A lawyer I know once told me that the primary motivation behind drafting a contract should not be making each party’s obligations clear or negotiating better terms, but instead should be ensuring that when there is litigation,  that party is in the best possible position to win. Having written and litigated numerous contracts, I could not agree more. There is so much that parties can miss if they are not looking forward towards inevitable disputes. But an even better way to put oneself in a terrible position in a dispute (and to cause more disputes) is to do handshake deals.

For those of you who aren’t lawyers, there are two main types of contract: written contracts and oral agreements (i.e., handshake deals). There can also be some kinds of implied contracts, but I won’t get into that here. Decades ago, people did not enter into written cannabis agreements for very obvious reasons. But from a modern lawyer’s point of view, there are almost zero circumstances in which parties should still enter into oral agreements. In fact, there are numerous reasons why parties should not do so, and I’ll flag some of the more important ones below. All in all, I would be suspect of anyone saying “you don’t need a contract for this deal”.

First, oral agreements are not enforceable in many circumstances. There is a very old legal doctrine called the “statute of frauds”, which all or nearly all states have adopted, and which lists certain kinds of contracts that are not enforceable unless in writing. In California, for example, the statute of frauds includes contracts that can’t be performed in a year (goodbye multi-year terms in handshake deals), leases with more than one year terms, contracts for the sale of real property or an interest in real property, etc. This can be a huge problem for people who have handshake deals who may learn too late that they have no recourse in the courts in a dispute.

Second, they will cost tons of time and money. One thing I’ve heard many times before is that it will be much more expensive to have a lawyer draft X type of contract than just to get started on work. What most non-lawyers don’t think about is how much the inevitable blow back will be if they use an oral agreement. Because the terms aren’t set out in writing, and because people generally have terrible memories, the likelihood of disputes over what the parties are actually supposed to do under a handshake deal are much, much higher. In some cases, disputes are virtually guaranteed.

To that point, if a party under a handshake deal has to sue the other party, the litigation will be much more complicated. In every kind of breach of contract suit, the party alleging breach has to prove the existence of a contract. It’s very easy to do if there is a written contract: generally, you just produce and properly authenticate the contract. If the deal is a handshake one, you will have to have people testify about (1) the fact that there was an agreement, and (2) what the terms were. And the other side is almost guaranteed to testify that the terms were different or that the contract was never made. Sure, parties can dispute the existence or validity of written contracts (someone could claim their signature was forged, for example), but the existence/validity of a contract is rarely at issue in those cases because you can look at and hold a written contract and evaluate such claims pretty easily.

Third, you don’t get to recover any attorneys’ fees! The general rule in the U.S. is that each party bears its own attorneys’ fees in litigation. In other words, you pay your lawyer for litigating your dispute, whether your win or lose. Some laws will force the losing party to pay the other party’s attorneys’ fees (for example, in some trade secret cases). But for straight breach of contract cases, the only way to get your fees paid back if you win, in most cases, is to have an attorneys’ fees provision in the contract. I have never once heard a party legitimately trying to claim that their handshake deal included an attorneys’ fees provision; in fact, that would be a guaranteed way to lose face in front of a court.

Fourth, and along the same lines, no arbitration. I just wrote a post about why arbitration is such a good idea for cannabis companies. The gist is that arbitration avoids going to federal court, where the court is much more likely to toss a case on the grounds that cannabis is federally illegal. Parties generally cannot be forced into arbitration unless they agree to it, either at the point of a dispute being initiated (the party who would benefit from getting the case thrown out would never do this), or in a written contract. Here too, I have never heard of someone arguing that there was an oral agreement to arbitrate.

Fifth, good luck complying with the regulations! Every state’s broad cannabis regulations touch virtually every part of a business’ operations. It is always good practice to address the things that the parties must do or cannot do to comply with the regs in a written contract. For example, if a contract would render parties owners or financial interest holders in a licensed cannabis business, it’s a good idea for the contract to obligate that party to make disclosures. Without it, the party could refuse to do so and jeopardize the other party’s license. If the parties enter into handshake deals, there is virtually no visibility into regulatory compliance. It’s probably not a good defense to an enforcement action that a contract wasn’t written and a licensee was confused as to how they should comply.

All of this is to say, oral contracts are a bad idea. Parties don’t need to have 80-page deals for every minor transaction, but getting something down in writing almost always helps. That said, I do plan to write a post in the near future about how it can be equally terrible to have a contract that is too short. There is a healthy balance when it comes to contract drafting, but the main point is that almost all problems inherent in oral contracts can be avoided, and in many cases very easily.

For more on this under-discussed but very important issue, check out the following:

On Thursday, January 23^rd, the Bureau of Cannabis Control (BCC) announced new proposed emergency regulations that will make it mandatory for all cannabis businesses to post their unique Quick Response Code (QR Code) in their storefront windows and to carry it with them while transporting or delivering cannabis.

