April 27, 2022 California’s Consumer Finance Regulator Continues to Confront Fintech: A Look at DFPI’s First Year

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By: Jeremy M. Creelan, Megan B. Poetzel, Jenna E. Ross, and Karolina L. Bartosik

The regulation and enforcement of financial technology (Fintech) remains in sharp focus for California’s consumer finance regulator, the Department of Financial Protection and Innovation (DFPI), as it moves into its second year of operation. This Alert provides a short overview of the DFPI’s origins, a comparison of the DFPI’s stated priorities with its regulatory activities in its inaugural year, and an analysis of recent enforcement actions relevant to Fintech.   

Background

In August 2020, the California legislature passed Assembly Bill 1864, which included the California Consumer Financial Protection Law (CCFPL), one of the most expansive consumer protection laws in the country, and replaced the Department of Business Oversight (DBO) with the DFPI. As discussed in a contemporaneous blog post in Jenner & Block’s Consumer Law Round-Up, the CCFPL charges the DFPI with regulating “the provision of various consumer financial products and services” and exercising “nonexclusive oversight and enforcement authority under California and federal (to the extent permissible) consumer financial laws.”

To meet its “dual mission to protect consumers and foster responsible innovation,” the CCFPL expanded the scope of the DFPI’s oversight authority powers to cover entities and products not previously regulated by DBO, although it exempted major financial institutions from its reach. The DFPI now oversees nonbank small business lenders and Fintech companies, along with debt relief companies, consumer credit reporting agencies, among others, and can investigate and sanction unlawful, unfair, deceptive, or abusive acts or practices by any person offering or providing consumer financial products or services in the state. The CCFPL also grants the DFPI “the power to bring administrative and civil actions, issue subpoenas, promulgate regulations, hold hearings, issue publications, conduct investigations, and implement outreach and education programs.”

A Comparison of the DFPI’s Stated Priorities with its 2021 Activities

In its first monthly bulletin after the implementation of the CCFPL, the DFPI announced three notable areas of interest. Over a year later, in March 2022, the DFPI published a report summarizing its 2021 activities. A comparison of the two reveals areas of progress and sustained focus.

First, the DFPI promised to “review and investigate consumer complaints against previously unregulated financial products and services, including debt collectors, credit repair and consumer credit reporting agencies, debt relief companies, rent to own contractors, private school financing, and more.” In its annual report, the DFPI reported that it has collected “close to $1 million in restitution for consumers from enforcement actions” and reviewed 30% more complaints in 2021 than in 2020.  Notably, “[t]he top categories of [consumer] complaints included debt collection, cryptocurrency, and ‘neo banks’ (fintech companies partnering with banks to offer deposit account services).”

Second, the DFPI prepared to open the Office of Financial Technology Innovation, made “to work proactively with entrepreneurs and create a regulatory framework for responsible, emerging financial products.” Almost immediately, the DFPI signaled its interest in regulating earned wage access (EWA), or the ability for employees to access their wages before their scheduled payday. Not long after publication of its monthly bulletin, the DFPI entered into memoranda of understanding (MOU) with five EWA companies. The companies agreed to deliver quarterly reports beginning April 2021 “on several metrics intended to provide the [DFPI] with a better understanding of the products and services offered and the risk and benefits to California consumers.” Later, the DFPI signed six additional MOU with EWA companies and stated in its annual report that the quarterly reports required in the MOU will “inform future oversight efforts.” The DFPI also indicated potential rulemaking may be forthcoming related to wage-based advances, including the registration of covered persons, record retention, and reporting.

Third, the DFPI stated that it would create the Division of Consumer Financial Protection, which would “feature a market monitoring and research arm to keep up with emerging financial products.” Per its report, the DFPI created a research team in September 2021, which is “in the process of evaluating DFPI’s consumer complaint data to identify broader market trends that may pose risks to consumers.”

Key Areas of DFPI Enforcement Related to Fintech

The Fintech industry has been a focus of DFPI enforcement activity since its inception. In one early action, for instance, the DFPI entered a desist and refrain order against a Fintech platform for allegedly selling securities, including cryptocurrency, without a broker-dealer certificate; misleading consumers in the sale of the securities; and engaging in unlicensed securities transactions.

In the last few months, the DFPI has continued to provide guidance to the industry in a variety of areas, via interpretive opinions and enforcement actions. Companies providing similar financial products and services in California should take note.

  • “True lender” and interest rate caps
  • In December 2021, the DFPI entered a consent order with a California company that had marketed consumer loans to California borrowers with interest rates in excess of the maximum set by California law. In the consent order, the company agreed not to market or service loans of less than $10,000 with interest rates greater than those set by the California Fair Access to Credit Act. The entrance of the consent order reveals that the DFPI viewed the California company as the true finance lender under the California Financing Law and the CCFPL, even though the company did not fund the loans and had provided servicing and marketing services to its banking partner, a Utah bank that is exempt from California’s usury laws.
  • In reaction to the above order, a Fintech platform and nondepository that operates a similar bank partnership program filed suit against the DFPI in March 2022, seeking a declaration that California’s interest rate caps do not apply to its loan program because its Utah bank partner originates and funds the loans. In April 2022, the DFPI filed a cross-complaint, accusing the Fintech platform of deceptive and unlawful business practices, by engaging in a “rent-a-bank” partnership scheme that allows it to evade California interest rate caps and promote predatory lending practices. The cross-complaint alleges that the Fintech platform is the “true lender” of the loans because it has the predominant economic interest in the transaction, as it collects nearly all of the loan profits after purchasing the loans’ receivables from its bank partner within days of their funding, thereby shielding its partner from any credit risk. The DFPI also alleges that the Fintech platform performs traditional lender roles in marketing, underwriting, and servicing the loans. The DFPI seeks at least $100 million in penalties, in addition to restitution to the affected borrowers.
  • Wage-based advances and lender licensing
  • In a February 2022 interpretive opinion, the DFPI concluded that certain employer-facilitated advances, for which an EWA provider contracts with an employer to offer its employees early access to wages, were not loans under either the California Financing Law, which regulates consumer credit, or the California Deferred Deposit Transaction Law, which regulates payday loans. In reaching this conclusion, the DFPI found that the source of the funding (the employer), the limit on the funding amount (to the amount an employee earned), and the nominal fees associated with the advance counseled against the application of California’s lending laws. Therefore, the inquiring EWA provider and its employer-partner were not required to obtain lending licenses.
  • By contrast, the DFPI alleged in two recent enforcement actions that a merchant cash agreement (providing funding in exchange for a percentage of a company’s future revenue) and an income share agreement (providing college tuition funding in exchange for a percentage of the student’s income after graduation) qualify as loans, and such providers must be licensed in accordance with applicable California law.
  • Cryptocurrency and digital asset trading
  • In a March 2022 interpretive opinion, the DFPI addressed whether the California Money Transmission Act (MTA), which prohibits unlicensed engagement in the business of money transmission in the state, applies to software that provides retail and institutional investors with the ability to buy, sell, and store cryptocurrency. Of note, the MTA defines “money transmission” to include the selling or issuing of “stored value”; the selling or issuing of payment instruments; and the receipt of money for transmission. The DFPI concluded that closed-loop transactions, where the company does not facilitate the exchange of cryptocurrency transactions with a third party and the customer can only redeem monetary value stored in the account for cryptocurrency sold by the company, do not meet the definition of “money transmission.” However, the DFPI explained that it has not determined whether a “wallet storing cryptocurrency” is a form of “stored value” under the MTA.  Accordingly, the DFPI did not require the inquiring platform to be licensed in order to provide customers with fiat and digital wallets to store and exchange cryptocurrency with the platform directly. The DFPI noted, however, that the licensing requirements remain subject to change.
  • A month earlier, the DFPI concluded in a February 2022 consent order that sales of a cryptocurrency retail lending product qualify as a security under California law. Specifically, the company at issue offered and sold interest-bearing digital asset accounts, “through which investors could lend digital assets to [the company] and in exchange, receive interest” paid in cryptocurrency. The DFPI concluded that these accounts are securities, and that the company had wrongfully engaged in unregistered securities transactions. The DFPI’s decision came shortly after the federal Securities and Exchange Commission charged the company with a similar violation of federal securities laws, finding that the accounts were both “notes” and “investment contracts” because the investors’ digital assets were pooled and packaged as loan products that generated returns for the company and yielded variable monthly interest payments contingent on the company’s deployment and management of the assets.

As this overview makes clear, Fintech remains a top priority for the DFPI’s regulatory and enforcement activity in 2022. Jenner & Block will continue to monitor the DFPI and report on the dynamic regulatory landscape affecting Fintechs.

April 19, 2022 CFPB Publishes Market Snapshot Report on Consumer Use of State Payday Loan Extended Payment Plans

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By: Jenna L. Conwisar

Payday loans are small-dollar cash loans typically due in a single payment on the borrower’s next payday—they are extremely short-term and generally high-interest forms of consumer credit.[1] If the borrower cannot pay off the loan when it’s due, some states allow the borrower to pay a fee to defer full payment on, or “rollover,” their loan. A 2014 Consumer Financial Protection Bureau (CFPB) report found that over 80% of payday loans are rolled over within two weeks.[2]

The CFPB notes that upwards of 12 million borrowers utilize payday loans each year.[3] 16 states now require that payday lenders allow borrowers to repay their payday loans at regular intervals through Extended Payment Plans, or EPPs, typically at no additional cost to the borrower.[4]

On April 6, 2022, the CFPB published a report examining state EPPs.[5] Below are some of the CFPB report’s key findings.

Variation and Commonality Among State EPP Laws

The CFPB report found “substantial variation” among state EPPs, particularly in consumer eligibility requirements.[6] Depending on the state they are borrowing in, consumers may become EPP-eligible after surpassing a set number of rollovers, after they pay a certain percentage of the outstanding balance, or after they enroll in credit counseling.

Most states require EPPs to include at least four equal or substantially equal installments, and consumers are typically limited to one EPP election in a 12-month period. Many states mandate that lenders disclose the availability of an EPP option to consumers at the time they enter into the payday loan agreement or at the time of default.

