VOLUME 18 NUMBER 3 SPRING 2018

NO BRAKES: LOAN ACCELERATION AND DIMINISHING FORECLOSURE DEFENSES Eric A. Zacks & Dustin A. Zacks 389

UNDERSTANDING PATENT AND COMMERCIAL WARRANTY LIABILITY STEMMING FROM PENDING PATENT APPLICATIONS Austen Zuege 443

INVESTORS BANCORP: THE ROADS NOT TAKEN AND HOW TO MITIGATE THE CONSEQUENCES Andrew M. Holt 481

NOTE: FOR WHOM THE WHISTLE BLOWS: WHO QUALIFIES AS A DODD FRANK WHISTLEBLOWER? Issac Halverson 505

COMMENT: CORPORATE LIABILITY FOR DATA BREACHES: WILL EQUIFAX VICTIMS HAVE A LEG TO STAND ON? Emily Marcum 525  

ABOUT THE JOURNAL

The WAKE FOREST JOURNAL OF BUSINESS AND INTELLECTUAL PROPERTY LAW is a student organization sponsored by Wake Forest University School of Law dedicated to the examination of intellectual property in the legal context. Originally established as the Wake Forest Intellectual Property Law Journal in 2001, the new focus and form of the Journal, adopted in 2010, provides a forum for the exploration of business law and intellectual property issues generally, as well as the points of intersection between the two, primarily through the publication of legal scholarship. The Journal publishes four print issues annually. Additionally, the Journal sponsors an annual symposium dedicated to the implications of intellectual property law in a specific context. In 2009, the Journal launched an academic blog for the advancement of professional discourse on relevant issues, with content generated by both staff members and practitioners, which is open to comment from the legal community. The Journal’s student staff members are selected for membership based upon academic achievement, performance in an annual writing competition, or extensive experience in the field of intellectual property or business. The Journal invites the submission of legal scholarship in the form of articles, notes, comments, and empirical studies for publication in the Journal’s published print issues. Submissions are reviewed by the Manuscripts Editor, and decisions to extend offers of publication are made by the Board of Editors in conjunction with the Board of Advisors and the Faculty Advisors. The Board of Editors works closely and collaboratively with authors to prepare pieces for publication. The Journal closely conforms to The Bluebook: A Uniform System of Citation (Columbia Law Review Ass’n et al. eds., 20th ed. 2015) and The Chicago Manual of Style (16th ed. 2010). The views expressed in the Wake Forest Journal of Business and Intellectual Property Law do not necessarily reflect the views and opinions of its editors. Manuscript submissions should be accompanied by a cover letter and curriculum vitae, and may be sent electronically to [email protected] or by mail to:

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BARBARA LENTZ Professor, Wake Forest University School of Law Winston-Salem, North Carolina

Editor-in-Chief ELIZABETH CASALE Managing Editor DAVID N. GIESEL Marketing & Online Editor Manuscripts Editor EMILY BURKE MARISA STERN Symposium Editor Executive Articles MARK G. HUFFMAN Editors ANDREW DINWIDDIE Development Editor COLIN FERRITER CHARITY BARGER AMANDA ROMENESKO Senior Notes and Comments Editor Articles Editors ANNA-BRYCE FLOWE MELANIE CORMIER Notes and Comments Editors MITCHELL DAVIS DAVID LAYMAN KATHERINE ESCALANTE SAMER ROSHDY BRIANA O’NEIL MARIA PIGNA Research Editor MICHAEL FLEMING

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Faculty Advisors BARBARA R. LENTZ SIMONE A. ROSE

 

WAKE FOREST JOURNAL OF BUSINESS AND INTELLECTUAL PROPERTY LAW

   ! "  

NO BRAKES: LOAN ACCELERATION AND DIMINISHING FORECLOSURE DEFENSES

Eric A. Zacks & Dustin A. Zacks†

I. INTRODUCTION ...... 390 II. STATE LAW TREATMENT OF ACCELERATION CLAUSES, RES JUDICATA AND THE STATUTE OF LIMITATIONS...... 396 A.ONE BITE AT THE APPLE ...... 398 B.MULTIPLE AND NEARLY UNLIMITED BITES AT THE APPLE ...... 410 III. UNDERSTANDING ACCELERATION AND RES JUDICATA AND STATUTE OF LIMITATION CASES ...... 427 A.THE TYPICAL FRAME OF FORECLOSURE ...... 428 B.A NEW “SYSTEMIC” FRAME OF FORECLOSURE...... 432 C.AN EQUITABLE APPROACH WHERE EQUITY DOES NOT APPLY ...... 434 D.INEFFICIENT EFFICIENCY...... 440 IV. CONCLUSION ...... 442



† © 2018 Eric A. Zacks is an Associate Professor of Law, Wayne State University Law School. B.A., University of Michigan, 1998; J.D., Harvard Law School, 2002. Dustin A. Zacks is a member of King, Nieves, & Zacks PLLC in West Palm Beach, Florida. B.A., University of Michigan, 2004; J.D., University of Michigan Law School, 2007. The authors are grateful to Charles Roarty for superlative research assistance.

! #$%& '() +) ")*') ))  The high volume of foreclosures during and following the Great Recession in the United States led to the revelation of many troubling lending practices. It also led to problematic judicial decisions that erode borrower protection by curtailing or eliminating procedural requirements and substantive defenses with respect to foreclosure. This Article examines the treatment of statute of limitation and res judicata defenses after a loan has been accelerated following a borrower default. Some courts ignore the traditional rule that acceleration under a contract starts the clock for statute of limitation purposes or that acceleration consolidates the loan instrument into a single obligation as opposed to an installment obligation. Instead, these courts have permitted lenders to accelerate loans repeatedly without triggering the statute of limitations or res judicata defenses. Consequently, lenders are permitted to assert foreclosure claims with respect to the same underlying debt amount over and over again. Rather than being used as a last resort, acceleration and the subsequent foreclosure process can now be wielded as a significant threat to borrowers throughout the life of their home loan. Consistent with favoritism demonstrated in our prior research, we argue that creating exceptions for lenders in the application of statutes of limitation and res judicata defenses provides little incentive for banks and servicers to reform questionable lending and collection practices.

I.INTRODUCTION This Article examines the treatment of statute of limitation and res judicata defenses after a loan has been accelerated following a default and is in foreclosure. The Great Recession resulted in a sizable wave of foreclosures that led commentators to compare the era (and the policy responses) to the Great Depression.1 The enormous amount of cases filed placed a strain on courts, court administrators, legislators, and of course the parties to these suits.2 This strain meant delayed resolutions for thousands of cases.3 This increased caseload meant that many state

1 See, e.g., Monica D. Armstrong, From the Great Depression to the Current Housing Crisis: What Code Section 108 Tells Us About Congress’s Response to Economic Crisis, 26 AKRON TAX J. 69, 97, 105 (2011). 2 See generally Aleatra P. Williams, Foreclosing Foreclosure: Escaping the Yawning Abyss of the Deep Mortgage and Housing Crisis, 7 NW. J.L. & SOC. POL’Y 455, 470–71 (2012) (discussing the effects of the large amount of foreclosure cases on courts and legislatures following the Great Recession). 3 Krista Franks Brock, Moody’s: Foreclosure Timelines on the Rise; More Losses to RMBS, DSNEWS, http://dsnews.com/news/foreclosure/03-23- 2012/moodys-foreclosure-timelines-on-rise-more-losses-to-rmbs-2012-03-23 (last visited Mar. 27, 2018) (noting that judicial foreclosure timelines average 654 days, whereas non-judicial foreclosures age an average of 297 days). continued . . . !, $$-- $'$.  ./ & - .&  court systems were inundated with an untenable number of cases that few judges wanted to hear.4 With many court systems’ funding tied to case clearance numbers, courts and court administrators attempted numerous changes in an effort to process thousands of cases efficiently and fairly.5 Some of these procedures were aimed at diverting parties from litigation and, for example, encouraging or even mandating early mediation.6 Although some scholars have argued that certain efforts were successful,7 other research suggests that these programs were not a panacea because banks and their representatives attending mediations often lacked the authority to settle, basic information about the given case at hand, and basic flexibility, such as the ability to contemporaneously review borrower financial information as a basis to provide an offer of settlement.8 Aside from diversion programs aimed at moving parties towards settlement early in the foreclosure process, courts also set up additional court procedures and structures to process the large number of foreclosures. 9 These procedures included, for example, temporarily rehiring additional retired judges to help process the cases and setting up trial and summary judgment calendars with hundreds of cases scheduled during a single day or afternoon. 10 While such actions undoubtedly assisted in reducing the number of pending foreclosure cases, the creation of parallel or shadow court systems strictly for foreclosure matters meant that borrowers’ counselors were met with

4 See, e.g., Andrew J. Kazakes, Protecting Absent Stakeholders in Foreclosure Litigation: The Foreclosure Crisis, Mortgage Modification, and State Court Responses, 43 LOY. L.A. L. REV. 1383, 1401 (2010) (describing how this overwhelming increase in caseload has led to rubber stamping and an abbreviated foreclosure process). 5 See, e.g., Greg Allen, Fast-Paced Foreclosures: Florida’s ‘Rocket Docket’, NPR (Oct. 21, 2010, 4:17 PM), http://www.npr.org/templates/story/story.php?storyId=130729666 (describing a Florida court which hears about 200 foreclosure cases a day). 6 Alan M. White, Foreclosure Diversion and Mediation in the States, 33 GA. ST. U. L. REV. 411, 412, 415 (2017). 7 See id. at 412, 416. 8 Adolfo Pesquera, State Mediation Program Helps Few Homeowners, DAILY BUS. REV. (June 29, 2011, 12:00 AM), https://www.law.com/dailybusinessreview/almID/1202498811107/State-mediation- program-helps-few-homeowners/ (“There were 63,019 mortgage holders eligible for mediation between the program’s launch in March 2010 and the end of the year. Of those, there were 26,150 reported contacts and 8,669 mediations conducted. Mediations leading to some sort of agreement totaled 2,309, or 3.7 percent of the eligible population.”). 9 Allen, supra note 5. 10 Id. continued . . .

 #$%& '() +) ")*') ))  immense judicial skepticism, with pressure to conduct trials in extremely short amounts of time, and with limited judicial consideration of cases.11 The lack of safeguards for litigants triggered harsh criticism, including accusations of implementing procedures that “almost uniformly disadvantage homeowners.”12 At a bare minimum, faster foreclosure case processing times meant that judges often ignored or did not have sufficient time to devote to accusations of fraud and other unethical behavior by foreclosing entities and their attorneys.13 Furthermore, research suggests that courts across the country, and not merely in the states with the highest number of foreclosures, have systematically reduced the availability of debtor defenses, debtor discovery, and consequences to banks for fraud upon courts.14 Not only that, but even years into the foreclosure crisis, some courts lack basic understanding of how modern mortgage developments function.15 The judicial practice of “previewing” foreclosure cases, discussed in our previous research, also creates additional problems. 16 Previewing occurs where judges begin a foreclosure case or decision, regardless of the actual issue being appealed or argued, by noting that a default under a note has not been disputed, or that a certain party has not made a mortgage payment in a certain amount of time.17 This

11 Petition for Writ of Certiorari or Writ of Prohibition at 2, Merrigan v. Bank of N.Y. Mellon, 64 So. 3d 685 (Fla. Dist. Ct. App. 2011) (No. 09–CA–055758), 2011 Fla. App. LEXIS 11139. 12 Id. at 13. 13 See id. at 16, 33–34. 14 See Eric A. Zacks & Dustin A. Zacks, Not a Party: Challenging Mortgage Assignments, 59 ST. LOUIS U. L.J. 175, 179–83 (2014) [hereinafter Not a Party]. 15 In the case of Mortgage Electronic Registration Systems, Inc. (“MERS”), for example, a company expressly created not to physically possess, store, or hold promissory notes has repeatedly explained that it is never the holder of promissory notes. See Frequently Asked Questions, MERS, https://www.mersinc.org/about/faq (last visited Apr. 3, 2018). Despite MERS itself admitting it does not hold notes, this has not dissuaded courts from proclaiming exactly the opposite. See, e.g., Taylor v. Deutsche Bank Nat’l Tr. Co., 44 So. 3d 618, 623 (Fla. Dist. Ct. App. 2010) (concluding that MERS could arguably be a holder of promissory notes). 16 See Dustin A. Zacks, Standing in Our Own Sunshine: Reconsidering Standing, Transparency, and Accuracy in Foreclosures, 29 QUINNIPIAC L. REV. 551, 571 (2011) [hereinafter Standing in Our Own Sunshine] (“[M]any courts will correctly assume that a lender or successor owner would not buy a MERS loan if it did not assent to MERS remaining its nominee with the associated rights to foreclose.”). 17 See generally Eric A. Zacks & Dustin A. Zacks, A Standing Question: Mortgages, Assignment, and Foreclosure, 40 J. CORP. L. 706, 727 (2015) [hereinafter A Standing Question] (explaining how “previewing” is not unique to a particular type of claim). continued . . . !, $$-- $'$.  ./ & - .&  previewing almost always is followed by a rejection of the borrowers’ legal arguments. The judicial reaction to the foreclosure crisis thus appears largely disinterested in procedural safeguards for debtors and generally disposed toward the interests of banks and lenders.18 Mixed empirical data shows the possibility that reducing case numbers at the expense of basic due process might still be seen as a net gain for the wellbeing of the public and of the economy. For example, some research offers that additional foreclosure processing time results in lenders making future credit offers more expensive. 19 Similarly, other data produced during the Great Recession shows that greatly elongated foreclosure time frames, by providing an opportunity for continuing dilapidation of properties and neighborhoods, might increase crime and decrease surrounding property values.20 Whatever economic and societal benefits have been made by the acceleration of foreclosure procedures and the short attention given to foreclosure cases, quicker judicial foreclosures gave cover to a wide variety of bank and lender malfeasance. 21 Courts largely failed to address or remedy the many allegations of robo-signing, service of process deficiencies, forced-placed insurance scams, and other problematic practices that came to light during the foreclosure boom.22 The lack of oversight, whether willful or not, reflected poorly on courts when it was revealed that thousands of fraudulent or perjured documents had been filed in litigation around the country, when attorneys general instituted revealing investigations into high volume foreclosure law firms, when national banks and government-sponsored enterprises were forced to halt foreclosures to internally assess their foreclosure practices, and when certain lenders ultimately paid millions in fines arising from their foreclosure practices.23 As mentioned, a corollary to, or perhaps an outgrowth from, court systems’ general orientation towards speeding up foreclosure cases has

18 See Not a Party, supra note 14, at 179, 182, 186. 19 Dustin A. Zacks, The Grand Bargain: Pro-Borrower Responses to the Housing Crisis and Implications for Future Lending and Homeownership, 57 LOY. L. REV. 541, 562 (2011). 20 Id. at 546–54. 21 A Standing Question, supra note 17, at 706. 22 See, e.g., Dustin A. Zacks, Robo-Litigation, 60 CLEV. ST. L. REV. 867, 891– 92 (2013) [hereinafter Robo-Litigation] (examining judges’ muted reactions to misconduct in response to the foreclosure crisis). 23 See id. at 875–76, 878, 884–90, 904–05 (describing multiple instances of attorney misconduct in light of the foreclosure crisis); David Dayen, Another Slap on the Wrist for a Company That Abused Homeowners, NEW REPUBLIC (Dec. 20, 2013), https://newrepublic.com/article/116010/ocwen-mortgage-fraud-settlement- servicer-fined-homeowner-abuse. continued . . .

 #$%& '() +) ")*') ))  been the systematic narrowing of borrower defenses.24 In response to debtor defenses related to Mortgage Electronic Registration Systems, Inc. (“MERS”) and its capacity to foreclose, or to assign, transfer, or negotiate mortgage notes, courts largely deferred to whatever argument MERS sought to assert. 25 Again, this occurred despite publicly available evidence that MERS and its attorneys were propounding diametrically opposing positions to courts around the country regarding exactly what ownership or agency interest, if any, MERS held. 26 Courts, accordingly, generally acceded to MERS’s ascendance as a prominent placeholder on the public record of millions of homes and to the detriment of hundreds of years of traditional recording rules, despite the fact that MERS was created undemocratically by private parties (including banks and lenders) expressly for the purpose of avoiding statutory recording requirements.27 In other related areas of contentious foreclosure litigation, courts also tended to downplay or ignore borrower defenses based on faulty assignments of notes and mortgages.28 Although standing is a primary defense against a foreclosing entity that did not make the original loan, many courts not only downplayed such defenses based on assignment issues, but they also refused to allow discovery on assignments and transfers of their mortgage loan.29 Again, this general trend appears to have ignored the readily available evidence that thousands of assignments were fraudulent or otherwise problematic.30 This Article extends this previous body of research to yet another area of defense to foreclosure and debt in which judges appear to proceed along the same continuum described above. We examine the treatment of statute of limitation and res judicata defenses after a loan has been accelerated following a default. Some courts have ignored the traditional rule that acceleration under a contract starts the clock for statute of limitation purposes or that acceleration consolidates the loan instrument into a single obligation as opposed to many separate installment obligations.31 Instead, these courts have permitted lenders to accelerate loans repeatedly without triggering the statute of

24 See A Standing Question, supra note 17, at 708–11. 25 See, e.g., Standing in Our Own Sunshine, supra note 16, at 570. 26 Id. 27 Id. 28 A Standing Question, supra note 17, at 708. 29 See id. at 711. 30 See id. 31 See, e.g., Allen, supra note 5 (describing “shortcuts” that some courts have taken to “hear[] as many as 200 foreclosure cases each day” that “deny many homeowners their right to due process”). continued . . . !, $$-- $'$.  ./ & - .&  limitations or res judicata defenses. 32 Consequently, lenders are permitted to assert foreclosure claims with respect to the same underlying debt amount over and over again.33 Rather than being used as a last resort, acceleration and the subsequent foreclosure process can now be wielded as a significant threat to borrowers throughout the life of their home loan.34 When presented with new and novel statute of limitations and res judicata defenses to foreclosure, courts have again shown their propensity to preview and predict the ultimate outcome of a lender’s claim before wrestling with whatever legal issue is actually being appealed or argued.35 Such previews inevitably damage homeowners and result in exceptions and special treatment for banks, lenders, servicers, and other foreclosing entities. 36 Such decisions provide another powerful example of courts ignoring longstanding procedural and substantive rules in favor of foreclosing entities in the name of judicial expediency.37 As we have done in previous research, we argue that this continuation of courts’ general anti-homeowner orientation, even in the face of years of lender malfeasance, produces serious negative externalities.38 Just as judicial refusal to entertain robo-signing claims or to grant discovery on such issues gave cover to high-volume foreclosure firms and their clients and kept questionable ethical practices in the dark for years, new exceptions for banks and lenders in the application of statutes of limitation and res judicata defenses have provided little incentive for banks and servicers to reform questionable

32 See Singleton v. Greymar Assocs., 882 So. 2d 1004, 1006–07 (Fla. 2004). 33 See id. at 1007–08 (“[A]n acceleration and foreclosure predicated upon subsequent and different defaults present a separate and distinct issue . . . . The ends of justice require that the doctrine of res judicata not be applied so strictly as to prevent mortgagees from being able to challenge multiple defaults on a mortgage.”). 34 See David Hahn, The Roles of Acceleration, 8 DEPAUL BUS. & COM. L.J. 229, 244 (2010) (“Acceleration is the means of action. Through its right to accelerate the debt, the creditor can materialize the consequences of a covenant violation and inflict severe harm to the borrower's operations and survival as a viable entity. It is the ultimate threat of a creditor against the borrower . . . .”). 35 Joseph K. Gilligan, Note, Acceleration Clauses in Notes and Mortgages, 88 U. PA. L. REV. 94, 107–10 (1939). 36 Id. at 109. 37 Id. 38 Id.; see generally A Standing Question, supra note 17, at 730 (“Encouraging more settlements benefits society as a whole, particularly those jurisdictions that have had higher numbers of foreclosures. This is because preventing foreclosures can help eliminate significant negative externalities. The normal neighborhood-level effects of foreclosed homes are significant in terms of crime, blight, and reduced property values.”). continued . . .

 #$%& '() +) ")*') ))  lending or foreclosure practices. 39 Because these court-created exceptions can revive a bank’s claim that was previously dismissed in part because the foreclosure was questionable, we again argue that courts have continued to contribute to the many problematic ways in which banks litigate foreclosure cases.

II.STATE LAW TREATMENT OF ACCELERATION CLAUSES, RES JUDICATA AND THE STATUTE OF LIMITATIONS Acceleration clauses are contractual provisions designed to provide lenders with additional protection in the event that a borrower repeatedly fails to pay.40 These clauses provide, either automatically or at the option of the lender, for the entire loan amount to become due and payable following a default under the note, such as a borrower’s failure to make a monthly payment.41 In the absence of an acceleration clause, a lender would be forced to bring separate claims against the borrower each time the borrower failed to make an additional monthly payment (since each monthly payment would not otherwise be due until the stated due date in the promissory note).42 An acceleration clause also is helpful to lenders because it provides them with an opportunity to exit the transaction immediately (by accelerating the loan and foreclosing) once the borrower’s ability to pay is threatened.43 This could be more advantageous than waiting until

39 See Robo-Litigation, supra note 22, at 869. 40 See Gilligan, supra note 35, at 95 (describing the evolution of acceleration clauses during the nineteenth century). 41 Mitchell v. Fed. Land Bank of St. Louis, 174 S.W.2d 671, 676–77 (Ark. 1943) (describing various formulations of acceleration clauses); Gilligan, supra note 35, at 109 (“They contend that the acceleration clause is for the benefit of the creditor—it is another arrow in his quiver. The debtor has done wrong. He has defaulted.”). 42 Gilligan, supra note 35, at 94 (“It is universally accepted that the failure of a mortgagor to meet installments of principal or interest, or to pay taxes, assessments and insurance will not cause the whole debt to mature at once upon default, absent a provision in the bond or mortgage to that effect.”); Hahn, supra note 34, at 231 (“A priori, acceleration may be conceived as an enforcement clause, facilitating the collection of the loan. By modifying the original terms of the agreement and making the entire amount payable on demand, the creditor may move forward and use collection measures sanctioned by the applicable debtor-creditor law. In this sense, acceleration is an accessory of the contractual remedy of enforcement.”). 43 See, e.g., 9 ALFRED TARTAGLIA, WARREN’S WEED NEW YORK REAL PROPERTY § 95.50[12] (Matthew Bender 2018) (“Acceleration clauses have been used in mortgage instruments and deemed valid and enforceable in a wide range of conditions. The most common provisions for acceleration of the mortgage debt result from the mortgagor’s failure to pay an installment of principal or interest; or the failure to pay taxes, water rates, or assessments; or the failure of the mortgagor to keep the premises insured.” (citations omitted)); Hahn, supra note 34, at 231 (“A continued . . . !, $$-- $'$.  ./ & - .&  the borrower breaches each monthly payment obligation before the entire loan amount is due, at which point the borrower may have no ability to pay and the underlying property may be worth less.44 The implicit threat of acceleration is also important with respect to deterring borrower default.45 Borrowers know that if they breach one monthly installment, the entire loan may become due and they could lose the house in foreclosure.46 This provides borrowers with incentives to pay regularly.47 The threat of loan acceleration can also be useful in pre-foreclosure negotiations with buyers who are delinquent with respect to their monthly payment obligations.48 Disclosures mandated in many form mortgages attempt to dull the sharp blade of acceleration, including specific language that informs borrowers that the entire amount of the loan might be demanded presently at once if a default is not cured.49 One issue that has divided courts is how to rule on attempts by lenders to accelerate the loan and bring foreclosure proceedings in repetitive fashion.50 This Article addresses two approaches regarding how particular defenses should apply once a loan has been accelerated but the original claim for breach of the promissory note is dismissed or otherwise lost. For example, if a first action on a note accelerated by second entity a creditor must worry about, which has been widely neglected by the financial literature, are other self-interested creditors who rush to dismantle the common debtor upon the latter’s financial distress. Creditors whose claims are payable in the future lack the fundamental legal tools to practically protect their interests against a run on the debtor's assets.”). 44 SCOTT T. TROSS, NEW JERSEY FORECLOSURE LAW & PRACTICE 4–5 (N.J. Law Journal Books 2001) (“Most mortgages contain acceleration clauses, which give the mortgagee the right to foreclose the entire indebtedness in the event the mortgagor defaults under the loan documents. Where the mortgage contains such a clause, the mortgagee is authorized to require payment of the entire mortgage debt upon default. Absent an acceleration clause, the mortgagee is without power to alter the maturity date of the outstanding principal balance of the loan upon default.”). 45 Hahn, supra note 34, at 244 (“Acceleration is the means of action . . . . Absent the creditor’s contractual power to call the entire loan back the force of the covenants would diminish. A borrower who is aware of the limited enforcement options of its creditors would attach a lower price tag to a potential covenant violation. Acceleration is, thus, the complementary measure that adds credibility to the covenants’ intended deterrence. It perfects the threat by signaling to the borrower that it better not dare even think about violating the covenants.”). 46 See id. 47 See id. 48 See id. 49 See, e.g., FANNIE MAE, MORTGAGE UNIFORM INSTRUMENT ¶ 22, https://www.fanniemae.com/singlefamily/security-instruments (last visited Apr. 3, 2018). 50 See U.S. Bank Nat’l Ass’n v. Gullotta, 899 N.E.2d 987, 990 (Ohio 2008); see also Singleton v. Greymar Assocs., 882 So. 2d 1004, 1005–06 (Fla. 2004). continued . . .

 #$%& '() +) ")*') ))  the lender was dismissed, but the borrower subsequently breaches again, should the lender be permitted to accelerate and sue on the note again? Ordinarily, claims litigated and lost on the merits cannot be brought again under the doctrine of res judicata.51 Secondly, if the party accelerated the note but took too long to file or attempt to refile its claim, the applicable statute of limitations could prevent a claim from being brought.52 In the foreclosure context, the issue often turns on whether the earlier and subsequent claims for breach and acceleration are treated as one and the same.53 If the two claims for breach are deemed to be the “same,” then the doctrine of res judicata may apply and prevent the lender from attempting to collect on the loan “again” if the lender lost the first claim on the merits.54 Similarly, if the lender accelerated the loan but did not pursue its claim in a timely fashion, the statute of limitations may bar subsequent claims for breach and acceleration.55 If the two claims are treated as separate and distinct claims, however, then neither res judicata nor the statute of limitations will apply, and the lender will be permitted to accelerate the entire loan again based upon subsequent breaches of the promissory note and pursue foreclosure.56 This section describes how different courts approach this issue.

A. One Bite at the Apple

The traditional rule in installment contracts, such as home loans, is that individual breaches of installment obligations are treated separately, but that acceleration of the entire amount due following a breach under the installment contract changes that treatment.57 Many cases hold that once acceleration of the entire home loan occurs, the entire outstanding indebtedness under the promissory note should be treated as becoming due (by nature of the acceleration clause) and, more

51 RESTATEMENT (FIRST) OF JUDGMENTS § 48 (AM. LAW INST. 1942). 52 H. A. Wood, Annotation, Acceleration Provision in Note or Mortgage as Affecting the Running of the Statute of Limitations, 161 A.L.R. 1211 (1946). 53 See Singleton, 882 So. 2d at 1008. 54 See Stadler v. Cherry Hill Developers, Inc. 150 So. 2d 468, 471 (Fla. Dist. Ct. App. 1963). 55 See Deutsche Bank Tr. Co. Ams. v. Beauvais, No. 3D14–575, 2014 Fla. App. LEXIS 20422, at *20 (Fla. Dist. Ct. App. Dec. 17, 2014), rev’d on reh’g en banc, 188 So. 3d 938 (2016). 56 See Singleton, 882 So. 2d at 1008. 57 9 TARTAGLIA, supra note 43, § 95.50[1] (“An acceleration clause in a mortgage, bond or note will generally provide that all unpaid principal, along with any accrued interest and other charges, becomes immediately due and payable upon the happening of any condition or conditions specified in the instrument.”). continued . . . !, $$-- $'$.  ./ & - .&  importantly, as indivisible.58 This means that if a lender accelerates the loan and loses on the merits, then the lender cannot sue again, even if the borrower subsequently “defaults” by not making a monthly payment.59 Courts so holding have relied upon res judicata, which provides that: [T]he judgment of a court of concurrent jurisdiction directly upon a matter is conclusive between the same parties as to that matter when drawn in question in another court. The rule rests on the ground that once a party has litigated, or has had the opportunity to litigate, the same matter in a court of competent jurisdiction, that party or its privy should not be permitted to litigate it again to the harassment and vexation of its adversary.60 Res judicata, then, exists to prevent harassment of a person when a claim was already litigated or could have been litigated in another court.61 Without it, claimants could simply attempt to bring their claims in different jurisdictions until finding one that agrees with them.62 This is particularly important with regard to mortgage contracts, where the disparity in bargaining power and litigation resources is vast. 63

58 See U.S. Bank Nat’l Ass’n v. Gullotta, 899 N.E.2d 987, 990 (Ohio 2008); see also Johnson v. Samson Constr. Corp., 704 A.2d 866, 869 (Me. 1997). 59 See Johnson, 704 A.2d at 869; see also Stadler, 150 So. 2d at 472–73. 60 John F. Wagner, Jr., Annotation, Proper Test to Determine Identity of Claims for Purposes of Claim Preclusion by Res Judicata Under Federal Law, 82 A.L.R. Fed. 829, Art. 1 § 2(a) (1987); see also, e.g., LA. STAT. ANN. § 13:4231 (2017) (“A judgment in favor of either the plaintiff or the defendant is conclusive, in any subsequent action between them, with respect to any issue actually litigated and determined if its determination was essential to that judgment.”); VA. SUP. CT. R. 1:6 (2018) (“A party whose claim for relief arising from identified conduct, a transaction, or an occurrence, is decided on the merits by a final judgment, shall be forever barred from prosecuting any second or subsequent civil action against the same opposing party or parties on any claim or cause of action that arises from that same conduct, transaction or occurrence . . . .”). 61 1 RICHARD W. BOURNE & JOHN A. LYNCH, JR., MODERN MARYLAND CIVIL PROCEDURE § 12.2(a) (3d ed. 2017) (“[A] judgment between the same parties and their privies is a final bar to any other suit upon the same cause of action, and is conclusive not only as to all matters that have been decided in the original suit, but as to all matters which with propriety could have been litigated in the first suit . . . .” (citation omitted)). 62 Wagner, Jr., supra note 60, § 2(a) (“Claim preclusion will therefore apply to bar a subsequent action on res judicata principles where parties or their privies have previously litigated the same claim to a valid final judgment. In most cases, the key question to be answered in adjudging the propriety of a claim preclusion defense appears to be whether in fact the claim in the second action is ‘the same as,’ or ‘identical to,’ one upon which the parties have previously proceeded to judgment.”). 63 See Frank S. Alexander et al., Legislative Responses to the Foreclosure Crisis continued . . .

!! #$%& '() +) ")*') ))  Typically, res judicata analysis turns on a court’s determination regarding whether the subsequent claim arises out of the same transaction that was the subject of the earlier claim.64 Accordingly, under traditional application, once the entire indebtedness had been accelerated and had become due, then the borrower only had one contractual obligation: to pay the entire loan amount.65 The lender’s failure to prevail with respect to the borrower’s breach of that singular contractual obligation could therefore doom future claims against the borrower, even if those future claims related to subsequent monthly installment obligations.66 Res judicata traditionally may also be invoked through the “two- dismissal” rule, which treats the second voluntary dismissal of a claim as a loss on the merits.67 Accordingly, if the debt is treated as indivisible once accelerated, then the second voluntary dismissal can prevent lenders from bringing a third claim based upon a subsequent breach of the note, even if the original two claims were dismissed voluntarily and were not disposed of on the merits.68 In this instance, it would not

in Nonjudicial Foreclosure States, 31 REV. BANKING & FIN. L. 341, 360 (2011) (noting the financial restraints that often bar borrowers from obtaining proper legal counsel in foreclosure litigation). 64 See Hamlin v. Peckler, No. 2005–SC–000166–MR, 2005 WL 3500784, at *1 (Ky. Dec. 22, 2005) (“The only difference between the 1999 claim and the 2004 claim was that MERS asserted a subsequent default on the note. Significantly, however, the 1999 complaint and the 2004 complaint allege that the entire debt became due on the same date, May 23, 1998. Hamlin pled res judicata and the trial court initially sustained this plea in open court and dismissed the subsequent action. Under authority of CR 60.02, however, the trial court, sua sponte, vacated its dismissal order and reinstated the 2004 claim.”). 65 United States v. Boozer, 732 F. Supp. 20, 22 (N.D.N.Y. 1990) (“By contrast, defendant contends that the government’s right of action accrued upon defendant's initial default on each loan. . . . This court’s review of the case law reveals that the government’s right of action accrues in a case such as this when the government first makes a demand for payment in full.”). 66 U.S. Bank Nat’l Ass’n v. Gullotta, 899 N.E.2d 987, 992 (Ohio 2008) (“The obligations to pay each installment merged into one obligation to pay the entire balance on the note.”); Stadler v. Cherry Hill Developers, Inc., 150 So. 2d 468, 472 (Fla. Dist. Ct. App. 1963) (“The essential question is whether the election to accelerate put the entire balance, including future installments at issue. . . . There can be no doubt that the accelerated balance was at issue and that the prayer of the complaint sought, not one interest installment, but the entire amount due. Accordingly, it seems clear that the actions are identical.”). 67 Gullotta, 899 N.E.2d at 991 (“Because the second dismissal here functioned as an adjudication on the merits, res judicata would bar an action ‘based upon any claim arising out of the transaction or occurrence that was the subject of the previous action.’” (quoting Grava v. Parkman Twp., 653 N.E.2d 226, 227 (Ohio 1995))). 68 Cadle Co. II v. Fountain, No. 49488, 2009 WL 1470032, at *1 (Nev. Feb. 26, 2009) (“Because an affirmative act is necessary to accelerate a mortgage, the same is continued . . . !, $$-- $'$. ! ./ & - .&  matter that the relief sought in the original two claims were different or based on subsequent actions.69 In addition, the lender only has a certain amount of time to bring a claim for acceleration and foreclosure following a breach of the mortgage.70 The statute of limitations in each state sets this amount of time and can vary. 71 Typically, the statute of limitations for foreclosures is tied to a breach of the underlying promissory note that the mortgage secures.72 This is because the mortgage usually provides for foreclosure rights in the event that the borrower breaches the promissory note.73 For example, in New York, the statute of limitations needed to decelerate. Accordingly, a deceleration, when appropriate, must be clearly communicated by the lender/holder of the note to the obligor. Here, if CIT intended to revoke the acceleration of the debt due under the note, it should have done so in a writing documenting the changed status. The voluntary dismissal did not decelerate the mortgage because it was not accompanied by a clear and unequivocal act memorializing that deceleration.”); Beneficial Ohio, Inc. v. Lemaster, No. 2008 CA 0100, 2009 WL 2457710, at *4 (Ohio Ct. App. July 30, 2009) (“In the case sub judice, all of the complaints arose from the same note, the same mortgage and the same default. From the time of appellants’ original default, the entire principal became due as a result of the acceleration clause in the note. The terms of the note and/or mortgage were never changed. As in the Gullotta case, from the time of appellants’ original breach, appellant’s [sic] owed the entire amount of the principal because of the acceleration clause.”). 69 Gullotta, 899 N.E.2d at 993 (“Although U.S. Bank’s complaint changed, the operative facts remained the same. Plaintiffs cannot save their claims from the two- dismissal rule simply by changing the relief sought in their complaint. Allowing U.S. Bank to do so would be like allowing a plaintiff in a personal-injury case to save his claim from the two-dismissal rule by amending his complaint to forgo a couple of months of lost wages.”); Parish, 2012 WL 966640, at *6 (“[W]e agree with the Parishes’ position that when a borrower defaults on a note and the holder invokes an acceleration clause, the holder cannot file and dismiss an unlimited number of lawsuits solely because the borrower makes payments after the holder files each suit. In this scenario all claims would still arise from ‘the same note, the same mortgage, and the same default.’” (quoting Gullotta, 899 N.E.2d at 991)). 70 10 ARTHUR L. CORBIN ET AL., CORBIN ON CONTRACTS § 53.9 (Matthew Bender 2017) (“No doubt there is much authority for the statement that where separate actions would lie for a series of such breaches, the statute operates against each one separately as of the time when each one could have been brought, and that this rule is not affected by the fact that after two or more such breaches have occurred the plaintiff must join them all in one action. Of course, if an action for a first installment is barred by the statute, it cannot properly be included in an action for later installments that are not yet barred.”). 71 Id. 72 Id. (“The period fixed by a statute of limitations begins to run from the ‘accrual of the cause of action.’”). 73 12 KARL B. HOLTZSCHUE, PURCHASE AND SALE OF REAL PROPERTY § 36.07 (Matthew Bender 2017) (“The most important feature of the mortgage relationship is the power of the mortgagee to force the sale of the mortgaged land. The proceeds of the sale are first used to cover any loss the mortgagee may have incurred because of continued . . .

! #$%& '() +) ")*') ))  to bring a foreclosure action following failure to pay on the underlying promissory note is six years.74 This means that if the borrower fails to make a payment on the note, then the lender only has six years from the borrower’s breach of the obligation to make that payment to bring a foreclosure action, or it essentially waives the claim.75 For statute of limitation purposes, treating the debt as indivisible following acceleration means that the statute of limitations with respect to all claims for payment under the promissory note begins to run once the loan has been accelerated.76 If the lender fails to pursue all claims for payment under the promissory note before the statute of limitation expires (as triggered by the loan acceleration), then the lender will be barred from bringing future claims under the promissory note or from foreclosure under the mortgage.77 This is in fact the traditional rule.78 the debtor’s default in meeting the terms of the mortgage obligation. ‘Foreclosure’ became the process for transferring title to the mortgaged interest out of the mortgagor—or the successor—to the purchaser at the mortgagee’s foreclosure sale, which may be, and in most cases is, the mortgagee itself.”). 74 Fed. Nat’l Mortg. Ass’n v. Mebane, 618 N.Y.S.2d 88, 89 (N.Y. App. Div. 1994) (citing the applicable statute). 75 35 JEFFERSON JAMES DAVIS & CHARLES J. NAGY, FLORIDA JURISPRUDENCE § 73 (West 2d ed. 2013) (“This rule is consistent with the policy behind the statute of limitations, which is to prevent unreasonable delay in the enforcement of legal rights and to protect against the risk of injustice.”). 76 In re Bennett Funding Grp., Inc., 292 B.R. 476, 480 (N.D.N.Y 2003) (“[In addressing a line of credit claim], causes of action seeking to recover the entire contractual amount on installment contracts containing an optional acceleration clause do not accrue until the option is exercised.” (alteration in original)); Loiacono v. Goldberg, 658 N.Y.S.2d 138, 139 (N.Y. App. Div. 1997) (“The law is well settled that with respect to a mortgage payable in installments, there are ‘separate causes of action for each installment accrued, and the Statute of Limitations [begins] to run, on the date each installment [becomes] due’ unless the mortgage debt is accelerated.” (alteration in original) (quoting Pagano v. Smith, 608 N.Y.S.2d 268, 270 (N.Y. App. Div. (1994); then citing Khoury v. Alger, 571 N.Y.S.2d 829, 830 (N.Y. App. Div. 1991))); Mebane, 618 N.Y.S.2d at 90 (“Once the mortgage debt was accelerated, the borrowers’ right and obligation to make monthly installments ceased and all sums became due and payable. Therefore, the six-year Statute of Limitations began to run at that time. Consequently, this foreclosure action is time-barred.” (citations omitted)). 77 Hamlin v. Peckler, No. 2005–SC–000166–MR, 2005 WL 3500784, at *2 (Ky. Dec. 22, 2005) (“No Kentucky case appears to squarely address whether there can be subsequent defaults after suit is brought on an accelerated debt. However, the answer would appear to be ‘no’ as one of the principal purposes of pleadings is to develop the precise point in dispute by formulating the true issues. Thus, when the mortgagee sought recovery of the entire unpaid indebtedness and sought to subject the real property upon which the mortgage lien had been granted to payment of the indebtedness, a default was asserted with respect to every installment of the debt, foreclosing assertion of some subsequent claim of default.”). 78 There does, however, appear to be a split in jurisdictions when the continued . . . !, $$-- $'$. !  ./ & - .&  U.S. Bank National Ass’n v. Gullotta, an Ohio Supreme Court case, is an illustrative example of the traditional application of contract law principles and res judicata with respect to acceleration clauses and foreclosure.79 In 2003, Giuseppe Gullotta had taken out a mortgage from MILA, Inc. to buy a home in Canton, Ohio. 80 As in many mortgages, Gullotta’s contained an acceleration clause that could be exercised upon default of a monthly installment payment. 81 After Gullotta missed several payments, U.S. Bank accelerated the loan in April 2004 and demanded the entire amount due under the note, seeking interest from November 1, 2003. 82 Three months later, U.S. Bank voluntarily dismissed this first case against Gullotta.83 In late 2004, U.S. Bank once again filed for foreclosure by accelerating the debt and asked for interest from December 1, 2003, one month apart from the allegation or demand in the first suit.84 U.S. Bank dismissed this second case in 2005.85 U.S. Bank filed for foreclosure a third time, in October 2005, seeking foreclosure of the entire loan amount with interest from November 1, 2003, as in the first attempted foreclosure case.86 Gullotta’s motion to dismiss, treated as a motion for summary judgment,87 argued that under the two-dismissal rule, U.S. acceleration clause operates automatically, as opposed to by the voluntary election of the mortgagee. 55 AM. JUR. 2D Mortgages § 428 (1973); see also Cook v. Merrifield, 335 So. 2d 297, 299 (Fla. Dist. Ct. App. 1976) (holding that a mortgage- acceleration clause providing that “failure to pay any installments herein promptly when due shall cause the entire indebtedness to become immediately due and payable” is self-executing and acceleration was automatic upon default); Miles v. Hamilton, 189 P. 926, 927–28 (Kan. 1920). But see Atkinson v. Kirby, 117 So. 2d 392, 395–96 (Ala. 1960); Fed. Land Bank of Omaha v. Wilmarth, 252 N.W. 507, 511–12 (Iowa 1934); Lawman v. Barnett, 177 S.W.2d 121, 123 (Tenn. 1944) (holding that the rule that a provision for acceleration of the maturity of a debt secured by mortgage upon default of payment of an installment does no more than confer an option upon the holder of the indebtedness is applicable where a statute provides for an acceleration); Walker Bank & Tr. Co. v. Neilson, 490 P.2d 328, 328– 30 (Utah 1971). 79 U.S. Bank Nat’l Ass’n v. Gullotta, 899 N.E.2d 987 (Ohio 2008). 80 John Weber, Ohio Lenders Precluded from Bringing Third Complaint on Same Note, REAL EST. ADVISOR L. BLOG (May 11, 2009), http://www.realestateadvisorlawblog.com/2009/05/articles/ohio-lenders-precluded- from-bringing-third-complaint-on-same-note/. 81 ‘Two Dismissal Rule’ Applies to Mortgage Foreclosure Suit When Dismissed Actions Based on Same Default, SUP. CT. OHIO & OHIO JUD. SYS. (Dec. 10, 2008), https://www.supremecourt.ohio.gov/PIO/summaries/2008/1210/071144.asp. 82 Id. 83 Id. 84 Id. 85 Id. 86 Id. 87 U.S. Bank Nat’l Ass’n v. Gullotta, 899 N.E.2d 987, 989 (Ohio 2008). continued . . .

!  #$%& '() +) ")*') ))  Bank had already failed to prevail on the same claim twice and could not bring another suit. 88 U.S. Bank maintained each missed loan payment was a separate actionable claim.89 U.S. Bank argued that its third claim was different from the first two cases, insofar as: (i) U.S. Bank alleged and sought interest starting from different default dates (November 2003 in the first foreclosure case, December 2003 in the third foreclosure case, and April 2005 in its Amended Complaint in the third foreclosure case); and (ii) each suit contained and encapsulated new payments that had become due in the time since the previous cases were filed.90 Gullotta, naturally, argued that each suit contained a common nucleus of facts that would preclude the third suit from being maintained.91 The trial court found for U.S. Bank, stating that when the first case was voluntarily dismissed the note decelerated, and U.S. Bank’s second claim involved a different timeline (December 2003 in the second suit; November 2003 in the first) not litigated in the first action and therefore res judicata did not apply. 92 Accordingly, U.S. Bank’s motion for summary judgment was granted.93 The Ohio Fifth District Court of Appeals affirmed the trial court, but did note conflict with previous case law regarding res judicata in installment note claims.94 The Ohio Fifth District Court of Appeals stated that it disagreed with previous case law and that “each new missed payment on an installment note is a new claim.”95 Therefore, the Ohio Fifth District Court of Appeals held the two-dismissal rule and res judicata did not apply.96 In explaining the public policy grounds for its decision, the appellate court argued that if Gullotta were to escape judgment, lenders would

88 See id. 89 See id. 90 See id. at 988–89. 91 Id. at 989 (“On February 10, 2006, the trial court converted Gullotta’s motion to dismiss into a motion for summary judgment because the motion was ‘founded on matters outside the pleadings.’ The trial court also granted U.S. Bank's motion for leave to file an amended complaint. In its amended complaint, U.S. Bank brought alternative claims. First, the bank sought judgment against Gullotta in the amount of $164,390.91 plus interest at the rate of 7.35 percent per year from December 1, 2003. In the alternative, the bank sought judgment against Gullotta in the amount of $164,390.91 plus interest at the rate of 7.35 percent per year from April 1, 2005. That April 1, 2005 date moved the start date for the collection of interest on the overall debt to a time after U.S. Bank’s second dismissal.”). 92 Id. 93 Id. 94 Id. at 990; see also EMC Mortg. Co. v. Jenkins, 841 N.E.2d 855, 862–63 (Ohio Ct. App. 2005). 95 U.S. Bank Nat’l Ass’n v. Gullotta, No. 2006CA00145, 2007 WL 1248407, at *5 (Ohio Ct. App. Apr. 30, 2007), rev’d, 899 N.E.2d 987 (Ohio 2008). 96 Id. continued . . . !, $$-- $'$. ! ./ & - .&  have less incentive to try and settle foreclosure suits with borrowers, as dismissal of the action upon settlement would require a full examination of whether the foreclosing entity waives all future foreclosure rights.97 Gullotta subsequently filed a motion to certify the conflict between the Ohio District Courts of Appeals.98 The Ohio Supreme Court disagreed with the lower court rulings and instead determined that U.S. Bank had in fact made the same claim each time it accelerated the debt and brought a case.99 The court held that the entire note was due upon the breach due to acceleration, not just the installment payments missed.100 In other words, once acceleration of a debt occurs, the entire debt then becomes indivisible and all of the individual installments merged into one balance.101 All of U.S. Bank’s claims were the same, and trying to skirt around res judicata by adding interest charges would not change the “common nucleus of operative facts.”102 The court analogized this situation to a personal injury case: if U.S. Bank could avoid res judicata or the two-dismissal rule merely by amending its damages demand by a few months, then a personal injury plaintiff presumably could avoid res judicata simply by reducing his or her demand for future lost wages by a couple of months, a seemingly nonsensical result.103 The court clarified, though, that should a renegotiation of the loan and its terms occur, causing a material change after a default and foreclosure action, then the next claim would not be the same.104 Subsequent Ohio courts have struggled to deal with Gullotta’s open- ended statement about whether a mortgage loan had materially changed. 105 Lower courts have found ways to avoid the extreme application implications of Gullotta and the double dismissal defense, particularly when a subsequent payment is made by the debtor or if acceleration is not automatic.106 Similar to the reasoning discussed in

97 See id. 98 Gullotta, 899 N.E.2d at 990. 99 See id. at 990, 993–94. 100 Id. at 992. 101 Id. 102 Id. at 993. 103 Id. 104 Id. 105 See, e.g., Beneficial Ohio, Inc. v. Parish, No. 11CA3210, 2012 WL 966640, at *6–7, *9 (Ohio Ct. App. Mar. 16, 2012) (finding that, in a third foreclosure action, the trial judge erred in awarding summary judgment to the holder because genuine issues of material fact existed as to whether the complaints arose from the same transaction or occurrence, and as to whether res judicata applied based on the double dismissal rule). 106 See, e.g., Bridge v. Ocwen Fed. Bank FSB, No. 1:07 CV 2739, 2013 WL 4784292, at *9 (N.D. Ohio Sept. 6, 2013) (“The facts of Gullotta could not be more continued . . .

! #$%& '() +) ")*') ))  Stadler v. Cherry Hill Developers, Inc., subsequent payments on the mortgage or materially altering the mortgage contract may result in a new claim.107 It should be noted, however, that courts wrestling with these questions often expressly state that making an additional payment alone is not enough to prevent res judicata.108 In Bank of America v. Gaizutis, for example, the Ohio Eleventh District Court of Appeals held that Gaizutis’s subsequent payment on the debt reworked the contract and decelerated the loan at that point. 109 The only material difference between Gaizutis and Gullotta was that in the former, the debtor made a payment on the debt which included a letter stating it would bring the loan up to date and the initial suit could be dismissed, which according

dissimilar than the facts presently before the Court. In this case, after the initial default, the Lisa Bridge cured and Deutsche Bank did not accelerate the loan. Further, Lisa Bridge made numerous additional payments after the initial default, and at times, was current on her payments. Moreover, in this lawsuit, Deutsche Bank does not demand the same principal payment as it would have demanded in foreclosure based upon the cured 2002 default.”). 107 See id.; Stadler v. Cherry Developers, Inc., 150 So. 2d 468 (Fla. Dist. Ct. App. 1963); see also Deutsche Bank Nat’l Tr. Co. v. Smith, No. C–140514, 2015 WL 4508449, at *3 (Ohio Ct. App. July 24, 2015) (“The court would have also been right to deny amendment on the basis that it would be a futile act. In support of her argument that res judicata applies, Ms. Smith relies upon [Gullotta], a case in which the two-dismissal rule was applied to dismiss a foreclosure action. But in Gullotta, the court explained that ‘Civ. R. 41(A) would not apply to bar a third claim if the third claim were different from the dismissed claims.’ In fact, ‘[h]ad there been any change as to the terms of the note or mortgage, had any payments been credited, or had the loan been reinstated res judicata would not be in play.’ Here, Ms. Smith admits that she paid Deutsche Bank $4,755.56 to cure any default in 2007. Because a payment had been credited, the present claim is different than the previously dismissed claims, and the two-dismissal rule would not apply.” (alteration in original) (quoting Gullotta, 899 N.E.2d at 993)). 108 See Parish, 2012 WL 966640, at *6 (“[T]he holder cannot file and dismiss an unlimited number of lawsuits solely because the borrower makes payments after the holder files each suit. In this scenario all claims would still arise from ‘the same note, the same mortgage, and the same default.’” (quoting Gullotta, 899 N.E.2d at 991)). 109 See Bank of America, N.A. v. Gaizutis, No. 2014–G–3176, 2014 WL 4825371, at *8 (Ohio Ct. App. Sept. 30, 2014) (“Instead of filing the agreed judgment entry of dismissal signed by appellant’s attorney, appellee’s then-attorney filed a unilateral dismissal, pursuant to Civ. R. 41(A)(1). However, if there was a claim that a material term of the letter agreement had been breached, no such claim appears in this record. The one thing that is clear from the correspondence is that the parties agreed to have the suit dismissed upon payment of a significant lump sum that would be applied to the amount due on the loan. While the documentation suggests a clear intention to ‘reinstate’ the loan, based on the discussion from the Supreme Court in Gullotta, supra, whether it was actually reinstated or not matters little.”). continued . . . !, $$-- $'$. !  ./ & - .&  to the Gaizutis court materially changed the contract.110 As a result, the Gaizutis court affirmed the lower court’s ruling for the bank.111 Although the Ohio Fifth Circuit District Court of Appeals suggested that harsh rules on dismissal might dissuade lenders from renegotiating with borrowers, the traditional Gullotta approach to res judicata and the two-dismissal rule described above arguably would provide more encouragement to lenders to negotiate with borrowers.112 Banks and servicers would have to seriously consider settling with borrowers before accelerating and suing on the loan, because any action on that acceleration may only be permitted once.113 Similarly, the higher stakes for bearing a dismissal on the merits might mean that lenders will act

110 See id. 111 Id. (“The amount of the payment and documentation contained in the record reflects the parties’ desire to have the foreclosure dismissed and the appellants back to a position where they could remain in their home. Further, the mortgage at issue contemplates the right of a borrower to reinstate the mortgage after acceleration contingent upon the borrower meeting certain conditions outlined in the mortgage. The mortgage further states that upon reinstatement by the borrower, ‘this Security Instrument and obligations secured hereby shall remain fully effective as if no acceleration had occurred.’”). 112 See U.S. Bank Nat’l Ass’n v. Gullotta, No. 2006CA00145, 2007 WL 1248407, at *5 (Ohio Ct. App. Apr. 30, 2007) (“In addition, the application of Rule 41(A) per the EMC case would discourage a lender, such as appellant, from working with a borrower, such as appellee, when the borrower defaults on a mortgage. Frequently, after filing a foreclosure action, a lender will work with the buyer so that the buyer can retain his or her property. The lender will then dismiss the foreclosure action. A lender would not be inclined to do so if a dismissal precluded a bank from eventually foreclosing on a borrower’s property after a default. As a result, the number of foreclosures would increase as would the number of individuals losing their homes.”), rev’d, 899 N.E.2d 987 (Ohio 2008). 113 See Parish, 2012 WL 966640, at *6 (“Nonetheless, we agree with the Parishes’ position that when a borrower defaults on a note and the holder invokes an acceleration clause, the holder cannot file and dismiss an unlimited number of lawsuits solely because the borrower makes payments after the holder files each suit. In this scenario all claims would still arise from ‘the same note, the same mortgage, and the same default.’” (quoting Gullotta, 899 N.E.2d at 991)); see also Deutsche Bank Tr. Co. Ams. v. Beauvais, 188 So. 3d 938, 969 (Fla. Dist. Ct. App. 2016) (Scales, J., dissenting) (“The expiration of a statute of limitations, however, generally results in a windfall for the escaping defendant. In my view, neither the moral imperative that borrowers pay their obligations, nor Singleton, has abrogated decades of Florida jurisprudence governing the statute of limitations in foreclosure cases.”); U.S. Bank Nat’l Ass’n v. Gullotta, 899 N.E.2d 987, 993 (Ohio 2008) (“Although U.S. Bank’s complaint changed, the operative facts remained the same. Plaintiffs cannot save their claims from the two-dismissal rule simply by changing the relief sought in their complaint. Allowing U.S. Bank to do so would be like allowing a plaintiff in a personal-injury case to save his claim from the two- dismissal rule by amending his complaint to forgo a couple of months of lost wages.”). continued . . .

