If you’re a manufacturer or supplier who does business in California, keep reading.

Effective January 1, 2012, the California Transparency in Supply Chains Act requires large manufacturers and suppliers who do business in California to add a link to their websites disclosing their efforts to eradicate slavery and human trafficking from their supply chains for all tangible goods offered for sale.

According to the California legislature, the Act is intended to “educate consumers on how to purchase goods produced by companies that responsibly manufacture their supply chains, and, thereby, to improve the lives of victims of slavery and human trafficking.”

Who is subject to the Act?

The Act, signed into law by Governor Schwarzenegger as Senate Bill 657 and enacted as Section 1714.43 of the California Civil Code and Section 19547.5 of the California Revenue and Taxation Code, applies to every retail seller or manufacturer that does business in California and has more than $100 million in worldwide gross annual receipts.

  • A company will be considered a retail seller or manufacturer if it reports its primary business activity as retail trade or manufacturing on its California Franchise Tax Board returns.
  • A company will be deemed to do business in California if it meets at least one of the following conditions from the California Revenue and Taxation Code:

    • It is organized or commercially domiciled in California.
    • Its sales in California for the applicable tax year exceed the lesser of $500,000 or 25 percent of the company’s total assets.
    • The value of the company’s real and tangible personal property in California exceeds the lesser of $50,000 or 25 percent of the company’s total real and personal property.
    • The amount paid by the company in California for compensation exceeds the lesser of $50,000 or 25 percent of the total compensation paid by the company.

  • A company’s worldwide gross annual receipts, for purposes of the Act, will be determined by the worldwide gross annual receipts disclosed on the entity’s filings with the California Franchise Tax Board.

What does the Act require?

Every company subject to the Act must issue a disclosure statement detailing its efforts to eradicate slavery and human trafficking from its supply chains for all tangible goods offered for sale. A “conspicuous and easily understood link” to the disclosure must appear on the home page of the company’s website. At a minimum, the disclosure statement must set forth the company’s efforts (if any) to do each of the following:

  • Engage in the verification of product supply chains to evaluate and address the risks of human trafficking and slavery. The disclosure must specify if the verification was not conducted by a third party.
  • Conduct audits of suppliers to evaluate supplier compliance with company standards for trafficking and slavery in supply chains. The disclosure must specify if the verification was not an independent, unannounced audit.
  • Require direct suppliers to certify that materials incorporated into the product comply with the laws regarding slavery and human trafficking of the country or countries in which the suppliers are doing business.
  • Maintain internal accountability standards and procedures for employees or contractors that fail to meet company standards regarding slavery or trafficking.
  • Provide training on human trafficking and slavery, particularly with respect to mitigating risks within the supply chains of products, to company employees and management personnel who have direct responsibility for supply chain management.

If a company does not have a website, it must provide all of the above information within 30 days after receiving a written request from a consumer. The sole remedy for any violation of the Act’s disclosure requirement is an action for injunctive relief brought by the California Attorney General.

What are other companies doing to comply with the Act?

Disclosure statements vary widely. Some companies issue short, simple statements that contain only the required information. Other companies incorporate the disclosure statement into existing reports concerning corporate social responsibility or use the disclosure statement to promote their efforts to manage their supply chains in an ethical, legal and socially responsible manner.

Corinne Sprague practices corporate law at the Michigan law firm of Warner Norcross & Judd LLP. She can be reached at csprague@wnj.com or (616) 752-2756.

Published in Detroit
Friday, 16 December 2011 12:56

The importance of design patents

The law provides many different ways to obtain legal protection for intellectual property, including patents, trademarks and copyrights. The most common mechanism for protecting an invention is a patent. Although most people are generally familiar with patents, many do not understand that there are three different types of patents available under U.S. law — utility patents, design patents and plant patents. Understanding when to use each of these options is an important part of developing a cost-effective intellectual property strategy.

Design patents — granted on the ornamental design of an item such as a chair, shoe, packaging or piece of jewelry — are underutilized. There are many industries where design patent protection is an ideal way to protect your intellectual property. The design of a product is often what you really want to protect because it’s what people see; it’s what draws them to your product.

Design patents can prevent your competitors from using your designs. In addition, they can trigger significant settlement payments for the owner of the design and successfully prevent future knock-offs.

It is often a good strategy to focus a design patent application on the unique features of a product. If a chair has a unique arm rest, for example, or the sole of a shoe curves in an unusual way, it may make sense to file a design application on just that feature. A design patent directed only to that feature will often provide better protection because infringement can be found without considering similarity in the rest of the product.

I often advise my clients to file separate patent applications for different aspects of a product. In some cases, a product may embody a variety of unique aspects that could be separately used by a competitor. For example, in the footwear industry, it is not uncommon for one company to copy either the sole or the upper of a shoe. Separate design applications directed to the upper and the sole improve your chances of stopping a competitor that has duplicated one, but not the other.

In addition, filing a design patent application costs about one-quarter the price of filing a utility patent application. The cost of prosecuting design patent applications also is typically lower than for utility patent applications. The Patent Office usually takes less time to pick up a design application for review. Design patent applications are typically not rejected if you know what you are doing.

As a result, design patents are granted much more quickly than utility patents — often in about nine to 18 months, as opposed to an average of two-and-one-half to three years for utility patents in some technology areas. And they can remain in your portfolio for 14 years without additional cost because you don’t have to pay regular maintenance fees.

Design patents can be very effective in infringement litigation. When a competitor directly copies a product, it is easy for a jury to compare the images and find infringement. It does not require a deep knowledge of technical issues. Utility patents, on the other hand, often involve complicated technology, which can be difficult for a jury to comprehend.