EPP Usage, Default, and Rollover Rates

According to the CFPB report, extended payment plan usage rates vary drastically across states, with Washington reporting that 13.4% of payday loans converted to EPPs in 2020 compared to Florida’s 0.4%. In California, EPP usage rates doubled from 1.2% in 2019 to 3.0% in 2020. While the COVID-19 pandemic saw payday loan volume decrease by 65%, EPP usage rates tended to rise slightly. The report attributes the decline in overall payday loan volume to the federal Economic Impact Payments.

Meanwhile, rollover and default rates still remain higher than EPP usage rates. For example, 27% of Washington payday borrowers defaulted on their loan in 2020 and 47.1% of Idaho borrowers rolled over their loan in 2016. The CFPB attributes these high rates to lenders implementing practices that discourage EPP use. In the report’s press release, CFPB Director Rohit Chopra acknowledged that “[p]ayday lenders have a powerful incentive to protect their revenue by steering borrowers into costly re-borrowing” causing “state laws that require payday lenders to offer no-cost extended repayment plans [to] not work[] as intended.”[7]

*          *          *

Imbedded throughout the report is the CFPB’s clear preference for expanded EPP opportunities in order to prevent consumers from amassing repeat rollover fees. In 2014, the CFPB reported that most borrowers rollover their payday loans enough times that the accumulated rollover fees exceed the original loan amount.[8] Lenders should take note that the CFPB “will continue to monitor lender practices that discourage consumers from taking extended payment plans and take action as necessary.”[9]

 

[1] Payday loans are legal in only 26 states: Alabama, Alaska, California, Delaware, Florida, Idaho, Indiana, Iowa, Kansas, Kentucky, Louisiana, Maine, Michigan, Minnesota, Mississippi, Missouri, Nevada, North Dakota, Rhode Island, South Carolina, Tennessee, Texas, Utah, Washington, Wisconsin, and Wyoming.

[2] CFPB Finds Four Out Of Five Payday Loans Are Rolled Over Or Renewed, CFPB (Mar 25, 2014).

[3] CFPB Finds Payday Borrowers Continue to Pay Significant Rollover Fees Despite State-Level Protections and Payment Plans, CFPB (Apr 6, 2022).

[4] Alabama, Alaska, California, Delaware, Florida, Idaho, Indiana, Louisiana, Michigan, Nevada, South Carolina, Utah, Washington, Wisconsin, and Wyoming.

[5] Market Snapshot: Consumer Use of State Payday Loan Extended Payment Plans, Consumer Financial Protection Bureau (April 2022).

[6] Id. at 5, 7.

[7] CFPB Finds Payday Borrowers Continue to Pay Significant Rollover Fees Despite State-Level Protections and Payment Plans, supra note 3.

[8] CFPB Data Point: Payday Lending, CFPB (March 2014).

[9] Market Snapshot, supra note 5, at 14.

PEOPLE: Jenna L. Conwisar

April 6, 2022 US Supreme Court Issues Significant Ruling Limiting the “Look-Through” Jurisdiction of Federal Courts Under the Federal Arbitration Act

By: Laura P. MacDonald, Elizabeth A. Edmondson, and Adina Hemley-Bronstein

On March 31, 2022, the US Supreme Court issued a significant decision in Badgerow v. Walters, No. 20-1143, ending a circuit split about when federal courts have subject matter jurisdiction to review domestic arbitration awards under the Federal Arbitration Act (FAA). In an 8-1 opinion, the Court ruled that federal courts cannot “look through” to the underlying controversy to establish subject matter jurisdiction to confirm or vacate an arbitral award under the FAA. As a result, absent diversity of citizenship, petitioners seeking to confirm or vacate domestic arbitration awards under the FAA must now bring those petitions in state court.

The FAA governs the enforcement of most arbitration agreements in the United States. The statute dictates the standards for compelling arbitration (under Section 4) and for the confirmation or vacatur of an arbitration award (under Sections 9 and 10). But, although the FAA authorizes a party to make these petitions, the statute does not automatically authorize federal courts to hear them. This is because the FAA, unlike almost all federal statutes, does not itself confer federal subject matter jurisdiction, at least for domestic arbitration agreements. Instead, for a federal court to decide a petition under the FAA, the court must have an “independent jurisdictional basis.” Hall Street Associates, L.L.C. v. Mattel, Inc., 552 U.S. 576, 582 (2008). (Section 2 of the FAA confers federal subject matter jurisdiction over “non-domestic arbitrations,” i.e., those that have at least one foreign party or a substantial international nexus.)

The issue before the Court in Badgerow was whether a federal court may determine its jurisdiction to confirm or vacate an arbitration award only by looking at the face of the petition for judicial review, or whether it may “look through” the petition and examine whether federal jurisdiction would exist over the underlying dispute. The Court had previously authorized look-through jurisdiction in the context of petitions to compel arbitration under Section 4 of the FAA, see Vaden v. Discover Bank, 556 U.S. 49 (2009), but a circuit split had emerged regarding whether the same approach applied to petitions to confirm or vacate under Sections 9 and 10. Whereas the Third and Seventh Circuits maintained that Vaden should be confined to petitions to compel under Section 4, the Second Circuit, along with the First and Fourth, applied look-through jurisdiction to other petitions brought under the FAA. This means that until now, the Second Circuit has permitted federal court access for many petitioners seeking review of arbitration awards in New York, where a significant number of the nation’s arbitrations take place.

The case arose from an employment arbitration. The petitioner Denise Badgerow brought state and federal claims against her former employer for unlawful termination. After the arbitrators dismissed her claims, Badgerow filed suit in Louisiana state court to vacate the decision, arguing that fraud had taken place during the arbitration proceeding. In response, Badgerow’s employer removed the action to federal district court and petitioned the court to confirm the arbitration award. Badgerow then moved to remand, arguing that the federal district court lacked the subject matter jurisdiction needed to confirm or vacate the award under Sections 9 and 10 of the FAA. The district court applied Vaden’s look-through approach and held that, because the underlying employment dispute involved federal-law claims, it could therefore exercise jurisdiction over the employer’s petition to review and confirm the award. The Fifth Circuit affirmed, joining the First, Second, and Fourth Circuits in extending the look-through approach to additional petitions under the FAA.

On appeal, the Supreme Court reversed. Resolving the existing circuit split, it held that the look-through approach applicable under Section 4 does not apply to petitions to confirm or vacate arbitration awards under Sections 9 and 10. Thus, jurisdiction to confirm or vacate an arbitration award must be apparent on the face of the petition itself and independent of the underlying dispute. The Court reasoned that Sections 9 and 10 “contain none of the statutory language on which Vaden relied” and “[m]ost notably” lacked “Section 4’s ‘save for’ clause.” Unlike Section 4, Sections 9 and 10 “do not instruct a court to imagine a world without an arbitration agreement, and to ask whether it would then have jurisdiction over the parties dispute.” In fact, the Court pointed out, “Sections 9 and 10 do not mention the court’s subject-matter jurisdiction at all.” Applying standard principles of statutory interpretation, the Court reasoned that while “Congress could have replicated Section 4’s look-through instructions in Sections 9 and 10,” it did not, leading to the Court’s conclusion that federal courts may determine their jurisdiction only by assessing the parties’ petitions to confirm or vacate and not by looking through to the underlying controversy.

Following Badgerow, parties seeking to confirm or challenge arbitration awards in federal court will need to show that a federal question exists on the face of the petition itself. In practice, parties will have to show that either (a) the arbitration agreement is “non-domestic” and thus eligible for federal jurisdiction under Section 2, (b) federal diversity jurisdiction exists over the dispute, or (c) the confirmation action receives pendent jurisdiction due to the presence of a separate and independent federal claim.

The Court’s decision in Badgerow will likely shift a substantial number of confirmation and vacatur actions to state courts. While the FAA will remain the governing law, the shift to state court will require practitioners to follow state procedural rules and will potentially introduce questions about how state arbitration law can fill any gaps in the FAA itself.

CATEGORIES: Decisions of Note

PEOPLE: Elizabeth A. Edmondson, Laura P. MacDonald

April 5, 2022 CFPB Adds “Discrimination” to its “Unfair, Deceptive, or Abusive Acts and Practices” (UDAAP) Examination Guidance

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By: Michael W. Ross, Ali M. Arain, and Jonathan S. Steinberg

On March 16, 2022, the Consumer Financial Protection Bureau (CFPB) announced its intent to address discrimination as an “unfair practice” under the Consumer Financial Protection Act (commonly known as Dodd-Frank). Specifically, by indicating that discrimination falls within “unfair practices” in its Exam Manual, the CFPB has authorized its examiners to look “beyond discrimination directly connected to fair lending laws” and ask companies to “review any policies or practices that exclude individuals from products and services, or offer products or services with different terms, in an unfairly discriminatory manner.”[1]

Utilizing the Bureau’s manual, CFPB Examiners play a critical role in evaluating companies’ compliance with Dodd-Frank and other federal consumer protection laws in addition to aiding in the determination of whether “supervisory or enforcement actions are appropriate.”[2]

In its efforts to combat discrimination, the CFPB is particularly concerned with the growing use of artificial intelligence and machine learning, and how consumers from protected classes may be uniquely harmed by biased algorithms. For example, “data harvesting and consumer surveillance fuel complex algorithms that can target highly specific demographics of consumers to exploit perceived vulnerabilities and strengthen structural inequities.”[3]

Dodd-Frank prohibits “any provider of consumer financial products or services” from engaging in unfair, deceptive and abusive acts and practices (UDAAP).[4] It further provides the CFPB with “enforcement authority to prevent unfair, deceptive, or abusive acts or practices in connection with any transaction with a consumer for a consumer financial product or service, or the offering of a consumer financial product or service.”[5] In addition, Dodd-Frank provides the CFPB with “supervisory authority for detecting and assessing risks to consumers and to markets for consumer financial products and services.”[6] In this capacity, the CFPB maintains “supervisory authority over banks, thrifts, and credit unions with assets over $10 billion, as well as their affiliates [and] . . . nonbank mortgage originators and servicers, payday lenders, and private student lenders of all sizes.”[7]

Under Dodd-Frank, “an act or practice is unfair when:

  • It causes or is likely to cause substantial injury to consumers;
  • The injury is not reasonably avoidable by consumers; and
  • The injury is not outweighed by countervailing benefits to consumers or to competition.”[8]

The CFPB, in its updated manual, details how it contends discrimination satisfies this definition. First, regarding the likelihood of “substantial injury,” the manual points to “[f]oregone monetary benefits or denial of access to products or services” that can result from discrimination.[9] Critically, the CFPB notes that “[c]onsumers can be harmed by discrimination regardless of whether it is intentional.”[10] Next, concerning reasonable avoidability, the CFPB states that the question is not “whether a consumer could have made a better choice[,]” but rather “whether an act or practice hinders a consumer’s decision-making.”[11] To that end, the CFPB contends that “[c]onsumers cannot reasonably avoid discrimination.”[12] Finally, the CFPB’s press release notes that “discrimination may meet the criteria for ‘unfairness’ . . . where that harm is not outweighed by countervailing benefits to consumers or competition.”[13]

While the manual’s updated language does not create legal duties, such as those imposed by fair lending laws, it establishes the CFPB’s expectations for covered entities. For this reason, these changes to the manual will likely have a substantial real-world impact on companies that engage in consumer-related financial transactions.


