Tuesday, May 10, 2011

Blowing smoke: large battle ends with small award

So, this is my 2001st post--a better (belated) anniversary than age, I think, since posting was so sporadic when I first started out.  What better than a classic business-on-business dustup to celebrate?

Neuros Co., Ltd. v. KTurbo Inc., 2011 WL 1692170 (N.D. Ill.)

The parties compete to make high-speed, direct-drive turbo blowers used in waste water treatment plants. KTurbo lost a bid to Neuros on a project in South Valley, Utah, and KTurbo’s CEO Lee accused Neuros of cheating during the bid process by submitting false data for its turbo blowers. Neuros sued KTurbo for violating the Lanham Act and the Illinois Deceptive Trade Practices Act, defamation, trade libel, and intentional interference with prospective economic relations. KTurbo counterclaimed for false advertising under the same heads, along with the Illinois Consumer Fraud and Deceptive Practices Act. The court held a bench trial.

Bids typically require the bidder to disclose the power draw for its blowers. “Manufacturers typically do not guarantee the total efficiency of their blowers, though total efficiency can be derived from the power draw, specified operating conditions, and a number of assumptions about a blower's operation. Power-draw guarantees and specification compliance are often confirmed through tests conducted before the manufacturer ships the blower to the customer.” Because turbo blowers were new to the American market, an engineer visited Neuros in 2007 on behalf of King County, one customer, to witness their performance under various conditions. King County ultimately awarded its project to Neuros.

In 2008, Neuros and KTurbo submitted bids for the South Valley project. Each was required to guarantee power draws for thirty different operating points and conditions, though they were not required to guarantee the total efficiency of their blowers. The project's consulting engineers evaluated the bids and Neuros came in first while KTurbo came in third, with the greatest difference in the area of product support.

KTurbo’s marketing manager then sent an email to an OEM accusing Neuros of providing false efficiency data in bids. Lee created a PowerPoint stating that Neuros’s efficiency guarantees to South Valley constituted a “crime” and “cheating” by claiming an impossible 82.2% efficiency. Lee arrived at this calculation by manipulating some of the data from Neuros’s South Valley bid, but it wasn’t in the bid itself, and Lee made some errors and guesses. Similar messages went out to KTurbo’s sales representatives; two recipients warned Lee against the cheating accusation. Lee nonetheless presented the slides at a meeting in the US with a number of sales reps, and they were also publicly accessible on KTurbo’s Korean-language website.

Napa Valley also sought bids, and the contract was ultimately awarded to Neuros. Napa first required a factory witness test in the presence of its consulting engineer. Lee met with the engineer and discussed his claims. The engineer then witnessed the blower tests, and he was satisfied.

Neuros sent a cease-and-desist letter, but Lee continued to make cheating/crime claims to people in the industry.

Neuros also made some comparative claims about its blowers versus KTurbo’s, including that KTurbo’s blower performance had never been confirmed by witness testing or accepted by US customers, that KTurbo has had to recall products for quality purposes, and that its financial situation was poor. The claims about KTurbo’s financial situation were based on a publicly available financial report from the Korean Information Service, Inc., which stated that KTurbo’s cash-flow was “unsatisfactory” and incapable of covering working capital and that its debt/sales ratio was nearly 110%, which was at the bottom 30% of all companies and bottom 15% of industry peers.

The court found KTurbo’s cheating/crime accusations to be literally false. There was no evidence that Neuros made any guaranteed efficiency ratings in its bids, though it did supply one customer with a third-party report for that specific project stating that total efficiency for one blower at one operating point was 74% according to a core test. The court was unwilling to find this statement attributable to Neuros or that Neuros adopted that figure as its own and used it to market its products. There was also no evidence that any customer relied on the third-party report. KTurbo didn’t prove that a prospective purchaser could easily determine efficiency data from the data in Neuros’s bid, and its related claims of falsity also failed.

As for KTurbo’s counterclaims, they also failed. KTurbo didn’t prove Neuros made false statements about its own blowers, for reasons similar to those above. Nor did it prove that Neuros’s comparative/disparaging statements about KTurbo blowers were false; for example, one of its witnesses said with respect to certain accusations of poor quality and inability to meet the schedule for one project, “I'm not saying that some of that might not be true.” Likewise, KTurbo failed to prove that the statements about its financial situation were false; even Lee had expressed concern about KTurbo’s financial situation.

