Press Kit

Recent Advocacy in Support of Economic Freedom

▪ NELF Comments on Proposed Amendments to FASB Statements No. 5 and 141(R) August 8, 2008

Articles by and about NELF:

▪ ARBITRATION OUTLOOK STILL UNCLEAR

   Despite high court rulings, Congress could change the game for businesses

      - GC New England Magazine, Second Quarter 2010

▪ Wyeth Decision Poses Major Problem

      - GC New England Magazine, First Quarter 2009

▪ Decision in Wal-Mart Case a Balanced Approach

      - New England In-House, January 2009

▪ A Disappointing Trio of Massachusetts Decisions

      - GC New England Magazine, Fourth Quarter 2008

▪ Pharm Cases an Rx for Determining Protection

      - New England In-House, November 2008

▪ 'Iannacchino': A Retreat on Chapter 93A?

      - Massachusetts Lawyers Weekly, October 6, 2008

▪ Nationwide Class Actions in Massachusetts Courts

        - Massachusetts Lawyers Weekly, August 11, 2008

▪ Rhode Island Rejects Expanded Products Liability

       - GC New England Magazine, Second Quarter 2008

▪ A New Door Has Been Opened

         - New England In-House, July 2008

▪ Courts Bound by Rule of Law, Not Societal Faults

        - The Boston Globe, Opposite Editorial, July 18, 2008

▪ SJC Refuses to Expand Piercing Corporate Veil Doctrine

       - New England In-House, May 2008

▪ Numerous Pending Cases Could Significantly Impact New England Companies

       - New England In-House, March 2008

▪ Ramifications of Bioterrorism-lab Ruling Could Extend 'Well Beyond' BU Project

       - Massachusetts Lawyers Weekly, February 4, 2008

▪ Requiem for the Employment-at-Will Doctrine?

       - New England In-House, January 2008

NELF White Papers:

The Power to Take: The Use of Eminent Domain in Massachusetts

Employment at Will and its Exceptions: A Troubled Doctrine in Need of Reform

           Employment at Will: Appendix A

           Employment at Will: Appendix B

Confidential Settlements

COMMENTS OF THE NEW ENGLAND LEGAL FOUNDATION

ON THE PROPOSED CHANGES TO FINANCIAL ACCOUNTING STANDARDS

FOR DISCLOSURE OF CERTAIN LOSS CONTINGENCIES

(The Proposed Amendments to FASB Statements No. 5 and 141(R)

INTRODUCTION

The New England Legal Foundation (“NELF”) submits the following comments on the June 5, 2008 Exposure Draft of a proposed Statement of Financial Accounting Standards entitled “Disclosure of Certain Loss Contingencies, an amendment of FASB Statements No. 5 and 141(R)” (“Proposed Statement”).  NELF is a nonprofit, public interest law firm, incorporated in Massachusetts in 1977 and headquartered in Boston.  NELF’s membership consists of corporations, law and accounting firms, individuals, and others who believe in NELF’s mission of promoting balanced economic growth in New England, protecting the free enterprise system, and defending economic rights.  NELF’s more than 130 members and supporters include a cross-section of large and small businesses and other organizations from all parts of New England and the United States.  Among its other activities NELF files amicus curiae briefs, publishes papers and articles, and convenes forums on legal issues of concern to New England businesses and property owners.

As is explained in greater detail below, NELF submits these comments because, in its view, the Proposed Statement would require businesses to make certain litigation-related disclosures that will alarm actual and potential investors and other users of financial statements without reasonable basis or legitimate purpose and will adversely affect the outcome of loss contingencies, to the detriment of all concerned.  The provisions of the Proposed Statement that would require disclosure of the likely outcome of lawsuits, estimated maximum litigation loss exposures, limiting terms of insurance and indemnity agreements, and certain remote contingencies should not be adopted.  They simply do not strike an appropriate balance between the need for disclosures regarding loss contingencies and the need to ensure that the reporting exercise does not itself cause financial loss.

I.   The Proposed Disclosures Would Have No Reasonable Basis or Legitimate Purpose.

Paragraph 7b of the Proposed Statement requires a reporting entity to disclose its “qualitative assessment of the most likely outcome of the contingency”—in other words, whether it is likely to win or lose a piece of litigation or a group of cases of the same type that are aggregated for reporting purposes.  Paragraph 7a of the Proposed Statement requires a defendant company, in the typical case where there is no specified ad damnum in a plaintiff’s complaint, to disclose the defendant’s “best estimate of the maximum exposure to loss” (or, as the Statement Summary phrases it, “the entity’s best estimate of the maximum possible exposure to loss”).  These proposed requirements assume, incorrectly, that the likely outcome of litigation is reasonably predictable and quantifiable.

Litigation is by definition unpredictable.  Many say that a party’s chances in any lawsuit, no matter what its attorneys think of the claims and defenses on the merits, are no better than 50/50, simply because there are always at least two sides.  Even highly experienced attorneys who specialize in litigation are frequently shocked by the results in cases.  Juries nullify the law, and judges get it wrong.  A great many legal questions have not been decided by appellate courts, and new facts can always come to light over the course of litigation that can dramatically alter the application of even established legal precedent.  Defendants cannot count on opponents being amenable to a reasonable settlement, and arbitration is not always the answer either.  In fact, many businesses complain that arbitral awards are typically unpredictable, “split-the-baby” compromises that bear no reasonable relationship to the value of either side’s case.

To expect litigants to provide reliable predictions of the outcome of this inherently unpredictable process is to ask the impossible and provide the users of financial statements with meaningless or even misleading information.  Given the general, “notice pleading” standard of most jurisdictions, it is also typically impossible to determine from the face of a complaint what relief the plaintiff truly seeks or expects.  There is often a very broad range of potential relief and tremendous uncertainty about how a court will approach valuation of the claims and/or the facts that might come to light that will increase or decrease claim value.  And the uncertainty is even greater in the case of a potential claim that has not yet been memorialized in any pleading.

Further, the maximum potential value of a claim will often be far greater than the plaintiff or its attorney has had any intention of seeking or hope of obtaining, and consequently the disclosure of the maximum potential value will unnecessarily raise concerns for those reading financial statements.  It is, for instance, typical for a simple commercial claim with a potential maximum value in the hundreds of thousands of dollars to be settled for $10,000 - $25,000, or even less.  Aggregating the estimated maximum values of such claims only aggregates unrealistically large numbers and misleads users of financial statements about the seriousness of loss contingencies.

Nor is there any purpose to disclosing the maximum potential amount of an unquantified claim.  The highest potential value that could possibly matter to the user of a financial statement is the highest judgment or settlement outlay that can reasonably be expected.

A specific example may be helpful.  Environmental statutes typically impose no-fault liability for environmental violations with enforcement alternatives ranging from informal administrative action (with no penalties), to formal administration action (with potential administrative penalties), to civil enforcement (with potential civil penalties), to criminal enforcement (with potential criminal fines and, for individuals associated with corporate defendants, even imprisonment).  There is typically little, if any, formal guidance distinguishing what should be redressed administratively from what should be prosecuted civilly or even criminally, with government personnel having tremendous discretion to choose among these enforcement options.  Moreover, civil and criminal penalties are often available “per violation,” with each day of violation of each subpart of regulations potentially counting as a separate violation.  Before the government initiates enforcement action, it is generally impossible for a company to know which enforcement option will be chosen.  And even when enforcement action is commenced, the government will not necessarily calculate the amount of administrative, civil, or criminal penalty sought or the number of violations to be counted (even from its perspective) for penalty purposes.

Thus, the Proposed Standard would have every entity that has learned of any alleged violation of any federal, state or local environmental regulations (which fill volumes), no matter how innocent or technical, disclose the possibility of criminal prosecution and imposition of the maximum potential fine for each day the alleged technical violation has continued (which could be years), even though the entity expects nothing more than a “slap on the wrist.”  Such a disclosure can only alarm without reasonable basis or legitimate purpose.

Companies have routinely indicated in their financial statements that they cannot estimate losses associated with complex claims and lawsuits because that is the reality.  There are simply far too many factual and legal variables in complex business litigation to allow for reliable prediction of the likely overall outcome, let alone the particular relief to be afforded and its monetary value.  The current disclosures declining to estimate losses are not evasive, but rather properly alert readers to the uncertain, unpredictable nature of these contingencies such that they can, if concerned, obtain additional information and form their own opinions about potential loss values.

