Blawgletter®

DNA and Pricing Patents Fall to Mayo and Alice

Unpatentable subject matter

A pair of Federal Circuit opinions last week rejected patents involving patent-ineligible subject matter.

What does that include, you ask?

As Blawgletter noted last year in "You Still Can't Patent Ideas":

Section 101 of the Patent Act allows patents on "any new and useful process, machine, manufacture, or composition of matter, or any new and useful improvement thereof". 35 U.S.C. 101. But, the Supreme Court has held, it does not make laws of nature, natural phenomena, or abstract ideas patentable. Ass'n for Molecular Pathology v. Myriad Genetics, Inc., 133 S. Ct. 2107, 2116 (2013). Those things "are the basic tools of scientific and technological work". Gottschalk v. Benson, 409 U.S. 63, 67 (1972).

We went on to discuss the then-new ruling by the Supreme Court on "business method" patents that fail the section 101 test because they involve "abstract ideas" in Alice Corp. Pty. Ltd. v. CLS Bank Int'l, 134 S. Ct. 2347 (2014).

Alice applied the analytical framework that the Court announced in a "laws of nature" case it decided two years earlier -- Mayo Collaborative Services v. Prometheus Laboratories, Inc., 132 S. Ct. 1289 (U.S. Mar. 20, 2012). The framework calls for a two-step process:

First, we determine whether the claims at issue are directed to a patent ineligible concept. Id. at 1297. If the answer is yes, then we next consider the elements of each claim both individually and “as an ordered combination” to determine whether additional elements “transform the nature of the claim” into a patent-eligible application. Id. at 1298. The Supreme Court has described the second step of this analysis as a search for an “inventive concept”—i.e., an element or combination of elements that is “sufficient to ensure that the patent in practice amounts to significantly more than a patent upon the [ineligible concept] itself.” Id. at 1294;

Ariosa Diagnostics, Inc. v. Sequenom, Inc., No. 14-1139 (Fed. Cir. June 12, 2015).

The cases

The two cases concerned paternal DNA -- "cffDNA" -- floating in the bloodstream of pregnant women and a method for helping merchants charge the highest gettable price in light of changing market conditions. The Federal Circuit in both instances affirmed the district courts' rejection of the patents as relating to unpatentable subject matter.

In the "laws of nature" case, the court ruled that patent failed the "inventive concept" requirement of Mayo:

The method at issue here amounts to a general instruction to doctors to apply routine, conventional techniques when seeking to detect cffDNA. Because the method steps were well-understood, conventional and routine, the method of detecting paternally inherited cffDNA is not new and useful. The only subject matter new and useful as of the date of the application was the discovery of the presence of cffDNA in maternal plasma or serum. 

Ariosa Diagnostics, slip op. at 11. 

The "abstract ideas" case made a similar thudding sound:

At best, the claims describe the automation of the fundamental economic concept of offer-based price optimization through the use of generic-computer functions. Both the prosecution history and the specification emphasize that the key distinguishing feature of the claims is the ability to automate or otherwise make more efficient traditional price-optimization methods. . . . But relying on a computer to perform routine tasks more quickly or more accurately is insufficient to render a claim patent eligible.

OIP Technologies, Inc. v. Amazon.com, Inc., No. 112-1696, slip op. at 7-8 (Fed. Cir. June 11, 2015) (citing Alice, 134 S. Ct. at 2359).

Meaning

Ariosa and OIP underscore the high stakes and uncertain outcome of challenges to patentability in cases involving biological material or business methods. The Federal Circuit's latest decisions make clear that the "inventive concept" requirement of the Mayo framework requires more than using concepts by means of "conventional" techniques. Uses like that simply do not "transform" the idea into patentable subject matter.

So long Blawgletter, hello The Contingency

With this post, Blawgletter ends a run that started on January 1, 2007. We wish to thank our loyal readers for their high intelligence, extraordinary good looks, and excellent sense of humor. We invite you to become loyal readers of The Contingency, which begins its journey on Tuesday, June 16. Stand by for info on subscribing.

Seven Years, and a Verdict, Down the Drain

Snares

Patent law features so many traps that even the wary fall in one now and then. It happened again last week. This time the ruling concerned standing, an issue that goes to the power of a court to decide a case.

A narrow license

The case involved a patent on "Gelatinous Elastomer Compositions and Articles". Alps South sued The Ohio Willow Wood Company for infringing the patent by making and selling prosthetic liners.

Alps never owned the patent. Instead, before filing suit in 2008, it signed a license with the patent owner, Applied Elastomerics. But Applied granted Alps a license to practice the patent only in the field of prosthetic liners.

Motion on standing

Ohio WIllow Wood moved to dismiss the case on the ground that Alps lacked standing. Alps responded by signing a new license with Applied. This one eliminated the field restriction (prosthetic liners only). The district court denied the motion.

As trial approached, the trial judge expressed concern about Alps' standing and urged it to join Applied to the case. Alps declined the request.

The case went to trial before a Florida jury. After more than a week of evidence, the juror found for Alps in all respects and awarded Alps almost $4 million for Ohio Willow Wood's infringement of the patent.

Standing from the start

Ohio Willow Wood's appeal raised several questions, but it won on standing. The Federal Circuit therefore had no need to delve into the merits.

