into AI, robotics, and biotechnology. Among various other programs and activities, the bill establishes a Directorate for Technology and Innovation in the National Science Foundation (“NSF”) and bolsters scientific research, development pipelines, creates grants, and aims to foster agreements between private companies and research universities to encourage technological breakthroughs.
The Act also includes provisions labelled as the “Advancing American AI Act,”[5] intended to “encourage agency artificial intelligence-related programs and initiatives that enhance the competitiveness of the United States” while ensuring AI deployment “align[s] with the values of the United States, including the protection of privacy, civil rights, and civil liberties.”[6] The AI-specific provisions mandate that the Director of the Office for Management and Budget (“OMB”) shall develop principles and policies for the use of AI in government, taking into consideration the NSCAI report, the December 3, 2020 Executive Order “Promoting the Use of Trustworthy Artificial Intelligence in the Federal Government,” and the input of various interagency councils and experts.[7]
2. U.S. Launches National AI Research Resource Task Force and National Artificial Intelligence Advisory Committee
On January 1, 2021, President Trump signed the National Defense Authorization Act (“NDAA”) for Fiscal Year 2021 into law, which included the National AI Initiative Act of 2020 (the “Act”). The Act established the National AI Initiative, creating a coordinated program across the federal government to accelerate AI research and application to support economic prosperity, national security, and advance AI leadership in the U.S.[8] In addition to creating the Initiative, the Act also established the National AI Research Resource Task Force (the “Task Force”), convening a group of technical experts across academia, government and industry to assess and provide recommendations on the feasibility and advisability of establishing a National AI Research Resource (“NAIRR”).
On June 10, 2021, the White House Office of Science and Technology Policy (“OSTP”) and the NSF formed the Task Force pursuant to the requirements in the NDAA.[9] The Task Force will develop a coordinated roadmap and implementation plan for establishing and sustaining a NAIRR, a national research cloud to provide researchers with access to computational resources, high-quality data sets, educational tools and user support to facilitate opportunities for AI research and development. The roadmap and plan will also include a model for governance and oversight, technical capabilities and an assessment of privacy and civil liberties, among other contents. Finally, the Task Force will submit two reports to Congress to present its findings, conclusions and recommendations—an interim report in May 2022 and a final report in November 2022. The Task Force includes 10 AI experts from the public sector, private sector, and academia, including DefinedCrowd CEO Daniela Braga, Google Cloud AI chief Andrew Moore, and Stanford University’s Fei-Fei Li. Lynne Parker, assistant director of AI for the OSTP, will co-chair the effort, along with Erwin Gianchandani, senior adviser at the NSF. A request for information (“RFI”) will be posted in the Federal Register to gather public input on the development and implementation of the NAIRR.
The Biden administration also announced the establishment of the National AI Advisory Committee, which is tasked with providing recommendations on various topics related to AI, including the current state of U.S. economic competitiveness and leadership, research and development, and commercial application. [10] Additionally, the Advisory Committee will assess the management, coordination and activities of the National AI Initiative, and societal, ethical, legal, safety and security matters, among other considerations. An RFI will be posted in the Federal Register to call for nominations of qualified experts to help develop recommendations on these issues, including perspectives from labor, education, research, startup businesses and more.
3. Understanding “Trustworthy” AI: NIST Proposes Model to Measure and Enhance User Trust in AI Systems
In June 2021 the National Institute of Standards and Technology (“NIST”), tasked by the Trump administration to develop standards and measures for AI, released its report of how to identify and manage biases in AI technology.[11] NIST is accepting comments on the document until September 10, 2021 (extended from the original deadline of August 5, 2021), and the authors will use the public’s responses to help shape the agenda of several collaborative virtual events NIST will hold in coming months.
4. GAO Publishes Report “Artificial Intelligence: An Accountability Framework for Federal Agencies and Other Entities”
In June 2021, the U.S. Government Accountability Office (“GAO”) published a report identifying key practices to help ensure accountability and responsible AI use by federal agencies and other entities involved in the design, development, deployment, and continuous monitoring of AI systems. In its executive summary, the agency notes that these practices are necessary as a result of the particular challenges faced by government agencies seeking to regulate AI, such as the need for expertise, limited access to key information due to commercial procurement of AI systems, as well as a limited understanding of how an AI system makes decisions.[12]
The report identifies four key focus areas: (1) organization and algorithmic governance; (2) system performance; (3) documenting and analyzing the data used to develop and operate an AI system; and (4) continuous monitoring and assessment of the system to ensure reliability and relevance over time.[13]
The key monitoring practices identified by the GAO are particularly relevant to organizations and companies seeking to implement governance and compliance programs for AI-based systems and develop metrics for assessing the performance of the system. The GAO report notes that monitoring is a critical tool for several reasons: first, it is necessary to continually analyze the performance of an AI model and document findings to determine whether the results are as expected, and second, monitoring is key where a system is either being scaled or expanded, or where applicable laws, programmatic objectives, and the operational environment change over time.[14]
B. National Security
1. Artificial Intelligence Capabilities and Transparency (“AICT”) Act
On May 19, 2021, Senators Rob Portman (R-OH) and Martin Heinrich (D-NM), introduced the bipartisan Artificial Intelligence Capabilities and Transparency (“AICT”) Act.[15] AICT would provide increased transparency for the government’s AI systems, and is based primarily on recommendations promulgated by the National Security Commission on AI (“NSCAI”) in April 2021.[16] It would establish a Chief Digital Recruiting Officer within the Department of Defense, the Department of Energy, and the Intelligence Community to identify digital talent needs and recruit personnel, and recommends that the NSF should establish focus areas in AI safety and AI ethics as a part of establishing new, federally funded National Artificial Intelligence Institutes.
The AICT bill was accompanied by the Artificial Intelligence for the Military (AIM) Act.[17] The AICT Act would establish a pilot AI development and prototyping fund within the Department of Defense aimed at developing AI-enabled technologies for the military’s operational needs, and would develop a resourcing plan for the DOD to enable development, testing, fielding, and updating of AI-powered applications.[18]
C. Algorithmic Accountability and Consumer Protection
As we have noted previously, companies using algorithms, automated processes, and/or AI-enabled applications are now squarely on the radar of both federal and state regulators and lawmakers focused on addressing algorithmic accountability and transparency from a consumer protection perspective.[19] The past quarter again saw a wave of proposed privacy-related federal and state regulation and lawsuits indicative of the trend for stricter regulation and enforcement with respect to the use of AI applications that impact consumer rights and the privacy implications of AI. As a result, companies developing and using AI are certain to be focused on these issues in the coming months, and will be tackling how to balance these requirements with further development of their technologies. We recommend that companies developing or deploying automated decision-making adopt an “ethics by design” approach and review and strengthen internal governance, diligence and compliance policies.
1. Federal Lawmakers Reintroduce the Facial Recognition and Biometric Technology Moratorium Act
On June 15, 2021, Senators Edward Markey (D-Mass.), Jeff Merkley (D-Ore), Bernie Sanders (II-Vt.), Elizabeth Warren (D-Mass.), and Ron Wyden (D-Ore.), and Representatives Pramila Jayapal (D-Wash.), Ayanna Pressley, (D-Mass.), and Rashida Tlaib, (D-Mich.), reintroduced the Facial Recognition and Biometric Technology Moratorium Act, which would prohibit agencies from using facial recognition technology and other biometric tech—including voice recognition, gate recognition, and recognition of other immutable physical characteristics—by federal entities, and block federal funds for biometric surveillance systems.[20] As we previously reported, a similar bill was introduced in both houses in the previous Congress but did not progress ut of committee.[21]
The legislation, which is endorsed by the ACLU and numerous other civil rights organizations, also provides a private right of action for individuals whose biometric data is used in violation of the Act (enforced by state Attorneys General), and seeks to limit local entities’ use of biometric technologies by tying receipt of federal grant funding to localized bans on biometric technology. Any biometric data collected in violation of the bill’s provisions would also be banned from use in judicial proceedings.
2. Algorithmic Justice and Online Platform Transparency Act of 2021 (S. 1896)
On May 27, 2021, Senator Edward J. Markey (D-Mass.) and Congresswoman Doris Matsui (CA-06) introduced the Algorithmic Justice and Online Platform Transparency Act of 2021 to prohibit harmful algorithms, increase transparency into websites’ content amplification and moderation practices, and commission a cross-government investigation into discriminatory algorithmic processes across the national economy.[22] The Act would prohibit algorithmic processes on online platforms that discriminate on the basis of race, age, gender, ability and other protected characteristics. In addition, it would establish a safety and effectiveness standard for algorithms and require online platforms to describe algorithmic processes in plain language to users and maintain detailed records of these processes for review by the FTC.
3. House Approves Bill to Study Cryptocurrency and Consumer Protection (H.R. 3723)
On June 22, 2021, the House voted 325-103 to approve the Consumer Safety Technology Act, or AI for Consumer Product Safety Act (H.R. 3723), which requires the Consumer Product Safety Commission to create a pilot program that uses AI to explore consumer safety questions such as injury trends, product hazards, recalled products or products that should not be imported into the U.S.[23] This is the second time the Consumer Safety Technology Act has passed the House. Last year, after clearing the House, the bill did not progress in the Senate after being referred to the Committee on Commerce, Science and Transportation.[24]
4. Data Protection Act of 2021 (S. 2134)
In June 2021, Senator Kirsten Gillibrand (D-NY) introduced the Data Protection Act of 2021, which would create an independent federal agency to protect consumer data and privacy.[25] The main focus of the agency would be to protect individuals’ privacy related to the collection, use, and processing of personal data.[26] The bill defines “automated decisions system” as “a computational process, including one derived from machine learning, statistics, or other data processing or artificial intelligence techniques, that makes a decision, or facilitates human decision making.”[27] Moreover, using “automated decision system processing” is a “high-risk data practice” requiring an impact evaluation after deployment and a risk assessment on the system’s development and design, including a detailed description of the practice including design, methodology, training data, and purpose, as well as any disparate impacts and privacy harms.[28]
D. Autonomous Vehicles (“AVs”)
The second quarter of 2021 saw new legislative proposals relating to the safe deployment of autonomous vehicles (“AVs”). As we previously reported, federal regulation of CAVs has so far faltered in Congress, leaving the U.S. without a federal regulatory framework while the development of autonomous vehicle technology advances. In June 2021, Representative Bob Latta (R-OH-5) again re-introduced the Safely Ensuring Lives Future Deployment and Research Act (“SELF DRIVE Act”) (H.R. 3711), which would create a federal framework to assist agencies and industries to deploy AVs around the country and establish a Highly Automated Vehicle Advisory Council within the National Highway Traffic Safety Administration (“NHTSA”). Representative Latta had previously introduced the bill in September 23, 2020 and in previous sessions.[29]
Also in June 2021, the Department of Transportation (“DOT”) released its “Spring Regulatory Agenda,” and proposed that the NHTSA establish rigorous testing standards for AVs as well as a national incident database to document crashes involving AVs.[30] The DOT indicated that there will be opportunities for public comments on the proposals, and we stand ready to assist companies who wish to participate with submitting such comments.
Further, NHTSA issued a Standing General Order on June 29, 2021 requiring manufacturers and operators of vehicles equipped with certain automated driving systems (“ADS”)[31] to report certain crashes to NHTSA to enable the agency to exercise oversight of potential safety defects in AVs operating on publicly accessible roads.[32]
Finally, NHTSA extended the period for public comments in response to its Advance Notice of Proposed Rulemaking (“ANPRM”), “Framework for Automated Driving System Safety,” until April 9, 2021.[33] The ANPRM acknowledged that the NHTSA’s previous AV-related regulatory notices “have focused more on the design of the vehicles that may be equipped with an ADS—not necessarily on the performance of the ADS itself.”[34] To that end, the NHTSA sought input on how to approach a performance evaluation of ADS through a safety framework, and specifically whether any test procedure for any Federal Motor Vehicle Safety Standard (“FMVSS”) should be replaced, repealed, or modified, for reasons other than for considerations relevant only to ADS. NHTSA noted that “[a]lthough the establishment of an FMVSS for ADS may be premature, it is appropriate to begin to consider how NHTSA may properly use its regulatory authority to encourage a focus on safety as ADS technology continues to develop,” emphasizing that its approach will focus on flexible “performance-oriented approaches and metrics” over rule-specific design characteristics or other technical requirements.[35]
II. EU POLICY & REGULATORY DEVELOPMENTS
On April 21, 2021, the European Commission (“EC”) presented its much-anticipated comprehensive draft of an AI Regulation (also referred to as the “Artificial Intelligence Act”).[36] It remains uncertain when and in which form the Artificial Intelligence Act will come into force, but recent developments underscore that the EC has set the tone for upcoming policy debates with this ambitious new proposal. We stand ready to assist clients with navigating the potential issues raised by the proposed EU regulations as we continue to closely monitor developments in that regard.
A. EDPB & EDPS Call for Ban on Use of AI for Facial Recognition in Publicly Accessible Spaces
On June 21, 2021, the European Data Protection Board (“EDPB”) and European Data Protection Supervisor (“EDPS”) published a joint Opinion calling for a general ban on “any use of AI for automated recognition of human features in publicly accessible spaces, such as recognition of faces, gait, fingerprints, DNA, voice, keystrokes and other biometric or behavioral signals, in any context.”[37]
In their Opinion, the EDPB and the EDPS welcomed the risk-based approach underpinning the EC’s proposed AI Regulation and emphasized that it has important data protection implications. The Opinion also notes the role of the EDPS—designated by the EC’s AI Regulation as the competent authority and the market surveillance authority for the supervision of the EU institutions—should be further clarified.[38] Notably, the Opinion also recommended “a ban on AI systems using biometrics to categorize individuals into clusters based on ethnicity, gender, political or sexual orientation, or other grounds on which discrimination is prohibited under Article 21 of the Charter of Fundamental Rights.”
Further, the EDPB and the EDPS noted that they “consider that the use of AI to infer emotions of a natural person is highly undesirable and should be prohibited, except for very specified cases, such as some health purposes, where the patient emotion recognition is important, and that the use of AI for any type of social scoring should be prohibited.”
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[1] For more information on the EU’s proposed regulations, please see our Artificial Intelligence and Automated Systems Legal Update (1Q21).
[2] For more details, please see our previous alerts: Fourth Quarter and 2020 Annual Review of Artificial Intelligence and Automated Systems; and President Trump Issues Executive Order on “Maintaining American Leadership in Artificial Intelligence.”
[3] Note also, for example, the Government of Canada’s “Consultation on a Modern Copyright Framework for Artificial Intelligence and the Internet of Things.” The consultation seeks public comment on the interplay between copyright, AI, and the “Internet of Things.” With respect to AI, the consultation paper covers three potential areas of reform: (1) text and data mining (TDM), also known as “Big Data”; (2) authorship and ownership of works generated by AI; and (3) copyright infringement and liability regarding AI. With respect to IoT, the paper outlines twin concerns of repair and interoperability of IoT devices. The comment period is open until September 17, 2021. There have also been several recent policy developments in the UK, including the Government’s “Ethics, Transparency and Accountability Framework for Automated Decision-Making” (available here), and the UK Information Commissioner’s Opinion and accompanying blog post on “The Use of Live Facial Recognition Technology in Public Places.”
[4] S. 1260, 117th Cong. (2021).
[7] Id., §4204. For more details on the NSCAI report and 2020 Executive Order, please see our Fourth Quarter and 2020 Annual Review of Artificial Intelligence and Automated Systems.
[9] The White House, Press Release, The Biden Administration Launches the National Artificial Intelligence Research Resource Task Force (June 10, 2021), available at https://www.whitehouse.gov/ostp/news-updates/2021/06/10/the-biden-administration-launches-the-national-artificial-intelligence-research-resource-task-force/.
[11] Draft NIST Special Publication 1270, A Proposal for Identifying and Managing Bias in Artificial Intelligence (June 2021), available at https://nvlpubs.nist.gov/nistpubs/SpecialPublications/NIST.SP.1270-draft.pdf?_sm_au_=iHVbf0FFbP1SMrKRFcVTvKQkcK8MG.
[12] U.S. Government Accountability Office, Artificial Intelligence: An Accountability Framework for Federal Agencies and Other Entities, Highlights of GAO-21-519SP, available at https://www.gao.gov/assets/gao-21-519sp-highlights.pdf.
[14] U.S. Government Accountability Office, Artificial Intelligence: An Accountability Framework for Federal Agencies and Other Entities, Full Report GAO-21-519SP, available at https://www.gao.gov/assets/gao-21-519sp.pdf.
[15] S. 1705, 117th Cong. (2021); see also Press Release, Senator Martin Heinrich, ‘Heinrich, Portman Announce Bipartisan Artificial Intelligence Bills To Boost AI-Ready National Security Personnel, Increase Governmental Transparency’ (May 12, 2021), available at https://www.heinrich.senate.gov/press-releases/heinrich-portman-announce-bipartisan-artificial-intelligence-bills-to-boost-ai-ready-national-security-personnel-increase-governmental-transparency.
[16] For more information, please see our Artificial Intelligence and Automated Systems Legal Update (1Q21).
[17] S. 1776, 117th Cong. (2021).
[18] S. 1705, 117th Cong. (2021).
[19] See our Artificial Intelligence and Automated Systems Legal Update (1Q21).
[20] S. _, 117th Cong. (2021); see also Press Release, Senators Markey, Merkley Lead Colleagues on Legislation to Ban Government Use of Facial Recognition, Other Biometric Technology (June 15, 2021), available at https://www.markey.senate.gov/news/press-releases/senators-markey-merkley-lead-colleagues-on-legislation-to-ban-government-use-of-facial-recognition-other-biometric-technology.
[21] For more details, please see our previous alerts: Fourth Quarter and 2020 Annual Review of Artificial Intelligence and Automated Systems.
[22] S. 1896, 117th Cong. (2021); see also Press Release, Senator Markey, Rep. Matsui Introduce Legislation to Combat Harmful Algorithms and Create New Online Transparency Regime (May 27, 2021), available at https://www.markey.senate.gov/news/press-releases/senator-markey-rep-matsui-introduce-legislation-to-combat-harmful-algorithms-and-create-new-online-transparency-regime.
[23] H.R. 3723, 117th Cong. (2021).
[24] Elise Hansen, House Clears Bill To Study Crypto And Consumer Protection, Law360 (June 23, 2021), available at https://www.law360.com/articles/1396110/house-clears-bill-to-study-crypto-and-consumer-protection.
[25] S. 2134, 117th Cong. (2021); see also Press Release, Office of U.S. Senator Kirsten Gillibrand, Press Release, Gillibrand Introduces New And Improved Consumer Watchdog Agency To Give Americans Control Over Their Data (June 17, 2021), available at https://www.gillibrand.senate.gov/news/press/release/gillibrand-introduces-new-and-improved-consumer-watchdog-agency-to-give-americans-control-over-their-data.
[26] Under the proposed legislation, “personal data” is defined as “electronic data that, alone or in combination with other data—(A) identifies, relates to, describes, is capable of being associated with, or could reasonably be linked, directly or indirectly, with a particular individual, household, or device; or (B) could be used to determine that an individual or household is part of a protected class.” Data Protection Act of 2021, S. 2134, 117th Cong. § 2(16) (2021).
[28] Id., § 2(11)-(13) (2021).
[29] As we addressed in previous legal updates, the House previously passed the SELF DRIVE Act (H.R. 3388) by voice vote in September 2017, but its companion bill (the American Vision for Safer Transportation through Advancement of Revolutionary Technologies (“AV START”) Act (S. 1885)) stalled in the Senate. For more details, see our Fourth Quarter and 2020 Annual Review of Artificial Intelligence and Automated Systems.
[30] U.S. Department of Transportation, Press Release, U.S. Department of Transportation Releases Spring Regulatory Agenda (June 11, 2021), available at https://www.transportation.gov/briefing-room/us-department-transportation-releases-spring-regulatory-agenda.
[31] For a full description of the Society of Automotive Engineers (“SAE”) levels of driving automation, see SAE J3016 Taxonomy and Definitions for Terms Related to Driving Automation Systems for On-Road Motor Vehicles (April 2021), available at https://www.nhtsa.gov/technology-innovation/automated-vehicles-safety#topic-road-self-driving.
[32] See NHTSA, Standing General Order on Crash Reporting for Levels of Driving Automation 2-5, available at https://www.nhtsa.gov/laws-regulations/standing-general-order-crash-reporting-levels-driving-automation-2-5.
[33] 49 CFR 571, available at https://www.nhtsa.gov/sites/nhtsa.gov/files/documents/ads_safety_principles_anprm_website_version.pdf
[36] For a fulsome analysis of the draft AI Regulation, please see our Artificial Intelligence and Automated Systems Legal Update (1Q21).
[37] Joint Opinion 5/2021 on the proposal for a Regulation of the European Parliament and of the Council laying down harmonised rules on artificial intelligence, available at https://edpb.europa.eu/system/files/2021-06/edpb-edps_joint_opinion_ai_regulation_en.pdf.
[38] EDPS, Press Release, EDPB & EDPS Call For Ban on Use of AI For Automated Recognition of Human Features in Publicly Accessible Spaces, and Some Other Uses of AI That Can Lead to Unfair Discrimination (June 21, 2021), available at https://edps.europa.eu/press-publications/press-news/press-releases/2021/edpb-edps-call-ban-use-ai-automated-recognition_en?_sm_au_=iHVWn7njFDrbjJK3FcVTvKQkcK8MG.
The following Gibson Dunn lawyers prepared this client update: H. Mark Lyon, Frances Waldmann, Samantha Abrams-Widdicombe, Tony Bedel, Emily Lamm, Prachi Mistry, and Derik Rao.
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. Please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Artificial Intelligence and Automated Systems Group, or the following authors:
H. Mark Lyon – Palo Alto (+1 650-849-5307, mlyon@gibsondunn.com)
Frances A. Waldmann – Los Angeles (+1 213-229-7914,fwaldmann@gibsondunn.com)
Please also feel free to contact any of the following practice group members:
Artificial Intelligence and Automated Systems Group:
H. Mark Lyon – Chair, Palo Alto (+1 650-849-5307, mlyon@gibsondunn.com)
J. Alan Bannister – New York (+1 212-351-2310, abannister@gibsondunn.com)
Patrick Doris – London (+44 (0)20 7071 4276, pdoris@gibsondunn.com)
Kai Gesing – Munich (+49 89 189 33 180, kgesing@gibsondunn.com)
Ari Lanin – Los Angeles (+1 310-552-8581, alanin@gibsondunn.com)
Robson Lee – Singapore (+65 6507 3684, rlee@gibsondunn.com)
Carrie M. LeRoy – Palo Alto (+1 650-849-5337, cleroy@gibsondunn.com)
Alexander H. Southwell – New York (+1 212-351-3981, asouthwell@gibsondunn.com)
Christopher T. Timura – Washington, D.C. (+1 202-887-3690, ctimura@gibsondunn.com)
Eric D. Vandevelde – Los Angeles (+1 213-229-7186, evandevelde@gibsondunn.com)
Michael Walther – Munich (+49 89 189 33 180, mwalther@gibsondunn.com)
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On August 5, 2021, U.S. Senate Finance Committee Chairman Ron Wyden (D-Oregon) and U.S. Senate Finance Committee member Sheldon Whitehouse (D-Rhode Island) introduced legislation entitled the “Ending the Carried Interest Loophole Act.”[1] According to a summary released by the Finance Committee, the legislation is intended to close “the entire carried interest loophole.” While this legislation is very similar to a previous proposal introduced by Chairman Wyden[2], this legislation appears to have a greater likelihood of passage given the Democratic party’s control of both chambers of Congress and the election of President Biden. The legislation may have an even greater chance of passage if it secures the support of moderate Democratic Senators who will be key to its passage through reconciliation, which is a technical procedure that would permit Democrats to pass the bill through a majority vote in the Senate.
The “Ending the Carried Interest Loophole Act” would require partners who hold carried interests in exchange for providing services to investment partnerships to recognize a specified amount of deemed compensation income each year regardless of whether the investment partnership recognizes income or gain and regardless of whether and when the service providers receive distributions in respect of their carried interests. This deemed compensation income would be subject to income tax at ordinary income rates and self-employment taxes.
This legislation goes well beyond many previously proposed bills that attempted to recharacterize certain future income from investment partnerships as ordinary income instead of capital gain. In addition, it would replace section 1061 of the Internal Revenue Code of 1986, as amended (the “Code”), which was enacted as part of the 2017 tax act,[3] and lengthened the required holding period from one year to three years for service providers to recognize long-term capital gain in respect of carried interests.
Current Treatment of “Carried Interest” Allocations
Under current law, a partnership generally can issue a partnership “profits interest” to a service provider without current tax. The service provider holds the interest as a capital asset, with both the timing of recognition and character of the partner’s share of profits from the partnership determined by reference to the timing of recognition and character of profits made by the partnership. Thus, if the partnership recognizes capital gain, the service provider’s allocable share of the gain generally would be capital gain and recognized in the same year as the partnership’s recognition of the capital gain. These partnership “profits interests” are referred to as “carried interests” in the private equity context, “incentive allocations” in the hedge fund context, or “promotes” in the real estate context. As noted above, Code section 1061 generally treats gain recognized with respect to certain partnership interests held for less than three years as short-term capital gain.
“Ending the Carried Interest Loophole Act”
The legislation introduced by Chairman Wyden and Senator Whitehouse generally would require a taxpayer who receives or acquires a partnership interest in connection with the performance of services in a trade or business that involves raising or returning capital and investing in or developing securities, commodities, real estate and certain other assets to recognize annually, on a current basis – (1) a “deemed compensation amount” as ordinary income and (2) an equivalent amount as a long-term capital loss.
The “deemed compensation amount” generally would equal the product of (a) an interest charge, referred to as the “specified rate,”[4] (b) the service provider’s maximum share of partnership profits, and (c) the partnership’s invested capital as of certain measurement dates.[5] Conceptually, the partnership is viewed as investing a portion of its capital on behalf of the service provider via an interest free loan to the service provider. The service provider is deemed to recognize ordinary self-employment income in an amount equal to the foregone interest, calculated at the “specified rate.” Although not clear, the “specified rate” appears designed to approximate the economics of the typical preferred return rate often paid to limited partners on their contributed capital before the service provider receives any distributions from the partnership.
The offsetting long-term capital loss appears to be a proxy for tax basis that is designed to avoid a “double-counting” of income when the service provider ultimately receives allocations of income from the partnership attributable to the sale or disposition of partnership assets (or income or gain attributable to the sale or disposition of the partnership interest itself).[6] The long-term capital loss generally would only be usable in the tax year of deemed recognition if the individual taxpayer recognizes other capital gain that is available to be offset (otherwise, the long-term capital loss would be available to be carried forward to subsequent tax years).
For example, if a service provider is entitled to receive up to 20 percent of an investment fund’s profits, the investment fund receives $1 billion in capital contributions, and the “specified return” for the tax year is 12 percent, the service provider’s “deemed compensation amount” for that tax year would be $24,000,000, and the service provider would recognize an offsetting long-term capital loss of $24,000,000. Assuming relevant income thresholds are already met and that the service provider has sufficient long-term capital gain in the year of inclusion against which the long-term capital loss may be offset, based on maximum individual rates under current law, the service provider would expect to incur an incremental U.S. federal income tax rate of 17% on the “deemed compensation amount” (that is, 37 percent ordinary income tax rate less the 20 percent long-term capital gain tax rate).[7] Any long-term capital gain recognized by the service provider in excess of the “deemed compensation amount” that is attributable to the sale or disposition of partnership assets (or income or gain attributable to the sale or disposition of the partnership interest itself) would be taxed at 20 percent (or 23.8 percent if the net investment income tax is applicable).
To prevent a work-around, the legislation also would apply to any service provider who has received a loan from the partnership, from any other partner of the partnership, or from any person related to the partnership or another partner, unless the loan is fully recourse or fully secured and requires payments of interest at a stated rate not less than the “specified return.”
Other Proposed Changes and Contrast with Recent Biden Proposal
Besides the current inclusion of “deemed compensation amounts” at ordinary income rates, the legislation would alter existing law in several ways. As background, current Code section 1061 generally requires a partnership to hold capital assets for three years in order for the related capital gain to be taxed at preferential long-term capital gain rates. Earlier this year, the Administration released its fiscal year 2022 Budget, including a Greenbook with detailed proposals for changes to the federal tax law.[8] Among other things, the Greenbook proposal would eliminate the ability for partners whose taxable income (from all sources) exceed $400,000 to recognize long-term capital gain with respect to these partnership “profits interests,” but partners whose taxable income do not exceed $400,000 would continue to be subject to Code section 1061.
Under the bill, Code section 1061 would be repealed. In other words, ordinary income treatment would apply regardless of holding period and regardless of the service provider’s level of taxable income. Second, like the Greenbook proposal, under this legislation – (1) the recharacterized amount would be treated as ordinary income rather than short-term capital gain (there is currently no rate differential, but there could be sourcing and other differences), and (2) the “deemed compensation amount” would be subject to self-employment tax.
In addition, this bill also would provide for a deemed election under Code section 83(b) in the event of a transfer of a partnership interest in connection with the performance of services, unless the taxpayer makes a timely election to not have the deemed election apply. Unless a service provider elects out of the deemed election, the service provider would be required to recognize taxable income at the time of the transfer of a partnership interest in connection with the performance of services in an amount equal to the partnership interest’s fair market value. Importantly, fair market value for this purpose would equal the distributions that the service provider would receive in the event of a hypothetical liquidation of the partnership’s assets for cash (after satisfying applicable liabilities) at the time of transfer. This valuation methodology is broadly consistent with current law.
____________________________
[1] Ending the Carried Interest Loophole Act, S. 2617, 117th Cong. (2021).
[2] Ending the Carried Interest Loophole Act, S. 1639, 116th Cong. (2019).
[3] The 2017 tax act, commonly known as the Tax Cuts and Jobs Act, is formally titled “An act to provide for reconciliation pursuant to titles II and V of the concurrent resolution on the budget for fiscal year 2018,” Pub. L. No. 115-97, 131 Stat. 2045.
[4] The “specified rate” for a calendar year means the par yield for “5-year High Quality Market corporate bonds” for the first month of the calendar year (currently 1.21%), plus 9 percentage points.
[5] According to a summary prepared by the Senate Finance Committee, the legislation is not intended to treat an applicable percentage as higher in a given taxable year due to the application of a “catch-up” provision in the partnership agreement. In addition, a partner’s “invested capital” is intended to equal the partner’s book capital account maintained under the regulations under Code section 704(b) with certain modifications, including that invested capital is to be calculated without regard to untaxed gain and loss resulting from the revaluation of partnership property.
[6] Even though the long-term capital loss may be used to offset other capital gain income of the service provider, the legislation would still fulfill its intended purpose of ensuring that the “deemed compensation amount” is subject to tax at ordinary income rates.
[7] For simplicity, we have omitted self-employment tax from the computation of the “deemed compensation amount” and omitted net investment income tax from the offsetting capital loss benefit on the assumption that these will generally offset.
[8] The proposed changes are described here: https://www.gibsondunn.com/biden-administration-releases-fiscal-year-2022-budget-with-greenbook-and-descriptions-of-proposed-changes-to-federal-tax-law/.
Gibson Dunn lawyers are available to assist in addressing any questions you may have regarding these developments. Please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Tax practice group, or the following authors:
Evan M. Gusler – New York (+1 212-351-2445, egusler@gibsondunn.com)
Jennifer L. Sabin – New York (+1 212-351-5208, jsabin@gibsondunn.com)
Michael J. Desmond – Los Angeles/Washington, D.C. (+1 213-229-7531, mdesmond@gibsondunn.com)
Pamela Lawrence Endreny – New York (+1 212-351-2474, pendreny@gibsondunn.com)
Eric B. Sloan – Co-Chair, New York (+1 212-351-2340, esloan@gibsondunn.com)
Jeffrey M. Trinklein – London/New York (+44 (0) 20 7071 4224 /+1 212-351-2344), jtrinklein@gibsondunn.com)
Daniel A. Zygielbaum – Washington, D.C. (+1 202-887-3768, dzygielbaum@gibsondunn.com)
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On July 28, 2021, the proxy advisory firm Institutional Shareholder Services (“ISS”) opened its Annual Benchmark Policy Survey (available here), covering a broad range of topics relating to non-financial environmental, social and governance (“ESG”) performance metrics, racial equity, special purpose acquisition corporations (“SPACs”) and more. In addition, noting that climate change “has emerged as one of the highest priority ESG issues” and that “many investors now identify it as a top area of focus for their stewardship activities,” this year ISS also launched a separate Climate Policy Survey (available here) focused exclusively on climate-related governance issues.
The Annual Benchmark Policy Survey includes questions regarding the following topics for companies in the U.S. and will inform changes to ISS’s benchmark policy for 2022:
- Non-financial ESG performance metrics. Citing an “upward trend” of inclusion of non-financial ESG-related metrics in executive compensation programs, a practice ISS notes “appears to have been fortified by the recent pandemic and social unrest,” the survey asks whether incorporating such metrics into executive compensation programs is an appropriate way to incentivize executives. The survey then asks which compensation components (long-term incentives, short-term incentives, both, or other) are most appropriate for inclusion of non-financial ESG-related performance metrics.
- Racial equity audits. Noting increased shareholder engagement on diversity and racial equity issues in the wake of social unrest following the death of George Floyd and others, the survey asks whether and when companies would benefit from independent racial equity audits (under any set of circumstances, only depending on certain company-specific factors, or not at all). The survey then asks respondents who indicated that a company would benefit depending on company-specific factors which factors would be relevant, including, for example, whether the company has been involved in significant racial and/or ethnic diversity–related controversies or does not provide detailed workforce diversity statistics, such as EEO-1 type data.
- Virtual-only shareholder meetings. This year’s survey seeks information on the types of practices that should be considered problematic in a virtual-only meeting setting. This question follows a “vast majority” of investor respondents indicating last year that they prefer a hybrid meeting approach absent COVID-19-related health and social restrictions. Among the potentially problematic practices ISS identifies in the survey are: the inability to ask live questions at the meeting; muting of participants during the meeting; the inability of shareholders to change votes at the meeting; advance registration requirements or other unreasonable barriers to registration; preventing shareholder proponents from presenting and explaining a shareholder proposal considered at the meeting; and management unreasonably “curating” questions to avoid addressing difficult topics. The survey also asks what would be an appropriate way for shareholders to voice concerns regarding any such problematic practices, including casting votes “against” the chair of the board or all directors or engaging with the company and/or communicating concerns.
- CEO pay quantum and mid-cycle changes to long-term incentive programs. For companies in the U.S. and Canada, ISS’s quantitative pay-for-performance screen currently includes a measure that evaluates one-year CEO pay quantum as a multiple of the median of CEO peers. The survey asks whether this screen should include a longer-term perspective (e.g., three years). The survey also seeks respondents’ views on mid-cycle changes to long-term incentive programs for companies incurring long-term negative impacts from the pandemic. ISS noted that such changes were generally viewed by ISS and investors as problematic given the view that long-term incentives should not be adjusted based on short-term market disruptions (i.e., less than one year), but it acknowledged that some industries continue to experience significant negative impacts from the pandemic.
- Companies with pre-2015 poor governance provisions – multi-class stock, classified board, supermajority vote requirements. ISS’s policy since 2015 has been to recommend votes “against” directors of newly public companies with certain poor governance provisions, including multiple classes of stock with unequal voting rights and without a reasonable sunset, classified board structure, and supermajority vote requirements for amendments to governing documents. Companies that were publicly traded before the 2015 policy change, however, were grandfathered and so are not subject to this policy. The survey asks whether ISS should consider issuing negative voting recommendations on directors at companies maintaining these provisions regardless of when the company went public, and if so, which provisions ISS should revisit and no longer grandfather.
- Recurring adverse director vote recommendations – supermajority vote requirements. For newly public companies, ISS currently recommends votes on a case-by-case basis on director nominees where certain adverse governance provisions – including supermajority voting requirements to amend governing documents – are maintained in the years subsequent to the first shareholder meeting. The survey asks whether, if a company has sought shareholder approval to eliminate supermajority vote requirements, but the company’s proposal does not receive the requisite level of shareholder support, ISS should continue making recurring adverse director vote recommendations for maintaining the supermajority vote requirements, or whether a single or multiple attempts by the company to remove the supermajority requirement would be sufficient (and if multiple attempts are sufficient, how many).
- SPAC deal votes. ISS currently evaluates SPAC transactions on a case-by-case basis, with a main driver being the market price relative to redemption value. ISS notes that the redemption feature of SPACs may be used so long as the SPAC transaction is approved; however, if the transaction is not approved, the public warrants issued in connection with the SPAC will not be exercisable and will be worthless unless sold prior to the termination date. Acknowledging that investors may redeem shares (or sell them on the open market) if they do not like the transaction prospects, and noting that these mechanics may result in little reason for an investor not to support a SPAC transaction, the survey asks whether it makes sense for investors to generally vote in favor of SPAC transactions, irrespective of the merits of the target company combination or any governance concerns. The survey also asks what issues, “dealbreakers,” or areas of concern might be reasons for an investor to vote against a SPAC transaction.
- Proposals with conditional poor governance provisions. ISS notes that one way companies impose poor governance or structural features on shareholders is by bundling or conditioning the closing of a transaction on the passing of other voting items. This practice is particularly common in the SPAC setting where shareholders are asked to approve a new governing charter (which may include features such as classified board, unequal voting structures, etc.) as a condition to consummation of the transaction. In light of these practices, the survey asks about the best course of action for a shareholder who supports an underlying transaction where closing the transaction is conditioned on approval of other ballot items containing poor governance.
The Climate Policy Survey includes questions regarding the following topics and will inform changes to both ISS’s benchmark policy as well as its specialty climate policy for 2022:
- Defining climate-related “material governance failures.” The survey seeks input on what climate-related actions (or lack thereof) demonstrate such poor climate change risk management as to constitute a “material governance failure.” Specifically, the survey asks what actions at a minimum should be expected of a company whose operations, products or services strongly contribute to climate change. Among the “minimum actions” identified by ISS are: providing clear and appropriately detailed disclosure of climate change emissions governance, strategy, risk mitigation efforts, and metrics and targets, such as that set forth by the Task Force on Climate-Related Financial Disclosure (“TCFD”); declaring a long-term ambition to be in line with Paris Agreement goals for its operations and supply chain emissions (Scopes 1, 2 & 3 targets); setting and disclosing absolute medium-term (through 2035) greenhouse gas (“GHG”) emissions reductions targets in line with Paris Agreement goals; and reporting that demonstrates that the company’s corporate and trade association lobbying activities align with (or do not contradict) Paris Agreement goals. The survey also asks whether similar minimum expectations are reasonable for companies that are viewed as not contributing as strongly to climate change.
- Say on Climate. In 2021, some companies put forward their climate transition plans for a shareholder advisory vote (referred to as “Say on Climate”) or committed to doing so in the future. The survey asks whether any of the “minimum actions” (referred to above) could be “dealbreakers” for shareholder support for approval of a management-proposed Say on Climate vote. The survey then asks whether voting on a Say on Climate proposal is the appropriate place to express investor sentiment about the adequacy of a company’s climate risk mitigation, or whether votes cast “against” directors would be appropriate in lieu of, or in addition to, Say on Climate votes. Finally, the survey asks when a shareholder proposal requesting a regular Say on Climate vote would warrant support: never (because the company should decide); never (because shareholders should instead vote against directors); case-specific (only if there are gaps in the current climate risk mitigation plan or reporting); or always (even if the board is managing risk effectively, the vote is a way to test efficacy of the company’s approach and promote positive dialogue between the company and its shareholders).
- High-impact companies. Noting that Climate Action 100+ has identified 167 companies that it views as disproportionately responsible for GHG emissions, the survey asks whether under ISS’s specialty climate policy these companies (or a similar list of such companies) should be subject to a more stringent evaluation of indicators compared to other companies that are viewed as having less of an impact on climate change.
- Net Zero initiatives. Citing increased investor interest in companies setting a goal of net zero emissions by 2050 consistent with a 1.5°C scenario (“Net Zero”), the survey asks whether the specialty climate policy should assess a company’s alignment with Net Zero goals. The survey also asks respondents to rank the importance of a number of elements in indicating a company’s alignment with Net Zero goals, including: announcement of a long-term ambition of Net Zero GHG emissions by 2050; long-term targets for reducing its GHG emissions by 2050 on a clearly defined scope of emissions; medium-term targets for reducing its GHG emissions by between 2026 and 2035 on a clearly defined scope of emissions; short-term targets for reducing its emissions up to 2025 on a clearly defined scope of emissions; a disclosed strategy and capital expenditure program in line with GHG reduction targets in line with Paris Agreement goals; commitment and disclosure showing its corporate and trade association lobbying activities align with Paris Agreement goals; clear board oversight of climate change; disclosure showing the company considers impacts from transitioning to a lower-carbon business model on its workers and communities; and a commitment to clear and appropriately detailed disclosure of its climate change emissions governance, strategy, risk mitigation efforts, and metrics and targets, such as that set forth by the TCFD framework.
While the two surveys cover a broad range of topics, they do not necessarily address every change that ISS will make in its 2022 proxy voting policies. That said, the surveys are an indication of changes ISS is considering and provide an opportunity for interested parties to express their views. Public companies and others are urged to submit their responses, as ISS considers feedback from the surveys in developing its policies.
Both surveys will close on Friday, August 20, at 5:00 p.m. ET. ISS will also solicit more input in the fall through regionally based, topic-specific roundtable discussions. Finally, as in prior years, ISS will open a public comment period on the major final proposed policy changes before releasing its final 2022 policy updates later in the year. Additional information on ISS’s policy development process is available at the ISS policy gateway (available here).