Defamation: Neuros showed falsity and needed to show lack of privilege. Lee stated that he intended to “break” and “terminate” Neuros, which was sufficient evidence that his statements weren’t made in good faith and were defamatory. Neuros didn’t offer any evidence of actual damages, and thus couldn’t prevail on its defamation per quod claim. However, Neuros also argued defamation per se because of the accusation of crime/cheating. Defamation per se in cases of crime requires that the charged offense be indictable, involve moral turpitude, and be punishable by a term of imprisonment. Though Lee used “crime,” he didn’t accuse Neuros of any particular crime. The cheating accusation, however, did impugn Neuros’s business integrity. This was defamation per se.

Neuros argued that this was also product disparagement, but there was no evidence of damages as required.

Neuro’s Lanham Act claim failed because the statements didn’t constitute “commercial advertising or promotion.” In the Seventh Circuit, this has to be "promotional material disseminated to anonymous recipients." Sanderson v. Culligan Int'l Co., 415 F.3d 620, 624 (7th Cir. 2005) (quoting First Health Grp. Corp. v. BCE Emergis Corp., 269 F.3d 800, 804 (7th Cir. 2001)). Direct communications or misrepresentations to a single customer thus don’t count. Nor do communications to KTurbo’s own sales representatives. Though Neuros argued that KTurbo’s intent was for the reps to disseminate the claims, there was no evidence that this happened, and the evidence was that some reps strongly disagreed with Lee’s tactics. KTurbo’s Lanham Act counterclaims failed for the same reasons: the alleged misrepresentations were confined to individual bids.

DTPA and ICFA claims “are to be resolved according to principles set forth under the Lanham Act” and thus “rise or fall” based on the Lanham Act claims “because the legal inquiries are the same under either cause of action.” So they failed too. Note: this is compounding the unusual interpretation by which the court is bound (the Seventh Circuit is the only circuit that refuses to find that a company operating in a limited field can “advertise” or “promote”) with straight-up nonsense. It may well make sense to interpret substantive concepts such as deceptiveness the same for both state and federal claims (though note that only federal law generally has the rigid explicitly false/implicitly false divide). The case law, however, provides no justification for implying the limit “advertising or promotion” into the DTPA, which does not contain it. Indeed, though several of the numbered examples of unlawful conduct in the DTPA mention “advertising,” the law also contains a catchall prohibiting “any other conduct which similarly creates a likelihood of confusion or misunderstanding.” The facile overgeneralization that the legal inquiries are the same should be avoided—see also a “use in commerce” defense that the defendant’s conduct only took place within and affected the state.

Neuros didn’t press its intentional interference claim separately, so that also failed. KTurbo’s claim failed because mere hope for a prospective economic relationship isn’t a reasonable expectancy, and KTurbo couldn’t show more than that.

Damages: for defamation per se, plaintiffs can recover presumed damages without proof of actual damages. Presumed damages are a rough estimate of the probable extent of actual loss even though such damages couldn’t be proved. In the Seventh Circuit, the award may not be “substantial.” Though other cases upheld $1 million presumed damage awards, they involved more wide-scale conduct where the plaintiffs were able to show reputational damage though not to quantify it. Instead, the court awarded $10,000 to compensate for reputational damage and the cost of combating the reputational harm.

Neuros also requested punitive damages, available in Illinois for torts committed with fraud, actual malice, willfulness, or gross negligence indicating wanton disregard of the rights of others. The degree of reprehensibility is the most important consideration, including whether the conduct involved repeated actions and whether it was the result of intentional malice or deceit. Defendants are presumptively made whole by compensatory damages, and punitive damages should only be awarded if defendant’s conduct is so reprehensible as to deserve further punishment or deterrence. Neuros didn’t offer sufficient support for much in the way of punitive damages: no evidence of KTurbo’s assets or corporate profits and no analysis of punitive-damage awards in comparative cases. Still, “some measure of punishment is appropriate” given the false statements with malicious intent, and the fact that KTurbo continued to accuse Neuros of cheating after the cease-and-desist letter and after the lawsuit was filed. Thus, punitive damages of $50,000 were warranted.

Neither injunctive relief nor attorneys’ fees were appropriate, since the former request was tied to claims on which Neuros lost and the latter had no precedent in a defamation case.

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