Draft Law for a New German Restructuring Framework

So far, restructurings in Germany have been implemented either by way of consensual pre-insolvency solutions or formal and comprehensive insolvency proceedings with court oversight. The EU Restructuring Directive (EU) 2019/1023 of 20 June 2019 paved the way for the implementation of pre-insolvency restructuring proceedings in all EU member states that allow debtors to restructure effectively at an early stage.

On 14 October 2020, the German Government published a draft law implementing the EU Restructuring Directive in a new national law which is planned to come into force on 1 January 2021. The reason for the very rapid legislative procedure is to address the needs of the many German companies which are currently facing financial difficulties due to the COVID-19 pandemic.

The new law allows comprehensive pre-insolvency restructurings even in the face of objections from individual parties. It provides a new and modern and internationally competitive tool set for corporate restructurings in Germany.

Availability of the New Law to Debtors

The new restructuring framework with its respective restructuring instruments will be available to debtors as soon as they face imminent illiquidity and have made a respective notification to the restructuring court. The debtor remains in full control and can conduct the restructuring procedure as a debtor-in-possession with minimum court supervision. If the debtor does become illiquid or over-indebted, the debtor has to notify the restructuring court. After such a notification, the court can still abstain from initiating insolvency proceedings if (i) in light of the advanced status of the restructuring a termination would not be in the interest of the creditors, or (ii) there is a sufficient likelihood that the restructuring will be successful nevertheless. The new law presents an overall lean and flexible procedure. In particular, it can be tailored to only affect certain groups of creditors – such as financing creditors – and the rights of shareholders. Court involvement can be limited to a minimum, enabling non-disruptive and silent restructuring efforts.

The Restructuring Plan

The framework follows the concept of the UK Scheme of Arrangement, the U.S. Chapter 11 procedure, and the German insolvency plan. Debtors may propose a restructuring plan to amend the rights of unsecured and secured creditors as well as shareholders by a variety of possible restructuring measures, such as deferrals, haircuts, debt-equity-swaps or even a sale of the enterprise in parts or as a going concern. 

Stay of Individual Enforcement Actions

In order to allow a successful restructuring, the debtor can apply for a general stay of individual enforcement actions, to be granted by the restructuring court. A stay can be granted for an initial period of up to 3 months with the option of an extension of up to 8 months in total under certain conditions.

Duties of Directors – Protecting Creditors’ Interests

In case the debtor enters the stage of imminent illiquidity, the management owes its duties primarily towards the creditors rather than towards the company and its shareholders. The closer the debtor approaches imminent illiquidity, the more the management decisions are to be focused on protecting creditors’ interests.

Directors who breach such duties face personal liability for damages towards the company, i.e. constituting an internal liability. A breach of duty is excluded if the directors could, on the basis of adequate information, reasonably assume that they were protecting the interests of the creditors. After the debtor has notified the competent court of the restructuring, the creditors may, in case of a breach of the directors’ duties, directly assert damage claims against the directors. This means that the new law introduces a new concept of external liability of the management vis-à-vis creditors to German law.

Voting Procedure

The vote on the restructuring plan is taken by the creditors in separate voting classes. Each class comprises a group of persons with sufficiently aligned rights and interests. The confirmation of the restructuring plan requires the approval by a majority of 75% of the voting rights in each respective voting class.

In case not all voting classes vote for the restructuring plan with the required majority, a key feature of the new framework comes into play – the court approved ‘cross-class cram-down’. This tool allows the court to confirm a plan and bind dissenting voting classes, if (i) the plan is supported by the majority of voting classes, (ii) no dissenting creditor would be disadvantaged under the plan compared to liquidation, and (iii) the members of the dissenting class appropriately participate in the economic value of the plan.

The latter criterion requires a distribution of the plan value following the principle of absolute priority, which means, that more senior classes have to be satisfied in full before a junior class is to receive any payment or keep any interest under the restructuring plan. Exceptions are possible for the benefit (inter alia) of shareholders which are important for a restructuring of the debtor as a going concern or in case of minor impairments of the creditor rights only, such as a 12-month deferral of due dates of their claims.

Under German restructuring law, so far the ‘cross-class cram-down’ was only available in formal insolvency proceedings. The new law allows stakeholders to overcome obstructive behaviour by individual parties and fosters efficient and comprehensive restructuring concepts.

Termination of Contracts

Beyond what the EU Restructuring Directive requires (but does not prohibit), the new draft law will allow the restructuring court to terminate, at the debtor’s request, mutual contracts. Employee claims are exempted from this and cannot be subject to a restructuring plan. The other party of the terminated contract is entitled to damages for non-performance. Such claims can be included in and impaired by the restructuring plan. The newly introduced tool can be of particular value not just for financial restructurings, but can be used to improve operating performance (e.g. by getting rid of burdening long-term lease liabilities).

Restructuring Officer

The debtor’s management remains in full control of the company and its business operations when making use of the new restructuring framework. However, in certain situations, the restructuring court will appoint a so-called restructuring officer. This applies, inter alia (i) when the rights of consumers or SMEs are to be amended under the plan, (ii) the debtor applies for a stay of enforcement actions, or (iii) the court confirms the restructuring plan in the way of a ‘cross-class cram-down’. Any individual with adequate experience in insolvency and restructuring matters, such as tax advisors, auditors or attorneys can qualify as restructuring officer. The court has, in general, to follow a proposal by the debtor or creditors who account for more than 25% of the voting rights in each class, for the person of the restructuring officer, unless such person is evidently not suitable.