! #$%& '() +) ")*') ))  more conservatively in undertaking oft-criticized servicing activities.114 For example, some lenders have been accused of inducing missed payment defaults by fraudulently charging force-placed insurance policies and demanding large sums for escrow, or by telling homeowners that loss mitigation assistance will not be made available until they fall behind on their payments.115 In a jurisdiction where a dismissal on a fact dispute about default might preclude a future foreclosure action, perhaps lenders would be less likely to bring marginal cases to court. In this way, the risk of a dismissal on future actions may spur banks and servicers to be additionally diligent about following servicing guidelines before electing for the severe remedy of acceleration and foreclosure. Justice Cardozo long ago recognized the blatant oppression that can occur to the mortgagor when the mortgagee is allowed to unsheathe its acceleration sword without considering external factors.116 In light of the many irregularities and abuses of lenders with respect to foreclosure practices we have noted elsewhere, it seems that such external factors remain relevant.117 Thus, while our research seems to suggest that some courts are creating exceptions to harsh rules like res judicata and the double dismissal rule, these exceptions only seem to engage with one side of Gullotta’s implications, specifically that banks might face harsh results.118 Such allowances, however, do not address potentially harsh results for other parties, namely that failure to strictly enforce longstanding principles like res judicata will encourage lenders to bring cases with flimsy or fraudulent evidence, to induce defaults with no ultimate consequences, and to otherwise repeatedly impair a

114 See Parish, 2012 WL 966640, at *6. 115 See id.; see also Beauvais, 188 So. 3d at 960 n.19. 116 Gilligan, supra note 35, at 94 n.3 (citing and quoting Graf v. Hope Bldg. Corp., 171 N. E. 884, 889 (1930) (Cardozo, J., dissenting)) (“There, through an error in a bookkeeper’s arithmetic, payment of what should have been an installment of $6,121.56 was $401.87 short of the correct amount. Enforcement of the acceleration provision (as sustained by the majority) meant that because of the $401.87 deficiency, the mortgagor’s interest was foreclosed in a property mortgaged for $335,000. ‘In this case, the hardship is so flagrant . . . the oppression so apparent, as to justify a holding that only through an acceptance of the tender will equity be done. . . . The deficiency, though not so small as to be negligible within the doctrine of de minimis, was still slight and unimportant when compared with the payment duly made.’”). 117 A Standing Question, supra note 17, at 706 (“In the rush to originate and assign as many mortgages as possible, and in the face of an overwhelming volume of foreclosures to be processed, mortgagees and their assignees often failed to assign the mortgages properly and, in some instances, committed fraud or other unauthorized acts in order to correct the assignment paper trail.”). 118 See supra notes 106–07 and the accompanying text. continued . . . !, $$-- $'$. !  ./ & - .&  homeowner’s peace and wellbeing, regardless of the merits of the claims the lender repeatedly brings.119 It also bears mentioning that these exceptions that do not adapt the Gullotta reasoning ignore the fact that dismissals, whether voluntary or involuntary, are exceedingly avoidable in foreclosure litigation.120 In many judicial foreclosure jurisdictions, the burden of proof is low, court procedures have been enacted specifically for the benefit of banks and their attorneys, 121 and very few documents are needed to prove entitlement to foreclose.122 In light of such incredibly low litigation burdens, the fact that a bank even faces a two-dismissal rule bar, in the absence of renegotiation or other intervening circumstances, is an astonishing de facto admission of either basic incompetence by lender attorneys or the complete lack of pertinent evidence supporting foreclosure. It is unclear why courts feel obligated to reward such conduct in allowing repetitive successive actions. 123 While some scholars, and indeed judges, fear giving “free” houses to mortgagors,124 logic does not dictate that procedural predictability, longstanding precedent, and incentivizing good litigation practices should be totally abandoned. 125 Gullotta and similar cases recognize that while

119 See Parish, 2012 WL 966640, at *6. 120 Cf. Wells Fargo Bank, N.A. v. Drayer, No. CV–2015–105086, 2016 Ohio Misc. LEXIS 10334, at *2 (Ohio C.P. Summit Cty. Oct. 19, 2016) (“Lenders like the Plaintiff would be more willing to discuss alternatives that require the dismissal of foreclosure if they had assurances that their dismissals would not threaten the long- term contractual relationship between the parties. Therefore, it is in the best interests of the parties to dismiss this action without prejudice.”). 121 Petition for Writ of Certiorari, supra note 11, at 17–19. 122 Id. at 27–28. 123 See infra Section III.A. 124 See, e.g., Singleton v. Greymar Assocs., 882 So. 2d 1004, 1007–08 (Fla. 2004) (“If res judicata prevented a mortgagee from acting on a subsequent default even after an earlier claimed default could not be established, the mortgagor would have no incentive to make future timely payments on the note. The adjudication of the earlier default would essentially insulate her from future foreclosure actions on the note—merely because she prevailed in the first action. Clearly, justice would not be served if the mortgagee was barred from challenging the subsequent default payment solely because he failed to prove the earlier alleged default.”). 125 Even the mere fact that judges sometimes reference “free” houses is evidence of the previewing bias effect that we have covered in previous research and herein. See infra Part IV. Only reflexive, unthinking preconceptions could lead a fact-finder to enter a proceeding believing that a pro-homeowner ruling means a house is actually obtained for free, when many homeowners faced foreclosure after years of regular payments, when many put their life savings into the purchase of the home, when any homeowner asserting defenses undoubtedly will have to expend sums on attorneys, and when any such pro-homeowner ruling—even if ultimately successful—will likely result in appeal and more legal costs to the homeowner. See infra Section III.C. In the case of res judicata and the two-dismissal rule in continued . . .

! #$%& '() +) ")*') ))  exceptions should exist for real world application of a harsh remedy like res judicata or the statute of limitations, the opposite can also mean the harsh result of innumerable successive actions, regardless of the merits of the claims repeatedly litigated.

B. Multiple and Nearly Unlimited Bites at the Apple

Over time, some courts have narrowed the application of res judicata and the statute of limitations to permit lenders to bring multiple foreclosure claims after accelerations of the promissory note.126 For example, erosion of the traditional rules in Florida began with courts rejecting holdings that suggest acceleration of an installment obligation creates a single indivisible obligation, at least with respect to home mortgages.127 In this view, a lender’s earlier acceleration of a loan can be ignored because the lender’s subsequent voluntary dismissal of the earlier claim means that the lender actually elected not to accelerate and demand the full amount due under the note.128 Accordingly, res judicata may not bar future claims if they are based on different dates of default.129 particular, homeowners will have had to pay an attorney to defend more than one lawsuit. See U.S. Bank Nat’l Ass’n v. Gullotta, 899 N.E.2d 987, 990–91 (Ohio 2008) (explaining that the two-dismissal rule requires repetitive litigation); see also Wagner, Jr., supra note 60, § 2(a) (explaining that res judicata rests on the existence of repetitive litigation). 126 See, e.g., Olympia Mortg. Corp. v. Pugh, 774 So. 2d 863, 866 (Fla. Dist. Ct. App. 2000). 127 See id. (finding that the decision to accelerate did not affect the lender’s ability to bring claims for subsequent defaults); see also Singleton, 882 So. 2d at 1006 (“While it is true that a foreclosure action and an acceleration of the balance due based upon the same default may bar a subsequent action on that default, an acceleration and foreclosure predicated upon subsequent and different defaults present a separate and distinct issue.”). 128 See Pugh, 774 So. 2d at 866 (“By voluntarily dismissing the suit, [the lender] in effect decided not to accelerate payment on the note and mortgage at that time.” (alteration in original)); see also Mitchell v. Fed. Land Bank, 174 S.W.2d 671, 677 (Ark. 1943) (“[T]he declaration of plaintiff’s election by bringing the first action did not put it out of his power to waive the penalty, which he did by accepting the interest and dismissing the action.” (quoting Cal. Sav. & Loan Soc’y v. Culver, 59 P. 292, 294 (Cal. 1899))). 129 See, e.g., Bartram v. U.S. Bank Nat’l Ass’n, 211 So. 3d 1009, 1012, 1023 (Fla. 2016) (“[W]hen a second and separate action for foreclosure is sought for a default that involves a separate period of default from the one alleged in the first action, the case is not necessarily barred by res judicata. . . . [A]n acceleration and foreclosure based upon subsequent and different defaults present a separate and distinct issue.” (quoting Singleton, 882 So. 2d at 1006–07)), reh’g denied, 2017 Fla. LEXIS 593 (Fla. Mar. 17, 2017); see also Afolabi v. Atl. Mortg. & Inv. Corp., 849 N.E.2d 1170, 1175 (Ind. Ct. App. 2006) (“[W]e conclude that . . . res judicata does continued . . . !, $$-- $'$.  ./ & - .&  This evolving exception to longstanding doctrine is said to “[rest] upon a recognition of the unique nature of the mortgage obligation and the continuing obligations of the parties in that relationship.”130 If res judicata precluded a lender from bringing future lawsuits based upon future defaults, courts fear there would be no penalty for borrowers failing to pay amounts when due under the contract, which would lead to inequitable results.131 A “subsequent and separate alleged default”

not bar successive foreclosure claims, regardless of whether or not the mortgagee sought to accelerate payments on the note in the first claim.”). As discussed infra Part II, courts disagree on how and whether lenders can revoke acceleration. John A. Walker, Jr., Simple Real Estate Foreclosures Made Complex: The Byzantine Tennessee Process, 62 TENN. L. REV. 231, 242 (1995) (“Even if the deed of trust contains an acceleration clause, the mortgagor may be able to defeat it by properly tendering an overdue payment before the mortgagee actually accelerates the indebtedness. However, tendering the overdue amount after acceleration has occurred, even if done before the sale, will not revoke acceleration unless so agreed by the parties. The Tennessee Supreme Court succinctly posited the above rules in Lee v. Security Bank & Trust Co.” (citations omitted)); see also 1 BRUCE J. BERGMAN, BERGMAN ON NEW YORK MORTGAGE FORECLOSURES § 5.02 (Matthew Bender 2017) (“Thus, the mere acceptance of a post-acceleration partial payment does not represent an affirmative act revoking acceleration.”). But see In re Taddeo, 685 F.2d 24, 26 (2d Cir. 1982) (“First, we think that the power to cure must comprehend the power to ‘de-accelerate.’ This follows from the concept of ‘curing a default.’ A default is an event in the debtor-creditor relationship which triggers certain consequences -- here, acceleration. Curing a default commonly means taking care of the triggering event and returning to pre-default conditions. The consequences are thus nullified.”); Callan v. Deutsche Bank Tr. Co. Ams., 93 F. Supp. 3d 725, 734 (S.D. Tex. 2018) (discussing whether Texas law permits unilateral notices of rescission of acceleration, thereby restarting the statute of limitations); Fed. Nat’l Mortg. Ass’n v. Mebane, 618 N.Y.S.2d 88, 89 (N.Y. App. Div. 1994) (“It cannot be said that a dismissal by the court constituted an affirmative act by the lender to revoke its election to accelerate.”). The right to rescind acceleration may also be limited. See Coca-Cola Bottling Co. v. Citizens Bank of Portland, 583 N.E.2d 184, 190 (Ind. Ct. App. 1991) (“An election to accelerate a debt may become irrevocable if the election causes the defaulting party to rely and act upon the acceleration to its detriment.”). The mortgage itself also may address the issue and permit reinstatement of the installment nature of the contract. Deutsche Bank Tr. Co. Ams. v. Beauvais, 188 So. 3d 938, 962 (Fla. Dist. Ct. App. 2016) (en banc) (citing the reinstatement provisions of the mortgage as continuing the installment nature of the contractual obligations even after acceleration and filing of a foreclosure claim). 130 Singleton, 882 So. 2d at 1007 (alteration in original). But see FDIC v. Massingill, 24 F.3d 768, 777–78 (5th Cir. 1994) (discussing how various states determine whether acceleration has been properly rescinded); Johnson vs. Samson Constr. Corp., 704 A.2d 866, 869 (Me. 1997); Snyder v. Exum, 315 S.E.2d 216, 218 (Va. 1984) (“[W]e see no valid distinction between an acceleration clause in a lease and one contained in a note.”). 131 Singleton, 882 So. 2d at 1008 (“Clearly, justice would not be served if the mortgage was barred from challenging the subsequent default solely because he continued . . .

 #$%& '() +) ")*') ))  thus can provide “a new and independent right in the mortgagee to accelerate payment on the note in a subsequent foreclosure action.”132 The two-dismissal rule can be defeated under this approach as well, since each claim made with respect to different default dates will be treated as separate and distinct, even if acceleration previously occurred. 133 Accordingly, lenders will not be prevented from repeatedly filing and dismissing claims as long as the claims involve subsequent defaults that are separate and distinct.134 As Part IV will discuss, this analysis is not compelled by traditional two-dismissal rule analysis and, in fact, would render the two-dismissal rule “meaningless in the context of foreclosure actions because every successive attempt to foreclose a mortgage could be construed as a new claim.”135 This exception to res judicata and the two-dismissal rule also potentially applies to statute of limitations analysis. If each default starts its own individual statute of limitations, then the expiration of the statute of limitations with respect to an earlier claim will have no bearing on whether the lender can bring other claims, even if the loan had been accelerated when the first claim was filed.136 This would failed to prove the earlier alleged default.”). There is also a fear that borrowers could enter into settlement with the lender that, coupled with a dismissal with prejudice, would “insulate the mortgagor from the consequences of a subsequent default.” Fairbank’s Capital Corp. v. Milligan, 234 Fed. App’x 21, 24 (3d Cir. 2007). Again, these points of view completely ignore the light burden that foreclosing entities bear and the immediate questions and doubts that should arise when any foreclosing entity is forced to continually retry its cases. See supra notes 120–25 and accompanying text. 132 Singleton, 882 So. 2d at 1008. 133 See, e.g., Pugh, 774 So. 2d at 863 (finding that the decision to accelerate did not affect the lender’s ability to bring claims based on different dates of default). 134 See id. 135 U.S. Bank Nat’l Ass’n v. Gullotta, 899 N.E.2d 987, 992 (Ohio 2008). The Ohio Supreme Court noted that nothing in the two-dismissal rule (as in effect in Ohio) “indicates that it should not apply to foreclosure actions.” Id.; see also Deutsche Bank Tr. Co. Ams. v. Beauvais, 188 So. 3d 938, 963 (Fla. Dist. Ct. App. 2016) (Scales, J., dissenting) (“Explicit in Singleton is that, in order to reinstate the parties’ previous contractual relationship so that subsequent defaults may occur, the trial court’s adjudication of the first foreclosure action must deny the lender’s acceleration. Otherwise . . . the lender’s affirmative, contractually prescribed acceleration remains unaffected.”). 136 10 CORBIN ET AL., supra note 70, § 53.9 (“[U]nder an installment contract the statute of limitations runs only against each installment at the time it becomes due. ‘In essence,’ the court explained, ‘this rule treats each missed or otherwise deficient payment as an independent breach of contract subject to its own limitations period.’” (quoting Pierce v. Metro. Life Ins. Co., 307 F. Supp. 2d 325, 328–29 (D.N.H. 2004)). But see Beauvais, 188 So. 3d at 965 (Scales, J., dissenting) (“[The majority holds] that payment default and not acceleration constitute the last element of a foreclosure cause of action. . . . [T]his holding marks an upheaval of well- continued . . . !, $$-- $'$.   ./ & - .&  apply even where the first claim, after acceleration of the loan and demand for the entire amount due on the note, had been lost on the merits.137 Recent cases in Florida illustrate how the traditional approach has been transformed in the foreclosure context so as to essentially eviscerate the protection of the statute of limitations and res judicata.138 In Singleton v. Greymar Associates, the Florida Supreme Court confronted an appellate circuit split regarding acceleration and foreclosure after a first foreclosure case was dismissed.139 On one side, the Florida Fourth District Court of Appeal held in Singleton that the earlier dismissal did not bar the present suit under res judicata.140 The Florida Second District Court of Appeal, by contrast, held in Stadler v. Cherry Hill Developers, Inc. that a mortgagee who had their first lawsuit dismissed with prejudice was barred from filing a future suit by res judicata.141 In Singleton, Gwendolyn Singleton had a mortgage on her home that

established Florida law.” (alteration in original)). 137 See Collazo v. HSBC Bank USA, N.A., 213 So. 3d 1012, 1013 (Fla. Dist. Ct. App. 2016) (“This Court’s decision issued on rehearing en banc in the case of [Beauvais], holds that the five-year statute does not bar a second foreclosure suit filed on a subsequent payment default occurring within the five-year statutory period preceding the commencement of the second suit. . . . The record in the present case discloses that HSBC asserted the same payment default date and basis for acceleration in both the 2008 and 2014 complaints, a date over five years preceding the commencement of the 2014 case in the circuit court. As a result, we reverse the final judgment of foreclosure and remand the case for dismissal without prejudice in accordance with this Court's recent opinion on rehearing en banc in Beauvais.” (alteration in original) (citations omitted)); see also Beauvais, 188 So. 3d at 938 (finding that each default has a separate statute of limitation, even if the loan had been previously accelerated and regardless of whether the claim was dismissed with or without prejudice); U.S. Bank Nat’l Assoc. v. Bartram, 140 So. 3d 1007, 1014 (Fla. Dist. Ct. App. 2014) (“Therefore, we conclude that a foreclosure action for default in payments occurring after the order of dismissal in the first foreclosure action is not barred by the statute of limitations found in section 95.11(2)(c), Florida Statutes, provided the subsequent foreclosure action on the subsequent defaults is brought within the limitations period.”), aff’d, 211 So. 3d 1009 (Fla. 2016), reh’g denied, 2017 Fla. LEXIS 593 (Fla. Mar. 17, 2017). 138 See Singleton v. Greymar Assocs., 882 So. 2d 1004 (Fla. 2004). 139 See id. 140 See id. at 1005 (“On appeal, the Fourth District affirmed the circuit court’s decision, finding that ‘even though an earlier foreclosure action filed by appellee was dismissed with prejudice, the application of res judicata does not bar this lawsuit. . . . The second action involved a new and different breach.’” (alteration in original) (quoting Singleton v. Greymar Assocs., 840 So. 2d 356, 356 (Fla. Dist. Ct. App. 2003), aff’d, 882 So. 2d 1004 (Fla. 2004))). 141 See Stadler v. Cherry Hill Developers, Inc., 150 So. 2d 468, 473 (Fla. Dist. Ct. App. 1963). continued . . .

  #$%& '() +) ")*') ))  contained an acceleration clause.142 Greymar Associates brought an action alleging default that extended from nonpayment from September 1, 1999, to February 1, 2000.143 After Greymar failed to appear at a case management conference, the circuit court dismissed the case with prejudice.144 Greymar brought a second action and alleged different default dates, claiming damages from April 1, 2000, onward.145 The trial court rejected the mortgagor’s res judicata defense.146 The Florida Fourth District Court of Appeal affirmed the trial court’s decision because the second lawsuit alleged what the court termed a new and separate breach.147 Singleton then petitioned the Florida Supreme Court to deal with the “express and direct conflict between the Fourth District’s decision and the Second Circuit’s decision” in Stadler.148 In Stadler, the foreclosing Plaintiff, Cherry Hill Developers (“Cherry Hill”), missed a deadline to preserve testimony or set a trial under a later-expired Florida rule of procedure.149 As a result, the trial court granted Stadler’s motion for a final judgment.150 The second lawsuit filed by Cherry Hill was “essentially identical” to the claims made in the first lawsuit, except for allegations of a different default date.151 The default alleged against Stadler in the first case was May 1960, but the default date alleged in the second suit was August 1960.152 In the Florida Second District Court of Appeal, Cherry Hill argued that the dismissal of the first claim was not clearly on the merits and not related to default or acceleration, and that res judicata should therefore not apply.153 While recognizing longstanding exceptions to the harsh application of res judicata, such as unjust enrichment or possible misunderstanding of the finality and effect of the first order or judgment, the Florida Second District Court of Appeal reasoned: The essential question is whether the election to accelerate put the entire balance, including future installments at issue. If it was at issue then the second action seeks the same relief under the same contract and

142 Singleton, at 1009. 143 Id. at 1005. 144 See id. 145 See id. 146 See id. 147 See id. 148 Id. 149 Stadler v. Cherry Hill Developers, Inc., 150 So. 2d 468, 469 (Fla. Dist. Ct. App. 1963). 150 Id. 151 Id. 152 Id. 153 Id. at 470–72. continued . . . !, $$-- $'$.  ./ & - .&  is predicated on a failure to comply with the same requirement. There can be no doubt that the accelerated balance was at issue and that the prayer of the complaint sought, not one interest installment, but the entire amount due. Accordingly, it seems clear that the actions are identical.154 The Stadler court noted that this holding, as researched in its 1960 decision, was based on near unanimity among authorities determining the effect of acceleration. 155 That is, electing to accelerate a loan necessarily entails demanding the entire amount of the loan, which “puts all future installment payments in issue and forecloses successive suits.”156 Accordingly, the court upheld the dismissal of the second suit on res judicata grounds because the two foreclosure suits against Stadler were identical.157 Significantly, the Florida Supreme Court in Singleton did not describe how the Second District’s definition of acceleration and its legal effect was wrong or unfounded, or describe any development in jurisprudence or change in mortgage term definitions that would suggest acceleration does not mean that the entire agreement is integrated into one claim or demand or that future installments are necessarily part of any accelerated claim.158 Instead, the court merely noted discontent with Stadler’s “stricter and more technical” view of acceleration. 159 The support cited in favor of this novel view of acceleration, provided by the Florida Supreme Court, was a single citation to a Florida appellate opinion, which the Florida Supreme Court quoted as authority to suggest that acceleration does not place any future installments at issue.160 In this sole case cited for this brand-new conception of acceleration, Olympia Mortgage Corp. v. Pugh, the foreclosing entity, Olympia Mortgage Corporation (“Olympia Mortgage”), had filed three successive foreclosure actions.161 The first alleged a default date of April 1995 and was voluntarily dismissed.162 The appellate court noted that at the time of the first suit, Olympia Mortgage had not been

154 Id. at 472. 155 See id. at 472–73. 156 Id. at 472. 157 See id. at 473. 158 See Singleton v. Greymar Assocs., 882 So. 2d 1004, 1007 (Fla. 2004). 159 Id. at 1006. 160 See id. at 1006 (citing Olympia Mortg. Corp. v. Pugh, 774 So. 2d 864, 866 (Fla. Dist. Ct. App. 2000)). 161 See Pugh, 774 So. 2d at 864. 162 See id. at 865. continued . . .

 #$%& '() +) ")*') ))  assigned the mortgage loan it sought to enforce.163 The second suit alleged a default date of May 1995 and was also voluntarily dismissed, as Olympia Mortgage again failed to complete basic pre-suit requirements necessary to maintain its claim.164 The third case alleged the same May 1995 default date as alleged in the second suit; and, even without the difference in the April and May 1995 default dates as described in the case history, the parties apparently stipulated that “the parties agreed that both [the first and second foreclosure] actions alleged April 1, 1995 as the initial date of default.”165 Confronting this set of confusing facts brought on by lack of proof and by incompetent litigation in the first two suits, the Pugh court hunted for a coherent reason to determine why the traditional definition of acceleration, in light of the authority that acceleration places future installments at issue, should not be respected.166 In a remarkable bit of trying to fit a square peg into a round hole, the Florida Fourth District Court of Appeal produced something akin to a verbal representation of an Escher painting: [I]f we treat Olympia’s voluntary dismissal of the first foreclosure action as an adjudication on the merits against Olympia, then the payment on the note and mortgage could not have been accelerated. Although Olympia sought to accelerate, had Olympia gone through with the suit and lost on the merits, then the court would have necessarily found that the Pughs had not defaulted on the payments due to date. If the Pughs had not defaulted, then Olympia would not be entitled to accelerate payment on the note and mortgage. By voluntarily dismissing the suit, Olympia in effect decided not to accelerate payment on the note and mortgage at that time.167 The Pugh court thus opened the door to two concepts previously unknown in acceleration. First, it implicates that in every dismissal for whatever cause, any alleged default is necessarily disproven, rendering acceleration a factual impossibility.168 This is apparently so by virtue of the Fourth District’s judicial fiat, regardless of whether the actual

163 See id. 164 See id. 165 Id. at 865 n.1 (alteration in original). 166 Stadler v. Cherry Hill Developers, Inc., 150 So. 2d 468, 472 (Fla. Dist. Ct. App. 1963). 167 Pugh, 774 So. 2d at 866. 168 See id. continued . . . !, $$-- $'$.   ./ & - .&  default date was a contested issue in the case.169 It is entirely unclear how a dismissal on the merits of a case seen through to a verdict, in the Pugh reasoning’s example above, would necessarily mean that default was disproven. Nothing inherent in a dismissal, whether voluntary or involuntary, means a default was disproven, because defeat of a foreclosing entity’s claims can be defeated on innumerable grounds not involving a default question that would be deemed “on the merits.”170 The second fiction in the Pugh court’s decision is that acceleration is only a fact if ratified by a court. In other words, the Pugh court declared that acceleration, the demand for all payments due under a note, only occurs if a court reaches a final judgment in favor of a bank or foreclosing entity.171 This, of course, is contradicted by longstanding jurisprudence on acceleration and res judicata, as noted above.172 In its supposition that “voluntary dismissal of a suit” always means that a foreclosing entity “in effect decided not to accelerate payment on the note and mortgage at that time,” 173 the Florida Supreme Court constructed the only possible legal reading that would give banks continual opportunities to file suit, regardless of the actual reason for dismissal.174 It is extremely rare for a voluntary dismissal to contain language that indicates mortgagors are thereafter not being demanded to pay the full amount of their loans, as would be implied by this artificial, automatic deceleration rule.175 Judicial dismissal under this theoretical approach actually performs a significant service to foreclosing banks’ claims, as courts consequently deem the note decelerated and the bank can continue to bring defective claims ad infinitum.176

169 See id. (emphasis added). 170 Id. These would include conditions precedent, standing, fraud, etc. For example, a party may fail to comply with an order of court to produce discovery and have their case dismissed. See FLA. R. CIV. P. 1.420(b) (“Any party may move for dismissal of an action or of any claim against that party for failure of an adverse party to comply with . . . any order of court.”). Although such decision would be “on the merits” of the case, the Pugh court would apparently reason that a dismissal based upon failure to respond to discovery would also mean that default was disproven, even if it had never been at issue in the case and had never been litigated. See Pugh, 774 So. 2d. at 866. 171 See Pugh, 774 So. 2d at 867. 172 See supra notes 65–66 and accompanying text. 173 Pugh, 774 So. 2d at 866. 174 See id. at 867. 175 See id. at 866 (“[W]hether the mortgagor will make future installment payments is not at issue in a foreclosure action.”). 176 Among other questionable propositions in the Pugh decision is the assertion that “whether the mortgagor will make future installment payments is not the issue in a foreclosure action. The issue is whether there has already been a default.” Pugh, 774 So. 2d at 866. If payment of future installments is not at issue in continued . . .

 #$%& '() +) ")*') ))  The Pugh court’s liberalized judicial approach, then, laid the groundwork for the Florida Supreme Court in Singleton to overrule longstanding rules of acceleration and to declare that acceleration, in foreclosure or installment payment cases only, should not be given strict or technical enforcement as in Stadler.177 Unsurprisingly, the Singleton court, citing other cases that held that a second and separate action on a different alleged default date does not necessarily bar successive suits, ruled against the application of res judicata and ruled in favor of the foreclosing entity.178 In effect, the Singleton court eliminated the effect of res judicata in foreclosures in one decision: “acceleration and foreclosure predicated upon subsequent and different defaults present a separate and distinct issue.”179 Singleton thus implicitly opened the floodgates to the kind of slight, de minimis, variation in pleadings and claims the Gullotta court worried about.180 That is, the Singleton court decision authorizes foreclosing entities to file suit to claim 29 years or 348 months of payments, and then change their allegations to demand, for example, 347 months of payments, to create a “separate and distinct claim” necessary to avoid res judicata.181 The Singleton court attempted to minimize the implications of its ruling. Specifically, the court stated: We conclude that the doctrine of res judicata does not necessarily bar successive foreclosure suits, regardless of whether or not the mortgagee sought to accelerate payments on the note in the first suit. In this case the subsequent and separate alleged default created a new and independent right in the mortgagee to accelerate payment on the note in a subsequent foreclosure action. Thus, we approve the Fourth District's decision in

foreclosure actions, then why do foreclosure judgments grant entitlement to the entire amount of the loan not due for 30 years? See, e.g., Beneficial Ohio, Inc. v. Lemaster, No. 2008 CA 0100, 2009 WL 2457710, at *4 (Ohio Ct. App. July 30, 2009). Indeed, the entire point of acceleration is to place future payments at front and center of any case—as banks should not have to file a separate action for every month a payment is missed. See Hahn, supra note 34. And, in actual fact, this results in the scenario presented by Beauvais: later courts have piggybacked on this absurd notion and opined that a dismissal not only means automatic deceleration, but also that the homeowners are placed back into a situation where they can resume their normal payments. See infra Part IV. This is highly dubious. 177 See Singleton v. Greymar Assocs., 882 So. 2d 1004, 1006–08 (Fla. 2004). 178 Id. at 1007. 179 Id. 180 See id. at 1006; U.S. Bank Nat’l Ass’n v. Gullotta, 899 N.E.2d 987, 992–93 (Ohio 2008). 181 Singleton, 882 So. 2d at 1006–07. continued . . . !, $$-- $'$.   ./ & - .&  Singleton, and disapprove of the Second District's holding in Stadler.182 Again, given that the Singleton court ruled on a case where the difference in default date allegations was one month, it would seem that its assertion that res judicata “may, but does not necessarily” apply is misleading. 183 The court phrased the ruling as an exception to res judicata, but the practical effect of this ruling means that the exception is now the rule. In other words, any competent attorney in a successive foreclosure suit now will allege a separate default date and thereby successfully avoid res judicata (even if the subsequent suit is the tenth successive attempted claim relating to the same loan). Although the court did pay lip service to the “tension” between the harsh remedy of res judicata and the equities of a given foreclosure case, it is patently clear the court felt the “ends of justice” lay with banks and lenders, not homeowners.184 Along the same lines, the Florida Supreme Court eradicated the effect of the statute of limitations in foreclosure actions in Deutsche Bank Trust Co. Americas v. Beauvais.185 Harry Beauvais took out a mortgage note from American Home Mortgage Servicing, Inc. (“AHMSI”) in February 2006.186 After Beauvais missed a few monthly payments, AHMSI initiated a foreclosure proceeding in January 2007 and accelerated the debt.187 AHMSI ignored a court order to appear at a case management conference and thus the case was dismissed in December 2010. 188 In a separate action, Beauvais’s condominium association, Aqua Master Association, Inc., commenced its own foreclosure proceeding and took title to the property in 2011.189 In December 2012, Deutsche Bank, the new putative owner of the mortgage loan, commenced a foreclosure action citing Beauvais’s initial default as well as every payment after.190 The condominium

182 Id. at 1008 (emphasis added). 183 Id. at 1007 (quoting Capital Bank v. Needle, 596 So. 2d 1134, 1138 (Fla. Dist. Ct. App. 1992)). 184 Id. at 1008 (“We must also remember that foreclosure is an equitable remedy and there may be some tension between a court’s authority to adjudicate the equities and the legal doctrine of res judicata. The ends of justice require that the doctrine of res judicata not be applied so strictly so as to prevent mortgagees from being able to challenge multiple defaults on a mortgage.”). 185 Deutsche Bank Tr. Co. Ams. v. Beauvais, 188 So. 3d 938 (Fla. Dist. Ct. App. 2016) (en banc). 186 Id. at 954–55. 187 Id. at 940. 188 Id. at 941. 189 Id. at 940. 190 Id. continued . . .

! #$%& '() +) ")*') ))  association raised an affirmative defense that the statute of limitations had run, as Deutsche Bank’s December 2012 filing date was at least five years past the date of the acceleration claim in AHMSI’s Complaint filed in January 2007.191 The condominium association thus argued that the debt was never decelerated.192 Deutsche Bank, taking the lead from Singleton, argued that each subsequent payment was a separate default and thus a separate claim, each with its own statute of limitations.193 The trial court granted the condominium association’s motion to dismiss, holding that the statute of limitations barred the claim.194 The trial court also stated that Singleton had no application to the present case because Singleton involved a decision based on res judicata and not the statute of limitations.195 On appeal, the Florida Third District Court of Appeal affirmed the trial court’s order barring the claim under the statute of limitations.196 The court distinguished earlier Florida law by stating in this case the initial claim was dismissed without prejudice, which meant that the debt was not decelerated.197 Therefore there were no “new payments” due because after acceleration there was only one payment due: the entire amount of the accelerated loan.198 This holding was consistent with Gullotta, which meant that after acceleration there would only be one claim for the entire debt, not one for each installment payment.199 On rehearing en banc, the Florida Third District Court of Appeal reversed, citing Singleton.200 The court expanded Singleton’s holding based on res judicata to apply to statute of limitations cases.201 Largely adopting the Singleton approach, the court held that each installment payment was a separate claim, and therefore it had its own statute of limitations as well.202 Thus, as in res judicata scenarios, the bank was

191 Id. 192 Id. at 940–41 (alleging once the debt was accelerated, the bank had five years to pursue a foreclosure action, thus in essence stating the debt had never decelerated). 193 Id. at 941 (quoting the lower court’s opinion). 194 Id. (quoting the lower court’s opinion). 195 Id. (quoting the lower court’s opinion). 196 Deutsche Bank Tr. Co. Ams. v. Beauvais, No. 3D14–575, 2014 Fla. App. LEXIS 20422, at *12 (Fla. Dist. Ct. App. Dec. 17, 2014), rev’d on reh’g en banc, 188 So. 3d 938 (2016). 197 Id. at *9–10. 198 Id. 199 Id. 200 Beauvais, 188 So. 3d at 941. 201 Id. at 944 (“Here we follow that choice. And, as have numerous post- Singleton courts before us, we apply this determination, while made in the context of a res judicata defense, to a statute of limitations defense.”). 202 Id. continued . . . !, $$-- $'$.  ./ & - .&  not precluded from seeking missed installment payments within the statute of limitations.203 Perhaps an even more explicit expansion of Singleton (and a not very subtle clue to the Beauvais court’s view of foreclosure litigation) is provided in the court’s express assertion that whether a prior foreclosure suit was dismissed with or without prejudice is irrelevant for res judicata and statute of limitations analysis purposes.204 In other words, in this 2016 decision, years after Florida’s courts and the state bar association were nationally embarrassed by exposure that the courts had permitted the filing of thousands of fraudulent documents and claims,205 the Florida Third District Court of Appeal essentially concluded that even a case of dismissal with prejudice for any reason, including fraud on the court, would not preclude a bad actor from continually refiling against a given homeowner.206 After concluding that the “foreclosure exception” to res judicata also applies to statute of limitations cases, and after ordering future courts to ignore the reasons a prior unsuccessful claim might have been dismissed, the Beauvais court cited factual statements of Fannie Mae, Freddie Mac, the Business Law Section of the Florida Bar, and the Real Property Probate and Trust Law Section of the Florida Bar in support of the court’s conclusions.207 While distinguishing and diminishing cases presented by borrower and consumer advocates, the court thus relied upon lending industry and lender bar statements as support for the proposition that dismissal of an action for any reason means automatic deceleration—the idea suggested by the earlier Pugh decision. 208 The court, while finding that dismissal does act as an automatic deceleration without any affirmative act requirement on the part of banks or lenders, did not cite or discuss other decisions holding that an affirmative act was required to accelerate a loan.209 Thus, under

203 Id. 204 Id. at 945. 205 See generally Robo-Litigation, supra note 22, at 872–80, 884–88 (examining the “sketchy” foreclosure practices of various Florida law firms and the responses from the Florida Attorney General and State Bar). 206 See Beauvais, 188 So. 3d at 946 (“[T]he ‘with’ or ‘without’ prejudice’ dismissal is a distinction without a difference.” (citations omitted)). Again, this appears to be a statement that the Third District only applies to foreclosure litigation. See U.S. Bank Nat’l Ass’n v. Bartram, 140 So. 3d 1007, 1012 (Fla. Dist. Ct. App. 2014), aff’d, 211 So. 3d 1009 (Fla. 2016), reh’g denied, 2017 Fla. LEXIS 593 (Fla. Mar. 17, 2017). 207 Beauvais, 188 So. 3d at 947–50. 208 Id.; see Olympia Mortg. Corp. v. Pugh, 774 So. 2d 863, 867 (Fla. Dist. Ct. App. 2000) (confirming that voluntary dismissal of foreclosure action on an accelerated mortgage and note did not bar a subsequent action on a later default). 209 Beauvais, 188 So. 3d at 947–50. continued . . .

 #$%& '() +) ")*') ))  the Beauvais court’s reasoning, a statute of limitations clock for acceleration does not occur until a foreclosing entity takes an affirmative act.210 Yet to decelerate, no such requirement is needed.211 Unsurprisingly, both of these inconsistent holdings are to the sole detriment of homeowners raising any sort of statute of limitations defense.212 The dissent of Judge Scales pointed out the many deficiencies in the majority’s decision and noted its singular expansion of Singleton—a case which the dissent notes does not even mention the statute of limitations once.213 Aside from disagreeing with this extension of a res judicata case to a statute of limitations issue, Judge Scales noted several compelling disagreements with the majority opinion. 214 First, the dissent understood Beauvais to improperly suggest that the installment nature of a contract is unaffected by the acceleration of the note.215 The majority opinion, in Judge Scales’s view, created a “court-imposed fiction that, after acceleration, subsequent monthly installment payments somehow continue to become due.”216 In other words, a loan could be accelerated, tied up in court for years, and a bank or lender could continuously demand the full accelerated amount. Yet upon dismissal, the same bank may sue for any one of the defaults during that same time period in which they demanded the full amount.217 This is “irreconcilable,” in Judge Scales’s view, with “decades of case law holding that a loan acceleration—whether automatic or exercised at the option of the lender—causes the entire indebtedness immediately to become due.”218 Aside from creating the “fiction” of continuous installment payments coming due regardless of acceleration, Judge Scales noted, as noted above, that the Beauvais majority extends to every dismissal, no matter the reason or the issues adjudicated in such dismissal, the presumption that acceleration and/or default has been disproven and that the installment payment duties are reinstituted automatically.219 Again, this simplistically “discounts the dramatic variances that can

210 Id. 211 Id. 212 Id. at 959; see Singleton v. Greymar Assocs., 882 So. 2d 1004, 1007 (Fla. 2004). 213 Beauvais, 188 So. 3d at 966–68 (Scales, J., dissenting). 214 Id. at 959, 967. 215 Id. at 963. 216 Id. at 962. 217 Id. at 962–63 n.21. 218 Id. 219 Id. at 959. continued . . . !, $$-- $'$.   ./ & - .&  result from different dismissal orders.”220 Further, Judge Scales noted inconsistency between the majority’s view that acceleration does not end the installment nature of a loan and its view that dismissal automatically places parties back in their pre-acceleration places: “If acceleration does not terminate the installment nature of the loan, then dismissal is also irrelevant because acceleration has not altered the parties’ status quo in the first place.”221 Judge Scales also suggested that automatic reinstatement of the loan upon dismissal is not something that would be granted in the event a borrower moved for it at the end of a case where acceleration and default were not at issue.222 The majority, in what Scales deems a procedurally unfair fashion, nevertheless grants automatic reinstatement to lenders, which is a benefit when seeking to avoid the harsh statute of limitations preclusion.223 Finally, Judge Scales noted the incredible deference granted to lenders and foreclosing entities by the wholesale extension of Singleton to statute of limitations cases.224 He noted that “it seems that equitable considerations—rather than any explicit pronouncement in Singleton— fuel the majority opinion’s sweeping construction of Singleton.”225 Such equitable considerations may have been appropriate for a res judicata case like Singleton, but statutes of limitation are purely legislative processes predicated on public policy, not any judicially intuited sense of fairness. 226 Accordingly, Judge Scales posits, the majority’s equitable powers should not interfere with what is supposed to be a “province of the legislative branch.”227 Eventually, the Florida Supreme Court, in Bartram v. U.S. Bank National Ass’n, adopted the holding in Beauvais that the installment nature of the contract continued despite acceleration and that Singleton fully applies to statute of limitations cases.228 Lewis Bartram, obligated

220 Id. at 961 n.19. 221 Id. at 959 n.15. 222 Id. at 964. 223 See id. at 964–65 (“In my view, this conclusion turns procedural fairness on its head by giving the sanctioned party (the lender) the after-the-fact benefit of reinstatement: a remedy that the prevailing party (the borrower) never would receive.”). 224 See id. at 966 (“[B]y allowing the lender’s acceleration and potential re- accelerations to keep delaying the operation of the statute of limitations, the majority establishes the note’s maturity date as the only date that can trigger application of the five-year statute of limitations.”). 225 Id. at 968. 226 Id. at 967. 227 Id. at 967. 228 Bartram v. U.S. Bank Nat’l Ass’n, 211 So. 3d 1009, 1022 (Fla. 2016), reh’g denied, 2017 Fla. LEXIS 593 (Fla. Mar. 17, 2017). continued . . .

  #$%& '() +) ")*') ))  to purchase his ex-wife’s interest in their property pursuant to a divorce agreement, obtained a loan through Finance America LLC in the amount of $650,000 in February 2005.229 That loan was subsequently assigned to U.S. Bank.230 On January 1, 2006, Bartram stopped making payments.231 In May 2006, U.S. Bank filed a foreclosure complaint and accelerated the debt. 232 Nearly five years later, the suit was involuntarily dismissed after the bank failed to appear at a case management conference.233 Following that dismissal, which occurred more than five years after acceleration, Bartram filed a motion to cancel the promissory note and to release the lien of the mortgage.234 The trial court denied this request due to lack of jurisdiction given that an adjudication on the merits had already occurred.235 Bartram filed a similar crossclaim against U.S. Bank a year later in a separate foreclosure action that his ex-wife had brought against U.S. Bank and Bartram.236 The trial court granted summary judgment and quieted title to Bartram.237 The court denied a rehearing and U.S. Bank appealed to the Florida Fifth District Court of Appeal, which essentially adopted Singleton wholesale.238 Accepting jurisdiction as a question of great public importance, the Florida Supreme Court held that subsequent suits were not barred and accepted Beauvais’s reasoning that the installment nature of the contract remained.239 The court, citing a number of state court and federal court

229 Id. at 1013. 230 Id. 231 Id. at 1014. 232 Id. 233 Id. 234 Id. 235 Id. at 1014–15. 236 Id. at 1015 (“Approximately a year later, after the dismissal of the foreclosure action and almost six years after the Bank filed its foreclosure complaint, Bartram filed a crossclaim against the Bank in a separate foreclosure action Patricia had brought against Bartram, the Bank, and the HOA. Bartram’s crossclaim sought a declaratory judgment to cancel the Mortgage and to quiet title to the Property, asserting that the statute of limitations barred the Bank from bringing another foreclosure action.”). 237 Id. 238 U.S. Bank Nat’l Ass’n v. Bartram, 140 So. 3d 1007, 1014 (Fla. Dist. Ct. App. 2014), aff’d, 211 So. 3d 1009 (Fla. 2016), reh’g denied, 2017 Fla. LEXIS 593 (Fla. Mar. 17, 2017). 239 Bartram, 211 So. 3d at 1019 (“Consistent with the reasoning of Singleton, the statute of limitations on the balance under the note and mortgage would not continue to run after an involuntary dismissal, and thus the mortgagee would not be barred by the statute of limitations from filing a successive foreclosure action premised on a ‘separate and distinct’ default. Rather, after the dismissal, the parties are simply placed back in the same contractual relationship as before, where the continued . . . !, $$-- $'$.  ./ & - .&  decisions since Singleton, adopted the expansion and extension of res judicata analysis to statute of limitations questions.240 The Bartram court next wrestled with the many criticisms of Singleton’s singular disregard of the various effects that different dismissals can implicate. 241 Instead of describing the innumerable reasons dismissal could occur and the various implications of any such dismissal, the court broadly stated that whether a dismissal is with or without prejudice only affects a lender’s ability to collect on past defaults, not any future defaults. 242 Accordingly, it would not be hyperbole to say that under this interpretation, a bank can lie, cheat, and steal243 during the pendency of a foreclosure case, receive a dismissal of its cause (which requires payment of all sums due under the entire note and mortgage for the life of the loan) with prejudice as a sanction for repugnant conduct, and emerge relatively unscathed with a new lawsuit based upon an arbitrarily picked later default date.244 And while the court relies upon uniform mortgages’ reinstatement provisions to assert that dismissal places the parties back in the positions they were in prior to the lawsuit, this is patently misleading—the reinstatement clause typically requires, for example, that borrower pay lenders all of their legal expenses in the first lawsuit before reinstatement can be given effect. 245 Again, this is without any regard to why the suit was dismissed in the first place and independent of the presence of fraud, disregard of court orders, or any other improper foreclosure litigation practices.246 Perhaps most remarkable is the Bartram court’s contention that its decision is in fact pro-borrower: failure to agree with its interpretations of the reinstatement clause would mean borrowers still owe the accelerated amount even after a dismissal, which could “[lead] to an unavoidable default.”247 Of course, this decision completely ignores

residential mortgage remained an installment loan, and the acceleration of the residential mortgage declared in the unsuccessful foreclosure action is revoked.”). 240 Id. at 1018–19. 241 Id. at 1020. 242 Id. 243 See Robo-Litigation, supra note 22, at 885. 244 Bartram, 211 So. 3d at 1020 (“Whether the dismissal of the initial foreclosure action by the court was with or without prejudice may be relevant to the mortgagee's ability to collect on past defaults. However, it is entirely consistent with, and follows from, our reasoning in Singleton that each subsequent default accruing after the dismissal of an earlier foreclosure action creates a new cause of action, regardless of whether that dismissal was entered with or without prejudice.”). 245 Id. at 1013. 246 Id. at 1020. 247 Id. at 1021 (alteration in original). continued . . .

 #$%& '() +) ")*') ))  that in a dismissal scenario, months or years after a case was filed, many months of payments and expenses will be owed.248 Thus, there is no functional difference for the average distressed borrower (many of whom are too impoverished even to afford legal counsel) between demanding an accelerated sum and demanding a reinstatement sum of years of defaults and accompanying expenses. 249 Worse, the court describes a world in which banks might accept regular monthly payments immediately after a dismissal that, under the revised doctrine, automatically decelerates the loan.250 Again, reinstatement requires payment of all past due amounts and all expenses so far incurred by the bank.251 Accordingly, it is inconceivable that a bank would be required to, or would actually accept, a borrower’s regular monthly payment amount immediately after protracted litigation. Each installment payment, the Bartram decision held, could be a separate default, meaning it was its own claim for res judicata purposes and thus each claim had its own statute of limitations.252 In so doing, the court implicitly rejected Stadler.253 Finally, the Bartram court held that whether an involuntary dismissal occurred with or without prejudice did not matter for purposes of the new lawsuit.254 The distinction only mattered if banks wanted to pursue the same defaulted payment as before.255 If the first lawsuit was dismissed with prejudice, then that default could not be pursued again, however any future payments were recoverable in future lawsuits.256 A dismissal without prejudice would allow the bank to pursue the same default as the first lawsuit.257

248 Id. at 1020. 249 Id. at 1021. 250 Id. at 1023. 251 Id. at 1020. 252 Id. at 1019. 253 Id. at 1016 (“Stadler also involved two successive foreclosure actions where the first foreclosure action had been dismissed with prejudice. The mortgagee brought a second foreclosure action that was identical except for alleging a different period of default. That action was successful, and the mortgagor appealed. The Second District reversed the judgment of foreclosure entered on the basis of res judicata and concluded that the ‘election to accelerate put the entire balance, including future installments at issue.’ Therefore, even though different periods of default were asserted, the ‘entire amount due’ was the same and thus the ‘actions are identical.’ Accordingly, the Second District concluded that res judicata barred the second foreclosure action.” (quoting and citing Stadler v. Cherry Hill Developers, Inc., 150 So. 2d 468, 469, 472–73 (Fla. Dist. Ct. App. 1963))). 254 Id. at 1020. 255 Id. 256 Id. 257 Id. continued . . . !, $$-- $'$.   ./ & - .&  Judge Lewis’s concurrence in Bartram noted apprehension at the approach that gives any sort of dismissal, for any reason, the effect of automatic deceleration.258 This was particularly troubling where there are no facts in the record to show even a hint of “de facto reinstatement” following the initial dismissal.259 Judge Lewis echoed the dissent of Judge Scales in the Beauvais case, pointing out again that the equitable considerations that led courts in Florida to create exceptions for banks and lenders should not govern statute of limitations cases.260

III.UNDERSTANDING ACCELERATION AND RES JUDICATA AND STATUTE OF LIMITATION CASES Our previous research has established a number of patterns in judicial treatment of foreclosure cases. 261 We have noted that an unceasing drive for faster foreclosure processing time resulted in less procedural and substantive due process protections for homeowners, and undoubtedly contributed to the impressive number of false and fraudulent documents filed in state courts around the country.262 We also described an overall trend of courts narrowing novel defenses to foreclosures that have arisen in the wake of the Great Recession.263 As a result, our research has painted a picture of a specific and narrow area of law in which the party with the most resources seems to largely receive the benefit of any judicial doubt. The virtual destruction of the statute of limitations and res judicata in Florida as to foreclosure cases, and the singularly expansive rulings given in favor of banks and foreclosing entities in the cases discussed supra fit neatly into the

258 Id. at 1023 (Lewis, J., concurring in the result) (“Given the procedural posture of this matter and the relatively sparse record before this Court, the decision today fails to address evidentiary concerns regarding how to determine the manner in which a mortgage may be reinstated following the dismissal of a foreclosure action, as well as whether a valid ‘subsequent and separate’ default occurred to give rise to a new cause of action. See Singleton v. Greymar Assocs., 882 So. 2d 1004, 1008 (Fla. 2004). Instead of addressing these concerns, the Court flatly holds that the dismissal itself—for any reason—‘decelerates’ the mortgage and restores the parties to their positions prior to the acceleration without authority for support.”). 259 Id. (“In this case, there is no evidence contained in the record before this Court to show whether the parties tacitly agreed to a ‘de facto reinstatement’ following the dismissal of the previous foreclosure action. Further, despite the assumption of the majority of the Court to the contrary, the mortgage itself did not create a right to reinstatement following acceleration and the dismissal of a foreclosure action.”). 260 Id. at 1024. 261 See, e.g., A Standing Question, supra note 17, at 708–11. 262 See id. at 729; Not a Party, supra note 14, at 182–83. 263 See Not a Party, supra note 14, at 179–80, 182–83. continued . . .