According to the BCC, these new regulations are designed to help consumers identify the licensed cannabis retail store from which they are purchasing, and to help law enforcement and “support the legal cannabis market where products such as vape cartridges are routinely tested to protect public health and safety.” We think much of this is in response to the recent vape crisis, which you can read about here:

Consumers will now be able to use their smartphone cameras to scan each retailer’s QR Code, which will link to the BCC’s Online License Search portal to confirm the status of that retailer’s license. Customers will also be able to view the retailer’s address and license location through the portal in order to ensure that the information displayed is not counterfeit.

BCC Chief Lori Ajax had the following to say about the emergency regulations:

The proposed regulations will help consumers avoid purchasing cannabis goods from unlicensed businesses by providing a simple way to confirm licensure immediately before entering the premises or receiving a delivery. These requirements will also assist law enforcement in distinguishing between legal and illegal transportation of cannabis goods.”

The BCC already launched a campaign to encourage retailers to voluntarily post a QR Code certificate for consumers to scan, but these new regulations will make that mandatory. This week ,five business days after last Thursday’s notice, the BCC will file the emergency regulations with the Office of Administrative Law (OAL). Once the OAL publishes the regulations on its website as “under review,” that will kick off the five-calendar day public comment period where the proposed regulations will be designated as “under review” on the OAL website. Submit your comments to both the OA

L and the BCC.

We view these new regulations as another step by the BCC to curb illegal commercial cannabis activity here in California, where the black market has continued to flourish despite legalization. We’ll be curious to see how consumers respond to and interact with these QR Codes, and if it serves to undermine the black market at all.

Succeeding in the cannabis industry is not easy, especially in California. Complex regulation, high taxes, expensive real estate, and competition with the black market are just a handful of factors that challenge cannabis businesses. The majority of players lack sufficient reserves and agility to stay in the game. Due to the substantial upfront costs required to obtain state and local licenses, many don’t even open their doors before cash flow problems lead to unpaid rent and defaulted loans.  We are seeing an increasing number of distressed businesses in the cannabis space.

So, what happens when a cannabis business goes belly-up? A typical business can file for bankruptcy protection, and a court-appointed trustee may liquidate or reorganize the business to satisfy creditors and discharge the debt. Due to the federal prohibition against cannabis, however, cannabis businesses are not eligible for bankruptcy protection, and cannot discharge their debts the same way that other businesses can. Bankruptcy cases are handled exclusively in federal court, and the rationale is that it wouldn’t be possible for a United States Trustee to control and administer a debtor’s assets (cannabis) without violating the federal Controlled Substances Act. (See here for more on that).

One option, if all parties are in agreement, is to voluntarily work out a deal between creditors and the debtor outside of court. While this avenue carries risk due to the absence of any formal court order, and creditors will have to trust that the debtor will follow through with their promises, it could be the most cost-efficient means of resolving a creditor dispute if the arrangement works out.

Another option, which is growing in popularity, is the use of a court-appointed receiver.

 In California, a receiver is an officer appointed by the court to take possession of and to protect assets for the benefit of all persons who may have an interest in those assets. The receiver is a neutral agent of the court and holds assets for the court, not for the plaintiff or the defendant. A receivership is only a provisional remedy in an action that seeks some other relief by final judgment. In other words, you cannot file a lawsuit for the sole purpose of having a receiver appointed.

The court will outline the powers of the receiver in an order, which typically include temporarily managing the business until it gets back into better financial standing, selling off assets, employing employees and professionals, and entering into contracts or leases, among other powers.

In the context of a cannabis business, a likely scenario would involve the business defaulting on a loan, the creditor suing to recover the money, and then the creditor seeking to have the court appoint a receiver to take over the business during the pendency of the action. As we have written about previously, receivership can be a helpful tool where there is a dispute between business owners, but it is not without risk.

Receivership can be expensive, and the costs are generally paid from the income stream generated by the receivership estate (AKA the cannabis business). However, when the receivership estate produces no income or produces income insufficient to compensate a receiver (or when equity requires), the appointing court has broad discretion in determining which party to the litigation should pay the expenses of a receivership. Ordinarily, a court will require the party that requested the receiver’s appointment to bear these costs. That means if you are a creditor who sues a cannabis business and asks to appoint a receiver, and the business does not generate enough income to pay the receiver’s fees, you could be on the hook to pay!

The use of receivership in the cannabis industry can yield strong results (the assets of a cannabis business in receivership were recently sold at auction for $8.5 million), but it is a tricky and novel thing to navigate.

