March 2010 – Column: Your Association, Your Bottom Line

Reflecting on Great Ideas

The days following ERA’s twice-annual conferences always present an opportunity for staff to decompress, debrief and reflect on the event. And while there are always aspects that we can–and will–improve upon, it’s with a sense of satisfaction that I look back upon The Great Ideas Summit 2010.

I must confess that there was a certain amount of trepidation leading up to the summit–which introduced not only a new name, but a new venue (in fact, a new host city–New Orleans) and an entirely new education program, as well. But I am pleased to report that the industry embraced the changes. More than 750 members of the direct-to-consumer commerce community were in attendance, setting a new standard for ERA’s mid-winter event. It was a gathering of industry leaders, with c-level executives making up more than half of those in attendance. Some 350 companies from around the world were represented. In fact, international attendees–from 40 countries–comprised more than 25 percent of the total, confirming again the truly global nature of the industry and your association.

While the statistics are impressive, it was the attendees’ level of engagement and the quality of the dialogue across a variety of crucial industry topics that set The Great Ideas Summit apart. Panelists from the education program–including industry leaders who regularly speak at conferences around the country–were consistently impressed with the level of audience interaction and the quality of the discourse. For example, there was the session on online best practices where the questions began 30 seconds into the presentation and continued until 10 minutes past the allotted hour. Or the “bonus” and up-to-the-second briefing by legal experts regarding MasterCard and its position on post-transaction marketing. Or the spirited question-and-answer session following the keynote address presented by the FTC’s David Vladeck. This truly was a conference characterized by vital and dynamic debate, where the most critical issues were not only discussed, but advanced.

More needs to be said regarding post-transaction marketing. ERA has been proactive in addressing member concerns about MasterCard merchant accounts and has been in direct communication with MasterCard’s leadership team. They have indicated that they do not anticipate introducing new guidance and do not currently endorse or plan to endorse the guidance of any individual, corporation or association. Your association will continue to keep you abreast of relevant developments as they occur.

There also has been intensifying interest in government regulation of online marketing and post-transaction activities. The Senate Commerce Committee, the Federal Trade Commission and state attorneys general are examining the use of pre-acquired account information, free-trial offers, free-to-pay conversions and other forms of advance consent marketing. During the summit, Bureau Director Vladeck addressed his concerns about emerging practices, noting that “the Commission strives to keep up with developing technology and ensure that marketers are held accountable for their actions.” In anticipation of future activity, ERA is working to educate relevant parties about appropriate industry practices. As part of this effort, ERA is actively consulting an issue-based task force to consider revisions to ERA guidance. As proposed legislative or regulatory changes are formed, you can be certain that ERA will respond in a way that supports appropriate marketing practices.

February 2010 – Channel Crossing: Legal

So You Want to Start Your Own Membership Club?

The future of post transaction marketing campaigns (upsells involving the passing of data from one merchant to another) appears quite precarious as such practices continue to face attack from state and federal legislators, regulators and class-action attorneys. Senator John D. Rockefeller, who for months has been leading an investigation by the Senate Commerce, Science and Transportation Committee (Senate Commerce Committee) into “Deceptive Online Mystery Charges,” appears intent on banning such practices and has raised the stakes by expanding the investigation to include the online retailers who passed customer data to their marketing partners and the credit card companies that facilitated the transactions.

Earlier this month, Affinion Group, Inc., agreed to “cease online datapass marketing for its membership programs” in response to the Senate Commerce Committee’s ongoing investigation into the company’s marketing practices. Unfortunately, Affinion’s decision is only the tip of the iceberg. The Senate Commerce Committee is focused on eliminating datapass marketing, and in a January 8, 2010 press release regarding the Affinion matter, Senator Rockefeller stated, “While Affinion’s decision to end the so-called ‘datapass’ process is a positive step, this investigation is ongoing and will not end until all online shoppers are protected and online datapass marketing has been stopped.”

PROVISIONS AND REQUIREMENTS
MasterCard has reacted by shutting down numerous merchants engaged in questionable marketing practices and additional guidelines regarding such transactions are reportedly imminent.

If Congress outlaws datapass marketing, many marketers who have come to rely on the shared revenue garnered from upsell transactions will need to think of new ways to replace that revenue. And some have considered marketing their own membership clubs as a means of avoiding the datapass issue.

While forming one’s own club may solve the datapass problem, it is important to recognize that membership or discount buying clubs carry their own set of legal issues and regulations–particularly at the state level.

There are at least 17 states with discount buying club statutes. While the specific requirements and prohibitions vary from state to state, there are some common provisions that are worth noting.

The statutes define discount buying clubs broadly, and cover most of the typical membership and buying clubs seen today in the marketplace. Generally, the statutes regulate clubs which, for consideration, provide their members with the ability to purchase goods or services at a discount, or are organized with the primary purpose of providing benefits to their members from the cooperative purchase of services or merchandise.

Although some of these statutes include exemptions for certain types of clubs, they share a number of common provisions and requirements:

Registration and Bonding - Several of the states have registration and surety bond requirements, and a handful of states further require that trust/escrow accounts be maintained for the deposit of any monies received from members for the purchase of goods or services.

Cancellation Notices – Many states require that cancellation notices be contained in club membership agreements and mandate the content and form of those notices. A simple statement of cancellation rights may not be sufficient to comply.

Written Disclosures – Several states require that certain written disclosures be made to the consumer before the sale of the membership is completed. Examples of such disclosures include: a representative list of the goods or services offered, or a statement of the company’s return, guarantee or refund policies.

Term – Many states provide that a membership agreement will not be valid for a term longer than a set number of months (typically 18 or 24). Certain states require that the membership duration be clearly and conspicuously disclosed in the contract in boldfaced type in a minimum of 14-point type.

Automatic Renewal – At least one state requires that every discount buying club contract be for a stated number of months and prohibits such contracts from containing a renewal clause or providing that a consumer has an option to enter into a subsequent contract at a stated price.

Savings Claims/Price Comparisons - A few states restrict the manner in which savings claims and price comparisons are made by the clubs.

