The wisdom of the crowd, or something else maybe? Susan Mangiero has a wonderful post on something that I probably should have known existed, but did not: an internet site where lawyers and other voyeurs vote on the outcome of pending Supreme Court cases. As Susan notes, the site includes a prediction on a key ERISA case, Fifth Third Bancorp v. Dudenhoeffer, pending before the Supreme Court. It will be interesting to see whether the wisdom of the crowd can accurately predict the outcome of that case.

But there might be a more interesting question to explore, which stems from William Buckley’s famous line that he would rather be governed by the first 100 people in the phone book than the faculty of Harvard. If the Supreme Court rules in a case like Fifth Third Bancorp to the opposite of that predicted in advance by the crowd, the more interesting question may not concern the accuracy of the crowd’s prediction, but instead who reached the better result: the crowd or the Court? I will tell you what. After the Court issues its decision in Fifth Third Bancorp, if the crowd came down on the other side, I will write a blog post on which one I thought was right: the stand-in for the faculty of Harvard (i.e., the sitting justices) or the stand-in for the first hundred folks in the phone book (i.e. the voting public).
 

Well, how can I not comment on this, given the focus of both this blog and my practice? The Second Circuit was just presented with the question of whether an insurer has to provide a defense to a company and its officer, under the employee benefits liability portion of a policy, for an ERISA claim related to a retaliatory discharge/reclassification claim brought by an employee of the insured. The employee claimed, in essence, that she had been retaliated against for complaining of sexual harassment.

Now, coverage by insurers for complaints alleging sexual harassment or similar claims under standard CGL policies have their own complicated backstory, revolving around the question of whether, no matter what is actually alleged in the complaint by the employee, the acts in question are intentional, dishonest or otherwise harmful in a manner that precludes coverage. Some of this history goes back to at least the 1980s, and, having been involved with a client’s rollout of the coverage, it played a role to some degree in the creation and eventual acceptance of EPLI – or employment practices liability insurance – coverage.

The insurer here took the same tack with regard to the ERISA claim at issue, and, given the history noted above and the nature of the claim, understandably so. The issue, though, as the Second Circuit found, is that the ERISA claim itself did not require any type of intentional misconduct, which is basically true across the board with most types of ERISA claims, and held that the insurer therefore could not deny coverage for the ERISA claim based on an exclusion for dishonest or malicious acts. The Court found that the ERISA claim could, in essence, simply be a claim for negligent conduct – at least as pled in the complaint – and thus the insurer could not deny a defense to the insured based on such an exclusion, which would not reach a claim of negligence.

There are a number of lessons here for both insured companies (and their officers) who are sued in ERISA cases and for their insurers. First, don’t assume that principles related to coverage of employment related claims will transfer to an ERISA claim; they may very well not do so. Second, you have to pay close attention to the true nature of an ERISA claim (including its key legal elements) before deciding whether or not there is coverage, and not simply to the surrounding factual allegations relating to the insured’s conduct (which in most harassment and similar claims are usually pretty egregious, at least as alleged by the plaintiff).

Anyway, here is the decision, which is Euchner-USA, Inc. v. Hartford Casualty Insurance Company, and here is an article providing a nice summary, for those of you who don’t want to read the full decision.
 

Riddle me this, Riddler: what does the design of a center entrance colonial house have to do with complex computer software?

A lot, it turns out, if you are interested in the borders that should attach to IP rights so as to best balance the need to encourage the creation of new products against the risk of stifling innovation. Anytime one renders a design or technical development exclusive to one owner, such as when an inventor obtains exclusivity by means of a patent or an author obtains it by means of holding the copyright, we encourage the original owner to exploit that product, but preclude others from doing the same. When we do that, it is important to create a structure that gives enough protection to the original inventor to motivate people to create new products, but not so much protection that it discourages others from creating related advancements; if we get that balance wrong, we impede the technological advancement that is the original purpose of granting exclusivity in the first place.