Extended Suspension of the Obligation to File for Insolvency

Beside the new preventive restructuring framework, the German legislator has announced  further changes in insolvency law in view of the ongoing COVID-19 pandemic.

To mitigate the consequences of the COVID-19 pandemic in civil, insolvency and criminal procedure law, a suspension of the obligation to file for insolvency was initially planned until 30 September 2020. However, by amendment on 25 September 2020, the German Parliament extended this suspension of the obligation to file for insolvency until 31 December 2020 for companies that are over-indebted in the sense of insolvency law but not illiquid.

The new draft law now further mitigates the impact of the COVID-19 pandemic by reducing the forecast period for the assessment of over-indebtedness from 12 months (as to be implemented in the German insolvency code as part of the draft bill) to 4 months until 31 December 2021. A debtor can benefit from this relief measure, if (i) it was not illiquid as of 31 December 2019, (ii) its ordinary business has generated a positive result in the last fiscal year completed before 1 January 2020 and (iii) revenues generated from its ordinary business in the calendar year 2020 have dropped by more than 40% compared to the prior year.

The French Competition Authority’s first merger prohibition

The French Competition Authority (“FCA”) prohibited the proposed acquisition of the hypermarket retailer Géant Casino by its competitor E.Leclerc in the French city of Troyes.  It found that the transaction would create a duopoly between the two remaining hypermarkets, Carrefour and E.Leclerc, risk increasing prices, and reduce the diversity of the offer for consumers.  It is the first time the FCA has issued a merger prohibition.

The European Commission and a number of EU NCA’s, including the FCA, have been very focused on the competition issues facing the food retail sector. The European Commission has set up a specific “Food Task Force” dealing with food retail and is investigating a purchasing alliance between two French food retailers.  Also, since 2015, the FCA has been scrutinizing and analysing joint purchasing agreements between retailers.

A recent example of this continued focus is the prohibition of the acquisition of joint control by Soditroy and E.Leclerc of a hypermarket – Géant Casino – in the city of Troyes (in the Northeast of France). The FCA decided to open a phase 2 investigation, focusing its competitive analysis on the local market characteristics and potential entry.

In Troyes, there are four hypermarkets owned by three different brands : E.Leclerc (1) , Géant Casino (1) and Carrefour (2).  In the FCA’s view, the transaction resulted in a classic three-to-two scenario.

The FCA collected information from industry participants in the area, including hypermarkets, supermarkets, and discount stores and conducted customer surveys.  Based on this investigation, the FCA found that the merger raised competition concerns.

From the outset, the parties attempted to challenge the well-established precedents on product market definition. According to the parties, hypermarkets see competitive pressure from specialized superstores, online sales, supermarkets and discount stores and are facing a change in consumer habits. The FCA did not accept that line of argument and decided to maintain its traditional market definition of “retail distribution predominantly for food products”.

In its decision, the Authority set out three key risks arising from the transaction:

  1. The disappearance of one leading brand (Géant Casino), which would have automatically caused a significant loss of diversity for consumers: After the transaction, consumers would have the choice between two hypermarket brands – Carrefour and E.Leclerc – whereas, before the merger, consumers had a choice among three. That would have resulted in an immediate harmonisation of the production offering and the commercial policies between the merged entities.
  2. A likely price increase: During its investigation, the FCA had found that, since 2018, the target – Géant Casino – consistently applied higher prices than its competitors which had resulted in a loss of consumers and poor sales performance. There was, therefore, an expectation that, without the acquisition, Géant Casino, at some point, would have been forced to decrease its prices.  The mere fact of the acquisition – and the ensuing reduction in competition – would have enabled the Géant Casino hypermarket (under control from E.Leclerc) to maintain its high price policy. 
  3. Facilitating the coordination of the behaviour of the hypermarkets operated by Carrefour and E.Leclerc: Analyzing the criteria for coordinated effects, the FCA found that the retail distribution market for food products was extremely transparent. It concluded that the two remaining hypermarkets would be in a duopoly situation and in a position to retaliate against any deviations from a tacit collusive outcome. Finally, the FCA found there was little possibility of entry that could challenge coordinated behaviour of the two hypermarkets.

In line with the European Commission, the FCA asked for structural remedies aiming at ensuring competitive market structures; in response, the parties offered to reduce the surface area of the target. However, the FCA did not accept that such a reduction would mitigate the threatened harm to competition. On the contrary, it found that this remedy would further reduce the available offering to consumers that likely would result from the merger. The FCA explained that, in general, a commitment to reduce production (in this case the available sales area) may lead to anti-competitive effects by reducing the quantity offered, which may lead to higher prices, and by reducing consumer choice. In the present case, the FCA found that the scarcity of supply on the market and the presence of barriers to entry would reinforce the market power of the incumbent operators.

How is DoD Planning to Use the Supplier Performance Risk System (SPRS)?