It is common for a party accused of infringement to challenge the validity of a patent. Often this is done by attempting to prove that someone else developed the invention before the patent owner. Given the amount of arbitrary detail that is included in many design patents, it is often difficult to prove that a patented design was previously developed by someone else. The percentage of design patents that are invalidated is extremely low.

William P. Dani, an intellectual property attorney with the Michigan law firm of Warner Norcross & Judd LLP, has filed hundreds of design patents for his clients in the footwear, packaging and furniture industries.

Published in Detroit

There are as many different types of employee handbooks as there are different types of employers. Some run 70 or 80 pages and have a rule for everything. And then there are the bare-bones handbooks that only contain a few company policies. There is no right or wrong way to write an employee handbook. In fact, there is no law that requires you to have one at all. Still, I think every employer should write one. It is just a good idea and might even help you if you get into legal trouble.

Below, I’ve condensed a series of blog postings on writing an employee handbook. I got the idea of blogging on the topic after a client suggested the best way to put together an employee handbook is to write it as if you were writing it for your own company. My company? I never actually thought about writing a handbook that way. Until now.

Let’s call my fictitious company Zo’s. And because I’m a lawyer, let’s assume it is a service company rather than a manufacturing company. So, let’s write a handbook.

INTRODUCTION

The first thing I’ll include is an introduction, which sets the tone for the company. It may be light, like mine is going to be, or more formal if that is your corporate culture. It also gives us a chance right up-front to introduce the at-will concept. That is, you want to be able to let employees go for any reason or for no reason and with or without notice. And you want to tell them this in a non-threatening way. Not that you will ever fire someone without a reason, but why give away your right to do so?

WORK RULES

Page two of my handbook is going to contain “The Rules.” Here are the rules we expect you to live by here at Zo’s:

Rule 1: Be professional.

Rule 2: When doing your job or anything else at work, see Rule 1.

That’s it. Two rules that we expect you to follow whenever you are representing the company, dealing with a client or with each other, or just doing your job. By “be professional” we mean use that good judgment we know you have, always be honest, reliable and committed to doing your best. Be a team player and take personal responsibility for your actions.

These two simple rules cover everything you do at work. Thinking of starting a romantic relationship with a coworker? See Rule 1 and think again. Thinking of harassing someone? Is that really professional? See Rule 1. Want to exaggerate the performance of the company’s products in an Internet chat room? Rule 1 again.

For the record, I borrowed these rules from the Tribune Company handbook way back in the Spring of 2008. You can see the article here. I defy you to find a situation that Rule 1 and Rule 2 won’t cover.

EEO POLICY

Page three is our Equal Employment Opportunity (EEO) policy. You need to have a policy like this to provide at least some protection if you have a charge of discrimination filed against you. So this particular policy is going to read a bit more like it was written by a lawyer. Mine reads like this:

"It is the policy of Zo’s that no employee or applicant for employment, will be discriminated against based upon age, race, color, creed, religion, sex, sexual orientation, national origin, disability, veteran status or other protected class or characteristic established under applicable federal, state or local statute or ordinance.

Zo’s will not condone, permit or tolerate discrimination as described above. Persons who engage in such discrimination will be subject to appropriate discipline up to and including termination of employment.

If you feel you have been subjected to discrimination, or have witnessed any discrimination, please report it immediately to your supervisor, HR or straight to Zo. Any complaint of alleged discrimination will be carefully investigated. Should there be any violation of this policy, appropriate actions will be taken to correct the matter. Zo’s will not tolerate retaliation against anyone who in good faith lodges a complaint under this policy."

Here are a couple of additional things you should know. First, sexual orientation, which is included in the list of things we won’t discriminate against, is not a protected category under Michigan or federal law. But we include it anyway at Zo’s because we think it is the right thing to do. Second, you don’t need to allow people to report directly to the owner of the company, but you do need to give employees at least a couple of options.

ANTI-HARASSMENT POLICY

While there is no statute that specifically requires you to have an anti-harassment policy, the U.S. Supreme Court says that if you want to take advantage of a certain defense to a sexual harassment charge, you have to have a policy. And when the Supreme Court says it thinks it is a good idea that you have a policy, we lawyers tend to agree.

One more thing to keep in mind is the title. I like something like “Policy Against Harassment.” Do not call it a “Harassment Policy.”  The former makes if clear you won’t condone harassment, the latter makes it sound like you allow harassment as long as you do it by the rules.

It is also a good idea to make sure employees know you won’t tolerate harassment based on any protected category, not just sex or gender. The kind of harassment we are talking about in this policy is harassment based on one of the protected categories. What about a boss who continually and forcefully reminds employees to do their jobs? That doesn’t count as harassment.

TECHNOLOGY POLICY

At Zo’s, everyone  has a computer, e-mail account and unlimited access to the Internet. And that, as you know, can cause some problems. We need a computer use policy. And at Zo’s, “computer use” includes how you use your e-mail account, the Internet and social media. So our computer use policy is going to say  that Zo’s can monitor use of company-provided computers and computer systems, including e-mail.

In addition, my policy will contain a reference to Section 7 of the National Labor Relations Act — even though Zo’s is a non-union employer. Basically,  the National Labor Relations Board says a social medial policy that broadly prohibits employees from doing things like making disparaging remarks about the company is a violation of Section 8(a)(1) of the NLRA. And that is true if you are a union employer or not.

SOCIAL SECURITY PRIVACY

At Zo’s we also have a Social Security number privacy policy because Michigan has a SSN privacy policy law. So here is what it says:

"Zo’s understands the importance of protecting the confidentiality of its employees’ Social Security numbers and those collected in the ordinary course of Zo’s business. Neither Zo’s nor any of its employees will unlawfully disclose Social Security numbers obtained during the ordinary course of business. Zo’s will limit access to information or documents containing Social Security numbers to those employees who need the information to do their jobs.