 #$%& '() +) ")*') ))  pattern we have established. 264 Ultimately, as we have argued previously, the failures of the judiciary lead to negative externalities that were ignored or downplayed in the lender-friendly opinions we examined.265

A. The Typical Frame of Foreclosure

We begin by attempting to shed light on why research seems to show that judges are inclined to overlook irregularities in the foreclosure process or to modify doctrine to liberally permit foreclosures.266 As discussed in the sections above, courts often cite equitable concerns, particularly the desire to avoid awarding “free houses” to debtors that have defaulted on their mortgages.267 These equitable concerns, however, are necessarily rooted in a particular and narrow view of the mortgage and foreclosure process.268 Accordingly, it is important to discuss the “frames” themselves. Upon examination, it is clear that judges may be predisposed to discount debtor defenses because of how foreclosure cases are situated within the judicial system. Given the backlog of foreclosures during the height of the housing crisis, judges were under apparent pressure to resolve these cases as expeditiously as possible.269 The courts’ ability to do so may even be tied to the funding for the courts.270 Judges unsurprisingly may be reluctant to seriously consider defenses, particularly those that merely act as a “stall” to an otherwise valid claim.271

264 See Singleton v. Greymar Assocs., 882 So. 2d 1004, 1005 (Fla. 2004); Olympia Mortg. Corp. v. Pugh, 774 So. 2d 863, 866 (Fla. Dist. Ct. App. 2000) (illustrating recent cases in Florida that have essentially eviscerated the protections of the statute of limitations and res judicata); Stadler v. Cherry Hill Developers, 150 So. 2d 468, 469–70 (Fla. Dist. Ct. App. 1963). 265 See A Standing Question, supra note 17, at 730; see also infra text accompanying note 304. 266 A Standing Question, supra note 17, at 729. 267 Singleton, 882 So. 2d at 1008. 268 Id. 269 See, e.g., Foreclosure Initiative Workgroup, Foreclosure Backlog Reduction Plan for the State Courts System, FLA. CTS. 6 (Apr. 10, 2013), http://www.flcourts.org/core/fileparse.php/251/urlt/RecommendationsForeclosureIni tiativeWorkgroup.pdf (proposing a process to clear foreclosure backlogs). 270 See id. at 4 (discussing docket clearance rates and their link to court funding). 271 Allen, supra note 5 (describing shortcuts that some Florida courts took to facilitate fast resolution at the expense of many homeowners); Adolfo Pesquera, Miami-Dade Aggressively Pushes Foreclosure Cases Through System, DAILY BUS. REV. (Aug. 2, 2013), http://www.dailybusinessreview.com/id=1202613700227/MiamiDade-Aggressively- Pushes-Foreclosure-Cases-Through-System?slreturn=20150028155007 (quoting one continued . . . !, $$-- $'$.   ./ & - .&  We have previously noted immense judicial skepticism to debtor defenses based on the assumed underlying culpability of debtors.272 For example, with rare exception courts were largely silent and unobtrusive amid the marching onslaught of MERS, the electronic placeholder that acts as nominal mortgagee for lenders for the life of loans, eliminating the need for many assignments of loans to be recorded.273 This new tracking system reduced recording revenues by millions, and reduced transparency in public records by lowering the likelihood of any given homeowner being able to access the correct current owner of his or her loan.274 Similarly, its development led to inaccurate and contradictory pleadings all across the nation.275 Yet it appears that in the majority of jurisdictions, judges have ruled that MERS will not face significant financial liability for its conduct and judges have largely accepted the arguments of MERS and its attorneys at face value.276 Similarly, we have noted that courts have tended to ignore debtor defenses based on standing.277 Again, with rare exception, many courts imply, or indeed occasionally express, the posture that to whom the debt is owed is largely irrelevant, as long as a given case seems plausible.278 Discovery may also be routinely denied based upon the existence of the debtors’ default.279 judge as saying, “If you can’t do [the trial] within an hour, you’re not a trial attorney”). 272 A Standing Question, supra note 17, at 711. 273 Standing in Our Own Sunshine, supra note 16, at 551–52, 555. 274 Id. at 552. 275 Id. 276 Cf. Taylor v. Deutsche Bank Nat’l Tr. Co., 44 So. 3d 618, 623 (Fla. Dist. Ct. App. 2010) (finding that MERS could arguably be a proper holder of promissory notes). 277 See, e.g., Not a Party, supra note 14, at 182; Pino v. Bank of N.Y. Mellon, No. SC11–697, 2011 WL 1537260, at *1 (Fla. Apr. 15, 2011). 278 Maraulo v. CitiMortgage, Inc., No. 12–CV–10250, 2013 WL 530944, at *7 (E.D. Mich. Feb. 11, 2013) (“Furthermore, none of the facts alleged indicate that the assignment may subject Plaintiffs to a risk of having to pay their mortgage twice. In fact, Plaintiffs’ complaint alleges that the assignor of the mortgage, American, went out of business in 2008 and ceased to exist as a corporate entity. Given that the assignor does not exist, Plaintiffs are not at any risk of paying the same claim twice, and have never alleged that they are at risk of such double payment.” (citations omitted)); Shumake v. Deutsche Bank Nat’l Tr. Co., No. 1:11–CV–353, 2012 WL 366923, at *3 (W.D. Mich. Feb. 2, 2012) (“Really, Shumake’s injury is fairly traceable to the fact that he failed to make his mortgage payments . . . whether Shumake made his mortgage payments on time had nothing to do with whether Chase validly assigned the mortgage to Deutsche Bank. Either way, Shumake still had to make the same payments-the assignment only altered to whom he made the payments; the assignment had no other consequence to Shumake.” (citations omitted)). 279 Consider, as one example, a sitting judge recently submitted an article to the continued . . .

! #$%& '() +) ")*') ))  Such foreclosure decisions, as with other judicial decisions, are often framed and influenced by the perceived primary actor in the conflict.280 In other words, judges often appear to imagine the most likely counterfactual scenario that would have avoided the foreclosure situation and thereby determine the “but for” cause of foreclosure.281 It may seem obvious, then, that judges would perceive debtors’ default to be the primary cause for the situation and therefore be inclined to be more sympathetic to the mortgagee, the aggrieved party in this instance. For example, in many states, there are judges assigned to particular areas of the law, such as foreclosures.282 Their repeated exposure to similar cases perhaps causes cynicism and skepticism regarding borrower defenses. Judges consequently choose to frame the issues as one of “deadbeat” borrowers that are seeking to take advantage of a bank that inadvertently failed to follow up on a claim after acceleration within the statute of limitations.283 There may be some truth to this stereotype, of course; homeowners may readily admit that they are seeking legal counsel in order to gain as much time as possible before having to settle, whether through a loan modification or a short sale.284 This can be particularly true of investors in rental property, who may

Florida bar that suggests that all notes are negotiable. See William H. Burgess, III, Negotiability of Promissory Notes in Foreclosure Cases: Ballast Is Not Luggage, 88 FLA. B.J., 8, 10, 18 (2014). This is troubling on a number of levels, (1) that a sitting judge—and the previous head of all foreclosure cases for a Florida county––felt impelled to dissuade others from attempting to assert a defense based on failure to meet holder status under the Uniform Commercial Code in foreclosure cases, and (2) that he also would clearly attempt to influence other judges to preclude any inquiry in individual cases regarding whether or not a given note is a negotiable instrument by making broad pronouncements about all uniform promissory notes based largely on out-of-state cases. See id. at 18. 280 See A Standing Question, supra note 17, at 708. 281 See id. at 725–26. 282 See, e.g., Alison Fitzgerald, Homeowners Steamrolled as Florida Courts Clear Foreclosure Backlog, CTR. FOR PUB. INTEGRITY (Sept. 10, 2014), https://www.publicintegrity.org/2014/09/10/15463/homeowners-steamrolled-florida- courts-clear-foreclosure-backlog; Juan Gonzales, Brooklyn Court Overwhelmed by Way of Foreclosures, N.Y. DAILY NEWS (Mar. 8, 2016), http://www.nydailynews.com/new-york/brooklyn/brooklyn-court-overwhelmed- wave-foreclosures-article-1.2557744. 283 See In re Washington, No. 14–14573–TBA, 2014 WL 5714586, at *1 (Bankr. D.N.J. Nov. 5, 2014) (“No one gets a free house.”), rev’d sub nom., Specialized Loan Servicing, LLC v. Washington, 2:14–CV–8063–SDW, 2015 WL 4757924 (D.N.J. Aug. 12, 2015), aff’d sub nom., In re Washington, 669 Fed. App’x 87 (3d Cir. 2016). 284 See generally Lambros Politis, How Can I Slow or Stop the Foreclosure Process?, ARK L. GROUP (Nov. 25, 2013), https://www.arklawgroup.com/blog/how- can-i-slow-or-stop-the-foreclosure-process (providing general advice on foreclosure delay tactics). continued . . . !, $$-- $'$.  ./ & - .&  heavily leverage to finance the initial purchase of the real estate and then lease it to tenants.285 The investors have very little skin in the game and may collect rent while delaying an otherwise valid foreclosure claim, with very little downside.286 Judges also are undoubtedly aware of the financial arrangements for many foreclosure defense attorneys, which can contribute to reluctance to seriously consider debtor defenses.287 When foreclosure proceedings have begun, many foreclosure defense attorneys in judicial foreclosure states offer to defend the proceedings for a monthly fee that is substantially less than the mortgage payment.288 In other words, one way of conceptualizing foreclosure defense is as an inexpensive option to lengthen proceedings and stall the inevitable. Any delay by virtue of defending a cause, however, is valuable to debtors that consequently will be permitted to stay in their homes for a monthly fee that is a fraction of their monthly mortgage payment.289 Judicial distaste for the stalling of an otherwise valid claim, particularly in light of the underlying financial arrangement that benefits both the debtor and the debtor’s attorney the longer the claim is stalled, may affect the reception of asserted foreclosure defenses. In some instances, this distaste has even manifested itself in the court’s willingness to rely on the unsworn amici of the banking bar as to the proper interpretation of the contract and acceleration rights.290 Confirming this assertion, in response to debtor assertions of defenses or even at the outset of the case, judges often seek to confirm that the debtor did not in fact pay as required (e.g., “But your client did

285 See A Standing Question, supra note 17, at 727–28 n.114. 286 See id. 287 See generally id. at 705 (providing examples of judges’ skepticism toward debtor defenses). 288 See How Much Will a Foreclosure Attorney Charge?, NOLO, https://www.nolo.com/legal-encyclopedia/how-much-will-foreclosure-attorney- charge.html (last visited Mar. 29, 2018). 289 Id. 290 Deutsche Bank Tr. Co. Ams. v. Beauvais, 188 So. 3d 938, 948 (Fla. Dist. Ct. App. 2016) (en banc) (“Adding support to our conclusion, both The Business Law Section of The Florida Bar and The Real Property Probate & Trust Law Section of The Florida Bar confirm that the custom and practice in Florida is to treat a dismissal of a foreclosure action as ‘decelerating’ an acceleration made in a foreclosure action.”); see Cooke v. Commercial Bank of Miami, 119 So. 2d 732, 735 (Fla. Dist. Ct. App. 1960) (“Although customs and usages of the banking business may have a binding force as between banks, and between a bank and the person with whom it deals in the absence of an express agreement to the contrary.”); see also Sabatino v. Curtiss Nat’l Bank of Miami Springs, 446 F.2d 1046, 1053 (5th Cir. 1971) (“Absent instructions or an express agreement to the contrary, general customs and usage of the banking business may have a binding effect between banks, and between a bank and the person with whom it deals.”). continued . . .

 #$%& '() +) ")*') ))  not actually pay, correct?”) or to express a concern about awarding free houses to someone that defaulted (e.g., “We are not going to be awarding free houses”).291 While this sentiment may seem appropriate, it actually is misplaced in that it unfairly previews the case outcome. In other civil contexts, it would be intuitively inappropriate for a judge at the outset (or in response to an asserted defense) to assert the propriety or likelihood of victory of the plaintiff’s claim.292 In a more extreme example, it would clearly strike us as improper if a judge blithely dismissed or ignored access to counsel or discovery in a criminal case because “your client committed the crime, right?”293 This is not, of course, to suggest that previewing does not occur in these other circumstances but instead to assert that it is improper in each instance.

B. A New “Systemic” Frame of Foreclosure

In light of this Article’s discussion of yet another longstanding substantive area of law being changed, modified, or amended post- Great Recession for the benefit of banks and lenders, another frame must also be discussed. Separate and apart from individual judges “previewing” a case’s merits before making substantive decisions, in the manner we have discussed above and in previous research, we may also posit that judicial systems and court administration create what we may call a new “systemic” frame in which judges view foreclosure. In this new conception of a systemic frame, we posit that judicial systems as a whole, in response to the Great Recession, created structures, procedures, and requirements that were largely to the detriment of borrowers. Accordingly, we may say that court systems, before a given case is even assigned to a judge, have primed the judiciary, or framed the proceedings, for what the “optimal” reaction to foreclosure litigation should be. In some jurisdictions, special foreclosure procedures, rules, and

291 See, e.g., Michael Corkery, Foreclosure to Home Free, as 5-Year Clock Expires, N.Y. TIMES (Mar. 29, 2015), https://www.nytimes.com/2015/03/30/business/foreclosure-to-home-free-as-5-year- clock-expires.html (“‘No one gets a free house,’ Judge Michael B. Kaplan of the United States Bankruptcy Court in Trenton wrote in an opinion late last year, reflecting what he characterized as a longstanding ‘admonition’ he and others made during the foreclosure crisis.”); Fox 4 News Investigates Lee County’s “Rocket Docket” Program, 4CLOSUREFRAUD (Sept. 16, 2010), http://4closurefraud.org/2010/09/16/fox-4-news-investigates-lee-countys-rocket- docket-program/ (“I was specifically told by one judge, counselor stop. I have 180 cases on my docket this morning. I’ve heard all the evidence I’m going hear. The defendant didn’t pay the mortgage, we’re done here.”). 292 See MODEL CODE OF JUDICIAL CONDUCT r. 2.10 (Am. Bar Ass’n 2011). 293 See id. continued . . . !, $$-- $'$.  ./ & - .&  even court divisions were created, wherein cases would be sent to trial en masse, leaving little time for each individual case, even for a judge so inclined to hear cases on their merits.294 Pejoratively termed the “rocket docket,” the American Civil Liberties Union (“ACLU”) challenged one instance of such a mass foreclosure docket, noting that the special procedures were not authorized by “statute, local rule, or administrative order.”295 The ACLU’s brief exposed what many have argued: that judges facing immense caseloads, in the face of what are seen as “simple” cases of defaulting homeowners, may disregard application of what may be seen as technicalities. One judge in particular is cited as saying, “I have 180 cases on my docket this morning. . . . The defendant didn’t pay the mortgage, we’re done here.”296 While this is obviously an example of an individual judge framing an entire case and its proof on one anti-homeowner fact (“didn’t pay the mortgage”), we suggest that the court system already framed the case by virtue of scheduling it at once with 179 other cases. In other words, before a given case reaches a judge’s desk, court administration has already framed the case so as to be by necessity tilted against any effective defense to foreclosure.297 Similarly, creating entire divisions dedicated solely to foreclosure cases may contribute to the inherent idea that such cases are less important than other divisions, especially when such divisions often employ retired, unelected judges to assist in processing large numbers of cases.298 Such judges were not presumably called up by the court system to assist in discovering the truth of each individual case or to sniff out possible fraud or misconduct on either side––rather, they were explicitly called in to assist in closing cases.299

294 See, e.g., Allen, supra note 5. 295 Petition for Writ of Certiorari, supra note 11, at 1–2. 296 Id. at 16. 297 It should also be posited here that in facing unprecedented numbers of foreclosures, it was by no means clear that the court system would take the sharp turn towards pro-lender overtures. In light of the credible accounts of thousands of false documents soiling court records, courts surely could have taken a different tack and forced procedures and requirements on banks to ensure that cases with lack of proof are not brought to court. Faced with thousands of complaints that falsely claimed original notes were lost, for example, Florida required lenders to begin having their complaints verified under penalty of perjury by their clients. See FLA. STAT. § 702.015 (2017). While this requirement could have created a systemic frame of priming judges to be aware and vigilant towards possible bank misconduct, it may have actually contributed to the further “ghettoization” of foreclosure litigation in the sense that any reputable practice area worth expending time upon would not have required such a new rule of procedure. 298 See Allen, supra note 5. 299 See id. (“[J]udges [were] brought back from retirement specifically to hear continued . . .

 #$%& '() +) ")*') ))  Thus, while we have previously posited that judges preview the merits of individual foreclosure claims and discount homeowner claims accordingly,300 we now suggest that the overall systemic frame of court administration responses to the foreclosure crisis enforced and created an atmosphere of almost ministerial enforcement or of a collection mechanism rather than serving any truth-seeking function. Framing lawsuits primarily in terms of efficiency rather than fact- finding renders foreclosure a foregone conclusion, especially when judges have an incentive to clear a large backlog of foreclosure cases such as those pending after the 2008 financial crisis.301 While perhaps easier or faster than dealing with every case as it should be, this type of thinking can be crushing for debtors when there are many other options for lenders that promote an efficient mortgage market. 302 It is particularly bad for society in the long haul, whether it leads to increased crime rates in neighborhoods, blight, or other negative externalities.303 Within these two frames, therefore, the story of the creation of brand new exceptions to res judicata and the statutes of limitation solely for foreclosure cases are altogether unsurprising.

C. An Equitable Approach Where Equity Does Not Apply

Almost ninety years ago, then-Chief Judge Cardozo protested, to no avail, a formalistic approach to mortgage enforcement that ignored the

foreclosures in Fort Myers.” (alteration in original)). 300 See A Standing Question, supra note 17, at 727. 301 Id. at 729 (“What is clear, though, is that foreclosure is desirable from a judicial perspective. Judges have been, implicitly or explicitly, charged with the task of clearing the backlog of foreclosures and have accordingly carved a legal path that enables foreclosures to occur more quickly and with less attorney effort.”). 302 Id. at 727 (“Under these lines of analysis, if the foreclosure is inevitable because the debtor is in default and the lender would necessarily desire a foreclosure, then the courts should not put up unnecessary roadblocks to foreclosure by permitting procedural challenges. These approaches, however, are deeply flawed because they are both predicated on an underlying assumption that foreclosure would and should occur whenever the debtor is in default.”). 303 Id. at 730 (“Yet this approach, as with the other housing crisis issues driven largely by a demand for faster results, is ultimately shortsighted. First, although a longer foreclosure process costs lenders and servicers more, these costs may help incentivize servicers to settle more cases, rather than enduring a long slog through the court system. Similarly, the longer time period may assist borrowers in bolstering their financial resources or in weathering a financial hardship, again making settlement more likely. Encouraging more settlements benefits society as a whole, particularly those jurisdictions that have had higher numbers of foreclosures. This is because preventing foreclosures can help eliminate significant negative externalities. The normal neighborhood-level effects of foreclosed homes are significant in terms of crime, blight, and reduced property values.”). continued . . . !, $$-- $'$.  ./ & - .&  impact of foreclosure.304 In Graf v. Hope Building Corp., through an error in a bookkeeper’s arithmetic, payment of what should have been an installment of $6,121.56 was $401.87 short of the correct amount.305 Enforcement of the acceleration provision (as sustained by the majority) meant that because of the $401.87 deficiency, the mortgagor’s interest was foreclosed in a property mortgaged for $335,000.306 The majority chose to permit acceleration and foreclosure based on the clear terms of the contract.307 In his dissent, Chief Judge Cardozo argued: In this case, the hardship is so flagrant, the oppression so apparent, as to justify a holding that only through an acceptance of the tender will equity be done. . . . The deficiency, though not so small as to be negligible within the doctrine of de minimis, was still slight and unimportant when compared with the payment duly made.308 As Chief Judge Cardozo’s view did not prevail, one would expect the formalism that was used to justify foreclosure would also be employed when lenders fail to comply with statutory, common law, or contractual requirements with respect to mortgage assignment, enforcement, acceleration, or foreclosure. In each instance, however, lenders are often instead protected by a contextual or equitable approach that seeks to preserve their right to foreclose.309 As we have suggested elsewhere, courts use a formalistic approach with respect to debtor accountability, but not mortgagee accountability, under the contract. 310 Mortgagees are permitted to enforce loan and mortgage instruments under virtually all circumstances, even where the contracting circumstances are suspect or where the mortgagee’s title to the underlying instruments is questionable.311

304 Graf v. Hope Bldg. Corp., 171 N.E. 884, 886 (N.Y. 1930) (Cardozo, C.J., dissenting). 305 Id. at 884 (majority opinion). 306 Id. at 885. 307 Id. (“We feel that the interests of certainty and security in real estate transactions forbid us, in the absence of fraud, bad faith or unconscionable conduct, to recede from the doctrine that is so deeply imbedded in equity.”). 308 Id. at 889 (Cardozo, C.J., dissenting). 309 See Basil H. Mattingly, The Shift from Power to Process: A Functional Approach to Foreclosure Law, 80 MARQ. L. REV. 77, 92–93 n.76 (1996). 310 A Standing Question, supra note 17, at 707 (“In somewhat counterintuitive fashion, however, courts have permitted mortgagees and their assignees to subvert, supplant, and circumvent the very formalities that they utilize to foreclose upon the debtors in the first place.”). 311 Id. continued . . .

 #$%& '() +) ")*') ))  In the context of res judicata and the statute of limitations, courts have pursued a contextual or equitable approach to preserve the ability of mortgagors to foreclose.312 As seen in Beauvais, courts create a legal fiction that all dismissals, voluntary or not, of foreclosure of an accelerated debt, represent a judicial adjudication that acceleration was improper or ineffective, thereby permitting mortgagors to accelerate and seek foreclosure innumerable times.313 As seen in Bartram, courts permit a contractual vagueness with respect to the deceleration of a debt to be construed in favor of the drafter, despite the disparity in bargaining power or the inability of a debtor to negotiate the underlying contracts.314 One way to understand the inclination of some courts to permit the erosion of res judicata and statute of limitations defenses is ensuring consistency with their equitable inclination in other doctrinal contexts to liberalize the foreclosure process and to prevent debtors in default from being awarded “free houses.” 315 This equitable inclination, however, is particularly problematic in the context of the defenses of res judicata, double-dismissal rules and statute of limitations. Equity

312 Deutsche Bank Tr. Co. Ams. v. Beauvais, 188 So. 3d 938, 943 (Fla. Dist. Ct. App. 2016) (en banc). 313 Id. at 947 (“Stated another way, despite acceleration of the balance due and the filing of an action to foreclose, the installment nature of a loan secured by such a mortgage continues until a final judgment of foreclosure is entered and no action is necessary to reinstate it via a notice of ‘deceleration’ or otherwise.”). 314 Bartram v. U.S. Bank Nat’l Ass’n, 211 So. 3d 1009, 1024 (Fla. 2016) (Lewis, J., concurring in the result) (“The majority opinion rewrites the parties’ note and mortgage to create a reinstatement provision—i.e., reinstating the installment nature of the note, as if acceleration never occurred, upon any dismissal of any lawsuit— that the parties did not include when drafting their documents. Singleton does not say this; the parties’ contract documents certainly do not say this; and Florida law is repugnant to the majority’s insertion of a provision into the parties’ private contract that the parties themselves most assuredly omitted.” (quoting Beauvais, 188 So. 3d at 963)), reh’g denied, 2017 Fla. LEXIS 593 (Fla. Mar. 17, 2017). 315 Fairbank’s Capital Corp. v. Milligan, 234 F. App’x 21, 24 (3d Cir. 2007) (“If we were to so hold [that dismissal of a former lawsuit prevented the bank from going after the mortgagor later], it would encourage a delinquent mortgagor to come to a settlement with a mortgagee on a default in order to later insulate the mortgagor from the consequences of a subsequent default. This is plainly nonsensical.” (alteration in original)); Singleton v. Greymar Assocs., 882 So. 2d 1004, 1007–08 (Fla. 2004) (“If res judicata prevented a mortgagee from acting on a subsequent default even after an earlier claimed default could not be established, the mortgagor would have no incentive to make future timely payments on the note. The adjudication of the earlier default would essentially insulate her from future foreclosure actions on the note—merely because she prevailed in the first action. Clearly, justice would not be served if the mortgagee was barred from challenging the subsequent default payment solely because he failed to prove the earlier alleged default.”). continued . . . !, $$-- $'$.  ./ & - .&  should not be relevant in these instances because it is the very nature of such defenses to create inequitable results.316 The proper application of res judicata or the double-dismissal rules will result in instances where a valid substantive claim will be dismissed. 317 That is indeed inequitable. Similarly, the proper application of the statute of limitations will necessary result in the dismissal or preclusion of valid substantive claims.318 It is unclear why a court would understand the inequitable result arising from a disallowed foreclosure to be more compelling than the inequitable results arising in other circumstances, such as criminal acts or intentional torts that cannot be prosecuted or pursued because of res judicata or statute of limitations defenses. Further, upon examination and analysis of the preceding cases and their development, it seems clear that many judges tend to see equity lying with only one side of foreclosure litigation. In the majority opinions we have discussed supra, the decisions consistently note the “free house” scenario and warn against the inequities if homeowners behaved opportunistically in the face of strict claim preclusion rules.319 These same decisions often accept at face value whatever factual proclamation bank and lender industry groups pronounce.320 Yet, these same decisions neither discuss––nor mention in their concurring or dissenting opinions––the inequities that their pro-lender expansions may produce.321 The conception of “free houses” suggests a lack of practical knowledge of foreclosure litigation and, indeed, homeownership in general. The cases we have discussed herein have been decided only

316 Beauvais, 188 So. 3d at 969 (Scales, J., dissenting) (“The expiration of a statute of limitations, however, generally results in a windfall for the escaping defendant. In my view, neither the moral imperative that borrowers pay their obligations, nor Singleton, has abrogated decades of Florida jurisprudence governing the statute of limitations in foreclosure cases.”). 317 See Ronald D. Weiss, Who Wants a Free House? Applying Res Judicata to Foreclosure Cases, RONALD D. WEISS P.C. (Mar. 24, 2017), http://www.ny- bankruptcy.com/who-wants-a-free-house-applying-res-judicata-to-foreclosure-cases- 2/. 318 Tyler T. Ochoa & Andrew J. Wistrich, The Puzzling Purposes of Statutes of Limitation, 28 PAC. L.J. 453, 465 (1997) (“[I]t may be more unjust to permit an old claim to be revived than it would be to extinguish it.” (citation omitted)). 319 See Bartram, 211 So. 3d at 1017; Beauvais, 188 So. 3d at 943–44; Singleton, 882 So. 2d at 1007. 320 See Bartram, 211 So. 3d at 1007; Beauvais, 188 So. 3d at 945; Singleton, 882 So. 2d at 1012. 321 See Bartram, 211 So. 3d at 1025–26 (Lewis, J., concurring in the result) (noting that the majority’s holding may lead to inequities to borrowers); Beauvais, 188 So. 3d at 964–65 (Scales, J., dissenting) (stating that the majority gives the lender a benefit the borrower would never receive); see generally Singleton, 882 So. 2d at 1008 (discussing only inequities to the lender). continued . . .

 #$%& '() +) ")*') ))  after years of protracted litigation, multiple lawsuits, and presumably extensive legal bills.322 The homeowner will have borne the costs of the litigation and the deleterious health effects of foreclosure.323 And, in many cases, the homeowner will have paid their loan faithfully for years before any financial difficulties caused default, and others will have been induced into default by servicers informing them that loss mitigation assistance will not be available until they actually stop making regular payments.324 In addition, in light of the case law development we have discussed, it appears that banks and foreclosing entities will have nearly unlimited chances to attempt foreclosure in those jurisdictions that have adopted multiple-bites-at-the-apple positions.325 In such jurisdictions, while it now appears nearly impossible to win an actual “free” house through a dismissal, we hold little hope that judges will suddenly stop believing and asserting that a “free house” is the ultimate outcome of any dismissal, and that therefore homeowner defenses must be viewed with skepticism. Likewise, we do not expect courts to suddenly demand foreclosing entities cease filing lengthy cases that are ultimately dismissed for malfeasance or lack of proof––the very cases which, when refiled, can sometimes implicate res judicata and statute of limitations considerations. That is to say, having expanded the exceptions to claim preclusion and the statute of limitations to give banks nearly unlimited chance to foreclose without regard to the effects on homeowners, courts still remain unlikely to change their allegiance to more thoroughly consider the equities that lie with a given homeowner.326 In light of our previous research and the continuing points made in this Article, we do

322 See Bartram, 211 So. 3d at 1014–15; Beauvais, 188 So. 3d at 940–41; Singleton, 882 So. 2d at 1005. 323 See Foreclosure Process Takes Toll on Physical, Mental Health, ROBERT WOOD JOHNSON FOUND. (Oct. 21, 2011), https://www.rwjf.org/en/library/articles- and-news/2011/10/foreclosure-process-takes-toll-on-physical-mental-health.html (identifying a link between foreclosure and a decline in overall health); What Will a Foreclosure Lawyer Cost Me?, LEGALMATCH.COM, https://www.legalmatch.com/law-library/article/how-much-will-a-foreclosure- lawyer-cost.html (last updated Jan. 31, 2017) (stating that usually each party pays its own costs but that in some cases homeowners must pay the lender’s legal fees as well). 324 See, e.g., Aldo Svaldi, Foreclosure Paperwork Miscues Piling Up, DENVER POST, https://www.denverpost.com/2010/11/12/foreclosure-paperwork-miscues- piling-up/ (last updated May 5, 2016, 3:46 AM) (identifying foreclosures brought on by injury and misleading statements by the lender). 325 See Bartram, 211 So. 3d at 1012 (following the Singleton rule); Beauvais, 188 So. 3d at 944 (following the Singleton rule). 326 See supra Section III.C. continued . . . !, $$-- $'$.  ./ & - .&  not expect judges to begin to recognize the extensive damage that repetitive successive lawsuits can cause. 327 Indeed, in this new landscape where foreclosure appears inevitable––even in the face of a previous dismissal with prejudice for severely troubling conduct—one may well expect forthcoming opinions to say it is inequitable to force a foreclosing entity, who might otherwise win a suit, to have to refile for the same relief later, despite any wrongdoing in the present case. Finally, and again as we have discussed in prior research, we note that foreclosing entities cannot be said to have earned the sympathies of foreclosure courts to merit such one-sided examinations of the equities of a given case.328 In other words, one cannot reasonably say that strategic homeowners knowingly and wittingly created a backlog on court systems in an effort to bilk lenders out of money despite banks’ best efforts to assist. 329 While ample evidence certainly exists to suggest that many homeowners defaulted strategically,330 the far more accurate scenario writ large is that millions of Americans faced financial hardship through no fault of their own.331 Banks, lenders, and their attorneys, by contrast, have earned every bit of disapprobation received in the past decade.332 Even if courts ignored the substantial research on bank misconduct in the years before the great recession, courts would have to be exceptionally inattentive not to have noticed a similar amount of reportage on attorney misconduct in foreclosure litigation: Among a host of problematic practices, foreclosure attorneys have been cited for signing documents on behalf of servicers without having the authority to do so, changing affidavits without knowledge of servicers, filing a myriad of false or inappropriate claims in pleadings, filing documents signed by attorneys who had already left the firm, signing blank documents with information to be filled in later, repeatedly missing hearings without notifying other parties or the court, and ignoring notarization requirements.333

327 See supra Section III.C. 328 See A Standing Question, supra note 17, at 711. 329 Id. at 710. 330 Brent T. White, Underwater and Not Walking Away: Shame, Fear, and the Social Management of the Housing Crisis, 45 WAKE FOREST L. REV. 971, 979 (2010). 331 Id. at 976–77. 332 See generally Robo-Litigation, supra note 22, at 888–90 (listing numerous examples of misconduct by attorneys representing banks and servicers). 333 Id. at 869–70 (citations omitted). continued . . .

! #$%& '() +) ")*') ))  Yet, despite these many documented problematic practices, it appears that recent jurisprudence clings to the notion that precluding a bank or servicer’s ability to collect on a loan is the most serious equitable consideration courts face in foreclosure.334 This ignores the pertinent and troubling issues of whether or not a bank or servicer is the proper party to sue, is seeking unsubstantiated damages or charges, or is bringing a claim when previous suits were dismissed for flagrant misconduct.335 Even in cases specifically discussing acceleration, res judicata, and statutes of limitation, banks and foreclosing entities behave opportunistically and have done so for as long as cases have been reported on such issues.336 Again, even though in these specific sub- areas of foreclosure litigation jurisprudence, it is homeowners who are not seen to have equity on their side.337 The expansion of the exceptions to res judicata, the double dismissal rule, and statutes of limitation are simply more evidence of the pervasive view among the judiciary that equities in foreclosure cases only lie with banks and lenders.338

D. Inefficient Efficiency

As we have noted here and in previous research, judges and court administrators seem to be wedded to the idea that speeding up foreclosure cases is the only optimal policy.339 Yet, we have noted, this approach, as with the other housing crisis issues driven largely by a demand for faster results, is ultimately shortsighted.340 Although a longer foreclosure process costs lenders and servicers more, these costs may help incentivize servicers to settle more cases, rather than enduring a long slog through the court system.341 Similarly, the longer time period may assist borrowers in bolstering their financial resources or in weathering a financial hardship, again making settlement more likely.342 Even if a more efficient foreclosure system were recognized as the most important goal of foreclosure litigation, rather than fact finding, the efficiency arguments are completely undercut by the factual circumstances that give rise to the burgeoning foreclosure statute of

334 See Fairbank’s Capital Corp. v. Milligan, 234 F. App’x 21, 24 (3d Cir. 2007); Singleton v. Greymar Assocs., 882 So. 2d 1004, 1007–08 (Fla. 2004). 335 See supra text accompanying notes 318–19. 336 See supra text accompanying notes 305–06, 312–13. 337 See supra text accompanying notes 314–19. 338 See supra text accompanying notes 314–19. 339 Robo-Litigation, supra note 22, at 867. 340 A Standing Question, supra note 17, at 730. 341 Id. 342 Id. continued . . . !, $$-- $'$.  ./ & - .&  limitations jurisprudence.343 On one hand, we have noted that judges may give little attention to borrower defenses or discovery because of this unceasing drive for speed and efficiency in court systems.344 On the other hand, the mere fact that a foreclosure action faces a five-year statute of limitations bar potentially signals a significant level of incompetence, nonfeasance, or malfeasance on the part of banks and their attorneys. A typical judicial state foreclosure may only produce one or two witnesses and five to ten exhibits, and such trials typically do not entail jury selection.345 It is unclear then, in this fact pattern, why the efficiency argument would lie in favor of the party that was not prepared for trial or had its case dismissed after years and years of litigation. Allowing banks to continuously refile these cases only incentivizes the leisurely and cavalier manner in which their attorneys have prosecuted actions in the past.346 If banks were certain that statute of limitations defenses would apply in a dismissal of a cause proceeding for longer than five years, one would expect banks to wait to file their cases until absolutely ready to prosecute, and would not require more than five years to obtain a judgment or dismissal. Similarly, affording foreclosing banks the exceptions to claim preclusion we have explored herein further incentivizes the shoddy work that created such large numbers of dismissals.347 As with the statute of limitations, if banks knew that they would not be able to bring unlimited lawsuits, they would be less apt to file questionable suits based on questionable documents that get dismissed and ultimately waste the time and resources of the court and all parties. Ultimately, however, it seems that the fact that a foreclosure case might take more than five years is seen more as a result of homeowners’ dilatory tactics (which should not be rewarded), rather than incompetence on the part of foreclosing entities (which for practical purposes is ignored when creating exceptions for the statute of limitations and res judicata).348

343 See supra Section III.C. 344 See Allen, supra note 5; supra text accompanying note 294. 345 See Petition for Writ of Certiorari, supra note 11, at 24. 346 See supra notes 332–33 and accompanying text. 347 See, e.g., Deutsche Bank Tr. Co. Ams. v. Beauvais, 188 So. 3d 938, 969 (Fla. Dist. Ct. App. 2016) (Scales, J., dissenting) (“The expiration of a statute of limitations, however, generally results in a windfall for the escaping defendant. In my view, neither the moral imperative that borrowers pay their obligations, nor Singleton, has abrogated decades of Florida jurisprudence governing the statute of limitations in foreclosure cases.”). 348 See generally Petition for Writ of Certiorari, supra note 11, at 16 (arguing that the mass foreclosure docket has revealed judicial bias against mortgagors). continued . . .

 #$%& '() +) ")*') ))  IV.CONCLUSION We have described elsewhere the myriad of actors who either ignored, downplayed, or incentivized problematic practices in foreclosure litigation. 349 These include the government-sponsored entities retaining attorneys for foreclosure based on speed ratings, state bar associations ignoring misconduct for years, and state attorneys general completing showpiece settlements with banks and servicers that did not require substantial reforms.350 In theory, at least in judicial foreclosure states, judges might be, or ought to be, the preeminent disciplinarian in the foreclosure process. It is judges who see daily the human misery in-part created by banks’ lending policies leading up to the Great Recession, and it is judges who see the questionable, and in many cases, outrageous conduct in the prosecution of foreclosure claims.351 And it is only judges’ orders, rulings, and jurisprudence that could eliminate the most common malfeasance in foreclosure litigation. Yet, we have posited here and in previous research that judges largely previewed foreclosure cases to the detriment of borrowers, set up a system to process foreclosure cases in a less scrutinizing fashion than other comparable civil litigation that encourages that very previewing, and have narrowed borrower defenses and expanded anti-bank exceptions to longstanding rules.352 We note that the fact that a state provides judicial review of foreclosures or is a power-of-sale state is a product of the state legislature.353 We also note that the applicable statute of limitations is created by the legislature.354 Yet, by individually previewing cases, creating a system designed for efficiency rather than truth-seeking, and downplaying debtor defenses while expanding exceptions for banks so as to be meaningless, the judiciary in many instances has short-circuited these legislative creations. Our findings lead us to believe that, if given a choice, many judges overseeing foreclosure cases in judicial- foreclosure jurisdictions would simply do away with the legislative creation of judicial foreclosure altogether, and, to some extent, they may already have substantively succeeded.

349 See, e.g., White, supra note 6, at 414. 350 See, e.g., A Standing Question, supra note 17, at 730. 351 Matt Taibbi, Invasion of the Home Snatchers, ROLLING STONE (Nov. 10, 2010), http://www.rollingstone.com/politics/news/matt-taibbi-courts-helping-banks- screw-over-homeowners-20101110. 352 See, e.g., A Standing Question, supra note 17, at 727. 353 See Alexander et al., supra note 63, at 342–43. 354 See FLA. STAT. § 95.281 (2017).



WAKE FOREST JOURNAL OF BUSINESS AND INTELLECTUAL PROPERTY LAW

   ! "  

UNDERSTANDING PATENT AND COMMERCIAL WARRANTY LIABILITY STEMMING FROM PENDING PATENT APPLICATIONS

Austen Zuege†

I. INTRODUCTION ...... 444 A.SOME BACKGROUND ABOUT THE PATENTING PROCESS ...... 445 B.THINGS TO KNOW ABOUT PATENT ENFORCEMENT .. 450 C.PROVISIONAL RIGHTS TO PRE-GRANT DAMAGES .... 452 II. POTENTIAL STATE COMMERCIAL LAW LIABILITY . 456 A.THE UCC WARRANTY AGAINST INFRINGEMENT ..... 456 B.KEY LIMITATIONS OF THE UCC WARRANTY AGAINST INFRINGEMENT ...... 458 C.APPLYING THE UCC WARRANTY TO PENDING PATENT APPLICATIONS ...... 460 D.INTERNATIONAL COMMERCIAL LAW CONSIDERATIONS ...... 466 E. CUSTOM WARRANTIES AND INDEMNIFICATIONS ..... 469 III. CHALLENGING A PENDING PATENT APPLICATION . 472 A.OVERVIEW ...... 472 B.PROTESTS ...... 473 C.PRE-ISSUANCE SUBMISSIONS ...... 474 D.INFORMAL SUBMISSIONS...... 477 E. DERIVATION PROCEEDINGS ...... 478 F. OTHER OPTIONS? ...... 478 IV. CONCLUSION ...... 479

† © 2018 Austen Zuege is an intellectual property attorney at Westman, Champlin & Koehler, P.A. in Minneapolis. He holds a B.S. in Industrial Engineering from the University of Wisconsin—Madison, and a J.D. (cum laude) from the University of Illinois College of Law. The views expressed in this Article do not necessarily reflect those of Westman, Champlin & Koehler, P.A. or any of its clients. continued . . .  #$%& '() +) ")*') ))  I.INTRODUCTION Businesses often wonder about the risks associated with pending patent applications; that is, when a patent application has been filed by another entity but an issued patent has not yet been granted.1 These sorts of analyses always involve a certain amount of speculation, because a pending patent application might become a granted patent, or might not.2 Waiting until a patent is granted or the patent application is abandoned is often unappealing, from a business perspective, because the art of business is about strategic positioning and a “wait and see” approach may mean lost opportunities.3 Moreover, patent applicants may mark their products as being “patent pending,” which may prompt inquiries to competing sellers from potential customers, or various threats—overt or veiled—from such patent applicants about their not- yet-patented technology.4 What follows is an overview of potential liability stemming from others’ pending patent applications, meant as a guide to addressing these sorts of situations. The hope is that readers can learn when, if ever, a seller can be liable for conduct that occurs before a patent is granted that would constitute patent infringement if it would have been committed after the patent is granted. Understanding the scope of such potential liability has important implications for commercial transactions, in view of indemnification agreements or implied warranties that may apply by default under the Uniform Commercial Code (the “UCC”), for instance.5 As will be seen, there is tremendous ambiguity regarding pre-grant patent infringement liability for sellers under implied warranties against infringement. 6 This suggests legislative revisions in the long run, as well as the use of customized commercial contract terms to redress this ambiguity in the

1 See 35 U.S.C. § 292 (2012); see also Provisional Application for Patent, USPTO, https://www.uspto.gov/patents-getting-started/patent-basics/types-patent- applications/provisional-application-patent (last visited Feb. 20, 2018). 2 See 35 U.S.C. § 132 (2012). 3 See Stephen Key, Don't File That Patent Yet. File a Provisional Patent Application First, FORBES (Jan. 8, 2018, 11:54 AM), https://www.forbes.com/sites/stephenkey/2018/01/08/dont-file-that-patent-yet-file-a- provisional-patent-application-first/#8d5f13b57fe0. 4 Michael A. Shimokaji, Inducement and Contributory Infringement Theories to Regulate Pre-Patent Issuance Activity, 37 IDEA 571, 571 (1997); see also How To Protect Your Invention When Pitching It, FORBES (Dec. 6, 2006, 12:10 PM), https://www.forbes.com/2006/12/06/patent-smallbusiness-tradesecret-ent-law- cx_nl_1206nolo.html#403e0864104c. 5 See U.C.C. § 2-312(3) (AM. LAW INST. & UNIF. LAW COMM’N 2002) (“Unless otherwise agreed a seller who is a merchant regularly dealing in goods of the kind warrants that the goods shall be delivered free of the rightful claim of any third person by way of infringement or the like . . . .”). 6 See infra Section II.C. continued . . . !, $''$.- -$  #$ $'0$"'0  short run absent clarifying legislative action.7 But first, a discussion of the basic legal framework under both patent laws and the laws of commercial transactions is in order, because much of the ambiguity in these situations arises at the intersection of two very different bodies of law.

A. Some Background About the Patenting Process

The United States has permitted inventions to be patented since the founding of the country. 8 Today, U.S. patent laws provide that “[w]hoever invents or discovers any new and useful process, machine, manufacture, or composition of matter, or any new and useful improvement thereof, may obtain a patent therefor, subject to the conditions and requirements of this title.”9 Three basic requirements for patentability are utility, novelty, and non-obviousness.10 There are three types of patents in the United States: utility, design and plant.11 In common parlance, reference to a “patent” without further qualification generally means a utility patent. The United States Patent and Trademark Office (the “USPTO”) examines each and every patent application to assess patentability before grant.12 Examined applications are either rejected or allowed.13 When allowed, and after payment of the issue fee, a granted patent can

7 See infra Part II. 8 See U.S. CONST. art. I, § 8, cl. 8 (“The Congress shall have Power . . . [t]o promote the Progress of Science and useful Arts, by securing for limited Times to Authors and Inventors the exclusive Right to their respective Writings and Discoveries . . . .”). 9 35 U.S.C. § 101 (2012). 10 35 U.S.C. §§ 101–103 (2012). In other countries, “industrial applicability” replaces “utility” and “inventive step” replaces “non-obviousness,” though the principles are generally the same. See, e.g., Comparative Study on Hypothetical/Real Cases: Inventive Step/Non-obviousness, TRILATERAL 3 (Nov. 2008), https://www.trilateral.net/projects/worksharing/study/cases2.pdf (providing comparisons between the United States, Europe and Japan’s patent laws). 11 See 35 U.S.C. §§ 101, 161, 171 (2012). 12 See 35 U.S.C. § 131 (2012); see also General Information Concerning Patents, USPTO, https://www.uspto.gov/patents-getting-started/general-information- concerning-patents (last visited Feb. 27, 2018) (detailing the functions of the USPTO). 13 See Manual of Patent Examining Procedure §§ 701–702, 1302.02 (9th ed. Rev. 08.2017, Jan. 2018) [hereinafter MPEP]. The average total pendency (i.e., time to a final disposition of issuance or abandonment) for a patent application in fiscal year 2017 was 24.2 months. Performance and Accountability Report: FY2017, USPTO 2, 15, 47 (Nov. 9, 2017), https://www.uspto.gov/sites/default/files/documents/USPTOFY17PAR.pdf [hereinafter Performance and Accountability Report]. continued . . .

 #$%& '() +) ")*') ))  issue. 14 If rejected, the applicant has the opportunity to amend the application and/or submit arguments in favor of patentability.15 This process is often referred to as patent “prosecution.”16 The “prosecution history,” or “file wrapper,” for a given patent application contains all communications between the applicant and the patent office and is made publicly available after a patent application is published, or when a patent issues.17 The USPTO Patent Application Information Retrieval (the “PAIR”) system provides online access to such information. 18 Patent application claims are often narrowed in order to obtain allowance, but, occasionally, they may be narrowed in some respects and broadened in others, or simply broadened.19 Most importantly, applications can and often do change in scope between the time they are first filed and the time granted patents issue.20 For a business evaluating another party’s pending patent application, this can make it seem like a moving target. Each year, more than 600,000 new patent applications are filed in the United States, and more than 350,000 applications are allowed.21 The general trend has been an increase in the number of patent applications and grants each year.22 One study found that the overall allowance rate, for patent applications filed between 1996 and 2005, was between 55.8% and 71.2%.23 What these very general statistics

14 See MPEP, supra note 13, §§ 1306, 1309. 15 See MPEP, supra note 13, §§ 714.01–.25. 16 See, e.g., Warner-Jenkinson Co. v. Hilton Davis Chem. Co., 520 U.S. 17, 22 (1997). 17 37 C.F.R. § 1.11 (2017); see also MPEP, supra note 13, §§ 719, 719.01, 724. In this context, “image file wrapper” refers to the online digital file wrapper for a given patent application. MPEP, supra note 13, §§ 719, 719.01. 18 See Public Patent Application Information Retrieval, USPTO, https://portal.uspto.gov/pair/PublicPair (last visited Dec. 26, 2017). 19 See MPEP, supra note 13, § 2163.05. 20 See Michael Carley et al., What Is the Probability of Receiving a U.S. Patent?, 17 YALE J.L. & TECH. 203, 205 (2015). 21 See Performance and Accountability Report, supra note 13, at 168; see also Geographic Patent Type & Count, USPTO, https://developer.uspto.gov/visualization/geographic-patent-type-count (last visited Dec. 14, 2017). 22 See Performance and Accountability Report, supra note 13, at 168. 23 Carley et al., supra note 20, at 208–09. In this study, the 55.8% figure represents the allowance rate for “progenitor” patent applications, defined as first filings without any continuing prosecution action (including an absence of requests for continued examination [RCEs]), while the 71.2% figure represents the percentage of patent application families (i.e., applications sharing a common priority claim) that produce at least one patent. Id. at 209–10. This is not the most helpful breakdown of categories, particularly by excluding applications with RCEs from the “progenitor” category. These figures also vary by technology area. Id. at 219. Using a different metric, it can be said that in 2015, the number of utility continued . . . !, $''$.- -$  #$ $'0$"'0  show is that most patent applications do result in a granted patent, but a substantial number of applications do not. It stands to reason that many abandoned patent applications are abandoned because a patent examiner has rejected them as not being patentable. 24 But applicants also abandon patent applications for other reasons, such as a lack of funds or lack of a commercial market for the invention, even when the claimed invention is patentable.25 Applicants may be more willing to explicitly concede the latter than the former.26 While anyone can file a patent application, directed to anything of his or her choosing, the mere filing of a patent application does not mean that a patent will ultimately be granted. 27 Patent applicants seek exclusive rights in their inventions, but may not succeed in obtaining those rights in the form of granted patents.28 To take a very simple hypothetical, someone could, very literally, “reinvent the wheel” and attempt to patent the well-known simple machine of a wheel and axle, but such an attempt would invariably fail—one hopes. Indeed, there is a certain percentage of patent applicants who simply do not understand the requirements for patentability.29 There are also some applicants who understand the theoretical framework for patentability yet file patent applications that contravene them through error or less benign motives. 30 Such applications may evidence no recognition that the patents granted by the USPTO was 50.6% of the number of utility patent applications filed that year (bearing in mind that the granted patents correspond to applications that were overwhelmingly filed one or more years earlier). See U.S. Patent Statistics Chart: Calendar Years 1963 – 2015, USPTO, https://www.uspto.gov/web/offices/ac/ido/oeip/taf/us_stat.htm (last visited Feb. 28, 2018). Of course, generalized statistics only say so much. Keep in mind the joke about statistical averages: when Jeff Bezos walks into a bar, on average, everyone in the bar is a multi-millionaire. 24 See Carley et al., supra note 20, at 207; see also MPEP, supra note 13, § 711.03(c). 25 See MPEP, supra note 13, § 711.03(c). Abandonment is not “unintentional” (and thus the patent application is not revivable) where, for example, “the applicant does not consider the allowed or patentable claims to be of sufficient breadth or scope to justify the financial expense of obtaining a patent” or where “the applicant does not consider any patent to be of sufficient value to justify the financial expense of obtaining the patent[.]” Id. 26 See id. 27 See generally Carley et al., supra note 20, at 207 (providing a detailed analysis on the percentage of successful patent applications). 28 Id. 29 See, e.g., Dana R. Irwin, Paradise Lost in the Patent Law? Changing Visions of Technology in the Subject Matter Inquiry, 60 FLA. L. REV. 775, 814 (2008) (explaining the broad spectrum of patentable subject matter). 30 See Trzaska v. L’Oreal USA, Inc., 865 F.3d 155, 162 (3d Cir. 2017) (holding that an employer’s alleged disregard of the Rules of Professional Conduct and threat to terminate a patent attorney’s employment for failure to meet patent application continued . . .

