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August 14, 2012 Articles

Federal Circuit Rejects Negotiation Privilege for Non-Mediated Discussions

By J. Gregory Whitehair

In a case of first impression involving patent-royalty-settlement talks, the Federal Circuit in In re MSTG, Inc., Misc. Dkt. No. 966 (Fed. Cir. Apr. 9, 2012) has rejected a "settlement negotiation privilege," at least for non-mediated communications. This holding conflicts with Sixth Circuit precedent that protects settlement negotiations in general and casts doubt upon several district-court cases that have found such a privilege.

Brief History of the "Settlement Negotiation" Privilege
Evidentiary privileges in federal court are governed by Fed. R. Evid. 501, which authorizes federal courts to "define new privileges by interpreting the common law in the light of reason and experience." MSTG at*9. This is a dynamic provision, allowing for the "evolutionary development" of future privileges beyond well-known standards like the attorney-client privilege. In addition, in the context of settlement negotiations, Fed. R. Evid. 408 generally restricts the admissibility (if not the discoverability) of certain compromise-related communications and documents, though with an array of exceptions.

Several decades ago, the Seventh Circuit tackled the prospect of a "settlement negotiation privilege" in the federal class-action case of In re Gen. Motors Corp. Engine Interchange Litig., 594 F.2d 1106, 1124 n.6 (7th Cir. 1979). Concerned that the class was not adequately represented in the negotiations leading up to the proposed settlement, and applying its class-settlement supervisory powers under Fed. R. Civ. P. 23, the Seventh Circuit held that no settlement-negotiation privilege should be recognized in the circumstances.

Almost 25 years later, the Sixth Circuit had occasion to consider a settlement-negotiation privilege in a product-liability case, in the face of a third-party request for the details behind a (produced in discovery) settlement agreement. In Goodyear Tire & Rubber Co. v. Chiles Power Supply, Inc., 332 F.3d 976, 979–83 (6th Cir. 2003), the court blocked access to the background negotiations, recognizing a "settlement negotiation" privilege, for both mediated and unmediated negotiations. (Notably, the Sixth Circuit also found that the materials were not relevant to the third party's dispute, perhaps suggesting that the privilege holding may be dicta).

A number of lower courts have taken up this privilege question more recently, with mixed determinations.Compare Matsushita Electric Indus. Co. v. Mediatek, Inc., No. C-05-3148, 2007 U.S. Dist. LEXIS 27437 (N.D. Cal. Mar. 30, 2007) and In re Subpoena Issued to Commodity Futures Trading Comm'n, 370 F. Supp. 2d 201 (D.D.C. 2005) (no federal settlement privilege) with California v. Kinder Morgan Energy Partners, L.P., No. 07-1883, 2010 U.S. Dist. LEXIS 108391 (S.D. Cal. Oct. 12, 2010) and Software Tree, LLC v. Red Hat, Inc., No. 6:09-cv-097, 2010 U.S. Dist. LEXIS 70542 (E.D. Tex. June 24, 2010) (finding a federal settlement privilege).

This past April, the Federal Circuit—the mandatory reviewing court for any patent-related matter —weighed in on the issue. The MSTG case was a mandamus action by the patent owner's counsel hoping to keep secret various negotiations with third parties that had led to a handful of patent-royalty settlements. The final settlement agreements themselves had already been produced in the case, presumably in keeping with v. Lansa, Inc., 594 F.3d 860 (Fed. Cir. 2010), which commented favorably upon the use of litigation-resolving patent-royalty-settlement agreements in appropriate cases.

The plaintiff sought emergency relief to protect the pre-agreement communications. The defendant countered that an expert witness for the plaintiff had chosen to rely upon the plaintiff's own deposition testimony suggesting that the settlement agreements were reached solely for compromise, and not for commercial, purposes, so those royalties should be discounted dramatically (a 75 percent discount according to the expert). The defendant sought the background information to test this logic.

After finding that patent-royalty negotiations were a matter for Federal Circuit jurisdiction, the MSTG panel declined to find that a federal "settlement negotiation" privilege had been established to date. Undertaking a thoroughgoing review of previously allowed federal evidentiary privileges, the court determined that none of the multiple factors used by the Supreme Court in a new-privilege assessment had been met.

Criteria for Establishing a New Privilege
The U.S. Supreme Court has traditionally looked to a number of factors when assessing whether a federal privilege has become sufficiently established to be recognized under Rule 501. See, e.g., Jaffee v. Redmond, 518 U.S. 1 (1996); see generally MSTG at*9–19. These factors include:

1. any widespread policy decisions of the states,

2. previous congressional consideration, e.g., Rule 408,

3. the position of the Advisory Committee of the Judicial Conference,

4. whether the putative privilege will "effectively advance the public good,"

5. whether the new rule will be consumed by its exceptions, and

6. whether effective methods of limiting discovery can achieve the same goals.

The Standard for Establishing a New Privilege Was Not Met
Working through each of these factors, the MSTG court determined that none of the criteria for a new privilege was met:

1. The court found that the only consensus-level state-policy decision in the settlement field was the so-called mediation privilege, established by the 50-state adoption of some form of the Uniform Mediation Act. Given the lack of a similar statutory movement to protect settlement negotiations, the MSTG court declined to extend the privilege to negotiations conducted without a mediator. MSTG at*10.