In addition, Zo’s will shield Social Security numbers displayed on computer monitors or printed documents from being easily viewed by others. Unless required to do so, Zo’s will not use Social Security numbers as personal identifiers, permit numbers, license numbers, primary account numbers or other similar uses

Zo’s may use a Social Security number to perform an administrative duty related to employment, including, for example, to verify the identity of an individual; to detect or prevent identity theft; to investigate claims; to perform a credit check, criminal background check or driving history check; to enforce legal rights; or to administer benefits programs.

All provisions of this policy are subject to the language of the Social Security Number Privacy Act of the State of Michigan."

MISC. POLICIES

I also would include a policy on solicitation and distribution of literature. We could argue about this one way or another, but I think it is a good idea to say that we want to keep these sort of non-work disruptions to a minimum. If you want to sell Girl Scout cookies for your daughter, do it on your breaks and make sure the people you are pestering are on break, too.

And that is it for my small company. Zo’s isn’t big enough for a Family Medical Leave Act policy, but your company may be. How about leaves of absence? We will deal with them as they come along. Other types of policies that larger companies might want to consider deal with time off, personal relationships, attendance policies, drug testing and holiday pay.

If you employ hundreds of people, you also might want to consider a workplace violence policy. But if you need to tell people they can’t hit or threaten co-workers or bring a weapon to work, you might want to rethink your hiring practices.

I think we can always fall back on Rule 1: Be Professional.

Steven A. Palazzolo is a labor lawyer with the Michigan law firm of Warner Norcross & Judd LLP. Reach him at spalazzolo@wnj.com or (616) 752-2191. Read Steve’s blog at http://zomichiganemploymentlaw.wnj.com.

Published in Detroit

The ramifications of the America Invents Act, the patent reform legislation that President Obama recently signed, are open to great debate.

House Judiciary Chairman Lamar Smith said it is “one of the most significant job creation bills enacted by Congress this year;” and Jim Greenwood, President and CEO of the Biotechnology Industry Organization, said the Act “will benefit all sectors of the national economy by enhancing patent quality and the efficiency, objectivity, predictability and transparency of the U.S. patent system.”

In contrast, Senator Maria Cantwell described the Act as a “big corporation patent giveaway that tramples on the rights of small inventors.” Similarly, the advocacy group American Innovators for Patent Reform (AIPR) said the Act would “stifle innovation in the U.S.” and that it was “bought and paid for by large corporations which see being forced to pay royalties for technology invented by others as an unfair business practice.”

So who is right? Or, more importantly, what does the Act mean for you and your business?

While the Act makes many changes to the current patent system, one of the most significant is the change from a first-to-invent patent system to a first-to-file patent system, which means speed in patent filings will now be of utmost importance.

Under the current system - which is now in the process of being replaced by the Act - whoever invents an idea first is entitled to a patent, regardless of whether or not they are the first person to file a patent application for the idea.

So if one of your employees thinks of a great idea today but your firm’s patent committee doesn’t give the green light for filing a patent application until January of 2012, you have little to worry about if your competitor happens to think of the same idea in late October of this year and files a patent application one month later.

But that is all going to change. Under the America Invents Act, the rewards of patent ownership will be decided not on the question of who thinks of an idea first, but rather who races to the Patent Office first.

The new patent rules are akin to the 19th Century timber industry’s race to file land claims. In the mid to late 1800s, the Michigan timber industry employed land-lookers to locate choice acres of white pine and other valuable timber and then file claims at the nearest land office. Occasionally, two land-lookers from competing companies would locate the same desired acres at roughly the same time. At that point, the race to the nearest land office would be on, which in some cases was more than a hundred miles away. The party who became legally entitled to the valuable timberland was the party who arrived at the land office first.

Under the America Invents Act, we now have a similar 19th Century style legal regime in which the fleet-footed, not necessarily the fleet-minded, are granted the legal rewards of exclusive ownership.

Being the first to think of an idea will now be the legal equivalent of our timber-seeking ancestors who were the first to discover valuable timber — it just gives you bragging rights, not legal rights.  If you want legal protection, you need to win the race to the government agency.  Luckily, that race no longer involves the physical challenge of hiking hundreds of miles through undeveloped lands and over unbridged rivers to a land office; it now merely involves filing the appropriate paperwork at the Patent Office.

Of course, filing that paperwork in a timely manner takes money and resources, and the question that business owners and managers now need to ask is whether their current patent protection strategy is suitably fast for the new patent laws.

If you currently have quarterly meetings to decide on what patent protection to pursue, are you pursing patent protection fast enough?  Are you willing to risk losing out on the race to the patent office because it took two months for your employee to fill out the company’s internal invention disclosure form, three more months for the company’s patent committee to approve filing a patent application for the idea, and yet another two months for the company’s patent law firm to write and file the patent application?

Maybe this seven-month delay in filing will be acceptable to you.  But maybe not.  Near-simultaneous invention is not as uncommon as it might seem. Currently, the U.S. Patent Office declares a new patent interference — a proceeding to determine who has priority when two people seek patent protection for the same invention — about once every week.

While that number may be small compared to the nearly 10,000 patent applications the Patent Office receives on average each week, one needs to keep in mind that this underestimates the likelihood of a competitor preventing you from getting a patent due to your delay in filing.  This is because patent interferences only deal with two people patenting the same invention.  It does not deal with the question of obviousness.

The two main criteria for obtaining a patent are that the invention must be both new and nonobvious with respect to the prior art. Under the new America Invents Act, a competitor’s earlier patent application can thwart your own later-filed patent application even if it is not for the same exact invention.  If it is merely similar enough so that it renders your idea obvious, then you’ll still be blocked from getting a patent.

