Robert M. Langer
Publications

The Second Prong of the 'Cigarette Rule' Continues to Serve as a Basis for Finding Unfairness Under Several 'Little FTC Acts'

September 30, 2011 Published Work
Antitrust & Trade Reglation Report

Reproduced with permission from Antitrust & Trade Regulation Report, 101 ATRR 408, 09/30/2011. Copyright _ 2011 by The Bureau of National Affairs, Inc. (800-372-1033) http://www.bna.com.

I. Introduction
The authority of the Federal Trade Commission (‘‘FTC'' or ‘‘the Commission'') to prohibit ‘‘unfair or deceptive acts or practices'' dates back to the Wheeler-Lea Amendment to the FTC Act in 1938.[1]

Since then, federal and state courts, Congress, and the FTC itself have all contributed to a seventy-plus year evolution of the unfairness doctrine, a test to determine which acts or practices constitute violations of Section 5(a)(1) of the FTC Act, or its state analogues, on the basis of unfairness. The FTC's unfairness doctrine as it exists today emerged from an amalgam of cases, rulemaking proceedings and congressional legislation. The history and application of the FTC's standard combined with the states' respective applications of their own ‘‘Little FTC Acts,'' particularly the states' own corresponding unfairness analyses, have created a complex legal landscape.

To complement the federal government's prohibition of unfair and deceptive acts and practices, twenty-eight states have enacted ‘‘Little FTC Acts.'' A significant disparity between FTC and state-level consumer protection methodologies exists because many states have not adjusted their respective methodologies to comport with the various FTC policy shifts. While some states have amended their statutes lockstep with FTC policy changes, others merely look to FTC decisions as substantive guidance with respect to unfairness analysis. Substantial variation also exists among those states that purport to defer to FTC and federal interpretations because state courts have inconsistently applied the unfairness doctrine as applied by the FTC.

As a result, neither a standardized nor consistent unfairness doctrine exists with respect to state consumer protection statutes despite the fact that the language of most of these statutes corresponds with that used in the federal Act and, in many instances, directs state courts to give deference to, or be guided by, federal interpretations of Section 5(a)(1) of the FTC Act. Nevertheless, the majority of states with ‘‘Little FTC Acts'' utilize an unfairness analysis distinct from that applied by the FTC. These states continue to apply the Cigarette Rule, a test long abandoned by the FTC.

This article explores the continued use in several states of the now FTC-rejected second prong of the Cigarette Rule as a basis for finding that certain acts or practices are ‘‘unfair.''

II. History
Almost three decades after the 1938 Wheeler-Lea Amendment was enacted, the FTC finally shed some light on its own interpretation of ‘‘unfair'' by defining an unfairness test in a rulemaking proceeding regarding the advertising and sale of cigarettes. The test adopted by the FTC has come to be known as the Cigarette Rule (or ‘‘S&H Rule'' or ‘‘Sperry Rule'') and it provided that an ‘‘unfair'' act or practice would be determined by the following factors:

(1) whether the practice, without necessarily having been previously considered unlawful, offends public policy as it has been established by statutes, the common law, or otherwise-whether, in other words, it is within at least the penumbra of some common-law, statutory, or other established concept of unfairness; (2) whether it is immoral, unethical, oppressive or unscrupulous; (3) whether it causes substantial injury to consumers (or competitors or other businessmen).[2]

The Cigarette Rule did not gain prominence until almost ten years after its initial publication when the Supreme Court recited the criteria with approval in FTC v. Sperry & Hutchinson Co.[3] The FTC's approach garnered legitimacy from the ruling in Sperry, but the Court gave short shrift to the mechanics of the Cigarette Rule analysis; the Court was silent as to the relative weight to be assigned to each prong. Further, the Court's decision seems to suggest that the Cigarette Rule is disjunctive,[4] or, in other words, that an act or practice could be deemed to be ‘‘unfair'' if any one of the three prongs of the test was satisfied.[5]

In 1980, the FTC modified its unfairness doctrine by adopting the Unfairness Policy Statement. In the Unfairness Policy Statement, the Commission articulated that ‘‘[un]justified consumer injury is the primary focus of the FTC Act, and the most important of the three [Cigarette Rule] criteria.''[6] This highlighted a substantial shift in FTC methodology—the Commission would now focus on the substantiality of the consumer injury. To that end, the Commission outlined a three-part inquiry explaining that the injury ‘‘must be substantial; it must not be outweighed by countervailing benefits to consumers or competition that the practice produces; and it must be an injury that consumers themselves could not reasonably have avoided.''[7]

