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In a victory for corporate defendants that often face baseless suits intended to extort a quick settlement, a judge this week imposed sanctions on so-called "porn troll" Prenda.
Prenda had filed multiple suits against Comcast, AT&T and other internet service providers, claiming copyright infringement arising from the downloading of copywritten pornographic materials. The defendants claimed that the claims were baseless and that Prenda had brought the claims in hopes of extorting a quick settlement from corporations looking to avoid an association with pornography.
U.S. District Judge Patrick Murphy did not mince words:
"These men have shown a relentless willingness to lie to the court on paper and in person, despite being on notice that they were facing sanctions in this court, being sanctioned by other courts and being referred to state and federal bars, the United States Attorney in at least two districts, one state attorney general and the Internal Revenue Service."
Judge Murphy ordered Prenda to pay more than $260,000 in attorneys' fees and litigation costs to the defendants. Earlier this year a federal judge in California also ordered Prenda to pay defendants' attorneys' fees based on similar reasoning.
Because of the high cost of defending litigation, plaintiffs willing to aggressively plead cases can often extort settlements from defendants who are willing to settle at a price they think will be less than their cost of litigation. I covered this phenomenon and described the high economic costs resulting from the practice in my 2005 book, Out of Balance.
The Commodity Futures Trading Commission was sued again today. The complaint alleges that the CFTC undertook a major rulemaking effort without complying with the procedural requirements in the Commodity Exchange Act and the Administrative Procedure Act. It is a long overdue reminder to the CFTC of its obligation to make rules in accordance with the law.
Dodd-Frank gave the CFTC the huge swaps market to oversee, and the agency has spent the past three years putting in place a complex set of rules to govern it. Introducing transparency to a formerly dark market has been the rallying cry of this effort. One of the persistent questions asked about the new regulatory framework as it was developing was how it would apply outside the U.S. The swaps market is highly international, so these questions were not mere academic musings. The CFTC avoided the question at first, but eventually issued a guidance document that looks a lot like a binding rule. Through its web of definitions and directives, it draws into the CFTC's new regulatory framework many non-U.S. participants who are also regulated at home.
The complaint alleges that the CFTC failed to fulfill its cost-benefit mandate under the Commodity Exchange Act. The complaint further alleges that the CFTC violated the Administrative Procedure Act by failing to give people sufficient opportunity to weigh in on the CFTC's cross-border approach, ignoring the comments on extraterritorial application, and arbitrarily expanding Dodd-Frank's reach.
The CFTC repeatedly has employed illegitimate methods of imposing binding requirements in recent years. The guidance document is one of the most egregious examples of this pattern. It is time for the CFTC to make its case in court for why it has relied so heavily on nontransparent rulemaking methods to bring transparency to the swaps market.
The Securities and Exchange Commission's newest commissioners--Kara Stein and Michael Piwowar--gave speeches last Friday to mark their first three months in office. These speeches provide useful insight into the direction the new commissioners would like to take their agency.
On November 22, 2013, the Food and Drug Administration flexed its regulatory muscle by sending a warning letter to a genetic-testing company that goes under the stylish name of 23andme. The object of FDA scorn was a diagnostic kit that the tech company, backed by among others Google and Johnson & Johnson, sold to customers for $99. The kit contained an all-purpose saliva-based test that could give customers information about some 240 genetic traits, which relate to a wide range of genetic traits and disease conditions. The FDA warning letter chastised 23andme in no uncertain terms for being noncooperative and nonresponsive over a five-year period in supplying information that the FDA wanted to evaluate its product as a Type III device under the Medical Devices Act.