 #$%& '() +) ")*') ))  patent laws permit a limited monopoly in a patented invention only when the applicant satisfies the conditions for patentability by disclosing and enabling a new, useful, and non-obvious technical contribution.31 Another crucial thing to understand about the patent system is that examination is an imperfect process. When a new patent application is filed with the USPTO, it is generally assigned to a single examiner, who may or may not be required to have a supervisor sign off on all actions.32 While examiners have technical knowledge relevant to the patent applications they handle, and they generally try to perform their duties to the best of their abilities, every examiner is still a fallible human without a perfect understanding of all the relevant facts or law. 33 Examiners can make mistakes, which sometimes take the form of allowing a patent application that another person would consider unpatentable.34 This highlights how much variability there is in patent examination.35 What one examiner deems patentable, another might not.36 And, of course, the entire set of procedures for appeals from an examiner’s rejection of a patent application and the statutorily-defined ability of third parties to challenge the validity or patentability of a granted patent acknowledge that reasonable minds can differ on these questions.37 quotas regardless of patentability raises a colorable claim under the New Jersey Conscientious Employee Protection Act). 31 See, e.g., Brenner v. Manson, 383 U.S. 519, 534 (1966); Sears, Roebuck & Co. v. Stiffel Co., 376 U.S. 225, 229–30 (1964); Pennock v. Dialogue, 27 U.S. 1, 23 (1829); see also Irwin, supra note 29, at 812–15. 32 See MPEP, supra note 13, §§ 1004, 1005; see also Naira R. Simmons, Putting Yourself in the Shoes of a Patent Examiner: Overview of the United States Patent and Trademark Office (USPTO) Patent Examiner Production (Count) System, 17 J. MARSHALL REV. INTELL. PROP. L. 32, 35–36 (2017); Signatory Authority, PAT. OFF. PROF. ASS’N, http://www.popa.org/about/advocacy/signatory-authority-1/ (last visited Dec. 26, 2017). 33 See Simmons, supra note 32, at 33–34 (explaining that patent examiners are not always familiar with the facts and law relevant to the patent under examination). 34 See id. 35 E.g., Iain M. Cockburn et al., Are All Patent Examiners Equal? Examiners, Patent Characteristics, and Litigation Outcomes, in PATENTS IN THE KNOWLEDGE- BASED ECONOMY 19 passim (Wesley M. Cohen & Stephen A. Merrill eds., 2003); Ronald J. Mann, The Idiosyncrasy of Patent Examiners: Effects of Experience and Attrition, 92 TEX. L. REV. 2149 passim (2014); Sean Tu, Luck/Unluck of the Draw: An Empirical Study of Examiner Allowance Rates, 2012 STAN. TECH. L. REV. 10 passim (2012); Shine Tu, Invalidated Patents and Associated Patent Examiners, 18 VAND. J. ENT. & TECH. L. 135 passim (2015); Shine Tu, Patent Examiners and Litigation Outcomes, 17 STAN. TECH. L. REV. 507 passim (2014). 36 See Cockburn et al., supra note 35, at 22. 37 Ronald J. Mann & Marian Underweiser, A New Look at Patent Quality: Relating Patent Prosecution to Validity, 9 J. EMPIRICAL LEGAL STUD. 1, 12–13 continued . . . !, $''$.- -$  #$ $'0$"'0  It also bears mentioning that examiners face institutional constraints on how they approach the examination process,38 such as maintaining a given level of productivity. Examiner performance is evaluated such that “quality” of examination actions makes up only thirty-five percent of an examiner’s annual performance ratings.39 There are well-defined legal standards for addressing aspects of patentability, requiring affirmative consideration of certain types of evidence and prohibiting certain kinds of biases or inferences.40 But the notion that evaluations of patentability are completely “objective” is a legal fiction.41 As once explained by Judge Learned Hand when considering how to assess patentability: There comes a point when the question must be resolved by a subjective opinion as to what seems an easy step and what does not. We must try to correct our standard by such objective references as we can, but in the end the judgment will appear, and no doubt be, to a large extent personal, and in that sense arbitrary.42 All this says nothing about how business people view the patents and patent applications of a competitor, a situation where forms of self- serving bias or a “sour grapes” attitude may come into play, or even an “anti-patent” attitude that looks with disfavor on the patent system as a whole, including all competitor patents.43 If all this makes it seem that the likelihood of any given patent

(2012); see infra Part III. 38 See, e.g., Mann & Underweiser, supra note 37, at 24–29. Various commentators have also noted how rates of patenting are highly influenced by policy and the ideological outlooks of patent office administrators, not just “objective” technical and scientific merits of inventions recited in patent applications. See, e.g., Robert C. Post, “Liberalizers” versus “Scientific Men” in the Antebellum Patent Office, 17 TECH. & CULTURE 24 passim (1976). 39 Examination Time and the Production System, USPTO, https://www.uspto.gov/sites/default/files/Examination%20Time%20and%20the%20 Production%20System.pdf (last visited Feb. 28, 2018). 40 See Ryan Whalen, Complex Innovation and the Patent Office, 17 CHI.-KENT J. INTELL. PROP. 226, 235–38 (2018). 41 See Kirsch Mfg. Co. v. Gould Mersereau Co., 6 F.2d 793, 794 (2d Cir. 1925). This old case does not reflect current law but is nonetheless illuminating. See Graham v. John Deere Co. of Kan. City, 383 U.S. 1, 17–18 (1966) (setting forth the current standard for obviousness). 42 Kirsch Mfg. Co., 6 F.2d at 794. 43 See, e.g., MICHELE BOLDRIN & DAVID K. LEVINE, AGAINST INTELLECTUAL MONOPOLY 79–82 (2008), http://449evine.sscnet.ucla.edu/papers/imbookfinalall.pdf (arguing that the software industry’s practice of creating defensive “patent thickets” makes it impossible to develop new software without infringing an existing patent); Catherine Beard, Freedom to Operate 101, NZ BUSINESS, June 2014, at 61. continued . . .

! #$%& '() +) ")*') ))  application being granted is a matter of speculation, then readers have grasped an important characteristic of the patenting process. It is that very characteristic that makes it difficult to know what infringement risks might later arise from pending patent applications.44 However, there are analytics companies that mine USPTO data and sell proprietary reports about allowance rates for particular technology centers and even for individual examiners.45 Anyone seeking more specific information about the likelihood of allowance of a particular pending patent application might look to such reports, bearing in mind that even these sorts of examiner-specific reports do not take into account the particular subject matter claimed in any given patent application, the scope of available prior art, or any other substantive application-specific facts.46

B. Things to Know About Patent Enforcement

Some elementary aspects of patent enforcement and litigation inform the potential risks posed by pending patent applications and are therefore worthy of a brief summary. A U.S. patent grants the owner exclusive rights to make, use, sell, offer for sale, and import the patented invention, and protects the patent owner against contributory infringement and inducement of infringement by others. 47 These various rights conferred by a patent often allow the patent owner a choice to sue a manufacturer, distributor, retailer, or end user as an infringer, though patent owners who practice the patented invention often choose to sue competitors rather than end users who represent potential customers. 48 The patent owner is not obligated to have practiced the invention in order to bring an enforcement action, however.49 The scope of the rights secured by the patentee is defined by one or more claims recited in the patent.50 Intentional copying is not

44 See AUSTEN ZUEGE, PATENT FREEDOM TO OPERATE SEARCHES, OPINIONS, TECHNIQUES AND STUDIES 68–79 (2017). 45 Id. at 231–32. 46 Id. 47 35 U.S.C. § 271 (2012). These exclusive rights are subject to certain limits established by statute and case law, which are beyond the scope of the present article. See ZUEGE, supra note 44, at 72–79, 335–44. 48 See Colleen V. Chien & Edward Reines, Why Technology Customers Are Being Sued en Masse for Patent Infringement & What Can Be Done 8 (Santa Clara Univ. Sch. Of Law Legal Studies Research Papers Series, Working Paper No. 20-13, 2013), http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2318666 [http://perma.cc/QPZ4-87GT]. 49 See 35 U.S.C. §§ 154, 271 (2012). 50 See Read Corp. v. Portec, Inc., 970 F.2d 816, 821 (Fed. Cir. 1992), abrogated in part on other grounds by Presidio Components, Inc. v. Am. Tech. Ceramics continued . . . !, $''$.- -$  #$ $'0$"'0  a requirement for infringement, except for plant patent infringement,51 and there is no “innocent infringement” defense. 52 Rather, direct infringement for utility and design patents is treated like a strict liability tort,53 and liability can arise whenever an accused product or process falls within one or more claims of the asserted patent.54 Remedies available for patent infringement include injunctions and monetary damages.55 Willful infringement can provide for enhanced damages, up to treble damages, and in exceptional cases attorney fees can be awarded. 56 There are limits on the availability of pre-suit damages; for instance, patented articles must have been marked with the patent number or the accused infringer must have been affirmatively put on notice of infringement by the patent owner.57 A rather elementary requirement for the enforcement of patent rights is that there be a granted patent.58 It is the granted patent that provides its owner with the keys to the courthouse, so to speak, to be able to bring an infringement lawsuit.59 This is Important Point #1: a business cannot be sued for patent infringement (yet) when there is no granted patent.60 This point comes with a number of strong caveats.61 While there may be no granted patent now, a patent may later be issued.62 What then? And will damages accrue prior to the grant of a

Corp., 875 F.3d 1369 (Fed. Cir. 2017). 51 See Imazio Nursery, Inc. v. Dania Greenhouses, 69 F.3d 1560, 1566 (Fed. Cir. 1995). 52 See Lifetime Indus., Inc. v. Trim-Lok, Inc., 869 F.3d 1372, 1377 (Fed. Cir. 2017); Hilton Davis Chem. Co. v. Warner-Jenkinson Co., 62 F.3d 1512, 1523 (Fed. Cir. 1995) (en banc), rev’d on other grounds, 520 U.S. 17 (1997). 53 Hilton Davis Chem. Co., 62 F.3d at 1527. 54 Id. at 1520. 55 35 U.S.C. §§ 283–284, 289 (2012) (allowing recovery for design patent infringements under a unique “total profit” basis). 56 35 U.S.C. §§ 284–285 (2012). 57 See 35 U.S.C. §§ 286, 287(a) (2012); see also Amsted Indus. Inc. v. Buckeye Steel Castings Co., 24 F.3d 178, 187 (Fed. Cir. 1994) (holding that actual notice under § 287(a) “requires the affirmative communication of a specific charge of infringement by a specific accused product or device”). However, marking or actual notice is not required to obtain pre-suit damages under method or process claims. See Bandag, Inc. v. Gerrard Tire Co., 704 F.2d 1578, 1581 (Fed. Cir. 1983). But see Crown Packaging Tech., Inc. v. Rexam Beverage Can Co., 559 F.3d 1308, 1316–17 (Fed. Cir. 2009) (citing Am. Med. Sys. V. Med. Eng’g Corp., 6 F.3d 1523, 1538–39 (Fed. Cir. 1993)) (noting while assertion of both method and apparatus claims triggers the obligation to mark under 35 U.S.C. § 287(a), the assertion of only the method claims of a patent containing both method and apparatus claims does not). 58 See 35 U.S.C. §§ 271, 281 (2012). 59 See 35 U.S.C. § 271. 60 See id. 61 See infra Section I.C. 62 See supra notes 35–37. continued . . .

 #$%& '() +) ")*') ))  patent?

C. Provisional Rights to Pre-Grant Damages

U.S. patent law provides for “provisional rights” to infringement damages that accrue prior to the issuance of a patent, but with important limitations. 63 These provisional rights were first introduced by the American Inventors Protection Act of 1999. 64 In particular, a “reasonable royalty” (and no more) can be obtained for infringement that occurs between the pre-grant publication of the pending application and the date of issuance of the patent if, and only if, (a) the infringer had “actual notice of the published patent application” and (b) “the invention as claimed in the patent is substantially identical to the invention as claimed in the published patent application.”65 Treble damages for willful infringement are expressly excluded from the pre- grant “provisional rights,” though attorney’s fees for an “exceptional case” may still be available at a court’s discretion based on the totality of the circumstances.66 “Actual notice” for accrual of pre-grant damages is a lower requirement than the notice required for damages to accrue under a granted patent because no affirmative act by the patentee is required in the pre-grant period.67 Put another way, pre-grant provisional rights require only actual knowledge of the published application by a third party, while after grant, the patentee often must take affirmative steps to put would-be infringers on notice. 68 However, there is no

63 35 U.S.C. § 154(d) (2012). 64 American Investors Protection Act of 1999, Pub. L. 106-113, § 4504, 113 Stat. 1501A-552, 1501A-564 (1999) (codified as amended at 35 U.S.C. § 154 (2012)). 65 35 U.S.C. § 154(d). 66 35 U.S.C. §§ 284–285 (2012). Typical pre-grant conduct by a party “infringing” the “provisional rights” of an eventual patentee seem unlikely to be “exceptional” so as to justify an award of attorney’s fees, given that mere provisional rights are not enforceable and may never become enforceable. See 35 U.S.C. § 154(d)(1). However, factors like timing and knowledge could matter. For instance, “infringement” of provisional rights that takes place after a relevant claim is indicated to be allowable but before issuance of a patent might constitute exceptional conduct, if conducted with knowing or willful disregard for the allowance of the relevant claim. 67 Rosebud LMS Inc. v. Adobe Sys. Inc., 812 F.3d 1070, 1073–75 (Fed. Cir. 2016). 68 Id. (“The alleged infringer must also have notice of the claims of the published patent application and the fact that the applicant is seeking a patent covering those claims.”); see also Crown Packaging Tech., Inc. v. Rexam Beverage Can Co., 559 F.3d 1308, 1316 (Fed. Cir. 2009); Amsted Indus. Inc. v. Buckeye Steel Castings Co., 24 F.3d 178, 187 (Fed. Cir. 1994). There may be an argument, continued . . . !, $''$.- -$   #$ $'0$"'0  “constructive notice” that gives rise to pre-grant provisional rights damages.69 It is also worth noting that most, but not all, patent applications publish eighteen months from the claimed priority date. 70 The published application will include certain pre-publication amendments to the application. 71 Applicants can request early publication (i.e., before eighteen months from the priority date),72 or republication of a previously published application.73 However, early publication and republication requests are both rare.74 Design patent applications and reissue applications are never published before grant. 75 Moreover, applicants who certify that foreign patent protection is not being sought can make a (revocable) non-publication request that prevents pre-grant publication.76 In this context, competitor products may bear cryptic “patent pending” designations for which the contents of the pending application (or applications) are not publicly available.77 The “patent however seemingly trivial, that the requirement in § 154(d) of “actual notice of the published patent application” means knowledge of the published patent application document, and not merely of the application that was published in another form. See 35 U.S.C. § 154(d)(1). For instance, if a patent owner sent a copy of a patent application as originally filed to a competitor or cited the application’s serial number (though not its publication number), and that application was published (either earlier or later) in identical form, but that competitor had no knowledge of the published patent application document, the competitor’s “actual knowledge” may not be “of the published application” as required by the statute. See id. Here, as well as with regard to substantial identity of claimed inventions as published and as granted, any questions about printing errors in a published patent application document could also be significant. While 35 U.S.C. § 100 provides a few definitions, “published patent application” is not defined by that section. 35 U.S.C. § 100 (2012); 35 U.S.C. § 154(d); Rosebud, 812 F.3d at 1073–75. But see 35 U.S.C. § 122 (2012). 69 Rosebud, 812 F.3d at 1073–75. 70 35 U.S.C. § 122(b); 37 C.F.R. § 1.211 (2017). 71 37 C.F.R. § 1.215 (2017). 72 35 U.S.C. § 122(b)(1)(A); 37 C.F.R. § 1.219 (2017); MPEP, supra note 13, § 1129. 73 37 C.F.R. § 1.221 (2017); MPEP, supra note 13, § 1130. 74 See Changi Wu, Publication, Nonpublication, and Early Publication of Patent Application-The Strategy, AVVO (June 23, 2016), https://www.avvo.com/legal- guides/ugc/publication-nonpublication-and-early-publication-of-patent-application- the-strategy (noting that early publication may open the door to third-party pre- issuance submissions and may risk becoming public domain knowledge if a patent is not issued). 75 37 C.F.R. § 1.211(b). 76 See 35 U.S.C. § 122(b)(2)(B)(i); 37 C.F.R. § 1.213 (2017); MPEP, supra note 13, §§ 1122–1123. Publication of a redacted copy of an application is also available in some circumstances. 37 C.F.R. § 1.217 (2017); MPEP, supra note 13, § 1132. 77 See Z. Peter Sawicki & James L. Young, “Patent Pending” – Is It Real or Fake News?, ATT’Y L. MAG. (Nov. 2017), continued . . .

  #$%& '() +) ")*') ))  pending” designation has no enforceable legal significance other than to serve as a general “copy . . . at your own risk” warning.78 But in a situation where there is no published application, provisional rights to pre-grant damages are not available. 79 On the other hand, patent applicants can utilize early publication and republication to try to maximize provisional rights damages before a patent is granted.80 The question of whether the published pre-grant claims are “substantially identical” to the issued claims involves an inquiry into the scope and extent of any amendments made prior to issuance. 81 District courts have looked at the question of “substantial identity” for pre-grant damages in the same manner as with intervening rights for reissue patents and reexamination certificates that amend claims after grant: as a question of law that involves ascertaining whether the claims are “without substantive change” such that the scope of the claims is identical (not just that the same words are used).82 To clarify, claims in a granted patent that were narrowed to overcome rejections based on prior art cited by the patent examiner, after publication of the application, would not be “substantially identical” in this respect.83 This is Important Point #2: amendments to a pending patent application can preclude accrual of pre-grant provisional rights damages.84 Before examination of the application has begun and before a pending application has been granted, it is a matter of conjecture as to whether the claims will be amended. http://www.attorneyatlawmagazine.com/twin-cities/patent-pending-real-fake-news/. 78 Id. 79 Kevin King et al., Maximizing Patent Damages: Provisional Rights and Marking, LAW360 (July 18, 2017), https://www.law360.com/articles/942436/ maximizing-patent-damages-provisional-rights-and-marking. 80 See id. Another way to more quickly accrue provisional rights when claim amendments are deemed necessary is to file a continuing application containing the desired claims, together with a prioritized examination request. See MPEP, supra note 13, at § 708.08(b). Such a new application will then publish with the new (i.e., “amended”) claims. See id. Of course, in this scenario, it may be simpler to request republication, or to obtain allowance of a given application and enforce the resultant patent upon issuance, than to file another application merely to seek provisional rights. 81 King et al., supra note 79. 82 See, e.g., Celsis In Vitro, Inc. v. CellzDirect, Inc., 21 F. Supp. 3d 960, 964–65 (N.D. Ill. 2014) (citing Laitram Corp. v. NEC Corp., 163 F.3d 1342, 1346–47 (Fed. Cir. 1998)); see also 35 U.S.C. §§ 252, 307 (2012). 83 See Sharick Naqi, Comment on Provisional Patent Rights, 10 NW. J. TECH. & INTELL. PROP. 595, 595, 597–98 (2012); Portfolio Media Inc., To Re-Exam or Not to Re-Exam? That is the Question, LAW360 (Mar. 31, 2011), https://www.law360.com/articles/233332/to-re-exam-or-not-to-re-exam-that-is-the- question. 84 See supra notes 81–82 and accompanying text. continued . . . !, $''$.- -$  #$ $'0$"'0  While provisional rights encompass direct infringement, as well as rights related to importation of products made outside the United States by a patented process, provisional rights do not encompass indirect infringement by way of inducement of infringement or contributory infringement.85 In this respect, there is a gap in the scope of provisional rights regarding claims to methods of using a product. This means that when that product is imported into the United States from abroad the user can be liable for provisional rights damages but not the supplier who merely induced infringement.86 However, the supplier could be liable for inducement of infringement after the patent is granted.87 There is also a gap in provisional right liability regarding contributory infringement, allowing a third party to escape pre-grant damages for manufacturing and selling only some of the components of a patented apparatus—even if that third party does so with explicit intent for such components to be assembled into an apparatus covered by the pending patent application claims.88 It bears repeating again that if no patent is granted, then the provisional rights to a reasonable royalty from pre-grant publication vanish.89 The pre-grant provisional rights only become enforceable upon the issuance of a granted patent.90 Additionally, there is a statute of limitations on enforcement of provisional rights. 91 An action to collect damages under pre-grant provisional rights must be brought within six years of the grant of the patent. 92 However, unlike for damages arising under granted patents, there is no time limit on the period in which provisional rights damages can accrue before grant.93 As a purely practical matter, if a commercial product falls within the claims of a published patent application, but that product is withdrawn from the market upon the grant of a corresponding patent, there may be little incentive for the patent owner to file suit to merely recover the

85 Compare 35 U.S.C. § 154(d)(1)(A) (2012), with 35 U.S.C. § 271(b), (c), (f), (g) (2012). 86 See § 271(f)(1) (“Whoever without authority supplies or causes to be supplied in or from the United States all or a substantial portion of the components of a patented invention . . . in such manner as to actively induce the combination of such components outside of the United States in a manner that would infringe the patent if such combination occurred within the United States, shall be liable as an infringer.”) (emphasis added). 87 See id. 88 Compare 35 U.S.C. § 154(d), with 35 U.S.C. § 271(a). 89 Compare 35 U.S.C. § 154(d), with 35 U.S.C. § 271(a). 90 35 U.S.C. § 154(d). 91 35 U.S.C. § 154(d)(3). 92 Id. 93 Id. Contra 35 U.S.C. § 286 (2012). continued . . .

 #$%& '() +) ")*') ))  provisional pre-grant “reasonable royalty” damages.94 Unless product sales can be described as low volume/high value, or the pre-grant damages cover an unusually long time period in which a considerable volume of sales occurred, the enforcement may produce only a Pyrrhic victory in which legal costs exceed the recovery—absent an exceptional case in which attorney fees are awarded. 95 Then again, it may be difficult for some businesses to quickly shut down production upon the grant of a competitor’s patent, given the sunk-cost investment that may have already been made to begin production in the first instance.96

II.POTENTIAL STATE COMMERCIAL LAW LIABILITY

A. The UCC Warranty Against Infringement

Aside from U.S. federal patent laws, laws governing commercial transactions may include warranties to buyers against infringement by the purchased goods. Liability for the sale of infringing products can arise under state law modeled on the UCC. Some form of the UCC has been adopted in every U.S. state.97 Section 2-312(3) of the UCC states: Unless otherwise agreed a seller who is a merchant regularly dealing in goods of the kind warrants that the goods shall be delivered free of the rightful claim of any third person by way of infringement or the like but a buyer who furnishes specifications to the seller must

94 See generally Jerry Hausman et al., Patent Damages and Real Options: Characterization of Noninfringing Alternatives Reduces Incentives to Innovate, 22 BERKELEY TECH. L.J. 825, 828 (2007) (“Damages calculated under a reasonable royalty approach are typically, but not always, less than the damages calculated under a lost profits approach.”). 95 See generally The Relevance of Reasonable Royalties to Copyright Infringement Remedies, A.B.A. 1 (Mar. 2012), http://apps.americanbar.org/litigation/committees/intellectual/roundtables/0312_outli ne.pdf (“Parties seeking to apply the reasonable royalty analysis frequently used in the patent litigation arena have sometimes found themselves successful, and other times frustrated.”). 96 See generally The Evolving IP Marketplace: Aligning Patent Notice and Remedies with Competition, FTC 5 (Mar. 2011), https://www.ftc.gov/sites/default/files/documents/reports/evolving-ip-marketplace- aligning-patent-notice-and-remedies-competition-report-federal- trade/110307patentreport.pdf (“At the time a manufacturer faces an infringement allegation, switching to an alternative technology may be very expensive if it has sunk costs in production using the patented technology.”). 97 See Cornell Law Sch. Legal Info. Inst., Uniform Commercial Code Locator, CORNELL L. SCH., https://www.law.cornell.edu/uniform/ucc (last visited Nov. 21, 2017) (listing the states that have adopted forms of the UCC and noting that Louisiana has not adopted Article 2 of the UCC). continued . . . !, $''$.- -$   #$ $'0$"'0  hold the seller harmless against any such claim which arises out of compliance with the specifications.98 This provision is referred to as the implied warranty against infringement (“IWAI” or “WAI”). There are five key elements: (1) there is no specific agreement to the contrary (because of the language “[u]nless otherwise agreed”), (2) the seller must be a “merchant regularly dealing in goods of the kind,” (3) the “goods shall be delivered,” (4) the goods shall be delivered free of “the rightful claim of any third person by way of infringement or the like,” and (5) the buyer has not “furnishe[d] specifications to the seller”.99 There are also certain requirements (notice, statute of limitations, etc.) imposed upon a buyer seeking to make a valid claim against a seller for a breach of the warranty against infringement under the UCC.100 The so-called vouch-in provision of UCC section 2-607(5) governs how responsibility for defense of an infringement action is tendered or demanded, so that the seller may assume the buyer’s defense, and when the other party is bound by the infringement defense.101 One unique aspect of this UCC warranty is that it can create liability that extends beyond the original buyer and seller. 102 Depending on state law regarding privity, this could allow a claim by a downstream buyer against the original seller, or could create a daisy-chain of liability with each downstream buyer potentially having a claim against the seller immediately upstream, all the way back to the original seller.103 Numerous commentators have lamented various ambiguities in UCC section 2-312.104 Section 2-312 has been infrequently litigated, so there is little case law elaborating some of its nuances.105 Comments to

98 U.C.C. § 2-312(3) (AM. LAW INST. & UNIF. LAW COMM’N 2002). 99 Id. 100 See U.C.C §§ 2-607(3)–(6), 2-725 (AM. LAW INST. & UNIF. LAW COMM’N 2002). 101 U.C.C. § 2-607(5). 102 Id. 103 See Bryan K. Anderson & Ezekiel Rauscher, Implied Warranty of Noninfringement Depends on State, LAW360 (June 9, 2015), https://www.law360.com/articles/663016/implied-warranty-of-noninfringement- depends-on-state; see also U.C.C. § 2-318 (AM. LAW INST. & UNIF. LAW COMM’N 2002). 104 See, e.g., Karen E. Sandrik, Warranting Rightful Claims, 72 LA. L. REV. 873, 891–98 (2012) (citing William F. Dundine, Jr., Warranties Against Infringement Under the Uniform Commercial Code, 36 N.Y. ST. B.J. 214, 214 (1964)); Anderson & Rauscher, supra note 103. 105 The UCC warranty against infringement comes up infrequently in reported cases partly because patent owners often avoid suing competitors’ customers. See P. Patrick Cella et al., Exploration of Warranties under Article 2 of the Uniform Commercial Code, 23 IDC Q. 1, 1, 4 (2013). Even when patent owners are legally continued . . .

 #$%& '() +) ")*') ))  UCC section 2-312 provide no guidance regarding later-granted patent rights.106 While some elements of UCC section 2-312 are relatively unambiguous in typical scenarios, others are ambiguous in ways unique to the question of pre-grant patent infringement liability.107 We turn to the areas that are least straightforward in the context of pending patent applications, specifically when a product is sold that falls within the scope of pre-grant claims of a pending patent application that are granted in a substantially identical form after those products are delivered to and accepted by a buyer.

B. Key Limitations of the UCC Warranty Against Infringement

It should first be noted that UCC Article 2 covers “goods” and not services.108 Therefore, patent applications with claims to processes or methods may be entirely outside the scope of section 2-312. But close questions can arise with respect to software and computer-implemented inventions, for instance, which may be “goods” that are patented only under method or process claims.109 Another area of much uncertainty is the scope of a “rightful claim” of infringement. There are multiple cases from different jurisdictions entitled to sue competitors’ customers as infringers who “use[]” the patented invention, businesses may prefer to try to capture future sales to those customers after suing a direct competitor that is manufacturing, selling and/or importing infringing products. See id. at 4–6. But this rule of thumb does not always hold, for instance, when a patent owner engages in forum shopping and names a customer as a defendant to secure a desired venue, or when the patent owner does not practice the patent and therefore does not have an interest in customer perceptions. See id. 106 U.C.C. § 2-312 (AM. LAW INST. & UNIF. LAW COMM’N 2002). Amendments to the UCC were proposed in 2003 that would have impacted these scenarios, but those proposed amendments were rejected and withdrawn in 2011. See U.C.C. § 2- 312 (AM. LAW INST. & UNIF. LAW COMM’N 2003) (withdrawn 2011). As discussed infra Section II.D, a treaty on the international sale of goods more explicitly addressed this issue. 107 See, e.g., Joel Rothstein Wolfson, An Intellectual Property Lawyer’s Reading of UCC 2-312, 126 BANKING L.J. 141, 143, 150–51 (2009). 108 U.C.C. § 2-105(1)–(4) (AM. LAW INST. & UNIF. LAW COMM’N 2002). Courts assess infringement of apparatus and method claims differently. See, e.g., Joy Techs., Inc. v. Flakt, Inc., 6 F.3d 770, 773–76 (Fed. Cir. 1993). 109 There is no uniform view of when, if ever, software is a “good” subject to Article 2 of the UCC, though commoditized software is likely to be considered a “good” under the UCC. See, e.g., Rottner v. AVG Techs. USA, Inc., 943 F. Supp. 2d 222, 229–31 (D. Mass. 2013); see also Andrew Rodau, Computer Software: Does Article 2 of the Uniform Commercial Code Apply?, 35 EMORY L.J. 853, 874–75 (1986). “Goods” sold that have no substantial non-infringing use in view of method claims of a patent present an interesting question here, which may be better addressed with regard to the timing of delivery (as discussed infra Section II.C) rather than through a categorical goods versus not-goods dichotomy. continued . . . !, $''$.- -$   #$ $'0$"'0  dealing with this point, but no definitive standard has yet to emerge, with past cases retaining a certain vagueness about when a claim crosses the threshold of being “rightful”—an undefined term coined in the UCC without any clear analog elsewhere in the UCC or patent law.110 What can be said is that a “rightful claim” exists in a middle ground, something less stringent than a definitive finding of infringement,111 but also at least having an adequate, non-frivolous basis,112 and, in some jurisdictions, being of a substantial nature that casts a “substantial shadow” with a significant and adverse effect on the buyer’s ability to use the goods that is reasonably likely to subject the buyer to litigation. 113 The trouble is that these standards all require some connection to the merits of the patent infringement claim, even if that analysis stops somewhere short of a complete adjudication of the merits of the infringement case.114 State courts may be reluctant to immerse themselves in such issues, wholly apart from federal preemption concerns. 115 For that matter, parties may loathe to litigate a UCC warranty claim that first requires a potentially lengthy and costly assessment of the merits of the underlying patent infringement claim. Some courts have also held that contributory infringement and inducement of infringement under 35 U.S.C. § 271(b) and (c) are outside the scope of UCC section 2-312, because those particular forms of patent infringement result from conduct of the buyer after the time when the goods are “delivered.”116 These past cases generally dealt with situations in which a component or material was supplied to a buyer who then combined that component or material with other things to create an infringing product.117 Such rulings represent a significant

110 See Sandrik, supra note 104, at 891–98 (citing William F. Dundine, Jr., Warranties Against Infringement Under the Uniform Commercial Code, 36 N.Y. ST. B.J. 214, 214 (1964)). 111 84 Lumber Co. v. MRK Techs., Ltd., 145 F. Supp. 2d 675, 680 (W.D. Pa. 2001). 112 Id.; see Cover v. Hydramatic Packing Co., 83 F.3d 1390, 1394 (Fed. Cir. 1996). 113 EZ Tag Corp. v. Casio Am., Inc., 861 F. Supp. 2d 181, 184 (S.D.N.Y. 2012); Phoenix Sols., Inc. v. Sony Elecs., Inc., 637 F. Supp. 2d 683, 695–97 (N.D. Cal. 2009); Pac. Sunwear of Cal., Inc. v. Olaes Enter., Inc., 84 Cal. Rptr. 3d 182, 194 (Cal. Ct. App. 2008); Sun Coast Merch. Corp. v. Myron Corp., 922 A.2d 782, 796– 98 (N.J. Super. Ct. App. Div. 2007). 114 See Cover, 83 F.3d at 1394; EZ Tag Corp., 861 F. Supp. 2d at 184; Phoenix Sols., Inc., 637 F. Supp. 2d at 695–97; 84 Lumber Co., 145 F. Supp. 2d at 680; Pac. Sunwear of Cal., Inc., 84 Cal. Rptr. 3d at 194; Sun Coast Merch. Corp., 922 A.2d at 796–98. 115 See Sandrik, supra note 104, at 878–79. 116 E.g., Chemtron, Inc. v. Aqua Prods., Inc., 830 F. Supp. 314, 315–16 (E.D. Va. 1993); Motorola, Inc. v. Varo, Inc., 656 F. Supp. 716, 718–19 (N.D. Tex. 1986). 117 Chemtron, Inc., 830 F. Supp. At 315; Motorola, Inc., 656 F. Supp. At 717. continued . . .

! #$%& '() +) ")*') ))  narrowing of upstream seller liability under the UCC warranty against infringement.

C. Applying the UCC Warranty to Pending Patent Applications

When it comes to goods delivered before a patent is granted that subsequently infringe (or would infringe) a later-granted patent, the applicability of the “goods shall be delivered free of the rightful claim of any third person by way of infringement or the like” provision of the UCC section 2-312 warranty against infringement is less clear and does not appear to have yet been litigated in any reported case.118 There are clear tensions between policy that provides buyers with reasonable certainty that purchased goods can be enjoyed free of patent infringement claims, and the specific wording of provisions of the UCC that discuss the warranty only at the time of tender of delivery of the goods.119 Unlike infringement of other types of intellectual property, such as copyrights and trademarks, the pre-grant examination and publication process associated with patents and patent applications makes the assessment of a warranty against infringement at the time of tender a matter of guesswork.120 It is therefore worthwhile to probe typical scenarios to further understand when and where the UCC

118 See 3 RICHARD W. DUESENBERG ET AL., SALES & BULK TRANSFERS UNDER THE UNIFORM COMMERCIAL CODE § 5.04[4] (Matthew Bender 2017) (noting that “the language of the statute is not altogether clear” regarding infringement claims arising subsequent to sale and discussing analogous case law decided prior to the Uniform Commercial Code). 119 Compare U.C.C. § 2-725(2) (AM. LAW INST. & UNIF. LAW COMM’N 2002) (“[B]reach of warranty occurs when tender of delivery is made, except that where a warranty explicitly extends to future performance of the goods and discovery of the breach must await the time of such performance the cause of action accrues when the breach is or should have been discovered.”), with Am. Container Corp. v. Hanley Trucking Corp., 268 A.2d 313, 318 (N.J. Super. Ct. Ch. Div. 1970) (“The purchaser of goods warranted as to title has a right to rely on the fact that he will not be required, at some later time, to enter into a contest over the validity of his ownership.”). 120 Trademark and copyright registrations are entirely optional. See, e.g., 15 U.S.C. § 1125(a) (2012) (discussing liability in a civil action for misrepresentation of origin or ownership with no mention of an initial requirement of registration by the individual claiming damages); 17 U.S.C. §§ 102(a), 408(a) (2012) (stating how copyright protection arises, and that copyright registration is not necessary to receive such protection). For that matter, trademark and copyright registrations do not involve applicant-drafted “claims” as with utility patents, which removes much ambiguity present with respect to patent applications. See Federal Copyright Registration, SUNSTEIN, https://sunsteinlaw.com/practices/copyright-portfolio- development/copyright-pointers/federal-copyright-registration/ (last visited Mar. 30, 2018); Trademark process, USPTO, https://www.uspto.gov/trademarks-getting- started/trademark-process#step1 (last visited Mar. 30, 2018). continued . . . !, $''$.- -$  #$ $'0$"'0  warranty against infringement applies with respect to pending patent applications. In a situation where goods are delivered before a patent application has published with a relevant claim substantially identical to one in a later-granted patent (following the “provisional rights” framework discussed above), there may be reason to say that the goods were “delivered” before a “rightful claim” arose, thereby rendering the UCC warranty against infringement inapplicable.121 This is because not even “provisional” rights accrue to the eventual patent owner in these situations.122 There would be a chilling effect if competitors and other third parties were forced to treat all pre-grant patent claims as creating a “rightful claim,” when many times such pending claims represent applicant overreaching and will be rejected by the USPTO as unpatentable, requiring significant narrowing amendment(s) in order to have a chance of patentability.123 Moreover, even though federal patent law generally treats direct infringement like a strict liability tort, that does not necessarily provide a compelling reason to hold sellers liable under state commercial law for products delivered to buyers before a patent is issued or an application is published, when the sellers had no way to determine what the patent applicant is even seeking to protect, and when federal patent laws deny even “provisional rights” to the (eventual) patentee before publication.124 In other words, even though no liability exists at the time the goods are delivered to the buyers, later- arising liability for sellers under the UCC would be contrary to the spirit of prior court decisions holding that only liability at the time of delivery is actionable.125 This is further supported by UCC section 2-725(2), which provides that: A breach of warranty occurs when tender of delivery is made, except that where a warranty explicitly extends to future performance of the goods and discovery of the

121 U.C.C. § 2-312 (AM. LAW INST. & UNIF. LAW COMM’N 2002). 122 35 U.S.C. § 154(d) (2012) (giving the circumstances where provisional rights arise). 123 Mark A. Lemley & Bhaven Sampat, Is the Patent Office a Rubber Stamp?, 58 EMORY L.J. 181, 182 (2008). 124 Even if, for instance, the patent applicant provided the text of an unpublished claim to the seller, this would still seem inadequate, given that patent claims can have terms with special meanings that can be ascertained only through review of the entire patent application and the prosecution history. See, e.g., Phillips v. AWH Corp., 415 F.3d 1303, 1304 (Fed. Cir. 2005) (en banc) (describing the difficulty in understanding a term and the resources often used to ascertain the meaning as used in the claim). 125 See supra note 116 and accompanying text. continued . . .

 #$%& '() +) ")*') ))  breach must await the time of such performance the cause of action accrues when the breach is or should have been discovered.126 And yet, in contrast, some cases suggest a broad policy underlying the UCC that “[t]he purchaser of goods warranted as to title has a right to rely on the fact that he will not be required, at some later time, to enter into a contest over the validity of his ownership.”127 This broader and more general policy objective suggests that sellers should be liable under the UCC warranty against infringement even in situations in which liability arises “by surprise” when a patent later issues, creating a downstream infringement claim.128 This would allow buyers to rely on good faith purchases.129 Moreover, assigning liability to the original seller even before a patent issues avoids a “hot potato” situation, in which goods covered by a patentable claim of a pending patent application are resold over and over again until some unfortunate downstream buyer is left holding the now-infringing goods when the patent eventually issues.130 Thus, there are pragmatic policy reasons, supported by case law,131 which suggest that the absence of a granted patent or even the absence of provisional rights at the time of delivery should still fall under the implied warranty against infringement. In another situation where “infringing” goods are delivered after a patent application is published with claims that are substantially identical to those in the later-granted patent, then the availability of “provisional rights” under federal patent law suggests that a “rightful claim” exists at the time of delivery under UCC section 2-312 if the seller was aware of the published patent application.132 This is a less ambiguous scenario, in that federal patent law explicitly provides provisional rights.133 But given that the federal provisional rights are

126 U.C.C. § 2-725(2) (AM. LAW INST. & UNIF. LAW COMM’N 2002) (emphasis added). 127 Yttro Corp. v. X-Ray Mktg. Ass’n, Inc., 559 A.2d 3, 5 (N.J. Super. Ct. App. Div. 1989) (quoting Am. Container Corp. v. Hanley Trucking Corp., 268 A.2d 313, 318 (N.J. Super. Ct. Ch. Div. 1970)). 128 See id. (suggesting that statutory warranty of title should include infringement by any third party). 129 The concept of good faith purchases arises under other provisions of the UCC and under other bodies of law, and is the subject of much disagreement. See Alan Schwartz & Robert E. Scott, Rethinking the Laws of Good Faith Purchase, 111 COLUM. L. REV. 1332, 1333–38 (2011). 130 Anderson & Rauscher, supra note 103. 131 See supra notes 127–29. 132 35 U.S.C. § 154(d) (2012); U.C.C. § 2-312(3) (Am. Law Inst. &; Unif. Law Comm’n 2002); see Sandrik, supra note 104. 133 35 U.S.C. § 154(d). continued . . . !, $''$.- -$   #$ $'0$"'0  only enforceable once a patent issues, 134 sellers might still avoid provisional rights liability if no patent ever issues. If the UCC warranty against infringement is interpreted to track underlying intellectual property rights as closely as possible, then there is a strong argument that the UCC warranty against infringement should only establish a “rightful claim” against the seller if a patent has issued by the time a warranty against infringement claim is formally made. While such an approach might encourage buyers to delay bringing warranty against infringement claims, and certainly undercuts the ability to fully and completely ascertain seller liability at the time of delivery, it nonetheless balances those concerns by avoiding enlargements or reductions in the provisional rights granted to patent owners by federal patent laws. It seems that some ambiguity around the timing of a warranty claim is an acceptable burden if it means that substantive liabilities are clearly defined in relation to those established by the underlying intellectual property rights. To the extent that damages under provisional rights would be available but for evidence that the seller knew of the published application at the time of delivery, the question is a closer one. Under federal patent law, provisional rights do not attach in the absence of knowledge of the published application by the infringer.135 Sellers are able to search for and review publicly available published patent application claims to ascertain potential risk.136 But the patent laws do not place any duty on sellers to conduct such searches for pending patent applications.137 Therefore, in the absence of actual knowledge by the seller, there is a strong argument that there is no rightful claim under the UCC warranty against infringement. The mere placement of a “patent pending” notice on goods by the patent applicant would not seem sufficient here, in that the words “patent pending” do not apprise the public of the scope of patent rights sought by the applicant.138 A

134 Id. 135 35 U.S.C. §154(d)(1)(B); see also Rosebud LMS Inc. v. Adobe Sys. Inc., 812 F.3d 1070, 1075 (Fed. Cir. 2016) (interpreting §154(d)’s “actual notice” requirement to include actual knowledge of the published patent application). 136 Search for Patents, USPTO, https://www.uspto.gov/patents-application- process/search-patents (last updated May 24, 2017, 2:06 PM). 137 In contrast, it might be said that the patent laws placed an implied duty on parties to do so with regard to granted patents, in view of the strict liability nature of direct patent infringement. See Hilton Davis Chem. Co. v. Warner-Jenkinson Co., 62 F.3d 1512, 1527 (Fed. Cir. 1995) (en banc), rev’d on other grounds, 520 U.S. 17 (1997). 138 Indeed, in a global marketplace, the “patent pending” designation does not even apprise competitors of the jurisdictions in which patent protection is sought. See Sawicki & Young, supra note 77. A patent application pending in another country may not permit the applicant to ever enforce patent rights in the United continued . . .

  #$%& '() +) ")*') ))  notice that includes a patent application publication number would be a different situation, though, again, federal laws require actual notice rather than constructive notice provided by patent (application) marking, which suggests that such marking would only be effective if the seller of the goods later accused of infringement actually saw the marking.139 If the buyer, but not the seller, had actual knowledge of the published patent application, provisional rights damages would be available against the buyer, though there is an argument that fairness should not permit a buyer to pass infringement liability on to the seller when the buyer was aware of the liability risk and did not inform the seller.140 It would be reasonable for courts to fashion an equitable estoppel under such a scenario to limit the warranty against infringement. In a situation in which goods are delivered after a patent application has been published, but the claims undergo significant amendments before a patent is later granted (whether those amendments are made before or after delivery of the goods), “provisional rights” are not available under federal law. 141 Such a scenario is analogous to situations where goods are delivered when there is no published patent application, and the same ambiguities arise.142 In any event, these points are untested and courts have not yet offered guidance on UCC claims arising from a warranty against infringement stemming from pre-grant delivery of goods.143 Regardless of how courts eventually decide such issues, the UCC does provide a four-year statute of limitations on warranty claims, which runs from breach when tender of delivery is made, regardless of the aggrieved party’s lack of knowledge of the breach.144 This means that long delays between delivery of goods and the eventual grant of a patent (which do sometimes occur)145 could act as a bar to a UCC warranty claim that

States—though priority claims to earlier-filed foreign patent applications is possible. 35 U.S.C. §§ 119, 361 (2012). 139 This outside chance of putting infringers on notice might be enough to encourage the practice by patent applicants. Further, in such a situation a reasonable inference based on evidence that the seller had access to the goods would seem to be sufficient to state a claim that would survive a motion to dismiss under Rule 12(b)(6) of the Federal Rules of Civil Procedure. Cf. Rosebud, 812 F.3d at 1074–75 (interpreting the “actual notice” requirement of § 154(d) to mean “personal information or knowledge” rather than “affirmatively acting to provide notice”). 140 A treaty closes this loophole for the international sale of goods. See discussion infra Section II.D. 141 35 U.S.C. § 154(d) (2012). 142 Id. 143 See 3 DUESENBERG ET AL., supra note 118, § 5.04[4]. 144 U.C.C. § 2-725 (AM. LAW INST. & UNIF. LAW COMM’N 2002). 145 Id. continued . . . !, $''$.- -$  #$ $'0$"'0  would otherwise be rightful. Lastly, it must be underscored that UCC section 2-312 deals with an implied warranty that is imposed by default when the parties are silent on the matter. 146 The implied warranty against infringement can, however, be disclaimed by agreement of the parties. 147 This is Important Point #3: sellers should consider including a specific term regarding any warranty against infringement in sales contracts. Parties can more explicitly assume warranty liabilities, disclaim them entirely, or arrive at a middle-ground position.148 General disclaimers might be effective, 149 but most jurisdictions will likely require a specific disclaimer explicitly directed to the warranty against infringement.150 Disclaiming the implied warranty against infringement will not always be the right approach because some sellers may want to give buyers the assurance that it applies. But the pros and cons of a disclaimer should be weighed for all important and going transactions. Aside from a complete waiver, or the drafting of customized warranty and indemnification provisions, the parties can also reduce the statute of limitations period to three years. 151 From the seller’s perspective, a shorter statute of limitations can limit the scope of potential for warranty against infringement claims based on later- issuing patents, especially when the patent applicant pursues follow-on continuing patent applications that may issue many years after a priority patent application is filed. Ultimately, the inclusion of disclaimers regarding the warranty against infringement and other modifications of default UCC provisions will rest on the relative bargaining power of the parties and their individual objectives.152 Quite frankly, though, the ambiguity of the UCC on the points raised above suggest that a clarifying revision to UCC section 2-312(3) would be helpful. Absent such revisions to the UCC, and state laws implementing the UCC, businesses and their legal counsel engaged in commercial transactions in the United States should consider overriding the implied warranty against infringement of the UCC with customized contract terms that address the liability that the seller assumes, if any, for delivery of goods (or services) that may later give rise to a claim of

146 U.C.C. § 2-312 (AM. LAW INST. & UNIF. LAW COMM’N 2002) . 147 Id.; see MAS Corp. v. Thompson, 302 S.E.2d 271, 275 (N.C. Ct. App. 1983). 148 See MAS Corp., 302 S.E.2d at 275; U.C.C. § 2-316 (AM. LAW INST. & UNIF. LAW COMM’N 2002); U.C.C. § 2-312. 149 E.g., Landis & Staefa (UK) Ltd. V. Flair Int’l Corp., 60 F. Supp. 2d 14, 23 (E.D.N.Y. 1999). 150 Cf. U.C.C. § 2-316(2) (enumerating requirements for exclusion or modification of implied warranties of merchantability and fitness). 151 U.C.C. § 2-725(1) (AM. LAW INST. & UNIF. LAW COMM’N 2002). 152 See id. continued . . .

 #$%& '() +) ")*') ))  patent infringement.

D. International Commercial Law Considerations

UCC provisions apply only to activities between parties in the United States.153 What about sales that cross international borders? The United Nations Convention on Contracts for the International Sale of Goods (“CISG” or “Vienna Convention”) 154 includes a provision similar to the UCC warranty against infringement.155 More than eighty nations have signed on to the CISG.156 The United States has ratified the CISG, with a reservation opting out of Paragraph 1(b) of Article 1.157 CISG Article 42 provides: (1) The seller must deliver goods which are free from any right or claim of a third party based on industrial property or other intellectual property, of which at the time of the conclusion of the contract the seller knew or could not have been unaware, provided that the right or claim is based on industrial property or other intellectual property: (a) under the law of the State where the goods will be resold or otherwise used, if it was contemplated by the parties at the time of the conclusion of the contract that the goods would

153 See U.C.C. § 1-301 (AM. LAW INST. & UNIF. LAW COMM’N 2001). 154 United Nations Convention on Contracts for the International Sale of Goods, Apr. 11, 1980, 1489 U.N.T.S. 3 [hereinafter CISG]. 155 Id. art. 42; Allen M Shinn, Jr., Liabilities Under Article 42 of the U.N. Convention on the International Sale of Goods, 2 MINN. J. GLOBAL TRADE 115, 131 (1993); see also Henry D. Gabriel, A Primer on the United Nations Convention on the International Sale of Goods: From the Perspective of the Uniform Commercial Code, 7 IND. INT’L & COMP. L. REV. 279, 286 (1997); see generally Joseph J. Schwerha IV, Warranties Against Infringement in the Sale of Goods: A Comparison of U.C.C. § 2-312(3) and Article 42 of the U.N. Convention on Contracts for the International Sale of Goods, 16 MICH. J. INT’L L. 441, 442 (1995) (comparing the warranty of infringement under the UCC and CISG and providing a framework for deciding when to use which law). A useful compendium of resources related to CISG article 42 is maintained by the Pace Law School Institute of International Commercial Law. See, e.g., Pace Inst. of Int’l Commercial Law, Annotated Text of CISG Article 42, PACE L. SCH., https://www.cisg.law.pace.edu/cisg/text/e-text- 42.html (last visited Dec. 26, 2017). 156 Status: United Nations Convention on Contracts for the International Sale of Goods (Vienna, 1980), UNITED NATIONS COMM’N ON INT’L TRADE L., http://www.uncitral.org/uncitral/en/uncitral_texts/sale_goods/1980CISG_status.html (last visited Nov. 22, 2017). 157 Id. continued . . . !, $''$.- -$   #$ $'0$"'0  be resold or otherwise used in that State; or (b) in any other case, under the law of the State where the buyer has his place of business. (2) The obligation of the seller under the preceding paragraph does not extend to cases where: (a) at the time of the conclusion of the contract the buyer knew or could not have been unaware of the right or claim; or (b) the right or claim results from the seller’s compliance with technical drawings, designs, formulae or other such specifications furnished by the buyer.158 Like the UCC, the CISG also imposes certain requirements for a party to invoke the warranty against infringement provisions. 159 And, significantly, the CISG also allows buyers and sellers to “exclude the application of this Convention or, subject to Article 12, derogate from or vary the effect of any of its provisions.”160 In other words, parties can opt out of the CISG just as with the UCC. Article 42(1) is actually much clearer than UCC section 2-312 when it comes to liabilities for sales and deliveries of goods that occur when a patent application is merely pending, requiring that “at the time of the conclusion of the contract the seller knew or could not have been unaware” of the infringement claim. 161 Liability for “provisional rights” to pre-grant damages under a published application could still apply.162 But the CISG language diverges from the strict liability basis for patent infringement under U.S. law, and instead requires actual or imputed knowledge of infringement.163 More broadly, CISG Article 42 provides an “innocent infringement” defense in the international

158 CISG, supra note 154, art. 42. 159 Id. art. 43; see also id. art. 44 (“Notwithstanding the provisions of paragraph (1) of article 39 and paragraph (1) of article 43, the buyer may reduce the price in accordance with article 50 or claim damages, except for loss of profit, if he has a reasonable excuse for his failure to give the required notice.”). 160 Id. art. 6; cf. id. art. 12 (relating to requirements that certain agreements be in writing). 161 Id. art. 42(1). 162 See 35 U.S.C. § 154(d)(1), (4) (2012); see also supra notes 63–66 and accompanying text. 163 Compare Hilton Davis Chem. Co. v. Warner-Jenkinson Co., 62 F.3d 1512, 1527 (Fed. Cir. 1995) (en banc), rev’d on other grounds, 520 U.S. 17 (1997) (noting that “[i]nfringement is, and should remain, a strict liability offense”), with CISG, supra note 154, art. 42(1) (requiring that “at the time of the conclusion of the contract the seller knew or could not have been unaware” of the infringement claim). continued . . .