Ultimately, the best strategy for a company today is to re-evaluate its patent procurement process and determine the correct balance between the risks of losing patent rights and the costs of expediting the filing of patent applications.

In 1854, a famous race to the Land Office in Ionia took place between a land-looker named David Ward and another named Addison Brewer. The land was located near the headwaters of the Manistee and Au Sable rivers. After properly surveying the land, Ward hiked 80 miles to the Tobacco River, canoed another 80 miles  to Saginaw, and then rode a train and horses to Detroit, where he picked up the money to purchase the land.  After that, he took an 18-hour stage coach ride to the land office in Ionia. In the end, his race to Ionia took over a week, but he ended up beating his rival to the land office by only three or four hours.

In today’s world, where patent applications are filed electronically and time stamped to the nearest second, it is conceivable that a race to the Patent Office might be won by mere seconds. It won’t involve sleepless nights spent hiking and canoeing, but it may take motivated inventors, speedy corporate decisions and late nights for your company’s patent attorneys.  Are your patent procurement logistics up for such challenges?

Matt Goska is an attorney with the Michigan law firm of Warner Norcross & Judd. He  specializes in U.S. and foreign patent prosecution, patent evaluation and portfolio management.

Published in Detroit

The challenging economic climate in Michigan and throughout the United States is forcing businesses to make many important and often difficult decisions. Examples are numerous: Should we sell the company? Should we incur debt to get us through? Should we raise additional capital? Should we liquidate?

In addition, whistle-blower rules spawned by the Sarbanes-Oxley Act of 2002 and, more recently, the Dodd-Frank Wall Street Reform and Consumer Protection Act make it increasingly likely that companies will have to investigate claims of financial or other wrongdoing involving management to determine whether the claims have merit. The board of directors of a corporation is typically responsible for making these important decisions.

Decisions on such matters are often fraught with conflicts of interests. The CEO and board member may be accused of participating in a scheme to inflate earnings. A significant shareholder who has a representative on the board may be pushing to sell the company. A director may be employed by a shareholder offering to lend money to or invest in the business. And, because these decisions are often controversial (and may involve potentially significant amounts of money), they are fertile ground for lawsuits against a company and its board members. However, if the board of directors properly structures the decision-making process using a special committee of independent directors, it can reduce both the risk of being sued at all and the risk of a bad outcome if a lawsuit is filed.

While the board of directors is generally responsible for making significant decisions concerning the management of the business and affairs of a corporation, boards generally can delegate their decision-making authority on most matters to committees. The board can determine the specific individuals who will serve on a committee, the specific powers of the committee, and the spending authority of the committee. This gives a board a powerful tool early in the decision-making process to establish a group uniquely qualified to address the particular situation the board is confronting.

The need for a special committee

A special committee of independent directors is designed to avoid allegations that the directors breached their fiduciary duties to the corporation and its shareholders. Under general corporate law, directors of a corporation have two primary fiduciary duties: a duty of loyalty and a duty of care. If directors fulfill their fiduciary duties of loyalty and care, decisions that they make are given deference by the courts and will not be overturned or result in liability for damages to the directors even if the decisions turn out to have been unwise or result in adverse consequences. This is generally referred to as the “business judgment rule.” A corollary of the business judgment rule is that corporate laws generally create a presumption in favor of directors that they have satisfied their fiduciary duties if a business decision is challenged. Therefore, a shareholder challenging a board decision must overcome that presumption by alleging facts that would show that the directors breached their duties of loyalty or care.

The duty of loyalty prohibits self-dealing by directors. It requires that directors make decisions based on what is in the best interests of the corporation and its shareholders, without regard to any other external considerations. The law generally focuses on two important concepts: directors must be both disinterested and independent.

A director will be considered disinterested if he or she will not gain any financial benefit from a transaction that would not otherwise be received by all shareholders of the corporation. A disinterested director cannot be involved on both sides of a transaction. And, a disinterested director cannot be accused of or involved in the conduct or actions subject to a complaint. Therefore, a director who is buying assets from or loaning money to the corporation would not be considered disinterested. Likewise, if the director owns or is a significant shareholder in a company that is buying assets from or loaning money to a corporation, he or she would not be considered disinterested. An interest in a transaction may be indirect. A CEO who will receive a promotion, pay increase or a nice severance package if the company is sold may be considered to have an interest in a sale transaction. A director who will be retained as a consultant for the buyer may be considered to have an interest in the sale of a corporation.

The concept of financial benefit includes the avoidance of loss. If a director is a significant owner in a company that has a material ongoing business relationship with the corporation that would end if the corporation were sold, the director likely would not be disinterested in a decision concerning the sale of the company.

Independence is slightly different and involves a consideration of the totality of the circumstances. A person can be disinterested but not independent. Independence tends to focus more on relationships and other external factors that could influence a director’s decision making. Familial and business relationships can cause a director to not be considered independent. For example, a director may have no personal interest whatsoever in a transaction, but if the director’s brother or sister was a participant in the transaction, that director likely would not be considered independent. Interlocking board positions where a director’s compensation might be influenced by someone involved in a transaction with the corporation can also destroy independence. A founding member and controlling shareholder of a corporation who is also the chair of the board may be so dominant that it destroys the independence of other directors. Corporations cannot assume that a director will be considered independent for fiduciary duty purposes if the director satisfies the independence requirements of the Nasdaq Stock Market or New York Stock Exchange. State laws differ in their approach to independence for fiduciary duty purposes.