I was thinking of this today because of an odd correlation that popped up in my reading. I have litigated copyright infringement cases both over plans for commercial architecture and over very complex computer code, each time defending someone who had created and sold a new product but was charged with allegedly having infringed upon the prior copyright protected work of a prior author (in one case another architect, in the other a different software company). While I effectively won both cases – to the extent that very favorable settlements count as wins in a world in which 99% of cases never see a trial – the more interesting point is that I prevailed on both cases on essentially the same theory, which was that the similarities between my client’s work (whether the design for the building or the code for the software) and that of the holder of the copyright on the prior work concerned aspects of the prior author’s work that copyright law does not protect. Copyright law, through various means – such as the merger doctrine and others – does not protect common or universal design elements, nor does it protect substance that, in essence, cannot be designed around, such as certain problems in software coding that can only be solved in very limited ways. Copyright law allows later-in-time creators to make use of those types of elements in their work (whether that be the design of a house or the design of high value software) even if they were also used in previous, otherwise copyrightable work. In this way, copyright law successfully draws the line between encouraging innovation through the grant of exclusive ownership and corresponding rights of exploitation, on the one hand, and the risk, on the other, of stifling innovation through that grant of exclusivity; these doctrines keep open for other innovators the use of certain elements, whether lines of software code or aspects of building design or other forms of expression, without which further advancement of the art in question is not possible.

This is one of the great, somewhat hidden achievements of American copyright law, one that is worth bearing in mind, and perhaps emulating to some extent, in the world of patent law, as we try to come to grips with the patent troll phenomenon and the runaway nature of patent infringement litigation in this day and age. The trick to solving those problems in that area of the law right now is figuring out how to find that sweet spot – the one that copyright law has, to a large extent, already found – between granting enough exclusivity to drive innovation but not so much that it simply generates excessive patent infringement litigation and gives rise to mills full of patent trolls.

So the answer to the riddle that commenced this discourse lies in this excellent article on the manner in which doctrines limiting the scope of copyright protection just defeated an architect’s claim of copyright infringement based on the architect’s use of certain historical and consumer driven elements in a design for a classic New England colonial home. These same doctrines were, as I mentioned before, the basis for my prior representations of both architects and computer software programmers, with the doctrines generating good results in both circumstances. I liked how clearly the article articulated the use and role of these doctrines in the context of home design, and was immediately struck by the fact that you could replace the references to architect and houses with references to programmers and software and have an equally accurate article. The same copyright doctrines, in my experience, control the outcome of both litigation over building plans and over computer software. That consistency across the board is one of the things that makes American copyright law great, both intellectually and as a practitioner, and is what makes it possible for competitors to plan ahead and understand when they can, and when they cannot, touch on prior work.
 

Just what is it about Chicago and ESOPs? Is it something in the water, redolent of gangsters and Al Capone? First, there was the Sam Zell/Tribune ESOP transaction, which, as I wrote before, was such a complex transaction that, building it around the ownership interests of the employees could not help but raise fiduciary flags, and eventually resulted in a substantial settlement of a breach of fiduciary duty lawsuit. Now, there is Fish v. GreatBanc, decided last month by the Seventh Circuit, which involved an ESOP transaction that, not only went south, but went south after the financial advisor to the independent trustee evaluating the proposed transaction on behalf of the participants called it “the most aggressive deal structure in the history of ESOPs.”

I have said it before and I will say it again (and I am sure I will say it many times after today too): ESOPs are financial stakes of employees, not mere financial tools for private company owners. Those who forget that lesson are, if not doomed to repeat the past lessons of earlier fiduciaries, at least doomed to sitting at the defendants’ table in a courtroom.

Leaving that lesson aside, the decision itself is instructive on two major points of ERISA litigation. The first is the proper interpretation and application of ERISA’s fiduciary duty statute of limitations to ESOP disputes and the second is as an excellent overview of the rules governing fiduciaries with regard to private company ESOPs. The opinion itself is so informative and, happily, well-written that I strongly recommend reading it, despite its relative length. For those who would prefer the Cliff Notes, Mark Thomas and Robert Shaw of Williams Mullen provide an excellent summary in this article from last week.
 