The following Gibson Dunn lawyers assisted in the preparation of this client update: Elizabeth Ising, Lori Zyskowski, and Cassandra Tillinghast.
Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these issues. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work in the Securities Regulation and Corporate Governance and Executive Compensation and Employee Benefits practice groups, or any of the following practice leaders and members:
Securities Regulation and Corporate Governance Group:
Elizabeth Ising – Washington, D.C. (+1 202-955-8287, eising@gibsondunn.com)
Thomas J. Kim – Washington, D.C. (+1 202-887-3550, tkim@gibsondunn.com)
Ron Mueller – Washington, D.C. (+1 202-955-8671, rmueller@gibsondunn.com)
Michael Titera – Orange County, CA (+1 949-451-4365, mtitera@gibsondunn.com)
Lori Zyskowski – New York, NY (+1 212-351-2309, lzyskowski@gibsondunn.com)
Aaron Briggs – San Francisco, CA (+1 415-393-8297, abriggs@gibsondunn.com)
Courtney Haseley – Washington, D.C. (+1 202-955-8213, chaseley@gibsondunn.com)
Julia Lapitskaya – New York, NY (+1 212-351-2354, jlapitskaya@gibsondunn.com)
Cassandra Tillinghast – Washington, D.C. (+1 202-887-3524, ctillinghast@gibsondunn.com)
Executive Compensation and Employee Benefits Group:
Stephen W. Fackler – Palo Alto/New York (+1 650-849-5385/+1 212-351-2392, sfackler@gibsondunn.com)
Sean C. Feller – Los Angeles (+1 310-551-8746, sfeller@gibsondunn.com)
Krista Hanvey – Dallas (+ 214-698-3425, khanvey@gibsondunn.com)
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Gibson, Dunn & Crutcher LLP is pleased to announce that the firm has launched a Global Financial Regulatory Practice, which provides comprehensive advice to financial institutions on all aspects of regulatory compliance, enforcement and transactions.
The launch of this practice draws together our market-leading regulatory lawyers across the world’s leading financial centers, and will be led by three of the firm’s most experienced leaders in this field:
 |  |  |
| William R. Hallatt Partner, Hong Kong | Michelle M. Kirschner Partner, London | Jeffrey L. Steiner Partner, Washington, D.C. |
William Hallatt joined Gibson Dunn’s Hong Kong office in May 2021 from Herbert Smith Freehills along with an experienced financial services regulatory team comprised of associates Emily Rumble, Becky Chung and Arnold Pun. Michelle Kirschner joined Gibson Dunn’s London office in October 2019 while Jeffrey Steiner was promoted to partner in the firm’s Washington, DC office in January of the same year. Our broader practice group includes attorneys across the globe who have significant in-house experience within financial institutions or have worked in senior positions within the world’s most prominent regulatory and policy agencies.
The practice’s core services include:
- advising on complex conduct and governance issues, including the implementation of senior management accountability regimes and advising senior management and boards of directors on culture and conduct risk;
- handling regulatory issues which arise in merger and acquisition transactions, including on a cross-border basis;
- representing end users that are impacted by financial regulation;
- preparing applications for licenses and registrations, and engagement with regulators to seek relief, exemptions and interpretations in connection with regulatory compliance matters;
- advising on financial policy matters, including helping to shape the policies that impact our clients;
- advising fintech and cryptocurrency businesses on the operation of their businesses inside and outside of the regulatory perimeter;
- defending clients in relation to their most significant regulatory investigations and enforcement matters on high profile issues such as market misconduct, governance failings, anti-money laundering and counter-terrorist financing compliance, cybersecurity breaches, and systems and controls failures; and
- conducting internal reviews and investigations, including at the request of regulators or in parallel with their inquiries.
We are trusted advisers to our clients, providing strategic advice in relation to regulatory change and the implementation of new requirements across the jurisdictions in which we operate. We regularly represent our clients before regulators on a formal and informal basis on a range of matters. We also work closely with regulators and leading industry associations and have led industry responses to high profile proposed reforms in a range of jurisdictions.
Stay Tuned!
The practice’s co-chairs will be accompanied by other senior members of the practice to provide a comprehensive overview of recent financial regulatory trends globally in a webinar coming this Fall.
In March of 2020, as the COVID-19 pandemic and the consequent government shutdown orders forced business closures and event cancellations across the United States, we provided a four-step checklist and flowchart on evaluating contracts’ force majeure provisions in order to aid contracting parties in understanding their options. Force majeure (or “act of god”) provisions are the most common terms in commercial contracts that address parties’ obligations when they become unable to comply with contract terms. These provisions generally set forth limited circumstances under which a party may suspend performance, fail to perform or, in some cases, terminate the contract, without liability due to the occurrence of an unforeseen event.[1]
In the months since March 2020, as commercial disputes over these clauses have wended their way through the courts, some patterns have emerged regarding litigants’ and courts’ treatment of force majeure clauses in light of the pandemic. The courts’ discussions of these clauses in decisions over the past sixteen months provide supplemental guidance regarding the four steps of analysis of the application of force majeure clauses.
STEP 1: Does COVID-19 trigger the force majeure clause? The first step is to review the triggering events enumerated in the force majeure clause.
First, as we explained back in March 2020, force majeure clauses pre-COVID tended to be interpreted narrowly and therefore COVID-19 might not be a covered event under the general rubric of “acts of God” absent reference in the relevant clause to a specific triggering event.[2] Among those triggering events can be events relating to diseases, including “epidemic,” “pandemic,” or “public health crisis.” At the onset of the 2020 crisis, there was general consensus that COVID-19 would be covered under any of these categories, and that has not changed. Likewise, other clauses referring to government actions also seemed likely to be triggered by the restrictive executive orders regulating the size of gatherings or shuttering certain businesses, and our guidance has not altered on this point. “Catch all” language invoking other events or causes “outside the reasonable control of a party” seemed likely to broaden the interpretation of such clauses to reach COVID-19 and its derivative impacts, except in the case where such language is qualified by an exclusion of events of general applicability.
The great majority of the early published decisions on force majeure continue to adhere to the principles in our early guidance; however, litigants in cases to date appear to have primarily engaged the courts to resolve disputes over the effect of triggering their force majeure provisions and therefore have not engaged in litigation over whether COVID-19 triggered the relevant force majeure clause in the first place.
For example, in Future St. Ltd. v. Big Belly Solar, LLC, 2020 WL 4431764 (D. Mass. July 31, 2020), the issue confronting the court was whether the difficulties in making certain minimum purchases and payments under the parties’ contract was caused by COVID-19 or not; there did not appear to be a dispute that the relevant force majeure provision would have been triggered if COVID-19 had indeed been the precipitating cause. The court in that case held, consistent with the prior case law, that the plaintiff failed to establish causation but assumed without discussion that “the pandemic and effects of same” were a valid triggering event under the relevant force majeure clause, which excused failure to perform “occasioned solely by fire, labor disturbance, acts of civil or military authorities, acts of God, or any similar cause beyond such party’s control.” Id. at *6.
Similarly, in Palm Springs Mile Assocs., Ltd. v. Kirkland’s Stores, Inc., 2020 WL 5411353 (S.D. Fla. Sept. 9, 2020), the parties raised the issue of whether the defendant (who was seeking to excuse its failure to pay rent) had adequately demonstrated that county regulations restricting non-essential business operations “directly affect[ed] [its] ability to pay rent.” Id. (emphasis added).[3] The court concluded he had not. And in something of a “split the baby” decision, In re Hitz Rest. Grp., 616 B.R. 374 (Bankr. N.D. Ill. 2020), held that the triggering of a force majeure clause only “partially excuse[d]” a restaurant tenant’s obligation to pay rent after Illinois’ executive order suspending in-person dining services went into effect. Examining the factual record, the Hitz court held that the restaurant could have used approximately 25% of its space to conduct activities that were still permitted following the executive order, including food pick-up and delivery services. Accordingly, the court held that the tenant was still on the hook for 25% of the rent. See, id. at 377 (finding force majeure clause to have been “unambiguously triggered” by an executive order).
Thus, because litigants generally have not disputed that COVID-19 falls within one or more of the enumerated events in the clauses to have been considered by courts thus far, most courts have not had occasion to opine on whether COVID-19 would trigger a clause that listed only “acts of god” without specific triggering events such as pandemic. The one outlier appears to be a single case from a New York federal court, which concluded that COVID-19 qualifies as a “national disaster” based on a number of factors, including Black’s Law Dictionary’s definition of “natural” and “disaster”; the Oxford English Dictionary’s definition of “natural disaster”; and the fact that “the Second Circuit has identified ‘disease’ as an example of a natural disaster.” See JN Contemporary Art LLC v. Phillips Auctioneers LLC, 2020 WL 7405262, at *7 and n.7 (S.D.N.Y. Dec. 16, 2020) (“It cannot be seriously disputed that the COVID-19 pandemic is a natural disaster.”). Interestingly, the generic “acts of God” category in a force majeure clause has been interpreted to include “national disasters” even as it has been interpreted to exclude public health events like pandemics. What the Southern District of New York decision does not clarify is whether the Court now views COVID-19 as covered by a generic “acts of God” provision even if that provision does not specifically enumerate “national disasters.” It also remains to be seen whether other courts will follow in the footsteps of the federal court’s expansion of jurisprudence or whether other courts will continue to adhere to the notion that force majeure provisions should be interpreted narrowly.
STEP 2: What is the standard of performance? The second step is to review what specifically the force majeure clause excuses.
As described above, a number of early cases have tackled the causation component of force majeure, concluding that, consistent with prior cases, a litigant must establish a direct relationship between the alleged triggering event and the performance he or she alleges should be excused. A review of COVID-19 force majeure cases also reveals that courts have taken a narrow approach when analyzing the related question of whether the remedy sought by the litigant invoking force majeure is available under the express language of the contract. For example, in MS Bank S.A. Banco de Cambio v. CBW Bank, 2020 WL 5653264 (D. Kan. Sept. 23, 2020), the plaintiff sought to delay the defendant’s termination of a service agreement based on force majeure, but the court analyzed the agreement and held that “nothing in the Services Agreement” allowed the plaintiff “to forestall termination based on force majeure.”
Similarly, in NetOne, Inc. v. Panache Destination Mgmt., Inc., 2020 WL 6325704, (D. Haw. Oct. 28, 2020), the plaintiff argued that the defendant had breached its agreement by refusing to refund a deposit after the plaintiff terminated its event contract based on the agreement’s force majeure provision. The court held for the defendant, finding no language in the contract that obligated the defendant to refund deposits based on a triggering of the force majeure clause. In contrast, the force majeure clause in the contract at issue in Sanders v. Edison Ballroom LLC, No. 654992/2020, 2021 WL 1089938, at *1 (N.Y. Sup. Ct. Mar. 22, 2021), expressly stated that defendant would “refund all payments made by” the plaintiff in the event that the clause was triggered. The court in Sanders therefore awarded summary judgment to the plaintiff, requiring defendant to refund the full deposit previously paid by plaintiff on an event space due to the fact that the act of a “governmental authority” had made it “illegal or impossible” for the defendant to hold the event, thus triggering the force majeure clause. Id. at *3.
Ultimately, as we cautioned in March 2020, it is vital to understand not just whether or when your force majeure clause has been triggered, but what happens next. Often, such a clause provides an excuse for delaying performance, but only if that failure is directly caused by the force majeure event, as in many of the cases discussed herein. Other contracts provide that that performance may be delayed in light of a force majeure event, but only so long as the force majeure event continues.
It is worth noting that all of the foregoing cases were analyzing contracts entered into before COVID-19 came to dominate all of our lives. It will be interesting to see how courts analyze force majeure clauses in contracts executed after March 2020 and whether that context will make a difference in terms of how narrowly courts read such provisions.
| Does the force majeure clause broadly cover events caused by conditions beyond the reasonable control of the performing party without enumerating specific events? | No ☐ | Yes ☐ |  | If yes, proceed to Step 2. Inquiry should also be made into what additional elements a party may need to demonstrate based on the applicable law. Some courts may require a party invoking a force majeure provision to demonstrate that the triggering event was beyond its control and without its fault or negligence and that it made efforts to perform its contractual duties despite the occurrence of the event. |
| Does the force majeure clause specifically reference an “epidemic,” “pandemic,” “disease outbreak,” or “public health crisis”? | No ☐ | Yes ☐ | | If yes, proceed to Step 2. Inquiry should also be made into what additional elements a party may need to demonstrate based on the applicable law. Some courts may require a party invoking a force majeure provision to demonstrate that the triggering event was beyond its control and without its fault or negligence and that it made efforts to perform its contractual duties despite the occurrence of the event. |
| Does the force majeure clause refer specifically to “acts of civil or military authority,” “acts, regulations, or laws of any government,” or “government order or regulation”? | No ☐ | Yes ☐ | | If yes, proceed to Step 2.
Inquiry should also be made into what additional elements a party may need to demonstrate based on the applicable law. Some courts may require a party invoking a force majeure provision to demonstrate that the triggering event was beyond its control and without its fault or negligence and that it made efforts to perform its contractual duties despite the occurrence of the event. |
| Does the force majeure clause cover only “acts of God”? | No ☐ | Yes ☐ | | If yes, proceed to Step 2.
While some courts have interpreted the phrase “act of God” in a force majeure clause in a limited manner, encompassing only natural disasters like floods, earthquakes, volcanic eruptions, tornadoes, hurricanes, and blizzards, one court to consider the question head-on has found that COVID-19 clearly constitutes a “natural disaster,” suggesting that COVID-19 may trigger provisions covering only “acts of God.” |
| Does the force majeure clause have a catchall provision that covers “any other cause whatsoever beyond the control of the respective party” and contains an enumeration of specific events that otherwise do not cover the current situation? | No ☐ | Yes ☐ |  | If yes, the force majeure clause may not have been triggered because courts generally interpret force majeure clauses narrowly and may not construe a general catch-all provision to cover externalities that are unlike those specifically enumerated in the balance of the clause.
But depending on the jurisdiction, courts may look at whether the event was actually beyond the parties’ reasonable control and unforeseeable and the common law doctrine of impossibility or commercial impracticability may still apply, depending on the jurisdiction. |
Step 2a. What is the standard of performance?
| Does the force majeure clause require performance of obligations to be “impossible” (often, as a result of something outside the reasonable control of a party) before contractual obligations are excused? | No ☐ | Yes ☐ | | If yes, the force majeure clause may have been triggered if the current government regulations specifically prohibit the fulfillment of contractual obligations. Proceed to Step 2b. |
| Does the force majeure clause require only that performance would be “inadvisable” or “commercially impractical”? | No ☐ | Yes ☐ | | If yes, the force majeure clause may have been triggered due to the extreme disruptions caused by COVID-19. Proceed to Step 2b. |
Step 2b. What remedy is available when the force majeure clause is triggered?
| Does the contract clearly provide that the remedy sought is available upon the triggering of the force majeure clause? | No ☐ | Yes ☐ | | If yes, then proceed to Step 3.
For example, a party seeking to terminate an agreement, to obtain a refund of a deposit, or to obtain some other remedy will need to demonstrate that such remedy is expressly contemplated by the contract upon the occurrence of a force majeure event. |
Step 3. When must notice be given?
| Does the contract require notice? | No ☐ | Yes ☐ | | If yes, proceed to Step 4. Timely notice must be provided in accordance with the notice provision, or termination may not be available even though a triggering event has occurred. Some notice provisions required notice in advance of performance due. Others required notice within a certain number of days of the triggering event. Still others require notice within a specified number of days from the date that a party first asserts the impact of force majeure, without regard to when the triggering event occurred. |
Step 4. Are there requirements for the form of notice?
| Does the contract contain specific provisions for the method of notice? | No ☐ | Yes ☐ | | If yes, notice provisions may specify the form of the notice, to whom it must be sent, and the manner in which it must be sent. Specific notice language may also be required. |
| Does the contract require specific language to give notice of a force majeure event? | Yes ☐ | No ☐ | | If yes, determine whether required wording is present in any notice. Some contracts may even have form of notices attached as exhibits to the contract. |
| Does the contract specify a specific method for delivery of such notice? | No ☐ | Yes ☐ | | If yes, notice may be required by email, priority mail, or through use of a particular form addressed to specific people. |
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[1] The COVID-19 pandemic ultimately thrust these clauses to the mainstream, with prominent media outlets covering the effect of force majeure clauses on sports league cancellations and broadcast contracts. See, e.g., https://www.espn.com/nba/story/_/id/29050090/under-plan-nba-players-receive-25-less-paychecks-starting-15; https://nypost.com/2020/04/28/dish-demands-disney-pay-for-espn-refund-over-no-live-sports/
[2] See, e.g., Kel Kim Corp. v. Cent. Mkts., Inc., 70 N.Y.2d 900, 902-03 (1987) (“[O]nly if the force majeure clause specifically includes the event that actually prevents a party’s performance will that party be excused.”).
[3] The force majeure clause at issue in Palm Springs excused delays that were “due to” the force majeure event.
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. For additional information, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Coronavirus (COVID-19) Team or Litigation, Real Estate, or Transactional groups, or the authors:
Shireen A. Barday – New York (+1 212-351-2621, sbarday@gibsondunn.com)
Nathan C. Strauss – New York (+1 212-351-5315, nstrauss@gibsondunn.com)
© 2021 Gibson, Dunn & Crutcher LLP
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Colorado Department of Labor and Employment (“CDLE”) has released new guidance on the Equal Pay for Equal Work Act (“EPEW”), taking a much harder line on Colorado employers whose remote job postings exclude Colorado applicants. Previously, some employers tried to avoid the most challenging aspects of the EPEW’s compensation-and-benefits posting requirements by stating that remote positions could be performed from anywhere but Colorado.
On July 21, 2021, the CDLE issued new guidance clarifying that all Colorado employers’ postings for remote jobs must comply with the EPEW’s compensation-and-benefits posting requirements, even if the postings state that the position cannot be performed in or from Colorado. See CDLE Interpretive Notice & Formal Opinion #9 (“INFO #9”). The CDLE also announced that it was sending “Compliance Assistance Letters” to all Colorado employers with remote job postings that exclude Colorado applicants and that do not include the compensation-and-benefits information required by the EPEW. See CDLE Compliance Assistance Letter (the “Letter”). The Letter gives such employers until August 10, 2021, to advise the CDLE by what date their covered job postings will include the compensation-and-benefits information the EPEW requires.
Finally, the CDLE also provided minor updates to its guidance about the compensation-and-benefits information the EPEW requires. The CDLE clarified that covered job postings need only provide a brief general description of the position’s benefits, but cannot use “open-ended” phrases such as “etc.” or “and more” to describe the position’s benefits. The CDLE also explained that, while employers can post a good-faith compensation range, the range’s bottom and top limits cannot be left unclear or open-ended. Additionally, the CDLE noted that the compensation posting requirements do not apply to “Help Wanted” signs or similar communications that do not refer to any specific positions for which the employer is hiring. Finally, the CDLE noted that job postings need not include the employer’s name to comply with the compensation posting requirements, if the employer wants to be discrete in its external job posting process.
This guidance indicates the CDLE’s “officially approved opinions and notices to employers … as to how [the CDLE] applies and interprets various statutes and rules.” INFO #9. It is not binding, for example, on a court of law. Moreover, although the prior lawsuit challenging the EPEW’s posting requirements and other “transparency rules” was voluntarily dismissed after the Colorado federal district court denied the plaintiff’s motion for a preliminary injunction, it is possible that the CDLE’s tough new stance on postings for remote jobs will lead to new challenges to these requirements.
This Client Alert expands on these issues, first addressing the CDLE’s new guidance regarding job posting requirements for remote jobs, then discussing the Compliance Assistance Letters the CDLE sent employers excluding Colorado applicants from remote jobs, and finally providing further detail on INFO #9’s updates regarding the compensation-and-benefits information the EPEW requires.
The EPEW’s Posting Requirements
The EPEW covers all public and private employers that employ at least one person in Colorado. Under the EPEW’s compensation-and-benefits posting requirements, employers are required to “disclose in each posting for each job the hourly or salary compensation, or a range of the hourly or salary compensation, and a general description of all of the benefits and other compensation to be offered to the hired applicant.” C.R.S. § 8-5-201(2). This requirement does not reach postings for “jobs to be performed entirely outside Colorado.” 7 CCR 1103-13 (4.3)(B).
Additionally, the EPEW also requires employers to “make reasonable efforts to announce, post, or otherwise make known all opportunities for promotion to all current employees on the same calendar day and prior to making a promotion decision.” C.R.S. § 8-5-201(1). This requirement applies broadly and includes only a few, very narrow exceptions.
The EPEW Posting Requirements Apply to Remote Jobs, Even If the Job Posting Excludes Colorado Applicants
The CDLE’s newly revised guidance states that the EPEW applies to “any posting by a covered employer for either (1) work tied to Colorado locations or (2) remote work performable anywhere, but not (3) work performable only at non-Colorado worksites.” INFO #9. The posting requirements’ “out-of-state exception … applies to only jobs tied to non-Colorado worksites (e.g., waitstaff at restaurant locations in other states), but not to remote work performable in Colorado or elsewhere.” Id. (emphasis added). Thus, a “remote job posting, even if it states that the employer will not accept Colorado applicants, remains covered by the [EPEW’s] transparency requirements.” Id.
The CDLE Sent “Compliance Assistance Letters” to Employers Excluding Coloradans from Remote Jobs
Consistent with INFO #9’s guidance regarding remote jobs, the CDLE announced it was sending a “Compliance Assistance Letter” to “all covered employers with remote job postings lacking pay disclosure and excluding Coloradans.” Compliance Assistance Letter. The Letter explained that, for “any employer with any Colorado staff,” “[r]emote jobs are clearly covered by the [EPEW’s] pay disclosure requirement, regardless of an employer’s expressed intent not to hire Coloradans.” Thus, “when employers covered by the [EPEW] post remote jobs covered by the Act, declaring a preference not to hire Coloradans does not eliminate the Act’s pay disclosure duty.”
The Letter goes on to provide general, high-level guidance on how to comply with the EPEW’s compensation-and-benefits posting requirements, including the following:
- “The required pay information can be brief,” such as just saying “$50,000 – $55,000, health insurance, and IRA.”
- “No special form, or format” of posting “is required — as long as the posting includes the required pay and benefits information.”
- “Pay information can be included or linked in a posting, if the employer prefers.”
- A “flexible” compensation range “from the lowest to the highest the employer genuinely may offer for that particular position can be posted.”
- An “out-of-range offer is allowed if the range was a good-faith expectation, but then unanticipated factors required higher or lower pay.”
- “The employer’s name need not be included [in the posting], if it wants discretion and is posting in a third-party site or publication.”
This guidance largely conforms to the CDLE’s prior guidance on these issues.
The CDLE Has Not Imposed Any Penalties … Yet
Consistent with its prior public stances, the CDLE indicated that it is currently focused on compliance through education, rather than fines. The Letter notes that, thus far, all of the employers that the CDLE has contacted about EPEW violations have agreed to fix their postings “promptly,” and the CDLE “happily exercised its discretion to waive all potential fines in each case, believing each employer to have acted in good faith.”
In addition, the CDLE stated that it is first sending the Compliance Assistance Letter to each employer excluding Colorado applicants from remote jobs, “rather than immediately launching investigations of each” employer. The Letter also offers these employers “individualized advice” from the CDLE by phone or email about how to comply with the EPEW posting requirements. Finally, the CDLE gives each employer who receives the Letter until “Tuesday, August 10, 2021, to indicate by what date all covered job postings will include the required pay and benefits disclosures.”
Additional CDLE Guidance Regarding the Required Contents of Job Postings
In addition to explaining the posting requirements for remote jobs, the CDLE provided a few other clarifications of its prior EPEW guidance:
- In providing the required “general description of all of the benefits the employer is offering for the position,” employers “cannot use an open-ended phrase such as ‘etc.,’ or ‘and more.’” INFO #9. However, consistent with its prior guidance, employers can simply say something brief like “$50,000 – $55,000, health insurance, and IRA.” Compliance Assistance Letter.
- Employers continue to be allowed to post a good-faith compensation range (which employers may ultimately depart from, in limited circumstances). INFO #9. But the compensation range’s “bottom and top cannot be left unclear with open-ended phrases such as ‘[$]30,000 and up’ (with no top of the range), or ‘up to $60,000’ (with no bottom of the range).”
- The compensation posting requirements do not apply to “Help Wanted” signs or “similar communication indicating only generally, without reference to any particular positions, that an employer is accepting applications or hiring.” INFO #9. In contrast, a job posting that must comply with the compensation-and-benefits posting requirements is “any written or printed communication (whether electronic or hard copy) that the employer has a specific job or jobs available or is accepting job applications for a particular position or positions.”
- Job postings need not include the employer’s name, if the employer “wants discretion and is posting in a third-party site or publication — as long as the posting includes the required pay and benefits information.” Compliance Assistance Letter. The Letter does not clarify whether a no-name posting would also comply with the EPEW’s promotion posting requirements, or just the compensation posting requirements.
Key Takeaways
This new guidance indicates that the CDLE is focused on foreclosing the methods that some employers were using to try to avoid the more challenging aspects of the EPEW’s compensation-and-benefits posting requirements. In contrast, little of the new CDLE guidance relates to the EPEW’s internal, promotion posting requirements (which in some ways may be even more challenging for Colorado employers).
Finally, the CDLE continues to indicate that it is focused on encouraging EPEW compliance through education, rather than fines, at least for now. Nonetheless, given the CDLE’s (and the public’s) continued scrutiny of compliance with this law, employers with any Colorado employees should ensure that their job postings are compliant as soon as possible. In particular, whether or not they have yet received a Compliance Assistance Letter from the CDLE, employers that had been relying on excluding Colorado applicants from remote jobs should revise their job postings to bring them into compliance with the EPEW, as interpreted by the CDLE.
Gibson Dunn lawyers are available to assist in addressing any questions you may have about these developments. Please contact the Gibson Dunn lawyer with whom you usually work in the firm’s Labor and Employment practice group, or the following authors:
Jessica Brown – Denver (+1 303-298-5944, jbrown@gibsondunn.com)
Marie Zoglo – Denver (+1 303-298-5735, mzoglo@gibsondunn.com)
Please also feel free to contact any of the following practice leaders:
Labor and Employment Group:
Katherine V.A. Smith – Los Angeles (+1 213-229-7107, ksmith@gibsondunn.com)
Jason C. Schwartz – Washington, D.C. (+1 202-955-8242, jschwartz@gibsondunn.com)
© 2021 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
This edition of Gibson Dunn’s Federal Circuit Update discusses recent Federal Circuit decisions concerning pleading requirements, obviousness, and more Western District of Texas venue issues. Also this month, the U.S. Senate voted to confirm Tiffany P. Cunningham to be United States Circuit Judge for the Federal Circuit and Federal Circuit Judge Kathleen O’Malley announced her retirement.
Federal Circuit News
Supreme Court:
The Court did not add any new cases originating at the Federal Circuit.
The following petitions are still pending:
- Biogen MA Inc. v. EMD Serono, Inc. (U.S. No. 20-1604) concerning anticipation of method-of-treatment patent claims. Gibson Dunn partner Mark A. Perry is counsel for the respondent.
- American Axle & Manufacturing, Inc. v. Neapco Holdings LLC (U.S. No. 20‑891) concerning patent eligibility under 35 U.S.C. § 101, in which the Court has invited the Solicitor General to file a brief expressing the views of the United States.
- PersonalWeb Technologies, LLC v. Patreon, Inc. (U.S. No. 20-1394) concerning the Kessler
Other Federal Circuit News:
On July 19, 2021, the U.S. Senate voted to confirm Tiffany P. Cunningham as United States Circuit Judge for the Federal Circuit by a vote of 63-33. Judge Cunningham was a partner at Perkins Coie LLP and was previously a partner at Kirkland & Ellis LLP. Ms. Cunningham is a graduate of Harvard Law School and she earned a Bachelor of Science in chemical engineering from the Massachusetts Institute of Technology. Ms. Cunningham clerked for Judge Dyk of the Federal Circuit.
Federal Circuit Judge Kathleen O’Malley announced her plans to retire from the bench on March 11, 2022. Judge O’Malley was appointed to the Federal Circuit by President Obama in 2010. Prior to her elevation to the Federal Circuit, Judge O’Malley was appointed to the U.S. District Court for the Northern District of Ohio by President Clinton in 1994.
Upcoming Oral Argument Calendar
The list of upcoming arguments at the Federal Circuit is available on the court’s website.
Live streaming audio is available on the Federal Circuit’s new YouTube channel. Connection information is posted on the court’s website.
The court will resume in-person arguments starting with the September 2021 court sitting.
Key Case Summaries (July 2021)
Bot M8 LLC v. Sony Corporation of America (Fed. Cir. No. 20-2218): Bot M8 LLC (“Bot M8”) sued Sony Corporation of America (“Sony”) for infringement of various patents. The district court sua sponte directed Bot M8 to file an amended complaint requiring Bot M8 to specify how every element of every claim is infringed and to reverse engineer the PS4 (the accused product) if it was able to. Bot M8 agreed to do so. After Bot M8 filed its First Amended Complaint (“FAC”), Sony filed a motion to dismiss, which the court granted. In a discovery hearing two days later, Bot M8 raised for the first time that in order to reverse engineer the PS4 and view the underlying code, it would have to “jailbreak” the system, which is a violation of the Digital Millennium Copyright Act (“DMCA”) and other anti-hacking statutes. In response, Sony gave Bot M8 permission to jailbreak the system. Bot M8 then sought leave of the court to file its Second Amended Complaint (“SAC”). The court denied Bot M8’s request citing lack of diligence. Bot M8 appealed the district court’s dismissal.
The panel (O’Malley, J., joined by Linn and Dyk, J.J.) affirmed-in-part, reversed-in-part, and remanded, holding that the district court was correct in dismissing two of the patents, but that it required “too much” with respect to the other two patents. The panel reaffirmed that “[a] plaintiff is not required to plead infringement on an element-by-element basis.”
For the first two patents, the panel affirmed the district court finding it did not err in dismissing the claims for insufficiently pleading a plausible claim because (1) the factual allegations were inconsistent and contradicted infringement, and (2) the allegations were conclusory. With respect to the second two patents, the panel reversed the district court determining that Bot M8 had supported its “assertions with specific factual allegations” and that the district court “demand[ed] too much” by dismissing these claims. The panel also affirmed the district court’s decision to deny Bot M8’s motion for leave to amend for lack of diligence. The panel noted that although it may have granted Bot M8’s motion if deciding it in the first instance, it found no abuse of discretion. While the district court should not have required reverse engineering of Sony’s products, Bot M8 waived its objections by telling the court it was happy to undertake the exercise. Moreover, Bot M8 failed to raise any concerns regarding its ability to reverse engineer the PS4 under the DMCA until after the court had issued its decision on Sony’s motion to dismiss.
Chemours Company v. Daikin Industries (Fed. Cir. No. 20-1289): The case involved two IPR final written decisions of the PTAB, which determined that claims directed to a polymer with a high melt flow rate are obvious. The Board relied on a prior art patent (“Kaulbach”) that disclosed a lower melt flow rate and a “very narrow molecular weight distribution.” The Board concluded that a POSA would be motivated to increase Kaulbach’s melt flow rate to the claimed range, even though doing so would broaden molecular weight distribution.
A majority of the panel (Reyna, J., joined by Newman, J.) reversed, holding that Kaulbach taught away from broadening molecular weight distribution and that, therefore, the Board’s proposed modification would necessarily alter Kaulbach’s inventive concept. Judge Dyk dissented in part on this issue, arguing that Kaulbach did not teach away from broadening molecular weight distribution, but only offered better alternatives. According to Judge Dyk, the Court’s precedent makes clear that an inferior combination may still be used for obviousness purposes. Judge Dyk also noted that increasing Kaulbach’s melt flow rate to the claimed range would not have necessarily broadened the molecular weight distribution beyond levels Kaulbach taught were acceptable.
In the unanimous part of the opinion, the panel also rejected the Board’s commercial success analysis, holding that the Board made three errors. First, the panel held that the Board erred by concluding that there could be no nexus between the claimed invention and the alleged commercial success because all elements of the challenged claims were present in Kaulbach or other prior art. The Court explained that where an invention is a unique combination of known elements, “separate disclosure of individual limitations . . . does not negate a nexus.” Next, the Court disagreed with the Board’s decision to require market share data, holding that sales data alone may be sufficient to show commercial success. Lastly, the Court rejected the Board’s finding that the proffered commercial success evidence was weak because the patents at issue were “blocking patents.” The Court held that “the challenged patent, which covers the claimed invention at issue, cannot act as a blocking patent.”
In re: Uber Technologies, Inc. (Fed Cir. No. 21-150) (nonprecedential): Uber sought a writ of mandamus ordering the United States District Court for the Western District of Texas to transfer the underlying actions to the United States District Court for the Northern District of California. The panel (Dyk, J., joined by Lourie and Reyna, J.J.) granted the petition. Gibson Dunn is counsel for Uber.
The panel explained that it had recently granted mandamus to direct the district court to transfer in two other actions filed by the plaintiffs asserting infringement of two of the same patents against different defendants, in In re Samsung Electronics Co., Nos. 2021-139, -140 (see our June 2021 update). In that case, the Federal Circuit rejected the district court’s determination that the plaintiffs’ actions could not have been brought in the transferee venue because the presence of the Texas plaintiff “is plainly recent, ephemeral, and artificial—just the sort of maneuver in anticipation of litigation that has been routinely rejected.” Noting that the district court itself recognized that the issues presented here are identical to those in plaintiffs’ other cases, the panel held that, as in Samsung, the district court erred in concluding that Uber had failed to satisfy the threshold question for venue.
With respect to the district court’s analysis of the traditional public and private factors, the court explained that this case involved very similar facts to those in Samsung, where the Court found that the district court erred by 1) “giving little weight to the presence of identified party witnesses in the Northern District of California despite no witness being identified in or near the Western District of Texas”; 2) “simply presuming that few, if any, party and non-party identified witnesses will likely testify at trial despite the defendants’ submitting evidence and argument to the contrary”; and 3) finding that “there was a strong public interest in retaining the case in the district based on Ikorongo’s other pending infringement action against Bumble Trading, LLC.” The court concluded that there was no basis for a disposition different from the one reached in Samsung. It noted that the reasons for not finding that judicial economy to override the clear convenience of the transferee venue apply with even more force here, given that the court had already directed the Samsung and LG actions to be transferred to Northern California in In re Samsung. The panel also found that the district court clearly erred in negating the transferee venue’s strong local interest by relying merely on the fact that the plaintiffs alleged infringement in the Western District of Texas.
In re: TCO AS (Fed. Cir. No. 21-158) (nonprecedential): NCS Multistage, Inc., a Canadian corporation, and NCS Multistage LLC, its Houston, Texas based subsidiary, sued TCO AS, a Norwegian company, for patent infringement in the Western District of Texas. TCO moved to transfer the case to the Southern District of Texas pursuant to 28 U.S.C. § 1404(a). The district court denied the motion, finding that TCO had failed to show the transferee venue was clearly more convenient.
TCO petitioned for a writ of mandamus, which the Federal Circuit (Taranto, Hughes, Stoll, JJ.) denied. Stressing the “highly deferential standard” for resolving a mandamus petition, the Federal Circuit could not “say that TCO has a clear and indisputable right to relief, particularly in light of the fact that several potential witnesses are located out-side of the proposed transferee venue, including some in the Western District of Texas, and the fact that the only party headquartered in the proposed transferee venue elected to litigate this case in the Western District of Texas.”
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the Federal Circuit. Please contact the Gibson Dunn lawyer with whom you usually work or the authors of this alert:
Blaine H. Evanson – Orange County (+1 949-451-3805, bevanson@gibsondunn.com)
Jessica A. Hudak – Orange County (+1 949-451-3837, jhudak@gibsondunn.com)
Please also feel free to contact any of the following practice group co-chairs or any member of the firm’s Appellate and Constitutional Law or Intellectual Property practice groups:
Appellate and Constitutional Law Group:
Allyson N. Ho – Dallas (+1 214-698-3233, aho@gibsondunn.com)
Mark A. Perry – Washington, D.C. (+1 202-887-3667, mperry@gibsondunn.com)
Intellectual Property Group:
Kate Dominguez – New York (+1 212-351-2338, kdominguez@gibsondunn.com)
Y. Ernest Hsin – San Francisco (+1 415-393-8224, ehsin@gibsondunn.com)
Josh Krevitt – New York (+1 212-351-4000, jkrevitt@gibsondunn.com)
Jane M. Love, Ph.D. – New York (+1 212-351-3922, jlove@gibsondunn.com)
© 2021 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
On July 28, 2021, certain Democratic members of Congress, primarily in response to the $4.325 billion contribution made by the Sackler family to fund the settlement underpinning Purdue Pharma’s chapter 11 plan, introduced the Nondebtor Release Prohibition Act of 2021 (the “NRPA”), which proposes to amend the Bankruptcy Code to (i) prohibit the use of non-consensual third party releases in chapter 11 plans, (ii) limit so-called “Section 105” injunctions to stay lawsuits against third parties to a period no greater than 90 days after the commencement of a bankruptcy case, and (iii) provide a ground for dismissing a bankruptcy case commenced by a debtor that was formed within 10 years prior to such case via a divisional merger that separated material assets from liabilities.
The proposed elimination of the important bankruptcy tools of non-consensual third party releases and Section 105 injunctions – each of which is extraordinary in nature and only permitted in the rarest of circumstances – is a blunt force measure that threatens to vitiate the longstanding bankruptcy policy of favoring settlements over interminable value-destructive litigation. Moreover, the loss of these tools may cause inequitable disruption in currently pending cases and stymie the implementation of critical creditor-supported strategies to resolve the most difficult cases going forward. Additionally, while the disincentive against divisional mergers would affect a far more limited set of cases, it appears that the harm raised by some divisional mergers that are followed by bankruptcy may be adequately addressed through clarifying the applicability of fraudulent transfer law to challenge these transactions.
I. Bankruptcy Tools Impacted by the Proposed Legislation
At the heart of corporate chapter 11 bankruptcies are an array of tools that serve to preserve the value of a debtor’s estate for the benefit of all stakeholders. Certain tools promote the “breathing spell” necessary for a debtor to formulate and propose a plan, while others, such as the power to reject executory contracts, allow debtors to restructure their operations to emerge from bankruptcy stronger and with greater prospects to succeed than when it filed for bankruptcy.
a. Non-Consensual Third Party Releases
Non-consensual releases of third parties are not common and typically arise as a provision in a chapter 11 plan in which the release of the applicable third party in question is essential to a reorganization in light of, among other considerations, the identity of interest of such third party and the debtor and the substantial economic contribution made to the chapter 11 plan by such third party.
Section 105 of the Bankruptcy Code is often cited as a statutory basis for such releases. Section 105 permits a bankruptcy court to “issue any order, process or judgment that is necessary or appropriate to carry out the provisions” of the Bankruptcy Code.
These releases are distinct from voluntary releases that are commonly featured in corporate chapter 11 plans, whereby creditors are given an opportunity to “opt out” of such releases. A key contextual distinction between these two types of releases is that in the rarer instances in which non-consensual third party releases are sought, the economic contribution of the released third party is so substantial and vital to a chapter 11 plan as to require as a condition to such contribution that all claims against such third party be released, without regard to whether a subset of holdout creditors desire not to provide the release.
Currently, there is a federal circuit split among the courts that have ruled on the permissibility of non-consensual third party releases in connection with a chapter 11 plan. Notably, the Ninth and Tenth Circuits prohibit such releases, while the Second, Third, Fourth, Sixth, Seventh, and Eleventh Circuits permit such releases, with the Fifth Circuit taking a more restrictive approach short of a flat prohibition.
In the circuits where non-consensual third party releases are permitted, a debtor must satisfy a high evidentiary bar to obtain approval of such releases. The factors a bankruptcy court must consider in such circuits include (i) the identity of interests between the debtor and the third party, such that a suit against the non-debtor is akin to a suit against the debtor due to, for example, an indemnity obligation that may deplete the debtor’s assets; (ii) whether the non-debtor has contributed substantial assets to the reorganization; (iii) whether the release is essential to reorganization; (iv) whether the impacted classes of claims have overwhelmingly accepted the plan in question; and (v) whether the bankruptcy court has made a record of specific factual findings to support such releases.
The application of this standard typically requires the released third party to make a substantial financial contribution to a chapter 11 plan, which, in turn, has received extensive creditor support. In essence, these releases serve as an integrated component of a comprehensive economic settlement of claims accepted widely by the creditor body and without which a debtor likely could not reorganize.
Notably, the American Bankruptcy Institute’s exhaustive 2014 report and recommendations on bankruptcy reform recommended the use of non-consensual third party releases based on a consideration of the above-referenced fact-intensive standard and discouraged the imposition of a blanket prohibition against such releases.
b. Injunctions Against Third-Party Lawsuits
Similar to non-consensual third party releases, bankruptcy courts have used their authority under Section 105 of the Bankruptcy Code to preliminarily stay lawsuits against third parties in furtherance of the debtor’s reorganizational efforts. These injunctions constitute extraordinary relief and thus are not routine in corporate chapter 11 cases.
When such injunctions are requested, a debtor must satisfy a multi-factor standard that in most jurisdictions requires consideration of the likelihood of a successful reorganization, the balance of harms, and the public interest in the injunction. These injunctions are typically limited to 60 to 90 days, but have been of longer duration in certain limited cases. For example, the Section 105 injunction in the Purdue Pharma case enjoining litigation against the Sacklers has persisted for a longer period given the central role such injunction has played in fostering the global multi-billion dollar settlement that was ultimately reached.