The court noted that a plaintiff generally must have the right to bring suit -- it must have standing to sue -- at the time it brings the case. A corollary to the standing-from-the-start rule posits that the plaintiff cannot cure a lack of standing retroactively.

The corollary knocked out Alps' case. The license it got from Applied before filing the action against Ohio Willow Wood didn't give Alps enough rights to qualify as a "patentee" for purposes of the standing requirement in 35 U.S.C. 100(d) and 281. The later elimination of the field of use restriction in the Applied license cured the problem as of the date of the amendment. But "[t]he party asserting patent infringement is “required to have legal title to the patents on the day it filed the complaint and that requirement can not be met retroactively.” Alps South, LLC v. The Ohio Willow Wood Company, No. 13-1452, slip op. at 10 (Fed. Cir. June 5, 2015) (quoting Abraxis Bioscience, Inc. v. Navinta, LLC, 625 F.3d 1359, 1366 (Fed. Cir. 2010)).

The court conceded that it permits retroactive curing of an initial lack of standing if the plaintiff joins the patent owner after filing suit. But that didn't happen in the Alps case. And the panel said it couldn't ignore its precedent barring a cure that involves a nunc pro tunc license amendment.

Highlighting risk

Alps highlights the riskiness of patent infringement cases. Unless your client has always owned the patent, its status as an assignee or licensee may expose it to a motion to dismiss for lack of standing. Because such a motion implicates the court's jurisdiction -- its basic authority to handle and decide the case -- the defendant may raise a standing question at any time. It may bring the issue up after an adverse verdict and judgment, as Ohio Willow Wood did. And the loss of such a motion essentially wipes out everything that happened in the trial court.

Observations

Before bringing a patent infringement case, your client needs either to own the patent she will sue on or at least to have all of the "substantial" rights in the patent under an assignment, exclusive license, or similar agreement. Insist on reviewing any assignment or license of the patent to your client to make sure it conveys enough rights to pass muster under Supreme Court and Federal Circuit requirements for standing.

That could save you and your client seven years of work and a jury verdict.

Patent Infringers Lose a Scary Defense

The U.S. Supreme Court has taken away a potentially devastating defense from companies that induce others to infringe patents.

The Court ruled in Commil USA, Inc. v. Cisco Systems, Inc., No. 13-896, slip op. at 10 (U.S. May 26, 2015), that "a defendant's belief regarding patent validity" does not provide "a defense to a claim of induced infringement".

The holding focused mainly on the fact that the "scienter" element for an inducement theory of infringement relates not to the defendant's belief regarding the patent's validity but to its awareness of infringement. Id. at 9.

The Court also cited the statutory presumption in favor of each patent's validity and noted that "validity is not a defense to infringement, it is a defense to liability." Id. at 10 & 11.

It went on to note that infringers may protect themselves by suing for a declaratory judgment of invalidity, that a good-faith-but-wrong belief in invalidity defense would make patent litigation "more burdensome", and that ignorance or mistake of law generally doesn't excuse breaking the law. Id. at 12-13.

Justice Anthony Kennedy wrote the Court's majority opinion, in which Justices Alito, Ginsburg, Kagan, and Sotomayor fully joined and in which Justice Thomas mostly agreed to. Justice Antonin Scalia authored a dissent that Chief Justice Roberts joined.

Blawgletter congratulates our friend Mark Werbner on his victory. We had the pleasure of seeing him argue the case on March 31, 2015. You can listen to the session here.

Apple Loses $382 Million on Trade Dress Verdict

Apple v. Samsung Saga

In 2012 and 2013, two Silicon Valley juries awarded Apple a total of $929,860,041 for Samsung's use in its smartphones and tablets of three intellectual property types -- design patents, utility patents, and trade dress (or overall image).

On May 18, 2015, the Federal Circuit affirmed the judgment that ensued as to the first two kinds of IP but held as a matter of law that Apple's trade dress did not meet the "nonfunctional" requirement for protection under the Lanham Act.^* Apple Inc. v. Samsung Electronics Co., Ltd., No. 14-1335 (Fed. Cir. May 18, 2015). 

Because the trade dress award accounted for $382 million, the outcome slashed Apple's payday by 41 percent, to $547,860,041 (before interest).

In this post, we'll look at the Federal Circuit's ruling on the protectability of Apple's trade dress. We'll discuss the court's affirmance as to the design and utility patents another time.

Origins

A few days before it announced the first iPhone in January 2007, Apple filed patent applications that covered design elements of the smartphone. In 2011, Apple combined resulting design patents with utility patents and trade dress in an epic lawsuit against Samsung.

The case went to trial the first time in 2012. The jury in San Jose found largely for Apple, determining that Samsung infringed multiple design and utility patents and diluted Apple's iPhone trade dress. The trial judge ordered a retrial on a portion of the $1.049 billion damages award, leaving $639,403,248 in place. In 2013, a second jury found $290,456,793 in damages.

Appeal

Samsung attacked the judgment on many grounds. One succeeded. But by itself it will save Samsung $382 million.

Trade dress can't serve a functional purpose

The Federal Circuit's rejection of the trade dress verdict turned on the rule against protection of "functional" elements of a product's image. 

