Richard Manfredi, Author at Gibson Dunn

Decided May 25, 2023

Sackett v. EPA, No. 21-454

Today, the Supreme Court held that the Clean Water Act covers only those wetlands with a continuous surface connection to other covered waters.

Background: Under the Clean Water Act, the EPA has jurisdiction over “navigable waters,” which are defined as “the waters of the United States.” The Sacketts purchased property containing wetlands that were separated by a road from a tributary that eventually fed into a traditionally navigable intrastate lake. After the Sacketts made certain improvements to the property, the EPA determined that they violated the Clean Water Act by discharging fill material into those wetlands without a permit.

The Sacketts sued, alleging that the EPA lacked jurisdiction under the Clean Water Act because any wetlands on their property were not “waters of the United States.” The district court granted summary judgment to the EPA, and the Ninth Circuit affirmed. Applying the test set forth in Justice Kennedy’s opinion concurring in the judgment in Rapanos v. United States, 547 U.S. 715 (2006), the court determined that the wetlands on the Sacketts’ property, together with wetlands across the road, were “waters of the United States” subject to the EPA’s jurisdiction because they had a “significant nexus” to a traditionally navigable water.

Issue: Whether the Ninth Circuit set forth the proper test for determining whether wetlands are “waters of the United States” under the Clean Water Act.

Court’s Holding:

No. The Clean Water Act covers wetlands only if they have a continuous surface connection to bodies of water that are “waters of the United States” in their own right, such that the wetlands are indistinguishable from those waters.

“[T]he CWA extends to only those ‘wetlands with a continuous surface connection to bodies that are “waters of the United States” in their own right . . . .’”

Justice Alito, writing for the Court

What It Means:

Today’s decision should provide more assurance to landowners, property developers, and farmers. If wetlands do not have a continuous surface connection to waters of the United States, those wetlands do not fall under the Clean Water Act’s reach.
Following the Rapanos plurality, the Court concluded that the term “waters” encompasses “only those relatively permanent, standing or continuously flowing bodies of water forming geographical features that are described in ordinary parlance as ‘streams, oceans, rivers, and lakes.’” And the Court clarified that wetlands qualify as jurisdictional waters only if they are “indistinguishably part of a body of water that itself constitutes ‘waters’ under the [statute],” which requires a “continuous surface connection” and the absence of any “clear demarcation between ‘waters’ and wetlands.”
The Court recognized that “phenomena like low tides or dry spells” may sometimes cause “temporary interruptions in surface connection” and clarified that landowners cannot “carve out wetlands from federal jurisdiction by illegally constructing a barrier on wetlands otherwise covered by the” statute.
The Court explained that adopting the significant-nexus test advanced by Justice Kennedy in Rapanos would interfere with traditional state authority over private property and require a “freewheeling inquiry” that is inconsistent with the statutory text, provides landowners little guidance, and creates “serious vagueness concerns” in light of the statute’s criminal penalties.
Justice Kavanaugh (joined by three other Justices) concurred in the judgment. He agreed the wetlands on the Sacketts’ property were not covered by the statute, but he would have held that the statute covers both “wetlands contiguous to or bordering a covered water” and “wetlands separated from a covered water only by a man-made dike or barrier, natural river berm, beach dune, or the like.”

The Court’s opinion is available here.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the Supreme Court. Please feel free to contact the following practice leaders:

Appellate and Constitutional Law Practice

Thomas H. Dupree Jr. +1 202.955.8547 [email protected]	Allyson N. Ho +1 214.698.3233 [email protected]	Julian W. Poon +1 213.229.7758 [email protected]
Lucas C. Townsend +1 202.887.3731 [email protected]	Bradley J. Hamburger +1 213.229.7658 [email protected]	Brad G. Hubbard +1 214.698.3326 [email protected]

Related Practice: Environmental Litigation and Mass Tort

Stacie B. Fletcher
+1 202.887.3627
[email protected]

Daniel W. Nelson
+1 202.887.3687
[email protected]

David Fotouhi
+1 202.955.8502
[email protected]

Related Practice: Land Use and Development

Mary G. Murphy
+1 415.393.8257
[email protected]

Benjamin Saltsman
+1 213.229.7480
[email protected]

On April 25, 2023, the IRS’ Treaty and Transfer Pricing Operations (“TTPO”) director introduced new internal procedures for handling requests for Advance Pricing Agreements (“APAs”), a voluntary process for prospectively resolving transfer pricing issues and ensuring tax compliance.

Background

APAs are a valuable tool for taxpayers and taxing authorities to reach binding agreement on the arm’s length price for present and future intercompany transactions. For many taxpayers, the principal benefit is tax certainty, and for bilateral or multilateral APAs (those involving more than one taxing authority) the elimination of double tax. Rev. Proc. 2015-41[1] (here) is the governing APA revenue procedure, and the Advance Pricing and Mutual Agreement (“APMA”) program, a representative office of the U.S. competent authority and one of the divisions of TTPO, oversees the APA program. While APAs offer a collaborative and proactive method for resolving transfer pricing issues, APMA’s acceptance of an APA request is discretionary. As indicated below, it appears that APMA will exercise more selectivity going forward.

New APMA Guidelines Effective April 25, 2023

In the “Memorandum for Treaty and Transfer Pricing Operations Employees” (the “Memorandum”), TTPO (1) provides guidance to its personnel (which include those in APMA) on how to review and determine whether to accept APA requests and (2) instructs TTPO personnel to provide taxpayers who submit prefiling memoranda with guidance on whether an APA workstream is well-suited to achieve certainty for the proposed intercompany transactions (i.e., whether a APA request will be accepted or likely be successful). Per the Memorandum, these instructions are not intended to limit or decrease the number of APA requests accepted by APMA but aim to improve the quality and timeliness of the APA program by identifying potential roadblocks and opportunities for alternative paths to certainty, such as the International Compliance Assurance Program (the “ICAP”) or joint audits. The Memorandum is effective for all submissions and requests filed as of April 25, 2023, and the IRS intends the guidance to be incorporated into the Internal Revenue Manual within two years.

Prior to publication of the Memorandum, IRS officials previewed the forthcoming guidance. In late 2022, Nicole Welch, Acting Director of TTPO, emphasized that APAs are just one tool to prevent transfer pricing disputes and that the program should focus on ensuring that an APA is the best workstream to resolve a taxpayer’s transfer pricing issue. She also highlighted the need for the program to align resources with the risks posed by transactions and learn from the successes and challenges of other jurisdictions that have adopted a more selective approach to advance pricing agreements.[2] In March 2023, Jennifer Best, the acting Deputy Commissioner of the Large Business and International division (“LB&I”), previewed the April guidance, explaining that this process would allow taxpayers to obtain preliminary views from the APMA before submitting a formal APA request, providing more clarity on the IRS’ perspective. Best noted that this approach is aimed at investing time upfront in the APA process, with early engagement to communicate the IRS’ thoughts on the feasibility of the proposed APA.[3]

Under Rev. Proc. 2015-41, 2015-35 I.R.B. 263 (Aug. 31, 2015) (“Rev. Proc. 2015-41”) (here), APMA encourages taxpayers to voluntarily submit an optional pre-filing memorandum and request a pre-filing conference prior to filing the APA request.[4] The Rev. Proc. specifically recommends such voluntary submissions for novel or complex issues, but it does not explicitly provide reasons why a voluntary pre-filing memoranda may be beneficial to the taxpayer or the U.S. competent authority. The Memorandum (although directed to TTPO employees) and recent comments by IRS officials both provide valuable insight to taxpayers considering APAs as a means to achieve certainty with respect to significant intercompany transactions.

TTPO’s New Criteria for Acceptance of APA Submissions

Given the expense of filing an APA application and the 3-year average time frame to reach APA resolutions, an advance opinion from APMA on whether the APA submission would likely reach a successful result serves a valuable function (and brings the APA process into closer alignment with Chief Counsel’s private letter ruling (“PLR”) program),[5] but perhaps more meaningful is TTPO’s new criteria for determining whether APAs (including renewals) should be accepted and whether TTPO may “recommend” that taxpayers seek an alternative workstream, such as a joint or multilateral audit with foreign tax authorities.

Relevant to the pre-filing submissions and formal APA requests, including APA renewals, TTPO provides a long list of criteria that must be evaluated to determine whether an APA will be accepted as the preferred avenue to achieve transfer-pricing certainty. For large, bilateral or multilateral issues, the criteria appear to reflect a few specific underlying concerns regarding (1) APMA’s and foreign competent authorities’ ability to adequately develop the facts, (2) whether treaty partners are likely to be helpful in improving transfer-pricing compliance, and (3) whether the APA is principally prospective in nature.

Implications for the APA Program

Although the Memorandum’s stated purpose is not to limit or reduce the number of accepted APA requests, we believe the criteria reflect a more selective approach to APAs (consistent with Nicole Welch’s prior statements) and that it indicates a preference for relatively more unilateral action by the IRS Examination function (with the assistance of TTPO) to audit large taxpayers or to replace the APA process with other processes that do not provide the legal certainty of an APA. Thus, the guidance appears to reflect a shift in the IRS’ approach that reduces certainty with respect to challenging transfer pricing issues and increases the likelihood of double tax, at least from our perspective.[6] Perhaps it is yet to be seen, but the Memorandum guidance does not appear to comport with recent OECD inclusive framework initiatives, including the recent OECD guidance in the “Bilateral Advance Pricing Agreement Manual” and the “Manual on the Handling of Multilateral Mutual Agreement Procedures and Advance Pricing Arrangements” (both of which the US approved). Beyond resource constraints, perhaps the more stringent APA case selection process (including with respect to APA renewals) is in reaction to the Eaton case, which involved the IRS’s failed attempt to revoke two APAs.[7]

Presumably this is the first of many updates to APA procedures. Since 2021, Treasury’s Priority Guidance plan has included, “Guidance updating Rev. Proc. 2015-41, providing the procedures for requesting and obtaining advance pricing agreements and guidance on the administration of executed advance pricing agreements.”[8] Prior to the issuance of Rev. Proc. 2015-41, the IRS issued a proposed version in Notice 2013-79, 2013-2 C.B. 653 for public comment. The public is not afforded the opportunity to comment on internal IRS processes and procedures, but the new, immediately effective, APA procedures detailed in the Memorandum (which the IRS intends to incorporate into the IRM), rather than a Revenue Procedure, are an unusual surprise. APAs are a critical multilateral, inclusive, program that should be enhanced and supported as primary means to resolve challenging transfer pricing positions that are innate to the complex business operations of large multinationals. The tax community (including the IRS) is benefited by taxpayers’ comments to proposed changes. The opportunity to comment on future, material changes to APA procedures would be most welcome.

In conclusion, before taxpayers invest time and effort in drafting and submitting a formal APA request, the new IRS procedures for pre-submission review allow the APMA to provide a preliminary opinion on the suitability of the APA workstream for achieving certainty in proposed transactions and whether an alternative workstream is recommended and may also offer assurance for taxpayers. It could be assumed that, even though the new guidance asserts it “is not intended to limit or decrease the number of APA requests accepted by APMA,” the new procedures under the interim guidance issued by the IRS may potentially lead to a decline in the number of APAs requested and accepted into the program.

_____________________

[1] Rev. Proc. 2015-41, 2015-35 I.R.B. 263 (Aug. 31, 2015).

[2] See David van den Berg, IRS Advance Pricing Unit May Become More Selective, Law360 Tax Authority (Oct. 6, 2022), https://www.law360.com/tax-authority/articles/1537536; Shaw Tim, Transfer Pricing Enforcement, Advance Agreement Changes Coming, IRS Official Says, Thompson Reuters, Checkpoint Learning (Mar. 14, 2023), https://tax.thomsonreuters.com/news/transfer-pricing-enforcement-advance-agreement-changes-coming-irs-official-says/.

[3] See Isabel Gottlieb, IRS Planning Changes to Advance Pricing Agreement Process, Daily Tax Rep. (BNA), Mar. 7, 2023, https://www.bloomberglaw.com/product/tax/bloombergtaxnews/daily-tax-report-international/X86FR3PC000000?bna_news_filter=daily-tax-report-international#jcite.

[4] Rev. Proc. 2015-41, 2015-35 I.R.B. 263, § 3.02.

[5] See IRS Pre-Submission Conf., IRM 32.3.2.4.2 (Aug. 11, 2004), https://www.irs.gov/irm/part32/irm_32-003-002#idm140414975120816. One potentially important difference between Chief Counsel’s PLR program and the current APA Rev. Proc. is that the Rev. Proc. permits pre-submission conferences on an anonymous basis, whereas the PLR procedures do not.

[6] See also Kristen A. Parillo, IRS Refining Its Transfer Pricing Approach, 106 Tax Notes Int’l 1696 (June 24, 2022) (quoting Jennifer Best’s comments that LB&I is expanding audit coverage for transfer pricing and looking to become more selective in accepting APAs).

[7] Eaton Corp. v. Comm’r, 47 F.4th 434 (6th Cir. 2022), aff’g in part, rev’g in part, T.C. Memo. 2017-147.

[8] See IRS 2022—2023 Priority Guidance Plan, at 17 (May 5, 2023), https://www.irs.gov/pub/irs-utl/2022-2023-pgp-3rd-quarter-update.pdf.

Gibson Dunn lawyers are available to assist in addressing any questions you may have regarding these developments. Please contact the Gibson Dunn lawyer with whom you usually work, any of the following leaders and members of the firm’s Tax and Global Tax Controversy and Litigation practice groups, or the following authors:

C. Terrell Ussing – Washington, D.C. (+1 202-887-3612, [email protected])
Anne Devereaux* – Los Angeles (+1 213-229-7616, [email protected])
Galya Savir – New York (+1 212-351-2399, [email protected])

Tax Group:
Dora Arash – Los Angeles (+1 213-229-7134, [email protected])
Sandy Bhogal – Co-Chair, London (+44 (0) 20 7071 4266, [email protected])
Michael Q. Cannon – Dallas (+1 214-698-3232, [email protected])
Jérôme Delaurière – Paris (+33 (0) 1 56 43 13 00, [email protected])
Michael J. Desmond – Los Angeles/Washington, D.C. (+1 213-229-7531, [email protected])
Anne Devereaux* – Los Angeles (+1 213-229-7616, [email protected])
Matt Donnelly – Washington, D.C. (+1 202-887-3567, [email protected])
Pamela Lawrence Endreny – New York (+1 212-351-2474, [email protected])
Benjamin Fryer – London (+44 (0) 20 7071 4232, [email protected])
Brian R. Hamano – Los Angeles (+1 310-551-8805, [email protected])
Kathryn A. Kelly – New York (+1 212-351-3876, [email protected])
Brian W. Kniesly – New York (+1 212-351-2379, [email protected])
Loren Lembo – New York (+1 212-351-3986, [email protected])
Jennifer Sabin – New York (+1 212-351-5208, [email protected])
Hans Martin Schmid – Munich (+49 89 189 33 110, [email protected])
Eric B. Sloan – Co-Chair, New York/Washington, D.C. (+1 212-351-2340, [email protected])
Jeffrey M. Trinklein – London/New York (+44 (0) 20 7071 4224 /+1 212-351-2344), [email protected])
John-Paul Vojtisek – New York (+1 212-351-2320, [email protected])
Edward S. Wei – New York (+1 212-351-3925, [email protected])
Lorna Wilson – Los Angeles (+1 213-229-7547, [email protected])
Daniel A. Zygielbaum – Washington, D.C. (+1 202-887-3768, [email protected])

Global Tax Controversy and Litigation Group:
Michael J. Desmond – Co-Chair, Los Angeles/Washington, D.C. (+1 213-229-7531, [email protected])
Saul Mezei – Washington, D.C. (+1 202-955-8693, [email protected])
Sanford W. Stark – Co-Chair, Washington, D.C. (+1 202-887-3650, [email protected])
C. Terrell Ussing – Washington, D.C. (+1 202-887-3612, [email protected])

*Anne Devereaux is an of counsel working in the firm’s Los Angeles office who is admitted only in Washington, D.C.

Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice. Please note, prior results do not guarantee a similar outcome.

On May 18, 2023, the U.S. Equal Employment Opportunity Commission (“EEOC”) announced the release of its second set of guidance regarding employers’ use of artificial intelligence (“AI”).[1] The EEOC’s technical, non-binding guidance outlines key considerations that, in the EEOC’s view, help ensure that automated employment tools do not violate Title VII of the Civil Rights Act of 1964 (“Title VII”).[2]

This guidance comes on the heels of reports that the EEOC is training staff on how to identify discrimination caused by automated systems and AI tools,[3] and the EEOC’s joint statement with officials from the Department of Justice (“DOJ”), the Consumer Financial Protection Bureau (“CFPB”), and the Federal Trade Commission (“FTC”) emphasizing the agencies’ commitment to “vigorously” enforce existing civil rights laws against biased and discriminatory AI systems.[4]

AI and Title VII Guidance

The EEOC’s guidance centers on the potential risk that, in the EEOC’s view, AI tools used in employment decision making could give rise to disparate impact under Title VII. The guidance provides that a disparate impact could arise if an automated tool disproportionately excludes individuals based on protected characteristics, without being job related or consistent with business necessity. Below we summarize the key aspects of the EEOC’s guidance.

5 Key Takeaways for Employers:

Coverage of AI: The guidance emphasizes that an automated decision-making tool would be treated as a “selection procedure” subject to the EEOC’s Uniform Guidelines on Employee Selection Procedures (the “Uniform Guidelines”)[5] when used to “make or inform decisions about whether to hire, promote, terminate, or take similar actions toward applicants or current employees.”
Joint Liability: The guidance provides that “if an employer administers a selection procedure, it may be responsible under Title VII if the procedure discriminates on a basis prohibited by Title VII, even if the test was developed by an outside vendor.” Specifically, the guidance notes that liability could arise where an employer relies on the results of a selection procedure that is administered on its behalf or if a vendor’s assessment of the tool is incorrect and results in discrimination. Notably, this is in alignment with what the New York City Department of Consumer and Worker Protection (“DCWP”) underscored during its May 22, 2023 roundtable regarding New York City’s Local Law 144, which will govern the use of automated employment decision tools in hiring and promotion beginning July 5, 2023.[6] Specifically, DCWP asserted that Local Law 144 places all compliance responsibility on the employer and does not permit employers to merely rely on a vendor’s representations.
Four-Fifths Rule of Thumb: The four-fifths rule is a measure of adverse impact that determines whether the selection rate of one group is substantially (e., less than 80%) different than that of another group. Under the rule, a selection procedure could be found to have a disparate impact if the selection rate of a protected group is less than 80% of the rate of the non-protected group. The guidance echoes the Uniform Guidelines in stating that the four-fifths measure is “merely a rule of thumb” and should be used to draw preliminary inferences and prompt further assessment of the underlying processes. Accordingly, compliance with the rule is not necessarily sufficient to show that a tool is lawful under Title VII.
EEOC Charges: In a footnote, the guidance asserts that the Uniform Guidelines “do not require the Commission to base a determination of discrimination on the four-fifths rule when resolving a charge.”
Auditing: The EEOC encourages employers to routinely conduct self-assessments of their AI tools to monitor for potentially disproportionate effects on individuals subject to the automated selection procedure. The guidance also states that if an employer fails to take steps to adopt a less discriminatory algorithm that was considered during the development process, this might give rise to liability. Based on the guidance, the EEOC’s expectation is that employers will conduct bias audits of their AI tools even in jurisdictions that do not require them.

Joint Statement

On April 25, 2023, Charlotte A. Burrows, Chair of the EEOC, joined officials from the DOJ, CFPB, and the FTC to release a joint statement emphasizing the agencies’ pledge “to vigorously use [their] collective authorities to protect individuals’ rights regardless of whether legal violations occur through traditional means or advanced technologies.”

Highlighted Risk Areas. The statement noted the agencies’ concern with AI tools’ reliance on “vast amounts of data to find patterns or correlations” in making recommendations or predictions and flagged the following three aspects of AI as potential sources of discrimination:

(1) Model Opacity and Access: The agencies note that where automated systems lack transparency, it becomes difficult for all stakeholders to ascertain whether the system is fair.

(2) Data and Datasets: The statement emphasizes that an AI tool’s outcomes may be impacted by unrepresentative and imbalanced datasets as well as data that incorporates historical biases and other errors.

(3) Design and Use: When developers design an AI tool without understanding the underlying practices, context, and users, the statement warns that the tools might be based on flawed assumptions.

Sustained Focus. In an accompanying statement, EEOC Chair Burrows said that the EEOC would “continue to raise awareness on this topic; to help educate employers, vendors, and workers; and where necessary, to use our enforcement authorities to ensure AI does not become a high-tech pathway to discrimination.”[7] She also noted that the agency is also looking “down the road” and considering establishing “some guardrails” to regulate AI in the future.

This message from the EEOC is not new. Rather, it reiterates the agency’s stance that AI systems and tools will be subject to existing equal employment opportunity laws and regulations.

Gibson Dunn’s “Keeping Up with the EEOC” series launched nearly a year ago in May 2022 when the EEOC filed its first complaint alleging algorithmic discrimination and issued guidance with the DOJ on how AI tools might violate the Americans with Disabilities Act (“ADA”).[8] Since then, the EEOC has taken a number of steps that indicate its increased focus on the use of automated employment decision-making systems and tools, including its draft strategic enforcement plan’s prioritization of AI issues[9] and its algorithm-rewriting settlement with a job search website operator.[10]

* * *

Given this increased attention, vendors of automated employment decision-making tools and employers using or considering the use of AI tools should ensure that they are keeping up with the rapid-fire developments from the EEOC and other regulators, the White House, Congress, and the flurry of proposed and forthcoming laws at the state and local level.[11] Indeed, on April 13, 2023, Senate Majority Leader Chuck Schumer announced a high-level framework outlining a new regulatory regime for AI,[12] and on May 1, 2023, the White House announced that it will be releasing a request for information to learn more about AI tools being used by employers to monitor, evaluate, and manage an array of workers, including those in call centers, warehouses, offices, and rideshare and delivery services.[13]

Together, these announcements from Congress and the White House as well as the EEOC’s ongoing focus on AI suggest that vendors and employers could face regulatory oversight by multiple federal authorities, and there are indications that state authorities, including State Attorneys General, are looking at AI as a potential new area for enforcement as well.[14]

______________________

[1] EEOC Releases New Resource on Artificial Intelligence and Title VII (May 18, 2023), https://www.eeoc.gov/newsroom/eeoc-releases-new-resource-artificial-intelligence-and-title-vii.

[2] EEOC, Select Issues: Assessing Adverse Impact in Software, Algorithms, and Artificial Intelligence Used in Employment Selection Procedures Under Title VII of the Civil Rights Act of 1964 (May 18, 2023), https://www.eeoc.gov/select-issues-assessing-adverse-impact-software-algorithms-and-artificial-intelligence-used.

[3] Rebecca Rainey, EEOC to Train Staff on AI-Based Bias as Enforcement Efforts Grow, Bloomberg Law (May 5, 2023), https://news.bloomberglaw.com/daily-labor-report/eeoc-to-train-staff-on-ai-based-bias-as-enforcement-efforts-grow.

[4] For more information on the EEOC’s first enforcement action and conciliation agreement, please see Gibson Dunn’s Client Alert Keeping Up with the EEOC: Artificial Intelligence Guidance and Enforcement Action (May 23, 2022), https://www.gibsondunn.com/keeping-up-with-the-eeoc-artificial-intelligence-guidance-and-enforcement-action/ and Keeping Up with the EEOC: 5 Takeaways from its Algorithm Rewriting Settlement (Mar. 23, 2023), https://www.gibsondunn.com/keeping-up-with-the-eeoc-5-takeaways-from-its-algorithm-rewriting-settlement/.

[5] 29 C.F.R. part 1607; EEOC, Questions and Answers to Clarify and Provide a Common Interpretation of the Uniform Guidelines on Employee Selection Procedures (March 1, 1979), https://www.eeoc.gov/laws/guidance/questions-and-answers-clarify-and-provide-common-interpretation-uniform-guidelines.

[6] 10 Ways NYC AI Discrimination Rules May Affect Employers (Apr. 19, 2023), https://www.gibsondunn.com/10-ways-nyc-ai-discrimination-rules-may-affect-employers/.

[7] EEOC, EEOC Chair Burrows Joins DOJ, CFPB, And FTC Officials to Release Joint Statement on Artificial Intelligence (AI) and Automated Systems (Apr. 25, 2023), https://www.eeoc.gov/newsroom/eeoc-chair-burrows-joins-doj-cfpb-and-ftc-officials-release-joint-statement-artificial.