Signed, Written Contract - Perhaps the most onerous of the requirements is the signed, written contract requirement included in most state statutes. Typically, these statutes expressly require that the contract not only be in writing, but that it be signed as well. The statutes also require specified disclosures that must be made in the contract both in terms of content and type size. While marketers operating online may be able to obtain signed contracts from consumers via E-SIGN, those operating within the telemarketing arena may find it difficult to comply with the signed, written contract provisions.

If datapass marketing is outlawed by Congress or prohibited by industry guidelines, many companies will need to creatively rethink their business models. With careful planning, forming a discount or membership club may be possible, but you must be mindful of the state legislative landscape.

Linda A. Goldstein is a partner and chair of the advertising, marketing and media division at Manatt Phelps & Phillips LLP in New York. She can be reached at (212) 790-4544.

February 2010 – Feature: Payment Processing: How Do You Choose the Right Partner?

You Can’t Do Direct Response Without a Payment By Jack Gordon Processing Company. And No, They Aren’t All Alike.

By Jack Gordon

Forgive us if you already know this, but if you want to transact business via a website or over the phone–if you’re a direct response marketer, in other words–you need a way for customers to pay for your goods. In addition to a merchant account that allows you to accept credit and debit cards, you need a portal through which to enter the card number, a way to determine that the card is valid and a way to have the money transferred to your account after the sale.

That’s where a payment processing company comes into the picture. Payment processing is “obscure and not talked about much,” but it is a critical element in DR marketing, says Hal Altman, co-founder and president of Motivational Fulfillment and Logistics, a Chino, Calif., fulfillment house. “If you picture DR marketing as a wheel, payment processing is one of the spokes,” he says. “If you can’t process the money, you can’t get paid for what you’re selling.”

Because he handles fulfillment for many marketers, Altman deals with a number of payment processing companies–maybe 20 of them, he says. They are not all created equal. He warns it is a grave mistake to treat processing as a commodity, assuming that everyone in the business does the same thing in the same way, with the only criterion for choosing a partner being their rates and fees.

For instance, Altman says, not all processing companies handle all four major credit cards–Visa, Master Card, American Express and Discover. Some won’t allow debit cards to be used in continuity programs. Some are simpler than others to begin doing business with, due to the varying complexity of their APIs, or Application Program Interfaces, the software that connects their technology to a call center or a website.

“We judge a payment service on how easy it is to set up business with them, how quickly we can process files with them and how easy it is to settle up at the end of the day,” Altman says. “I can’t process orders until I get authorizations back. Some small [processing] operators don’t have the technical sophistication. It doesn’t work out.”

For instance, he says, if you expect to do high-volume transactions, perhaps on the scale of 10,000 orders a day, you need a partner who can handle that kind of volume. “If it takes the company five hours to process 500 orders, that’s not enough capacity.”

Selecting a payment processing partner is complicated by several peculiarities of the DR business, beginning with the fact that DR marketers conduct “card not present” transactions. That is, unlike brick-and-mortar merchants, they don’t watch the customer swipe a physical card and then walk away with the product in hand.

According to processing companies that specialize in card-not-present transactions, DR is indeed a peculiar animal. Credit card fraud is more likely when the card thief doesn’t have to appear in a store in person. Chargeback rates can be higher for several reasons. And “partners,” they say, is the right word to describe the relationship that ought to exist between a DR marketer and a payment processor.

DO THEY KNOW DR?
One such card-not-present specialist is Litle & Co. of Lowell, Mass. Chris Reinmuth, Litle’s direct response market leader, urges DR marketers to check out several services when shopping for a processing partner. “Get under the hood and see how they work.”

Compliance with the Payment Card Industry Data Security Standard (PCI DSS) is almost a given, since it is required of all companies that process, store or transmit credit card information, but verify anyway that the processor is PCI-compliant, Reinmuth advises. Then ask questions based on the current and anticipated needs of your business: What kind of volume can it accommodate? How does it handle international transactions? Can it deal in foreign currencies? How will it report information to you, and what type of information will you receive? How does it handle chargebacks?

Above all, he says, voicing the number-one criteria recommended by every expert interviewed for this story, “look for a processor that really understands the DR market. Leaders in direct response will tell you that [processing] is not a commodity play.”

The importance of choosing a processor with DR experience cannot be overstated, says Michael Phelan, president of TransFirst ePayment Services of Hauppauge, N.Y. “Too often, a new DR marketer will go to a local bank and be referred to a service provider who just doesn’t get the DR industry,” he says.

Investigate not just the processor’s experience but its commitment to the DR space, Phelan adds. Some “major players in this space,” under pressure from their sponsor banks, “are getting away from DRTV because it’s seen as a higher-risk business.”

While you’re at it, check out the financial stability of the processing company and its sponsor bank. The processor certainly will check out yours, Phelan says, because if it accepts your business it essentially underwrites your risk–and becomes an unsecured creditor if your business fails.

DO THEY KNOW YOU?
While you’re asking questions, “the processor should be asking you questions, trying to understand your particular business,” says Jim Raftice, chief operating officer of PowerPay of Portland, Maine. DR marketers new to the game are sometimes reluctant to share business information because “you hear in this industry that processors are people you need to be wary of. Since we underwrite the merchant’s risk, our risk monitoring system protects us. But it protects the merchant’s risk, too. If they trust us to the point where we can help them, that’s good.”

Trust leads to communication, Raftice says, and communication with the processor has many benefits. For instance, a DR marketer “can call our risk department to say, ‘Hey, our call center went down for a day, so there will be a spike in chargebacks.’ If we know that will happen, we don’t have to put the account in reserve (i.e., hold back money while the processor tries to determine what’s wrong).”

That points to a key advantage of processing companies that understand the DR industry. As Trent Voight, CEO of Carrollton, Texas-based JetPay, puts it, “We have risk managers who understand it, too.”