II.          The Proposed Disclosures Would Adversely Affect Contingency Outcomes.

A.  Disclosure of Remote Loss Contingencies

It would be a logical contradiction to assert that reasonable people make important decisions based on avoiding risks that are not even “reasonably possible.”  Yet paragraph 6 of the Proposed Statement requires businesses to disclose such remote risks where the claims in question are expected to be resolved within a year and an adverse resolution “could have a severe impact on the entity’s financial position, cash flows, or results of operations.”  This appears to require disclosure of claims that have only a slight chance (or even an extremely slight chance) of resulting in any loss at all, even when they are not expected to have a severe impact on the reporting entity if a loss does result.  As long as there is any chance, however slim, of severe impact in the near term, disclosure is apparently required.

To require disclosure of such remote loss contingencies is to present them as information reasonably relied upon for decision making, even though they are not, since otherwise there is no point to their disclosure.  Actual and potential investors, creditors, and others reviewing a reporting entity’s financial statement may therefore be misled into acting on risks that are not “reasonably possible,” to their own detriment and that of the reporting entity and all who have an interest in its financial viability.  The greater the amount of the possible exposure, the more likely investors and others will engage in this irrational, albeit understandable, behavior even in the case of a loss that has virtually no possibility of occurring.

Consider a lawsuit that seeks a preliminary injunction against certain key business operation(s) or product line(s).  Given the extraordinary nature of such pre-trial relief, and its fairly routine inclusion as a prayer for relief despite its general unavailability, the company may reasonably gauge the risk of loss as extremely remote, but the impact of such an injunction, were it to issue, might well be severe.  Disclosure of the loss contingency, even while describing it as remote, would give it credence it does not deserve and might therefore cause losses to the company that would not otherwise be experienced.

The unfairness and undesirability of this result are compounded to the extent a remote loss contingency derives from an unasserted claim.  While the Proposed Statement is unclear on this point, it arguably requires disclosure of even an unasserted claim that is not likely to be asserted and that would entail no more than a remote possibility of a loss if asserted, provided there could be a severe financial impact on the business in the near term were the claim in fact to be asserted and result in a loss.[1]  This treats the most remote of all possible loss contingencies—for example, an emotion-driven threat by a party not represented by counsel that does not even state a cognizable cause of action and should, if reason prevails, never result in an actual, let alone successful, claim—as information reasonably needed to guide the actions of others vis-à-vis the reporting company provided the potential claimant asserts an intention to seek relief that, if awarded, could have a severe impact on the company.  The company will not necessarily be saved from disclosure by the proposed provision limiting disclosure to “near term” loss contingencies, since arbitration or other expedited resolution of the dispute might be required or likely.  Nor, given the uncertainties of litigation and arbitration, could a company properly conclude that it would be impossible for such an unasserted, threatened claim to result in a loss. 

Even if the intention of the Proposed Statement is to require disclosure of remote loss contingencies associated with unasserted claims that could have severe financial impact in the near term only when those unasserted claims are probable of assertion (an intention that would need to be reflected far more clearly in the language of any final Statement), that more limited requirement would still necessitate disclosure of an outlandish, threatened claim just because there is reason to believe the party involved will carry through on its threat.  This gives unacceptable influence over the fate of reporting companies to desperate competitors, disgruntled employees, corporate gadflies, and others who are willing to pursue outrageous claims.

B.  Disclosure of Likely Litigation Outcomes and Estimated Maximum Values

The disclosures required by paragraphs 7a and b of the Proposed Statement regarding the “most likely outcome of the contingency,” the “significant assumptions made by the entity in estimating [the maximum loss exposure] and in assessing the most likely outcome,” and the contingency’s maximum possible value should not be adopted.  By their very nature, such disclosures would often affect adversely the outcome of the contingency. 

1.   Disclosure of Predictions as to Likely Litigation Outcomes

If a company concluded that, despite potential defenses, there was more than a 50% chance it would be found liable in a single lawsuit or class of similar claims, the Proposed Statement would require the company to make a statement against its own interests informing opponents that even the company does not expect its defenses to carry the day, and why.  Detailed work product of and privileged communications from defense counsel identifying and assessing potential legal and factual issues, protected at law from disclosure to opposing parties and their counsel, would now effectively be disclosed to the detriment of the defendant through the required recitation of the “significant assumptions” underlying the outcome prediction.  This would completely subvert the adversary system, whereby parties and their counsel bear the burden of proving a case, and would likely increase substantially the amounts that companies must pay to resolve claims outside of court.  Opposing counsel would likely find ways to ensure that judges become aware of these disclosures as well, potentially prejudicing judicial response to the defenses.

This required disclosure is inconsistent with and disrupts the privileged attorney-client relationship.  It is lawyers (both outside and in-house counsel) who evaluate and advise businesspeople regarding the likely outcome of litigation.  Neither attorneys’ advice, nor the bases for their opinions, can be discovered in litigation because it is well recognized in the law that privileged communications between counsel and client, like protected attorney work product, serve legitimate interests that are fundamental to our system of jurisprudence.  The Proposed Statement would effectively force disclosure of legal opinions and the bases for those opinions, chilling attorney-client communication and ultimately defeating the purpose of disclosure.  In effect, clients would be encouraged not to seek their attorneys’ honest opinions about their chances in litigation or any details regarding their attorneys’ evaluation of subsidiary legal and factual issues.  This could have serious negative consequences for decision making in the litigation itself, and disclosures in financial statements would become uninformed, lay predictions by parties with a stake in the outcome and every incentive to adopt an unrealistically rosy outlook on their prospects.

It is no answer to this dilemma that in “rare” cases the Proposed Statement would exempt the contingency from this disclosure requirement.  It is the norm, not the exception, that a disclosure of this nature would be prejudicial.  Moreover, an entity relying on the exemption would still have to explain “the fact that, and the reason why, the information has not been disclosed.”  As soon as a company indicated that it was claiming the exemption with respect to the likely outcome of a claim or lawsuit, it would be presumed that, in the company’s assessment, the outcome will likely be adverse.

Assume for the moment that a company concludes it has valid defenses to a recent claim or lawsuit and intends to pursue those defenses vigorously to achieve a reasonable result, whether by settlement or full judicial process.  Company lawyers have advised business leaders that the odds of prevailing are roughly 40%.[2]  Disclosing in a financial statement that the claim(s) will likely be lost will give “aid and comfort to the enemy” that cannot necessarily be alleviated by aggregation.  There may be only one claim (or one claim of this type) against the company; or the issues (and, hence, the odds) may be the same with respect to the entire class of litigation to which a claim belongs (for example, in a product liability context because all the cases involve the same product with the same alleged defect and injury).

Under the Proposed Statement, the company in the above example must either disclose that it is likely to lose the case or group of cases or it must explain that it cannot reveal the likely outcome without prejudicing its interests.  Either way, it is clear that the company has assessed the odds of prevailing at less than 50%.  What began as lawyers’ best advice to company officials based on their then (likely incomplete) understanding of relevant facts and their preliminary identification and evaluation of legal issues has now become a self-fulfilling prophecy, increasing the company’s exposure.  The company has lost (at least for settlement purposes and perhaps for purposes of judicial process as well) the benefits of any advantageous future developments in the case because its opponents’ settlement expectations will have been raised (and judges’ perceptions of the case potentially indelibly affected) by the initial disclosure, whether explicit or implicit, of a likely adverse outcome.

In fact, as was previously noted, if this aspect of the Proposed Statement is adopted, at least some companies will likely stop seeking professional assessment of their litigation odds.  They will then have no proper basis on which to evaluate appropriate terms for settlement, making settlements far less likely.  The resulting increase in litigation costs and burdens (including the opportunity costs of resource diversion) for both parties and the judicial system could be staggering.  And, of course, compromise settlement payments would be replaced in many instances by higher judgments.  All of this harms the reporting business and its shareholders.

2.      Estimation of Maximum Possible Claim Values

Since most complaints do not specify the amount of damages or the value of other relief sought, paragraph 7a of the proposed Statement would place most defendants in the position of estimating their loss exposure.  Requiring a defendant company to disclose its “best estimate of the maximum exposure to loss” (or, as the Statement Summary phrases it, “the entity’s best estimate of the maximum possible exposure to loss”) would have defendants signaling to plaintiffs claim values that may be far higher than what the plaintiffs had envisioned and would again effectively reveal defense attorneys’ normally privileged work product whereby they evaluate and value claims.