[8] Gibson Dunn’s Client Alert, Keeping Up with the EEOC: Artificial Intelligence Guidance and Enforcement Action (May 23, 2022), available at https://www.gibsondunn.com/keeping-up-with-the-eeoc-artificial-intelligence-guidance-and-enforcement-action/.

[9] For more information, please see Gibson Dunn’s Client Alert, Keeping Up with the EEOC: 10 Key Takeaways from its Just-Released Draft Strategic Enforcement Plan (Jan. 13, 2023), https://www.gibsondunn.com/keeping-up-with-the-eeoc-10-key-takeaways-from-its-just-released-draft-strategic-enforcement-plan/.

[10] For more information, please see Gibson Dunn’s Client Alert, Keeping Up with the EEOC: 5 Takeaways from its Algorithm Rewriting Settlement (Mar. 23, 2023), https://www.gibsondunn.com/keeping-up-with-the-eeoc-5-takeaways-from-its-algorithm-rewriting-settlement/.

[11] For more information about the laws in New York City and California, please see Harris Mufson, Danielle Moss, and Emily Lamm, 10 Ways NYC AI Discrimination Rules May Affect Employers (Apr. 19, 2023), https://www.law360.com/articles/1596454/10-ways-nyc-ai-discrimination-rules-may-affect-employers; Cassandra Gaedt-Sheckter, Danielle Moss, and Emily Lamm, What Employers Should Know About Proposed Calif. AI Regs (Apr. 12, 2023), https://www.law360.com/employment-authority/articles/1594222/what-employers-should-know-about-proposed-calif-ai-regs.

[12] Senate Democrats, Schumer Launches Major Effort To Get Ahead Of Artificial Intelligence (Apr. 13, 2023), https://www.democrats.senate.gov/newsroom/press-releases/schumer-launches-major-effort-to-get-ahead-of-artificial-intelligence.

[13] The White House, Hearing from the American People: How Are Automated Tools Being Used to Surveil, Monitor, and Manage Workers? (May 1, 2023), https://www.whitehouse.gov/ostp/news-updates/2023/05/01/hearing-from-the-american-people-how-are-automated-tools-being-used-to-surveil-monitor-and-manage-workers/.

[14] Paul Singer, Abigail Stempson, and Beth Chun, State AGs “Regulating Algorithms – The How and Why” (Apr. 24, 2023), https://www.adlawaccess.com/2023/04/articles/state-ags-regulating-algorithms-the-how-and-why/.

The following Gibson Dunn attorneys assisted in preparing this client update: Jason Schwartz, Danielle Moss, Harris Mufson, Naima Farrell, Molly Senger, and Emily Lamm.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Labor and Employment practice group, or Jason Schwartz and Katherine Smith.

Jason C. Schwartz – Co-Chair, Labor & Employment Group, Washington, D.C.
(+1 202-955-8242, [email protected])

Katherine V.A. Smith – Co-Chair, Labor & Employment Group, Los Angeles
(+1 213-229-7107, [email protected])

Decided May 22, 2023

People ex rel. Garcia-Brower v. Kolla’s, Inc., S269456

The California Supreme Court held today that Labor Code section 1102.5(b), which protects an employee from retaliation for disclosing unlawful activity to an employer or government agency, encompasses reports of information already known to the recipient.

Background: A bartender at a nightclub in Orange County complained to the club’s owner that she had not been paid for her previous three shifts. In response, the owner threatened to report the bartender to immigration authorities and terminated her employment.

The bartender filed a complaint with the Division of Labor Standards Enforcement, which found that the nightclub owner’s threats and termination of the bartender’s employment violated several provisions of the Labor Code. The Labor Commissioner then filed an action under Labor Code section 1102.5(b), which prohibits employers from retaliating against employees for “disclosing information” about suspected violations of the law to their employers or a government agency.

The trial court and Court of Appeal ruled against the Commissioner on the section 1102.5(b) claim. The Court of Appeal concluded that a “disclosure” of information required “the revelation of something new, or at least believed by the discloser to be new, to the person or agency to whom the disclosure is made,” but the bartender had not disclosed anything the owner did not already know.

Issue: Does Labor Code section 1102.5(b), which protects employees against retaliation for “disclosing information” about suspected violations of the law to their employer or a government agency, encompass a report of unlawful activities made to an employer or agency that already knew about the violation?

Court’s Holding:

Yes. Labor Code section 1102.5(b) protects employees from retaliation for disclosing unlawful activity to employers or agencies whether or not the recipients already know about the unlawful activity. Although the word “disclosure” sometimes “refers to sharing previously unknown information,” it “does not require that the [information] be unknown to the current recipient.” The Court concluded that the legislative history of section 1102.5(b) supported a broad reading of “disclose.”

“Although the word ‘disclose’ often refers to sharing previously unknown information, the word also means bringing into view in a particular context a type of information to which the discloser tends to have special access.”

Justice Liu, writing for the Court

What It Means:

California’s whistleblower statute is now in accord on this issue with the federal Whistleblower Protection Act, which Congress amended to protect the disclosure of information regardless of whether it is already known to the recipient.
Employees are protected under California’s whistleblower statute even if they report widely known violations of local, state, or federal law, or disclosures previously reported by other employees.
The Court reaffirmed that employers may rebut claims of retaliation if they demonstrate, by clear and convincing evidence, that the alleged retaliatory action would have occurred for legitimate reasons independent of the employee’s protected activity.

The Court’s opinion is available here.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the California Supreme Court. Please feel free to contact the following practice leaders:

Appellate and Constitutional Law Practice

Thomas H. Dupree Jr. +1 202.955.8547 [email protected]	Allyson N. Ho +1 214.698.3233 [email protected]	Julian W. Poon +1 213.229.7758 [email protected]
Blaine H. Evanson +1 949.451.3805 [email protected]	Bradley J. Hamburger +1 213.229.7658 [email protected]	Michael J. Holecek +1 213.229.7018 [email protected]

Related Practice: Labor and Employment

Jason C. Schwartz
+1 202.955.8242
[email protected]

Katherine V.A. Smith
+1 213.229.7107
[email protected]

Related Practice: Litigation

Theodore J. Boutrous, Jr.
+1 213.229.7804
[email protected]

Theane Evangelis
+1 213.229.7726
[email protected]

Federal lawmakers and policymakers have expressed increasing alarm about artificial intelligence (AI) and debated how to effectively provide transparency and protections for consumers following the success of ChatGPT and other rapid advances in AI technology.[1] At the same time, lawmakers and policymakers have expressed an awareness of the utility of AI for innovation, defense, and security, including the imperative for the United States to stay ahead of China.[2]

In recent weeks, we have seen significant activity on AI issues in Washington:

On May 16, 2023, both the Senate Judiciary Committee’s Subcommittee on Privacy, Technology, and the Law and the Senate Homeland Security and Governmental Affairs Committee held public hearings to discuss AI issues, with one featuring high-profile testimony from industry leaders like OpenAI CEO Sam Altman.[3]
On May 4, 2023, the White House held a high-level meeting with the CEOs of companies at the forefront of AI innovation[4] and announced new actions to promote responsible American innovation in AI.[5] These actions include new investments in AI research and development, public assessments of existing generative AI systems, and policies to ensure the federal government is leading the way on mitigating AI risks and harnessing AI opportunities.
On April 27, 2023, the White House released a request for information (RFI) on how AI is “being used to surveil, monitor, and manage workers.”[6]
On April 25, 2023, the heads of multiple key federal agencies—including the Civil Rights Division of the Department of Justice (DOJ), Equal Employment Opportunity Commission (EEOC), Federal Trade Commission (FTC), and Consumer Financial Protection Bureau (CFPB)—outlined their commitment to focus on mitigating potential discrimination arising from AI systems,[7] which the Chair of the EEOC called a “new civil rights frontier.”[8]
On April 13, 2023, Senate Majority Leader Chuck Schumer (D-NY) announced that he would lead a Senate effort to develop a legislative framework that outlines a new regulatory regime for AI.[9]

This alert highlights the major federal legislative efforts on AI and the White House initiatives on AI, which together represent a growing momentum for Washington to potentially play a major role in the regulation of AI to balance innovation, accountability, and transparency.

I. Federal Legislation

Bipartisan urgency has arisen in Washington around the need to regulate risks and create uniform standards for AI. Representative Frank Lucas (R-OK-3), Chair of the House Science, Space, and Technology Committee, recently remarked that legislators are “all trying to focus” on AI in response to the technology’s rapid growth.[10] Senator Mark Warner (D-VA), Chair of the Senate Intelligence Committee, observed the “mad rush amongst many members to try to get educated as quickly as possible” on AI issues.[11]

Lawmakers in both chambers of Congress have recently introduced new legislation and regulatory frameworks that try to address the risks associated with AI. They now face the challenge of striking the appropriate balance between countering potential risks in connection with AI systems and ensuring that regulatory burdens do not stifle American innovation in AI.

a. Majority Leader Schumer’s AI Framework:

In April 2023, Senate Majority Leader Schumer announced his intent to craft a framework to regulate AI in collaboration with stakeholders and experts from academia, advocacy groups, industry, and government.[12] Majority Leader Schumer expects robust actions from Senate committees with jurisdiction over the development of AI legislation. The key question is what will the final comprehensive AI legislation look like and what will it mean for companies utilizing this technology?

What we know now is that the framework is expected to center around four “guardrails” designed to guide the effective disclosure and testing of AI technologies by independent experts without stifling innovation.[13] These guardrails, which aim to regulate AI technology properly and align AI systems with American values, are:

Who: Identification of the AI system’s intended audience, as well as “who trained the algorithm;”[14]
Where: “[D]isclosure of [the AI system’s] data source;”[15]
How: Explanation for “how [the AI system] arrives at its responses;”[16] and
Protect: Transparent and strong ethical boundaries, focused on “aligning AI systems with American values and ensuring that AI developers deliver on their promise to create a better world.”[17]

When announcing the framework, Majority Leader Schumer encouraged Republican senators to contribute to the development of the comprehensive AI legislation the framework envisions. Notably, the framework’s focus on transparency in the AI industry mirrors past efforts at AI regulation that have been widely supported by Republicans, such as the Trump Administration’s 2020 Executive Order on Promoting the Use of Trustworthy Artificial Intelligence in the Federal Government.[18]

Majority Leader Schumer’s AI framework is still in its early stages, with no particulars yet on what exactly the legislation will entail. Additionally, no timeline has been provided for the release of the AI legislative framework, and it may even carry over to future Congresses. But bipartisan interest exists on AI issues generally with both political parties leaning into its potential for innovation and utility in defense.

Beyond the lack of specifics for the AI framework, Majority Leader Schumer’s announcement is significant because, as Majority Leader, he determines what bills are considered on the Senate floor and has outsized influence in setting the agenda on behalf of Senate Democrats. Given that Majority Leader Schumer urged Congress to “move quickly,” it is fair to expect multiple Senate committees to hold hearings and potentially advance AI bills during the 118th Congress.[19] But, the key factor to watch is whether these bills will be bipartisan, which will impact both whether the bills can obtain the 60-votes needed to pass the Senate over a filibuster and whether a Republican-led House will take up an AI bill from a Democratic-led Senate. This is especially true with a Democratic-controlled administration during a presidential election year, which could prove to be an obstacle to AI legislation during this Congress.

b. Algorithmic Accountability Act of 2022:

While it remains unclear if Washington will pass comprehensive AI legislation during this Congress, it is possible that Congress could take up narrower AI bills aimed at increasing transparency and preventing bias, like the Algorithmic Accountability Act. This legislation is an example of a policy proposal that could be included in Majority Leader Schumer’s broader framework or a proposal that could move as a stand-alone bill if a comprehensive framework lacks momentum.

First introduced by Senator Ron Wyden (D-OR) and Representative Yvette Clarke (D-NY-9) in 2019,[20] the Algorithmic Accountability Act would authorize the FTC to require companies under its jurisdiction to study and address potential unfair bias and discrimination in computer algorithms. Senator Cory Booker (D-NJ) has said this bias is “significantly harder to detect” than many other forms of discrimination.[21] As examples of possible undetectable discrimination, Booker cited “houses that you never know are for sale, job opportunities that never present themselves, and financing that you never become aware of.”[22]

Specifically, the Algorithmic Accountability Act would require the FTC—in consultation with other stakeholders in the private sector, civil society, and government—to promulgate regulations requiring “covered entit[ies]” to perform impact assessments of certain AI systems and “augmented critical decision process[es].”[23] These impact assessments would include detailed documentation of consultations with relevant stakeholders, ongoing testing and evaluation efforts, employee training, and consumers’ rights. Covered entities would also be required to assess any likely negative impacts on consumers, as well as the need for any guardrails on the use of the AI system.[24]

For any new AI system, the covered entity would submit an “initial summary report” of its impact assessment to the FTC prior to deployment.[25] Non-covered entities that deploy covered AI systems and processes are also encouraged, but not required, to submit summary reports of their AI impact assessments.[26] The Act lays out specific requirements for the form and substance of these summary reports.[27]

In addition to these individual impact assessments, covered entities would be required to submit a “summary report” to the FTC on an annual basis to demonstrate ongoing impact assessment of deployed AI systems and processes.[28]

These requirements apply to any entity over which the FTC has jurisdiction and that meets certain cut-offs for annual gross receipts, quantity of personal identifying information used, and AI use.[29] The “critical decision[s]” covered by this bill are likewise broad, incorporating any decision with “legal, material, or similarly significant effect” on a person’s access to a wide range of interests such as housing and employment.[30]

Identical versions of the Algorithmic Accountability Act enjoyed broad Democratic support in both the Senate and the House during the 117th Congress, but neither version was able to obtain any Republican co-sponsors.[31] We expect the bills to be reintroduced in both chambers in the 118th Congress.

c. Algorithmic Justice and Online Platform Transparency Act:

Another example of a narrower bill that could be acted upon by Congress as a stand-alone bill or rolled into Senator Schumer’s broader AI bill is the Algorithmic Justice and Online Platform Transparency Act. This bill, introduced by Senator Ed Markey (D-MA) and Representative Doris Matsui (D-CA-6), would make it unlawful for someone to use AI on an online platform in a manner that deprives an individual of a right or privilege under the Civil Rights Act of 1964. Representative Matsui called the bill “an essential roadmap for digital justice to move us forward on the path to online equity” by addressing what Senator Markey described as “[b]iased artificial intelligence systems that have become embedded in the fabric of our digital society.”[32]

Specifically, the Algorithmic Justice and Online Platform Transparency Act would:

Prohibit algorithmic processes on online platforms that discriminate on the basis of race, age, gender, ability and other protected characteristics. This includes discrimination against users, the use of platform design features in a discriminatory manner, discriminatory advertising, and the processing of personal information in a manner that intentionally deprives any individual of their right to vote in federal, state, or local elections;[33]
Establish a safety and effectiveness standard for algorithms, such that online platforms may not employ automated processes that harm users or fail to take reasonable steps to ensure algorithms achieve their intended purposes;[34]
Require any online platforms that uses an “algorithmic process” to disclose the types of algorithmic processes they employ and the information they collect to power them;[35]
Require online platforms to publish annual public reports detailing their content moderation practices;[36]
Empower the FTC to enforce the Act by making any violation qualify as an “unfair or deceptive act or practice.”[37] It also would empower the FTC to issue advisory opinions on compliance with the Act upon request from any online platform.[38]
Create an inter-agency task force comprised of the FTC, Department of Education, Department of Housing and Urban Development, Department of Commerce, and DOJ, to investigate discriminatory algorithmic processes employed in sectors across the economy.[39]

Substantively identical versions of the bill enjoyed Democratic support in both the Senate and the House during the 117th Congress, but neither version was able to garner a Republican co-sponsor.[40] Given the 118th Congress’s focus on AI, we expect the bills to be reintroduced in both chambers.

II. Recent White House Initiatives

Congress is far from the only branch of the U.S. government focused on potential benefits and risks associated with AI. On May 1, 2023—International Workers’ Day—the White House Office of Science and Technology Policy released an RFI seeking guidance on how AI is “being used to surveil, monitor, and manage workers.”[41] The RFI cited concerns about public reporting suggesting that eight of the ten largest private employers had used advanced technologies to monitor workplace productivity.[42] Specifically, the White House is seeking “workers’ firsthand experiences with surveillance technologies,” “details from employers, technology developers, and vendors on how they develop, sell, and use these technologies,” and “best practices for mitigating risks to workers,” along with any other relevant data or research.[43] The White House intends to use these responses to inform new policies and amplify best practices among employers and other stakeholder groups.

Notably, the blog post announcing this RFI was authored jointly by the White House Office of Science and Technology Policy and the White House’s Deputy Assistant to the President for Racial Justice and Equity.[44] The announcement specifically links these surveillance concerns with the administration’s goal of “advancing racial equity” and “promot[ing] fair and equitable workplaces.”[45]

On May 4, 2023, the Biden Administration announced a number of different actions designed to “promote responsible American innovation in artificial intelligence.”[46] Although noting AI’s great potential for positive change, President Biden emphasized that his administration would “place people and communities at the center” of AI policies.[47]

These efforts to promote responsible AI growth include:

New Investments in American AI Research & Development: The National Science Foundation announced $140 million in funding to launch seven new National AI Research Institutes focused on promoting responsible innovation by facilitating collaborative efforts across government, academia, and the private sector and by pursuing transformative (but ethical) AI advances. This will bring the total number of Institutes in the United States to 25.
Public Assessments of Existing Generative AI Systems: The Biden Administration announced that it had secured independent commitments from a wide range of leading AI developers to participate in a public evaluation of their AI systems. As part of this evaluation, AI experts will consider how these systems align with the draft Blueprint for an AI Bill of Rights published by the White House in October 2022.[48]
Policies to Mitigate AI Risks and Harness AI Opportunities: The White House Office of Management and Budget announced that it will be releasing for public comment a draft policy on the use of AI systems by the U.S. government. The policy is intended to empower agencies to responsibly use AI to advance their missions and improve their ability to equitably serve Americans.

The same day that these actions were announced, President Biden, Vice President Harris, the Secretary of Commerce, and other senior officials in the Biden White House and Administration met with CEOs of key technology companies such as Microsoft and Open AI at the White House.[49] President Biden told the CEOs that they have a “fundamental responsibility to make sure their products are safe and secure before they are deployed or made public.”[50] Vice President Harris noted AI’s “potential to improve people’s lives and tackle some of society’s biggest challenges.”[51] However, echoing remarks from the President, the Vice President warned that their companies have an “ethical, moral, and legal responsibility” to ensure the safety and security of AI technologies.[52] Given that the meeting was attended by a wide range of top administration officials, expect a whole of government approach to address issues involving AI.

III. How Gibson Dunn Can Assist

Gibson Dunn’s Public Policy, Artificial Intelligence, and Privacy, Cybersecurity and Data Innovation Practice Groups are closely monitoring legislative and regulatory actions in this space and are available to assist clients through strategic counseling; real-time intelligence gathering; developing and advancing policy positions; drafting legislative text; shaping messaging; and lobbying Congress.

________________________

[1] Cat Zakrzewski, Federal regulators call AI discrimination a ‘new civil rights frontier,’ WASH. POST (Apr. 25, 2023), https://www.washingtonpost.com/technology/2023/04/25/artificial-intelligence-bias-eeoc/ (“Though this generation of regulators long has sounded the alarm about the risks posed by AI, its work has taken on greater urgency as tech companies engage in an arms race following the release of ChatGPT.”).

[2] Press Release, Senate Democrats, Schumer Launches Major Effort to Get Ahead of Artificial Intelligence (Apr. 13, 2023), https://www.democrats.senate.gov/newsroom/press-releases/schumer-launches-major-effort-to-get-ahead-of-artificial-intelligence (“Leader Schumer believes that it is imperative for the United States to lead and shape the rules governing such a transformative technology and not permit China to lead on innovation or write the rules of the road.”).

[3] Oversight of A.I.: Rules for Artificial Intelligence: Hearing Before the Subcomm. on Privacy, Tech., and the Law of the S. Comm. on the Judiciary, 118th Cong. (2023), https://www.judiciary.senate.gov/committee-activity/hearings/oversight-of-ai-rules-for-artificial-intelligence; Artificial Intelligence in Government: Hearing Before the S. Comm. on Homeland Sec. & Gov’t Affairs, 118th Cong. (2023), https://www.hsgac.senate.gov/hearings/artificial-intelligence-in-government/.

[4] Ashley Gold, Top AI CEOs will meet at White House, Axios (May 2, 2023), https://www.axios.com/2023/05/02/white-house-ai-leaders-ceos-meeting.

[5] Press Release, White House, FACT SHEET: Biden-Harris Administration Announces New Actions to Promote Responsible AI Innovation that Protects Americans’ Rights and Safety (May 4, 2022), https://www.whitehouse.gov/briefing-room/statements-releases/2023/05/04/fact-sheet-biden-harris-administration-announces-new-actions-to-promote-responsible-ai-innovation-that-protects-americans-rights-and-safety/.

[6] The White House, Office for Science and Technology Policy, Blueprint for an AI Bill of Rights, https://www.whitehouse.gov/ostp/ai-bill-of-rights/; Deirdre Mulligan & Jenny Yang, Hearing from the American People: How Are the Automated Tools Being Used to Surveil, Monitor, and Manage Workers?, The White House – OSTP Blog (May 1, 2023), https://www.whitehouse.gov/ostp/news-updates/2023/05/01/hearing-from-the-american-people-how-are-automated-tools-being-used-to-surveil-monitor-and-manage-workers/.

[7] Press Release, Fed. Trade Comm’n, Joint Statement on Enforcement Efforts Against Discrimination and Bias in Automated Systems (Apr. 25, 2023), https://www.ftc.gov/system/files/ftc_gov/pdf/EEOC-CRT-FTC-CFPB-AI-Joint-Statement%28final%29.pdf.

[8] Zakrzewski, supra note 1.

[9] Press Release, Senate Democrats, Schumer Launches Major Effort to Get Ahead of Artificial Intelligence (Apr. 13, 2023), https://www.democrats.senate.gov/newsroom/press-releases/schumer-launches-major-effort-to-get-ahead-of-artificial-intelligence (“Leader Schumer believes that it is imperative for the United States to lead and shape the rules governing such a transformative technology and not permit China to lead on innovation or write the rules of the road.”).

[10] Brendan Bordelon, Congress in a ‘mad rush’ to catch up on AI, Politico (Apr. 26, 2023), https://subscriber.politicopro.com/article/2023/04/congress-in-a-mad-rush-to-catch-up-on-ai-00094070.

[11] Id.

[12] Press Release, Senate Democrats, Schumer Launches Major Effort to Get Ahead of Artificial Intelligence (Apr. 13, 2023), https://www.democrats.senate.gov/newsroom/press-releases/schumer-launches-major-effort-to-get-ahead-of-artificial-intelligence.

[13] Andrew Solender & Ashley Gold, Scoop: Schumer lays groundwork for Congress to regulate AI, Axios (Apr. 13, 2023), https://www.axios.com/2023/04/13/congress-regulate-ai-tech.

[14] Id.

[15] Id.

[16] Id.

[17] Press Release, Senate Democrats, Schumer Launches Major Effort to Get Ahead of Artificial Intelligence (Apr. 13, 2023), https://www.democrats.senate.gov/newsroom/press-releases/schumer-launches-major-effort-to-get-ahead-of-artificial-intelligence. Schumer has often invoked American values when discussing the need to “grapple with artificial intelligence” while also “seek[ing] to invest in American ingenuity” and “solidify[ing] American innovation and leadership.” See Press Release, Senate Democrats, Majority Leader Schumer Floor Remarks on Artificial Intelligence (May 4, 2023), https://www.democrats.senate.gov/newsroom/press-reports/majority-leader-schumer-floor-remarks-on-artificial-intelligence.

[18] See Press Release, White House, Office of Science and Technology Policy, Promoting the Use of Trustworthy Artificial Intelligence in Government (Dec. 3, 2020), https://trumpwhitehouse.archives.gov/articles/promoting-use-trustworthy-artificial-intelligence-government/ (listing transparency as one of the “nine common principles for the design, development, acquisition and use of AI” that must guide federal agencies).

[19] Press Release, Senate Democrats, Schumer Launches Major Effort to Get Ahead of Artificial Intelligence (Apr. 13, 2023), https://www.democrats.senate.gov/newsroom/press-releases/schumer-launches-major-effort-to-get-ahead-of-artificial-intelligence.