To a risk manager at an average processing company, many DR accounts look bizarre and frightening. As a rather extreme example, take e-commerce vendor Woot.com. “Woot sells one thing a day,” Voight says, “and it might be a $20 item or a $3,000 item. An ordinary risk manager would look at that account, see ‘card not present,’ and his head would pop off,” Voight says. “He’d hold back all the money and wait to figure it out later.”

It is critical for such a merchant that the processor’s risk managers should recognize and understand the account, Voight says. “You need someone who can say, ‘No, that’s Woot, that’s fine.’”

This circles back to the issue of communication. Customer service should be a critical criterion in a DR marketer’s selection of a payment processor, says Rosanne Day, managing director of PacNet Services of Vancouver, British Columbia, which specializes in international card-not-present processing. By service, she says, “I mean things as simple as: Can you get someone on the phone to help you with a problem?”

When processing problems arise, they typically are time-sensitive, Day says: Credit cards are being denied for mysterious reasons; you have a potentially fraudulent transaction; a settlement has gone missing. When these things happen, you will want to reach someone at the processing company pronto. “But we hear from marketers that the quality of service varies widely among processing companies,” she says.

WILL THEY HELP YOU?
Day and other processing experts mention a number of topics to dig into when selecting a processing partner, depending on your current needs and future plans: What kinds of fraud-screening tools can the processor offer? Can it handle all of the marketing channels you use–website, call center, direct mail? Does it offer a virtual terminal for call-center agents to use? Does it do batch processing? Does if offer a hosted payments page to take the burden of PCI compliance off of you when you sell via the web? Does it use its own technology platform to communicate with credit-card issuers or go through a third-party “gateway”? What can it do to help you reduce chargebacks?

The answer to that last question ought to be, “plenty,” these experts say. “A processor should not just tell you, ‘You have a chargeback problem, you need to fix it,’” says Litle’s Reinmuth, voicing a common theme. “We look at our customer’s website, shipping information, box labels–everything. If you have chargeback problems, we can help.”

Does that sound like the kind of useful information you get from your current payment processor? If not, you might want to shop around.

Jack Gordon is a freelance writer for Electronic Retailer.

January 2010 – Channel Crossing: Payment Processing

The Lowdown on Interchange Fees

A recent Wall Street Journal article reported that U.S. banks collected $45.3 billion last year from credit- and debit-card fees
charged to merchants–about 75 percent came from interchange fees set by the two major card brands, Visa and MasterCard. Interchange fees, long a part of the card acceptance system, are the fees that a merchant’s bank (the “acquiring bank”) pays the card-using customer’s bank (the “issuing bank”) as cards are accepted for purchases. Set by the card brands, and typically updated twice each year, there are more than 400 interchange categories for the two major brands combined. Over the last several years, regulator inquiry and merchant clamor across the globe have turned the spotlight squarely on the costs associated with card acceptance.

KNOWING WHAT YOU PAY TO MANAGE INTERCHANGE
For the majority of merchants, interchange fees make up the largest component of processing costs. For card-not-present merchants, it typically represents over 2 percent of each credit card transaction. Managing these fees, particularly for card-not-present transactions, can save merchants thousands or millions of dollars annually depending on their transaction volume. Qualifying for the best interchange rate on a per-transaction basis is a complicated process and it starts with knowing what you’re paying. Knowing your true costs begins as a function of how you are billed for processing.

Typically, there are two different ways merchants are billed for processing, which includes interchange costs. The first is a “discount rate,” whereby the processor charges a percentage-of-sale discount on gross sales. These arrangements may also include a fixed per-item fee for each sale, as well as card brand Assessment fees and the processor’s own fees. The second method is on a “pass-through” (often called “cost-plus”) basis, which distinguishes all sets of fees that you are being charged. Discount rates can obscure actual costs and make it impossible to know if you are qualifying for optimal interchange fees for your transactions.

Opting for pass-through billing allows merchants greater visibility into their true interchange costs. For instance, many transactions–for one reason or another–suffer from so-called “downgrades.” That’s to say, they don’t qualify for the best, i.e., cheapest, interchange rate. Sans specific breakouts of interchange fees in their billing and reporting, merchants have no idea when they are losing dollars because of downgrades. And, given the sea of qualifying rates, this is a critical point of breakdown for many merchants on the interchange fee front.

The pass-through model and a complementary reporting platform that specifically accounts for interchange costs is a good start to navigating the thousands of pages of regulations that guide major card brand interchange qualification. Most merchants have neither the time nor the resources to master the rules and regulations of interchange qualification. Their processors and processing platforms, however, should.

Following are key steps to saving on interchange:

• Choose pass-through and not discount rate.
• Scrutinize your processor’s set-up protocol before you begin sending transactions through a new platform: How have they categorized my business (using so-called “Merchant Classification Codes” or MCCs? Am I transmitting transaction data in the best formats?).
• Ensure full, complete and accurate data transmission (bad data and inaccurate formats are the beginning steps to downgrades and lower interchange qualification rates).
• Establish benchmarks and analyze data (if your interchange rates are increasing or decreasing over time, you need to identify causes and solutions).

CHOOSING THE RIGHT PAYMENT PLATFORM
The complexity of card acceptance is lost on most of us. Interchange, in and of itself, is extremely complicated and most merchants feel powerless when trying to minimize their interchange costs. This makes it essential for merchants to partner with a trusted, educated payment processor whose expertise is in their area of commerce and whose platform is designed accordingly. For example, expertise in large-scale point-of-sale (POS) transaction processing is not the same as expertise in card-not-present (CNP) direct-to-consumer sales. Interchange rules and regulations vary significantly between and among commerce categories, and the logic of both your account leaders and their platform should be wired to your interests.

Partnering with your payment platform provider gives back to merchants some of the power to understand the sea of interchange rates, making it possible to manage, control and minimize the fees associated with card acceptance.

Dave Burrows is vice president, product management for Massachusetts-based Litle & Co., a leading card-not-present merchant account, processing and services provider. He can be reached via e-mail at dburrows@litle.com.

