Court Rejects Wyndham’s Challenge to FTC’s Data-Security Enforcement Authority

by Poyner Spruill LLP

In June 2012, the Federal Trade Commission (FTC) filed suit under Section 5 of the FTC Act (Section 5) against the Wyndham hotel chain (Wyndham) following a security breach that led to the theft of payment card data for hundreds of thousands of Wyndham customers. Unlike most organizations, which are eager to settle FTC data-security enforcement actions, Wyndham decided to fight the lawsuit in court. Yesterday afternoon, however, New Jersey federal district court Judge Esther Salas denied Wyndham's motion to dismiss in a much-anticipated decision. The opinion Judge Salas filed explaining her ruling addresses a multitude of issues related to data-security litigation, but the most significant aspect of the opinion is her analysis of the FTC's authority to bring "unfairness" claims related to inadequate data-security practices.

Section 5 empowers the FTC to bring enforcement actions in response to unfair or deceptive practices affecting commerce. The FTC can generally bring an enforcement action under the deception prong when an organization engages in deceptive conduct affecting consumers. For example, when an organization’s privacy notice states that the organization employs “appropriate” security to protect consumers’ personal information, the FTC may take the position that the representation was "deceptive" if the organization experiences a security breach resulting from inadequate security measures.

The FTC can bring suit based on the unfairness prong of Section 5 when an organization engages in conduct that will cause or is likely to cause substantial injury to consumers when that injury is not reasonably avoidable by consumers and not outweighed by countervailing benefits to consumers or to competition. Unlike the deception prong, no faulty representation by the defendant-organization is required. The FTC has used the unfairness prong to effectively impose data-security standards on organizations through enforcement actions. This approach has been controversial due in part to the lack of regulations that set forth the agency’s data-security expectations.

The most impactful part of Judge Salas's ruling is her conclusion that the FTC has the authority to assert an unfairness claim in the data-security context. In reaching this conclusion, Judge Salas rejected Wyndham's argument that Congressional enactment of narrowly-tailored data-security legislation limited the scope of the FTC's unfairness authority. She characterized subject-matter specific data-security regimes, including the Gramm-Leach-Bliley Act and the Children's Online Privacy Protection Act, as granting the FTC additional enforcement tools, rather than indicating a lack of FTC enforcement authority under the unfairness prong. Judge Salas also rejected Wyndham's argument that (a) past statements by FTC officials positing that the FTC lacked data-security enforcement authority under the unfairness prong and (b) pending data-security legislation established that the FTC lacked, or had disclaimed, data-security enforcement authority.

Judge Salas further concluded that the FTC's failure to promulgate data-security regulations did not prevent the agency from using its unfairness authority. Without regulations explaining what data-security practices the FTC sought to forbid or require, Wyndham argued, the agency's lawsuit violated basic principles of fair notice and due process. Judge Salas disagreed, reasoning that "the contour of an unfairness claim in the data-security context, like any other, is necessarily flexible" and that the FTC should be able to regulate through enforcement actions. Furthermore, Judge Salas indicated that the body of FTC data-security complaints, consent agreements, and public statements cut against Wyndham's position.

In denying Wyndham's motion to dismiss, Judge Salas rejected a variety of other arguments, including Wyndham's contention that the FTC's allegations could not satisfy the elements of an unfairness claim. Notably, Judge Salas concluded that consumers could experience "substantial" injury despite Wyndham's contention that (a) federal law places a $50 limit on consumer liability for unauthorized use of payment cards and (b) major card brands waive liability for amounts under that limit. She also concluded that the injuries alleged by the FTC were not "reasonably avoidable" in spite of these arguments. Additionally, Judge Salas rejected Wyndham's arguments that the FTC's allegations under the deception prong of Section 5 were inadequate.

Had Judge Salas ruled in Wyndham's favor, her decision would have stymied an important aspect of the FTC's aggressive data-security enforcement campaign due to the agency’s reliance on the unfairness prong to enforce its de facto data-security standards. As a result of Wyndham's loss at the motion to dismiss phase, industry should continue to expect active FTC data-security enforcement, particularly following major security breaches. It is noteworthy that Judge Salas effectively endorsed the FTC's regulate-through-enforcement approach, pointing to prior FTC complaints, consent judgments, and public statements as guidance on what constitutes an unfair data-security practice. Industry should continue to look to these sources in order to ascertain the FTC's data-security expectations.

Despite prevailing over Wyndham’s motion to dismiss, the FTC must still prove its case at trial. Wyndham may be more likely to settle, but if Wyndham elects to take the case to trial and loses, it may be able to appeal Judge Salas's decision. Furthermore, another organization, LabMD, is mounting a similar challenge to the FTC's authority in a separate lawsuit. Industry should therefore keep a close eye on this area for future developments.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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