[20] See Press Release, Booker, Wyden, Clarke Introduce Bill Requiring Companies to Target Bias in Corporate Algorithms (Apr. 10, 2019), https://www.booker.senate.gov/news/press/booker-wyden-clarke-introduce-bill-requiring-companies-to-target-bias-in-corporate-algorithms.

[21] Id.

[22] Id.

[23] Algorithmic Accountability Act of 2022, S. 3572, 117th Cong. § 3(b)(1) (2022). See also Algorithmic Accountability Act of 2022, H.R. 6580, 117th Cong. § 3(b)(1) (2022). [Because the Senate and House versions of this bill are identical, all subsequent citations will be to S. 3572 only.]

[24] Id. at § 4(a).

[25] Id. at § 3(b)(1)(D)–(E).

[26] Id. at § 3(b)(1)(F).

[27] Id. at § 5.

[28] Id. at § 3(b)(1)(D).

[29] Id. at § 2(7)(A).

[30] Id. at § 2(8).

[31] In the Senate, nine Democratic senators currently co-sponsor the bill, while thirty-nine Democrat Members co-sponsor the House bill. Algorithmic Accountability Act of 2022, S. 3572, 117th Cong. (2022); Algorithmic Accountability Act of 2022, H.R. 6580, 117th Cong. (2022).

[32] Press Release, Senator Markey, Representative Matsui Introduce Legislation to Combat Harmful Algorithms and Create New Online Transparency Regime (May 27, 2021), https://www.markey.senate.gov/news/press-releases/senator-markey-rep-matsui-introduce-legislation-to-combat-harmful-algorithms-and-create-new-online-transparency-regime.

[33] Algorithmic Justice and Online Platform Transparency Act, S. 1896, 117th Cong. § 6(a)–(d) (2022); Algorithmic Justice and Online Platform Transparency Act, H.R. 3611, 117th Cong. § 6(a)–(d) (2022). [Because the Senate and House versions of this bill are substantively identical, all subsequent citations will be to S. 1896 only.]

[34] Id. at § 6(e).

[35] Id. at § 4(a).

[36] Id. at § 4(b).

[37] Id. at § 8(a).

[38] Id. at § 6(h).

[39] Id. at § 7.

[40] Algorithmic Justice and Online Platform Transparency Act, S. 1896, 117th Cong. (2022); Algorithmic Justice and Online Platform Transparency Act, H.R. 3611, 117th Cong. (2022).

[41] Deirdre Mulligan & Jenny Yang, Hearing from the American People: How Are the Automated Tools Being Used to Surveil, Monitor, and Manage Workers?, The White House – OSTP Blog (May 1, 2023), https://www.whitehouse.gov/ostp/news-updates/2023/05/01/hearing-from-the-american-people-how-are-automated-tools-being-used-to-surveil-monitor-and-manage-workers/.

[42] Id.; see The Daily: The Rise of Workplace Surveillance, N.Y. Times (Aug. 24, 2022), https://www.nytimes.com/2022/08/24/podcasts/the-daily/workplace-surveillance-productivity-tracking.html.

[43] Mulligan & Yang, supra note 43.

[44] Id.

[45] Id.

[46] Press Release, White House, FACT SHEET: Biden-Harris Administration Announces New Actions to Promote Responsible AI Innovation that Protects Americans’ Rights and Safety (May 4, 2022), https://www.whitehouse.gov/briefing-room/statements-releases/2023/05/04/fact-sheet-biden-harris-administration-announces-new-actions-to-promote-responsible-ai-innovation-that-protects-americans-rights-and-safety/.

[47] Id.

[48] See The White House, Office for Science and Technology Policy, Blueprint for an AI Bill of Rights, https://www.whitehouse.gov/ostp/ai-bill-of-rights/.

[49] Press Release, White House, FACT SHEET: Biden-Harris Administration Announces New Actions to Promote Responsible AI Innovation that Protects Americans’ Rights and Safety (May 4, 2022), https://www.whitehouse.gov/briefing-room/statements-releases/2023/05/04/fact-sheet-biden-harris-administration-announces-new-actions-to-promote-responsible-ai-innovation-that-protects-americans-rights-and-safety/.

[50] Press Release, White House, Readout of White House Meeting with CEOs on Advancing Responsible Artificial Intelligence Innovation (May 4, 2023), https://www.whitehouse.gov/briefing-room/statements-releases/2023/05/04/readout-of-white-house-meeting-with-ceos-on-advancing-responsible-artificial-intelligence-innovation/.

[51] Press Release, White House, Statement from Vice President Harris After Meeting with CEOs on Advancing Responsible Artificial Intelligence Innovation (May 4, 2023), https://www.whitehouse.gov/briefing-room/statements-releases/2023/05/04/statement-from-vice-president-harris-after-meeting-with-ceos-on-advancing-responsible-artificial-intelligence-innovation/.

[52] Id.

The following Gibson Dunn lawyers prepared this client alert: Michael Bopp, Roscoe Jones, Jr., Vivek Mohan, Alexander Southwell, Amanda Neely, Daniel Smith, Frances Waldmann, and Sean Brennan*.

Gibson, Dunn & Crutcher’s lawyers are available to assist in addressing any questions you may have regarding these issues. Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any of the following in the firm’s Public Policy, Artificial Intelligence, or Privacy, Cybersecurity & Data Innovation practice groups:

Public Policy Group:
Michael D. Bopp – Co-Chair, Washington, D.C. (+1 202-955-8256, [email protected])
Roscoe Jones, Jr. – Co-Chair, Washington, D.C. (+1 202-887-3530, [email protected])
Amanda H. Neely – Washington, D.C. (+1 202-777-9566, [email protected])
Daniel P. Smith – Washington, D.C. (+1 202-777-9549, [email protected])

Artificial Intelligence Group:
Cassandra L. Gaedt-Sheckter – Co-Chair, Palo Alto (+1 650-849-5203, [email protected])
Vivek Mohan – Co-Chair, Palo Alto (+1 650-849-5345, [email protected])
Eric D. Vandevelde – Co-Chair, Los Angeles (+1 213-229-7186, [email protected])
Frances A. Waldmann – Los Angeles (+1 213-229-7914, [email protected])

Privacy, Cybersecurity and Data Innovation Group:
S. Ashlie Beringer – Co-Chair, Palo Alto (+1 650-849-5327, [email protected])
Jane C. Horvath – Co-Chair, Washington, D.C. (+1 202-955-8505, [email protected])
Alexander H. Southwell – Co-Chair, New York (+1 212-351-3981, [email protected])

Sean J. Brennan is an associate working in the firm’s Washington, D.C. office who currently is admitted to practice only in New York.

Gibson Dunn’s Public Policy Practice Group is closely monitoring developments regarding the infrastructure permitting debate in Congress. We offer this alert summarizing and analyzing the U.S. Senate Environment and Public Works Committee’s hearing on May 17, 2023, to help our clients prepare for potential changes in infrastructure permitting and environmental authorization laws. We are also available to help our clients arrange meetings on Capitol Hill to discuss permitting reform proposals or to share real-world examples of how the permitting process has affected them.

* * *

On May 17, 2023, the U.S. Senate Committee on Environment and Public Works (“EPW” or the “Committee”) held a hearing to hear testimony from administration officials regarding the need for federal infrastructure permitting reform. Committee Chairman Tom Carper (D-DE) started the hearing by echoing President Biden’s campaign slogan, saying, “We need to finish the job” on infrastructure reform.” He emphasized the importance of connecting clean energy power to the grid.

Witnesses included:

The Honorable Brenda Mallory, Chair, Council on Environmental Quality;
Christine Harada, Executive Director, Federal Permitting Improvement Steering Council; and
The Honorable Jason Miller, Deputy Director for Management, Office of Management and Budget.

We provide a full hearing summary and analysis below. Of particular interest to clients, however:

The divides between Democratic and Republican permitting reform goals were stark. Chairman Carper re-emphasized the three points he said must be included in any permitting reform proposal that he raised during the last EPW hearing: (1) it must reduce greenhouse gas emissions, including addressing transmission barriers that make it harder to connect to the grid, without undermining bedrock environmental laws; (2) it must support early and meaningful community engagement; and (3) it must provide businesses with certainty and predictability to make long term decisions. He said that the House Republicans’ proposals would undermine NEPA and in some cases eliminate judicial review, which is not acceptable to him. He endorsed the idea of expanding programmatic environmental impact statements for certain offshore wind projects.
Ranking Member Shelley Moore Capito (R-WV) argued that regulators need firm deadlines for environmental reviews and constant oversight. She urged that Congress not pit renewable energy against conventional energy or various projects against each other. She endorsed judicial reform to prevent projects from being held in limbo during litigation. She called for a transparent committee process in Congress and compromise on a bipartisan solution.
Ms. Mallory said that CEQ soon would be proposing rules to update National Environmental Policy Act (“NEPA”) regulations and promote more community engagement in the NEPA environmental review process.
When asked for specific permitting process improvements, the administration witnesses broke little new ground. All three relied heavily on the administration’s May 2022 Permitting Action Plan and the President’s permitting priorities released on May 10, 2023.

Key substantive issues surrounding permitting reform raised in the hearing included: (1) the effectiveness of the FAST-41 permitting reforms; (2) community engagement; (3) the scope of permitting reform; (4) enforceable timelines, regulatory clarity, and judicial review; and (5) resources.

1. Effectiveness of FAST-41 Permitting Reforms

At every recent hearing on permitting reform, witnesses and members have coalesced around the effectiveness of the FAST-41 reforms.[1] It continues to be likely that any permitting reform package will expand FAST-41 reforms such as identifying a lead agency for each project, increasing communication between permitting agencies, and allowing the public more transparency into the permitting process to more projects.

Ms. Harada touted FAST-41’s success, noting that the Federal Permitting Improvement Steering Council (“Permitting Council”) has helped permit 31 projects involving direct capital investments with a value of $160 billion. The Permitting Council is currently working on projects valued at $100 billion.

Ms. Mallory praised Congress for making FAST-41 permanent and credited its work for helping to reduce permitting timelines. She explained that the administration has applied many of the FAST-41 principles to projects beyond those covered by the FAST-41 program, including assigning lead agencies to projects, setting a clear and publicly available timeline, and monitoring performance throughout.

Senator Ben Cardin (D-MD) urged the Permitting Council to include more water supply projects as part of FAST-41.

2. Community Engagement

In his first line of questions, Chairman Carper focused on the importance of community engagement. All of the witnesses agreed that community engagement, “early and often,” is key to project success. He asked the witnesses to comment on coordination with state and local government, which Ms. Mallory acknowledged is incredibly important. She cited efforts on projects in Georgia and New York to coordinate with state governments and said no balls had been dropped in those processes. Senator Ed Markey (D-MA) noted the importance of including environmental justice communities early in the process.

Ranking Member Capito said she had no objection to increasing engagement, but expressed frustration that early and frequent community engagement was one of the only ideas being discussed.

3. Scope of Permitting Reform

A frequent point of contention between the Republicans and Democrats in the recent series of permitting hearings has been whether to reform permitting only for clean energy projects or for all energy projects. Senator Jeff Merkley (D-OR) argued that the administration should not be approving any new fossil fuel projects, while Ranking Member Capito argued that permitting reform needs to apply to all energy projects.

4. Enforceable Timelines, Regulatory Clarity, and Judicial Review

Ranking Member Capito expressed concern about regulators changing permitting standards through guidance rather than official notice-and-comment rulemaking. She also voiced support for clear and enforceable timelines. Mr. Miller explained that the administration had set timeline goals, but Ranking Member Capito pointed out that agencies “blow by them.” Mr. Miller suggested one remedy was to ensure that the administration understood the cause of each delay and was requiring agencies to provide remediation plans. Ranking Member Capito, however, was not satisfied with the lack of enforceability.

Senator Markey, on the other hand, expressed skepticism that setting strict timelines or page counts for NEPA filings would improve the permitting process. Ms. Harada agreed that targets should not “rigidly constrain” agencies from coming to the best solution.

Mr. Miller noted that, while it’s important to have a mechanism to resolve conflicts, it’s important for those conflicts not to drag out, and FAST-41 does include time limits associated with judicial review (FAST-41 projects are subject to a two-year statute of limitations under NEPA, instead of six).

5. Resources

Several senators, including Senator Markey and all of the witnesses commented on the importance of ensuring that federal agencies are sufficiently funded to handle the permitting process. Ms. Harada and Mr. Miller both pointed out the need for the Permitting Council also to be well resourced to facilitate project reviews, and they also discussed the need for improved technology to enhance the permitting process—some of which still takes place on paper forms.

* * *

Senior members of Gibson Dunn’s Public Policy Practice Group have more than 40 years of combined experience on Capitol Hill. Our team includes former congressional staff and Administration officials who have significant experience tracking, developing, and implementing infrastructure permitting reform legislation and regulations. We also have strong working relationships with key members of Congress and Biden administration officials focused on federal permitting reform.

Our team is available to assist clients through strategic counseling; real-time intelligence gathering on federal permitting reform legislation; developing and advancing policy positions; drafting legislative text; shaping messaging; and lobbying Congress. We also work with clients to craft regulatory comment letters; advocate before executive branch agencies; and navigate legislative and regulatory changes to federal infrastructure permitting laws.

_____________________

[1] The FAST-41 program was created in Title 41 of the Fixing America’s Surface Transportation (“FAST”) Act of 2015, Pub. L. No. 114–94. It created the Federal Permitting Improvement Steering Council and established a process under which sponsors of some of the largest infrastructure projects could apply to become “covered projects.” Once covered, a project receives certain benefits, including coordination of all participating agencies by a lead agency; a two-year statute of limitations under NEPA; and the opportunity for the Permitting Council executive director to resolve disputes between agencies. The permitting process for each covered project is tracked publicly at www.permits.performance.gov.

Gibson, Dunn & Crutcher’s lawyers are available to assist in addressing any questions you may have regarding these issues. Please contact the Gibson Dunn lawyer with whom you usually work in the firm’s Public Policy or Environmental Litigation and Mass Tort practice groups, or the following authors:

Michael D. Bopp – Co-Chair, Public Policy Group, Washington, D.C. (+1 202-955-8256, [email protected])

Roscoe Jones, Jr. – Co-Chair, Public Policy Group, Washington, D.C. (+1 202-887-3530, [email protected])

David Fotouhi – Washington, D.C. (+1 202-955-8502, [email protected])

Amanda H. Neely – Washington, D.C. (+1 202-777-9566, [email protected])

Daniel P. Smith – Washington, D.C. (+1 202-777-9549, [email protected])

Decided May 18, 2023

Twitter, Inc. v. Taamneh, No. 21-1496
Gonzalez v. Google LLC, No. 21-1333

Today, a unanimous Supreme Court rejected claims that social-media companies could be held liable under the Anti-Terrorism Act for allegedly not doing “enough” to remove terrorist-related content from their services. In light of that ruling, the Court declined to address whether plaintiffs’ claims were barred by Section 230 of the Communications Decency Act.

Background: Under the Anti-Terrorism Act (ATA) a United States national who is injured by an “act of international terrorism” may recover treble damages. 18 U.S.C. § 2333(a). Victims may also seek recovery from “any person who aids and abets, by knowingly providing substantial assistance, or who conspires with the person who committed such an act of international terrorism.” Id. § 2333(d)(2).

In Twitter, Inc. v. Taamneh, family members of a victim of the 2017 ISIS shooting at the Reina nightclub in Istanbul, Turkey, sued Facebook, Twitter, and Google under the ATA for aiding and abetting the attack. Plaintiffs did not allege that the terrorists who carried out the attack used the companies’ services or that the companies were aware of any specific ISIS accounts tied to the attack. Despite the extensive measures the companies take to block and remove terrorist accounts and terrorist content, plaintiffs alleged that the companies violated the ATA by not doing more.

The district court rejected plaintiffs’ claims, because (1) plaintiffs failed to plausibly allege that the defendants assisted committing the particular attack at issue and (2) it is not enough to allege that the defendants provided general assistance to a terrorist organization. The Ninth Circuit reversed, holding that allegations that a defendant assisted a “broader campaign of terrorism” are enough, even absent allegations that the defendant assisted the particular attack at issue.

Gonzalez v. Google LLC involves substantially similar allegations asserted by family members and the estate of a victim of the 2015 ISIS attacks in Paris. The trial court dismissed plaintiffs’ claims as barred by Section 230 of the Communications Decency Act of 1996, 47 U.S.C. § 230(c)(1), which protects websites and other “interactive computer service” providers from claims based on third-party content, and the Ninth Circuit affirmed.

Issues:

Taamneh: Whether a defendant that provides generic, widely available services to all its numerous users and “regularly” works to detect and prevent terrorists from using those services “knowingly” provided substantial assistance under Section 2333 merely because it allegedly could have taken more “meaningful” or “aggressive” action to prevent such use.

Gonzalez: Whether Section 230 applies to recommendations of third-party content.

Court’s Holdings:

Taamneh: No. Section 2333 requires allegations that the defendant consciously, voluntarily, and culpably participated in the terrorist act at issue in such a way as to help make it succeed.

Gonzalez: Given the overlap with the allegations in Taamneh, the Court declined to address the Section 230 issue and instead remanded for consideration in light of Taamneh.

“[T]he fundamental question of aiding-and-abetting liability [is]: Did defendants consciously, voluntarily, and culpably participate in or support the relevant wrongdoing? … [T]he answer in this case is no.”

Justice Thomas, writing for the Court

Gibson Dunn represented Meta Platforms, Inc. as Respondent Supporting Petitioner in Taamneh and Amicus in Gonzalez.

What It Means:

In Taamneh, the Court refused to expand aiding-and-abetting liability under Section 2333(d)(2) beyond the traditional, common-law understandings of aiding and abetting.
Liability under Section 2333(d)(2) is limited to defendants who “consciously and culpably” participate in the specific act of international terrorism that injured the plaintiffs. Although that requirement does not always demand “a strict nexus,” “the more attenuated the nexus, the more courts should demand that plaintiffs show culpable participation though intentional aid that substantially furthered the tort.”
Today’s opinion also underscores that providing goods or services to the general public should not itself give rise to aiding-and-abetting liability, even if the provider may become aware that its goods or services are being put to illicit ends. As the Court emphasized, imposing liability based on an alleged failure to act requires the plaintiff to make a heightened showing of assistance and scienter.
The Court also concluded that “[t]he mere creation of” social-media services “is not culpable.”
The Court’s decision to vacate and remand in Gonzalez without addressing Section 230 returns questions about the scope, interpretation, and application of Section 230 to the courts of appeals, which have developed an extensive body of cases construing and applying Section 230 since the statute was enacted in 1996.

The Court’s opinion is available here and here.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the Supreme Court. Please feel free to contact the following practice leaders:

Appellate and Constitutional Law Practice

Thomas H. Dupree Jr. +1 202.955.8547 [email protected]	Allyson N. Ho +1 214.698.3233 [email protected]	Julian W. Poon +1 213.229.7758 [email protected]
Lucas C. Townsend +1 202.887.3731 [email protected]	Bradley J. Hamburger +1 213.229.7658 [email protected]	Brad G. Hubbard +1 214.698.3326 [email protected]

Related Practice: Litigation

Reed Brodsky +1 212.351.5334 [email protected]	Theane Evangelis +1 213.229.7726 [email protected]	Veronica S. Moyé +1 214.698.3320 [email protected]
Helgi C. Walker +1 202.887.3599 [email protected]

Related Practice: Media, Entertainment and Technology

Scott A. Edelman
+1 310.557.8061
[email protected]

Kevin Masuda
+1 213.229.7872
[email protected]

Benyamin S. Ross
+1 213-229-7048
[email protected]

Related Practice: Privacy, Cybersecurity and Data Innovation

Ahmed Baladi +33 (0)1 56 43 13 50 [email protected]	S. Ashlie Beringer +1 650.849.5327 [email protected]	Jane C. Horvath +1 202.955.8505 [email protected]
Alexander H. Southwell +1 212.351.3981 [email protected]

Related Practice: White Collar Defense and Investigations

Stephanie Brooker +1 201.887.3502 [email protected]	Nicola T. Hanna +1 213.229.7269 [email protected]	Chuck Stevens +1 415.393.8391 [email protected]
F. Joseph Warin +1 202.887.3609 [email protected]

Decided May 18, 2023

Andy Warhol Foundation for the Visual Arts v. Goldsmith, No. 21-869

Today, the Supreme Court held 7-2 that the fact that a secondary work of art that incorporates copyrighted source material conveys a distinct meaning or message is not sufficient to render the secondary work transformative for purposes of the fair use analysis.

Background: Photographer Lynn Goldsmith licensed a black and white photograph of Prince to Vanity Fair for use as an artist’s reference in its November 1984 issue. The artist Vanity Fair chose, Andy Warhol, cropped the photograph, silkscreened it onto multiple canvases, and layered each canvas with different brightly colored paints. In all, Warhol created four drawings and 12 silkscreens from the photograph, one of which Vanity Fair ultimately published. After Prince’s death in 2016, the Andy Warhol Foundation licensed one of Warhol’s other silkscreened Prince images to Condé Nast for a special tribute issue. When Goldsmith asserted that Warhol’s image infringed her copyright, the Foundation sued her for a declaration that Warhol’s Prince series was protected under the fair use doctrine. Goldsmith countersued for copyright infringement. The district court held that the images were protected fair use because Warhol transformed Goldsmith’s original photograph to convey a different meaning. The Second Circuit reversed, cautioning that the addition of new meaning was not necessarily transformative.

Issue: Is a work of art sufficiently transformative for purposes of the fair use doctrine when it conveys a different meaning or message from the source material?

Court’s Holding:

No. That a work of art adds a new meaning or message to the source material is not sufficient to render that work transformative—courts must also consider the purpose and commercial nature of both the source material and the secondary work.

“Many secondary works add something new. That alone does not render such uses fair.”

Justice Sotomayor, writing for the Court

What It Means:

The decision is the first time the Supreme Court has addressed fair use in the context of visual art. The Court addressed only the first fair use factor, namely, “the purpose and character of the use, including whether such use is of a commercial nature or is for nonprofit educational purposes.” 17 U.S.C. § 107(1). For this factor, the Court confirmed that uses that have a further purpose or different character can be “transformative,” but clarified that the degree of difference must be balanced against the commercial nature of the use.
The Court explained that if the secondary use shares the same or similar purpose as the source material and is of a commercial nature, the factor is likely to weigh against fair use “absent some other justification for copying.” Slip op. 20. For example, the purpose of Warhol’s Soup Can series was “to comment on consumerism rather than advertise soup,” and thus served “a completely different purpose” than the original Campbell’s Soup label. Id. at 27. Here, in contrast, “portraits of Prince used to depict Prince in magazine stories about Prince . . . share substantially the same purpose” and “the copying use is of a commercial nature.” Id. at 12–13.
The Court limited its holding in Campbell v. Acuff-Rose Music, Inc., 510 U. S. 569 (1994), which upheld fair use in the context of musical parody. The Court explained that Campbell “cannot be read to mean that § 107(1) weighs in favor of any use that adds some new expression, meaning or message.” Slip op. 28. By limiting the availability of the fair use defense for secondary works that merely claim some further purpose or different character, the Court thus placed a premium on incentivizing and protecting original creation.
The Court’s decision could create new avenues to allege infringement by secondary works that build on or reference other works, although the Court emphasized that its analysis was “limit[ed]” to Warhol’s “commercial licensing of Orange Prince to Condé Nast.” Slip op. 21.

The Court’s opinion is available here.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the Supreme Court. Please feel free to contact the following practice leaders:

Appellate and Constitutional Law Practice

Thomas H. Dupree Jr. +1 202.955.8547 [email protected]	Allyson N. Ho +1 214.698.3233 [email protected]	Julian W. Poon +1 213.229.7758 [email protected]
Lucas C. Townsend +1 202.887.3731 [email protected]	Bradley J. Hamburger +1 213.229.7658 [email protected]	Brad G. Hubbard +1 214.698.3326 [email protected]

Related Practice: Intellectual Property

Kate Dominguez +1 212.351.2338 [email protected]	Y. Ernest Hsin +1 415.393.8224 [email protected]
Josh Krevitt +1 212.351.4000 [email protected]	Jane M. Love, Ph.D. +1 212.351.3922 [email protected]

Related Practice: Fashion, Retail and Consumer Products

Howard S. Hogan
+1 202.887.3640
[email protected]

Decided May 18. 2023

Amgen Inc. et al. v. Sanofi et al., No. 21-757

Today, the Supreme Court unanimously held that the Patent Act’s enablement requirement is satisfied only when a patent’s specification allows persons skilled in the art to make and use the full scope of the invention without more than a “reasonable” amount of experimentation under the circumstances.