October 2009 – Channel Crossing: Legal

A Tale of Two Surprising FTC Cases

By Linda Goldstein

As those who have litigated cases against the FTC know, the odds of succeeding are generally well below the odds of hitting a big jackpot in Las Vegas. In a rare and unusual turn of events, the FTC has recently lost two cases, each of which carries important lessons for the direct response community.

In the first case, Federal Trade Commission vs. Lane Labs-USA, Inc., the FTC sought to hold Lane Labs and certain individual defendants in contempt of a prior FTC Consent Order based on advertising claims that were being made for AdvaCal calcium supplement and Fertil Male, a dietary supplement designed to improve male fertility. The FTC alleged that various claims being made regarding the efficacy of each of these products were false and unsubstantiated, and hence in violation of the provisions of the Consent Order signed by the defendants which required them to possess competent and reliable scientific evidence to substantiate their claims.

AdvaCal claimed that the product has been clinically shown to be three times more absorbable than other calciums; has been shown in clinical tests to increase bone density in the hip; and produces a three-percent increase in bone density over a period of a year. With respect to Fertil Male, the FTC challenged the general claim that the product has been clinically shown to increase sperm production, sperm motility and semen production.

To support its claims, Lane Labs relied upon various peer reviews and published studies, and on the opinions of two experts who had advised Lane Labs and testified in court that the studies upon which Lane Labs were relying were adequate to support the claims. The FTC produced experts of its own who criticized the studies upon which Lane Labs was relying and disagreed with the opinions of Lane Labs experts.

Not Perfect, but Credible
The case is significant because the court engaged in a very thoughtful and detailed discussion regarding the steps the defendants needed to take to satisfy their obligations under the Consent Order. One of the biggest challenges marketers face is determining how much support is enough, and how much and to what extent they can rely on outside experts and published studies. The FTC has generally taken the position that health and safety claims must be supported by well-controlled clinical studies and has often rejected studies submitted by marketers when FTC’s own experts have suggested that the studies are flawed or deficient in some respect.

The standards articulated by the court in this case appear to be more forgiving. Specifically, the court noted first that Lane Labs had instituted a process under which all product claims were reviewed by scientific experts, which in and of itself demonstrated a good-faith effort to comply with the order. The court was also impressed by the fact that Lane Labs had submitted numerous compliance reports to the FTC between 2001 and 2006 and had not been notified that its ads were non-compliant. Ultimately, however, the court determined that the difference in opinion between the FTC’s experts and the defendant’s experts was insufficient to find that the defendants had not fulfilled their obligations under the Consent Order. The following excerpt from the decision captures the court’s view of the case:

The result of both the FTC’s and defendant’s considerable efforts is that this case has become a battle of the experts…. Neither of the FTC’s experts stated that the supplements marketed by Lane Labs are not effective or constitute a health risk to the public. Further, Lane Labs’ experts testified that they believe that the supplements do indeed have beneficial effect and that they would not hesitate in advising their clients to take them when appropriate…. This is not a case of a company making claims out of thin air. Of concern to the Court is the notion that a lay person should have to do more than can reasonably be expected when confronted with both reliable and/or peer-reviewed studies and articles….

Essentially, the court concluded that even if the scientific evidence was not “perfect,” it was sufficiently credible and sound for Lane to rely upon to substantiate its claims. That fact, coupled with their good-faith efforts to comply was sufficient to demonstrate that Lane had complied with the spirit of the order.

It is important to remember that this case involved an effort by the FTC to hold the defendants in contempt of a prior Consent Order. The standards for finding contempt are quite high. Therefore, while the opinion is very interesting, marketers shouldn’t significantly lower their standards for supporting their claims.

The second case involves the continuing saga between the FTC and Kevin Trudeau. As long-time readers may recall, the FTC brought an action against Kevin Trudeau based on the infomercial promoting his “Weight Loss Cure” book. The FTC claimed that this infomercial violated a 2004 Consent Order prohibiting Trudeau from advertising any products in infomercials with one exception–publications, including his own publications, as long as he did not refer to any other product he was marketing and as long as the infomercial did not misrepresent the content of the book.

The FTC claimed that the infomercial for “Weight Loss Cure” violated the Order because the infomercial described the program featured in the book as an easy program that could be followed at home. The FTC alleged that the four-phase weight-loss program was anything but easy and challenged certain other claims made about the features of the program. As a result of that proceeding, the district court initially ordered Trudeau to pay $5.1 million in disgorgement and imposed a complete ban on Trudeau appearing on infomercials for three years promoting a publication in which Trudeau has an interest. Trudeau appealed.

While the Court of Appeals agreed with the lower court that Trudeau’s infomercial did violate the 2004 Order, it took issue with the remedies that had been ordered by the court. First, the Court of Appeals took issue with the amount of the monetary award, because the lower court did not explain the method it used to calculate the award. The Court of Appeals also vacated and remanded to the lower court for further consideration the three-year infomercial ban, finding it improper because Trudeau had no notice at the lower court level that the FTC was seeking such a broad remedy. Also, the ban did not contain what is called a “purge” provision–an ability for Trudeau to be relieved from the ban if he exhibits good behavior. The Court of Appeals deemed this to be a fatal flaw in the remedy, which it ordered the district court to adjust. The matter now goes back to the district court where the saga will no doubt continue.

While marketers hope never to find themselves in the position of litigating against the FTC, in assessing whether to settle or litigate, it is important to consider the relevant precedent and these two cases certainly provide some useful guidance on two important issues that are central to any litigation–liability and remedies.

Linda A. Goldstein is a partner and chair of the advertising, marketing and media division at Manatt Phelps & Phillips LLP in New York. She can be reached at (212) 790-4544.

August 2009 – Channel Crossing: Legal

Indemnity: What It is, Why You Need It, and How to Get It…

By Greg Sater

“It’s fine. I’m not worried, because I’m indemnified.” How many times have you said that to yourself, but then had a fleeting moment of doubt, thinking: What does that actually mean? Am I really protected? Should I be worried?