II. Commentary
While the NRPA may be the product of valid frustrations some parties may have experienced in certain contentious and emotionally charged bankruptcy cases, its passage will likely do more harm than good.
Implicit in the testimony supporting passage of the NRPA is the premise that litigation against third parties should be preserved in all cases despite substantial creditor support that may otherwise exist for the settlement of such claims and the resulting emergence of the debtor from chapter 11. Eliminating the judicial discretion available in certain jurisdictions to implement this tool and elevating the rights of holdout creditors in its stead could lead to value-destructive liquidation outcomes in difficult cases that could otherwise be salvaged through settlements supported by a supermajority of the creditor body that include non-consensual releases of contributing third parties.
The NRPA’s policy preference for preserving litigation claims against third parties who may play a role in plan formulation means that, in cases where a financial contribution is no longer viable due to such mandatory preservation of litigation claims, tort claimants may receive less of a recovery than they would have under the current state of the law and possibly no recovery at all in many cases.
When viewed against the backdrop of current complex chapter 11 practice, this proposed legislation is misguided and elevates the interests of a minority of creditors in contravention of the vaunted bankruptcy principle of binding intransigent holdout creditors through supermajority support for a chapter 11 plan.
Moreover, the bankruptcy tool of preliminary “Section 105” injunctions similarly must satisfy a high evidentiary bar, and bankruptcy courts in practice do not grant these injunctions lightly. These injunctions, which stay suits against individuals and entities that are vital to ongoing reorganization efforts, serve a valuable function in providing the debtor with a limited temporal window within which to negotiate comprehensive settlements with protected parties and, thereby, maximize the chances of a successful reorganization. These injunctions are usually relatively short in duration and subject to dissolution in the event the ultimate reorganization purpose underpinning them is no longer being served.
The NRPA’s disincentivizing of divisional mergers, such as are available under Texas law, is a creative attempt at curbing a perceived abuse in a limited subset of cases. Contrary to the rhetoric of the bill’s supporters, such divisional mergers, which are actually more akin to reverse mergers, are not exclusively followed by bankruptcy and have independent purposes under state law, which include providing a measure of successor liability protection to entities implementing such mergers.
Notably, a divisional merger is not the only means of corporate separation. Companies frequently separate assets and liabilities in corporate “spinoffs” and “splitoffs.” Indeed, when these types of separation transactions are followed by bankruptcy, they have frequently come under vigorous attack. In such cases, fraudulent transfer law has played a vital role in preserving the claims related to such transactions, either as a means of fostering settlement (e.g, Peabody Energy’s spinoff of Patriot Coal) or through post-confirmation litigation (e.g., Kerr-McGee’s spinoff of Tronox, which resulted in fraudulent transfer litigation that led to a multi-billion dollar damages award). In order to neuter any argument that a divisional merger is immune from fraudulent transfer law, clarifying language to the Bankruptcy Code to that effect may be a more direct solution than permitting dismissal of any case filed by a debtor within 10 years of its formation via divisional merger.
Procedurally, the NRPA still needs to move through the Congressional committee process and, based on the current composition of the Senate, will ultimately require some measure of Republican support in order to become law.
Gibson Dunn lawyers are available to assist with any questions you may have regarding these issues. For further information, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Business Restructuring and Reorganization practice group, or the following authors:
Michael J. Cohen – New York (+1 212-351-5299, mcohen@gibsondunn.com)
Michael A. Rosenthal – New York (+1 212-351-3969, mrosenthal@gibsondunn.com)
Matthew J. Williams – New York (+1 212-351-2322, mjwilliams@gibsondunn.com)
Please also feel free to contact the following practice leaders:
Business Restructuring and Reorganization Group:
David M. Feldman – New York (+1 212-351-2366, dfeldman@gibsondunn.com)
Scott J. Greenberg – New York (+1 212-351-5298, sgreenberg@gibsondunn.com)
Robert A. Klyman – Los Angeles (+1 213-229-7562, rklyman@gibsondunn.com)
© 2021 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
Last week the Department of Labor published a notice of proposed rulemaking to increase the minimum wage for federal contractors to $15.00 per hour, starting on January 30, 2022. This represents an approximately 37 percent increase over the current minimum wage for federal contractors of $10.95 per hour. The proposal follows President Biden’s April 27th Executive Order, titled “Increasing the Minimum Wage for Federal Contractors,” which directed the Department to undertake the rulemaking. The notice provides for a 32-day comment period that will close on August 23rd. Under President Biden’s Order, the Department has until November 24th of this year to issue a final regulation.
Under the proposed rule, the increased minimum wage would apply only to new contracts, including renewals and extensions of existing contracts, and to workers who are employed on or in connection with a federal contract. Beginning on January 1, 2023, and annually thereafter, the minimum wage would be increased in line with the annual percentage increase of the Consumer Price Index. Like President Biden’s Executive Order, the proposed rule offers as justification for the wage increase the purported efficiency benefits that come with a higher wage, including “enhance[d] worker productivity” and “higher quality work” due to increased worker health, morale, and effort. The proposal also reasons that a higher wage will reduce absenteeism and turnover, and lower supervisory and training costs.
Federal contractors concerned about the $15 minimum wage can participate in the rulemaking by submitting comments explaining how the wage requirement may increase, rather than decrease, their costs and their contract prices with the government.
The Executive Order, and by extension the proposed rule, rely on the President’s authority under the Federal Property and Administrative Services Act (the “Procurement Act”) to establish contracting practices that promote economy and efficiency in federal procurement. It is the latest in a long line of executive orders issued by presidents of both parties to use the procurement authority to influence contractors’ employment practices. Past orders addressed paid sick leave, use of the E-Verify system, mandatory postings about union members’ rights, and non-discrimination in hiring and employment. In the 1970s, President Carter cited efficiency in contracting as the reason to impose maximum wage requirements, in the form of wage controls.
The new $15 per hour wage requirement could be legally vulnerable if a court challenge is brought to the final rule. Courts have recognized that policies adopted under the Procurement Act must be connected to cost savings or other efficiency gains that benefit the federal government. A policy that has more to do with effecting a president’s domestic policy priorities than with saving the government money could be held to exceed the president’s authority. The wage requirement, insofar as its rationale is that increased labor costs will ultimately save federal funds, may be particularly vulnerable to such a challenge.
Gibson Dunn lawyers are available to assist in addressing any questions you may have about these developments. Please contact the Gibson Dunn lawyer with whom you usually work in the firm’s Labor and Employment practice group, or the following authors:
Eugene Scalia – Washington, D.C. (+202-955-8210, escalia@gibsondunn.com)
Blake Lanning* – Washington, D.C. (+1 202-887-3794, blanning@gibsondunn.com)
Please also feel free to contact any of the following practice leaders:
Labor and Employment Group:
Katherine V.A. Smith – Los Angeles (+1 213-229-7107, ksmith@gibsondunn.com)
Jason C. Schwartz – Washington, D.C. (+1 202-955-8242, jschwartz@gibsondunn.com)
* Mr. Lanning is admitted only in Indiana and practicing under the supervision of members of the District of Columbia Bar.
© 2021 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
On July 23, 2021, the California Office of Environmental Health Hazard Assessment (OEHHA) released an Initial Statement of Reasons (ISOR) and proposed text for new regulations concerning safe harbor warnings under California’s Safe Drinking Water and Toxics Enforcement Act of 1986 (Proposition 65) for consumer products containing the herbicide, glyphosate. Glyphosate is the active ingredient in Monsanto Company’s Roundup, which is used worldwide in agriculture and other applications.
Proposition 65 generally requires consumer products sold in California to bear a warning label if they expose consumers to chemicals listed by the state as causing cancer or reproductive or developmental toxicity. Glyphosate was added to the list of chemicals causing cancer in 2017 based on the International Agency for Research on Cancer (IARC)’s determination that it is a “probable” human carcinogen.[1]
Despite glyphosate’s listing as a carcinogen under Proposition 65, the issue of glyphosate’s carcinogenicity has proven highly controversial, with major public authorities on carcinogens reaching conflicting conclusions. US EPA, for example, has concluded that glyphosate is “not likely to be carcinogenic to humans.”[2] A number of recent high-profile personal injury actions against Monsanto have resulted in massive jury verdicts for plaintiffs who claimed that exposure to glyphosate in Roundup caused their cancers.[3]
Monsanto’s legal challenge to glyphosate’s addition to the Proposition 65 list was unsuccessful,[4] but, in June 2020, the U.S. District Court for the Eastern District of California issued a permanent injunction against enforcement of Proposition 65 warnings for glyphosate.[5] The court held that the standard safe harbor warning language—including that glyphosate is “known to the State of California to cause cancer”—violated glyphosate sellers’ First Amendment rights against compelled speech, because it would force them to take one side of a controversial issue, despite “the great weight of evidence indicating that glyphosate is not known to cause cancer.”[6]
The ISOR for the proposed regulations discusses the scientific and legal controversy surrounding glyphosate,[7] which has plainly motivated and shaped the text of the proposed regulations. Indeed, the new warning language proposed for glyphosate appears crafted to avoid the First Amendment problems that gave rise to the preliminary injunction in Wheat Growers, though the ISOR notes that the injunction remains in effect, so “no enforcement actions can be taken against businesses who do not provide warnings for significant exposures to [glyphosate].”[8] The ISOR further explains that glyphosate presents “an unusual case because several regulatory agencies did not reach a similar conclusion as IARC,” and, therefore, “[t]he standard Proposition 65 safe harbor warning language . . . is not the best fit in this situation.”[9]
OEHHA proposes to add section 25607.49 to title 27 of the California Code of Regulations, which would provide:
(a) A warning for exposure to glyphosate from consumer products meets the requirements of this subarticle if it is provided using the methods required in Section 25607.48 and includes the following elements:
(1) The symbol required in Section 25603(a)(1)
(2) The words “CALIFORNIA PROPOSITION 65 WARNING” in all capital letters and bold print.
(3) The words, “Using this product can expose you to glyphosate. The International Agency for Research on Cancer classified glyphosate as probably carcinogenic to humans. Other authorities, including USEPA, have determined that glyphosate is unlikely to cause cancer, or that the evidence is inconclusive. A wide variety of factors affect your personal cancer risk, including the level and duration of exposure to the chemical. For more information, including ways to reduce your exposure, go to www.P65Warnings.ca.gov/glyphosate.”
(b) Notwithstanding subsection (a), and pursuant to Section 25603(d), where the warning is provided on the product label, and the label is regulated by the United States Environmental Protection Agency under the Federal Insecticide, Fungicide, and Rodenticide Act, Title 40 Code of Federal Regulations, Part 156; and by the California Department of Pesticide Regulation under Food and Agricultural Code section 14005, and Cal. Code Regs., title 3, section 6242; the word ATTENTION” or “NOTICE” in capital letters and bold type may be substituted for the words “CALIFORNIA PROPOSITION 65 WARNING.”
Section 25607.48 would also be added to make clear that the warning must be provided using a method listed in Section 25602.
Adoption of these regulations may trigger an effort to alter or lift the Wheat Growers injunction, though the district court rejected several alternative warning formulations that are similar to OEHHA’s current proposal.[10] If the injunction is modified, businesses involved in distribution, sale, or use of glyphosate-containing products in California would not be required to use the new warning language, since it is merely a safe harbor, but doing so would be sufficient to avoid violation of Proposition 65’s warning requirement.[11]
OEHHA’s announcement, the proposed text of the new regulations, and the ISOR are linked below. OEEHA will receive public comments on the proposed regulations until September 7, 2021.:
__________________________
[1] https://oehha.ca.gov/proposition-65/chemicals/glyphosate
[2] https://www.epa.gov/ingredients-used-pesticide-products/glyphosate
[3] See, e.g., Hardeman v. Monsanto Co, No. 16-cv-00525-VC (E.D. Cal. filed Feb. 1, 2016); Pilliod v. Monsanto Co., No. RG17862702, JCCP No. 4953 (Cal. Super. Ct. Alameda Cty. filed Jun 2, 2017).
[4] Monsanto Co. v. Office of Environmental Health Hazard Assessment, 22 Cal. App. 5th 534 (2018).
[5] Nat’l Ass’n of Wheat Growers v. Becerra, 468 F. Supp. 3d 1247, 1266 (E.D. Cal. 2020) (on appeal to the Ninth Circuit Court of Appeals, Case No. 20-16758).
[7] Initial Statement of Reasons, July 23, 2021, at pp. 5-6, 12.
[10] Wheat Growers, 468 F. Supp. 3d at 1262-63.
[11] Cal. Health & Safety Code § 25249.6
Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. Please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Environmental Litigation and Mass Tort practice group, or the following authors:
Abbey Hudson – Los Angeles (+1 213-229-7954, ahudson@gibsondunn.com)
Alexander P. Swanson – Los Angeles (+1 213-229-7907, aswanson@gibsondunn.com)
Please also feel free to contact the following practice group leaders:
Environmental Litigation and Mass Tort Group:
Stacie B. Fletcher – Washington, D.C. (+1 202-887-3627, sfletcher@gibsondunn.com)
Daniel W. Nelson – Washington, D.C. (+1 202-887-3687, dnelson@gibsondunn.com)
© 2021 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
As the United States emerges from the darkest days of the COVID-19 pandemic and the Biden Administration settles in, the U.S. government and qui tam relators continue to churn out litigation and investigations under the False Claims Act (“FCA”), the government’s primary tool for combatting fraud against the federal fisc.
Six months ago, in our 2020 Year-End FCA Update, we explored what the new Biden Administration’s priorities might be and whether they would alter FCA enforcement. To date, there have been no major shifts in overarching policy, but the contours of the Biden Administration’s priorities are emerging. And, with nearly $400 million in FCA settlements in the first half of the year, more aggressive and forward-leaning FCA enforcement may well be on the horizon. Indeed, the Biden Administration forecasts that its efforts to root out COVID-19-related fraud will result in “significant cases and recoveries” under the FCA.
Meanwhile, federal courts issued several significant decisions in the first half of 2021, including important decisions exploring the use of statistical evidence in FCA cases, causation in fraudulent inducement cases, alleged “fraud on the FDA,” liability based on Anti-Kickback Statute (“AKS”) violations, the FCA’s materiality requirement, and DOJ’s discretion to dismiss qui tam cases where the government has not intervened.
Below, we begin by summarizing recent enforcement activity, then provide an overview of notable legislative and policy developments at the federal and state levels, and finally analyze significant court decisions from the past six months. Gibson Dunn’s recent publications regarding the FCA may be found on our website, including in-depth discussions of the FCA’s framework and operation, industry-specific presentations, and practical guidance to help companies avoid or limit liability under the FCA. And, of course, we would be happy to discuss these developments—and their implications for your business—with you.
I. NOTEWORTHY DOJ ENFORCEMENT ACTIVITY DURING THE FIRST HALF OF 2021
Momentum continued to build on the FCA enforcement front during 2021’s first half, as DOJ announced a number of FCA resolutions totaling more than $393 million. Although the number of resolutions demonstrated a continued high level of enforcement activity, these resolutions did not include any blockbuster settlements by historical standards; DOJ did not announce any nine-figure settlements in the first half of the year.
Below, we summarize the most notable settlements thus far in 2021, with a focus on the industries and theories of liability involved. Consistent with historical trends, a majority of FCA recoveries from enforcement actions for the first half of this year have involved health care and life sciences entities, including alleged violations of the AKS, but DOJ also announced several resolutions in the government contracting and procurement space.
A. HEALTH CARE AND LIFE SCIENCE INDUSTRIES
FCA resolutions in the health care and life sciences industries totaled more than $228 million. Consistent with historical trends, this made up the largest share of overall recoveries of any industry. Of the 27 resolutions summarized below, at least five included a Corporate Integrity Agreement.
- On January 11, a California laboratory agreed to pay $2.5 million to resolve allegations that it violated the FCA and the AKS by billing Medicare for genetic tests that were induced by kickbacks paid for referrals of the tests. A marketing company purportedly referred its clients to the laboratory for testing, and the laboratory allegedly paid a specified percentage or fixed amount of Medicare’s reimbursement for covered tests.[1]
- On February 4, a Florida company and the company’s president agreed to pay $20.3 million to settle allegations that they violated the FCA by fraudulently establishing corporations to bill for medically unnecessary durable medical equipment (“DME”) and by engaging in improper marketing practices in violation of the According to the government’s allegations, the company established dozens of front companies purporting to be DME suppliers, submitted more than $400 million in improper DME claims to Medicare and the Veterans Administration (“VA”), and bribed doctors to approve the claims even when they had not interacted with the purported beneficiaries. In addition to the settlement, the company’s president pleaded guilty to conspiracy to commit health care fraud and filing a false tax return for which she faces a maximum penalty of 13 years in federal prison. The share of the whistleblower who originally filed the action was not disclosed at the time of the settlement announcement.[2]
- On February 25, a Pennsylvania pharmacy agreed to pay $2.9 million to resolve allegations that it violated the FCA by filling prescriptions with inexpensive generic medications but billing Medicare for pricier brand-name drugs, and that it violated the Controlled Substances Act by illegally dispensing opioids and other controlled substances to individuals who did not have prescriptions.[3]
- On February 25, a global medical technology company agreed to pay $3.6 million to settle allegations that it violated the FCA by submitting improperly completed certificates of medical necessity (“CMN”) for devices that were medically unnecessary. The allegations stemmed from the company’s self-disclosure to HHS-OIG that its sales representatives at times filled out a CMN section that, under Medicare rules, must be completed by the treating physician’s office.[4]
- On March 2, a North Carolina medical equipment provider agreed to pay $20.1 million, and its individual owner agreed to pay an additional $4 million, to resolve allegations that the company violated the federal and North Carolina FCA The government alleged that the company fraudulently billed Medicaid for DME purportedly provided to individual Medicaid recipients, but the individuals never ordered or received the equipment; in some cases, the supposed recipients allegedly had been deceased for years before the submission of the claims. The U.S. government and the state of North Carolina also obtained a default judgment of $34.7 million against a sales representative of the company. In a related criminal investigation, the company was sentenced to five years of probation and ordered to pay a $2 million fine and over $10 million in restitution to the North Carolina Medicaid Program related to charges of health care fraud. The company self-reported the activity to the North Carolina Medicaid Investigations Division.[5]
- On March 2, a Virginia medical practice agreed to pay $2.1 million to resolve allegations that it violated the FCA by double-billing Medicare for treatments administered to patients. The at-issue treatment is sold in single-use vials, but some patients do not need an entire vial. In such cases, Medicare rules allow the doctor to bill as if the entire vial had been administered while discarding the leftover amount. Allegedly, the medical practice engaged in a scheme whereby it would administer a partial vial to one patient, give the remainder of the vial to a different patient, and then bill Medicare for one full vial per patient. In June 2020, the medical practice pleaded guilty to one count of criminal health care fraud related to the conduct.[6]
- On March 5, the Florida-based parent of two Ohio psychiatric hospitals and one Ohio substance abuse treatment facility agreed to pay $10.3 million to resolve allegations that they violated the FCA by billing federal health care programs for medical services that were induced by kickbacks improperly provided to patients. According to the government, the company unlawfully provided free long-distance transportation to patients to induce them to seek treatment at the company’s facilities and then submitted claims for the services it provided to those patients. The government also alleged that some of the inpatient admissions, for which the company submitted claims, were medically unnecessary. In addition to the financial settlement, the company entered into a Corporate Integrity Agreement with HHS-OIG that requires it to retain an independent reviewer for a five-year period to examine its claims to Medicare and Medicaid. The share of the whistleblower who originally filed the action was not disclosed at the time of the settlement announcement.[7]
- On March 16, two former owners of a telemarketing company agreed to collectively pay at least $4 million to settle allegations that they violated the FCA by scheming to generate referrals to pharmacies in exchange for kickbacks. The government alleged that the former owners solicited prospective patients to accept compounded drugs notwithstanding the medical necessity of such drugs, procured prescriptions for the patients, and then arranged to have those prescriptions filled at compounding pharmacies. In exchange, the former owners received a kickback from the pharmacies equal to half of the amount that TRICARE ultimately reimbursed for each prescription. Under the settlement agreement, the exact resolution amount will be determined based the sale price of certain real property that one of the former owners agreed to sell. A former employee of one pharmacy to which the telemarketing company referred prescriptions initially filed the qui tam The share of the whistleblower who originally filed the action was not publicized at the time the settlement was announced.[8]
- On March 18, a Michigan physician and his practice agreed to pay $2 million to resolve allegations that the practice violated the FCA by billing federal programs for diagnostic tests that were unnecessary or never performed. In addition to the financial settlement, the physician and his practice agreed to a Integrity Agreement with HHS-OIG that requires billing practices oversight for a three-year period. The shares of the two whistleblowers who originally filed the actions were not disclosed at the time of the settlement announcement.[9]
- On March 26, a former owner of a North Carolina diagnostic testing laboratory agreed to pay $2 million to settle allegations that he participated in kickback schemes to induce physicians to refer patients to the laboratory for medically unnecessary drug tests, leading to the submission of claims to Medicare in violation of the AKS and the FCA. According to the government, the laboratory provided benefits, including urine drug testing equipment and loans to physicians, as well as volume-based commissions and a salary to an individual for influence over two physician practices, in exchange for referrals to the laboratory for testing. On March 30, another of the laboratory’s former owners consented to an entry of final judgement requiring that he pay $4.5 million to resolve allegations that he paid kickbacks to the owner or a medical practice.[10]
- On April 1, a New York-based pharmaceutical company agreed to pay $75 million to resolve allegations that it knowingly underpaid rebates owed pursuant to the Medicaid Drug Rebate Program. The government alleged that the company had underreported the Average Manufacturer Prices (“AMPs”) for multiple drugs because it improperly subtracted service fees paid to wholesalers from the reported AMPs and excluded additional value the company received under contractual price-appreciation provisions with the wholesalers. According to the government, the underreported AMPs resulted in underpaid quarterly rebates to states and, relatedly, caused overcharges to the United States for the government’s Medicaid program payments to the states.[11] The company will pay approximately $41 million, plus interest, to the United States and the remainder to states participating in the settlement. The settlement stemmed from a qui tam lawsuit, which the whistleblower pursued after the government declined to intervene. The whistleblower’s share was not announced with the settlement.
- On April 8, an urgent-care provider network in South Carolina and its management company agreed to pay $22.5 million to resolve allegations that the management company falsely certified that network health care providers credentialed to bill Medicaid, Medicare, and TRICARE had performed various procedures, when non-credentialed providers actually performed those services. The companies also entered into a five-year Corporate Integrity Agreement with HHS-OIG and DCIS that requires the management company to retain an independent review organization to review its claims.[12] The share of the whistleblowers who originally filed the action was not announced with the settlement.
- On April 20, a network of three specialty health care providers in Massachusetts agreed to pay $2.6 million to resolve allegations that they improperly billed Medicare and Massachusetts’ Medicaid program for certain office visits while also billing for procedures performed at the office visits, allowing the providers to obtain reimbursements to which they were not entitled under the circumstances. The whistleblower who originally filed the action will receive 15% of the recovery.[13]
- On April 21, a Tennessee-based network of pain-management clinics, its four majority owners, and a former executive agreed to pay $4.1 million to settle allegations involving the submission of false claims for medically unnecessary or non-reimbursable treatments, testing, and drugs to federal health care programs, as well as for services and testing that were not actually performed. The settlement also resolved common-law claims of fraud, payment by mistake, and unjust enrichment. With the settlement, the government agreed to dismiss its underlying civil action against all the parties except the network’s former CEO, who was convicted of health care fraud in 2019. The allegations originally stemmed from qui tam lawsuits, pursuant to which the whistleblowers will receive $610,685.[14]
- On April 30, a health care software developer in Florida agreed to pay $3.8 million to resolve allegations that it used its marketing referral program for electronic health records products to pay unlawful kickbacks to generate sales. The government alleged that the referral program financially incentivized existing clients to recommend the developer’s products and barred program participants from providing negative product information to prospective clients, without the prospective clients’ knowledge of the arrangement. The government also asserted that the kickback payments rendered false the claims the company submitted under Medicare and Medicaid Meaningful Use Programs and the Merit-Based Incentive Payment System. The whistleblower who originally filed the action will receive approximately $800,000 in connection with the settlement.[15]
- On May 3, a neurosurgeon in South Dakota, as well as two affiliated medical device distributors owned by the doctor, agreed to pay $4.4 million to resolve allegations that the doctor accepted illegal payments to use certain medical devices and knowingly submitted claims for medically unnecessary surgeries. The doctor allegedly requested and received kickbacks, in the form of meals and alcohol, from a medical device manufacturer through a restaurant that the doctor owned with his wife. The doctor also allegedly knowingly submitted false claims for medically unnecessary procedures using medical devices in which he had a financial interest. The two medical device distributors agreed to pay an additional $100,000 to resolve claims that they violated the Centers for Medicare & Medicaid Services’ (“CMS”) Open Payments Program when the distributors failed to report to the CMS the doctor’s ownership interests and payments made to him. The settlement precludes each of the defendants from participating in federal health care programs for a period of six years. The whistleblowers who originally filed the action will receive $880,000 in connection with the settlement.[16]
- On May 4, a Delaware-based pharmaceutical manufacturer agreed to pay $12.6 million to resolve allegations that it used a third-party foundation to cover the copays of Medicare and TRICARE patients taking its myelofibrosis drug. The government alleged that the manufacturer improperly induced patients to purchase its drugs after pressuring the foundation to use funds donated by the manufacturer for patient copays and help ineligible patients complete financial assistance applications to the fund. The whistleblower who originally filed the action will receive approximately $3.59 million of the recovery.[17]
- On May 5, an Arizona hospital, operated by one of the largest health care systems in the United States, and a neurosurgery provider on the hospital’s campus agreed to pay $10 million to resolve allegations that they billed Medicare for concurrent, overlapping surgeries in violation of regulations and reimbursement policies. The neurosurgery provider contemporaneously entered into a five-year Corporate Integrity Agreement with HHS-OIG that requires the provider to maintain compliance and risk-assessment programs and hire an independent review organization to annually review its claims. The share of the recovery the whistleblower who originally filed the action was not announced with the settlement.[18]
- On May 10, a private university in Florida agreed to pay $22 million to resolve claims related to its laboratory and off-campus, hospital-based facilities. The government alleged that the university billed federal health care programs for medically unnecessary laboratory tests for kidney transplant patients, submitted inflated reimbursement claims for pre-transplant laboratory testing in violation of regulations limiting above-cost reimbursements for tests performed by a provider’s related entity, and knowingly failed to provide required notice to beneficiaries regarding the cost of receiving services at hospital facilities rather than physician offices. Contemporaneous with the settlement, the university entered into a five-year Corporate Integrity Agreement with HHS-OIG, which requires the university to establish compliance, risk-assessment, and internal-review programs. The share of the whistleblower who originally filed the three underlying qui tam lawsuits was not disclosed at the time of settlement.[19]
- On May 11, a national pharmacy-services provider based in Texas agreed to pay $2.8 million to resolve a number of alleged violations under the Controlled Substances Act and FCA. The settlement also resolved allegations that the provider dispensed opioids and other controlled substances without valid prescriptions, submitted false claims for invalid emergency prescriptions to Medicare, and billed Medicare for claims that had already been reimbursed. The share of the whistleblower who originally filed the action was not announced with the settlement.[20]
- On May 14, two Texas-based dentists, as well as their affiliated practices and dental management companies, agreed to pay $3.1 million to resolve allegations that they knowingly billed Medicaid for services not rendered or falsely identified who provided those services. The share of the whistleblowers who originally filed the action was not announced with the settlement.[21]
- On May 19, a French medical device manufacturer and its American affiliate agreed to pay $2 million to resolve allegations that they violated the AKS, FCA, and the Open Payments Program’s requirements. The government alleged the manufacturer provided items of value—such as meals, entertainment, and travel expenses—to U.S.-based doctors attending a conference in France to induce purchases of their spinal devices and failed to fully report the physician-entertainment expenses as part of the Open Payments Program. The share of the whistleblower who originally filed the action was not announced with the settlement.[22]
- On May 21, an Atlanta-based chain of nursing facilities agreed to pay $11.2 million to resolve allegations that it billed Medicare for medically unreasonable, unnecessary, and unskilled rehabilitation therapy services, and that it billed both Medicare and Medicaid for substandard or “worthless” skilled-nursing services after allegedly failing to have a sufficient number of skilled nursing staff to care for the residents. The settlement also resolved allegations that the chain submitted false claims to Medicaid for coinsurance amounts for beneficiaries eligible for both Medicare and Medicaid. Contemporaneously, the chain entered into a five-year Corporate Integrity Agreement with HHS-OIG that requires an independent organization to annually review patient stays and associated claims as well as an independent monitor to review resident-care quality. The settlement resolves several qui tam suits; the whistleblowers’ share of the recovery was not announced with the settlement.[23]
- On May 25, a dental-clinic system in New York agreed to pay $2.7 million to resolve allegations that it submitted false claims to Medicaid for dental services performed with improperly sterilized equipment. The share of the whistleblower who originally filed the action was not announced with the settlement.[24]
- On June 8, a Texas-based chiropractor and her medical group agreed to pay $2.6 million to resolve allegations that the chiropractor improperly billed Medicare and TRICARE programs for the implantation of neurostimulator electrodes despite not performing such surgeries. In addition to the settlement, the chiropractor and affiliated medical entities agreed to a 10-year period of exclusion from participation in any federal health care program.[25]
- On June 28, a surgery center and its affiliated outpatient surgery provider agreed to pay $3.4 million to resolve allegations that the companies submitted claims for kidney stone procedures that were not medically justified and also engaged in a kickback scheme. One of the surgery centers allegedly submitted claims for certain kidney stone procedures for Medicare and TRICARE patients that were not medically necessary. Further, a physician and the two companies allegedly engaged in a kickback arrangement in which the physician performed the kidney stone procedures in exchange for per-procedure payments at the surgery center, which the surgery center then billed to Medicare and TRICARE. The settlement resulted from a qui tam lawsuit, and the whistleblower will receive $748,000 of the settlement proceeds. In November 2020, the estate of the physician also paid the U.S. government $1.75 million to resolve claims related to his participation in the conduct.[26]
B. GOVERNMENT CONTRACTING AND PROCUREMENT
Settlement amounts to resolve liability under the FCA in the government contracting and procurement space totaled more than $165 million in the first half of 2021.
- On January 8, a Connecticut electrical contractor agreed to pay $3.2 million to settle allegations that it violated the FCA in connection with public construction contracts principally funded by the U.S. Department of Transportation. Under the terms of the contracts, the contractor was required to subcontract a portion of the work to Disadvantaged Business Enterprises (“DBE”). The government alleged that the contractor fraudulently misrepresented that a DBE had performed work as a subcontractor, when in fact the work in question was performed by the electrical contractor’s own employees. As part of the settlement, the contractor agreed to enter a monitoring agreement with the Federal Transit Administration.[27]
- On January 12, a Washington aerospace contractor agreed to pay $25 million to resolve allegations that it submitted materially false cost and pricing data in relation to military contracts, in violation of the FCA. The contractor entered into contracts to supply Unmanned Aerial Vehicles (“UAVs”) to the military. The proposals submitted by the contractor incorporated cost and pricing data that assumed new parts would be used in building the UAVs, but the government alleged that the contractor instead used recycled, refurbished, reconditioned, or reconfigured parts. The whistleblower who originally filed the qui tam lawsuit will receive $4.625 million of the settlement amount.[28]
- On February 17, a subsidiary of a French civil engineering company agreed to pay $3.9 million to resolve allegations that it violated the FCA by knowingly using contractually noncompliant concrete in the construction of an overseas U.S. military airfield. In addition to the civil settlement, the company agreed to enter into a separate DPA under which the company admitted to the underlying facts and accepted responsibility for a one-count information for conspiracy to commit wire fraud, and agreed to pay a monetary penalty of more than $12.5 million. The civil settlement credited approximately $1.95 million of the DPA payment.[29]
- On February 19, a Virginia company agreed to pay more than $6 million to settle allegations that its predecessor company, an information technology contractor, violated the FCA by overbilling the Department of Homeland Security (“DHS”) for work performed by its employees. The contractor allegedly used underqualified personnel to perform services and knowingly billed DHS at higher rates meant for more qualified personnel.[30]
- On February 26, a U.S.-based airline agreed to pay $49 million to resolve criminal charges and civil claims that it provided fraudulent data to the U.S. Postal Service (“USPS”) in connection with a contract to deliver mail internationally on behalf of U.S.P.S. Under the airline’s contracts with USPS, it was required to provide bar code scans of mail containers when it took possession of them and again when it delivered them to intended recipients; the airline was entitled to payment only if accurate scans were provided and the mail was timely delivered. According to the government, the airline submitted automated scans that did not correspond to the actual movement of the mail, and thus it was not entitled to payment. The airline admitted that it concealed problems related to mail movement and scanning that would have subjected it to penalties under the contracts. The airline agreed to pay nearly $32.2 million to resolve civil allegations that it violated the FCA, and the airline also entered into a criminal non-prosecution agreement and agreed to pay an additional $17.3 million in criminal penalties and disgorgement. The airline also agreed to continued cooperation with the DOJ Criminal Division’s Fraud Section. The airline further agreed to strengthen its compliance program and agreed to reporting requirements, including annual reports to DOJ.[31]
- On March 1, the subsidiary of a multinational software engineering and support company agreed to pay $2.2 million to settle allegations that it violated the FCA by failing to pay required administrative fees pursuant to contracts it signed with the U.S. General Services Administration, and that it violated the FCA by failing to provide contracted discounts and not meeting contractual requirements regarding the educational and experiential qualifications of its staff.[32]
- On March 19, a New York-based nongovernmental organization (“NGO”) agreed to pay $6.9 million to settle allegations that it violated the FCA in relation to programming funded by the U.S. Agency for International Development (“USAID”). The NGO received USAID funding to provide humanitarian assistance to refugees in Syria. According to the government, the NGO’s staff participated in a collusion and kickback scheme with a foreign supplier to rig bids for goods and services contracts used in its humanitarian relief efforts. The government alleged that this conduct led to the procurement of goods at unreasonably high prices, which were then invoiced to USAID.[33]
- On April 29, a California-based manufacturer agreed to pay $5.6 million to resolve allegations that it falsely certified the origin of materials and the manufacturing location of items produced under a contract with the Government of Israel, which was funded by the U.S. Defense Security Cooperation Agreement Agency. To be eligible for foreign procurement grant funds, the materials must be sourced and manufactured in the United States by domestic companies. As related to items manufactured under the DSCA-funded contract with the Government of Israel, the government alleged that the manufacturer knowingly submitted false certifications that Chinese-sourced materials were produced in the United States and that manufacturing had occurred in the United States, when the company had in fact contracted with a Mexican maquiladora. The whistleblowers who filed the action will receive 17% of the settlement.[34]
- On May 27, an Illinois-based military manufacturer agreed to pay $50 million to resolve allegations that it fraudulently induced the U.S. Marine Corps to enter into a contract modification at inflated prices for components of armored vehicles. The government alleged that the manufacturer knowingly created and submitted fraudulent sales invoices for sales that never occurred to justify the contract’s inflated prices. The whistleblower who filed the action will receive approximately $11.1 million of the settlement.[35]
- On June 3, a Washington subsidiary of a Colorado-based environmental cleanup and remediation company paid approximately $3 million to resolve allegations that it submitted fraudulent small-business subcontractor reports. The company had entered into a government contract that required it to make efforts to award small businesses a percentage of its subcontracts and regularly report its progress; the contract provided fee-based incentives for its subcontracting successes and imposed monetary penalties if these goals were missed in bad faith. The government alleged that the company falsely represented the status of two businesses awarded subcontracts to claim credit for small-business subcontractors under the contract. The whistleblowers who originally filed the action will receive approximately $865,900 of the settlement.[36]
- On June 10, a national car-rental group headquartered in New Jersey agreed to pay $10.1 million to resolve allegations that it submitted false claims under an agreement managed by the Department of Defense Travel Management Office for unallowable supplemental charges to car rentals, such as collision-damage waiver insurance, supplemental liability coverage, personal-effects coverage, and late turn-in fees. Additionally, the government alleged that some of the fees charged were already included in the government rental rate.[37]
- On June 25, a multinational telecommunications and Internet service provider company agreed to pay more than $12.7 million to resolve allegations that the company violated the FCA in numerous ways. Former officials of the company allegedly accepted kickbacks in return for favorable treatment for subcontractors related to government contracts. The company also allegedly improperly obtained protected competitor bid information related to a government contract to gain a bidding advantage. Further, the company allegedly misstated its compliance with woman-owned small business subcontracting requirements under a contract with the Department of Homeland Security. The settlement resolves claims under the FCA, the Anti-Kickback Act, and the Procurement Integrity Act. The share of the whistleblower who originally filed the action was not disclosed at the time of the settlement announcement.[38]
- On June 30, a government contractor agreed to pay $4.3 million to settle allegations that three of its former executives accepted kickbacks from a subcontractor in exchange for awarding subcontracts for government contracts. A former executive allegedly instructed a subcontractor to mark up the cost of the subcontractor’s services provided to the contractor, and instructed the subcontractor to divide the proceeds between the subcontractor, the former executive, and two other former executives in exchange for awarding the subcontracts to the subcontractor.[39]
II. POLICY AND LEGISLATIVE DEVELOPMENTS
A. COVID-19-RELATED DEVELOPMENTS
During the first half of 2021, DOJ has maintained its focus on COVID-19-related fraud. In a February 17, 2021 speech at the Federal Bar Association Qui Tam Conference, Acting Assistant Attorney General Brian M. Boynton outlined the Civil Division’s key enforcement priorities and placed pandemic-related fraud at the top of the list.[40] Acting AAG Boynton described ongoing efforts by DOJ and its agency partners to “identify, monitor, and investigate the misuse of critical pandemic relief monies,” and also expressed confidence that DOJ’s devotion of resources to this effort will be worthwhile: “The vast majority of the funds distributed under [pandemic relief] programs have gone to eligible recipients. Unfortunately, however, some individuals an1 businesses applied for—and received—payments to which they were not entitled.”[42]
In his remarks, Acting AAG Boynton highlighted DOJ’s first civil settlement under the PPP.[42] The settlement was small (only $100,000), but marked the first such settlement related to COVID PPP funds and resolved claims a company had violated the FCA and the Financial Institutions Reform, Recovery and Enforcement Act (FIRREA) based on allegations the company “made false statements to federally insured banks that [it] was not in bankruptcy in order to influence those banks to approve, and the Small Business Administration (SBA) to guarantee” a PPP loan.[43] And while the PPP-related settlement did not involve a qui tam relator, in March, DOJ confirmed what many in the defense bar have long known or suspected—namely that “whistleblower complaints have been on the rise” during the COVID-19 pandemic.[44]
The other priorities Acting AAG Boynton outlined in his February speech also reveal that DOJ views pandemic-related fraud as extending beyond relief programs implemented during the pandemic. For example, in discussing DOJ’s continued focus on the opioid crisis, Acting AAG Boynton characterized the crisis as “not new, but . . . exacerbated by the pandemic.”[45] Similarly, he attributed DOJ’s “continued focus on telehealth schemes” in part to “the expansion of telehealth during the pandemic.”[46] These remarks make clear that DOJ has not lost sight of pre-pandemic enforcement priorities, in addition to focusing on fraud tied to government programs that are themselves creatures of the pandemic.
B. CONTENDING WITH THE LEGACY OF THE GRANSTON MEMO
Under the Trump administration, DOJ took prominent steps to assert DOJ’s control of FCA lawsuits. Specifically, on January 10, 2018, Michael Granston, the then-Director of the Fraud Section of DOJ’s Civil Division, issued a memorandum directing government lawyers evaluating a recommendation to decline intervention in a qui tam FCA action to “consider whether the government’s interests are served . . . by seeking dismissal pursuant to 31 U.S.C. § 3730(c)(2)(A).”[47] That policy was then formally incorporated into the Justice Manual. After that, DOJ became noticeably more willing to seek dismissal of certain FCA cases.
Thus far in 2021, the Biden Administration has not signaled whether it plans to scale back DOJ’s efforts to dismiss certain qui tam suits. Nor has the Administration disavowed the principles outlined in the Granston Memo or Justice Manual. However, statements by DOJ officials in the last six months suggest that DOJ may be adapting its approach to qui tam enforcement by enhancing the government’s own ability to identify and pursue FCA violations without prompting from relators. In his February speech, Acting AAG Boynton stated explicitly that observers can “expect the Civil Division to continue to expand its own efforts to identify potential fraudsters, including its reliance on various types of data analysis.”[48] He went on to discuss “sophisticated analyses of Medicare data” by DOJ “to uncover potential fraud schemes that have not been identified by whistleblower suits, as well as to help analyze and support the allegations that we do receive from such suits.”[49]
While the Biden Administration DOJ explores its options, there has been continued criticism by Senator Chuck Grassley (R-IA) of DOJ’s use of its dismissal authority under the FCA. A week after Acting AAG Boynton’s remarks, Senator Grassley wrote to then-Attorney General Nominee Merrick Garland that “it is up to the courts, through a hearing, to determine whether or not a [qui tam] case lacks merit.”[50] According to Senator Grassley, “[t]he Justice Department is not, and cannot be, the judge, jury, and executioner of a relator’s claim.”[51] Senator Grassley asserted that he is “working with a cadre of bipartisan Senate colleagues to draft legislation that will further strengthen and improve the False Claims Act.”[52]
While the degree of DOJ involvement in this legislative effort—and the extent to which it addresses DOJ’s dismissal authority—remains to be seen, the balance between DOJ-pursued FCA cases and relator-driven matters may shift. On one level, increased leveraging of data analytics could result in less reliance on relators overall, and therefore fewer situations in which DOJ attempts to exercise its dismissal authority and risks making bad law. On another, an increase in the volume and sophistication of DOJ’s data analyses of cases that do involve relators could better position DOJ to make merits-based arguments in favor of dismissal in the event that judicial scrutiny of those decisions ratchets up.