Particularly relevant to this article, the Unfairness Policy Statement disavowed the second prong of the Cigarette Rule, reasoning that the test had never been relied upon as stand-alone evidence for finding unfairness. [8] However, the abandonment of the second prong of the Cigarette Rule was not the sole subject of change. The Commission's Unfairness Policy Statement also limited the role of public policy in that it could only serve as evidence to be used in a cost-benefit analysis relating to consumer injury.[9] Later, the Commission altogether eliminated the public policy prong as an independent basis for unfairness.[10]

The Commission's Unfairness Policy Statement became federal law when Congress reauthorized the FTC in 1994.[11] Section 5(n) limited the FTC's authority to declare conduct unfair to situations where ‘‘the act or practice causes or is likely to cause substantial injury to consumers which is not reasonably avoidable by consumers themselves and not outweighed by countervailing benefits to consumers or competition.''[12] Section 5(n) reiterated the position of the FTC in the Unfairness Policy Statement that the FTC ‘‘may consider established public policies as evidence to be considered with all other evidence.''[13] Additionally, Section 5(n) further reconfirmed the federal rejection of the second prong of the Cigarette Rule as an independent basis for finding unfairness.

Notwithstanding the Cigarette Rule's abandonment by both the FTC and Congress, the Cigarette Rule remains very much alive at the state level, despite language in many state consumer protection laws stating that courts should defer to or be ‘‘guided by'' federal interpretations of the substantive prohibitory provision of the FTC Act, Section 5(a)(1).[14]

III. ‘Little FTC Acts' States and the Cigarette Rule
Although all states have now enacted some form of consumer protection legislation, many of which are denominated ‘‘Little FTC Acts,'' the majority of states enacted these laws prior to the FTC's Unfairness Policy Statement.[15] These laws were, for the most part, products of a ‘‘wave of consumerism'' that the United States experienced in the mid- 1960s.[16] As a result, the FTC's Cigarette Rule worked its way through many state courts for more than a decade before the Unfairness Policy Statement was adopted by the Commission. In fact, some states had already officially adopted the Cigarette Rule through judicial decision by this time. Further, not until 1984 did the Unfairness Policy Statement make its way into an FTC decision, and it took until 1985 for a court to cite the new methodology.[17] It is possible that some states were unaware of the federal policy shift, and as a consequence some state courts continued to apply the Cigarette Rule in the absence of any guidance to the contrary.

It has also been speculated by at least one commentator that some state courts may have elected not to reject the Cigarette Rule in favor of the FTC's Unfairness Policy Statement and/or 15 U.S.C. § 45(n) because some state court judges may be uncomfortable engaging in the type of cost-benefit analysis required when applying the substantial injury test.[18] Whatever the reason may be, the majority of states continue to use some version of the Cigarette Rule more than thirty years after the FTC published its express rejection of the test.[19]

IV. The Second Prong in Cigarette Rule States
A broad case law search using the second prong language, ‘‘immoral, unethical, oppressive or unscrupulous,'' as a search parameter returns hundreds of state and federal court cases that include the language as dicta or in a substantive portion of the case's holding.[20] While a number of these cases were decided primarily on a second prong analysis,[21] most cases were decided on the basis of the first and/or third prongs, or on a combination of the three prongs. From this sampling of cases emerge noticeable trends signaling that some states have developed a sizeable body of case law where courts have applied the second prong of the Cigarette Rule to find unfairness.

During the almost forty-year span in which state courts have applied the unfairness doctrine, a multitude of conduct has been analyzed against the second prong of the Cigarette Rule. The second prong's language is quite broad, and state courts often summarily hold that the second prong has been met without further explanation or support. Other times, state courts have expressly identified certain conduct deemed violative of the Cigarette Rule's second prong.[22] This article identifies a few examples of such conduct.[23]

A. Fraud / Misrepresentation. State courts have frequently found violations of their consumer protection laws in factual scenarios similar to those implicating actions for false representation or fraud in the inducement. For example, a Massachusetts court held that a building developer who assured an engineering firm that he would pay for work to mitigate flooding damage but then refused to pay acted unethically and unscrupulously.[24] In another Massachusetts case, a manufacturer allegedly induced a football coach to impart valuable commercial information regarding his newly designed ball used for blocking drills by feigning interest in a joint marketing arrangement—the court held the alleged conduct to be unscrupulous, denying defendant's motion for summary judgment.[25]

Likewise, the New Hampshire Supreme Court has held that continuous misrepresentations made in an effort to avoid refunding a deposit supported a consumer protection claim intimating that ‘‘[i]t would be harmful for commerce in New Hampshire to condone such unethical and unscrupulous activity.''[26] A district court in New Hampshire also has held that conduct including shorting fuel amounts and manipulating gas prices constituted unethical and unscrupulous conduct violative of the state's consumer protection law.[27] Similarly, a Connecticut court held that allegations, including inducing a non-English speaking plaintiff into signing a mortgage deed favorable to the defendant, were sufficiently unscrupulous and immoral to establish a cause of action under the state consumer protection law.[28]

Some courts have held that even silence may constitute conduct violative of the second prong. In Cambridge Plating Co., Inc. v. Napco, Inc.,[29] the First Circuit, applying Massachusetts law, affirmed the finding of the trial court that a water treatment system retailer's silence constituted unscrupulous conduct where it was known that the purchaser had inaccurate system design drawings that would handicap the efficient repair of the system.