"The essential purpose of a trade dress is the same as that of a trademarked word: to identify the source of the product." Apple, slip op. at 7 (citation omitted). Trade dress consists of the product's or service's total image. But it must have "inherent" distinctiveness.

Examples:

• Volkswagen's "Beetle" design;
• Decor of Taco Cabana and Hard Rock Cafe;
• Color and shape of drug capsules and tablets;
• Shape of old Coca-Cola bottles

Because "'trademark law allows for a perpetual monopoly and its use in the protection of “physical details and design of a product”, it "must be limited to those that are 'nonfunctional.'” Apple, slip op. at 7 (quoting Leatherman Tool Grp., Inc. v. Cooper Indus., Inc., 199 F.3d 1009, 1011-12 (9th Cir. 1999)). As the court explained:

“In general terms, a product feature is functional if it is essential to the use or purpose of the article or if it affects the cost or quality of the article.” Inwood Labs., Inc. v. Ives Labs., Inc., 456 U.S. 844, 850 n.10 (1982). “A product feature need only have some utilitarian advantage to be considered functional.” Disc Golf Ass’n v. Champion Discs, Inc., 158 F.3d 1002, 1007 (9th Cir. 1998). A trade dress, taken as a whole, is functional if it  is “in its particular shape because it works better in this shape.” Leatherman, 199 F.3d at 1013. 

 Apple, slip op. at 7-8 (emphasis in original).

Apple's iPhone trade dress consisted essentially of the smartphones' now-familiar look -- a rectanglular body with round edges, a flat screen with colorful, square icons, and black borders around the screen and the distinctive appearances of the colorful icons themselves. Apple, slip op. at 9 & 15.

Apple flunks

But the trade dress failed the "nonfunctional" requirement, according to the Federal Circuit.

The court's test for nonfunctionality weighed four factors: “'(1) whether the design yields a utilitarian advantage, (2) whether alternative designs are available, (3) whether advertising touts the utilitarian advantages of the design, and (4) whether the particular design results from a comparatively simple or inexpensive method of manufacture.'” Apple, slip op. at 9-10 (quoting Disc Golf, 158 F.3d at 1006).

The trade dress, the court concluded, may have beauty, but it also "serve[s] the functional purpose of improving usability." Apple, slip op. at 14.

___________________

^* The Lanham Act also protects trademarks and service marks and provides a cause of action for some kinds of false advertising.

Does the Supreme Court Disfavor Limitations Defenses?

Focus on substance over procedure

The Supreme Court just vacated a judgment that enforced a six-year statute of limitations against beneficiaries of a employer savings plan.

The ruling reinforces the view that this Court feels little love for limitations defenses. It suggests the Court prefers getting to legal substance.

Claims under ERISA

The Employee Retirement Income Security Act of 1974 governs savings, pension, and other plans that companies set up to benefit employees and their families. The statute protects plan beneficiaries partly by giving them the right to sue the plan sponsor (the employer) and other plan fiduciaries (often officers of the sponsor) for breaching their fiduciary duties to the plan and plan beneficiaries.

One kind of ERISA claim challenges the prudence of plan investment options on the ground that the plan and its fiduciaries should have periodically reviewed those options and substituted lower-cost alternatives.

The plaintiffs in Tibble v. Edison Int'l, No. 13-550 (U.S. May 18, 2015), made just such a claim. They alleged that the Edison 401(k) Savings Plan's sponsor (the power generator Edison International) and the Plan's fiduciaries violated their duty of care by not monitoring the mutual funds that the Plan offered and swapping less expensive choices for the existing ones.

Summary judgment

The district court granted the motion of Edison and the other defendants for summary judgment on the ground that the six-year statute of limitations expired before plaintiffs sued. It allowed the Tibble plaintiffs to argue that the Plan's fiduciaries should have conducted a review of investment options within the limitations period but rejected their argument, holding that Tibble and the others "had not met their burden of showing that a prudent fiduciary would have undertaken a full due-diligence review of these funds as a result of the alleged changed circumstances." Tibble, slip op. at 3. The Ninth Circuit affirmed. Tibble v. Edison Int'l, 729  F.3d 1110 (9th Cir. 2013).

Try again

The Supreme Court unanimously disagreed with the courts below. Per Justice Stephen Breyer, the Court concluded that the district court and court of appeals had applied too stringent a test for when a change in circumstances triggers a fiduciary's duty to review the investment options of plan participants.

Justice Breyer noted that, "under trust law, a fiduciary normally has a continuing duty of some kind to monitor investments and remove imprudent ones." Id. at 6. The Ninth Circuit erred by not "considering the nature of the fiduciary duty" and by failing to "recognize that under trust law a fiduciary is required to conduct a regular review of its investment with the nature and timing of the review contingent on the circumstances." Id. at 5.

Because the Ninth Circuit required proof of a "significant" change in circumstances before a duty to reevaluate investment choices arose, the Court vacated the decision and remanded to the Ninth Circuit "to consider petitioners' claims that respondents breached their duties within the relevant 6-year period under 1113, recognizing the importance of analogous trust law." Id. at 7.