As described in an earlier blog post, the Department of Defense (DoD) released an Interim Rule on September 29, 2020 that address DoD’s increased requirements for assessing whether contractors are compliant with the 110 security controls in National Institute of Standards and Technology (NIST) Special Publication (SP) 800-171 (NIST 800-171).[1]  Under this new Interim Rule, DoD offerors must have a current assessment on file with DoD to document their compliance with NIST 800-171 before they can be eligible to be considered for award.  The Interim Rule specifically requires contractors to ensure that a summary score from an assessment conducted under DoD’s NIST 800-171 Assessment Methodology is submitted into a DoD enterprise application called the Supplier Performance Risk System (SPRS).[2]  We evaluate below how DoD may use the NIST 800-171 assessment scores in SPRS, as well as how updates to SPRS more generally are likely to impact contractors.

Recent DoD ActionsDoD has recently taken two little noticed actions that may provide some insight into how DoD plans to use the NIST 800-171 assessment scores that are entered into SPRS.  First, three months before the Interim Rule was published, DoD added a number of entries to its Frequently Asked Questions relating to contractor cybersecurity requirements.  The updated FAQs noted that scores under DoD’s Assessment Methodology were intended to be used to support “Basic,” “Medium,” and “High” NIST 800-171 assessments and to provide “an objective assessment of a contractor’s NIST 800-171 implementation status.”  DoD also clarified that it does not plan to establish a passing score threshold that contractors need to achieve in order to secure DoD contracts.  Rather, DoD indicated with respect to NIST 800-171 assessment scores that “this is essentially a risk decision,” and that “[a] decision to accept the risk should remain with the Requiring Activity.”[3]

Second, a Proposed Rule that DoD published on August 31, 2020 is consistent with these FAQs and provides additional insight into DoD’s plans for SPRS.  The Proposed Rule expands SPRS from its current limited use in simplified acquisitions to a required evaluation factor for all solicitations for supplies and services, including those for commercial items.  The Proposed Rule also amends the DFARS by requiring contracting officers to use the supplier risk assessments generated in SPRS as a factor in determining responsibility at DFARS 209.105–1 to “reduce[] supply chain risk.”  Under the Proposed Rule, SPRS would generate three types of risk assessments using SPRS Evaluation Criteria:

  • Item Risk. SPRS collects data to generate the probability that a product or service, based on intended use, will introduce counterfeit or nonconforming material entering the DoD supply chain.
  • Price Risk. SPRS collects historical pricing data from Government sources and applies a common statistical method to calculate the average price paid for a product or services, generating a price range that contracting officers can use in the evaluation of fair and reasonable pricing to determine whether a price is high, low or “within range.”
  • Supplier Risk. SPRS calculates a supplier risk score, for contracting officers to compare competing suppliers.  This score includes three years of relevant supplier performance information from existing Government data sources.

In addition to these risk assessment scores, the Proposed Rule states that COs “may consider any other available and relevant information when evaluating a quotation or an offer.”  Taken together, it is possible that the Basic NIST 800-171 Assessment scores that contractors will enter into SPRS and the Medium and High NIST 800-171 Assessment scores entered by DoD could factor into the types of calculated risk analyses described in the Proposed Rule that are generated by SPRS.  It is also possible that DoD could create new criteria or simply let the assessment scores stand alone in the SPRS.  How much of a factor the assessment scores will be in the SPRS analyses remains unclear.

Relationship to Federal Acquisition Security Council (FASC)

On September 1, 2020, the Office of Management and Budget issued an interim final rule implementing the Federal Acquisition Supply Chain Security Act.  Our client alert addressing this interim rule can be found here.  This Rule authorizes the Executive Branch to issue exclusion and removal orders for products and sources that it determines represent a security risk.  Overseeing this process is the new Federal Acquisition Security Council (FASC), which will be charged with the evaluation process.  The review process can be triggered from a referral of the FASC or any member of the FASC; upon the written request of any U.S. Government body; or based on information submitted to the FASC by any individual or non-federal entity that the FASC determines to be credible.  Presumably information in the SPRS could provide a basis for a review.  Indeed, the Rule mandates that “Executive agencies must expeditiously submit supply chain risk information to the [FASC’s Information Sharing Agency]… when… [a]n executive agency has determined there is a reasonable basis to conclude a substantial supply chain risk associated with a source, covered procurement, or covered article exists.”[4]  However, the precise interaction between the FASC and SPRS remains unclear.

Impact on Contractors 

Although there are numerous clues as to how SPRS may impact future procurements, much remains to be clarified.  Supply chain issues are clearly top of mind for the Government and oversight of these risks is tightening in response to the evolving threat.  Further, the type of risk data that SPRS is compiling, as well as the generated risk assessments that it creates, indicate that the DoD is increasingly focused on collecting and using data to make decisions about its supply chain.  Accordingly, contractors should continue to follow the development of the SPRS Interim Rule and the actions of the FASC to ensure that they are aware of all of the information that the Government may use to make a procurement decision.



[1] The Interim Rule modifies the Defense Federal Acquisition Regulation Supplement (DFARS) and becomes effective on November 30, 2020.

[2] Prior to this rule, SPRS was used only to provide quality and delivery data to calculate “on time” delivery scores and quality classifications for simplified acquisitions.

[3] Question and Answer No. 126.

[4] 41 CFR § 201.202(b).