B. State Law Violations. In addition to conduct that resembles traditional notions of fraud or misrepresentation, state courts have utilized the second prong of the Cigarette Rule to hold that violations of state-specific regulations or laws may also constitute violations of consumer protection laws. In People ex rel. Renne v. Servantes,[30] the California Court of Appeals held that a tow truck operator's business practices in violation of the state regulation regarding removal of vehicles from private property by a towing service and other municipal ordinances regulating towing constituted unethical and unscrupulous conduct with no redeeming value. In Alaska, the state Supreme Court held that vandalizing a customer's property was unlawful conduct sufficiently immoral, unethical, oppressive and unscrupulous for a cause of action under Alaska's consumer protection law.[31]

C. Business Conduct. Second prong case law involves allegations of unfairness not only with respect to consumers, but also with regard to conduct between businesses, including competitors. For example, a Connecticut court has held that stealing customers to avoid agreed-upon compensation was immoral, oppressive and unscrupulous.[32] Connecticut court has also held that the solicitation of a competitor's employees constituted unscrupulous behavior actionable under the Connecticut Unfair Trade Practices Act (‘‘CUTPA''), Connecticut's ‘‘Little FTC Act.''[33] In another case, the Connecticut Appellate Court deemed a deviation from accepted trade practices with respect to awarding contracts to a subcontractor violative of the second prong.[34]

V. Conclusion
The Cigarette Rule, including its second prong, continues to form the basis for evaluating unfair acts and practices in several states. Indeed, in some states, such as Connecticut, the second prong may constitute a stand-alone basis for finding unfairness. Whether the Cigarette Rule, including its second prong, should continue to be utilized by state governmental authorities and private litigants more than thirty years after the FTC abandoned the Cigarette Rule is an issue worthy of debate.[35]

Businesses and practitioners alike should be mindful of the quite substantial differences that currently exist between the FTC's unfairness methodology and that employed by many ‘‘Little FTC Act'' states. Failure to do so presents profound risks. Verbum sat sapienti est.[36]
____________________