While there are California statutes specifically addressing the use of receiverships to transfer the interest of a debtor in an alcoholic beverage license, no such laws exist (yet) relating to receiverships for cannabis businesses. Combine that with the prohibition against transferring state licenses, the different regulations for ownership changes from the BCC, CDPH and the CDFA, the restrictions applicable to a person who engages in management and control of a cannabis business, and local jurisdiction requirements, and cannabis receivership becomes a very complicated endeavor. While the non-license business assets are less of an issue (e.g., the sale of real property and equipment is more straightforward), the management and sale of a business and license are a different story. We expect to see some legislation and/or regulation addressing receiverships for cannabis entities at some point in the future.

The cannabis industry’s regulatory framework is extremely complicated to navigate. However, well-capitalized and savvy investors may be able to take advantage of distressed assets in receivership if they are prepared to deal with the uncertainty and risk.

Happy New Year! Before we cue up our favorite version of Auld Lang Syne, pop the CBD-infused champagne, and begin to celebrate the roaring 20s, we’d like to take a look back.

2019 was another big year for cannabis, and another busy year for the Canna Law Blog. We dove deep into our archives on Facebook, Twitter, and the nitty-gritty Google searches to see what you, the reader, were most interested in this year. These are the Canna Law Blog’s Biggest Hits of 2019, in alphabetical order:

1. BREAKING NEWS: FDA Issues More Guidance on CBD Products
2. Charlotte’s Web Faces Class Action Lawsuit for Improperly Marketing CBD Products
3. FDA Enforcement Against Hemp-CBD Products Has Begun
4. Going Postal: USPS Provides Guidance on Mailing Hemp-CBD
5. Grading the Democratic Presidential Candidates on Marijuana: Elizabeth Warren
6. Grading the Democratic Presidential Candidates on Marijuana: Bernie Sanders
7. New Trademark Litigation Against “Stone Patch” Cannabis Products Calls Out an Industry Trend of Copycats
8. The FDA Issues Hemp-CBD Warning Letters and a Consumer Update
9. Utah MLM Essential Oils: doTERRA’s Copaiba Oil Challenges Young Living’s CBD Oil
10. Young Living vs. doTERRA: Utah MLM Companies and the CBD Race

What’s the overarching theme of our top 2019 posts? Three letters: C-B-D. It turns out our readers were very interested in CBD, which should come as a surprise to absolutely no one. Our series on presidential candidates was also popular, with Elizabeth Warren and Bernie Sanders garnering the most interest. There is also a budding interest in Utah cannabis, especially when it comes to CBD.

In addition to the top ten list, which was based on a number of different metrics, we also noticed some trends specifically on social media.

Our followers on Facebook “liked” our posts on California and international:

On Twitter, our followers were especially interested in posts on federal issues:

With 2019 fading into the rearview mirror, we are looking forward to the future. We’ll keep writing about CBD, politics, litigation, and even Utah in 2020. We’ll also keep international cannabis posts coming as next year is going to be huge for the international cannabis market. Expect to also see our authors write about states that legalize marijuana in 2020, including Illinois and Michigan, who will ramp up their recreational markets in the new year. We are also open to your ideas as to what we should cover in 2020. Feel free to drop your suggestions in the comments below or reach out of Facebook or Twitter.

Last week, for example, the Bureau of Cannabis Control (“BCC”) and Los Angeles officials raided 24 allegedly unlicensed businesses in Los Angeles. This follows on the heels of the BCC mailing hundreds of notice letters to landlords of allegedly unlawful cannabis businesses across the state informing them that they could be subject to criminal and civil liability. This kind of enforcement activity is a major uptick in comparison to what the BCC had previously done. Up until recently, the BCC had only sporadically raided and shut down allegedly unlawful operators.

The BCC is not the only agency that has begun ramping up enforcement. Just last week, the California Attorney General, on behalf of the California Department of Food and Agriculture (“CDFA”), sued a number of persons and entities, claiming that they had cultivated and processed cannabis without licenses. That lawsuit claims that the defendants are liable for civil penalties of up to three times the amount of the CDFA’s nearly $10,000 license fee per violation, which could be a massive penalty.

The penalties that the state can seek are no joke. Under state law, the California cannabis agencies are entitled to seek penalties of up to $30,000 per day/violation for unlicensed commercial cannabis activity. Anyone can do this math. Being in the illicit market is beyond a major risk, especially now that the government is doing something about it. Just consider how many days it takes to get from seed to harvest, and this fine could get into the millions very quickly. In fact, Stanislaus County recently made the news by implementing a $1,000 per plant, per day penalty, which according to one source could amount to $90 million for a 3,000 plant unlicensed grow over 30 days.

The enforcement trend is only going to increase. Just take a look at Washington, a state with a much more mature regulated recreational cannabis market. Any of our Washington cannabis lawyers will tell you that as the agencies became more sophisticated, they moved from compliance to enforcement (in fact, Washington went so full-in with enforcement that its legislators had to force the cannabis agency to focus its attention back on compliance by way of legislation).

