The Plausibility Pleading Standard In Section 1 Cases Jennifer Carmassi February 23, 2010

2 Overview Of Topics Covered Bell Atlantic Corp. v. Twombly, 550 U.S. 544 (2007) –The plausibility standard How courts have applied Twombly’s standard in Section 1 cases Ashcroft v. Iqbal, 129 S.Ct (2009) – The Supreme Court’s clarification of Twombly’s pleading standard Starr v. Sony BMG Music Entm’t, 2010 WL (2nd Cir. Jan. 13, 2010) Observations Tips for Counsel

3 AT&T Baby Bell Effective January 1, 1984, AT&T’s local operations were split into 7 independent regional holding companies, also known as “Baby Bells” or Incumbent Local Exchange Carriers. This created a system of regional service monopolies and a separate market for long-distance service from which the Baby Bells were excluded. Twombly – The Regulatory Framework Baby Bells: Regional Service Markets Only

4 Twombly – The Regulatory Framework (continued) The Telecommunications Act of 1996 broke down this system. The 1996 Act required the Baby Bells to share their networks with competitors in return for the opportunity to compete in the long distance telephone market. Competitive LEC Baby Bell Local network Long Distance

5 Twombly – The Parties Plaintiffs: “[S]ubscribers of local telephone and/or high speed internet services... from February 8,1996 to [the] present.” Defendants: Four Baby Bells (incumbent LECs) who allegedly controlled 90 percent or more of the market for local telephone services.

6 The Allegations – Two Ways Baby Bells Allegedly Conspired In Violation Of Section 1 (1) “Engaged in parallel conduct” by: Making unfair agreements with competitive LECs for access to Baby Bell’s networks Providing inferior connections to their networks Overcharging Billing in ways to sabotage the competitive LECs’ relationship with their own customers. *Plaintiffs alleged that if the Baby Bells had not sought to prevent the competitive LECs from competing effectively, the competitive LECs’ entry into one Baby Bell’s territory “would have revealed the degree to which competitive entry by CLECs would have been successful” in the other Baby Bell territories. Twombly, 550 U.S. at

7 Second Way Baby Bells Allegedly Conspired In Violation Of Section 1 (2) Baby Bell’s “agreements” to refrain from competing with one another supported by allegations that: Baby Bells failed to “meaningfully pursu[e]” “attractive business opportuni[ties]” in markets where they possessed “substantial competitive advantages.” Statement by the CEO of one of the Baby Bells: Competition in the territory of another Baby Bell “might be a good way to turn a quick dollar but that doesn’t make it right.” Twombly, 550 U.S. at 551.

8 Twombly – Procedural History District court dismissed the complaint. (1)Allegations of parallel conduct were insufficient because such conduct reflected the fact that the Baby Bells had an economic interest in defending their territories. (2) Allegations of an agreement were insufficient because the complaint did not allege that refraining from competition in other territories was contrary to the Baby Bells’ economic interests. (3) Plaintiffs had to allege additional facts that would “ten[d] to exclude independent self-interested conduct as an explanation for defendants’ parallel behavior.” 313 F. Supp. 2d 174, 179 (S.D.N.Y. 2003). The Second Circuit reversed. Citing Conley v. Gibson, the Second Circuit found that the allegations gave “fair notice” to defendants of what the claim was and the grounds for relief. 425 F.3d 99, (2nd Cir. 2005).

9 The Plausibility Standard – What Is It? The Supreme Court reversed. Retired “no set of facts” language in Conley in favor of a “plausibility” standard. In the context of an alleged Section 1 complaint: This “requires a complaint with enough factual matter (taken as true) to suggest an agreement was made.” What does this mean? (1) “[E]nough fact to raise a reasonable expectation that discovery will reveal evidence of illegal agreement.” (2) Allegations of parallel conduct must “rais[e] a suggestion of a preceding agreement,” not merely conduct that “could just as well be independent action.” Conclusory allegations of agreement at some unidentified point: not enough. (3) Allegations must not be “merely consistent” with agreement. Allegations of parallel conduct “nee[d] some setting suggesting the agreement necessary” to make out a Section 1 claim. Twombly, 550 U.S. at

10 Why Plaintiffs’ Allegations Failed To State A “Plausible” Claim There were no allegations that resisting competitor LECs was “anything more than the natural, unilateral reaction of each [Baby Bell] intent on keeping its regional dominance.” In other words: *Resistance was a certainty, with or without an agreement. *Each Baby Bell “would attempt to keep [competitor LECs] out regardless of the actions of the other [Baby Bells].” The “disappointment” that the Baby Bells did not become competitor LECs in the territories of other Baby Bells simply did “not make conspiracy plausible.” In other words: *Before the 1996 Act, monopolies in the industry were the norm. The Baby Bells were just “sitting tight,” “expecting their neighbors to do the same thing.” *It made economic sense for the Baby Bells to concentrate on their territories and develop new lines of business in their territories. Twombly, 550 U.S. at