To avoid risk, a board can create a special committee of independent directors, each of whom are both disinterested and independent. The earlier in the process the board establishes the committee, the less likely that any potential conflicts will affect the decision-making process. To appoint a solid committee, directors must commit to cooperation, honesty and full disclosure. The lines for determining whether a person is disinterested and independent are often fuzzy, and the lines can change over the course of an investigation or negotiation. Committee members should not take offense if they are asked to step down from the committee if facts or circumstances come to light that would suggest they may no longer be considered disinterested or independent. Creation of a special committee of independent directors to handle a matter is designed to insulate all of the directors — not just those who serve on the committee — from liability for business decisions.

The need for independent advisors

The duty of care obligates directors to inform themselves with all reasonably available information before making a decision. Directors must use reasonable diligence both in gathering and considering the relevant information. Directors also must act in good faith and in a manner they reasonably believe to be in the best interests of the corporation.

Directors generally may rely on experts and other advisors when making a decision. A director may rely in good faith upon information presented by anyone as to matters the director reasonably believes are within such other person’s professional or expert competence and who has been selected with reasonable care on behalf of the corporation. Directors often rely upon auditors with respect to compliance with accounting rules, lawyers with respect to compliance with laws and regulations, and investment advisors with respect to the market terms and fairness of transactions. It is therefore important that directors actively consider who they are using as advisors and whether it is reasonable to rely upon those advisors.

Certain relationships may taint the independence of advisors and cause conflicts of interests. If a court determines that a conflict of interest should have been obvious or considered by the directors, it may determine that the directors did not satisfy their duty in relying on the advisor. For example, directors may rely on in-house counsel with regard to matters involving compliance with laws. However, a court may not consider it reasonable for directors to rely on in-house counsel while investigating an alleged violation of law where in-house counsel was involved in the actions alleged to have violated the law. Similarly, directors should consider whether an advisor has a close relationship with management before relying upon that advisor in connection with an investigation of management conduct or decisions.

By empowering a special committee of independent directors to engage its own advisors, the board can ensure that the committee can review the relationships each advisor may have with the corporation. This can help eliminate potential conflicts of interests that a court may find to be problematic and constitute a breach of the directors’ fiduciary duties. Moreover, hiring independent advisors may also be beneficial by giving a fresh set of eyes the opportunity to review and analyze the issue.

Not every decision, or even most decisions, that a board confronts would justify consideration of creating a special committee of independent directors. Special committees are often appropriate when facing major decisions concerning the direction or finances of a corporation, or when conflicts of interests involving directors are clear or possible.  Common sense and intuition are good indicators of when a board should consider forming a special committee — if you immediately pause because of the magnitude of or relationships involved in a matter, then it is probably worth considering whether to form a special committee of independent directors.

Jeffrey A. Ott is a partner at Warner Norcross & Judd LLP. He concentrates his practice in corporate and securities law, regularly advising publicly traded and privately held companies. He also focuses on mergers and acquisitions and related business transactions. He can be reached at jott@wnj.com or (616) 752-2170.

Published in Detroit

When most people think of criminal defendants, they envision a person who has intentionally broken the law. What many people don’t know, however, is that corporate officers can be subject to individual criminal prosecution in instances where they knew, or should have known, about criminal activity in the company.

Under the responsible corporate officer (RCO) doctrine, individual corporate officers can be found guilty of violating a variety of federal laws, such as the Federal Food, Drug and Cosmetic Act (FDCA), without exhibiting any unlawful intent, negligence, knowledge of the violation or direct participation in the wrongdoing. Instead, under the RCO doctrine, the government only needs to prove that the executive did these three things:

  • Held a position of responsibility and authority in the corporation
  • Had the ability to prevent the violation
  • Failed to prevent the violation.

Sticking one’s head in the sand has never been so dangerous.

History of the RCO doctrine

The RCO doctrine originated in United States v. Dotterweich. Joseph Dotterweich was the president and general manager of a pharmaceutical corporation. Both he and the corporation were charged with purchasing drugs, repackaging them and shipping them in an adulterated and misbranded form, in violation of the FDCA.

Because a corporation can act only through its agents, the Supreme Court concluded in 1943 that Congress could not have intended corporations to be the only “persons” subject to prosecution under the FDCA. Rather, the Court held that all individuals who have “a responsible share in the furtherance of the transaction which the state outlaws” may be subject to liability.

Dotterweich was found guilty, despite the fact that he had no knowledge of the criminal activity and was not directly involved in the illegal scheme. Indeed, Dotterweich was convicted based solely on the fact that he had “share[d] responsibility in the business process [that resulted] in unlawful distribution” and in his position had a “responsible relation to a public danger,” the Court said.

The RCO doctrine was powerfully reaffirmed 30 years later in United States v. Park. In that case, the Government charged corporate president John Park with FDCA violations related to unsanitary conditions and rodent infestation at a food-storage warehouse. Park had delegated “normal operating duties” to “dependable subordinates,” but had retained broad supervisory powers.

The Court held that an individual corporate officer may be found guilty of the criminal act if he had the power to prevent the act, had he known about the activity. Despite the fact that Park was not personally involved in causing the unsanitary conditions, he was found guilty because he had a “responsible relation” to the situation and therefore had the power to prevent or correct the violation. Reaffirming Dotterweich, the Court held that the class of employees with such authority was indefinable, and whether an employee had such authority must be determined on a case-by-case basis.

Collateral consequences of criminal conviction

Penalties for an officer convicted under the RCO doctrine are severe. In addition to possible imprisonment, criminal fines and restitution, there may be significant collateral consequences.

In particular, individuals who are convicted of health-related crimes may be excluded from participating in any federal health-care programs. Not only is the individual himself excluded, but any entity employing him as an officer, director, agent or managing employee is also subject to the exclusion. If the individual works at a hospital that accepts Medicaid or Medicare funds, the hospital would be banned from receiving these funds as long as it employs the executive.

