United States: 11th Circuit Better Defines FTC's ‘Unfair' Standard – The Details Are In The Damage

In November 2016, the Court of Appeals for the 11th Circuit stayed a Federal Trade Commission ("FTC") Final Order enforcing a complaint against LabMD related to the exposure of customer data. In the process of issuing the stay, despite the FTC's arguments, the 11th Circuit made efforts to define precisely what "unfair" meant in relation to LabMD's case, where there was no evidence of actual harm to consumers. This opinion appears to limit the FTC's ability to enforce the FTC Act against companies, limiting the meaning of "unfair" to those cases where harm to consumers is more of a reality, and less of a generalized fear or suspicion.

LabMD, Inc. v. The Federal Trade Commission

The facts of the case are relatively straight forward and are likely familiar to many companies that have experienced data breaches that occur when an employee inadvertently circumvents company security policies. In 2005, a billing employee of LabMD, which was a clinical laboratory, installed LimeWire on her computer for the purposes of downloading music and movies from the file sharing service. However, unbeknownst to the employee, LimeWire also allows for the automated upload of files as well as download. When the software was installed, it made the employee's "My Documents" folder available to the LimeWire sharing service, and files in that folder were available for download by other users. At some point, this folder included a file containing over 9,000 patient records.

The presence of this file on LimeWire was discovered by a third party in 2008, Tiversa Holding Company ("Tiversa"), whose business model included scanning file-sharing applications like LimeWire for such files and then marketing Tiversa's data security services to those companies whose information had been exposed. When LabMD declined to sign up for Tiversa's services, Tiversa reported LabMD's data breach to the FTC. In 2010, the FTC in turn investigated and, in 2013, filed a complaint against LabMD. An Administrative Law Judge ("ALJ") dismissed the complaint in 2015 after an evidentiary hearing because there was "no proof that anyone other than Tiversa had downloaded the [file]," and that "it was unlikely that the information in that file was the source of any harm."

On appeal to the FTC, the FTC reversed, holding that the ALJ applied the incorrect standard. In doing so, the FTC entered a final order, imposing a series of requirements upon LabMD including:

  • The creation of a company-wide information security program;
  • Undergoing routine professional assessment of that system;
  • Providing notice to those whose information was in the file that was exposed over LimeWire; and
  • Setting up a toll-free hotline for impacted individuals to call with questions or concerns.

LabMD appealed this order to the 11th Circuit Court of Appeals and requested a stay of enforcement of the FTC's requirements pending that appeal. The 11th Circuit's discussion of the stay request in part dealt with how "unfair" is defined under the FTC act, 15 U.S.C. § 45(n).

What is unfair under § 45(n)?

In determining whether the stay was warranted, the 11th Circuit examined whether LabMD had made a "strong showing that [LabMD was] likely to succeed on the merits." In doing so, the court first turned to the definition of what is considered "unfair" under §45(n). Under the FTC Act, an action or practice is only unfair if it "causes or is likely to cause substantial injury to consumers." In deciding that the FTC had failed to indicate any "tangible harm to the consumer," the court closely considered the facts surrounding the exposed file itself. Foremost in their analysis was the fact that there was never any evidence provided that the data file was downloaded by anyone other than Tiversa. As a result, the court's analysis turned upon its definition of "likely to cause harm" under § 45(n) If the exposure was "likely" to cause harm to consumers, the court would be much less amenable to implementing a stay pending appeal, as the action would fall under the definition of "unfair" under § 45(n).

The court looked to the FTC's own policy statement regarding unfairness, dictionary definitions and the Senate Report that accompanied the policy statement. Each of them indicated that the choice of the term "likely" was meant to point the FTC away from "emotional impact and more subjective types of harm," which are "not intended to make an injury unfair." S. rep. No. 103-130, 1993 WL 322671, at *13 (1993). What the FTC had found in the LabMD matter was "not even intangible," and the court agreed that the harm was "only speculative," and therefore insufficient. Furthermore, the court considered the term "likely" to refer not to a "significant risk," or a risk that is "reasonably expected." In its initial findings, the FTC included in its definition of "likely" not just the probability of the harm occurring, but the magnitude of the harm. Thus, the FTC's application of the law included those events that are unlikely to occur, but if they did occur would have a significant impact.

The court disagreed with this approach and held that "likely to occur" did not apply to something that has a low likelihood of occurring. In doing so, this holding limits the ability for the FTC enforce actions against entities who are involved in activities that only have distant chances of causing harm to consumers. This is particularly important for companies dealing with data security breaches. Because of the nature of these incidents, and the increasing sophistication of those breaking into computer systems, and the increasing difficulty in determining whether data has been exfiltrated, not every breach results in a likelihood of actual harm to the consumer.

As a result, the FTC's ability to investigate corporate victims of data breaches may have been limited by this ruling by the 11th Circuit. Members of the industry would be well advised to understand what kind of data their systems collect, how often data is purged, and in the process of investigating a potential breach, ensure that any data that can verify potential misuse is collected and safely stored. Furthermore, if FTC involvement is anticipated, being able to show that exposed data was not exfiltrated or even accessed can limit the agency's enforcement impact.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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