Category: Litigation

National Labor Relations Board (NLRB) Issues Guidance on Lawful Confidentiality Language

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On July 30, 2012, the NLRB (“Board”) issued a decision in Banner Health System dba Estrella Medical Center, 358 NLRB No. 93 holding, among other things, that the employer violated Section 8(a)(1) (which prohibits employers from interfering, restraining or coercing employees in the exercise of their rights), by restricting employees from discussing any complaint that was then the subject of an ongoing internal investigation.

To minimize the impact of such a confidentiality mandate on employees’ Section 7 rights, the Board found that an employer must make an individualized determination in each case that its “legitimate business justification” outweighed the employee’s rights to protected concerted activity in discussing workplace issues.  In Banner Health, the employer did not carry its burden to show a legitimate business justification because it failed to make a particularized showing that:

  • Witnesses were in need of protection;
  • Evidence was in danger of being destroyed;
  • Testimony was in danger of being fabricated; or
  • A cover-up must be prevented.

The Board concluded that the employer’s one-size-fits-all rule, prohibiting employees from engaging in any discussion of ongoing internal investigations, clearly failed to meet these requirements.

More recently, the NLRB’s Office of the General Counsel clarified the limits of how such policies could be drafted without running afoul of Section 7 in an advice memorandum released on April 24, 2013 (dated January 29, 2013).   The Region had submitted Verso Paper, Case 30-CA-089350 (January 29, 2013) to the Office of the General Counsel for advice regarding the confidentiality rule at issue and whether it unlawfully interfered with employees’ Section 7 rights.  Specifically, the Verso Code of Conduct contained this provision prohibiting employees from discussing ongoing internal investigations:

Verso has a compelling interest in protecting the integrity of its investigations.  In every investigation, Verso has a strong desire to protect witnesses from harassment, intimidation and retaliation, to keep evidence from being destroyed, to ensure that testimony is not fabricated, and to prevent a cover-up.  To assist Verso in achieving these objectives, we must maintain the investigation and our role in it in strict confidence.  If we do not maintain such confidentiality, we may be subject to disciplinary action up to and including immediate termination.

Reiterating that employees have a Section 7 right to discuss disciplinary investigations of their co-workers, the General Counsel’s Office found that the Verso Paper provision did not allow for a case-by-case analysis of whether or not the employer’s business justification for the restriction outweighed the employees’ Section 7 rights as required by Banner Health.  According to the General Counsel’s Office, the employer may establish this by presenting facts specific to a given investigation that give rise to a legitimate and substantial business justification for imposing confidentiality restrictions.

However, in footnote 7 of its advice, the General Counsel’s Office, after noting that the first two sentences of the Verso Paper rule lawfully set forth the employer’s interest in protecting the integrity of its investigations, surprisingly put forward a modified version of the remainder of the Verso Paper provision that it said would pass muster under Banner Health:

Verso may decide in some circumstances that in order to achieve these objectives, we must maintain the investigation and our role in it in strict confidence.  If Verso reasonably imposes such a requirement and we do not maintain such confidentiality, we may be subject to disciplinary action up to and including immediate termination.

Although this guidance is not binding, combining this language above with the first two sentences of the Verso Paper provision could certainly strengthen an employer’s argument that its intent was not to violate an employee’s Section 7 rights, but rather, to lawfully put employees on notice that if the employer “reasonably” imposes a confidentiality requirement, they must abide by it or face discipline.  However, employers must remain mindful that using a provision like this suggested does not obviate the need for the employer to engage in the particularized case-by-case determination of its substantial and legitimate business need that would permit it to impose confidentiality restrictions on the investigation.

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Early Patent Trial and Appeal Board Orders Demonstrate Differences Between America Invents Act (AIA) Patent Trials and District Court Trials

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Patent practitioners are still absorbing some of the differences and advantages that are unique to litigation in the PTAB as opposed to district court litigation.  For example, PTAB proceedings only decide questions of validity and are not directed to rule on questions of infringement or damages, as is the practice in traditional litigation.  Another example is that PTAB trials require that the petitioner provide a lot of technical arguments and factual evidence in the original petition, as opposed to traditional litigation where parties make sure they have a good faith basis to sue and then rely on discovery to later develop the case.  Thus, a petition for review of patentability in PTAB practice is more akin to a summary judgment motion than a complaint in trial practice.  But a PTAB petition is still very different than a summary judgment motion.  And these differences can be exploited to more inexpensively and quickly resolve validity issues.

In considering summary judgment, a judge must decide if there is “no genuine dispute as to any material fact,” as set forth in FRCP Rule 56.  In contrast, the technical patent judges on the Board can decide technical disputes instantly and can resolve disputes of technical and legal nature.  PTAB panels use their technical and patent law experience to quickly identify dispositive issues and focus the parties on how their respective positions are being viewed by the Board early in the proceedings.  This means that PTAB trials will put a premium on identification of technical defects in patents early in the proceedings, as opposed to traditional litigation approaches that favor discovery before attempting summary judgment or that shy away from summary judgment as a mechanism for resolution of complex technical disputes.

Examples of the Board’s unique capabilities are already being demonstrated in recent orders.  For example, in an inter partes review by Chimei Innolux Corporation against Semiconductor Energy Laboratory Co.,Ltd. concerning U.S. Patent No. 8,068,204 (IPR2013-00068), the Board squarely addressed technical disputes between what the petition asserted versus what the patent owner’s preliminary statement set forth when the Board decided to institute trial.