11 Plaintiffs’ Allegations Continued – The “Failures” What Plaintiffs Failed to Allege No factual allegations of agreement, i.e. complaint contained mere “legal conclusions” of an agreement. No allegation that the Baby Bells’ resistance to competitive LECs was anything more than a natural reaction to keep their regional dominance. No allegation that “competition as CLECs was potentially any more lucrative than other opportunities being pursued by the [Baby Bells].” Twombly, 550 U.S. at

12 A Year And A Half Later: Insights Learned From The Courts’ Application of Twombly (1)A plaintiff who alleges a Section 1 conspiracy based on circumstantial evidence must “plead facts plausibility suggesting that parallel conduct was caused by an agreement, not merely that parallel conduct could just as well have been caused by independent action.” (2) District courts often require factual allegations stating, for example, the specific time, place, and persons involved in the alleged conspiracy. Compare In re GPU Antitrust Litig., 540 F.Supp.2d 1085, (N.D. Cal. 2007) (adding specific dates and allegations of defendants’ behavior both before and after the alleged conspiracy – the behaviors allegedly differed during the conspiracy because they showed more instances of “lockstep pricing”) with In re Elevator Antitrust Litig., 502 F.3d 47, 51 (2d Cir. 2007) (allegations of agreements made at an unidentified place and time insufficient to state a Section 1 claim). But, as will be discussed, see Starr v. Sony BMG Music Entm’t, 2010 WL (2nd Cir. Jan. 13, 2010). In re LTL Shipping Servs. Antitrust Litig., 2009 WL , *10-*11 (N.D. Ga. Jan. 28, 2009).

13 Insights Learned – LTL Shipping (continued) (3) District courts often rely on the Supreme Court’s footnote in Twombly noting that the parties had agreed that “complex and historically unprecedented changes in pricing structure made at the very same time by multiple competitors, and made for no other discernable reason would support a plausible inference of conspiracy.” See, e.g., In re GPU, 540 F.Supp.2d at (allegations of defendants’ behavior before and during alleged conspiracy sufficient to state a Section 1 claim). (4) The fact that the discovery process in large antitrust cases is incredibly expensive “requires that the Court retain the power to insist upon pleadings that provide a factual basis showing that an antitrust claim is ‘plausible’...” LTL Shipping, 2009 WL , *11-*12.

14 Analysis Of 86 Federal Antitrust Cases After Twombly – March 2009 Heather L. Kafele, Mario Meeks, & Melissa Colangelo, Emerging Trends and Patterns in Federal Antitrust Cases After Bell Atlantic Corp. v. Twombly, SHEARMAN & STERLING LLP ANTITRUST DIGEST (Mar. 2009), at 3,

15 Motions To Dismiss Antitrust Complaints By Circuit After Twombly – March 2009 Heather L. Kafele, Mario Meeks, & Melissa Colangelo, Emerging Trends and Patterns in Federal Antitrust Cases After Bell Atlantic Corp. v. Twombly, SHEARMAN & STERLING LLP ANTITRUST DIGEST (Mar. 2009), at 4, http// files/upload/AT Antitrust%20Digest.pdf

16 Two Years After Twombly: The Supreme Court’s Clarification Of The Pleading Standard Ashcroft v. Iqbal, 129 S.Ct. 1937, (2009) Two Working Principles of Twombly (1)“Threadbare recitals of the elements of a cause of action, supported by mere conclusory statements, do not suffice.” In other words: *A court does not accept allegations of legal conclusions as true. *Legal conclusions must be supported by factual allegations. Application: “When there are well-pleaded factual allegations, a court should assume their veracity and then move on to determine whether they plausibly give rise to an entitlement for relief.”

17 The Supreme Court’s Clarification Of Twombly In Iqbal (continued) (2) Only a complaint that states a “plausible claim for relief” survives a motion to dismiss. *Determining whether a complaint states a plausible claim for relief is a “context-specific task.” *Well-pleaded facts must permit the court to infer more than “the mere possibility of misconduct.” Application:In the context of Twombly, the Supreme Court explained that the alleged parallel conduct did not “plausibly suggest an illicit accord because it was not only compatible with, but indeed was more likely explained by, lawful, unchoreographed free-market behavior.” Iqbal, 129 S. Ct. at 1950.

18 Background In Iqbal Respondent Iqbal was designated a person of high interest to the September 11 FBI investigation. He was arrested in November 2001 on charges of fraud based on his identification documents and conspiracy to defraud the United States. Pending trial for those crimes, Iqbal was booked at the Metropolitan Detention Center and was placed in a section of the detention center known as the Administrative Maximum Special Housing Unit, where he allegedly was subjected to harsh conditions (such as remaining in lockdown 23 hours a day). Iqbal, 129 S. Ct. at 1943.