The Proposed Statement indicates that the estimate of maximum claim value could be accompanied by a defendant’s “best estimate of the possible loss or range of loss if it believes that the . . . maximum exposure to loss is not representative of the entity’s actual exposure.”  It is unclear what is meant by either “possible loss” or “actual exposure,” and clearer terminology would need to be employed in any final version of this provision.  “Possible loss” and “actual exposure” both connote “maximum possible loss/exposure,” in which case this option in fact adds nothing.  Even assuming, however, that what is intended is to allow disclosure of the estimated range of possible loss where the maximum estimated exposure is greater than the likely or realistic estimated exposure, the required disclosure of the maximum estimated exposure still provides the plaintiffs with information that could impede efforts to settle the claim for a reasonable value and influence a court’s approach to claim valuation to the company’s detriment.

An example may again help illustrate the point.  Assume that an abutting property owner has sued a business for alleged contamination of its property, seeking unquantified recovery for clean-up costs, diminution in property value, enhanced damages, and attorneys’ fees.  Most businesses are unlikely to have other, simultaneous claims of this nature to combine with this claim for reporting purposes, and yet the Proposed Statement indicates that defendant companies must nonetheless disclose their estimated maximum exposure to loss.

This kind of case involves a myriad of factual and legal issues, resolution of which will dramatically affect the plaintiff’s likelihood of success and, if it succeeds, the value of its recovery.  The source of the contamination is typically in dispute and may not be the responsibility of the defendant company at all.  Discovery may reveal that the plaintiff was on notice of or even knew about the contamination for a long time and sat on its rights, such that recovery will be barred under applicable statutes of limitations, or there may be questions as to whether the plaintiff properly complied with statutory prerequisites to filing suit.  The plaintiff may have itself undertaken some activity on its property that has contributed to the contamination, caused contamination to migrate to its property, or aggravated the costs of remediation or the impact on the value of its property.  There may be unrelated, area-wide contamination that has commingled with the contamination in question and/or affected neighborhood property values to the point where the contamination at issue arguably has no additional impact.  The plaintiff may have performed an unnecessary, inefficient, or otherwise overly costly clean-up for which recovery (or full recovery) is unwarranted.  The nature and extent of the contamination may be such that expert appraisers will reach widely divergent opinions regarding the fact and/or the amount of any diminution in the property value.  It may be unclear what position, if any, government agencies with oversight authority will take with respect to the need for remediation or the proper remedial approach.  Moreover, the law of the jurisdiction may be unsettled as to the proper approach to valuation of these claims.  And there is tremendous uncertainty in the law generally regarding the calculation of punitive damages, with the consequence that a “run-away jury” may impose a punitive award that is grossly disproportionate to the amount of compensatory damages. 

Despite these many open questions, the Proposed Statement would require a defendant company and its counsel to predict, upon the filing of a general and uninformative complaint (or even before), and without the benefit of factual discovery or other legal proceedings clarifying the plaintiff’s expectations, the maximum amount to which the company may be exposed, which in this scenario could well be in the millions of dollars even without accounting for enhanced damages.  When further proceedings reveal that there are very strong defenses to plaintiff’s claims such that the likely recovery is minimal or nil, the defendant faces the virtually impossible task in subsequent settlement discussions of convincing the plaintiff to ignore the defendant’s own, original indication of the maximum value of the claim.  As a result the case will be far less likely to settle, to the disadvantage of both parties and the legal system.

C.  Disclosure of Limiting Terms in Insurance and Indemnity Agreements

Similar considerations argue against the Proposed Statement’s requirement in paragraph 7c that parties disclose detailed information about the terms of insurance and indemnity agreements.  Those disclosures are to include applicable “limitations . . . that could affect the amount of the recovery.” 

Insurance and indemnity agreements are themselves often the subject of litigation because their proper interpretation and application is debatable.  For instance, environmental insurance policies have been subject to litigation over what triggers coverage (i.e., is the “occurrence” that triggers coverage when the release of contamination first occurs, when it is discovered, or the entire time during which it is present in the environment), interpretation of the word “sudden” in provisions allowing coverage only for “sudden and accidental” pollutant releases, application of the “owned property” exclusion in the context of groundwater contamination, and the applicability of pollution exclusions to contamination that occurs as a result of another covered loss (e.g., fire or explosion).  These and many other coverage issues remain highly debatable in many jurisdictions, and disclosing potential limitations on recovery would reveal legal reasoning regarding potential coverage problems that could aid the insurer in subsequent negotiations or litigation.

Decades of litigation over insurance and indemnity agreements in the environmental and toxic tort contexts demonstrate that it is far from the “rare” case where the terms of these agreements are debatable in their application such that the disclosures required by the Proposed Statement would prejudice pursuit of the insurance coverage or indemnity.  Nor can aggregation necessarily alleviate the problem, since a single or limited number of insurers or indemnifying entities may be involved in all aggregated claims (e.g., a company’s general liability insurer).  Mandatory disclosure of potential limitations on recovery of insurance or indemnities is again simply too prejudicial to the reporting entity, and therefore ultimately harmful to investors.

CONCLUSION

For all of these reasons, the Board should not require businesses to predict the outcome of litigation against them, report remote contingencies, or disclose potential limitations in insurance and indemnity agreements.  There is simply no way to impose such obligations without prejudicing the outcome of the reported contingencies.  Similarly, any estimated claim value runs the risk of exceeding the value that a plaintiff and its attorney attach to a claim, with resulting prejudice to the reporting party.  Therefore, quantitative disclosures should be limited to actual claim amounts specified by claimants.

The purpose of reporting loss contingencies is, of course, to inform users of financial statements of “the likelihood, timing, and amount of future cash flows associated with loss contingencies . . .” to the extent reasonably predictable. Proposed Statement, par. 4.  The existing FAS5 Standard serves this purpose, while protecting the legitimate legal interests of reporting entities and thereby preserving shareholder value.  The purpose of financial reporting is most definitely not to affect in any way the outcome of loss contingencies, and yet the aspects of the Proposed Statement discussed herein would do just that, to the detriment of both reporting entities and the very people the Board seeks to protect.

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The following article, by NELF President Martin Newhouse, appeared in GC New England Magazine in the second quarter of 2010:

ARBITRATION OUTLOOK STILL UNCLEAR Despite high court rulings, Congress could change the game for businesses 

 While public attention naturally has focused on the U.S. Supreme Court’s decisions dealing with sensitive issues of broad concern—such as campaign finance reform and gun control—the Court also has issued a number of important and, in some cases, controversial decisions affecting business during its 2009 term.

Notable among these are the Court’s two most recent rulings with respect to the Federal Arbitration Act (the “FAA”), Stolt-Nielsen S.A. v. Animalfeeds International Corp., 130 S.Ct. 1758 (2010). and Rent-A-Center, West, Inc. v. Jackson, 2010 WL 24711058 (June 21, 2010).

Nor is the Court done with this subject.  It has recently granted certiorari in yet another potentially controversial arbitration case, AT&T Mobility v. Concepcion.

However, Congress may be poised to enact legislation that, in some key respects, would render irrelevant some of the Court’s recent arbitrations rulings.

In Stolt-Nielsen, the Court finally answered the question of whether under the FAA a party to an arbitration agreement could be required to submit to class arbitration where the agreement is silent on the question.  Focusing on two fundamental principles underlying the FAA—that arbitration is entirely “a matter of consent, not coercion,” and that, when faced with arbitration agreements, the role of the courts is limited “to giv[ing] effect to the intent of the parties”—the Court held in Stolt-Nielsen that “a party may not be compelled under the FAA to submit to class arbitration unless there is a contractual basis for concluding that the party agreed to do so.”  

In other words, under the FAA, where the arbitration provision is silent with regard to class arbitration, and the silence indicates the absence of any agreement on the subject, class arbitration cannot be required.  At least with respect to class arbitration, public policy considerations cannot supply a term to which the parties did not agree.   

The issue in Rent-A-Center was the much litigated question of whether a court or an arbitrator should decide if an agreement to arbitrate is valid and enforceable.

Over the years, when disputes have broken out, parties to arbitration agreements in many different contexts sometimes have sought to escape their arbitration obligations by seeking court rulings that their agreements were unconscionable or otherwise unenforceable.

