Tuesday, April 29, 2014

For My Friends at API: Petroleum Drawback

For the past several years, I have been privileged to speak at the American Petroleum Institute's annual meeting devoted to customs, drawback, and trade issues. I give an overview of legal developments from the prior year. Often, I am stretching to find petroleum-related issues. Here is the subject of my first slide for next year (assuming I am invited back and no one else covers this).

In BP Oil Supply Co. v. United States, the Court of International Trade had to determine whether BP had proven that it is entitled to drawback where it imported almost 42 million barrels of crude from various sources and exported an equal quantity of Alaskan North Slope crude. BP sought to establish that the ANS was a legally permitted substitute based solely on the API ratings.

Drawback is a refund of 99% of customs duties paid on import when the same quantity of qualifying product is exported. Because it is a statutory privilege and not a right, drawback claimants must satisfy all of the requirements and conditions. This case involved substitution unused merchandise drawback under 19 USC 1313(j), which requires that the substituted merchandise be "commercially interchangeable" with the imported merchandise.

The test for whether goods are commercially interchangeable comes from a Federal Circuit case called Texport Oil Co. In Texport, the Court said that it will decide whether goods are commercially interchangeable based on "an objective, market based consideration of the primary purpose of the goods in question." This analysis is done "from the perspective of a hypothetical reasonable competitor." So, if a reasonable competitor would accept either the imported goods or the substituted exports, for the same commercial use, then the goods are interchangeable for drawback purposes.

Here, the plaintiff made the reasonable assumption that API gravity was a sufficient basis on which to group products as commercially interchangeable. This makes sense from the standpoint of the operations of a refinery and trading crude.

The Court, however, was looking for more. According to the Court, crude is categorized on the basis of source (e.g., Alaska North Slope versus Rabi from Gabon) and requires periodic chemical assays to determine consistency of makeup. Elements that may vary even within a particular oil field include (at least according to the Court): sediment, water content, heavy metals, and sulfur. Given that disparity, the Court found that BP had not established that a reasonable competitor would accept the ANS crude as a substitute for the imported crude.

Another issue is whether the exported merchandise qualified as unused for purposes of the unused substitution merchandise drawback. For goods to be unused, they may not have been subject to an operations amounting to manufacture or production. Here, a portion of the ANS crude was extracted on the way to Valdez, Alaska and refined into fuel. The resulting residue was then injected back into the ANS. According to the Court, BP failed to provide evidence to establish that this process did not result in the use of the merchandise and, therefore, disqualify it from unused merchandise drawback.

On the record before it, the Court found that BP had not proven that it is entitled to drawback.

As an aside, there is a really interesting legal issue in the case that the Court did not need to resolve. That question is whether the administrative record, which Customs and Border Protection is required to file with the Court, is in evidence. If it is, the Court may rely upon it as part of the record before the Court. If not, the parties need to move those records into evidence to get them officially before the Court. This is a very technical and lawyerly distinction. Nevertheless, it is important as it sets the scope of what the Court can consider and also dictates what process the parties need to employ to use those documents. It strikes me that the Court handled it correctly here by acknowledging the existence of the administrative record without accepting that it was complete or accurate enough to establish facts. On the other hand, as the record is made by the United States government and must be filed with the Court, it seems there should be a logical (though not legal) assumption that it reflects the facts as CBP found them.

This should probably be clarified. If BP feels it lost this case because the CIT failed to give sufficient weight to the administrative record, the Federal Circuit may have to address this issue directly. On the third hand, Texport did not seem to require as much evidence of interchangeability as the Court is now demanding. Rather, my recollection of Texport is that HTSUS classification, invoice description, and a commercial standard (such as API gravity) should be enough. Thus, I think the question will be what Texport requires and whether that set a floor or a ceiling for proof.

Thursday, April 24, 2014

CBP: Crimea Country of Origin Remains Ukraine

So says U.S. Customs and Border Protection:

CSMS #14-000236

Title: Marking Requirements for Ukraine

Date: 4/23/2014 5:22:25 PM

To: Automated Broker Interface

In accordance with 19 United States Code (USC) 1304, every article of foreign origin (or its container) imported into the United States shall be marked in a conspicuous place as legibly, indelibly and permanently as the nature of the article (or container) will permit in such manner as to indicate to an ultimate purchaser in the United States the English name of the country of origin of the article.