Background: Amgen and Sanofi produce antibody medications to treat high LDL cholesterol. In 2011, each party obtained a patent covering the specific antibody used in its drugs. The antibodies in the drugs work by preventing a protein from interfering with the body’s natural regulation of LDL cholesterol. In 2014, Amgen obtained two patents that covered not only 26 specifically listed antibodies by their amino acid sequences, but also the “entire genus” of antibodies that performs this function—a claim that arguably covers millions of antibodies. Amgen then sued Sanofi for patent infringement.

Sanofi argued that the relevant claims were invalid because they did not satisfy the enablement requirement of the Patent Act, which requires a patent specification to describe “the manner and process of making and using” the invention in such a way “as to enable any person skilled in the art to which it pertains . . . to make and use the same.” 35 U.S.C. § 112(a). According to Sanofi, the claims for the antibodies beyond the 26 specifically listed essentially required scientists to engage in a trial-and-error process of discovery. After lengthy proceedings, the district court agreed, and the Federal Circuit affirmed.

Issue: Where a patent claims an entire class of processes, machines, manufactures, or compositions of matter, must the patent specification enable a person skilled in the art to make and use the entire class?

Court’s Holding:

Yes. To satisfy the Patent Act’s enablement requirement, a patent’s specification must enable the full scope of the invention as defined by the patent’s claims, subject to a reasonable amount of adaptation or experimentation.

“[T]he specification must enable the full scope of the invention as defined by its claims. The more one claims, the more one must enable.”

Justice Gorsuch, writing for the Court

What It Means:

The Patent Act’s enablement requirement is not satisfied when a patent claims a broad class but its specification requires undue experimentation or trial-and-error discovery to make and use the entire class.
The Court stopped short of requiring that a patent specification need always describe with particularity how to make and use every embodiment within a claimed class. In some cases, it may be sufficient to provide an example that discloses a general quality running through the class.
The Court stated that a specification is not necessarily inadequate simply because it involves some measure of adaptation or testing, but such experimentation must be reasonable. Reasonableness will depend on the nature of the invention and the underlying art, meaning that courts will likely make this determination on a case-by-case basis.
Overall, the decision reinforces the enablement requirement as a defense to patent-infringement claims, and will likely incentivize more detailed specifications in patent applications.

The Court’s opinion is available here.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the Supreme Court. Please feel free to contact the following practice leaders:

Appellate and Constitutional Law Practice

Thomas H. Dupree Jr. +1 202.955.8547 [email protected]	Allyson N. Ho +1 214.698.3233 [email protected]	Julian W. Poon +1 213.229.7758 [email protected]
Lucas C. Townsend +1 202.887.3731 [email protected]	Bradley J. Hamburger +1 213.229.7658 [email protected]	Brad G. Hubbard +1 214.698.3326 [email protected]

Related Practice: Intellectual Property

Kate Dominguez +1 212.351.2338 [email protected]	Y. Ernest Hsin +1 415.393.8224 [email protected]
Josh Krevitt +1 212.351.4000 [email protected]	Jane M. Love, Ph.D. +1 212.351.3922 [email protected]

Unfair business practices encompass fraud, misrepresentation, and oppressive or unconscionable acts or practices by businesses, often against consumers. In California, individuals and specified governmental agencies are authorized to bring civil actions for unfair competition and to recover civil penalties or injunctive relief pursuant to the Unfair Competition Law (UCL) under Business and Professions Code Section 17200.

California’s Government Code authorizes the Attorney General, as a head of a state department, to investigate and prosecute actions concerning certain matters, including UCL violations. It also equips the Attorney General with certain investigatory tools, including pre-litigation subpoena power, to effectuate enforcement of the law.

Among the agencies authorized to prosecute UCL actions are city attorneys of cities with populations in excess of 750,000 and county counsel of any county within which a city has a population in excess of 750,000, as well as (in the case of San Francisco) city attorneys of a city and county. Although certain county counsel and city attorneys can bring UCL actions, prior to the passage and enactment of AB 2766, these entities were not afforded the same tools as the Attorney General and district attorneys to investigate possible unfair competition cases. AB 2766, enacted on January 1, 2023, amended Section 16759 of the Business and Professions Code to extend these same investigatory powers to city and county attorneys who are also authorized to bring UCL claims (subject to certain requirements).

Sponsors and supporters of the bill cited increased reports of consumer fraud and price gouging during the COVID-19 pandemic, which they claimed demonstrated a need for greater enforcement of California’s consumer protection laws.

Pre-Existing Relevant Law

There is a constellation of statutes that are relevant to enforcement of the UCL.

Business and Professions Code Section 17200 defines “unfair competition” to include any unlawful, unfair, or fraudulent business act or practice and any unfair, deceptive, untrue, or misleading advertising, and any act prohibited by the False Advertising Law, Business and Professions Code Section 17500 et seq. Accordingly, the UCL is a tool for enforcement relating to a wide range of consumer-facing business activity.

Government Code Section 11181 authorizes the heads of each state department to make investigations and prosecute actions concerning matters relating to the business activities and subjects under their jurisdiction; violations of any law or rule or order of the department; and such other matters as may be provided by law. In order to effectuate these investigations and actions, the law provides the heads of these departments with certain investigatory powers. Among these powers is the ability to promulgate interrogatories; the ability to issue subpoenas for the attendance of witnesses and the production of certain documents, testimony, or other materials, and the ability to inspect and copy those same documents and materials. With regard to the UCL specifically, the relevant “state department head” is the Attorney General.

But the Attorney General is not the only entity authorized to prosecute violations of the UCL. Under Business and Professions Code Section 17204, in addition to the Attorney General, actions under the UCL may be brought by a district attorney, a city attorney or county counsel, or an individual person who has suffered injury in fact and has lost money or property as a result of the unfair competition. In the case of city attorneys and county counsels of counties and cities with populations smaller than 750,000, consent from the district attorney is required to bring an action under the UCL. In counties and cities with populations larger than that number, no such consent is required. Thus, the only city attorneys with authority to independently bring actions under the UCL are those in San Jose, San Diego, and Los Angeles, and the only county counsel are those in San Diego County, Los Angeles County, and Santa Clara County (as the cities of San Diego, Los Angeles, and San Jose all have populations over 750,000).

In order to facilitate their investigation of violations of the UCL, district attorneys are granted the same investigative powers given to the Attorney General pursuant to Section 16759 of the Business and Professions Code, subject to certain safeguards. In particular, district attorneys’ investigations under this section must abide by the procedures laid out in the relevant sections of Government Code and are subject to the California Right to Financial Privacy Act.

Changes to the Law Under AB 2766

AB 2766 extended the same investigatory powers granted to the Attorney General and the district attorneys to the city attorneys and county counsel which are already authorized to bring UCL claims when these entities reasonably believe that there may have been a violation of the UCL.

Specifically, the new law:

Grants all of the powers that are granted to the Attorney General as the head of a state department to make investigations and prosecute actions regarding unfair competition laws (commencing with Business and Professions Code Section 17200) to the city attorney of any city having a population in excess of 750,000, to the county counsel of any county within which a city has a population in excess of 750,000, or to a city attorney of a city and county, when the city attorney or county counsel reasonably believes that there may have been a violation of the unfair competition laws;
Makes any action brought by a city attorney or county counsel pursuant to the bill, like an action brought by the Attorney General or district attorney, subject to the provisions of the “California Right to Financial Privacy Act” set forth in existing law; and
Clarifies that court orders sought pursuant to the bill shall be sought in the superior court of the county in which the district attorney, city attorney, or county counsel, who is seeking the order and authorized to bring an action pursuant to the bill, holds office.

AB 2766 amended Business and Professions Code section 16759—which previously provided district attorneys with pre-litigation investigatory authority for potential UCL actions—to expressly provide city attorneys and county counsel in large jurisdictions with the same pre-litigation investigative authority for suspected UCL violations. Based on the law’s population requirements, AB 2677 applies to legal authorities in San Diego City and County, Los Angeles City and County, Santa Clara County and San Jose, and San Francisco (which co-sponsored the bill).

Arguments For And Against AB 2766

AB 2766 garnered substantial support on both the Senate and Assembly floors (29 in favor versus 9 against and 57 in favor versus 15 against, respectively). This section will detail some highlights of the discourse regarding the bill in the Legislature prior to its passage.

Proponents of the law argued that “AB 2766 will bolster consumer protection enforcement efforts” and will “[e]nsur[e] a robust consumer protection investigatory framework to protect businesses that play by the rules.” Further, it will “ensure consistency in the UCL for those empowered to enforce [it].”

Opponents argued that the bill—particularly the subpoena power—”potentially infring[es] on the judicial due process rights of businesses, organizations and individuals in California,” and “makes businesses vulnerable to baseless fishing expeditions and political maneuvers, as standard necessary (sic) to issue a pre-litigation subpoena is disturbingly low.”

Supporters of the bill claimed that opponents’ concerns about overreaching were unfounded, as “important safeguards exist under current law to protect against overreach by a prosecutor,” which also apply under AB 2766. Specifically, the city attorneys and county counsels with new investigative authority are subject to the same parameters currently applied to district attorneys’ use of these investigatory powers in Section 16759, including the procedures laid out in the Government Code, and will also be subject to the California Right to Financial Privacy Act. This Act protects the confidential relationship between financial institutions and their customers by, in part, providing more procedural safeguards with respect to subpoenaing financial records. In addition, these city attorneys and county counsel are only granted these expanded investigatory powers when the city attorney or county counsel “reasonably believes that there may have been a violation of [the UCL].” Further, the recipient of the subpoena can refuse to comply, leaving it up to the prosecutor to go to court to compel production.

Potential Impacts of AB 2766

Proponents of AB 2766 claimed that complaints of UCL violations rose during the pandemic, necessitating the bolstering of UCL enforcement measures. In response, Assembly Member Brian Maienschein (D-San Diego) authored the bill after “work[ing] with numerous attorneys to identify solutions to strengthening consumer protection laws in California.” The bill was co-sponsored by the City and County of San Francisco, City of San Diego, County of Los Angeles, and County of Santa Clara.

Exactly how widely the new powers granted under the bill will be operationalized remains to be seen, but there are many indications from attorneys in the co-sponsoring cities and counties that they intend to use them widely. Following Governor Gavin Newsom’s signing of AB 2766 in September 2022, many public prosecutors lauded the legislation and publicly forecasted their offices’ plans to use the new investigative powers once the law took effect. Said San Francisco City Attorney David Chiu:

“During the pandemic we saw a troubling surge in price gouging, consumer fraud, and unfair business practices,” said San Francisco City Attorney David Chiu. “As our office continues to pursue bad actors that seek to defraud the public, this new law will give us more tools to better protect consumers and workers.”

Then-Los Angeles City Attorney Mike Feuer echoed this sentiment, stating:

“Time and again, we’ve successfully fought for hard-working Angelenos who’ve been ripped off—sometimes devastated—by unlawful business practices. Our office will be all the more impactful now that we have this key investigative tool, allowing us to get to the heart of scams and put a stop to them even faster.”

Acting Los Angeles County Counsel Dawyn Harrison, Santa Clara County Counsel James R. Williams, and San Diego City Attorney Mara W. Elliott also released similar statements.

Indeed, the San Francisco and San Diego City Attorneys’ offices have already begun utilizing their investigative powers in a highly public context—openly touting their initiation of an investigation into a home title locking business, which the city attorneys allege to be deceptive and predatory. Not only did the San Francisco City Attorney issue a press release proudly proclaiming that “[t]he subpoena [it issued] reflects an early use of city attorney’s authority under Assembly Bill 2766”–it coupled the announcement with a clear indication that the office was seeking to use its new power immediately to stop, and not just investigate, the target’s conduct, which the office labeled as “a scam, plain and simple.”

It is impossible to say with certainty that AB 2766 will result in increased numbers of UCL prosecutions by public prosecutors, as county counsel have possessed the power to prosecute UCL violations since the passage of SB 709 in 1991 and city attorneys since the passage of SB 1725 in 1974. However, AB 2766 is aligned with a general push toward broader power to prosecute and enforce the UCL since the advent of the statute. Most recently, the Supreme Court of California confirmed that local prosecutors’ power to enforce the UCL goes beyond their territorial jurisdictions, in lockstep with that of the Attorney General. (Abbott Lab’ys v. Superior Ct. of Orange Cnty. (2020) 9 Cal. 5th 642, 661.) Because of the relationship between Sections 17200 and 16759 of the Business and Professions Code, the new investigatory powers of city and county attorneys under AB 2766 also likely extend outside of local prosecutors’ jurisdictions, granting them the authority to investigate conduct that occurred elsewhere. This combination of greater authority to investigate UCL offenses, more expansive jurisdictional reach, and early signals from newly empowered city and county attorneys following the passage of AB 2766, point to the potential for a pronounced rise in aggressive UCL investigations by public prosecutors—particularly by city attorneys in California’s largest cities, which are already known for their frequent use of affirmative enforcement lawsuits on behalf of consumers.

The following Gibson Dunn lawyers prepared this client alert: Winston Chan, Michael Farhang, Douglas Fuchs, Nicola T. Hanna, Meredith Spoto, Chuck Stevens, Eric D. Vandevelde, Benjamin Wagner, and Debra Wong Yang.

Gibson Dunn has more than 250 white collar lawyers around the globe who are available to assist in addressing any questions you may have regarding these issues. Please contact the Gibson Dunn lawyer with whom you usually work, the authors, or any member of the firm’s U.S. White Collar Defense and Investigations or Anti-Corruption and FCPA practice groups below:

White Collar Defense and Investigations Group – United States:

Los Angeles
Michael H. Dore (+1 213-229-7652, [email protected])
Michael M. Farhang (+1 213-229-7005, [email protected])
Diana M. Feinstein (+1 213-229-7351, [email protected])
Douglas Fuchs (+1 213-229-7605, [email protected])
Nicola T. Hanna – Co-Chair (+1 213-229-7269, [email protected])
Poonam G. Kumar (+1 213-229-7554, [email protected])
Marcellus McRae (+1 213-229-7675, [email protected])
Eric D. Vandevelde (+1 213-229-7186, [email protected])
Debra Wong Yang (+1 213-229-7472, [email protected])
Meredith K. Spoto (+1 213-229-7060, [email protected])

San Francisco
Winston Y. Chan (+1 415-393-8362, [email protected])
Charles J. Stevens – Co-Chair (+1 415-393-8391, [email protected])
Michael Li-Ming Wong (+1 415-393-8333, [email protected])

Palo Alto
Benjamin Wagner (+1 650-849-5395, [email protected])

Washington, D.C.
Stephanie Brooker – Co-Chair (+1 202-887-3502, [email protected])
Courtney M. Brown (+1 202-955-8685, [email protected])
David P. Burns (+1 202-887-3786, [email protected])
John W.F. Chesley (+1 202-887-3788, [email protected])
Daniel P. Chung (+1 202-887-3729, [email protected])
M. Kendall Day (+1 202-955-8220, [email protected])
David Debold (+1 202-955-8551, [email protected])
Michael S. Diamant (+1 202-887-3604, [email protected])
Gustav W. Eyler (+1 202-955-8610, [email protected])
Richard W. Grime (+1 202-955-8219, [email protected])
Scott D. Hammond (+1 202-887-3684, [email protected])
George J. Hazel (+1 202-887-3674, [email protected])
Judith A. Lee (+1 202-887-3591, [email protected])
Adam M. Smith (+1 202-887-3547, [email protected])
Patrick F. Stokes – Co-Chair (+1 202-955-8504, [email protected])
Oleh Vretsona (+1 202-887-3779, [email protected])
F. Joseph Warin – Co-Chair (+1 202-887-3609, [email protected])
Amy Feagles (+1 202-887-3699, [email protected])
David C. Ware (+1 202-887-3652, [email protected])
Ella Alves Capone (+1 202-887-3511, [email protected])
Nicholas U. Murphy (+1 202-777-9504, [email protected])
Melissa Farrar (+1 202-887-3579, [email protected])
Nicole Lee (+1 202-887-3717, [email protected])
Jason H. Smith (+1 202-887-3576, [email protected])
Pedro G. Soto (+1 202-955-8661, [email protected])

New York
Zainab N. Ahmad (+1 212-351-2609, [email protected])
Reed Brodsky (+1 212-351-5334, [email protected])
Mylan L. Denerstein (+1 212-351-3850, [email protected])
Barry R. Goldsmith (+1 212-351-2440, [email protected])
Karin Portlock (+1 212-351-2666, [email protected])
Mark K. Schonfeld (+1 212-351-2433, [email protected])
Orin Snyder (+1 212-351-2400, [email protected])
Alexander H. Southwell (+1 212-351-3981, [email protected])
Brendan Stewart (+1 212-351-6393, [email protected])

Denver
Kelly Austin – Co-Chair (+1 303-298-5980, [email protected])
Ryan T. Bergsieker (+1 303-298-5774, [email protected])
Robert C. Blume (+1 303-298-5758, [email protected])
John D.W. Partridge (+1 303-298-5931, [email protected])
Laura M. Sturges (+1 303-298-5929, [email protected])

Houston
Gregg J. Costa (+1 346-718-6649, [email protected])

Gibson Dunn is pleased to announce the establishment of its Child and Forced Labor Risks Global Task Force to help our clients prevent illegal child and forced labor in their workforce, evaluate their supply chains, and respond to investigations and litigation arising from illegal child labor and forced labor allegations.

Governments around the world are increasing their scrutiny of illegal child labor and forced labor. In the United States, the Department of Labor and Congress have recently launched investigations of companies’ child labor policies and compliance practices that pose substantial legal, financial, and reputational risks for those companies. Congress also has enacted statutes to prevent forced labor globally and recently questioned several companies regarding allegations of forced labor in their supply chains. In Europe, laws combating modern slavery and child labor are emerging across individual jurisdictions, with potential for additional legislation that will impose mandatory human rights and due diligence obligations on certain corporations with a European commercial footprint. Similarly, governments in the Asia Pacific region are grappling with ways to address the issue through a combination of legislation and enforcement.

The Gibson Dunn team offers holistic compliance and response strategies to help our clients implement best-of-class policies related to forced labor and illegal child labor and to ensure they are prepared to respond effectively to civil, criminal, or congressional investigations or litigation relating to alleged forced labor or illegal child labor in their workforce or their supply chains.

Working together, our Labor and Employment, White Collar Defense and Investigations, Congressional Investigations, Crisis Management, Public Policy, Environmental Social Governance (ESG), Securities Regulation and Corporate Governance, Transnational Litigation, International Trade, and Litigation practice groups provide a range of services to root out and prevent forced labor and illegal child labor in clients’ workforce and help clients emerge stronger after investigations and enforcement actions.

Read More

This document is for informational purposes only and does not, and is not intended to, constitute legal advice or create an attorney-client relationship. You should contact a Gibson Dunn attorney directly to see if they are able to provide legal advice with respect to a particular legal matter.

Gibson Dunn’s multidisciplinary Child Forced Labor Risks Global Task Force ([email protected]) members are available to assist clients in their efforts to prevent illegal child labor in their own and their suppliers’ workforce and to guide clients through government investigations and litigation based on allegations of illegal child labor or forced labor. Please contact the Gibson Dunn lawyer with whom you usually work, the Task Force, or any of the following authors for additional information about how we may assist you.

Congressional Investigations and Public Policy:
Michael D. Bopp – Washington, D.C. (+1 202-955-8256, [email protected])
Roscoe Jones, Jr. – Washington, D.C. (+1 202-887-3530, [email protected])
Amanda H. Neely – Washington, D.C. (+1 202-777-9566, [email protected])

Environmental Social Governance (ESG):
Susy Bullock – London (+44 (0) 20 7071 4283, [email protected])
Perlette Michèle Jura – Los Angeles (+1 213-229-7121, [email protected])
Robert Spano – London (+44 (0) 20 7071 4902, [email protected])

International Trade:
Adam M. Smith – Washington, D.C. (+1 202-887-3547, [email protected])
Christopher T. Timura – Washington, D.C. (+1 202-887-3690, [email protected])

Labor and Employment:
Eugene Scalia – Washington, D.C. (+202-955-8210, [email protected])
Jason C. Schwartz – Washington, D.C. (+1 202-955-8242, [email protected])
Katherine V.A. Smith – Los Angeles (+1 213-229-7107, [email protected])

Litigation and Transnational Litigation:
Perlette Michèle Jura – Los Angeles (+1 213-229-7121, [email protected])
William E. Thomson – Los Angeles (+1 213-229-7891, [email protected])

Securities Regulation and Corporate Governance:
Lori Zyskowski – New York (+1 212-351-2309, [email protected])

White Collar Defense and Investigations:
Michael S. Diamant – Washington, D.C. (+1 202-887-3604, [email protected])
Oliver D. Welch – Hong Kong (+852 2214 3716, [email protected])

On May 12, 2023, the German lawmaker passed a law protecting those who report violations around the workplace (the “Whistleblower Protection Act”, or “Act”). As an essential part of the Act, companies with 50 employees or more in Germany must establish internal reporting channels for this purpose.

I. Background

The new law implements the EU Whistleblower Directive 2019/1937 (“Directive”), which was due to be transformed into national law by December 17, 2021. Like most other EU member states, Germany was late in implementing the law.[1]

With regard to the scope, the German lawmaker goes far beyond the Directive in that almost all kinds of violations can be subject to protected whistleblowing. This even includes actions that are not illegal, but deemed to be an “abuse”, because they are directed against the “purpose” of legal provisions.

II. Main Obligations

Under the Act, there are three kinds of whistleblowing: (i) internal reporting within an organization, (ii) external reporting to a special government agency, and (iii) public disclosure. The latter is only permissible if external reporting has not proven successful or in several other cases, i.e., if there is an urgent threat to public interests. Unfortunately, as mandated by the Directive, the Act does not stipulate a priority of internal over external reporting. However, employees are explicitly enhanced to do so, and employers are supposed to promote internal over external reporting.

Companies with 50 or more employees in Germany have to offer internal reporting lines for whistleblowers and set up properly (yet not necessarily full-time) staffed functions to deal with such reports. The company can outsource such tasks to an external partner or – as will often be the case – defer to its centralized group reporting scheme as long as the local entity remains responsible for remediation measures.[2] There is a transition rule for companies between 50 and 249 employees: Their obligation to set up internal reporting lines is deferred until December 17, 2023.

Neither internal nor external reporting lines have to provide for anonymous reports, but should handle them nevertheless.

III. Identity Protection, Non-Retaliation

The internal reporting cell has to protect (i.e. not disclose) the identity of good-faith whistleblowers, not even to the company’s management, unless the whistleblower consents or a public authority asks for it. The person being subject to the report enjoys a similar, yet weaker disclosure protection.

Whistleblowers acting in good faith must not be retaliated against in any way because of their report. Such retaliation could consist in, e.g., dismissal, pay cut, relocation, or other disadvantages by the employer.

If there has been a retaliation against the whistleblower, they can claim damages from the parties responsible for the retaliation (typically the employer).

In order to help the whistleblower procedurally, the Act presumes that any disadvantage after the report is presumed to be retaliation. This presumption can be rebutted, and employers should carefully document their personnel measures against whistleblowers in order to be able to prove that the measure is based on other reasons than the whistleblowing.[3]

Finally, good-faith whistleblowers shall not be legally liable for retrieving the information they report, unless the access or use of said information was a criminal act in itself. Even trade secrets may be disclosed, if it is necessary to lance the report.

IV. Companies’ Responses and Next Steps

Any company with 50 employees or more in Germany now has to check whether they have adequate reporting lines in place and properly staffed functions to handle whistleblower reports. Companies with 50 to 249 employees do not have to install the reporting lines until December 17, 2023.

Other than the Directive, the German lawmaker expressly acknowledges centralized reporting lines to be in line with the Act. This is good news for multinational organizations, after the EU Commission fervently contested that such centralized systems were in line with the Directive. It remains to be seen whether the EU Commission accepts those local laws that allow centralized reporting lines.

Multinational organizations operating companies with more than 50 entities in multiple EU member states are well advised to assess the requirements of the respective local implementation laws. In light of the leeway granted to the EU member states in implementing the Directive, individual provisions may vary significantly across the EU member states.

HR departments should carefully prepare and document any measure against employees that might be perceived as retaliation in case the employees have launched a whistleblower report. If the employers can provide sound reasons for their decision, they should be able to rebut the statutory presumption contained in the Act.