The Board took great care to understand and sift through extremely technical differences between the claimed subject matter and the prior art as it was characterized by the parties.  This is a highly complicated task, because the patent relates to improvements for substrate bonding and electrical connections in liquid-crystal displays and because the parties were advancing very technical arguments on both sides of the validity issue.  In this early order to institute trial the Board construed a phrase from the claims and used that construction to decide the merits of the positions taken by the petitioner and patent owner.  The Board then considered technical arguments made by both parties, such as whether a reference used in combination in an obviousness challenge teaches away from the combination (page 15), or whether it would have been obvious to employ a known (contact) structure (page 18).  The Board decided that certain arguments were not persuasive and used the order to focus the parties on the issues it ruled upon.  The following excerpt from pages 19-21 of the the order instituting trial demonstrates the attention to detail that the Board is devoting to these proceedings:

SEL responds that “[. . .] a person of ordinary skill in the art does not know whether an insulating film (first insulating film) is formed between the bottom layer of the first wiring line 127 (formed in the step of forming the scanning lines Yj) and the top layer of the first wiring line 127 (formed in the step of forming the data lines Xi).” (Prelim. Resp. 31.) According to SEL, Shiba’s “‘two-layered structure’” might be “sequentially stacked” without an insulating layer therebetween. (Id.) As noted, claim 31 requires such an intervening insulating layer.

SEL’s argument is not persuasive. Shiba implies or suggests that the two wiring layers in the two-layered structure 127, formed in the same manner as the two-layered scanning and data lines as the quoted passage shows, have an insulating layer therebetween just like the scanning and data lines. [cite omitted]  [. . .  .]  Skilled artisans also would have understood that overlapping portions readily could have been “partially connected” together by known methods, including using a connecting hole through such an insulating layer. [cite omitted]

Because the two-layered structure in Shiba’s lines 127 connect to pad 751, SEL maintains that under various hypothetical scenarios, pad 751 also must have a two-layered structure, and as such, with Sukegawa’s transparent layer modified to be on Shiba’s pad as CMI proposes in its ground of unpatentability, the pad structure would become a three-layered structure. . . .  SEL also argues that the Petition inconsistently conflates or interchanges Sukegawa’s transparent layer and the top layer of Shiba’s two-layered wiring structure 127, and thereby fails to show how the combination renders obvious the external connection line and transparent conductive film as recited in claims 31 and 54. (See Prelim. Resp. 25-26.)

It is clear from the analysis set forth by the Board that it is not afraid to weigh in on very technical issues and clarify how it perceives the arguments.  Of course, the preliminary response by the patent owner is considered a first initial response and is not a comprehensive response with evidence.  Therefore, the Board’s institution of trial is based on limited argument and is well before the patent owner has had an opportunity to fully respond.  But this process focuses the parties on issues that the Board (at least initially) perceives to be negative to the patent.  It is a preliminary ruling on the disputed issues by the Board that will shape discovery to come, as opposed to traditional litigation where discovery often leads and shapes the issues brought before the court.

Parties who believe that an asserted patent has validity issues may find it difficult to challenge disputed technical issues in summary judgment motion practice.  Validity issues are frequently accompanied with fact questions and in litigation there is a clear and convincing standard for invalidity that makes it hard to prove invalidity.  And it is unlikely that counsel will recommend a motion for summary judgment before conducting at least some discovery.  In contrast, in patent reviews and reexaminations the burden of proof is based on a preponderance of the evidence and can be done without discovery.  Given the different standards and the costs of e-discovery, there are significant advantages to the PTAB patent review option for defendants with genuine validity arguments.  But one must be careful to choose the PTAB trial option carefully to avoid estoppel should the proceeding not result in destruction of the relevant patent claims.

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Making Copies! The Fourth Circuit Defines Taxable Costs Associated With eDiscovery

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Can this happen to your client? Your client gets sued, is forced to spend over $100,000 on eDiscovery despite you making all the right objections, you deliver a clean victory on dispositive motions and the District Court awards costs of … $200. Here is what happened in the Fourth Circuit and what you can do to help your clients avoid the same fate:

The Fourth Circuit just decided the scope of taxable eDiscovery costs under 28 U.S.C. § 1920(4) in Country Vintner of North Carolina v. E. & J. Gallo Winery, Inc., __ F.3d __, 2013 WL 1789728 (4th Cir. Apr. 29, 2013). Section 1920(4) allows the District Courts to “tax as costs … [f]ees for exemplification and the costs of making copies of any materials where the copies are necessarily obtained for use in the case.” Id. 1   Under Federal Rule of Civil Procedure 54(d)(1), the cost of making copies “should be allowed to the prevailing party.” As an initial matter, the Fourth Circuit concluded that section 1920(4) applies to the costs related to documents produced in discovery – not just used at trial or in connection with a dispositive motion. Country Vintner, 2013 WL 1789728, *7. The Fourth Circuit then examined the meaning of “making copies,” and held that section 1920(4) “limits taxable costs to … converting electronic files to non-editable formats and burning files onto discs.” Id., *9. 2   In reaching that conclusion, the Fourth Circuit explicitly rejected the argument that “ESI processing costs constitute[d]” “making copies” under Section 1920(4). Id., *7. As a consequence, Appellant Gallo was awarded only $218.59 out of the $111,047.75 in eDiscovery costs it sought.

What does that mean?

Appellant Gallo sought more than $70,000 for “indexing” and “flattening” ESI – processing methods that extracted irrelevant files and duplicates, made the remaining data searchable, and organized the data; spent more than $15,000 extracting and organizing metadata and preparing it for review; less than $100 on electronic bates numbering; and over $20,000 on quality assurance and preparing the document production. None of these costs were taxed. Instead, Gallo received only $178.59 to convert certain native files into TIFF and PDF format and another $40 to burn images onto CDs. While the documents could not be “copied” without all of the processing that preceded it, such processing costs will not be shifted through a bill of costs. Id., *8-9 (citing Race Tires Am., supra n. 2, 674 F.3d at 169).

What lessons can we learn?