[1] Eric Halperin & Lorelei Salas, Cracking Down on Discrimination in the Financial Sector, Consumer Fin. Prot. Bureau (Mar. 16, 2022), https://www.consumerfinance.gov/about-us/blog/cracking-down-on-discrimination-in-the-financial-sector/.

[2] Consumer Fin. Prot. Bureau, CFPB Supervision and Examination Manual, 11 (March 2022) https://www.cfpaguide.com/portalresource/Exam%20Manual%20v%202%20-%20UDAAP.pdf (Examination Manual).

[3] Halperin & Salas, supra note 1.

[4] Press Release, Consumer Fin. Prot. Bureau, CFPB Targets Unfair Discrimination in Consumer Finance (Mar. 16, 2022), https://www.consumerfinance.gov/about-us/newsroom/cfpb-targets-unfair-discrimination-in-consumer-finance/.

[5] Examination Manual, supra note 2, at 1.

[6] Id. at 1.

[7] Consumer Fin. Prot. Bureau, Institutions Subject to CFPB Supervisory Authority, https://www.consumerfinance.gov/compliance/supervision-examinations/institutions/ (last visited Mar. 28, 2022).

[8] Examination Manual, supra note 2, at 1–2. This is the same test applied by the FTC under the FTC Act.

[9] Examination Manual, supra note 2, at 2.

[10] Press Release, Consumer Fin. Prot. Bureau, supra note 4.

[11] Examination Manual, supra note 2, at 2.

[12] Id. at 2.

[13] Press Release, Consumer Fin. Prot. Bureau, supra note 4.

PEOPLE: Michael W. Ross, Ali M. Arain, Jonathan S. Steinberg

March 18, 2022 Ninth Circuit Decision Foreshadows Major Blow to Prop 65 Acrylamide Claims

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By Matthew G. Lawson

On Thursday, March 17, 2022, the Ninth Circuit issued a critical decision in California Chamber of Commerce v. CERT, No. 21-15745 (9th Cir. 2022), reinstating a preliminary injunction against the filing or prosecuting of any new lawsuits to enforce Proposition 65’s warning requirements as applied to acrylamide in food and beverage products.  The decision reinstalls a roadblock against future lawsuits and may offer a light at the end of the tunnel for the regulated community by signaling the existence of a valid defense against Proposition 65 claims where the health risks of a chemical remain subject to ongoing debate and disagreement from scientific experts.  The decision is a blow against Proposition 65 plaintiffs who had recently succeeded in petitioning the court to grant an emergency stay of the district court’s preliminary injunction pending appeal.

Proposition 65 provides that “[n]o person in the course of doing business shall knowingly and intentionally expose any individual to a chemical known to the state to cause cancer . . . without first giving clear and reasonable warning to such individual…”  A chemical is deemed to be “known to the state to cause cancer” if it meets one of three statutory criteria: (1) the state’s qualified experts believe “it has been clearly shown through scientifically valid testing according to generally accepted principals to cause cancer”; (2) “a body considered to be authoritative by such experts has formally identified it as causing cancer”; or (3) “an agency of the state or federal government has formally required it to be labeled or identified as causing cancer.”  See Cal. Health & Safety Code § 25249.8(b).  Where a consumer product contains such a chemical, the manufacturer / distributor of the product must provide a warning to consumers, unless they can affirmatively show that quantities of the chemical within the product are below certain “safe harbor” levels.  Manufacturers that fail to provide a warning notice may be subject to significant civil penalties, often pursuant to claims brought by private plaintiff enforcers.

A particularly controversial chemical on Proposition 65’s list is acrylamide. Unlike many Proposition 65 chemicals, which are often additives or ingredients within a consumer product or food, acrylamide is a substance that forms through a natural chemical reaction between sugars and asparagine, an amino acid, in plant-based foods – including potato and certain grain-based foods.  Acrylamide often forms during high-temperature cooking, such as frying, roasting and baking.  Acrylamide was added to the Proposition 65 list in 1990 “because studies showed it produced cancer in laboratory rats and mice.”  However, this conclusion is not shared by other experts—including the American Cancer Society and National Cancer Institute—who has stated that “a large number of epidemiologic studies . . . have found no consistent evidence that dietary acrylamide exposure is associated with the risk of any type of cancer.”  Between 2015 and October 2020, the State of California reported that it received almost 1,000 notices of alleged acrylamide violations sent by private enforcers to businesses selling food products in California.

In an effort to strike back against enforcement of Proposition 65’s warning requirements, CalChamber—a nonprofit business association with over 13,000 members, many of whom sell or produce food products that contain acrylamide—filed litigation in California federal district court seeking to vindicate its members’ First Amendment right to not be compelled to place false and misleading acrylamide warnings on their food products. CalChamber’s preliminary injunction motion sought to prohibit parties from “filing and/or prosecuting new lawsuits to enforce the Proposition 65 warning requirement for cancer as applied to acrylamide in food and beverage products.”  The Council for Education and Research on Toxics (“CERT”) intervened as a defendant and argued that, as a private enforcer of Prop. 65, an injunction would impose an unconstitutional prior restraint on its First Amendment rights. In Cal. Chamber of Com. v. Becerra, 529 F. Supp. 3d 1099, 1123 (E.D. Cal. 2021), the district court granted CalChamber’s request for preliminary injunction finding that CalChamber was likely to succeed on the merits of its First Amendment Claim. Citing Zauderer v. Office of Disciplinary Counsel, 471 U.S. 626 (1985), the district court held that to pass constitutional  muster, the warnings compelled by Prop 65 must “(1) require the disclosure of purely factual and uncontroversial information only, (2) [be] justified and not unduly burdensome, and (3) [be] reasonably related to a substantial government interest.” Because the Attorney General and CERT did not meet their burden to show the warning requirement was lawful under Zauderer, the district court concluded that CalChamber was likely to succeed on the merits of its First Amendment claim and granted the preliminary injunction against new Proposition 65 lawsuits regarding acrylamide.  While CERT appealed the preliminary injunction order, the Attorney General did not, and a divided motions panel of the Ninth Circuit granted in part CERT’s motion for an emergency stay of the preliminary injunction pending appeal.

On Thursday, the Ninth Circuit issued its final decision on the merits of the preliminary injunction, and affirmed the district court’s original decision.  Citing to the existence of “robust disagreement by reputable scientific sources,” the Ninth Circuit held that the district court did not abuse its discretion by concluding that the acrylamide warning was “controversial.”  Similarly, the Ninth Circuit agreed with the district court’s conclusions that a Proposition 65 warning for acrylamide would mislead consumers because “[a] reasonable person might think that they would consume a product that California knows will increase their risk for cancer…Such a consumer would be misled by the warning because the State of California does not know if acrylamide causes cancer in humans.”  Finally, the appellate court found that the record supported the conclusion that Proposition 65’s “enforcement regime creates a heavy litigation burden on manufacturers who use alternative warnings.” Specifically, the appellate court reasoned that upon receipt of a Proposition 65 notice of violation, “a business must communicate to consumers a disparaging health warning about food containing acrylamide that is unsupported by science, or face the significant risk of an enforcement action under Proposition 65.”  For these reasons, the Ninth Circuit found that the preliminary injunction was warranted and removed the emergency stay against its enforcement.

While the immediate impact of the Ninth Circuit’s decision is limited to new lawsuits regarding Proposition 65 warning requirements for acrylamide, the Ninth Circuit’s holding could be viewed as its own warning sign to plaintiffs who seek to enforce Proposition 65 requirements where the science supporting the harmful effects of a chemical remains in dispute.  It remains to be seen whether the Ninth Circuit’s holding will spur the CalChamber or other similarly situated groups to raise similar defenses in future cases.

CATEGORIES: Corporate Environmental Lawyer

March 10, 2022 CFPB and other Federal Regulators Eye Regulation Aimed at Curbing Algorithmic Bias in Automated Home Valuations

By: Michael W. Ross, Ali M. Arain, and Jonathan Steinberg

Late last month, the Consumer Financial Protection Bureau (CFPB) took another step toward adopting rules governing the use of artificial intelligence (AI) and algorithms in appraising home values. Specifically, the CFPB issued a detailed outline and questionnaire soliciting feedback from small business entities on a proposed rulemaking proceeding for using Automated Valuation Models (AVMs).

The CFPB and other federal regulators[1] intend to adopt rules designed to: (1) ensure a high level of confidence in the estimates produced by AVMs; (2) protect against the manipulation of data; (3) avoid conflicts of interest; and (4) require random sample testing and reviews.[2] In addition, federal regulators are now considering whether to include express nondiscrimination quality control requirements for AVMs as a ”fifth factor.” Once adopted, the new rules will apply to banks, mortgage lenders who use AVMs to make underwriting decisions, and mortgage-backed securities issuers, and are intended to protect homebuyers and homeowners who may be negatively impacted by inaccurate appraisals.