Growth, production, or manufacture of a good in Crimea is growth, production, or manufacture of a good in Ukraine. Goods which are the growth, product, or manufacture of Crimea and other areas of Ukraine should be marked as "Product of Ukraine" or "Made in Ukraine". If the container of the imported good is marked, it may be marked, "Contents made in Ukraine" or words similar in meaning. Articles not marked as required by law shall be subject to additional duties of 10 percent of the final appraised value unless exported or destroyed under Customs supervision prior to liquidation.

Should you require additional information, please contact Ms. Virginia McPherson, Chief, Trade Processes at virginia.h.mcpherson@cbp.dhs.gov

Friday, April 18, 2014

Why I Like Customs Law: Dog Toy Edition

I have lots of friends and colleagues who are what I sometimes call "regular lawyers." These smart men and women work in fields like personal injury, labor and employment, corporate transactions, criminal defense, and family law. Good for them. They have interesting work that often helps to solve real problems that impact real people or companies. But, they never get to decide whether a dog toy might also be entertaining for humans. That's what I do.

This is not to say that customs work does not solve real problems for real companies and individuals. We recently helped an individual mitigate the seizure of currency he failed to declare when entering the United States. A couple years back, I helped a U.S. Army Reservist change the rules that prevented him from sitting for the customs broker license exam. More generally, I help companies avoid and solve problems relating to legal compliance in their supply chain and I am more than happy to do that. But, a good classification question is always fun.

The reason I am waxing poetic about being a customs nerd is HQ H240490 (Feb. 10, 2014). This ruling results from an Application for Further Review regarding ten interactive toys designed for human and dog play. We are only interested in the legal analysis, so I am not going to go through the design and features of all 10 of the toys involved. As an example, the first item was called "Paraflight," which was described as disc constructed of a flexible rubber ring covered in nylon material. Paraflights come in 6.5-inch and 9.5-inch diameters. It is basically a flying disc of a non-Frisbee brand [Note: my trademark lawyer friend advised me to say that.] intended to be thrown by a human and retrieved by a dog. That seems like fun for both parties involved.

The importer of the Paraflight entered it classified in HTSUS item 6307.90.75, which covers "Other made up articles, including dress patterns: Other: Toys for pets, of textile materials." That classification carries a rate of duty of 4.3%.

Some smart person at the company or its lawyer recognized that throwing a non-Frisbee brand flying disc to a dog is fun for people too. So, why isn't this a toy for the human thrower as much as it is a toy for the canine catcher? If so, it would be classifiable in 9503.00.00 as a toy and would be duty free.

That is a great issue and one that is a classic of the kind that customs lawyers love to sort out. It is similar to a question I handled about whether collapsible textile dog houses are classified in Heading 4202 essentially as suitcases or backpacks for carrying dogs.

The problem for the importer is pesky legal Note 5 to Chapter 95, which says that Heading 9503 does not cover articles which, "on account of their design, shape, or constituent material, are identifiable as intended exclusively for animals, for example, 'pet toys' (classification in their own appropriate heading)." A similar exclusion is in the Explanatory Notes. As Homer would say, "D'Oh."

Customs and Border Protection started its analysis following the importer's suggestion that Heading 9503 is a principal use provision. As such, the question becomes whether single most common use in the United States for products of the same class or kind is exclusively to amuse pets. If so, the note prohibits classification in Heading 9503.

CBP noted that the Paraflight is unlike a Frisbee-brand flying disc in that it is completely covered in textiles and has a rubber gripping ring around the diameter. These features indicate that the disc is designed for easy retrieval by a dog. The merchandise was also marketed and sold a pet toys. In what might prove to be a fascinating legal development, Customs cited Amazon product reviews to indicate that customers describe the products in terms of how well their dogs like the products. Based on all of this, Customs found that the various toys were all exclusively for the enjoyment of dogs and excluded from 9503. Apparently, the result might have been different had an Amazon reviewer said "My kids love throwing the Paraflight to our dog!" or had CBP found a picture of two people playing catch with one.