Violations of the obligations contained in the Act carry a fine of up to € 50,000.

__________________________

[1] See https://www.whistleblowingmonitor.eu/ for an overview of the implementation status across the EU members states.

[2] See https://www.gibsondunn.com/wp-content/uploads/2022/02/Zimmer-Humphrey-Petzen-Ja-bitte-Meldesysteme-nach-der-Whistleblower-Richtlinie-der-EU-Betriebs-Berater-02-2022.pdf.

[3] See https://www.gibsondunn.com/hilfe-fur-hinweisgeber-beweislastumkehr-nach-%c2%a7-36-ii-hinschg-rege/.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. If you wish to discuss any of the matters set out above, please contact the Gibson Dunn lawyer with whom you usually work, any member of Gibson Dunn’s Labor and Employment or White Collar Defense and Investigations teams in Germany, or the following authors in Munich:

Katharina Humphrey (+49 89 189 33 217, [email protected])
Mark Zimmer (+49 89 189 33 230, [email protected])

Corporate Compliance / White Collar Matters
Ferdinand Fromholzer (+49 89 189 33 270, [email protected])
Kai Gesing (+49 89 189 33 285, [email protected])
Markus Nauheim (+49 89 189 33 222, [email protected])
Markus Rieder (+49 89 189 33 260, [email protected])
Benno Schwarz (+49 89 189 33 210, [email protected])
Finn Zeidler (+49 69 247 411 530, [email protected])

On May 12, 2023, the IRS and Treasury issued Notice 2023-38 (the “Notice”) (here), which provides initial guidance for developers and investors seeking to qualify projects for the domestic content bonus credit available under sections 45, 45Y, 48, and 48E (the “Domestic Content Bonus Credit”).[1] Although not explicit, the Notice also provides guidance regarding the receipt of full “direct pay” amounts for projects beginning construction after 2023.

The Inflation Reduction Act of 2022 (the “IRA”)[2] provided for an enhanced or “bonus” credit in respect of certain qualified facilities, energy projects, and energy storage technologies if a taxpayer certifies that the steel, iron, or manufactured products that are components of such a facility, project or technology were produced in the United States (the “Domestic Content Requirement”).[3] The IRA also made credits under sections 45, 45Y, 48 and 48E refundable for certain tax-exempt entities.[4] Beginning in 2024, however, these refunds (so-called “direct pay”) are subject to phaseout for projects that do not meet the Domestic Content Requirement; specifically, a 10-percent haircut applies to projects begun in 2024, a 15-percent haircut for projects begun in 2025, and projects begun in 2026 and after would be wholly ineligible for refunds, in each case unless the IRS makes an exception to the requirement.[5]

The Notice provides rules on which taxpayers may, subject to limitations discussed below, rely for determining whether projects will meet the Domestic Content Requirement. Before providing a number of practical observations regarding the guidance in the Notice, the Alert covers the following:

Background. Increased tax credits are available with respect to certain energy generation (e.g., wind, solar) and storage projects that satisfy the Domestic Content Requirement.
Domestic Content Requirement.
- Manufactured Products vs. Steel/Iron Components. The Domestic Content Requirement applies differently for (i) manufactured products and (ii) steel or iron components of a project. The Notice provides helpful guidance for determining whether a particular component is a manufactured product or a steel or iron component, including a useful safe harbor that applies to certain types of projects.
- Determining Whether Domestic Content Requirement Satisfied. Once a component has been categorized as either a manufactured product or a steel or iron component, the Notice provides guidance for determining whether the Domestic Content Requirement is satisfied with respect to the relevant project. The rules for manufactured products are particularly complicated and may be challenging to satisfy.
Certification and Substantiation. In addition to meeting substantive requirements, taxpayers seeking to satisfy the Domestic Content Requirement must meet detailed certification and substantiation requirements.

Background

A taxpayer is eligible to claim a Domestic Content Bonus Credit in respect of projects that meet the Domestic Content Requirement under sections 45 and 45Y (the “PTC”) and sections 48 and 48E (the “ITC”) if the taxpayer timely certifies to the IRS that the applicable requirements have been satisfied. For PTC projects, if the Domestic Content Bonus Credit is available, the amount of the section 45 or 45Y credit is increased by a maximum of 10 percent, and for ITC projects, the amount of the section 48 or 48Y credit is increased by 10 percentage points.[6]

Under current law, the PTC is claimed in respect of the production of electricity from qualified energy resources (e.g., wind and solar) at a qualified facility during the 10-year period beginning on the date on which the project was placed in service. For zero-emission energy projects that begin construction after 2024, the PTC will transition to a new technology-neutral credit under section 45Y . The current ITC is claimable in respect of the basis of certain energy property (e.g., wind, solar, and energy storage property). Like the PTC, for zero-emission energy projects that begin construction after 2024, the ITC will transition to a new technology-neutral ITC under section 48E.

Domestic Content Requirement

The Domestic Content Requirement applies differently with respect to two different categories of components: (1) steel or iron components, which are subject to a more stringent test, and (ii) “Manufactured Products” (defined as any item produced as a result of a manufacturing process).[7]

Application of the Domestic Content Requirement is a two-step process:

In the first step, each article, material, or supply that is directly incorporated into a project (each, a “Project Component”) is categorized to determine whether that Project Component must meet either the Steel or Iron Requirement or the Manufactured Products Requirement (each as defined below).
In the second step, each Project Component is analyzed to determine whether it satisfies the Steel or Iron Requirement or the Manufactured Products Requirement, as applicable.

Step one is applied by first analyzing Project Components that are made primarily of steel or iron. If a steel or iron Project Component is both (i) a construction material and (ii) “structural in function” (e.g., towers (wind facilities) or photovoltaic module racking (solar facilities)), the component is subject to the Steel or Iron Requirement. The Notice provides a non-exhaustive list of steel or iron items that are not “structural in function” (and therefore not subject to the Steel or Iron Requirement): nuts, bolts, screws, washers, cabinets, covers, shelves, clamps, fittings, sleeves, adapters, tie wire, spacers and door hinges. Any Project Components that are Manufactured Products (i.e., those Project Components that are not steel or iron Project Components and that underwent a manufacturing process) are subject to the Manufactured Products Requirement.

In a very welcome development, the Notice provides a safe harbor for applying step one to certain identified and commonly analyzed Project Components. The list of Project Components covers only limited categories of projects and does not include all Project Components that may comprise those projects. These classifications nevertheless provide helpful guidance that should permit taxpayers to make strategic sourcing decisions pending the publication of regulations. These safe harbor classifications are outlined in Table 2 of the Notice, which is reproduced immediately below.

Applicable Project	Applicable Project Component	Categorization
Utility-scale photovoltaic system	Steel photovoltaic module racking	Steel/Iron
	Pile or ground screw	Steel/Iron
	Steel or iron rebar in foundation (e.g., concrete pad)	Steel/Iron
	Photovoltaic tracker	Manufactured Product
	Photovoltaic module (which includes the following Manufactured Product Components, if applicable: photovoltaic cells, mounting frame or backrail, glass, encapsulant, backsheet, junction box (including pigtails and connectors), edge seals, pottants, adhesives, bus ribbons, and bypass diodes)	Manufactured Product
	Inverter	Manufactured Product
Land-based wind facility	Tower	Steel/Iron
	Steel or iron rebar in foundation (e.g., spread footing)	Steel/Iron
	Wind turbine (which includes the following Manufactured Product Components, if applicable: the nacelle, blades, rotor hub, and power converter)	Manufactured Product
	Wind tower flanges	Manufactured Product
Offshore wind facility	Tower	Steel/Iron
	Jacket foundation	Steel/Iron
	Wind tower flanges	Manufactured Product
	Wind turbine (which includes the following Manufactured Product Components, if applicable: the nacelle, blades, rotor hub, and power converter)	Manufactured Product
	Transition piece	Manufactured Product
	Monopile	Manufactured Product
	Inter-array cable	Manufactured Product
	Offshore substation	Manufactured Product
	Export cable	Manufactured Product
Battery energy storage technology	Steel or iron rebar in foundation (e.g., concrete pad)	Steel/Iron
	Battery pack (which includes the following Manufactured Product Components, if applicable: cells, packaging, thermal management system, and battery management system)	Manufactured Product
	Battery container/housing	Manufactured Product
	Inverter	Manufactured Product

Once each Project Component has been categorized at step one, in the second step each Project Component is analyzed to determine whether it satisfies the Steel or Iron Requirement or the Manufactured Products Requirement.

Steel or Iron Requirement

The “Steel or Iron Requirement” is satisfied with respect to a Project Component if all manufacturing processes with respect to the Project Component (other than metallurgical processes involving refinement of steel additives) take place in the United States.[8]

Manufactured Products Requirement

The “Manufactured Products Requirement” is satisfied if a statutory percentage (ranging from 20 percent to 55 percent, as discussed below) of the total costs of the Project Components that are Manufactured Products are attributable to (i) “U.S. Manufactured Products” or (ii) “U.S. Components” (each as defined below).[9]

Application of the Manufactured Products Requirement is a five-step process:

First, each Project Component that is a Manufactured Product must be separated into those Project Components for which all of the manufacturing processes take place in the United States, and those Project Components that do not.
Second, each Project Component must be separated into its individual direct components. A component that is “directly” incorporated into a Project Component is referred to in the Notice as a “Manufactured Product Component.” The safe harbor in Table 2 of the Notice (reproduced above) lists certain “Manufactured Product Components” of specified Manufactured Products.
Third, for Project Components manufactured in the United States as determined at step one, it must be determined whether each “Manufactured Product Component” of such Project Component is “of U.S. origin” (in the case of manufactured components, “regardless of the origin of its subcomponents”). Project Components satisfying step 3 are “U.S. Manufactured Products.”
Fourth, for Project Components that are not U.S. Manufactured Products, it must be determined which (if any) “Manufactured Product Components” of such Project Component are mined, produced, or manufactured in the United States. Any such Manufactured Product Components are “U.S. Components.”
Fifth, and finally, the costs of the U.S. Manufactured Products and the U.S. Components for the project must be divided by the total cost of the Project Components that are Manufactured Products to reach a percentage that is compared to the applicable statutory percentage (discussed below). If the percentage determined at step 5 equals or exceeds the applicable statutory percentage, the project satisfies the Manufactured Products Requirement.

In computing the “costs” included in the numerator and the denominator of the fraction at step 5, only direct material costs and labor costs that were paid or incurred by the manufacturer (i.e., the person that performed the manufacturing process that produced the relevant component or product) are included.[10] In computing the cost of any U.S. Component that is incorporated into a Manufactured Product that also includes Manufactured Product Components not manufactured in the United States, the taxpayer only may include the costs to produce or acquire the specific U.S. Component, and must exclude any other direct materials or direct labor costs related to the Manufactured Product.

Further, installation and other project-site costs (including direct costs and labor costs of incorporating the Project Components into a project) are excluded.

Statutory Percentages

For PTC and ITC projects beginning construction before 2025, the statutory percentage is 20 percent for offshore wind facilities and 40 percent for all other projects.

For PTC projects that begin construction in 2025, the percentage is 45 percent (27.5 percent for offshore wind), increasing to 50 percent in 2026 (35 percent for offshore wind) and 55 percent in 2027 and thereafter (45 percent for offshore wind in 2027 and 55 percent thereafter).

For ITC projects, the statutory percentage remains 40 percent (20 percent for offshore wind), although a recent report from the Joint Committee on Taxation states that this was not Congress’s intent and that a technical correction may be necessary to conform the statutory percentage increases for the ITC to that of the PTC.[11]

Retrofitted Projects

Consistent with long-standing guidance, the Notice allows a project to qualify as originally placed in service even if it contains some used property, as long as the fair market value of the used property is no more than 20 percent of the total value of the project (the “80/20 Rule”). This calculation is made by adding the cost of the new property to the value of the used property. The cost of the new property includes all costs properly included in the depreciable basis of the new property.

If a project meets the 80/20 Rule and is placed in service after 2022, the project is eligible for the Domestic Content Bonus Credit as long as the new property in the project meets the Domestic Content Requirement and the taxpayer otherwise complies with the requirements in the Notice.

Certification and Substantiation

The Notice also provides that a “taxpayer” reporting a Domestic Content Bonus Credit must provide a statement to the IRS certifying, as of the date the project is placed in service, that the project satisfies the Steel or Iron Requirement and the Manufactured Products Requirement and provides details concerning both the contents of the certification and its submission. In addition, the Notice makes clear that taxpayers claiming the Domestic Content Bonus Credit must maintain records substantiating compliance with the applicable requirements.

Observations

Substantiating U.S. Component costs may be challenging as component manufacturers may be unwilling to disclose such pricing information or their own margins, and even where third-party manufacturers are willing to disclose this type of information, it is unclear what documentation or evidence, if any, is needed to substantiate a third-party manufacturer’s determination of its costs.

Moreover, for those Project Components not described in the safe harbor in Table 2 of the Notice (which has been reproduced above), taxpayers likely will face uncertainty as to whether the more exacting Steel or Iron Requirement or the less exacting Manufactured Products Requirement should apply to those individual Project Components. For example, the Notice provides that the Steel or Iron Requirement applies to materials that are “structural in function” and are made “primarily of steel or iron” but fails to provide rules for determining whether a component is “primarily” made of steel or iron and does not provide a precise definition for what constitutes a construction material that is “structural in function.” Similarly, although the Notice makes clear that mere assembly does not constitute manufacturing, the Notice provides limited practical guidance on how to draw the distinction between manufacturing and assembly—a crucial distinction both for purposes of determining whether a component constitutes a Manufactured Product and for purposes of determining whether Project Components are U.S. Manufactured Products.

The Notice provides that a “taxpayer” reporting a Domestic Content Bonus Credit must make the required certification on IRS Form 8835 (Renewable Electricity Product Credit) or IRS Form 3468 (Investment Credit), or other applicable form, but does not indicate, in the case of a credit transfer under section 6418, which taxpayer must make the certification. Instructions for taxpayers with 2023 short years provide (here) that only transferors of credits need to file these source credit forms, but the Notice does not provide this level of guidance.

While the ITC is calculated on a property-by-property basis, the Domestic Content Requirement is determined on an “energy project” basis, which is defined as “a project consisting of one or more energy properties that are part of a single project.” The IRS and Treasury have not yet provided any guidance regarding what constitutes a “single project” for purposes of this definition; however, the statutory language tracks certain language in Notice 2018-59 (concerning commencement of construction), and it would be helpful if the IRS were to confirm that the “single project” definition in Notice 2018-59 applies for these purposes.

Moreover, both the Notice and Notice 2023-29 (concerning energy community bonus credits, discussed in an earlier Gibson Dunn alert here) observe that bonus credits are available with respect to “qualified property for which a valid irrevocable election under section 48(a)(5) has been made to treat such qualified property as energy property under section 48” (i.e., the ITC in lieu of PTC election). However, neither notice mentions the availability of bonus credits with respect to a specified clean hydrogen production facility for which an ITC is irrevocably elected under section 48(a)(15). While bonus credits are not available if the clean hydrogen PTC is elected under 45V (or the carbon capture and sequestration credit under section 45Q is claimed with respect to the facility), the bonus credits are apparently available if the ITC is elected for such facility. It would be helpful for the IRS and Treasury to confirm that bonus credits are available for taxpayers that elect the ITC for projects under section 48(a)(15) in the same manner as taxpayers that elect the ITC for projects under section 48(a)(5).

Effective Date

The IRS and Treasury expect to issue proposed regulations addressing the Domestic Content Requirement that would apply to taxable years ending after May 12, 2023. The Notice provides that taxpayers may rely on the rules provided in the Notice with respect to projects on which construction begins before the date that is ninety days after the date of publication of those forthcoming proposed regulations.

____________________________

[1] Unless indicated otherwise, all section references are to the Internal Revenue Code of 1986, as amended (the “Code”), and all “Treas. Reg. §” references are to the Treasury Regulations promulgated under the Code.

[2] As was the case with the so-called Tax Cuts and Jobs Act, the Senate’s reconciliation rules prevented Senators from changing the formal name of the Act. Thus, the formal name of the Inflation Reduction Act is “An Act to provide for reconciliation pursuant to title II of S. Con. Res. 14.”

[3] For purposes of this Notice, the United States includes the States, the District of Columbia, the Commonwealth of Puerto Rico, Guam, American Samoa, the U.S. Virgin Islands, and the Commonwealth of Northern Mariana Islands.

[4] Tax-exempt entities for these purposes include any organizations exempt from tax imposed by subtitle A of the Code, state and local governments, the Tennessee Valley Authority, Indian tribal governments, any Alaska Native Corporation, and rural electric cooperatives.

[5] The IRA authorizes the IRS to provide exceptions to the direct pay phaseout if (i) the inclusion of steel, iron, or manufactured products that are produced in the United States either increases the overall costs of construction of projects by more than 25 percent or (ii) there are either insufficient materials of these types produced in the United States or the materials produced in the United States are not of satisfactory quality.

[6] In the case of projects subject to prevailing wage and apprenticeship requirements, failure to satisfy those requirements reduces the bonus credits amount to 2 percent (for PTC projects) or 2 percentage points (for ITC projects).

[7] For purposes of this Notice, a “manufacturing process” is the application of processes to alter the form or function of materials or of elements of a product in a manner adding value and transforming those materials or elements so that they represent a new item functionally different from the functionality that would result from mere assembly of the elements or materials.

[8] The Steel or Iron Requirement applies in a manner consistent with Section 661.5(b) and (c) of title 49 of the Code of Federal Regulations (the “CFR”). 49 CFR §§ 661.1 through 661.21 (also known as the “Buy America” requirements).

[9] The Manufactured Products Requirement applies in a manner consistent with 49 CFR § 661.5(d).

[10] Direct costs are defined by reference to Treas. Reg. § 1.263A-1(e)(2)(i).

[11] Joint Committee on Tax’n, Description of Energy Tax Law Changes Made by Public Law 117-169, JCX 5-23 (April 17, 2023), at n. 201.

This alert was prepared by Josiah Bethards, Emily Brooks, Mike Cannon, Matt Donnelly, Alissa Fromkin Freltz*, Duncan Hamilton, Kathryn Kelly, and Simon Moskovitz.

Gibson Dunn lawyers are available to assist in addressing any questions you may have about these developments. To learn more about these issues, please contact the Gibson Dunn lawyer with whom you usually work, any member of the firm’s Tax or Power and Renewables practice groups, or the following authors:

Tax Group:
Michael Q. Cannon – Dallas (+1 214-698-3232, [email protected])
Matt Donnelly – Washington, D.C. (+1 202-887-3567, [email protected])
Kathryn A. Kelly – New York (+1 212-351-3876, [email protected])
Josiah Bethards – Dallas (+1 214-698-3354, [email protected])
Emily Risher Brooks – Dallas (+1 214-698-3104, [email protected])
Duncan Hamilton– Dallas (+1 214-698-3135, [email protected])
Simon Moskovitz – Washington, D.C. (+1 202-777-9532 , [email protected])

Power and Renewables Group:
Gerald P. Farano – Denver (+1 303-298-5732, [email protected])
Peter J. Hanlon – New York (+1 212-351-2425, [email protected])
Nicholas H. Politan, Jr. – New York (+1 212-351-2616, [email protected])

*Alissa Fromkin Freltz is an associate working in the firm’s Washington, D.C. office who currently is admitted to practice only in Illinois and New York.

What Comes Next? Looking Forward By Looking Back

On April 28, 2023:

The Board of Governors of the Federal Reserve System (“Federal Reserve”) released the results of its review of the supervision and regulation of Silicon Valley Bank (“SVB”);
The Federal Deposit Insurance Corporation (“FDIC”) released its report detailing an internal review of the agency’s supervision of Signature Bank (“Signature”);
The New York State Department of Financial Services released its review of its supervision and closure of Signature; and
The Government Accountability Office released its preliminary review of the federal banking agencies’ actions related to the failures of SVB and Signature.

The reports in part assign, and in part accept, blame for the failures of SVB and Signature to the institutions’ boards of directors and management and the agencies’ own missteps in their oversight of the institutions through their supervisory and regulatory authorities. The Federal Reserve’s report is also critical of its own tailoring approach in response to the 2018 Economic Growth, Regulatory Relief, and Consumer Protection Act (“EGRRCPA”).

Rather than summarize the reports’ details of the events leading up to the failures of SVB and Signature, which have been extensively covered, we examine the federal banking agencies’ expected collective response to the recent failures of SVB, Signature, and First Republic Bank, self-liquidation of Silvergate Bank, resulting financial distress across the financial markets broadly, and volatility experienced by similarly sized regional banks acutely. We also examine relevant considerations for FinTechs or other financial services or technology companies that partner with banks for the delivery of innovative financial products and services.

The expected response will shape and shift the regulatory landscape going forward for institutions of all sizes and their partners, and could result in significant changes to the regulatory and supervisory oversight of those institutions and related supervisory expectations and processes. In that regard, there are two takeaways from the reports:

We can look forward to the expected regulatory response by looking back at the fundamental risk management principles codified in the Dodd-Frank Act and the changes made to the alignment of those principles under EGRRCPA. The more immediate impact will be felt through the supervisory process and quickly evolving supervisory expectations because proposed rulemakings could take “several years” to effect (as Vice Chair for Supervision Barr acknowledges in his cover letter).
All relevant stakeholders should be actively engaged in the rulemaking process, both to facilitate a thoughtful approach to proposed regulation that weighs the costs and benefits of proposed actions, and to help design an adjusted and balanced framework that promotes safety and soundness and resolvability, provides clarity, reduces complexity and, equally as important, does not diminish banks’ critical role as financial intermediaries or create unintended harmful consequences to the broader economy.

I. Background: Dodd-Frank and EGRRCPA

The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (“Dodd-Frank Act”) established enhanced prudential standards for bank holding companies and foreign banking organizations with total consolidated assets of $50 billion or more and nonbank financial companies designated by the Financial Stability Oversight Council for supervision by the Federal Reserve. Under the Dodd-Frank Act, those enhanced prudential standards include enhanced risk-based and leverage capital, liquidity, risk management and risk committee requirements, a requirement to submit a resolution plan, single-counterparty credit limits, supervisory and company-run stress testing requirements, and other prudential standards that the Federal Reserve determines are appropriate.

However, EGRRCPA subsequently raised the minimum asset threshold for application of enhanced prudential standards from $50 billion to $250 billion in total consolidated assets, while (i) providing the Federal Reserve discretion in determining whether an institution with assets of $100 billion or more must be subject to such standards and (ii) enabling a more “tiered” and “tailored” enhanced prudential standards regime for large banks. In 2019, the Federal Reserve issued a final rule establishing four categories for determining the applicability and stringency of prudential standards:

Category I (U.S. global systemically important bank holding companies (“U.S. G-SIBs”));
Category II (banking organizations with $700 billion or more in total consolidated assets or $75 billion or more in cross-jurisdictional activity);
Category III (banking organizations with $250 billion or more in total consolidated assets or $75 billion or more in weighted short-term wholesale funding, nonbank assets, or off-balance sheet exposure and that do not meet the criteria for Category I or II); and
Category IV (banking organizations with at least $100 billion in total consolidated assets and that do not meet the criteria for Category I, II, or III).

The Federal Reserve’s visual depicting the current framework is available here.

II. A Return to Post-Dodd-Frank Act Principles of Oversight and Supervision (or More)?

Vice Chair for Supervision Barr’s cover letter, the Federal Reserve’s report, and the other agencies’ reports forecast expected adjustments to the regulatory framework to align it more closely with the fundamental risk management principles codified in the Dodd-Frank Act, to the extent not limited by or inconsistent with legislative changes made under EGRRCPA. The expected response echoes statements made by Vice Chair for Supervision Barr and other federal banking agency leaders in speeches and other settings, including Congressional testimony, some of which pre-date the most recent bank failures and disruptions in the markets and broader economy. The federal bank regulatory agencies under the Biden administration have signaled for some time their desire to re-align Dodd-Frank Act risk management principles of oversight and supervision—at least to the extent not limited by changes made under EGRRCPA—and the agencies’ reports reaffirm that. Large banks (i.e., banks with total assets of $100 billion or more) should expect an acceleration in the number and scope of proposals that modify the regulatory framework, including proposals that push down certain elements currently applicable only to U.S. G-SIBs.

Vice Chair for Supervision Barr’s cover letter to the Federal Reserve’s report highlights expected regulatory initiatives that are clearly put forth and of likely immediacy for institutions with $100 billion or more in total consolidated assets: capital, liquidity, resolvability, and stress testing. It will be important that any proposals not simply be reflexive but, instead, be thoughtfully designed, provide clarity, assess the costs and benefits, and minimize potential downside to the broader economy.