Take-away

Last May, the Court ruled against another defendant who complained about the tardiness of a lawsuit. In Petrella v. Metro-Goldwyn-Mayer, Inc., 134 S. Ct. 1962 (2014) (post here), the Court held that a laches defense cannot override Congress's judgment to allow suits under copyright law to collect damages for a three year "look-back" period.

The outcomes in Tibble and Petrella support the view that the Court gives narrow play to procedural defenses like limitations.

Limitations defenses present especially thorny issues for plaintiffs. The plaintiff may take the case all the way to verdict before she learns that limitations bars her claim. Plaintiffs should prefer to get that over soon, before they've spent a lot of time and resources on the case. Delaying judgment day on limitations thus may end up doing more harm to the plaintiffs -- and their contingent-fee counsel -- than good.

Barry Barnett

Federal Circuit Split Highlights Patent Policy Debate

Policy debate

If a firm that performs steps A, B, and C of a "method" patent induces the firm's customers to take step D -- the final one -- does the firm infringe the patent?

The question -- which a two-judge majority on a Federal Circuit panel answered no -- produced 62 pages of opinions and a sharp dissent. See Akamai Technologies, Inc. v. Limelight Networks, Inc., No. 09-1327 (Fed. Cir. May 13, 2015). 

The ruling doesn't settle the issue; the court sitting en banc or the Supreme Court will have to do that.

But, to a surprising extent, the majority explicitly echoed the arguments by organizations that went to make patents harder to get and patent lawsuits more difficult for plaintiffs to win.

Single-entity rule

Akamai sued Limelight Networks for infringing Akamai's patent on a process for fetching online content. (The technology related to a method for easing access to data during "peak usage" by making segments of content available on multiple servers in more than one location.) A jury found that Limelight and its customers committed acts that together would have infringed the Akamai patent if a single entity had engaged in the conduct and awarded Akamai $40 million.

After much appellate review, the case landed again before a three-judge panel.

But "[f]or method patent claims, direct infringement only occurs when a single party or a joint enterprise performs all of the steps of the process." Akamai, slip op. at 7 (citing cases). Although performed all but one of the steps in Akamai's content-fetching process, the fact that users of Limelight's "content delivery network" did the final step ("tagging" the content they wanted) triggered the bar of the single-entity rule.

In spite of the existence of behavior constituting infringement, the majority held, no one infringed.

Amici speaky

But the words of the statute and logic alone did not produce the outcome.

The majority stressed "concern" in Congress and state legislatures "about the vulnerability of innocent customers to charges of patent infringement". Akamai, slip op. at 23. Citing the contentions of infringement defendants and their champions, it went on (per Judge Richard Linn):

Several amici, the White House, and other commentators identify numerous instances where patentees have sent demand letters to or sued dozens, hundreds, or, in some cases, even thousands of unsophisticated downstream users. If the law were expanded to impose joint and several liability on users of a single prior art method step, it would subject swathes of innocent actors across diverse industries to these practices. Using real patents as examples, amici warn that individuals could be liable for patent infringement for so little as initiating communication with a doctor or swiping a debit card. Another amici [sic] explains that “the hundreds if not thousands of contracts in a technology company’s supply chain could expose each actor in that supply chain to potential patent infringement liability . . . .” Cisco Br. at 5.

Id. at 24-25 (footnotes omitted).

Dissent

Judge Kimberly Moore summarized her reasons for dissent as follows:

Today the majority holds that the actions of multiple parties can only result in direct infringement of a method claim in three circumstances: in a principal-agent relationship, in a contractual arrangement, or in a joint enterprise functioning as a form of mutual agency. It divorces patent law from mainstream legal principles by refusing to accept that § 271(a) includes joint tortfeasor liability. The majority’s rule creates a gaping hole in what for centuries has been recognized as an actionable form of infringement. It claims that this result is mandated by the statute. I do not agree.

The single entity rule promulgated in BMC [Resources, Inc. v. Paymentech, L.P., 498 F.3d 1373 (Fed. Cir. 2007)] and Muniauction[, Inc. v. Thomson Corp., 532 F.3d 1318 (Fed. Cir. 2008)] is a recent judicial creation inconsistent with statute, common law, and common sense. For centuries, the concerted actions of multiple parties to infringe a patent gave rise to liability. The plain language of § 271(a) codified this joint infringement. To construe that language otherwise would permit identical language in the statute to have inconsistent meanings. Congress meant to and did codify liability for joint infringement. It did not, as the majority suggests, purposefully do away with a broad swath of recognized forms of liability for infringement. I respectfully dissent from the majority’s decision to interpret § 271(a) in a manner that condones the infringing conduct in this case. 

Akamai, slip op. at 1-2 (dissent).

The future

Blawgletter expects that further review will probably ensue from the panel decision. The Supreme Court looked at the case last year (ruling that "inducement" liability for patent infringement requires proof of "direct" infringement, at least in method patent cases) after an en banc decision by the Federal Circuit. Another rehearing by the full court of appeals and another trip to the Supreme Court both seem plausible.

In the meantime, what effect will the panel's 2-1 ruling have? It will at the least prompt defendants in cases involving method patents to claim that someone else performs at least one step in the patent's process. It will also encourage method-patent plaintiffs to try fit their cases within the principal-agent,  contract, and joint enterprise exceptions that the panel recognized to the single-entity rule.

