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Supreme Court Changes the Rules on Vertical Price Fixing

As recently as 1977 virtually all “vertical restraints” were per se illegal under the federal antitrust laws. This included “nonprice” restraints, which are agreements between firms operating at different levels than the manufacturer that restrict the conditions under which firms may resell goods. An example might be a restriction on the locations from which a retailer may sell a manufacturer’s product.

Supreme Court precedent also restricted both vertical “maximum” price restrictions (example: “you may not price this product higher than $12/unit”) and vertical “minimum” price restraints (example: “you may not price this produce at less than $10/unit”).

However, over the last 30 years the Supreme Court has, in effect, withdrawn each of these antitrust prohibitions, holding that these restraints must be subject to the “rule of reason” (requiring an economic examination in every case to determine whether the harms outweigh the benefits), rather than the per se doctrine (per se illegal = automatically illegal; no excuse will do).

In 1977 the Supreme Court dropped the per se rule on “nonprice” restraints in the case of Continental T.V., Inc. v. GTE Sylvania, Inc. I had the pleasure (is there an emoticon for sarcasm?) of writing a Law Review Note on that case: Sylvania and Vertical Restraints on Distribution, 19 Boston College Law Rev. 751 (1978).

Twenty years later, in State Oil Co. v. Khan, the second leg of this three-legged stool was removed when the Supreme Court held that maximum vertical price restraints should not be subject to the per se rule of illegality. In and of itself this was not a big deal, since manufacturers rarely set maximum prices. The real battle, all antitrust lawyers knew, lay with the third, and most controversial, leg of the chair: minimum vertical price-fixing.

Since the 1997 Khan ruling left the per se rule against minimum price restraints intact, for the last ten years it has remained per se illegal for a manufacturer to dictate the minimum price at which a product may be sold. In other words, it has remained per se illegal for a distributor (or a manufacturer that sells directly to retailers) to prevent distributors and retailers from price cutting. Hence, the phrase “manufacturer’s suggested retail price” or “MSRP.” Most likely, you have never seen the phrase “manufacturer’s required retail price.”

Yesterday, in a five to four decision written by Justice Kennedy (often seen as the swing vote on this Court), the Supreme Court overruled the per se rule on vertical minimum price fixing that almost every living American has lived with his or her entire life. In Leegin v. PSKS, Inc., the Court swept away the almost 96-year old per se rule against vertical minimum price fixing, holding that henceforth this practice, too, will be judged under the “rule of reason.”

The rationale behind this ruling? In a nutshell, the Court was convinced that “interbrand” (as opposed to “intrabrand”) competition is sufficient to protect consumers. This leaves the possibility, therefore, that a monopolist, or a manufacturer with overwhelming market power, will still be prevented from vertical minimum price fixing. However, because the practice no longer is per se illegal, proving the harmful impact on competition in any given case will be far more costly, difficult and unpredicatable. It has been observed by one commentator that litigating a rule of reason case is one of the most costly procedures in antitrust law (H. Hovenkamp, The Antitrust Enterprise 105 (2005)). As a result of the Leegin decision, far fewer cases will be brought.

Will this make business happy? Almost certainly it will. We have had countless clients express their dismay over the rule that prevented them from imposing minimum prices on their dealers. This has been even more true as the Internet marketplace has emerged, since sellers can advertise price cuts so easily on the Web. Why should a retailer maintain a storefront and an experienced on-site sales staff when it can be undercut so easily online?

Will this change in the law be good for consumers in the long run, as the Supreme Court majority believes? Measuring the benefits and detriments of a rule such as this in an economy as complex as ours is well near impossible. The Supreme Court’s decision was based entirely on economic theory rather than empirical economic evidence. When considering this one must, of course, recall the oft-quoted comment of John Kenneth Galbraith: “The only function of economic forecasting is to make astrology look respectable.”

What is clear, however, is that a generation of antitrust lawyers will have to learn to change their tune when a client asks: “Can I tell all my distributors (or retailers) that they cannot sell below a specific price?” And keep an eye out for that label – “manufacturer’s required retail price.”

Incase v. Timex: Rare Trade Secret Case From First Circuit

It’s rare for a trade secret case to reach the First Circuit Court of Appeals. In fact, based on a Westlaw search only about five cases dealing with trade secret issues (except in passing) have reached the First Circuit in the last ten years. So, a trade secret decision from a court of that eminence is worth noting.

In Incase Inc. v. Timex Corp., Incase (a packaging design and manufacturing company based in Hopedale, Massachusetts), sued Timex after Timex commissioned Incase to design watch packaging for the secure retail display of Timex watches. After Incase designed the cases Timex bought some cases from Incase, but far fewer than had been discussed. Instead, Timex off-shored most of the manufacturing work to a Philippines company, using Incase’s designs and prototypes. The Philippine product was very similar to the Incase design.

An Incase employee stumbled across Timex watches displayed in the Philippine company’s package in a Target store.Miffed, Incase began a long and arduous litigation against Timex.After a trial in federal court in Boston before Judge F. Dennis Saylor, the jury found in favor of Incase on several claims, of which only the trade secret claim is of interest here. Judge Saylor, however, took the trade secret verdict away from Incase following the trial (yes, judges can do that), holding that Incase did not take reasonable steps to preserve the secrecy of their design. To wit, Incase never told Timex the design was confidential and never had Timex sign an NDA.

Clients often ask us to advise them on the tension between showing a confidential idea to a potential investor/customer/distributor who refuses to sign an NDA, and by doing so losing trade secret rights to the idea, or not revealing the idea at all and losing the commercial opportunity. This case shows that the risk of misplaced trust can be significant.