In my opinion, enforcement is not the best way to combat the illicit market. No matter how high the penalties are, there will always be people who are willing to “risk it” and ignore the law. Prohibition never stopped many people from selling cannabis. The big difference between prohibition and enforcement, however, is that enforcement still leaves open the possibility that there is a regulated (yet very complicated and expensive) pathway to selling cannabis. But if the government really wants to eliminate the illicit market in California, lower taxes, lesser regulations, and expanded access to cannabis are a pretty good starting point.

WHAT IS AN NDA?

An NDA is a contract in which the person receiving the sensitive information (“Receiving Party”), usually a business partners, an employee, or a customer, agrees not to share that information with any other party without the prior written approval of the owner of this information (“Disclosing Party”).

Most states, including Oregon, have adopted a version of the Uniform Trade Secrets Act (“UTSA”). Under Oregon law, a trade secret is defined as

information, including a drawing, cost data, customer list, formula, pattern, compilation, program, device, method, technique or process that:
(a) Derives independent economic value, actual or potential, from not being generally known to the public or to other persons who can obtain economic value from its disclosure or use; and
(b) Is the subject of efforts that are reasonable under the circumstances to maintain its secrecy.”

This means that to be legally protected, business information must be valuable and its owner must take reasonable steps to keep it secret. For example, informing new employees that confidential information will be shared in the course of their employment, specifically when requiring them to execute an NDA, should prove that reasonable efforts were made.

In addition, NDAs are enforceable provided they are “fair,” meaning the NDA is not overly restrictive or unduly burdensome on the Receiving Party.

WHAT PROVISIONS SHOULD BE IN AN NDA?

Whether an NDA is needed for business or employment purposes, an effective NDA should include the following provisions:

1. A clear definition of the confidential information that will be shared with the Receiving Party during the term of the agreement. Depending on the state law that governs the NDA, an overly broad definition could expose the Disclosing Party to legal actions and render the NDA unenforceable.
2. The reasons for which the sensitive information is shared with the Receiving Party.
3. Terms under which the sensitive information may be disclosed. Generally, confidential information may be disclosed to a third-party on a need-to-know basis, such as when required by law.
4. The consequences for disclosing the confidential information, which usually include large monetary fines and a court order preventing the breaching party from continuing to disclose the protected confidential information.
5. The length of time during which the Receiving Party must retain the information confidential. Ideally, the Receiving Party will be required to maintain the confidential information secret after their employment agreement terminates.

NDAs are a relatively inexpensive investment for companies given the protection they afford over valuable business information. Accordingly, any business, particularly those engaged in growing markets like Hemp-CBD, should consult with experienced business attorneys to help them prepare sound NDAs.

This is the first in a three-part series addressing why companies making and sell hemp-derived CBD products ought to be concerned about state consumer protection laws and offering a few thoughts on how to mitigate the risk of running afoul of those laws. This week we will look at Oregon, followed by Washington, and California. Please note that these laws are complex, so this is just a broad overview.

Increasingly, makers of CBD products are finding themselves on the wrong side of federal regulators and named as defendants in multi-million-dollar lawsuits.  We’ve written extensively about warning letters issued by the Food and Drug Administration (FDA) to businesses selling hemp-derived CBD products as unapproved drugs:

And we’ve written about, and forecasted, significant litigation involving hemp-derived CBD:

Recently, Alison Malsbury wrote about a new a class action lawsuit against Charlotte’s Web and Infinite Product Co., alleging the former improperly marketing its CBD products as dietary supplements and the latter made unsubstantiated therapeutic claims about CBD. Alison points out that this and other lawsuits should come as no surprise, and she shares some startling statistics about the trustworthiness of CBD labeling. Notably the Charlotte’s Web lawsuit (and others) include claims brought under state consumer protection laws. So let’s take a look at Oregon:

What is the Unlawful Trade Practices Act (UTPA)?

The UTPA is designed to protect consumers from certain business practices. See O.R.S. §§ 646.605-646.656. The UTPA is a potent weapon against consumer fraud and in the hands of a skilled plaintiff’s attorney, one with potentially devastating consequences for your hemp-derived CBD business.

Generally the UTPA provides that a person engages in unlawful trade practices, if, in the course of business, the person: (1) employs any “unconscionable tactic” when selling, renting, or disposing of real estate, goods, or services; or (2) fails to deliver any or all of the portion of real estate, goods or services as promised, and at a customer’s request , refuses to refund money to the consumer for undelivered goods.