Capital. Vice Chair for Supervision Barr states in his cover letter to the report “this experience has emphasized why strong bank capital matters,” highlights the need “to bolster resiliency” and confirms the Federal Reserve is “going to evaluate how to improve [its] capital requirements in light of lessons learned from SVB.” He then adds that “[s]ome steps already in progress include the holistic review of our capital framework [and] implementation of the Basel III endgame rules.” These echo prior statements and remarks for the need to strengthen capital requirements by Barr, including as far back as his nomination hearing before the Senate Banking Committee, as well as similar statements made by Acting Comptroller Hsu and FDIC Chairman Gruenberg in different contexts. As Barr has previously noted, large institutions should expect those enhanced regulatory capital requirements to align with the final set of Basel III standards aimed at “further strengthen[ing] capital rules by reducing reliance on internal bank models and better reflect risks from a bank’s trading book and operational risks”[1] and any proposal should be expected to follow shortly. Barr’s cover letter also suggests the Federal Reserve “should require a broader set of firms to take into account unrealized gains or losses on available-for-sale securities, so that a firm’s capital requirements are better aligned with its financial positions and risk.” As with prior rulemakings, any proposal, if and when finalized, would be implemented with appropriate phase-in periods and likely would take “several years” to take effect, as noted by Barr himself.
Liquidity. Vice Chair for Supervision Barr’s cover letter indicates the Federal Reserve is “also going to evaluate how [the Federal Reserve] supervise[s] and regulate[s] liquidity risk, starting with the risks of uninsured deposits,” adding that “liquidity requirements and models should better capture the liquidity risk of a firm’s uninsured deposit base” and the Federal Reserve “should re-evaluate the stability of uninsured deposits and the treatment of held to maturity securities in … standardized liquidity rules and in a firm’s internal liquidity stress tests.” He then adds the Federal Reserve “should … consider applying standardized liquidity requirements to a broader set of firms.” He concludes that “[a]ny adjustments to [the] liquidity rules would … have appropriate transition rules, and thus would not be effective for several years.”
Resolvability. Vice Chair for Supervision Barr’s cover letter also indicates that, following on the October 14, 2022 Advance Notice of Proposed Rulemaking (“ANPR”) issued by the Federal Reserve and FDIC, the federal banking agencies will plan to propose a long-term debt requirement for large banks that are not U.S. G-SIBs. The earlier ANPR was issued to explore whether and how to strengthen resolution-related standards applicable to large banking organizations (i.e., Category II and Category III banking organizations under the tailoring rules). The ANPR considered whether large banking organizations should be subject to resolution requirements similar to those required of U.S. G-SIBs, including total loss-absorbing capacity, long-term debt, clean-holding company requirements, and related requirements.
Stress Testing. Vice Chair for Supervision Barr’s cover letter includes in the list of steps already in progress “the use of multiple scenarios in stress testing” and notes the Federal Reserve will be “revisiting” the “coverage and timeliness” (i.e., applicable transition periods) of stress tests for some firms.

III. A Shift in Supervisory Expectations and Processes

Changes to the regulatory framework will take a number of years to effect, taking into account sometimes lengthy notice and public comment periods and the implementation of final rules and phase-in periods accompanying their implementation. As a result, and as a natural response to criticisms leveled (by regulators) at the oversight and supervision (by regulators) of SVB and Signature, banks of all sizes should anticipate a noticeable and swift shift in supervisory expectations and the communication and enforcement of those expectations.

The reports signal several areas of concern that will (if not already) be areas of heightened supervisory focus that, if not properly managed from a risk perspective, could lead more quickly to ratings downgrades, formal or informal enforcement actions, or other supervisory actions. Such areas of focus include: governance and risk management functions, including internal audit; management challenge and accountability; liquidity risk management; interest rate risk management; reliance on uninsured deposits and concentrations in the deposit base; and rapid growth, concentrated business models, or novel activities (e.g., FinTech or crypto), regardless of asset size. Other areas of focus or expected change for immediate consideration include:

Developing a “culture that empowers supervisors to act in the face of uncertainty” and improves the “speed, force, and agility of supervision.” Vice Chair for Supervision Barr’s cover letter states this directly and the report highlights this in several instances, and the intent is clear: supervisory staff should be empowered to escalate issues and act more quickly and decisively—and not simply through the issuance of more matters requiring attention (“MRAs”) or matters requiring immediate attention (“MRIAs”). This could include empowering supervisory staff to escalate matters and move more quickly to downgrade component or composite ratings or to issue formal or informal enforcement actions or take other actions without the need for “consensus around supervisory judgments.” Institutions with MRAs or MRIAs that have remained open for a protracted period and where expected remediation dates have been extended should expect supervisory staff to act more quickly and decisively, including escalation to the level of enforcement actions, in the absence of meaningful progress or remediation. More frequent targeted exams should also be expected by institutions with open MRAs, MRIAs, or other unresolved findings.
- Ratings downgrades and formal or informal enforcement actions may have a number of significant collateral consequences to banks and their holding companies and non-bank affiliates, including the ability to engage in financial activities under Section 4(k) of the Bank Holding Company Act, potential increases to deposit insurance assessments, eligibility for primary credit at the Discount Window, and the ability to expand through mergers and acquisitions, including interstate acquisitions or branching.
- In addition, Vice Chair for Supervision Barr’s cover letter notes “the Federal Reserve generally does not require additional capital or liquidity beyond regulatory requirements for a firm with inadequate capital planning, liquidity risk management, or governance and controls. We need to change that in appropriate cases. … [L]imits on capital distributions or incentive compensation could be appropriate and effective in some cases.” Institutions should begin to assess and better understand these various collateral consequences as part of their routine examination preparation processes.
Consequences and impacts of a U.S. debt default. A U.S. debt default would be unprecedented and the macroeconomic effects of such a default are uncertain, but institutions should be preparing for such a scenario, including a prolonged default, and be ready to activate contingency plans if negotiations stall or deteriorate. There are several issues that immediately come to mind and, although there is no precedent, prior discussions included in the minutes of Federal Open Market Committee (“FOMC”) meetings from August 2011 and October 2013 should inform current expectations.
- First, in August 2011 and October 2013, the FOMC suggested that Federal Reserve operations should treat defaulted Treasury securities or Treasury securities with delayed payments in the same manner as non-defaulted securities in open market operations and at the Discount Window, but with defaulted securities valued at their own potentially reduced market prices.
  - Compare that with the recently announced Bank Term Funding Program, under which collateral valuation is 100% of par value regardless of the current market value of the collateral. For Discount Window borrowings, collateral is traditionally valued at a fair market value estimate; however, as of March 15, 2023, the Federal Reserve Banks have been lending at par value for collateral that is eligible for the Bank Term Funding Program, including Treasury securities, agency debt, and agency mortgage-backed securities.[2]
  - Relatedly, institutions are reminded to test their Discount Window and Federal Home Loan Bank borrowing capacity and ensure that all collateral and related documentation are in order and technical processes in place (and tested) to ensure immediate and timely access to those contingent sources of funding. The Bank Term Funding Program also remains open and available to financial institutions that already have Discount Window borrowing documentation under the Federal Reserve Banks’ Operating Circular No. 10 (Lending). Although the Dodd-Frank Act requires the Federal Reserve to publish information on individual discount window borrowers and transactions, that information is published on a two-year lag.
- Second, in August 2011 and October 2013, the federal financial regulatory agencies were prepared to issue interagency guidance covering certain regulatory and supervisory issues—which we expect could be refreshed in the coming weeks. The 2011 and 2013 draft interagency guidance intended to clarify that:
  - There would be no change in the risk-based capital treatment (i.e., no change in risk weighting) of Treasury securities or other securities issued or guaranteed by the U.S. government or its agencies, as well as U.S. government-sponsored enterprises, for which a payment had been missed. Examiners would not adversely classify or criticize those securities, and their treatment under other regulations (e.g., Regulation W) would be unaffected.
  - Institutions that experience balance sheet growth from unusually large deposit inflows driven primarily by money market funds moving out of Treasury securities into cash or holding additional cash as contingency, or draws on existing lines of credit, which could result in a temporary decline in regulatory capital ratios, were encouraged to contact their regulators to address the impacts to regulatory capital ratios. In 2023, the federal banking agencies should be expected to provide some relief around the supplementary leverage ratio and Tier 1 leverage ratio should institutions be at risk of breaching prompt corrective action.
- Third, in August 2011 and October 2013, the Department of the Treasury was planning to prioritize interest and principal payments, which, if implemented in 2023, could eliminate the need to plan for scenarios in which defaulted securities are trading in the market.
Transition periods and “pulling forward” forward large bank standards by applying them to smaller banks. Institutions that are growing in size and transitioning supervisory categories tied to relevant asset thresholds (e.g., $100 billion or $250 billion in total consolidated assets) should be prepared to adhere to the enhanced prudential standards of the next supervisory category, including on a pro forma An inability to demonstrate adherence to the next supervisory category’s enhanced prudential standards could slow growth, either through prolonged merger application review and approval timelines or regulators throttling growth through other means. All institutions, regardless of size, should also expect regulators to carefully examine transition periods both for existing rules as well as proposed rules such that enhanced prudential standards, and required compliance therewith, could apply more quickly to any institution that transitions from one supervisory category to the next.
Credit risk and commercial real estate (“CRE”) loans. Commercial credit risk has been cited by the agencies as an area of supervisory focus beginning as early as the OCC’s Spring 2021 Semiannual Risk Perspective and was most recently cited in the Federal Reserve’s May 2023 Financial Stability Report survey of risks to financial stability. Institutions with concentrations in CRE loans should expect continued heightened scrutiny of their CRE portfolios, with a focus on risk management and capital levels. Institutions are reminded of the CRE interagency guidance from December 6, 2006, “Concentrations in CRE Lending, Sound Risk Management Practices,” and the October 3, 2009 “Policy Statement on Prudential Commercial Real Estate (CRE) Loan Accommodations and Workouts,” on which the federal banking agencies invited comment in August and September 2022.
Incentive compensation. Vice Chair for Supervision Barr’s cover letter notes that regulators “should consider setting tougher minimum standards for incentive compensation programs and ensure banks comply with the standards [regulators] already have.” The report highlights the various interagency guidance on executive compensation practices but only briefly notes that the Federal Reserve and five other federal financial regulatory agencies have not yet issued a final rule implementing Section 956 of the Dodd-Frank Act, which requires the regulators to issue rules prohibiting types and features of incentive compensation arrangements that encourage inappropriate risk-taking at covered financial institutions (i) by providing excessive compensation, fees, or benefits or (ii) that could lead to material financial loss. Although not highlighted by Barr in his cover letter as an initiative already in progress, incentive compensation arrangements may become an area of interest through the supervisory process and future proposed rulemakings remain a possibility.
Operational resilience and cybersecurity. Though unrelated to the reports and the expected response (and certainly never suggested as a root cause of any failure), cybersecurity remains a point that is always worthy of highlighting because the potential impact to operational risk from cybersecurity threats remains a supervisory focus in an increasingly digital world and an environment where cybersecurity risks are ever-increasing. Cybersecurity will always remain an area of supervisory focus and institutions should be mindful that any failures to address supervisory concerns related to cybersecurity may result more quickly in formal or informal supervisory responses.

IV. Implications for Bank Partners

FinTechs that partner with banks to deliver regulated financial services should expect additional scrutiny from both their bank partners and their bank partners’ regulators. Although these partnerships can take different forms—some with FinTechs positioned as clients of the bank and others with FinTechs acting as a program manager (i.e., third-party service provider) to the bank—FinTechs should be prepared for enhanced due diligence and, as importantly, potential disruptions.

Accounting for increasingly agile regulators. As federal or state supervisory functions are empowered to move more quickly to ratings downgrades or formal or informal enforcement or other actions to enforce supervisory expectations, any actions could have adverse effects on those FinTechs, which may create disruptions in the delivery of services to end-users. This dependence on bank partnerships reinforces the need for FinTechs to develop robust business continuity plans that provide for necessary diversification of bank partners and, in the course of negotiating such relationships, ensure sufficient contractual flexibility exists to adopt necessary redundancies. In addition, FinTechs must also remain cognizant of the federal and state bank regulatory agencies’ authority to examine and regulate bank service providers, which may give rise to regulatory criticism more tailored to the FinTech relationship.
Clear disclosure of bank services. To the extent that FinTechs are marketing products and services enabled by banks, regulators are more apt to scrutinize terms of service, marketing materials, and related disclosures to assess the allocation of roles and responsibilities between the bank and the FinTech. For those products that potentially implicate FDIC insurance, the FDIC will review for compliance with the FDIC’s 2022 final rule regarding advertising or other representations about FDIC deposit insurance (12 C.F.R. Part 328, Subpart B). To ensure compliance, banks and FinTechs should, at a minimum, ensure subject materials: (a) clearly disclose that the FinTech offering the service is not an insured bank; (b) identify the insured bank(s) where any customer funds may be held on deposit; and (c) communicate that non-deposit products are not FDIC-insured products and may lose value.
Qualifications for FDIC “pass-through” deposit insurance. FinTechs that partner with banks also should refresh on FDIC regulations (12 C.F.R. §§ 330.5 and 330.7) and related guidance for “pass-through” deposit insurance, including recordkeeping and other requirements, to ensure compliance therewith. This should include re-examining program agreements with bank partners to ensure the proper mechanics are in place to enable the respective parties to comply with those requirements. Requirements for pass-through deposit insurance coverage include:
- Funds must be owned by the principal and not the third party who established the deposit account and placed the funds (i.e., the fiduciary, custodian, or agent who is placing the funds);
- The bank’s account records must indicate the agency nature of the account;
- The records of the bank, the fiduciary, custodian, or agent, or a third party must indicate both the principals’ identities as well as their ownership interest in the deposit; and
- Deposit terms (i.e., the interest rate and maturity date) for accounts opened at the bank must match the terms the third-party agent offers the customer (if the terms do not match, the fiduciary, agent, or custodian might be deemed to be the legal owner of the funds by the FDIC; a fiduciary, custodian, or agent may retain a portion of the interest (as the third party’s fee) without precluding pass-through deposit insurance coverage).

Like banks, their partners find themselves navigating an increasingly complex regulatory environment. While the regulatory expectations are not new, the renewed focus of banking regulators requires both agility and vigilance of all concerned.

V. Conclusions

A key takeaway not expressly cited in the reports is that perceived complacency in upholding risk management obligations will result in the regulatory framework reverting to and aligning more closely with the fundamental risk management principles codified in the Dodd-Frank Act, to the extent not limited by or inconsistent with legislative changes made under EGRRCPA. Large banks should expect a number of proposed rulemakings to follow these events, as laid out in Vice Chair for Supervision Barr’s cover letter to the Federal Reserve’s report. Notwithstanding regulators’ desire to move quickly, because of the amount of time to effect proposed rule changes and to implement final rules, together with any applicable phase-in periods, large banks should anticipate certain proposals may not be effective for several years. On the other hand, banks of all sizes should expect that additional oversight and supervision will ratchet up quickly, with increased scrutiny on boards of directors’ and management’s ability to safely and soundly risk manage their organizations consistent with the fundamental risk management principles codified in the Dodd-Frank Act. Institutions of all sizes should be similarly prepared that any failure, or even perceived failure, to satisfy supervisory expectations may lead more quickly to formal or informal enforcement actions, ratings downgrades, or other consequences to the organization.

FinTechs that partner with banks for the delivery of innovative financial products and services should expect additional scrutiny from both their bank partners and from relevant regulators. Moreover, if regulators are empowered to move more quickly to ratings downgrades or formal or informal enforcement or other actions to reinforce supervisory expectations, these actions could adversely impact those partners and/or their ability to offer products and services with their existing bank partners.

__________________________

[1] Michael S. Barr, “Why Bank Capital Matters” (speech at the American Enterprise Institute, Washington D.C., Dec. 1, 2022, available at: https://www.federalreserve.gov/newsevents/speech/barr20221201a.htm).

[2] See “Collateral Valuation,” available at: https://www.frbdiscountwindow.org/Pages/Collateral/collateral_valuation.

Gibson Dunn’s Distressed Banks Resource Center provides resources and regular updates to our clients. Please check the Resource Center for the latest developments.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. Please feel free to contact the Gibson Dunn lawyer with whom you usually work, any member of Gibson Dunn’s Global Financial Regulatory, Financial Institutions or FinTech and Digital Assets practice groups, or the firm’s *** Distressed Bank Working Group, or the following authors:

Jason J. Cabral – New York (+1 212-351-6267, [email protected])

Sara K. Weed – Washington, D.C. (+1 202-955-8507, [email protected])

Ed Batts – Palo Alto (+1 650-849-5392, [email protected])

Jin Hee Kim – New York (+1 212-351-5371, [email protected])

In a May 11, 2023 webcast, the Department of Commerce’s CHIPS Program Office (“CPO”) provided a deep dive on the Environmental Questionnaire required for funding applications and pre-applications. This questionnaire is designed specifically to assist the CPO in “determining the appropriate level of environmental review required under the National Environmental Policy Act (“NEPA”) and related laws.”[1] We have provided a fulsome discussion of CHIPS Act funding in our previous alerts [here], [here], and [here].

The key takeaway from this most recent discussion is that the Environmental Division of the CPO intends to work closely with applicants to facilitate their development of necessary environmental data and to ensure applicants are prepared for permitting processes and review under NEPA. The CPO stressed, however, that it intends to prioritize applications “that demonstrate a clear path” to satisfying these requirements in a timely manner.[2]

This guidance applies only to applicants applying for funding pursuant to the CHIPS Act’s first Notice of Funding Opportunities (“NOFO”), which focuses on commercial fabrication facilities.[3] Detailed instructions for other applicants will be released after the publication of the second and third NOFOs later in 2023.

I. The Environmental Questionnaire

All applicants for CHIPS Funding must submit responses to the Environmental Questionnaire, both at the pre-application and final application stages. Applicants seeking funding for multiple projects need only submit one Environmental Questionnaire for their entire application, although the CPO stressed that multiple project-specific Environmental Questionnaires are welcome.[4]

During the May 11th webcast, CPO Environmental Division staff described this questionnaire as serving a number of purposes:[5]

Allowing the CPO to assess the environmental risks and merits of every project;
Helping the Department of Commerce fulfill its statutory and regulatory duties under NEPA and other environmental laws;
Supplementing and providing additional context to the “Climate and Environmental Responsibility Plan” that each applicant must submit pursuant to Section IV.G.11 of the NOFO;[6]
Helping applicants better understand the environmental impacts of their projects and determine how to mitigate these impacts; and
Helping applicants determine their legal obligations under NEPA and other environmental laws.

The Environmental Questionnaire consists of 26 questions related to the following topics:[7]

A. Project Description	B. Project Site & Affected Environment	C. Resource Consumption Rates & Effluent Emissions Streams and Impacts
D. Tribal, Historic & Cultural Resources	E. Project Setting	F. Vegetation & Wildlife Resources
G. Conservation Areas	H. Coastal Zone & Navigable Waters	I. Wetlands
J. Floodplains	K. Endangered Species	L. Land Use & Zoning
M. Solid Waste Management	N. Hazardous or Toxic Substances	O. Impacts to Water Quality & Water Resources
P. Water Supply & Distribution System	Q. Wastewater Collection & Treatment Facilities	R. Environmental Justice & Socioeconomics
S. Transportation (Streets, Traffic & Parking)	T. Air Quality	U. Greenhouse Gases & their Environmental Effects
V. Noise	W. Health & Safety	X. Permits & Other Government Agency Involvement
Y. Public Notification & Controversy	Z. Environmental Experience & Approach

For each topic, applicants are required to provide “a sufficient level of documentation and analysis to inform CPO’s assessment of the appropriate level of NEPA review” and are encouraged to attach any relevant documents, such as permit applications, background research, field investigations and surveys, and any past planning or studies.[8]

II. Evaluation Criteria for the Environmental Questionnaire

As discussed in our previous alert, the CPO will evaluate all applications and pre-applications according to six key criteria: (1) economic and national security objectives; (2) commercial viability; (3) financial strength; (4) technical feasibility and readiness; (5) workforce development; and (6) projects’ broader impacts.[9] During the May 11th webcast, CPO staff emphasized that assessment of an applicant’s Environment Questionnaire will focus primarily on technical feasibility and readiness.[10]

The commercial fabrication facilities funded under the first NOFO are all likely to be subject to a wide array of federal, state, and local environmental and permitting requirements. Applicants must assure the CPO that funded projects will be able to satisfy these legal requirements. To demonstrate feasibility, applicants must clearly identify the necessary environmental compliance and permitting steps for each proposed project and, if needed, for individual activities within each project.[11]

Applicants should not be deterred, however, from beginning the application process simply because they do not yet have all necessary environmental information. The CPO staff repeatedly emphasized that, while more information is always better, applicants need only provide as much detail as is currently available to them.[12] However, rather than simply skipping inapplicable or not-yet-knowable questions, applicants should provide a brief statement explaining why the question is not applicable or what information is needed to provide a full answer.[13]

a. Feasibility of NEPA Review

NEPA sets forth “a national policy that encourages productive and enjoyable harmony between man and his environment” and therefore requires federal agencies to consider the environmental impacts of all major federal actions that significantly affect the quality of the human environment.[14] These “major federal actions” include “projects and programs entirely or partly financed” by a federal agency, including the Department of Commerce.[15]

The Department of Commerce is therefore legally obligated under NEPA to assess the environmental impact of any project funded under the CHIPS Program. This involves a dynamic review process that will vary based on the project’s potential environmental impacts:

Projects initially assessed as likely to cause significant environmental impacts will require a fulsome Environmental Impact Statement (“EIS”).[16] The drafting of an EIS is subject to public notice and comment, including comments from impacted communities and the Environmental Protection Agency. Once the EIS is finalized, the National Institute of Standards and Technology (“NIST”) will issue a Record of Decision, indicating whether the project will be allowed to proceed.[17]
Projects initially assessed as unlikely to cause significant environmental impacts require a brief, publicly accessible Environmental Assessment (“EA”).[18] If the EA demonstrates that the proposed project will not have significant environmental effects, the NIST will issue a Finding of No Significant Impact.[19] If, however, the EA suggests that significant environmental effects may occur, the project will require an EIS, described above.

The Environmental Questionnaire is designed to help the CPO determine which level of NEPA review any given project will require. This determination informs not just the substantive environmental data an applicant may be called to produce, but also the timeline for completion of the review. If an applicant’s project is likely to cause significant environmental impacts, for example, that applicant will be subject to a long notice-and-comment period and will be required to produce detailed data for an EIS.

Notably, the CPO has emphasized that applicants should be prepared to produce additional environmental data and documentation for this NEPA review. While the Environmental Questionnaire helps the CPO assess a project’s likely level of NEPA review, an EA or EIS may demand additional information. This may include detailed descriptions of site-specific impacts, descriptions of the purpose or need for a proposed project, a discussion of reasonable alternatives, and more.[20]

The CPO has published a detailed overview of the NEPA review process online.[21]

b. Permitting Considerations

The Environmental Questionnaire’s Question X specifically discusses permitting issues and provides applicants a useful model to assess the status of their permitting needs.

Applicants should be prepared to identify any federal, tribal, state, or local environmental plans or reviews that will be needed for each proposed project. These may include, for example, Clean Water Act 404 permits, stormwater management plans, coastal zone management and shoreline management plans, and Clean Air Act permits.[22] If available, copies of these permits or permit applications should be attached to the Environmental Questionnaire. In its May 11th webcast, the CPO recommended laying out all required permits in a simple table, such as the following:[23]

The CPO staff emphasized that applicants needn’t have all permits secured at the time of submitting their pre-application or even full application. However, a clear understanding of a project’s permitting timeline and requirements would allow the Environmental Division to encourage prompt review of permit applications by coordinating with other federal and state agencies as necessary.[24] Moreover, if an applicant identifies additional permitting requirements after submitting a pre-application, the CPO encourages the applicant to reach out to the Environmental Division immediately, rather than waiting to raise these concerns in a later final application.[25]

III. Role of the CPO Environmental Division

Applicants for CHIPS Act funding will interface directly with the Environmental Division of the CPO when addressing the environmental impacts of proposed projects.