Legal Regulation of 23andme There is no doubt that the FDA is on solid legal ground. This case is not like the processes involved in Regenerative Sciences, LLC v. United States, where the FDA asserted that physicians' use of certain stem-cell procedures for joint disease involved the use of a drug that required FDA approval before it could be approved for use. In an earlier essay for the Manhattan Institute, I argued that this classification was in fact both legally incorrect and socially mischievous. In this case, the legal arguments are not available to 23andme because the current definition of "medical devices" covers not only those devices intended for use on the human body, but also those used for the diagnosis of disease. The Type III classification means that this device has to receive premarket approval from the FDA, which in turn requires that it be shown to be safe and effective for its intended use. Getting approval under this standard is arduous business, because any such approval must be for each of the tests separately. 240 tests thus require that number of approvals. The costs are prohibitive, and the delay enormous.
The FDA Warning Letter is significant both for what it says and for what it does not say. On the former, it details all the various steps that the FDA has taken in order to help shepherd 23andme through the FDA's processes, including the types of warning that the products should contain, and the various modifications that could be introduced in order to mitigate the risks of its use. It then notes that 23andme has done little to take advantage of the assistance offered to it. Indeed, worse, it has simply gone about its business selling the kits, without so much as a bow in the direction of the FDA.
As we await the next iteration of the Volcker ban on investments deemed excessively risky for banks, other regulations continue to incentivize selective risk-taking by banks. Last month, for example, the Office of the Comptroller of the Currency issued a bulletin encouraging bank investments in wind energy.
Banks are permitted by statute to "make investments directly or indirectly . . . designed primarily to promote the public welfare, including the welfare of low- and moderate-income communities or families (such as by providing housing, services, or jobs)." There are some constraints on these investments, including a prohibition against banks taking on unlimited liability. Certain renewable energy investments qualify as public welfare investments. These investments give banks access to renewable energy tax credits to offset taxable income, allow banks to benefit from renewable energy subsidies, and can be qualified investments under the Community Reinvestment Act.
Last month's OCC fact sheet reminded banks of the benefits of investing in wind projects. One of the two approved projects highlighted by the OCC was a fund that would finance six windmills and thus would purportedly benefit low- and moderate-income "individuals and areas by allowing students at a technical college to pursue careers in the renewable energy sector." The OCC cautions that "the bank should have the requisite expertise and risk management capabilities to make these investments." As the last crisis reminded us, when regulators tip the scale in favor of a particular type of investment, it tends to dull bankers' risk management faculties.
This afternoon SAC Capital entered a guilty plea in court as part of the largest insider trading settlement ever. In connection with the five criminal counts of wire and securities fraud, SAC Capital agreed to pay approximately $1.2 billion (in addition to a $616 million SEC penalty already paid) and pledged never again to manage anyone else's money. U.S. Attorney Preet Bharara characterized the record-breaking penalty as "steep, but fair." According to Bharara, the penalty is "several orders of magnitude larger than the identified avoided losses and gains made by" SAC and is in excess of the maximum under the sentencing guidelines.
The government's complaint provides a little context for understanding the penalty, but not much. Over approximately a decade, eight SAC employees allegedly traded an unspecified number of times on information about companies that they got from employees at the companies or knowledgeable third parties. SAC allegedly encouraged this behavior, and, as the complaint explained, "the encouragement by [SAC] to pursue aggressively an information 'edge' overwhelmed limited SAC compliance systems." The government has obtained guilty pleas from some of the individual insider traders, but the complaint is a bit slim on specific facts to support a penalty of the size imposed. Some of the cited examples of offending conduct are not particularly incriminatory: for example, an SAC employee spoke with a tech analyst who had spoken to a Microsoft employee who had seen some of his colleagues at Microsoft talking to Yahoo employees, thus foreshadowing a partnership between Yahoo and Microsoft.
As Bharara noted, part of the purpose of the tough settlement with SAC was to act as a deterrent. That purpose would have been more effectively accomplished if the government had provided more details about the specific conduct it was trying to deter.
Wisconsin Governor Scott Walker is reportedly heading to Madison, Wisconsin to sign that state's crowdfunding bill.