Fifth Circuit Upholds $25 Million Contingent Fee

Keys to the court house 

The contingent-fee option enables a claimant who has a valuable claim but can't afford hourly fees to hire a lawyer. He pays with a promise to share his recovery with the lawyer in return for the lawyer's sharing the many risks of pursuing a claim -- including the risk of losing (or winning too little), of not collecting from the defendant, and of the effort's costing a lot more than you expected. 

People with plenty of money can agree to pay on contingent-fee basis, too -- and they often do.

A client that won't abide by the contingent-fee agreement represents another kind of danger for the lawyer. A recent decision by the Fifth Circuit will help keep that danger in check, to the benefit of almost everyone.

Family fight

The case that produced the ruling arose from disputes over the fortune of Texas oil legend H. L. Hunt.

Hunt's great-grandson Al Hill, III, and his wife Erin engaged two law firms to represent them in more than a dozen lawsuits. The cases concerned the Hills' claims to assets of two trusts that H. L. Hunt and his wife had set up during the 1930s in the name of their daughter Margaret, who later married Al Hill, Sr., and Haroldson, the oldest son.

The Hills agreed in the engagement letters to pay the law firms full hourly rates for all of their work plus 15 percent of the Hills' "Gross Recovery". But because the Hills did not have the means to pay the hourly fees on a current basis, the contracts allowed them to defer payment until "financially practicable".

Fee fight

A year later, the law firms asked the Hills to pay $3.2 million for their hourly work. The Hills refused. They then fired the firms, which in turn brought arbitration against the Hills under the fee contracts. 

The trust lawsuits at length settled on a basis that yielded $188 million to the Hills.

An arbitration panel heard evidence on the law firms' fee claim for nine days. The panel rejected the Hills' "unconscionability" defense, among others, and awarded the firms their full fees -- $3.2 million for the hourly component and a little more than $25 million for the contingent-fee part.

But when the firms asked the U.S. District Court in Dallas to confirm the award, it refused. The court ruled that Texas ethical rules would deem collecting an hourly fee plus a contingent one unconscionable:

In plain language, this is not simply a contract that was ill-advised when signed, but it is one in which Plaintiffs will receive something for nothing. The contingency fee is a guaranteed fifteen percent payment, on top of the generous hourly rate, for no additional work or risk of nonpayment. The court finds this type of contingency fee particularly troublesome and contrary to well-established Texas precedent. The contingency fee provision therefore results in a windfall that Texas public policy cannot countenance.

Campbell, Harrison & Dagley, L.L.P. v. Hill, No. 3:12–CV–4599–L, 2014 WL 2207211, at *13 (N.D. Tex. May 28, 2014).

The law firms appealed.

Fifth Circuit upholds fee agreement

Reversing, the Fifth Circuit reinstated the arbitration award. Campbell, Harrison & Dagley, L.L.P. v. Hill, 782 F3d 240 (5th Cir. 2015). It held:

The district court misapplied that standard. In particular, it rejected the arbitrators' determination that “the prospect of recovery [was] plenty uncertain”, finding instead that “[t]here was nothing contingent about [the firms'] recovery of their attorneys' fees”. . . . The court specifically rejected the total-fee amount based on its inclusion of the contingency-fee portion. As the court interpreted the fee agreement, the contingency fee constituted an “unearned payment” in the light of the non-contingent nature of the hourly-rate fees, and, as a result, made the fee agreement unconscionable. . . .

 

The arbitrators, on the other hand, specifically determined: recovery of any fees was uncertain; a reasonable attorney could find the fee arrangement reasonable; and the total fee was not unconscionable. (“There is nothing about a relatively high hourly rate schedule, uncertain to time of payment, and/or a relatively low contingent percentage, when the prospect of recovery is plenty uncertain, that should be offensive to a competent lawyer, a reasonable client, or an overall traditional public policy of fairness.”). This determination likewise comports with the plain language of the fee agreement, which allows for payment of the hourly-rate fees “as soon as is financially practicable ”. (Emphasis added.)

 

In rejecting the arbitrators' determinations regarding the uncertainty of recovery, the reasonableness of the total fee, and unconscionability, the court “substitute[d] [its] judgment for that of the arbitrators merely because [it] would have reached a different decision”. . . . As a result, it erred in vacating the contingency-fee-portion of the award and related awards (for the arbitration, the firms' attorney's fees, other fees, expenses, and arbitrators' compensation; and pre-judgment interest on the contingency-fee portion).

Campbell, Harrison & Dagley, L.L.P., 782 F.3d at 245-46 (citations omitted).

Significance

The outcome enhances confidence in contingent-fee agreements and therefore lowers the collection risk that law firms face when entering into contingent-fee arrangements with clients.

That should save clients who live up to their contracts money. Lower risk of collection will translate into contingent-fee percentages that reflect a premium for sharing risk of recovery on the client's claim but do not build in an additional premium for the lawyer's risk of enforcing the fee deal.

Everybody wins. Except of course the defendant.

Price-Fixing Claims Parry Field Preemption in Supreme Court

Pre-emption? Ha!