C. A PIVOT AWAY FROM THE BRAND MEMO?
In January 2018, then-Associate Attorney General (the third-ranking position at DOJ) Rachel Brand issued a memorandum titled “Limiting Use of Agency Guidance Documents In Affirmative Civil Enforcement Cases.”[53] The so-called “Brand Memo” expressly asserted that “[g]uidance documents” issued without notice-and-comment rulemaking “cannot create binding requirements that do not already exist by statute or regulation.”[54] Therefore, the Brand Memo stated that DOJ “may not use compliance with guidance documents as a basis for proving violations of applicable law in [affirmative civil enforcement] cases.”[55] The Brand Memo also explained that DOJ “should not treat a party’s noncompliance with an agency guidance document as presumptively or conclusively establishing that the party violated the applicable statute or regulation.”[56] Despite its brevity—under two pages—the Brand Memo represented a substantial policy change for civil enforcement, especially for the FCA. In December 2018, DOJ issued new section 1-20.000 of the Justice Manual, “Limitation on Use of Guidance Documents in Litigation,” which incorporated the Brand Memo and explained that, with some important caveats—such as the use of “awareness of [a] guidance document” as evidence of scienter—DOJ “should not treat a party’s noncompliance with a guidance document as itself a violation of applicable statutes or regulations.”[57]
Under the Biden Administration, DOJ may marginalize the Brand Memo. On the day he was inaugurated, President Biden issued an executive order that signaled an expected shift from the Trump Administration’s skepticism of agencies toward greater deference to agency expertise and guidance. Executive Order 13992 revoked six Trump executive orders relating to agency regulation.[58] This included revoking Trump’s Executive Order 13891 (“Promoting the Rule of Law Through Improved Agency Guidance Documents”), which required that “agencies treat guidance documents as non-binding both in law and in practice, except as incorporated into a contract” and stated as a matter of executive policy that “[a]gencies may impose legally binding requirements on the public only through regulations and on parties on a case-by-case basis through adjudications.”[59]
President Biden’s order noted that “executive departments and agencies . . . must be equipped with the flexibility to use robust regulatory action to address national priorities,” which include addressing the “coronavirus disease 2019 (COVID-19) pandemic, economic recovery, racial justice, and climate change” (emphasis added).[60] Although Executive Order 13992 does not expressly refer to DOJ’s civil enforcement or the FCA, the Order may foster a climate in which DOJ is more willing to use sub-regulatory guidance as the basis for FCA allegations. Such a change would both allow for broader FCA enforcement and signal support for the expertise of agencies in promulgating external-facing guidance. Likewise, as companies continue to adapt to DOJ’s efforts to root out fraud in government programs, a renewed focus on agency guidance could change the risk calculus built into corporate compliance programs and internal investigation efforts.
D. STATE LEGISLATIVE DEVELOPMENTS
The federal government provides incentives for states to conform their false claims statutes to the federal FCA. In particular, HHS-OIG grants “a 10-percentage-point increase” in a state’s share of any recoveries under the relevant laws to any state that obtains HHS-OIG approval for its false claims statute.[61] Such approval requires that the statute in question, among other requirements, “contain provisions that are at least as effective in rewarding and facilitating qui tam actions for false or fraudulent claims as those described in the [federal] FCA.”[62] The statute is also required to contain a 60-day sealing provision and “a civil penalty that is not less than the amount of the civil penalty authorized under the [federal] FCA.”[63] The total number of states with approved statutes is now twenty-two, with Minnesota having obtained approval on May 27, 2021.[64] That leaves seven states—Florida, Louisiana, Michigan, New Hampshire, New Jersey, New Mexico, and Wisconsin—with false claims statutes listed by HHS-OIG as “not approved.”[65]
There have been several other notable developments in state-level false claims legislation in the first half of this year.
- In Montana, the legislature passed a law in April that changes the order of priority according to which damages and penalties not paid to qui tam relators are to be disbursed to affected government entities.[66] The statute previously provided that the affected government entity’s general fund would receive the balance of such monies; under the new law, the monies “must be distributed first to fully reimburse any losses suffered by the governmental entity as a result of the defendant’s actions,” with the remainder then going to the entity’s general fund.[67]
- In Arkansas, which has a false claims statute specific to its Medicaid program, the General Assembly recently approved a bill granting the state’s Attorney General the ability to intervene in cases brought in federal court under the federal FCA that implicate Arkansas Medicaid funds.[68]
- In California, the legislature introduced a bill that would (among other things) levy a 1% annual “wealth tax” on any resident with a net worth of over $50 million (or $25 million in the case of a married taxpayer who files a separate return).[69] The bill contains a provision subjecting false claims and records concerning the wealth tax to liability under California’s false claims statute.[70]
III. CASE LAW DEVELOPMENTS
The first half of 2021 saw a number of notable federal appellate court decisions, which we have summarized below.
A. D.C. CIRCUIT EXPLORES CAUSATION IN FCA CASES PREMISED ON “FRAUDULENT INDUCEMENT” THEORY
In United States ex rel. Cimino v. International Business Machines Corp., the D.C. Circuit issued an important opinion exploring the contours of the “fraudulent inducement” theory of FCA liability, under which an initial fraud during procurement of a contract allegedly results in liability for all claims submitted to the federal government under that contract. No. 19-7139, 2021 WL 2799946 (D.C. Cir. July 6, 2021). In its decision, the D.C. Circuit imposed important limits on the fraudulent inducement theory by requiring a relator to plead (and ultimately prove) but-for causation.
The Cimino case involved allegations that IBM had “violated the FCA by (1) using a false audit to fraudulently induce the IRS to enter into a $265 million license agreement for software the IRS did not want or need, and (2) presenting false claims for payment for software that the IRS never received.” Id. at *1. In evaluating what it deemed an issue of first impression, the D.C. Circuit undertook an in-depth review of fraudulent inducement cases under the FCA, and the Supreme Court’s most recent opinions in FCA cases, to conclude that “a successful claim for fraudulent inducement requires demonstrating that a defendant’s fraud caused the government to enter a contract that later results in a request for payment.” Id. at *4. The court explained that the critical question for “liability under the FCA for fraudulent inducement must turn on whether the fraud caused the government to contract.” Id. Turning to what standard of causation applied, the court rejected a lesser standard urged by the Relator and instead held that the FCA requires the relator or government “to allege actual cause under the but-for test,” which required the relator in Cimino to “provide sufficient facts for the court to draw a reasonable inference that IBM’s false audit caused the IRS to enter the license agreement.” Id. at *6 (emphasis added). Notably, the court also rejected relator’s argument that causation was encompassed within the FCA’s materiality requirement, and did not need to be pled separately. The court instead recognized that “a plaintiff must plead both causation and materiality,” id. at *7, and that those are “separate elements that we cannot conflate,” id. at *5.
Applying these standards, the D.C. Circuit concluded that the Relator had met his pleading burden in this particular case. But by setting forth this rigorous analysis of the causation and materiality requirements under the FCA in fraudulent inducement cases, the court also charted a course for defendants facing liability under similar circumstances. Where a relator does not plead that a defendants conduct actually caused the government to enter into the underlying contract, a fraudulent inducement theory should not be able to move forward.
Turning to relator’s second theory, the court did dismiss certain claims under Federal Rule of Civil Procedure 9(b) (which requires pleading fraud claims with particularity). Applying a strict form of Rule 9(b), the court concluded that the relator failed to plead certain claims with sufficient particularity because he did not plead “when the false claims were presented and who presented those claims.” Id. at *9.
Finally, in a concurrence, Circuit Judge Rao went a step further and questioned whether fraudulent inducement is even a valid theory under the FCA. Applying a textualist framework, he argued that “[t]he text of the FCA does not readily suggest liability for fraudulent inducement as a separate cause of action.” Id. at *9 (Rao, J., concurring). The concurrence explained that courts across the country have long accepted fraudulent inducement theories based largely on an eighty-year-old Supreme Court FCA decision in United States ex rel. Marcus v. Hess, 317 U.S. 537 (1943), superseded by statute on other grounds, Act of Dec. 23, 1943, ch. 377, 57 Stat. 608, 609. See Cimino, 2021 WL 2799946, at *10. But Judge Rao said that decision is “hardly a model of clarity regarding the existence of a fraudulent inducement cause of action,” and suggested that a “reconsideration of a fraudulent inducement cause of action may be warranted because it exists in some tension with recent Supreme Court decisions” that emphasize the text of the statute over its purpose. Id. at *11. We will be watching carefully to see if other courts take up this project of reconsideration.
B. ELEVENTH CIRCUIT DECIDES THAT QUI TAM CHALLENGE MIGHT SURVIVE SUMMARY JUDGMENT DESPITE GOVERNMENT’S CONTINUED PAYMENT
In Universal Health Services v. United States ex rel. Escobar, 136 S. Ct. 1989 (2016), the Supreme Court directed the district courts to scrutinize whether plaintiffs have alleged facts sufficient to satisfy the “rigorous” and “demanding” materiality standard the FCA imposes. The Supreme Court also emphasized that the government’s decision to continue paying claims, despite knowledge of an alleged deficiency with those claims, is “very strong evidence” that those issues are not material for purposes of the FCA. Since then, the federal courts have grappled with the impact of these instructions.
Earlier this year, the Eleventh Circuit addressed this issue in United States ex. rel. Bibby v. Mortgage Investors Corp., 987 F.3d 1340 (11th Cir. 2021), cert. denied sub nom. Mortg. Invs. Corp. v. United States ex rel. Bibby, No. 20-1463, 2021 WL 1951877, at *1 (U.S. May 17, 2021). In Bibby, the relators alleged that lenders were charging fees prohibited by the U.S. Department of Veterans Affairs (“VA”) regulations (attorneys’ fees) while certifying that they charged only permissible fees (title examination and insurance fees) by bundling them together. Id. at 1343-45. The district court granted summary judgment for the lender defendants on materiality grounds in light of the fact that the government continued to pay the claims after being on notice of the alleged issue. See id. at 1346
The Eleventh Circuit reversed, holding that genuine issues of material fact precluded summary judgment. Id. There was no dispute that the VA was aware of the lenders’ noncompliance with fee requirements, so the issue of material fact was how the VA reacted to the knowledge that the lenders were charging prohibited fees. Id. at 1349-50. The court acknowledged that the government’s payment decision is typically relevant to the materiality inquiry, but asserted that the relevance of that fact “var[ies] depending on the circumstances.” Id. at 1350. In this case, the Eleventh Circuit found it significant that “[o]nce the VA issues guaranties, it is required by law to honor those guaranties” and pay holders in due course, “regardless of any fraud by the original lender.” Id.
Having decided to “divorce [its] analysis from a strict focus on the government’s payment decision,” the court “s[aw] no reason to limit [its] view only to the VA’s issuance of guaranties.” Id. at 1351. Instead, the court reviewed “the VA’s behavior holistically” and found evidence of materiality in a VA circular sent to lenders reminding them of the applicable fee regulations, as well as the VA’s implementation of “more frequent and more rigorous audits.” Id. Although the VA neither revoked payment on guaranties of loans with purportedly fraudulent fees nor prohibited those lenders from participating in the program, the court determined that those facts did not answer the materiality question on their own. See id. at 1352. In ultimately concluding that the question of materiality in this case was one for the fact finder, the panel again emphasized that “the materiality test is holistic, with no single element—including the government’s knowledge and its enforcement action—being dispositive.” Id.
The Supreme Court denied the petition for writ of certiorari on May 17, 2021. Bibby, 2021 WL 1951877, at *1. The Eleventh Circuit court’s decision in Bibby stands as an indicator that the meaning of Escobar continues to evolve.
C. NINTH AND ELEVENTH CIRCUITS LIMIT USE OF STATISTICAL EVIDENCE AS SUFFICIENT TO MEET BOTH PLAUSIBILITY AND PARTICULARITY REQUIREMENTS OF FCA PLEADINGS
Courts have continued to clarify pleading requirements for FCA claims under Federal Rules of Civil Procedure 8(a) and 9(b).
In Integra Med Analytics LLC v. Providence Health & Services, No. 19-56367, 2021 WL 1233378, at *1 (9th Cir. Mar. 31, 2021), a Ninth Circuit panel held that Integra’s statistical analysis of publicly available data—allegedly demonstrating that Providence Health submitted Medicare claims “with higher-paying diagnosis codes” than other comparable institutions—was not enough to plead falsity when Integra had failed to rule out an “obvious alternative explanation” and therefore failed to meet the Rule 8(a) requirement for pleading a plausible claim for relief. Id. at *1, *3 (citing Bell Atl. Corp. v. Twombly, 550 U.S. 544, 557 (2007)).
The court noted that Integra, in its pleading, had not ruled out an alternative explanation for why Providence Health’s claim submissions included more Medicare reimbursement codes—in this case, major complication or comorbidity (“MCC”) codes—than other institutions: namely that Providence, with the assistance of third-party billing consultant JATA aimed at improving its Medicare billing practices, was “at the forefront of a national trend toward coding these relevant MCCs at a higher rate.” Id. at *4. Absent any insider information alleging otherwise, the court found that Integra offered only a “possible explanation” for the results of its statistical analysis (i.e., that Providence was directing its doctors to falsify claims) and ignored that the statistical analysis could also support a “plausible alternative (and legal) explanation.” Id. (emphasis in original). Thus, the court stated “[w]e need not accept the conclusion that the defendant engaged in unlawful conduct when its actions are in line with lawful ‘rational and competitive business strategy.’” Id. (citation omitted).
Although the Ninth Circuit’s decision should reduce the weight courts are willing to attribute to the findings of statistical analyses at the pleading stage FCA cases, the court expressly noted in a footnote that its decision was not “categorically preclud[ing]” the use of statistical data to meet the FRCP 8(a) and 9(b) pleading requirements. Id. at *4 n.5.
Similarly, in Estate of Helmly v. Bethany Hospice and Palliative Care of Coastal Georgia, LLC, the Eleventh Circuit upheld the dismissal with prejudice of a qui tam suit brought by two former employees against Bethany Hospice, reasoning that allegations based on numerical probability are mere inferences that do not suffice to plead fraud with particularity under Rule 9(b). No. 20-11624, 2021 WL 1609823, at *6 (11th Cir. Apr. 26, 2021).
In Helmly, the relators alleged that the defendant hospice violated the FCA by submitting false claims when it billed the government for services provided to patients obtained through a kickback scheme. Id. at *1. They argued that because a significant number of Medicare recipients were referred to the hospice, and because “all or nearly all” of the patients at the hospice received coverage from Medicare, it was mathematically plausible that the hospice had submitted to the government claims for patients obtained under kickback agreements. Id. at *4-6.
The Eleventh Circuit rejected this argument as the basis for an FCA claim, holding that relators failed to plead the submission of an actual false claim. Id. at *6. In order to meet Rule 9(b)’s particularity requirement, a complaint “must allege actual submission of a false claim” and must do so with “some indicia of reliability.” Id., at *5 (citing Carrel v. AIDS Healthcare Found., Inc., 898 F.3d 1267, 1275 (11th Cir. 2018)) (internal quotation marks omitted). The Helmly court held that “numerical probability is not an indicium of reliability” sufficient to “meet Rule 9(b)’s particularity requirement.” Id. at *6. “[R]elators cannot ‘rely on mathematical probability to conclude that [a defendant] surely must have submitted a false claim at some point.’” Id. (quoting Carrel, 898 F.3d at 1277) (second alteration in original).
These decisions demonstrate that the pleading stage of an FCA claim requires greater specificity than many relators have typically supplied. Regardless of what the alleged core FCA claim may entail, courts are likely to require plaintiffs to clearly connect the dots and provide more concrete evidence of falsity to survive a motion to dismiss.
D. NINTH CIRCUIT AFFIRMS THE “FRAUD-ON-THE-FDA” THEORY
This past spring, the Ninth Circuit reaffirmed that “fraud-on-the-FDA” theories may state a valid FCA claim sufficient to survive a motion to dismiss in certain circumstances. United States ex rel. Dan Abrams Co. LLC v. Medtronic Inc., 850 Fed. App’x 508 (9th Cir. 2021). In Medtronic, the relator alleged, among other claims, that the defendant fraudulently obtained FDA 510(k) clearance for several devices used in spinal fusion surgeries. Id. at 510. According to the relator, some of these devices could only be used for a contraindicated use, and could not be used as indicated in defendant’s 510(k) submissions at all (the “Contraindicated-only Devices”). Id. As such, the relator alleged that these devices were not properly approved or cleared by the FDA and thus would have been ineligible for reimbursement under Medicare but for the defendant’s alleged fraud. Id. The district court dismissed these fraud-on-the-FDA allegations for failure to state a claim because the allegations were offered “solely as a predicate for the claim that the [devices] were intended for off-label use” and “the federal government allows reimbursement for off-label and even contraindicated uses.” Id. at 511.
The Ninth Circuit affirmed most of the district court’s dismissal of relators’ claims, but reversed the district court’s holding as to the Contraindicated-only Devices, holding that the FCA may serve as a vehicle to bring a fraud-on-the-FDA claim here. Citing United States ex rel. Campie v. Gilead Sciences, Inc., 862 F.3d 890, 899 (9th Cir. 2017), the court concluded that for the Contraindicated-only Devices, the relator did not merely allege off-label use; rather, the relator alleged that the devices were not properly cleared for any use by the FDA. Because the Contraindicated-only Devices could “only be used for their contraindicated use,” and disclosures about that intended use are “precisely those that the FDA considers in granting Class II certification,” the court held that Medtronic’s alleged fraud went “to the very essence of the bargain” and therefore could proceed as a fraud-on-the-FDA claim. Medtronic, 850 Fed. App’x at 511. Although the Ninth Circuit recognized that other jurisdictions had previously “cautioned against allowing claims under the [FCA] to wade into the FDA’s regulatory regime[,]” citing Campie, 862 F.3d. at 905, Ninth Circuit precedent allowed a relator’s fraud-on-the-FDA theory to move forward. Id.
Relator’s other claims—such as the allegation that the defendant promoted off-label and contraindicated uses of certain devices—were dismissed because the devices included those that could be used for their stated intended use but were contraindicated for use elsewhere. Id. *3. The panel affirmed dismissal of the relator’s claim that defendant violated the AKS by entering into improper rebate agreements with hospitals and offering kickbacks to physicians for certain business development events. Id. at *511–12. The Ninth Circuit stated that the AKS does not include discounts offered to providers if they are properly disclosed and reflected in charges to the federal program. Moreover, the relator failed to explain how defendant’s rebate agreement violated the statute or to state sufficiently specific allegations related to physician kickbacks. Id.
E. FOURTH CIRCUIT AFFIRMS THE BROAD REACH OF THE AKS AS A BASIS FOR FCA LIABILITY
The Fourth Circuit’s ruling earlier this year in United States v. Mallory, 988 F.3d 730 (4th Cir. 2021), serves as a reminder of the risk of compensating independent contractors for marketing activities in light of HHS-OIG guidance on whether such compensation falls within an AKS safe harbor. In Mallory, a laboratory that provided blood testing for cardiovascular disease and diabetes contracted with a consulting company to market and sell the blood tests. The consulting company received a base payment and a percentage of revenue based on the number of blood tests ordered. Based on the evidence presented at trial, the jury found that the laboratory’s revenue-based commission payments to its sales agents constituted improper remuneration that was intended to induce the sales agents to sell as many laboratory tests as possible. See United States ex rel. Lutz v. BlueWave Healthcare Consultants, Inc., No. 9:11-CV-1593-RMG, 2018 WL 11282049, at *1 (D.S.C. May 23, 2018), aff’d sub nom. United States v. Mallory, 988 F.3d 730 (4th Cir. 2021).
Defendants argued on appeal that the government failed to prove that the defendants “knowingly and willfully” violated the AKS and that, accordingly, the defendants could not have “knowingly” violated the FCA. Mallory, 988 F.3d at 736. The Fourth Circuit found those arguments unconvincing given that, in the course of attempting to assert an advice-of-counsel defense, the defendants were unable to “identify any specific legal opinion” that could support a “good-faith belief that their conduct . . . did not violate the Anti-Kickback Statute.” Id. at 739. To the contrary, the Government offered evidence that several attorneys had expressed concerns to the defendants regarding possible AKS violations in the arrangements. Id. at 736–37.
The defendants also argued on appeal that commissions to independent contractor salespeople do not constitute kickbacks under the AKS. Although the court noted that the AKS does contain a safe harbor for bona fide employment relationships, it explained that HHS-OIG “has expressly recognized that this safe harbor does not cover independent contractors.” Id. at 738. The court discussed the history of the statutory safe harbor for commissions paid to salespeople who are “employee[s]” that have a “bona fide employment relationship” with their employer, 42 U.S.C. § 1320a-7b(b)(3)(B), and HHS’s reasoning that if employers “desire to pay [ ] salesperson[s] on the basis of the amount of business they generate,” they “should make these salespersons employees” to avoid “civil or criminal prosecution.” 54 Fed. Reg. 3088, 3093 (Jan. 23, 1989). Because the amount of compensation in Mallory varied with the volume of the referrals, the court found that it fit squarely outside the bounds of the salesperson commission safe harbor. Mallory, 988 F.3d at 738.
The Fourth Circuit affirmed the jury’s findings and assessment of actual damages totaling more than $16 million for violations of FCA. Id. at 742; Lutz, 2018 WL 11282049, at *2–3. The court also affirmed the district court’s judgment, which totaled more than $100 million after the district court trebled the actual damages and added civil monetary penalties as required by the FCA. Lutz, 2018 WL 11282049, at *8.
F. SUPREME COURT DECLINES TO REVIEW SEVERAL IMPORTANT ISSUES UNDER THE FCA
1. SUPREME COURT REJECTS OPPORTUNITY TO REVIEW A SEVENTH CIRCUIT DECISION UPHOLDING DOJ AUTHORITY TO DISMISS CASES OVER OBJECTION OF RELATORS
In the final week of June, the Supreme Court denied a petition to review a Seventh Circuit decision regarding the proper standard to evaluate a government motion to dismiss a relator’s claim. See Cimznhca, LLC v. United States, No. 20-1138, 2021 WL 2637991 (U.S. June 28, 2021). Cimznhca’s appeal argued that the Seventh Circuit improperly expanded its jurisdiction by treating the government’s motion to dismiss also as a motion to intervene for purposes of dismissal, even though the government never sought to intervene.
As explained in Gibson Dunn’s 2020 Year-End Update and discussed above, DOJ has more regularly invoked its dismissal authority under 31 U.S.C. § 3730(c)(2)(A) since the Granston Memo was issued. In evaluating DOJ’s requests to dismiss, courts historically have split based on whether they followed the Ninth Circuit’s Sequoia Orange test or the D.C. Circuit’s Swift test in deciding whether the government may dismiss a qui tam case. Under the Sequoia Orange approach, the government may dismiss a qui tam case if: (1) it identifies a valid government purpose; (2) a rational relation exists between the dismissal and the accomplishment of that purpose; and (3) dismissal is not fraudulent, arbitrary and capricious, or illegal. United States ex rel. Sequoia Orange Co. v. Baird-Neece Packing Corp., 151 F.3d 1139, 1145 (9th Cir. 1998). The Swift test, by contrast, affords the government an “unfettered” right to dismiss a case such that the decision is “unreviewable” except in instances of “fraud on the court.” Swift v. United States, 318 F.3d 250, 252-53 (D.C. Cir. 2003). Both standards generally favor the government’s discretion, albeit to different degrees, and DOJ regularly argues in its motions to dismiss that it has sufficient discretion to dismiss a case under either standard.
In Cimznhca, the Seventh Circuit called the choice between the Sequoia Orange and Swift standards “a false one, based on a misunderstanding of the government’s rights and obligations under the False Claims Act.” United States v. UCB, Inc., 970 F.3d 835, 839 (7th Cir. 2020). Although it recognized the value of a Sequoia Orange-type standard focused on the outer constitutional limits on the exercise of the government’s prosecutorial discretion, the court stated that it believes the limit lies closer to the more-deferential Swift standard.
When moving for dismissal in the district court, the government argued that the allegations “lack[ed] sufficient merit to justify the cost of investigation and prosecution and [were] otherwise . . . contrary to the public interest.” Id. at 840. In reversing the district court’s denial of the government’s motion, the Seventh Circuit viewed the government’s motion as a motion to intervene and dismiss and held that Federal Rule of Civil Procedure 41 (which governs voluntary dismissal by plaintiffs generally) supplied “the beginning and end of [the court’s] analysis.” Id. at 849. Turning to the Sequoia Orange and Swift standards, the court held that Sequoia Orange simply means that dismissal “may not violate the substantive component of the Due Process Clause,” id. at 851, which the court characterized as a “bare rationality standard” targeting “only the most egregious official conduct” that “shocks the conscience” or “offend[s] even hardened sensibilities,” id. at 852 (internal quotation marks omitted) (alteration in original). The court rejected the idea that the relatively formal nature of Section 3730(c)(2)(A) hearings “justif[ies] imposing on the government in each case the burden of satisfying Sequoia Orange’s ‘two-step test’ before the burden is put back on the relator to show unlawful executive conduct.” Id. at 853.
By declining to review the Cimznhca appeal, the Supreme Court left unresolved a growing circuit split over DOJ dismissals of whistleblower lawsuits. Accordingly, we may see other circuits apply either Sequoia Orange or Swift—or take the Seventh Circuit’s position in Cimznhca that the standard lies somewhere between the two and should primarily be informed by Federal Rule of Civil Procedure 41.
2. SUPREME COURT DECLINES TO RESOLVE DEBATE OVER “OBJECTIVELY FALSE”
In February, the United States Supreme Court also declined to resolve a prominent split between federal courts of appeal regarding the FCA’s falsity standard. In denying petitions for writs of certiorari in Care Alternatives v. United States, — S. Ct. —, 2021 WL 666386 (Feb. 22, 2021), and RollinsNelson LTC Corp. v. U.S. ex rel. Winters, — S. Ct. —, 2021 WL 666435 (Feb. 22, 2021), the Court left unresolved whether FCA liability must be predicated on a claim that is objectively false based on verifiable facts, or whether a post hoc expert opinion can suffice to establish falsity (at least at the pleading stage). As we have written about here, this objective falsity issue joins a host of other FCA-related questions as to which the federal courts have been unable to provide uniform answers.
IV. CONCLUSION
We will monitor these developments, along with other FCA legislative activity, settlements, and jurisprudence throughout the year and report back in our 2021 False Claims Act Year-End Update, which we will publish in January 2022.
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[1] See Press Release, U.S. Atty’s Office for the Western Dist. of WI, AutoGenomics, Inc. Agrees to Pay Over $2.5 Million for Allegedly Paying Kickbacks (Jan. 11, 2021), https://www.justice.gov/usao-wdwi/pr/autogenomics-inc-agrees-pay-over-25-million-allegedly-paying-kickbacks.
[2] See Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Florida Businesswoman Pleads Guilty to Criminal Health Care and Tax Fraud Charges and Agrees to $20.3 Million Civil False Claims Act Settlement (Feb. 4, 2021), https://www.justice.gov/opa/pr/florida-businesswoman-pleads-guilty-criminal-health-care-and-tax-fraud-charges-and-agrees-203.
[3] See Press Release, U.S. Atty’s Office for the Eastern Dist. of PA, Lancaster County Pharmacy and Pharmacist Agree to Resolve Civil Allegations of Dispensing Controlled Substances Without a Prescription and Falsely Billing Medicare for $2.9 Million (Feb. 25, 2021), https://www.justice.gov/usao-edpa/pr/lancaster-county-pharmacy-and-pharmacist-agree-resolve-civil-allegations-dispensing.
[4] See Press Release, U.S. Atty’s Office for the Middle Dist. of NC, Bioventus Agrees to Pay More Than $3.6 Million to Resolve False Claims Act Violations (Feb. 25, 2021), https://www.justice.gov/usao-mdnc/pr/bioventus-agrees-pay-more-36-million-resolve-false-claims-act-violations.
[5] See Press Release, U.S. Atty’s Office for the Eastern Dist. of N.C., North Carolina Durable Medical Equipment Corporation Sentenced for $10 Million Healthcare Fraud Scheme, and the Company and Its Owner Agree to Pay Millions to Resolve Related Civil Claims (Mar. 2, 2021), https://www.justice.gov/usao-ednc/pr/north-carolina-durable-medical-equipment-corporation-sentenced-10-million-healthcare.
[6] See Press Release, U.S. Atty’s Office for the Western Dist. of VA, Allergy and Asthma Associates in Roanoke Pleads Guilty to Criminal Charge; Enters into Civil Resolution Over Health Care Fraud Allegations (Mar. 2, 2021), https://www.justice.gov/usao-wdva/pr/allergy-and-asthma-associates-roanoke-pleads-guilty-criminal-charge-enters-civil.
[7] See Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Ohio Treatment Facilities and Corporate Parent Agree to Pay $10.25 Million to Resolve False Claims Act Allegations of Kickbacks to Patients and Unnecessary Admissions (Mar. 5, 2021), https://www.justice.gov/opa/pr/ohio-treatment-facilities-and-corporate-parent-agree-pay-1025-million-resolve-false-claims.
[8] See Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Former Owners of Telemarketing Company Agree to Pay At Least $4 Million to Resolve False Claims Act Allegations (Mar. 16, 2021), https://www.justice.gov/opa/pr/former-owners-telemarketing-company-agree-pay-least-4-million-resolve-false-claims-act.
[9] See Press Release, U.S. Atty’s Office for the Eastern Dist. of MI, Cardiologist Dinesh Shah Pays $2 Million to Resolve False Claims Act Allegations Relating to Excessive Testing (Mar. 18, 2021), https://www.justice.gov/usao-edmi/pr/cardiologist-dinesh-shah-pays-2-million-resolve-false-claims-act-allegations-relating.
[10] See Press Release, U.S. Atty’s Office for the Western Dist. of NC, Owner of Defunct Urine Drug Testing Laboratory Agrees to Pay Over $2 Million to Resolve Allegations of Participation in Kickback Schemes (Mar. 26, 2021), https://www.justice.gov/usao-wdnc/pr/owner-defunct-urine-drug-testing-laboratory-agrees-pay-over-2-million-resolve; Press Release, U.S. Atty’s Office for the Western Dist. of NC, Court Enters $4.5 Million Judgment Against Owner of Defunct Urine Drug Testing Laboratory Resolving Allegations of Participation in Kickback Schemes (Mar. 30, 2021), https://www.justice.gov/usao-wdnc/pr/court-enters-45-million-judgment-against-owner-defunct-urine-drug-testing-laboratory.
[11] See Press Release, U.S. Atty’s Office for the Eastern Dist. of PA, Bristol-Myers Squibb to Pay $75 Million to Resolve False Claims Act Allegations of Underpayment of Drug Rebates Owed Through Medicaid (Apr. 1, 2021), https://www.justice.gov/usao-edpa/pr/bristol-myers-squibb-pay-75-million-resolve-false-claims-act-allegations-underpayment.
[12] See Press Release, U.S. Atty’s Office for the Dist. of SC, South Carolina’s Largest Urgent Care Provider and its Management Company to Pay $22.5 Million to Settle False Claims Act Allegations (Apr. 8, 2021), https://www.justice.gov/usao-sc/pr/south-carolina-s-largest-urgent-care-provider-and-its-management-company-pay-225-million.
[13] See Press Release, U.S. Atty’s Office for the Dist. of MA, Massachusetts Eye and Ear Agrees to Pay $2.6 Million to Resolve False Claims Act Allegations (Apr. 20, 2021), https://www.justice.gov/usao-ma/pr/massachusetts-eye-and-ear-agrees-pay-26-million-resolve-false-claims-act-allegations.
[14] See Press Release, U.S. Atty’s Office for Middle Dist. of TN, Comprehensive Pain Specialists And Former Owners Agree To Pay $4.1 Million To Settle Fraud Allegations (Apr. 21, 2021), https://www.justice.gov/usao-mdtn/pr/comprehensive-pain-specialists-and-former-owners-agree-pay-41-million-settle-fraud.
[15] See Press Release, U.S. Atty’s Office for the Southern Dist. of FL, Miami-Based CareCloud Health, Inc. Agrees to Pay $3.8 Million to Resolve Allegations that it Paid Illegal Kickbacks (Apr. 30, 2021), https://www.justice.gov/usao-sdfl/pr/miami-based-carecloud-health-inc-agrees-pay-38-million-resolve-allegations-it-paid.
[16] See Press Release, U.S. Atty’s Office for the Dist. of SD, Neurosurgeon and Two Affiliated Companies Agree to Pay $4.4 Million to Settle Healthcare Fraud Allegations (May 3, 2021), https://www.justice.gov/usao-sd/pr/neurosurgeon-and-two-affiliated-companies-agree-pay-44-million-settle-healthcare-fraud; Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Neurosurgeon and Two Affiliated Companies Agree to Pay $4.4 Million to Settle Healthcare Fraud Allegations (May 3, 2021), https://www.justice.gov/opa/pr/neurosurgeon-and-two-affiliated-companies-agree-pay-44-million-settle-health-care-fraud.
[17] See Press Release, U.S. Atty’s Office for the Eastern Dist. of PA, Pharmaceutical Manufacturer Agrees to Pay $12.6 Million to Resolve Allegations it Provided Kickbacks Through Donations to a Third-Party Charity (May 4, 2021), https://www.justice.gov/usao-edpa/pr/pharmaceutical-manufacturer-agrees-pay-126-million-resolve-allegations-it-provided; Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Incyte Corporation to Pay $12.6 Million to Resolve False Claims Act Allegations for Paying Kickbacks (May 4, 2021), https://www.justice.gov/opa/pr/incyte-corporation-pay-126-million-resolve-false-claims-act-allegations-paying-kickbacks.
[18] See Press Release, U.S. Atty’s Office for the Dist. of AZ, Neurosurgical Associates, LTD and Dignity Health, D/B/A St. Joseph’s Hospital, Paid $10 Million to Resolve False Claims Allegations (May 5, 2021), https://www.justice.gov/usao-az/pr/neurosurgical-associates-ltd-and-dignity-health-dba-st-josephs-hospital-paid-10-million.
[19] See Press Release, U.S. Atty’s Office for the Southern Dist. of FL, University of Miami to Pay $22 Million to Settle Claims Involving Medically Unnecessary Laboratory Tests and Fraudulent Billing Practices (May 10, 2021), https://www.justice.gov/usao-sdfl/pr/university-miami-pay-22-million-settle-claims-involving-medically-unnecessary; Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, University of Miami to Pay $22 Million to Settle Claims Involving Medically Unnecessary Laboratory Tests and Fraudulent Billing Practices (May 10, 2021), https://www.justice.gov/opa/pr/university-miami-pay-22-million-settle-claims-involving-medically-unnecessary-laboratory; Office of Inspector Gen. of Dep’t of Health and Hum. Servs., Corporate Integrity Agreement Between the Office of Inspector General of the Department of Health and Human Services and University of Miami (2021), https://oig.hhs.gov/fraud/cia/agreements/University_of_Miami_05072021.pdf.
[20] See Press Release, U.S. Atty’s Office for the Northern Dist. of GA, AlixaRx LLC Agrees to Pay $2.75 Million to Resolve Allegations that it Improperly Dispensed Controlled Substances at Long-Term Care Facilities (May 11, 2021), https://www.justice.gov/usao-ndga/pr/alixarx-llc-agrees-pay-275-million-resolve-allegations-it-improperly-dispensed.
[21] See Press Release, U.S. Atty’s Office for the Northern Dist. of TX, Dentists to Pay $3.1 Million to Resolve Allegations They Submitted False Claims for Services Not Provided to Underprivileged Children (May 14, 2021), https://www.justice.gov/usao-ndtx/pr/dentists-pay-31-million-resolve-allegations-they-submitted-false-claims-services-not.
[22] See Press Release, U.S. Atty’s Office for the Eastern Dist. of PA, French Medical Device Manufacturer to Pay $2 Million to Resolve Alleged Kickbacks to Physicians and Related Medicare Open Payments Program Violations (May 19, 2021), https://www.justice.gov/usao-edpa/pr/french-medical-device-manufacturer-pay-2-million-resolve-alleged-kickbacks-physicians.
[23] See Press Release, U.S. Atty’s Office for the Eastern Dist. of PA, Atlanta-Based National Chain of Skilled Nursing Facilities to Pay $11.2 Million to Resolve Allegations of Providing Substandard Care, Medically Unnecessary Therapy Services (May 21, 2021), https://www.justice.gov/usao-edpa/pr/atlanta-based-national-chain-skilled-nursing-facilities-pay-112-million-resolve.
[24] See Press Release, U.S. Atty’s Office for the Western Dist. of NY, Upper Allegheny Health System To Pay $2.7 Million To Settle False Claims Act Allegations (May 25, 2021), https://www.justice.gov/usao-wdny/pr/upper-allegheny-health-system-pay-27-million-settle-false-claims-act-allegations.
[25] See Press Release, U.S. Atty’s Office for the Southern Dist. of TX, Wrongful Billing Results in $2.6M Settlement and 10-Year Exclusion from Federal Health Care Programs (June 8, 2021), https://www.justice.gov/usao-sdtx/pr/wrongful-billing-results-26m-settlement-and-10-year-exclusion-federal-health-care.
[26] See Press Release, U.S. Atty’s Office for the Middle Dist. of FL, Surgical Care Affiliates And Orlando Surgery Center Agree To Pay $3.4 Million To Settle False Claims Act Liability (June 28, 2021), https://www.justice.gov/usao-mdfl/pr/surgical-care-affiliates-and-orlando-surgery-center-agree-pay-34-million-settle-false.
[27] See Press Release, U.S. Atty’s Office for the Dist. of CT, Connecticut Electrical Contractor Agrees to Pay $3.2 Million to Resolve Criminal and Civil Investigation (Jan. 8, 2021), https://www.justice.gov/usao-ct/pr/connecticut-electrical-contractor-agrees-pay-32-million-resolve-criminal-and-civil.
[28] See Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Insitu Inc. to Pay $25 Million to Settle False Claims Act Case Alleging Knowing Overcharges on Unmanned Aerial Vehicle Contracts (Jan. 12, 2021), https://www.justice.gov/opa/pr/insitu-inc-pay-25-million-settle-false-claims-act-case-alleging-knowing-overcharges-unmanned.
[29] See Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Concrete Contractor Agrees to Settle False Claims Act Allegations for $3.9 Million (Feb. 17, 2021), https://www.justice.gov/opa/pr/concrete-contractor-agrees-settle-false-claims-act-allegations-39-million.
[30] See Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Federal Contractor Agrees to Pay More Than $6 Million to Settle Overbilling Allegations (Feb. 19, 2021), https://www.justice.gov/opa/pr/federal-contractor-agrees-pay-more-6-million-settle-overbilling-allegations.
[31] See Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, United Airlines to Pay $49 Million to Resolve Criminal Fraud Charges and Civil Claims (Feb. 26, 2021), https://www.justice.gov/opa/pr/united-airlines-pay-49-million-resolve-criminal-fraud-charges-and-civil-claims.
[32] See Press Release, U.S. Atty’s Office for the Eastern Dist. of PA, SAP Public Services, Inc. to Pay $2.2 Million to Settle False Claims Act Allegations (Mar. 1, 2021), https://www.justice.gov/usao-edpa/pr/sap-public-services-inc-pay-22-million-settle-false-claims-act-allegations.
[33] See Press Release, U.S. Atty’s Office for D.C., The International Rescue Committee (“IRC”) Agrees to Pay $6.9 Million to Settle Allegations That It Performed Procurement Fraud by Engaging in Collusive Behavior and Misconduct on Programs Funded by the U.S. Agency for International Development (Mar. 19, 2021), https://www.justice.gov/usao-dc/pr/international-rescue-committee-irc-agrees-pay-69-million-settle-allegations-it-performed.
[34] See Press Release, U.S. Atty’s Office for Southern Dist. of CA, Tungsten Heavy Powder of San Diego Agrees to Pay $5.6 Million to Settle False Claims Act Allegations (Apr. 29, 2021), https://www.justice.gov/usao-sdca/pr/tungsten-heavy-powder-san-diego-agrees-pay-56-million-settle-false-claims-act.
[35] See Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Navistar Defense Agrees to Pay $50 Million to Resolve False Claims Act Allegations Involving Submission of Fraudulent Sales Histories (May 27, 2021), https://www.justice.gov/opa/pr/navistar-defense-agrees-pay-50-million-resolve-false-claims-act-allegations-involving.
[36] See Press Release, U.S. Atty’s Office for Eastern WA, CH2M Hill Plateau Remediation Company Agrees to Pay More than $3 Million to Settle Hanford Subcontract Small Business Fraud Allegations (June 3, 2021), https://www.justice.gov/usao-edwa/pr/ch2m-hill-plateau-remediation-company-agrees-pay-more-3-million-settle-hanford.
[37] See Press Release, U.S. Atty’s Office for NJ, Avis Budget Group to Pay $10.1 Million to Settle False Claims Act Allegations for Overcharging United States on Rental Vehicles (June 10, 2021), https://www.justice.gov/usao-nj/pr/avis-budget-group-pay-101-million-settle-false-claims-act-allegations-overcharging-united.