With this new law Wisconsin will become the third state in the U.S. (along with Georgia and Kansas) to permit intrastate crowdfunded securities offerings.
Legal Intern, Manhattan Institute's Center for Legal Policy
A couple of weeks ago, the California Supreme Court decided a potentially very impactful case dealing with the enforceability of arbitration agreements made between companies and their consumers/employees.
In Sonic-Calabasas A, Inc v. Moreno, the court ostensibly agreed with the U.S. Supreme Court's rulings in Concepcion and Italian Colors Restaurant that federal preemption applied over any state rulings that attempted to control the scope of consumer arbitration agreements under a specific formulation of the unconscionability doctrine.
However, the Sonic court then opened up the door to the potential introduction of a new unconscionability standard that would be substantively similar to the previously-discredited standard.
In the prior U.S. Supreme Court rulings, the Court specifically overruled the Discover Bank rule, which mandated that consumer arbitration agreements that did not include clauses allowing for class action suits were effectively unenforceable. The Supreme Court has held that the Federal Arbitration Act's mandates apply, regardless of any state "substantive or procedural policies to the contrary," including any any specific state standards for arbitration applicability.
Andrew J. Pincus and Archis A. Parasharami of the Mayer Brown law firm have written an op-ed discussing the various issues involved.
Last week, six federal financial regulators issued a proposed joint policy statement on standards for assessing the diversity policies of the entities they regulate. The proposal stems from a little-noticed provision of Dodd-Frank, which requires directors of the regulators' newly established Offices of Minority and Women Inclusion to develop standards for "assessing the diversity policies and practices of" regulated entities.These new standards will impose additional costs on regulated entities, but it is not clear that they will further diversity and inclusion efforts.
Banks, broker-dealers, credit unions and other financial institutions are already subject to existing employment and contracting laws. Moreover, financial institutions interested in finding and fostering the best talent have instituted programs to hire, retain, and promote as diverse a workforce as possible. A new regulatory checklist could do more harm than good by forcing changes to diversity programs that are working well and adding to the already overwhelming regulatory burden faced by financial institutions--particularly small ones, which can play an important role in serving minority communities.
The regulators promise not to examine financial institutions for their adherence to the standards, but "encourage" the use of the standards. A regulator's encouragement to do something tends to function as a de facto requirement. In their proposal, the regulators suggest that financial institutions conduct a quantitative and qualitative self-assessment of compliance with the standards, submit that assessment to their regulator, and post on their websites reports of their progress towards complying with those standards. The agencies are to be commended for working together on--and building some flexibility into--the proposed standards. Nevertheless, the proposed standards might not achieve their intended positive results.
On October 23, 2013 the Securities and Exchange Commission (the "SEC") issued proposed regulations (the "Proposed Rules") with respect to crowdfunding as contemplated by Title III of the Jumpstart our Business Startups Act of 2012 (the "JOBS Act"). The Proposed Rules are open for comment for 90 days from the date of publication in the federal register (a period that will likely run to the end of January, 2014).
While the Proposed Rules will not be effective until adopted by the SEC, and the SEC may change the Proposed Rules before adopting them, if adopted in their present state the Proposed Rules will make it possible for privately-owned company to sell securities to investors over the Internet through registered "crowdfund portals." Under the Securities Act of 1933 (the "1933 Act"), companies may not sell securities to investors unless the securities are either registered (generally requiring an initial public offer or "IPO") or exempt from registration. The crowdfunding authorized by Congress through the JOBS Act creates a new exemption from registration (now contained at Section 4(a)(6) of the 1933 Act) and the Proposed Rules, if adopted, would make it possible for sales of securities under this new exemption to commence.
I have posted here a lengthy analysis of the provisions of the Proposed Rules applicable to issuers of securities under the new Section 4(a)(6) exemption. My firm is planning a second publication shortly to cover the provisions of the Proposed Rules applicable to crowdfund portals.
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