FRB and FinCEN Issue Joint Notice of Proposed Rulemaking Amending Recordkeeping Rule and Travel Rule Regulations

On October 23, 2020, the Federal Reserve Board (“FRB”) and Financial Crimes Enforcement Network (“FinCEN”) issued a joint notice of proposed rulemaking that would amend the Bank Secrecy Act’s Recordkeeping Rule and Travel Rule regulations.  Comments will be accepted for 30 days after Federal Register publication of the proposed rule on October 27, 2020.  The proposed amendments would lower the threshold for covered cross-border transactions from $3,000 to $250 and also extend the applicability of the rules to convertible virtual currency and digital assets used for legal tender.

The “Recordkeeping Rule,” 31 C.F.R. §§ 1020.410(a) and 1010.410(e), requires financial institutions to collect and retain information on certain funds transfers and transmittals of funds.  The rule is intended to help law enforcement and regulatory authorities detect, investigate, and prosecute financial crimes by preserving information about funds transferred through the financial system.  The “Travel Rule,” 31 C.F.R. § 1010.410(f), requires financial institutions to transmit information on certain funds transfers and transmittals of funds to other financial institutions participating in the transaction.  The two rules are complementary in that the Recordkeeping Rule generally requires financial institutions to collect and retain the information related to transmittal orders that is required under the Travel Rule.  The FRB and FinCEN are jointly proposing to reduce the Recordkeeping Rule threshold from $3,000 to $250 for funds transfers and transmittals of funds that begin or end outside the U.S.  FinCEN, pursuant to its sole authority, is similarly proposing to reduce the Travel Rule threshold for such transactions in the same amount.

The FRB and FinCEN highlighted the usefulness of transaction information associated with smaller value cross-border transfers and transmittals of funds in criminal, tax, and regulatory investigations, and in intelligence or counterintelligence activities.  The agencies also stated that “the effect of lowering the $3,000 threshold on financial institutions and on the cost and efficiency of the payment system is likely to be low” partly because financial institutions already collect some of the information for other reasons, including reporting suspicious activity to FinCEN, and because data storage costs have decreased.

The rule also proposes to clarify the meaning of “money” as used in these rules to ensure that they apply to domestic and cross-border transactions involving convertible virtual currency (“CVC”) or any digital asset having legal tender status to a recipient.  The agencies emphasized that public use of CVCs, such as Bitcoin and Ethereum, has grown, and that bad actors have used CVCs to facilitate international terrorist financing, weapons proliferation, sanctions evasion, and transnational money laundering.

New Executive Order May Significantly Expand Number of Executive Branch Officials “Covered” Under the Lobbying Disclosure Act

Despite his promises to “drain the swamp,” last week President Trump issued an Executive Order that may inadvertently create a large number of new lobbyists.  The order creates a new category of federal employees who are exempt from competitive service requirements, all of whom may qualify as “covered executive branch officials” under the Lobbying Disclosure Act (LDA), potentially requiring those who communicate with those officials on behalf of a client to register as lobbyists and file reports.

Pursuant to the LDA, an individual who makes two or more “lobbying contacts” with “covered legislative branch officials” or “covered executive branch officials” may be required to register as a lobbyist, if certain other criteria are satisfied.    The definition of “covered executive branch official” includes the President, Vice President, Executive Office of the President employees, certain senior agency officials and senior military officers, and “any officer or employee serving in a position of a confidential, policy-determining, policy-making, or policy-advocating character described in section 7511(b)(2)(B) of title 5, United States Code.”

Section 7511(b)(2)(B), in turn, exempts from civil service rules employees “whose position has been determined to be of a confidential, policy-determining, policy-making or policy-advocating character by . . . the Office of Personnel Management for a position that the Office has excepted from the competitive service.”  This category of covered officials, until now, only referred to appointees to positions listed in “Schedule C” of the Excepted Service.  According to the legislative history of the 1997 amendments to the LDA, “[t]he change to the definition . . . reflects the stated intent by narrowing the statutory reference in the [LDA] to ensure that only ‘Schedule C’ employees are ‘covered executive branch employees.’”  LDA guidance issued by Clerk of the House and Secretary of the Senate also confirms that only Schedule C appointees, and not other categories of Excepted Service appointees, are covered officials under the LDA.

In establishing Schedule F, the order creates, for the first time, a second category of positions of a “confidential or policy-determining character.”  Prior to the President’s order, Schedule C was the only category of Excepted Service appointments that encompassed positions of that nature.  However, under the order, appointees to the newly-created Schedule F will hold “positions of a confidential, policy-determining, policy-making, or policy-advocating character.”  Schedule C and Schedule F are primarily distinguishable not by their responsibilities, but by their tenure: non-career appointees who normally leave office when the President who appointed them leaves office are listed in Schedule C, while career appointees who normally remain in their position when their appointing President’s term ends are listed in Schedule F.

Because the order requires OPM to except Schedule F appointees (“positions of a confidential, policy-determining, policy-making, or policy-advocating character”) from the competitive service,  the Clerk of the U.S. House and Secretary of the Senate might now conclude that employees in Schedule F serve “in a position … of a confidential, policy-determining, policy-making, or policy-advocating character described in section 7511(b)(2)(B),” and are therefore “covered executive branch officials” under the LDA.

The order amends OPM regulations effective immediately, but requires all federal agencies to conduct a review to determine whether existing Schedule A, B, or D positions should be reclassified as Schedule F.  Agencies must complete a “preliminary review” within 90 days of the order, and a “complete review” within 210 days.