The Fourth Circuit seems to recognize the harshness of its ruling and provides two helpful clues for future litigants seeking to manage their eDiscovery burdens. The court first observes: “That Gallo will recover only a fraction of its litigation costs under our approach does not establish that our reading of the statute is too grudging in an age of unforeseen innovations in litigation-support technology.” Id., *9. Then, the court leaves open the question of whether the allowable costs of production might include the processing costs had the parties “clearly agreed to the production of ESI on a particular database or in native file format.” Id., *9 n. 20 (citing In re Ricoh Co., Ltd. Patent Litig., 661 F.3d 1361, 1365–66 (Fed. Cir. 2011) (holding that $234,702.43 for the cost of an electronic database which the parties agreed to use for document production would have been allowed, but for the parties’ agreement to share costs)). Next, the court points out that, where discovery costs are excessive, the responding party can move for a protective order and, if that motion is denied (as Gallo’s motion was denied), then the responding party “can appeal that decision” Id., *9; id., *9 n. 21 (noting that Gallo had not appealed the denial of its motion for protective order).

Lesson #1: While it is not entirely clear how the parties’ agreement to utilize a particular format or database alters the conclusion that processing is not “making copies,” the Fourth Circuit seems to suggest that it might. 3  So, any party seeking to shift its eDiscovery costs should consider agreeing with the other side regarding the format or database to be used to handle the parties’ productions.

Lesson #2: While it is not entirely clear whether parties are entitled to file an interlocutory appeal with respect to the denial of a motion for protective order, the Fourth Circuit seems to urge parties to do so. 4  Either the court is encouraging interlocutory appeals before the ESI expenses are incurred, or the court is suggesting that a final judgment (for either party) does not moot the trial court’s refusal to shift pre-trial eDiscovery costs.

 1 Because appellant Gallo’s eDiscovery costs neither involved authentication of public records nor demonstrative exhibits – two potential meanings of exemplification – the Fourth Circuit did not define the meaning of exemplification in this case.  Country Vintner, 2013 WL 1789728, *10.

 2 In reaching that conclusion, the Fourth Circuit aligned itself with the Third Circuit’s approach in Race Tires Am., Inc. v. Hoosier Racing Tire Corp., 674 F.3d 158 (3d Cir. 2012).

3  In distinguishing In re Ricoh Co., the Third Circuit explained: “we have acknowledged that the costs of conversion to an agreed-upon production format are taxable as the functional equivalent of ‘making copies.’ It is all the other activity, such as searching, culling and deduplication that are not taxable.” Race Tires Am., 674 F.3d at 171 n.11.

 4 On one hand, discovery orders against a party are not immediately appealable. See, e.g., Nicholas v. Wyndham Int’l, Inc., 373 F.3d 537 (4th Cir. 2004). On the other hand, most discovery orders will be moot by the time a final order is entered. See, e.g., E. H. Reise v. Bd. of Regents of the Univ. of Wisconsin, Sys., 957 F.2d 293, 295-296 (7th Cir. 1992).

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Worker Adjustment and Retraining Notification Act (WARN) Liability And Private Equity Firms

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Last month’s decision out of the Delaware District Court in Woolery, et al. v. Matlin Patterson Global Advisers, LLC, et al. was an eye opener for private equity firms and other entities owning a controlling stake in a faltering business.  Breaking from the norm, the Court refused to dismiss private equity firm MatlinPatterson Global Advisers, LLC (“MatlinPatterson”) and affiliated entities from a class action WARN Act suit alleging that the 400-plus employees of Premium Protein Products, LLC (“Premium”), a Nebraska-based meat processer and MatlinPatterson portfolio company, hadn’t received the statutorily-mandated 60 days advance notice of layoffs.

According to the plaintiffs, Premium’s performance began to decline in 2008 and, upon the downturn, the defendants became more and more involved in Premium’s day-to-day operations, including by making business strategy decisions (e.g., to enter the kosher food market), terminating Premium’s existing President, and installing a new company President.  Things got bad enough that, in June 2009, the defendants decided to “furlough” all of Premium’s employees with virtually no notice and close the plant.  The defendants then, in November 2009, converted the furlough to layoffs, and Premium filed for bankruptcy.  According to the plaintiffs, Premium’s head of HR raised WARN Act concerns back in June, when the decision to close the plant and furlough the employees was made, and the defendants ignored the issue.

With Premium in bankruptcy, the plaintiffs, unsurprisingly, turned to MatlinPatterson and the other defendants as the targets of their WARN Act claim, asserting that they and Premium were a “single employer.”  The Court then applied the Department of Labor’s five-factor balancing test, namely (1) whether the entities share common ownership, (2) whether the entities share common directors or officers, (3) the existence of de facto exercise of control by the parent over the subsidiary, (4) the existence of a unity of personnel policies emanating from a common source, and (5) the dependency of operations between the two entities.  This test often favors private equity firms, and on balance it did so in Woolery too, with the Court finding that the plaintiffs had made no showing as to three of the five factors.  The Court nevertheless refused to grant the defendants’ motion to dismiss, holding that the complaint alleged that the defendants had exercised de facto control over Premium and then essentially giving that factor determinative weight.

No one should be surprised by the decision given the plaintiffs’ allegations, which had to be accepted as true at the motion to dismiss stage.  They presented an ugly picture of a private equity firm dictating the most critical decisions (to close plant, layoff employees) and then attempting to duck the WARN Act’s dictates. The decision is nevertheless a cautionary tale for private equity firms and at first blush it presents a catch 22: (a) do nothing and watch your investment sink or (b) get involved and risk WARN Act liability.