In response, some drafters, such as Rent-A-Center, created arbitration agreements with provisions that allowed the arbitrator to determine the agreement’s enforceability.  The Court in Rent-A-Center held that where an arbitration agreement “clearly and unmistakably” delegates to an arbitrator jurisdiction over disputes concerning the agreement’s enforceability, the only matter remaining within a court’s jurisdiction is a challenge to the validity of the delegation provision itself.

All other matters concerning the agreement’s validity and enforceability are to be decided by the arbitrator, as per the parties’ agreement.  

The Court’s decisions in both Stolt-Nielsen and Rent-A-Center have provided important clarifications of the FAA that should guide future drafters of arbitration provisions.  Of potentially even greater significance for many businesses will be how the Supreme Court decides AT&T Mobility v. Concepcion, an appeal from the 9th Circuit in which the Court granted certiorari in May. 

The issue in this case is whether the FAA pre-empts a state law that effectively creates a per se rule invalidating class action waivers in consumer arbitration agreements.  A number of states, including Massachusetts, have refused to enforce such waivers in consumer agreements on the ground that they are per se unconscionable or against public policy. 

Based on its arbitration-friendly decisions in Stolt-Nielsen and Rent-A-Center, may well reject any per se approach, concluding that the FAA requires a case-by-case determination as to the enforceability of a particular class arbitration waiver, consistent with generally applicable state law contract principles. 

But even as the Court continues to wrestle with these thorny arbitration issues, Congress has been considering legislation that could moot much of the Court’s decisional law on the FAA.  The so-called Arbitration Fairness Act of 2009 (the “Act”), in both its House and Senate versions, would invalidate all pre-dispute arbitration agreements requiring arbitration of claims relating to employment (excluding collective bargaining agreements), consumer, franchise, or civil rights.  

Given that most requests for class arbitration arise in the context of consumer or employment claims, the proposed act in its present form, may render the Court’s decision in Stolt Nielsen largely irrelevant by removing those areas entirely from arbitration.

It would also make irrelevant any decision in AT&T Mobility because consumer claims would no longer be subject to pre-dispute arbitration agreements.  Furthermore, in the House version, the proposed act appears to provide that the validity of any pre-dispute arbitration agreement must be decided by a court, regardless of what the parties may have decided, thus in effect overturning Rent-A-Center’s deference to the parties, at least with respect to the range of claims covered by the act.

Despite the important work done by the Supreme Court this term, businesses’ continuing ability to use arbitration provisions to manage a crucial range of potential disputes is still a work in progress.

____________________
Martin Newhouse is President of the New England Legal Foundation in Boston.  NELF staff attorneys Ben Robbins and John Pagliaro and Summer Intern Mark Zheng assisted in the preparation of this article.

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The following article, by NELF President Martin Newhouse, appeared in GC New England Magazine in the first quarter of 2009:

Wyeth Decision Poses Major Problems

The view apparently still persists in some quarters that, thanks to Republican  judicial appointments, the United States Supreme Court is, under Chief Justice Roberts, a pro-business court.  In a prior review of the Court’s decisions, I have argued that this is not the case.  To the contrary, the record shows that, even with the addition of President Bush’s appointments, cases are often decided by the Court for reasons largely divorced from real-world economic considerations.   While reasonable people can disagree about the appropriateness of that decision-making approach, the ramifications for the economy can be very significant.

The latest piece of evidence for this is the Court’s March 4 decision in Wyeth v. Levine, 555 U.S. ___  (2009). This Vermont case involved a tragic instance of medical malpractice.  To relieve nausea associated with a severe migraine headache, a physician assistant injected Phenergan, a drug manufactured by Wyeth, into a vein in the plaintiff’s arm.  This procedure was the focus of several clear warnings on the drug’s labeling, because it is fraught with peril.  The physician assistant admittedly ignored the warnings.  Some of the drug entered the plaintiff’s artery, which the labeling warned against, and this resulted in gangrene and, ultimately, the amputation of the plaintiff’s forearm.  To the plaintiff’s untold pain and suffering was added the loss of her livelihood as a musician.   

The plaintiff sued the medical providers who had made the error and, after settling those claims, she sued Wyeth.  Based on a finding that the warnings included in the drug’s labeling were inadequate (labeling that the physician assistant admitted she had ignored), a Vermont jury awarded the plaintiff over $7 million in damages.  The jury’s verdict was upheld by the Vermont Supreme Court. 

The U.S. Supreme Court took the case because it presented an important preemption question.  The label warnings that Vermont had found to be inadequate were expressly approved, indeed required, by the Federal Drug Administration.   In 2008 the Supreme Court had decided in Riegel v. Medtronics, 552 U.S. ___ (2008), that an FDA determination that a medical device was safe preempted any state-law tort claim to the contrary.  Here, the FDA had likewise determined that the prescribed labeling made Phenegran safe for medical use and Wyeth justifiably hoped that the Supreme Court would also find preemption in this case. 

The Supreme Court held otherwise.  Among other things, the Court distinguished Riegel because of the federal statute involved in that case, which the Court found expressly preempted state product liability claims involving medical devices approved by the FDA.  No such statutory provision had been enacted with respect to drugs and for this and other reasons a majority of the Court found that Levine’s state-law claim was neither preempted by nor in conflict with the FDA’s authority or actions.    

Even allowing, however, for the statutory difference, since, as both the majority and the three dissenting justices agree, “[t]he purpose of Congress is the ultimate touchstone in every pre-emption case,” it seems odd that the result in Wyeth should be so different from that in Riegel. After all, Congress has made very plain the purpose of the FDA when it authorized that agency alone to determine drug safety in this country.  As the dissent noted, the majority in Wyeth has approved a situation in which “[t]he FDA told Wyeth that Phenergan’s label renders its use ‘safe.’  But the State of Vermont, through its tort law, said ‘Not so.’”  Purely as a matter of common sense, it is hard to see why that action by Vermont should not be preempted, in light of the admitted federal scheme for drug regulation.

Anyone concerned about the availability of much-needed drugs should be disturbed that, as the dissent in Wyeth correctly points out, the majority’s decision makes state court juries, rather than the FDA, ultimately responsible for regulating warning labels for prescription drugs. 

It is also difficult to see how the majority’s decision in Wyeth takes into consideration the larger economic and business picture.  Many who agree with the decision claim that it benefits consumers.  But it seems obvious that, for the vast majority of consumers, the Court’s decision will mean higher costs and less availability as drug companies deal with the uncertainty that has been created and the litigation that will result.  How is a drug company ever to know whether its drug labeling is sufficient?  Even after one jury answers that question, another can decide it differently.    And the wider economic impacts of this decision, as other regulated industries determine the extent to which the Supreme Court majority’s reasoning may apply to them, remain to be seen.

What happened to the plaintiff in this case was tragic.  Nevertheless, it is a sad fact that, at the very moment when the other two branches of the federal government are focused on bolstering the health of our economy generally and lessening the costs of healthcare in particular, we are faced with a decision by our highest court destined to increase healthcare costs.  The decision seems wrongheaded on all fronts.

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The following article, by NELF President Martin Newhouse, appeared in New England In-House in January 2009:

Decision in Wal-Mart Case a Balanced Approach

The Massachusetts Supreme Judicial Court’s recent decision, Salvas v. Wal-Mart Store, Inc., 452 Mass. 337 (2008), has provided a clarification of class action procedure that may disappoint business defendants and plaintiffs alike.

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The following article, by NELF President Martin Newhouse, appeared in GC New England Magazine in the fourth quarter of 2008:

A Disappointing Trio of Massachusetts Decisions

In three recent decisions of the Massachusetts Supreme Judicial Court business defendants have not fared well, making 2008 a decidedly mixed bag for the Massachusetts business community and therefore for the local and regional economy.  

While each case was decided on its own facts and merits, together they remind us why the New England business community must continue to engage in judicial advocacy.  It is critical that the business community persuasively demonstrate the potential impacts of this and other courts’ rulings on businesses generally, and hence on the economy, that should be considered in determining a just result under the law. 