A careful study of this case also shows that seemingly still waters run deep in this area of business practice, and that businesses on either side of the transaction should be guided by competent counsel, lest they get caught in currents similar to those that snared both Incase and Timex.

First Circuit Applies the CDA to Protect Lycos

I’ve written often about Section 230 of the Communications Decency Act (CDA), which protects “interactive computer services” as follows:

No provider or user of an interactive computer service shall be treated as the publisher or speaker or any information provided by another information content provider

And –

No provider or user of an interactive computer service shall be liable on account of —

(A) any action voluntarily taken in good faith to restrict access to or availability of material that the provider or user considers to be obscene, lewd, lascivious, filthy, excessively violent, harassing, or otherwise objectionable, whether or not such material is constitutionally protected

Put simply, this law allows web site operators to avoid liability for certain types of publications on their sites by people outside their control, and to police their sites as they wish.The most obvious example is any kind of bulletin or message board that allows comments by members of the public.The site operator is not the “publisher,” and therefore is not liable for tort claims, such as defamation.

The First Circuit Court of Appeals recently applied this law for the first time in this circuit, in the case of Universal Communication Systems, Inc. (UCS) v. Lycos, Inc. Lycos, the owner of the Raging Bull website, allows the public to discuss the fortunes of public companies.

In 2003, various posters (or possibly the same poster, operating under several different screen names) made disparaging and possibly defamatory comments about UCS on the Raging Bull UCS message board page. UCS sued these individuals under their screen names (in other words, as John Does), but also sued Lycos for publishing these comments. In other words, UCS sued the message board.

Lycos asserted the CDA in defense.After the District Court dismissed based on the CDA, the plaintiff appealed to the First Circuit, which published its decision early this year.

To no one’s great surprise, the First Circuit held that Lycos was protected by the CDA. The First Circuit rejected a variety of attempts by UCS to penetrate the protection of the CDA: that Lycos was not an “Internet service provider,” that the postings became Lycos’ “own” speech when it didn’t remove them after being notified of their existence by UCS, that Lycos had “constructed and operated” its web site so as to “contribute to the proliferation of misinformation,” and that Lycos had engaged in trademark dilution (the CDA does not protect bulletin boards from intellectual property claims, particularly trademark, trade secret and patent claims).

Lycos had the wind at its back in this case, but this is still an important precedent in understanding the CDA, and the application of this statute by the First Circuit.

Everything Old is New Again – The Cost of Failing to Get IP Ownership Assigned

When I began to practice in the area of technology law area in the early 1980s one of the issues we often brought up with clients was the need to get clear ownership assignment of their technology. We wrote articles about this, spoke on the topic, and generally beat the subject to death in publications and seminars.

It’s surprising (but not too surprising) that seemingly sophisticated businessmen still don’t focus on this.

Two cases we recently settled are illustrative of this issue.

In the first case, a start-up company hired a part-time/consultant level programmer. He ultimately became an “employee,” but the company allegedly failed to fulfill some of the obligations in his employment agreement, and failed to treat him as an employee in all respects, raising an issue as to whether he truly became an “employee” for legal purposes. In any event, even under the best of circumstances, some of the programming he did occurred before he became an “employee.”

After the programmer left the company under unpleasant circumstances, he claimed ownership of the software. Following substantial and expensive litigation our firm was brought into the case and we successfully settled it shortly thereafter (based on the ongoing costs of the litigation and our assessment of the risks to our client). The settlement included a full assignment by the programmer, but it cost the client a great deal of money (for a start-up) in fees, settlement monies, and time away from the client’s core business. The client had a very strong argument that, regardless of the plaintiff’s status as a consultant or an employee, his actions had created an implied, unrestricted perpetual license. However, even if the client had won on this theory (after summary judgment motions and possibly a trial), there still would have been uncertainty over the client’s ability to transfer ownership of the software product, either through a direct sale of the software or a sale of the company. The legal uncertainties associated with this issue were what led to the settlement. The price: $200,000 for settlement alone.

In the second case a well-established client (new to our firm), experienced almost exactly the same situation. Here, the programmer had been “leased” to our client by a small employment agency. After the programmer quit, the agency (not the programmer) claimed ownership or co-ownership of the software developed by their employee. Our client had failed to enter into an agreement with the agency assigning ownership of work performed by agency employees to our client. The price, reached in settlement before suit was filed: $300,000 in settlement monies.

Between these two clients, this was $500,000 in wasted money, not to mention legal fees, costs and time away from their businesses, which adds substantially to this cost.

Remember: If you own a company that develops intellectual property, get a written assignment of ownership from everyone who develops intellectual property for you. The assignment should include copyright, patent and trade secret rights. It’s that easy.

Jury Trials In IP Cases – "Not"

A few months ago I wrote a blog entry titled “Jury Trials In Massachusetts – “Not”

Today I received an email/promotion from the ABA promoting some IP books and treatises. The email also contained these statistics. Since they come from the ABA IP Litigation Committee, I give them a high degree of reliability:

Number of IP cases filed in 2002: 7,445

Number resolved by trial verdict: 140

That’s 1.9% of IP cases filed in 2002 resolved by trial verdict. The balance were either decided on summary judgment or settlement. Discouraging for lawyers who like to get into court, to say the least. No one can forsee the future, but it would surprise me if this trend reverses itself in the lifetime of anyone reading this post. Civil trials have become too expensive and too risky to “go the distance”. Society is rapidly coming up with ways to avoid trials in the commercial context: arbitration, mediation, better contracts and agreements to start with, higher sophistication among decision makers, and the realization that litigation is often a losers game for both side.