So what is a private equity firm, lender or majority investor to do?  Obviously, the best scenario is to build in the required 60-day notice period or, if applicable, utilize WARN Act exceptions, including the “faltering company” and “unforeseen business circumstances” exceptions.  Even where that’s not possible, private equity firms and other controlling investors need not take a completely hands off approach.  They would, however, be best-served (at least for WARN Act purposes) to do the following:

  • Provide only customary board-level oversight and allow the employer’s officers and management team to run the employer’s day-to-day operations
  • Although Board oversight and input can occur, continue to work through the management team on major decisions, including layoffs and potential facility closures
  • Avoid placing private equity firm or lender employees or representatives on the employer’s management team
  • Have the employer’s management team execute employment contracts with the employer, not the private equity firm or lender, and have the contracts, for the most part, create obligations only to the employer
  • Allow the employer to maintain its own personnel policies and practices, as well as HR oversight and function

What the courts are primarily concerned with in these cases are (a) a high degree of integration between the private equity firm or lender and the actual employer, particularly as to day-to-day operations, and (b) who the decision-maker was with regard to the employment practice giving rise to the litigation (typically the layoff or plant closure decision).  Private equity firms and lenders that have refrained from this level of integration have had, and should continue to have, success in avoiding WARN Act liability and returning the focus of the WARN Act discussion to the actual employer.

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Supreme Court (Sort Of) Approves “Picking Off” Strategy in Fair Labor Standards Act (FLSA) Collective Action Cases

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If you have ever received a complaint alleging minimum wage or overtime violations from one of your employees, the United States Department of Labor’s Wage and Hour Division, or a similar state agency (in Wisconsin, the Labor Standards Bureau of the Equal Rights Division), you have probably considered the possibility that other employees might raise similar claims.  Depending on the size of your workforce, this single-employee headache could quickly evolve into a class action or collective action migraine.

Under the Fair Labor Standards Act (FLSA), a single employee may file a wage and hour lawsuit on behalf of himself and other “similarly situated” employees.  The FLSA’s collective action mechanism requires potential plaintiffs to opt into the lawsuit, meaning that individuals must choose to participate in the case.  This mechanism differs from a class action lawsuit because individuals covered by a class certified by the court mustopt out of the case.  In other words, in a class action, an individual covered by a certified class must choose to not participate in the case.

Defense counsel have typically attempted to protect employers from prolonged and costly collective action litigation by “picking off” the named plaintiff(s) in lawsuits filed under the FLSA.  This “picking off” strategy refers to Rule 68 of the Federal Rules of Civil Procedure, which allows a defendant to make an offer of judgment to the plaintiff.  An offer of judgment amounts to giving the plaintiff the full relief requested in the complaint and costs accrued by the plaintiff.  A plaintiff’s acceptance of a Rule 68 offer of judgment moots (i.e., a dispute no longer exists) the case as to the plaintiff, thereby depriving the court of jurisdiction.

In the collective action context, however, employers have had mixed results on the issue of whether acceptance of a Rule 68 offer by the named plaintiff(s) also moots the claims of the potential collective group of affected employees.  The question also remained:  what happens when the named plaintiff(s) rejects the Rule 68 offer of judgment?

On Tuesday, April 16, 2013, the United States Supreme Court issued a decision, Genesis Healthcare Corp. v. Symczyk, that attempted to answer this question.  In this case, the employer, Genesis, made a Rule 68 offer of judgment to the plaintiff, Symczyk, while simultaneously answering the complaint and prior to Symczyk moving for conditional certification.  By its terms, the offer automatically expired after ten days.  Symczyk did not accept the offer, and Genesis moved for judgment in its favor, arguing that its offer of judgment mooted Symczyk’s claim and the potential collective action.  Symczyk did not contest Genesis’ argument that the offer fully satisfied her claim.  The district court agreed with Genesis and dismissed the case for lack of subject-matter jurisdiction.

The Court of Appeals for the Third Circuit agreed with the district court that Genesis’ Rule 68 offer mooted Symczyk’s claim, but it disagreed about the effect the offer had on the potential collective action.  The court of appeals held that allowing a defendant to “pick off” named plaintiffs for the purpose of avoiding the certification of a collective action would run contrary to the purpose of the collective action mechanism permitted by the FLSA.

On appeal, the Supreme Court held that a plaintiff “has no personal interest in representing putative, unnamed claimants, nor any other continuing interest that would preserve her suit from mootness.”  According to the Supreme Court, a Rule 68 offer of judgment that renders the claims of the named plaintiff(s) moot also eliminates the plaintiff’s interest in the collective action.  More importantly, the Supreme Court held that a collective action under the FLSA, even if “conditionally certified” by a court, does not give the “class” of potential plaintiffs “an independent legal status.”  A “conditional certification” simply results in “the sending of court-approved written notice to employees[.]“  Thus, the Supreme Court has given some legitimacy to the strategy of “picking off” named plaintiffs by offering them full relief through a Rule 68 offer of judgment.

Note, however, that the Supreme Court did not hold that an unaccepted Rule 68 offer renders a claim (the named plaintiff’s or the collective action claim) moot.  Because Symczyk waived these arguments in the lower courts, the Supreme Court simply assumed, without deciding, that the unaccepted Rule 68 offer rendered her claim moot.

While, at first blush, the decision seems like a great win for employers, it has potential limitations, many of which Justice Elena Kagan points out in her dissent, including the following:

  1. Symczyk waived several important arguments throughout the litigation, including the argument that the unaccepted Rule 68 offer in fact did not moot her individual claim.
  2. The Genesis case addresses a scenario in which no other plaintiffs had yet joined the collective action (due in part to the timing of Genesis’ offer to Symczyk and her failure to move for certificaiton).
  3. The Court simply ignored the limitations of a Rule 68 offer of judgment, including that Rule 68 only gives courts authority to enter judgment when the plaintiff accepts the offer and that “[e]vidence of an unaccepted offer is not admissible except in a proceeding to determine costs.”

Despite the limitations of the Genesis decision, employers can take comfort in the Court’s indication of its leanings regarding collective actions.  In addition to the Court’s holding regarding the mootness issue, employers can also point to the Court’s statements calling into question the legitimacy of applying class action rules and precedent to collective actions under the FLSA.