[38] See Press Release, U.S. Atty’s Office for the Eastern Dist. of VA, Level 3 Communications, LLC Agrees to Pay Over $12.7 Million to Settle Civil False Claims Act Allegations (June 25, 2021), https://www.justice.gov/usao-edva/pr/level-3-communications-llc-agrees-pay-over-127-million-settle-civil-false-claims-act.
[39] See Press Release, U.S. Atty’s Office for the Eastern Dist. of VA, Armed Forces Services Corporation Pays $4.3 Million to Resolve Anti-Kickback Act and False Claims Act Allegations (June 30, 2021), https://www.justice.gov/usao-edva/pr/armed-forces-services-corporation-pays-43-million-resolve-anti-kickback-act-and-false.
[40] Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Acting Assistant Attorney General Brian M. Boynton Delivers Remarks at the Federal Bar Association Qui Tam Conference (Feb. 17, 2021), https://www.justice.gov/opa/speech/acting-assistant-attorney-general-brian-m-boynton-delivers-remarks-federal-bar [hereinafter, “Boynton Speech”].
[43] See Press Release, U.S. Atty’s Office for the Eastern Dist. of CA., Eastern District of California Obtains Nation’s First Civil Settlement for Fraud on Cares Act Paycheck Protection Program (Jan. 12, 2021), https://www.justice.gov/usao-edca/pr/eastern-district-california-obtains-nation-s-first-civil-settlement-fraud-cares-act.
[44] Press Release, Office of Pub. Affairs, U.S. Dep’t of Justice, Justice Department Takes Action Against COVID-19 Fraud: Historic level of enforcement action during national health emergency continues (Mar. 26, 2021), https://www.justice.gov/opa/pr/justice-department-takes-action-against-covid-19-fraud.
[45] Boynton Speech, supra note 41.
[47] U.S. Dep’t of Justice, Memorandum from Michael D. Granston, Director, Commercial Litigation Branch, Fraud Section (Jan. 10, 2018), https://drive.google.com/file/d/1PjNaQyopCs_KDWy8RL0QPAEIPTnv31ph/view.
[50] Ltr. from Sen. Chuck Grassley to Hon. Merrick B. Garland (Feb. 24, 2021), https://g7x5y3i9.rocketcdn.me/wp-content/uploads/2021/03/2021-02-24-CEG-to-DOJAG-Nominee-Garland-regarding-FCA.pdf [hereinafter, “Grassley Letter”].
[53] Department of Justice, Office of the Associate Attorney General Rachel Brand, Memorandum for Heads of Civil Litigating Components and United States Attorneys: Limiting Use of Agency Guidance Documents In Affirmative Civil Enforcement Cases (Jan. 25, 2018), available at https://www.justice.gov/file/1028756/download.
[57] Department of Justice, Justice Manual § 1-20.000, available at https://www.justice.gov/jm/1-20000-limitation-use-guidance-documents-litigation.
[58] Executive Order 13992, 86 Fed. Reg. 7049 (Jan. 20, 2021) (“Revocation of Certain Executive Orders Concerning Federal Regulation”).
[59] Executive Order 13981, 84 Fed. Reg. 55235 (Oct. 9, 2019) (“Promoting the Rule of Law Through Improved Agency Guidance Documents”).
[61] HHS-OIG, State False Claims Act Reviews, https://oig.hhs.gov/fraud/state-false-claims-act-reviews/.
[64] Id.; see also Ltr. from Christi A. Grimm, Principal Deputy Inspector General, to Hon. Keith Ellison, Attorney General of Minnesota (May 27, 2021), https://oig.hhs.gov/documents/false-claims-act/369/Minnesota_False_Claims_Act_Letter_05272021.pdf.
[65] State False Claims Act Reviews, supra note 62.
[66] See Montana S.B. No. 345, https://legiscan.com/MT/bill/SB345/2021.
[68] Arkansas H.B. 1623, https://legiscan.com/AR/text/HB1623/2021.
[69] California Assembly Bill No. 310, https://leginfo.legislature.ca.gov/faces/billTextClient.xhtml?bill_id=202120220AB310.
The following Gibson Dunn lawyers assisted in the preparation of this alert: Jonathan Phillips, Winston Chan, Nicola Hanna, John Partridge, James Zelenay, Sean Twomey, Reid Rector, Allison Chapin, Maya Nuland, Michael Dziuban, and Eva Michaels.
Gibson Dunn lawyers regularly counsel clients on the False Claims Act issues. Please feel free to contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following members of the firm’s False Claims Act/Qui Tam Defense Group:
False Claims Act/Qui Tam Defense Group Leaders:
Winston Y. Chan – San Francisco (+1 415-393-8362, wchan@gibsondunn.com)
Jonathan M. Phillips – Washington, D.C. (+1 202-887-3546, jphillips@gibsondunn.com)
Please also feel free to contact any of the following practice members:
Washington, D.C.
Jonathan M. Phillips (+1 202-887-3546, jphillips@gibsondunn.com),
F. Joseph Warin (+1 202-887-3609, fwarin@gibsondunn.com)
Joseph D. West (+1 202-955-8658, jwest@gibsondunn.com)
Robert K. Hur (+1 202-887-3674, rhur@gibsondunn.com)
Geoffrey M. Sigler (+1 202-887-3752, gsigler@gibsondunn.com)
New York
Reed Brodsky (+1 212-351-5334, rbrodsky@gibsondunn.com)
Mylan Denerstein (+1 212-351-3850, mdenerstein@gibsondunn.com)
Alexander H. Southwell (+1 212-351-3981, asouthwell@gibsondunn.com)
Casey Kyung-Se Lee (+1 212-351-2419, clee@gibsondunn.com)
Denver
Robert C. Blume (+1 303-298-5758, rblume@gibsondunn.com)
Monica K. Loseman (+1 303-298-5784, mloseman@gibsondunn.com)
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Ryan T. Bergsieker (+1 303-298-5774, rbergsieker@gibsondunn.com)
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Robert C. Walters (+1 214-698-3114, rwalters@gibsondunn.com)
Andrew LeGrand (+1 214-698-3405, alegrand@gibsondunn.com)
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Nicola T. Hanna (+1 213-229-7269, nhanna@gibsondunn.com)
Timothy J. Hatch (+1 213-229-7368, thatch@gibsondunn.com)
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James L. Zelenay Jr. (+1 213-229-7449, jzelenay@gibsondunn.com)
Palo Alto
Benjamin Wagner (+1 650-849-5395, bwagner@gibsondunn.com)
San Francisco
Winston Y. Chan (+1 415-393-8362, wchan@gibsondunn.com)
Charles J. Stevens (+1 415-393-8391, cstevens@gibsondunn.com)
© 2021 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
One of the most common provisions in an acquisition agreement is the “effect of termination” provision. As its name implies, the provision expresses the agreement of the parties regarding what, if any, liability each party will have to the other after the agreement is terminated. It is common for the provision to state that, if the agreement is terminated, neither party will have any liability to the other except with respect to certain other provisions of the agreement, such as the confidentiality, governing law, interpretive and other boilerplate provisions, that are necessary to maintain the confidentiality of each party’s information after the agreement is terminated and to maintain the governing terms of the agreement in the event of a post-termination contractual dispute or a dispute regarding the validity of the termination itself. It is also common for the effect of termination provision to include a carve-out stating that termination of the agreement will not relieve the parties from certain pre-termination breaches of the agreement.
The scope of the pre-termination breaches subject to the carve-out typically is, and should be, scrutinized in transactions in which there is significant risk of the deal being terminated, such as due to a failure to receive regulatory approval or a debt financing failure. For example, in transactions in which the buyer is a financial sponsor and is relying on the availability of debt financing to pay the purchase price, the seller typically wants to ensure that, if the buyer fails to close the acquisition when required by the agreement, it has the ability to (i) keep the agreement in place and seek specific performance of the agreement to force the buyer to close, which may be limited to circumstances in which the buyer’s debt financing is available (i.e., a synthetic debt financing condition), or (ii) terminate the agreement and recover damages, often in the form of a reverse termination fee, from the buyer. The effect of termination provision should not purport to foreclose recovery of the reverse termination fee, which in some transactions serves as liquidated damages and a cap on the buyer’s liability for pre-termination breaches. In other transactions, the effect of termination provision may also permit the seller to recover damages beyond or irrespective of a reverse termination fee, frequently limited to circumstances in which there was an “intentional” or “willful” pre-termination breach by the buyer of its obligations.
In an increasingly competitive M&A market, it has become more common for buyers to agree to bear regulatory approval risk and for financial buyers to agree to backstop payment of the entire purchase price with equity in lieu of the synthetic debt financing condition or reverse termination fee construct described above. In these contexts, continued and careful consideration of a buyer’s liability for pre-termination breaches of a purchase agreement is critical. The scope of liability for pre-termination breaches also deserves attention in light of the now widespread use of representation and warranty insurance and transaction structures in which sellers may not expect any liability for breaches of representations and warranties, absent fraud.
The following is a summary of issues for buyers and sellers to consider when negotiating these issues in light of current and evolving M&A market dynamics.
Defining the Appropriate Pre-Termination Breach Standard
Although it is common for the effect of termination provision to include a carve-out stating that termination of the agreement will not relieve the parties from pre-termination breaches of the agreement, the relevant standard for defining the scope of those pre-termination breaches is often inconsistent in practice. Some agreements define the standard as any pre-termination breach that is “intentional and willful,” “knowing and intentional,” “intentional,” “willful and material,” or “willful.” Sometimes these terms are defined, sometimes not. Sometimes the standard distinguishes breaches of covenants, on the one hand, from breaches of representations and warranties, on the other hand, and sometimes it does not. Finally, some agreements do not contain a specific standard and provide that “any” pre-termination breach is carved-out from the effect of termination provision.
This lack of uniformity, coupled with contending interpretations after a broken transaction, can lead to unpredictable or undesirable outcomes. For example, in Hexion Specialty Chemicals, Inc. v. Huntsman Corp., 965 A.2d 715 (Del. Ch. 2008), the Delaware Court of Chancery interpreted a “knowing and intentional” breach of a merger agreement as a deliberate act that in and of itself is a breach of the agreement “even if breaching was not the conscious object of the act.” This could lead to an undesirable outcome for buyers, who are wary of unintentionally breaching their obligations to obtain regulatory approvals or debt financing that can be ripe for second-guessing in the context of a broken transaction. They should consider defining the standard to include only an action taken with the actual knowledge that the action would result in a breach of the agreement.
Sellers, on the other hand, should consider defining the standard to include specifically the failure of the buyer to close the transaction when required by the agreement or, if the transaction involves a reverse termination fee that does not serve as liquidated damages, the failure of the buyer to close the transaction if the debt financing is available. In transactions with a financial buyer, the importance of this issue and the relevant standard may be overlooked if there is a last minute change to a full equity backstop structure in lieu of a traditional reverse termination fee structure.
Distinguishing Breaches of Covenants from Breaches of Representations and Warranties
As stated earlier, effect of termination provisions often do not distinguish between liability for pre-termination breaches of covenants and breaches of representations and warranties. But if the parties have negotiated a “willful” breach or similar standard to define the scope of their liability for pre-termination breaches, what does it mean to “willfully” breach a representation and warranty? As the Delaware court did in Hexion, some may interpret the term “willful” to imply a deliberate action, which may better describe a breach of a covenant, rather than a breach of a representation or warranty. As a result, the parties should consider distinguishing breaches of covenants from breaches of representations and warranties when formulating the appropriate standard.
Aligning Expectations in Transactions with Representation and Warranty Insurance
In addition, in transactions involving representation and warranty insurance, it has become increasingly common for sellers to expect no liability for breaches of their representations and warranties in the purchase agreement, absent fraud. That expectation drives the parties to scrutinize the survival or non-survival of the representations and warranties if the transaction closes, but the parties may overlook the effect of termination provision, which would apply in a broken transaction. A seller who expects no liability for breaches of representations and warranties may insist that the effect of termination carve-out not only distinguish breaches of covenants from breaches of representations and warranties, but also provide that liability for pre-termination breaches of representations and warranties will be limited to only instances of fraud.
In summary, although the effect of termination provision may often be considered akin to boilerplate provisions in a contract, astute dealmakers should focus on the carve-outs and ensure that they best serve their client’s interests under the particular circumstances of the transaction.
Gibson Dunn’s lawyers are available to assist with any questions you may have regarding these issues. For further information, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Mergers and Acquisitions or Private Equity practice groups, or the authors:
Robert B. Little – Dallas (+1 214-698-3260, rlittle@gibsondunn.com)
Joseph A. Orien – Dallas (+1 214-698-3310, jorien@gibsondunn.com)
Please also feel free to contact the following practice group leaders:
Mergers and Acquisitions Group:
Eduardo Gallardo – New York (+1 212.351.3847, egallardo@gibsondunn.com)
Robert B. Little – Dallas (+1 214-698-3260, rlittle@gibsondunn.com)
Saee Muzumdar – New York (+1 212.351.3966, smuzumdar@gibsondunn.com)
Private Equity Group:
Richard J. Birns – New York (+1 212-351-4032, rbirns@gibsondunn.com)
Scott Jalowayski – Hong Kong (+852 2214 3727, sjalowayski@gibsondunn.com)
Ari Lanin – Los Angeles (+1 310-552-8581, alanin@gibsondunn.com)
© 2021 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
The change in presidential administration has not detoured the institutional momentum of the use of non-prosecution agreements (“NPAs”) and deferred prosecution agreements (“DPAs”) in the first half of 2021.[1] Eighteen agreements have been executed to date, which is in line with recent mid-year marks.
In this client alert, the 24th in our series on NPAs and DPAs, we:
- report key statistics regarding NPAs and DPAs from 2000 through the present;
- consider the effect of the COVID-19 pandemic on NPAs and DPAs;
- analyze the effect of the Department of Justice’s (“DOJ’s”) 2020 corporate compliance program guidelines;
- survey the latest developments in corporate whistleblower programs;
- discuss notable DPA conclusions;
- outline key legislative developments;
- summarize 2021’s publicly available corporate NPAs and DPAs; and finally
- outline some key international developments affecting NPAs and DPAs.
One fundamental trend is clear: The NPA/DPA vehicles are being utilized by a broad swath of DOJ and U.S. Attorneys’ Offices. This underscores the broad acceptance of these agreements as a path to resolve complicated fact patterns.
Chart 1 below shows all known corporate NPAs and DPAs from 2000 through 2021 to date. Despite the COVID-19 pandemic, 2020 saw a total of 38 corporate DPAs and NPAs—reflecting an uptick from each of 2018 and 2019, and the highest number on record in a single year since 2016. Often on the eve of a DOJ administration change, agreements are entered because organizations fear the deal terms might change. Although 2021 to date lags slightly behind 2020 in terms of the number of agreements as of the mid-year mark, 2021 is on pace to be another active year in this space.
Chart 2 reflects total monetary recoveries related to NPAs and DPAs from 2000 through 2021 to date. The $9.4 billion in total monetary recoveries related to NPAs and DPAs in 2020 was the highest annual amount in history. At approximately $3.4 billion, recoveries associated with NPAs and DPAs thus far in 2021 slightly lag behind the amount recovered at this time in both 2020 (~$5.6 billion) and 2019 (~$4.7 billion) though the numbers are in line with the average recovery at the midpoint over the last 10 years. Total recoveries so far in 2021 are still more than 50 percent (57%) of the full annual average recoveries of approximately $5.9 billion in the last decade. Depending on developments in the second half of this year, total recoveries for 2021 could show a return to more typical levels, rather than a continuation of the increases in recent years.
Fifteen of the 18 agreements thus far in 2021 have been DPAs, reflecting a continuation of the trend toward DPAs as illustrated in Chart 3 below and discussed in both our 2020 Mid-Year Update and 2020 Year-End Update. Although the trend toward DPAs could signal a shift toward requiring self-disclosure to achieve an NPA, this year’s NPAs highlight the importance of fact-specific circumstances and mitigating factors: self-disclosure alone is not dispositive.
Only three companies have received NPAs to date in 2021: SAP SE (“SAP”), Avnet Asia Pte. Ltd. (“Avnet Asia”), and United Airlines, Inc. (“United”). Of the three, only SAP received voluntary self-disclosure credit. Notably, two of the three NPAs, involving SAP and Avnet Asia, involved DOJ’s National Security Division (“NSD”), which introduced a new voluntary disclosure policy in late 2019 that provides for a presumption toward NPAs for participating companies. Although Avnet Asia did not receive voluntary self-disclosure credit, the language of the NPA suggests that it may have made a self-disclosure to DOJ after prosecutors initiated their own investigation.
A second emerging trend in 2021 that appears to be consistent with 2020 is a steep decline in compliance monitors. Only one of the 18 agreements to date, the DPA with State Street Corporation (“State Street”), imposes an independent corporate monitor. Similarly, in 2020, only 2 out of 38 resolutions imposed an independent monitor or independent auditor. In contrast, in 2019, 7 out of 31 resolutions imposed some form of an independent compliance monitor.
Time will tell whether, under the Biden Justice Department, these trends will continue to hold true for the remainder of the year and beyond.
Key Developments in 2021 to Date
Enforcement in the Year of COVID-19 and Beyond
As the legal world progresses toward normalcy after an unprecedented 18 months, the mid-year mark of 2021 provides an opportunity to look back at how the COVID-19 pandemic has affected government enforcement efforts, and whether the unique legal risks facing companies managing COVID-19 will be reflected in enforcement activity going forward.
Although a dip in overall enforcement was expected by many at the start of the pandemic, that theory is not supported by the statistics. With the long gestation period of most corporate enforcement cases, the full impact of COVID-19, if any, might not be quantifiable until a later date. Nor does the broader enforcement landscape in 2020 reflect a significant downward trend. First, DOJ’s Civil Frauds Section reported 922 total new matters in 2020, the highest number since the Civil Division began reporting that statistic in 1987, and a 15% increase from 2019.[2] Meanwhile, DOJ Antitrust reported 20 new criminal antitrust matters filed in 2020, which, while a decrease from the 26 new matters filed in 2019, is up from the 18 filed in 2018, and is generally consistent with a 10-year downward trend in criminal antitrust enforcement.[3] If any enforcement arm can be said to have reported a significant dip in enforcement during the pandemic year, it is the SEC, which disclosed 715 new enforcement actions filed in 2020—a 17% decrease from 2019, a 13% decrease from 2018, a 5% decrease from 2017, and the lowest number on record since 2013.[4] However, although new enforcement actions were down, the SEC set a high-water mark for total financial remedies in 2020 of $4.68 billion.[5] Overall statistics from the first half of 2021 are not yet publicly available, but early signs indicate that at least DOJ is continuing its “[h]istoric level of enforcement.”[6]
Still, although the numbers may not reflect an annual dip in enforcement activity, the pandemic at least temporarily disrupted the work of government enforcement arms, as it did for much of the corporate world. For example, in the SEC’s 2020 Annual Report, the then-Enforcement Division Director cited the unique challenges of adapting to telework for the Commission, and stated that “in the early months . . . many of us spent the bulk of our time focused on learning and guiding our staff how to effectively do our job remotely. But we moved past that initial period of uncertainty and ultimately achieved a remarkable level of success, including bringing more than 700 enforcement cases during the fiscal year.”[7]
The more significant effects of the pandemic from an enforcement perspective will be forward looking—namely, how will the unique legal risks created in the last year shift enforcement priorities? As early as May 2020, the SEC had announced a “Coronavirus Steering Committee” to identify and respond to COVID-related legal risks.[8] And DOJ also made it clear that monitoring the use of significant public funds doled out by COVID-19 response programs such as the Paycheck Protection Program and Coronavirus Aid, Relief, and Economic Security Act would be a priority.[9] The then-Principal Deputy Assistant Attorney General said “we will energetically use every enforcement tool available to prevent wrongdoers from exploiting the COVID-19 crisis.”[10]
The results of those priorities are still taking shape. Thus far, DOJ’s publicly disclosed COVID-related enforcement efforts, while significant, have seemingly focused on individual defendants.[11] For example, in a May 2021 announcement by DOJ of charges brought in connection with an alleged nationwide COVID-related fraud scheme, which allegedly resulted in losses exceeding $143 million, all of the 14 defendants charged were individuals.[12] DOJ has yet to reach a public NPA or DPA with any company for criminal fraud related to COVID-19, although, as discussed in our 2020 Year-End Update, DOJ has entered into a pair of DPAs relating to price-gouging consumers of personal protective equipment. In light of DOJ’s interest in prosecuting COVID-19 related fraud cases and the corporate nature of the Paycheck Protection Program, it is likely that the lack of any publicly disclosed corporate resolutions to date reflects the greater complexity and longer timeline involved in investigating and prosecuting corporate cases.
That enforcement agencies are interested in pursuing COVID-related fraud by corporations, as well as individuals, is reflected in the SEC’s enforcement efforts throughout 2020 (described in our 2020 Year-End Securities Enforcement Update). At the very end of 2020, for example, the SEC brought its first settled charges (though not a DPA or NPA) with a company in response to a different COVID-related risk—misleading disclosures about the effects of the pandemic on a company’s financial condition—with The Cheesecake Factory Incorporated, which Gibson Dunn covered in a client alert.[13] More corporate COVID-related resolutions may follow, as investigations commenced in the last year reach their conclusions. We will continue to follow how enforcement involving COVID-related conduct develops.
June 2020 Corporate Compliance Program Guidance in Practice
In June 2020, DOJ updated the Criminal Division’s guidance on the “Evaluation of Corporate Compliance Programs,” a development Gibson Dunn discussed in a prior client alert and in our 2020 Year-End Update. Although DOJ has not commented officially on the guidance since the new administration took office, resolutions from the first half of 2021 may provide a window into how the updated guidance is playing out in practice.
The June 2020 guidance emphasized DOJ’s commitment to fact-specific resolutions by calling for “a reasonable, individualized determination in each case.”[14] That emphasis has made its way into several negotiated terms relating to specific corporate compliance programs so far in 2021, in some instances continuing a trend started in 2020 in the immediate wake of the updated guidance. Although DOJ often uses the same template as a starting point in many of its resolutions to detail the requirements for corporate compliance programs, context-specific requirements are appearing in resolutions.
For example, the Epsilon DPA follows the trend of fact-specific resolutions, adding a category for “Consumer Rights” not found in the compliance program requirements incorporated in other resolutions.[15] In light of DOJ’s allegation that employees at Epsilon sold customer data to clients that were engaging in consumer fraud, the Epsilon DPA requires Epsilon to provide individual customers with processes to both request the individual’s data that Epsilon may sell to clients and to request that Epsilon not sell the individual’s data at all.[16]
By contrast, the SAP NPA alleges that SAP acquired various companies but “made the decision to allow these companies to continue to operate as standalone entities, without being fully integrated into SAP’s more robust export controls and sanctions compliance program,” and despite “[p]re-acquisition due diligence . . . [that] identified that th[e] . . . companies lacked comprehensive export control and sanctions compliance programs, policies, and procedures.”[17] Because of this allegation, and given that M&A due diligence was a focus of the June 2020 guidance, SAP’s NPA requires it to audit newly acquired companies within 60 days of acquisition and inform DOJ about any potential violations.[18] This requirement is much more stringent than DOJ’s 2008 Opinion Release (discussed in our 2008 Mid-Year Update) regarding FCPA diligence in the context of M&A transactions.[19]
Additionally, both of the above agreements contain a provision for the continued monitoring and testing of the corporate compliance programs. The June 2020 guidance emphasizes that companies’ risk assessments should be based on “continuous access to operational data and information across functions,” as opposed to just providing a “snapshot in time.”[20] The Epsilon DPA provides for “periodic reviews and testing” of the company’s compliance policies, while the SAP NPA provides for continued maintenance and enhancement of its internal controls.[21] In line with the previous sections, each of these provisions is fact-specific: Epsilon must review its protection of consumer data; and SAP, its export controls and sanctions compliance programs.[22]
In sum, it appears that the June 2020 guidance from DOJ on corporate compliance programs has had its intended effect: DOJ and U.S. Attorneys’ Offices are, at least in some instances, tailoring the programs for individualized situations, and other foci of the June 2020 guidance are making their way into resolutions. Moving forward, we expect to see more agreements tailored to the individual circumstances of each company, drawing on the principles articulated in the June 2020 guidance.
Developments in Whistleblower Programs
On February 23, 2021, the SEC announced a $9.2 million award to a whistleblower who provided information that led to a successful DPA or NPA with the DOJ.[23] The order redacted information that would identify the type of agreement and fraud.[24] This marks the first SEC whistleblower award based on a DPA or NPA since amendments that expanded eligibility under the Whistleblower Rules[25] to include whistleblowers whose information leads to a DPA or NPA took effect in December 2020.[26] According to the award order, the whistleblower previously provided “significant information” about an ongoing fraud that resulted in DOJ charges.[27] The information facilitated “a large amount of money to be returned to investors harmed by the fraud.”[28]
The SEC whistleblower amendments reflect the recent expansion of whistleblower provisions in other contexts, in particular the anti-money laundering (“AML”) and antitrust areas. We covered two key developments in this regard—the passage of the Anti-Money Laundering Act of 2020, and the passage of the Criminal Antitrust Anti-Retaliation Act of 2020, here and here, respectively. With more avenues for government agencies to issue awards to people who report potential violations, we can expect to see an uptick in enforcement activity in the relevant areas.
DPA Conclusions
The first half of 2021 saw three notable DPA conclusions, with MoneyGram International, Inc. (“MoneyGram”), Standard Chartered Bank (“Standard Chartered”), and Zimmer Biomet (“Zimmer”) each released from very old and frequently extended DPAs entered into in 2012. Both the MoneyGram and Standard Chartered DPAs have been the subject of multiple extensions, as we noted in a prior client alert, and reflect the challenges companies often face even after a resolution is reached. On April 20, 2021, MoneyGram’s monitor certified that the company’s AML compliance program was “reasonably designed and implemented to detect and prevent fraud and money laundering and to comply with the Bank Secrecy Act.”[29] On May 4, 2021, DOJ and MoneyGram jointly filed a status report, stating that the parties were not seeking a further extension of the DPA.[30] The DPA terminated on May 10, 2021.
Standard Chartered reached the end of its monitorship, which was introduced in the 2014 amendment of its DPA, as scheduled in March 2019.[31] In April 2019, however, Standard Chartered agreed to a further amended DPA to resolve additional allegations, described in our 2019 Year-End Update. The 2019 amended DPA did not impose a monitor on Standard Chartered.[32] In May 2021, DOJ acknowledged that Standard Chartered had “complied with its obligations under the 2019 DPA,” and the DPA terminated.[33]
Zimmer’s DPA, which terminated in February 2021, related to pre-acquisition conduct by Biomet, Inc. (“Biomet”).[34] Biomet entered into the 2012 DPA in connection with allegations that it had violated the anti-bribery and accounting provisions of the FCPA.[35] Those allegations related to improper payments Biomet and its subsidiaries made between 2000 and 2008 in China, Argentina, and Brazil.[36] As part of its 2012 DPA, Biomet agreed to be subject to a monitor for 18 months.[37] The monitor was extended, however, after Biomet discovered additional potentially improper activities in Mexico and Brazil. In 2017, Zimmer entered into a new DPA with the DOJ relating to alleged violations of the FCPA’s internal controls provisions, under which it acknowledged that Biomet had failed to comply with the terms of the 2012 DPA.[38] As part of the 2017 DPA, Zimmer agreed to appoint a monitor for three years.[39] That monitorship concluded in August 2020, and its conclusion was followed by the termination of the DPA in February 2021.
Legislative Developments
In January, Congressman Gary Palmer of Alabama introduced the Settlement Agreement Information Database Act of 2021.[40] If passed, the Act would require Executive agencies to submit any information regarding settlement agreements to a public database.[41] The bill defines a “settlement agreement” broadly¾it includes any agreement, including a consent decree that (1) “is entered into by an Executive agency,” and (2) “relates to an alleged violation of Federal civil or criminal law.”[42] The submission must include the specific violations that provide the basis for the action, the settlement amount and classification as a civil penalty or criminal fine, a description of any data or methodology used to justify the agreement’s terms, the length of the agreement, and other identifying factors.[43] An agency is exempt from filing a submission if the agreement is subject to a confidentiality provision or if the information could be withheld under the Freedom of Information Act (“FOIA”).[44] The bill passed the House on January 5, 2021 and was referred to the Senate Committee on Homeland Security and Governmental Affairs.[45] The bill echoes a reporting requirement imposed on DOJ via a provision in the National Defense Authorization Act, whereby DOJ is now required to report to Congress annually on DPAs and NPAs concerning the Bank Secrecy Act.[46] We covered that development in more detail in our Year-End 2020 Update.
Congressman Palmer introduced the new bill after DOJ did not respond to an April 2020 FOIA request and subsequent administrative appeal in September 2020.[47] The FOIA request, which Professor Jon Ashley of the University of Virginia School of Law made to DOJ, sought all DPAs and NPAs entered into by the government since 2009 for the law school’s Corporate Prosecution Registry.[48] The registry houses more than 3,500 agreements, but Professor Ashley and some members of Congress believe that more agreements exist that have not been disclosed.[49] The bill follows Congressman Jamie Raskin’s August 2020 request to DOJ that it release a full list of all NPAs and DPAs since 2009—a call that has gone unanswered to date.[50] Although some observers believe that DOJ already has its own centralized “database” of agreements that could all be disclosed at once, in reality, the varying requirements for Main Justice involvement in and approval of different types of investigations and prosecutions[51] could mean that non-public agreements have been entered into by U.S. Attorneys’ Offices, for example, without being formally reported to DOJ. Gibson Dunn does not believe that a master database exists. To our knowledge, there is no regulatory or policy obligation for the various DOJ units, including the U.S. Attorneys’ Offices, to report these resolutions.
2021 Agreements to Date
Amec Foster Wheeler Energy Limited (DPA)
On June 24, 2021, Amec Foster Wheeler Energy Limited (“AFWEL”) entered into a three-year DPA with the Fraud Section and the U.S. Attorney’s Office for the Eastern District of New York.[52] The DPA stated that AFWEL engaged in a conspiracy to violate the anti-bribery provision of the FCPA in connection with the use of a third-party sales agent in Brazil.[53] The DPA imposed a penalty of approximately $18.4 million, which will be offset by amounts to be paid to UK and Brazilian authorities pursuant to parallel resolutions.[54]
The DPA granted AFWEL full cooperation credit and did not impose a monitor.[55] Under the terms of the agreement, AFWEL must report annually to DOJ on its compliance program.[56] The AFWEL DPA is one of two FCPA-related DPAs announced during the first half of this year. The other resolution involved Deutsche Bank AG (see below). Both companies were represented by Gibson Dunn.
Argos USA LLC (DPA)
On January 4, 2021, Argos USA LLC (“Argos”), a Georgia-based producer and supplier of ready-mix concrete, entered into a three-year DPA with the DOJ Antitrust Division for participation in a conspiracy to fix prices, rig bids, and allocate markets in and around the Southern District of Georgia.[57] The sole count against Argos alleged that employees of Argos and other ready-mix concrete companies coordinated and issued price-increase letters to customers, allocated jobs in coastal-Georgia, charged fuel surcharges and environmental fees, and submitted non-competitive bids to customers in a conspiracy lasting from 2010 until July 2016.[58]
According to the DPA, Argos, through its employees, conspired with others in violation of the Sherman Act, 15 U.S.C. § 1 from around October 2011 to July 2016, after they acquired the assets of a concrete supplier in Southern Georgia and in doing so employed two individuals also charged in the conspiracy.[59] Argos agreed to pay more than $20 million in a criminal penalty.[60] As part of the DPA, Argos also has agreed to cooperate in the Division’s ongoing criminal investigation and prosecution of others involved in the conspiracy.[61] The company has implemented and agreed to maintain a compliance and ethics program designed to prevent and detect antitrust violations, submit annual reports to the Division regarding remediation and implementation of its program, and to periodically review its compliance program and make adjustments as needed.[62]
Argos was the second company to be charged in this investigation, following Evans Concrete, LLC.[63] An indictment was also returned for the former Argos employees and two other individuals.[64]
Avanos Medical, Inc. (DPA)
On July 6, 2021, Avanos Medical, Inc. (“Avanos”) entered into a three-year DPA with the Fraud Section of DOJ’s Criminal Division, the Consumer Protection Branch (“CPB”) of DOJ’s Civil Division, and the U.S. Attorney’s Office for the Northern District of Texas.[65] The DPA resolved allegations that Avanos violated the Food, Drug, and Cosmetic Act (“FDCA”) by fraudulently misbranding surgical gowns.[66] In particular, the government alleged that Avanos’s labeling and branding of the gowns as compliant with a 2012 version of an AAMI standard for barrier protection was false and misleading.[67]
The DPA granted Avanos full cooperation credit and noted the company’s “extensive remedial measures,” including changes to its manufacturing process, devotion of additional resources to its compliance function, creation of “a stand-alone Compliance Committee of the Board of Directors,” and appointment of a full-time Chief Ethics and Compliance Officer “who reports directly to the CEO.”[68] The DPA also recognized Avanos’s spinoff of its surgical gown business in 2018, and cited that development as one of the reasons for which DOJ “determined that an independent compliance monitor was unnecessary.”[69] Avanos did not receive voluntary disclosure credit.[70]
Under the DPA, Avanos will pay a total of $22,228,000, comprised of $12.6 million in fines, $8,939,000 in compensation to purchasers of the gowns who “were directly and proximately harmed” by the company’s alleged conduct, and $689,000 in disgorgement.[71] The compensation to purchasers will be administered by a Victim Compensation Claims Administrator selected from a list of three candidates to be proposed by Avanos.[72]
Avnet Asia Pte. Ltd. (NPA)
On January 21, 2021, Avnet Asia Pte. Ltd. (“Avnet”), a Singapore distributor of electronic components and software, entered into a two-year NPA with the U.S. Attorney’s Office for the District of Columbia and DOJ NSD to resolve allegations related to alleged criminal conspiracies carried out by former employees.[73] Specifically, Avnet admitted in the NPA that two former employees (including a separately indicted sales account manager) engaged in two distinct conspiracies—one between 2007 and 2009, the other between 2012 and 2015—to violate U.S. export laws by shipping U.S. power amplifiers to Iran and China.[74] In the NPA, Avnet accepted responsibility for the acts of its employees and further admitted that neither the company nor any of its employees had applied for an export license from U.S. authorities.[75]
As part of the NPA, Avnet agreed to pay a $1.5 million financial penalty, to continue cooperating with any investigations concerning the underlying conduct, to provide all unprivileged documents pertaining to relevant investigations, and to make current and former employees available for interviews and testimony.[76] Avnet further agreed to implement a compliance program aimed at detecting and preventing violations of U.S. export laws and economic sanctions, and to provide updates on its compliance with such laws and sanctions on two occasions during the NPA’s term (at 10 and 20 months after the NPA’s execution).[77]
DOJ credited Avnet for its cooperation during the investigation (including disclosing the results of internal investigations and producing relevant documents) and for its significant remediation efforts (including substantial improvements to its export compliance program).[78] Avnet did not receive voluntary disclosure credit because it did not disclose the underlying misconduct prior to the commencement of the government’s investigation.[79] Relatedly, the U.S. Department of Commerce announced on January 29, 2021 that Avnet had agreed to pay an additional $1.7 million as part of a $3.2 million resolution of violations of the Export Administration Regulations.[80]
Bank Julius Baer & Co. Ltd. (DPA)
On May 27, 2021, Bank Julius Baer & Co. Ltd. (“BJB”), a Swiss bank with international operations, entered into a three-year DPA with DOJ’s Money Laundering and Asset Recovery Section (“MLARS”) and the United States Attorney’s Office for the Eastern District of New York.[81] DOJ alleged that from approximately February 2013 through May 2015, BJB conspired with sports marketing executives to launder through the United States at least $36 million in bribes to soccer officials in exchange for broadcasting rights to soccer matches, including the World Cup.[82]
Under the DPA, BJB agreed to pay a monetary penalty of approximately $43.32 million and forfeit $36.37 million.[83] DOJ stated that it reached this resolution with BJB based on a number of factors, including BJB’s 2016 DPA with DOJ which resolved allegations of “criminal violations relating to [BJB’s] efforts to [assist] U.S. taxpayers in evading U.S. taxes.”[84]
BJB received a 5% reduction off the bottom of the applicable U.S. Sentencing Guidelines fine range for its significant efforts to remediate its compliance program.[85] DOJ specifically acknowledged BJB’s three-year, $112 million AML initiative and “Know Your Client” upgrade launched in 2016; a large-scale AML transaction monitoring and risk management program launched in 2018; and the Bank’s 2019 initiative aimed at strengthening globally the Bank’s risk managements and risk tolerance framework.[86] BJB did not receive voluntary disclosure credit or cooperation credit.[87] The DPA noted the government’s determination that the appointment of an independent compliance monitor to oversee the remediation of BJB’s AML program by Swiss authorities made appointment of an additional monitor unnecessary.[88]
Berlitz Languages, Inc. (DPA) and Comprehensive Language Center, Inc. (DPA)
On January 19, 2021, Berlitz Languages, Inc. (“Berlitz”) and Comprehensive Language Center, Inc. (“CLCI”) entered into two separate, three-year DPAs with the DOJ Antitrust division for charges relating to a conspiracy to defraud the United States through non-competitive bidding processes in 2017[89] in connection with a multi-million dollar contract with the National Security Agency (“NSA”) to provide foreign language training services.[90] DOJ charged the companies with a conspiracy to defraud by “impending, impairing, obstructing, and defeating competitive bidding” in violation of 18 U.S.C. § 371.[91] Specifically, the companies facilitated providing false and misleading bid information to the NSA.[92]
In 2017, the NSA issued a bidding process to award up to three contracts spanning from 2017 until 2022 to provide foreign language training programs in six different locations across the United States.[93] NSA awarded the contracts to Berlitz and CLCI, along with another third-party company, in 2017, which entitled each to bid on individual delivery orders later awarded in December 2017.[94] To qualify for awards of delivery orders, the company had to be deemed “technically acceptable,” by having a facility in the location in which it could conduct the foreign language training.[95] The DPA alleged that the two companies conspired with each other to fraudulently obtain the contracts and delivery orders by falsely representing CLCI’s ability to perform and to suppress competition between Berlitz and CLCI.[96] Specifically, the companies admitted to falsely and misleadingly claiming that CLCI could perform services at a facility in Odenton, Maryland when that facility was owned and operated by Berlitz.[97] In exchange, CLCI then agreed to not bid against Berlitz when Berlitz bid on delivery orders calling for training in or near Odenton, Maryland.[98]
Under the DPA, the companies agreed to pay criminal penalties of around $140,000 each and agreed that they were jointly and severally liable to pay victim compensation to the NSA of approximately $57,000.[99] As part of the DPA, the companies admitted to participating in the alleged conspiracy, agreed to cooperate in any related investigation or prosecution, and implemented or agreed to implement and maintain compliance controls and a compliance and ethics program designed to prevent and detect fraud and antitrust violations.[100] The companies also agreed to periodically review the program and make adjustments as needed.[101]
The Boeing Company (DPA)
On January 7, 2021, The Boeing Company (“Boeing”) and the DOJ Fraud Section, as well as the U.S. Attorney’s Office for the Northern District of Texas, entered into a three-year DPA to resolve a criminal charge of conspiracy to defraud the Federal Aviation Administration’s (“FAA’s”) Aircraft Evaluation Group regarding an aircraft part called the Maneuvering Characteristics Augmentation System (“MCAS”) that affected the flight control system of the Boeing 737 MAX.[102] Pursuant to the DPA, Boeing agreed to pay approximately $2.5 billion, which includes a $243.6 million penalty and $1.77 billion in compensation to Boeing’s airline customers, and to establish a $500 million crash-victim beneficiaries fund.[103]
The DPA acknowledged Boeing’s remedial measures, including creating an aerospace safety committee of the Board of Directors to oversee Boeing’s policies and procedures governing safety and its interactions with the FAA and other government agencies and regulators,[104] and awarded partial credit for cooperation.[105]
Colas Djibouti SARL (DPA)
On February 17, 2021, Colas Djibouti SARL (“Colas Djibouti”)—a French concrete contractor and wholly owned subsidiary of French civil engineering company, Colas SA—entered into a DPA with the U.S. Attorney’s Office for the Southern District of California to resolve allegations concerning Colas Djibouti’s sale of contractually non-compliant concrete used to construct U.S. Navy airfields in the Republic of Djibouti.[106] Specifically, DOJ alleged that Colas Djibouti (1) knowingly provided substandard concrete for use on U.S. Navy airfield construction projects pursuant to contracts between Colas Djibouti and the U.S. Navy and (2) submitted documents and claims containing false representations about the composition and characteristics of the concrete to the United States.[107]
Under the terms of the DPA, Colas Djibouti agreed to plead to a one-count information of conspiracy to commit wire fraud under 18 U.S.C § 1349 and to pay approximately $10 million in restitution, a fine of $2.5 million, and forfeiture in the amount of $8 million (to be credited to the $10 million owed in restitution).[108]
In connection with the same underlying conduct, Colas Djibouti simultaneously agreed to a $3.9 million settlement of civil allegations that it violated the False Claims Act.[109] Under the terms of the settlement agreement, Colas Djibouti agreed to cooperate with any DOJ investigation of other individuals and entities not covered by the DPA and settlement agreement in connection with the underlying conduct.[110] Colas Djibouti agreed to encourage its former directors, officers, and employees to give interviews and testimony, and to furnish DOJ with non-privileged documents and records related to any investigation of the underlying conduct.[111] The civil settlement credited approximately $1.9 million of Colas Djibouti’s payment as restitution under the DPA and obligated Colas Djibouti to make a net payment of approximately $1.9 million.[112]
Deutsche Bank AG (DPA)
On January 8, 2021, Deutsche Bank AG (“Deutsche Bank”) entered into a three-year DPA and agreed to pay approximately $123 million in criminal penalties, disgorgement, and victim compensation to resolve FCPA and commodities fraud investigations.[113] The resolution was coordinated with the SEC.