The Court’s decision in Iannachino v. Ford Motor Co., 451 Mass. 623 (2008), appears to retreat from the Court’s landmark holding in Hershenow v. Enterprise Rent-A-Car Co., 445 Mass. 790 (2006), that a consumer must prove actual injury in order to maintain an action under the Massachusetts Consumer Protection Act, Mass. G. L. c. 93A.  Iannachino was a class action brought on behalf of purchasers of certain Ford vehicles between 1997 and 2000.  The SJC (while affirming dismissal of the complaint without prejudice) decided that plaintiffs’ allegation that the vehicles’ outside door handles did not comply with a federal safety regulation was sufficient to state a claim under  c. 93A, even though the handles had never malfunctioned and no plaintiff had suffered personal injury, property damage, or out-of-pocket economic loss. 

Despite this seeming lack of actual injury, the SJC found that the plaintiffs had alleged an economic injury because, the Court reasoned, they had not received what they had paid for, i.e., vehicles in full compliance with all applicable safety regulations. The Court adopted this rule a priori without regard to whether any individual consumer could prove that he or she paid for a “safety regulation-compliant vehicle[],” as opposed to a vehicle that would in fact perform safely.  Moreover, the measure of damages announced by the Court, the cost of bringing the vehicle into compliance with the relevant safety regulation, bears no obvious relation to the amount that any plaintiff had allegedly overpaid.  Finally, by fashioning a remedy that, in effect, compensates potential loss (the risk of a future malfunction), the Court departed from the actual loss standard required by Hershenow and, arguably, the express provisions of c. 93A, at least where a defendant’s product is “inherently dangerous.”  This obviously has ramifications for manufacturers and distributors of many products, not just automobile manufacturers, and may be a signal of further retreat from the Hershenow standard in the future.

It is not debatable that car companies should be required to sell safe vehicles, but Iannachino also raises the question whether a damages lawsuit under c. 93A is an appropriate remedy for any alleged failure to do so.  Shouldn’t the appropriate remedy be to require that, where no malfunction has occurred but consumers face a potential harm, manufacturers bring the vehicles into compliance?  In fact, there is a comprehensive federal recall and replacement statute designed to address such concerns.  Why award damages to consumers, who might not even use the funds to remedy the alleged defect?  At the very least, Iannachino has sown confusion where Hershenow seemed to bring certainty with regard to c. 93A’s injury requirement in consumer actions, to the seeming detriment of the business community generally.

In Thurdin v. SEI Boston, LLC, 452 Mass. 436 (2008), the SJC again had an opportunity to consider the impact of its decision on both the business community and the economy.  The plaintiff’s suit alleged gender and pregnancy discrimination by a business with fewer than six employees.   The plaintiffs’ allegations, taken as true on appeal, paint an unattractive picture of the small business defendant, and criticism of the SJC’s holding in the case should not be taken as endorsing discriminatory practices by any business, whatever its size.  However, the question before the Court was not the validity of plaintiff’s claims, but whether she could even bring them in light of the express exclusion of businesses employing fewer than six employees from Massachusetts’ employment discrimination statute, Mass. G. L. c. 151B. 

In separate majority and concurring opinions, five SJC justices reinstated the plaintiff’s action, effectively treating the G. L. c. 151B exemption as having been implicitly repealed when the Legislature passed the Massachusetts Equal Rights Act, G. L. c. 93, §102 (“MERA”).  They so decided even though MERA does not mention employment discrimination and the Legislature, which has amended c. 151B several times, has never changed the small-employer exemption.

Whether or not one finds the majority’s reasoning in Thurdin to be persuasive (two dissenting justices did not), it is now the law of Massachusetts.  It has the anomalous result of making it easier to bring an employment discrimination claim against the Commonwealth’s smallest employers than to bring claims against larger employers, which still must be brought under G. L. c. 151B (with requirements and limitations not included in MERA).  While acknowledging this concern, the majority, noting statistics showing that in 2007 “over fifty-eight per cent of businesses in the Commonwealth employed fewer than five employees,” found it unlikely that the Legislature “meant to exempt a potential majority of its employers in the Commonwealth from its antidiscrimination laws.”  Unmentioned was the fact that, as the dissent pointed out, well under 10% of the total Massachusetts workforce is employed by such small businesses.

Significantly from the business community’s point of view, the Court majority appears not to have considered the burden that will be placed upon small businesses of the costs of defending discrimination claims (not all of which have legal merit).  Nor did it cite any evidence that employment discrimination is a widespread problem in this sector of the economy.   Both of these factors were likely to have been considered by the Massachusetts Legislature when it enacted the now defunct exemption for very small businesses. 

Finally, in Salvas v. Wal-Mart Stores, Inc., 452 Mass. 337 (2008), the SJC again apparently did not consider potential economic effects when it reinstated a massive class action against the retailer.  The plaintiffs, who allege that Wal-Mart eliminated and cut short rest and meal breaks, had their class decertified by the trial court based on the defendant’s evidence that many of the time records on which the plaintiffs relied, which were largely created by members of the plaintiff class themselves, were unreliable.  Indeed, the trial court found no evidence that even a majority of the potential class members had suffered the injuries alleged.  The SJC found, however, that since the documents nevertheless satisfied the statutory requirement for admissibility as business records, it was inappropriate to take their credibility into account at the certification stage.  In so deciding, it appears that the Court did not consider the tremendous burden placed upon the business defendant by its ruling, which in effect requires it to engage in a laborious in-court examination of several tens of thousands of Wal-Mart employees with regard to their record-keeping to determine who among the many class members has actually suffered any compensable loss.  That this would also place a huge burden on other businesses and the court system, with attendant adverse impact on the economy, was also apparently not considered.

Like all other courts, the SJC is constrained by rules of substantive and procedural law and evidence and, in certain cases where individual economic and civil rights are at stake, may properly conclude that consideration of broader business and economic impacts is not its proper concern. Where appropriate, however, the business community must continue to urge the Court to take these impacts into account, since otherwise the goal of achieving a fully just outcome from a societal viewpoint may not be achieved.   

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The following article, by former General Counsel  Jo Ann Kaplan, appeared in New England In-House in November 2008:

Pharm Cases an Rx for Determining Protection

Three cases pending in federal trial and appellate courts in New England challenge legislative restrictions on pharmaceutical marketing but have relevance far beyond that particular context. At stake is the level of protection from governmental regulation to be afforded business-to-business information transfers.

The cases, filed by IMS Health Inc. and other so-called data-mining companies, challenge on First Amendment and other grounds statutes passed by the New Hampshire, Maine and Vermont legislatures that restrict the transfer and use for commercial purposes of information regarding individual physicians’ medication-prescribing practices, or “prescriber-identifiable information.” (Patient-identifiable information is protected from disclosure and is not at issue.) 

The New Hampshire law completely bans the transfer and use of prescriber-identifiable data for commercial purposes; the Maine statute allows physicians to “opt out” of such transfer and use of their data; and the Vermont statute precludes the sale or use of the data for commercial purposes except to the extent individual physicians “opt in.”  Decisions are expected to be rendered soon by the 1st U.S. Circuit Court of Appeals, which is reviewing a trial-court decision finding the New Hampshire statute unconstitutional, and by the U.S. District Court in the Vermont action. The Maine case is also on appeal to the 1st Circuit but is stayed pending that court’s decision on the New Hampshire law. 

Free flow of information

These cases most immediately affect the rights of pharmacies and others lawfully in possession of data regarding doctors’ prescription practices to sell that data and the rights of pharmaceutical companies to obtain and use the data in marketing their medications to doctors. Even at this level, the cases are not without significance for New England businesses generally. 

It has been predicted that decisions upholding these statutory restrictions will decrease the effectiveness and, thereby, increase the expense of pharmaceutical marketing. This could lead to higher prescription drug prices and associated higher health insurance costs for employers, including the many employers throughout New England already struggling to meet their employees’ health-care needs.

Moreover, if these statutes are upheld, it is unclear that there will be any compilation and publication of prescriber-identifiable data for non-commercial uses benefiting the public interest, such as health-care research and reform. And, while some speculate that regulating information on physicians’ medical-device orders would be next, there is no reliable way to predict the subject matter of future governmental attempts to restrict the availability of information. 

For these reasons as well, these cases have import for New England businesses and citizens generally.

Most importantly, however, these cases all involve attempts by state attorneys general to classify the sale or other voluntary transmission of information from one business to another for commercial purposes as “commercial speech” entitled to lesser protection from governmental regulation than non-commercial speech. 