I hear sufficient confusion about indemnity among marketers and vendors in our industry that I thought it would be useful to have a short “primer” on what it is, why you need it, and how to get it. I also thought it would be useful to recap some of the issues to consider when drafting an indemnity provision.

WHAT IS INDEMNIFICATION?
Although the fact patterns can vary, it usually is as follows: Party A has some sort of business relationship with Party B. For example, Party A is distributing Party B’s product, and Party B is responsible for ensuring that it does not infringe on anyone else’s intellectual property rights or injure anybody who uses it. Then, at some point, a third party comes along and sues everyone, including Party A, with regard to the product or its advertisements. For example, a competitor may allege patent, trademark or copyright infringement. Or a consumer may allege personal injuries. Maybe the FTC or another state or a federal agency alleges false advertising or other illegality.

If Party A and Party B have a well-written contract; if it unambiguously provides for Party A to be indemnified by Party B against that specific kind of third-party claim; and if, under the facts of the case, Party B does not have legal defenses available to it that would enable it to reject indemnification of Party A (e.g., facts pointing to Party A being at fault itself, partially or altogether, for the third party’s claim and/or being in material breach of its contract with Party B); and if Party B is financially solvent enough to honor its contractual obligation, then Party B may be forced to pay for all of Party A’s costs of defense in the third-party case, including its legal fees. Party B may also be forced to pay for any resulting monetary judgment the third party may win against Party A.

TAKING PRECAUTIONS

What lessons have been learned in the trenches of indemnity litigation?

First, understand that every contract is different and should be treated as such when it is being drafted. Each time you draft a new contract, you should consider what sort of third-party claims might arise from the venture or endeavor at hand, and then draft as comprehensive an indemnity provision as possible. In our industry, one such third-party claim is a product liability or personal injury claim relating to the design or manufacture of the product. Another is a claim of false or deceptive advertising, based on the TV commercial or advertising materials for the product. Such a claim can be brought either by a private plaintiff, a group of plaintiffs in a class action, a federal agency or state or local law enforcement agencies.

As between the parties to the contract, which party (Party A, Party B, both or neither) will be responsible for each of these kinds of third-party claims?

Another important potential third-party claim is that of intellectual property infringement, whether patent, trademark, trade dress, copyright, right of publicity or some other other. Which party will be responsible for that? Does it depend on whether it is a claim arising from the product (for which Party B may be most fairly held responsible) or from its advertising materials or campaign (for which Party A may be most fairly held responsible)?

Finally, a party should always be indemnified for damages that arise from the other party’s material breach of, or the failure of, any of its representations and warranties in the contract.

When well written, such clauses also should provide not only for indemnification against whatever monetary awards may need to be paid to a successful third-party claimant, but also for the payment of the legal fees and other costs of defense. It should discuss who will have the right to select the attorneys involved in the defense, who will have the right to control the defense and who will have the right to decide whether to settle with the future third-party claimant(s).

Another important point to remember is that indemnification clauses also should clearly state the “carve outs” from the indemnity obligation: the situations under which the indemnified party does not get its indemnity. If possible, it is best to try to customize each contract to the particular relationship.

Finally, are you not only indemnified but also insured? Most well-drafted contracts will provide for the indemnified party to be covered by an insurance policy purchased by the indemnifying party, and for the indemnified party to be named as an additional insured thereon. However, you must remember that the third-party claims against which you may be insured are not necessarily congruent with the third-party claims against which you are indemnified: the indemnity obligation usually will cover more types of claims than the insurance. So, in the never-ending quest for a shorter and simpler contract, do not make the mistake of foregoing an indemnity provision in your favor simply because you see that there’s another provision making you an additional insured.

Also remember, an indemnity is only as good as the party promising it. If that party doesn’t have the financial resources, or goes bankrupt, it is not worth the paper it is written on.

THE TACO BELL CASE
Indemnification disputes are frequently the subject of litigation in the advertising business. For a recent example, consider the case of Taco Bell Corp. vs. TBWA Chiat/Day Inc., 552 F.3d 1137 (9th Cir. 2009).

Taco Bell used TBWA to create an advertising campaign. The parties had an agency agreement that included indemnification provisions. In it, TBWA agreed to defend, indemnify, and hold Taco Bell harmless from any third-party claims Taco Bell might be held liable for, based on or arising out of any materials created or produced by TBWA for Taco Bell, or arising from TBWA’s fault or negligence in the performance of its obligations under the agency agreement.

However, another clause provided that Taco Bell would defend and indemnify and hold TBWA harmless from any third-party claims TBWA might be held liable for, based on or arising out of information or data supplied or proved by Taco Bell, or from Taco Bell’s fault or negligence.

Language of this sort is common in contracts. But what if both sides might be responsible to some extent for the events that led to the third- party claim?

In the Taco Bell case, TBWA had developed an ad campaign centered upon a Chihuahua. It presented the idea for that campaign along with about 30 other ideas to Taco Bell. Taco Bell selected that idea and went with it. Taco Bell then was sued by someone who previously had been in talks with Taco Bell about a Chihuahua character.

The plaintiff sued Taco Bell for going forward with a Chihuahua-based ad campaign without them.

Because the third-party plaintiff’s case against Taco Bell was based on the commercials that TBWA had created, as soon as Taco Bell lost the underlying case and suffered a $42 million judgment to that plaintiff, Taco Bell turned around and sued TBWA for indemnification.

Despite the indemnity clause, however, the court ruled against Taco Bell, denying it the indemnification.

The court pointed out that Taco Bell itself had approved the Chihuahua character that TBWA had proposed to it, and had continued to approve each of the Chihuahua commercials thereafter made by TBWA, for broadcasting on television. So basically, despite the indemnity language in the contract favoring Taco Bell, Taco Bell’s hands were not clean. It could not use the indemnity clause against its advertising agency, due to the way that that clause was worded in its agency agreement, and, applying that wording, due to its own involvement in the events leading to the third party’s claims.

When considering your next contract, think about the different third-party claims that might arise because of something you do, or something the other party to your contract might do, and who should indemnify whom, for what–and how to clearly express these considerations.