Automated Valuation Models

AVMs are defined by statute as “computerized model[s] used by mortgage originators and secondary market issuers to determine the collateral worth of a mortgage secured by a consumer’s principal dwelling.”[3]

According to the CFPB, AVMs are increasingly being used to appraise homes, a trend driven “in part by advances in database and modeling technology and the availability of larger property datasets.”[4] The benefits of better AVM technology and increased availability of data are their potential to reduce costs and decrease turnaround times in performing home valuations. However, like algorithmic systems generally, the use of AVMs also introduces risks, including issues of data integrity and accuracy.

Moreover, there are concerns that AVMs “may reflect bias in design and function or through the use of biased data[,] [] may introduce potential fair lending risk.”[5] Due to the “black box”[6] nature of algorithms, regulators fear that “without proper safeguards, flawed versions of these models could digitally redline certain neighborhoods and further embed and perpetuate historical lending, wealth, and home value disparities.”[7] “Overvaluing a home can potentially lead the consumer to take on an increased amount of debt that raises risk to the consumer’s financial well-being. On the other hand, undervaluing a home can result in a consumer being denied access to credit for which the consumer otherwise qualified, potentially resulting in a canceled sale, or offered credit at less favorable terms.”[8]

The Proposed Rule

On February 23, 2022, the CFPB released a 42-page outline, detailing several possible rulemaking options, which provides a glimpse into the agencies’ thinking as to the scope of future regulation.

The proposed rule will be a joint interagency rule as the CFPB maintains enforcement authority over non-depository institutions, whereas the Board of Governors of the Federal Reserve System, the Comptroller of the Currency, the Federal Deposit Insurance Corporation, the National Credit Union Administration, and the Federal Housing Finance Agency maintain enforcement authority over “insured banks, savings associations, [] credit unions[,] . . . [and] federally regulated subsidiaries that financial institutions own and control.”[9]

To address concerns about data integrity, accuracy, and reliability, the CFPB is considering two options—one that is “principles-based” and one that is “prescriptive.” A principles-based approach would require entities to maintain their own “AVM policies, practices, procedures, and control systems” to meet the first four quality control standards noted above.[10] The CFPB acknowledges that this may be preferable as a rule with stringent requirements may not be able to keep up with evolving technology and could present a significant burden for smaller entities. On the other hand, if the agencies decide to promulgate a prescriptive rule, they contemplate requiring controls related to “fundamental errors” that could produce inaccurate outputs, “management oversight of the availability, usability, integrity, and security of the data used,” a clear separation between persons “who develop, select, validate, or monitor an AVM” and employees involved in the “loan origination and securitization process,” and ongoing validation of the entities’ AVM through “random sample testing and reviews.”[11]

As part of the same proposed rule, the CFPB and the aforementioned federal regulators are also eyeing adding a nondiscrimination quality control under their authority to “account for any other such factor . . . determine[d] to be appropriate.”[12] The CFPB recognizes that a standalone nondiscrimination factor may be unnecessary as nondiscrimination may already be encompassed in three of the first four statutorily stipulated quality controls. Additionally, AVMs are subject to federal nondiscrimination laws such as the Equal Credit Opportunity Act (ECOA) and the Fair Housing Act (FHA). However, the CFPB contends that “an independent requirement for institutions to establish policies and procedures to mitigate against fair lending risk in their use of AVMs. . . . may help ensure the accuracy, reliability, and independence of AVMs for all consumers and users.”[13]

To address lending discrimination, federal regulators are considering both a flexible, principles-based approach, similar to the approach described above, and a prescriptive nondiscrimination rule. A principles-based approach would provide companies with “the flexibility to design fair lending policies, practices, procedures, and control systems tailored to their business model”[14] and “commensurate with an institution’s risk exposures, size, business activities, and the extent and complexity of its use of AVMs.”[15] In contrast, a prescriptive rule would “specify[] methods of AVM development (e.g., data sources, modeling choices) and AVM use cases” in order to mitigate the “risks that lending decisions based on AVM outputs generate unlawful disparities.”[16]

Last month’s announcement was triggered by the CFPB’s duty to convene a Small Business Review Panel prior to issuing a proposed rule that “could have a significant economic impact on a substantial number of small entities.”[17] The outline released by the CFPB was meant to elicit feedback from small business entities, such as mortgage loan brokers with annual receipts at or below $8 million, real estate credit companies with annual receipts at or below $41.5 million, and secondary market financing companies and other non-depository credit intermediation companies with annual receipts also at or below $41.5 million. For these small entities, the outline presents over forty questions and an early opportunity to influence the rulemaking process.[18]

Next Steps

As evident by the CFPB’s outline, a great deal remains in flux as regulators continue to contemplate their options. Because the CFPB is subject to heightened rulemaking processes for regulations affecting smaller entities, we have this early glimpse into the agencies’ thinking on AVM algorithmic bias. In the coming months, the CFPB will convene the Small Business Review Panel, release the Panel’s report, and work with its federal partners in drafting a proposed rule subject to the standard notice and comment process.


[1] The CFPB shares enforcement authority over AVMs with the Board of Governors of the Federal Reserve System, the Comptroller of the Currency, the Federal Deposit Insurance Corporation, the National Credit Union Administration, and the Federal Housing Finance Agency.

[2] The Dodd-Frank Wall Street Reform and Consumer Protection Act requires federal regulators to adopt rules ensuring that AVMs satisfy certain quality control standards designed to: “(1) ensure a high level of confidence in the estimates produced by automated valuation models; (2) protect against the manipulation of data; (3) seek to avoid conflicts of interest; (4) require random sample testing and reviews; and (5) account for any other such factor that the agencies determine to be appropriate.” 12 U.S.C. § 3354(a) (2010).

[3] § 3354(d).

[4] Consumer Fin. Prot. Bureau, Outline of Proposals and Alternatives Under Consideration, Small Business Advisory Review Panel For Automated Valuation Model (AVM) Rulemaking, 2 (Feb. 23, 2022) https://files.consumerfinance.gov/f/documents/cfpb_avm_outline-of-proposals_2022-02.pdf.

[5] Id. at 24.

[6] Id.

[7] Press Release, Consumer Fin. Prot. Bureau, Consumer Financial Protection Bureau Outlines Options To Prevent Algorithmic Bias In Home Valuations (Feb. 23, 2022), https://www.consumerfinance.gov/about-us/newsroom/cfpb-outlines-options-to-prevent-algorithmic-bias-in-home-valuations/

[8] Consumer Fin. Prot. Bureau, Outline of Proposals and Alternatives Under Consideration, Small Business Advisory Review Panel For Automated Valuation Model (AVM) Rulemaking, at 24.

[9] Id. at 2.

[10] Id. at 21.

[11] Id. at 22.

[12] 12 U.S.C. § 3354(a) (2010).

[13] Consumer Fin. Prot. Bureau, Outline of Proposals and Alternatives Under Consideration, Small Business Advisory Review Panel For Automated Valuation Model (AVM) Rulemaking, at 25.

[14] Id.

[15] Id.

[16] Id.

[17] Id. at 3.

[18] Id. at 29.

PEOPLE: Michael W. Ross, Ali M. Arain, Jonathan S. Steinberg

February 9, 2022 Potential Bias in AI Consumer Decision Tools Eyed by FTC, CFPB

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By Ali M. Arain, Michael W. Ross, and Jonathan Steinberg

Potential discrimination and bias resulting from consumer tools based on artificial intelligence and automated data will be an enforcement focus of regulators this year, Jenner & Block attorneys predict. Accuracy and transparency are also on the table, they say.

Given the growing use of artificial intelligence (AI) and automated decision-making tools in consumer-facing decisions, we expect federal regulators in 2022 to continue their recent track record of interest in potential discrimination and unfairness, as well as data accuracy and transparency.

Significant technological developments in these areas and the increasing use of data analytics to make automated decisions will likely result in further regulatory action this year in three key areas: (1) assessing whether AI and algorithms are excluding particular consumer groups in an unfair and discriminatory manner, whether intentionally or not; (2) evaluating whether collected data accurately reflects real-world facts and whether companies are giving consumers an opportunity to correct mistakes; and (3) assessing whether automated decisionmaking tools are being used in a transparent manner.

Over the last year, federal regulators with enforcement authority in the consumer space—the Federal Trade Commission (FTC) and the Consumer Financial Protection Bureau (CFPB)—have expressed their intention to continue enforcement efforts.

The FTC has identified “technology companies and digital platforms,” “bias in algorithms and biometrics,” and “deceptive and manipulative conduct on the Internet” as among its top enforcement priorities for the coming years, and directed staff to use compulsory processes to demand documents and testimony to investigate potential abuses in these areas.

The FTC and the CFPB have each initiated or continued investigations into practices involving the collection of consumer data and the use of data analytics in consumer decisions, including the use of AI and algorithms by financial institutions, digital payment platforms, and social media, and video streaming firms.

Both agencies have also made public statements that provide insight into the types of regulatory action that may be coming this year.

FTC Enforcement Areas

For example, the FTC published blog posts on its website outlining its thinking on AI-enforcement focus areas.

Discrimination and Unfairness

The FTC emphasized that Section 5 of the FTC Act, which prohibits “unfair or deceptive” practices, gives it jurisdiction over racially-biased algorithms. The FTC cautioned companies that regardless of how well-intentioned their algorithm is, they must still guard against discriminatory outcomes and disparate impact on protected classes of consumers.

Accuracy

The FTC stated that it planned to rely on its decades of experience enforcing the Fair Credit Reporting Act (FCRA) when analyzing whether other types of consumer-related AI meet the requirements of this law.

The FTC also advised companies not to rely on “data set[s] missing information from particular populations” and advised companies to give “consumers access and an opportunity to correct information used to make decisions about them.”

Transparency

The FTC said that companies should “embrace transparency … by conducting and publishing the results of independent audits” and by disclosing to consumers the key factors used in algorithms to assign risk scores.

Companies should examine their data inputs, ask questions before they “use the algorithm,” and “validate” and “revalidate” their AI models so that they fully understand the implications of their use of these data tools.

CFPB Enforcement Focus

The CFPB has likewise highlighted its interest in the following areas.

Discrimination and Unfairness

In recent testimony before Congress, CFPB Director Rohit Chopra expressed a desire to reinvigorate “relationship banking,” explaining that it would counteract the “automation and algorithms [that] increasingly define the consumer financial services market” and may “unwittingly reinforce biases and discrimination, undermining racial equity.”