19 Allegations In Iqbal Iqbal filed a complaint against federal officers and corrections officers relating to his treatment at the Administrative Maximum Special Housing Unit and alleged: Petitioners designated him as a person of high interest because of his race, religion, or national origin (Arab Muslim). The FBI arrested and detained thousands of Arab Muslim men as part of its investigation of the September 11 events. AG John Ashcroft and Robert Mueller (Director of FBI) approved the policy of holding post-September-11th detainees in “highly restrictive conditions of confinement” during discussions after September 11. Petitioners “each knew of, condoned, and willfully and maliciously agreed to subject” Iqbal to harsh conditions of confinement “as a matter of policy, solely on account of [his] religion, race, and/or national origin...” Iqbal, 129 S. Ct. at 1944.

20 Procedural Posture And Analysis Of The Allegations In Iqbal Procedural History: The district court denied the motion to dismiss. The Second Circuit reversed the district court’s opinion, and the Supreme Court reversed the Second Circuit’s opinion. Analysis: First, the Court identified the allegations that were not entitled to assumptions of truth. (1) Petitioners “knew of, condoned, and willfully and maliciously agreed to subject [him]” to harsh conditions of confinement “as a matter of policy, solely on account of [his] religion, race, and/or national origin...” (2) Ashcroft was the “principal architect” of the policy, and Mueller was “instrumental” in adopting and executing it. The Court noted that these were mere legal, conclusory elements of a constitutional discrimination claim and therefore were not entitled to be assumed true. Iqbal, 129 S.Ct. at 1951.

21 Analysis Of The Allegations In Iqbal (continued) Second, the Court considered the factual allegations to determine if they plausibly suggested an entitlement to relief. (1) The FBI “arrested and detained thousands of Arab Muslim men... as part of its investigation of the events of September 11.” (2) Aschcroft and Mueller approved the policy of holding post- September 11th detainees in “highly restrictive conditions of confinement” in discussions after September 11. These allegations did not “plausibly establish” discrimination given the circumstances surrounding the September 11 attacks (i.e. 19 Arab Muslim hijackers were involved in the attacks). Iqbal, 129 S.Ct. at

22 The Court Further Clarifies Twombly (1) The Court rejected Iqbal’s argument that Twombly should be limited to antitrust disputes. The Court stated that the pleading standard enunciated in Twombly applies to all civil actions. (2) The Court rejected the “careful-case-management” approach. Iqbal argued that the Court should relax the pleading requirements on the ground that the court of appeals promised petitioners, as government officials, minimally intrusive discovery. The Court, citing Twombly, stated that the question on a motion to dismiss “does not turn on the controls placed upon the discovery process.” Iqbal, 129 S.Ct. at

23 Motions To Dismiss Granted As Percentage Of Motions To Dismiss Filed From January 2007 Through December 2009 Motions to Dismiss, Information on Collection of Data, Statistics Division, Administrative Office of the U.S. Courts (Feb. 12, 2010),

24 Motions To Dismiss Denied As Percentage Of Motions To Dismiss Filed From January 2007 Through December Motions to Dismiss, Information on Collection of Data, Statistics Division, Administrative Office of the U.S. Courts (Feb. 12, 2010),

25 Recent Case - Starr v. Sony Recent Second Circuit decision in Starr v. Sony BMG Music Entertainment, 2010 WL (2nd Cir. Jan. 13, 2010) reversed the district court’s decision dismissing a complaint for failure to state a Section 1 claim. Non-conclusory factual allegations of parallel conduct: (1)Defendants (who produce, license and distribute digital music) agreed to launch services to sell digital music online. These services, MusicNet and Duet (later renamed pressplay), charged unreasonably high prices and required customers to agree to certain digital music management terms (i.e., music would expire unless repurchased, prohibitions on copying more than two songs from any particular artist onto a CD each month and transferring songs from computers to iPods, etc.). (2)None of the defendants dramatically reduced their prices for internet music even though all defendants experienced significant cost reductions in producing digital music (i.e., reductions in costs due to not producing CD cases, no labor for shelving CDs, no costs for damaged CDs, etc.). (3)When defendants began to sell internet music through entities they did not own or control, the entities maintained the same unreasonable high prices and digital music management terms as MusicNet.

26 Starr v. Sony – Non-Conclusory Allegations (continued) (4) Defendants used MFNs in their licenses that had the effect of guaranteeing that the licensor who signed the MFN received terms no less favorable than terms offered to other licensors. (5) Defendants used the MFNs to enforce a wholesale price floor of about 70 cents per song. (6) Defendants refused to do business with the # 2 internet music retailer (eMusic). (7) Defendants raised wholesale prices from about 65 cents per song to 70 cents per song at the same time. Starr, 2010 WL 99346, *6.