The UTPA enumerates 72 specific unlawful business practices. Here are a few that may lend themselves to a lawsuit against company selling CBD products:

• knowingly taking advantage of a customer’s physical infirmity, ignorance, or illiteracy;
• knowingly permitting a customer to enter into a transaction from which the customer will derive no material benefit;
• causing confusion or misunderstanding on the source, approval, affiliations, or ties of a particular good, or service;
• advertising real estate, goods, or services with the intent to not provide the items advertised;
• misrepresenting the characteristics, ingredients, uses, benefits, quantities, or qualities of real estate, goods, or services;
• making false or misleading representations of fact about the real estate, goods, or services of the customer or another;

The UTPA pleading and proof requirements are not as stringent as common-law fraud and, as a consumer protection statute, the UTPA is to be interpreted liberally in favor of consumers. For example, the Oregon Supreme Court has held with respect to whether the defendant acted “willfully” that “‘no more than proof of ordinary negligence by a defendant in not knowing, when it should have known, that a representation made by him was not true.” This is not a tough standard to meet: After all, shouldn’t a company selling hemp-derived CBD know how much CBD is in its product?

What are the significant risks for violating of the UTPA?

There are three significant litigation risks. The first is that the Oregon Attorney General (or District Attorney) commences a proceeding against your company as recently happened with the maker of 5-Hour Energy drinks. Such an action may commence with the Oregon DOJ Civil Enforcement Division issuing your company a letter seeking to resolve the letter. The prosecuting attorney may issue investigative demands, require the production of documents or require that you answer interrogatories. Before filing suit suit, the Oregon DOJ will advise you of the problem and give you an opportunity to enter into an Assurance of Voluntary Compliance (AVC). An AVC requires you to stop the unlawful practice and promise not to engage in the conduct in the future. An AVC is similar to a consent decree, and breach of an AVC is considered contempt of court. (Not something to take lightly.)

The second risk is a lawsuit by a consumer. Although these actions have some limitations as compared to actions by the Attorney General, the key risk is that the consumer may recover her attorneys’ fees along with actual damages or $200, whichever is greater. Although the law also permits punitive damages in limited circumstances, the attorneys’ fees provision is the most worrisome. That part of the UTPA may turn lawsuit where the actual damages are perhaps $100 (e.g. the price of the product) into one in which the consumer’s attorney seeks thousands or tens of thousands of dollars from your CBD business.

A third significant risk is UTPA lawsuits may be brought as class actions. Suppose a small Oregon-based CBD topical company sells its hemp-derived CBD product for $100 and sold 1,000 units in the last year and that the product labels violate the UTPA in some way. A plaintiff’s class action lawyer may commence a lawsuit seeking to recover $200,000 ($200 x 1,000) plus attorneys’ fees. Those fees may easily reach or exceed the actual or statutory damages and will become part of any settlement discussion. The potential liability can skyrocket if the CBD business sells 10,000 units ($2 million + attorneys’ fees) or 100,000 units ($20 million + attorneys’ fees).  By way of comparison, the class action lawsuit against Infinite Product Co. alleges damages exceeding $5 million and asks for attorneys’ fees.

What may I do to mitigate risks of running afoul of Oregon’s Unlawful Trade Practices Act?

The most obvious way is to ensure that your hemp-CBD product is what it says it is and that you do not over-promise. (See above links re FDA and other litigation). Notably, the UTPA does not apply to conduct in compliance with the orders or rules of, a statute administered by a federal, state, or local government agency. So pay close attention to any action by the FDA regarding CBD, which of course you can read about here. And when it comes to ensuring your product “is what it says it is,” consider making use of additional and regular testing of your product and constituent materials provided by suppliers. If your company is contracting with a third-party to provide manufacturing or packaging services or crude or distillate, consider how may contract to shift or alleviate risks through reps and warranties clauses and indemnity provisions.  Please reach out to one of our cannabis attorneys if you have further questions.

Compensatory damages

35 U.S.C.A. § 284 provides: “Upon finding for the claimant the court shall award the claimant damages adequate to compensate for the infringement but in no event less than a reasonable royalty for the use made of the invention by the infringer, together with interest and costs as fixed by the court.”

The major, underlying theory of damages in patent litigation is to deny the infringer the fruits of his illegal act, AND to restore to the patent owner the benefits which he would have derived from his monopoly had he not been denied the infringing sales. Another way to think about this is the distinction between “damages” and “profits.” Profits refers to what an infringer makes. Damages refers to what a patent owner lost by the infringement. A patent owner’s monetary award equals the amount adequate to compensate him for the infringement (usually, for the patent owner’s lost profits), but in no event less than a reasonable or established royalty.

