Tuesday, April 12, 2011

Another court refuses to decide whether FTC is subject to Rule 9(b)

Federal Trade Commission v. Wellness Support Network, Inc., 2011 WL 1303419 (N.D. Cal.)

The FTC brought an action for injunctive relief and other remedies based on defendants’ allegedly false advertising and deceptive practices in selling dietary supplements. The defendants’ WSN Diabetic Pack promised a “Completely Natural! Diabetes Breakthrough” that would “Lower your blood sugar, safely and effectively with absolutely NO SIDE EFFECTS!! GUARANTEED!!” There were a bunch of other extreme claims, including “easier weight loss” and “less dependency on medications,” and the product was allegedly backed by “over 60 independent American university studies.” There were also testimonials from individuals such as “My blood sugar went from 230 to 117 in just 21 days” and “Since I've been using the Diabetic Pack I have lost 9 pounds, I have all kinds of energy and my sugar is down in the low 100s. Also I don't take insulin any more!” The WSN Insulin Resistance Pack made similar claims, starting with “Reverse Insulin Resistance, safely and effectively with absolutely NO SIDE EFFECTS!! GUARANTEED!!” The same weight loss and scientific study claims were made, along with a claim to prevent diabetes and the claim that the Pack “was validated by the 1999 Nobel Prize for physiology.” The FTC alleged that these claims of effectiveness and clinical proof were false or unsubstantiated.

Defendants first argued that the FTC failed to meet Rule 9(b)’s heightened pleading requirements for failing to explain, among other things, how the FTC thinks ads should be substantiated. Just in case, they argued that the complaint also failed under Iqbal and Twombly. The FTC disagreed that it was required to set forth facts showing why the statements were false or how they should have been substantiated, under either standard.

With respect to the individual defendants, the FTC argued that its allegations were sufficient to satisfy Rule 9(b). To hold an individual liable for injunctive relief, the FTC is only required to demonstrate that an individual defendant directly participated in or had the authority to control the deceptive acts of the corporate defendants. For monetary damages, it must show actual knowledge of material misrepresentations, reckless indifference to truth or falsiity, or awareness of a high probability of fraud along with an intentional avoidance of truth. The FTC argued that it satisfied either Rule 9(b) or Rule 8 by alleging that Robert and Robyn held “participated in” the deceptive conduct. It also alleged that defendant WSN is a closely held corporation, that Robert Held is its CEO, and that Robyn Held is an officer. Also, the statements identified in the complaint were purportedly made by "Bob Held," as the exhibits demonstrate. These allegations, the FTC contended, sufficed to give rise to a reasonable assumption of participation in and authority to control the corporate defendant.

The FTC also argued that Rule 9(b) doesn’t apply to FTCA claims because such claims don’t sound in fraud. Knowledge of falsity, intent to deceive, and justifiable reliance aren’t part of a FTCA claim.

Rule 9(b) applies when (1) a complaint specifically alleges fraud as an essential element of a claim, (2) when the claim “sounds in fraud” by alleging that the defendant engaged in fraudulent conduct, and (3) to any allegations of fraudulent conduct, even when none of the claims in the complaint “sound in fraud.” Courts in other circuits have declined to apply Rule 9(b) to FTCA claims because such claims don’t require proof of scienter, reliance, or injury and are not fraud claims. Some California courts, however, have held the contrary because the claims “sound in fraud” by alleging that defendants knew or should have known that their conduct was unfair or deceptive, even if the FTC doesn’t need to allege or prove all elements of common-law fraud.

The court quoted the DC Circuit’s reasoning that, “[a]s Rule 9(b) particularity is not focused on intent, it would be anomalous to suggest that a section 5 claim is free from Rule 9(b)'s heightened pleading requirement because the FTC need not prove scienter here.” But, though the court found this reasoning persuasive, it didn’t decide the issue, because the allegations agains the corporation and Robert Held were sufficient under either standard, while those against Robyn Held were insufficient even under Rule 8.

The FTC identified the allegedly deceptive statements in detail, stated the nature of the misrepresentations alleged (false claims of efficacy and substantiation), and alleged that they were false or unsubstantiated. This was sufficient under Rule 9(b). The FTC was not required to include allegations identifying the level of substantiation that would have been required or the standard for determining whether the statements were true or false.

As to Robert Held, the allegations were also sufficient. While the factual allegations were “somewhat thin,” the FTC alleged that the corporation was closely held and that Robert Held owned it. In addition, defendants’ own website attributes the allegedly deceptive statements to him. This supports a plausible inference that he participated in and had knowledge of the misrepresentations.

However, the allegations against Robyn Held were too conclusory to support a plausible inference that she participated directly in the alleged deceptive acts, controlled or had authority to control them or had knowledge of them. “Indeed, the only factual allegation (aside from the boilerplate allegations that simply restate the legal standard) about Robyn Held is that she was an officer of WSN.” That wasn’t enough under Twombly, so the claims against her were dismissed with leave to amend.

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