The decisive point came when Customs said: "Protestant's argument that any interactive pet toy is primarily for the amusement of humans would do away with the distinction--nearly all pet toys are designed for some interaction between pets and their owners, even if it is as small an interaction as the owner unwrapping the item and giving it to the pet. Their focus is on what amuses the pets and not on whether the humans enjoy playing with them."

The problem with that reasoning is that is goes too far in the other direction. Under this analysis, no toy designed to involve a pet in play with a human can ever be a 9503 toy. That does not seem to make sense either. Keep in mind that there is a whole world of competition in which dogs catch regular Frisbee-brand flying discs. Are they no longer toys for humans?

The problem is that "exclusively" cuts both ways. If the product has some features or non-fugitive uses that indicate it amuses humans, then it is not exclusively for the use of pets. To the extent the Paraflight cannot be used without a human thrower and given the relatively self evident fact that people are amused by their pets, it strikes me this is a toy that is not exclusively for the amusement of pets. Similarly, if it is an apparently human-centric toy has some pet-friendly features, it is not just for humans. There is a middle ground in which people play with their pets for the amusement of both species. They way I read Note 5 to Chapter 95, that middle ground is not excluded from 9503.

For example, and for your human amusement, behold the hamster ball race:

Now you tell me, who is more amused, the hamster or the kids? I say that ball and track configuration is a toy for humans despite being designed for hamsters.

Tuesday, April 15, 2014

The 2400% Solution

If you have not been following the International Custom Products, Inc. v. United States saga, you are missing out on quite the show. Of course, it is only a show if you are watching from a disinterested position. To the parties, this is unusually high-stakes litigation at the Court of International Trade.

There have been a number of ICP cases covered in this blog. The most relevant prior decision for this post is here.

Now, the Court of Appeals for the Federal Circuit has weighed in and affirmed the decision of the Court of International Trade.

Due to my long discourse on conflict minerals, I will keep this short.

Customs and Border Protection is bound by its interpretative rulings. Once a ruling issues, if Customs wants to act inconsistent with that ruling, it needs to follow the correct process. That process includes providing public notice of the change in policy, accepting comments from the public, and providing 60 days after final publication before the decision is implemented. All of that follows from 19 USC § 1625(c)(1).

In this case, Customs issued a ruling to ICP classifying its dairy product as a sauce preparation. Six years later, Customs issued a Notice of Action telling ICP that Customs would liquidate the affected entry as a dairy spread. Due to dairy quota issues, that caused a 2400% increase in duty liability. It is important to note that in the Notice of Action, CBP said this treatment would apply to all unliquidated and future entries.

ICP argued that the Notice of Action amounted to a revocation or modification of the prior ruling. As such, Customs is required to go through the 1625(c) process prior to applying the new policy to ICP's imports. The Court of International Trade agreed.

On appeal, the Federal Circuit also agreed. The short explanation is that the ruling was a binding interpretive decision. By acting inconsistent with that ruling without revoking or modifying it, Customs was acting outside its statutory authority. The Notice of Action, standing alone, therefore, was not a sufficient basis on which to change the classification of the merchandise.

Customs argued that the Notice of Action did not supplant the ruling. According to Customs, if another situation came along in which all the facts were the same as those stated in the ruling, the ruling would apply. The Court rejected this after what appears to be a concession by the government that the merchandise covered by the ruling is identical to that in the relevant entry.

That's about all there is to it. The bottom line is that revocation or modification can happen via a Notice of Action. If so, CBP must go through the formal steps. If it fails to do so, the revocation will be void.

That is a win for ICP. But, there are other issues still out there that may prevent ICP from getting the same treatment for its other entries. That means there may be another verse or two in this long-running saga.

DC Circuit Strikes Down Conflicts Minerals Reporting

The U.S. Court of Appeals for the District of Colombia, which hears many issues involving administrative law and government action, has overturned part of the SEC rule requiring companies to report on their web sites that their products are not free of certain minerals from the Democratic Republic of Congo and surrounding countries. The case is National Association of Manufacturers v. Securities and Exchange Commission.