In Friedman v. Sebelius, three senior executives were convicted under the RCO doctrine of misbranding a drug with intent to defraud.. The court held that it was proper to exclude those executives, and any hospitals or entities that currently employed them, from participation in all federal health-care programs for a period of 12 years. This renders the executive unemployable, as few health-care programs would be able or willing to forgo federal funding.

Current enforcement policies

All indications are that the Government is seeking to expand the use of the RCO doctrine in the realm of health-care criminal prosecution. The FDA commissioner has expressed the agency’s desire to “increase the appropriate use of misdemeanor prosecutions… to hold corporate officers responsible.” Similarly, the Assistant Attorney General has confirmed a “renewed focus on individual wrongdoers” and a desire to “pursue individuals responsible for illegal conduct just as vigorously as we do companies.”

The commissioner’s statements are consistent with new guidelines issued by the FDA in January 2011. They indicate that the RCO doctrine is a valuable enforcement tool, permitting a responsible corporate officer to “be held liable for a first-time misdemeanor (and possible subsequent felony) under the [FDCA] without proof that the corporate official acted with intent or even negligence, and even if such corporate official did not have any actual knowledge of, or participation in, the specific offense.”

Conclusion

The threat of criminal liability for corporate officers is real and the penalties for executives found guilty are severe. Given the Government’s stepped-up efforts, corporate officers are likely to face increasing risk of liability, not only for their actions, but also for what they don’t know.  Now, more than ever, executives must be certain that their companies have a strong compliance plan and a culture that implements it. Any suspicious employee action or questionable practice should be investigated immediately, with the assistance of outside counsel. What you don’t know can, in fact, hurt you.

Sarah Riley Howard is the Chair of the White Collar Criminal Defense practice group at Warner Norcross & Judd LLP, which represents clients in a range of matters involving corporate legal compliance, federal litigation counseling and criminal defense.

Madelaine C. Lane is a Member of the White Collar Criminal Defense practice group at Warner Norcross & Judd LLP, has extensive defense experience, and is a member of the Western District's Criminal Justice Act panel.

Law student and Warner summer associate Emily Bakeman also assisted with this article.

Published in Detroit

The Department of Labor is in the process of adding hundreds of investigators to its staff. And since DOL investigators are responsible for enforcement of fiduciary, reporting and disclosure requirements for employee benefit plans, you had better be following the letter of the law. In 2010, the DOL conducted 3,112 civil investigations, almost 75 percent of which resulted in findings of one or more violations.

Smart Business spoke with Jennifer A. Watkins, an employee benefits attorney in the Southfield office of Warner Norcross & Judd LLP, and she offered six ways to avoid a visit from your friendly local DOL investigator.

1. Deposit participant contributions as soon as possible.

This issue is one of the DOL’s top enforcement initiatives.

DOL regulations require that participant contributions, including loan repayments, be deposited to the plan’s trust on the earliest date the contributions can reasonably be segregated from the employer’s general assets. The DOL’s position is that the “earliest date” is determined on a case?by?case basis. Because most companies have the ability to transfer funds electronically, the “earliest date” is often within a few days of pay dates, and sometimes even the same day. It is not acceptable to rely on the maximum time permitted under the regulations, which is the 15th business day of the following month.

The Form 5500 Annual Report asks whether the employer failed to transmit any participant contributions within the period described in the regulations. This question must be answered, “yes” if there have been late deposits — even if the employer has corrected the violations. If there have been late deposits, very often the DOL will send the employer a follow?up letter requesting confirmation that the employer took appropriate corrective actions. Our experience has been that a DOL investigation will sometimes follow, even if the employer has already corrected the violations and responds to the follow?up accordingly.

The Form 5500 is signed under penalty of perjury and plan administrators must always complete it truthfully. If a late deposit has been discovered, it should be corrected and reported on the Form 5500 as required. The only way to avoid inquiries from the DOL is to avoid making late deposits in the first place. Deposits should be made as soon as possible after each pay date on a consistent schedule.

2. Make sure your plan has a proper fidelity bond.

Another of the DOL’s hot-button issues is inadequate bonding of plan fiduciaries and individuals who handle plan funds. A company often has a fiduciary policy or a policy protecting directors and officers, but not a true ERISA bond protecting the plan. Generally, the amount of the ERISA bond should be at least 10 percent of the amount of funds handled, but in no event less than $1,000 or more than $500,000 for each plan covered.

The Form 5500 asks whether the plan is covered by a fidelity bond and for what amount. Answering this question “no” would obviously tip off the DOL to an issue, as would a bond below the required level.

Plan sponsors should know what level of coverage the plan has and answer the question accordingly. If the bond is inadequate, the plan administrator should seek to increase it immediately.

3. Promptly respond to participants’ inquiries or requests for information.

Certain plan documents must be made available for examination by any participant or beneficiary. These include the latest summary plan description, latest Form 5500, any applicable collective bargaining agreements, the trust agreement and plan document. If a participant or beneficiary submits a written request for these documents, the plan administrator must provide them within 30 days of the request. If a plan administrator does not, it may be liable for a penalty of up to $110 per day.

The participant or beneficiary may complain to the DOL if the plan administrator does not comply with information requests. These complaints often trigger an inquiry from the DOL, and depending on the response, the DOL may investigate the plan. A large number of investigations are based on participant complaints.

The best practice is to keep plan records updated and organized and respond to participant or beneficiary inquiries as soon as possible.

4. Distribute regular, accurate participant statements.

Plans must distribute regular benefit statements to participants and beneficiaries. For defined contribution plans, statements generally must be distributed once each calendar quarter if the plan allows participant investment direction and once each calendar year if the plan does not allow investment direction. For defined benefit plans, statements generally must be distributed at least once every three years. Finally, participants and beneficiaries may also request statements once during any 12?month period.