Measured by patent owner’s lost profits

For a patent owner to recover lost profits, he must demonstrate that “but for” the infringement, he would have made the sales that the infringer made. To recover under the lost profits approach, the patent owner must prove two things:

• The patent owner would have made the sale of the product but for the infringement (which is an inquiry made based on the demand for the patented product in the market, the patent owner’s ability to meet this demand, and the absence of acceptable substitutes); and
• Computation on the loss of profits by proper evidence.

Unlike copyright or trademark infringement, patent infringement does not provide for an accounting for an infringer’s profits (except in the case of a design patent). However, the infringer’s profits may properly be considered, for comparison purposes with the patent owner’s proof of his lost profits, in estimating the patent owner’s damages.

Lost profits may be in the form of diverted sales, eroded prices, or increased expenses. It should be noted that an infringer’s foreign sales are not included in this calculation because protection only extends to infringement in the United States.

Measured by a reasonable royalty

In the event a patent owner cannot prove the above, his damages are limited to a “reasonable royalty.” A reasonable royalty is generally the amount at which a person desiring to manufacture and sell a patented product would be willing to pay as a royalty to the patent owner. The factors considered in this analysis are called the Georgia-Pacific factors (from Georgia-Pacific Corp v. United States Plywood Corp.):

• The royalties received by the patent owner for the licensing of the subject patent.
• The rates paid by the licensee for the use of other patents comparable to the subject patent.
• The nature and scope of the license, as exclusive or non-exclusive.
• The licensor’s established policy and marketing program to maintain his patent monopoly by not licensing others to use the invention or by granting licenses under special conditions designed to preserve that monopoly.
• The commercial relationship between the licensor and licensee.
• The effect of selling the patented specialty in promoting sales of other products of the licensee; the existing value of the invention to the licensor as a generator of sales of his non-patented items; and the extent of such derivative or convoyed sales.
• The duration of the patent and the term of the license.
• The established profitability of the product made under the patent; its commercial success; and its current popularity.
• The utility and advantages of the patent property over the old modes or devices, if any, that had been used for working out similar results.
• The nature of the patented invention; the character of the commercial embodiment of it as owned and produced by the licensor; and the benefits to those who have used the invention.
• The extent to which the infringer has made use of the invention; and any evidence probative of the value of that use.
• The portion of the profit or of the selling price that may be customary in the particular business or in comparable businesses to allow for the use of the invention or analogous inventions.
• The portion of the realizable profit that should be credited to the invention as distinguished from non-patented elements, the manufacturing process, business risks, or significant features or improvements added by the infringer.
• The opinion testimony of qualified experts.
• The amount that a licensor (such as the patent owner) and a licensee (such as the infringer) would have agreed upon (at the time the infringement began) if both had been reasonably and voluntarily trying to reach an agreement.

Indirect damages

Generally, indirect or consequential damages (such as lost supply sales) are not recoverable.

Interest on damages award

35 U.S.C.A. § 284 provides as follows regarding interest: “Upon finding for the claimant the court shall award the claimant damages … together with interest and costs as fixed by the court.”

Both pre-judgment and post-judgment interest are included.

Exemplary (or, punitive) damages

35 U.S.C.A. § 284 provides as follows regarding exemplary damages: “When the damages are not found by a jury, the court shall assess them. In either event, the court may increase the damages up to three times the amount found or assessed.”

A patent owner can win exemplary damages, up to and including three times the actual damages, where the infringer has knowingly, deliberately, intentionally, willfully, or wantonly infringed the patent. While “willful infringement” is a nebulous fact inquiry, the primary question is whether the infringer, acting in good faith, had reason to believe that it had the right to act in the infringing manner. The In re Seagate Technology test is comprised of two parts:

• Did the infringer act despite an objectively high likelihood that his actions would constitute infringement of a valid patent? (Note, the infringer’s actual state of mind is irrelevant).
• Was this risk either known or so obvious that it should’ve been known to the infringer?

As expected, the U.S. Patent and Trademark Office has continued to increase the number of patents issued containing the words “cannabis” or “marijuana” this year. Because we anticipate that the growing number of patents in this industry and progression of the first cannabis patent lawsuit (covered here, here, here, and here) inevitably will inspire more litigation in the future, we thought it would be a great time to review what exactly constitutes the kind of “patent infringement” that will land you in court.

Typically, “patent litigation” encompasses lawsuits in which the plaintiff claims that the defendant has infringed on the plaintiff’s valid patent. A common analogy is to compare a patent to land – just as an invasion into the metes and bounds of your land (as described in a deed) constitutes a trespass, an invasion into the individual claims of your patent (as described in the claims) constitutes an infringement. Both are considered torts. However, patent infringement is governed by federal statute, and 35 U.S.C.A. § 271 of the present Patent Act defines infringement as follows:

271. Infringement of patent—(a) Except as otherwise provided in this title, whoever without authority makes, uses, offers to sell, or sells any patented invention, within the United States, or imports into the United States any patented invention during the term of the patent therefor, infringes the patent.