A 7-2 split on the U.S. Supreme Court last week revived state-law antitrust claims against natural-gas pipelines. End-user (or retail) customers alleged that the pipelines conspired to rig index prices and thus inflate sales prices. The ruling gave narrow play to the pipelines' "field pre-emption" defense. The Court held that a federal agency's power under the Natural Gas Act to regulate any "practice" that affected wholesale prices to resellers did not pre-empt the claims. ONEOK, Inc. v. LearJet, Inc., No. 13-271 (U.S. Apr. 21, 2015).

The decision plainly will help plaintiffs who bring claims under state law to fend off federal pre-emption defenses. But it may also aid those who bring federal-law claims that defendants contend Congress tacitly pre-empted.

Gas, gas, gas

Under the Natural Gas Act of 1938, the Federal Energy Regulatory Commission (FERC) had and has the power to make rules and issue orders relating to some, but hardly all, aspects of the domestic gas industry. FERC's authority has notably included a role in regulating prices that interstate pipelines charge to utilities and other middlemen. But over the years FERC has done less and less of that.

In the 1970s, with prodding from Congress, FERC began to shed its function as the setter of prices that pipelines could pay and charge. Yet FERC remained a hovering presence in the gas industry, although now it mainly aimed to  assure that pipelines didn't garner too much power in individual gas markets.

A flood of sales to wholesale (reseller) and retail (end-user) purchasers ensued. The deluge in turn led to use of more or less local indices as pricing benchmarks. The index price in theory reflected actual, arm's-length transactions, and it often found its way into private contracts as a presumably objective proxy for the market price.

Rigging the market

But reality didn't match the theory or the presumption. People manipulated the indices. As the Court noted, "sometimes those who reported [pricing] information simply fabricated it". ONEOK, slip op. at 7. Other times, it pointed out, parties reported prices from "wash" trades, which had no substance. Id.

FERC had snapped to the manipulation by 2003 -- including as the result of the California electricity crisis of 2000-2001. By then, gas prices had more than tripled. Suspecting foul play, several groups of retail buyers sued, alleging a conspiracy to inflate gas prices through (among other means) rigging of price indices. They claimed violation of state antitrust laws only.

Dismissal and reversal

The defendants' having removed the cases to federal court, the district judge (in Nevada) who got all of them granted a motion to dismiss. He held that the NGA pre-empted the "field" and therefore barred antitrust claims that would have the (indirect) effect of regulating wholesale prices of natural gas. The fact that the plaintiffs limited their claims to retail prices, which FERC did not have jurisdiction to regulate, did not matter to the court. The practices in question affected prices at both levels, and the claims "aimed at" entities -- interstate pipelines -- over which FERC had regulatory jurisdiction and authority.

The Ninth Circuit reversed. The Supreme Court granted review. It affirmed the court of appeals decision.

Issues

The 7-2 majority, with Justice Breyer writing for it, leaned heavily on the fact that Congress left much of the natural-gas industry to state oversight, putting only the interstate transportation part under FERC's suzerainty. "Accordingly," Justice Breyer wrote, "where (as here) a state law can be applied to nonjurisdictional as well as jurisdictional sales, we must proceed cautiously, finding pre-emption only where detailed examination convinces us that a matter falls within the pre-empted field as defined by our precedents." ONEOK, slip op. at 10-11.

That "detailed examination" did not persuade the Court. "Antitrust laws", Justice Breyer noted, "are not aimed at natural-gas companies in particular, but rather all businesses in the marketplace." Id. at 13. Under the Court's precedents, that meant the state-law claims could avoid pre-emption so long as they dealt with conduct that fell at least partly within state authority and did not "aim" to regulate the pipelines as pipelines. Because the retail buyers' lawsuits did not "seek to challenge the background marketplace conditions that affected both jurisdictional and nonjurisdictional rates", the NGA did not pre-empt them under a "field pre-emption" theory. Id. at 15.

Scalia dissent

Justice Antonin Scalia's dissent, which Chief Justice John Roberts joined, painted the pre-emption issue as a simple question of whether Congress gave FERC the sole power to regulate wholesale prices. "Because the Commission's exclusive authority extends to the conduct challenged here," he concluded, "state antitrust regulation of that conduct is preempted." Id. at 3 (Scalia, J., dissenting).

Upshot

ONEOK will have three main effects.

Most obviously, the pro-plaintiff outcome will help LearJet and the other end-users who brought or who will (by way of the class action mechanism) benefit from the litigation. Yet they have miles to go before they sleep. A "conflict pre-emption" attack awaits them upon their return to the district court.

Second, ONEOK will aid other plaintiffs who assert state-law antitrust and other claims that may impinge on the subject matter of federal regulation. Areas include these:

• telecommunications (some of which the Federal Communications Commission oversees),
• banking (the Federal Reserve);
• public trading of securities (the Securities and Exchange Commission);
• air transportation (Federal Aviation Administration);
• pharmaceuticals and medical devices (Food and Drug Administration);
• workplace safety (Occupational Safety and Health Administration); and
• healthcare (Department of Health and Human Services).

Whether ONEOK makes a difference in a particular context will depend partly on how much leeway Congress left states for regulation of the subject matter and -- assuming Congress left some room for state involvement -- partly on the result of the "detailed examination" of which Justice Breyer spoke.