Accuracy

A November 2021 advisory opinion by the agency emphasizes the need for accuracy in relying on data tools to make consumer decisions.

The CFPB specifically advised that “matching consumer records solely through the matching of names” is not a “reasonable procedure to assure maximum possible accuracy” under the FCRA. The CFPB further encouraged the use of more sophisticated and reliable data analytics.

Transparency

In a March 2021 RFI to financial institutions seeking their views on governance, risk management, and compliance management in the “Use of Artificial Intelligence, including Machine Learning,” the CFPB stressed the importance of AI “explainability”—in other words, the need for companies to be able to ascertain and explain how their AI applications use data “inputs to produce outputs” in a conceptually sound manner.

The RFI also discussed the need for companies to monitor and validate algorithms that evolve on their own or dynamically update.

EEOC, DOJ Also Looking at AI

Other regulators have also indicated an interest in AI-related enforcement. For example, the Equal Employment Opportunity Commission has announced an initiative assessing the propriety of AI tools for hiring and other employment decisions.

In addition, the Department of Justice, along with the CFPB and the Office of the Comptroller of Currency, launched the an effort to combat discriminatory redlining by lenders; in his statement announcing this effort, Chopra said that they plan to focus on “new digital and algorithmic redlining” in addition to “old forms of redlining.”

In all, we expect these and other efforts by regulators will continue to focus on issues of discrimination and unfairness, and accuracy and transparency in the use of AI and consumer data. As the rules of the road continue to be written through regulatory activity in 2022, it is critical for companies to keep up to date with the latest developments.

Reproduced with permission. Published Feb.3, 2022. Copyright 2022 The Bureau of National Affairs, Inc. 800-372-1033. For further use, please visit http://www.bna.com/copyright-permission-request/

PEOPLE: Michael W. Ross, Ali M. Arain

February 7, 2022 Is There a Limit to Insurer Unwillingness to Cover Claims for Unsolicited Marketing Communications? Two Decisions by the Seventh Circuit Suggest the Question in a Unique Way.

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By Vivian L. Bickford and David M. Kroeger

Among the many unusual aspects of 2021 is that the same insurance company was before a federal appellate court on two separate but contemporaneous cases – one in which the insurer was asserting a lack of insurance coverage based on TCPA and TCPA-inspired policy exclusions, and the other in which the same insurer was actually a defendant in a lawsuit asserting TCPA and certain other causes of action. The juxtaposition of the two raises the question of whether there are any limits to insurer unwillingness to provide insurance coverage for claims alleging unsolicited marketing communications.

Mesa Laboratories, Inc. v. Federal Insurance Company[1] lays out an all-too-familiar battle. The policyholder, Mesa Laboratories, Inc. (Mesa), was sued in a putative class action asserting claims based on unsolicited marketing communications. The policyholder sought insurance coverage from its commercial general liability insurer, Federal Insurance Company (Federal, part of the Chubb family of insurance companies). The insurance claim was denied, and litigation ensued. The central issue before the court was whether the insurer had drafted exclusions that were sufficiently broad and sufficiently clear to exclude coverage for all of the claims asserted against the policyholder.

The class action complaint in Mesa Laboratories asserted claims based on the Telephone Consumer Protection Act (TCPA), the Illinois Consumer Fraud and Deceptive Business Practices Act (ICFA) and common law.[2] The parties agreed that the insurance policy excluded the statutory claims, but disputed whether the common law claims were excluded. The issue was whether common law claims for conversion, nuisance and trespass to chattels were barred by an exclusion for “damages, loss, cost or expense arising out of any actual or alleged violation of... the [TCPA]... or any similar regulatory or statutory law in any other jurisdiction” (the Information Laws Exclusion). At the urging of Federal, the Seventh Circuit concluded that “…common-law claims of conversion, nuisance, and trespass to chattels arise out of the same conduct as the statutory claims – the sending of unsolicited faxes....  None of [the underlying plaintiffs’] injuries would have occurred but for Mesa’s sending unsolicited fax advertisements, so the Information Laws Exclusion applies to all of Mesa’s claims.”[3]

Viewed on its own, Mesa Laboratories provides fodder for vigorous debate between policyholders, insurers, and their respective counsel. After all, the Seventh Circuit’s abbreviated analysis virtually ignored the fact that the exclusion at issue, by its terms, applied only to “regulatory or statutory law” and made no mention of common law claims. Yet the court nevertheless found that the exclusion unambiguously barred coverage for common law claims.

But there is an unexpected twist that is potentially far more interesting. At the very same time that Federal was before the Seventh Circuit in Mesa Laboratories – arguing that there was no potential insurance coverage for class actions complaining about unsolicited faxes – it was before the same court at the same time as a defendant in a TCPA case. Bilek v. Federal Insurance Company[4] – decided a few months after Mesa Laboratories – found that plausible claims for relief had been pled against Federal for violation of the TCPA and the Illinois Automatic Telephone Dialing Act (IATDA) based on the conduct of remote lead generators. The Seventh Circuit overruled the decision of the district court, which had reached the opposite conclusion.[5]

The consumer in Bilek allegedly received unauthorized “robocalls” from a Federal telemarketing campaign seeking to advertise Federal’s health insurance and solicit new customers. The calls allegedly came from lead generators who had been hired by Health Insurance Innovations (HII), a company with whom Federal had contracted to generate business. Bilek sought to hold Federal liable for the lead generators’ violations of the TCPA and the IATDA based on theories of agency, and Federal moved to dismiss.

The district court granted Federal’s motion, finding that Bilek did not plausibly allege an agency relationship between the lead generators and Federal. The Seventh Circuit reversed, finding instead that Bilek had “state[d] a plausible claim for relief under his actual authority theory of agency liability.”[6]

In his complaint, Bilek alleged that the lead generators were agents acting with actual authority because Federal “authorized the lead generators to use its approved scripts, tradename, and proprietary information in making these calls.”[7] Bilek further alleged that one of the lead generators provided him with a quote for Federal’s health insurance, that the lead generators “were paired with these quotes in real time by [HII],” and that “[HII] then emailed quotes to call recipients and permitted the lead generators to enter information into its system.”[8] The Seventh Circuit held that these allegations supported the inference that, in making these calls, the lead generators were Federal agents acting with actual authority such that the complaint could survive a motion to dismiss.

In so holding, the Seventh Circuit rejected as “unsupported” the district court’s conclusion that Bilek’s allegations were implausible. The district court had held that Bilek’s complaint did not meet the Rule 12(b)(6) pleading standard because it lacked “allegations that [Federal] controlled the timing, quantity, and geographic location of the lead generators’ robocalls.”[9] The Seventh Circuit disagreed, stating that “allegations of minute details of the parties’ business relationship are not required to allege a plausible agency claim.”[10]

Although the Seventh Circuit ruled that Bilek’s complaint was sufficient to survive a motion to dismiss, the court was clear that it “express[ed] no view on whether Bilek will ultimately succeed in proving an agency relationship between the lead generators and [Federal].”[11] The court also indicated that a “barebones contractual relationship,” without more, would be insufficient to establish an agency relationship.

To support its argument that Bilek’s complaint should be dismissed, Federal pointed to Warciak v. Subway Restaurants, Inc.[12] There, the Seventh Circuit affirmed the district court’s dismissal of TCPA claims that sought to hold Subway vicariously liable for promotional text messages sent by T-Mobile offering a free Subway sandwich. Rejecting the idea that “a commercial contract between two sophisticated businesses [is] tantamount to an agency relationship,” the court held that “allegations of a contract between Subway and T-Mobile—without anything else—failed to allege an agency relationship.”[13]

The Seventh Circuit found Bilek’s claims to be distinguishable from the claims in Warciak. The court explained that Warciak’s allegations that T-Mobile promoted Subway’s products through its own channels “is a common advertising arrangement” and “in no way suggests agency,” while Bilek’s specific allegations, as outlined above, “support the inference that the lead generators acted as Federal Insurance Company's agents with actual authority.”[14]

The past years have seen a parade of “new and improved” TCPA and TCPA-inspired insurance policy exclusions, each purporting to be broader in its exclusionary scope than the last. (Those few insurers that are still willing to provide some level of coverage for TCPA and related claims have done so only with high retentions, smaller limits and at a significant cost to the policyholder.) Before the courts, insurers such as Federal have increasingly advocated for the broadest possible construction of these exclusions – Mesa Laboratories being a case in point. Insurance companies such as Federal also purchase insurance, and their coverage is subject to the same exclusions. And against this backdrop one can only chuckle while imagining the internal conversations that might have occurred at Chubb over whether Federal could seek insurance coverage for the Bilek litigation under its own commercial general liability insurance coverage.

Irony aside, the juxtaposition of Mesa Laboratories and Bilek raises a more fundamental question: Is there a limit to the insurance industry’s general unwillingness to cover TCPA liabilities? Federal’s alleged liability in Bilek, if any, was vicarious. It flowed from a third-party’s alleged violations of the TCPA. Federal itself did not make any unsolicited robocalls, send any unsolicited faxes, or otherwise do anything to directly or intentionally violate the TCPA. Its fault, if any, was its purportedly poor choices in selecting, contracting with and/or supervising HII and HII’s subcontractors with respect to their marketing of Federal’s products. Federal was thus in a very different position than Mesa Laboratories, which (per the district court) acted with intent: “Mesa, like any other sender of junk faxes, expected to harm the recipients by depleting their ink and paper.”[15]

There may be fair questions as to whether claims premised on Bilek-inspired theories of TCPA liability are barred by the TCPA and TCPA-inspired policy exclusions currently in use in the market. But it is also a fair question whether there is (or ought to be) a logical limit to the ever-increasing expansion of those exclusions. Commercial general liability insurers routinely provide coverage for claims asserted in class actions, including for alleged privacy violations, as well as where the loss results from vicarious liability or from what amounts to a policyholder’s alleged negligence. Should the result be any different in the context of the TCPA?

Vivian L. Bickford is an associate and David M. Kroeger is a partner at Jenner & Block LLP.

 

[1] 994 F.3d 865 (7th Cir. 2021)

[2] Id. at 867.

[3] Id. at 869.

[4] 8 F.4th 581 (7th Cir. 2021) [hereinafter Bilek II].