Although it is not immediately clear how many career positions could be reclassified as Schedule F, the order could result in the creation of thousands of new covered officials, assuming the Clerk of the House and Secretary of the Senate conclude that Schedule F employees are now covered.  A dramatic expansion of executive branch positions covered by the LDA would presumably result in more individuals meeting the definition of lobbyist, thereby triggering registration for themselves and their employers.  Further, existing lobbying firms and companies that employ lobbyists would now be required to track and report a broader universe of activities including by capturing costs associated with lobbying activities that support contacts with Schedule F officials.

It is not certain that the Clerk of the House or Secretary of the Senate—much less a court—would conclude that new Schedule F appointees would qualify as “covered executive branch officials.”  Schedule F did not exist when the LDA, 1997 LDA amendments, and LDA guidance were adopted, and the legislative history and the LDA guidance issued by the Clerk of the House and Secretary of the Senate expressly state that among Excepted Service appointees, only Schedule C appointees are covered under the LDA.    Thus, there may be some room to challenge the conclusion that all Schedule F appointees are now covered officials.  The future of the order may also depend on the outcome of the upcoming election—Democrats in Congress have expressed a willingness to overturn the order by statute.

The Week Ahead in the European Parliament – Friday, October 23, 2020

Next week, Members of the European Parliament (“MEPs”) will gather in Brussels for committee meetings.  Several interesting votes and meetings are scheduled to take place.

On Monday, the European Parliament’s Committee on the International Market and Consumer Protection (“IMCO”) will vote on a resolution that calls on the Commission to establish a consumer “right to repair”.  According to the draft report prepared by Rapporteur MEP David Cormand (Greens/EFA, FR) on a sustainable Single Market for businesses and consumers, the repair of consumer products should become systematic and affordable.  This could be achieved through guaranteeing unrestricted access to repair and maintenance information and the standardization of spare parts.  Extending guarantees could also incentivize repairs over replacements.  MEPs also call for the providing a legal guarantee at the EU level to cover repairs that are no longer under the regular national consumer guarantee.  The draft report is available here.

On Monday and Wednesday, there will be two rounds of negotiations between the European Parliament and the Council of the EU on the EU’s long-term budget (“Multi-Annual Financial Framework”) and Own Resources.  Previously, the negotiations were temporarily suspended, after MEPs walked out of a meeting with the Council.  They considered the Council unconstructive and not forthcoming in their demands to expand the budget for certain flagship EU programs, including the Connecting Europe Facility and Horizon Europe.  The pressure to reach an agreement is building, as time is running out to give the European Parliament and the national parliaments sufficient time to ratify the budget.  A deal must be reached at the end of October or beginning of November 2020.  As reported previously, some progress has been made in the other rounds of negotiations, including on new Own Resources for the EU and the role of the budgetary authority, but several critical points of disagreement still need to be resolved.  The press release of the European Parliament after the temporary suspension of the negotiations is available here.

On Tuesday, the Parliament’s Committee on International Trade (“INTA”) will vote on the EU-China Agreement on Geographical Indicators (“GIs”).  The Agreement, first concluded in November 2019, protects 100 EU GIs, such as Cava, Champagne, Feta, Irish whiskey and Münchener Bier, and 100 Chinese GIs, including Pixian Dou Ban (Pixian Bean Paste) and Anji Bai Cha (Anji White Tea).  The European Parliament needs to give its consent before the Agreement can enter into force.  After four years, the scope of the agreement will expand to include an additional 175 GIs for each party to the Agreement.  The draft Agreement is available here.  The list of the EU GIs is available here and the list of the Chinese GIs is available here.

For the complete agenda and overview of the meetings, please see here.

Department of Labor Requesting Information on Federal Contractor Workplace Diversity Training

On October 21, 2020 the Department of Labor’s Office of Federal Contract Compliance Programs (“OFCCP”) published a Request for Information (“RFI”) seeking voluntary submissions of workplace diversity and inclusion training information and materials from federal contractors, federal subcontractors, and their employees. The RFI was published pursuant to Executive Order 13950, Combating Race and Sex Stereotyping (“EO”) issued on September 22, 2020, which prohibited certain “divisive concepts” in workplace trainings and instructed OFCCP to solicit information from federal agencies and contractors about the content of their training programs.  The EO also directed OFCCP to establish a hotline to investigate complaints received under the EO, as well as Executive Order 11246. The hotline, and a corresponding email address, were established on September 28, 2020. We provided a full description and explanation of the requirements of the EO here.

Under the new RFI, contractors may submit comments and other information to OFCCP by December 1, 2020, but any submission of information is strictly voluntary.  As discussed below, prior to making any submission, contractors should consider carefully the nuances of the EO and RFI and the potential implications of making a voluntary submission.

Scope of the RFI

  • The RFI requests information or materials concerning any workplace trainings of federal contractors that involve “race or sex stereotyping or scapegoating,” as defined in the EO.  Subsequent guidance from OMB indicates relevant trainings may include key terms such as “critical race theory,” “white privilege,” “intersectionality,” “systemic racism,” “positionality,” “racial humility,” and “unconscious bias.”
  • The RFI also requests “copies of any training, workshop, or similar programming having to do with diversity and inclusion as well as information about the duration, frequency, and expense of such activities.”
  • The RFI further requests responses that indicate whether there have been complaints concerning trainings, disciplinary actions taken in response to complaints made about the trainings, responsible parties for developing trainings, whether the trainings are mandatory or optional, and the portion of a company’s annual mandatory or optional trainings that relate to diversity.
  • The RFI incorporates the EO’s list of “divisive concepts” that qualify as “unlawful race or sex stereotyping or scapegoating,” including that “an individual, by virtue of his or her race or sex, is inherently racist, sexist, or oppressive, whether consciously or unconsciously” and that “any individual should feel discomfort, guilt, anguish, or any other form of psychological distress on account of his or her race or sex.”