Greg Sater is an attorney with Rutter Hobbs & Davidoff Inc., a law firm based in Los Angeles. He can be reached at (310) 286-1700, or via e-mail at gsater@rutterhobbs.com.

July 2009 – Legal Notes

Law Enforcers Take an Interest in Affiliate Marketers

By Jeffrey D. Knowles and Thomas A. Cohn

Advertising claims have long attracted the attention of state attorneys general and the Federal Trade Commission (FTC). Recently, the FTC and state enforcement officials signaled a willingness to pursue advertising claim actions against a new target: affiliate or performance marketers, little-noticed facilitators of Internet advertising claims.

Until recently, affiliate marketers have operated anonymously. They publish pages containing links to advertisers’ products and are paid a fee for every consumer who clicks the link or purchases the product. When affiliate-published pages contain false, misleading or unsubstantiated claims, or fail to disclose material connections with sellers, the affiliate or network may face liability for deceptively driving online sales of the product in question.

MAKING A CASE
On May 18, 2009, the FTC announced an enforcement action targeting “unknown” affiliate marketers who allegedly pretend to operate “MakingHomeAffordable.gov,” the official website of the federal Making Home Affordable program, which provides free mortgage loan assistance. According to the FTC’s complaint, the defendants purchased “sponsored links” that appear on the results pages of Internet search engines when consumers search for “making home affordable” or similar terms.

The defendants’ ads, which prominently displayed the website address “www.MakingHomeAffordable.gov,” then appear among the search engines’ results. Consumers who clicked on the advertisements were not directed to the website for the Making Home Affordable program, but instead diverted to websites that attempt to sell paid loan modification services.

These commercial websites, which are not affiliated with the U.S. government, require consumers to enter personally identifying and confidential financial information. The operators of these websites then either offer loan modification services themselves or sell consumers’ personally identifying information to persons who sell such services.

Although the FTC did not name the commercial loan modification websites as defendants or allege they were engaged in deception, it did allege that the affiliate marketer defendants were “attempting to defraud or scam homeowners trying to use the MakingHomeAffordable.gov site by falsely implying through search results that visitors were being sent to the government’s website.

Given its position on advertising liability, it was always possible that the FTC would seek to hold affiliate marketers and/or ad networks liable for misleading ads that drove traffic to deceptive websites. That’s why it is critical that affiliate marketers and the networks with which they work take extra care to publish truthful content that is not deceptive and contains any requisite disclaimers and disclosures.

Jeffrey D. Knowles manages Venable LLP’s Government Division and heads the firm’s Advertising and Marketing Practice Group. Knowles is a past chairman of the ERA Board of Directors. He can be reached at (202) 344-4860. Thomas A. Cohn is of counsel in Venable LLP’s New York, N.Y., office. can be reached at (212) 370-6256.

June 2009 – Channel Crossing: Legal

FTC Seeks Public Comments on Agency’s Negative Option Rule

By Linda A. Goldstein

Amid growing pressure from the states to regulate newer forms of negative option marketing like free-to-pay conversions, continuity programs and automatic renewals, heavy enforcement action by the Federal Trade Commission (FTC) targeting such programs and increased class action litigation, marketers who utilize these forms of marketing now face what may be the biggest threat ever–the prospect of specific FTC regulation.

In 1973, the FTC promulgated a rule known as the Pre-notification Negative Option Rule (the Negative Option Rule), which was designed to regulate a very specific type of negative option that was common at the time. A Pre-notification Negative Option is a plan or program under which consumers agree in advance to receive future shipments of goods, the seller notifies the consumer 10 days in advance of shipment of the identity of the particular item that will be shipped and the consumer has 10 days following receipt of that notice to decline the shipment. These types of programs were extremely common in the publishing and record industries.

Pursuant to its standard rule review procedures, the Negative Option Rule was reviewed by the Commission in 1986 and in 1997. No changes were made to the Rule as part of the 1986 review and only minor changes were made as a result of the 1997 review.

EXPANSION OF THE RULE
Now, however, there are many different types of programs that fall under the broad definition of negative options, many of which are a staple in the arsenal of direct response marketing offers. The FTC specifically notes in its comments to the Rule review that the use of negative option marketing has greatly expanded to include such offers as continuity programs, trial conversion offers and automatic renewals. In the FTC’s view, all of these programs fall under the umbrella of “negative option marketing” and accordingly, the FTC is now seeking comment on whether and to what extent the Negative Option Rule should be modified to specifically cover these newer marketing formats.

As part of this rulemaking procedure the FTC has asked a number of very specific questions that appear to be pointed directly in the direction of the kinds of negative option marketing used by direct response marketers. For example, the FTC specifically asks whether there are any potentially unfair or deceptive practices concerning negative option marketing that are not covered by the Rule that are occurring in the marketplace and whether there have been consumer complaints relating to such programs indicating a potential for consumer injury. It is likely that state regulators and consumer activist groups will argue strongly that the Rule should be expanded to include free trial conversions, continuity programs and automatic renewals. It is likely that the FTC will also point to its own strong record of enforcement actions and workshops on negative option marketing to support an expansion of the Rule.

In the event that the Rule is expanded to include these other negative option marketing methods, there is also a risk that the FTC may impose specific and detailed disclosure requirements. The current Pre-notification Negative Option Rule contains very detailed disclosure, notice and consent requirements that many marketers have historically found very difficult to comply with. The current Notice of Rule Review asks specifically whether the Rule should define “clearly and conspicuously” more precisely. If the FTC were to follow the same model it applied to Pre-notification Negative Option Rule, the consequences for direct marketers could be significant. Moreover, it is worth noting that the Pre-notification Negative Option Rule was promulgated when print was a dominant medium. It would be quite difficult to make the same level of disclosures in more current forms of solicitation such as telephone and electronic.

The FTC issued this Notice of Proposed Rulemaking in connection with its Budget Request and without much fanfare. Comments on this issue must be filed by July 27, 2009. The industry must take this issue seriously and respond with very thoughtful and pointed comments to avoid unnecessary regulation in this area.