In our modern “information age,” sales and other voluntary transfers of data between businesses are fundamental to the free enterprise system and often serve, as in this instance, broader societal interests as well as the interests of individual businesses.  Indeed, market forces provide the incentives and resources for the dissemination of most information today. 

Treating information transfers between businesses as somehow less deserving of First Amendment protection than other informational communications could, therefore, have very serious ramifications for both economic and social interests served by the free flow of information in our society.

Defining speech

For these reasons, the New England Legal Foundation filed an amicus brief in the pending Vermont litigation, arguing that these legislative restrictions on voluntary business-to-business information transfers for commercial purposes constitute restrictions on non-commercial speech that must be subjected to, and cannot survive, strict scrutiny under the First Amendment to the Constitution. 

While acknowledging that the contours of “commercial speech” are not entirely clear under Supreme Court precedents, NELF explained that the court has never actually found speech to be “commercial speech” (a designation that results in only “intermediate,” rather than “strict,” scrutiny of governmental regulation) except where it proposes a commercial transaction. Obviously, the mere sale or transfer of data from one business to another, while it may provide information later employed for purposes of proposing commercial transactions, does not itself constitute such advertising or marketing.

It is the Supreme Court’s decision in Central Hudson Gas & Electric Corp. v. Public Service Comm’n, 447 U.S. 557 (1980), that has created the uncertainty regarding the scope of the commercial speech doctrine. Central Hudson appears to define commercial speech as that which “proposes a commercial transaction,” but it also indicates that commercial speech is “related solely to the economic interests of the speaker and its audience.” In a concurring opinion, Justice John Paul Stevens noted numerous problems with relying on the latter definition:

“Although it is not entirely clear whether this definition uses the subject matter of the speech or the motivation of the speaker as the limiting factor, it seems clear to me that it encompasses speech that is entitled to the maximum protection afforded by the First Amendment. Neither a labor leader’s exhortation to strike, nor an economist’s dissertation on the money supply, should receive any lesser protection because the subject matter concerns only the economic interests of the audience. Nor should the economic motivation of a speaker qualify his constitutional protection; even Shakespeare may have been motivated by the prospect of pecuniary reward. Thus, the Court’s [alternative] definition of commercial speech is unquestionably too broad.”

Proper parameters

NELF argued in its amicus brief in the Vermont litigation that, whichever Central Hudson definition is applied, the particular legislative restrictions at issue affect non-commercial speech and must therefore be subjected to strict scrutiny under the First Amendment. 

However, because of the important implications for New England businesses generally, NELF also relied on Supreme Court and 2d Circuit opinions subsequent to Central Hudson to argue that “commercial speech” primarily entails advertising or marketing and does not properly encompass other transfers of information merely because they occur between businesses. 

This issue of the proper parameters of commercial, as opposed to non-commercial, speech may well reach the Supreme Court in one or more of these three, parallel New England actions, and its significance cannot be overstated.

If the dominant role that businesses now play in the compilation and transfer of information is to make all such publications “commercial speech,” every sale or other voluntary transfer of information between businesses will be exposed to more extensive government policing, with less justification. The resulting impact on the “marketplace of ideas” could be substantial. 

Thus, the upcoming decisions in these pharmaceutical marketing cases will be important indications of the vitality of First Amendment protections generally in our business-fueled information society. As the Supreme Court cautioned in Bolger v. Youngs Drug Products Corp., 463 U.S. 60, 66 (1983), it will be critically important that our courts be circumspect in applying the “commercial speech” label so as to “ensure that speech deserving of greater constitutional protection is not inadvertently suppressed.”

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The following article, by NELF President Martin Newhouse, appeared in Massachusetts Lawyers Weekly on October 6, 2008:

'Iannacchino': A Retreat on Chapter 93A?

A recent decision by the Supreme Judicial Court brings up many questions about the SJC’s interpretation of the state’s consumer protection law.

The ruling in Iannacchino v. Ford Motor Co., 451 Mass. 623 (2008), raises yet again the specter of successful Chapter 93A claims that are not based on any actual injuries.

Two years ago, the SJC in Hershenow v. Enterprise Rent-A-Car Company of Boston, Inc., 445 Mass. 790 (2006), had seemingly ended the debate on this point when it held that consumers must allege and ultimately prove an actual injury to prevail under Chapter 93A.

As the court put it, even when conduct could be considered deceptive per se, a plaintiff “must demonstrate that [the] ... deception caused a loss” in order to recover under the statute (G.L.c. 93A, §9). Hershenow, at 798-99.

Massachusetts’ businesses welcomed Hershenow’s clarification of the injury requirement under Chapter 93A, since it removed potential exposure to individual lawsuits and class actions for money damages based on allegations of conduct (often innocent mistakes) that caused no harm to anyone.

As the New England Legal Foundation long had argued, this was consistent with the consumer protection statute itself, which expressly states that monetary damages are to be awarded for “actual damages” (or $25 when actual damages are less than that amount).

In upholding the actual-damage requirement, Hershenow restored the balance the Legislature had struck between the interests of consumers and businesses when it enacted Chapter 93A.

Unfortunately, the SJC’s decision in Iannacchino — while claiming consistency with Hershenow — raises many questions about its direction in the consumer protection area. Iannacchino may sow confusion where Hershenow had seemingly brought clarity.

Faulty door handles?

Iannacchino was a class action filed on behalf of all Massachusetts residents who owned certain Ford vehicles from model years 1997-2000. The plaintiffs alleged the outside door handles of their vehicles were defective because they did not comply with a specific federal safety standard.

In no case, however, had the outside door handles on any of the plaintiffs’ vehicles ever malfunctioned or caused personal injury, property damage or out-of-pocket loss through either repair or resale at a discounted value.

The trial court followed Hershenow and dismissed the Chapter 93A claim as “speculative and premature” because the complaint did not allege actual damage caused by the door handles.

While the SJC upheld the dismissal, it surprisingly said that, on the facts of the case, the lack of any actual injury arising from the allegedly defective door handles did not bar a claim under Chapter 93A.     

The court justified this seeming departure from the actual-injury standard, first, by declaring that Hershenow did not control because its facts were different. Hershenow involved a car rental transaction of limited duration, and the plaintiffs had sued after the transaction had been completed with no damage to them. In contrast, the court said the plaintiffs in Iannacchino still owned the allegedly defective motor vehicles.

Second, the SJC found Chapter 93A’s actual-loss requirement was satisfied in Iannacchino by determining, as a matter of law, that when a manufacturer of an inherently dangerous product is alleged to have knowingly failed to comply with a safety regulation, the consumers who purchased the product necessarily paid for something they did not receive, i.e., regulatory compliance.

This, the SJC found, is a compensable economic loss, measurable by the cost of bringing the vehicles into regulatory compliance, for which the consumers could sue under Chapter 93A.

Regulatory compliance 

That motor vehicles should be manufactured in compliance with all applicable federal safety standards is not debatable. However, whether a lawsuit under Chapter 93A is an appropriate way to deal with alleged noncompliance in this area is debatable.

The court’s reasoning was unaffected by the fact that, over the years, none of the door handles had ever malfunctioned. In fact, the court indicated it did not consider the absence of a “manifested defect” to bar recovery under the statute.

To be sure, the court sought to satisfy Hershenow’s actual-damage requirement by creating a new per se rule that economic damage occurs whenever a consumer purchases a vehicle that does not meet a safety requirement.

But the court adopted the rule a priori regardless of whether any individual consumer could prove he or she paid for a “safety regulation-compliant vehicle[],” as opposed to a vehicle that would in fact perform safely.

In addition, to the extent the new rule rewards plaintiffs for the risk of a possible future malfunction, it compensates potential loss as opposed to actual loss as required by Hershenow and Chapter 93A.  

Finally, the measure of economic loss adopted by the SJC — the cost of bringing the product into compliance — raises the issue of whether a damage award in such a case is even appropriate.

When no malfunction or personal injury has occurred, doesn’t it make sense to require that the vehicle be brought into compliance rather than to award damages, which might not be used by the plaintiffs to remedy the alleged defect?

The court’s seeming departure from a strict application of Hershenow, and its adoption of a per se injury rule, may lead to an undesirable result.

A bright side 

The SJC’s decision in Iannacchino has a bright side. The court adopted a new standard for Rule 12(b)(6) motions to dismiss, requiring plaintiffs to allege facts that plausibly suggest they are entitled to relief, as opposed to mere conclusory allegations.