[5] Bilek v. Fed. Ins. Co., No. 19-8389, 2020 WL 3960445 (N.D. Ill. July 13, 2020) [hereinafter Bilek I].

[6] Bilek II, 8 F.4th at 587. Bilek asserted agency claims based on actual authority, apparent authority, and ratification. However, the Seventh Circuit did not reach Bilek’s apparent authority and ratification arguments because the court’s finding that Bilek stated a plausible claim based on actual authority gave the court a sufficient basis to overturn the dismissal. Id. Accordingly, this article will also focus on actual authority.

[7] Id. at 587.

[8] Id. at 587–88.

[9] Id. at 588.

[10] Id.

[11] Id.at 584.

[12] 949 F.3d 354 (7th Cir. 2020).

[13] Bilek II, 8 F.4th at 588.

[14] Id. at 589. Bilek also sought to hold HII liable for the lead generators’ statutory violations and asserted the same agency theories to argue that the court could exercise personal jurisdiction over HII. Although the District Court granted HII’s motion to dismiss for lack of personal jurisdiction, the Seventh Circuit overturned that decision, finding that the lead generators were HII’s agents, such that their conduct within could be attributed to HII for the purposes of establishing personal jurisdiction. Id. at 591.

[15] Mesa Laboratories, Inc. v. Federal Insurance Company, 436 F.Supp.3d 1092, 1097 (2020).

January 19, 2022 Changes to California Consumer Law Protections on January 1, 2022

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By: Wesley M. Griffith and Jenna L. https://jenner.com/people/JennaConwisarConwisar

Effective January 1, 2022, California implemented several important changes to its consumer protection laws, ranging from data privacy to debt collection to updates to the Consumer Legal Remedies Act. This post highlights several notable changes that companies and practitioners may wish to bear in mind as they ring in the new year.

Data Privacy

In the world of data privacy, there has been a lot of buzz around California’s new consumer privacy law, the California Privacy Rights Act (CPRA), which was previously discussed on this blog here.

The CPRA will greatly expand the state’s current data protection infrastructure by, among other things, increasing consumer control over sensitive personal information, adding additional consumer privacy rights, and creating the California Privacy Protection Agency to enforce the CPRA.

While not effective until January 1, 2023, the CPRA will apply to certain data collected in 2022, requiring many businesses to begin updating their data practices now.[1]

Debt Collection

A number of the California consumer law updates that took effect on January 1, 2022 focused on debt collection practices. Perhaps most notable is the implementation of the Debt Collection Licensing Act (DCLA).[2] Aligning California with the majority of states that already have collection agency licensure requirements, the DCLA requires debt collectors and debt buyers operating in California to obtain a license from the Department of Financial Protection and Innovation.

The DCLA generally applies to entities collecting consumer debt in California, including organizations such as law firms and other companies engaged in collection activities who may not consider themselves “debt collectors” in the traditional sense. Critically, under the DCLA, debt collectors who missed the December 31, 2021 application deadline must halt operations in California until they are issued a license.[3]

Other changes to California debt collection laws effective January 1, 2022 include:

  • Health Care Debt and Fair Billing: Among other things, AB 1020 revises the state’s medical billing and debt collection policies, including by prohibiting hospitals from selling patient debt unless certain conditions are met.[4]
  • Identity Theft: AB 430 expands protections for victims of identity theft and requires debt collectors to pause collection activities until certain criteria are met if a consumer submits either a copy of a Federal Trade Commission (FTC) identify theft report or a police report.[5]
  • Fair Debt Settlement Practices Act: Adds new regulatory requirements and prohibitions on debt settlement service providers and payment processor activities. It also creates a consumer private right of action for intentional violations, with available remedies including actual damages, injunctive relief, attorneys’ fees, and/or statutory damages as high as $5,000 per violation.[6]

Consumer Legal Remedies Act

January 1, 2022 also saw revisions to the California Consumer Legal Remedies Act (CLRA).[7] As amended, the CLRA now offers additional protections to senior citizens from unfair and deceptive loan solicitations. Specifically, as amended the CLRA now applies to Property Assessed Clean Energy (PACE) program loans for seniors—such as loans for solar panels or energy efficient appliances­. Violations are subject to $5,000 in statutory damages, on top of any actual or punitive damages, injunctive relief, restitution, and/or attorneys’ fees.[8]

*          *          *

Taken together, California has added significant additional complexity and potential liability to the consumer protection landscape at the outset of 2022, and companies who work in these spaces should be careful to ensure that their existing practices are updated to comply with the new laws.

 

[1] Cal. Civ. Code § 1798.130.

[2] Cal. Fin. Code § 100000 et seq.

[3] Debt Collection – Licensee, Department of Financial Protection & Innovation.

[4] Cal. Civ. Code §§ 1788.14, 1788.52, 1788.58, 1788.185; Cal. HSC § 127400 et seq.

[5] Cal. Civ. Code §§ 1788.18, 1788.61, 1798.92, 1798.93; Cal. Penal Code § 530.8.

[6] Cal. Civ. Code § 1788.300 et seq.

[7] Cal. Civ. Code § 1770.

[8] Cal. Civ. Code § 1780.

CATEGORIES: Privacy Data Security

PEOPLE: Jenna L. Conwisar

December 27, 2021 Ninth Circuit Rejects Challenges to Conjoint Analysis in Consumer Class Action

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By: Alexander M. Smith

In recent years, conjoint analysis has proliferated as a methodology for calculating class-wide damages in consumer class actions. While conjoint analysis first emerged as a marketing tool for measuring consumers’ relative preferences for various product attributes, many plaintiffs (and their experts) have attempted to employ conjoint analysis as a tool for measuring the “price premium” attributable to a labeling statement or the effect that the disclosure of a product defect would have had on the product’s price. Defendants, in turn, have taken the position that conjoint analysis is only capable of measuring consumer preferences, cannot account for the array of competitive and supply-side factors that affect the price of a product, and that it is therefore incapable of measuring the price effect attributable to a labeling statement or a disclosure. Consistent with that position, defendants in consumer class actions frequently argue not only that conjoint analysis is unsuited to measuring class-wide damages consistent with Comcast Corp. v. Behrend, 569 U.S. 27 (2013), but also that it is inadmissible under Federal Rule of Evidence 702 and Daubert v. Merrell Dow Pharmaceuticals, Inc., 509 U.S. 579 (1993). But a recent Ninth Circuit decision, MacDougall v. American Honda Motor Co., --- F. App’x ---- (9th Cir. 2021) may threaten defendants’ ability to challenge conjoint analysis on Daubert grounds.

In MacDougall, the plaintiffs brought a consumer class action against Honda premised on Honda’s alleged failure to disclose the presence of a transmission defect in its vehicles. The plaintiffs attempted to quantify the damages attributable to this omission through a conjoint analysis, which purported to “measure the difference in economic value—and thus the damages owed—between Defendants’ vehicles with and without the alleged transmission defect giving rise to this action.” MacDougall v. Am. Honda Motor Co., No. 17-1079, 2020 WL 5583534, at *4 (C.D. Cal. Sept. 11, 2020). Honda argued that this conjoint analysis was flawed and inadmissible, both “because it only accounts for demand-side and not supply-side considerations” and “because it utilizes an invalid design that obtains mostly irrational results.” Id. at *5. The district court agreed with Honda, excluded the expert’s conjoint analysis, and entered summary judgment in Honda’s favor based on the plaintiffs’ failure to offer admissible evidence of class-wide damages. In so holding, the court concluded that the expert’s conjoint analysis “calculates an inflated measure of damages because it does not adequately account for supply-side considerations” and only measures a consumer’s willingness to pay for certain product features—not the market price that the product would command in the absence of the purported defect. Id. “[W]ithout the integration of accurate supply-side considerations,” the district court explained, “a choice-based conjoint analysis transforms into a formula missing half of the equation.” Id. And separate and apart from this central economic defect, the district court found that other errors in the expert’s methodology—including his failure to conduct a pretest survey and the limited number of product attributes tested in the conjoint survey—rendered his conjoint analysis unreliable and inadmissible. See id. at *7-9.

The Ninth Circuit reversed. Beginning from the premise that expert testimony is admissible so long as it is “relevant” and “conducted according to accepted principles,” the Ninth Circuit found that the admissibility of expert testimony was a “case-specific inquiry” and therefore rejected Honda’s argument that “conjoint analysis categorically fails as a matter of economic damages.” Slip Op. at 2-3. The Ninth Circuit then concluded that Honda’s methodological challenges based on “the absence of market considerations, specific attribute selection, and the use of averages to evaluate the survey data go to the weight given the survey, not its admissibility.” Id. at 3 (citations and internal quotation marks omitted). And while the Ninth Circuit acknowledged that the district court relied on numerous decisions that had rejected the use of conjoint analysis in consumer class actions, it held that these decisions did not concern the “admissibility of conjoint analysis under Rule 702 or Daubert” but instead its “substantive probity in the context of either class-wide damages under Comcast . . . or substantive state law.” Id. at 2.

In distinguishing between the question of whether conjoint analysis is admissible under Daubert and whether it is capable of measuring damages on a class-wide basis consistent with Comcast, the Ninth Circuit preserved an opening for defendants to challenge the use of conjoint analysis to measure class-wide damages at the class certification stage. Nonetheless, MacDougall undoubtedly weakens defendants’ ability to challenge the admissibility of conjoint analysis on methodological grounds, and it is possible that some district courts may read the Ninth Circuit’s opinion to stand for the broad proposition that juries, rather than judges, should decide whether conjoint analysis can properly measure economic damages.