One recurring problem in ERISA litigation is the tendency of courts to address and decide novel and complex issues on motions to dismiss, rather than after allowing full development of the factual record. New and original breach of fiduciary duty theories can look entirely different when considered by courts on the full record than they appear when analyzed solely on the pleadings, at the motion to dismiss stage. The excessive fee cases presented this dynamic perfectly, with early decisions, such as Hecker v. Deere, that were resolved on motions to dismiss appearing, in hindsight, to be incorrect in comparison to later decisions, either made after a full factual record was developed, such as in Tibble, or on motions to dismiss after years of litigation had established a broader and more general understanding of the issues raised by those types of claims. One of the underlying themes of my article, “Retreat from the High Water Mark,” was that the early decision on the excessive fee theory in Hecker was flawed, precisely because the court did not have before it a detailed, factual understanding of the nature of the claim and of the fee structure. As a result, the court, by deciding such a novel theory at the motion to dismiss stage, had to assume facts about the mutual fund marketplace and 401(k) plans that were not necessarily true.

My biggest criticism of the Moench presumption, more than its effort to strike a balance between fiduciary obligations under ERISA and securities law obligations imposed on public companies and their officers, is the creation and application of the presumption at the motion to dismiss stage, rather than waiting to see what the evidence shows as to whether corporate insiders underserved the interests of participants when serving as the fiduciary for company stock plans. Just as the history of excessive fee litigation shows, and as I discussed in “Retreat from the High Water Mark,” it is much easier to more accurately determine whether fiduciary obligations are breached when the facts are all before the court, rather than by means of the assumptions, surmise and allegations that can animate decision making in such complex and novel areas at the motion to dismiss stage. The Moench presumption effectively precludes stock drop claims under ERISA, and effectively establishes the governing rule of law for fiduciaries of employer stock plans. The rule and its application may be right, or it may be wrong, but it would be a lot easier to determine that by considering the obligations as fiduciaries of corporate insiders in light of the true facts of their conduct, which the application of the presumption at the motion to dismiss stage – and in fact even its creation without and before any court has ever fully developed and analyzed the facts of such a claim – precludes.

I was thinking of this because Mitchell Shames, who is now an independent fiduciary at Harrison Fiduciary and before that was the long time general counsel for State Street Global Advisors (including during the time that the First Circuit blessed their structure for handling exactly these types of conflicts, in Bunch v. W.R. Grace), has pointed out that corporate insiders serving as fiduciaries in this context do actually face conflicts, and not just in theory. Mitchell has written an excellent post detailing, from firsthand knowledge, the conflicts faced by corporate insiders who are tasked with making investment decisions of this kind for plan participants.

Mitchell writes that when a CEO appoints insiders to make these types of decisions:

everyone takes notice. While CEO lieutenants may be adept at various technical and managerial skills, often, intense loyalty to the CEO is a common attribute. (Dissidents typically do not rise to the C-suite).

This loyalty often includes a precise understanding of the CEO’s goals and priorities with respect to corporate strategy and is often rewarded by promotions, committee appointments, raises, bonuses, stock options and other assorted perks. The senior managers are properly incentivized to advance the vision of the CEO.

Upon assuming a spot on a fiduciary committee, however, these same senior managers are required to shed the very skills that contributed to their corporate rise. When making decisions on behalf of the plans, they are supposed to set aside any allegiance to the CEO, forget about the stock options they may have patiently accumulated over the years, and make decisions irrespective of an impact on corporate earnings.

The potential for conflicts of interest are real; they are not the abstract musings of lawyers and academics. Many transactions squarely put the corporation and the plan on opposite sides, with competing goals.

I was struck, in regards to my concerns about the limitations imposed by “motion to dismiss decision making” and their relationship to the Moench presumption itself, by Mitch’s conclusion, in which he asked: "So, can these corporate offices so deftly switch hats as ERISA lawyers assume? Are fiduciary committee members so professional, so trustworthy, so ethical, that they are immune to the human impulses which gave rise to [the principle that]: ‘No one can serve two masters’?"

One wonders whether the Moench presumption would seem to fairly balance the needs of sponsors and participants if it was considered only after a full factual record was created that might show this type of problem with conflicts faced by the fiduciaries. Would the rule seem to make as much sense in that light as it does when a court is faced with only the allegations of a complaint? Would a court reach a different conclusion than at the motion to dismiss stage on this issue if the judge was considering this type of claim after hearing a senior corporate officer who had served as the fiduciary testify as to his understanding of his obligations, conflicts, and the need to balance them?

