United States: The Investment Injury Rule: Direct Competitors Have a New Weapon Against Poachers

Poaching is defined as: (a) The exchange of information between two parties, as a natural byproduct of contractual exchange for other goods or services, necessary for the performance of a contractual obligation's; (b) and the subsequent use of this information by the receiving party, outside the purposes for which the information was provided, and for its own benefit or economic gain; (c) at the expense of, or creating economic damage to, the party that provided the information.¹

You are the founder and sole shareholder of a small company. A large corporation, your direct competitor, engages in poaching by either the unauthorized use of your client lists or misappropriation of your trade secrets. What remedies are available to you? The cost of filing a breach of contract lawsuit against a large corporation with deep pockets will probably outweigh the amount of potential damages awarded to a small company. Indeed, it is possible that the cost of protracted litigation may very well put your small company out of business. The investment injury rule of the civil RICO statute may be your only viable remedy.²

Section 1962 of the RICO Act prohibits any "person" from directly or indirectly investing in, acquiring or maintaining an interest in, or participating in any "enterprise" that engages in, a "pattern of racketeering activity." A pattern of racketeering activity is the commission of at least two statutorily enumerated "predicate acts." The predicate acts must be related and have occurred within a 10-year period. Mail and wire fraud are the two most frequently alleged predicate acts. The civil RICO cause of action further provides: "Any person injured in his business or property by reason of a violation of Section 1962 may sue therefor and shall recover threefold the damages he sustains and the cost of the suit, including a reasonable attorney's fee."

Under Section 1962(a) of RICO, known as the "investment injury rule": It shall be unlawful for any person who has received any income derived, directly or indirectly, from a pattern of racketeering activity ... to use or invest, directly or indirectly, any part of such income, or the proceeds of such income, in the acquisition of any interest in, or the establishment or operation of, any enterprise which is engaged in ... interstate or foreign commerce.

In order to state a claim upon which relief may be granted under the investment injury rule, it must be shown that defendants used or invested racketeering income to acquire or maintain an interest in an alleged racketeering enterprise and that plaintiffs suffered injury as a result of such investment. Plaintiffs must, therefore, distinguish between the predicate acts of racketeering and the injury directly resulting from the defendant's investment of racketeering income.³

The Second Circuit recently affirmed the common-sense principle that businesses suffer direct injury when their direct competitor's economic power is illegally enhanced.⁴ In its complaint, the plaintiff alleges that the defendant engaged in a pattern of racketeering activity by hiring undocumented aliens for profit in violation of the Immigration and Nationality Act (INA), 8 U.S.C. § 1324(a), a RICO predicate offense. According to the complaint, the defendant's illegal hiring practices enabled it to lower its variable costs and thereby underbid competing firms, which consequently lost contracts and customers to the defendant. The Second Circuit concluded that the plaintiff's complaint adequately states a direct proximate relationship between its injury and the defendant's pattern of racketeering activity. The Court further stated, "Here, the plaintiffs bid against the defendant as direct competitors. If plaintiffs can substantiate their claims, the plaintiffs may well show that they lost contracts directly because of the cost savings defendant realized through its scheme to employ illegal workers." The Court explained, "This theory fits our suggestion in a previous case before this court,⁵ where we affirmed the dismissal on proximate causation grounds of a civil RICO complaint by investors whose share values declined in the wake of the defendant's guilty plea to insider trading. Although we found the causation chain offered by plaintiffs too remote, we distinguished a circumstance where a plaintiff was a direct competitor against a defendant. We stated that the RICO statute would grant standing if plaintiff were a "head-to-head bidder against [defendant] who lost because of [defendant's] illegally-enhanced reputation or economic power." Where, as here, the parties have bid against each other, the difference between the lowest and second lowest bid is readily discoverable.

Similarly, if a direct competitor engages in poaching by either the unauthorized use of client lists or misappropriation of trade secrets, an injured company may now allege that: (a) the direct competitor engaged in a pattern of racketeering, by possibly either wire fraud or mail fraud, RICO predicate offenses; (b) the unauthorized use of the client lists or misappropriation of trade secrets resulted in a cost savings ("income") to the defendant; (c) the reinvestment of the cost savings enhanced the economic competitiveness of the defendant; and (d) the use or investment of this racketeering income by the defendant was the proximate cause of the injury to the plaintiff. The Eleventh Circuit is currently reviewing a case involving this very issue.⁶

A direct competitor is the one type of plaintiff whose injury is a direct result of the mere continuation or operation of a competing enterprise when that competing enterprise uses the proceeds of fraudulently obtained information to acquire or maintain an interest in an alleged racketeering enterprise and the plaintiffs suffer injury as a result of such investment. Hopefully, the investment injury rule, with its provision for treble damages, will make direct competitors think twice before poaching.