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District Court Grants Motion to Compel Against Securities & Exchange Commission (SEC), Holding that “Facts” Are Not Work Product In SEC Confidential Witness Interviews

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In a recent Securities & Exchange Commission (“SEC”) investigation, the SEC interviewed three persons who had proffer agreements with the SEC and United States Attorney. In a subsequent SEC enforcement action, a defendant served interrogatories asking the SEC to identify the factual information disclosed in those proffer sessions. The SEC objected, and the defendant moved to compel. The SEC opposed the motion to compel, arguing that defendant sought information protected by the attorney work product doctrine, had not shown substantial need and unavailability, and had not deposed any of the witnesses, despite their identification in Rule 26 disclosures more than a year before. The magistrate judge granted defendant’s motion to compel, and the United States District Court for the Northern District of California confirmed the ruling. SEC v. Sells, No. C 11-4941 CW, 2013 WL 1411247 (N.D. Cal. Apr. 8, 2013).

There had already been an order in the case directing the SEC to answer identical interrogatories about another third-party witness. The SEC had acknowledged it was relying upon that witness’s statements as a basis for the allegations against the same defendant. The court rejected the SEC’s attorney work product objection because the interrogatories sought factual information, and not an attorney’s strategies or mental impressions. The court relied on an earlier decision, In re Convergent Technologies, 122 F.R.D. 555, 558 (N.D. Cal. 1988), in which the court reiterated the well-established principle that “the law does not permit counsel or litigants to use the work product doctrine to hide the facts themselves.” Nor does it shield from discovery the identities of the persons from whom an attorney learned such facts or the existence or non-existence of documents.

An interesting side note about the three witnesses is that their interviews were not recorded, unlike the other fourteen witnesses in this case. Because of this, any inconsistencies, disclosures of motives for their proffers or other potential impeachment evidence were not “otherwise available” to defense counsel. The SEC also advised the court that the three witnesses might testify at trial.

The lesson of this case is not to underestimate the value to defendants in SEC enforcement proceedings of specific, simply stated interrogatories. The SEC was not ordered to turn over its attorneys’ notes. Instead, it was ordered to answer interrogatories. This case also reminds lawyers not to give up, even when your adversary is far more powerful. In the words of the magistrate judge who handled “every possible objection” that the SEC had asserted to avoid answering, “Sunshine is ordinarily the best medicine for a party that is keeping discoverable information hidden in the dark. But where, as here, one party is repeatedly withholding relevant information, stronger medicine may be required.”

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Recent Social Media Developments Impacting Employers

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NLRB: Latest Decisions Addressing Social Media Policies and Activities

Within the past several months, the National Labor Relations Board (“NLRB“) has issued four precedent-setting opinions addressing the legality of an employer’s use of social media as a basis for taking adverse employment action. These decisions apply to both unionized and non-unionized workforces.

The key issue in each of these cases was whether the employer’s actions compromised the right of employees to engage in “protected concerted activities” for the purpose of their “mutual aid and protection.” However, as noted in a prior alert, recent federal case law could void all NLRB decisions dating back to January 4, 2012 (including those discussed below). Until there is clarity the NLRB decisions continue to be significant in shaping social media use, policy and practice.

On April 19, 2013, the NLRB, in Design Technology Group, LLC, found that an employee’s Facebook posts that criticized a manager’s handling of employee concerns were a “classic connected protected activity” under the National Labor Relations Act (“the Act”).

In that case, workers had approached their manager about closing the store they worked in at 7 PM instead of 8 PM, because of safety concerns. The manager advised that she would discuss those concerns with corporate officials, but the issue was never resolved. Subsequently, two employees posted messages on Facebook that were critical of how the manager handled that issue. Another employee showed the manager those posts and six days later, both employees who made the critical Facebook posts were fired by the manager.

The NLRB determined that the Facebook posts were part of the employees’ efforts to convince their employer to close the store earlier in the evening, based on their concerns about working late in an unsafe neighborhood. The NLRB found that those posts were protected under the Act and that the employees’ terminations constituted unfair labor practices.

Design Technology comes on the heels of three other NLRB social media rulings issued late last year.

In Hispanic United of Buffalo (December 14, 2012), the NLRB held that the termination of five employees for violating an employer’s policies on the basis of their social media activity was unlawful. In that case, five employees posted comments on Facebook that were critical of a co-worker who was scheduled to meet with and complain to management about their work performance. The employer terminated the five employees for “bullying and harassing” the co-worker in violation of its policies.

Hispanics United of Buffalo applied settled NLRB law regarding oral communications among co-workers to the social media context. Under NLRB precedent, employees’ comments regarding the terms and conditions of their employment are protected if their comments are “concerted” — meaning they are “‘engaged in, with or on the authority of other employees,” not only by “one employee on behalf of himself.” Finding the actions of these employees to be protected, the NLRB set a relatively low threshold for interpreting social media activity as protected concerted activity under the Act.

The Hispanics United decision is especially controversial because it may conflict with an employer’s competing obligation under federal and state discrimination laws to prevent workplace harassment. And, the decision may ultimately be in conflict with workplace anti-bullying laws in those states where such legislation is being actively considered. In Karl Knauz Motors, Inc. (September 28, 2012), the NLRB ordered another employer to rescind its social media policy. In that case, the employer terminated the employee for multiple reasons, including violation of the employer’s “Courtesy” rule requiring employees to be “courteous, polite and friendly” to customers, vendors, suppliers and fellow employees and not to use “language which injures the image or reputation of the Dealership.”