CATEGORIES: Class Action Settlements, Class Action Trends, Class Certification

PEOPLE: Alexander M. Smith

December 21, 2021 FTC Embarks on Rulemaking to Address Impersonation Fraud

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By: Elizabeth Avunjian

On December 16, 2021, the Federal Trade Commission (FTC) initiated a rulemaking to address government and business impersonation fraud, which involves “[i]mpersonators us[ing] all methods of communication to trick their targets into trusting that they are the government or an established business and then trad[ing] on this trust to steal their identity or money.”[1] While such fraud is not a novel concern, the pandemic has resulted in a sharp spike in cases, with reported costs to consumers increasing 85% year-over-year and $2 billion in total losses between October 2020 and September 2021.[2]

The FTC stated that it is “prepared to use every tool in [its] toolbox to deter government business impersonation fraud, penalize wrongdoers, and return money to those harmed.”[3] Indeed, the FTC’s Advance Notice of Proposed Rulemaking, the first rulemaking initiated under the FTC’s streamlined rulemaking procedures, notes that an “impersonator rule that builds on the existing sector- and method-specific rules could more comprehensively outlaw government and business impersonation fraud.”[4] Though the FTC has previously addressed such schemes through law enforcement actions, the Supreme Court’s recent decision in AMG Cap. Mgmt., LLC v. FTC, 141 S. Ct. 1341, 1352 (2021)—which we previously reported on here—has limited the FTC’s remedial options for actions brought pursuant to its statutory authority.[5]

The FTC is soliciting public comments for a period of 60 days after publication in the Federal Registrar regarding “the prevalence” of impersonation schemes, “the costs and benefits of a rule that would address them, and alternative or additional action to such a rulemaking.” If public comments evidence the need for a trade regulation rule, the next step will be for the FTC to issue a notice of proposed rulemaking.

 

[1] “FTC Launches Rulemaking to Combat Sharp Spike in Impersonation Fraud”, December 16, 2021, available at https://www.ftc.gov/news-events/press-releases/2021/12/ftc-launches-rulemaking-combat-sharp-spike-impersonation-fraud?utm_source=govdelivery.

[2] Id.

[3] Id.

[4] Advance Notice of Proposed Rulemaking, at 10.

[5] Advance Notice of Proposed Rulemaking, at 7, n. 24 (citing AMG Cap. Mgmt., LLC v. FTC, 141 S. Ct. 1341, 1352 (2021) to explain that “The U.S. Supreme Court recently held that equitable monetary relief, including consumer redress, is not available under Section 13(b) of the FTC Act.”); see also “Statement by FTC Acting Chairwoman Rebecca Kelly Slaughter on the U.S. Supreme Court Ruling in AMG Capital Management LLC v. FTC”, April 22, 2021, https://www.ftc.gov/news-events/press-releases/2021/04/statement-ftc-acting-chairwoman-rebecca-kelly-slaughter-us?utm_source=govdelivery.

PEOPLE: Elizabeth Avunjian

December 15, 2021 Three Strikes, You’re Out! New York Federal Courts Reject Three Implausible Mislabeling Actions

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By: Lindsey A. Lusk

New York federal courts have recently shown a willingness to dismiss implausible mislabeling claims on the pleadings. The recent dismissal of three consumer class actions—all filed by the same plaintiff’s counsel—suggests that these federal courts are increasingly skeptical of lawyer-driven claims regarding alleged confusion over the labeling of popular food products.

On November 4, 2021, in Boswell v Bimbo Bakeries USA, Inc., Judge Furman of the Southern District of New York dismissed a putative class action alleging that Entenmann’s “All Butter Loaf Cake” was misleadingly labeled because it contained not only butter, but also soybean oil and artificial flavors.[1] In reaching this conclusion, the court specifically called out the plaintiff’s attorney for bringing “a long string of putative class actions . . . alleging that the packaging on a popular food item is false and misleading.”[2] Notably, the court took judicial notice not only of the labeling of the challenged Entenmann’s product, but also the labeling of other butter cake products—which the court deemed probative of the context in which consumers purchase these products.[3]

On November 9, 2021, in Kamara v. Pepperidge Farm Inc., Judge Castel of the Southern District of New York dismissed with prejudice a putative class action alleging that the term “Golden Butter Crackers” was misleading because the crackers also contained vegetable oil.[4] In so holding, the court noted that “a reasonable consumer could believe the phrase ‘Golden Butter’ refers to the product’s flavor and wasn’t a representation about the ingredients’ proportions.”[5] But even if a consumer did believe as much, “[t]he packaging accurately indicated that the product contained butter,” which was prominently featured on the ingredient list—second only to flour.[6] The court found that “[t]he complaint [did] not plausibly allege why a reasonable consumer would understand the phrase ‘Golden Butter’ to mean that ‘wherever butter could be used in the product, it would be used instead of using its synthetic substitute, vegetable oil.’”[7]

Even more recently, on December 3, 2021, in Warren v. Whole Foods Market Group Inc., Judge Kovner of the Eastern District of New York dismissed a putative class action alleging that the label of Whole Foods Market’s instant oatmeal misled consumers into thinking the product was sugar-free or low in sugar.[8] The court reasoned that “even if a reasonable consumer was unaware of sugar’s many names, or of the nutrition label’s purpose, the fact remains that the words ‘Sugar 11g’ are prominently displayed immediately next to the ingredient list.” As the court noted, “[t]hose words are hard to miss.”[9]

These rulings may signal that federal courts—at least in New York—are increasingly inclined to take a harder look at the pleadings in food mislabeling cases, as well as the broader context in which the products are sold, and grant motions to dismiss where the allegations come up short of plausible. While it is unlikely that these rulings will completely deter other plaintiffs’ lawyers from filing these lawsuits, they undoubtedly provide ammunition for defendants faced with similar food labeling lawsuits in New York federal courts.

 

[1] Boswell v. Bimbo Bakeries USA, Inc., No. 20-CV-8923 (JMF), 2021 WL 5144552, at *1 (S.D.N.Y. Nov. 4, 2021).

[2] Id.

[3] Id. at *4.

[4] Kamara v. Pepperidge Farm, Inc., No. 20-CV-9012 (PKC), 2021 WL 5234882, at *2 (S.D.N.Y. Nov. 9, 2021).

[5] Id.

[6] Id. at 5.

[7] Id.

[8] Warren et al. v. Whole Foods Market Group, Inc., No. 19CV6448RPKLB, 2021 WL 5759702, at *1 (E.D.N.Y. Dec. 3, 2021).

[9] Id.

PEOPLE: Lindsey A. Lusk

November 1, 2021 Seventh Circuit Offers Useful Reminders about Removal

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By: Gabriel K. Gillett, Kelsey L. Stimple, and Howard S. Suskin

In Railey v. Sunset Food Mart, Inc., -- F.4th --, No. 21-2533, 2021 WL 4808222 (7th Cir. Oct. 15, 2021), the U.S. Court of Appeals for the Seventh Circuit affirmed the district court’s order remanding a class action asserting claims under the Illinois Biometric Information Privacy Act because the removal was untimely. Beyond the specific holding, the Court’s opinion serves as a useful reminder about some of the contours around removal of class actions, including under the Class Action Fairness Act (CAFA). We discuss some of those key principles below, through the lens of the Court’s decision.

Appellate courts can review remand orders in some situations. Though appellate courts typically lack jurisdiction to review remand orders, they have the discretion to do so for orders remanding a case removed under CAFA, 28 U.S.C. § 1453(c)(1), and are “free to consider any potential error in the district court’s decision.” Slip op. 4-5, 9 (quoting Brill v. Countrywide Home Loans, Inc., 427 F.3d 446, 451 (7th Cir. 2005)).

Removal may be permitted based on “complete preemption.” The defendant in Railey first argued that removal to federal court was appropriate because the named plaintiff—an employee at one of the defendant’s grocery stores—was represented by a union, and her claims were therefore preempted by the Labor Management Relations Act. See Slip op. 2. The court acknowledged that removal is appropriate if the plaintiff’s claims are “completely preempted” by federal law and that one of its recent decisions indicated that the plaintiff’s claims “may, in fact, be preempted by the Labor Management Relations Act.” Slip op. 9 (citing Fernandez v. Kerry, Inc., No. 21-1067, 2021 WL 4260667, at *1–2 (7th Cir. 2021)).

A defendant’s time to remove may be triggered by its own subjective knowledge or ability to learn key facts related to removal. The court held, however, that the defendant’s November 2020 notice of removal was untimely because it was not filed within 30 days of the plaintiff serving her complaint in February 2019. Slip op. 11. Defendants can remove a class action within 30 days after the case is filed, or 30 days after “the defendant receives a pleading or other paper that affirmatively and unambiguously reveals that the predicates for removal are present.” Walker v. Trailer Transit, Inc., 727 F.3d 819, 824 (7th Cir. 2013) Though the defendant claimed that the 30-day clock was triggered by the plaintiff confirming her union membership in an October 2020 interrogatory, it had acknowledged in oral argument that the complaint supplied enough information—the plaintiff’s name, dates of employment, job title, and job location—to ascertain that she was represented by a union. Slip op. 10. “Based on this information, diligent counsel had everything necessary to recognize that the Labor Management Relations Act may preempt [the plaintiff’s] or the class’s claims.” Slip op. 11.

The court was careful to caution that its opinion should not be read “to impose any meaningful burden on defendants” and it stood “fully by [its] prior determination that district courts are not required to engage in a ‘fact-intensive inquiry about what the defendant subjectively knew or should have discovered’ about the plaintiff’s case to assess the timeliness of a defendant’s removal.” Slip op. 11 (quoting Walker, 727 F.3d at 825. The court pointed out that the plaintiff was a union member working at the defendant’s store and “a defendant can be held to information about its own operations that it knows or can discern with ease.” Id. “That reality mean[t] that the 30-day removal clock in § 1446(b)(1) began to tick when [the plaintiff] served her complaint in February 2019” and the November 2020 notice of removal was therefore untimely. Id.

Still, the Seventh Circuit’s statement seems to be in at least some tension with the First Circuit’s categorical statement that “[t]he defendant has no duty, however, to investigate or to supply facts outside of those provided by the plaintiff.” Romulus v. CVS Pharmacy, Inc., 770 F.3d 67, 75 (1st Cir. 2014). The First Circuit explained its view as follows: “The district court reasoned that information on damages is not ‘new’ if the defendant could have discovered it earlier through its own investigation. This is not how the statute reads and would produce a difficult-to-manage test. … Determining what the defendant should have investigated, or what the defendant should have discovered through that investigation, rather than analyzing what was apparent on (or easily ascertainable from) the face of the plaintiff's pleadings, will not be efficient, but will result in fact-intensive mini-trials.” Id. at 73-76 (surveying somewhat different approaches the circuits have adopted). According to the First Circuit, “[e]very circuit to have addressed this issue has ... adopted some form of a bright-line rule that limits the court's inquiry to the clock-triggering pleading or other paper” provided by the plaintiff to the defendant. Id. at 74 (internal quotations omitted).