Information Submission and Potential Public Disclosure

Although OFCCP has pledged to “keep information and materials submitted under this process confidential under Exemption 4 of the Freedom of Information Act to the maximum extent permitted by law,” the RFI also makes clear that any submitted materials may become a matter of public record, so submissions should be carefully reviewed before they are provided to OFCCP.  The RFI further cautions that submissions should not provide information or materials “prohibited by law from disclosure under a valid confidentiality agreement, information or materials that are trade secrets, information or materials that are copyrighted, or information or materials that contain individual medical information or personally identifiable information.”  Because response to the RFI is voluntary, it is unlikely that a submission would fall within an exception to an otherwise applicable confidentiality or non-disclosure requirement.

Materials may be submitted at the Federal eRulemaking portal, or by mail or phone. Full details for submission are included in the RFI.

Enforcement Actions and Safe Harbor

Under the EO, the Department of Labor has authority to “take appropriate enforcement action and provide remedial relief, as appropriate.”  The OFCCP will provide compliance assistance to federal contractors and subcontractors who voluntarily submit information. Consistent with law, the OFCCP will exercise its enforcement discretion and decline to take enforcement actions against contractors that voluntarily submit information, so long as the contractor “promptly comes into compliance” with the EO if so directed by OFCCP.  Enforcement action may be taken, however, if OFCCP receives “unlawful” training material from another source, or if contractors who voluntarily provided information do not promptly come into compliance after receiving direction to do so from OFCCP.

Effective Date

While the EO’s requirements are scheduled to be incorporated into new contracts beginning November 21, 2020, contractors who voluntarily choose to provide information in response to the RFI may do so now.  Of course, whether to provide information requires careful consideration of the potential benefits and drawbacks of submitting to OFCCP review, a decision which should be made in consultation with qualified counsel.  Given the potential legal, political, and practical hurdles to implementing and enforcing the EO, it remains to be seen whether the RFI’s safe harbor provision will be a sufficient incentive for contractors to come forward voluntarily — or whether a “safe harbor” will even be necessary to mitigate the impact of the EO.  What is clear, however, is that there will be further action on this issue, and we will continue to watch for new developments throughout 2020.

Covington Artificial Intelligence Update: USPTO Releases Report on Artificial Intelligence and Intellectual Property Policy

On October 6, 2020, the U.S. Patent and Trademark Office (USPTO) published a report titled Public Views on Artificial Intelligence and Intellectual Property Policy. The report summarizes the nearly 200 comments received in response to patent-related questions regarding AI set forth in a request for comments (RFC) issued by the USPTO in August 2019 and non-patent IP questions set forth in an October 2019 RFC.

This post focuses on Part I of the report, which summarizes the comments received in response to the first RFC. Part II of the report pertains to the second RFC.

(1) Elements of an AI Invention

While AI has no universally recognized definition, AI may be understood as computer functionality that mimics human cognitive functions, such as the ability to learn. AI inventions may include inventions embodying an advance in AI itself (e.g., improved algorithms), inventions that apply AI to a field other than AI, and inventions produced by AI itself. Most commenters agreed that the current state of the art is limited to “narrow” AI that performs individual tasks, such as image recognition, in a well-defined domain and that AI is dynamic and subject to fundamental change in the coming years.

(2) Conception and Inventorship

Most responses indicated that current inventorship law is equipped to handle AI technologies and the assessment of conception should remain fact-specific. The use of AI as a tool in the inventive process would generally not preclude a natural person from being an inventor. Many commenters took issue with the premise that AI, under the current state of the art, was advanced enough to “conceive” of an invention. Although the USPTO understands the patent statute and Federal Circuit case law to require an inventor to be a natural person, some suggested that the question should be revisited when artificial general intelligence (AGI), akin to intelligence possessed by humankind and beyond, is realized. Some even suggested that AGI was a present reality that should be addressed.

(3) Ownership of AI Inventions

Most believed that no changes should be necessary with respect to patent ownership under U.S. law, in which only a natural person or a company (via assignment) can own a patent or invention. But, while no commenters suggested that ownership rights should extend to machines, some believed that consideration should be given to extending ownership rights for AI-generated inventions to natural persons who train the AI process, or who own/control the AI system.

(4) Subject Matter Eligibility Under 35 U.S.C. § 101

Many commenters asserted that there are no patent eligibility considerations unique to AI inventions. This is consistent with current USPTO practice—AI inventions are examined under the Supreme Court’s Alice/Mayo test, as are all computer-implemented inventions. But, this test may present problems for some AI inventions because they can be characterized as certain methods of organizing human activity, mental processes, or mathematical concepts. Patent applicants should consult USPTO subject matter eligibility guidance and Federal Circuit decisions in this area when crafting patent applications and devising prosecution strategies to obtain patent protection that is commensurate with business objectives.