Before we get to the legal issues, the background provided by the Court is relevant to what is at issue. The Democratic Republic of Congo ("DRC") is an unimaginably hellish place. It has seen 15 years of war and starvation coupled with widespread human rights violations including the use of rape as a weapon. Much of that activity is undertaken by armed militias financed by the sale of gold, tantalum, tin, and tungsten extracted by primitive, unregulated mining operations in Congo. After passing through many hands, these minerals end up in products sold to consumers in the U.S. including mobile phones, golf clubs, medical devices, and automotive parts.

As a response to this situation, part of the Dodd-Frank Wall Street Reform and Consumer Protection Act required publicly traded companies regulated by the SEC who are using conflict minerals in products to investigate and disclose whether those minerals originated in DRC or an adjoining country. The report must include a description of the diligence undertaken to identify the minerals and their source. The companies must also list products that are not free of conflict minerals. There is no de minimis level under which the report is not necessary.

Many companies rolled this requirement into their compliance procedures. For example, Intel has open sourced its compliance process in an effort to help other companies comply and, therefore, reduce the trade in conflict minerals. But, this is not without costs. According to SEC estimates, the rule would cost industry $3 billion to $4 billion initially and between $207 million and $609 million annually thereafter.

Now on to the law.

The Administrative Procedure Act prohibits agency action that is arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with law. When reviewing an agency action, the Court considers only the administrative record.

The first argument against the regulation was that the SEC failed to include a de minimis exception for small amounts of conflict minerals. According to the National Association of Manufacturers ("NAM"), plaintiff in this case, that was an abuse of discretion. The SEC acknowledged that it could have created a de minimis exception. However, it considered that possibility and found it to be inconsistent with the Congressional purpose for the law and also the fact that very small amounts of the minerals may nevertheless be important parts of the finished goods. Given that agency consideration, the Court found no abuse of discretion.

Next, NAM argued that the SEC requirement to perform due diligence and report findings is inconsistent with the requirement to report the presence of conflict minerals in products. The Court also rejected that argument. It is true that the statute requires reporting only when conflict minerals are found to be present. The regulation requiring an inquiry is not intended to implement that reporting requirement. Rather, it requires companies to examine their supply chains to determine whether the reporting requirement applies. The Court found this to be a reasonable exercise of rulemaking in the absence of clear statutory language to the contrary. Similarly, the SEC acted properly when it applied the due diligence and reporting requirements to both manufacturers and to companies that contract for the manufacture of goods.

A more interesting problem for the regulation is whether it produces the benefit Congress intended, which is to burden the illicit mining industry in DRC and try and choke off resources from the armed groups participating in the conflict. According to the Court, "[W]e find it difficult to see what the Commission could have done better." The fact that the SEC could not quantify those social benefits does not invalidate the rule. The Court went on to say that it would not require the SEC to "measure the immeasurable" through a detailed quantitative analysis. "Even if one could estimate how many lives are saved or rapes prevented as a direct result of the final rule, doing so would be pointless because the costs of the rule--measured in dollars--would create an apples-to-bricks comparison." Given the congressional mandate to enact regulations addressing conflict minerals, the SEC's rulemaking was appropriate.

Then there is the constitution. The thing about constitutional cases is that the result often turns on figuring out the correct standard the court is to apply to review the governmental action. Here, NAM argued that forcing companies to state that their products are not free of conflict minerals violates the companies' first amendment rights by compelling commercial speech. Some first amendment issues are reviewed on the "rational basis" test under which the regulation will be upheld if it is reasonably related to a governmental interest. This has usually been applied where the compelled disclosure is limited to simple facts to avoid consumer deception.

But, the conflict minerals regulations do not involve simple facts or consumer deception. Rather labeling a product as "conflict free" implies a certain moral standing and can be read as including a moral indictment of companies producing products that are not conflict free. According to the Court, the regulation "requires an issuer to tell consumers that its products are ethically tainted, even if they only indirectly financed armed groups." More directly, the Court stated that by "compelling an issuer to confess blood on its hands, the statute interferes with that exercise of the free of speech under the First Amendment."