We can’t know this definitively. What we do know, though, is that it would certainly be a lot better to decide what the legal rule governing stock drop cases should be by first learning all the relevant facts, and then creating the rule, rather than by doing it in reverse (which is essentially where we are right now, with the Moench presumption applied by courts at the pleading stage).
 

I am quoted extensively in this week’s Massachusetts Lawyers Weekly in the article “Businesses increasingly assert patents for strategic reasons,” which discusses companies bringing patent infringement claims against their competitors as a business tactic, and whether recent Supreme Court decisions making it theoretically easier to obtain an award of attorney’s fees will reduce the number of such suits. It’s a well done article, particularly because it is not just based on the anecdotal evidence provided by lawyers, like me, but also on existing hard data that supports the thesis that such claims are on the rise. It is definitely worth a read if you have an interest in this phenomenon.

Susan Mangiero, one of my favorite experts on financial deals and transactions, was kind enough to post on my presentation to the Boston Regional Office of the Department of Labor, where I spoke on common mistakes by plan sponsors. I spoke as part of a day long training program that Susan presented at as well, even if she was too modest to mention it in her post, and I was very pleased and impressed by the audience, their participation and their questions. I have written before that I generally hold a high opinion of the Department’s staff, and the audience participation at the training session did nothing to lessen that opinion. Both in my primary talk, on plan sponsor mistakes, and during a subsequent panel that I participated in on litigation issues, fee disputes, and fiduciary governance of plans, the audience raised great points and asked pointed questions. One member of the audience shared with me an additional important mistake plan sponsors make, that I had not previously thought of as a significant problem, primarily because it is not one that arises in litigation but is instead more of a day to day compliance issue. There is nothing better as a speaker than having walked away having learned something from the audience that you did not know the day before.

Susan’s reference to the “Golf Course RFP,” which actually is a slide in my PowerPoint deck, concerns one of my chief cautions to smaller and mid-size companies, where benefit plans, particularly 401(k)/mutual fund programs, may be chosen by a company owner simply based on the vendors that are already in the owner’s social circle, such as, yes, those at his or her country club. If it turns out down the road that employees were paying too much for or getting too little from the plan, in comparison to what could have been located in the marketplace as a whole at that time, picking a plan’s vendor in that manner will most certainly come back to bite the company owner. Indeed, from a trial lawyer’s perspective, such a selection process would, in a fiduciary duty lawsuit over that plan, be a smoking gun used to show poor processes and a corresponding breach of a fiduciary duty. At the end of the day, RFPs aren’t normally conducted on a golf course, and this is one area of business life where it is especially important to remember that.
 

One should never underestimate the fundamental role that procedural and related tactical issues play in a case, and how they impact the very question of whether a plaintiff will ever be able to have a judge or jury rule on the merits of a case. Procedural barriers to prosecuting particular claims can be the end of a case, without anyone ever hearing the merits of the dispute, unless a plaintiff can hurdle them. In a sense, this phenomenon means that a plaintiff often has to prove two parts, broadly speaking, of a case to win: first the procedural and tactical niceties needed to even get the case in front of a fact finder, and then the actual merits. In what is sort of a mirror image, a defendant can prevail in a case simply by winning either one of those parts of the case.

This phenomenon means that there are procedural opportunities for a defendant to prevail without ever proving the merits of the defendant’s case, but, interestingly enough, this does not exist in reverse: there really is no such thing as a procedural advantage that might allow a plaintiff to prevail without ever proving the merits of the case (other than an outright default by a defendant, but that really doesn’t happen unless the defendant is judgment proof which, for a plaintiff, is the same thing as losing).

Nowhere is this phenomenon clearer than in class action litigation, in which lawyers and courts have taken to focusing on the procedural requirements for forming a class, in ways that to some extent tend to devalue, by comparison, the merits (or lack thereof, as the case may be) of what the putative class representatives and the class itself may have to say. This approach to class action litigation essentially gives pride of place to the propriety of forming a class, over the merits of the case. If the plaintiffs cannot get past this procedural hurdle, they will never get the merits of their case heard; simultaneously, if defendants can ensure that plaintiffs don’t get past that hurdle, then they effectively win without anyone ever getting to the merits of the claims.