[1] Originally, Section 5 of the FTC Act of 1914 proscribed only ‘‘unfair methods of competition,'' Act of Sept. 26, 1914, ch.3 311, § 5(a), 38 Stat. 717, 719 (codified at 15 U.S.C. § 45(a)); however, the Wheeler-Lea Amendment of 1938 extended the proscribed conduct over which FTC had jurisdiction to ‘‘unfair or deceptive acts or practices.'' Act of Mar. 21, 1938, ch. 49, § 3, 52 Stat. 111 (codified at 15 U.S.C. § 45(a)). See also ABA Section of Antitrust Law, Consumer Protection Law Developments 1 (2009) [hereinafter ‘‘CPLD''].
[2] Statement of Basis and Purpose of Trade Regulation Rule 408, Unfair or Deceptive Advertising and Labeling of Cigarettes in Relation to the Health Hazards of Smoking. 29 Fed. Reg. 8335 (1964).
[3] FTC v. Sperry & Hutchinson Co., 405 U.S. 233 (1972) (approving FTC's unfairness analysis and remanding matter to FTC for further proceedings).
[4] The FTC had already clarified this issue when it promulgated a rule stating that ‘‘[a] practice may be unfair because of the degree to which it meets one of the [Cigarette Rule] criteria or because to a lesser extent it meets all three.'' Statement of Basis and Purpose Relating to Disclosure Requirements and Prohibitions Concerning Franchising and Business Opportunity Ventures, 43 Fed. Reg. 59,614, 59,635 (1978).
[5] Sperry, 405 U.S. at 244, n.5.
[6] See Letter from FTC to Hon. Wendell Ford and Hon. John Danforth, Committee on Commerce, Science and Transportation, U.S. Senate, Commission Statement of Policy on the Scope of Consumer Unfairness Jurisdiction (Dec. 17, 1980), reprinted inInt'l Harvester Co., 104 F.T.C. 949, 1070 (1984), available at http://ftc.gov/bcp/policystmt/ad-unfair.htm.
[7] Int'l Harvester, 104 F.T.C. at 1073-74 (emphasis added).
[8] Int'l Harvester, 104 F.T.C. at 1076.
[9] Int'l Harvester, 104 F.T.C. at 1075-76.
[10] Int'l Harvester, 104 F.T.C. at 1061, n.47.
[11] Pub.L. 103-312 § 9 (August 26, 1994); Section 5(n) of the FTC Act; 15 U.S.C. § 45(n).
[12] Id.
[13] Id.
[14] Sixteen of the twenty-eight states that have enacted ‘‘Little FTC Acts'' still apply the Cigarette Rule., ROBERT M. LANGER, JOHN T. MORGAN, DAVID L. BELT, CONNECTICUT UNFAIR TRADE PRACTICES, BUSINESS TORTS AND ANTITRUST (Connecticut Practice Series No. 12, 2010-2011 ed.) App. M. [hereinafter ‘‘LANGER'']; see CPLD, supra, note 1 at 377-78.
[15] See LANGER, supra, note 14, § 2.2 at.42.
[16] See CPLD, supra, note 1 at 375.
[17] Michael M. Greenfield, Unfairness Under Section 5 of the FTC Act and its Impact on State Law, 46 WAYNE L. REV. 1869, 1933 (2000); see Int'l Harvester, 104 F.T.C. 949 (1984); Am. Fin. Servs. Ass'n v. FTC, 767 F.2d 957, 970 (D.C. Cir. 1985).
[18] See GREENFIELD, supra, note 17 at 1933.
[19] See LANGER, supra, note 14, § 2.2 at 42-44 and App. M. Oklahoma has adopted the Cigarette Rule by statute, OKLA. STAT. ANN. tit. 15, § 752.14 (West 2011), and Missouri promulgated a regulation adopting the Cigarette Rule. MO. CODE STATE REGS. tit. 15 § 60-8.020 (2009). Indeed, only four of the ‘Little FTC Act'' states apply the ‘‘substantial injury'' test set forth in 15 U.S.C. § 45(n). See LANGER, supra, note 14, § 2.2 at 44.
[20] Within the last thirty years, approximately 3,600 federal and state cases in the sixteen states that have adopted Little FTC Acts and applied the Cigarette Rule cite the second prong language; approximately 1,300 of which are Connecticut cases. The search returned the following number of second prong referencing cases or the other ‘‘Little FTC Act'' states: Alaska – 34; Florida – 122; Hawaii – 67; Illinois – 175; Louisiana – 260; Massachusetts – 437; Missouri – 32; Montana – 61; New Hampshire – 85; North Carolina – 353; Oklahoma – 40; Rhode Island – 69; South Carolina – 86; Vermont – 27; Washington – 51.
[21] Connecticut's second prong case law is by far the largest of any state. See, e.g., LANGER, supra, note 14, § 2.2 at 31-33, n.71.
[22] Leonard-Anthony Assoc., LLC v. Sherman Gardens, LLC, 2009 WL 2358296 at *6 (Conn. Super. Ct. 2009) (‘‘Intentional misrepresentation generally . . . meets the ‘immoral, unethical, oppressive, or unscrupulous' requirement.'').
[23] The conduct highlighted in this article is by no means exhaustive of that which has been held by ‘‘Little FTC Acts'' to be violative of the second prong of the Cigarette Rule.
[24] Fraser Eng'g Co. v. Desmond, 26 Mass. App. Ct. 99, 103, 524 N.E.2d 110, 113 (1988).
[25] Moore v. Marty Gilman, Inc., 965 F.Supp. 203, 220 (D. Mass. 1996).
[26] State v. Moran, 151 N.H. 450, 454, 861 A.2d 763, 767 (2004).
[27] Mwangi v. Alam, 2007 WL 3275117, at *5 (D.N.H. 2007).
[28] Orellana v. Chiera, 2008 WL 4779738 at *4 (Conn. Super. Ct. 2008).
[29] 85 F.3d 752, 769-70 (1st Cir. 1996).
[30] 86 Cal. App. 4th 1081, 1095, 103 Cal. Rptr. 2d 870, 881 (Cal. App. 2001).
[31] State v. Grogan, 628 P.2d 570, 571-72 (Alaska 1981).
[32] Francis T. Zappone Co. v. Plymouth Commons Realty Corp., 2004 WL 238308 at *35 (Conn. Super. Ct. 2004), aff'd, 99 Conn. App. 175, 912 A.2d 1113 (2007).
[33] Desrosier of Greenwich v. Shumway Capital Partners, 2006 WL 1680063,at *6 (Conn. Super. Ct. 2006).
[34] Johnson Elec. Co., Inc. v. Salce Contracting Associates, Inc., 72 Conn. App. 342, 357-58, 805 A.2d 735, 744 (2002).
[35] See LANGER, supra, note 14, § 2.2 at 35-51.
[36] ‘‘A word to the wise is sufficient.''

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