Indeed, under this new standard, the court dismissed without prejudice the Chapter 93A claims on the basis that the plaintiffs had not adequately alleged that their vehicles failed to comply with an applicable safety regulation.

The court also declined, in the absence of any alleged personal injury or property damage, to adopt a rule that would hold a company liable under Chapter 93A for failing to meet its own internal “self-imposed standards that may in fact be aspirational goals conducive to the development and implementation of improved safety measures that exceed regulatory requirements.”

Despite these more positive aspects of the court’s decision, the issues discussed above are troubling and will undoubtedly have fallout as the SJC’s jurisprudence under Chapter 93A continues to develop.    

Martin J. Newhouse is president of the New England Legal Foundation. NELF filed an amicus curiae brief in Iannacchino v. Ford Motor Co. in support of the defendant.    

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The following article, by former General Counsel Jo Ann Kaplan, appeared in Massachusetts Lawyers Weekly on August 11, 2008:

Nationwide Class Actions in Massachusetts Courts

The jurisdiction of Massachusetts courts over nationwide class actions remains subject to challenge despite a recent decision of the Supreme Judicial Court addressing the issue.

The ruling, Moelis v. Berkshire Life Ins. Co., 451 Mass. 483 (2008), is a mixed bag for class-action defendants sued in Massachusetts courts.

On the one hand, the decision provides welcome confirmation that a plaintiff class containing nonresidents cannot be certified in a Massachusetts court unless a basis exists for the exercise of personal jurisdiction over every nonresident putative class member.

However, the court also concludes that Massachusetts courts can constitutionally exercise personal jurisdiction over nonresident plaintiff class members who have “minimum contacts” with the commonwealth even though state rules afford no opportunity for those putative class members to “opt out” of the action.

This latter conclusion appears to be inconsistent with governing Supreme Court precedent.

Debatable interpretation

The Berkshire Life case was an attempted nationwide consumer class action based on allegations that the insurer’s agents deceived purchasers of Berkshire policies. The SJC’s decision, authored by Justice Judith A. Cowin, upheld the trial court’s denial of certification for both nationwide and statewide classes.

The court based its decision with respect to the nationwide class on a debatable interpretation of the opinion of the U.S. Supreme Court in Phillips Petroleum Co. v. Shutts, 472 U.S. 797 (1985), regarding constitutional limits on the exercise of jurisdiction over nonresident plaintiff class members.

The SJC interpreted the Shutts decision, as have some other courts, as permitting a non-opt-out jurisdiction like Massachusetts to certify a plaintiff class containing nonresidents provided the constitutional “minimum contacts” standard is satisfied.

On the facts presented, the court concluded that the nonresident Berkshire insureds did not have minimum contacts with Massachusetts and that a nationwide class therefore could not be certified. 

A plain reading of the Shutts decision, however, does not support the SJC’s conclusion in Berkshire Life that “minimum contacts” can substitute for an opt-out right.

In Shutts, the Supreme Court expressly rejected the petitioner’s suggestion that it apply to nonresident plaintiffs the “minimum contacts” standard for the exercise of jurisdiction over nonresident defendants. 472 U.S. at 807–08.

Having rejected the “petitioner’s premise” as “in error,” the court described the more “minimal procedural due process protection” prerequisite to “the exercise of jurisdiction over the claim of an absent class-action plaintiff” where that claim is for “money damages or similar relief at law.” Id. at 808–12.

In its critical ruling for current purposes, the court stated: “[W]e hold that due process requires at a minimum that an absent plaintiff be provided with an opportunity to remove himself from the class by executing and returning an ‘opt out’ or ‘request for exclusion’ form to the court.” Id. at 812.

As has been recognized in subsequent Supreme Court cases, this ruling in Shutts appears absolute, requiring that any nonresident plaintiff, even one who has minimum contacts with the forum state, have a chance to opt out of the class. See Ortiz v. Fibreboard Corp., 527 U.S. 815, 848 (1999) (“[In Shutts] we said that ‘at a minimum ... an absent plaintiff [must] be provided with an opportunity to remove himself from the class.’”); Matsushita Elec. Indus. Co., Ltd. v. Epstein, 516 U.S. 367, 395 (1996) (Ginsburg, J., concurring in part and dissenting in part, joined by Justice Stevens and, in this respect, by Justice Souter) (“[The Shutts opinion] listed minimal procedural due process requirements a class action money judgment must meet if it is to bind absentees [including] ... a right to opt out ... .”); Ticor Title Ins. Co. v. Brown, 511 U.S. 117, 125 (1994) (O’Connor, J., dissenting from determination that certiorari was improvidently granted, joined by Chief Justice Rehnquist, who authored the Shutts decision, and Justice Kennedy) (“[W]e held in [Shutts] that there is a constitutional right [on the part of nonresident plaintiffs] to opt out of class actions brought in state court” for money judgments.). 

In Shutts, the Supreme Court rejected the suggestion that nonresident plaintiffs must take affirmative steps to “opt in” to a class, as opposed to being deemed to consent to class membership by failing to “opt out.” 472 U.S. at 812–13.

In doing so, the court revealed the theoretical underpinning for its rulings: “Any plaintiff may consent to jurisdiction. [citation omitted] The essential question, then, is how stringent the requirement for a showing of consent will be.” Id. at 812. See also Arthur R. Miller & David Crump, “Jurisdiction and Choice of Law in Multistate Class Actions after Phillips Petroleum Co. v. Shutts,” 96 Yale L.J. 1, 10 (1986) (noting the Shutts court’s “... reliance on consent as the basis of jurisdiction.”). 

The better reading of Shutts, then, appears to be that certification, in a state court action for money damages, of a plaintiff class that includes nonresidents is dependent on the nonresidents’ consent to the court’s determination of their claims, evidenced by notice of and failure to exercise a right to opt out of the class.

This interpretation treats unnamed plaintiff class members as less like defendants and more like named plaintiffs, who are subject to the court’s jurisdiction because they have affirmatively availed themselves of the tribunal for resolution of the dispute in question.

Under this interpretation of Shutts, the opt-out and related procedural protections required for nonresident plaintiffs are not, as the SJC describes them in Berkshire Life, “an alternative to the traditional minimum contacts test,” 451 Mass. at 487, but rather absolute prerequisites to a state court’s exercise of jurisdiction over nonresident plaintiffs in an action for money damages and, hence, to the court’s certification of a nationwide class.

It would not be accurate to view this interpretation of Shutts as inconsistent with the Supreme Court’s indication in that case that absent plaintiffs require less due process protection than absent defendants.

A nonresident plaintiff who has notice of, but fails to exercise, an opt-out right is bound by the forum’s judgments even in the absence of the minimum contacts that would be required to bind a nonresident defendant and, therefore, has less due process protection.

Nor does this reading of Shutts threaten the status of mandatory class actions limited to state residents. The Shutts opt-out requirement is restricted to nonresident plaintiffs, presumably because state courts have personal jurisdiction over residents based on their domicile within the forum state. See, e.g., G.L.c. 223A, §2.

Right to control litigation

The rationale for providing absent plaintiff class members with an absolute constitutional right to opt out of the class has been explained as a function of an individual’s right to control the litigation of his or her claim. See, e.g., Patricia Anne Solomon, “Are Mandatory Class Actions Unconstitutional?” 72 Notre Dame L. Rev. 1627, 1632 (1997).

As the Shutts opinion itself explains, a “chose in action is a constitutionally recognized property interest possessed by each of the plaintiffs,” and sometimes a nonresident plaintiff’s claim will be “sufficiently large or important that he wishes to litigate it on his own.” 472 U.S. at 807, 813.

The issue is not just of concern to nonresident plaintiffs, however. Defendants must be concerned that they will be bound by the judgment of a Massachusetts court in a nationwide class action while the nonresident putative class members over whom jurisdiction was improperly exercised remain free to bring additional actions against them in other jurisdictions.

For this reason, “the class-action defendant itself has a great interest in ensuring that the absent plaintiff’s claims are properly before the forum.” Id. at 809.

If, as the Berkshire Life decision indicates, Massachusetts courts can entertain nationwide class actions from which plaintiff class members cannot opt out, that enhances the state’s attractiveness as a forum for such actions.

Mandatory nationwide class actions for damages, not permitted under Federal Rule of Civil Procedure 23(c)(2)(B) or many state rules, have obvious advantages from the perspective of the plaintiffs’ bar.