Commonality – which is the requirement that the class members have some central part of their claims against the defendant in common – is the central focus of this aspect of class action litigation, but it has a less than great track record in precluding certification of classes in ERISA cases. There is a clear and interesting reason for this, but it is best approached by the back door, by first explaining how defendants faced with ERISA class actions attack commonality, and seek to use the requirement of commonality to preclude certification of a class and thereby end class action litigation before the merits of the action are reached.

As explained in this excellent blog post, there are a number of ways to attack commonality in an ERISA class action, by focusing on what may be different among the members of the proposed class. I like the article a great deal as a handy checklist for where to start with regard to investigating and challenging the existence of commonality – and by extension the propriety of forming a class – in ERISA litigation.

However, in the ERISA context, one should not be fooled into overconfidence by these types of lists or, as well, by the fact that this procedural tactic has been very effective in various types of class action cases. Commonality is simply not that difficult to prove in ERISA litigation, in comparison to other types of proposed class actions, such as wage cases. This is because, in general, breaches of fiduciary duty related to an ERISA plan affect all participants and beneficiaries in the same manner, which renders the ERISA violation at issue common to all members of a proposed class. The only real trick in this regard is for the plaintiffs to make sure they account for any aspects of the breach in question that might render only some participants (for instance, those in the plan during a certain time period) and not others subject to the violation, and to then draw appropriate lines around the makeup of the class so as to laser out any plan participants who were not affected and harmed by the particular conduct in question. Do this, and commonality exists.
 

In the years leading up to the Wall Street collapse of 2008, I spent a fair amount of my time defending smaller tech and similar companies against intellectual property suits, including patent suits and preliminary injunction proceedings, often involving infringement claims that were, in my book, specious at best. Interestingly to me at the time, these were not suits brought by what have since come to be known, quite pejoratively and perhaps sometimes accurately, as patent trolls. Instead, they were brought by larger and more well-funded competitors in the marketplace, in a clear tactical decision to try to drive out smaller rivals by pursuing questionable claims of infringement. These were really just suits brought as business tactics, as the parties moved from competing in the marketplace to competing in the courtroom as well, a phenomenon I once summed up in the phrase “much as war is the continuation of politics by other means, patent litigation is the continuation of a business dispute by other means.” Interestingly, this dropped off substantially, at least among smaller companies, once the Great Recession hit, as companies became a lot more concerned with staying in business than with spending funds to sue competitors as a business tactic.

It’s interesting to note, though, that this has clearly picked up again over the past few years, even among smaller companies and separate from the similar attempts to gain business advantage in the courtroom pursued by large companies, such as Apple and Samsung, who are not so sensitive to the boom/bust cycle in pursuing such tactics. Given that the last time I saw this, the stock market dropped a gazillion points not long afterwards, one might want to ask whether this uptick is a sign of yet another stock market bubble.

But no matter, as that is a topic for another day, and events themselves will establish it one way or the other. Of more interest to me, and the reason I write today, is that, while everyone else is focused on the impact on patent trolls of the Supreme Court’s recent decision in Octane Fitness, LLC v. ICON Health and Fitness, Inc., which makes it easier for a wrongfully accused defendant in a patent action to recover fees from a plaintiff, I am more interested in whether this same new decision will make it a little less likely that a wealthier company with a questionable patent will take to the courts to try to shut down a comparatively less wealthy competitor or, if not shut them down, to at least bog them down in litigation they cannot afford except by shortchanging their business operations. That alone would be the most pro-business result I could imagine from a court known for issuing such decisions.

Under the patent act, attorney’s fees can be awarded in “exceptional cases,” and, as Porter Wright’s Melissa Barnett explained, the Supreme Court has now made it easier to satisfy that standard, holding that:

the term “exceptional” should be construed within its ordinary meaning, which the opinion states means “uncommon,” “rare” or “not ordinary.” (pg. 7). The court went on further to state that an “exceptional” case should be determined on a case-by-case basis and “is simply one that stands out from others with respect to the substantive strength of a party’s litigating position” or “the unreasonable manner in which the case was litigated.” (pg. 7-8). The requirement that patent litigants establish entitlement to fees under §285 by “clear and convincing evidence” also was rejected by the Supreme Court. The court held that “nothing in §285 justified such a high standard of proof,” but rather “demanded a simple discretionary inquiry.” (pg. 11).