The 30-day deadline to remove is triggered (or not) based on the particular removal theory and related facts; “separate removal attempts are governed by separate removal clocks.” In January 2021, the defendant raised CAFA’s minimal diversity requirements as a second basis for removal to federal court. The court emphasized that the timeliness of this basis was unaffected by the timeliness of the earlier preemption argument because “[a] defendant may remove even a previously remanded case if subsequent pleadings or litigation events reveal a new basis for removal.” Slip op. 6. If they attempt to do so, “separate removal attempts are governed by separate removal clocks.” Id.

The court held that this minimal diversity basis for removal was not untimely. Slip op. 8. Though the plaintiff had moved out of Illinois and changed her domicile to Georgia in February 2020, the defendant only discovered this fact through its own investigation in January 2021. Slip op. 7; see 28 U.S.C. § 1453(b) (eliminating § 1446’s one-year limitation on diversity-based removal for class actions); cf. id. § 1332(d)(7) (evaluating diversity when case is filed or when diversity becomes apparent later based on “an amended pleading, motion, or other paper”). The court noted that “[a] plaintiff may trigger a removal clock—and protect itself against a defendant’s strategic maneuvering—by affirmatively and unambiguously disclosing facts establishing federal jurisdiction in an initial pleading or subsequent litigation document.” Slip op. 7 (internal quotations omitted). But because the plaintiff had not done so here and the defendant discovered the federal jurisdiction basis independently, the defendant could “remove the case at whatever point it deems appropriate, regardless of whether the window for removal on another basis already opened and closed.” Slip op. 7.

CAFA’s exception for “home-state controversies” may bar even timely removals. The case still had to be remanded to state court, however, because the minimal diversity exception faced a different barrier. CAFA removal is subject to an exception for “home-state controversies,” where “two-thirds or more of the members of all proposed plaintiff classes in the aggregate, and the primary defendants, are citizens of the State in which the action was originally filed.” 28 U.S.C. § 1332(d)(4)(B); see Slip op. 8. “By limiting the class to Illinois citizens, [the plaintiff] eliminated any concern that any [defendant] employees domiciled outside the state comprise greater than one-third of the class and all but ‘guaranteed that the suit would remain in state court.’” Slip op. 8 (quoting In re Sprint Nextel Corp., 593 F.3d 669, 676 (7th Cir. 2010)).

CATEGORIES: CAFA, Class Action Trends

PEOPLE: Howard S. Suskin, Gabriel K. Gillett, Kelsey L. Stimple

October 20, 2021 FTC Warns Companies It Will Impose Civil Penalties for Misleading Online Reviews

By: Jacob D. Alderdice

Shoppers in online marketplaces, or customers checking reviews before dining or retaining a service, have become increasingly reliant on internet testimonials. Mark P. of Hoboken, NJ rates Hank’s Burger Depot 5 out of 5 stars, and he tells you it’s the best burger and shake he’s ever had. But did Hank promise Mark P. a free meal in exchange for leaving that review? Does Mark P. work at the Burger Depot? Does Mark P. even exist? As e-commerce, social media, and influencer marketing have all grown and become intertwined, it has become increasingly difficult to discern what constitutes an authentic positive review or endorsement for a product or service online.

Recently, the Federal Trade Commission issued a Laptop_iStock_000004929105Medium
formal warning to hundreds of companies across a wide span of US industries, indicating that it will penalize deceptive practices related to fake or misleading reviews and endorsements. This warning follows increased litigation in recent years over these practices, which remains ongoing.

On October 13, 2021, the FTC formally issued a Notice of Penalty Offenses, stating it was “blanketing industry” with the warning that the FTC will use its penalty powers under Section 5(m)(1)(B) of the FTC Act if those companies engage in deceptive conduct regarding online endorsements and reviews. The list of more than 700 companies includes many of the biggest companies in the United States, including Amazon, Google, and Walmart, in a variety of sectors, and also includes advertisers and advertising agencies. The inclusion of the companies does not mean they have engaged in these practices previously, but it does mean that the FTC will find that they are on notice of the prohibition if they are found to have engaged in such deceptive practices in the future. The penalties for future violations are significant—up to $43,792 for each violation.

The Notice defines the deceptive conduct as including—but not limited to—falsely claiming an endorsement by a third party; misrepresenting whether an endorser is an actual, current, or recent user; using an endorsement to make deceptive performance claims; failing to disclose an unexpected material connection with an endorser; and misrepresenting that the experience of endorsers represents consumers’ typical experience. The FTC issued FAQs elaborating on the proscribed conduct. For example, the proscribed “unexpected material connection” could include the endorser being a relative or employee of the marketer, or if the endorser has been paid or given something of value to tout the product.

The FTC’s announcement that it will rely on its Section 5 civil penalty powers pursuant follows a recent Supreme Court ruling that stripped the FTC of other enforcement powers. In late April 2021, the Court unanimously ruled in AMG Capital Management, LLC v. FTC that Section 13(b) of the FTC Act does not allow the FTC to seek monetary remedies in federal court. Immediately following the ruling, then-FTC Commissioner (and recently confirmed CFPB Director) Rohit Chopra urged the FTC to “deploy the FTC’s dormant Penalty Offense Authority” under Section 5 to make up for the loss of the Section 13(b) powers. In October 2020—in anticipation of the Court’s ruling in AMG Capital Management—Chopra co-authored an article in the University of Pennsylvania Law Review with Samuel A.A. Levine, titled “The Case for Resurrecting the FTC Act’s Penalty Offense Authority,” which maps out the FTC’s penalty offense authority under Section 5(m)(1)(B) of the FTC Act and promotes the use of that authority particularly for “online disinformation.”

Aside from the FTC, consumers and competitors have increasingly litigated these questions in the past few years, seeking ways of holding companies accountable for faking reviews in order to gain a leg up on competitors or mislead consumers. Litigants have relied on the Lanham Act’s prohibition against false advertising, state consumer protection statutes, and other state law claims. Outcomes have been mixed, depending on the legal theory and the parties’ ability to prove or sufficiently allege that a company has falsified reviews. A sample of recent cases related to fake online reviews or endorsements across jurisdictions appears below:

  • In a dispute between two cloud-based communications services, RingCentral asserted defamation claims against Nextiva both for Nextiva’s alleged fake negative reviews of RingCentral, and Nextiva’s fake positive reviews of itself—which RingCentral alleged cast it in a bad light by comparison. At the summary judgment stage, a judge in the District Court for the Northern District of California dismissed RingCentral’s defamation claims as to the fake positive reviews, holding that those reviews—which were only about Nextiva—were not “of or concerning” the plaintiff RingCentral, a required element for a defamation claim. See Ringcentral, Inc. v. Nextiva, Inc., No. 19-CV-02626-NC, 2021 WL 2476879, at *2 (N.D. Cal. June 17, 2021).
     
  • In a dispute between two companies selling dietary supplements, Vitamins Online alleged that the defendant NatureWise manipulated the Amazon.com customer review system by, among other things, directing its employees to “up vote” its products’ good reviews, and offering free products to customers in exchange for good reviews. Following a bench trial, a judge in the District Court for the District of Utah held that this conduct violated the Lanham Act’s prohibition of false advertising and Utah’s common law unfair competition laws. See Vitamins Online, Inc. v. HeartWise, Inc, No. 2:13-CV-00982-DAK, 2020 WL 6581050, at *21 (D. Utah Nov. 10, 2020). The court held that Vitamins Online was entitled to the disgorgement of NatureWise’s ill-gotten profits of nearly $10 million.
     
  • In the District of New Jersey, courts have held that the allegations that companies manipulated Amazon reviews of their products, such as by faking customer reviews or flooding the site with “professional reviews” (those elicited by the company’s offering of a free product), are sufficient to state claims under federal and state false advertising laws, as well as claims for tortious interference with prospective business advantage. See AlphaCard Sys. LLC v. Fery LLC, No. CV1920110MASTJB, 2020 WL 4736072, at *3 (D.N.J. Aug. 14, 2020); Interlink Products International, Inc. v. F & W Trading LLC, No. 15-1340, 2016 WL 1260713, at *9 (D.N.J. Mar. 31, 2016).
     
  • Casper Sleep, Inc., the online company selling Casper mattresses, has been a fairly active litigant regarding allegedly fake or manipulated online reviews—both as a plaintiff and defendant. Recently, in the Southern District of New York, a mattress competitor asserted counterclaims under the Lanham Act, alleging that Casper faked its positive Amazon reviews. The competitor relied upon an “independent website” that assesses Amazon reviews, which gave Casper a “fail” grade due to purported indicators of “unnatural reviews,” such as many positive reviews with no corresponding comments and the wholesale deletion of large portions of Casper’s positive reviews. The court granted Casper’s motion to dismiss these claims, holding that the allegations were too speculative to show that Casper actually faked the positive Amazon reviews. See Casper Sleep, Inc. v. Nectar Brand LLC, No. 18 CIV. 4459 (PGG), 2020 WL 5659581, at *11 (S.D.N.Y. Sept. 23, 2020); see also GhostBed, Inc. v. Casper Sleep, Inc., No. 0:15-CV-62571-WPD, 2018 WL 2213002, at *7 (S.D. Fla. May 3, 2018) (dismissing Lanham Act claims against Casper at the summary judgment stage, because the plaintiff did not establish that Casper made any false or misleading statements in its use of “affiliate relationships with online reviewers”).

PEOPLE: Jacob D. Alderdice

October 19, 2021 Factors to Consider in Disclosing a Cybersecurity Breach to the SEC

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In this article published by Westlaw Today, Partners Brian R. Boch and Charles D. Riely and Associate William R. Erlain explain that the US Securities and Exchange Commission has ramped up its enforcement against misleading cybersecurity disclosures and announced plans to consider adopting new disclosure obligations. The authors highlight key factors to consider in determining whether and how a public company should disclose a cybersecurity breach in light of recent SEC guidance, enforcement actions and investigations, and private securities actions.

Click here to read the full article.

CATEGORIES: Privacy Data Security, Securities