The FCPA investigation concerned payments to consultants.[114] The commodities investigation related to allegations that Deutsche Bank precious metals traders placed orders with the intent to cancel the orders prior to execution.[115]
The Bank received full credit for cooperating with the investigation, including making detailed factual presentations and producing extensive documentation.[116] The DPA also acknowledged remedial measures taken by the Bank, including “conducting a robust root cause analysis and taking substantial steps to remediate and address the misconduct, including significantly enhancing its internal account controls, its anti-bribery and anti-corruption program, and its Business Development Consultants [] program on a global basis.”[117]
Epsilon Data Management LLC (DPA)
On January 19, 2021, marketing company Epsilon Data Management LLC (“Epsilon”) entered into a 30-month DPA with DOJ CPB and the U.S. Attorney’s Office for the District of Colorado to resolve a criminal charge for conspiracy to commit mail and wire fraud.[118] The government alleged that from July 2008 to July 2017, employees in Epsilon’s direct-to-consumer unit (“DTC”) sold over 30 million consumers’ information to individuals engaged in fraudulent mass-mailing schemes.[119]
Under the DPA, Epsilon agreed to pay $150 million, with $127.5 million dedicated to a victims’ compensation fund.[120] Epsilon also agreed to select, and cover the costs of, an independent claims administrator to distribute monies from the fund.[121] The agreement stated that DOJ was not requiring Epsilon to pay a criminal forfeiture amount because of the “facts and circumstances of th[e] case” and the company’s agreement to pay the victims’ compensation amount.[122]
The DPA noted the substantial enhancements Epsilon had already made to its compliance program and internal controls.[123] Epsilon further agreed to enhance its compliance program and internal controls to safeguard consumer data and prevent its sale to individuals engaged in fraudulent marketing campaigns.[124] Epsilon also agreed to cooperate fully in any related matters.[125]
The DPA stated that Epsilon received full credit for its “extensive cooperation,” which included (1) a “thorough and expedited internal investigation,” (2) regular government presentations, (3) facilitating employee interviews, and (4) analyzing and organizing “voluminous evidence.”[126] Epsilon also received credit for its extensive remedial measures, including (1) separating employees known to be involved in the alleged conduct, (2) terminating relationships with the individuals who carried out the fraudulent mailing schemes, (3) dissolving the DTC, (4) investing in additional legal and compliance resources, and (5) updating company policies and procedures.[127] The DPA further credited Epsilon for having no prior criminal history.[128] Epsilon did not receive voluntary disclosure credit.[129]
DOJ determined that an independent compliance monitor was unnecessary “based on Epsilon’s remediation and the state of its compliance program, the fact that the Covered Conduct concluded in 2017,” and the company’s agreement to report annually on the implementation of its compliance program.[130]
On June 14, 2021, the U.S. District Court for the District of Colorado unsealed an indictment charging two former Epsilon employees with conspiracy to commit and the substantive commission of mail and wire fraud in connection with conduct that was the subject of the Epsilon DPA.[131] The indictment alleges that the two individuals sold consumer lists to mass-mailing fraud schemes that invited consumers to engage in false “sweepstakes” and “astrology” solicitations.[132] The unsealing of the indictment coincided with DOJ announcing its DPA with KBM Group LLC (see below) to resolve nearly identical charges.[133]
KBM Group LLC (DPA)
On June 14, KBM Group LLC (“KBM”) entered into a 30-month DPA with the U.S. Attorney’s Office for the District of Colorado and DOJ CPB to resolve allegations that it sold millions of consumers’ information to individuals and entities engaged in elder fraud schemes.[134] DOJ alleged that KBM sold consumer lists to mass-mailing fraud schemes that invited consumers to engage in false “sweepstakes” and “astrology” solicitations.[135] A court in the same district earlier this year approved a similar agreement between the DOJ and Epsilon Data Management LLC to resolve parallel allegations.[136] The court approved the KBM DPA on June 29.[137]
Under the DPA, KBM will pay $42 million, $33.5 million of which will go to a victims’ compensation fund.[138] The DPA requires KBM to select, and cover the costs of, an independent claims administrator to distribute the victim compensation monies.[139] KBM also must implement compliance measures to safeguard consumer data and prevent its sale to perpetrators of fraudulent marketing schemes.[140] The compliance program requirements in KBM’s DPA are nearly identical to those in Epsilon’s, with the exception that KBM’s DPA explicitly requires the company to ensure that both senior and middle management reinforce and abide by the compliance code.[141] KBM’s agreement, like Epsilon’s, also requires annual compliance reporting and cooperation with the government in its ongoing investigations.[142]
The DOJ granted KBM nearly identical credit to that provided under Epsilon’s DPA, including full credit for its cooperation, its “significant remedial measures,” and lack of prior criminal history.[143] Additionally, the DPA credited KBM for its removal of terminated clients’ data from the KBM database and its revision of employee commission plans and co-op member agreements to align with the new compliance measures.[144]
The DOJ announced its filing of the DPA with KBM alongside the unsealing of an indictment charging two former Epsilon employees with mail and wire fraud in connection with a mass-mailing fraud scheme.[145]
PT Bukit Muria Jaya (DPA)
On January 17, 2021, PT Bukit Muria Jaya (“BMJ”)¾a global cigarette paper supplier based in Indonesia¾entered into an 18-month DPA with DOJ NSD and the U.S. Attorney’s Office for the District of Columbia to resolve allegations of conspiracy to commit bank fraud in connection with the shipment of BMJ products to North Korea.[146] DOJ alleged that BMJ customers in North Korea falsified paperwork and misled U.S. banks into processing payments in violation of U.S. sanctions.[147] According to DOJ, BMJ accepted payments from third parties, at the request of its North Korean customers, that were unrelated to the sales transactions, thereby taking the transactions outside the ambit of U.S. banks’ sanctions monitoring systems and leading the banks to process transactions it would have otherwise rejected.[148] BMJ also entered a settlement with the U.S. Treasury’s Office of Foreign Assets Control (“OFAC”) for the same underlying conduct, with OFAC determining that BMJ’s violations were “non-egregious.”[149]
Under the DPA, BMJ agreed to pay a $1.5 million penalty and implement a compliance program designed to prevent and identify violations of U.S. sanctions.[150] BMJ also agreed to report semi-annually on the status of its compliance improvements.[151] The 18-month DPA can be extended by up to one year if BMJ knowingly violates the terms of the agreement.[152]
In setting forth the rationale for the terms of the resolution, the Gibson Dunn-negotiated DPA credited BMJ for its (1) willingness to accept responsibility under U.S. law, (2) remediation efforts and comprehensive improvement of its compliance program, and (3) ongoing cooperation.[153] The agreement also noted that BMJ’s revenue from the sales in question constituted less than 0.3% of the company’s total sales revenue during that same period.[154]
Just six months prior to BMJ’s agreement, the DOJ imposed its first-ever corporate resolution for violations of the 2016 sanctions regulations concerning North Korea.[155] The BMJ DPA suggests that DOJ’s effort in this regard will proceed regardless of the transactions’ value to the entity. In announcing the BMJ DPA, Acting U.S. Attorney for the District of Columbia Michael R. Sherwin highlighted this point by stating that “[w]e want to communicate to all those persons and businesses who are contemplating engaging in similar schemes to violate U.S. sanctions on North Korea . . . . We will find you and prosecute you.”[156]
Rahn+Bodmer Co. (DPA)
On February 10, 2021, the oldest private bank in Zurich, Switzerland, Ranh+Bodmer Co. (“R+B”), entered into a three-year DPA with DOJ’s Tax Division and the United States Attorney’s Office for the Southern District of New York.[157] The DPA resolves allegations that from 2004 until 2012 R+B conspired to help U.S. account holders evade U.S. tax obligations, file false federal tax returns, and otherwise defraud the Internal Revenue Service (“IRS”) by hiding hundreds of millions of dollars in offshore bank accounts at R+B.[158] The DPA is the latest of over 90 resolutions since 2013 with Swiss banks involving tax evasion allegations.
Under the DPA, R+B agreed to make payments totaling $22 million.[159] Specifically, R+B agreed to pay (1) $4.9 million in restitution, representing the “approximate gross pecuniary loss to the [IRS]” resulting from R+B’s participation in the conspiracy; (2) $9.7 million in forfeiture, representing the approximate gross fees that R+B earned on its undeclared U.S.-related accounts between 2004 and 2012; and (3) $7.4 million in penalties, including a 55% discount for cooperation.[160] DOJ stated that it reached this resolution with R+B based on a number of factors, including that R+B conducted a “thorough internal investigation”; “provided a substantial volume of documents” to DOJ; and implemented remedial measures to “protect against the use of its services for tax evasion in the future.”[161] The agreement also requires R+B to disclose information consistent with the Department’s Swiss Bank Program relating to accounts closed between January 1, 2009, and December 31, 2019.[162]
SAP SE (NPA)
On April 29, 2021, SAP SE (“SAP”), a German software corporation, entered into an NPA with DOJ NSD and agreed to disgorge $5.14 million.[163] SAP also entered into concurrent administrative agreements with the Department of Commerce’s Bureau of Industry and Security and OFAC.[164] In voluntary disclosures to these three agencies, SAP acknowledged violations of the Export Administration Regulations and the Iranian Transactions and Sanctions Regulations.[165]
The conduct covered by the NPA involved SAP’s alleged export of software to Iranian end users. Between 2010 and 2017, SAP and overseas partners released U.S.-origin software, upgrades and patches, to users located in Iran in over 20,000 instances.[166] SAP’s Cloud Business Group companies separately permitted over 2,000 Iranian users access to U.S.-based cloud services in Iran.[167] Certain SAP senior managers were aware that the company did not have geolocation filters sufficient to identify and block the Iranian downloads, but SAP failed to institute remedial controls.[168]
According to the NPA, SAP received full credit for its timely voluntary disclosure, as well as credit for extensive cooperation with the government.[169] The company also received credit for spending more than $27 million on remediation efforts, including implementing GeoIP blocking, deactivating violative users of cloud services based in Iran, transitioning to automated sanction screening, auditing and suspending partners that sold to Iran-affiliated customers, and implementing other internal and export controls.[170]
The SAP resolution is one of the first of its kind focused on the provision of cloud services, and as such may now serve as a benchmark for future government enforcement actions—and compliance and remediation expectations—in this space.
State Street Corporation (DPA)
On May 13, 2021, State Street Corporation (“State Street”) entered into a new two-year DPA with the U.S. Attorney’s Office for the District of Massachusetts and agreed to pay a $115 million criminal penalty to resolve charges that it conspired to commit wire fraud by engaging in a scheme to defraud a number of the bank’s clients.[171] According to the DPA, State Street overcharged by over $290 million for expenses related to the bank’s custody of client assets.[172]
Between 1998 and 2015, according to the DPA, eight former bank executives omitted information about charges from client invoices and misled customers who raised concerns about the expenses.[173] Specifically, the former bank executives allegedly “conspired to add secret markups to ‘out-of-pocket’ (OOP) expenses charged to the bank’s clients while letting clients believe that State Street was billing OOP expenses as pass-through charges on which the bank was not earning a profit.”[174] An example of an OOP expense would be fees for interbank messages sent via the Society of Worldwide Interbank Financial Telecommunication (SWIFT) system.[175]
In addition to the $115 million criminal penalty, State Street also agreed to continue to “cooperate with the U.S. Attorney’s Office in any ongoing investigations and prosecutions relating to the conduct, to enhance its compliance program, and to retain an independent compliance monitor for a period of two years.”[176]
Unrelatedly, State Street saw the extension in March 2021 of a 2017 DPA. State Street’s 2017 DPA resolved allegations that it engaged in a scheme to defraud customers by applying extra commissions to billions of dollars’ worth of securities trades.[177] The most recent extension, which runs through September 3, 2021, was described in a joint filing as necessary because the COVID-19 pandemic and the resignation of the monitor (who took a position with the SEC) delayed completion of the monitor’s work.[178]
With the new DPA and the recent extension of the 2017 DPA, State Street is now subject to two concurrent DOJ-imposed monitorships. The new monitor will assess and make recommendations in a way that does not duplicate the efforts of the 2017 monitor, the DPA states.[179] Further, the terms of the agreement specify that State Street may choose to retain the same monitor under the new agreement instead of appointing a separate person.[180]
Swiss Life Holding AG (DPA)
On May 14, 2021, Swiss Life Holding AG (“Swiss Life Holding”), Swiss Life (Liechtenstein) AG, Swiss Life (Singapore) Pte. Ltd., and Swiss Life (Luxembourg) S.A. entered into a three-year DPA with DOJ’s Tax Division and the United States Attorney’s Office for the Southern District of New York.[181] The DPA resolves allegations that from 2005 to 2014, Swiss Life conspired with U.S. taxpayers and others to conceal from the IRS more than $1.452 billion in assets and income through the use of offshore Private Placement Life Insurance (“PPLI”) policies (colloquially known as “insurance wrappers”) and related policy investment accounts in banks around the world.[182] According to the allegations in the DPA, Swiss Life was identified as the owner of the policy investment accounts, rather than the U.S. policyholder and/or ultimate beneficial owner of the assets, thereby allowing U.S. taxpayers to hide undeclared assets and income through the insurance wrapper policies.[183]
Swiss Life Holding agreed to pay approximately $77.3 million to resolve the charges.[184] This sum included (1) $16,345,454 in restitution, representing the approximate unpaid taxes resulting from the Swiss Life Entities’ participation in the conspiracy; (2) $35,782,375 in forfeiture, representing the approximate gross fees (not profits) that the Swiss Life Entities earned on the relevant transactions; and (3) $25,246,508 in penalties, including a 50% discount for cooperation.[185]
DOJ stated that the penalty accounted for the extensive internal investigation conducted by Swiss Life, which included the review of over 1,500 hard-copy PPLI policy files, and production to DOJ of a substantial volume of documents and client-related data derived from that investigation.[186] The DPA noted that Swiss Life took additional measures to assist in the sharing of documents and information with DOJ consistent with the insurance-confidentiality and data privacy laws in the jurisdictions in which Swiss Life’s PPLI carriers operate, including preparing a Tax Information Exchange Agreement request to the Liechtenstein authorities.[187] In addition, Swiss Life conducted extensive outreach to current and former U.S. clients to confirm historical tax compliance, and to encourage disclosure to the IRS when policyholders’ historical tax compliance issues had not yet been resolved.[188]
United Airlines, Inc. (NPA)
On February 25, 2021, United Airlines, Inc. (“United”) entered into a three-year NPA with DOJ (Fraud Section, Criminal Division) to resolve a criminal investigation into an allegedly fraudulent scheme carried out by former United employees in connection with United’s fulfilment of contracts to deliver mail internationally for the U.S. Postal Service (“USPS”).[189] According to the Statement of Facts, United delivered mail internationally pursuant to International Commercial Air (“ICAIR”) contracts with USPS.[190] Under the terms of these ICAIR contracts, United was required to (1) take barcode scans of mail upon taking possession of the mail and upon delivering the mail overseas, and (2) provide these scans to USPS.[191] Rather than providing USPS with scans based on the actual movement of mail, United admitted that, between 2012 and 2015, it provided USPS with automated scans based on projected delivery times.[192] Submission of these automated scans violated the terms of United’s ICAIR contracts and prompted USPS to make millions of dollars in payments that United was not entitled to under the ICAIR contracts.[193] United further admitted that certain former employees knew the data being transmitted to USPS violated the terms of the ICAIR contracts and engaged in efforts to conceal the automated scan data, which, if discovered, would have subjected United to financial penalties under the ICAIR contracts.[194]
As part of the resolution, United agreed to pay $17.2 million in criminal penalties and disgorgement.[195] Under the NPA, United agreed to continue cooperating with the Fraud Section, strengthen its compliance program, and submit yearly reports to the Fraud Section regarding its remediation efforts and implementation of policies and controls aimed at deterring and detecting fraud surrounding United’s government contracts.[196]
The NPA credited United for cooperating with the Fraud Section’s investigation by producing documents, making employees available for interviews, and giving a factual presentation to DOJ.[197] The NPA also noted United’s extensive remedial action after learning about the underlying misconduct, including removing the principal manager of the alleged scheme, hiring outside advisors to evaluate United’s government contracting compliance policies, instituting an independent “Government Contracts Organization” that reported directly to the United Legal Department, implementing training for employees with duties related to government contracts, and prohibiting automation of and restricting access to flight configuration data to prevent future manipulation of data provided to USPS.[198] In light of the isolated nature of the alleged misconduct and United’s remedial improvements, the Fraud Section determined that an independent compliance monitor was unnecessary.[199]
In connection with the same underlying conduct, United entered into a separate False Claims Act settlement with DOJ (Civil Division, Fraud Section, Commercial Litigation Branch) on February 25, 2021.[200] United agreed to pay $32.1 million as part of the civil settlement.[201]
International DPA Developments
As prior Mid-Year and Year-End Updates have discussed (see, e.g., our 2020 Year-End Update), France and the United Kingdom also have robust DPA or DPA-like frameworks. The UK’s Serious Fraud Office (“SFO”) has entered into 12 DPAs since 2015,[202] and France’s prosecuting agencies have entered into 12 DPA-like agreements (called convention judiciaire d’intérêt public, or “CJIP”) since 2017.[203] France and the United Kingdom together produced four DPA-like agreements in the first half of 2021, and DPA developments in the United Kingdom sparked discussion regarding individual prosecution related to DPAs.
France – Bolloré SE
On February 26, 2021, France’s National Financial Prosecutor’s Office (“PNF”) announced that the Judicial Court of Paris approved a €12 million (about $14.5 million) CJIP with French transport company Bolloré SE and its parent company Financière de l’Odet to resolve allegations of corruption in Togo.[204] PNF alleged that Bolloré paid €370,000 (almost $450,000) to Togolese president Faure Gnassingbé between 2009 and 2011 to secure tax benefits and a contract to manage the Port of Lomé.[205] As part of the CJIP, Bolloré agreed to enhance its compliance program and pay up to €4 million in costs related to the French Anti-Corruption Agency’s (AFA) monitoring and audit of Bolloré over the next two years.
On the same day that the Judicial Court of Paris approved the corporate resolution, the court dismissed the plea bargains that three Bolloré executives had entered into with PNF to resolve allegations related to the same conduct.[206] The court ordered the three executives to stand trial because the allegations against them “seriously undermined economic public order” and the sovereignty of Togo.[207] This is the first time a French court has considered—let alone rejected—plea deals alongside a CJIP, so it remains to be seen whether this development will chill the negotiation of further CJIPs or create more reluctance among individuals implicated in PNF investigations to seek resolutions in parallel with the negotiation of CJIPs.[208]
United Kingdom
Amec Foster Wheeler Energy Limited
On the same day that DOJ and the SEC announced their resolutions with Amec Foster Wheeler Energy Limited, and Amec Foster Wheeler Limited, respectively, the SFO announced that it had “agreed [to] a Deferred Prosecution Agreement in principle with Amec Foster Wheeler Energy Limited.”[209] The DPA relates to the use of third-party agents in five countries in the period before AMEC plc acquired Foster Wheeler AG in November 2014, and prior to Wood’s acquisition of the resulting combined company in October 2017.[210] The SFO DPA, and the parallel DPA with DOJ, collectively call for total payments of $177 million and include fines and disgorgement.[211] On July 1, 2021, the Crown Court at Southwark, sitting at the Royal Courts of Justice, gave final approval of the DPA.[212] Under the UK DPA, AFWEL will pay approximately £103 million.[213]
Two Anonymous DPAs with Companies for UK Bribery Act Offenses
On July 20, 2021, the SFO announced final court approval of two separate DPAs with two UK-based companies for bribery offenses.[214] According to the SFO’s press release, the two companies will pay a total of £2,510,065 (over $3.4 million) in disgorgement of profits and financial penalties.[215] The SFO did not disclose the names of the companies, citing legal restrictions on reporting under the Contempt of Court Act 1981.[216] The publicly available information regarding these two DPAs will therefore be limited until the restrictions have been lifted and the DPAs are published. However, the SFO did state that the companies “either actively participated in or failed to prevent the rolling use of bribes to unfairly win contracts,” and the companies will be obligated to report on their compliance programs at regular intervals during the two-year term of the DPAs.[217]
Further UK Developments
DPAs continue to be in the spotlight more broadly in the United Kingdom. On May 4, 2021, the media reported that the SFO (which declined to comment) was ending a criminal investigation into individuals associated with Airbus SE (“Airbus”) 16 months after Airbus agreed to pay combined penalties of $3.9 billion to authorities in France, the United Kingdom, and the United States to resolve foreign bribery and export control charges (as summarized in our 2020 Mid-Year Update).[218] Similarly, in April 2021, the SFO’s prosecution of two former executives of Serco Georgrafix Ltd. (“Serco”) ended in a directed verdict of not guilty after the revelation that the SFO had failed to disclose evidence to the defense.[219] Serco, a leading provider of outsourced services to governments, entered into a DPA with the SFO in July 2019 and agreed to pay a penalty of £19.2 million (about $24 million) and to reimburse the SFO’s investigation costs of £3.7 million (over $4.6 million) to resolve allegations of fraud and false accounting (as discussed in our 2019 Year-End Update). The Serco case is not the first acquittal in recent years among SFO prosecutions against individuals; in fact, the SFO has yet to successfully prosecute individuals following a DPA.[220] This trend may undermine or at least shape the SFO’s efforts to enter into DPAs in the future, to the extent it leads corporations to question the SFO’s ability to secure a conviction if forced to prove its case in court.
APPENDIX: 2021 Non-Prosecution and Deferred Prosecution Agreements to Date
The chart below summarizes the agreements concluded by DOJ in 2021 to date. The SEC has not entered into any NPAs or DPAs in 2021. The complete text of each publicly available agreement is hyperlinked in the chart.
The figures for “Monetary Recoveries” may include amounts not strictly limited to an NPA or a DPA, such as fines, penalties, forfeitures, and restitution requirements imposed by other regulators and enforcement agencies, as well as amounts from related settlement agreements, all of which may be part of a global resolution in connection with the NPA or DPA, paid by the named entity and/or subsidiaries. The term “Monitoring & Reporting” includes traditional compliance monitors, self-reporting arrangements, and other monitorship arrangements found in settlement agreements.
U.S. Deferred and Non-Prosecution Agreements in 2021 to Date | ||||||
| Company | Agency | Alleged Violation | Type | Monetary Recoveries | Monitoring & Reporting | Term of NPA/DPA (months) |
| Amec Foster Wheeler Energy Limited | DOJ Fraud; E.D.N.Y. | Conspiracy to violate the FCPA | DPA | $41,139,287 | Yes | 36 |
| Argos USA LLC | DOJ Antitrust | Price-fixing conspiracy | DPA | $20,024,015 | Yes | 36 |
| Avanos Medical, Inc. | DOJ Fraud; DOJ CPB; N.D. Tex. | FDCA | DPA | $22,228,000 | Yes | 36 |
| Avnet Asia Pte. Ltd | D.D.C.; DOJ NSD | Export controls – conspiracy to violate the International Emergency Economic Powers Act | NPA | $1,508,000 | Yes | 24 |
| Bank Julius Baer & Co. Ltd. | DOJ MLARS; E.D.N.Y. | AML | DPA | $79,688,400 | Yes | 36 |
| Berlitz Languages, Inc. | DOJ Antitrust | Bid rigging | DPA | $203,984 | Yes | 36 |
| The Boeing Company | DOJ Fraud; N.D. Texas | Fraud | DPA | $2,513,600,000 | Yes | 36 |
| Colas Djibouti SARL | S.D. Cal.; DOJ Civil | FCA | DPA | $14,500,000 | No | 24 |
| Comprehensive Language Center, Inc. | DOJ Antitrust | Bid rigging | DPA | $196,984 | Yes | 36 |
| Deutsche Bank AG | DOJ Fraud; MLARS; E.D.N.Y. | FCPA | DPA | $124,796,046 | Yes | 36 |
| Epsilon Data Management, LLC | DOJ CPB; D. Colo. | Mail and wire fraud | DPA | $150,000,000 | Yes | 30 |
| KBM Group, LLC | DOJ CPB; D. Colo. | Mail and wire fraud | DPA | $42,000,000 | Yes | 30 |
| PT Bukit Muria Jaya | D.D.C.; DOJ NSD | Bank fraud | DPA | $1,561,570 | Yes | 18 |
| Rahn+Bodmer Co. | S.D.N.Y.; DOJ Tax | Fraud, false tax return filings, and tax evasion | DPA | $22,000,000 | No | 36 |
| SAP SE | DOJ NSD; D. Mass. | Export controls | NPA | $8,430,000 | Yes | 36 |
| State Street Corporation | D. Mass. | Wire fraud | DPA | $211,575,000 | Yes | 24 |
| Swiss Life Holding AG | S.D.N.Y.; DOJ Tax | Fraud, false tax return filings, and tax evasion | DPA | $77,374,337 | No | 36 |
| United Airlines, Inc. | DOJ Fraud | Fraud | NPA | $49,458,102 | No | 36 |
__________________________
[1] NPAs and DPAs are two kinds of voluntary, pre-trial agreements between a corporation and the government, most commonly DOJ. They are standard methods to resolve investigations into corporate criminal misconduct and are designed to avoid the severe consequences, both direct and collateral, that conviction would have on a company, its shareholders, and its employees. Though NPAs and DPAs differ procedurally—a DPA, unlike an NPA, is formally filed with a court along with charging documents—both usually require an admission of wrongdoing, payment of fines and penalties, cooperation with the government during the pendency of the agreement, and remedial efforts, such as enhancing a compliance program and—on occasion—cooperating with a monitor who reports to the government. Although NPAs and DPAs are used by multiple agencies, since Gibson Dunn began tracking corporate NPAs and DPAs in 2000, we have identified nearly 600 agreements initiated by DOJ, and 10 initiated by the U.S. Securities and Exchange Commission (“SEC”).
[2] Fraud Statistics – Overview, October 1, 1986 – September 30, 2020, U.S. Dep’t of Justice (Jan. 14, 2021), https://www.justice.gov/opa/press-release/file/1354316/download.
[3] Criminal Enforcement Trends Charts Through Fiscal Year 2020, U.S. Dep’t of Justice, Antitrust Div. (Nov. 23, 2020), https://www.justice.gov/atr/criminal-enforcement-fine-and-jail-charts.
[4] 2020 Annual Report, Div. of Enf’t, U.S. Sec. & Exch. Comm’n, https://www.sec.gov/files/enforcement-annual-report-2020.pdf, at 16; Year-by-Year SEC Enf’t Statistics (2005 – 2014), U.S. Sec. & Exch. Comm’n, https://www.sec.gov/news/newsroom/images/enfstats.pdf.
[5] 2020 Annual Report, Div. of Enf’t, U.S. Sec. & Exch. Comm’n, https://www.sec.gov/files/enforcement-annual-report-2020.pdf.
[6] Press Release, U.S. Dep’t of Justice, Justice Department Takes Action Against COVID-19 Fraud (Mar. 26, 2021), https://www.justice.gov/opa/pr/justice-department-takes-action-against-covid-19-fraud (hereinafter “DOJ COVID Press Release”).
[7] Id.
[8] Stephen Peiken, Co-Director, Div. of Enf’t, “Keynote Address: Securities Enforcement Forum West 2020” (May 12, 2020), https://www.sec.gov/news/speech/keynote-securities-enforcement-forum-west-2020.
[9] Ethan P. Davis, Principal Deputy Assistant Attorney General, “Principal Deputy Assistant Attorney General Ethan P. Davis delivers remarks on the False Claims Act at the U.S. Chamber of Commerce’s Institute for Legal Reform” (June 26, 2020), https://www.justice.gov/civil/speech/principal-deputy-assistant-attorney-general-ethan-p-davis-delivers-remarks-false-claims.
[10] Id.
[11] DOJ COVID Press Release, supra note 6.
[12] Press Release, DOJ Announces Coordinated Law Enforcement Action to Combat Health Care Fraud Related to COVID-19 (May 26, 2021), https://www.justice.gov/opa/pr/doj-announces-coordinated-law-enforcement-action-combat-health-care-fraud-related-covid-19.
[13] Gibson Dunn, SEC Brings First Enforcement Action Against a Public Company for Misleading Disclosures About the Financial Impacts of the Pandemic (Dec. 7, 2020), https://www.gibsondunn.com/sec-brings-first-enforcement-action-against-a-public-company-for-misleading-disclosures-about-the-financial-impacts-of-the-pandemic/.
[14] U.S. Dep’t of Justice, Crim. Div., Evaluation of Corporate Compliance Programs (Updated June 2020) at 1, https://www.justice.gov/criminal-fraud/page/file/937501/download (hereinafter “Compliance Program Update”).
[15] United States v. Epsilon Data Mgmt., LLC, No. 21-cr-06 (D. Colo. Jan. 19, 2021), at C-5 (hereinafter “Epsilon DPA”).
[16] Id.
[17] SAP NPA, Attach. A at 8.
[18] SAP NPA, Attach. B at 2.
[19] See U.S. Dep’t of Justice, Foreign Corrupt Practices Act Review, Op. Release No. 08-02 (June 13, 2008), https://www.justice.gov/sites/default/files/criminal-fraud/legacy/2010/04/11/0802.pdf.
[20] Compliance Program Update at 3.
[21] Epsilon DPA, at C-5; SAP NPA, at B-1.
[22] Id.
[23] Press Release, U.S. Sec. and Exch. Comm’n, SEC Awards More Than $9.2 Million to Whistleblower for Successful Related Actions, Including Agreement with DOJ (Feb. 23, 2021), https://www.sec.gov/news/press-release/2021-31 (hereinafter “Whistleblower Press Release”).
[24] Id.
[25] 17 C.F.R. § 240.21F.
[26] Whistleblower Press Release; Order Determining Whistleblower Award Claim, Release No. 91183 (Feb. 23, 2021), at 2, https://www.sec.gov/rules/other/2021/34-91183.pdf.
[27] Order Determining Whistleblower Award Claim, Release No. 91183 (Feb. 23, 2021), at 2, https://www.sec.gov/rules/other/2021/34-91183.pdf.
[28] Id.
[29] Gov’t Amended Unopposed Mot. to Dismiss the Crim. Info. with Prejudice, United States v. MoneyGram Int’l, Inc., No. 12-CR-291 (M.D. Pa. June 9, 2021), ¶ 11.
[30] Id. ¶ 12.
[31] See Amended Deferred Prosecution Agreement, United States v. Standard Chartered Bank, No. 12-cr-262 (D.D.C. Apr. 9, 2019), ¶ 19.
[32] Id.
[33] See Mot. to Dismiss with Prejudice, United States v. Standard Chartered Bank, No. 12-cr-262 (D.D.C. May 4, 2021), ¶ 4; Minute Order, United States v. Standard Chartered Bank, No. 12-cr-262 (D.D.C. May 4, 2021).
[34] Press Release, U.S. Dep’t of Justice, Zimmer Biomet Holdings Inc. Agrees to Pay $17.4 Million to Resolve Foreign Corrupt Practices Act Charges (Jan. 12, 2017), https://www.justice.gov/opa/pr/zimmer-biomet-holdings-inc-agrees-pay-174-million-resolve-foreign-corrupt-practices-act; Deferred Prosecution Agreement, United States v. Zimmer Biomet Holdings, Inc., No. 12-cr-80 (Jan. 12, 2017), https://www.justice.gov/opa/press-release/file/925171/download (hereinafter “Zimmer DPA”).
[35] Deferred Prosecution Agreement, Biomet, Inc., No. 12-cr-80 (Mar. 26, 2012), https://www.justice.gov/sites/default/files/criminal-fraud/legacy/2012/03/30/2012-03-26-biomet-dpa.pdf (hereinafter “Original Biomet DPA”).
[36] Press Release, U.S. Dep’t of Justice, Zimmer Biomet Holdings Inc. Agrees to Pay $17.4 Million to Resolve Foreign Corrupt Practices Act Charges (Jan. 12, 2017), https://www.justice.gov/opa/pr/zimmer-biomet-holdings-inc-agrees-pay-174-million-resolve-foreign-corrupt-practices-act.
[37] Original Biomet DPA at 27.
[38] Press Release, U.S. Dep’t of Justice, Zimmer Biomet Holdings Inc. Agrees to Pay $17.4 Million to Resolve Foreign Corrupt Practices Act Charges (Jan. 12, 2017), https://www.justice.gov/opa/pr/zimmer-biomet-holdings-inc-agrees-pay-174-million-resolve-foreign-corrupt-practices-act.
[39] Id.
[40] Settlement Agreement Information Database Act of 2021, H.R. 27, 117th Congress (as passed by House, Jan. 5, 2021).
[41] Id.
[42] Id. at § 307(a)(3).
[43] Id. at § 307(b)(1)(A).
[44] Id. at § 307(b)(1)(B).
[45] Id.
[46] See Nat’l Defense Auth. Act, Pub. L. No. 16-283, § 6311 (Jan. 1, 2021).
[47] See Biden Justice Department Refusing to Release Corporate Deferred and Non Prosecution Agreement Database, Corporate Crime Reporter (June 23, 2021), https://www.corporatecrimereporter.com/news/200/biden-justice-department-refusing-to-release-corporate-deferred-and-non-prosecution-agreement-database/.
[48] Id.
[49] Id.
[50] Id.
[51] See generally Justice Manual § 9-2.000 – Authority of the U.S. Attorney in Criminal Division Matters / Prior Approvals, https://www.justice.gov/jm/jm-9-2000-authority-us-attorney-criminal-division-mattersprior-approvals (last visited July 2, 2021).
[52] Press Release, U.S. Dep’t of Justice, Amec Foster Wheeler Energy Limited Agrees to Pay Over $18 Million to Resolve Charges Related to Bribery Scheme in Brazil (June 25, 2021), https://www.justice.gov/opa/pr/amec-foster-wheeler-energy-limited-agrees-pay-over-18-million-resolve-charges-related-bribery.
[53] Id.
[54] Id.
[55] Id.; Deferred Prosecution Agreement, United States v. Amec Foster Wheeler Energy Limited, No. 21-CR-298 (KAM) (E.D.N.Y. June 25, 2021), at 5 (hereinafter “AFWEL DPA”).
[56] Id. at 12.
[57] Press Release, U.S. Dep’t of Justice, Ready-Mix Concrete Company Admits to Fixing Prices and Rigging Bids in Violation of Antitrust Laws (Jan. 4, 2021), https://www.justice.gov/opa/pr/ready-mix-concrete-company-admits-fixing-prices-and-rigging-bids-violation-antitrust-laws (hereinafter “Argos Press Release”).
[58] Id.
[59] Deferred Prosecution Agreement, United States v. Argos USA LLC, No. 4:21-CR-0002-RSB-CLR (S.D. Ga. Jan. 4, 2021), at 24–25 (hereinafter “Argos DPA”).
[60] Id. at 7.
[61] Id. at 5.
[62] Id. at 9; Argos Press Release, supra note 57.
[63] Argos Press Release, supra note 57.
[64] Id.
[65] Deferred Prosecution Agreement, United States v. Avanos Medical, Inc., No. 3:21-cr-00307-E (N.D. Tex. July 7, 2021), at 1 (hereinafter, “Avanos DPA”).
[66] Id. ¶ 1; Dep’t of Justice, Office of Public Affairs, Avanos Medical Inc. to Pay $22 Million to Resolve Criminal Charge Related to the Fraudulent Misbranding of Its MicroCool Surgical Gowns (July 8, 2021), https://www.justice.gov/opa/pr/avanos-medical-inc-pay-22-million-resolve-criminal-charge-related-fraudulent-misbranding-its.
[67] Avanos DPA, supra note 65, Attach. A ¶¶ 6–31.
[68] Avanos DPA, supra note 65, ¶ 4(e).
[69] Id. ¶ 4(g).
[70] Id. ¶ 4(a).
[71] Id. ¶¶ 9–13.
[72] Id. ¶ 17.
[73] Press Release, U.S. Dep’t of Justice, Chinese National Charged with Criminal Conspiracy to Export US Power Amplifiers to China (Jan. 29, 2021), https://www.justice.gov/opa/pr/chinese-national-charged-criminal-conspiracy-export-us-power-amplifiers-china (hereinafter “Avnet Press Release”); Non-Prosecution Agreement, Avnet Asia Pte. Ltd. (Jan. 21, 2021), at 1 (hereinafter “Avnet NPA”).
[74] Avnet Press Release; Avnet NPA, at 13–14, 17–21.
[75] Avnet Press Release; Avnet NPA, at 1.
[76] Avnet NPA, at 3–4.
[77] Id. at 5.
[78] Id. at 2–3.
[79] Id. at 3.
[80] Avnet Press Release.
[81] Deferred Prosecution Agreement, United States v. Bank Julius Baer & Co. Ltd., No. 21cr273 (PKC) (E.D.N.Y. May 27, 2021) (hereinafter “BJB DPA”); Press Release, U.S. Dep’t Justice, Bank Julius Baer Agrees to Pay More than $79 Million for Laundering Money in FIFA Scandal (May 27, 2021), https://www.justice.gov/opa/pr/bank-julius-baer-agrees-pay-more-79-million-laundering-money-fifa-scandal (hereinafter “BJB Press Release”).
[82] BJB Press Release, supra note 81.
[83] Id.
[84] Id.
[85] BJB DPA, supra note 81, at 5.
[86] Id.
[87] Id. at 4.
[88] Id. at 6.
[89] Press Release, U.S. Dep’t of Justice, Foreign-Language Training Companies Admit to Participating in Conspiracy to Defraud the United States (Jan. 19, 2021), https://www.justice.gov/opa/pr/foreign-language-training-companies-admit-participating-conspiracy-defraud-united-states (hereinafter “Berlitz-CLCI Press Release”); Deferred Prosecution Agreement, United States v. Berlitz Languages, Inc., No. 21-51-FLW (D.N.J. Jan. 19, 2021) at 3 (hereinafter “Berlitz DPA”); Deferred Prosecution Agreement, United States v. Comprehensive Language Center, Inc., No. 21-50-FLW (D.N.J. Jan. 19, 2021) at 3 (hereinafter “CLCI DPA”).
[90] Id.
[91] Berlitz-CLCI Press Release, supra note 89.
[92] Id.
[93] Berlitz DPA, supra note 89 at 22.
[94] Id. at 23.
[95] Id.
[96] Id.
[97] Id. at 24.
[98] Id.
[99] Berlitz-CLCI Press Release, supra note 89.
[100] Berlitz-CLCI Press Release, supra note 89; Berlitz DPA, supra note 89 at 11; CLCI DPA, supra note 89 at 10.
[101] Id.
[102] Deferred Prosecution Agreement, United States v. The Boeing Company (N.D. Tex. Jan. 7, 2021) (hereinafter “Boeing DPA”); Press Release, U.S. Dep’t of Justice, Boeing Charged with 737 Max Fraud Conspiracy and Agrees to Pay over $2.5 Billion (Jan. 7, 2021), https://www.justice.gov/opa/pr/boeing-charged-737-max-fraud-conspiracy-and-agrees-pay-over-25-billion (hereinafter “Boeing Press Release”).
[103] Boeing DPA.
[104] Id.
[105] Id.
[106] Press Release, U.S. Dep’t of Justice, Concrete Contractor Agrees to Settle False Claim Act Allegations for $3.9 Million (Feb. 17, 2021), https://www.justice.gov/opa/pr/concrete-contractor-agrees-settle-false-claims-act-allegations-39-million (hereinafter “DOJ Colas Djibouti Press Release”); Press Release, U.S. Dep’t of Justice, U.S. Attorney’s Office for the Southern District of California, U.S. Navy Concrete Contractor in Djibouti Admits Fraudulent Conduct and Will Pay More than $12.5 Million (Feb. 17, 2021), https://www.justice.gov/usao-sdca/pr/us-navy-concrete-contractor-djibouti-admits-fraudulent-conduct-and-will-pay-more-125 (hereinafter “SDCA Colas Djibouti Press Release”).
[107] SDCA Colas Djibouti Press Release.
[108] Deferred Prosecution Agreement, United States v. Colas Djibouti SARL, No. 21-cr-00280 (S.D. Cal. Feb. 17, 2021), at ¶¶ 7–9; SDCA Colas Djibouti Press Release.
[109] DOJ Colas Djibouti Press Release.
[110] Settlement Agreement, Colas Djibouti, https://www.justice.gov/opa/press-release/file/1368556/download, at 6 (hereinafter “Colas Djibouti Settlement Agreement”).
[111] Id.
[112] DOJ Colas Djibouti Press Release.
[113] Press Release, U.S. Dep’t of Justice, Deutsche Bank Agrees to Pay over $130 Million to Resolve Foreign Corrupt Practices Act and Fraud Case (Jan. 8, 2021), https://www.justice.gov/opa/pr/deutsche-bank-agrees-pay-over-130-million-resolve-foreign-corrupt-practices-act-and-fraud.
[114] Id.
[115] Id.
[116] Deferred Prosecution Agreement, United States v. Deutsche Bank Aktiengesellschaft, No. 20-00584 (E.D.N.Y. Jan. 8. 2021).
[117] Id.