Just like with routine plan documents, participants may complain to the DOL if they have trouble obtaining accurate statements. Statements should be accurate, easy to understand, and distributed in a timely fashion.

5. Ensure that fees are reasonable and do not pay expenses with plan assets.

The Form 5500 requires large plans to disclose service provider fees charged to the plan. Excessive plan fees have become another top investigative issue for the DOL, and investigators are likely to carefully review Schedule C to identify potential red flags. Also, while many administrative expenses may be paid from plan assets, some may not. You may need help determining whether fees are reasonable and sorting out what expenses may be paid with plan assets.

6. Respond promptly to DOL letters requesting information.

No explanation is necessary for this one. Ignoring the DOL’s inquiries will do the opposite of making them go away, so please don’t try it.

Form 5500 filings are a common source for investigators to select plans for investigation. Red flags include plans with a large percentage of assets in real estate, limited partnerships or the like, noncash contributions, loan defaults, low diversification ratios, unreasonably low rates of return, an adverse accountant’s opinion and notes or disclaimers on the financial schedules. Remember, the Form 5500 is signed under penalty of perjury. If you are concerned that any of these red flags may apply to your plan, we can help you fix them, but you must answer the Form 5500 truthfully.

In addition to the above triggers, the DOL will also target a plan for investigation based on other factors, such as bankruptcy filings or media reports that a company is in financial trouble. Too often, plans sponsored by employers experiencing severe financial difficulty are vulnerable to inappropriate behaviors by the employer, such as delaying deposits of participant contributions to the plan, loans to the company or other misbehaviors. Sometimes, investigators target specific industries or simply choose plans at random.

Jennifer A. Watkins is an employee benefits attorney in the Southfield office of Warner Norcross & Judd LLP. Reach her at jwatkins@wnj.com or (248) 784-5192.

Published in Detroit

The way in which Michigan taxes pensions and other retirement income will change significantly beginning next year. A new withholding requirement also affects payors of that income.

Retirement Income Exemption is Limited

The new rules phase out the Michigan income tax exemption for pension and retirement income, depending on birth date and total income level. The rules are tied to the birth date of the older spouse when a joint return is filed, regardless of which spouse receives the pension and retirement income. Here are the highlights:

Taxpayers born before 1946:

The tax treatment of retirement or pension income generally do not change. Government, military, and railroad pensions, as well as Social Security benefits, are completely exempt from taxation. A portion of pension and retirement income from non-governmental plans continues to be exempt from tax (up to $45,120 for single filers or $90,240 for joint filers in tax year 2010, and adjusted for inflation). This latter exemption is reduced by the amount of any governmental, military, or railroad pension benefits.

Taxpayers born in the years 1946-1952:

The current exemptions for Social Security income and military and railroad pensions remain in place.

Until the taxpayer reaches age 67, the exemption for all other pension and retirement income, including governmental retirement income, is reduced to $20,000 for a single return or $40,000 for a joint return. After the taxpayer reaches age 67, the exemption amount applies to all other income, including non-retirement income.

Regardless of the taxpayer's age, the $20,000/$40,000 exemption is unavailable if total household resources exceed $75,000 for a single return, or $150,000 for a joint return, or if a taxpayer claims the deduction for a military pension or railroad pension. The taxpayer may still use the standard personal exemption, regardless of age.

Taxpayers born after 1952:

All exemptions for any type of pension or retirement income other than Social Security income and military and railroad pensions are not available until the taxpayer reaches the age of 67. Then, the taxpayer may choose between an exemption ($20,000 for a single return or $40,000 for a joint return) against all types of income, including Social Security, retirement and non-retirement income or a deduction of 100% of Social Security income plus the standard personal exemption.

The $20,000/$40,000 exemption is unavailable if total household resources exceed $75,000 for a single return or $150,000 for a joint return, or if a taxpayer claims the deduction for a military or railroad pension.

New Withholding Tax Requirements

The new law requires any person who disburses pension or other retirement payments to withhold income tax. The withholding is at the Michigan individual income tax rate, which will be 4.35% next year. Withholding is not required on any part of the payment that "is not expected to be includable" in the recipient’s gross income.

Because the exempt amount of pension or other retirement payments depends on household resources, the birth date of the older spouse and other factors, determining what part "is not expected to be includable" would be very difficult. It is not yet clear what steps will need to be taken by those who disburse pension or other retirement payments to ascertain this amount. We are hoping for prompt guidance from the Michigan Department of Treasury on this issue.

In the meantime, if you have questions about the changes in the tax law, please contact Jay Kennedy (jkennedy@wnj.com or 248.784.5180), Mary Jo Larson (mlarson@wnj.com or 248.784.5183) or any other member of the Tax or Employee Benefits groups at Warner Norcross & Judd LLP.

Published in Detroit

You may think that you’re out of luck if you failed to appeal your company’s 2011 real property tax valuation to the Board of Review in March.

Not necessarily so. If the real estate in question is classified as “commercial,” “industrial” or “developmental” (look at the top of your 2011 Notice of Assessment for the classification), you can skip the Board of Review and appeal directly to the State Tax Tribunal in Lansing. The deadline to appeal is May 31, 2011.

So, now that you know it is not necessarily too late to appeal, it might be worth reacquainting yourself with how property tax values are calculated in Michigan.

Michigan imposes an ad valorem (meaning “according to value”) tax on all real property in the state, exception for property that is expressly exempt from taxation. Since value is the basis for the tax, assessors must accurately and uniformly determine the true cash value of real property. The valuation date, also known as tax day, is December 31 of the prior year. So, tax day for 2011 is December 31, 2010.