Interestingly, in a non-precedential opinion not cited in the MSTG case, a different panel of the Federal Circuit had just a few months earlier declined to determine whether there was even a recognized "common law" mediation privilege for patent disputes. Kimberly-Clark Worldwide, Inc. v. First Quality Baby Prods., LLC, Dkt. #2011-1157 (Nov. 15, 2011).

Although the MSTG court felt that its decision would not "frustrate the purposes" of any state acts, MSTG at*10, at least one commentator has asked whether that is true, given that every state clearly believes that settlement talks should be protected, at least when a third-party neutral is present. See Fitzpatrick on Employment Law, "No Settlement Negotiation Privilege" (May 11, 2012). (Recall that the Sixth Circuit in the Goodyear Tire case readily lumped together and protected both mediated and unmediated talks, even before the Uniform Mediation Act was first circulated nationally by the Uniform Laws Commission circa 2001).

2. The MSTG court observed that Rule 408 is the only clear congressional statement in the arena of settlement negotiations and that the rule recites no special protection for the discoverability of settlement negotiations. The court also recognized the rule's somewhat easily met standard for admissibility. MSTG at*10–12.

Notably, though the Federal Circuit in opened the door to discovery of settlement agreements in reasonable royalty cases, it did not in that case decide upon ultimate admissibility at trial. The MSTG court likewise declined, at such an early discovery stage, to reach the issue of future Rule 408 admissibility of MSTG's pre-agreement settlement discussions. MSTG at*17, n.4.

3. There was, according to the MSTG court, no indication of interest in a settlement negotiation privilege shown by the Advisory Committee of the Judicial Conference. MSTG at*13–14.

4. The "public good" test was not met, despite the court acknowledging the need for "confidence and trust" in the settlement negotiation setting. MSTG at*14–15. As with the Supreme Court's declination of a peer-review privilege in Univ. of Pa. v. EEOC, 493 U.S. 182 (1990), the need for confidence and trust alone was deemed "insufficient" to establish the privilege. MSTG at*14. Further—though without citation to any factual or academic support or lower-court finding, or contrasting the mediation setting—the MSTG court determined that "while there is clearly an important public interest in favoring the compromise and settlement of disputes, disputes are routinely settled without the benefit of a settlement privilege." MSTG at*15.

5. The MSTG court also found that any settlement privilege "would necessarily have numerous exceptions," . . . "which would distract from the effectiveness, clarity, and certainty of the privilege." MSTG at*15. For instance, settlement-negotiation evidence "would be admissible where the settlement itself or its interpretation is at issue." MSTG at*15. (This contradicts somewhat the opinion's n. 4 decision not to address the scope of Rule 408 admissibility, as well as ignoring the fact that the underlying MSTG settlement agreements had been produced already, thus proving each of the settlements without need for testimonial evidence).

6. Finally, the panel explained that Fed. R. Civ. P. 26 provides more than sufficient tools to protect settlement negotiations in the appropriate circumstances, e.g., conducting a careful proportionality review, applying heightened standards for the discovery of settlement negotiations, and the use of strong protective orders. MSTG at*16–19.

Abuse-of-Discretion Assessment
The panel also addressed whether, even in the absence of a settlement-negotiation privilege, the trial court might have abused its discretion in allowing the discovery at issue under Rule 26. MSTG at*19–21. Indeed, the district court had at first denied the discovery, but then chose to allow it. However, the change in position followed expert discovery, where MSTG's expert opined about low settlement royalty rates in light of client-deposition testimony discounting those settlement values. The Federal Circuit determined "[a]s a matter of fairness" that the probe should go forward. MSTG at*20.

Ultimately, the MSTG court did not address how the extremely high standard of review applied in the mandamus context may have made it more difficult to overturn the district court's order permitting the controversial discovery. Put another way, might the court have held differently in reviewing, for example, a jury verdict that was significantly based upon testimony about third-party settlement negotiations?

Conclusions and Takeaways

• Although the Federal Circuit has yet to recognize a federal common-law mediation privilege, MSTG appears to hold that mediated settlement-negotiation talks about patent royalties are and will be protected, at least in accordance with the underlying state's adoption of a mediation privilege. For those who seek to maximize the secrecy of their patent settlements, early involvement of a mediator would be prudent.

• It seems unlikely that the Supreme Court will address this apparent circuit split (recall that the Sixth and Seventh Circuits have been split on this issue for years); it will thus likely be up to Congress in some future amendment of Rule 408, or to the several states in enacting broader confidentiality rules, to shift the Federal Circuit position on the existence of a settlement-negotiations privilege.

• At least in the Federal Circuit, Rule 408 is not the protective shield many litigators would like to believe; merely heading a settlement letter with a Rule 408 reference is probably insufficient protection from inquiring third parties, even if the ultimate trial admissibility of that communication might later be quite limited or even barred.

Keywords: litigation, alternative dispute resolution, settlement negotiation privilege, mediation privilege, evolving standards, Jaffee review

J. Gregory Whitehair – August 14, 2012