[118] Press Release, U.S. Dep’t of Justice, Marketing Company Agrees to Pay $150 Million for Facilitating Elder Fraud Schemes (Jan. 27, 2021), https://www.justice.gov/opa/pr/marketing-company-agrees-pay-150-million-facilitating-elder-fraud-schemes (hereinafter “Epsilon Press Release”).
[119] Id.
[120] Id.
[121] Id.
[122] Epsilon DPA, supra note 15, at 9.
[123] Id. at 5.
[124] Id. at 13–14.
[125] Id. at 6.
[126] Id. at 4.
[127] Id. at 4–5.
[128] Id. at 6.
[129] Id. at 4.
[130] Id. at 5.
[131] Press Release, U.S. Dep’t of Justice, Justice Department Recognizes World Elder Abuse Awareness Day; Files Case Against Marketing Company and Executives Who Knowingly Facilitated Elder Fraud (June 15, 2021), https://www.justice.gov/opa/pr/justice-department-recognizes-world-elder-abuse-awareness-day-files-cases-against-marketing (hereinafter “KBM Press Release”).
[132] Id.
[133] Id.
[134] Id.
[135] Id.
[136] Joint Notice of Agreement and Mot. for Deferral of Prosecution at 4–5, United States v. KBM Group, LLC, No. 21-cr-198 (D. Colo. June 14, 2021) (hereinafter “KBM Motion for DPA”).
[137] Order, United States v. KBM Group, LLC, No. 21-cr-198 (D. Colo. June 29, 2021).
[138] KBM Motion for DPA, supra note 136 at Ex. 1, ¶ 7.
[139] Id. ¶ 14.
[140] KBM Press Release, supra note 131.
[141] Compare KBM Motion for DPA, supra note 136, at Ex. 1 Attach. C-1–C-6, with Epsilon DPA, supra note 122, at Ex. 1 Attach. C-1–C-6.
[142] KBM Motion for DPA, supra note 136, at 2, Ex. 1 Attach. D.
[143] Compare KBM Motion for DPA, supra note 136, at Ex. 1, ¶ 4(d), with Epsilon DPA, supra note 122, at 4–6.
[144] KBM Motion for DPA, supra note 136, at Ex. 1, ¶ 4(d).
[145] KBM Press Release, supra note 131.
[146] Press Release, U.S. Dep’t of Justice, Indonesian Company Admits to Deceiving U.S. Banks in Order to Trade with North Korea, Agrees to Pay a Fine of More Than $1.5 Million (Jan. 17, 2021), https://www.justice.gov/opa/pr/indonesian-company-admits-deceiving-us-banks-order-trade-north-korea-agrees-pay-fine-more-15 (hereinafter “BMJ Press Release”).
[147] Id.
[148] United States v. PT Bukit Muria Jaya, No. 21-cr-14 (D.D.C. Jan. 14, 2021), at Attach. A, 7 (hereinafter “BMJ DPA”).
[149] Enf’t Release, U.S. Dep’t of Treasury, OFAC Settles with PT Bukit Muria Jaya for Its Potential Civil Liability for Apparent Violations of the North Korea Sanctions Regulations (Jan. 14, 2021), at 1, https://home.treasury.gov/system/files/126/20210114_BMJ.pdf.
[150] BMJ Press Release, supra note 146.
[151] BMJ DPA, supra note 148, at 10–12.
[152] Id. at 2.
[153] Id. at 3.
[154] Id. at 7.
[155] See Gibson Dunn, 2020 Year-End Update on Corporate Non-Prosecution Agreements and Deferred Prosecution Agreements (Jan. 19, 2021), https://www.gibsondunn.com/2020-year-end-update-on-corporate-non-prosecution-agreements-and-deferred-prosecution-agreements/#_ftn103.
[156] BMJ Press Release, supra note 146.
[157] Deferred Prosecution Agreement, United States v. Rahn+Bodmer Co. (S.D.N.Y. Feb. 10, 2021) (hereinafter “R+B DPA”); Press Release, U.S. Dep’t Justice, Zurich’s Oldest Private Bank Admits To Helping U.S. Taxpayers Hide Offshore Accounts From IRS (Mar. 11, 2021), https://www.justice.gov/usao-sdny/pr/zurich-s-oldest-private-bank-admits-helping-us-taxpayers-hide-offshore-accounts-irs (hereinafter “R+B Press Release”).
[158] R+B Press Release, supra note 157.
[159] R+B DPA, ¶ 3.
[160] Id. ¶¶ 3–10.
[161] R+B Press Release, supra note 157.
[162] Id.
[163] Press Release, U.S. Dep’t of Justice, SAP Admits to Thousands of Illegal Exports of its Software Products to Iran and Enters into Non-Prosecution Agreement with DOJ (Apr. 29, 2021), https://www.justice.gov/opa/pr/sap-admits-thousands-illegal-exports-its-software-products-iran-and-enters-non-prosecution.
[164] Id.
[165] Id.
[166] Id.
[167] Id.
[168] Id.
[169] Non-Prosecution Agreement, SAP SE (Apr. 29, 2021).
[170] Id.
[171] Deferred Prosecution Agreement, United States v. State Street Corp., No. 21-cr-10153 (D. Mass, May 13, 2021) (hereinafter “State Street DPA”); Press Release, U.S. Dep’t of Justice, State Street Corporation to Pay $115 Million Criminal Penalty and Enter Into Deferred Prosecution Agreement in Connection With Scheme to Overcharge Custody Customers (May 13, 2021), https://www.justice.gov/usao-ma/pr/state-street-corporation-pay-115-million-criminal-penalty-and-enter-deferred-prosecution.
[172] Press Release, U.S. Dep’t of Justice, State Street Corporation to Pay $115 Million Criminal Penalty and Enter Into Deferred Prosecution Agreement in Connection With Scheme to Overcharge Custody Customers (May 13, 2021), https://www.justice.gov/usao-ma/pr/state-street-corporation-pay-115-million-criminal-penalty-and-enter-deferred-prosecution.
[173] Id.
[174] Id.
[175] State Street DPA, supra note 171, ¶ 3.
[176] Press Release, U.S. Dep’t of Justice, State Street Corporation to Pay $115 Million Criminal Penalty and Enter Into Deferred Prosecution Agreement in Connection With Scheme to Overcharge Custody Customers (May 13, 2021), https://www.justice.gov/usao-ma/pr/state-street-corporation-pay-115-million-criminal-penalty-and-enter-deferred-prosecution.
[177] Press Release, U.S. Dep’t of Justice, State Street Corporation Agrees to Pay More than $64 Million to Resolve Fraud Charges (Jan. 18, 2017), https://www.justice.gov/opa/pr/state-street-corporation-agrees-pay-more-64-million-resolve-fraud-charges.
[178] Joint Status Report, United States v. State Street Corp., No. 17-10008-IT (D. Mass. Mar. 15, 2021).
[179] Id.
[180] Id.
[181] Deferred Prosecution Agreement, United States v. Swiss Life Holding AG, Swiss Life (Liechtenstein) AG, Swiss Life (Singapore) Pte. Ltd., and Swiss Life (Luxembourg) S.A. (May 14, 2021) (hereinafter “Swiss Life DPA”); Press Release, U.S. Dep’t Justice, Switzerland’s Largest Insurance Company And Three Subsidiaries Admit To Conspiring With U.S. Taxpayers To Hide Assets And Income In Offshore Accounts (May 14, 2021), https://www.justice.gov/usao-sdny/pr/switzerland-s-largest-insurance-company-and-three-subsidiaries-admit-conspiring-us (hereinafter “Swiss Life Press Release”).
[182] Swiss Life Press Release.
[183] Id.
[184] Id.
[185] Swiss Life DPA at 2–3.
[186] Swiss Life DPA, Ex. C at 21.
[187] Id. at 22.
[188] Id. at 21.
[189] Press Release, U.S. Dep’t of Justice, United Airlines to Pay $4.9 Million to Resolve Criminal Fraud Charges and Civil Claims (Feb. 26, 2021), https://www.justice.gov/opa/pr/united-airlines-pay-49-million-resolve-criminal-fraud-charges-and-civil-claims#:~:text=United%20Airlines%20Inc.,for%20transportation%20of%20international%20mail (hereinafter “United Airlines Press Release”); Non-Prosecution Agreement, United Airlines, Inc. (Feb. 25, 2021), at 3 (hereinafter “United Airlines NPA”).
[190] United Airlines NPA, supra note 189, Attach. A, at 2–3.
[191] Id.
[192] Id. at 2–6; United Airlines Press Release, supra note 189.
[193] United Airlines NPA, supra note 189, Attach. A at 4.
[194] Id. at 2–6; United Airlines Press Release, supra note 189.
[195] United Airlines Press Release, supra note 189.
[196] Id.; United Airlines NPA, supra note 189, at 4–5; Attachs. B–C.
[197] United Airlines NPA, supra note 189, at 1–2.
[198] Id. at 2; United Airlines Press Release, supra note 189.
[199] United Airlines NPA, supra note 189, at 2–3.
[200] United Airlines Press Release, supra note 189; Settlement Agreement, United Airlines, Inc. (Feb. 25, 2021), https://www.justice.gov/opa/press-release/file/1371071/download (hereinafter “United Airlines Settlement Agreement”).
[201] United Airlines Press Release; United Airlines Settlement Agreement.
[202] UK Serious Fraud Office, Deferred Prosecution Agreements, https://www.sfo.gov.uk/publications/guidance-policy-and-protocols/guidance-for-corporates/deferred-prosecution-agreements/.
[203] Agence Française Anticorruption, La Convention Judiciaire D’intérêt Public, https://www.agence-francaise-anticorruption.gouv.fr/fr/convention-judiciaire-dinteret-public.
[204] James Thomas, Paris Court Approves Corruption DPA with Transport Company but Rejects Plea Bargains with Execs, Global Investigations Rev. (Feb. 26, 2021), https://globalinvestigationsreview.com/anti-corruption/paris-court-approves-corruption-dpa-transport-company-rejects-plea-bargains-execs.
[205] Id.
[206] James Thomas, Bolloré Corruption Resolution May Damage Trust in French Settlement Tools, Global Investigations Rev. (Mar. 16, 2021), https://globalinvestigationsreview.com/anti-corruption/bollore-corruption-resolution-may-damage-trust-in-french-settlement-tools.
[207] Id.
[208] See id.
[209] Press Release, UK Serious Fraud Office, SFO Confirms DPA in Principle with Amec Foster Wheeler Energy Limited (June 25, 2021), https://www.sfo.gov.uk/2021/06/25/sfo-confirms-dpa-in-principle-with-amec-foster-wheeler-energy-limited/.
[210] Bonnie Eslinger, SFO Gets OK On Wood Group Unit DPA Over Bribery Claims, Law360 (July 1, 2021), https://www.law360.com/energy/articles/1399464/sfo-gets-ok-on-wood-group-unit-dpa-over-bribery-claims.
[211] Id.
[212] Id.
[213] Deferred Prosecution Agreement, Serious Fraud Office v. Amec Foster Wheeler Energy Ltd. (June 28, 2021), at 3–4.
[214] Press Release, UK Serious Fraud Office, SFO Secures Two DPAs with Companies for Bribery Act Offences (July 20, 2021), https://www.sfo.gov.uk/2021/07/20/sfo-secures-two-dpas-with-companies-for-bribery-act-offences/.
[215] Id.
[216] Id.
[217] Id.
[218] Kristin Ridley, UK Prosecutor Ends Investigation into Airbus Individuals – Sources, Reuters (May 4, 2021), https://www.reuters.com/business/aerospace-defense/uk-prosecutor-ends-investigation-into-airbus-individuals-sources-2021-05-04/.
[219] Jasper Jolly, Trial of Former Serco Executives Collapses as SFO Fails to Disclose Evidence, The Guardian (Apr. 26, 2021), https://www.theguardian.com/business/2021/apr/26/serco-trial-collapses-as-serious-office-fails-to-disclose-evidence.
[220] Joel M. Cohen, Sacha Harber-Kelly, and Steve Melrose, Why Corporations Should Rethink How They Evaluate Deferred Prosecution Agreements, N.Y. L.J. (May 6, 2021), https://www.gibsondunn.com/wp-content/uploads/2021/05/Cohen-Harber-Kelly-Melrose-Why-Corporations-Should-Rethink-How-They-Evaluate-Deferred-Prosecution-Agreements-New-York-Law-Journal-05-06-2021.pdf (compiling data).
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Gibson Dunn’s White Collar Defense and Investigations Practice Group successfully defends corporations and senior corporate executives in a wide range of federal and state investigations and prosecutions, and conducts sensitive internal investigations for leading companies and their boards of directors in almost every business sector. The Group has members across the globe and in every domestic office of the Firm and draws on more than 125 attorneys with deep government experience, including more than 50 former federal and state prosecutors and officials, many of whom served at high levels within the Department of Justice and the Securities and Exchange Commission, as well as former non-U.S. enforcers. Joe Warin, a former federal prosecutor, is co-chair of the Group and served as the U.S. counsel for the compliance monitor for Siemens and as the FCPA compliance monitor for Alliance One International. He previously served as the monitor for Statoil pursuant to a DOJ and SEC enforcement action. He co-authored the seminal law review article on NPAs and DPAs in 2007. M. Kendall Day is a partner in the Group and a former white collar federal prosecutor who spent 15 years at the Department of Justice, rising to the highest career position in the DOJ’s Criminal Division as an Acting Deputy Assistant Attorney General.
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Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.
I. Introduction: Themes and Notable Developments
This mid-year update marks the first six months of the Commission under the Biden administration. Change came swiftly, yet is only just beginning. In this update, we look at the significant developments from the first six months of 2021, and consider what to expect from new leadership at the Commission and the Enforcement Division. In sum, it is safe to say that the next four years will see a return to increasing regulatory oversight and escalated enforcement of market participants.
As predicted in our 2020 Year-End Securities Enforcement Update, promptly after President Biden was inaugurated, the White House substituted then Acting Chairman Elad Roisman with the senior Democratic Commissioner, Allison Herren Lee.[1] Under Acting Chair Lee’s leadership, the Commission began a number of initiatives that immediately signaled more aggressive and proactive regulatory oversight, including in areas of climate and environmental, social and governance (ESG) disclosure and investment management, and special purpose acquisition companies (SPACs), both of which are discussed further below. At the same time, Republican Commissioners often issued statements raising concerns about the approach being taken by the Commission in areas such as ESG disclosure and cryptocurrency.[2]
Shortly after her appointment to the Acting Chair position, Acting Chair Lee announced changes to the enforcement process that facilitated the opening of formal investigations and also added uncertainty to the settlement process for companies and SEC registered firms. In February, Acting Chair Lee restored the delegated authority of senior Enforcement Division staff to issue formal orders of investigation, which authorize the staff to issue subpoenas for documents and testimony.[3] The re-delegation of authority reversed the 2017 decision under the Trump administration which restricted authority to issue formal orders to the Director of the Enforcement or the Commissioners. Acting Chair Lee cited the need to allow investigative staff “to act more swiftly to detect and stop ongoing frauds, preserve assets, and protect vulnerable investors.”[4] Immediately following that pronouncement, the Commission announced an end to the practice of permitting settling parties to make contingent settlement offers—offers to resolve an investigation contingent on receiving from the Commission a waiver of collateral consequences, such as disqualifications from regulatory safe harbors, which would otherwise arise from the violations. In her statement, Acting Chair Lee noted that “waivers should not be used as ‘a bargaining chip’ in settlement negotiations, nor should they be considered a ‘default position’ under the SEC.”[5] Following the announcement, Commissioners Hester Peirce and Elad Roisman, both Republicans, issued a joint statement criticizing the impact of the policy reversal on parties seeking to resolve an investigation through a settlement “because it undercuts the certainty and finality that settlement might otherwise provide.”[6]
In April, Gary Gensler was sworn in as Chairman of the SEC.[7] Before joining the SEC, Chairman Gensler was Chairman of the Commodity Futures Trading Commission in the Obama administration and presided over a period of heightened financial regulation and aggressive enforcement against major financial institutions.
In June, Chairman Gensler appointed Gurbir Grewal, the Attorney General for the State of New Jersey, as the new Director of the Division of Enforcement.[8] Mr. Grewal will begin his role as Division Director on July 26. With the appointment of Mr. Grewal, Chairman Gensler continues a trend, begun in the wake of the 2008 financial crisis, of appointing former prosecutors to the that position. Before becoming New Jersey Attorney General, Mr. Grewal had been the Bergen County Prosecutor, and Assistant U.S. Attorney in the District of New Jersey (where he was Chief of the Economic Crimes Unit) and in the Eastern District of New York (where he was assigned to the Business and Securities Fraud Unit). Mr. Grewal also worked in private practice from 1999 to 2004 and 2008 to 2010.
Now that the new Commission leadership is taking shape, we expect the coming months to reflect increasingly the influence of the new administration. Undoubtedly, this will translate into heightened scrutiny on legal and compliance departments and financial reporting functions of financial institutions, investment advisers, broker-dealers, and public companies.
A. Climate and ESG Task Force
In March, Acting Chair Lee announced the creation of a Climate and ESG Task Force.[9] The task force is composed of 22 members drawn from various Commission offices and specialized units. The Climate and ESG task force is charged with developing initiatives to identify ESG-related misconduct and analyzing data to identify potential violations. Additionally, the task force aims to identify misstatements in issuers’ disclosure of climate risks and to analyze disclosure and compliance issues related to ESG stakeholders and investors. The SEC has also established a website and intake submission form for tips, referrals, and whistleblower complaints for ESG-related issues. The task force will work closely with other SEC Divisions and Offices, including the Division of Corporation Finance, Investment Management, and Examinations.
In April, the Division of Examinations issued a Risk Alert detailing its observations of deficiencies and internal control weaknesses from examinations of investment advisers and funds regarding investing that incorporates ESG factors.[10] The Division’s Risk Alert provides a useful roadmap to assist investment advisers in developing, testing and enhancing their compliance policies, procedures and practices. Please see our prior client alert on this subject for an analysis of the lessons learned from the Division’s Risk Alert.
B. Focus on SPACs
Over the course of the first half of this year, the SEC has been intensifying its focus on SPACs. Also referred to as blank check companies, SPACs are shell companies which offer private companies an alternative path to the public securities markets instead of an IPO. A SPAC transaction proceeds in two phases: (i) an initial phase in which the shell company raises investor funds to finance all or a portion of a future acquisition of a private company and (ii) a de-SPAC phase in which the SPAC merges with a private target company. During the de-SPAC phase, investors in the initial SPAC either sell their shares on the secondary market or have their shares redeemed. After the de-SPAC, the entity continues to operate as a public company. Typically, SPACs have two years to complete a merger with a private company.
Earlier this year, senior SEC officials in the Division of Corporation Finance and Office of the Chief Accountant issued a string of pronouncements concerning the risks posed by the explosion of SPAC initial public offerings in 2020 and early 2021, including a potential misalignment of interests and incentives between SPAC sponsors and shareholders.[11] Last week the Commission announced an enforcement action against a SPAC, the SPAC sponsor, and the CEO of the SPAC, as well as the proposed merger target and the former CEO of the target for misstatements in a registration statement and amendments concerning the target’s technology and business risks.[12]
In a separate alert, we analyzed the important implications this enforcement action has for SPACs, their sponsors and executives for their diligence on proposed acquisition targets. To emphasize the point, SEC Chairman Gary Gensler took the unusual step of providing comments that echoed the concerns of senior officials and sent a clear message that even when the SPAC is “lied to” by the target, the SPAC and its executives are at risk for liability under the securities laws if their diligence fails to uncover misrepresentations or omissions by the target. Chairman Gensler stated, “This case illustrates risks inherent to SPAC transactions, as those who stand to earn significant profits from a SPAC merger may conduct inadequate due diligence and mislead investors. . . . The fact that [the target] lied to [the SPAC] does not absolve [the SPAC] of its failure to undertake adequate due diligence to protect shareholders.”
C. Focus on Cybersecurity Risks
For a number of years, the Commission has been increasing its focus on controls and disclosures related to the risks of cyberattacks. In June, the Division of Enforcement publicly disclosed that it was conducting an investigation regarding a cyberattack involving the compromise of software made by the SolarWinds Corp.[13] As part of that investigation, the Division staff issued letters to a number of entities requesting information concerning the SolarWinds compromise. The inquiry is notable both for its public nature as well as the scope of the requests and signals a heightened scrutiny of how companies manage cyber-related risks.
D. Shifting Approach to Penalties against Public Companies
In addition to the overarching expectations for increasingly aggressive enforcement under this administration, the first half of this year also revealed indications that the Commission’s approach to corporate penalties may be undergoing a transition.
For many years the Commission has debated whether, and to what extent, public companies should be subject to monetary penalties in settlement of enforcement actions based on allegations of improper accounting or financial reporting or misleading disclosures. On one hand, advocates for the imposition of substantial penalties argue that they are a statutorily authorized remedy that serves regulatory goals of specific and general deterrence and, since the creation of fair funds, the potential goal of financial remediation. On the other hand, imposing penalties on a public company is simply taking value away from current shareholders of the company, some of whom may also have been the victims of the alleged financial reporting misconduct, and, in the absence of a fair fund, simply transferring that value to the U.S. Treasury. In the wake of the corporate accounting scandals of the 2000s, the SEC’s penalties against public companies rose to the hundreds of millions of dollars, leading to calls for a framework for the determination of appropriate penalties.
In an effort to bring some consistency to the Commission’s and the Enforcement Division’s approach to negotiating corporate penalties, in 2006 the Commission unanimously issued guidance on whether, and to what extent, the Commission should seek to impose penalties against public companies.[14] Rooting the guidance in the legislative history of the 1990 Congressional authorization of SEC penalty authority, the Commission’s 2006 guidance identified two principal factors to determine whether a penalty against a public company would be appropriate: (1) whether the company received a direct financial benefit as a result of the alleged violation, and (2) the extent to which a penalty would recompense or harm injured shareholders. Although the 2006 guidance identified other relevant factors—such as the need for deterrence, egregiousness of the harm from the violation, level of intent, corporate cooperation—the first two factors were of paramount importance. As a general matter, in the years following the 2006 Guidance, the size of corporate penalties in financial reporting cases moderated.
In March of this year, Commissioner Caroline Crenshaw, a Democrat, delivered a speech[15] in which she criticized the 2006 guidance. Calling the guidance “myopic” and “fundamentally flawed,” Commissioner Crenshaw argued that the Commission should not treat the presence or absence of a corporate benefit as a threshold issue to imposing a penalty. Instead, the Commission should focus on factors such as: (1) the egregiousness of the misconduct, (2) the extent of the company’s self-reporting, cooperation and remediation, (3) the extent of harm to victims, (4) the level of complicity of senior management within the company in the alleged misconduct, and (5) the difficulty of detecting the alleged misconduct. Anecdotal experience suggests that a majority of the Commissioners, and consequently, the staff of the Enforcement Division, are following the principles outlined in Commissioner Crenshaw’s speech.
The significance of this for public companies is that the Commission’s approach to corporate penalties diverges from its statutory underpinnings. The securities laws provide for prescribed penalty amounts per violation.[16] In general, in litigated cases, district courts and administrative law judges have generally imposed reasonable limits on the penalties sought by the Commission.[17] If the Commission is no longer following the 2006 guidance, then untethered from a consideration of corporate benefit or shareholder cost-benefit, the Commission’s posture on corporate penalties is vulnerable to subjective assessments of egregiousness and corporate cooperation. Moreover, unlike calculations under the US Sentencing Guidelines, there is no public disclosure of exactly how the SEC reaches a particular penalty, leaving companies and counsel unable to understand the basis for any negotiated penalty amount.
E. Litigation Developments
In the SEC’s ongoing litigation against Ripple Labs, there were notable developments in the defendants’ ability to obtain discovery of the SEC Staff’s prior policy positions concerning whether digital currencies constitute securities. In the pending litigation against Ripple, filed at the end of 2020, the SEC alleges that Ripple’s sales of digital token XRP constituted unregistered securities offerings. In April, a Magistrate Judge hearing discovery disputes granted the defendants’ motion seeking discovery of internal SEC Staff documents bearing on whether XRP tokens are similar to other cryptocurrencies that the SEC Staff has deemed not to be securities. More recently, in July, the Magistrate Judge ordered that the defendants could take the deposition of William Hinman, the former Director of the SEC’s Division of Corporation Finance, regarding a speech he delivered as Division Director concerning whether, in the Staff’s view, certain digital tokens constitute securities. These discovery decisions provide notable precedent for obtaining discovery of evidence relevant to the positions of Commission Staff on policy issues that may be relevant to the issues pending in particular enforcement litigation.
F. Other Senior Staffing Updates
In addition to the confirmation of Chairman Gensler and appointment of Enforcement Director Grewal, there were a number of other changes in the senior staffing of the Commission:
- In April, Jane Norberg, Chief of the SEC’s Office of the Whistleblower, left the agency. Ms. Norberg had been with the Office of the Whistleblower since near its inception in 2012. The Office’s Deputy Chief, Emily Pasquinelli, has been serving as Acting Chief pending appointment of a new Chief.
- In May, Joel R. Levin, the Director of the Chicago Regional Office, left the SEC.[18] He had served as Director of the Chicago office since 2018. Associate Directors Kathryn A. Pyszka and Daniel Gregus have been serving as Regional Co-Directors pending appointment of a new Regional Director.
- In June, Chairman Gensler announced additions to his executive staff, including Amanda Fischer as Senior Counselor; Lisa Helvin as Legal Counsel; Tejal D. Shah as Enforcement Counsel; Angelica Annino as Director of Scheduling and Administration; Liz Bloom as Speechwriter to the Chair; Basmah Nada as Digital Director; and Jahvonta Mason as Special Assistant to the Chief of Staff.
- Also in June, Renee Jones joined the SEC as Director of the Division of Corporation Finance, while the Acting Director of the Division, John Coates, was named SEC General Counsel.[19] Jones previously served as Professor of Law and Associate Dean for Academic Affairs at Boston College Law School, is a member of the American Law Institute and has served as the Co-Chair of the Securities Law Committee of the Boston Bar Association. Mr. Coates had previously served as the SEC’s Acting Director of the Division of Corporate Finance since February 2021. Before joining the SEC, he was Professor of Law and Economics at Harvard University.
G. Whistleblower Awards
Coming off another record year of whistleblower awards in 2020, the Commission has continued to issue awards at a record pace in the first half of 2021. There is no reason to believe that these awards will slow down given the importance of the program to the Commission. Through June of this year, the SEC’s whistleblower program has awarded nearly $200 million to 45 separate whistleblowers. That is almost $100 million more than the first half of 2020, which was $115 million to 15 individuals. Overall, the SEC’s whistleblower program has paid out approximately $937 million to 178 individuals since the start of the program.
In April, the SEC announced an award of over $50 million to joint whistleblowers for information that alerted the SEC to violations involving highly complex transactions that would have “been difficult to detect without their information.”[20] This award is the second largest in the history of the program and reflects the Commission’s dedication to recovering funds for harmed investors.
Other significant whistleblower awards granted during the first half of this year include:
- Four awards in January, including an award of almost $500,000 to three whistleblowers in connection with two related enforcement actions; nearly $600,000 to a whistleblower whose information caused the opening of an investigation, and for the whistleblower’s ongoing assistance in the SEC’s investigation; an award of more than $100,000 to a whistleblower whose independent analysis led to a successful enforcement action;[21] and an award of $600,000 to a whistleblower whose tip led to the success of an enforcement action.[22]
- Five awards in February, including a $9.2 million award to a whistleblower who provided information that led to successful related actions by the Department of Justice.[23] Additional awards in February included two awards totaling almost $3 million to two separate whistleblowers whose high quality information led to an enforcement action that resulted in millions of dollars to harmed clients;[24] and two awards totaling more than $1.7 million to two whistleblowers in separate proceedings relating to the new Form TCR filing requirement set forth in Securities Exchange Act Rule 21F-9(e).[25]
- Four awards in March, including over $500,000 to two whistleblowers for tips that revealed ongoing fraud;[26] an award of over $5 million to joint whistleblowers whose tip resulted in the opening of an investigation;[27] approximately $1.5 million to a whistleblower whose information and assistance led to a successful SEC enforcement action;[28] and an award of more than $500,000 to a whistleblower for information and assistance that led to the shutting down of an ongoing fraudulent scheme.[29]
- Three awards in April, including an award of approximately $2.5 million to a whistleblower whose information and assistance to the SEC contributed to the success of an SEC enforcement action;[30] a $3.2 million award to a whistleblower who alerted the SEC to violations and provided subject matter expertise to the staff that conserved SEC resources; and a $100,000 award to a whistleblower for significant information and ongoing assistance.[31]
- Six awards in May, including two awards totaling $31 million to four whistleblowers, two of which received $27 million for providing the SEC with new information and assistance during an existing investigation; and two others who received $3.76 million and $750,000 respectively for independently providing the SEC with information that assisted an ongoing investigation.[32] Additional awards in May include an award of approximately $22 million to two whistleblowers for information and assistance that was “crucial” to a successful enforcement action brought against a financial services firm;[33] a $3.6 million award to a whistleblower whose information and assistance led to a successful enforcement action;[34] an award of more than $28 million to a whistleblower for information that caused both the SEC and another agency to open investigations that resulted in significant enforcement actions;[35] and an award of more than $4 million to a whistleblower who alerted the SEC to certain violations that led to the opening of an investigation.[36]
- Five awards in June, including an award of more than $23 million to two whistleblowers whose information and assistance led to successful SEC and related actions;[37] an award of $3 million to two whistleblowers who separately and independently provided the SEC with valuable information and ongoing assistance;[38] two awards totaling nearly $5.3 million to four whistleblowers who provided information that prompted the opening of two separate investigations;[39] and an award of more than $1 million to a whistleblower whose information and assistance led to multiple successful SEC enforcement actions.[40]
II. Public Company Accounting, Financial Reporting and Disclosure Cases
A. Financial Reporting Cases
Cases Against Public Companies and Executives
In February, the SEC announced settled charges against the former CEO and CFO of a company that provides Flexible Spending Account services for allegedly making false and misleading statements and omissions that resulted in the company’s improper recognition of revenue related to a contract with a large public-sector client.[41] The SEC’s order alleged that one of the company’s large public sector clients stated on multiple occasions that it did not intend to pay for certain development and transition work associated with an existing contract. The CEO and CFO allegedly directed the company to recognize $3.6 million in revenue related to this work without disclosing to internal accounting staff or to the company’s external auditor that the client’s employees denied that it owed these amounts to the company. Without admitting or denying the SEC’s findings, the CEO and CFO agreed respectively to cease and desist from further violations of the charged provisions, pay penalties of $75,000 and $100,000, and reimburse the company for incentive-based compensation received on the basis of the alleged violations.
In May, the SEC instituted a settled action against a sports apparel manufacturer for allegedly misleading investors as to the bases of its revenue growth and failing to disclose known uncertainties concerning its future revenue prospects.[42] The SEC’s order alleged that the company accelerated, or “pulled forward,” a total of $408 million in existing orders that customers had requested be shipped in future quarters and that the company attributed its revenue growth during the relevant period to a variety of other factors without disclosing to investors material information about the impact of its pull forward practices. The company agreed to cease and desist from further violations and to pay a $9 million penalty without admitting or denying the findings in the SEC order.
Cases Against Auditors and Accountants
In February, the SEC suspended two former auditors from practicing before the SEC in connection with settled charges alleging improper professional conduct during an audit of a now defunct, not-for-profit educational institution.[43] The auditors allegedly issued an audit report without following Generally Accepted Auditing Standards by, among other things, failing to obtain sufficient appropriate audit evidence or to properly prepare audit documentation. The resultant financial statements allegedly fraudulently overstated the college’s net assets by $33.8 million. Without admitting or denying the findings, the auditors agreed to the suspension with the right to apply for reinstatement after three years and one year, respectively.
In April, the SEC instituted administrative proceedings against a Texas-based CPA for allegedly failing to register his firm with the Public Company Accounting Oversight Board (PCAOB) and alleged failures in auditing and reviewing the financial statements of a public company client.[44] The CPA allegedly failed to complete his application to register with the PCAOB and performed an audit while the application was incomplete. The audit allegedly failed to comply with multiple PCAOB Auditing Standards as well. The proceedings will be scheduled for a public hearing before the Commission.
B. Disclosure Cases
In February, the SEC announced settled charges against a gas exploration and production company and its former CEO for failing to properly disclose as compensation certain perks provided to the CEO and certain related personal transactions.[45] The alleged failures to disclose included approximately $650,000 in the form of perquisites, including costs associated with the CEO’s use of the company’s chartered aircraft and corporate credit card. The SEC took into account the company’s significant cooperation efforts when accepting the settlement offer. The Company and CEO agreed, without admitting or denying to the SEC’s findings, to cease-and-desist from further violations. Additionally, the CEO agreed to pay a civil penalty in the amount of $88,248.
In April, the SEC instituted a settled action against eight companies for allegedly failing to disclose in SEC Form 12b-25 “Notification of Late Filing” forms (known as Form NT) that their requests for seeking a delayed quarterly or annual reporting filing was caused by an anticipated restatement or correction of prior financial reporting.[46] The orders found that each company announced restatements or corrections to financial reporting within four to fourteen days of their Form NT filings despite failing to disclose that anticipated restatements or corrections were among the principal reasons for their late filings. The companies, without admitting or denying the findings, agreed to cease-and-desist-orders and paid penalties of either $25,000 or $50,000.
In May, the SEC announced settled charges against a firm that produces, maintains, licenses, and markets stock market indices.[47] The SEC’s order alleged failures relating to a previously undisclosed quality control feature of one of the firm’s volatility-related indices, which allegedly led it to publish and disseminate stale index values during a period of unprecedented volatility. The allegedly undisclosed feature was an “Auto Hold”, which is triggered if an index value breaches certain thresholds, at which point the immediately prior index value continues to be reported. Without admitting or denying the SEC’s findings, the firm agreed to a cease-and-desist order and to pay a $9 million penalty.
C. Disclosure and Internal Controls Case against Ratings Agency
In February, the SEC filed a civil action against a former credit ratings agency. The SEC’s complaint alleged that the agency violated disclosure and internal control provisions in rating commercial mortgage-backed securities (CMBS).[48] According to the complaint, the credit ratings agency allowed analysts to make undisclosed adjustments to ratings models and did not establish and enforce effective internal controls over these adjustments for 31 transactions.
III. Investment Advisers and Broker-Dealers
A. Investment Advisers
In late May, the SEC filed a civil action against two investment advisers and their portfolio managers for allegedly misleading investors about risk management practices related to their short volatility trading strategy.[49] According to the SEC’s complaint, the investment advisers made misleading statements about their risk management practices. During a period of historically low volatility in late 2017, the investment adviser firms increased the level of risk in the portfolios while assuring investors that the portfolios’ risk profiles remained stable. The SEC’s complaint alleged that a sudden spike in volatility in early 2018 led to trading losses exceeding $1 billion over two trading days. The SEC separately settled related charges with the Firm’s Chief Risk Oficer.
In mid-June, the SEC announced that it had obtained an asset freeze and filed charges against a Miami-based investment professional and two investment firms for engaging in a “cherry-picking” scheme in which they allegedly channeled trading profits to preferred accounts.[50] The SEC alleged that beginning in September 2015, the firms diverted profitable trades to accounts held by relatives and allocated losing trades to other clients by using a single account to place trades without specifying the intended recipients of the securities at the time of the trade. According to the SEC’s complaint, the preferred clients received approximately $4.6 million in profitable trades while the other clients experienced over $5 million in first-day losses.
B. Broker-Dealer Reporting and Recordkeeping
In May, the SEC announced settled charges against a Colorado-based broker-dealer for failing to file Suspicious Activity Reports (SARs).[51] The purpose of SARs is to identify and investigate potentially suspicious activity. The SEC’s order alleged that for a three-year period, the broker-dealer failed to file SARs—or filed incomplete SARs—while it was aware that there were attempts to use improperly obtained personal identifying information to gain access to the retirement accounts of individual plan participants at the broker-dealer. The SEC’s order noted significant cooperation by the broker-dealer and remedial efforts including anti-money laundering systems, replacing key personnel, clarifying delegation of responsibility, and implement new SAR-related policies and training.
IV. Cryptocurrency and Digital Assets
A. Registration Case
In May, the SEC filed a civil action against five individuals for allegedly promoting unregistered digital asset securities.[52] The defendants worked as promoters for an open-source cryptocurrency, raising over $2 billion dollars from retail investors. The SEC’s complaint alleged that from January 2017 to January 2018, the promoters advertised the cryptocurrency’s “lending program” by creating “testimonial” style videos that appeared on YouTube. According to the complaint, the defendants did not register as broker-dealers and also did not register the securities offering. The complaint seeks injunctive relief, disgorgement, and civil penalties from all five defendants.
B. Fraud Case
In February, the SEC filed a civil action against three defendants, a founder of two digital currency companies and promoters for the companies, for allegedly defrauding hundreds of retail investors out of over $11 million through digital asset securities offerings.[53] The SEC’s complaint alleged that from December 2017 to January 2018, the individuals induced investors to purchase securities in the companies by claiming their trading platform was the “largest” and “most secure” Bitcoin exchange. The defendants then promoted the unregistered initial coin offering of their cryptocurrency, referred to as B2G tokens by telling investors that their cryptocurrency would be built on the Ethereum blockchain and would launch in April 2018. Instead, the SEC claims, the defendants misappropriated the investor funds for their personal benefit. The complaint seeks injunctive relief, disgorgement, and penalties, along with an officer and director bar for the founder and one promoter. The U.S. Attorney’s Office for the Eastern District of New York and the Department of Justice Fraud Section announced parallel criminal charges against the promoter.
V. Meme Stocks
In the first half of this year, the SEC responded to the growing presence of ‘meme stocks,’ which undergo spikes of rapid growth in short periods of time largely in response to social media activity. In January, following a period of increased market activity in GameStop stock fueled by posts on the social media aggregator site Reddit, the SEC released an alert that warned investors against “jump[ing] on the bandwagon” and emphasized avoiding making investment decisions based on social media posts.[54]
A. Trading Suspensions
In February, the SEC suspended trading in an inactive company due to potentially manipulative social media activity attempting to artificially inflate the company’s stock price.[55] The SEC’s trading suspension order stated that in January 2021, several social media accounts coordinated to increase the share price of stocks for a Minnesota-based medical device company, although the company had not filed reports with the SEC since 2017 and its website and contact information were non-functional. During this time, the share price and trading volume of the company’s securities increased. A few weeks later, the SEC suspended trading in the securities for 15 companies again in response to social media activity relating to the issuers, none of which had filed information with the SEC for over a year.[56] In total, the SEC suspended trading for 24 companies in February because of suspicious social media posts.
B. Fraud Case
In March, the SEC announced a filed civil action and an asset freeze against a California-based trader for allegedly using social media to post false information about a company, while selling his own holdings in the company’s stock.[57] The SEC’s complaint alleged that the defendant purchased 41 million shares of stock from a defunct company with publicly traded securities. In the same day, the trader allegedly made over 120 tweets containing false information about the company, including that the company recently revived its operations and expanded its business. As an example, one of the posts alleged that the company had “huge” investors and the CEO had “big plans” for the company’s future. In the following days, the company’s share price increased by over 4,000 percent, at which point the defendant sold his shares for a profit of over $929,000 dollars and continued to post on Twitter about the company’s success. The complaint seeks a permanent injunction, disgorgement, and a civil penalty. The SEC also temporarily suspended trading in the company’s securities.[58]
VI. Insider Trading
In March, the SEC filed settled charges against a California individual for perpetuating a scheme to sell “insider tips” on the dark web.[59] This is the SEC’s first enforcement action involving alleged securities violations on the dark web, a platform allowing users to access the internet anonymously. The complaint alleged that the individual falsely claimed to possess material, nonpublic information, which he sold on the dark web. Several investors purchased the individual’s purported tips and traded on the information he provided. The individual agreed to a bifurcated settlement (which reserves the determination of disgorgement and penalties for a later date); the U.S. Attorney’s Office for the Middle District of Florida announced parallel criminal charges.
In June 2021, the SEC announced settled charges against a New York-based couple for insider trading relating to the stock of a pharmaceutical company where one of them worked as a clinical trial project manager.[60] According to the SEC’s complaint, the project manager learned of negative results from the drug trial she oversaw, and tipped another individual who sold all of his stock in the pharmaceutical company ahead of the public news announcement. The individual also tipped his uncle, who also sold all of his stock. After the negative news was announced, the company stock fell approximately 50%, which would have led to losses of over $100,000 for the individuals had the individuals not sold their stock. The individuals have agreed to pay around $325,000 to settle the charges.
VII. Regulation FD
In the twenty years since the adoption of Regulation FD, which prohibits selective disclosure by public companies of material, non-public material information, the Commission has filed only two litigated enforcement actions alleging violation of the Rule. The first case, filed against Seibel Systems in 2005, ended swiftly when the district court granted the defendants’ motion to dismiss the Commission’s complaint for failure to state a claim.[61] More than fifteen years later, in March of this year, the SEC filed a litigated action against AT&T and three investor relations employees.[62] The complaint alleges that the three IR employees selectively released material financial data in March and April of 2016. Specifically, the SEC alleges that the IR employees disclosed material nonpublic information to a group of analysts at twenty research firms in an effort to avoid the Company’s quarterly revenue falling short of the analyst community’s estimates. AT&T issued a statement in response explaining that any information discussed in communications with analysts was public and immaterial.[63] Among other things, AT&T noted that the information discussed with analysts “concerned the widely reported, industry-wide phase-out of subsidy programs for new smartphone purchases and the impact of this trend on smartphone upgrade rates and equipment revenue…. Not only did AT&T publicly disclose this trend on multiple occasions before the analyst calls in question, but AT&T also made clear that the declining phone sales had no material impact on its earnings.” Notably, AT&T highlighted the fact that the Commission’s complaint “does not cite a single witness involved in any of these analyst calls who believes that material nonpublic information was conveyed to them.”