27 Starr v. Sony – Allegations Raising A Suggestion Of A Preceding Agreement (1)Defendants control over 80% of digital music sold to end purchasers in the U.S. (2) Industry commentator noted that “nobody in their right mind” would want to use MusicNet or pressplay, which suggested that there was some sort of agreement among defendants to make the enterprises profitable. (3) The CEO of one of the defendants stated that presspay was formed to stop the “continuing devaluation of music.” (4) Defendants attempted to hide their MFNs (i.e., in secret side letters). (5) Defendants’ wholesale price is 70 cents per song, while eMusic charges 25 cents per song. Starr, 2010 WL 99346, *6-*7.

28 Starr v. Sony – Allegations Raising A Suggestion Of A Preceding Agreement (continued) (6) Investigations by N.Y. AG and DOJ. (7) Defendants raised wholesale prices about 5 cents at the same time, even though defendants’ costs of providing internet music had substantially decreased because of the completion of initial digital cataloging of internet music and technological improvements that reduced costs. Starr, 2010 WL 99346, *7.

29 How The Starr Court Addressed Defendants’ Twombly Arguments Argument: A Plaintiff asserting a Section 1 claim must allege facts that “tend[] to exclude independent self- interested conduct as an explanation for defendants’ parallel behavior.” Court’s response: No. Twombly acknowledged that for purposes of summary judgment, a plaintiff must present evidence that tends to exclude independent self- interested conduct. However, Twombly concluded that on a motion to dismiss, plaintiffs need only allege “enough factual matter (taken as true) to suggest that an agreement was made.” Starr, 2010 WL 99346, *7.

30 How The Starr Court Addressed Defendants’ Twombly Arguments (continued) Argument: Twombly requires that a plaintiff identify the specific time, place, and person related to each conspiracy allegation. Court’s response: No. The Twombly Court noted that if the allegations of agreement had not rested on parallel conduct, the allegations would not have met the pleading requirements of Rule 8. The Starr court concluded that plaintiffs were not required to allege a specific time, place or person involved in the conspiracy because the alleged agreement rested on allegations of parallel conduct. Starr, 2010 WL 99346, *8.

31 How The Starr Court Addressed Defendants’ Twombly Arguments (continued) Argument: The alleged conduct is entirely consistent with independent action and, under Twombly, is therefore insufficient to state a claim. Court’s response: No. Plaintiffs in Starr alleged that defendants engaged in behavior that would contravene each defendant’s self-interest in the absence of competitors’ similar behavior. For example, it would not be in each defendant’s self-interest to sell internet music at prices that were so unpopular as to ensure that “nobody in their right mind” would want to purchase the music, unless the defendant’s competitors were doing the same. Starr, 2010 WL 99346, *9.

32 Summary Of Topics Covered Pleading A Section 1 Claim Twombly v. Starr (1)Allegations of parallel conduct must provide enough facts plausibly suggesting an agreement. (2)The alleged parallel conduct cannot be conduct that could just as well be independent action. (3) Legal conclusions are not enough to suggest an agreement was made. Legal conclusions must be supported by factual conclusions. Iqbal (1) Conclusory elements of a Section 1 claim are not entitled to be assumed true. (2) Whether the facts give rise to a plausible Section 1 claim depends upon the context and circumstances of the case.

33 Tips For Plaintiffs Obtain as much information as possible outside of discovery to help shape the complaint (public sources, criminal prosecutions, etc.) In particular, obtain information about the specific time, place and persons involved in the alleged conspiracy Don’t argue about what discovery will reveal on a motion to dismiss. Investigate and put the facts in the complaint. The concern expressed in Twombly about the enormous costs of discovery in antitrust cases leaves courts particularly reluctant to permit borderline cases to go forward after Twombly.

34 Tips For Defendants Be aware of how the circuit has applied the pleading standard since Twombly. As of March 2009 and out of the 86 cases analyzed, the 9th Circuit had the highest likelihood (74%) of granting defendants’ motion to dismiss antitrust claims after Twombly, whereas the Third Circuit only granted defendants’ motions to dismiss 33% of the time.* Analyze the factual allegations and legal conclusions contained in the complaint. Analyze whether the factual allegations can give rise to entitlement to relief by: (1) Getting to know your clients’ business, the industry, and the conditions of the market as soon as possible, and (2) Determining whether the alleged conduct is more likely explained by lawful free-market behavior. *Heather L Kafele, Mario Meeks, & Melissa Colangelo, Emerging Trends and Patterns in Federal Antitrust Cases After Bell Atlantic Corp. v. Twombly, SHEARMAN & STERLING LLP ANTITRUST DIGEST (Mar. 2009), at 4, http//