(5) Written Description and Enablement Under 35 U.S.C. § 112(a)

Most commenters agreed that there are no unique written description requirements for AI inventions to show that the inventor had possession of the full scope of the claimed invention. However, there can be significant challenges in satisfying the disclosure requirements for AI inventions when, for example, AI logic is in some respects unknown. Commenters noted that it is critical for the USPTO to police these requirements to ensure patent quality.

When determining whether the specification satisfies the enablement requirement, patent applicants should be cognizant of the breadth of their claims, the knowledge in the art, and the predictability of the art. Generally, more disclosure is needed when less is known about the nature of the invention or when the art is less predictable.

Commenters presented differing views as to the predictability of AI inventions. Some explained that AI inventions generally behave predictably in their practical applications, which is a basis for their commercial value. Others indicated that some AI inventions might be less predictable due to inherent randomness in their algorithms. This unpredictability may make it appropriate to consider established factors such as the level of predictability in the art, amount of direction provided by the inventor, existence of working examples, and quantity of experimentation necessary to make or use the invention based on the content of the disclosure.

(6) Level of Ordinary Skill in the Art

The USPTO sought comments as to how AI impacts the level of ordinary skill in the art in assessing nonobviousness—a legal determination based on underlying factual inquiries such as the scope and content of the prior art, the differences between the claimed invention and the prior art, and the level of ordinary skill in the art. The level of ordinary skill in any art evolves based on the introduction of new technologies, and as AI systems become widely available, such accessibility could enhance the abilities of a person of ordinary skill in a given field. However, because widespread use AI systems have not yet permeated all fields, commenters cautioned the USPTO against broadly declaring that the application of conventional AI is an exercise of ordinary skill in the art.

(7) Prior Art Considerations

The USPTO received comments relating to the impact of AI on what can be considered prior art, the quantity of prior art, and the accessibility of prior art. Patent applicants may want to develop strategies pertaining to whether and how to search for AI-related prior art before and during prosecution.

While most commenters agreed that there are no unique prior art considerations for AI inventions, some flagged this as a potential issue as AI evolves and has the ability to generate massive amounts of prior art, possibly for the express purpose of rendering potential future inventions unpatentable. Also, a significant proportion of AI technology remains documented only in source code, which may not be accessible and is difficult to search for. Commenters mentioned the importance of examiner training and providing examiners with additional resources for identifying and finding AI-related prior art.

(8) Non-Patent IP Protection and Other Issues

Many commenters noted the importance of “big data” in developing and training AI systems, but they were split as to whether new forms of IP rights are necessary for AI inventions. Those in favor of new IP rights focused on the need to protect proprietary data while allowing new market entrants and others to use the data to train and develop their AI. Also mentioned was the possibility of providing additional IP protection for trained models and an openness to new forms of IP protection as AI technology continues to advance. Commenters also stressed the need for examiner technical training and examiner guidance specific to AI.

The USPTO should be informed by AI work and programs at the European Patent Office, Japan Patent Office, Korean Patent Office, and Intellectual Property Office of Singapore. While commenters wanted the USPTO to continue its multilateral engagements on AI through WIPO and the IP5, the Office was also cautioned against further attempts to harmonize patent laws and procedures—especially as it relates to AI—because U.S. patent law is the gold standard.

California to Require Annual Pay Data Reporting to DFEH

In an effort to close gender and racial pay gaps, California Governor Gavin Newsom recently signed Senate Bill (SB) 973 to require certain California employers to submit an annual pay data report to the Department of Fair Employment and Housing (DFEH) starting next year. The new law largely mirrors the EEO-1 “Component 2” pay data reporting requirement, which was imposed by the Obama administration and has been suspended by the Trump administration.

Under SB 973, private employers that have 100 or more employees and are required to file an annual Employer Information Report (EEO-1) must submit a pay data report to the DFEH covering the prior calendar year. The report must include: (1) the number of employees by race, ethnicity, and sex in each of ten job categories (the same job categories used in the EEO-1); (2) the number of employees by race, ethnicity, and sex whose annual earnings fall within each of the pay bands used by the United States Bureau of Labor Statistics; and (3) the total number of hours worked by each employee counted in each pay band. Employers with multiple establishments in California must submit a report for each establishment and a consolidated report that includes all employees. Employees include all individuals on payroll, whether full- or part-time, for whom the employer must withhold federal social security taxes and include in an EEO-1 Report.

Covered employers must submit the first report on or before March 31, 2021. Subsequent reports must be filed on or before March 31 each year thereafter.

The pay data must be in a format that allows the DFEH to search and sort the information using readily available software, and it is acceptable to submit a copy of the employer’s EEO-1 with the same or substantially similar required pay data. The DFEH may seek an order requiring an employer who does not submit the required data to comply with the law.

SB 973 also grants the DFEH broad new authority to receive, investigate, and prosecute complaints alleging discriminatory wage practices under the California’s Equal Pay Act (Labor Code 1197.5). The DFEH is authorized to share the reports with the California Division of Labor Standards Enforcement (DLSE) for the agencies to identify wage patterns and engage in “targeted enforcement” of California’s equal pay and anti-discrimination laws. The legislature intends that, except for this administrative enforcement or through civil discovery, pay data will be kept confidential and not available for disclosure. The DFEH may, however, publish an annual report that aggregates wage reports, provided that the aggregate reports are reasonably calculated to prevent the association of data with any individual business or person.