 #$%& '() +) ")*') ))  commercial warranty context that is otherwise unavailable under U.S. patent law—and not explicitly provided by the UCC.164 Commentary on the CSIG indicates that Article 42 was intended to preclude liability under a patent application that had not been published.165 The CISG would therefore seem to preclude all seller liability in situations where a patent application remains unpublished and no patent has yet issued, regardless of any “patent pending” notice on commercially-available products. Furthermore, a buyer who “knew or could not have been unaware of” infringement at the conclusion of the contract has no warranty claim against the seller under the CISG.166 There is no comparable escape clause available to sellers under the UCC.167 One example of a buyer aware of an unpublished patent application who may have no CISG warranty claim is an inventor or former employee of the patent applicant who goes to work for a competitor, or starts his or her own competing business, and then seeks to buy products from a third party knowing that current or future patent infringement liability is likely because of confidential knowledge of the pending patent application obtained via work for the former employer. In such a scenario, the buyer would have no warranty claim under the CISG.168 Assuming that a seller knew or should have known about a published patent application, and that the buyer did not know or was

164 Hilton Davis Chem. Co., 62 F.3d at 1527; CISG, supra note 154, art. 42(1). 165 U.N. Conference on Contracts for the Int’l Sale of Goods, Commentary on the draft Convention for the International Sale of Goods, prepared by the Secretariat, 37, U.N. Doc. A/CONF.97/19 (1991) (“Paragraph (1) introduces an additional limitation on the liability of the seller in that the seller is liable to the buyer only if at the time of the conclusion of the contract the seller knew or could not have been unaware of the existence of the third-party claim if that claim was based on a patent application or grant which had been published in the country in question. However, for a variety of reasons it is possible for a third party to have rights or claims based on industrial or intellectual property even though there has been no publication. In such a situation, even if the goods infringe the third party's rights, article 40(1) [later becoming Article 42(1)] provides that the seller is not liable to the buyer.”); see also Pace Inst. of Int’l Commercial Law, Legislative history of CISG article 42: Match-up with 1978 draft to assess relevance of Secretariat Commentary, PACE L. SCH. (July 12, 1999), https://www.cisg.law.pace.edu/cisg/text/matchup/matchup-d-42.html. 166 CISG, supra note 154, art. 42(2)(a). 167 Pace Inst. of Int’l Commercial Law, Checklist on the CISG, PACE L. SCH., https://www.cisg.law.pace.edu/cisg/biblio/kritzer2.html (last updated June 11, 2004). However, courts might fashion an equitable estoppel in such a situation to limit seller liability under the UCC. Cf. 3 DUESENBERG ET AL., supra note 118, § 2.04[7] (noting that some courts have applied equitable estoppel in other UCC contexts despite the statute’s silence on the matter, e.g., the statute of frauds). 168 Pace Inst. of Int’l Commercial Law, supra note 167. continued . . . !, $''$.- -$   #$ $'0$"'0  reasonably unaware of that published patent application, the seller's warranty liability to the buyer under “provisional rights” in the United States should resemble that discussed above with respect to the UCC. There does not appear to have been a single reported case in the United States under Article 42 of the CISG at the time of writing.169 This means that relatively little guidance is available on proper interpretation of that Article, though the CISG benefits from being much less ambiguous than the UCC regarding potential liability stemming from pending patent applications.

E. Custom Warranties and Indemnifications

Apart from UCC or CISG provisions that may apply by default, buyers and sellers can craft their own agreements with customized provisions governing a warranty or indemnification relating to patent infringement.170 Established businesses, whether as buyers or sellers, often do have their own preferred sales contracts that allocate liabilities in a desired manner should patent infringement arise.171 Such contracts can extend beyond just the “goods” covered by the UCC and CISG to include services. 172 However, do these custom-drafted provisions address—or even contemplate—the situation in which a patent issues after the delivery of goods? As one example, contract terms with language regarding “any good

169 See Pace Inst. of Int’l Commercial Law, 3,000 Cases 10,000 Case Annotations, UNCITRAL Digest Cases for Article 42 Plus Added Cases for This Article, PACE L. SCH., https://www.cisg.law.pace.edu/cisg/text/digest-cases-42.html (last updated Oct. 22, 2013). But see Memorandum Order, Tex. Instruments, Inc. v. Linear Tech. Corp., No. 2:01-CV-00004-DF, 2002 U.S. Dist. LEXIS 5669, at *2–4 (E.D. Tex. Jan. 15, 2002) (severing third parties defending against a claim under article 42 before any substantive rulings on the claim). Article 42 has, however, been litigated in other jurisdictions. Digest of Case Law on the United Nations Convention on Contracts for the International Sale of Goods, UNITED NATIONS COMM’N ON INT’L TRADE L. 209–10 (2016), http://www.uncitral.org/pdf/english/clout/CISG_Digest_2016.pdf [hereinafter Digest of Case Law]. 170 Digest of Case Law, supra note 169, at 33; Darin Klemchuk, Warranty Against Infringement: UCC Section 2-312, KLEMCHUK LLP (July 4, 2017), http://www.klemchuk.com/warranty-against-infringement-ucc-section-2-312. 171 Michael J. Meurer, Allocating Patent Litigation Risk Across the Supply Chain, 25 TEX. INTELL. PROP. J. (forthcoming 2018) (manuscript at 2 n.6) (on file with Review of Litigation). 172 See John P. McMahon, Applying the CISG Guides for Business Managers and Counsel, PACE L. SCH., http://www.cisg.law.pace.edu/cisg/guides.html (last updated May 25, 2010); see also Construction Law Survival Manual, FULLERTON & KNOWLES, http://www.fullertonlaw.com/uniform-commercial-code (last visited Feb. 26, 2018). continued . . .

! #$%& '() +) ")*') ))  that becomes the subject of a claim for patent or other proprietary right infringement” would seem to encompass later-arising claims of patent infringement, even when the goods are delivered before a relevant patent issues. In contrast, a contract term that specifies that the seller “makes no warranty against infringement claims that arise after delivery and acceptance” of the goods would preclude some claims, though additional language addressing “provisional rights” would be necessary to fully address seller concerns—short of a total rejection of any warranty against infringement. Moreover, language following the CISG that exempts a seller from a warranty claim where “the buyer knew or could not have been unaware of the right or claim of a third party based on industrial property or other intellectual property”173 will help avoid situations in which buyers knowingly push infringement liability onto sellers via a commercial law warranty. Of course, the sky is the limit when it comes to possible customized contractual provisions regarding infringement warranties and indemnities. The impact of possible downstream patent infringement liability to a seller will vary depending on the type of goods. For instance, consumables or other goods with short useful lifespans delivered while a patent application is pending and immediately put into use may no longer be in use—or even in existence—by the time a patent later issues.174 In contrast, durable goods will more likely still be in use (or ready for use or further sale) when a patent issues, making the warranty and indemnification issues surrounding pending patent applications more acutely significant. 175 Other considerations such as the availability of non-infringing substitutes, likely costs associated with product redesigns, regulatory approval requirements, sunk costs of capital equipment for manufacturing, manufacturing lead times, seasonal sales fluctuations, sensitivities to negative publicity, generalized risk-aversion, typical length and elasticity of sales relationships and other factors, can all influence buyer and seller views on specific warranty and indemnification provisions in commercial

173 See CISG, supra note 154, art. 42(2); see also Pace Inst. of Int’l Commercial Law, 2012 UNCITRAL Digest of Case Law on the United Nations Convention on the International Sale of Goods, PACE L. SCH., https://www.cisg.law.pace.edu/cisg/text/digest-cases-42.html (last updated July 30, 2012). 174 See generally Johns Hopkins Univ. v. Cellpro, Inc., 152 F.3d 1342, 1366 (Fed. Cir. 1998); Yuri Eliezer, Can I Infringe on a Patent Application That Is Currently Pending?, SMARTUP LEGAL (July 8, 2015), https://www.smartuplegal.com/learn-center/can-i-infringe-on-a-patent-application- that-is-currently-pending/ (explaining that patent infringement cannot happen while a patent is pending). 175 See id. continued . . . !, $''$.- -$  #$ $'0$"'0  contracts.176 There are other “loopholes” to infringement liability that should also be considered when allocating infringement liability under sales agreements.177 For instance, in the absence of enforceable provisional rights, export of previously-manufactured products covered by a later- granted patent for use or sale in another jurisdiction is generally permissible (assuming there is no patent in that other jurisdiction), and the mere warehousing or destruction of previously-manufactured products covered by a patent (but not used or offered for sale) does not constitute infringement. 178 Buyers already operating internationally may be positioned to take advantage of this “export loophole,” though other buyers could potentially warehouse affected products until export opportunities arise. Given the current state of the law surrounding implied warranties against infringement, custom-drafted commercial contract language has the advantage of potentially resolving all ambiguities under the UCC and CISG with respect to later-arising infringement of pending patent applications. This is Important Point #4: both buyers and sellers should review sales contracts to assess how warranty and indemnification provisions assign liability when goods or services become the subject of infringement allegations based on a patent that issues after delivery and acceptance. There is no right or wrong way to weigh the many considerations at play here, but potential later-arising patent infringement liability should at least be one such consideration.

176 See Steven Kelley & David Allgeyer, Warranties, Remedies, and Related Peccadilloes: Steps to Successful Contract Negotiation, ACC DOCKET, 44, 50, 54 (2011); Austin Champion, Drafting Effective Intellectual Property Indemnity Provisions, HARPER BATES CHAMPION (Jan. 19, 2016), https://www.harperbates.com/news/drafting-effective-intellectual-property- indemnity-provisions; Paul Humbert, Contract negotiation: How to analyze and negotiate warranties, INT’L ASS’N FOR CONTRACT & COM. MGMT. (Nov. 6, 2017, 3:39:19 PM), http://journal.iaccm.com/contracting-excellence-journal/contract- negotiation-how-to-analyze-and-negotiate-warranties; Negotiations: Sunk Costs, KARRASS (Nov. 5, 2010); https://www.karrass.com/en/blog/negotiations-sunk-costs/. 177 See ZUEGE, supra note 44, at 72–79 (discussing shop rights, importation of a product produced abroad by a patented method, temporary presence, and prior use defenses). 178 Johns Hopkins Univ. v. Cellpro, Inc., 152 F.3d 1342, 1366 (Fed. Cir. 1998) (“Mere possession of a product which becomes covered by a subsequently issued patent does not constitute an infringement of that patent until the product is used, sold, or offered for sale in the United States during the term of the patent.”). continued . . .

 #$%& '() +) ")*') ))  III.CHALLENGING A PENDING PATENT APPLICATION

A. Overview

A common question arises whenever a business encounters a competitor’s pending patent application of concern: “How can we try to prevent this patent application from being granted?” There are indeed mechanisms to try to challenge pending patent applications, but such mechanisms are limited. Patent examination is conducted on an ex parte basis, and the USPTO and legislators have shown little interest in adopting full-fledged inter partes patent application proceedings before a patent is granted.179 Without question, inter partes examination of pending patent applications would be a more complex and contentious process (and would be more expensive) than the current ex parte regime.180 But certain limited opportunities are available to third parties wishing to make pre-grant submissions to the USPTO in an effort to prevent the allowance of a particular patent application. These options are worth entertaining, given the landscape, discussed above, in which most patent applications result in a granted patent. At present, there are only two formal mechanisms to challenge the patentability or pending patent applications in the United States: protests and third-party pre-issuance submissions. 181 There is an

179 The USPTO conducted two “Peer to Patent” (P2P) pilot programs, one from June 2005 to June 2007 and another in fiscal year 2011. Press Release, USPTO, USPTO Launches Second Peer To Patent Pilot in Collaboration with New York Law School (Oct. 19, 2010) (on file with USPTO), https://www.uspto.gov/about-us/news- updates/uspto-launches-second-peer-patent-pilot-collaboration-new-york-law- school; Peer Review Pilot FY2011, USPTO, https://www.uspto.gov/patent/initiatives/peer-review-pilot-fy2011 (last updated Aug. 10, 2011). In this opt-in program, “citizen-experts” identified prior art. Naomi Allen et al., First Pilot Final Results, PEER TO PATENT 2 (June 2012), http://www.peertopatent.org/wp-content/uploads/sites/2/2013/11/First-Pilot-Final- Results.pdf. However, this was still not an inter partes examination program, and did not involve adversarial or otherwise hostile party involvement. Following the second pilot program the initiative appears to have been abandoned by the USPTO. See Lisa Larrimore Oullette, Pierson, Peer Review, and Patent Law, 69 VAND. L. REV. 1825, 1839–40 (2016). 180 See generally H. Dickson Burton & Allen C. Turner, Inter Partes and Post- Grant Review and Ex-Parte Re-Examination, LEXOLOGY (Oct. 23, 2015), https://www.lexology.com/library/detail.aspx?g=ac84ba8d-a6ce-4ef9-ad76- 29411b2a1d34 (comparing the proceedings for challenging the validity of granted patents and their respective advantages and disadvantages). 181 35 U.S.C. § 122(c), (e) (2012); 37 C.F.R. §§ 1.290–.291 (2017); MPEP, supra note 13, §§ 1134, 1441.01, 1901; see generally Austen Zuege, Strategic Third- Party Submissions Against Patent Applications, INTELL. PROP. TODAY, Dec. 2012, at 26, 26 (providing a procedural overview of third-party pre-issuance submissions). continued . . . !, $''$.- -$  #$ $'0$"'0  “informal” mechanism available as well. 182 Additionally, in some circumstances, inventorship of a pending patent application can be disputed via a derivation proceeding.183 These various procedures are discussed in turn.

B. Protests

Protests can be filed against pending patent applications, with a listing of information relevant to patentability and a concise statement of relevance that can include arguments against patentability, but only in extremely limited circumstances.184 Protests can only be filed prior to publication of the pending application, or with the applicant’s consent after publication and prior to allowance.185 The protestor is not able to participate after the initial filing of the protest.186 Of course, filing a protest before an application publishes is usually impossible, given that the very existence of the application is usually not public information and the contents of the application are likely unknown.187 Situations in which an applicant would consent to a protest are difficult to imagine. The only meaningful scenario in which protests are available is for reissue applications, which are based on a previously-granted patent.188 So, protests end up being a kind of a technicality, available only in rare situations—though potentially important in those circumstances.189

182 ZUEGE, supra note 44, at 387–88. 183 Derivation Proceeding, USPTO, https://www.uspto.gov/patents-application- process/appealing-patent-decisions/trials/derivation-proceeding (last updated May 9, 2017). 184 35 U.S.C. § 122(c); 37 C.F.R. § 1.291; MPEP, supra note 13, §§ 1901– 1907.07(a). 185 35 U.S.C. § 122(c); 37 C.F.R. § 1.291(b). 186 MPEP, supra note 13, § 1901.07. 187 See 35 U.S.C. § 122(a). Current USPTO practice is to identify an application serial number for unpublished continuing applications in the continuity data for published parent applications in the PAIR system, but not to provide public access to such unpublished application documents. See MPEP, supra note 13, § 101. In such a scenario, a potential protestor might be aware of the existence of a continuing application of interest without knowing its specific contents. See id. Another notable exception is for applications based on a Patent Cooperation Treaty application (e.g., a national phase entry application), in which the contents of an unpublished applicant can be surmised, though the U.S. application serial number will likely remain unknown. See id. § 1893. 188 MPEP, supra note 13, § 1441.01. 189 See id. §§ 1441.01, 1901.04. continued . . .

 #$%& '() +) ")*') ))  C. Pre-Issuance Submissions

Third-party pre-issuance submissions were introduced by the America Invents Act in 2011.190 Like “observations” in some other jurisdictions,191 these pre-issuance submissions resemble protests but are available in a wider range of situations, albeit based on a slightly narrower scope of information. In particular, submissions must be received by the USPTO prior to the later of either (a) six months after publication or (b) the date a first rejection is given or mailed.192 This window of opportunity is significant, but also rather short. After the initial submission, there is no further third-party involvement,193 and the USPTO does not permit arguments as to patentability or the submission of unpublished materials (i.e., only patents, published patent applications, and “printed publications” are accepted).194 Most potential third-party submitters want to know: is it strategically worthwhile to make a pre-issuance submission? The answer to this question naturally varies, depending especially on the availability and quality of prior art that might be submitted.195 But a more general concern is what examiners actually do with third-party submissions. Are they ever effective? As of September 2014, for applications with office actions after receipt of a proper third-party submission, the submission was relied upon by the examiner 12.96% of the time.196 From the standpoint of a potential submitter, that seems like

190 Leahy-Smith America Invents Act, Pub. L. No. 112-29, § 8, 125 Stat. 284, 315 (2011). 191 See Stéphanie Celaire, Third Party Observations: A Weapon to Integrate in Your IP Strategy?, REGIMBEAU (May 13, 2013), https://www.regimbeau.eu/REGIMBEAU/GST/COM/PUBLICATIONS/2013%200 5%20Observation%20de%20tiers_STC_EN.pdf (providing an overview of laws governing pre-issuance observations around the world). 192 35 U.S.C. § 122(e)(1)(B) (2012). 193 MPEP, supra note 13, § 1134.01(II)(B)(3). 194 Id. § 1134.01(III). 195 Kirby B. Drake, Pre-Issuance Patent Submissions - A New Way to Participate in Patent Prosecution, KLEMCHUK LLP BLOG (Oct. 23, 2015), http://www.klemchuk.com/339-preissuance-patent-submissions-a-new-way-to- participate-in-patent-prosecution/. 196 Compare Preissuance Submission Statistics, USPTO 5 (Sept. 26, 2014), https://www.uspto.gov/sites/default/files/patents/init_events/preissuance_submission _statistics1.pdf, and Submission of Observations from Third Parties, JAPAN PAT. OFF. (Apr. 7, 2017), https://www.jpo.go.jp/tetuzuki_e/t_tokkyo_e/submission.htm (stating that December 2013 data from the Japan Patent Office indicates that information regarding prior art contained in third-party pre-issuance observations was utilized in reasons for refusal (i.e., in office actions) approximately 73% of the time), with Supplementary Publication 4/2016 – Official Journal EPO, EUR. PAT. OFF., https://www.epo.org/law-practice/legal-texts/official- continued . . . !, $''$.- -$  #$ $'0$"'0  a disappointingly low number. And yet, more promisingly, one independent study showed that approximately 40% of pre-issuance submissions were successful (with approximately 20% leading to abandonment), and an earlier internal USPTO survey of examiners indicated that 52% of those surveyed found pre-issuance submissions useful to either a moderate or great extent.197 Interviews conducted with USPTO staff in 2013 suggested that a common problem with many submissions is that submitters are often well-versed in (and passionate about) the relevant technology but are unfamiliar with patents and the patenting process, and therefore they fail to present submitted information in a manner useful to examiners.198 Indeed, numerous examiners commented in that survey that the quality of the concise statements of relevance for submitted information is important to them.199 Submitters need not be registered patent attorneys or agents, but feedback from USPTO personnel and anecdotal accounts by patent attorneys (the present author included) suggests that experienced patent practitioners are more likely than non-practitioners to prepare pre-issuance submissions in a way that results in examiner reliance on the submitted information as the basis for a rejection.200 However, from a strategic perspective, the limited ability of a third journal/2016/etc/se4/p91.html (last updated Sept. 29, 2016) (asserting that European Patent Office (“EPO”) examiners are required to comment on all third-party observations submitted under Article 115 of the European Patent Convention, though statistics do not appear to be available regarding the percentage of cases in which third-party observations are used as the basis for a rejection in the EPO). 197 Sarah Kapelner et al., An Assessment of the Impact of Pre-Issuance Submissions on the Patent Examination Process, WORCESTER POLYTECHNIC INST. 119 (Dec. 19, 2013), https://web.wpi.edu/Pubs/E-project/Available/E-project- 122013-161237/unrestricted/FINAL_PAPER_pdf_version.pdf (noting this was a very limited survey); Braden Katterheinrich & Nicholas Anderson, The 3rd-Party Submissions Most Likely to Succeed at USPTO, LAW360 (Oct. 27, 2017, 10:37 AM), https://www.law360.com/articles/976912/the-3rd-party-submissions-most-likely-to- succeed-at-uspto. 198 Kapelner et al., supra note 197, at 171 (citing an interview with an anonymous USPTO manager); see also Katterheinrich & Anderson, supra note 197. 199 See generally Kapelner et al., supra note 197, at 117–29 (noting that forty- seven of the ninety-three examiners responded that concise explanations were helpful in identifying pertinent parts of submissions, many of those surveyed providing responses explaining why). 200 See 25 U.S.C. § 122(e) (2012) (stating that “[a]ny third party” may make a submission); Rule Implementing Third Party Submissions Provision of Leahy-Smith America Invents Act, 77 Fed. Reg. 42,150, 42,154 (July 17, 2012) (to be codified at 37 C.F.R. pts. 1, 41) (explaining that the submitter may be any member of the public or an attorney or representative of a party); Katterheinrich & Anderson, supra note 197 (identifying factors correlating with success, such as use of a claim chart instead of a narrative format and concluding that examiners are more likely to rely on “submitted references that are of the type most commonly used at the USPTO”). continued . . .

 #$%& '() +) ")*') ))  party to elaborate on submitted cited prior art and the absence of any requirement for examiners to affirmatively respond to submissions may caution against “wasting” the best possible prior art.201 After all, the applicant is generally free to amend the claims to distinguish the submitted prior art, which may result in a patent being granted, albeit with narrower claims.202 This is Important Point #5: a well-drafted and well-timed pre-issuance submission can urge rejection and possible narrowing amendments, but in high-stakes situations it may be better to hold back some or all known prior art for use in another context. An ideal scenario for a pre-issuance submission is where there is an abundance of non-cumulative prior art available, so that some prior art can be submitted and other prior art held back for potential later use. Another scenario where pre-issuance submissions makes sense is where forcing a narrowing amendment to eliminate reasonable royalty damages under pre-grant provisional rights is important, while the subsequent grant of a patent with narrowed claims would be acceptable. For instance, a submission of prior art that is identical or highly similar to a third-party’s product (or process) can either force narrowing claim amendments or can help build a case that any later-granted claims must not read on the submitted art—and, by extension, that the similar or identical product/process of the third-party submitter does not infringe.203 In that way, the submitted prior art acts as both a sword and a shield. Such an approach may be viable when dealing with pending claims that are highly ambiguous yet are supported only by the disclosure of embodiments that are significantly different from the third-party’s product/process.

201 See MPEP, supra note 13, § 1134.01 (stating that the statute requires a “concise” and not “verbose description” and that the third-party filer “will not receive any further communications from the Office relating to the submission” aside from notification of receipt). 202 See John J. Penny & Rory P. Pheiffer, Evaluating the Effectiveness of Third Party Preissuance Submissions, NUTTER (Nov. 2, 2015), https://www.nutter.com/ip- law-bulletin/evaluating-the-effectiveness-of-third-party-preissuance-submissions (concluding that filing a third-party submission is risky because it could lead to applicants amending their claims in ways that increase their chances of success); Katterheinrich & Anderson, supra note 197. 203 Contra Peters v. Active Mfg. Co., 129 U.S. 530, 538–39 (1889) (“That which infringes, if later, would anticipate, if earlier.”), superseded by statute, Act to Revise and Codify the Laws Relating to Patents and the Patent Office, ch. 950, 66 Stat. 792, 797 (codified as amended at 35 U.S.C. § 102 (2012)). Strictly speaking, there is no “practicing the prior art” defense to patent infringement. In re Omeprazole Patent Litig., 536 F.3d 1361, 1377 (Fed. Cir. 2008) (“It is well-established . . . that ‘practicing the prior art’ is not a defense to infringement.”). But from a pragmatic perspective, a reasonable belief that sale of goods constitutes “practicing the prior art” equates to a belief that either a finding of non-infringement or a determination of invalidity is likely. continued . . . !, $''$.- -$  #$ $'0$"'0  D. Informal Submissions

The informal method of challenging a pending patent application is to submit prior art to the applicant’s attorney, or to the applicant herself. Prosecuting attorneys, plus the inventor(s) and possibly certain other persons involved with a given patent application, are under a duty to disclose material prior art to the USPTO.204 Therefore, any prior art they receive from a third party must be disclosed to the USPTO to fulfill that duty of disclosure. 205 The consequence of not doing so is a potential finding of inequitable conduct, which may render any resultant patent unenforceable.206 One convenient way to make such disclosures to an applicant’s attorney is to pre-fill a USPTO-supplied information disclosure statement (“IDS”) form with all relevant prior art information and send it to the applicant’s attorney.207 The IDS form includes space in which to identify “Pages, Columns, Lines where Relevant Passages or Relevant Figures Appear” for each of the listed references,208 which can be used to point the examiner to important teachings that might otherwise be easy to overlook. If the IDS is altered to remove one or more references or the identifications of particularly relevant passages

204 37 C.F.R. § 1.56(c) (2017); MPEP, supra note 13, § 2001. 205 MPEP, supra note 13, § 2001.06(a). 206 See 35 U.S.C. § 282(b)(1) (2012); Therasense, Inc. v. Becton, Dickinson & Co., 649 F.3d 1276, 1290–91 (Fed. Cir. 2011) (en banc) (stating that unenforceability requires findings of both (a) but-for materiality of withheld information and (b) that the patentee acted with the specific intent to deceive the USPTO). A finding of unenforceability renders all claims of the patent unenforceable; this is not a claim-by-claim analysis like invalidity. Therasense, Inc., 649 F.3d at 1288. However, a patentee can cure a failure to disclose and avoid unenforceability by submitting the information with a request for supplemental examination. 35 U.S.C. § 257(c)(1) (2012); 37 C.F.R. § 1.601–.625 (2017); MPEP, supra note 13, § 2802. Supplemental examination may be requested at any time during the life of a patent, but in order for it to be an effective cure for inequitable conduct, supplemental examination must be requested before an unenforceability defense is raised by an accused infringer. § 257(c)(2)(A); see also Therasense, Inc., 649 F.3d at 1290–91. Additionally, it may be possible to cure inequitable conduct through a reissue application, because the America Invents Act removed the limitation on reissue that the defect sought to be cured was “without any deceptive intention.” See 35 U.S.C. § 251(a) (2012); see also MPEP, supra note 13, § 1448 (“[USPTO] will not comment upon duty of disclosure issues which are brought to the attention of the Office in reissue applications except to note in the application, in appropriate circumstances, that such issues are no longer considered by the Office during its examination of patent applications.”). 207 Information Disclosure Statement by Applicant – PTO/SB/08a, USPTO, https://www.uspto.gov/sites/default/files/patents/process/file/efs/guidance/updated_I DS.pdf (last visited Feb. 27, 2018). 208 Id. continued . . .

 #$%& '() +) ")*') ))  are altered before submission to the USPTO, that may constitute inequitable conduct if it conceals relevant information with an intent to deceive. 209 In general, the strategic considerations for the informal submission of prior art to the applicant’s attorney are the same as those for a formal pre-issuance submission.

E. Derivation Proceedings

Another procedure of note when considering a challenge to a pending patent application is a derivation proceeding.210 This is a patent office trial “to determine whether (i) an inventor named in an earlier application derived the claimed invention from an inventor named in the petitioner’s application, and (ii) the earlier application claiming such invention was filed without authorization.”211 In essence, derivation proceedings govern disputes over inventorship and the misappropriation of another’s invention.212 In certain circumstances, this may be the most suitable way to challenge a competitor’s pending patent application.

F. Other Options?

If none of the pre-issuance procedures discussed above are legally available, or if due to strategic considerations none appear suitable, then a third party will need to await either abandonment or grant of the pending application.213 After grant, a number of other procedures are available to challenge an issued patent. These include post-grant review, inter partes review, proceedings for covered business methods, and ex parte reexamination, all conducted at the USPTO, as well as declaratory judgment actions in court.214 The drawback to all such post-

209 Therasense, Inc., 649 F.3d at 1290–91. Supplemental examination or reissue might be effective to cure such inequitable conduct if pursued before an unenforceability defense is raised by an accused infringer. See supra note 206 and accompanying text. 210 35 U.S.C. § 135 (2012). Interference proceedings have been eliminated for new patent applications, but constitute another type of proceeding that can apply to a dwindling number of older patent applications. See MPEP, supra note 13, § 2301.04. 211 Derivation Proceeding, supra note 183. 212 See id. 213 See Zuege, supra note 181, at 26. 214 See 28 U.S.C. § 2201 (2012); 35 U.S.C. §§ 291, 302, 311, 321 (2012); Leahy-Smith America Invents Act, Pub. L. No. 112-29, § 18, 125 Stat. 284, 329 (2011); see also 35 U.S.C. § 301(1) (2012); 37 C.F.R. § 1.501 (2017) (informally referred to as the “poor man’s reexam”); Theodore C. McCullough, Prior Art and Its Uses: A Primer, GROKLAW (Apr. 17, 2006, 12:25 PM), continued . . . !, $''$.- -$  #$ $'0$"'0  grant activities is cost.215 Pre-issuance submissions are generally much less costly to prepare and file.216

IV.CONCLUSION Pending patent applications can present a great deal of uncertainty to third parties attempting to ascertain potential infringement liability. The UCC and CISG each provide warranties against infringement enforceable against a seller of goods by default, but the UCC is particularly ambiguous with respect to liability for the delivery of goods while a patent application is still pending.217 Revisions to the UCC that more clearly delineate the scope of the warranty against infringement for delivery of goods would provide much more certainty to both buyers and sellers. However, in the meantime, buyers and sellers can negotiate specific terms for warranties against infringement, up to and including the complete elimination of such warranties or the assumption of a full and unequivocal indemnity against all infringement. 218 The warranty against infringement is relatively rarely litigated, in large part because patent owners usually prefer to sue competitors (sellers) than customers (buyers) but also because sellers will often either intentionally disclaim all warranties against infringement or will assume full indemnification of buyers against patent infringement.219 But agreements should be drafted and reviewed with the understanding that patent owners may still be entitled to sue customers (buyers) and warranty against infringement issues could still arise with respect to pending patent applications. Practitioners should scrutinize commercial contracts with an eye toward scenarios in which a patent issues after tender of delivery, and draft and review contracts with the same considerations in mind. These contract provisions take on

http://www.groklaw.net/articlebasic.php?story=20060414004039219#note16. 215 Post-grant proceedings typically cost in the six-figure range, and litigation into the seven-figure range. AM. INTELL. PROP. L. ASS’N, 2017 REPORT OF THE ECONOMIC SURVEY I-112–17, I-161–66 (2017). Ex parte reexamination remains the least costly post-grant procedure, with costs to the requester more typically in the five-figure range. Id. at I-91, I-97. 216 Cost data for pre-issuance submissions is not available, but the submission requirements are less onerous that ex parte reexamination and the official fees are lower (and potentially non-existent for a limited number of submitted documents). See Zuege, supra note 181, at 28. 217 U.C.C. § 2-312 (AM. LAW INST. & UNIF. LAW COMM’N 2002). 218 See, e.g., Blake D. Morant, Contracts Limiting Liability: A Paradox with Tacit Solutions, 69 TUL. L. REV. 715, 716–17 (1995). 219 See, e.g., Sun Coast Merch. Corp. v. Myron Corp., 922 A.2d 782, 794–95 (N.J. Super. Ct. App. Div. 2007). continued . . .

! #$%& '() +) ")*') ))  heightened importance in view of (a) the likelihood of any given patent application being granted, (b) the very limited opportunities to intervene in the examination of pending patent applications, and (c) the relatively high cost of post-grant challenges to issued patents (including patent litigation defense).220

220 See, e.g., Carley et al., supra note 20, at 215; Doug Harvey, Reinventing the U.S. Patent System: A Discussion of Patent Reform Through an Analysis of the Proposed Patent Reform Act of 2005, 38 TEX. TECH L. REV. 1133, 1164 (2006). 

WAKE FOREST JOURNAL OF BUSINESS AND INTELLECTUAL PROPERTY LAW

   ! "  

INVESTORS BANCORP: THE ROADS NOT TAKEN AND HOW TO MITIGATE THE CONSEQUENCES

Andrew M. Holt†

I. INTRODUCTION ...... 482 II. THE INVESTORS BANCORP DECISION ...... 483 A.THE FACTS...... 483 B.THE DELAWARE SUPREME COURT’S ANALYSIS ...... 485 III. THE ROADS NOT TAKEN: WASTE AND DISCLOSURE ...... 489 A.WASTE...... 490 B.DISCLOSURE ...... 493 IV. CONSEQUENCES OF THE DECISION ...... 497 A.IMMEDIATE IMPACT ON DIRECTOR COMPENSATION DECISION MAKING ...... 497 B.MITIGATING THE PRACTICAL IMPLICATIONS OF INVESTORS BANCORP ...... 501 V. CONCLUSION ...... 504



† © 2018 Andrew M. Holt is an associate at Richards, Layton & Finger, P.A., in Wilmington, Delaware. Richards, Layton & Finger, P.A. was involved in some of the cases discussed herein. The opinions expressed in this Article are those of the author and not those of Richards, Layton & Finger or its clients.

 #$%& '() +) ")*') ))  I.INTRODUCTION In In Re Investors Bancorp, Inc. Stockholder Litigation1 (“Investors Bancorp”), the Delaware Supreme Court announced that director compensation plans, in which directors have discretion to grant themselves equity, will be reviewed under the exacting “entire fairness” standard. 2 Prior to the Delaware Supreme Court’s decision, the Delaware Court of Chancery held that compensation plans which (i) contained director-specific, “meaningful limits,” and (ii) were approved by a majority of the fully informed, uncoerced, disinterested stockholders were subject to the more deferential business judgment standard of review. 3 The Delaware Supreme Court’s decision effectively rejects this precedent.4 Additionally, the decision increased the ability of shareholder plaintiffs to enmesh Delaware corporations and their directors in costly litigation. Even where directors have received prior approval from stockholders of compensation plans that give directors discretion on how much to award themselves, director defendants will have the burden of proving ab initio that such plans are entirely fair to the corporation.5 The Delaware Supreme Court noted that it balanced the “utility of the ratification defense and the need for judicial scrutiny of certain self-interested discretionary acts by directors,”6 but ultimately determined that it cannot permit stockholder ratification to foreclose equitable review.7 Although the Delaware Supreme Court decided that entire fairness

1 In re Inv’rs Bancorp, Inc. Stockholder Litig., 177 A.3d 1208 (Del. 2017). 2 See id. at 1211. 3 See id. (citing Seinfeld v. Slager, No. 6462–VCG, 2012 WL 2501105, at *12 (Del. Ch. June 29, 2012)); see also Calma ex rel. Citrix Sys., Inc. v. Templeton, 114 A.3d 563, 569 (Del. Ch. 2015) (holding that the stockholder approval did not “bear[] specifically on the magnitude of compensation to be paid to its non-employee directors”). The Delaware Supreme Court has summarized the business judgment rule as, a “presumption that in making a business decision the directors of a corporation acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the company.” A hallmark of the business judgment rule is that a court will not substitute its judgment for that of the board if the latter’s decision can be “attributed to any rational business purpose.” Unocal Corp. v. Mesa Petrol. Co., 493 A.2d 946, 954 (Del. 1985) (citation omitted). 4 In re Inv’rs Bancorp, 177 A.3d at 1212. 5 Id. at 1211. 6 Id. 7 Id. at 1223. continued . . . !,       

 governs the types of compensation plans at issue, the Delaware Supreme Court could have chosen alternate roads in its decision. Investors Bancorp involved colorable claims of waste and breach of the duty of disclosure.8 The Delaware Supreme Court could have traveled down either or both of these roads to invalidate the directors’ excessive compensation, rather than promulgating a new rule that discretionary director compensation plans are always subject to entire fairness. This Article discusses the Investors Bancorp decision, the alternate roads the Delaware Supreme Court could have selected to invalidate the compensation plan, and the consequences of subjecting discretionary compensation plans to the exacting entire fairness standard of review ab initio. Part II summarizes the facts of Investors Bancorp and analyzes the legal rule promulgated by the decision. Part III examines waste and the disclosure issue as alternatives to the ultimate ruling. Finally, Part IV discusses the consequences of the decision and how courts should mitigate them.

II.THE INVESTORS BANCORP DECISION

A. The Facts

Investors Bancorp afforded the Delaware Supreme Court the opportunity to address director self-compensation plans for the first time since its prior decisions in Kerbs v. California Eastern Airways, Inc.9 and Gottlieb v. Heyden Chemical Corp.10 In Investors Bancorp, the Delaware Supreme Court reviewed an equity compensation plan (the “EIP”), which set forth that “[the] maximum number of shares that may be issued or delivered to all non-employee directors, in the aggregate, pursuant to the exercise of stock options or grants of restricted stock units . . . ” was to be 30% of all options or restricted stock shares available for awards, all of which could have been granted in any calendar year.11 As for directors who were employees of the corporation, the plan’s limits on the available stock grants were “[a] maximum of 4,411,613 shares, in the aggregate . . . to any one employee . . .” and “[a] maximum of 3,308,710 shares, in the aggregate . . . to any one employee as a restricted stock or restricted stock unit grant.”12

8 Id. at 1212, 1215–16, 1224–26 (explaining how plaintiffs alleged that directors breached their fiduciary duties by granting themselves unfair and excessive awards after stockholders approved an Equity Incentive Plan). 9 See id. at 1212, 1215–16, 1224–26; see also Kerbs v. California E. Airways, Inc., 90 A.2d 652, 660 (Del. 1952). 10 Gottlieb v. Heyden Chem. Corp., 90 A.2d 660, 663 (Del. 1952). 11 In re Inv’rs Bancorp, 177 A.3d at 1214 (alteration in original). 12 Id. (alteration in original). continued . . .

  #$%& '() +) ")*') ))  Ultimately, the EIP left it to the discretion of the directors to allocate themselves up to 30%, in the aggregate, of all option or restricted stock shares available.13 In Investors Bancorp, the director defendants were comprised of (i) ten non-employee directors, and (ii) two executive directors.14 The average annual compensation for the non-employee directors was $133,340, which ranged from $97,200 to $207,005.15 In 2014, Kevin Cummings, the corporation’s President, CEO, and one of the abovementioned executive directors, received annual compensation consisting of a base salary of $1,000,000, along with cash incentives, and benefits valued at $278,400, which totaled $2,778,770. 16 Domenick A. Cama, the corporation’s COO, Senior Executive Vice President, and the other abovementioned executive director, received an annual compensation consisting of a base salary of $675,000, along with cash incentives, and benefits valued at $180,794, which totaled $1,665,794.17 The board set forth the details of the EIP referenced above and the reasoning behind it in the corporation’s proxy statement, which was sent to stockholders prior to the annual meeting.18 According to the proxy, “[t]he number, types and terms of awards to be made pursuant to the [EIP] are subject to the discretion of the Committee and have not been determined at this time, and will not be determined until subsequent to stockholder approval.” 19 The proxy also stated that the EIP was intended to: [P]rovide[] additional incentives for [the Company’s] officer’s, employees and directors to promote [the Company’s] growth and performance and to further align their interests with those of [the Company’s] stockholders . . . and give [the Company] the flexibility [needed] to continue to attract, motivate and retain highly-qualified officers, employees and directors.20 At the corporation’s annual meeting on June 5, 2015 , an overwhelming 96.25% of the voting shares approved the EIP.21 Just three days after stockholder approval of the EIP, the board

13 See id. at 1212. 14 Id. 15 Id. 16 Id. at 1213. 17 Id. 18 See id. at 1214. 19 Id. (alteration in original). 20 Id. at 1214 (alteration in original) (emphasis added). 21 Id. Such percentage represented 79.1% of the total shares outstanding. Id. continued . . . !,      

 formed a compensation committee.22 The committee consulted with outside counsel and compensation experts during four separate meetings regarding the awarding of the restricted stock and stock options contemplated by the EIP. 23 Ultimately, the board awarded themselves 7.8 million shares. 24 Non-employee directors’ awards averaged $2,159,400 and totaled $21,594,000. 25 The Delaware Supreme Court observed that peer companies’ non-employee awards averaged $175,817; thus, the company’s awards were roughly twelve times those of its peers.26 Cummings and Cama, the two executive directors, received stock options and restricted shares valued at $16,699,999 and $13,359,998, respectively. 27 Their awards were 1,759% and 2,571% higher than the averages of peer companies.28 Shortly after the awards were made public, stockholders filed complaints in the Delaware Court of Chancery alleging breaches of fiduciary duty by the directors for awarding themselves excessive compensation. 29 Relying on court of chancery precedent, Vice Chancellor Joseph R. Slights III granted the director defendants’ motions to dismiss.30 The plaintiffs appealed to the Delaware Supreme Court.31

B. The Delaware Supreme Court’s Analysis

On appeal, the Delaware Supreme Court initiated its legal analysis by briefly referencing Section 141(h) of the General Corporation Law of the State of Delaware (the “DGCL”). 32 Under Section 141(h), “[u]nless otherwise restricted by the certificate of incorporation or bylaws, the board of directors shall have the authority to fix the compensation of directors.”33 Although the Delaware Supreme Court does not delve into it, Section 141(h) has a bit of history. Prior to the Delaware legislature’s enactment of Section 141(h) in 1969, Delaware courts opined that directors “have no right to

22 Id. 23 Id. at 1214–15. 24 Id. at 1215. 25 Id. 26 Id. 27 Id. at 1216. 28 Id. 29 Id. 30 In re Inv’rs Bancorp, Inc. Stockholder Litig., No. 12327–VCS, 2017 WL 1277672, at *1 (Del. Ch. Apr. 5, 2017). 31 In re Inv’rs Bancorp, 177 A.3d at 1211. 32 Id. at 1217. 33 DEL. CODE ANN. tit. 8, § 141(h) (2015). continued . . .

 #$%& '() +) ")*') ))  compensation for their services . . . unless it is authorized by the charter, by-laws, or the stockholders.”34 In Cahall v. Lofland, stock was issued to directors as compensation for their services rendered and as commissions for selling its stock.35 The Delaware Court of Chancery found, and the Delaware Supreme Court ultimately affirmed, that directors were not to be compensated unless otherwise provided for in the corporation’s charter, by-laws, or by its stockholders.36 The court of chancery reiterated this principal shortly thereafter in Finch v. Warrior Cement Corp.37 In the early twentieth century, the concept of corporate directors serving gratis was not a novel concept in Delaware, as courts in other jurisdictions also recognized that directors traditionally worked for free. 38 Typically, directors only received nominal fees for their attendance at board meetings.39 As the twentieth century progressed, however, it became more common for corporate directors to receive compensation in some form or another.40 To this end, in 1969, the Delaware legislature enacted Section 141(h), thereby enabling directors to set their own compensation.41

34 Lofland v. Cahall, 118 A. 1, 3 (Del. 1922). 35 Cahall v. Lofland, 114 A. 224, 230 (Del. Ch. 1921), aff’d, 118 A. 1 (Del. 1922). 36 Lofland, 118 A. at 8. 37 Finch v. Warrior Cement Corp., 141 A. 54, 63 (Del. Ch. 1928). 38 See, e.g., Holms v. Republic Steel Corp., 69 N.E.2d 396, 402 (Ohio C.P. 1946) (“Directors of corporations, however, usually serve without wages or salary. They are generally financially interested in the success of the corporation they represent, and their service as directors secures its reward in the benefit which it confers upon the stock which they own.”), aff’d in part, rev’d in part on other grounds, 84 N.E.2d 396 (Ohio Ct. App. 1949). 39 See Charles M. Elson, Director Compensation and the Management-Captured Board – The History of a Symptom and a Cure, 50 SMU L. REV. 127, 138 (1996) (noting that directors often received nominal payment for attending board meetings, usually in the form of a gold double eagle). For a lengthy and robust discussion on the history of director compensation, see id. 40 Id. Indeed, in 2015, the average compensation of directors of the top 200 companies in the financial industry was $280,000. Steven Hall & Partners, 2015 Director Compensation Study, STEVEN HALL PARTNERS: EXECUTIVE COMPENSATION, http://www.shallpartners.com/wp-content/uploads/2015/09/SHP- 2015-Director-Compensation-Study.pdf, 6 (last visited Apr. 21, 2018). But see Berkshire Hathaway Inc., Proxy Statement Pursuant to Section 14(a) of the Securities Exchange Act of 1934 (Form 14A) 6 (Mar. 17, 2017) (revealing that Berkshire Hathaway’s non-employee directors receive an annual compensation of a paltry $4,200, on average, in 2016). 41 See S. SAMUEL ARSHT & WALTER K STAPLETON, THE 1969 AMENDMENTS TO THE DELAWARE CORPORATION LAW 350 (1969). “[Section 141(h)] was intended to lay to rest a suggestion by way of dictum in an early case that directors are not empowered to vote compensation for members of the board unless authorized by a continued . . . !,       

 Although the DGCL empowers directors to set their own compensation, the Delaware Supreme Court held in Investors Bancorp that the board’s determination to do so will “lie outside the business judgment rule’s presumptive protection . . . [and is] subject to an affirmative showing that the compensation arrangements are fair to the corporation.”42 Historically, however, if a board’s decision is ratified by the corporation’s fully informed, uncoerced, and disinterested stockholders, that decision was reviewed under the business judgment standard of review, rather than entire fairness.43 The Delaware Supreme Court then continued with a fulsome discussion of stockholder ratification in the context of director compensation plans.44 The Delaware Supreme Court observed that Delaware courts have recognized the stockholder ratification defense in three scenarios: (i) specific director awards; (ii) self-executing plans; and (iii) when directors exercised discretion and determined the amounts and terms of the awards. 45 Specific awards are just that: a defined number of shares.46 And self-executing plans are those where the directors have “no discretion when making the awards.”47 Such plans are typically based on a pre-determined formula.48 The Delaware Supreme Court vote of stockholders or by a specific charter of by-law provision.” See id. (alteration in original). But cf. N.Y. BUS. CORP. LAW § 505(d) (“The issue of such rights or options to one or more directors, officers or employees of the corporation or a subsidiary or affiliate thereof, as an incentive to service or continued service with the corporation, a subsidiary or affiliate thereof, or to a trustee on behalf of such directors, officers or employees, shall be authorized as required by the policies of all stock exchanges or automated quotation systems on which the corporation's shares are listed or authorized for trading, or if the corporation’s shares are not so listed or authorized, by a majority of the votes cast at a meeting of shareholders by the holders of shares entitled to vote thereon, or authorized by and consistent with a plan adopted by such vote of shareholders.” (emphasis added)). 42 In re Inv’rs Bancorp, Inc. Stockholder Litig., 177 A.3d 1208, 1217 (Del. 2017) (alteration in original) (quoting Texlon Corp. v. Meyerson, 802 A.2d 257, 262 (Del. 2002)). 43 See e.g., In re 3Com Corp. S’holders Litig., No. C.A. 16721, 1999 WL 1009210, at *3 (Del. Ch. Oct. 25, 1999) (“Directors’ decisions administering a shareholder approved [compensation plan] consistently with the plan are entitled to the protection of the business judgment rule.” (alteration in original)); see also MICHAEL S. SIRKIN & LAWRENCE K CAGNEY, EXECUTIVE COMPENSATION §11.01(3) (2006) (“Putting the [compensation plan] to shareholders for approval should relieve any concern regarding self-dealing . . . .” (alteration in original)). 44 See In re Inv’rs Bancorp,177 A.3d at 1217–18. 45 Id. at 1222. 46 See id. at 1217–19 (“[D]irectors could successfully assert the ratification defense when the stockholders were fully informed and approved stock option plans containing specific director awards.”). 47 Id. at 1222. 48 See id. at 1211. continued . . .

 #$%& '() +) ")*') ))  was not concerned with those two scenarios because, in its view, they “present no real problems.”49 However, self-executing plans offer less flexibility to corporations in compensating their directors and officers. They also present other issues as it relates to proxy advisory firms and institutional investors and their jockeying with corporate stewards on compensation matters. This Article does not address these issues. In its analysis and discussion of prior case law, the Delaware Supreme Court affirmed the holdings of the prior Delaware Supreme Court cases, Kerbs and Gottlieb, that stockholder ratification is a valid defense where director awards are specific in amount and value, i.e., scenarios (i) and (ii) above.50 Next, the Delaware Supreme Court addressed the court of chancery cases applying the ratification defense to discretionary director self- compensation plans. 51 Notably, in In re 3Com Corporation Shareholders Litigation,52 the court of chancery approved stockholder ratification of option grants that contained director specific ceilings.53 But in Sample v. Morgan,54 in invalidating stockholder ratification, the court of chancery explained that “Delaware . . . does not embrace a ‘blank check’ theory, [notwithstanding stockholder ratification].” 55 There, the two non-employee directors on the compensation committee awarded all 200,000 shares contemplated by the stockholder-approved plan to the three employee directors.56 Recently, in Calma ex rel. Citrix Systems, Inc. v. Templeton,57 Chancellor Andre Bouchard explained, while striking down a stockholder approved discretionary compensation plan, for such plans to be subject to the business judgment rule they must have “meaningful limits,” in addition to being director-specific.58 In sum, the case law leading up to Investors Bancorp held that so long as discretionary option plans had “director-specific,” “meaningful limits,” and did not appear to be a blank check authorization, such plans that were approved by stockholders would be subject to business judgment. The apparent disparity between compensation awards of the

49 Id. at 1222. 50 Id. at 1217–19. 51 See id. at 1219–20. 52 See In re 3COM Corp. S’holders Litig., No. C.A. 16721, 1999 WL 1009210 (Del. Ch. Oct. 25, 1999). 53 Id. at *3. 54 See Sample v. Morgan, 914 A.2d 647 (Del. Ch. 2007). 55 Id. at 663 (alteration in original). 56 Id. at 650–51. 57 See Calma ex rel. Citrix Sys., Inc. v. Templeton, 114 A.3d 563 (Del. Ch. 2015). 58 See id. at 578, 588. continued . . . !,       

 directors of Investors Bancorp and those of their peers, in addition to the court of chancery’s struggle to reconcile discretionary plans and its own precedent, prompted the Delaware Supreme Court to withdraw stockholder ratification as a tool in shifting the review of discretionary compensation plans to the business judgment rule. 59 It begs the question that, if the Investors Bancorp directors had awarded themselves compensation in line with peers in their industry, would the Delaware Supreme Court would have chosen the road it did? Regardless, the avenue the Delaware Supreme Court did select was that “when it comes to discretion, directors’ exercise following stockholder approval of an equity incentive plan, ratification cannot be used to foreclose the court of chancery from reviewing those further discretionary actions when a breach of fiduciary duty claim has been properly alleged.”60 In reaching its conclusion, the Delaware Supreme Court held that “when stockholders have approved an equity incentive plan that gives directors discretion to grant themselves awards within general parameters . . . [then] the directors will be required to prove the fairness of the awards to the corporation.”61 Some commentators have parsed this language to suggest that if plans articulate more specific parameters, then perhaps stockholder ratification will cause such plans to be subject to the business judgment standard of review. 62 This observation is likely wishful thinking, as Delaware courts unsuccessfully applied a meaningful limits requirement.63 Ultimately, notwithstanding stockholder ratification, discretionary incentive plans with director specific, meaningful limits may be subject to corporate law’s most exacting standard of review: entire fairness.64

III.THE ROADS NOT TAKEN: WASTE AND DISCLOSURE The Delaware Supreme Court is often inclined to narrow its decision to the facts of the case at hand.65 However, the Delaware Supreme

59 See Inv’rs Bancorp, Inc. Stockholder Litig., 177 A.3d 1208, 1222–25 (Del. 2017). 60 Id. at 1222. 61 Id. at 1211 (alteration in original) (emphasis added). 62 See, e.g., James E. Earle et al., Delaware Supreme Court Shines a (Blurry) Spotlight on Director Compensation Decisions: In Re Investors Bancorp, Inc. Stockholder Litigation, K&L GATES (Jan. 17, 2018), http://www.klgates.com/delaware-supreme-court-shines-a-blurry-spotlight-on- director-compensation-decisions-in-re-investors-bancorp-inc-stockholder-litigation- 01-17-2018/. 63 See Calma ex rel. Citrix Sys., 114 A.3d at 585. 64 See In re Inv’rs Bancorp, 177 A.3d at 1217. 65 See, e.g., Delaware State Univ. Chapter of Am. Ass’n of Univ. Professors v. Delaware State Univ., 813 A.2d 1133, 1139 (Del. 2003) (“We note that this decision continued . . .