Generally, the burden of proving infringement falls on the plaintiff. The plaintiff can do this by meeting two conditions:

1. A substantial likelihood exists that the product was made by the plaintiff’s patented process; and
2. The plaintiff has made a reasonable effort to determine the process actually used in the defendant’s production of the product and was unable to determine.

If the plaintiff meets these two conditions, the burden then shifts to the defendant to show that its product was NOT made by the plaintiff’s process.

Federal law recognizes two forms of patent infringement: direct infringement and indirect infringement.

Direct Infringement

As indicated in subsection (a) above, a defendant directly infringes a patent when it or its agents personally, and without authority, makes, uses, or sells something that falls within the scope of a plaintiff’s patent claims in the United States. (Important note: U.S. patent laws only protect domestic markets – activity outside the United States is not forbidden unless it contributes to a domestic infringement.) This language is disjunctive – just one act of making, using, or selling the patented invention without authority gives the patent owner a right to sue. However, the patent owner needs to be sure that it can show each element of the claimed invention is also used in the infringing invention in order to make a case of direct infringement.

With direct infringement, knowledge that the product/process being made, used, or sold is covered by an existing valid patent is not a necessary element for establishing infringement. State of mind doesn’t matter, even if the infringer had no idea that the patent existed. This is because issuance of a patent gives “constructive notice” to the world that new patent rights now exist. In creating a new product or process, it’s your responsibility to investigate similar, preexisting patents. However, if it’s determined that a defendant did have knowledge or worse, had an intent to infringe, then that defendant is now exposed to enhanced damages (three times the amount of actual damages).

Indirect Infringement

In contrast to the above, a claim for indirect infringement arises when there is inducement infringement or contributory infringement. According to 35 U.S.C.A. § 271, inducement infringement is defined as:

271. Infringement of patent—(b) Whoever actively induces infringement of a patent shall be liable as an infringer.

And contributory infringement is defined as:

271. Infringement of patent—(c) Whoever offers to sell or sells within the United States or imports into the United States a component of a patented machine, manufacture, combination or composition, or a material or apparatus for use in practicing a patented process, constituting a material part of the invention, knowing the same to be especially made or especially adapted for use in an infringement of such patent, and not a staple article or commodity of commerce suitable for substantial noninfringing use, shall be liable as a contributory infringer.

To find indirect infringement, the plaintiff must show:

1. A third-person actually infringed the plaintiff’s patent (proving direct infringement);
2. The inducer knew of the plaintiff’s patent and, nevertheless;
3. The inducer knowingly induced the third-party’s infringing acts with the specific intent to encourage infringement by that person or contributed to the third-party’s infringing acts with intent.

As the number of patents in the cannabis industry continues to grow, it’s more important than ever to do your due diligence and, if you’re a patent owner, actively monitor your competitors to protect your intellectual property rights. If you need any assistance with this or have any questions, feel free to reach out to our Intellectual Property team.

A few weeks ago, I wrote a Hemp/CBD litigation forecast in which I predicted that at some point a CBD company will make use of the Lanham Act by claiming that a competitor is engaging in false or misleading advertising. (See here). In that post I promised to go into the Lanham Act in further detail and address an important case on the United States Supreme Court’s docket this term. Here goes:

What is the Lanham Act?

The Lanham Act, also known as the Trademark Act of 1946, is the principal federal statute that governs trademarks, service marks, and unfair competition. Although the Lanham Act is generally thought of as a trademark statute, the Lanham Act also protects businesses against unfair competition from competitors who use false or misleading advertising or labeling. Notably, consumers do not have standing under the Lanham Act.

The statutory language providing for false or misleading advertising claims is found in 15 U.S.C. § 1125(a)(1):

Any person who, on or in connection with any goods or services, or any container for goods, uses in commerce any word, term, name, symbol, or device, or any combination thereof, or any false designation of origin, false or misleading description of fact, or false or misleading representation of fact, which—

(A) is likely to cause confusion, or to cause mistake, or to deceive as to the affiliation, connection, or association of such person with another person, or as to the origin, sponsorship, or approval of his or her goods, services, or commercial activities by another person, or

(B) in commercial advertising or promotion, misrepresents the nature, characteristics, qualities, or geographic origin of his or her or another person’s goods, services, or commercial activities,

shall be liable in a civil action by any person who believes that he or she is or is likely to be damaged by such act.

The Lanham Act’s stated goal is “protecting persons engaged in commerce within the control of Congress against unfair competition.” In a seminal Lanham Act case in 2014 (Lexmark International, Inc. v. Static Control Components, Inc) the Supreme Court explained that the concept of “unfair competition” has long been “understood to be concerned with injuries to business reputation and present and future sales.” The Supreme Court ruled persons with standing to bring Lanham Act claims include any plaintiff who can “allege an injury to a commercial interest in reputation or sales.”