Finally, the Court's 7-2 rejection of Justice Scalia's sweeping view of field pre-emption should imply a softening of the Court's "implied repeal" doctrine, which hypothesizes that a "plain repugnancy" between two federal statutes requires that one of the two give way. The Court in Credit Suisse, with Justice Breyer again the author, seemed too quick to find a conflict between securities and antitrust law.^** Justice Breyer's more modest approach in ONEOK may help confine Credit Suisse to its facts.

__________________

^* See Credit Suisse Securities (USA) LLC v. Billing, 551 U.S. 264 (2007) (holding that SEC's authority to regulation initial public offerings of stock under federal securities law trumped claim under federal antitrust law that investment banks conspired to rig terms for providing IPO services). 

^** See Jesse W. Markham, Jr., The Supreme Court's New Implied Repeal Doctrine: Expanding Judicial Power to Rewrite Legislation Under the Ballooning Conception of "Plain Repugnancy", 45 Gonzaga L. Rev. 437 (2009/10).

 

Frack Ban Doesn't Extend Lease, High Court Holds

Oil and gas and the Empire State

Does a state's years-long ban on the fracking of oil and gas wells extend the "primary" term of a lease until the ban ends, allowing the frackers who couldn't frack more time to come back and frack?

This week, the highest court of an important commercial state that seldom speaks on oil and gas industry matters took up the question. Although in 1882 New York became "the number one oil-producing state in the nation", New York courts have long since ceded authoritativeness in oil and gas matters to "out-of-state 'oil' jurisdictions". Beardslee v. Inflection Energy, LLC, No. 44 (N.Y. Mar. 31, 2015). But the Court of Appeals' thumping answer -- in favor of landowners and against what it called "energy companies" -- may open cracks in the fracking legal landscape across the U.S.

The leases

The dispute pitted owners of land in upstate New York (Tioga County) against those "energy companies", which had entered into oil and gas leases. Each of the leases contained "an identical term clause, also known as an habendum clause, which establishes the primary and definite period during which the energy companies may exercise the drilling rights granted by the leases." Beardslee, slip op. at 3 (footnote omitted).

The primary term ran out, per the lease language, after "FIVE (5) years from the date hereof". Id. A "secondary term" would kick in if, but only if, "said land is operated by Lessee in the production of oil or gas." Id. (emphasis added).

As the energy companies had drilled no wells on the landowners' property, the leases would have expired at the end of the primary term -- unless something somehow extended them.

Here comes the ban

Possible rescue arrived in the guise of the Governor of New York. As alarm about fracking rose, Governor Paterson put a state-wide hold on new permits for the fracking of wells pending a study of environmental and other effects. The lessees responded by sending the landowners notice that "New York's government action constituted a force majeure event under the leases, which purportedly extended the leases' terms." Id. at 5. They cited a clause that stated as follows:

If and when drilling . . . [is] delayed or interrupted . . . as a result of some order, rule, regulation, requisition or necessity of the government, or as the result of any other cause whatsoever beyond the control of the Lessee, the time of such delay or interruption shall not be counted against Lessee, anything in this lease to the contrary notwithstanding.

Id. at 6 (emphasis added).

The landowners sued the lessees in the Northern District of New York. They sought a judgment declaring that the leases "had expired by their own terms" when the primary terms ended with no drilling or production.  The district court granted summary judgment on the ground that the force majeure clause had "no effect on the habendum clause and the lease terms because the energy companies did not have an obligation to drill" during the primary term. Id. at 7. Citing gaps in the spotty fabric of oil and gas law in New York, the Second Circuit certified questions to the Court of Appeals for a definitive ruling. The Court accepted.

The decision

The outcome of the case depended on whether the force majeure clause did, or did not, apply to the "primary term" part of the habendum clause. The Court concluded that it did not, holding both that "the habendum clause is not expressly modified or enlarged by the force majeure clause" and that "the language in the force majeure provision does not supersede all other clauses in the leases, only those with which it is in conflict." Id. at 10 & 11.

The Court went on:

Moreover, the second sentence in the force majeure clause, which deals exclusively with governmental regulations, pertains only to the energy companies' express or implied covenants -- the lessee's obligations. As the energy companies made no express or implied covenants applicable to the primary term (other than to pay delay rentals, which are not at issue here), the force majeure clause must relate to only continuous drilling/production operations during the secondary term of the leases . . . . Furthermore, this latter sentence in the force majeure clause expressly indicates that the subject clause deals with lease termination, not lease expiration. The corresponding habendum clause provision is its secondary term, which also addresses the conditions under which the leases would terminate, whereas the primary term deals with lease expiration.

Id. at 11-12 (citation omitted). The force majeure clause, in other words, (a) did not apply to the lessee's obligations during the primary term (mainly to make bonus and rent payments but not to drill) and (b) did apply to the lessee's duties in the secondary term (after the commencement of drilling operations) but did not affect the outcome of the case because the leases never got beyond the primary term.

Upshot

The outcome generally spells bad news for oil and gas companies/lessees and good news for mineral owners/lessors. The former would like to hold onto potentially valuable leases, at little or no cost, until a fracking ban goes away and market prices go back up (having dropped by more than half in the case of oil since mid-2014 and 40 percent in the case of gas). The latter (landowners/lessors) would also prefer that prices rise again, but in the meantime they do not want the deadweight of a lease that produces no income or even any prospect of income while the lessees wait out the moratorium and the recession in market prices.