The NLRB held that the “Courtesy” rule violated the NLRA because employees could “reasonably construe its broad prohibition against ‘disrespectful’ conduct and ‘language’ which injures the image or reputation of the Dealership as encompassing Section 7 activity.” However, the NLRB upheld the employee’s termination, finding it was not motivated by protected concerted activity, but rather was solely based on the employee’s Facebook postings that did not relate to the terms and conditions of his or any other employee’s employment. The NLRB did not address whether other posts would be protected by the Act.

In Costco Wholesale Corp. (September 7, 2012), the NLRB ruled that an employer’s overbroad social media policy violated the National Labor Relations Act because it prohibited employees from posting statements “that damage the Company, defame any individual or damage any person’s reputation or violate the policies outlined in the Costco Employee Agreement.” The NLRB ordered Costco to rescind the policy based on its finding that the policy inhibited employees from engaging in protected concerted activity.

NJ Legislative Update: Proposed Law Seeks to Protect Employee and Job Applicant Passwords

A-2878, a bill that prohibits employers from requiring, or requesting, a current or prospective employee to reveal, as a condition of employment, his or her user name, password or other means of accessing the employee’s personal social media account, has passed both houses of the NJ Legislature and is awaiting further action by Governor Chris Christie. While it is not clear as of this writing whether Governor Christie will sign or veto this bill, the implications to employers of this potential new law are far reaching.

If enacted, this bill would prohibit employers from even asking an employee or prospective employee whether he or she has a profile on a social media site. In addition, the bill would prohibit employers from requiring prospective employees to waive or limit any protection granted to them under the law as a condition of applying for or receiving an offer of employment. It provides for a $1,000 civil penalty for the law’s first violation and $2,500 for each subsequent violation. If Governor Christie signs this bill into law, New Jersey would join other states that have enacted legislation preventing employers from requesting social media access information, including Arkansas, California, Delaware, Illinois, and Michigan, though it would be the first state to prevent employers from inquiring if employees or applicants have a social media account.

Notably, the bill does not prevent employers from performing their own online search to determine if a prospective or current employee is on a social media site. Accordingly, if a social media account is publically available, an employer would not run afoul of this proposed law by independently viewing an employee’s or prospective employee’s social media account. This type of activity could have other potential pitfalls associated with it however, such as learning protected class information about applicants.

We will continue to monitor the signing status of this bill.

What These Decisions and the Prospective NJ Statute Mean to Employers

In light of the foregoing, we recommend the following:

  • Employers should review and consider revising social media polices and hiring practices to address the NLRB decisions, the new NJ legislation, if enacted, and EEO issues associated with searches on applicants.
  • With respect to policies, employers should ensure that prohibitions placed on employees’ communications do not prohibit employees’ rights to engage in protected concerted activity.
  • Employers should continue to exercise caution when disciplining or terminating any employee based on his/her social media activities and should also consider training its managers in this area so that they do not inadvertently run afoul of these laws.
  • It is important to consult with counsel to consider whether an employee’s comments or posts would be deemed to be protected concerted activity under the Act before any disciplinary action is taken by the employer based on those comments or posts.
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Where Do Your Interests Lie Under Chapter 15 of the Bankruptcy Code?

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Determining a foreign debtor’s “center of main interests” and its effect on creditors’ rights

When doing business with a foreign company, it is important to identify the company’s “center of main interests” (“COMI”) as creditors may find themselves bound by the laws of the COMI locale. If a company initiates insolvency proceedings outside the U.S., it must petition a U.S. court under Chapter 15 of the Bankruptcy Code for recognition of the foreign proceeding. If the foreign proceeding is found to be a “foreign main proceeding” (i.e., a proceeding pending where the debtor has its COMI), Chapter 15 provides certain automatic, nondiscretionary relief, including an automatic stay of all proceedings against the debtor in the U.S. Therefore, when faced with a foreign insolvency proceeding, U.S. creditors’ rights will often be determined in the jurisdiction where the debtor’s COMI is located. However, despite its significance, COMI is left undefined by the statute, which prompted the Second Circuit Court of Appeals in Morning Mist Holdings Ltd. v. Krys, 2013 U.S. App. LEXIS 7608 (2nd Cir. April 16, 2013) to determine the relevant factors for locating a COMI and the appropriate time frame to consider those factors.

In Morning Mist, Miguel Lomeli and Morning Mist Holdings Limited (collectively, “Morning Mist”) filed a derivative action in New York state court against Fairfield Sentry Limited (the “Debtor”). The Debtor was one of Bernie Madoff’s largest “feeder funds,” having invested over $7 billion in the scheme. Shortly after the commencement of the derivative action, the Debtor initiated liquidation proceedings in the British Virgin Islands (the “BVI”). Then, in accordance with Chapter 15 of the Bankruptcy Code, the Debtor petitioned the U.S. Bankruptcy Court in the Southern District of New York for recognition of the BVI liquidation proceeding. The bankruptcy court granted the Chapter 15 petition, recognizing the BVI liquidation as a “foreign main proceeding” and imposing an automatic stay on all proceedings against the Debtor in the U.S., including the derivative action. The district court upheld the bankruptcy court’s decision, and Morning Mist appealed to the Second Circuit, arguing that the lower courts improperly found the BVIs to be the Debtor’s COMI.

To determine the Debtor’s COMI, the Second Circuit examined which factors should be considered and over what time period. Tackling the temporal element first, the Court concluded that the Chapter 15 petition filing date is the relevant review period, subject to an inquiry into whether the process has been manipulated. To offset a debtor’s ability to manipulate its COMI, a court may also review the period between the initiation of the foreign liquidation proceeding and the filing of the Chapter 15 petition. The Court squarely rejected Morning Mist’s suggestion that courts must consider a debtor’s entire operational history.