The Environmental Division holds dual roles within the CPO. First, it is tasked with ensuring that the Department of Commerce satisfies all applicable environmental laws and requirements connected to CHIPS-funded programs. Second, the Environmental Division collaborates with federal and state agencies, as well as with applicants, to ensure “efficient, effective, and predictable reviews that result in informed and environmentally responsible decisions.”[26] This latter mission involves working closely with applicants to identify gaps in their data that could cause problems later in the NEPA review or permitting process.

In general, applicants for CHIPS funding that have already submitted an Environmental Questionnaire are invited to request meetings with the CPO’s Environmental Division. However, in limited circumstances, the Environmental Division will meet with potential applicants prior to submission of their pre-application or full application. To qualify for such a meeting, a potential applicant must satisfy all of the following three criteria:[27]

The potential applicant must have filed a Statement of Interest with the CPO;
The potential applicant must be currently eligible to apply for CHIPS funding under an open NOFO; and
The potential applicant either:
1. Requires support with Clean Air Act or Clean Water Act permits; or
2. Is currently drafting NEPA environmental review documents and has questions related to these documents.

IV. Resources and Templates

The CPO has prepared and published a number of resources for the preparation of applications and pre-applications under the first NOFO, including materials on environmental compliance requirements.[28]

The CPO maintains “CHIPS and Environmental Compliance“ FAQs online, which it plans to update regularly throughout the funding cycle. These FAQs primarily relate to the NEPA review process, as well as other environmental laws that may be relevant to an applicant’s project. In the May 11th webcast, the CPO indicated that it will be publishing additional FAQs on the NEPA review process soon.[29] General FAQs are also available on the CHIPS for America website.

In addition to CHIPS-specific environmental guidance, the CPO suggests that applicants refer to publications by environmental regulatory agencies when assessing permitting requirements and other legal obligations. These may include, but are not limited to, NEPA.gov, the National Marine Fisheries Service, the Advisory Council on Historic Preservation, the U.S. Army Corps of Engineers’ guidance on Section 404 of the Clean Water Act, and the U.S. Fish & Wildlife Service’s ECOS and IPaC systems.

Additional resources can be found at the CHIPS for America Guides and Templates webpage.

V. How Gibson Dunn Can Assist

Gibson Dunn has an expert team tracking implementation of the CHIPS Act closely, including semiconductor industry subject matter experts and public policy professionals. Senior members of Gibson Dunn’s Public Policy Practice Group have more than 40 years of combined experience on Capitol Hill. Our team includes former congressional staff and administration officials who have significant experience tracking, developing, and implementing legislation and regulations.

Our team is available to assist eligible clients to secure funds throughout the application process. We also can engage with our extensive contacts at the Department of Commerce and other federal agencies to facilitate dialogue with our clients and discuss the structure of future CHIPS Act programs being developed.

_________________________

[1] CHIPS for America Guide: Environmental Questionnaire (Mar. 27, 2023), https://www.nist.gov/system/files/documents/2023/03/27/Environmental-Questionnaire.pdf [hereinafter, Environmental Questionnaire].

[2] Department of Commerce Webcast (May 11, 2023).

[3] 5 U.S.C. § 4651(2); U.S. Dep’t of Commerce Nat’l Institute of Standards and Technology Notice of Funding Opportunity, CHIPS Incentives Program—Commercial Fabrication Facilities, https://www.nist.gov/system/files/documents/2023/02/28/CHIPS-Commercial_Fabrication_Facilities_NOFO_0.pdf [hereinafter, NOFO].

[4] Department of Commerce Webcast (May 11, 2023).

[5] Id.

[6] NOFO at 56. This “Climate and Environmental Responsibility Plan” must detail how a project will meet climate and environmental goals relating to: (1) energy consumption and use of renewable energy; (2) climate resilience; (3) water consumption and conservation; (4) sustainability transparency; and (5) community and environmental justice impacts. Id.

[7] Environmental Questionnaire.

[8] Id. at 1.

[9] NOFO at 58–64.

[10] Department of Commerce Webcast (May 11, 2023).

[11] See NOFO at 18–19.

[12] Department of Commerce Webcast (May 11, 2023).

[13] Id.

[14] National Environmental Policy Act, 42 U.S.C. § 4321 (1970).

[15] 40. C.F.R. § 1508.1 (2020).

[16] 40 C.F.R. § 1502 (2020).

[17] 40 C.F.R. § 1505.2 (2020).

[18] 40 C.F.R. § 1501.5 (2020).

[19] 40 C.F.R. § 1501.6 (2020).

[20] Department of Commerce Webcast (May 11, 2023).

[21] CHIPS for America: CHIPS Overview of NEPA and Environmental Reviews (last accessed May 15, 2023), https://www.nist.gov/system/files/documents/2023/04/20/3.18.23-CHIPS%20for%20America%20Overview%20of%20NEPA%20and%20Environmental%20Reviews.pdf.

[22] Environmental Questionnaire at 6.

[23] Department of Commerce Webcast (May 11, 2023).

[24] Id.

[25] Id.

[26] Id.

[27] Id.

[28] CHIPS for America Guides and Templates: CHIPS Incentives Program – Commercial Fabrication Facilities (last accessed May 15, 2023), https://www.nist.gov/chips/guides-and-templates-chips-incentives-program-commercial-fabrication-facilities; CHIPS for America: Environmental Compliance (last accessed May 15, 2023), https://www.nist.gov/chips/environmental-compliance.

[29] Department of Commerce Webcast (May 11, 2022).

The following Gibson Dunn lawyers prepared this client alert: Michael Bopp, Roscoe Jones, Jr., Ed Batts, Amanda Neely, Danny Smith, and Sean Brennan.*

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these issues. Please contact the Gibson Dunn lawyer with whom you usually work in the firm’s Public Policy practice group, or the following authors:

Michael D. Bopp – Co-Chair, Public Policy Group, Washington, D.C. (+1 202-955-8256, [email protected])

Roscoe Jones, Jr. – Co-Chair, Public Policy Group, Washington, D.C. (+1 202-887-3530, [email protected])

Ed Batts – Palo Alto (+1 650-849-5392, [email protected])

Amanda H. Neely – Washington, D.C. (+1 202-777-9566, [email protected])

Daniel P. Smith* – Washington, D.C. (+1 202-777-9549, [email protected])

*Daniel P. Smith is of counsel working in the Washington, D.C. office who is admitted only in Illinois and practicing under supervision of members of the District of Columbia Bar under D.C. App. R. 49. Sean J. Brennan is an associate working in the firm’s Washington, D.C. office who currently is admitted to practice only in New York.

On May 3, 2023, the European Commission (the “Commission”) proposed a new directive[1] in the area of criminal law with the goal to harmonize corruption offenses, sanctions, related prevention and enforcement (the “Proposed Directive”). If adopted by the European Parliament and Council, the directive would significantly contribute to unifying and tightening rules across Europe. EU Member States would have to transpose that framework into national law within 18 months.[2] Since the Commission proposes “minimum rules concerning the definition of criminal offences and sanctions in the area of corruption, as well as measures to better prevent and fight corruption”[3], the Member States may go beyond the standards set out in the Proposed Directive and adopt even stricter rules in the area of corruption.

1. Key Takeaways

The Commission suggests minimum standards to harmonize the definitions and sanctions for active and passive bribery both in the private and public sectors, as well as of related offenses such as “misappropriation”, “trading in influence”, “abuse of functions”, “obstruction of justice”, and “enrichment from corruption offences”.
The Proposed Directive is based on a broad notion of public officials, not only covering EU officials, but also – across branches – functionaries of Member States, third country and international organizations and courts.
The proposal reflects that certain elements of gifts and hospitality are socially more accepted in the area of private enterprise compared with interactions with state functionaries.
If committed by a leading person, a legal person can be held liable for corruption offenses committed for its benefit.
The Commission resorts to its usual terminology by requiring Member States to adopt “effective, proportionate and dissuasive” sanctions, both for natural persons and legal entities. Penalties for human beings may include imprisonment, the sanctions for legal entities may entail fines of no less than 5% of the total worldwide turnover. Further consequences include debarment or disqualification from commercial activities.
Effective internal controls, ethics awareness, and compliance programs to prevent corruption are considered a mitigating factor, as well as the rapid and voluntary disclosure to the competent authorities.
Jurisdiction attaches, (1) if the offense is committed in whole or in part in the territory of a Member State; (2) if the offender is a national of or has his or her habitual residence in a Member State; or (3) if the offense is committed for the benefit of a legal person established in the territory of a Member State.

2. Individual Criminal Liability

At its core, the Proposed Directive provides definitions of bribery in the public sector and the private sector; both in the active and passive alternative.

a) Bribery in the Public Sector

Section 7 of the Proposed Directive defines bribery in the public sector as such:

Member States shall take the necessary measures to ensure that the following conduct is punishable as a criminal offense, when committed intentionally:

(a) the promise, offer or giving, directly or through an intermediary, of an advantage of any kind to a public official for that official or for a third party in order for the public official to act or refrain from acting in accordance with his duty or in the exercise of that official’s functions (active bribery);

(b) the request or receipt by a public official, directly or through an intermediary, of an advantage of any kind or the promise of such an advantage for that official or for a third party, in order for the public official to act or to refrain from acting in accordance with his duty or in the exercise of that official’s functions (passive bribery).

The Proposed Directive is based on a broad notion of public officials, including not only (European) “Union officials,” but also national officials of Member States and of third countries, as well as any other person assigned and exercising a public service function in Member States or third countries, for an international organization or for an international court.[4] The definition of national officials is said to not only include persons holding executive, administrative or judicial offices, but also legislative office[5] (an area in which some countries such as Germany may have had some deficiencies in terms of combatting corruption[6]).

However, the Proposed Directive also contains elements that may, if interpreted broadly, limit the scope of the offense considerably. By way of example, the “advantage” to the public official or third party needs a connection with some performance of the public official in return, given that it must be “in order for the public to act or refrain from acting in accordance with his duty or in the exercise of that official’s functions”. This is arguably more restrictive than some current national laws that criminalize the granting or accepting of benefits without a specific compensation in return.[7]

b) Bribery in the Private Sector

The EU Commission also seeks to introduce an concept of bribery in the private sector

Member States shall take the necessary measures to ensure that the following conduct shall be punishable as a criminal offense, when committed intentionally and in the course of economic, financial, business or commercial activities:

(a) the promise, offer or giving, directly or through an intermediary, an undue advantage of any kind to a person who in any capacity directs or works for a private-sector entity, for that person or for a third party, in order for that person to act or to refrain from acting, in breach of that person’s duties (active bribery);

(b) the request or receipt by a person, directly or through an intermediary, of an undue advantage of any kind or the promise of such an advantage, for that person or for a third party, while in any capacity directing or working for a private-sector entity, to act or to refrain from acting, in breach of that person’s duties (passive bribery).[8]

In principle, this offense appears to be similarly conceptualized as bribery in the public sector. However, a remarkable feature is that this offense requires an “undue advantage” as opposed to a mere “advantage”. By suggesting this qualification, the Commission seems to reflect that certain elements of gifts and hospitality are socially more accepted in the area of private enterprise compared with interactions with state functionaries. Interestingly, the Proposed Directive does not contain a definition of “advantage”, let alone of an “undue advantage”, which may open the door for a broad interpretation of that element.

c) Further Offenses and Substantive Stipulations

The Proposed Directive would also impact national criminal laws, in that its Articles 9 to 13 require Members States to introduce or refine further offenses which form part of the fight against corruption, i.e. “misappropriation”, “trading in influence”, “abuse of functions”, “obstruction of justice”, and “enrichment from corruption offences”.

Member States are also requested to ensure that they can punish these offenses in cases of incitement, as well as aiding and abetting.[9] The Proposed Directive does not require Member States to criminalize “attempts” of bribery and passive bribery,[10] but this is an area where Member States may go beyond the Proposed Directive.[11]

3. Sanctions

With respect to punishment, the Commission resorts to its usual terminology by requiring Member States to adopt “effective, proportionate and dissuasive” criminal penalties, but also provides rather detailed specifications for the ranges of punishment.[12] Pursuant to the Proposed Directive, bribery in the public sector, as well as obstruction of justice, need to be punishable by a maximum term of at least six years. Bribery in the private sector is apparently deemed less grave, as the Commission foresees a maximum term of at least five years. Further legal consequences envisioned by the Proposed Directive entail, among others, fines, removal and disqualification from public office or the exercise of commercial activities in the context of which the offense was committed, and exclusions from access to public funding.[13]

4. Jurisdiction

In essence, the Proposed Directive foresees jurisdiction of the Member States over corruption offenses if one of three conditions apply:

The offense is committed in whole or in part in the territory of a Member State;
The offender is a national of or has his or her habitual residence in a Member State; or
The offense is committed for the benefit of a legal person established in the territory of a Member State.[14]

This is arguably a similar framework to the version set out by the U.S. Foreign Corrupt Practices Act.[15] Practical enforcement would need to show whether extraterritorial enforcement of anti-corruption law by EU Member States or the European Public Prosecutor’s Office would gain a more significant role than in the past.

5. Corporate Liability / Relevancy of Compliance Programs and Internal Control Systems

The Proposed Directive prescribes that the Member States take necessary measures to ensure that legal entities can be “held liable” for any of such crimes.[16] This language is supposedly due to the fact that European legal orders vary significantly when it comes to “corporate crime”. Presumably against this background, the Proposed Directive takes a narrow approach, in that it requires that the offense be committed:

for the benefit of a legal person;
by a natural person within the legal person, acting either individually or as part of an organ of the legal person; and
by having a leading position within the legal person, based on at least one of the following: A power of representation of the legal person; the authority to take decisions on behalf of the legal person; or the authority to exercise control within the legal person.

If a more subordinate employee committed a relevant offense, legal persons must be held liable if the lack of supervision or control by a leading person has made possible the commission of a crime by a person under his or her authority.[17]

In terms of sanctions for legal persons, the Proposed Directive stipulates that they need to include criminal or non-criminal fines of a maximum limit of no less than 5% of the total worldwide turnover of the legal person, including related entities, in the business year preceding the decision imposing the fine.[18] Further sanctions include the exclusion from entitlement to public benefits or aid; the temporary or permanent exclusion from public procurement procedures; temporary or permanent disqualification of that legal person from the exercise of commercial activities; the withdrawal of permits or authorizations to pursue activities in the context of which the offense was committed; the possibility for public authorities to annul or rescind a contract with the legal entity in the context of which the offense was committed; the placing of that legal person under judicial supervision; the judicial winding-up of that legal person; or the temporary or permanent closure of establishments which have been used for committing the offense.[19]

Article 18 of the Proposed Directive includes examples of aggravating and mitigating circumstances. A very relevant mitigating circumstance applies to a legal entity if it has implemented effective internal controls, ethics awareness, and compliance programs to prevent corruption prior to or after the commission of the offense.[20] The Proposed Directive is not more detailed on the specific requirement in this regard. A legal person can benefit from a further, arguably controversial, mitigating factor if it rapidly and voluntarily discloses the offense to the competent authorities and takes remedial measures.[21] This incentive forms part of a general international trend to encourage legal entities to inform prosecuting authorities of criminal offenses committed in its corporate environment.[22]

6. Prevention, Enforcement and Monitoring

The Commission goes considerably beyond merely harmonizing the substantive law, but aims through a variety of means to lay the ground for a comprehensive fight against corruption. For instance, the Proposed Directive sets out several Member State obligations to prevent corruption (such as raising public awareness).[23] It also introduces “specialized bodies”, both in the prevention and repression of corruption, to be established by the Member States,[24] and makes further provisions for resources, training, and investigative tools,[25] as well as cooperation between Member States and EU institutions[26].

_________________________

[1] Eur-Lex, Proposal for a Directive of the European Parliament and of the Council on combating corruption, replacing Council Framework Decision 2003/568/JHA and the Convention on the fight against corruption involving officials of the European Communities or officials of Member States of the European Union and amending Directive (EU) 2017/1371 of the European Parliament and of the Council, dated May 3, 2023, available under https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=COM%3A2023%3A234%3AFIN (last visited May 15, 2023).

[2] Article 29(1) of the Proposed Directive.

[3] Article 1 of the Proposed Directive (emphasis added).

[4] Article 2 no. 3 of the Proposed Directive.

[5] Article 2 no. 5 of the Proposed Directive.

[6] See 2022 Mid-Year FCPA Update / Covid-19 Mask Scandal.

[7] See, e.g. sections 331 and 333 of the German Criminal Code.

[8] Article 8 of the Proposed Directive.

[9] Articles 14(1) and (2) of the Proposed Directive.

[10] Article 14(3) of the Proposed Directive.

[11] By way of example, see sections 331(2), 332(1), and 334(2) of the German Criminal Code.

[12] Articles 15(1) and (2) of the Proposed Directive.

[13] Article 15(4) of the Proposed Directive.

[14] Article 20(1) of the Proposed Directive.

[15] 15 U.S. Code §§ 78dd-1 et seq.

[16] Article 16(1) of the Proposed Directive.

[17] Article 16(2) of the Proposed Directive.

[18] Article 17(2)(a) of the Proposed Directive.

[19] Article 17(2) of the Proposed Directive.

[20] Article 17(2)(b) of the Proposed Directive.

[21] Article 17(2)(c) of the Proposed Directive.

[22] See, e.g., Lisa Monaco, Memorandum of the U.S. Deputy Attorney General, September 15, 2022, p. 3.

[23] Article 3(1) of the Proposed Directive.

[24] Article 4 of the Proposed Directive.

[25] Articles 5, 6, and 23 of the Proposed Directive.

[26] Articles 20(2) and 24 of the Proposed Directive.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding these developments. If you wish to discuss any of the matters set out above, please contact the Gibson Dunn lawyer with whom you usually work, any member of Gibson Dunn’s White Collar Defense and Investigations or Anti-Corruption and FCPA practice groups in Germany, or the following authors in Munich:

Katharina Humphrey (+49 89 189 33 217, [email protected])
Andreas Dürr (+49 89 189 33-219, [email protected])

On April 28, 2023, the U.S. Department of Justice’s Consumer Protection Branch (CPB) released its second annual Recent Highlights Report.[1] The Report describes the Branch and its role at DOJ, and it reviews significant litigation and resolutions that occurred in 2022. Gibson Dunn will discuss the Report and other developments related to the Consumer Protection Branch in a complimentary webcast on Wednesday, May 31, from 12:00 p.m. to 1:00 p.m. EDT. You may register for the webcast here. The below alert also summarizes key aspects of the Report.

Consistent with last year’s publication,[2] the Report again highlights CPB’s growth, both in terms of its size and its widening scope of criminal and civil actions. With well more than 200 people (including more than 110 prosecutors), the Branch is the fastest-growing enforcement component at the Department of Justice. Indeed, the Branch currently is onboarding a large number of new prosecutors and would receive further enhancement through the President’s recent budget request.[3]

The Report also showcases CPB’s expanding relationships with agency partners. Those partners include various law enforcement agencies and consumer protection regulators, including the U.S. Food and Drug Administration (FDA), the Federal Trade Commission (FTC), the Drug Enforcement Administration (DEA), the Consumer Product Safety Commission (CPSC), and the National Highway Traffic Safety Administration (NHTSA), among others. Working with these partners, the Branch is expanding the use of criminal and civil penalty authorities to new enforcement spaces.

The Report flags several enforcement trends. With regard to consumer health and safety, it is clear that the Branch is dedicating particular attention to opioids, dietary supplements, tobacco products, and food safety.[4] The Branch also is notably focused on distributors of regulated products, with the Report describing actions and investigative efforts to hold distributors—defined in the Report as including e-commerce and social media companies—accountable for “allowing” products “to get into the [wrong] hands.”

As to consumer fraud and deceptive practices, the Report emphasizes the continuing expansion of the Branch’s partnership with the FTC, especially in civil penalty actions, which the Branch litigates on behalf of the FTC. With the FTC now referring to the Branch dozens of civil-penalty actions a year, the litigation of such actions has become a huge component of the Branch’s work and reflects a significant shift in how FTC-related actions are litigated. The Report also describes the Branch’s ongoing commitment to prosecuting schemes that target the elderly and other vulnerable populations.

* * *

The Report describes CPB’s work in three main areas: consumer health and safety enforcement, consumer fraud and deceptive practices enforcement, and the defense of federal consumer protection agencies. It also discusses new corporate compliance policies.

Consumer Health and Safety Enforcement

The Report highlights CPB’s work in enforcing the Federal Food, Drug, and Cosmetic Act (FDCA) and in combating the opioid epidemic. In the FDCA context, the Branch remains active in pursuing criminal and civil cases involving misbranded and adulterated drugs, medical devices, dietary supplements, biologics, food, and tobacco. The Report calls particular attention to the Branch’s resolution of a long-running civil action involving cigarette marketing that will result in corrective statements being published at approximately 200,000 retail locations throughout the country. The Report also reviews the Branch’s enforcement efforts involving unapproved nicotine products, unlawful dietary supplements, adulterated infant formula and other food, and misbranded drugs and medical devices. Food safety is an enforcement area emphasized in the Report, which states that the Branch is “[w]orking closely with the FDA and CDC” to pursue “civil and criminal actions against companies and individuals who fail to maintain sanitary facilities, distribute tainted food products, or make significant misrepresentations to customers or the public.” The Report also continues a trend of statements by the Branch highlighting its work to address clinical triad fraud,[5] with the Report describing multiple prosecutions advanced and convictions secured for alleged conduct related to the falsification of results, records, and other information.

The Report also notes the Branch’s strengthened efforts to combat the opioid epidemic. These efforts include nationwide civil actions under the Controlled Substances Act (CSA) related to the distribution and dispensing of prescription drugs. The efforts also include new actions to address the sharp rise in overdose deaths due to counterfeit pills laced with fentanyl. As noted in the Report:

“[T]he Branch has broadened its efforts to pursue corporate bad actors facilitating the manufacture, distribution, or sale of counterfeit pills. This includes investigating e-commerce sites and social media platforms that may be allowing traffickers to sell counterfeit pills to teens and young adults. Further, the Branch is investigating companies that may be allowing precursor chemicals and equipment to get into the hands of drug trafficking organizations.”

These “counterfeit pill initiatives” rely on the potential application of various provisions of the CSA and other laws that have not been frequently utilized. But that approach is consistent with the Branch’s work in prior years to use novel enforcement pathways in cases involving diverted prescription opioids, misbranded drugs, and hazardous products.

Further, the Report includes an interesting call out to the Branch’s work with CPSC and NHTSA. While no enforcement actions with those agencies are highlighted in the Report, their reference reflects increased collaboration with both agencies, especially with respect to criminal enforcement efforts.

Consumer Fraud and Deceptive Practice Enforcement

In the consumer fraud space, the Report notes a continued focus on transnational and complex consumer fraud schemes, as well as the enforcement of statutes administered by the FTC.

The Report makes clear that the Branch is continuing to collaborate more with the FTC, especially to advance actions seeking civil penalties for FTC rules or order violations. Under the FTC Act, the FTC must refer all actions seeking civil penalties to the Department of Justice for litigation. CPB receives and handles those referrals. In the wake of the Supreme Court’s decision in AMG Capital Management,[6] the FTC has increased dramatically the number of civil penalty referrals sent to the Branch. In fact, the Branch now receives dozens of referrals annually, requiring more than 40,000 hours of personnel time to litigate last year.

Highlighted in the Report are a $275 million judgment against a video game developer for allegedly collecting personal information in violation of Children’s Online Privacy Protection Act, and a $150 million civil penalty judgment against a social media company for allegedly failing to comply with data privacy provisions of a prior FTC order. The Report also notes that the Branch filed the first case under the FTC’s “Made in the USA” rule, multiple telemarketing cases, and other actions for unfair or deceptive practices. In addition, the Report highlights a case in which the Branch combined claims that a product violated both an FTC rule and the FDCA’s misbranding provisions—a combining of claims only possible because of the FTC’s referral of civil penalty actions to the Branch.

The Report also reviews CPB’s continued work fighting scams that target or disproportionately affect the elderly, immigrants, veterans, and vulnerable populations. That work includes the Branch’s coordination of global fraud-fighting efforts through the Department’s Transnational Elder Fraud Strike Force, which Attorney General Garland expanded to cover twenty federal districts.

Defensive Litigation

The Report includes a robust section discussing CPB’s enhanced efforts and capabilities to defend consumer protection agencies against challenges to their actions brought under the U.S. Constitution and the Administrative Procedure Act. Such challenges often involve the authorization or denial of medical device or drug approvals, the issuance of public health guidance, or product recalls. Some highlights noted in the Report include the Branch’s defense of the FDA’s orders denying marketing authorization for e-cigarette products, and its defense of the FDA in cases related to COVID-19 vaccines and treatments. Although not mentioned in the Report due to ongoing litigation, the Branch is also defending the FDA in challenges involving the drug mifepristone. The Branch’s defensive litigation work has expanded substantially over the past year and remains a space to watch.