Next Steps for California Employers

The new law leaves a number of questions unanswered, such as whether the law applies to employers with more than 100 employees in the U.S. or only to those employers with more than 100 employees in California, and whether only California employees must be included in the pay report. The DFEH will likely issue guidance on these subjects, but in the meantime, employers who are required to file federal EEO-1 Reports should begin preparing for the first reporting deadline under SB 973, which is less than six months away. It will be important to designate a person or department responsible for the submission, confirm that there are adequate HR systems in place to collect and report the information, and to generally stay abreast of DFEH guidance on the matter. Employers should also consider proactively reviewing their pay practices and conducting a privileged audit to discover and address any disparities ahead of the report deadline.

CFTC Approves Three Final Rules at Open Meeting

At an open meeting on October 15, 2020, the Commodity Futures Trading Commission (“CFTC” or the “Commission”) voted to adopt three final rules.  First, the Commission adopted by a 3–2 vote a final rule overhauling its regulatory framework governing speculative position limits on a large variety of commodities.  Second, the Commission unanimously approved amendments to margin requirements for uncleared swaps for swap dealers and major swap participants.  Third, the Commission unanimously voted to finalize amendments to Regulation 3.10(c), which sets forth exemptions from registration for certain foreign intermediaries.

Position LimitsThe final rule is the latest in the Commission’s years-long effort to finish one of the last remaining rules under the Dodd-Frank Act.  The Act, passed in 2010, amended the Commodity Exchange Act to direct the CFTC to construct a regulatory framework for position limits in an effort to curb speculative trading.  The CFTC first adopted a final rule on position limits in 2011, but it was vacated by a federal court, and although the Commission issued subsequent proposals for position limits in 2013 and in 2016, none became a final rule.  Adopting a final rule in this area has been a priority for CFTC Chairman Heath P. Tarbert, as he indicated when the Commission issued a Notice of Proposed Rulemaking in January 2020 preceding the current final rule.  Covington published a client alert on this proposed rulemaking and will provide a detailed review of the final rule in an upcoming client alert.

The final rule imposes position limits on 25 “core referenced futures contracts” for physically settled commodities enumerated in the rule, futures contracts and options on futures contracts “directly or indirectly linked” to a core referenced futures contract, and swaps that are “economically equivalent” to such contracts.  It also enumerates certain forms of bona fide hedging exempt from position limits, including hedging of unfixed-price transactions.  Key differences from the January 2020 proposal include changes to the spot-month limit for cotton futures and the application of position limits on natural gas on a disaggregated or per-exchange basis, rather than aggregated across all exchanges.  The final rule also amends the proposal’s temporary substitute test for a bona fide hedge to clarify that a bona fide hedge must be a substitute for a position in the physical marketing channel.

At the open meeting, Commissioner Dan M. Berkovitz offered a last-minute amendment to the final rule’s preamble that permits exchanges to voluntarily provide the CFTC with information related to nonenumerated hedging requests before the CFTC receives the submission.  This early access will presumably facilitate the Commission’s ability to render a decision within 10 days of a request, as contemplated under the rule.  The amendment passed 3–2 over the dissents of Chairman Tarbert and Commissioner Brian D. Quintenz.

The final rule will take effect 60 days following its publication in the Federal Register.  Compliance with provisions of the rule relating to 16 non-legacy core referenced futures contracts, those contracts’ associated referenced contracts, and the requirements of exchanges under 17 C.F.R. § 150.5 will be required beginning January 1, 2022; the compliance date for the remaining provisions will be January 1, 2023.

Margin Requirements for Uncleared Swaps

The Commission also approved a final rule amending the implementation schedule for changes to the CFTC Margin Rule, which sets margin requirements for uncleared swaps that apply to swap dealers and major swap participants that do not have a prudential regulator.  Under a July 2020 interim final rule, changes to the CFTC Margin Rule were set to take effect for many market participants on September 1, 2021.  This week’s final rule extends the compliance date until September 1, 2022 for participants within the “Smaller Portfolio Group,” which are those with smaller average daily aggregate notional amounts of swaps and other financial products, so as to avoid market disruption that would ensue if a large number of participants were required to keep to the same compliance date.

Registration Exemption for Certain Foreign Intermediaries

The Commission voted to approve a final rule providing a registration exemption for certain foreign intermediaries.  CFTC Regulation 3.10(c) sets forth categories of exemptions to CFTC’s requirements for registration as an intermediary.  One such exemption applies to a foreign-located person acting as a commodity pool operator (“CPO”) on behalf of offshore commodity pools, so long as transactions are submitted for clearing through a registered futures commission merchant.  This final rule clarifies the application of this exemption by permitting a foreign-located person acting as a CPO to claim this exemption on a pool-by-pool basis.  This means that a non-U.S. CPO operating a pool including only non-U.S. persons could claim the exemption for that pool even if the CPO operates other pools that include U.S. persons.

Additionally, the final rule creates a safe harbor allowing a non-U.S. CPO of an offshore pool to rely on the exemption if it takes reasonable actions to reduce the possibility that participation units in the pool are offered or sold to U.S. persons.  It also contains minor structural amendments to Regulation 3.10(c) intended to clarify the exemption’s application.  The rule will take effect 60 days following its publication in the Federal Register.