The assessed value (AV) is 50 percent of the true cash value, as determined by the assessor. The state equalized value (SEV) is 50 percent of the true cash value, as determined by the State Tax Commission once all properties throughout the state have been uniformly assessed. If the local assessor has done his or her job properly, the AV will ultimately be adopted as the SEV.

Up until 1994, property taxes were based on a property’s SEV. That’s when voters approved Proposal A, which created the concept of taxable value. In the year immediately following a transfer of ownership, the taxable value of the property is the same as the SEV (i.e., 50 percent of the true cash value of the property on December 31 of the prior year).

Thereafter, until ownership in the property is transferred again, the taxable value of the property is the lower of either the SEV for that year or the taxable value for the prior year increased by the lesser of 5 percent or the rate of inflation. In this way, a taxpayer enjoys some tax protection in a rising real estate market and still receives a tax break in a falling market.

Generally, true cash value means the usual selling price or fair market value of property as determined by any method recognized as accurate and reasonably related to market value. The assessor usually uses the cost approach, modified by the application of an economic condition factor, and processed through a computerized mass appraisal.

Under the cost approach the assessor values the land based on the sales comparison approach of comparable vacant lots in the area. The assessor then values the reproduction cost of the improvements based on current local prices of labor and materials. Physical deterioration, functional obsolescence and economic obsolescence are then deducted.

The assessor then adjusts the value by an economic condition factor to try to bring the cost value in line with what properties are selling for in a particular area. While ideally each property would be individually evaluated each year, such an effort would require significant effort and resources.

To streamline the assessment process, assessors use mass appraisal to value properties. This means that once all of the relevant data in the initial assessment has been taken into consideration, the assessor generally relies on market studies for several years thereafter to adjust the true cash value (and thus the AV) of the property from year-to-year.

Private appraisers, on the other hand, usually use the sales comparison approach and/or the income approach to valuing commercial or industrial property. The cost approach might be used simply as a check on accuracy. This means that sometimes the appraisal that a company might have in its files (say, from a recent refinancing) reaches a very different valuation result from the assessment.

The good news is that the Tax Tribunal usually adopts the sales comparison approach, the income approach or a combination of the two. For this reason, once the assessment is appealed to the Tax Tribunal the assessor will often retain a private appraiser to complete a sales and/or income-based appraisal.

So, if you have a recent appraisal that reaches a valuation conclusion that is substantially different from your assessment, you might want to give serious thought to making an appeal. An appeal is not inexpensive. The filing fee can be $600 and you will probably have to pay for a lawyer and a new appraisal (since the Tax Tribunal typically does not accept the “summary” form of appraisal done for lenders).

But, since Proposal A provides a cap on taxable value, reducing your 2011 SEV to a level below the current taxable value could reduce your company’s property taxes for many years to come. You could look at it as an annuity.

Finally, you may have heard that the Tax Tribunal is backlogged and that cases may take years to go to trial. At present, that is true. However, Governor Snyder recently signed an executive order to streamline procedures and add more personnel to the Tribunal, which should mean that the backlog will slowly recede.

Christian E. Meyer is an attorney with Warner Norcross & Judd. Reach him at (616) 752-2423 or cmeyer@wnj.com.

David R. Whitfield is an attorney with Warner Norcross & Judd. Reach him at (616) 752-2745 or dwhitfield@wnj.com.

Published in Detroit

Beginning March 11, 2011, the Consumer Product Safety Commission (CPSC) will post safety complaints about consumer products at www.saferproducts.gov. CPSC is implementing this new publicly available and searchable database as part of the Consumer Product Safety Improvement Act of 2008.

The database will allow consumers and others to submit reports of any claimed injury, sickness or harm related to the use (or possibly misuse) of any consumer product. Generally, a "consumer product" is defined as any product used in or around the home, school or recreation. In addition to product users, nearly anyone may submit a report for online posting, including: the user’s family members, relatives, guardians, friends, attorneys, investigators and even anyone who has simply observed the products being used. Other potential "second-hand" submitters include government agencies, health care professionals, child-care providers and public safety entities.

The reports are relatively easy to file online through the database’s fill-in-the-blank template. The submitter need only provide the minimum information:

1. Description of the product

2. Identification of the product manufacturer or private labeler

3. Description of the illness, injury or death, or risk of injury, illness or death related to the use of the product

4. The date or approximate date on which the incident occurred, or when the submitter first became aware of the potential for a product to be unsafe

5. Category in which a submitter falls, such as user, witness or child-care provider

6. Name and complete mailing address of the submitter

And, as long as the submitter checks a box certifying the report is "true and accurate to the best of the submitter's knowledge, information, and belief," the CPSC will post the report online 10 days after notifying the product manufacturer.

After receiving notice of the report, product manufacturers will have an opportunity to comment on or respond, and to have their responses posted online with the complaints. Any published response, however, must be carefully considered. Just like the online reports, manufacturers’ responses will be publicly available to all viewers, including:

  • Consumers who own the product or are shopping for new products
  • Industry competitors
  • Consumer and industry groups
  • Plaintiff's attorneys looking for their next product liability defendant or searching for information to support an existing claim

As the new CPSC database goes into action, product manufacturers should promptly:

  • Implement internal procedures that identify steps to be taken upon receipt of a report.
  • Designate an individual or internal committee to receive, investigate and respond to all reports.
  • Register online with the CPSC to receive prompt email notification of any reports about your products.
  • Consult with counsel to decide whether to submit an online response to a report, and if so, carefully prepare the response.

Chris Predko is chair of Warner Norcross & Judd's Consumer Product Safety Group. The group is actively advising clients regarding the new CPSC database. If you have questions about the database or other product regulation issues, please contact Chris Predko at 616.752.2190 or cpredko@wnj.com.

Published in Detroit
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