The industry has been quite active in promulgating self-regulatory guidelines, which deal with recommended disclosures and methods for obtaining consent. Hopefully, the FTC will consider these initiatives when contemplating whether extension of the rule is necessary or warranted and determine that self-regulation combined with the agency’s existing enforcement authority is sufficient. Nonetheless, this rulemaking procedure combined with the FTC’s current efforts to strengthen the testimonial and endorsement guidelines could combine to create significant new challenges for marketers.

Linda A. Goldstein is a partner and chair of the advertising, marketing and media division at Manatt Phelps & Phillips LLP in New York. She can be reached at (212) 790-4544.

June 2009 – Cover Story: An Industry Waits

The FTC’s proposed changes to its Guides Concerning the Use of
Endorsements and Testimonials in Advertising has direct-to-consumer
retailers nervous–and pondering the implications.

By Tom Dellner

On November 21, 2008, the Federal Trade Commission (FTC) published proposed revisions to its Guides Concerning the Use of Endorsements and Testimonials in Advertising (Guides). The changes have been long-awaited: The Guides, originally issued in 1972, have not been updated since 1980, although they are reviewed every 10 years to determine whether or not they continue to provide the originally intended consumer benefit. In addition, it’s no secret that the Commission has been dissatisfied with certain testimonial advertising (particularly in the areas of weight loss and income opportunities) and has been studying the issue since 2003. The FTC is also looking to address new media, including blogs, message boards and word-of-mouth marketing.

The FTC is currently considering industry commentary and will issue the revised Guides as early as the end of the summer, although many experts believe that early 2010 is a more likely timetable. And just as there is disagreement as to when the revised Guides will be published, there is much debate as to the impact of the changes, if adopted as proposed. Some call them the most sweeping changes to advertising law made in 30 years, with a potentially devastating effect on the direct response industry. Others think the potential impact is overstated.

The Proposed Changes
The proposed changes of greatest impact to the direct-to-consumer retail industry can be distilled to three main elements. First, the “disclosure of material connections” requirement has been extended to a variety of scenarios involving new media. For example, the provision of a free product sample to a blogger would have to be disclosed, as would compensation of members of a buzz marketing “street team,” paid to discuss the benefits of a particular product.

“What you see in the proposed Guides is that the same rules that have applied to traditional media are now going to apply to new media as well, in terms of liability, disclosing material connections, etc.,” says Rich Cleland, FTC assistant director. “If we make a decision that a communication is indeed advertising, then the medium doesn’t matter.”

A hypothetical example in the proposed Guides describes a college student who has developed a reputation as a video game expert and who blogs on the topic. If a manufacturer sends the blogger a free copy of a new game and the blogger writes a favorable post about it, the blogger should disclose that he received the game for free. Similarly, if an employee of an MP3 player manufacturer posts favorable comments about the device on a message board dedicated to these sorts of products, she should disclose this connection.

Cleland, however, distinguishes the above scenarios from the case where an individual receives a free product, uses it, and writes about the experience on his Facebook page. “In this case, the individual is not involved in a commercial enterprise and is not subject to the FTC Act,” he explains. “But if the manufacturer likes what is written and uses it in an advertisement, then the Guides apply.”

Ed Glynn, a partner with Washington, D.C.-based law firm Venable LLP, a former associate director of the FTC and a noted expert in the area, has no problem with the basic premise of the extension of the Guides to new media, but thinks that the issues need to be more fully developed and the implications carefully considered.

“There are a number of fine points that require elucidation,” Glynn explains. “For example, if the connection in the blogger example is not disclosed, who gets into trouble, the manufacturer or the third-party blogger? What sort of due diligence must the manufacturer exercise–must it keep close tabs on the various bloggers? What sort of hammer does the FTC hold over the blogger? These are the sorts of issues that need to be more fully developed.”

The Guides also codify what many believe is the Commission’s longstanding position that an endorser faces potential personal liability for a flawed endorsement. In other words, an endorser must have actually had the experience with the product that they are describing. Linda Goldstein, a partner with the New York City law firm of Manatt Phelps and Phillips LLP, points out that this will “certainly have a chilling effect on the ability of advertisers to attract celebrity and expert endorsers, as this will likely be seen by the entertainment community as increasing the risk of endorsement.”

Legal experts believe that, technically, this personal liability would also extend to consumer endorsements, although they concede that the FTC’s authority over true consumers is quite remote.

Of greatest concern to the direct response industry, however, are the proposed changes regarding the use of “best case” or aspirational testimonials.

 Product Partners President Jon Congdon (far right) brought a number of his testimonialists to help lobby Congress on the issue as part of the ERA’s Government Affairs Fly-In, held in April.

No More Safe Harbor
The most significant change is the elimination of the “safe harbor” disclaimer. Under the existing Guides, an advertiser can offer testimonials from consumers who have had extraordinary or exceptional results from the use of a product, provided that the advertiser clearly and conspicuously discloses “the limited applicability of the endorser’s experience to what consumers may generally expect to achieve.” This is the safe harbor or ubiquitous “results not typical” or “your results may vary” disclaimer.

Under the proposed changes, the safe harbor provision is eliminated. Instead, a marketer who uses a testimonial of truthful, yet extraordinary, results must accompany the testimonial with a disclaimer clearly and conspicuously disclosing what the generally expected results are.

The direct response industry’s reaction to this proposal was swift and fervent–and understandably so. As Tim Hawthorne, founder, chairman and executive creative director of Hawthorne Direct, notes, “I will always be a proponent of greater truth in advertising. But eliminating the ‘best case’ testimonial undermines the very fabric of advertising: to present a vision of possibilities.”

Jon Congdon, president of Product Partners, owners of the fitness brand Beachbody, agrees: “We’re asking people to change their lifestyles and, in some cases, to change an entire lifetime of unhealthy habits. In order for us to get people to make a dramatic lifestyle change, we need to show them what’s possible–that something extraordinary could happen to them if they make the change. These revisions could prevent us from doing that, which we find somewhat ironic considering the enormous health care and economic problems obesity is causing in our country right now.”