! #$%& '() +) ")*') ))  Court’s decision not to limit its holding to the colorable waste and disclosure issues in this case evidences a consensus of the Delaware Supreme Court to shift the standard of review for discretionary incentive plans that obtain stockholder approval from business judgment to entire fairness.66 However, it seems apparent from the decision that the Delaware Supreme Court aspired for a permanent fix for these types of cases.67

A. Waste

Most corporate law treatises suggest that the task of proving a corporation has committed waste is a fruitless endeavor. 68 It is an eleventh-hour salvo when plaintiffs are cornered into the business judgment standard of review. Typical “compensation claims, alleging that particular compensation was excessive and thereby constituted corporate waste, have not fared well under Delaware law. Most . . . are dismissed at the pleading stage.”69 Waste, in the traditional sense, occurs when: [W]hat the corporation has received is so inadequate in value that no person of ordinary, sound business judgment would deem it worth what the corporation has paid. If it can be said that ordinary businessmen might differ on the sufficiency of the terms, then the court must validate the transaction.70 The foregoing definition is quite deferential to the decision making of the board. That is why lawyers, judges, and scholars believe that

is a narrow holding confined to the facts of this case.”). 66 Compare id., with In re Inv’rs Bancorp, 177 A.3d at 1217. 67 See In re Inv’rs Bancorp, 177 A.3d at 1222–23. 68 See, e.g., 1 R. FRANKLIN BALOTTI & JESSE A. FINKELSTEIN, THE DELAWARE LAW OF CORPORATIONS AND BUSINESS ORGANIZATIONS § 4.11[A], at 4–49 (3d ed. 2017) (“Plaintiffs rarely satisfy the waste standards.”). But see In Re Citigroup Inc. S’holder Derivative Litig., 964 A.2d 106, 111–12, 138 (Del. Ch. 2009) (illustrating the court of chancery denying a motion to dismiss in which plaintiffs alleged that an executive compensation package of $68 million for a departing CEO was waste). 69 Rudolf Koch & Christopher H. Lyons, Delaware Insider: Executive Compensation Lessons from Freedman v. Adams, BUS. LAW. TODAY (March 2013), http://www.americanbar.org/publications/blt/2013/03/delaware_insider.html (last visited Jan. 10, 2017). 70 Saxe v. Brady, 184 A.2d 602, 610 (Del. Ch. 1962). For an in-depth discussion on corporate waste, see generally Harwell Wells, The Life (and Death) of Corporate Waste, 74 WASH. & LEE L. REV. 1239, 1239 (2017) (discussing “the origin of corporate waste, documents and explains its survival, and tentatively foresees its demise”). continued . . . !,      

 plaintiffs are almost certain to lose on their claims of waste.71 Perhaps this is why the Delaware Supreme Court in Investors Bancorp felt it had to limited stockholder ratification of compensation plans to only those where directors retain discretion. As explained, the reason the Delaware Supreme Court could not permit review of discretionary compensation plans, that stockholders approved to continue under the business judgment standard of review, is because egregious cases of excessive compensation would be insulated from judicial review.72 Waste, however, is not as elusive as commentators have proclaimed it to be73 and defeats the ratification issue by preserving judicial review of such cases. One does not have to look further than previous director compensation cases to find examples of when plaintiffs satisfied the waste pleading and survived the motion to dismiss stage. 74 Notwithstanding waste’s poor reputation, the Delaware Supreme Court could have relied on prior precedent and the waste doctrine to invalidate the compensation plan here.75 Two cases are illustrative on this point: Lewis v. Vogelstein76 and Sample v. Morgan. 77 In Lewis, the stockholder-approved director

71 Earle et al., supra note 62. 72 See In re Inv’rs Bancorp, 177 A.3d at 1222–23. 73 See e.g., Todd A. Murray & Lyndon F. Bittle, Emerging Issues Raised by Derivative Shareholder Actions Involving Foreign Corporations Headquartered in Texas: Making Sense of the Interaction Between Texas Procedures and Substantive Law, 39 TEX. TECH. L. REV. 1, 12 (2006). 74 See generally Sample v. Morgan, 914 A.2d 647 (Del. Ch. 2007) (pleading sufficiently alleged waste and motion to dismiss was not granted); Lewis v. Vogelstein, 699 A.2d 327 (Del. Ch. 1997) (alleging corporate waste and surviving the motion to dismiss stage). 75 Traditionally, the Delaware Supreme Court has limited its review to issues raised at the trial level. See, e.g., DEL. CT. R. 8. Here, the plaintiff did not plead waste in the court of chancery or in its brief to the Delaware Supreme Court; however, the Delaware Supreme Court could have reviewed the claim sua sponte in the interests of more case-specific issues and justice. See DFC Global Corp. v. Muirfield Value Partners, L.P., 172 A.3d 346, 363 (Del. 2017) (“We place great value on the assessment of issues by our trial courts, and it is not only unwise, but unfair and inefficient, to litigants and the development of the law itself, to allow parties to pop up new arguments on appeal they did not fully present below. For that reason alone, we are reluctant to even consider this argument. Nonetheless, because of its relationship to more case-specific issues, we explain why, even if this were fairly presented, DFC has not persuaded us to adopt its position.” (emphasis added)); Bank of Delaware v. Claymont Fire Co. No. 1, 528 A.2d 1196, 1199 (Del. 1987) (“The form of pleadings should not place a limitation upon the court’s ability to do justice.”). 76 See Lewis, 699 A.2d at 327. 77 See Sample, 914 A.2d at 647. continued . . .

 #$%& '() +) ")*') ))  compensation plans were self-executing (i.e., the second scenario).78 The plan provided for one-time grants of 15,000 options per director and annual grants depending on the specific director’s tenure: outside directors with five or fewer years of service would qualify for no more than 5,000 shares, while those with more than five years of services would qualify for up to 10,000 shares.79 In denying the defendants’ motion to dismiss on the claim of waste, Chancellor Allen observed that allegations of waste are inherently factual and in need of more evidentiary analysis. 80 He also noted, however, there are certain situations where one would not need further factual findings to dismiss a claim of waste.81 In Sample, the stockholder-approved plans were discretionary in nature (i.e., those of the third scenario where directors retain discretion in awarding themselves options).82 The option plan in that case limited the number of options directors could award themselves to 200,000 shares.83 Similar to Investors Bancorp, the incentive plan’s purported goal was to enable the company to “attract[] and retain[] key employees.”84 Within hours of the annual meeting, however, the board formed a compensation committee to administer the plan, in which all 200,000 shares would be issued.85 Thus, stockholders were allegedly led to believe the grants would be made over time to a more diffuse group of employees.86 In finding that the plaintiffs pled facts to support a pleading-stage inference of waste, then-Vice Chancellor Strine, now Chief Justice, noted that “[w]hen pled facts support an inference of waste, judicial nostrils smell something fishy and full discovery into the background of the transaction is permitted.” 87 He explained that plaintiffs are permitted to move past the pleadings stage “when the motivations for a transaction are unclear by pointing to economic terms so one-sided as to create an inference that no person acting in a good faith pursuit of the corporation’s interests could have approved the terms.”88

78 See Lewis, 699 A.2d at 329; see also Inv’rs Bancorp, Inc. Stockholder Litig., 177 A.3d 1208, 1219 (Del. 2017) (explaining that the plans in Lewis were “self- executing, meaning that no further director action was required to implement the awards as they were earned”). 79 See Lewis, 699 A.2d at 329–330. 80 See id. at 339. 81 See id. 82 See Sample, 914 A.2d at 654–56. 83 See id. at 650–51. 84 Id. at 662 (alteration in original). 85 See id. at 657 (emphasis added). 86 See id. at 666–67. 87 Id. at 670. 88 Id. continued . . . !,      

 Under this analysis, the piscine nature of the value and timing of the options in Investors Bancorp would seem to warrant wading into full discovery. The economic terms of the option plan suggest a pleading- stage inference of waste.89 The two executive directors of Investors Bancorp granted themselves options that were worth 1,759% and 2,571% times those of executive directors at peer companies.90 And the non-employee directors awarded themselves options averaging $2,159,400, while those at peer companies received on average $175,817.91 Like the options in Sample, which Vice Chancellor Strine acknowledged as “extraordinary,”92 the options in Investors Bancorp are so out of the ordinary to suggest, at a minimum, waste at the pleading stage. Moreover, the interchangeable language in the proxies of Sample and Investors Bancorp, along with the quick turn-arounds to grant themselves options, suggests the motives were not to attract new employees but to compensate themselves for past performance. With such facts, the Delaware Supreme Court could have remanded the case back to the court of chancery and requested the parties to address the conspicuous issue of waste.

B. Disclosure

In order for stockholder ratification to be valid, stockholders must be fully informed of all material facts prior to voting.93 The fiduciary duty of disclosure “obligates directors to provide stockholders with accurate and complete information material to a transaction or other corporate event that is being presented to them for action.”94 Directors

89 See In re Inv’rs Bancorp, Inc. Stockholder Litig, 177 A.3d 1208, 1215–16 (Del. 2017). 90 Id. 91 Id. at 1215. 92 Sample, 914 A.2d at 670. 93 See Stroud v. Grace, 606 A.2d 75, 84 (Del. 1992) (“[The duty of disclosure] represents nothing more than the well-recognized proposition that directors of Delaware corporations are under a fiduciary duty to disclose fully and fairly all material information within the board’s control when it seeks shareholder action.” (alteration in original)); Lilia Volynkova, Note, Seinfeld v. Slager: The Delaware Chancery Court’s New Legal Standard for Reviewing Directors Decision About Their Own Pay, 58 N.Y.L. SCH. L. REV. 741, 754 (2014) (“Another way for a stockholder-plaintiff to eliminate the protection of the business judgment rule given to a ratified director decision is to successfully allege that the proxy statement soliciting stockholder approval of the compensation plan was misleading or omitted material information.”). 94 Malone v. Brincat, 722 A.2d 5, 10 (Del. 1998). See also Malpiede v. Townson, 780 A.2d 1075, 1086 (Del. 2001) (“[T]he board’s fiduciary duty of disclosure . . . are not independent duties but the application in a specific context of the board's fiduciary duties of care, good faith, and loyalty.”). continued . . .

 #$%& '() +) ")*') ))  violate their duty to disclose when an alleged omission or misrepresentation is material.95 Information is considered material to stockholders when “there is a substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote.”96 In ratification cases where a breach of the duty of disclosure is raised, directors carry an affirmative “burden of demonstrating full and fair disclosure.”97 The issue of disclosure in Sample arose in a similar context as Investors Bancorp. There, directors told stockholders via the proxy statement that the purpose of the incentive plan was to “advance the interests of the Company and its stockholders by providing a means of attracting and retaining key employees . . . by granting equity-based awards . . . which will be subject to vesting schedules based on the recipient’s continued employment . . . .”98 The directors’ awarding themselves all 200,000 available options belied their statement to stockholders that the options were intended to “attract” new employees.99 Vice Chancellor Strine explained the language used in the proxy was “deliberately designed to suggest that grants would be made over time to a more diffuse group of employees.”100 The foregoing divergence led Vice Chancellor Strine to conclude that the proxy was materially misleading and, therefore, the directors’ ratification defense was invalid.101 In Investors Bancorp, the directors used similar language in the proxy to solicit stockholder ratification. There, the proxy stated that by approving the plan, “stockholders will give [the Company] the

95 See, e.g., Arnold v. Soc’y for Sav. Bancorp, Inc., 650 A.2d 1270, 1277 (Del. 1994) (“The essential inquiry is whether the alleged omission or misrepresentation is material.”). 96 Rosenblatt v. Getty Oil Co., 493 A.2d 929, 944 (Del. 1985) (quoting TSC Indus., Inc. v. Northway, Inc., 426 U.S. 438, 449 (1976)); Richard A. Booth, The Two Faces of Materiality, 38 DEL. J. CORP. L. 517, 518 (2013) (citing TSC Indus., 426 U.S. at 449) (“The information need not be so important that it would change the outcome, but it cannot be so trivial that it would not affect the total mix of available information.”). 97 Sample, 914 A.2d at 665 (quoting Loudon v. Archer-Daniels-Midland Co., 700 A.2d 135, 141 (Del. 1997)). 98 Id. at 656 (quoting Second Amended Class Action and Derivative Complaint, Exhibit 1 at 4, Sample v. Morgan, 914 A.2d 647, 665 (Del. Ch. 2007) (C.A. No. 1214–N)). In Sample, other issues compounded this alleged misrepresentation. The directors had contracted not to issue any additional equity for five years. Id. at 657. Thus, they were granting themselves the last available equity for quite some time. The directors also failed to disclose that the company would be paying the taxes for any executives receiving stock under the incentive plan. Id. at 658. 99 See id. at 666. 100 Id. at 667. 101 Id. at 668. continued . . . !,      

 flexibility [it] need[s] to continue to attract, motivate and retain highly qualified officers, employees and directors by offering a competitive compensation program that is linked to the performance of the [the Company’s] common stock.” 102 Additionally, directors told stockholders that “[t]he number, types and terms of awards . . . will not be determined until subsequent to stockholder approval.” 103 The plaintiffs contended, and the Delaware Supreme Court seemed to agree, that such statements are forward-looking (i.e., “stockholders understood that the directors would reward Company employees for future performance, not past services.”).104 Lastly, similar to the directors in Sample, shortly after the annual meeting, directors held board meetings to disperse the newly-approved options to themselves.105 After discussing issues raised regarding disclosure and disparity between what the directors awarded themselves and those of directors at peer companies, the Delaware Supreme Court held “[t]hat plaintiffs have alleged facts leading to a pleading stage reasonable inference that the directors breached their fiduciary duties in making unfair and excessive discretionary awards to themselves after stockholder approval of the EIP.”106 The Delaware Supreme Court explained that “[b]ecause the stockholders did not ratify the specific awards the directors made under the EIP,” they must prove that they were entirely fair.107 It is unclear from the Delaware Supreme Court’s opinion whether it found a breach of the duty of disclosure, or at a minimum, an inference of a breach thereof at the pleadings stage. The Delaware Supreme Court simply stated that there was an inference of a breach of fiduciary duties in general.108 Nonetheless, the Delaware Supreme Court could have narrowly held that, at the pleading stage, the directors did not carry their burden that the proxy “fairly and fully” disclosed the nature of the awards, therefore remanding the case back to the court of chancery on those grounds.109

102 In re Inv’rs Bancorp, Inc. Stockholder Litig., 177 A.3d 1208, 1214 (Del. 2017) (alteration in original) (emphasis added). 103 Id. at 1214. At the court of chancery level, Vice Chancellor Slights strictly interpreted the word “subsequent.” See In re Inv’rs Bancorp, Inc., Stockholder Litig., No. CV 12327–VCS, 2017 WL 1277672, at *1 (Del. Ch. Apr. 5, 2017), rev’d, 177 A.3d 1208 (Del. 2017). Indeed, the awards were determined subsequent to stockholder ratification, albeit days afterward. See id. at 1214–15. 104 In re Inv’rs Bancorp, 177 A.3d at 1224. 105 Id. at 1214. 106 Id. at 1224. 107 Id. 108 Id. at 1225. 109 In re Inv’rs Bancorp, Inc., Stockholder Litig., No. CV 12327–VCS, 2017 WL 1277672, at *9 (Del. Ch. Apr. 5, 2017), rev’d, 177 A.3d 1208 (Del. 2017). continued . . .

 #$%& '() +) ")*') ))  In refusing to remand on those grounds, the Delaware Supreme Court most likely believed that Delaware courts had exhausted the development of case law on discretionary award plans and stockholder ratification thereof. In Seinfeld v. Slager, Vice Chancellor Glasscock set forth the requirement that putative incentive plans have “meaningful limits” rather than a blank check for the directors to award themselves compensation.110 As discussed previously, in Templeton¸ Chancellor Bouchard determined stockholder ratification of a discretionary incentive plan failed because the proxy did not contemplate the magnitude of the awards to the non-employee directors and there were no director-specific “ceilings” like those in 3Com.111 Indeed, at the court of chancery level, Vice Chancellor Slights found that the EIP complied with both the “director-specific” and “meaningful limit” requirements laid down in prior cases.112 Notwithstanding the defendants’ apparent compliance with such limits, the Delaware Supreme Court still determined there was an inference of a breach of fiduciary duties. 113 Following the Delaware Supreme Court’s reasoning, had business judgment been the standard of review, it would have foreclosed a court from reviewing such breach. 114 Therefore, rather than fashioning an additional rule to be complied with, such as an arbitrary cap on the value or number of shares to be granted to directors, or confining its ruling to waste and/or disclosure, the Delaware Supreme Court definitively withdrew the use of stockholder ratification to shift the standard of review of such plans from entire fairness to business judgment.115

110 Seinfeld v. Slager, No. 6462–VCG, 2012 WL 2501105, at *12 (Del. Ch. June 29, 2012) (“Though the stockholders approved this plan, there must be some meaningful limit imposed by the stockholders on the Board for the plan to . . . receive the blessing of the business judgment rule . . . .”). 111 See Calma ex rel Citrix Sys., Inc. v. Templeton, 114 A.3d 563, 569 (Del. Ch. 2015); see also In re 3Com Corp. S’holders Litig., No. C.A. 16721, 1999 WL 1009210, at *6 (Del. Ch. Oct. 25, 1999). 112 In re Inv’rs Bancorp, Inc. Stockholder Litig., C.A. No. 12327–VCS, 2017 WL 1277672, at *8 (Del. Ch. Apr. 5, 2017) (“In this case, stockholders approved specific limits and the directors then approved awards within the bounds of these limits. Accordingly, their decision must be reviewed for waste.”), rev’d,177 A.3d 1208 (2017). 113 In re Inv’rs Bancorp, 77 A.3d at 1225. 114 Id. at 1222–23. 115 Id. at 1211. continued . . . !,      

 IV.CONSEQUENCES OF THE DECISION

A. Immediate Impact on Director Compensation Decision Making

As it concerns director compensation plans, the most immediate consequence of Investors Bancorp is that directors will now have to determine whether the litigation risk associated with an action that may trigger the entire fairness standard of review is worth it.116 Prior to the decision, so long as stockholders approved the board of directors’ discretionary plan and there were no concerns raising the issues of waste or disclosure, directors were empowered to set appropriate compensation plans with meaningful limits without substantial fear of litigation. 117 The business judgment standard of review is a more deferential standard to corporate directors and the likelihood of a motion to dismiss being granted is significant, thus serving as an impediment to such suits. Because entire fairness is a more exacting standard of review, there is now substantial risk that suits involving director compensation will survive motions to dismiss, and as a result, Delaware corporations will be forced to expend more resources defending such cases. Entire fairness, which is Delaware’s strictest standard of review, “applies when the board of directors labors under actual conflicts of interest.”118 A board of directors’ decision to compensate itself is such a conflict.119 Indeed, the entire fairness standard of review consists of two prongs: fair dealing and fair price.120 The fair dealing prong “embraces [the] questions of when the transaction was timed, how it was initiated, structured, negotiated, disclosed to the directors, and how the approvals of the directors and the stockholders were obtained.”121 The fair price prong entails a court’s analysis of the price and whether it falls on a

116 Earle et al., supra note 62. 117 Id. 118 In re Trados Inc. S’holder Litig., 73 A.3d 17, 44 (Del. Ch. 2013). See also Kahn v. M&F Worldwide Corp., 88 A.3d 635, 644 (Del. 2014) (“[E]ntire fairness is the highest standard of review in corporate law.”). 119 See generally In re Investors Bancorp, 77 A.3d at 1208 (discussing board of directors’ award of compensation to itself). As discussed throughout this Article, prior to Investors Bancorp, directors were able to shift the standard of review regarding discretionary compensation plans to business judgment if they obtained stockholder approval and the plan complied with the requirements set forth by the court of chancery. See id. at 1211. 120 See, e.g., Weinberger v. UOP, Inc., 457 A.2d 701, 711 (Del. 1983) (applying entire fairness); BALOTTI & FINKELSTEIN, supra note 68, § 9.40, at 9–119 (discussing entire fairness in merger transactions). 121 Weinberger, 457 A.2d at 711 (alteration in original). continued . . .

 #$%& '() +) ")*') ))  “range of reasonable values.”122 Although the two prongs likely will be examined separately, “the test for fairness is not a bifurcated one as between fair dealing and price.”123 Rather, it is a wholesome review of the two prongs intertwined together.124 Without delving into the entire fairness line of cases, one can gather that the application of the entire fairness test requires a fulsome review of evidence, which usually requires lengthy discovery. The conclusion that entire fairness will be the applicable standard of review “is often of critical importance.”125 Delaware courts have long recognized that entire fairness is so exacting that a determination that it applies is often outcome determinative.126 The burden of proving that a transaction is entirely fair is quite onerous. To determine whether the director defendants have met such burden as it pertains to a discretionary compensation plan will likely be “impossible by examining only the documents [a court] is free to consider on a motion to dismiss,” i.e., the complaint and any documents it incorporates by reference.127 Thus, the obvious conclusion is the requirement that entire fairness applied to discretionary compensation plans will almost always preclude a dismissal of a complaint at the motion to dismiss stage.128 Because dismissing an entire fairness case at the motion to dismiss stage is quite rare, entire fairness is considered to be the most-friendly standard of review for plaintiffs.129

122 Cede & Co. v. Technicolor, Inc., No. Civ.A. 7129, 2003 WL 23700218, at *2 (Del. Ch. Dec. 31, 2003), aff’d in part, rev’d in part on other grounds, 884 A.2d 26 (Del. 2005). 123 Weinberger, 457 A.2d at 711. 124 See id.; Kahn v. Lynch Comm’n Sys., Inc., 669 A.2d 79, 84 (Del. 1995) (explaining that entire fairness “requir[es] an examination of all aspects of the transaction to gain a sense of whether the deal in its entirety is fair”); see also In re Dole Food Co. Stockholder Litig., No. 8703–VCL, No. 9079–VCL, 2015 WL 5052214, at *25 (Del. Ch. Aug. 27, 2015) (applying entire fairness to a controlling stockholder’s take-private transaction). 125 Kahn v. Lynch Comm’n Sys., Inc., 638 A.2d 1110,1116 (Del. 1994) (citing Nixon v. Blackwell, 626 A.2d 1366, 1376 (Del. 1993)). 126 See, e.g., AC Acquisitions Corp. v. Anderson, Clayton & Co., 519 A.2d 103, 111 (Del. Ch. 1986) (“Because the effect of the proper invocation of the business judgment rule is so powerful and the standard of entire fairness is so exacting, the determination of the appropriate standard of judicial review frequently is determinative of the outcome of derivative litigation.”). But see Nixon, 626 A.2d at 1381 (“In a case such as this where the business judgment rule is not applicable and the entire fairness test is applicable, the imposition of the latter test is not, alone, outcome-determinative.”). 127 Orman v. Cullman, 794 A.2d 5, 20 n.36 (Del. Ch. 2002) (alteration in original) (emphasis added). 128 See id. at 21. 129 E.g., Lewis H. Lazarus & Brett M. McCartney, Standards of Review in Conflict Transactions on Motions to Dismiss: Lessons Learned in the Past Decade, 36 DEL. J. CORP. L. 967, 974–75 (2011) (“Generally, where a plaintiff can plead continued . . . !,      

 Notwithstanding the onerous burden of proving entire fairness, there are procedural steps a Delaware corporation can take to ease this burden. To satisfy the fair dealing and fair price aspects, a board of directors can set up a compensation committee, which most publicly- traded corporations already employ.130 In addition to the compensation committee, the board should consider seeking advice from an independent compensation consultant. The board should also consider examining compensation at peer companies and attempt to remain in those ranges because the Delaware Supreme Court in Investors Bancorp honed in on the disparity between the Investors Bancorp directors’ awards and those at peer companies.131 Additionally, as noted above, in an entire fairness analysis a court will examine how and when the directors disclosed the plan to stockholders when the directors sought stockholder approval.132 The language used by the board in Investors Bancorp to describe why the options were to be awarded was misleading. If a board can specifically articulate an estimation of why and when the options will be employed, that will aid its case to prove entire fairness. Even if a board is diligent in adhering to the above, there is no guarantee it can prevail at the motion to dismiss stage or otherwise. The difficult and expensive nature of defending an entire fairness case often leads to directors and corporations settling cases they might otherwise win on the merits.133 Some practitioners have opined that the Investors Bancorp decision will not cause liabilities for directors and corporations unless the awards are excessive or other significant problems have occurred, such as inadequate or misleading disclosure.134 However, facts sufficient to have the transaction reviewed under entire fairness, the plaintiff’s complaint will survive a motion to dismiss.”). 130 Barry J. Reiter, The Role of Compensation Committees in Corporate Governance, FINDLAW, http://corporate.findlaw.com/finance/the-role-of- compensation-committees-in-corporate-governance.html (last visited Mar. 19, 2018). 131 See In re Inv’rs Bancorp, Inc. Stockholder Litig., 177 A.3d 1208, 1215–16 (Del. 2017). 132 See supra Section III.A. 133 See, e.g., Robert S. Reder & Lauren Messonnier Meyers, Delaware Supreme Court Affirms Pleading-Stage Dismissal of Control Stockholder Buyout Litigation, 69 VAND. L. REV. EN BANC 17, 18–19 (2016) (explaining that in entire fairness cases, “[e]xcept in the most egregious cases, settlements involving the payment of attorneys’ fees and the granting of universal settlements have been the usual outcome). 134 See Gail Weinstein et al., The Limits of Shareholder Ratification for Discretionary Director Compensation, HARV. L. SCH. F. ON CORP. GOVERNANCE AND FIN. REG. (Dec. 21, 2017), https://corpgov.law.harvard.edu/2017/12/21/the- limits-of-shareholder-ratification-for-discretionary-director-compensation/ (“In our view, directors are unlikely to have liability for awards issued under discretionary plans unless the awards were excessive and/or there are other significantly continued . . .

!! #$%& '() +) ")*') ))  potential plaintiffs and their attorneys are still incentivized to bring suits for the possibility of a settlement. An illustrative example of this is the recent Facebook litigation, Espinoza v. Zuckerberg.135 There, the shareholder plaintiff challenged Facebook’s director equity compensation plan as excessive. 136 “Facebook ranked sixth of the twelve largest U.S. public companies [as measured] by market cap value.”137 At the same time, the average pay, of Facebook non-employee directors, which included cash and equity, was $386,000, ranking second of the twelve, with the average pay of the third and fourth ranked companies being slightly above that amount at $367,000 and $363,000, respectively.138 While Facebook was one of the pack leaders, its compensation was certainly in a range observers would label as reasonable. The disparities of the director compensation, as compared to their peers in Investors Bancorp, were simply not present in Espinoza.139 Nonetheless, this lack of apparent disparity did not prevent shareholder plaintiffs from targeting Facebook.140 When the directors of Facebook moved to dismiss the complaint, Chancellor Bouchard held entire fairness would apply to the compensation plan, thus requiring a more fulsome review of the evidence.141 Subsequently, the case was settled.142 In addition to the settlement cost, Chancellor Bouchard approved fees and expenses of an impressive $525,000 for plaintiff’s attorneys.143 Espinoza serves as a cautionary tale that even when directors keep close to the average compensation among their peer companies they still can end up in costly litigation and ultimately settle a case they likely would have won at trial. The $525,000 award for plaintiffs’ attorneys combined with their

problematic factors (such as a flawed process or disclosure).”). 135 See Espinoza v. Zuckerberg, 124 A.3d 47 (Del. Ch. 2015). 136 Id. at 52. 137 See David E. Gordon, Facebook Settlement: Litigation Over Director Compensation, HARV. L. SCH. F. ON CORP. GOVERNANCE AND FIN. REG. (Mar. 10, 2016), https://corpgov.law.harvard.edu/2016/03/10/facebook-settlement-litigation- over-director-compensation/ (alteration in original). 138 Id. 139 See supra Part I. 140 See Espinoza, 124 A.3d at 52 (showing shareholders filed a suit against Facebook despite differences between Espinoza and Investors Bancorp). 141 Id. at 66 (showing that even though while Espinoza was pre-Investors Bancorp, Facebook did not comply with the statutory formalities in getting the plan approved by stockholder vote, which would have shifted the standard of review back to business judgment). Nonetheless, because it is a compensation case and the applicable standard of review is entire fairness it is illustrative of how such cases can result in the future. See id. 142 See Gordon, supra note 137. 143 Id. continued . . . !,      !

 survival at the motion to dismiss stage may incentivize other shareholders and their attorneys to scrutinize proxy statements for director compensation that deviate from the median of similarly- situated companies.144

B. Mitigating the Practical Implications of Investors Bancorp

Although not inexorable in every case, because entire fairness will apply ab initio to discretionary compensation cases, the likely result is that the board of directors’ decision to compensate themselves may require a full trial.145 Dismissal at the motion to dismiss stage may be challenging and unlikely for the reasons mentioned above. Similarly, the entry of a final judgment, even after discovery on a motion for summary judgment, may also be challenging, as there likely will be unresolved questions of material facts regarding the two prongs of entire fairness.146 As evident in the Facebook litigation, even in a case where it appears the facts are favorable to the defendants, director defendants may still end up at trial, assuming they do not settle.147 The Delaware Supreme Court has recognized these practical implications of the automatic requirement of an entire fairness review. 148 When the standard of review is entire fairness, the defendants retain the burden of persuasion. 149 In other words, the defendants will bear the burden of proving the discretionary compensation plan at issue was entirely fair to the stockholders and the corporation. To this end, the Delaware Supreme Court has narrowed this requirement in certain other cases involving interested transactions.150 One such type of case is where a controlling stockholder stands on both sides of a transaction, such as a buyout of the minority-owned stock.151 In those cases, the Delaware Supreme Court has enabled the defendant(s) to shift the burden of persuasion to the plaintiffs entirely by obtaining either (i) an informed vote of a majority of the disinterested stockholders,152 or (ii) approval of the transaction by an independent

144 See id. 145 See Orman v. Cullman, 794 A.2d 5, 20–22 n.36 (Del. Ch. 2002) (discussing the application of entire fairness). 146 Id. 147 See supra discussion in Section III.A. 148 Orman, 794 A.2d at 20–22 n.36. 149 See Ams. Mining Corp. v. Theriault, 51 A.3d 1213, 1239 (Del. 2012). 150 See Kahn v. Lynch Comm’n Sys., Inc., 638 A.2d 1110, 1116 (Del. 1994). 151 Id. 152 Rosenblatt v. Getty Oil Co., 493 A.2d 929, 937 (Del. 1985) (“However, approval of a merger, as here, by an informed vote of a majority of the minority continued . . .

! #$%& '() +) ")*') ))  committee of directors who have bargaining power and can ensure the majority stockholder does not dictate the terms of the transaction.153 If both processes are utilized, the defendants can shift the standard of review from entire fairness to business judgment.154 Indeed, director compensation cases were already subject to entire fairness, and the Delaware courts addressed the practical implications of those by shifting the standard of review to business judgment if the board of directors obtained stockholder approval.155 At a minimum, stockholder ratification of plans in which directors retain discretion in awarding themselves compensation should continue to provide some value. The Investors Bancorp decision nullifies stockholder ratification as a tool to shift the burden to business judgment.156 In the opinion, the Delaware Supreme Court did not address what role, if any, stockholder ratification will play in the future.157 But it should serve some purpose. In 2015, the Delaware Supreme Court recognized the value and policy rationale of stockholder ratification in a merger case, Corwin v. KKR Financial Holdings LLC. 158 In holding that stockholder ratification shifted the burden from enhanced scrutiny, Delaware corporate law’s intermediate standard of review, to business judgment, the Delaware Supreme Court explained that it had been long-standing policy for the judiciary to refrain from second-guessing a decision by disinterested stockholders on the economic merits of a transaction.159 The Delaware Supreme Court observed that when “disinterested equity owners–can easily protect themselves at the ballot box by simply voting shareholders, while not a legal prerequisite, shifts the burden of proving the unfairness of the merger entirely to the plaintiffs.”). 153 Emerald Partners v. Berlin, 726 A.2d 1215, 1222 (Del. 1999) (identifying the use of a special committee to shift the burden of persuasion). 154 See, e.g., Kahn v. M & F Worldwide Corp., 88 A.3d 635, 644 (Del. 2014) (“We hold that business judgment is the standard of review that should govern mergers between a controlling stockholder and its corporate subsidiary, where the merger is conditioned ab initio upon both the approval of an independent, adequately-empowered Special Committee that fulfills its duty of care; and the uncoerced, informed vote of a majority of the minority stockholders.”). 155 See In re Inv’rs Bancorp, Inc. Stockholder Litig., 177 A.3d 1208, 1216–22 (Del. 2017) (discussing previous Delaware courts applying entire fairness for director compensation unless there was shareholder ratification and certain discretionary parameters). 156 See supra notes 1–4 and accompanying text. 157 See In re Inv’rs Bancorp, 177 A.3d at 1223 (stating that even after shareholder ratification, discretionary actions regarding director compensation must comport with fiduciary duties). 158 See Corwin v. KKR Fin. Holdings LLC, 125 A.3d 304, 306, 308 (Del. 2015) (holding that the approval of the disinterested stockholders of a merger shifted the standard of review from enhanced scrutiny to business judgment). 159 Id. at 312–13. continued . . . !,      ! 

 no, the utility of litigation-intrusive standard of review promises more costs to stockholders in the form of litigation rents and inhibitions on risk-taking than it promises in terms of benefits to them.”160 Although the economic merits of a discretionary plan are not sufficiently clear to justify shifting the burden to the business judgment standard of review, which appears to be the Delaware Supreme Court’s view,161 stockholder ratification of such plans warrants inclusion in the determination of on whom the burden shall fall. As Chancellor Allen observed in Lewis, a board of directors does not have to seek stockholder approval in order to compensate itself.162 He explains four possible effects stockholder ratification can have on an interested transition.163 The most useful in this scenario, as Investors Bancorp has nullified the one previously used, is that stockholder “ratification [can] shift[] the burden of unfairness to [the] plaintiff, [while] leav[ing in place the] shareholder-protective test.”164 That is, if stockholders ratify a discretionary compensation plan, rather than shifting the burden from entire fairness to business judgment, as it did in the past, such ratification would shift the burden of proving entire fairness from the director defendants to the stockholder plaintiffs. This suggested use of stockholder ratification should appease the Delaware Supreme Court. In Investors Bancorp, the Delaware Supreme Court was concerned with foreclosing the possibility of equitable review on discretionary compensation. 165 The Delaware Supreme Court believed such transactions should be twice-tested: first for legal authorization, then by equity. 166 This proposed use of stockholder ratification does just that while balancing the practical implications of having such an exacting standard of review. Shifting the burden of persuasion leaves in place the “shareholder-protective test” but puts the onus on the challenging plaintiffs to prove that the putative compensation is unfair. 167 Should plaintiffs meet this burden, defendants will ultimately be required to prove that their compensation was entirely fair to the corporation.168 Although not a comprehensive

160 Id. at 313. 161 Id. at 313–14. 162 Lewis v. Vogelstein, 699 A.2d 327, 333–34 (Del. Ch. 1997) (explaining that the board can still compensate itself without seeking stockholder approval, but entire fairness will be the standard of review should a stockholder sue). 163 Id. at 334. 164 Id. (alteration in original). 165 In re Inv’rs Bancorp, Inc. Stockholder Litig., 177 A.3d 1208, 1222–23 (Del. 2017). 166 Id. 167 See Lewis, 699 A.2d at 334. 168 In re Inv’rs Bancorp, 177 A.3d at 1211. continued . . .

!  #$%& '() +) ")*') ))  remedy, this Solomonic compromise somewhat mitigates the chances of costly strike suits, which inevitably harm stockholders, and at the same time maintains the “twice-tested” framework for the inherently interested transaction.

V.CONCLUSION Investors Bancorp presented the Delaware Supreme Court with a challenging case. The dilemma confronted was an inherently interested transaction in which some corporations were taking advantage of stockholder ratification.169 The court of chancery attempted numerous times to promulgate fixes in similar challenges and reconcile prior case law with the facts at hand.170 Although it could have disposed of the case through different avenues, the Delaware Supreme Court refused.171 Discretionary compensation plans still offer a corporation the most efficient way to pay their current directors and entice new ones to join the board. The practical implications of entire fairness may harm a board of directors’ ability to use this tool. If Delaware courts can still give some credence to stockholder ratification of discretionary plans, boards of directors, corporations, and their stockholders will be better off, because this will preserve both flexibility in a board’s ability in compensating itself and the equitable review of such plans, while softening the practical limitations of entire fairness.

169 Id. at 1212–1216. 170 Id. at 1222. 171 See id. at 1211. 

WAKE FOREST JOURNAL OF BUSINESS AND INTELLECTUAL PROPERTY LAW

   ! "  

NOTE: FOR WHOM THE WHISTLE BLOWS: WHO QUALIFIES AS A DODD-FRANK WHISTLEBLOWER?

Isaac Halverson†

I. INTRODUCTION ...... 506 II. BACKGROUND OF SEC WHISTLEBLOWER PROTECTION ...... 508 III. THE CIRCUIT SPLIT...... 512 A.LIMITING DODD-FRANK PROTECTION TO SEC REPORTING...... 513 B.EXTENDING DODD-FRANK PROTECTION TO INTERNAL REPORTING ...... 515 IV. RESOLVING THE CIRCUIT SPLIT ...... 516 A.DIGITAL REALTY TRUST, INC. V. SOMERS ...... 517 B.THE STATUTE IS AMBIGUOUS ...... 518 C.THE SEC INTERPRETATION IS REASONABLE ...... 520 D.POLICY CONSIDERATIONS ...... 522 V. CONCLUSION ...... 524



† © 2018 J.D. Candidate, Wake Forest University School of Law (May 2018); B.A. Government, Wofford College (2015). The author would like to thank the Board of Editors and Staff members for their hard work in preparing this Note for publication and his family for their love and support. ! #$%& '() +) ")*') ))  I.INTRODUCTION In response to the 2008 financial crisis, Congress enacted the Dodd- Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank” or the “Act”)1 in order “to promote the financial stability of the United States by improving accountability and transparency in the financial system, to end ‘too big to fail,’ to protect the American taxpayer by ending bailouts, to protect consumers from abusive financial services practices, and for other purposes.”2 One purpose in particular is to encourage whistleblowers to report securities misconduct to the Securities and Exchange Commission (the “SEC” or the “Commission”).3 Specifically, Dodd-Frank incentivizes whistleblowing by including a “bounty” provision which requires the SEC to “pay an award” to “whistleblowers who voluntarily provided original information to the [SEC] that led to the successful enforcement” of relevant securities laws.4 In addition, under Dodd-Frank’s “anti-retaliation provision” in § 78u-6(h)(1)(A), it is unlawful for an employee to “discharge, demote, suspend, threaten, harass, directly or indirectly, or in any other manner discriminate against, a whistleblower . . . .” 5 A violation of this provision allows the whistleblower to sue under Dodd-Frank and potentially receive two times back pay, plus interest, in a successful action.6 Unsurprisingly, as a result of these two strong incentives, the number of tips received by the SEC has drastically increased since the program’s inception.7 Despite Dodd-Frank’s undeniable success in increasing whistleblowing, the new protections have resulted in confusion as to who qualifies for whistleblower anti-retaliation protection. 8 In the definitions provision of the Act at § 78u–6(a)(6) (the “(a)(6) definition”), a whistleblower is defined as “any individual who

1 See Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111–203, 124 Stat. 1376 (2010) (codified as amended in scattered sections of the U.S.C.). 2 Id. pmbl. 3 Christina Pellino, Comment, Don’t Whistle While You Work – Unless You Whistle to the SEC, 46 SETON HALL L. REV. 911, 912 (2016). 4 15 U.S.C. § 78u–6(b) (2012); see Pellino, supra note 3, at 919 (alteration in original) (“Dodd-Frank Act . . . increases whistleblowers’ financial incentive to report by requiring the SEC to award bounties to persons who provide useful information to the SEC regarding securities law violations . . . .”). 5 15 U.S.C. § 78u–6(h)(1)(A). 6 Id. § 78u–6(h)(1)(B). 7 Mathew R. Stock, Dodd-Frank Whistleblower Statute: Determining Who Qualifies as a “Whistleblower”, 16 FLA. ST. U. BUS. REV. 131, 133 (2017). 8 Pellino, supra note 3, at 912. continued . . . !, ...& $%$' '$$' !   '-'  provides, or [two] or more individuals acting jointly who provide, information relating to a violation of the securities laws to the Commission.”9 However, in the anti-retaliation provision of § 78u- 6(h)(1)(A) (the “(h)(1)(A) provision”), protection is extended to whistleblowers “making disclosures that are required or protected under the Sarbanes-Oxley Act of 2002” (“Sarbanes-Oxley”). 10 Sarbanes- Oxley in turn, includes in its definition of “whistleblower,” an employee who provides information to “a person with supervisory authority over the employee.”11 As a result, circuit courts are split as to whether Dodd- Frank’s whistleblower protection extends to employees who internally report information to supervisors, as implied by the (h)(1)(A) provision, or if whistleblowers must report to the SEC to receive Dodd-Frank protection per the (a)(6) definition.12 The SEC interpreted the statute to mean the more expansive definition of whistleblower protection for employees who internally report to their supervisors.13 In its 2011 regulation, the SEC clarified that: For purposes of the anti-retaliation protections afforded by . . . 78u–6(h)(1), you are a whistleblower if: (i) You possess a reasonable belief that the information you are providing relates to a possible securities law violation . . . and; (ii) You provide that information in a manner described in Section 21F(h)(1)(A) of the Exchange Act(15 U.S.C. 78u–6(h)(1)(A)). (iii) The anti-retaliation protections apply whether or not you satisfy the requirements, procedures and conditions to qualify for an award.14 Under this regulation, a whistleblower need not report to the SEC to receive Dodd-Frank’s anti-retaliation protection.15 Rather, a properly made internal reporting made pursuant to Sarbanes-Oxley is

9 15 U.S.C. § 78u–6(a)(6) (alteration in original) (emphasis added). 10 Id. § 78–6(h)(1)(A)(iii). 11 18 U.S.C. § 1514A(1)(C) (2012). 12 Compare Asadi v. G.E. Energy (USA), L.L.C., 720 F.3d 620 (5th Cir. 2013), with Berman v. Neo@Ogilvy LLC, 801 F.3d 145 (2d Cir. 2015), and Somers v. Dig. Realty Tr. Inc., 850 F.3d 1045 (9th Cir. 2017), cert. granted, 137 S. Ct. 2300 (2017), rev’d & remanded, 138 S. Ct. 767 (2018). 13 17 C.F.R. § 240.21F–2(b) (2017). 14 Id. 15 Pellino, supra note 3, at 922. continued . . .

! #$%& '() +) ")*') ))  sufficient.16 Some courts, however, declined to follow this regulation and held that the more restrictive (a)(6) definition––meaning someone who reports to the SEC––is required in order for the (h)(1)(A) provision to apply.17 In doing so, these courts held that the (a)(6) definition and the (h)(1)(A) provision are unambiguous and that congressional intent is clear, thereby precluding the SEC from regulating the subject.18 In its recent decision, Digital Realty Trust, Inc. v. Somers,19 the Supreme Court of the United States held that Dodd-Frank’s anti- retaliation protection does not extend to employees who report information internally and do not report to the SEC. This Note will explore the circuit split history preceding this case and will argue that the Supreme Court should have applied the more expansive whistleblower definition as interpreted by the SEC regulation. Part II of the Note discusses the background of federal whistleblower protection found in Sarbanes-Oxley and Dodd-Frank. Part III addresses the state of the law before the Supreme Court’s Digital Realty Trust, Inc. v. Somers opinion by comparing the lines of cases on both sides of the circuit split. Finally, Part IV argues for the SEC’s expansive definition of “whistleblower” and why it should have been preferred.

II.BACKGROUND OF SEC WHISTLEBLOWER PROTECTION Following the 1929 stock market crash, Congress created the SEC with the enactment of the Securities Exchange Act of 1934 (the “1934 Act”).20 Among its numerous provisions, the 1934 Act incentivizes whistleblowing in the insider trading contexts.21 At the discretion of the SEC, whistleblowers could receive up to ten percent of the resulting SEC enforcement amount.22 However, this provision generally failed to be an effective incentive to potential whistleblowers because of the low cap on a potential reward and because the issuing of any award was at the SEC’s discretion.23 Moreover, under the original 1934 Act, there was no retaliation protection for whistleblowers.24

16 Id. 17 See, e.g., Asadi, 720 F.3d. at 629. 18 See id. 19 Dig. Realty Tr., Inc. v. Somers, 138 S. Ct. 767 (2018). 20 Pub. L. No. 73–291, 48 Stat. 881 (codified as amended at 15 U.S.C. §§ 78a– pp (2012)). 21 See Pellino, supra note 3, at 915–16. 22 See id. at 916. 23 Lucienne M. Hartmann, Comment, Whistle While You Work: The Fairytale- Like Whistleblower Provisions of the Dodd-Frank Act and the Emergence of “Greedy,” the Eighth Dwarf, 62 MERCER L. REV. 1279, 1282 (2010). 24 Pellino, supra note 3, at 918. continued . . . !, ...& $%$' '$$' !   '-'  It would not be until nearly seventy years later, with the enactment of Sarbanes-Oxley, that whistleblowers would have statutory protection from retaliation.25 Sarbanes-Oxley was enacted in 2002 in response to corporate scandals such as Enron. 26 In the aftermath of Enron, Congress found that a “corporate code of silence” had “discourage[d] employees from reporting fraudulent behavior not only to the proper authorities, such as the FBI and the SEC, but even internally.”27 In addition, Enron employees attempting to report corporate misconduct faced discharge and other forms of retaliation. 28 Moreover, under existing law at the time, there was no available protection for would be whistleblowers.29 As a result, This “corporate code of silence” not only hampers investigations, but also creates a climate where ongoing wrongdoing can occur with virtual impunity. The consequences of this corporate code of silence for investors in publicly traded companies, in particular, and for the stock market, in general, are serious and adverse, and they must be remedied.30 Clearly, a more robust whistleblower program was necessary to effectively protect investors. Sarbanes-Oxley was enacted to address this corporate code of silence and prohibit such attempts “to quiet whistleblowers.”31 Under Sarbanes-Oxley it is unlawful for an employer to “discriminate against” a whistleblower in any manner. 32 Sarbanes-Oxley defines a whistleblower as an employee who takes lawful action: (1) [T]o provide information, cause information to be provided, or otherwise assist in an investigation regarding any conduct which the employee reasonably

25 See id. 26 See Yates v. United States, 135 S. Ct. 1074, 1081 (2015) (“The Sarbanes- Oxley Act, all agree, was prompted by the exposure of Enron’s massive accounting fraud and revelations that the company’s outside auditor, Arthur Anderson LLP, had systematically destroyed potentially incriminating documents.”); see also Lawson v. FMR LLC, 134 S. Ct. 1158, 1161 (2014) (citing S. REP. NO. 107–146, at 2–11) (“To safeguard investors in public companies and restore trust in the financial markets following the collapse of Enron Corporation, Congress enacted the Sarbanes-Oxley Act of 2002.”). 27 S. REP. NO. 107–146, at 5 (2002) (alteration in original). 28 See id. 29 Id. 30 Id. 31 Id. at 10. 32 Id. at 35. continued . . .

! #$%& '() +) ")*') ))  believes constitutes a violation . . . of Federal law relating to fraud against shareholders, when the information or assistance is provided to or the investigation is conducted by-- (A) a Federal regulatory or law enforcement agency; (B) any Member of Congress or any committee of Congress; or (C) a person with supervisory authority over the employee . . . ; or (2) to file, cause to be filed, testify, participate in, or otherwise assist in a proceeding filed or about to be filed . . . relating to an alleged violation of . . . Federal law relating to fraud against shareholders.33 It is important to note that under Sarbanes-Oxley, an employee reporting to a supervisor or some “other person working for the employer who has the authority to investigate, discover, or terminate misconduct” qualifies as a whistleblower, regardless of whether the employee reports to the SEC.34 In the event of discrimination, a whistleblower under Sarbanes- Oxley is “entitled to all relief necessary to make the employee whole.”35 Specifically, available compensatory damages include “(A) reinstatement with the same seniority status that the employee would have had, but for the discrimination; (B) the amount of back pay, with interest; and (C) compensation for any special damages sustained as a result of the discrimination, including litigation costs, expert witness fees, and reasonable attorney fees.”36 Sarbanes-Oxley also includes very specific filing requirements for a whistleblower who has been discriminated against. An employee must first file a complaint with the Secretary of Labor before being able to file their discrimination suit in federal court. 37 In addition, an employee is time bared from filing suit 180 days from the time the employee learned of the alleged violation.38 Despite the improvements provided by Sarbanes-Oxley relating to whistleblower protection, the

33 18 U.S.C. § 1514A(a)(1)–(2) (2012) (emphasis added). 34 Id. § 1514A(a)(1)(C). 35 Id. § 1514A(c)(1). 36 Id. § 1514A(c)(2). 37 John K. Mickles, Note, If There’s Something Strange in Your Workplace, Who You Gonna Call? The Second Circuit Expands Whistleblower Protection in Berman v. Neo@Ogilvy LLC., 62 VILL. L. REV. 357, 366 (2017). 38 See Stock, supra note 7, at 136. continued . . . !, ...& $%$' '$$'   '-'  percentage of whistleblowers “actually dropped from 18.4% to 13.2%” after its enactment. 39 This decrease has been attributed to the protections offered being “narrow in scope and more illusory than real.”40 The complexity of the statute, the unavailability of punitive damages, the brief statute of limitations, and the lack of a right to a jury trial all served to limit incentives and protections for whistleblowers.41 Dodd-Frank attempted to address these flaws by providing a bounty incentive to whistleblowers and bolstering retaliation protection of whistleblowers.42 The bounty provision of Dodd-Frank provides that the SEC must pay an award to whistleblowers between ten and thirty percent of the sanctions resulting from the enforcement action.43 The anti-retaliation provision of Dodd-Frank also improves upon Sarbanes- Oxley’s protection by significantly increasing the statute of limitations. Under Dodd-Frank, employees have either six years from the time of the retaliation or three years from the time they discover the material facts of the action.44 Along with these new provisions come the additional uncertainty as to who qualifies as a whistleblower. The Securities Whistleblower Incentives and Protection provision of Dodd-Frank defines a whistleblower as “any individual who provides, or [two] or more individuals acting jointly who provide, information relating to a violation of the securities laws to the Commission, in a manner established, by rule or regulation, by the Commission.” 45 This definition appears to be limited only to individuals who report the SEC. 46 However, in the § 21F(h)(1)(A) anti-retaliation provision, Dodd-Frank also provides protection to individuals “making disclosures that are required or protected under the Sarbanes-Oxley Act of 2002.”47 As previously discussed, Sarbanes-Oxley’s anti-retaliation provision specifically protects individuals who report to “a person with supervisory authority over the employee;” that is, an internal report not made to the SEC. 48 Therefore, the (h)(1)(A) provision appears to

39 Samuel C. Leifer, Protecting Whistleblower Protections in the Dodd-Frank Act, 113 MICH. L. REV. 121, 128 (2014). 40 Deborah L. Seifert et al., The Influence of Organizational Justice on Accountant Whistleblowing, 35 ACCT., ORGS. & SOC’Y 707, 709 (2010). 41 Geoffrey Christopher Rapp, Mutiny by the Bounties? The Attempt to Reform Wall Street by the New Whistleblower Provisions of the Dodd-Frank Act, 2012 BYU L. REV. 73, 83 (2012). 42 Pellino, supra note 3, at 919. 43 15 U.S.C. § 78u–6(b) (2012) (emphasis added). 44 Id. at § 78u–6(h)(1)(B)(iii). 45 Id. at § 78u–6(a)(6) (alteration in original) (emphasis added). 46 See id. 47 Id. at § 78u–6(h)(1)(A)(iii). 48 18 U.S.C. § 1514A(a)(1)(c) (2012) (emphasis added). continued . . .