The tougher question will have to do with the effect of the fracking ban on leases in the secondary term, which does not start until production begins. The Court noted that the force majeure clause does address "the conditions under which the leases would terminate" -- the principal one involving failure to produce oil or gas in paying quantities. See "Hottest Oil & Gas Claims, Part 1: Busting Leases"; "Hottest Oil & Gas Claims, Part 2: New Drilling Technology".

Will the moratorium on fracking extend the secondary term of a lease in New York (and elsewhere)? In a time of sub-$50 a barrel of oil and $2.65 an Mcf for gas, is it worth fighting over? Under what circumstances?

What do you think?

Flimsy Opinions and Securities Fraud

False opinions

Giving a knowingly false opinion about a public company can expose the company and its insiders to liability for securities fraud under federal law.

But what about an opinion that they truly believe but for which they have a flimsy basis?

The Supreme Court held today that the lack of rigor may indeed support a claim under the Securities Act of 1933, 15 U.S.C. 77k(a), in spite of the opinion-giver's earnestness.

Omnicare's belief

The case arose from a public stock offering by Omnicare, Inc., a company that provided pharmacy services for people who reside in nursing homes. Omnicare said in the registration statement that it "believe[d]" it complied with relevant law. The belief proved untrue; Omnicare's rebates to pharmacies did violate federal law against paying kickbacks.

Pension funds that bought Omnicare stock in the initial public offering sued under section 11 of the Securities Act after lawsuits by the federal government undercut Omnicare's claim of legal compliance. The district court dismissed the case, but the Sixth Circuit reversed, holding "that a statement of opinion that is ultimately found incorrect -- even if believed at the time made -- may count as count as an 'untrue statement of material fact.'" Omnicare, Inc. v. Laborers Dist. Council Constr. Industry Pension Fund, No. 14-435, slip op. at 6 (U.S. Mar. 24, 2015) (quoting 15 U.S.C. 77k(a)).

Facts and opinions

The Court ruled 9-0 that the court of appeals erred in concluding that Omnicare had made an "untrue statement of material fact". While "a statement of fact ('the coffee is hot') expresses certainty about a thing," "a statement of opinion ('I think the coffee is hot') does not." Id. Because Ominicare said only that it "believe[d]" its rebates didn't violate anti-kickback law and the pension funds "do not contest that Omincare's opinion was honestly held", the statement -- of a false but sincere view -- did not run afoul of the Securities Act, all nine justices agreed. Id. at 9. "[A] sincere statement of pure opinion is not an 'untrue statement of material fact,' regardless whether an investor can ultimately prove the belief wrong." Id.

That left the question of whether the funds had alleged a viable claim that "Omnicare 'omitted to state facts necessary' to make its opinion on legal compliance 'not misleading.'" Id. at 10 (quoting 15 U.S.C. 77k(a)). Seven of the justices concluded that the funds deserved a chance to persuade the courts below that they had stated an adequate omission claim.

The majority pointed out that "a reasonable investor may, depending on the circumstances, understand an opinion statement to convey facts about how the speaker has formed the opinion—or, otherwise put, about the speaker’s basis for holding that view." Id. at 11. Justice Kagan explained:

Section 11’s omissions clause, as applied to statements of both opinion and fact, necessarily brings the reasonable person into the analysis, and asks what she would naturally understand a statement to convey beyond its literal meaning. And for expressions of opinion, that means considering the foundation she would expect an issuer to have before making the statement. 

Id. at 17. The Court sent the case back to the Sixth Circuit for analysis of whether the pension funds' complaint adequately stated an omissions claim.

Concurrences

Justices Antonin Scalia and Clarence Thomas concurred in separate opinions. Justice Scalia wrote that section 11 does not apply to omissions about the basis for opinions unless the opiner "intend[ed] to deceive" by failing to disclose the flimsiness of the basis. Id. at 6 (Scalia, J., concurring). Justice Thomas felt that the question of liability for an omission "is not properly before us" since the courts below had not passed on it. Id.  at 1 (Thomas, J., concurring).

Upshot

Omnicare offers more to plaintiffs than to defendants, for two main reasons. First, the mere fact that a public disclosure expresses or relates to an opinion will not preclude liability. Section 11 covers not only lying about an opinion -- saying you believe something when you don't -- but also falsely implying that an opinion rests on a reasonably rigorous basis -- suggesting that adequate expertise and a sufficient investigation support it.

Second, the Court's ruling saves Securities Act claims from the challenges of pleading a claim under the onerous standards of the Private Securities Litigation Reform Act of 1995. Justice Scalia would have imported scienter into the section 11 analysis despite its absence as an element under the Securities Act, but the majority rejected that approach. Id. at 15 n.11 (stating that "we think Justice Scalia's reliance on the common law’s requirement of an intent to deceive is inconsistent with §11’s standard of liability").

The Court's decision will give new life to securities cases that target false statements about legal and other opinions. Plaintiffs may want to rejoice.

In Blawgletter's opinion.

Note: Our series on the hottest oil and gas claims will resume tomorrow.