Moreover, while certain class actions brought in state court are removable to federal court under the Class Action Fairness Act of 2005, Pub. L. No. 109-2, §2(a)(2), 119 Stat. 4 (2005), others will continue to be heard in state court. Thus, the import of Shutts for nationwide class actions in Massachusetts is of more than just theoretical concern.

In class actions before Massachusetts courts where “minimum contacts” may be found to exist between nonresident plaintiff class members and the commonwealth, defendants may wish to request that the SJC revisit the ability of Massachusetts courts to exercise jurisdiction over nonresident plaintiff class members.

Depending on the SJC’s response, defendants may choose to petition the Supreme Court for a writ of certiorari to clarify the meaning of the Shutts decision for non-opt-out jurisdictions. Because many jurisdictions have opt-out procedures, a Massachusetts case may be the best vehicle for final resolution of this important question.    

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The following article, by former General Counsel Jo Ann Kaplan, appeared in GC New England Magazine in the second quarter of 2008:

Rhode Island Rejects Expanded Products Liability

New England businesses and their counsel can breathe a collective sigh of relief in the wake of the Rhode Island Supreme Court’s recent reversal of a jury verdict against lead pigment manufacturers in State of Rhode Island v. Lead Industries Ass’n, 2008 WL 2605396 (R.I. July 1, 2008).  The 2006 jury verdict was the first in the nation ever to hold lead pigment manufacturers liable on a public nuisance theory, and a decision upholding that verdict would have vastly expanded public nuisance doctrine, with far-reaching potential ramifications for all who make, market, or sell products.  In an admirable exercise of judicial restraint, Rhode Island’s high court soundly rejected the state Attorney General’s attempt to employ public nuisance doctrine to impose unforeseeable, no-fault liability on parties who lawfully manufactured and sold products many decades before those products allegedly caused harm while in the control of others.

Interior, lead-based house paint has not been manufactured in over 50 years.  When available, it was specified by many government agencies for use in public, residential buildings.  Nonetheless, in 1955, more than 20 years before the federal government banned consumer uses of lead paint, manufacturers acted voluntarily to eliminate the sale of lead-based paint for interior, residential application.

Intact, well-maintained lead paint is not a hazard, of course.  It is only when residential property owners fail to engage in normal maintenance or to repair deteriorating paint that children are potentially exposed to hazardous lead levels.  Like most states, Rhode Island has a comprehensive statutory scheme that requires landlords to engage in such maintenance and repair and imposes liability on them if they fail to do so.  And this program has reaped dramatic rewards.  As the former director of the Rhode Island Department of Health testified at trial, the resulting decline in childhood lead poisoning in the state is properly characterized as “a public health success story.”  Yet, prior to the Rhode Island Supreme Court’s decision on appeal, the trial judge was considering an abatement proposal from the Attorney General under which contractors would  enter homes throughout Rhode Island and remove or encapsulate intact lead paint.

Recognizing that an adverse decision in this appeal would provide welcome precedent for the plaintiffs’ bar and other state Attorneys General that might be followed by other courts and would not be limited to the lead paint context, the New England Legal Foundation (“NELF”) filed an amicus brief with the Rhode Island Supreme Court arguing against the requested expansion of public nuisance law.  NELF’s brief reviewed out-of-state decisions and academic commentary in an effort to demonstrate that a decision upholding the jury verdict would place the state far outside the mainstream.  The Court, which relied heavily on the authorities cited in NELF’s brief, embraced the point, concluding that “[t]he law of public nuisance never before has been applied to products, however harmful.”  NELF had further argued that there was simply no deterrent value to imposing retroactive, no-fault, unforeseeable liability and that doing so would discourage product development that is critical to a vibrant economy.

Decision Checks Public Nuisance Claims

The Court recognized that the Attorney General was attempting with its public nuisance claim to avoid the proof requirements of product liability law.  In fact, the AG sought to impose liability without proof of either negligence or intentional wrongdoing on the part of any defendant and without any evidence that a defendant ever sold lead pigment in Rhode Island or that its lead pigment was ever present in any Rhode Island residence.  The AG also sought to turn many alleged private nuisances (i.e., lead paint in multiple private residences) into a public nuisance based simply on aggregation.  And he wanted the Court to disregard the fact that it was the failure by property owners to maintain lead paint on building surfaces, and not the lawful sale of lead pigment, that had caused harm to Rhode Island children. 

Fortunately, reason prevailed.  The Court determined that, “however grave the problem of lead poisoning is in Rhode Island, public nuisance law simply does not provide a remedy for this harm. . . . [D]efendants were not in control of any lead pigment at the time the lead caused harm to children in Rhode Island, making defendants unable to abate the alleged nuisance, the standard remedy in a public nuisance action.  Furthermore, the General Assembly has recognized defendants’ lack of control and inability to abate the alleged nuisance because it has placed the burden on landlords and property owners to make their properties lead-safe.” 

The Rhode Island court has now joined the highest courts of Missouri and New Jersey and the Illinois Appellate Court in rejecting public nuisance liability for lead pigment manufacturers.  Comparable ongoing cases in Ohio and California remain of concern because, as the adage goes, hard cases can make bad law.  However, the high court of Rhode Island has helped point the way for these other courts.  Quoting U.S. Supreme Court Chief Justice Roberts, the Rhode Island justices remind us that “judges must be constantly aware that their role, while important, is limited.  They do not have a commission to solve society’s problems, as they see them, but simply to decide cases before them according to the rule of law.”  Noting that judge-made common law “serves the important social value of stability,” the justices further observe that common law “evolution takes place gradually and incrementally and usually in a direction that can be predicted.”

Applying these precepts of judicial restraint to the case before it, the Rhode Island Supreme Court declined to take the “enormous leap” urged by the Attorney General.  The Court acknowledged that for it effectively to create a new cause of action in order to redress the evil of lead poisoning in children “even if based on sound policy and the best of intentions, would be to substitute our will for that of a body democratically elected by the citizens of this state and to overplay our proper role in the theater of Rhode Island government.”  Amen.

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The following article, by Ben Robbins, appeared in New England In-House in July 2008:

A New Door Has Been Opened

Ruling suggests state law can control arbitral enforcement in federal court

Businesses are frequently drawn to arbitration because it allows them to fashion their own private dispute resolution process.

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The following article, by former NELF General Counsel Jo Ann Kaplan and NELF President Martin Newhouse, appeared in The Boston Globe on July 18, 2008:

Courts Bound by Rule of Law, Not Societal Faults

YOUR EDITORIAL "Lead paint: Blame game goes on" (Short Fuse, July 8), slamming the Rhode Island Supreme Court for its recent decision in lead paint litigation, could not have been further off the mark. Judges do not decide who should be "blamed" for societal problems, however grave. They are bound by the rule of law, and a decision by the court that would have pleased the Globe would have been at odds with the law of every jurisdiction in the United States and the English-speaking world.

The Rhode Island attorney general effectively sought judicial creation of a new cause of action - one that the state Legislature had declined to authorize - in order to impose liability without proof of wrongdoing or causation, or evidence that any defendant's product was even present in Rhode Island. In an 81-page decision, the court acknowledged both the serious problem of lead poisoning in children and the "public health success story" that the Legislature's chosen remedies have occasioned.

The court correctly declined to create retroactive, no-fault, unforeseeable liability for lawful sales of products many decades ago. Criticizing judges for properly performing their important, but limited, function leads to public misunderstanding of and disrespect for the judiciary.

JO ANN SHOTWELL KAPLAN
General counsel

MARTIN J. NEWHOUSE
President
New England Legal Foundation
Boston

The New England Legal Foundation filed a friend of the court brief in the Rhode Island lead paint case, challenging the attorney general's requested expansion of public nuisance law.

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The following article, by NELF President, Martin Newhouse, appeared in New England In-House in May 2008:

SJC Refuses to Expand Piercing Corporate Veil Doctrine

The Massachusetts Supreme Judicial Court recently declined an opportunity to expand the circumstances in which the corporate form may be disregarded.

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The following article, by former General Counsel Jo Ann Shotwell Kaplan, appeared in New England In-House in March 2008:

Numerous Pending Cases Could Significantly Impact New England Companies

A number of pending cases in New England and before the U.S. Supreme Court could potentially have a significant impact on businesses in our region.