Of course, extraordinary testimonials can still be used, if accompanied by a disclosure of the ordinary and expected results of the product.

This provides little solace to most marketers, who say they will incur significant expense in determining average results and that often, identifying the average result could be near impossible.

“We have a huge breadth of customers who use our products,” explains Congdon. “With some products, we may have 20 percent of our consumers who are 100 pounds or more overweight. But we may also have 15 percent who have no weight to lose at all and who just want to get into better shape. Given these two groups–and all of those in between–how are we to determine average weight loss, especially when there are other variables (sex, age, genetic factors) to consider? To do so would be almost impossible, and the way the information would have to be presented would be ludicrous–certainly of little use to consumers.”

Opponents to the proposed changes point to a number of alternative ways by which the FTC could protect the consumer from misleading testimonials without imposing an unfair burden on legitimate marketers. First, the Commission could simply eliminate the safe harbor provision and evaluate the “net impression” of the ad to determine its overall message and whether that message is substantiated. Or, if the problem is that the safe harbor disclaimer is neither noticed nor understood, the Guides could be revised to clarify the steps necessary to make the disclosure clear and conspicuous.

The Commission Response
The Commission is well aware of the above criticisms of the proposed Guides, having invited comments on the changes. The FTC’s Cleland offers a number of responses.

As for the complaint that the burden to determine an average experience is too great, Cleland addresses the exercise product example. “Every piece of equipment that I am aware of has some sort of information regarding calorie burn for different types of exercises,” he says. “I think calculations based on that kind of information are acceptable, from our perspective.

“Another thing advertisers can do is to limit the disclosure to the target audience. Let’s say you have a weight-loss program that involves diet, exercise and support groups. If I, as an advertiser, want to promote this product to those who are motivated to really use it, I can present a testimonial of someone who has been in my program for five years and enjoyed excellent results. The disclosure in that situation, if clearly identified as such, can provide the average result of those who have used the program for five years–which is certainly a better number than those who use the product for two weeks and then drop out.” In other words, tailor the disclaimer to those who use the product as designed.

As for the need to use aspirational testimonials as motivation, Cleland is not particularly sympathetic: “I don’t think there is anything but anecdotal evidence to suggest that offering unrealistic testimonials is good for the consumer in the long run. It’s just as likely that someone who has been motivated to buy a product because of one of these testimonials is going to quickly become disappointed–and stop using the product–when they don’t achieve these sorts of results.”

Is the Concern Overblown?
At least when it comes to FTC enforcement of the Guides, some of the industry’s concerns can be allayed. First, as Venable’s Glynn points out, only quantifiable testimonial claims are subject to the Guides. “Soft testimonials (‘My husband looks at me like he did when we were first married’ or ‘I’ve never felt better’) are fine,” he says. “It’s when you attach a number or percentage to the claim–e.g., pounds lost, dollars earned–that the Commission might bite down hard. The areas that come to mind are weight loss and income opportunities.” (An interesting scenario is the use of a before-and-after photo with no number attached. Most experts believe that in the case of extreme before-and-after photos, the implication is so clear that the Guides will apply.)

However, there may be cases where the testimonial is presented in such a way as to make it clear–on its face–that its results are not typical. “I believe that an aspirational testimonial can be introduced or presented in such a way that clearly communicates to the viewer, in the context of the overall program, that the particular person’s experience is atypical and indeed was selected because it was atypical and one of the most inspirational results of using the product–thus satisfying the Guides–and yet retaining the motivational elements the marketer is looking for. It’s a matter of ensuring that the net message clearly conveys that the claim is not reflective of the average result, but rather is addressing what is possible,” says attorney Greg Sater of Rutter Hobbs & Davidoff in Los Angeles.

Sater also emphasizes a point–acknowledged by Cleland–that is often overlooked. The Guides are not legally binding. When it comes to an enforcement action, a marketer cannot be found liable for failing to comply with the Guides’ disclosure provision. Instead, the FTC must prove that the net impression of the ad is deceptive–that people are taking away more from the ad than the product can deliver. So, when it comes to enforcement, the controlling legal standard is the ad’s net impression. The Guides are merely instructive as to what a marketer can do to ensure compliance.

Unforeseen Consequences
If some of the concerns relating to enforcement actions brought by the FTC–an agency with approximately 130 attorneys and the massive job of policing marketing throughout the American economy–can be mitigated, others are more ominous.

Glynn–in acknowledging that the Guides do not set forth the controlling legal standard–points out that “in over 35 states, there are deceptive trade practice laws, and in many of these states, the FTC Guides are taken as the legal standard against which private conduct is measured. In addition, the NAD will frequently adopt the same standards as those set forth in FTC Guides.

“So I am concerned that even if the Guides are merely instructive and even if the FTC is reasonable in not bringing actions against legitimate marketers with efficacious products, that won’t constrain private plaintiffs under state law or competitors’ challenges made to the NAD.”

Congdon points out another implication. “I don’t doubt the FTC’s honest intentions to bring appropriate claims to protect the consumer. It’s not the FTC I’m worried about,” he says. “I’m worried about networks and business partners who might interpret the Guides very conservatively or differently than I do (or even as the FTC does) and refuse to air my infomercial for fear they will be found complicit and, therefore, liable.”

Glynn agrees: “You could see network standard and clearance offices enforcing the Guides in areas where the FTC would never bring a case because the product works.”

The Waiting Game
As for now, the industry waits as the FTC considers the commentary and prepares to issue the revised Guides. In the meantime, the industry’s lobbying efforts continue. The Electronic Retailing Association’s government affairs team is working hard on a daily basis to see that the industry’s position is heard, meeting with members of Congress who have oversight on the issue or who represent interested member companies.

For late-breaking updates on the issue or to learn how to become involved, contact Bill McClellan, ERA’s vice president of government affairs, at bmcclellan@retailing.org or at (703) 908-1032.

Payment Processing Guide 2009