 #$%& '() +) ")*') ))  extend protection to whistleblowers who report internally and not to those employees who report to the SEC. The question now is whether such internal reporting alone qualifies for Dodd-Frank whistleblower protection. On May 25, 2011, the SEC promulgated Rule 21F–2 in an attempt to answer this question.49 This rule provides that: For purposes of the anti-retaliation protections afforded by [Dodd-Frank], you are a whistleblower if: (i) You possess a reasonable belief that the information you are providing relates to a possible securities law violation (or, where applicable, to a possible violation of the provisions set forth in 18 U.S.C. 1514A(a)) . . . ; (ii) You provide that information in a manner described in Section 21F(h)(1)(A) of the Exchange Act (15 U.S.C. 78u–6(h)(1)(A)). (iii) The anti-retaliation protections apply whether or not you satisfy the requirements, procedures and conditions to qualify for an award.50 With this regulation, the SEC extended Dodd-Frank’s anti- discrimination protection to whistleblowers who report internally and not to the SEC.51 The availability of a bounty would still be limited to Dodd-Frank’s more restrictive definition of whistleblowers which requires reporting to the SEC. 52 However, under this SEC interpretation, clause (iii) of the (h)(1)(A) provision extends anti- retaliation protection to individuals who only report internally, filing under Sarbanes-Oxley.53

III. THE CIRCUIT SPLIT Despite the SEC’s regulation, for a time circuit courts were split over whether the SEC has the authority to define whistleblower as used in Dodd-Frank. The resulting case law was divided between the courts that sided with the SEC interpretation of extending anti-retaliation protection to employees who report internally and the courts that required employees to report to the SEC in order to receive Dodd-Frank anti-retaliation protection.54

49 17 C.F.R. § 240.21F–2 (2013); see also Pellino supra note 3, at 922. 50 17 C.F.R. § 240.21F–2(b) (alteration in original). 51 Id. 52 See 15 U.S.C. § 78u–6(b.). 53 Mickles, supra note 37, at 373. 54 Id. at 375–76; compare Berman v. Neo@Ogilvy LLC, 801 F.3d 145, 155 (2d continued . . . !, ...& $%$' '$$'    '-'  A. Limiting Dodd-Frank Protection to SEC Reporting

The first circuit court to address this issue was the Fifth Circuit in Asadi v. G.E. Energy (USA), L.L.C.55 In Asadi, the plaintiff worked as GE Energy’s Iraq Country Executive.56 During his tenure he reported to his supervisor that certain conduct appeared to be in violation of the Foreign Corrupt Practices Act. 57 After his disclosure, the plaintiff received a “surprisingly negative” performance review, was pressured into resigning, and after refusing to resign, was terminated.58 Despite not providing any information to the SEC,59 the plaintiff sued under Dodd-Frank’s anti-retaliation provision.60 The Fifth Circuit Court held that “Dodd–Frank whistleblower- protection provision creates a private cause of action only for individuals who provide information relating to a violation of the securities laws to the SEC. Because [the plaintiff] failed to do so, his whistleblower-protection claim fails.”61 The court held that since the (h)(1)(A) provision of Dodd-Frank uses the word “whistleblower,” Congress unambiguously meant for the (a)(6) definition to apply, thereby requiring reporting to the SEC to receive Dodd-Frank’s anti- retaliation protection.62 The plaintiff argued that clause (iii) of the (h)(1)(A) provision, which extends anti-retaliation protection to individuals “making disclosures that are required or protected under the Sarbanes-Oxley Act of 2002,” is in conflict with the (a)(6) definition, and as a result, the court should apply the SEC definition. 63 The court rejected this argument, stating that the (h)(1)(A) provision lists categories that “represent the protected activity in a whistleblower-protection claim. They do not, however, define which individuals qualify as whistleblowers.”64 The court furthermore found that since the statute clearly provided the “unambiguous expressed intent of Congress,” the

Cir. 2015), with Asadi v. G.E. Energy (USA), L.L.C., 720 F.3d 620, 626–27 (5th Cir. 2013). 55 See Asadi, 720 F.3d at 620; see also Mickles, supra note 37, at 376. 56 Asadi, 720 F.3d at 621. 57 See id. 58 Id. 59 See id. at 624. 60 See id. 61 Id. at 623 (alteration in original) (emphasis added). 62 Id. at 625. 63 Id. at 624 (“[Plaintiff] bases this construction of the statute on a perceived conflict between the statutory definition of ‘whistleblower’ in section 78u–6(a)(6) and the third category of protected activity, which does not necessarily require disclosure of information to the SEC.”). 64 Id. at 625 (emphasis added). continued . . .

  #$%& '() +) ")*') ))  SEC’s rule on the more expansive interpretation of whistleblower was invalid.65 In addition, the court examined the impact that the expansive definition of whistleblower could have on Sarbanes-Oxley.66 The court argued that extending Dodd-Frank protection to Sarbanes-Oxley protected disclosures “renders the [Sarbanes-Oxley] anti-retaliation provision, for practical purposes, moot.” 67 While Sarbanes-Oxley allows an award of back pay for successful claims, Dodd-Frank allows double back pay.68 In addition, claimants under Dodd-Frank can file directly in federal district court, instead of having to first file with the Department of Labor. 69 Finally, the statute of limitations is considerably longer under Dodd-Frank than under Sarbanes-Oxley.70 According to the court, whistleblowers would circumvent Sarbanes- Oxley altogether in order to take advantage of Dodd-Frank’s more generous provisions.71 After Asadi, multiple district courts in the Second, Sixth, Seventh, Ninth, and Tenth Circuits agreed with the Fifth Circuit opinion and rejected the SEC’s broad definition.72 For instance, in Verfuerth v. Orion Energy Sys., Inc., the Eastern District Court of Wisconsin held that “[t]here is no ambiguity in the statute at all” and that arguments to the contrary are “based solely on a disagreement about public policy, not statutory interpretation.”73 Similarly, in Berman v. Neo@Ogilvy LLC, the Southern District of New York held that “the plain meaning of the Dodd–Frank whistleblower-protection provision creates a private cause of action only for individuals who provide information relating to a violation of the securities laws to the Commission.”74 In that case, the plaintiff was

65 Id. at 630 (quoting Chevron U.S.A., Inc. v. Nat. Res. Def. Council, Inc., 467 U.S. 837, 842–44 (1984)). 66 See id. at 628. 67 Id. (alteration in original). 68 Id. at 629. 69 Id. 70 Id. 71 Pellino, supra note 3, at 930. 72 Wiggins v. ING U.S., Inc., No. 3:14–CV–1089 (JCH), 2015 WL 3771646, at *9–11 (D. Conn. June 17, 2015); Verble v. Morgan Stanley Smith Barney, LLC, 148 F. Supp. 3d 644, 652 (E.D. Tenn. 2015); Verfuerth v. Orion Energy Sys. Inc., 65 F.Supp.3d 640, 642–46 (E.D. Wis. 2014); Banko v. Apple Inc., 20 F.Supp.3d 749, 756–57 (N.D. Cal. 2013); Wagner v. Bank of Am. Corp., No. 12–cv–00381–RBJ, 2013 WL 3786643, at *4–6 (D. Colo. July 19, 2013). 73 Verfuerth v. Orion Energy Sys., Inc., 65 F. Supp. 3d 640, 644 (E.D. Wis. 2014). 74 Berman v. Neo@ogilvy LLC, 72 F. Supp. 3d 404, 409 (S.D.N.Y. 2014), rev’d & remanded, 801 F.3d 145 (2d Cir. 2015). continued . . . !, ...& $%$' '$$'   '-'  a finance director who internally reported a number of fraudulent accounting practices which violated Sarbanes-Oxley and Dodd-Frank.75 He was subsequently terminated for his reporting.76 He later reported the securities violations to the SEC but not before the statute of limitations had tolled on any available Sarbanes-Oxley claim.77 He then filed a retaliation claim as a Dodd-Frank whistleblower.78 The district court held that since he had not reported to the SEC, he did not qualify as a whistleblower under Dodd Frank.79 In particular, the district court held that “what plaintiff asks for here is not access to legal protection from retaliation for disclosing information to his employers—Sarbanes- Oxley already provides that. Rather, he asks for the right to file a private lawsuit without the need to first contact a government agency.” 80 Plaintiff instead should have followed Sarbanes-Oxley procedure to receive protection.

B. Extending Dodd-Frank Protection to Internal Reporting

However, a number of other courts have disagreed with the restrictive view of the Fifth Circuit in Asadi. In particular, the Second and Ninth Circuit Courts have both deferred to the SEC’s interpretation.81 It is this interpretation that should have been preferred in the Supreme Court’s recent ruling on Digital Realty Trust, Inc. v. Somers. 82 On appeal in Berman v. Neo@Ogilvy LLC, the Second Circuit reversed the district court and held that the section is “sufficiently ambiguous to oblige us to give Chevron deference to the reasonable interpretation of the agency charged with administering the statute.”83 Prior to being heard by the Supreme Court, the Ninth Circuit in Somers v. Digital Realty Trust Inc. extended whistleblower protection “to those who report internally as well as to those who report to the SEC.”84 In that case, the plaintiff was terminated after making several

75 Berman v. Neo@Ogilvy LLC, 801 F.3d 145, 148–49 (2d Cir. 2015). 76 Id. at 149. 77 Id. 78 Id. at 405–06. 79 Id. at 405. 80 Id. at 409. 81 Id.; Somers v. Dig. Realty Tr. Inc., 850 F.3d 1045 (9th Cir. 2017), cert. granted, 137 S. Ct. 2300 (2017), rev’d & remanded, 138 S. Ct. 767 (2018); Pellino, supra note 3, at 924; see Chevron U.S.A., Inc. v. Nat. Res. Def. Council, Inc., 467 U.S. 837, 838 (1984) (allowing for deference to an agency’s reasonable interpretation of a statute when it is ambiguous). 82 See Dig. Realty Tr., Inc., 138 S. Ct. at 781–82. 83 Berman, 801 F.3d at 146. 84 Somers, 850 F.3d at 1050. continued . . .

 #$%& '() +) ")*') ))  reports to his employers about possible securities law violations.85 His termination occurred before he was able to make any reports to the SEC, but he subsequently sued as a whistleblower under Dodd-Frank’s anti- retaliation provisions.86 The court held that “even if the use of the word ‘whistleblower’ in the anti-retaliation provision creates uncertainty . . . the agency responsible for enforcing the securities laws has resolved any ambiguity and its regulation is entitled to deference.”87 Therefore, the SEC’s broad interpretation is applied to resolve the ambiguity.88 The determination of whether to give deference to an agency interpretation hinges on the Chevron test. Under the two-part test established in Chevron U.S.A. Inc. v. Natural Resources Defense Council, Inc.,89 the court first inquires as to “whether Congress has directly spoken to the precise question at issue. If the intent of Congress is clear, that is the end of the matter; for the court, as well as the agency, must give effect to the unambiguously expressed intent of Congress.”90 While the Fifth Circuit Court in Asadi found the statute unambiguous, making the SEC regulation invalid,91 the Second and Ninth Circuit Courts found the statute to be ambiguous and so progressed to the second step of Chevron, in which, “if the statute is silent or ambiguous with respect to the specific issue, the question for the court is whether the agency’s answer is based on a permissible construction of the statute.” 92 To determine whether an agency’s construction is rational, “[t]he court need not conclude that the agency construction was the only one it permissibly could have adopted . . . or even the reading the court would have reached.”93 As a result, courts that have found ambiguity in the section have given Chevron deference to the SEC’s “reasonable interpretation.”94

IV.RESOLVING THE CIRCUIT SPLIT In its recent decision in Digital Realty Trust, Inc. v. Somers, the Supreme Court reversed the Ninth Circuit decision and held that “[t]o sue under Dodd–Frank's anti-retaliation provision, a person must first ‘provid[e] . . . information relating to a violation of the securities laws

85 Id. at 1047. 86 Id. 87 Id. at 1050–51. 88 Id. 89 Chevron, U.S.A., Inc. v. Nat. Res. Def. Council, Inc., 467 U.S. 837, 842–43 (1984). 90 Id. at 842–843. 91 Asadi v. G.E. Energy (USA) L.L.C., 720 F.3d 620, 630 (5th Cir. 2013). 92 Chevron, 467 U.S. at 843. 93 Id. at 843 n.11. 94 Berman v. Neo@Ogilvy LLC, 801 F.3d 145, 155 (2d Cir. 2015). continued . . . !, ...& $%$' '$$'    '-'  to the Commission.’”95 Moreover, “[b]ecause ‘Congress has directly spoken to the precise question at issue,’ [the Supreme Court did] not accord deference to the contrary view advanced by the SEC . . . .”96 However, the Court should have upheld the Ninth Circuit decision in giving Chevron deference to the SEC regulation. Deferring to the SEC regulation is appropriate because the statute is ambiguous, the SEC’s construction is reasonable, and because the SEC construction best fits within the overall policy behind Dodd-Frank.

A. Digital Realty Trust, Inc. v. Somers

As previously mentioned, Digital Realty Trust, Inc. v. Somers arose out of the termination of Paul Somers by his former employer, Digital Realty Trust, Inc.97 Somers began his tenure at Digital Realty in 2010 and worked as Vice President of Portfolio Management in Europe and later in Singapore.98 While in Singapore he reported to Senior Vice President Kris Kumar.99 A short time before his termination, Somers complained to senior management regarding “serious misconduct” by Kumar, including violations of Sarbanes Oxley internal control requirements. 100 Somers was subsequently terminated on April 9, 2014.101 In district court, Digital Realty moved to dismiss Somers’s Dodd- Frank whistleblower claim because he did not report the alleged misconduct to the SEC.102 However, the district court held that the statute was ambiguous and applied Chevron deference to the SEC’s broad interpretation.103 The Ninth Circuit Court affirmed,104 and on June 26, 2017, the Supreme Court granted Certiorari.105 Writing for a unanimous court, Justice Ginsburg held that “we do

95 Dig. Realty Tr., Inc. v. Somers, 138 S. Ct. 767, 772 (2018) (quoting 15 U.S.C. § 78u–6(a)(6) (2012)). 96 Id. at 782 (quoting Chevron, 467 U.S. at 842) (alteration in original). 97 Id. at 769. 98 Somers v. Dig. Realty Tr., Inc., 119 F.Supp.3d 1088, 1092 (N.D. Cal. 2015), aff’d, 850 F.3d 1045 (9th Cir. 2017), cert. granted, 137 S. Ct. 2300 (2017), rev’d & remanded, 138 S. Ct. 767 (2018). 99 Id. 100 Id. 101 Id. 102 Id. 103 Id. 104 Somers v. Dig. Realty Tr., Inc., 850 F.3d 1045, 1047 (9th Cir. 2017), cert. granted, 137 S. Ct. 2300 (2017), rev’d & remanded, 138 S. Ct. 767 (2018). 105 See Dig. Realty Tr., Inc., 137 S. Ct. at 2300; Dig. Realty Tr., Inc., 138 S. Ct. at 776. continued . . .

 #$%& '() +) ")*') ))  not accord deference to the contrary view advanced by the SEC.”106 In reaching this conclusion, the Court relied on the “explicit definition” given under (a)(6) and applied it to the (h)(1)(A) provision. 107 Furthermore, the Court held that Dodd-Frank’s purpose was to get individuals to report misconduct to the SEC, and this narrower interpretation accomplishes the legislative objective. 108 Finally the court briefly disposed of several of Somers and the SEC’s arguments in favor of the SEC interpretation.109 However, in this decision, the Court was incorrect in finding the statute to be unambiguous. As a result, it failed to properly apply the two steps of Chevron and determine if the SEC’s interpretation is a “permissible construction of the statute.” 110 Finally, the Court has failed to address several of the crucial policy considerations regarding internal whistleblowing.

B. The Statute is Ambiguous

According to the SEC’s argument, the ambiguity of the statute stems from the “significant tension” between the (a)(6) definition of whistleblower and the (h)(1)(A) provision.111 As previously discussed, the (a)(6) definition clearly requires that a whistleblower “provide, information relating to a violation of the securities laws to the Commission.”112 Yet, clause (iii) of the (h)(1)(A) provision provides protection to “whistleblower[s] . . . making disclosures that are required or protected under the Sarbanes-Oxley Act,”113 which would include individuals reporting internally and not to the SEC.114 Reading the (a)(6) definition as requiring SEC reporting to also apply to the (h)(1)(A) provision raises some “bizarre consequences,”115 indicating that the statute does not demonstrate the unambiguous intent of Congress. However, the Supreme Court found no ambiguity in the two

106 Dig. Realty Tr., Inc., 138 S. Ct. at 782. 107 Id. at 776–777. 108 Id. at 777. 109 Id. at 778–791. 110 Chevron, U.S.A., Inc. v. Nat. Res. Def. Council, Inc., 467 U.S. 837, 843 (1984). 111 Brief for the SEC, as Amici Curiae Supporting Appellee at 19, Somers v. Dig. Realty Tr. Inc., 850 F.3d 1045 (9th Cir. 2017) (No. 15–17352), 2016 WL 3088310. 112 15 U.S.C. § 78u–6(a) (2012) (emphasis added). 113 Id. § 78u–6(h)(1)(A)(iii) (alteration in original). 114 18 U.S.C. § 1514A(a)(1)(c) (2012). 115 Brief for the SEC, supra note 111, at 22. continued . . . !, ...& $%$' '$$'    '-'  provisions. Instead, it held that “‘[w]hen a statute includes an explicit definition, we must follow that definition,’ even if it varies from a term’s ordinary meaning.” 116 Therefore, since the (a)(6) definition requires reporting to the SEC, that is the definition the Court must follow.117 The (h)(1)(A) provision is not definitional and only describe “what conduct, when engaged in by a whistleblower, is shielded from employment discrimination.”118 As a result, an individual must meet both requirements to have Dodd-Frank protection.119 However, in this instance the Court has overly simplified the issue, since several other canons of construction must also be considered. This same Court has previously held that even “the presumption of consistent usage ‘readily yields’ to context, and a statutory term—even one defined in the statute—‘may take on distinct characters from association with distinct statutory objects calling for different implementation strategies.’”120 Here, the “distinct statutory object” in clause (iii) is to provide anti-retaliation protection to whistleblowers who report under Sarbanes-Oxley. 121 Requiring strict consistent interpretation of the term “whistleblower” under the (a)(6) definition subverts this object by eliminating protection for all individuals who report under Sarbanes- Oxley but fail to report to the SEC. Moreover, if one reads the (a)(6) definition as having the “distinct statutory objective” of making SEC reporting an overarching prerequisite to being a whistleblower, it is unclear why Congress would even draft clause (iii) to suggest a broader type of disclosure protection.122 In addition, the canon against surplusage states that a “statute ought, upon the whole, to be so construed that, if it can be prevented, no clause, sentence, or word shall be superfluous, void, or insignificant.” 123 Requiring an overarching, limited (a)(6) definition of whistleblower makes the subsequent clause (iii) unnecessary.124 All disclosures under clause (iii) would also have to be filed with the SEC under the (a)(6) definition to receive anti-retaliation protection.125 But clauses (i) and

116 Dig. Realty Tr., Inc. v. Somers, 138 S. Ct. 767, 776 (2018) (quoting Burgess v. United States, 553 U.S. 124, 130 (2008)). 117 Id. at 777. 118 Id. 119 Id. 120 Utility Air Regulatory Grp. v. EPA, 134 S. Ct. 2427, 2441 (2014) (quoting Envtl. Def. v. Duke Energy Corp., 549 U.S. 561, 574 (2007)). 121 15 U.S.C. § 78u–6(h)(1)(A)(iii) (2012). 122 Brief for the SEC, supra note 111, at 21. 123 Duncan v. Walker, 533 U.S. 167, 174 (2001) (quoting Market Co. v. Hoffman, 101 U.S. 112, 115–16 (1879)). 124 Brief of the SEC, supra note 111, at 22. 125 Id. at 21. continued . . .

! #$%& '() +) ")*') ))  (ii) already specifically provide anti-retaliation protection to individuals who disclose to the SEC.126 Therefore, there would be no additional protection actually provided under clause (iii) that was not already provided under (i) and (ii). As a result, clause (iii) becomes surplusage when the (a)(6) definition is also required.127 Yet, the Court stated that clause (iii) is not superfluous because it still “protects a whistleblower who reports misconduct both to the SEC and to another entity, but suffers retaliation because of the latter, non- SEC, disclosure.”128 In this scenario, an employee reports securities law misconduct internally under clause (iii) and also reports to the SEC under the (a)(6) definition.129 The employer then takes discriminatory action against the employee based on the internal reporting, but is unaware that the employee has also reported to the SEC.130 In this way an employee would be a whistleblower consistent with the (a)(6) definition and would also have to rely specifically on clause (iii) of the (h)(1)(A) provision for anti-retaliation protection of an internal disclosure.131 However, this hypothetical fails to save clause (iii) from being superfluous for two reasons. First, the anti-retaliation provision is designed to “prevent retaliation by placing employers on notice” that they may not retaliate against whistleblowers.132 In other words, the provision is aimed at deterring retaliation by employers. Under this hypothetical, there is no deterrence value in clause (iii), since an employer would have to be unaware of an SEC disclosure for the provision to apply.133 Secondly, this hypothetical is extremely unlikely to allow a plaintiff to successfully rely on clause (iii). If an employer were truly unaware of the disclosure to the SEC, it would be almost impossible to establish that the employer had the “requisite retaliatory intent” to punish the employee specifically for reporting to the SEC.134

C. The SEC Interpretation is Reasonable

Since the statute fails to demonstrate the unambiguous intent of Congress, the Supreme Court should have deferred to the SEC’s

126 Id.; see also 15 U.S.C. § 78u–6(h)(1)(A)(i)–(ii) (providing anti-retaliation protection to whistleblowers who report to the SEC). 127 Brief for the SEC, supra note 111, at 22. 128 Dig. Realty Tr., Inc. v. Somers, 138 S. Ct. 767, 779 (2018). 129 Id. 130 Id. 131 Id. 132 Brief for the SEC, supra note 111, at 23. 133 Id. 134 Id. at 24. continued . . . !, ...& $%$' '$$'   '-'  reasonable interpretation. The interpretation is reasonable because it is based on “a permissible construction of the statute.”135 In its amicus brief, the SEC listed four reasons that its interpretation is reasonable.136 First, the interpretation “effectuates the broad employment anti- retaliation protections that clause (iii) contemplates.”137 Secondly, it “avoid[s] disincentivizing individuals from reporting internally first in appropriate circumstances.”138 Thirdly, “if internal compliance and reporting procedures ‘are not utilized or working, our system of securities regulation will be less effective.’”139 Fourthly, “it enhances the [SEC’s] ability to bring enforcement actions when employers take adverse employment actions against employees for reporting securities law violations internally.”140 The Supreme Court did not address the reasonableness of the SEC’s interpretation,141 but the Fifth Circuit in Asadi argued that the SEC’s interpretation of its rule is not reasonable because the regulation itself is inconsistent in defining “whistleblower.”142 While the provisions regarding whistleblower status and retaliation protection under § 21F- 2(b)(1) adopt the broad whistleblower definition,143 the procedures for submitting reports under 9(a) require that: To be considered a whistleblower . . . you must submit your information about a possible securities law violation by either of these methods: (1) Online, through the Commission’s Web site . . . or (2) By mailing or faxing a Form TCR (Tip, Complaint or Referral) . . . to the SEC Office of the Whistleblower.144

135 Chevron, U.S.A., Inc. v. Nat. Res. Def. Council, Inc., 467 U.S. 837, 843 (1984). 136 Brief of the SEC, supra note 111, at 30–31. 137 Id. at 30. 138 Id. (alteration in original). 139 Id. at 30–31. 140 Id. at 31 (alteration in original). 141 See generally, Dig. Realty Tr., Inc. v. Somers, 138 S. Ct. 767 (2018) (lacking discussion of “reasonableness”). 142 Asadi v. G.E. Energy (USA), L.L.C., 720 F.3d 620, 630 (5th Cir. 2013). 143 17 C.F.R. § 240.21F–2(b) (2017) (“For purposes of the anti-retaliation protections afforded by Section 21F(h)(1) of the Exchange Act, (15 U.S.C. 78u– 6(h)(1)), you are a whistleblower if: (i) You possess a reasonable belief that the information you are providing relates to a possible securities law violation (or, where applicable, to a possible violation of the provisions set forth in 18 U.S.C. 1514A(a)) that has occurred, is ongoing, or is about to occur, and; (ii) You provide that information in a manner described in Section 21F(h)(1)(A) of the Exchange Act (15 U.S.C. 78u–6(h)(1)(A)). (iii) The anti-retaliation protections apply whether or not you satisfy the requirements, procedures and conditions to qualify for an award.”). 144 17 C.F.R. § 240.21F–9(a) (emphasis added). continued . . .

 #$%& '() +) ")*') ))  Therefore, according to the Fifth Circuit, the SEC’s regulation inconsistently still “requires that an individual submit information about a possible securities law violation to the SEC.”145 However, the SEC has since addressed this conflict. In a 2015 release, the SEC clarified that: [A]n individual may qualify as a whistleblower for purposes of Section 21F's employment retaliation protections irrespective of whether he or she has adhered to the reporting procedures specified in Rule 21F-9(a). Rule 21F–2(b)(1) alone governs the procedures that an individual must follow to qualify as a whistleblower eligible for Section 21F’s employment retaliation protections.146 Therefore, the SEC’s interpretation is consistent. Asadi raised no further objections to the reasonableness of the SEC’s interpretation.147 However, since the Supreme Court held that the statute was unambiguous, it did not address the reasonableness of the SEC’s interpretation.

D. Policy Considerations

Finally, the Supreme Court’s decision failed to address several important policy considerations. First, extending Dodd-Frank’s anti- retaliation protection to whistleblowers who only report wrongdoing internally under clause (iii) supports companies’ internal reporting mechanisms. These mechanisms are the “cornerstones of effective compliance policies because they permit companies to discover instances of potential wrongdoing, to investigate underlying facts, and to take remedial action.” 148 Businesses will prefer these methods afforded by internal reporting because they allow organizations to deal with violations internally without bad publicity or litigation.149 However, “internal corporate compliance programs will be crippled” as a result of this decision requiring whistleblowers to report

145 Asadi, 720 F.3d at 630. 146 Interpretation of the SEC’s Whistleblower Rules Under Section 21F, Exchange Act Release No. 34–75592, 112 SEC Docket 376 (Aug. 7, 2015). 147 See generally Asadi, 720 F.3d. 620 (lacking discussion of reasonableness). 148 Jordan A. Thomas & Vanessa De Simone, Opinion: Employers May Come to Regret Seeking Narrow Definition of ‘Whistleblower’, NAT’L L. J. (Apr. 9, 2014, 11:46 AM), http://www.nationallawjournal.com/id=1397049044573/Opinion- Employers-May-Come-to-Regret-Seeking-Narrow-Definition-of-Whistleblower? slreturn=20160114214914. 149 Pellino, supra note 3, at 935. continued . . . !, ...& $%$' '$$'    '-'  to the SEC before receiving anti-retaliation protection.150 In order to protect themselves under Dodd-Frank, employees seeking to report misconduct will resort to bypassing internal compliance altogether and simply report straight to the SEC. 151 This risks creating a work environment which impedes a company’s ability to detect misconduct, as employees are unwilling to report suspected wrongdoing to management.152 The consequences will also impact investors who rely on a number of different types of internal disclosures while making their investment decisions.153 Furthermore, the overall policy trend since the 1934 Act has been to encourage whistleblowing and expand protection for whistleblowers.154 The previously discussed failures of the 1934 Act and Sarbanes-Oxley in part stemmed from inadequate protections and incentives relating to whistleblowers. 155 Dodd-Frank itself was designed to encourage whistleblowers to report securities violations. 156 In particular, its bounty provision reveals Congress’s intent to incentivize whistleblowers. 157 So it makes little sense to apply a narrow interpretation of the (h)(1)(A) provision. Although not an argument taken up by the Supreme Court, the Fifth Circuit previously maintained that policy considerations favor the narrower interpretation, since the broad interpretation risks rendering Sarbanes-Oxley moot.158 Potential plaintiffs would supposedly favor filing a claim under Dodd-Frank instead of Sarbanes-Oxley when given the choice.159 However, in reaching this conclusion the Fifth Circuit relies only on the higher back pay awards, longer statute of limitations, and direct federal claim in district court.160 This argument also ignores the two advantages that make Sarbanes- Oxley more attractive for some plaintiffs.161 First, certain claims under Sarbanes-Oxley are heard in an administrative forum by the Department of Labor. 162 This would potentially drastically reduce the costs of

150 Stephen Kohn, Digital Realty Trust V. Somers May Kill Corporate Compliance, LAW360 (Sept. 21, 2017, 1:14 PM), https://www.law360.com/articles /964208/digital-realty-trust-v-somers-may-kill-corporate-compliance. 151 Id. 152 Id. 153 Id. 154 See Pellino, supra note 3, at 915–19. 155 Id. at 919. 156 Id. 157 See supra text accompanying notes 42–43. 158 Asadi v. G.E. Energy (USA), L.L.C., 720 F.3d 620, 628 (5th Cir. 2013). 159 Id. at 628–29. 160 Id. at 629. 161 Id. 162 Id. continued . . .

  #$%& '() +) ")*') ))  litigation.163 Secondly, even though the back pay award for Dodd- Frank is twice that of Sarbanes-Oxley, the total recovery might still be greater under Sarbanes-Oxley.164 Section 806 provides for “all relief necessary to make the employee whole” and for “compensation for any special damages.”165

V.CONCLUSION Dodd-Frank was enacted in the wake of one of the worst economic disasters in American history.166 It was a deliberate piece of legislation aimed at addressing corporate excess through a number of methods, one of which was by encouraging whistleblowers to disclose securities misconduct.167 For a time, the exact extent of the protection offered to whistleblowers under the statute was unclear. The Fifth Circuit and a scattering of district courts held that whistleblowers must report to the SEC in order to receive protection.168 The Second and Ninth Circuit disagreed, and held that internal reporting can still be protected by Dodd-Frank. 169 With the SEC’s regulation offering a reasonable interpretation to resolve the dispute, the Supreme Court’s decision in Digital Realty Trust, Inc. v. Somers170 came down to a determination of whether or not the statutory language of the (a)(6) definition and clause (iii) of the (h)(1)(A) provision make the statute ambiguous or not.171 The clear tension and the inability to reconcile the two provisions should have called for a finding of ambiguity. Applying standard canons of construction, the Court should have found ambiguity regarding congressional intent, necessitating deference to the SEC’s regulation. For the foregoing reasons the Supreme Court was incorrect in Digital Realty Trust, Inc. v. Somers and as a result, failed to provide critical protection for whistleblowers who report internally under Dodd- Frank.

163 Brief of the SEC, supra note 111, at 26. 164 Id. at 27. 165 18 U.S.C. §§ 1514A(c)(1)–(2)(C) (2012). 166 Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111–203, pmbl., 124 Stat. 1376 (2010) (codified as amended in scattered sections of the U.S.C.). 167 Pellino, supra note 3, at 919. 168 Asadi v. G.E. Energy (USA), L.L.C., 720 F.3d 620, 623 (5th Cir. 2013). 169 See Somers v. Dig. Realty Tr. Inc., 850 F.3d 1045, 1050 (9th Cir. 2017), cert. granted, 137 S. Ct. 2300 (2017), rev’d & remanded, 138 S. Ct. 767 (2018); Berman v. Neo@Ogilvy LLC, 801 F.3d 145, 155 (2d Cir. 2015). 170 Somers v. Dig. Realty Tr. Inc., 138 S. Ct. 767 (2018). 171 Id. at 781–782. 

WAKE FOREST JOURNAL OF BUSINESS AND INTELLECTUAL PROPERTY LAW

   ! "  

COMMENT: CORPORATE LIABILITY FOR DATA BREACHES: WILL EQUIFAX VICTIMS HAVE A LEG TO STAND ON?

Emily Marcum†

I. INTRODUCTION ...... 527 II. BACKGROUND ...... 533 A.CLAPPER V. AMNESTY INTERNATIONAL USA...... 533 B.SPOKEO, INC. V. ROBINS ...... 536 III. DISCUSSION ...... 538 A.D.C. CIRCUIT FINDS THAT A DATA BREACH INCREASING RISK OF IDENTITY THEFT IS ENOUGH TO ESTABLISH ARTICLE III STANDING ...... 539 B.THE SIXTH, SEVENTH, AND ELEVENTH CIRCUITS FIND THAT AN INCREASED RISK OF FUTURE HARM IS SUFFICIENT TO ESTABLISH ARTICLE III STANDING AT THE PLEADING STAGE ...... 542 1.Galaria v. Nationwide Mutual Insurance Company ...... 542 2.Lewert v. P.F. Chang’s China Bistro, Inc...... 545 3.Resnick v. AvMed, Inc...... 547 C.THE SECOND AND FOURTH CIRCUITS FIND THAT AN INCREASED RISK OF FUTURE HARM IS INSUFFICIENT TO ESTABLISH ARTICLE III STANDING 548 1.Whalen v. Michaels Stores, Inc...... 548 2.Beck v. McDonald ...... 550

† © 2018 J.D. 2018, Wake Forest University School of Law; B.A. 2015, University of South Carolina. First and foremost, I would like to thank my parents, Don and Margaret Marcum, for their endless love, support, and encouragement. Without you, I would not be the woman I am today. I am forever grateful and credit every one of my successes to the two of you. Second, I would like to thank all of the wonderful professors I have had at Wake over the past three years. Your wisdom, patience, dedication, and desire to make the world a better place has been beyond inspirational. Finally, I would like to thank the entire Wake Forest Journal of Business and Intellectual Property Law staff for your hard work in editing this article.  #$%& '() +) ")*') ))  D.COURTS SHOULD FIND THAT EQUIFAX VICTIMS MEET ALL THREE ELEMENTS REQUIRED TO ESTABLISH ARTICLE III STANDING ...... 551 IV. CONCLUSION ...... 554

 !, -  $'$"'0& .$'$   " $-/  I.INTRODUCTION News of corporate data breaches littering headlines have become as ubiquitous as those about President Trump’s visits to Mar-a-Lago. 1 Both occur frequently, are unsurprising, and are costing Americans a great deal of money.2 But what is being done to change this narrative? It is likely that at some point nearly every individual has encountered an employer, a government official, a tech-savvy cousin, an online retailer, or an educational institution’s IT department, who stresses the importance of cybersecurity or password protection. 3 The likely response from the individual is a smile, nod, and promise to stop using the password created ten years ago for an AOL account that merely combined a name and birthday. A password so simple that it does not even stump a computer illiterate grandmother. Unfortunately, it is time to realize that the individuals stressing the importance of password diversification and cybersecurity are not just lecturing for fun, and the data breach headlines that seem to greet us daily must be taken seriously.4 Identity theft and fraud have recently reached unprecedented heights. In 2016, 15.4 million consumers in the United States were victims of identity theft or fraud; a number up sixteen percent from 2015.5 Identity thieves were able to steal a total amount of sixteen

1 See, e.g., Associated Press, Here’s How Much It Costs Taxpayers for Donald Trump to Stay at His Weekend Getaways, FORTUNE (May 8, 2017), http://fortune.com/2017/05/08/donald-trump-travel-security-costs/ (providing an example of a recent headline regarding President Trump’s trips to Mar-a-Lago). 2 See id. 3 See Dr. Detlev Gabel et al., Cyber Risk: Why Cyber Security is Important, WHITE & CASE (July 1, 2015), https://www.whitecase.com/publications/insight /cyber-risk-why-cyber-security-important (citing the World Economic Forum’s statistic that ninety percent of companies worldwide are insufficiently prepared to protect themselves against cyber-attacks, at a cost of $400 billion annually); see also Sharon Profis, The Guide to Password Security (And Why you Should Care), CNET, (Jan. 1, 2016, 7:20 AM), https://www.cnet.com/how-to/the-guide-to-password- security-and-why-you-should-care (listing several factors to consider when creating a password to maximize personal password security). 4 See, e.g., Equifax Under Pressure After Data Breach Update, BBC (Feb. 12, 2018), http://www.bbc.com/news/technology-43033202; Sasha Lekach, FedEx Customer Information Exposed in Data Breach, YAHOO!: NEWS (Feb. 15, 2018), https://uk.news.yahoo.com/fedex-customer-information-exposed-data- 205710707.html; Mathew J. Schwartz, US Data Breaches Hit All-Time High, INFO. SECURITY MED. GROUP (Feb. 1, 2018), https://www.bankinfosecurity.com/us-data- breaches-hit-all-time-high-a-10622. 5 Kelli B. Grant, Identity Theft, Fraud Cost Consumers More than $16 Billion, CNBC (Feb. 1, 2017, 9:11 AM), https://www.cnbc.com/2017/02/01/consumers-lost- more-than-16b-to-fraud-and-identity-theft-last-year.html. continued . . .

 #$%& '() +) ")*') ))  billion dollars.6 If the monetary threat alone is not enough to incentivize individuals to take cybersecurity seriously, perhaps the inconvenience of spending hours on hold with customer service representatives while being forced to listen to classical tunes and smooth jazz will be. Fortunately, there are steps that individuals can and should take to better protect themselves from identity thieves. 7 Unfortunately, there are some instances of corporate data breaches where even a 10,000- character password has not provided sufficient protection because the breach was a consequence of a flaw in the corporation’s software,8 the most recent example being Equifax. Equifax, one of the three major consumer credit reporting agencies in the United States, discovered it was hacked on July 29, 2017.9 In March 2017, Equifax discovered a technological flaw in its software that led to its demise and the hackers’ success.10 However, Equifax failed to take action in patching the deficiency. 11 As a result, the Equifax hacker(s) was able to steal the personal information of 147.9 million consumers.12 Although the Equifax breach is not as large as the 2013 Yahoo! breach, which affected the entirety of its three billion accounts, 13 or as embarrassing as the 2015 breach of the original “extramarital dating site” known as Ashley Madison,14 there are certain

6 Id. 7 See generally How to Protect Yourself from Identity Theft, CONSUMER REPS. (July 2010), https://www.consumerreports.org/cro/2010/07/protect-your-identity /index.htm (discussing steps that consumers can take to protect themselves from identity fraud which include: freezing accounts, securing internet-connected devices, and opting out of receiving unsolicited credit card offers that thieves use in identity theft). 8 Ken Sweet & Michael Liedtke, Equifax Traced the Source of its Massive Hack to a Preventable Software Flaw, BUS. INSIDER (Sept. 14, 2017, 7:55 PM), http://www.businessinsider.com/how-did-equifax-get-hacked-2017-9. 9 Jade Scipioni, Equifax Hack: A Timeline of Events, FOX BUS. (Oct. 17, 2017), http://www.foxbusiness.com/features/2017/09/14/equifax-hack-timeline-events.html. 10 See Sweet & Liedtke, supra note 8. 11 Id. 12 See Michael R. Bartosik & Steven M. Packer, Still Worried About the Equifax Breach? So Are 145 Million Others, LEXOLOGY (Oct. 19, 2017), https://www.lexology.com/library/detail.aspx?g=73e56199-c875-4f28-9d11- 7a4f7436430c; Nick Clements, Equifax’s Enormous Data Breach Just Got Even Bigger, FORBES (Mar. 5, 2018), https://www.forbes.com/sites/nickclements/2018/03/05/equifaxs-enormous-data- breach-just-got-even-bigger/#3198c54d53bc (finding an additional 2.4 million Americans were impacted by the data breach). 13 Lily H. Newman, Yahoo’s 2013 Email Hack Actually Compromised Three Billion Accounts, WIRED (Oct. 3, 2017, 7:29 PM), https://www.wired.com/story/ yahoo-breach-three-billion-accounts/. 14 Alex Hern, Hacked Dating Site Ashley Madison Agrees to Pay $11m to US- Based Users, GUARDIAN (July 17, 2017, 11:26 PM), continued . . . !, -  $'$"'0& .$'$   " $-/  elements regarding the Equifax breach that make it more malevolent than any of its predecessors’ breaches. First, unlike the Yahoo! or Ashley Madison breaches, individuals did not need to create an account or use Equifax’s services for Equifax to receive the individual’s personal and financial information. 15 Equifax may receive an individual’s information regardless of whether one consented to its collection or had a business relationship with Equifax.16 This is because Equifax is a credit reporting agency, and a large-scale data aggregator.17 Not only does Equifax collect the data provided to it, but it also collects and purchases data from third parties.18 These third parties include banks, mortgage brokers, credit card companies, and any other business that extends credit.19 Thus, if an individual ever borrowed money or extended credit, then Equifax has likely received that individual’s most sensitive personal information from a third party.20 This sensitive personal information may include, but is not limited to, date of birth, address, Social Security number, credit score, financial history, and driver’s license number.21 This kind of information makes it possible for those with ill motives to cause a lifetime of headaches by impersonating individuals to banks, credit card companies, the Internal Revenue Service, insurance companies, and other businesses susceptible to fraud. 22 In addition, most of the information stolen in the Equifax breach is incredibly difficult for consumers to change.23 The nature of this stolen information increases https://www.theguardian.com/technology/2017/jul/17/hacked-dating-site-ashley- madison-parent-company-ruby-life-inc-pay-11m-dollars-us-based-users. 15 See Bruce Schneier, Don’t Waste Your Breath to Equifax About Data Breach, CNN (Sept. 11, 2017, 6:23 PM), http://www.cnn.com/2017/09/11/opinions/dont- complain-to-equifax-demand-government-act-opinion-schneier/index.html; see also Jeff Pollard & Joseph Blankenship, Equifax Does More Than Credit Scores, FORBES (Sept. 8, 2017, 6:06 PM), https://www.forbes.com/sites/forrester/2017/09/08/equifax -does-more-than-credit-scores/#6fee659319d8 (“Equifax collects information about you. You may not know it does, but it does. Even if you aren’t in the population of breached users, they know you. You don’t know what they know about you, and you have no way to find out in normal circumstances.”). 16 Pollard & Blankenship, supra note 15. 17 Id. 18 See id. 19 Brenda R. Sharton & David S. Kantrowitz, Equifax and Why It’s So Hard to Sue a Company for Losing Your Personal Information, HARV. BUS. REV. (Sept. 22, 2017), https://hbr.org/2017/09/equifax-and-why-its-so-hard-to-sue-a-company-for- losing-your-personal-information. 20 See id. 21 Schneier, supra note 15. 22 See id. 23 See id. (explaining that hackers are interested in accessing permanent and semi-permanent information like individuals’ full names, Social Security numbers, continued . . .

 ! #$%& '() +) ")*') ))  the likelihood that consumers’ identities will be stolen in the future. Consumers looking to sue regarding this future harm will likely face difficulties in establishing Article III standing. Another reason the Equifax breach is unique is because the three consumer credit bureaus are normally the points of contact for consumers after a consumer realizes their identity has been stolen.24 This stems from the fact that consumer credit bureaus provide services such as credit monitoring and identity theft protection, which are typically utilized by the victims of identity fraud.25 This means that the 147.9 million consumers that were victims of the Equifax hack are left in the awkward predicament of trusting the company whose very negligence led to their misfortune.26 Instead of purchasing identity theft protection and credit monitoring services from Equifax, outraged and disappointed consumers likely searched for an alternative identity theft protection service like LifeLock. 27 What many consumers do not realize is that a majority of these alternative services have contracts with one of the three major credit reporting agencies.28 In this arrangement, the credit reporting agencies provide the alternate services with certain credit products and services that the alternate services then turn around and use in their own identity theft protection services.29 One example of this arrangement is between LifeLock and Equifax. 30 LifeLock has exploited Equifax’s massive blunder by increasing advertising, and targeting Equifax victims.31 As a result, LifeLock’s enrollment is ten times greater than its enrollment was before the breach.32 However, many consumers do not realize that by purchasing services from LifeLock, they are actually signing up for services provided by Equifax.33 In addition, if a consumer would like to freeze their credit so identity thieves cannot open up accounts in that consumer’s name and ruin their credit score, the consumer is required

birth dates, addresses, and driver’s license numbers). 24 See Sharton & Kantrowitz, supra note 19. 25 See id. 26 Id.; Clements, supra note 12. 27 See Michael Hiltzik, LifeLock Offers to Protect You From the Equifax Breach—by Selling You Services Provided by Equifax, L.A. TIMES (Sept. 18, 2017, 1:15 PM), http://www.latimes.com/business/hiltzik/la-fi-hiltzik-lifelock-equifax- 20170918-story.html. LifeLock is an American company that specializes in identity theft protection services. Id. 28 See id. 29 Id. 30 Id. 31 Id. 32 Id. 33 Id. continued . . . !, -  $'$"'0& .$'$   " $-/  to pay Equifax a monthly fee.34 After breach victims expressed their absolute outrage in paying Equifax for a service that was only made necessary because of Equifax’s own negligence, Equifax begrudgingly agreed to waive the freeze fee through November 21, 2017.35 Nonetheless, Equifax is profiting, or will eventually profit, off its own negligence which caused the identity theft victims’ misfortune.36 As if this has not caused enough outrage, Equifax’s negligence went even further when it took forty-one days after learning of the breach to notify consumers.37 During that forty-one days, three of Equifax’s top executives sold over two million dollars of their company stock.38 There is a lack of accountability in the industry, primarily because there are only three credit reporting agencies. The three agencies, Equifax, Experian, and TransUnion, have a virtual monopoly on the credit reporting industry.39 These three agencies are used by 90 percent of lenders, leaving consumer-borrowers with very few alternative choices.40 “Credit reporting agencies are grease in the great American credit engine. Lenders need them, and borrowers need lenders. If Equifax were to go away, it would merely make TransUnion and Experian more powerful, but probably no less vulnerable to hacking themselves.”41 These three companies are almost too big to fail, and therefore, maintain a sense of security because of their size and control over the credit reporting industry.42 Their indifference is founded upon the fact that

34 Sarah O’Brien, Here’s What it Costs to Freeze Your Credit After Equifax Breach, CNBC (Sept. 15, 2017, 8:50 AM), https://www.cnbc.com/2017/09/15/heres- what-it-costs-to-freeze-your-credit-after-equifax-breach.html. 35 Ron Lieber, Equifax, Bowing to Public Pressure, Drops Credit-Freeze Fees, N.Y. TIMES (Sept. 12, 2017), https://www.nytimes.com/2017/09/12/your-money/ equifax-fee-waiver.html. 36 Jen Wieczner, How Equifax is ‘Making Millions of Dollars Off its Own Screwup’, FORTUNE (Oct. 4, 2017), http://fortune.com/2017/10/04/equifax-breach- elizabeth-warren/. 37 Scipioni, supra note 9. 38 Id. 39 David Dayen, Break Up the Credit-Reporting Racket, THE NEW REPUBLIC (Sept. 12, 2017), https://newrepublic.com/article/144780/break-credit-reporting- racket. 40 Id. 41 Editorial Board, Equifax is Too Big to Fail, Not Too Big to Hold Accountable, ST. LOUIS POST DISPATCH (Sept. 12, 2017), http://www.stltoday.com/opinion/editorial/editorial-equifax-is-too-big-to-fail-not- too-big/article_23fe5ec8-bff1-5aae-9085-e0fb714408ea.html. 42 Thomson Gale, Credit Bureaus, ENCYCLOPEDIA, https://www.encyclopedia.com/social-sciences-and-law/economics-business-and- labor/businesses-and-occupations/credit-bureau (last visited Mar. 19, 2018) (discussing that most of the over 1000 consumer credit bureaus in the United States continued . . .

  #$%& '() +) ")*') ))  those individuals who utilize credit reporting agencies are not the customer; they are the product. 43 Equifax’s real customers are the employers, businesses, lenders, and landlords looking to purchase information on individuals. 44 As a result, there is a clear lack of accountability and an indifference when it comes to consumers who are essentially the credit reporting agencies’ product.45 Thus, regardless of whether it be legal recourse or government regulation, action must be taken.46 Consumers looking to sue for an increased risk of future identity theft will likely run into one very large obstacle: establishing Article III standing.47 Part II of this Comment will first discuss the basic elements required to establish Article III standing. Part II will then describe two landmark Supreme Court cases that apply these elements to scenarios involving a risk of future harm. Part III of this Comment will analyze the string of recent cases that define a widening circuit split involving the issue of whether an increased risk of future harm satisfies the first Article III element of injury-in-fact. Additionally, Part III will analyze the facts of the Equifax breach, comparing them to the facts of other circuit opinions, and discuss the likelihood of victims successfully establishing Article III standing. Lastly, Part IV will conclude with potential solutions to establishing standing to sue after data breaches, and propose ways to hold corporations more accountable, so that the negligent protection of consumers’ private information is made intolerable.

are either owned or under contract with the three major credit reporting agencies and each of the three major credit reporting agencies maintain over 190 million credit files). 43 Schneier, supra note 15. 44 Id. 45 See generally Frank Pasquale, The Dark Market for Personal Data, N.Y. TIMES (Oct. 16, 2014), https://www.nytimes.com/2014/10/17/opinion/the-dark- market-for-personal-data.html (explaining that the market for personal information encourages the pursuit of reaching a threshold percentage of information rather than delivering accurate information, and it does so at the expense of individuals and their reputations). 46 See Editorial Board, supra note 41. See also Pasquale, supra note 45 (specifying the various laws and regulations the article’s author believes society should implement). 47 See, e.g., Spokeo, Inc. v. Robins, 136 S. Ct. 1540, 1547 (2016) (explaining that in order to have standing, litigants must show that their lawsuit is seeking redress for legal wrong, and federal courts will not overstep the bounds of their judicial role by hearing the case if there is no standing). continued . . . !, -  $'$"'0& .$'$   " $-/  II.BACKGROUND Before a plaintiff can sue Equifax for an increased risk of future identity theft caused by its failure to safeguard consumers’ personal information, the plaintiff must first establish standing.48 Although the Constitution does not explicitly require that a plaintiff possess standing to file a suit in federal court, the Supreme Court has inferred a standing requirement from the language of Article III of the United States Constitution.49 Article III limits federal courts’ jurisdiction to “cases and controversies.”50 Therefore, the standing requirement ensures that federal courts have subject matter jurisdiction, and “do not exceed their authority as it has been traditionally understood.”51 To successfully establish Article III standing, a plaintiff has the burden of proving three elements: (1) the plaintiff must have suffered an “injury-in-fact” that is “concrete and particularized” and “actual or imminent, not conjectural or hypothetical”; (2) the injury is “fairly traceable to the challenged action of the defendant”; and (3) the injury is “likely” to be “redressed by a favorable decision.”52 If a plaintiff fails to meet all of these elements, a federal court must dismiss the case without deciding the merits.53

A. Clapper v. Amnesty International USA

The leading case on claims of standing based on risk of future harm is Clapper v. Amnesty International USA.54 In Clapper, the plaintiffs challenged § 1881 of the Foreign Intelligence Surveillance Act (“FISA”), which permitted the United States government to spy on the

48 See Raines v. Byrd, 521 U.S. 811, 818 (1997) (“One element of the case-or- controversy requirement is that appellees, based on their complaint, must establish that they have standing to sue.”). 49 Section 2 of Article III provides: “The judicial Power shall extend to all Cases, in Law and Equity, arising under this Constitution, the Laws of the United States, and Treaties made, or which shall be made, under their Authority;–to all Cases affecting Ambassadors, other public Ministers and Consuls;–to all Cases of admiralty and maritime Jurisdiction;–to Controversies to which the United States shall be a Party;–to Controversies between two or more States;–between a State and Citizens of another State;-between Citizens of different States;–between Citizens of the same State claiming Lands under Grants of different States, and between a State, or the Citizens thereof, and foreign States, Citizens or Subjects.” U.S. CONST. art. III, § 2. 50 Clapper v. Amnesty Int’l USA, 568 U.S. 398, 408 (2013). 51 Spokeo, 136 S. Ct. at 1547. 52 Lujan v. Defs. of Wildlife, 504 U.S. 555, 555–61 (1992). 53 Bradford C. Mank, Clapper v. Amnesty International: Two or Three Competing Philosophies of Standing Law?, 81 TENN. L. REV. 211, 219 (2014). 54 Clapper, 568 U.S. at 398. continued . . .