VIII. Offering Frauds
The SEC continued to bring a large number of offering fraud cases in the first half of 2021.
A. Investment Frauds
In January, the SEC filed two civil actions; the first was against a real estate broker and his company for raising $58 million from investors in two real estate funds by using a fabricated investment record.[64] The SEC’s complaint also alleged that the broker, who had no investment management experience, misappropriated over $7 million in investor assets to conceal losses that ultimately forced the funds to wind down. In the second action, the SEC filed a complaint against an entertainment company and its founder for using a “boiler room” sales scheme to raise money from investors.[65] According to the complaint, the company employed salespeople who utilized high-pressure tactics and made misrepresentations about the company’s growth in order to raise $14 million from individual investors. Both complaints seek disgorgement, injunctive relief, and civil penalties.
In early March, the SEC filed charges against seven individuals and a technology company for an alleged scheme to raise the price of the company’s stock, after which they sold their shares for proceeds of over $22 million.[66] The complaint also alleged that during this campaign, approximately $22.8 million was raised from investors who were allegedly misled about the true nature of the company and that a large portion of the money raised from investors was used for personal expenses. The complaint seeks disgorgement, civil penalties, and injunctive relief.
In mid-March, the SEC announced three cases relating to investor frauds. The SEC filed a civil complaint against a New Jersey resident for defrauding potential investors, most of whom were members of the Orthodox Jewish community, including friends and family of the defendant.[67] According to the complaint, the defendant raised millions of dollars using misleading and false representations regarding his real estate investment company, which purchased and owned apartment complexes. The individual defendant agreed to settle the charges against him subject to court approval; the U.S. Attorney’s Office for the District of New Jersey filed parallel criminal charges. The SEC also filed a civil complaint against an individual who raised money from investors in his company by making representations that was an environmentally friendly drink bottling and manufacturing company.[68] The complaint alleged that in reality, the company had no operations, and the money was used by the defendant for personal expenses. The SEC obtained emergency relief in this matter and the seeks complaint injunctive relief and civil penalties. Finally, the SEC filed charges against the two co-founders of a San Francisco-based biotech company for raising funds from investors by misrepresenting their company as a fast-growing medical company that could improve people’s lives via new inventions in the “microbiome industry.”[69] The complaint alleged that the co-founders’ claims regarding their clinical testing were based on false medical tests and other improper practices. The U.S. Attorney’s Office for the Northern District of California filed parallel criminal charges against the co-founders.
In April, the SEC filed a pair of civil actions against firms and their executives for conduct which resulted in significant investor losses. In the first action, the SEC alleged that an Israeli-based company and two of its former executives created a binary option securities trading platform in which investor losses were probable, and failed to inform investors that their partners were counterparties on the options.[70] In the second action, the SEC alleged that an individual and investment adviser misled investors regarding the strategy for his fund, and induced them to invest in highly illiquid companies and real estate rather than liquid assets as promised.[71] The complaint further alleged that the individual misappropriated fund assets for personal uses and failed to disclose all conflicts of interest. The U.S. Attorney’s Office for the Southern District of New York filed parallel criminal charges against the individual.
In May, the SEC filed charges against a New Jersey-based healthcare company and its founder for fraudulently raising money from investors by selling them membership interests in a company that purportedly offered employers a supplemental medical reimbursement plan.[72] The complaint alleged that the individual defendant raised money from investors through various misrepresentations, including failing to disclose his prior felony convictions and history of regulatory violations. The complaint seeks disgorgement, injunctive relief, and civil penalties.
B. Ponzi-Like Schemes
In February, the SEC filed a civil action against three individuals and their affiliated entities alleging that they conducted a Ponzi-like scheme that raised more than $1.7 billion.[73] The complaint alleged that the defendants promised investors an 8% annualized distribution payment, and represented that it was generated by portfolio companies when it was in fact sourced from other investor money. The complaint seeks disgorgement and civil penalties.
In March, the SEC filed a settled complaint against an individual for operating a decade-long fraud in which he transferred poorly performing assets from a fund controlled by him to two private hedge funds.[74] The defendant told investors that these funds were generating positive returns when a substantial number of the investments were actually used to make Ponzi-like payments to prior investors. The defendant agreed to settle to these charges, and also pled guilty to related criminal charges in the District of New Jersey.
In April, the SEC filed two civil actions alleging Ponzi-like schemes. In the first action, the SEC alleged that an actor raised $690 million by promising investors high returns by telling them that they were buying film rights which he would resell to HBO and Netflix.[75] The defendant allegedly paid investors the returns using new investments, and also misappropriated investor funds for his personal use. In the second action, the SEC’s complaint alleged that the defendant raised more than $17.1 million from over 100 investors by promising investors annual returns between 10% and 60% on resale of “customer lead generation campaigns.”[76] According to the complaint, the defendant instead use the investments to make payments to other investors and entities, as well as for personal expenses.
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[1] SEC Press Release, Allison Herren Lee Named Acting Chair of the SEC (January 21, 2021), available at https://www.sec.gov/news/press-release/2021-13.
[2] https://www.sec.gov/news/public-statement/peirce-roisman-coinschedule; https://www.sec.gov/news/public-statement/rethinking-global-esg-metrics.
[3] SEC Press Release, U.S. Sec. & Exch. Comm’n, Statement of Acting Chair Allison Herren Lee on Empowering Enforcement to Better Protect Investors (Feb, 9, 2021), https://www.sec.gov/news/public-statement/lee-statement-empowering-enforcement-better-protect-investors.
[5] See Allison Herren Lee, Acting Chair, Statement of Acting Chair Allison Herren Lee on Contingent Settlement Offers (Feb. 11, 2021), https://www.sec.gov/news/public-statement/lee-statement-contingent-settlement-offers-021121.
[6] See Hester M. Peirce & Elad L. Roisman, Commissioners, Statement of Commissioners Hester M. Peirce and Elad L. Roisman on Contingent Settlement Offers (Feb. 12, 2021), https://www.sec.gov/news/public-statement/peirce-roisman-statement-contingent-settlement-offers-021221.
[7] SEC Press Release, Gary Gensler Sworn in as Member of the SEC (April 17, 2021), available at https://www.sec.gov/news/press-release/2021-65.
[8] SEC Appoints New Jersey Attorney General Gurbir S. Grewal as Director of Enforcement, Rel. No. 2021-114, June 29, 2021, available at https://www.sec.gov/news/press-release/2021-114.
[9] SEC Press Release, SEC Announces Enforcement Task Force Focused on Climate and ESG Issues (March 4, 2021), https://www.sec.gov/news/press-release/2021-42.
[10] The Division of Examinations’ Review of ESG Investing, April 9, 2021, available at https://www.sec.gov/files/esg-risk-alert.pdf.
[11] March 31, 2021 Staff Statement on Select Issues Pertaining to Special Purpose Acquisition Companies, available at https://www.sec.gov/news/public-statement/division-cf-spac-2021-03-31; March 31, 2021 Public Statement: Financial Reporting and Auditing Considerations of Companies Merging with SPACs, available at https://www.sec.gov/news/public-statement/munter-spac-20200331; Apr. 8, 2021 Public Statement: SPACs, IPOs and Liability Risk under the Securities Laws, available at https://www.sec.gov/news/public-statement/spacs-ipos-liability-risk-under-securities-laws; Apr. 12, 2021 Public Statement: Staff Statement on Accounting and Reporting Considerations for Warrants Issued by Special Purpose Acquisition Companies (“SPACs”), available at https://www.sec.gov/news/public-statement/accounting-reporting-warrants-issued-spacs; SEC Official Warns on Growth of Blank-Check Firms, Wall St. Journal (Apr. 7, 2021), available at https://www.wsj.com/articles/sec-official-warns-on-growth-of-blank-check-firms-11617804892.
[12] Press Release, Securities and Exchange Commission, SEC Charges SPAC, Sponsor Merger Target, and CEOs for Misleading Disclosures Ahead of Proposed Business Combination (July 13, 2021), available at https://www.sec.gov/news/press-release/2021-124.
[13] In the Matter of Certain Cybersecurity-Related Events (HO-14225) FAQs, available at https://www.sec.gov/enforce/certain-cybersecurity-related-events-faqs.
[14] Statement of the Securities and Exchange Commission Concerning Financial Penalties, Rel. 2006-4, Jan. 4, 2006, available at https://www.sec.gov/news/press/2006-4.htm.
[15] Moving Forward Together – Enforcement for Everyone, Commissioner Caroline A. Crenshaw, March 9, 2021, available at https://www.sec.gov/news/speech/crenshaw-moving-forward-together.
[16] See, e.g., Securities Exchange Act of 1934, Section 21(d)(3) (15 U.S.C. § 78u).
[17] See, e.g., In re Total Wealth Management, Inc., Initial Dec. No. 860 (Aug. 17, 2005) (finding Enforcement Division staff’s argument that each investor constitutes a separate violation “arbitrary” and “overly simplistic” and may “lead to wildly disproportionate penalty amounts.”).
[18] SEC Press Release, Joel R. Levin, Director of Chicago Regional Office, to Leave SEC, (April 16, 2021), available at https://www.sec.gov/news/press-release/2021-63.
[19] SEC Press Release, Renee Jones to Join SEC as Director of Corporation Finance; John Coates Named SEC General Counsel, (June 14, 2021), available at https://www.sec.gov/news/press-release/2021-101.
[20] SEC Press Release, SEC Awards Over $50 Million to Joint Whistleblowers (April 15, 2021), available at https://www.sec.gov/news/press-release/2021-62.
[21] SEC Press Release, SEC Issues Over $1.1 Million to Multiple Whistleblowers (January 7, 2021), available at https://www.sec.gov/news/press-release/2021-2.
[22] SEC Press Release, SEC Awards Nearly $600,000 to Whistleblower (January 14, 2021), available at https://www.sec.gov/news/press-release/2021-7.
[23] SEC Press Release, SEC Awards Almost $3 Million Total in Separate Whistleblower Awards (February 19, 2021), available at https://www.sec.gov/news/press-release/2021-31.
[24] SEC Press Release, SEC Awards More Than $9.2 Million to Whistleblower for Successful Related Actions, Including Agreement with DOJ (February 23, 2021), available at https://www.sec.gov/news/press-release/2021-30.
[25] SEC Press Release, SEC Issues Whistleblower Awards Totaling Over $1.7 Million (February 25, 2021), available at https://www.sec.gov/news/press-release/2021-34.
[26] SEC Press Release, SEC Awards Over $500,000 to Two Whistleblowers (March 1, 2021), available at https://www.sec.gov/news/press-release/2021-37.
[27] SEC Press Release, SEC Issues Over $5 Million to Joint Whistleblowers Located Abroad (March 4, 2021), available at https://www.sec.gov/news/press-release/2021-41.
[28] SEC Press Release, SEC Awards Approximately $1.5 Million to Whistleblower (March 9, 2021), available at https://www.sec.gov/news/press-release/2021-44.
[29] SEC Press Release, SEC Awards Over $500,000 to Whistleblower Under “Safe Harbor” for Internal Reporting and Surpasses Record for Individual Awards (March 29, 2021), available at https://www.sec.gov/news/press-release/2021-54.
[30] SEC Press Release, SEC Awards Approximately $2.5 Million to Whistleblower (April 9, 2021), available at https://www.sec.gov/news/press-release/2021-60.
[31] SEC Press Release, SEC Awards More Than $3 Million to Whistleblowers in Two Enforcement Actions (April 23, 2021), available at https://www.sec.gov/news/press-release/2021-70.
[32] SEC Press Release, SEC Awards More Than $31 Million to Whistleblowers in Two Enforcement Actions (May 17, 2021), available at https://www.sec.gov/news/press-release/2021-85.
[33] SEC Press Release, SEC Awards $22 Million to Two Whistleblowers (May 10, 2021), available at https://www.sec.gov/news/press-release/2021-81.
[34] SEC Press Release, SEC Awards Approximately $3.6 Million to Whistleblower (May 12, 2021), available at https://www.sec.gov/news/press-release/2021-83.
[35] SEC Press Release, SEC Awards More Than $28 Million to Whistleblower Who Aided SEC and Other Agency Actions (May 19, 2021), available at https://www.sec.gov/news/press-release/2021-86.
[36] SEC Press Release, SEC Awards More Than $4 Million to Whistleblower (May 27, 2021), available at https://www.sec.gov/news/press-release/2021-88.
[37] SEC Press Release, SEC Awards More Than $23 Million to Whistleblowers (June 2, 2021), available at https://www.sec.gov/news/press-release/2021-91.
[38] SEC Press Release, SEC Awards Approximately $3 Million to Two Whistleblowers (June 14, 2021), available at https://www.sec.gov/news/press-release/2021-100.
[39] SEC Press Release, SEC Issues Whistleblower Awards Totaling Nearly $5.3 Million (June 21, 2021), available at https://www.sec.gov/news/press-release/2021-106.
[40] SEC Press Release, SEC Awards More Than $1 Million to Whistleblower (June 24, 2021), available at https://www.sec.gov/news/press-release/2021-110.
[41] SEC Press Release, SEC Charges Former Executives of San Francisco Bay Area Company With Accounting Violations (Feb. 2, 2021), available at https://www.sec.gov/news/press-release/2021-23.
[42] SEC Press Release, SEC Charges Under Armour Inc. With Disclosure Failures (May 3, 2021), available at https://www.sec.gov/news/press-release/2021-78.
[43] SEC Press Release, SEC Charges Two Former KPMG Auditors for Improper Professional Conduct During Audit of Not-for-Profit College (Feb. 23, 2021), available at https://www.sec.gov/news/press-release/2021-32.
[44] SEC Press Release, Auditor Charged for Failure to Register with PCAOB and Multiple Audit Failures (Apr. 5, 2021), available at https://www.sec.gov/news/press-release/2021-56.
[45] SEC Press Release, SEC Charges Gas Exploration and Production Company and Former CEO with Failing to Disclose Executive Perks (Feb. 24, 2021), available at https://www.sec.gov/news/press-release/2021-33.
[46] SEC Press Release, SEC Charges Eight Companies for Failure to Disclose Complete Information on Form NT (Apr. 29 2021), available at https://www.sec.gov/news/press-release/2021-76.
[47] SEC Press Release, SEC Charges S&P Dow Jones Indices for Failures Relating to Volatility-Related Index (May 17, 2021), available at https://www.sec.gov/news/press-release/2021-84.
[48] SEC Press Release, SEC Charges Ratings Agency With Disclosure And Internal Controls Failures Relating To Undisclosed Model Adjustments (February 16, 2021), available at https://www.sec.gov/news/press-release/2021-29.
[49] SEC Press Release, SEC Charges Mutual Fund Executives with Misleading Investors Regarding Investment Risks in Funds that Suffered $1 Billion Trading Loss (May 27, 2021), available at https://www.sec.gov/news/press-release/2021-89.
[50] SEC Press Release, SEC Charges Investment Advisers With Cherry-Picking, Obtains Asset Freeze (June 17, 2021), available at https://www.sec.gov/news/press-release/2021-105.
[51] SEC Press Release, SEC Charges Broker-Dealer for Failures Related to Filing Suspicious Activity Reports (May 12, 2021), available at https://www.sec.gov/news/press-release/2021-82.
[52] SEC Press Release, SEC Charges U.S. Promoters of $2 Billion Global Crypto Lending Securities Offering (May 28, 2021), available at https://www.sec.gov/news/press-release/2021-90.
[53] SEC Press Release, SEC Charges Three Individuals in Digital Asset Frauds (Feb. 1, 2021), available at https://www.sec.gov/news/press-release/2021-22.
[54] SEC Investor Alert, Thinking About Investing in the Latest Hot Stock? (Jan. 30, 2021), available at https://www.sec.gov/oiea/investor-alerts-and-bulletins/risks-short-term-trading-based-social-media-investor-alert.
[55] SEC Press Release, SEC Suspends Trading in Inactive Issuer Touted on Social Media (Feb. 11, 2021), available at https://www.sec.gov/news/press-release/2021-28.
[56] SEC Order of Suspension of Trading, In the Matter of Bebiba Beverage Co., et. al. (Feb. 25, 2021), available at https://www.sec.gov/litigation/suspensions/2021/34-91213-o.pdf.
[57] SEC Press Release, SEC Obtains Emergency Asset Freeze, Charges California Trader with Posting False Stock Tweets (Mar. 15, 2021), available at https://www.sec.gov/news/press-release/2021-46.
[58] SEC Order of Suspension of Trading, In the Matter of Arcis Resources Corporation (Mar. 2, 2021), available at https://www.sec.gov/litigation/suspensions/2021/34-91245-o.pdf.
[59] SEC Press Release, SEC Charges California-Based Fraudster With Selling “Insider Tips” on the Dark Web (March 18, 2021), available at https://www.sec.gov/news/press-release/2021-51.
[60] SEC Press Release, SEC Charges Couple With Insider Trading on Confidential Clinical Trial Data (June 7, 2021), available at https://www.sec.gov/news/press-release/2021-94.
[61] SEC v. Siebel Systems, Inc., 384 F. Supp. 2d 694 (S.D.N.Y. 2005).
[62] SEC Press Release, SEC Charges AT&T and Three Executives with Selectively Providing Information to Wall Street Analysts (Mar. 5, 2021), available at https://www.sec.gov/news/press-release/2021-43.
[63] AT&T Disputes SEC Allegations, Mar. 5, 2021, available at https://www.prnewswire.com/news-releases/att-disputes-sec-allegations-301241737.html.
[64] SEC Press Release, SEC Charges Real Estate Fund Manager With Misappropriating Over $7 Million From Retail Investors (Jan. 12, 2021), available at https://www.sec.gov/news/press-release/2021-4.
[65] SEC Press Release, SEC Charges Vuuzle Media Corp. and Affiliated Individuals in Connection With $14 Million Offering Fraud (Jan. 27, 2021), available at https://www.sec.gov/news/press-release/2021-18.
[66] SEC Press Release, SEC Charges Seven Individuals for $45 Million Fraudulent Scheme (Mar. 2, 2021), available at https://www.sec.gov/news/press-release/2021-38.
[67] SEC Press Release, SEC Charges Owner of Real Estate Investment Company with Defrauding Investors (Mar. 18, 2021), available at https://www.sec.gov/news/press-release/2021-48.
[68] SEC Press Release, SEC Obtains Emergency Asset Freeze, Charges Colorado Resident with Fraud Involving Sham Bottling Company (Mar. 18, 2021), available at https://www.sec.gov/news/press-release/2021-50.
[69] SEC Press Release, SEC Charges Co-Founders of San Francisco Biotech Company With $60 Million Fraud (Mar. 18, 2021), available at https://www.sec.gov/news/press-release/2021-49.
[70] SEC Press Release, SEC Charges Binary Options Trading Platform and Two Top Executives with Fraud (Apr. 19, 2021), available at https://www.sec.gov/news/press-release/2021-66.
[71] SEC Press Release, SEC Charges Fund Manager and Former Race Car Team Owner with Multimillion Dollar Fraud (Apr. 23, 2021), available at https://www.sec.gov/news/press-release/2021-71-0.
[72] SEC Press Release, SEC Charges Healthcare Company and Its Founder with Multimillion Dollar Fraud (May 19, 2021), available at https://www.sec.gov/news/press-release/2021-87.
[73] SEC Press Release, SEC Charges Investment Adviser and Others With Defrauding Over 17,000 Retail Investors (Feb. 4, 2021), available at https://www.sec.gov/news/press-release/2021-24.
[74] SEC Press Release, SEC Charges Unregistered Investment Adviser with Defrauding Investors in Decade-Long Scheme (Mar. 9, 2021), available at https://www.sec.gov/news/press-release/2021-45.
[75] SEC Press Release, SEC Obtains Emergency Asset Freeze, Charges Actor with Operating a $690 Million Ponzi Scheme (Apr. 6, 2021), available at https://www.sec.gov/news/press-release/2021-58.
[76] SEC Press Release, SEC Obtains Emergency Relief, Charges Florida Company and CEO with Misappropriating Investor Money and Operating a Ponzi Scheme (Apr. 26, 2021), available at https://www.sec.gov/news/press-release/2021-74.
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This alert surveys recent case law and legislative developments involving California’s anti-SLAPP statute, California Code of Civil Procedure § 425.16(e). The anti-SLAPP statute offers defendants in actions brought pursuant to California law a powerful procedural tool to seek early dismissal of lawsuits that target defendants’ actions taken in furtherance of their “right of petition or free speech under the United States Constitution or the California Constitution in connection with a public issue.”[1]
Courts apply a two-pronged analytical framework to evaluate an anti-SLAPP special motion to strike. The first is the “protected activity” prong, under which the defendant has the burden of proving that the activity that gave rise to the plaintiff’s cause of action arises from one of the four enumerated categories under § 425.16(e):
- any written or oral statement or writing made before a legislative, executive, or judicial proceeding, or any other official proceeding authorized by law,
- any written or oral statement or writing made in connection with an issue under consideration or review by a legislative, executive, or judicial body, or any other official proceeding authorized by law,
- any written or oral statement or writing made in a place open to the public or a public forum in connection with an issue of public interest, or
- any other conduct in furtherance of the exercise of the constitutional right of petition or the constitutional right of free speech in connection with a public issue or an issue of public interest.
If the first prong is met, the burden shifts to the plaintiff to establish on the second prong that “there is a probability that the plaintiff will prevail on the claim.”[2] Giving additional teeth to the law, a defendant who prevails on an anti-SLAPP special motion to strike is entitled to recover its attorneys’ fees and costs incurred in bringing the motion.[3]
Below, we discuss recent substantive decisions by state and federal courts that apply the anti-SLAPP statute’s framework to lawsuits in the media, finance, employment, and real estate contexts and which involve claims regarding revenge porn, trade libel, unfair competition, business torts, and employment discrimination, and also implicate the law’s commercial-speech exemption.
1. Hill v. Heslep et al., Case No. 20STCV48797 (Apr. 7, 2021, L.A. Cnty. Super. Ct.)
Facts: Plaintiff Katherine Hill, a former U.S. Representative from California’s 25th congressional district, sued Mail Media, Inc. (publisher of the Daily Mail) in a California state court for publishing to its MailOnline website nonconsensually distributed nude photographs of Hill.[4] The photographs had been disseminated by Kenneth Heslep, Hill’s ex-husband (also named as a defendant). Hill also sued talk-radio host Joe Messina for statements referencing the images that he made on-air and in an article posted to his blog, as well as Salem Media Group, Inc. (owner of the conservative political blog RedState) and RedState editor Jennifer Van Laar for their alleged roles in the distribution of the nude photos. Hill alleged that the actions of each defendant violated California Civil Code § 1708.85, the state’s revenge porn law, which prohibits the “distribution” of certain types of intimate photographs (among other types of media) without the consent of the depicted individual. Distribution is not defined by the statute, but Judge Yolanda Orozco of the Los Angeles County Superior Court construed it broadly enough to include activities such as dissemination of prohibited photographs by an individual to others as well as publication by media outlets. On April 7, 2021, Judge Orozco heard and granted Mail Media’s anti-SLAPP motion to strike; Hill has filed a notice of appeal.
Prong 1: In analyzing prong one, Judge Orozco noted that “reporting the news is speech subject to the protections of the First Amendment and subject to an anti-SLAPP motion if the report concerns a public issue or an issue of public interest,”[5] and “‘[t]he character and qualifications of a candidate for public office constitutes a “public issue or public interest”’ for purposes of section 425.16.”[6] While the court agreed with Hill that “the gravamen of her Complaint against [Mail Media] is [its] distribution of Plaintiff’s intimate images,”[7] it noted that this distribution occurred via an online news publication, and the “intimate images published by Defendant spoke to Plaintiff’s character and qualifications for her position, as they allegedly depicted Plaintiff with a campaign staffer whom she was alleged to have had a sexual affair with and appeared to show Plaintiff using a then-illegal drug…”[8] Thus, “the gravamen of Plaintiff’s Complaint against Defendant constitutes protected activity under Section 425.16(e)(3) and (4).”[9]
Prong 2: On the second (merits) prong, Judge Orozco noted that Hill’s claims presented a novel intersection of California’s anti-SLAPP and revenge porn laws. Section 1708.85(a) states, in relevant part,
A private cause of action lies against a person who intentionally distributes… a photograph… of another, without the other’s consent, if (1) the person knew that the other person had a reasonable expectation that the material would remain private, (2) the distributed material exposes an intimate body part of the other person… and (3) the other person suffers general or special damages…
However, Judge Orozco held that the newspaper’s activities fell squarely within the “matter of public concern” exemption contained in § 1708.85(c)(4), as the published images “speak to Plaintiff’s character and qualifications for her position as a Congresswoman.”[10] Thus, “Plaintiff failed to carry her burden establishing that there is a probability of success on the merits of her claim.”[11]
Other Case Notes & Attorneys’ Fees Awards: In a subsequent hearing on June 2, 2021, Judge Orozco granted Mail Media’s motion for costs and prevailing-party attorneys’ fees, totaling $104,747.75.[12] The dismissal of Mail Media’s claims followed the earlier dismissals and awards of attorneys’ fees for all of the other defendants except for Heslep, the lone defendant remaining in the case.[13] In total, Hill has been ordered to pay over $200,000 in attorneys’ fees to the prevailing defendants.[14]
Of note, Hill was ordered to pay $30,000 in fees and costs to Messina, the radio personality who merely commented about the pictures on his program and blog.[15] Shortly after Messina filed his anti-SLAPP motion to strike, but before the scheduled hearing, Hill voluntarily withdrew her claims against Messina. Despite this, Judge Orozco entertained Messina’s motion for attorneys’ fees as the prevailing defendant under Section 425.16. Judge Orozco noted that “‘because a defendant who has been sued in violation of his… free speech rights is entitled to an award of attorney fees, the trial court must, upon defendant’s motion for a fee award, rule on the merits of the SLAPP motion even if the matter has been dismissed prior to the hearing on that motion.’”[16] Judge Orozco concluded that Messina was the prevailing party on the merits of the motion to strike and granted the motion for attorneys’ fees.
While the trial court’s orders are non-precedential, the Court of Appeal will have a chance to review them, as on June 18, 2021, Hill filed notices of appeal for the orders granting the anti-SLAPP motions of Mail Media, Van Laar, and Salem Media.
2. Muddy Waters, LLC v. Superior Court, 62 Cal. App. 5th 905 (2021)
Facts: In 2017, Perfectus Aluminum, Inc., a distributor of aluminum products, sued Muddy Waters, LLC, a financial analysis firm that engages in activist short selling, following the latter’s publication of a pair of reports that allegedly implicated Perfectus in a scheme to inflate aluminum sales for Zhongwang Holdings, Ltd., a publicly traded Chinese company.[17] The two reports (“Dupré Reports”) were published by Muddy Waters on a publicly accessible website under the business pseudonym “Dupré Analytics.” In its complaint, Perfectus alleged that U.S. Customs detained a shipment of the company’s aluminum awaiting export in the port of Long Beach and lost potential business as a result of the allegations in the Dupré Reports, bringing claims for 1) violation of California’s Unfair Competition Law; 2) trade libel; and 3) intentional interference with prospective economic advantage.
The Superior Court of San Bernardino County denied Muddy Waters’s anti-SLAPP motion on the grounds that Muddy Waters failed to prove that the causes of action arose from protected activity and, alternatively, that the commercial speech exemption of Section 425.17(c) applied to the publication of the Dupré Reports, thereby barring an anti-SLAPP challenge. Because the trial court found Section 425.17 applied, Muddy Waters lacked the immediate right of appeal that is otherwise available upon denial of an anti-SLAPP motion and thus sought a writ of mandate from the Court of Appeal.
Prong 1: The Court of Appeal began its analysis of the first prong by highlighting the third category of protected activities in § 425.16(e): “any written or oral statement or writing made in a place open to the public or a public forum in connection with an issue of public interest.” The Court divided the first prong’s analysis into two stages. In the first stage, the Court determined whether a publicly accessible website constitutes a public forum, and found that it does, as “Internet postings on websites that ‘are open and free to anyone who wants to read the messages’ and ‘accessible free of charge to any member of the public’ satisfies the public forum requirement of section 425.16.”[18]
In the second stage, the Court asked whether the content of the Dupré Reports represented an issue of public interest, and found that it did because the reports alleged that Zhongwang was artificially inflating reported sales and allegations of “mismanagement or investor scams” made against a publicly traded company constitute an “issue of public interest” for purposes of the anti-SLAPP law.[19]
Commercial Speech Exemption: Before moving to the merits prong of the anti-SLAPP analysis, the Court of Appeal addressed the trial court’s determination that the § 425.17(c) commercial speech exemption applied, thereby barring Muddy Waters’s ability to bring an anti-SLAPP motion. The Court noted that the plaintiff has the burden of proof to establish the applicability of the commercial speech exemption, and that the exemption is “narrow,” excluding only a “‘subset of commercial speech—specifically, comparative advertising.’”[20] Thus, it noted, the commercial speech exemption is triggered only with respect to “speech or conduct by a person engaged in the business of selling or leasing goods or services when… that challenged [speech or] conduct pertains to the business of the speaker or his or her competitors.”[21] In other words, the Court noted, the commercial speech exemption does not apply in circumstances like the current case, where a defendant has made representations of fact about a noncompetitor’s goods in order to promote sales of the defendant’s goods or services. Accordingly, the Court of Appeal reversed the Superior Court’s determination that the commercial speech exemption applied and barred Muddy Waters from bringing an anti-SLAPP motion.
Prong 2: The Court of Appeal next determined whether Perfectus had satisfied the merits prong for each of its three causes of action.
For the California UCL claim, the Court wrote that “nothing in the record suggests that plaintiff has lost money or property such that it would have standing to pursue a UCL action against Muddy Waters.”[22] The Court found that Perfectus had not produced any evidence that would establish a nexus between the alleged unfair practice (publication of the Dupré Reports) and the loss of property (the aluminum that was detained by U.S. Customs), and therefore lacked standing to bring a UCL claim.
For the trade libel claim, the Court noted that Perfectus failed to produce evidence identifying a specific third party that was deterred from conducting business with Perfectus as a result of the Dupré Reports, a required element for the claim. It wrote, “‘it is not enough to show a general decline in [Perfectus’s] business resulting from the falsehood, even where no other cause for it is apparent… it is only the loss of specific sales [as a result of the defendant’s actions] that can be recovered.’”[23] Thus, Perfectus’s failure to specify a particular business partner that was convinced by the Dupré Reports to refrain from dealing with Perfectus doomed the trade libel cause of action.
Finally, on the intentional-interference-with-prospective-economic-advantage claim, the Court noted that Perfectus would need to prove an “actual economic relationship with a third party”[24] and that the relationship “‘contains the probability of future economic benefit to [Perfectus],’”[25] but that Perfectus failed to submit evidence that identified such an actual economic relationship with a specific third party.[26]
Result: The Court of Appeal issued a writ of mandate directing the Superior Court to vacate its order denying Muddy Waters’s anti-SLAPP motion and to enter in its place a new order granting the motion. Perfectus has sought review in the California Supreme Court.
3. Verceles v. Los Angeles Unified School District, 63 Cal. App. 5th 776 (2021)
Facts: Plaintiff Junnie Verceles, a Filipino man who was 46 years old at the time he filed his complaint in March 2019, was a teacher in the Los Angeles Unified School District from 1998 until his termination on March 13, 2018.[27] On December 1, 2015, following unspecified allegations of misconduct, Verceles was reassigned and placed on paid suspension, which Verceles described as “teacher jail.” In November 2016, Verceles filed a discrimination complaint with the California Department of Fair Employment and Housing (DFEH) while an investigation by the District into the alleged misconduct was still underway. The DFEH case was closed on March 7, 2017, and roughly one year later, the District terminated Verceles’s employment. Verceles alleged three violations of California’s Fair Employment and Housing Act (FEHA): 1) age discrimination, 2) race and national origin discrimination, and 3) retaliation; in response, the District filed an anti-SLAPP motion to strike each of the three causes of action. After the Los Angeles County Superior Court granted the District’s motion, Verceles appealed; the Court of Appeal reversed.
Prong 1: The District argued that each cause of action arose out of its investigation into teacher misconduct, and was thus protected activity under § 425.16(e). Verceles argued that the gravamen of his complaint was not the investigation into teacher misconduct, but the discrimination and retaliation that resulted in his firing by the District. The trial court granted the motion, characterizing the investigation and resulting termination (and alleged discrimination and retaliation) as a single “proceeding” that gave rise to the causes of action.
The Court of Appeal, however, rejected the District’s attempt to “define the alleged adverse action broadly to encompass the entirety of its investigation into Verceles’s purported misconduct.”[28] Instead, the Court found persuasive Verceles’s argument that the investigation as a whole into his alleged misconduct was not tainted by discriminatory or retaliatory intent. After all, Verceles argued, the investigation began before Verceles filed his DFEH complaint, and so up to that point, there was nothing for the District to retaliate against. Furthermore, Verceles argued, the District’s other investigations into alleged misconduct did not demonstrate a pattern of discrimination against protected groups that resulted in the requisite disparate impact; however, according to Verceles, the District’s termination practices and use of “teacher’s jail” to discipline a relative few number of teachers like him did demonstrate such a pattern of disparate, adverse impacts on protected groups. Thus, the Court concluded that the activities that underpinned Verceles’s complaint were his reassignment to “teacher’s jail” and termination.
The District argued that the “investigation was an ‘official proceeding authorized by law’ for purposes of [425.16(e)(2)],” and that all actions taken in the course of the investigation—including the decision to reassign and terminate Verceles—fell within the ambit of this protected activity.[29] The Court acknowledged that the District was generally correct to state that an investigation into alleged misconduct by a public employee is categorized as “an official proceeding”; however, the Court rejected the idea that every action taken during the course of such an investigation constituted a protected activity for anti-SLAPP purposes.[30] “Such an interpretation,” wrote the Court, “ignores the plain language of the statute, which requires a claim be based on a written or oral statement made in connection with the proceeding.”[31] Instead, Section 425.16(e) protects the District’s speech and petitioning activity “that led up to or contributed” to the decision to reassign and terminate Verceles, but it did not protect the actual acts of reassignment and termination.[32] Thus, “In the absence of any oral or written statements from which Verceles’ claims arise, the District’s decisions to place Verceles on leave and terminate his employment are not protected activity within the meaning of [Section 425.16(e)(2)].”[33]
Result: Thus, the Court held that the District failed to meet its burden under the first prong of the anti-SLAPP analysis and reversed the trial court’s judgment granting the District’s motion to strike and motion for attorney’s fees as the prevailing party. The Court also granted Verceles’s the costs related to his appeal of the order granting the motion to strike. The District filed a petition for review, which is currently pending before the California Supreme Court.
4. Appel v. Wolf, 839 F. App’x 78 (9th Cir. 2020)
Facts: Defendant Robert Wolf is an attorney who represents Concierge Auctions, LLC, a company that specializes in auctioning off luxury real estate. A dispute arose between Concierge and the plaintiff Howard Appel over the sale of property in Fiji. During the course of this dispute, Wolf sent an email containing an allegedly defamatory statement that Wolf knew Appel and that Appel “had legal issues (securities fraud).”[34] After Appel sued Wolf for defamation, Wolf filed an anti-SLAPP motion to strike, arguing that the statements in the email were made pursuant to settlement discussions in the course of litigation and so were protected under Section 425.16. The district court denied the motion to strike and Wolf appealed. Though it found the district court erred in its prong-one analysis, the Ninth Circuit found such error harmless and therefore affirmed.
Prong 1: In its first prong analysis, the Ninth Circuit held that the district court erred in holding that Wolf’s email communication was not protected activity, as acts that occur in the course of litigation “are generally considered protected conduct falling within section 425.16(e)(2)’s broad ambit.”[35] The panel noted that “[t]his protection extends to ‘an attorney’s communication with opposing counsel on behalf of a client regarding pending litigation’ and includes ‘an offer of settlement to counsel.’”[36] The panel then found that “[t]he district court misapplied California law when it reasoned that Wolf’s email—which was sent to Appel’s counsel, allegedly ‘begging for a phone[-]call discussion about possible settlement of Appel’s case against Concierge’—was insufficiently concrete to qualify as protected conduct,” because “Section 425.16(e)(2) has no such ‘concreteness’ requirement.”[37] Thus, the allegedly libelous email qualified for Section 425.16(e)(2)’s protection, and Wolf satisfied his burden of establishing the first prong.
Prong 2: However, the Ninth Circuit held that the district court’s error on prong one was ultimately harmless, because Appel was “reasonably likely to succeed on the merits of his claim, given that Wolf’s email was facially defamatory and not immunized by California’s litigation privilege.”[38] First, the complaint’s allegations and the email itself supported the district court’s finding that Wolf’s statement “would have negative, injurious ramifications on [Appel’s] integrity.”[39] Next, though Wolf’s statement was made in the context of settlement negotiations, the panel held it was not privileged, as “the privilege ‘does not prop the barn door wide open’ for every defamatory ‘charge or innuendo,’ merely because the libelous statement is included in a presumptively privileged communication,”[40] and “Appel established that Wolf’s false insinuation that he had been involved in securities fraud is not reasonably relevant to Appel’s underlying dispute with Concierge.”[41]
Result: The Ninth Circuit thus affirmed the district court’s denial of Wolf’s anti-SLAPP motion.
5. SB 329 Proposes Limitation on Use of Anti-SLAPP Motions in “No Contest” Wills and Trust Actions
Finally, a new bill, California Senate Bill 329, introduced by Senator Brian Jones (R, 38th Dist.), proposes to prohibit the use of anti-SLAPP motions in actions relating to wills and trusts. The bill would amend Section 425.17 to add the following provision: “(e) Section 425.16 does not apply to an action to enforce a no contest clause contained in a will, trust, or other instrument. As used in this subdivision, ‘no contest clause’ has the meaning provided in Section 21310 of the Probate Code.” A “no-contest” clause is a provision that disinherits a beneficiary who challenges a will or trust.
The Senate Floor Analysis of the bill notes that “[a]lthough commonly associated with the protection of constitutional rights, the anti-SLAPP statute applies to a broad range of contexts, including proceedings to enforce a no-contest clause in a trust or will that penalizes beneficiaries who challenge the terms of the will without probable cause.” The Senate Judiciary notes that two recent Court of Appeal cases “establish that the anti-SLAPP statute applies to no-contest enforcement petitions.”[42] SB 329 is sponsored by the California Conference of Bar Associations and the Executive Committee of the Trusts and Estates Section of the California Lawyers Association, which “argue that the statute was not intended to apply in this context and that it offers minimal upside while opening the door to needless litigation and cost.”
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[1] Cal. Civ. Code § 425.16(b)(1).
[4] Hill v. Heslep et al., Case No. 20STCV48797, at *1 (Apr. 7, 2021, L.A. Cnty. Super. Ct.).
[5] Id. at *8 (citing Liberman v. KCOP Television, Inc., 110 Cal. App. 4th 156, 164 (2003)).
[6] Id. at *6-7 (quoting Collier v. Harris, 240 Cal. App. 4th 41, 52 (2015)).
[12] Hill v. Heslep et al., Case No. 20STCV48797 at *5 (Super. Ct. of L.A. Cnty., June 2, 2021).
[13] Nathan Solis, Katie Hill Owes Daily Mail $105K for Attorney Fees in Nude Photo Fight, Courthouse News Service (June 2, 2021), https://www.courthousenews.com/katie-hill-owes-daily-mail-105k-for-attorney-fees-in-nude-photo-fight/.
[15] Hill v. Heslep, et. al., Case No. 20STCV48797, at *12 (Super. Ct. of L.A. Cnty., May 4, 2021).
[16] Id. at *3 (citing Pfeiffer Venice Properties v. Bernard, 101 Cal. App. 4th 211, 218 (2002)).
[17] Muddy Waters, LLC v. Superior Ct., 62 Cal. App. 5th 905, 912-93 (2021), reh’g denied (Apr. 23, 2021), petition for review filed (May 18, 2021).
[18] Muddy Waters, 62 Cal. App. 5th at 917 (citing ComputerXpress, Inc. v. Jackson, 93 Cal. App. 4th 993, 1007 (2001)).
[20] Id. at 919-20 (citing Dean v. Friends of Pine Meadow, 21 Cal. App. 5th 91, 105 (2018)).
[23] Id. at 925 (citing Erlich v. Etner, 224 Cal. App. 2d 69, 73 (1964)).
[25] Id. (citing Korea Supply Co. v. Lockheed Martin Corp., 29 Cal 4th 1134, 1164 (2003)).
[26] Muddy Waters, 62 Cal. App. 5th at 926-27.
[27] Verceles v. Los Angeles Unified Sch. Dist., 63 Cal. App. 5th 776, 779 (2021), petition for review filed (June 3, 2021).
[34] Appel v. Wolf, 839 F. App’x 78, 80 (9th Cir. 2020).
[36] Id. (citing GeneThera, Inc. v. Troy & Gould Pro. Corp., 171 Cal. App. 4th 901, 905 (2009)).
[40] Id. at 81 (quoting Nguyen v. Proton Technology Corp., 69 Cal. App. 4th 140, 150 (1999)).
[42] Citing Key v. Tyler, 34 Cal. App. 5th 505 (2019); Urick v. Urick, 15 Cal. App. 5th 1182 (2017).
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