To me, with regard to the issue I raised above, the question is whether courts will become more willing to grant attorney’s fees on a regular basis in circumstances where the plaintiff is not a patent troll, but instead a competitor who is pressing a questionable claim simply or predominately as a business tactic. If so, that risk would have to be factored into the cost benefit analysis of any company considering such a strategy, even one that is in the business of manufacturing or selling the product in question and is not a patent troll, and might well lead to less filing of infringement suits of the “patent infringement claim as business tactic” kind.

However, I am concerned that federal trial courts may well read the Supreme Court decision, given the environment in which it was issued – where all the focus is on trolling – as simply license to whack trolls, when a court views a patent infringement suit as nothing more than trolling for licensing fees. Time will tell as to whether it will also be used to reign in the type of cases I am describing here, but I was encouraged in this regard by something that Barnett wrote in her excellent blog post on the Supreme Court decision setting the new standard for awarding attorneys’ fees. She noted the existence in the case of “an email exchange between ICON executives that the suit was brought as a ‘matter of commercial strategy’ ” and, in fact, when you read the Supreme Court opinion, there is substantial documentation to this effect. The impact of this type of evidence on the question of whether to award fees in a case where a competitor uses patent infringement litigation as a business tactic is not fully developed in the Supreme Court opinion, but the reference in the decision to this type of evidence certainly opens the door for much more substantial consideration of this issue by lower courts in future cases.

As one who thinks that the proper place for business competitors to prove the worth of their products is – other than in the case of significant evidence of infringement – the marketplace, not the courtroom, I hope that turns out to be the case.
 

The “stock drop” presumption of Moench, now before the Supreme Court in Fifth Third Bancorp, is best understood as a judicial attempt to balance the sometimes conflicting demands placed on corporate insiders by, on the one hand, the securities laws and, on the other, ERISA, when it comes to employee stock plans in publicly traded companies. It’s not an unreasonable tack to take, even if those perceived conflicts could be easily handled and avoided simply by the use of an outside independent fiduciary, as W.R. Grace did years ago in the situation that became the First Circuit case of Bunch v. W.R. Grace, which I discussed here, rather than using a corporate insider in that role.

The problem though, for those who believe that it is appropriate for the courts to find a way to balance those obligations, is how to get to that result. The terms of the ERISA statute itself don’t easily lend themselves to the creation, justification and imposition of the presumption, leaving the importation of, and reliance upon, doctrines developed under trust law to provide a basis for the creation of the presumption. But what if trust law, properly understood, cannot support the creation of a presumption of that much benefit to plan fiduciaries? Can the presumption stand if that is the case? The extent, nature and degree to which the Supreme Court grapples with these two issues – whether either the terms of the statute or the scope of trust law can support the presumption – will tell a very interesting tale, by illustrating whether the presumption’s status is actually driven by the legal foundation crafted by the statute and trust law or, instead, by an outcome driven need to balance the securities law regime with the dictates of ERISA. If the presumption is found valid, one will need to look closely at whether the Court was able to properly base that conclusion in the historical intricacies of trust law or in the statute’s language. If so, then the presumption can be understood to follow naturally from existing law; if not, then the presumption must be seen, as many have argued it is, as simply a convenient judicial fiction, one not properly founded on either trust law or statutory language, used to balance conflicting legal obligations imposed by distinct statutes.

Into this question rides Professor Peter Weidenbeck, in this absolutely fascinating article, “Trust Variation and ERISA’s ‘Presumption of Prudence’,” in which he details the history of the trust law basis on which the Moench presumption is said to rest, and finds that the trust doctrines relied upon by the courts that have created and applied the presumption do not support the presumption. In a nutshell, Weidenbeck argues "that prevailing state law standards governing trust variation do not impose the extremely restrictive (well-nigh insuperable) barriers that the federal courts following Moench mistakenly assume” and that deciding how to handle stock drop cases requires a more nuanced and comprehensive analysis of statutory history.

You can download his article here, and I highly recommend reading it. Even though it discusses tax issues and trust law, it is very readable, and only 24 pages in any event. At a minimum, the Supreme Court’s eventual opinion in Fifth Third Bancorp will make a lot more sense if you read the article first.