  #$%& '() +) ")*') ))  communications of foreign nationals outside the United States. 55 Plaintiffs alleged that although they were not foreign nationals, there was an “objectively reasonable likelihood” the government would intercept their communications with overseas contacts..56 The plaintiffs in Clapper were a diverse group of “attorneys and human rights, labor, legal, and media organizations whose work allegedly require[d] them to engage in sensitive and sometimes privileged telephone and e-mail communications with colleagues, clients, sources, and other individuals located [outside the United States].”57 The plaintiffs asserted their belief that some of the foreign nationals with whom they communicate were “likely targets of government surveillance under § 1881a” because the contacts were “located in geographic areas that [were] a special focus of the Government’s counterterrorism or diplomatic efforts” and because some of these contacts were people that the Government “believe[d] to be associated with terrorist organizations.” 58 The plaintiffs claimed that the § 1881a provision of FISA interfered with their “ability to locate witnesses, cultivate sources, obtain information, and communicate confidential information to their clients.”59 As a result, plaintiffs alleged that they avoided “engaging in certain telephone and e-mail conversations” which would eventually force them to incur expenses to “travel abroad in order to have in-person conversations.”60 The United States Supreme Court majority used the “certainly impending” standard in deciding whether the plaintiffs met Article III standing. 61 The Court declared that “‘threatened injury must be certainly impending to constitute injury-in-fact,’ . . . ‘allegations of possible future injury’ are not sufficient.”62 However, in footnote five, the Court also noted that it had previously “found standing based on a ‘substantial risk’ that the harm will occur.”63 The “substantial risk”

55 Id. at 407. 56 Id. 57 Id. at 406 (alteration in original). 58 Id. (alteration in original). 59 Id. 60 Id. at 406–07. 61 Id. at 401. 62 Id. at 410 (quoting Whitmore v. Arkansas, 495 U.S. 149, 158 (1990)). 63 Id. at 414 n.5 (“Our cases do not uniformly require plaintiffs to demonstrate that it is literally certain that the harms they identify will come about. In some instances, we have found standing based on a ‘substantial risk’ that the harm will occur, which may prompt plaintiffs to reasonably incur costs to mitigate or avoid that harm. But to the extent that the ‘substantial risk’ standard is relevant and is distinct from the “clearly impending” requirement, respondents fall short of even that standard, in light of the attenuated chain of inferences necessary to find harm here.”). continued . . . !, -  $'$"'0& .$'$   " $-/  standard mentioned in footnote five appears to be slightly more lenient than the “certainly impending” standard. 64 Unlike the “certainly impending” standard, the “substantial risk” standard does not require a plaintiff to demonstrate that they are certain that the harms identified will come about, but rather only need to demonstrate that there is a “substantial risk” the harm will occur.65 However, the Court found that the plaintiffs failed to establish an injury-in-fact under both the “certainly impending” test and the “substantial risk test” because the injury the plaintiffs feared was too speculative and “relies on a highly attenuated chain of possibilities,” none of which had been alleged to have occurred at the time of the lawsuit.66 Since Clapper discussed the two aforementioned standards, courts have been split as to whether an increased risk of future harm is enough to establish the first element of “injury-in-fact.”67 Clapper suggested that a “highly speculative fear” of injury that was not “certainly impending” failed to establish an injury-in-fact.68 This holding has made it difficult for victims of corporate data breaches to hold corporations liable for the risk of future harm they suffer from having their information stolen.69 The Clapper holding implies that a hacker has to steal a consumer’s identity and actually participate in fraudulent activity in order for the consumer to meet the Article III injury-in-fact requirement.70

64 Id. 65 Id. 66 Id. at 410–11. 67 See, e.g., Attias v. Carefirst, Inc., 865 F.3d 620, 692 (D.C. Cir. 2017) (holding that the plaintiffs had standing to bring data breach claims when the defendant had already accessed personal information, and it was thus plausible to infer that the defendant had “both the intent and ability to use the data for ill”); Galaria v. Nationwide Mut. Ins. Co., 663 F. App’x 384, 385–386 (6th Cir. 2016) (holding that the plaintiffs had standing to bring data breach claims when the breached database contained personal information such as “names, dates of birth, marital statuses, genders, occupations, employers, Social Security numbers, and driver’s license numbers”). But see Whalen v. Michaels Stores, Inc., 689 F. App’x 89, 90–91 (2d Cir. 2017) (holding that the plaintiff did not have standing to bring a claim of credit card fraud against the store because she did not allege “how she [could] plausibly face a threat of future fraud” if her stolen credit card was promptly canceled and no other personally identifying information was alleged to have been stolen). 68 Clapper v. Amnesty Int’l USA, 568 U.S. 398, 409–10 (2013). 69 See generally Thomas Martecchini, Note, A Day in Court for Data Breach Plaintiffs: Preserving Standing Based on Increased Risk of Identity Theft After Clapper v. Amnesty International USA, 114 MICH. L. REV. 1471 (2016) (discussing the difficulty of establishing standing based on future harm after Clapper). 70 Id. continued . . .

  #$%& '() +) ")*') ))  B. Spokeo, Inc. v. Robins

Three years after the Clapper decision caused a circuit split regarding whether a risk of future harm could constitute an injury-in- fact, the Supreme Court heard Spokeo Inc. v. Robins, an appeal out of the Ninth Circuit.71 In hearing this case, the Supreme Court finally had the opportunity to declare whether a risk of future harm was enough to constitute an injury-in-fact for purposes of establishing Article III standing. To the dismay of many, the Supreme Court focused on the Ninth Circuit’s “inadequate standing” analysis and did not explicitly address whether increased risk of future harm constitutes an injury-in- fact.72 Robins, the plaintiff in Spokeo, filed a class action lawsuit against Spokeo alleging that the company willfully failed to comply with the Fair Credit Reporting Act (“FCRA”) after posting inaccurate information about him online.73 Spokeo operates as a “people search engine” that provides personal information about individuals to a variety of users, including employers researching prospective employees.74 After a user submits an inquiry online, Spokeo searches a multitude of databases, and then collects and provides that information to the user.75 This information includes an individual’s address, phone number, marital status, age, occupation, hobbies, financial history, shopping habits, and even their musical preferences.76 Robins asserted that the profile Spokeo created without his consent stated that he was married, had children, was in his fifties, had a job, was economically affluent, and held a graduate degree.77 All of these things were false.78 Robins claimed that the inaccurate information published by Spokeo caused him to “suffer actual harm to his employment prospects” because it made him appear overqualified, expectant of a higher salary, and unlikely to relocate because of family obligations.79 The Ninth Circuit held that Robins adequately alleged an injury-in- fact, but the Supreme Court found that the court of appeals failed to analyze whether the injury was concrete in addition to being particularized. 80 To establish an injury-in-fact, a plaintiff has the

71 Spokeo, Inc. v. Robins, 136 S. Ct. 1540, 1543 (2016). 72 Id. 73 Id. 74 Id. at 1543, 1546. 75 Id. 76 Id. at 1546. 77 Id. 78 Id. 79 Id. at 1554. 80 Id. at 1545. continued . . . !, -  $'$"'0& .$'$   " $-/  burden of showing that they have suffered an “invasion of a legally protected interest” that is “concrete and particularized” and “actual or imminent, not conjectural or hypothetical.” 81 The Supreme Court explained that in order for an injury to be particularized, it must “affect the plaintiff in a personal and individual way.”82 The Supreme Court determined that, while particularization is necessary to establish an injury-in-fact, particularization alone it is not sufficient.83 An injury-in- fact must also be “concrete.” 84 For an injury to be considered “concrete,” it must actually exist. 85 Further, the Supreme Court clarified that an injury does not have to be tangible in order to be concrete.86 In particular, the Supreme Court noted that: “Concrete” is not . . . synonymous with “tangible.” Although tangible injuries are perhaps easier to recognize, we have confirmed in many of our previous cases that intangible injuries can nevertheless be concrete. In determining whether an intangible harm constitutes injury-in-fact, both history and the judgment of Congress play important roles.87 Although the Supreme Court clarified that the alleged harm does not have to be tangible to be concrete and particularized, it failed to explicitly identify whether an increased risk of future harm is enough to satisfy the element of imminence.88 Additionally, the Supreme Court said that Congress cannot automatically conclude that an intangible harm satisfies injury-in-fact where a statute grants a person a statutory right and appears to authorize that person to sue to vindicate that right.89 Instead, a statutory right to sue is insufficient in establishing Article III standing, unless the violation of a statutory right is combined with a concrete injury.90 However, even in cases where the risk of real future harm is difficult to prove or hard to measure, the injury may still be concrete.91 Ultimately, the Supreme Court vacated the Ninth Circuit’s decision and remanded the case, instructing the Ninth Circuit to analyze both

81 Lujan v. Defs. of Wildlife, 112 S. Ct. 2130, 2136 (1992). 82 Spokeo, 136 S. Ct. at 1548. 83 Id. 84 Id. 85 Id. 86 Id. at 1549. 87 Id. (citation omitted). 88 Id. at 1550. 89 Id. at 1549. 90 Id. at 1547–48. 91 See id. at 1549. continued . . .

  #$%& '() +) ")*') ))  concreteness and particularization to determine whether the plaintiff satisfies the first element of injury-in-fact.92 Although the Supreme Court left lower courts, consumers, and businesses wondering whether a data breach is imminent enough for consumers to sue the party who failed to protect their data when the breach results in an increased risk of identity theft by a third party, the Court did provide the above clarifications with respect to analyzing particularization and concreteness.93 Unfortunately, Spokeo did nothing to resolve the circuit split resulting from Clapper. Circuits remain split on whether the risk of future harm is imminent enough to establish Article III standing, and now they are wrestling with exactly how Spokeo applies to allegations of an increased risk of identity theft following a data breach.94

III.DISCUSSION The Supreme Court’s failure to utilize its opportunity in Spokeo to explicitly address whether a claim of increased risk of future harm is concrete and imminent enough to constitute an injury-in-fact caused the circuit split following Clapper to widen even further. 95 The D.C. Circuit’s recent ruling, in Attias v. CareFirst, “amplifies the circuit split by strengthening the hand of potential class action litigants, and it may signal a potential turning of the tide on the issue of standing when the data breach involves intentional hacking.”96 The D.C., Sixth, Seventh, and Eleventh Circuits all agree that an increased risk of future identity theft constitutes an injury-in-fact, satisfying at least the first element of Article III standing.97 Conversely, the Second and Fourth Circuits have found that a mere increased risk of identity theft or future harm is neither concrete nor imminent enough to constitute the injury-in-fact element required for Article III standing.98 The following sections will explore

92 Id. at 1545. 93 See generally id. (vacating and remanding to the Ninth Circuit because of a failure to adequately analyze standing). The Supreme Court did not address Respondent’s concerns over Spokeo’s failure to adhere to the FCRA. See id. 94 Id. at 1549. 95 Edward R. McNicholas & Grady Nye, D.C. Circuit Widens the Split on Standing in Data Breach Cases After Spokeo, LEXOLOGY (Aug. 8, 2017), https://www.lexology.com/library/detail.aspx?g=7335a949-2364-4f44-9c2a- 74939d5ea1da. 96 Id. 97 See, e.g., Attias v. Carefirst, Inc., 865 F.3d 620, 627 (D.C. Cir. 2017); Lewert v. P.F. Chang’s China Bistro, Inc., 819 F.3d 963, 970 (7th Cir. 2016); Galaria v. Nationwide Mut. Ins. Co., 663 F. App’x 384, 391–92 (6th Cir. 2016); Resnick v. AvMed, Inc., 693 F.3d 1317, 1327–28 (11th Cir. 2012). 98 See generally Whalen v. Michaels Stores, Inc., 689 F. App’x 89 (2d Cir. 2017) (“[T]o establish Article III standing, a future injury must be ‘certainly impending,’ rather than simply speculative. [A] ‘theory of standing which relies on continued . . . !, -  $'$"'0& .$'$   " $-/  in detail a handful of the circuit opinions that took place over the past six years. Some of these opinions range from before Clapper and Spokeo and others are as recent as last year. Finally, this section will use this case law to determine the likelihood of Equifax victims successfully establishing Article III standing.

A. D.C. Circuit Finds That a Data Breach Increasing Risk of Identity Theft is Enough to Establish Article III Standing

In the most recent case following Spokeo, the D.C. Circuit held that a data breach that increases a plaintiff’s risk of identity theft is enough to establish an injury-in-fact for purposes of Article III standing.99 In June 2014, CareFirst, a health insurance company, “suffered a cyberattack in which its customers’ personal information” was stolen after an unknown intruder breached twenty-two CareFirst computers.100 CareFirst did not discover the breach until April 2015, and it failed to notify its customers until over a month later.101 This breach included sensitive and personally identifiable customer information, such as legal names, birthdates, email addresses, health insurance subscriber identification numbers, Social Security numbers, and credit card information.102 Plaintiffs alleged that CareFirst’s failure to properly encrypt the stored data caused the cyberattack and caused the plaintiffs to experience a heightened risk of identity theft. 103 The affected customers brought a class action lawsuit that raised eleven different state law causes of action, including breach of contract, negligence, and violation of various state consumer protection statutes.104 The district court dismissed the suit for lack of standing after concluding that the injury was too speculative because the plaintiffs failed to allege a present injury or a high enough likelihood of future

a highly attenuated chain of possibilities does not satisfy the requirement that threatened injury must be certainly impending.’”); see also Beck v. McDonald, 848 F.3d 262, 267 (4th Cir. 2017) (finding “Clapper’s rejection of the Second Circuit’s attempt to import an ‘objectively reasonable likelihood’ standard into Article III standing to express the common-sense notion that a threatened event can be ‘reasonably likely’ to occur but still be insufficiently ‘imminent’ to constitute an injury-in-fact”). 99 Attias, 865 F.3d at 629. 100 Id. at 622–23. 101 Id. at 623. 102 Id. 103 See id. 104 Id. (“The plaintiffs sought to certify a class consisting of all CareFirst customers residing in the District of Columbia, Maryland, and Virginia whose personal information had been hacked.”). continued . . .

 ! #$%& '() +) ")*') ))  injury.105 The district court mistakenly based this conclusion on its misunderstanding that the stolen information did not include the plaintiffs’ Social Security and credit card numbers.106 Without stolen Social Security numbers and credit card numbers, the threat of identity theft was not actual or imminent; therefore, it could not satisfy Article III’s first element of injury-in-fact.107 However, the district court failed to realize that Social Security and credit card numbers were included under the plaintiffs’ definitions for personal identification information (“PII”), personal health information (“PHI”), and electronic personal health information (“ePHI”).108 Therefore, the plaintiffs’ complaint adequately alleged that the compromised data did include their Social Security numbers and credit card numbers. 109 Because of its misunderstanding, the district court wrongly dismissed the case and the plaintiffs appealed. 110 On appeal, the D.C. Circuit found that the plaintiffs indeed plausibly alleged a risk of future injury substantial enough to meet all three standing elements required under Article III.111 In regard to Article III’s first element of injury-in-fact, the court stated that “[n]obody doubts that identity theft, should it befall one of these plaintiffs, would constitute a concrete and particularized injury.”112 Additionally, the D.C. Circuit found it was plausible to infer that the hacker had both “the intent and the ability to use the data for ill.”113 Ultimately, the D.C. Circuit Court concluded that the sensitive nature of the information stolen automatically created a substantial risk of harm, satisfying the injury-in-fact requirement.114 Further, the D.C. Circuit determined that the “substantial risk” standard, first mentioned in footnote five of the Clapper opinion, would be the key test for evaluating future data breach cases.115 “No long sequence of uncertain

105 See id. 106 See id. 107 See id. (explaining that although the personal information could be accessed, there had been no injury, i.e. credit fraud or identity theft, at the time of the complaint and the only reported injury was a breach of the security network). 108 Id. at 627. 109 Id. at 628. 110 Id. at 623. 111 See Clapper v. Amnesty Int’l USA, 568 U.S. 398, 409 (2013). 112 Attias, 865 F.3d at 627. 113 Id. at 628. The Seventh Circuit drew a similar inference in Remijas v. Neiman Marcus Group, where it stated, “[w]hy else would hackers break into a database and steal consumers’ private information? Presumably, the purpose of the hack is, sooner or later, to make fraudulent charges or assume those consumers’ identities.” Remijas v. Neiman Marcus Grp., LLC, 794 F.3d 688, 693 (7th Cir. 2015). 114 Attias, 865 F.3d at 629. 115 See id. at 622, 626, 628–29 (recognizing Clapper as the leading case on continued . . . !, -  $'$"'0& .$'$   " $-/  contingencies involving multiple independent actors has to occur before the plaintiffs in this case will suffer any harm; a substantial risk of harm exists already, simply by virtue of the hack and the nature of the data that the plaintiffs allege was taken.”116 The D.C. Circuit took it a step further and said that even if the plaintiffs had not alleged that their Social Security and credit card numbers had been stolen, the mere fact that health insurance subscriber identification numbers were stolen was enough for the court to find that the plaintiffs satisfied the injury-in-fact element because of the threat of “medical identity theft.”117 The court noted that: “Medical identity theft” [is where] a fraudster impersonates the victim and obtains medical services in her name. That sort of fraud leads to “inaccurate entries in [victims’] medical records” and “can potentially cause victims to receive improper medical care, have their insurance depleted, become ineligible for health or life insurance, or become disqualified from some jobs.” These portions of the complaint would make up, at the very least, a plausible allegation that plaintiffs face a substantial risk of identity fraud, even if their social security numbers were never exposed to the data thief.118 In regard to the second element of Article III standing, the D.C. Circuit confronted CareFirst’s defense that the plaintiffs’ injury was “fairly traceable” only to the data thief.119 Although it is true that the hacker would be the most immediate cause of the plaintiffs’ injuries, CareFirst’s failure to secure its customers’ sensitive data was only one step removed in the causal chain, and therefore the injury was also “fairly traceable” to CareFirst.120 The court reasoned that: “Article III standing does not require that the defendant be the most immediate cause, or even a proximate cause, of the plaintiffs’ injuries; it requires

claims of standing based on risk of future injury and applying the Clapper “substantial risk” standard to a data breach case). See generally Clapper, 568 U.S. at 414 n.5 (“Our cases do not uniformly require plaintiffs to demonstrate that it is literally certain that the harms they identify will come about. . . . In some instances, we have found standing based on “substantial risk” that the harm will occur. In addition, plaintiffs bear the burden of pleading and proving concrete facts showing that the defendant’s actual action has caused the substantial risk of harm.”). 116 Attias, 865 F.3d at 629 (explaining the corrective effect of the new “substantial risk” standard). 117 Id. at 628. 118 Id. (alteration in original). 119 Id. at 629. 120 Id. continued . . .

  #$%& '() +) ")*') ))  only that those injuries be ‘fairly traceable’ to the defendant.”121 Finally, the D.C. Circuit found that the plaintiffs satisfied the third element of Article III standing because their injury would “likely be redressed by a favorable judicial decision.”122 The Supreme Court in Clapper asserted that where there is a “substantial risk” that a harm will occur, the threat of this risk may prompt plaintiffs to reasonably incur costs to mitigate or avoid that harm.123 Due to this effect, courts can award damages that allow a plaintiff to recoup these reasonably incurred expenses.124 Here, the plaintiffs in Attias alleged that they incurred the costs of “responding to the data breach, . . . acquiring identity theft protection and monitoring, . . . conducting a damage assessment, [and] mitigation . . . .”125 These costs coupled with the plaintiffs’ substantial risk of identity theft, “creates the potential for them to be made whole by monetary damages,” which is enough to satisfy the redressability requirement.126 Consequently, the D.C. Circuit reversed the district court’s order that dismissed the case for lack of standing.127

B. The Sixth, Seventh, and Eleventh Circuits Find That an Increased Risk of Future Harm is Sufficient to Establish Article III Standing at the Pleading Stage

1. Galaria v. Nationwide Mutual Insurance Company

In addition to the D.C. Circuit’s Attias holding, the Sixth, Seventh, and Eleventh Circuits have also held that an increased risk of future harm is sufficient to support standing. Six months after the Supreme Court’s decision (or lack thereof) in Spokeo, the Sixth Circuit heard Galaria v. Nationwide Mutual Insurance Company, where it found that plaintiffs Mohammad Galaria and Anthony Hancox successfully established Article III standing for their putative class action.128 On October 3, 2012, hackers broke into Nationwide’s computer network and stole the sensitive, personal information of approximately 1.1 million Nationwide customers.129

121 Id. 122 Id. 123 Clapper v. Amnesty Int’l USA, 568 U.S. 398, 414 n.5 (2013). 124 Attias, 865 F.3d at 629. 125 Id. (alteration in original). 126 Id. (explaining that the redressability requirement may be satisfied when the mitigation costs are combined with a potential for future harm that could “qualify as an injury-in-fact”). 127 Id. at 630. 128 Galaria v. Nationwide Mut. Ins. Co., 663 F. App’x 384, 391 (6th Cir. 2016). 129 Id. at 386. continued . . . !, -  $'$"'0& .$'$   " $-/  The plaintiffs claimed that Nationwide, an insurance and financial- services company, was negligent because it failed to “establish and/or implement appropriate administrative, technical, and/or physical safeguards to ensure the security and confidentiality of plaintiff’s and other Class Members’ [sensitive personal information] . . . .”130 The stolen information included names, dates of birth, marital statuses, genders, occupations, employers, Social Security numbers, and driver’s license numbers.131 After Nationwide learned of the breach, it advised all of its customers to take steps to prevent and mitigate the misuse of the stolen data.132 The company encouraged its customers to enroll in credit monitoring and an identity theft protection service, 133 and it agreed to pay for a year of credit monitoring services and offered to protect customers against up to one million dollars of identity fraud.134 Additionally, Nationwide suggested that customers purchase fraud alert and pay for a security freeze to be placed on their credit.135 The plaintiffs alleged that the Nationwide data breach created an “imminent, immediate and continuing increased risk” of fraud and identity theft. 136 They further alleged that this risk was beyond speculative allegations of “possible future injury” or “objectively reasonable likelihood” of injury that the Supreme Court has previously found to be insufficient.137 Plaintiffs alleged that there is an illicit international market for stolen data, which is used to obtain identification, government benefits, employment, housing, medical services, financial services, and credit and debit cards.138 As a result, identity theft victims must forever be vigilant in monitoring not only their finances, but also their insurance and even their personal records to ensure there are no criminal charges in their name.139 In order to redress the aforementioned risk, the plaintiffs sought damages for the increased risk of fraud; the expenses incurred in mitigating risks which included the cost of credit freezes, insurance, monitoring, and other

130 Id. at 390 (alteration in original). 131 Id. at 386. 132 Id. 133 Id. 134 Id. 135 Id. 136 Id. at 386, 388. See Clapper v. Amnesty Int’l USA, 568 U.S. 398, 410 (2013). 137 Galaria, 663 F. App’x at 388. 138 Id. at 386. 139 Id. (“Identity thieves may also use a victim’s identity when arrested, resulting in warrants issued in the victim’s name. . . . Plaintiffs allege that victims of identity theft and fraud will ‘typically spend hundreds of hours in personal time and hundreds of dollars in personal funds,’ incurring an average of $354 in out-of-pocket expenses and $1.513 it total economic loss.”). continued . . .

  #$%& '() +) ")*') ))  mitigation products; and the time spent on mitigation efforts.140 The Sixth Circuit used the “substantial risk” of harm standard in Galaria.141 Accordingly, the Sixth Circuit concluded that the plaintiffs’ allegations of an increased risk of future harm from identity theft or fraud, coupled with reasonably incurred mitigation costs, was sufficient to establish an Article III injury at the pleading stage.142 The Sixth Circuit noted that Nationwide seemed to recognize the severity of the risks because of its offer to pay for a year of credit-monitoring and identity-theft protection.143 The court noted that where a data breach targets personal information, “a reasonable inference can be drawn that the hackers will use the victims’ data for the fraudulent purposes.”144 It would be unreasonable for the plaintiffs to wait until after a thief misused their data to take steps to ensure their security.145 Therefore, although it was not “literally certain” that the plaintiffs personal information would be misused, there was a substantial risk of harm that was sufficient for the plaintiffs to incur reasonable costs in mitigating an imminent harm.146 The court determined that these reasonable costs were a concrete injury.147 Therefore, the plaintiffs satisfied the injury- in-fact requirement of Article III standing.148 Additionally, the Sixth Circuit concluded that the injuries the plaintiffs alleged met both the second and third element of Article III standing.149 As the court noted, “[a]lthough hackers are the direct cause of plaintiffs’ injuries, the hackers were able to access plaintiffs’ data only because Nationwide allegedly failed to secure the sensitive personal information entrusted to its custody.”150 The court determined that, but for Nationwide’s poor security, the hackers would not have

140 Id. at 387. 141 Id. at 388. Courts have “found standing based on a ‘substantial risk’ that the harm will occur, which may prompt plaintiffs to reasonably incur costs to mitigate or avoid that harm,” even where it is not ‘literally certain the harms they identify will come about.’” Id. (quoting Clapper, 586 U.S. at 414 n.5). 142 Id. 143 Id. 144 Id. 145 Id. 146 Id. at 388, 389. 147 Id. 148 Id. 149 Id. at 387–92 (explaining that the second and third elements of standing are an injury-in-fact “fairly traceable to the challenged conduct of a defendant” and “likely to be redressed by a favorable judicial decision”) Plaintiffs met the second element by alleging that Nationwide failed to implement safeguards to ensure the security and confidentiality of the Plaintiffs’ data. Id. at 390. The third element was met because the compensatory damages the Plaintiffs sought would provide redress. Id. at 390–91. 150 Id. at 390. continued . . . !, -  $'$"'0& .$'$   " $-/  been able to steal and misuse the plaintiffs’ personal information.151 As a result, the alleged injuries were fairly traceable to the actions of Nationwide. 152 Lastly, the court concluded that the plaintiffs successfully showed that a favorable verdict granting them compensatory damages could redress their injuries153

2. Lewert v. P.F. Chang’s China Bistro, Inc.

In Lewert v. P.F. Chang’s China Bistro, Inc., a case which took place following Clapper and prior to Spokeo, the Seventh Circuit found that the plaintiffs alleged enough injury to support Article III Standing.154 About two months after the plaintiffs, John Lewert and Lucas Kosner, dined at P.F. Chang’s, they received news that the restaurant chain’s computer system had been hacked, and customers’ debit and credit card information was stolen.155 Originally P.F. Chang’s switched to a manual card processing system and encouraged customers to monitor their credit card statements; however, the chain later determined that the hack affected only thirty-three of the chain’s restaurants.156 Kosner cancelled his debit card when he noticed four fraudulent transactions were made a little over a month after using his card at P.F. Chang’s.157 Subsequently, he purchased a credit monitoring service for $106.89 to protect himself against identity theft and any criminals who might open up new debit or credit cards in his name.158 Unlike Kosner, Lewert never experienced any fraudulent charges on his card, nor did he have to cancel his card.159 Instead, Lewert alleged that he was injured because of the time and effort he spent monitoring his card statements and credit report to ensure that no fraudulent activity took place.160 The Seventh Circuit concluded that the plaintiffs sufficiently alleged enough injury to meet the three elements of Article III standing.161 The Seventh Circuit compared the facts of Lewert to an earlier data

151 Id. 152 Id. 153 Id. at 391 (holding that the Plaintiff sought compensatory damages for injuries sustained and a favorable verdict would adequately redress the dispute). 154 Lewert v. P.F. Chang’s China Bistro, Inc., 819 F.3d 963, 970 (7th Cir. 2016). 155 Id. at 965. 156 Id. 157 Id. 158 Id. 159 Id. 160 Id. 161 Id. at 966. continued . . .

  #$%& '() +) ")*') ))  breach case, Remijas v. Neiman Marcus Group, LLC, which also took place after Clapper and before Spokeo.162 Similar to P.F. Chang’s, Neiman Marcus experienced a data breach where many customers’ private payment card data was stolen. 163 In Remijas, the Seventh Circuit found the plaintiffs’ injuries were concrete and particularized enough to establish Article III standing. 164 The Seventh Circuit “identified two future injuries that were sufficiently imminent: the increased risk of fraudulent credit- or debit-card charges, and the increased risk of identity theft.”165 The Seventh Circuit found that these two instances were not mere “allegations of possible future injury,” but were instead the type of “certainly impending” future harm that the Supreme Court requires to establish standing.166 The Remijas court asserted that plaintiffs “should not have to wait until hackers commit identity theft or credit-card fraud in order to give the class standing, because there is an ‘objectively reasonable likelihood’ that such injury will occur.”167 As a result, the court in Lewert held that the time and money Lewert and Kosner spent in an effort to resolve fraudulent charges were “cognizable injuries for Article III standing.”168 Thus, the court determined that Lewert and Kosner met the first element of injury- in-fact, 169 and the court quickly analyzed the last two elements of Article III standing.170 Ultimately, the Lewert court reasoned that the plaintiffs pled enough facts to plausibly allege that their injuries were fairly traceable to P.F. Chang’s failure to protect their payment card information.171 Lastly, the court concluded that a favorable judgment could redress most of the plaintiffs’ injuries, particularly the easily quantifiable financial injuries.172

162 Id. 163 Id. 164 Id. 165 Id. (citing Remijas v. Neiman Marcus Grp., LLC, 794 F.3d 688, 692 (7th Cir. 2015)). 166 Remijas, 794 F.3d at 692 (quoting Clapper v. Amnesty Int’l USA, 568 U.S. 398, 409 (2013)). 167 Id. at 693 (quoting Clapper, 568 U.S. at 410). 168 Lewert, 819 F.3d at 967. 169 Id. (explaining that due to a data breach in June of 2014, a court could reasonably find that a risk of fraudulent charges would affect credit cards). 170 Id. at 966. 171 Id. at 969 (noting that the plaintiffs at least partially satisfied the criteria for Article III standing because “at least some of the injuries Lewert and Kosner allege[d] . . . qualify as immediate and concrete injuries sufficient to support Article III standing”). 172 Id. (noting that the plaintiffs also satisfied the criteria of redressability for Article III standing because they had “some easily quantifiable financial injuries” including purchasing credit monitoring services). continued . . . !, -  $'$"'0& .$'$   " $-/  3. Resnick v. AvMed, Inc.

Six months prior to the Supreme Court’s decision in Clapper, the Eleventh Circuit analyzed a case which was very similar to CareFirst. Similar to the plaintiffs in CareFirst, the plaintiffs in Resnick v. AvMed, Inc. sued AvMed, a healthcare service provider, after two laptops containing customers’ sensitive information were stolen from AvMed’s offices. 173 This sensitive information included protected health information, Social Security numbers, names, addresses, and phone numbers.174 The plaintiffs alleged that AvMed failed to encrypt or secure these laptops, so the sensitive information was readily accessible when they were stolen. 175 “The unencrypted laptops contained the sensitive information of approximately 1.2 million current and former AvMed members.”176 Unfortunately for AvMed customers, these stolen laptops were sold to an individual with a history of dealing in stolen property. 177 Plaintiffs, Juana Curry and William Moore, both experienced identity theft shortly after the laptops were stolen.178 The thief used Curry’s information to open accounts at Bank of America, activate credit cards in Curry’s name, and use those credit cards to make unauthorized purchases. 179 Similarly, an identity thief used Moore’s sensitive information to open an account with E*Trade Financial.180 The Eleventh Circuit determined that the plaintiffs met the first element of injury-in-fact because “[they alleged] that they [had] become victims of identity theft and have suffered monetary damages as a result. This constitutes an injury-in-fact under the law.”181 This standard, that a plaintiff must actually become a victim of identity theft and suffer monetary damages, mirrors the Clapper Court’s holding, which implied that a hacker has to steal a consumer’s identity and actually participate in fraudulent activity in order for the consumer to meet the Article III injury-in-fact requirement.182 Next, the Resnick court determined that the plaintiffs’ injury was

173 Resnick v. AvMed, Inc., 693 F.3d 1317, 1322 (11th Cir. 2012). 174 Id. 175 Id. 176 Id. 177 Id. 178 Id. 179 Id. 180 Id. 181 Id. at 1323 (alteration in original). 182 See generally Martecchini, supra note 69, at 1479–83 (discussing standing based on risk of future harm after Clapper). continued . . .

  #$%& '() +) ")*') ))  fairly traceable to AvMed’s negligence.183 The court stated: “Even a showing that a plaintiff’s injury is indirectly caused by a defendant’s actions satisfies the fairly traceable requirement.” 184 Finally, the Eleventh Circuit determined that a favorable judicial decision awarding compensatory damages could redress the plaintiffs’ alleged monetary injury.185

C. The Second and Fourth Circuits Find That an Increased Risk of Future Harm is Insufficient to Establish Article III Standing

1. Whalen v. Michaels Stores, Inc.

As compared to the D.C., Sixth, Seventh and Eleventh Circuit’s view, the Second and Fourth Circuits have stricter views, holding that allegations of nothing more than an increased risk of future injury does not adequately support Article III standing.186 Following Spokeo, the Second Circuit heard Whalen v. Michaels Stores, Inc., where it found that the plaintiff-appellant, Mary Jane Whalen, failed to allege a cognizable injury after her credit card information was exposed following a data breach of Michaels’ computer system.187 The Second Circuit upheld the district court’s holding that Whalen failed to allege an injury, and therefore, Whalen did not meet the injury-in-fact element of Article III standing.188 Whalen asserted three theories of injury in her case: “(1) her credit card information was stolen and used twice in attempted fraudulent purchases; (2) she face[d] a risk of future identity fraud; and (3) she has lost time and money resolving the attempted fraudulent charges and monitoring her credit.”189 However, Whalen’s first theory of injury failed because she never suffered any monetary harm from the attempted fraudulent charges because she was neither asked to pay, nor did she pay, any fraudulent charge.190 The Second Circuit found that

183 Resnick, 693 F.3d at 1323. 184 Id. 185 Id. 186 See Whalen v. Michaels Stores, Inc., 689 F. App’x 89, 90 (2d Cir. 2017) (holding that the plaintiff lacked standing because she neither incurred any actual charges on her credit card nor spent time or money monitoring her credit); Beck v. McDonald, 848 F.3d 262, 266–67 (4th Cir. 2017) (holding that harm from the increased risk of future identity theft and costs of the measures to protect from harm failed to establish a non-speculative, imminent injury-in-fact to meet standing requirements). 187 Whalen, 689 F. App’x at 89. 188 Id. at 90. 189 Id. (alteration in original). 190 Id. continued . . . !, -  $'$"'0& .$'$   " $-/  Whalen’s second theory of injury failed because she immediately cancelled her credit card after the breach, and no other sensitive personal information was stolen in the breach.191 The court determined that therefore, Whalen could not possibly face a risk of future identity fraud purely from hackers stealing her cancelled credit card information.192 Lastly, Whalen’s third theory of injury failed because she did not allege with any specificity the amount of money and time she spent monitoring her credit.193 The Second Circuit held that the mere allegation that she spent time and money monitoring her credit, without any specifics, was not substantial enough to establish an injury- in-fact.194 Although, the Second Circuit appeared to conclude that an increased risk of future harm is insufficient to support Article III standing, it is possible the court would have found standing if a couple of facts were changed. For example, if Whalen had been more specific about the time and money she lost in monitoring her credit, the Second Circuit may have ruled differently.195 The opinion also took the time to distinguish Whalen’s circumstances from the plaintiffs in Galaria.196 The Second Circuit noted that unlike the plaintiffs in Galaria, none of Whalen’s personal information, such as her birthdate or Social Security number, were alleged to have been stolen.197 If Whalen’s sensitive personal information had been compromised in the breach, it seems more likely that the Second Circuit would have found that Whalen faced a risk of future identity fraud to establish the first element of injury-in-fact.

191 Id. 192 See id. 193 Id. at 91. 194 Id. 195 See id.; cf. Lewert v. P.F. Chang’s China Bistro, Inc., 819 F.3d 963, 967 (7th Cir. 2016) (“Similarly, [plaintiffs] have alleged sufficient facts to support standing based on their present injuries. Kosner asserts that he already has experienced fraudulent charges. Even if those fraudulent charges did not result in injury to his wallet (he stated that his bank stopped the charges before they went through), he has spent time and effort resolving them. He also took measures to mitigate his risk by purchasing credit monitoring for $106.89. Lewert alleged that he has spent time and effort monitoring both his card statements and his other financial information as a guard against fraudulent charges and identity theft.” (alteration in original)). 196 Compare Whalen, 689 F. App’x at 90 (finding no standing where the stolen credit card was immediately cancelled and no other personal identifying information was alleged as stolen), with Galaria v. Nationwide Mut. Ins. Co., 663 F. App’x 384, 386 (6th Cir. 2016) (finding standing where the breached database contained personal information such as names, dates of birth, marital statuses, genders, occupations, employers, Social Security numbers, and driver’s license numbers). 197 Whalen, 689 F. App’x at 90. continued . . .

! #$%& '() +) ")*') ))  2. Beck v. McDonald

Following Spokeo, the Fourth Circuit heard Beck v. McDonald, where it found that the “[p]laintiffs failed to establish a non-speculative, imminent injury-in-fact for purposes of Article III standing.”198 The plaintiffs brought suit against the William Jennings Bryan Dorn Veterans Affairs Medical Center (the “Center”) in Columbia, South Carolina, after two data breaches at the Center compromised the plaintiffs’ personal information.199 The first data breach occurred after a laptop connected to a pulmonary function testing device was misplaced or stolen from the hospital. 200 The laptop contained “unencrypted personal information of approximately 7,400 patients, including names, birth dates, the last four digits of Social Security numbers, and physical descriptors of patients.”201 The plaintiffs alleged “that the ‘threat of identity theft’ required them to frequently monitor their ‘credit reports, bank statements, health insurance reports, and other similar information, purchas[e] credit watch services, and [shift] financial accounts.’”202 The second breach occurred after four boxes of pathology reports were misplaced or stolen at the Center.203 These reports contained “identifying information of over 2,000 patients, including names, Social Security numbers, and medical diagnoses.” 204 Similar to the first breach, the Fourth Circuit found that the plaintiffs “‘ha[d] not alleged that there ha[d] been any actual or attempted misuse of her personal information,’ thus rendering her allegation that her information ‘will eventually be misused as a result of the disappearance of the boxes . . . speculative.’”205 The Beck court determined that the threat of future harm was based on an “attenuated chain of possibilities[,]” and therefore, it was not an imminent injury under the first element of Article III standing.206 Further, the Fourth Circuit distinguished the data breaches at the Center from the data breaches experienced in Galaria and Remijas.207 In Galaria and Remijas, the data thief intentionally targeted the personal

198 Beck v. McDonald, 848 F.3d 262, 267 (4th Cir. 2017). 199 Id. at 266. 200 Id. 201 Id. at 267. 202 Id. (alteration in original). 203 Id. at 268. 204 Id. 205 Id. at 269 (alteration in original). 206 Id. 207 Id. at 273. continued . . . !, -  $'$"'0& .$'$  " $-/  information compromised in the data breach.208 In other words, the data thief hacked these two companies with the sole purpose of obtaining consumers’ sensitive personal information.209 In contrast, the plaintiffs in both of the Beck data breaches, provided no evidence that information contained on the misplaced or stolen laptop and boxes of pathology reports were accessed or misused by someone with an ill-motive, or that the plaintiffs suffered identity theft.210 The court stated: “‘[A]s the breaches fade further into the past,’ the Plaintiffs’ threatened injuries become more and more speculative.”211 The court determined that although the laptop and boxes containing pathology records were stolen, the plaintiffs must provide more evidence of an injury in order to obtain Article III standing. 212 In conclusion, the Fourth Circuit is not nearly as plaintiff friendly as the D.C., Sixth, Seventh, Eleventh Circuits, or even the Second Circuit, when it comes to granting Article III standing based on the increased risk of future harm.

D. Courts Should Find That Equifax Victims Meet All Three Elements Required to Establish Article III Standing

Although the circuit courts remain split in regards to whether the increased risk of identity theft is enough to constitute Article III standing, it is likely that if the Equifax victims bring a claim in the D.C., Sixth, Seventh, Eleventh, or even the Second Circuit, the victims will be successful in pleading an injury-in-fact that will satisfy Article III standing. First, the Equifax victims will have to prove that the information stolen in the breach creates a concrete and particularized injury that is actual or imminent, and not conjectural or hypothetical.213 In order to meet this requirement, victims will need to plead facts that describe in detail their incurred monetary losses, as well as the amount of time spent monitoring their financial well-being. The circuits have agreed that where a data breach targets personal information, a reasonable inference can be drawn that the hackers will use the victims’ data for fraudulent purposes.214 Thus, it would be

208 Id. at 274. 209 Id. 210 Id. 211 Id. at 275 (quoting Chambliss v. CareFirst, Inc., 189 F. Supp. 3d 564, 570 (D. Md. 2016)). 212 See id. at 266–67. 213 Galaria v. Nationwide Mut. Ins. Co., 663 F. App’x 384, 388 (6th Cir. 2016). 214 Attias v. CareFirst, Inc., 865 F.3d 620, 628–29 (D.C. Cir. 2017); Galaria, 663 F. App’x at 388; Remijas v. Neiman Marcus Grp., LLC, 794 F.3d 688, 693 (7th Cir. 2015); see Resnick v. AvMed, Inc., 693 F.3d 1317, 1330 (11th Cir. 2012) continued . . .

 #$%& '() +) ")*') ))  unreasonable for affected consumers to wait until after a thief misused their data to take steps to ensure their security.215 So, although it is not “literally certain” that the consumers personal information will be misused, “there is a sufficiently substantial risk of harm” for plaintiffs to incur reasonable costs in mitigating an imminent harm.216 These reasonable costs are considered to be a concrete injury.217 Like the victims in CareFirst, Galaria, and Resnick, whose personal information was stolen, the Equifax victims’ hypersensitive personal information like Social Security numbers were compromised. In Whalen, the Second Circuit seemed to suggest that if a victim’s Social Security number is stolen, the victim will have a greater chance of establishing a substantial risk of future harm.218 This is because, unlike a credit card number, a Social Security number cannot be cancelled or changed. Therefore, the identity theft victim has no choice but to spend the rest of their life closely monitoring their financials. As a result, it is likely that even if Equifax victims found themselves in the Second Circuit, they have a chance of success. Although Equifax offered a free year of credit monitoring and identity theft protection services to consumers, as well as waived the freeze fee until November 2017, Equifax victims will eventually be forced to incur costs for freezing and unfreezing their credit. They will also have to pay for the credit monitoring and identity theft protection services after their free year has expired. The threat of identity theft does not just disappear after a year. 219 Hackers can use sensitive personal information, such as a Social Security number, indefinitely.220 It is possible that Equifax victims may be fighting off identity theft and fraud for the rest of their lives. Thus, many victims will likely be able to plead that they have incurred reasonable costs in mitigating the future

(holding that a “sufficient nexus” between a data breach and fraudulent use of personal information constitutes a requisite injury); see also Whalen v. Michaels Stores, Inc., 689 F. App’x 89, 90–91 (2d Cir. 2017) (reasoning that there was insufficient injury, partly because the plaintiff had quickly canceled her credit card following a breach). 215 Galaria, 663 F. App’x at 388. 216 Id. 217 Id. at 389. 218 See generally Whalen, 689 F. App’x at 89 (stating that plaintiff failed to allege a threat of future fraud because her Social Security number was not stolen). 219 Maurie Backman, Will the Equifax Data Breach Impact Your Social Security Benefits?, USA TODAY (Sept. 15, 2017), https://www.usatoday.com/story/money/ personalfinance/2017/09/15/will-the-equifax-data-breach-impact-your-social- security-benefits/105616332/. 220 Seena Gressin, The Equifax Data Breach: What to Do, FED. TRADE COMM’N BLOG (Sept. 8, 2017), https://www.consumer.ftc.gov/blog/2017/09/equifax-data- breach-what-do?page=4. continued . . . !, -  $'$"'0& .$'$   " $-/  harm of identity theft and fraud. Therefore, Equifax victims should be able to satisfy the first element of injury-in-fact. Similar to the plaintiffs’ information in CareFirst, Galaria, Lewert, and Resnick, the Equifax victims’ information was intentionally stolen by hackers looking to breach the company’s computer system. This element of “intent” is what the Fourth Circuit used to distinguish the facts described in Beck because, in that instance, there was no evidence that the laptops or boxes of records were intentionally stolen with the purpose of stealing patients’ personal information.221 Because of this, the Fourth Circuit concluded that the injuries alleged by the plaintiffs were too speculative.222 However, the Equifax victims can distinguish their circumstances from those plaintiffs in Beck because the breach of Equifax’s computer system aligns more closely with the breaches described in CareFirst, Galaria, Lewert, Resnick, and Whalen, where the hackers intentionally breached the computer systems with the goal of acquiring customers’ personal information.223 The Equifax victims should have no problem establishing that their injury is fairly traceable to Equifax, the second element of Article III standing. Equifax already conceded that the data breach was caused by its failure to patch a technological flaw in their software, even after it was put on notice of the flaw.224 Equifax will likely argue that they cannot be held responsible because the hacker would be the most immediate cause of the victims’ injuries. However, the D.C. Circuit in CareFirst found that although the company’s failure to secure its customers’ sensitive data was one step removed in the causal chain, the injury was still “fairly traceable” to CareFirst.225 Thus, it is likely that courts could conclude that although the hackers are the immediate cause of the Equifax victims’ injuries, the Equifax victims’ increased risk of identity theft is fairly traceable to Equifax’s failure to adequately secure victims’ private information. Equifax victims should have no problem satisfying the third element of Article III standing. As long as the victims specifically identify the reasonable costs they have incurred in responding and attempting to mitigate the data breach, the court should find that they can be made

221 Beck v. McDonald, 848 F.3d 262, 267 (4th Cir. 2017). 222 Id. at 277–78. 223 See generally text accompanying supra notes 220–223 (explaining that the Equifax victims suffered from a breach of hypersensitive personal information similar to the victims in CareFirst, Galaria, and Resnick); see generally text accompanying supra note 228 (explaining that the Equifax victims suffered from an intentional breach by hackers similar to the breaches in CareFirst, Lewert, and Resnick). 224 Sweet & Liedtke, supra note 8. 225 Attias v. CareFirst, 865 F.3d 620, 629 (D.C. 2017). continued . . .

  #$%& '() +) ")*') ))  whole again by monetary damages; the victims’ injuries would be redressed by a favorable judicial decision. The Equifax victims are different than many of the plaintiffs in the aforementioned cases because they did not explicitly consent to Equifax collecting their personal information. In CareFirst, Galaria, Resnick, Whalen, Lewert, and Beck, the victims were direct customers of the companies from which their personal information was stolen.226 The victims of those breaches voluntarily offered up their personal information to that company when they purchased the company’s goods or services.227 However, this does not stand true for the entirety of the 147.9 million Equifax victims.228 Many of the victims were not direct customers of Equifax and were unaware of the information that Equifax had collected.229 This distinguishes the Equifax victims from any of the previously mentioned data breach cases’ victims and may be helpful in pleading their case. Ultimately, it appears that Equifax victims may have a very good chance of establishing standing. The facts of their case are extremely similar to, and even stronger than, any of the aforementioned cases. However, the lack of uniformity among circuits makes it difficult to predict the certainty of victims’ success. Victims that are able to show that their information was actually misused, and that fraudulent activity took place will likely be the most successful. Nonetheless, victims who have not yet experienced identity theft or fraud may still have a chance in holding Equifax accountable for its negligence in failing to safeguard their personal information.

IV.CONCLUSION Due to the fact that the circuit split remains unresolved and data breach litigation is steadily increasing, the Supreme Court needs to address the issue and determine whether an increased risk of future injury, such as identity theft and fraud, satisfies the injury-in-fact requirement of Article III standing. The uncertainty caused by the circuit split makes it unclear as to whether victims of data breaches will be successful in their suits. Additionally, the circuit split raises the cost of litigation for all and increases the potential risk of liability for

226 See Whalen v. Michaels Stores, Inc., 689 F. App’x 89, 90 (2d Cir. 2017); Beck v. McDonald, 848 F.3d 262, 267 (4th Cir. 2017); text accompanying supra notes 103–06, 135, 160–61, 179. 227 See generally text accompanying supra note 231 (implying that when a customer engages in a business transaction the customer gives consent to collect their information to the business they are engaged with). 228 Schneier, supra note 15; Clements, supra note 12. 229 Schneier, supra note 15. continued . . . !, -  $'$"'0& .$'$  " $-/  companies facing class action suits based on allegations of increased risk of identity theft after a data breach.230 If the Supreme Court were to finally hear a case involving a corporate data breach and the increased risk of identity theft, there are many things the Court should consider. Failing to determine that an increased risk of identity theft or fraud is an injury-in-fact suitable to establish standing, is a dangerous precedent to set for consumers, and provides large corporations, like Equifax, with little incentive to vigorously protect the sensitive information of consumers. In addition to the Supreme Court taking action to resolve the circuit split, legislators should fight for the American people and create laws that protect American’s sensitive personal information from the indifference and negligence of corporations. Moreover, legislators need to make it possible for consumers to have more control over their personal information. The Equifax breach illuminated the fact that many corporations possess the sensitive information of Americans sometimes without their consent and do very little to protect the information from malicious hackers or individuals with ill-motives.231 This lack of required consent makes it impossible for Americans to protect themselves against identity theft and fraud. In the wake of Equifax’s massive plunder, many politicians have come forth with solutions.232 For example, Senator Elizabeth Warren, proposed a bill that would give all Americans access to free credit freezing and unfreezing for life.233 Although this is a step in the right direction, it does nothing to hold corporations accountable for failing to take reasonable steps in safeguarding consumers’ personal information. Additionally, because of the digital age we live in, it is likely time the government creates an agency with the sole task of regulating, auditing, and fining corporations who fail to meet the agency’s imposed safety standards. If the government really wants to see a change in

230 McNicholas & Nye, supra note 95. 231 See generally Paresh Dave, Facebook Scandal Could Push Other Tech Companies to Tighten Data Sharing, REUTERS (Mar. 22, 2018), https://www.reuters.com/article/us-facebook-cambridge-analytica-apps/facebook- scandal-could-push-other-tech-companies-to-tighten-data-sharing- idUSKBN1GY0F5 (discussing how Facebook allowed Cambridge Analytica, a British election consulting firm, to access data on 50 million Facebook users and use the data to help the election campaign of President Donald Trump). 232 See, e.g., Freedom from Equifax Exploitation Act, S. 1816, 115th Cong. (2017); PROTECT Act of 2017, H.R. 4028, 115th Cong. (2017); Brian Eason, Colorado Lawmakers Look to Bolster Consumer Protections After Equifax Breach, DENVER POST (Jan. 22, 2018, 4:30 PM), https://www.denverpost.com/2018 /01/22/colorado-lawmakers-bolster-consumer-protections-after-equifax-breach/. 233 Adam Levin, Post Equifax: Will Free Credit Freezes Help?, USA TODAY (Sept. 27, 2017, 10:30 AM), https://www.usatoday.com/story/money/personal finance/2017/09/27/post-equifax-free-credit-freezes-help/701883001/.

 #$%& '() +) ")*') ))  corporations’ responses to cybersecurity, it should create laws and regulations that impose massive fines on corporations who fail to safeguard consumer information.