What are the elements of a false or misleading advertising claim under the Lanham Act?

To prevail on a Lanham Act claim, a plaintiff must plead and prove that their competitor made (1) a false or misleading statement, (2) in connection with commercial advertising or promotion, that (3) was material, (4) was made in interstate commerce, and (5) damaged or will likely damage the plaintiff.

The false or misleading requirement is shown if either (a) the challenged advertisement is literally false, i.e., “false on its face,” or (b) the advertisement, while not literally false, is nevertheless likely to mislead or confuse customers. Literal falsity, however, may be proven by implication—where the words or images, considered in context, necessarily imply a false message, the advertisement is literally false.

“Puffery” is not actionable under the Lanham Act. Puffery is quintessential “sales talk,” i.e. an exaggeration or overstatement expressed in broad, vague, and commendatory language. As one federal appellate court has stated, “The ‘puffing’ rule amounts to a seller’s privilege to lie his head off, so long as he says nothing specific.” Puffery differs from misdescriptions or false representations of specific characteristic of a product – which the Lanham Act forbids.

The “in connection with commercial advertising or promotion” element has been subject to various interpretations. Generally speaking, it means any widespread communication through print or broadcast media (and includes the internet) made for the purpose of influencing consumers to purchase the defendant’s goods or services. Some courts have held this includes dissemination of information at trade shows or to wholesalers that were not actual consumers of the products.

Keep in mind that there is a multitude of cases interpreting and applying the Lanham Act and each of its elements. Don’t just assume you have a claim – the law in the Ninth Circuit may not be the same in the Second Circuit and exacting research is often required.

What remedies are available under the Lanham Act?

A Lanham Act claim plaintiff may seek an injunction against the false or misleading advertising, monetary damages and, in some cases, attorneys’ fees. This is another area in which careful jurisdiction-specific research is needed before rushing to court. Injunctions—i.e. a court order compelling the defendant to stop the false or misleading advertising—are a typical remedy.

The court may also “in its discretion” award (a) defendant’s profits resulting from the false or misleading advertising (a/k/a disgorgement), (b) any damages sustained by the plaintiff caused by the false or misleading advertisment, and (c) costs for a “willful violation.” Critically, a plaintiff must show a causal relationship between the false advertisement and a decline in the plaintiff’s projected profits. This is often very difficult.  When seeking disgorgement, however, the plaintiff need only rely on defendant’s profits and plaintiffs often find this easier to prove. (But see below re the Supreme Court).

Another twist on remedies is that the Lanham Act permits the court to order the defendant to engage in “corrective advertising.” This may mean the defendant has to retrain its sales personnel or spend money to “fix” the damage done by the misleading or false ads. Courts are more inclined to consider this remedy where a defendant is making false claims about its products that bear on the public health. (See here, here, here and here for the many reasons why making health claims about your CBD products is a bad idea, and add potential liability under the Lanham Act to the list).

What is the Lanham Act case before the Supreme Court about?

In a word: damages. A split emerged in the past decade whether the remedy of disgorgement requires establishing willfulness on the part of the defendant. The case is Romag Fasteners, Inc. v. Fossil, Inc. (Supreme Court Docket No. 18-1233). The question presented is “Whether, under section 35 of the Lanham Act, 15 U.S.C. § 1117(a), willful infringement is a prerequisite for an award of an infringer’s profits for a violation of section 43(a), id. § 1125(a).” The federal appellate courts are split starkly: the Third through Seventh Circuit and the Federal Circuit do not require a plaintiff to establish willfulness for disgorgement of profits, the remaining circuits do.

Although the question appears (by using the term “infringer”) confined to trademark cases brought under the Lanham Act, most commentators expect the Supreme Court’s decision to apply to false advertising claims as well because section 1125(a) applies to false advertising claims.  A ruling that willfulness is required for disgorgement would work to the disadvantage of plaintiffs, a ruling willfulness is not would create more risk for defendants.  Our international team of intellectual property attorneys will be keeping a close eye on this case so stay tuned.

Should you bring a Lanham Act lawsuit against a competitor making false or misleading claims about their CBD products?

Unfortunately, I’ll have to trot out the trope of “it all depends.” That answer is especially true here because whether a Lanham Act claim is a good value proposition for your business decision depends on the egregiousness of the false or misleading advertising, the difficulty of proving your lost profits, the pending Supreme Court decision on disgorgement, and your willingness to incur attorneys’ fees that you may not recover. claims. If your goal is to stop a CBD industry competitor from gaining market share based on false claims about its products, consider issuing a cease-and-desist letter that raises the specter of a Lanham Act lawsuit as a first step.