Corporate Compliance

All of the Branch’s enforcement efforts will be informed by its new voluntary self-disclosure and monitor-selection policies, which we detailed in a previous alert in March of this year.[7] Those policies signal a desire to incentivize self-disclosure directly to CPB and to impose independent monitors more frequently. The Report explains that the policies are overseen by CPB’s Corporate Compliance and Policy Unit, which “helps to craft and enforce corporate resolutions,” including by working to “assess compliance programs, craft resolution terms, and ensure that defendants follow the compliance and reporting provisions of resolutions.”[8]

* * *

The Report makes clear that CPB remains one of the Department of Justice’s most active enforcers, using its unique ability to employ criminal and civil authorities to bring actions across a wide range of areas. Gibson Dunn has deep familiarity with CPB and experience in navigating actions involving it. We stand ready to assist clients engaging with the Branch.

___________________________

[1] United States Department of Justice Consumer Protection Branch, “Recent Highlights” (Apr. 2023), available at https://www.justice.gov/d9/2023-04/CPB%20Highlights.pdf.

[2] United States Department of Justice Consumer Protection Branch, “Recent Highlights” (Apr. 2022), available at https://www.justice.gov/file/1490441/download.

[3] See https://www.whitehouse.gov/wp-content/uploads/2023/03/jus_fy2024.pdf.

[4] See also United States Department of Justice, “Deputy Assistant Attorney General Arun G. Rao Delivers Remarks at the Food & Drug Law Institute’s (FDLI) 2021 Enforcement, Litigation and Compliance Conference” (Dec. 7, 2022), available at https://www.justice.gov/opa/speech/deputy-assistant-attorney-general-arun-g-rao-delivers-keynote-address-food-and-drug-law.

[5] See e.g. United States Department of Justice, “Deputy Assistant Attorney General Arun G. Rao Delivers Remarks at the Food & Drug Law Institute’s (FDLI) 2021 Enforcement, Litigation and Compliance Conference” (Dec 9, 2021), available at https://www.justice.gov/opa/speech/deputy-assistant-attorney-general-arun-g-rao-delivers-remarks-food-drug-law-institute-s.

[6] AMG Capital Management, LLC, et al. v. Federal Trade Commission, 593 US _ (2021).

[7] See Client Alert, Gibson Dunn, DOJ’s Consumer Protection Branch Announces New Corporate Enforcement Policies (March 28, 2023), https://www.gibsondunn.com/doj-consumer-protection-branch-announces-new-corporate-enforcement-policies/.

[8] United States Department of Justice Consumer Protection Branch, “Recent Highlights” (Apr. 2023), at 36, available at https://www.justice.gov/d9/2023-04/CPB%20Highlights.pdf.

The following Gibson Dunn lawyers prepared this client alert: Gus Eyler, Svetlana Gans, Nick Hanna, Ashley Rogers, Patrick Stokes, Sarah Hafeez, and Wynne Leahy.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding the issues discussed in this update. Please contact the Gibson Dunn lawyer with whom you usually work in the firm’s FDA and Health Care, Privacy, Cybersecurity and Data Innovation, or White Collar Defense and Investigations practice groups, or the authors:

FDA and Health Care Group:
Gustav W. Eyler – Washington, D.C. (+1 202-955-8610, [email protected])
Marian J. Lee – Washington, D.C. (+1 202-887-3732, [email protected])
John D. W. Partridge – Denver (+1 303-298-5931, [email protected])
Jonathan M. Phillips – Washington, D.C. (+1 202-887-3546, [email protected])

Privacy, Cybersecurity and Data Innovation:
S. Ashlie Beringer – Palo Alto (+1 650-849-5327, [email protected])
Svetlana S. Gans – Washington, D.C. (+1 202-955-8657, [email protected])
Jane C. Horvath – Washington, D.C. (+1 202-955-8505, [email protected])
Ashley Rogers – Dallas (+1 214-698-3316, [email protected])
Alexander H. Southwell – New York (+1 212-351-3981, [email protected])

White Collar Defense and Investigations Group:
Stephanie Brooker – Washington, D.C. (+1 202-887-3502, [email protected])
Nicola T. Hanna – Los Angeles (+1 213-229-7269, [email protected])
Charles J. Stevens – San Francisco (+1 415-393-8391, [email protected])
Patrick F. Stokes – Washington, D.C. (+1 202-955-8504, [email protected])
F. Joseph Warin – Washington, D.C. (+1 202-887-3609, [email protected])
Debra Wong Yang – Los Angeles (+1 213-229-7472, [email protected])

Gibson Dunn’s Public Policy Practice Group is closely monitoring developments regarding the infrastructure permitting debate in Congress. We offer this alert summarizing and analyzing the U.S. Senate Energy and Natural Resources Committee’s hearing on May 11, 2023, to help our clients prepare for potential changes in infrastructure permitting and environmental authorization laws. We are also available to help our clients arrange meetings on Capitol Hill to discuss permitting reform proposals or to share real-world examples of how the permitting process has affected them.

***

On May 11, 2023, the U.S. Senate Committee on Energy and Natural Resources (“ENR” or the “Committee”) held a hearing addressing the need to improve the federal infrastructure permitting process. Committee Chairman Joe Manchin (D-WV) repeatedly emphasized the importance of Congress passing a bipartisan permitting reform bill and promised, “We’re going to make something happen.” Other senators and witnesses alike concurred on the need for permitting reform to strengthen national security, address climate change, and support economic growth.

Witnesses included:

Jason Grumet, Chief Executive Officer, American Clean Power Association;
Rich Nolan, President and Chief Executive Officer, National Mining Association;
Elizabeth Shuler, President, American Federation of Labor and Congress of Industrial Organizations (“AFL-CIO”); and
Paul Ulrich, Vice President, Jonah Energy.

We provide a full hearing summary and analysis below. Of particular interest to clients, however:

Chairman Manchin expressed his commitment to bipartisan permitting reform. He acknowledged the main proposals to date: his own bill, S. 1399, the Building American Energy Security Act of 2023; Committee Ranking Member John Barrasso’s S. 1456, the Spur Permitting of Under Developed Resources (“SPUR”) Act; Environment and Public Works Committee Ranking Member Shelley Moore Capito’s S. 1499, the Revitalizing the Economy by Simplifying Timelines and Assuring Regulatory Transparency (“RESTART”) Act; and H.R. 1, the Lower Energy Costs Act, which has passed the House. He also noted that Environment and Public Works (“EPW”) Committee Chairman Tom Carper will be offering his own proposal soon. Chairman Manchin argued that bipartisan reform will draw from all of these proposals.
This hearing featured more comity than the EPW Committee’s hearing two weeks ago. Although the EPW members mostly agreed permitting reform is necessary, the Committee Democrats and several witnesses seemed concerned that permitting reforms may reduce community input. The ENR Committee members, however, all seemed to agree that permitting reform does not mean losing community participation or reducing environmental standards.
Like the EPW Committee, ENR Chairman Manchin and Ranking Member Barrasso support developing permitting reform through regular order (meaning through the committee process, rather than a “gang”).
Ranking Member Barrasso (R-WY) specified four requirements for any permitting bill that passes Congress. The bill: (1) must benefit the entire country, not a narrow range of special interests, limited projects, or specific technology. It must apply to all energy sources, including traditional and alternative energy; (2) include enforceable timelines for environmental authorizations; (3) limit legal challenges; and (4) stop the executive branch from “hijacking the permitting process to advance its own narrow and frequently extreme agenda.”
Senator Angus King (I-ME) noted that when he was governor of Maine, he prioritized high environmental standards and a timely and predictable permitting process, arguing those two things are not inconsistent. As an Independent with practical experience from his time as governor, Senator King may well become a key player in the permitting reform effort.

Key substantive issues surrounding permitting reform raised in the hearing included: (1) the effectiveness of the FAST-41 permitting reforms; (2) the scope of permitting reform; (3) enforceable timelines and regulatory clarity; (4) litigation; (5) mining and critical minerals; (6) jobs and workforce; and (7) national security.

1. Effectiveness of FAST-41 Permitting Reforms

Several senators and witnesses commented on the effectiveness of the FAST-41 permitting reforms at reducing permitting timelines without harming environmental standards. Based on positive comments from both Republican and Democratic senators on the ENR and EPW committees, it seems likely that any bipartisan permitting reform proposal either will expand the FAST-41 program itself or apply FAST-41 principles, such as the designation of a lead agency for each project, deadline transparency and accountability, and expedited litigation timelines to more projects.

Chairman Manchin discussed the permitting reforms in his bill, which largely draw from FAST-41 principles, including limiting the length of environmental reviews; imposing enforceable timelines on agency reviews; requiring agencies to coordinate with one another and produce one coordinated review (a process known as “One Federal Decision”) rather than multiple, disparate reviews. He said he was “pleased” to see many of those ideas in Ranking Member Barrasso’s bill.

Senator Mark Kelly (D-AZ) commented that he supported efforts to permanent reauthorize FAST-41 last Congress, calling it a critical tool to help large projects navigate the permitting process. He acknowledged that the South32 Project became the first mining project to be covered by FAST-41 earlier this year.

Mr. Grumet also endorsed those reforms, calling FAST-41 and its Federal Permitting Improvement Steering Council “shockingly effective” at reducing permitting timelines.

2. Scope of Permitting Reform

One of the most significant areas of disagreement to date regarding permitting reform is which types of projects such reform should benefit. Many Democrats are focused on permitting reform for alternative energy projects and transmission lines and infrastructure. Republicans generally urge permitting reform for all infrastructure projects and support an all-of-the-above energy strategy, and they have concerns about taking away authority from state governments to permit transmission lines. Chairman Manchin, however, is trying to bridge that divide. At the hearing, he expressed concern about the substantial reduction in new natural gas infrastructure, as well as transmission infrastructure, as well as manufacturing and mining. He commented that “no matter what you want to build, it takes too long.”

Regarding transmission, Chairman Manchin explained that his bill recognizes that state governments have primary authority to site transmission lines, but offers reasonable improvements that would allow the Federal Energy Regulatory Commission (“FERC”) to step in when states cannot reach agreement after one year so long-distance interstate transmission projects can move forward. He suggested that his bill addresses Republican cost allocation concerns by ensuring that only those who receive electric benefits will pay for those benefits, and those payments will be proportionate. Senators Cindy Hyde-Smith (R-MS) and Josh Hawley (R-MO), though, expressed skepticism about proposals that yield more authority to the federal government over state approvals, and Senator John Hoeven (R-ND) raised opposition to policies that may distribute transmission costs unfairly.

Ranking Member Barrasso argued that Congress “cannot enact anything less than comprehensive reform,” pointing to his SPUR Act, which he said would revitalize the energy sector, hold the Secretary of Interior to her legal obligations regarding leasing on federal lands, and ensure access to minerals for renewable and battery technology. He asserted the bill would provide companies more predictable permitting processes for pipelines, liquid natural gas (“LNG”) facilities, and electric transmission lines. He invited Mr. Ulrich to testify regarding his company’s efforts to produce natural gas in an environmentally responsible manner.

Senators Maria Cantwell (D-WA) and Steve Daines (R-MT) both called for any bipartisan permitting reform proposal to incorporate their bill, S. 1521, to improve the licensing of non-federal hydropower projects. Senator Ron Wyden (D-OR) asked to be added as a co-sponsor during the hearing.

In his written testimony, Mr. Grumet supplied specific and detailed suggestions for Congress to enact transmission line permitting reform that would ensure regions can supply energy to each other across the country in an emergency. He argued that the current balkanized system leads to inefficient permitting and, ultimately, life-or-death emergencies when one region’s grid struggles. He proposed requiring states to conduct their own evaluations against FERC-supplied criteria. He also endorsed many of the FAST-41 principles and certain of the National Environmental Policy Act (“NEPA”) reforms contained in Chairman Manchin’s bill and Republican proposals, mainly focused on default timelines for steps in the environmental authorization process.

3. Enforceable Timelines and Regulatory Clarity

Ranking Member Barrasso made it clear that any bipartisan permitting bill must impose enforceable timelines on environmental authorizations and provide regulatory clarity regarding authorization requirements. Senator King also discussed the importance of firm deadlines.

Senator Daines contended that any permitting reform bill needs to address the Ninth Circuit’s decision in Cottonwood Environmental Law Center v. U.S. Forest Service regarding what actions trigger federal agencies’ obligation to reinitiate consultation with the U.S. Fish and Wildlife Service or the National Marine Fisheries Service. Senator Daines said that the Committee would be taking up his bipartisan legislation, S. 1540, addressing that issue next week.

Mr. Grumet testified that it seems like there is growing agreement that two years is an appropriate general timeline for permitting approval processes. Ms. Nolan argued that regulatory certainty is crucial for suppliers, contractors, and workers to make commitments to projects.

4. Litigation

Chairman Manchin expressed outrage over the eight years of litigation against the Mountain Valley Pipeline in West Virginia, which he noted has involved eight NEPA reviews and nine court cases in the U.S. Court of Appeals for the Fourth Circuit. Senator King said he supports limiting the length of time litigation takes. When he questioned Mr. Grumet about the appropriate length of time for a statute of limitations, however, Mr. Grumet demurred from committing to a specific number. He commented that the current six years is unnecessary; the FAST-41 change for certain projects to two years was “constructive”; and the Manchin legislation (at six months) is better.

Mr. Ulrich testified that the effects of litigation on oil and gas permitting are significant and argued any reform should expedite judicial review, limit venue shopping, and provide a reasonable statute of limitations for bringing an action against a project.

5. Mining and Critical Minerals

There was general consensus among senators and witnesses that the permitting process for mining needs reform. They recognized that critical mineral mining is crucial for U.S. national security and to combatting climate change.

Ranking Member Barrasso argued that it will be impossible to meet President Biden’s 2035 climate goals without a dramatic increase in our dependence on Russia and China for critical minerals unless Congress reforms the permitting process. He specifically focused on the need for miners to have access to federal lands to access critical minerals.

Senator Daines commented that permitting hard rock mining projects usually takes more than ten years, along with $10 billion in startup capital before producing any revenue—if they get through the permitting process. He commented that the Libby Exploration Project in Montana still has not finalized its permitting process because of litigation after 34 years.

Senator Catherine Cortez-Masto (D-NV) said that “everyone agrees” that we need to “get minerals and protect the environment,” citing the Biden administration’s focus on increasing domestic sources of critical minerals. She urged the mining industry to work harder on environmental issues and pressure bad actors, and also to collaborate with local stakeholders.

Senator Hawley observed that the U.S. labor protections are a “heck of a lot better” than those in China and the Democratic Republic of Congo, which currently provide much of the world’s mineral supply.

6. Jobs and Workforce

The hearing focused heavily on permitting reform’s impact on jobs and the economy. Both Republican and Democratic senators acknowledged that permitting reform is important for job creation.

In keeping with unions’ long support for permitting reform, Ms. Shuler testified that permitting reform is the AFL-CIO’s top priority, noting that every job in the energy and manufacturing sectors depend on permitting and siting. She claimed that permitting reform could “create more than a million good union jobs” while also bringing down emissions. She focused on the need to ramp up training to ensure workforce readiness when projects are approved.

Senator Kelly specifically focused on the importance of a faster permitting process to ensure that new jobs are available when older energy assets close.

Mr. Nolan offered that mining is a source of high-paying, stable, and often unionized jobs. He said mining directly employs 475,000 people in the United States with an average wage of $85,000.

7. National Security

Almost all of the senators and witnesses discussed the need to reduce reliance on China and Russia for critical minerals and manufacturing as a matter of national security. Chairman Manchin expressed frustration that the Biden administration does not focus on the national security purposes that motivated the Inflation Reduction Act, instead only discussing the climate change effects, and said he had been urging the administration to focus on its national security benefits. Senator King noted that 87 percent of lithium in electric vehicle batteries comes from China, which is a national security issue.

***

The following Gibson Dunn lawyers assisted in preparing this alert: Michael D. Bopp, Roscoe Jones Jr., David Fotouhi, Amanda Neely, and Daniel P. Smith.*

Gibson, Dunn & Crutcher’s lawyers are available to assist in addressing any questions you may have regarding these issues. Please contact the Gibson Dunn lawyer with whom you usually work in the firm’s Public Policy or Environmental Litigation and Mass Tort practice groups, or the following authors:

Michael D. Bopp – Co-Chair, Public Policy Group, Washington, D.C. (+1 202-955-8256, [email protected])

Roscoe Jones, Jr. – Co-Chair, Public Policy Group, Washington, D.C. (+1 202-887-3530, [email protected])

David Fotouhi – Washington, D.C. (+1 202-955-8502, [email protected])

Amanda H. Neely – Washington, D.C. (+1 202-777-9566, [email protected])

Daniel P. Smith* – Washington, D.C. (+1 202-777-9549, [email protected])

*Daniel P. Smith is of counsel working in the firm’s Washington, D.C. office who is admitted only in Illinois and practicing under supervision of members of the District of Columbia Bar under D.C. App. R. 49.

Decided May 11, 2023

Percoco v. United States, No. 21-1158

Today, the Supreme Court overturned a wire fraud conviction based on an honest-services theory. The Court reasoned that while such a theory can potentially cover private persons, it does not extend to all private persons. The jury instructions given in this case were too vague because they failed to define the intangible right to honest services with sufficient definiteness.

Background: Joseph Percoco resigned from his position in New York state government to serve in a private capacity as then-Governor Andrew Cuomo’s campaign manager. Despite lacking an official government position, he continued to wield significant influence in the Cuomo administration. Recognizing that, an acquaintance paid Percoco $35,000 to have him pressure a state agency to drop a requirement that would have forced the acquaintance’s company to enter a costly agreement with a local union.

Federal prosecutors indicted Percoco under the honest-services component of the federal wire-fraud statute, which proscribes “depriv[ing] another of the intangible right of honest services.” 18 U.S.C. § 1346. The statute is typically invoked in public-corruption cases involving public officials who take money in exchange for exercising their official power. But the Second Circuit concluded that the statute is broad enough to encompass Percoco’s situation: a private citizen who takes money in exchange for wielding his substantial influence over government officials to persuade those officials to exercise their official powers in a certain way.

Issue: Whether private citizens can be convicted of depriving the public of honest services.

Court’s Holding:

Potentially yes, because there is no absolute rule that would preclude convicting a private citizen under an honest-services theory (such as where a private citizen has become an actual agent of the government). But the conviction at issue could not be upheld because the jury instructions were too vague.

“‘[T]he intangible right of honest services’ codified in § 1346 plainly does not extend a duty to the public to all private persons.”

Justice Alito, writing for the Court

What It Means:

Today’s decision is one in a line of cases, including McDonnell v. United States, 579 U.S. 550 (2016),and Skilling v. United States, 561 U.S. 358 (2010), addressing expansive uses of the honest-services theory of wire fraud, and the Court’s holding will make it more difficult for prosecutors to assert such theories as to private citizens such as lobbyists.
Today’s opinion suggests the government should focus on “heartland” cases of honest-services fraud, including when a private individual acts as the government’s “actual agent” and therefore owes a fiduciary duty to both the government and the public.
Justice Gorsuch, joined by Justice Thomas, concurred in the judgment only. Justice Gorsuch would have held that the honest-services fraud statute is void for vagueness because it fails to provide the fair notice that due process requires. After today’s opinion, Justice Gorsuch wrote, “we now know a little bit more about when a duty of honest services does not arise, but we still have no idea when it does.”

The Court’s opinion is available here.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the Supreme Court. Please feel free to contact the following practice leaders:

Appellate and Constitutional Law Practice

Allyson N. Ho +1 214.698.3233 [email protected]	Thomas H. Dupree Jr. +1 202.955.8547 [email protected]	Julian W. Poon +1 213.229.7758 [email protected]
Lucas C. Townsend +1 202.887.3731 [email protected]	Bradley J. Hamburger +1 213.229.7658 [email protected]	Brad G. Hubbard +1 214.698.3326 [email protected]

Related Practice: White Collar Defense and Investigations

Stephanie Brooker +1 201.887.3502 [email protected]	F. Joseph Warin +1 202.887.3609 [email protected]
Chuck Stevens +1 415.393.8391 [email protected]	Nicola T. Hanna +1 213.229.7269 [email protected]

Decided May 11, 2023

Ciminelli v. United States, No. 21-1170

Today, the Supreme Court unanimously rejected the “right-to-control” theory of wire fraud, holding that potentially valuable economic information necessary to make discretionary economic decisions does not constitute “property” for purposes of the federal wire-fraud statute.

Background: In 2012, New York Governor Andrew Cuomo kicked off “Buffalo Billion,” a billion-dollar economic-development program. The state selected developers for the project through an Alain Kaloyeros-run nonprofit entity that solicited bids from contractors. Louis Ciminelli’s construction company submitted a bid and won a $750 million development contract. It was later revealed that Kaloyeros and Ciminelli had worked together to rig the bidding process in favor of Ciminelli’s bid. In 2018, Ciminelli and Kaloyeros were indicted for wire fraud.

The federal wire-fraud statute proscribes making false statements to obtain money or property. The trial court instructed the jury that “property” includes intangible interests, including the right to control the use of one’s assets. It further instructed the jury that depriving another of potentially valuable economic information violates the wire-fraud statute. The jury convicted Ciminelli and Kaloyeros. On appeal, the Second Circuit affirmed, upholding what it referred to as the “right-to-control” theory of wire fraud.

Issue: Whether depriving someone of potentially valuable economic information is a deprivation of “money or property” for purposes of the federal wire-fraud statute.

Court’s Holding:

No. The Court concluded that valuable economic information needed to make discretionary economic decisions is not a traditional property interest and does not constitute “property” for purposes of the federal wire-fraud statute, and therefore the “right-to-control” theory cannot form the basis for a conviction under the federal fraud statutes.

“Because ‘potentially valuable economic information’ ‘necessary to make discretionary economic decisions’ is not a traditional property interest, we now hold that the right-to-control theory is not a valid basis for liability under §1343.”

Justice Thomas, writing for the Court

What It Means:

The Court rejected the notion that allegedly false statements made during contract negotiations that lead to no harm to a traditional property interest can form the basis for criminal liability under the federal fraud statutes. This holding should assuage the fears of contracting parties who, under the Second Circuit’s “right-to-control” theory, would risk criminal liability for alleged misstatements made during contract negotiations even where those misstatements lead to no harm to a traditional property interest.
This decision is the latest in a series of cases in which the Court has rejected novel and expansive readings of federal fraud statutes in state and local public corruption cases. E.g., Kelly v. United States, 140 S. Ct. 1565 (2020); McDonnell v. United States, 579 U.S. 550 (2016). These decisions underscore the Court’s reluctance to over-criminalize common behavior and over-federalize traditionally state matters—particularly in cases touching on state and local politics.
The Court also rejected the government’s request to uphold Ciminelli’s conviction on the alternative ground that the evidence was sufficient to establish wire fraud under a traditional property fraud theory, because the government relied exclusively on the right-to-control theory in indicting the defendants, obtaining their convictions, and prevailing in the Second Circuit.
The decision will likely discourage further efforts on the part of prosecutors to base federal fraud cases on abstract injuries and instead will encourage them to focus on proving that alleged victims of fraud lost money or property. The government itself conceded before the Supreme Court that the “right-to-control theory” was erroneous, signaling a preemptive retreat from these types of prosecutions before the Court’s decision was even announced.

The Court’s opinion is available here.

Gibson Dunn’s lawyers are available to assist in addressing any questions you may have regarding developments at the Supreme Court. Please feel free to contact the following practice leaders:

Appellate and Constitutional Law Practice

Allyson N. Ho +1 214.698.3233 [email protected]	Thomas H. Dupree Jr. +1 202.955.8547 [email protected]	Julian W. Poon +1 213.229.7758 [email protected]
Lucas C. Townsend +1 202.887.3731 [email protected]	Bradley J. Hamburger +1 213.229.7658 [email protected]	Brad G. Hubbard +1 214.698.3326 [email protected]

Related Practice: White Collar Defense and Investigations

Stephanie Brooker +1 201.887.3502 [email protected]	F. Joseph Warin +1 202.887.3609 [email protected]
Chuck Stevens +1 415.393.8391 [email protected]	Nicola T. Hanna +1 213.229.7269 [email protected]