As for the appropriate factors to consider in locating a COMI, the Second Circuit held that any relevant activities, including liquidation activities and administrative functions, may be considered in a COMI analysis. Elaborating, the Court held that Chapter 15 creates a rebuttable presumption that the country where the debtor has its registered office will be its COMI, but recognized that courts have focused on a variety of other factors as well, including the location of the debtor’s headquarters, the location of those who actually manage the debtor, the location of the debtor’s primary assets, the location of the majority of the debtor’s creditors or the majority of the creditors who would be affected by the case, and/or the jurisdiction whose law would apply to most disputes. However, the Second Circuit emphasized that consideration of these factors is neither required nor dispositive.

Finally, Morning Mist argued that Chapter 15’s public policy exception (“Nothing in this chapter prevents the court from refusing to take an action governed by this chapter if the action would be manifestly contrary to the public policy of the United States.”) applied because the BVI proceedings were confidential and therefore “cloaked in secrecy.” The Second Circuit quickly dismissed this argument explaining that the public policy exception should be read restrictively and invoked only under exceptional circumstances concerning matters of fundamental importance for the enacting State. Recognizing that court pleadings can be sealed in U.S. cases, including bankruptcy cases, the Second Circuit found that the confidentiality of the BVI bankruptcy proceedings did not offend U.S. public policy.

The Morning Mist case adds some clarity to a significant issue in cross border insolvencies by highlighting the importance of understanding the internal operations and structure of foreign companies—factors that could affect the ability of U.S. creditors to seek redress in U.S. courts.

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Top Five Traps for the Unwary in Spin-Offs

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A wave of corporate breakups has swept through the United States over the last few years as investors have taken notice of the fact that smaller companies focused on a single business tend to outperform their more diversified peers.  A primary vehicle for these breakups has been the spin-off transaction, in which a publicly traded parent company distributes the shares of the spin-off company (spinco) to its own shareholders, creating a new, independent publicly traded entity.  The New York Times, citing Dealogic, reported that there were 93 spin-off transactions worth $128 billion in 2011, and that 2012 kept pace with 85 spin-off transactions worth $109 billion.  The rationale for a spin-off often is to unlock the value in a business or division that is trapped in a larger corporate bureaucracy.  Conglomerates tend to spread capital across all of their divisions rather than focusing on the individual opportunities within each business that are the most promising.  Holding company structures also can make decision-making more cumbersome and equity incentives less incentivizing for division management who feel as though their hard work is being diluted by the underperformance of other divisions or businesses.

Spin-offs, however, are complicated transactions that require a great deal of advance planning.  In many cases, an announcement that a parent company is considering the spin-off of one of its businesses is actually the start of a “dual-track” process wherein the parent company considers and plans for a spin-off while also remaining open to potential bids from third parties to acquire the business.  In even more complicated cases, a parent company agrees to sell a business to an acquirer in connection with a spin-off transaction.

The vast majority of spin-off transactions are designed to qualify under the rules of the Internal Revenue Code as “tax free” to the parent company and the shareholders who receive the spinco stock.

With this in mind, any company considering spinning off a division or business should keep in mind the following five potential traps.

1.  Tax-Free Qualification – Legitimate Business Purpose 

The spin-off must satisfy a legitimate business purpose in order to qualify under both the tax-free rules of the Internal Revenue Code and the Securities Act of 1933.  The tax authorities require that the spin-off be motivated in whole or in substantial part by one or more legitimate corporate business purposes in order to ensure that the purpose of the transaction is not simply “tax avoidance.”  The business purpose requirement is one of many requirements under the tax laws to qualify for a tax-free spin-off.  Because the costs of triggering tax in a spin-off transaction often are very high, most parent companies obtain a legal opinion from outside counsel and obtain a ruling from the Internal Revenue Service as a condition to completing a spin-off transaction.  As discussed in relation to trap number five below, a legitimate business purpose for the spin-off also is required under the securities laws in order for the distribution of the spinco stock to not be treated as a “sale” of securities by the parent company or the spinco requiring Securities Act of 1933 registration and the strict liability standard of care that comes with such a registration.  See the article entitled, “Five Key Tax Considerations for Spin-Off Transactions” for a more in depth discussion of tax issues raised in spin-offs.

2.  Separation of Assets and Liabilities

Before a business or a division can be spun off, both its assets and its liabilities must be separated.  Large companies with long operating histories often find that the process of separating out the spinco business is not straightforward, because the legal entities that house the business might also house other businesses and divisions that share assets, services, products, employees, vendors and customers with the spinco business.  The pre-spin separation transactions should avoid triggering contractual defaults and remedies under commercial agreements, financing agreements, intellectual property licensing agreements, collective bargaining agreements, employment contracts, benefit plans, etc.  Often the spinco and the parent company or another legacy business must enter into complex sharing or licensing agreements or joint ventures relating to valuable intellectual property, such as trade names, trademarks or patents, as well as employee matters.  See the article entitled “Trademark, Domain Name and Other IP Considerations for Spin-Offs” for a more in depth discussion of IP issues raised in spin-offs and see the article entitled, “Employee Benefit Issues in a Spin-Off” for a more in depth discussion of employee benefit issues raised in spin-offs.

The sharing of liabilities is often the most complicated endeavour because of the slew of legal obligations that are triggered.  In allocating liabilities to the spinco, the parent company must evaluate the impact such allocation will have on the solvency of the parent and the spinco.  Parent company directors can face personal liability under state corporate law for making an unlawful dividend because the company lacked sufficient capital to make such a dividend or for rendering the parent company insolvent by distributing out the spinco business, and the parent company itself can face claims of constructive fraudulent conveyance—i.e., the parent company received less than equivalent value, and either the parent or spinco was rendered insolvent (assets do not exceed liabilities), the parent and/or spinco was left with unreasonably small capital to run its respective business, or the parent or spinco was left with debts that exceed its respective ability to pay those debts as they become due.  Parent company directors can rely on legal experts and financial advisors to assist them in satisfying their duty of care.  A solvency opinion from a nationally recognized provider of such opinions is often a condition to the consummation of a spin-off transaction.  Such an opinion may be helpful to the directors of the parent company and spinco for a variety of reasons: (i) it can help to show that the directors properly exercised their duty of care in determining to enter into the spin-off transaction; (ii) it can assist in rebutting a fraudulent conveyance claim; and (iii) it can assist in rebutting a claim that the company had insufficient capital to make such a dividend.