Consequently, the Court analyzed the regulation under the so-called Central Hudson test. Under this test, the regulation is permitted if the SEC can show (1) a substantial government interest that is  (2) directly and materially advanced by the regulation and (3) that the restriction is narrowly tailored. It is the last point that proved to be a problem for the SEC. According to NAM, the purposes of the statute and regulations could have been advanced while letting the regulated companies decide how to convey the message or by having the government compile and maintain a list of non-conflict free products. According to the Court, the hypothetical centralized list might prove to be a more efficient means of communicating this information to the public. Thus, the Court found that the restriction imposed by the conflicts minerals reporting requirement was not narrowly tailored to the extent that the  rule requires regulated companies to state that their products have "not been found to be 'DRC conflict free.'"

Two important side notes:

First, in a partially concurring opinion, one of the judges noted that a similar question is currently pending en banc review by the entire Court of Appeals (rather than just a three judge panel). That case involves the compelled use of country of origin labels on meat products. The issue there is whether the more relaxed rational basis test applies to origin labels. The decision in that case, American Meat Institute v. United States, may impact the analysis in this case. Thus, the judge would have waited for that decision before deciding this case.

Second, in discussing the possibility of staying the judgment in this case pending the decision in the meat labeling case, the concurring judge stated "It bears noting that there would be no evident need to stay any part of the statute as opposed to the SEC's rule." That is because the statute, unlike the regulation, does not mandate the format of the not conflict free notice. This gives the regulated companies more options and, arguably, resolves the First Amendment issue. Thus, it appears that the law, but not the implementing rule, may continue in force.

Friday, April 04, 2014

Discovery in Classification Cases

It is unusual to hear about a discovery dispute in a tariff classification case at the Court of International Trade. The one at the center of FDK America, Inc. v United States is, even as discovery disputes go, a strange one.

The underlying case has to do with the classification of optical isolators, whatever those are. Apparently, at some time prior to this case, Customs ruled on the classification of similar products for Nortel, a company that is not involved in this litigation and is currently in joint U.S.-Canadian bankruptcy proceedings.

One thing you need to know is that prior to presenting a case to the Court for resolution, the parties engage in discovery. Discovery is the process of requesting and reviewing information from the other side or from non-parties to help support your case, refute the other side's case, etc. The scope of what can be discovered is very wide and includes anything that might eventually lead to something that is both relevant and admissible. But, the information requested in discovery need not be either.

Here, the plaintiff requested that Customs and Border Protection turn over documents Nortel submitted to CBP in conjunction with the ruling issued on its product. Customs has refused citing privacy laws and the fact that the request seeks the release of business proprietary information. The government says FDK should go to non-party Nortel with a discovery request to turn over the documents. FDK has at least approached Nortel, but Nortel seems either too busy with the bankruptcy or far enough along in the process to not care. It has not responded.

Having not succeeded in getting the information, FDK proposed to the Court that it will enter into a voluntary protective order if Customs turns over the information. That should protect Nortel's interests, if it continues to have any. To succeed, FDK needs to show "good cause." To show good cause, FDK points out that Nortel is unavailable and that the requested information is so old that it can no longer be particularly valuable in the fast-moving telecom industry.

Taking up the issue, the Court of International Trade weighed the need for the disclosure against the potential hard to Nortel. Noting concerns that disclosure might theoretically infringe a fifth amendment right against the taking of private property (including possible trade secrets), the Court focused on the possibility of securing consent from Nortel. Given that the Nortel assets may have been transferred and the current owner may be outside the United States, the Court contemplated how best to give notice to the current owner, whose identity is presently unknown.

Until such time as the unknown owner of the private information can be found or all reasonable efforts to find the owner have been exhausted, the Court will not order the release of the information to the unknown potential detriment of the currently unknown owner. Thus, FDK must use the standard subpoena process to identify someone with knowledge of the owner of the information. If the owner is discovered, the plaintiff can seek the information through normal discovery channels. If that person happens to be out of the country, additional (and more complex) steps will be necessary.

I wonder whether this kind of thing happens all the time in district court litigation and we are just lucky not to see it or whether this is a genuinely strange situation. Either way, I'm glad its not happening in one of my cases.