3.  Transition Services

While one of the key rationales for spinning off a business or division is to allow the enterprise to operate independently, the reality in most cases is that, at least during the first year or so post-spin, a spinco must rely on its former parent company to provide many key administrative and operational services during the spinco’s transition period to a self-sufficient, independent public company.  During the pre-spin planning period, companies should consider, among other things, which transition services will be required, how they will be provided, for how long and under what pricing terms.  Typical transition services include legal, internal auditing, logistics, procurement, quality assurance, distribution and marketing.  These arrangements often have durations that last between six and 24 months.  Many parent companies agree to provide such transition services purely on a cost basis, while others will use a “cost plus” or “market” rate.

4.  Spinco Management and Board of Directors

Again, while independence from the former parent company is a key benefit for most spincos, having corporate managers with institutional knowledge and history with the enterprise is an important factor in assisting the spinco to successfully transition to independence.  Many spinco management teams include members who have served as executives at the former parent company.  In many cases, these are managers who served as division leaders who reported to the parent company CEO or CFO and are now ready to step into executive roles on their own.  It is also common for between one and three members of the parent company board to agree to take seats on the spinco board to provide the new public company board with a source of the company’s history and culture to ensure a smooth transition.  However, because of the competing fiduciary duties that these directors will face if they hold seats on both the parent and spinco boards, it is important for the spinco board to also have a majority of truly independent directors.  Spinco directors who are former executive officers of the parent also must be aware that the stock exchanges and influential shareholder services firms such as Institutional Shareholder Services will not view them as being truly independent from a corporate governance standpoint for some time after the completion of the spin-off.  This will inhibit their ability to serve on key board committees of the spinco.

5.  Preparation of the Disclosure 

Under the U.S. Securities and Exchange Commission’s rules, a spin-off of the shares of a subsidiary to a parent company’s shareholders does not involve the sale of securities by either the parent company or the subsidiary as long as the following conditions are met: (i) the parent company does not provide consideration for the spun-off shares; (ii) the spin-off is pro rata to the parent company shareholders; (iii) the parent company provides adequate information about the spin-off and the subsidiary to its shareholders and to the trading markets; and (iv) the parent has a valid business purpose for the spin-off.

To meet the adequate public information requirement, parent companies are required to prepare and disseminate detailed “information statements” that effectively look like initial public offering registration statements for the spinco.  These information statements are filed with the spinco’s Form 10 registration statement, which is required in order to register the spinco’s shares under the Securities Exchange Act of 1934 and to permit listing of such shares on a national securities exchange.  The preparation of the spinco information statement can take up to three or four months and requires a great deal of effort and cooperation among the lawyers, the business leaders, the finance department, the human resources/employee benefits department and the auditors.  In addition, under New York law, a spin-off of all or substantially all of a company’s assets may require a vote of such company’s shareholders, while under Delaware law, such a requirement is much less likely.

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Natural Gas Companies Settle Antitrust Suit Stemming from Joint Bidding

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On Monday, April 22, 2013, after rejecting the initial settlement agreement, Judge Richard Matsch (D. Colo.) approved a revised settlement of a suit brought by the U.S. Department of Justice (DOJ) against two energy companies for conspiring not to compete for mineral rights leases.  Gunnison Energy Corp. (GEC) and SG Interests I Ltd. and SG Interests VII Ltd. (collectively “SGI”) will each pay a fine of $275,000 to the DOJ to settle allegations of agreeing not to bid against each other in violation of antitrust law for natural gas leases on government land in western Colorado.  These fines are in addition to those related to alleged False Claims Act violations, for which SGI and GEC paid government fines of $206,250 and $245,000 respectively.  The new settlement is twice the amount of the fines in the original settlement.

McDermott Will & Emery wrote an article in February 2012 analyzing the DOJ’s initial complaint against the parties, and the competitive implications of joint bidding.  At the time, the parties had agreed to pay a total of $550,000 in fines.  The court rejected the settlement in December 2012 finding that it was not in the public interest.  “There is no basis for saying that the approval of these settlements would act as a deterrence to these defendants and others in the industry, particularly as GEC considers ‘joint bidding’ to be common in the industry.”  Further, the settlement amount was “nothing more than the nuisance value of [the] litigation.”  Additionally, as reflected in the newly approved deal, the court wanted the alleged Sherman Act violations and False Claims Act violations settled separately, with a payment for the Sherman Act claims separate from, and in addition to, any amount due under the False Claims Act.  At heart, it appears Judge Matsch wanted any settlement he approved to be meaningful enough to have a deterrent effect on future agreements.

This was the DOJ’s first challenge to an anti-competitive bidding agreement for mineral rights leases, but it is just one of the recent cases in which joint bidding activities have become the focus of antitrust scrutiny.  In Summer 2012, the DOJ opened an investigation into Chesapeake Energy’s acquisition of oil and gas properties in Michigan and the possibility that Chesapeake conspired with Encana Corp. to allocate bids on those properties.  In 2006, the DOJ began investigating the joint bidding practices of private equity firms in connection with leveraged buyouts.  That investigation led to class action suits against private equity firms.  One of those suits survived a motion for summary judgment last month.

It is important to note that the DOJ is paying attention to joint bidding practices and taking action.  As noted in the SGI/GEC matter, while joint bidding may in fact be common practice in the energy field, it is not necessarily lawful.  Each arrangement should be evaluated for potential anticompetitive effects.

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