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When self-regulatory remedies can be the better alternative.

Byline: Andrew Lustigman, Howard Smith

A marketer rarely looks at receiving a challenge before the self-regulatory body, the National Advertising Division (NAD), as a positive development. A recent enforcement action by the Federal Trade Commission (FTC) against two related skin care and weight loss companies and their principal, however, demonstrates what happens if a marketer fails to participate or accept the bodies' findings. While the NAD process is technically voluntary, the FTC's enforcement action is yet another example of why advertisers that refuse to participate in the self-regulatory process do so at their own peril.

DermaTend and Lipidryl

The FTC challenged the advertising of DermaTend, a skin care product, and Lipidryl, a weight loss product, which were marketed by Solace International, Inc. and Bioscience Research Institute, LLC, respectively. The FTC sued the companies and their principal Aaron Lilly, challenging the advertising as false and unsubstantiated. In particular, the FTC challenged defendants' claims that DermaTend had a 97 percent success rate in removing moles, skin tags and warts, caused little or no scarring, and was safe for adults and children. The FTC similarly challenged advertising for Lipidryl, a weight loss supplement, as making false or substantiated claims that the product was clinically proven to cause substantial weight loss and reduce users' waistlines. The FTC also took issue with the marketers' failure to disclose that persons that appeared as success stories in the advertising were compensated.

The FTC complaint was filed at the same time as the settlement. The FTC settlements prohibit the companies and their principal from misleading consumers about their products' efficacy and requires specific levels of substantiation to demonstrate that product claims are supported by scientific evidence. The settlement order mandates disclosure of the relationship if endorsers are provided with compensation. The settlement also requires defendants to monitor affiliate marketers. Lastly, the order requires the defendants to pay to the government $402,338 and to turn over the proceeds from the sale of four homes in Texas all as part of a redress plan.

NAD's referral

While the above enforcement action may seem typical based on a failure to substantiate and failure to disclose endorser compensation, a comment in the press release sets it apart. The press release noted that the matter was referred to the FTC by NAD. Indeed, in 2011, NAD referred Solace to the FTC with regard to DermaTend claims, including that "DermaTend permanently removes all unwanted moles, warts and skin tags quickly and easily." NAD did so because the advertiser, while willing to make some changes to its advertising, refused to address all challenged claims and failed to participate in the self-regulatory process.

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Other NAD referrals

Participation in the NAD self-regulatory review process and accepting the NAD's recommendations are voluntary. NAD looks at advertising claims from the perspective of a reasonable consumer and examines whether the advertiser has substantiation that supports the challenged claims. NAD does not have the power to fine, order disgorgement or require the issuance of refunds. Rather, NAD recommends that unsupported claims should be withdrawn or modified, and it is up to the advertiser to modify its advertising accordingly or reject the recommendations.

The initial reaction of many companies may be to ignore the recommendations, fail to take them seriously or consider avoiding the costs involved in participating in a voluntary process. Doing so, however, could be a great mistake. Indeed, while there is no binding effect on the advertiser, NAD has a remarkably high compliance rate (estimated at over 95 percent). This is in large part because NAD will refer matters to the appropriate regulatory agency for failure to participate in the process or for failure to comply with a decision. Many regulatory agencies, such as the FTC, will give referrals from NAD the highest investigatory priority, meaning that an NAD case will be quickly assigned to an attorney and closely examined. On the flip side, if a marketer participates in the self-regulatory process and abides by the final recommendations, a marketer typically (but not always) will avoid an FTC enforcement action.

Indeed, a number of high-profile companies have lived to regret failing to comply with NAD recommendations. For example, POM Wonderful, LLC failed to withdraw a number of claims that NAD recommended be discontinued when it examined the advertising in 2006, which resulted in a referral to the FTC. The Court of Appeals for the District of Columbia just affirmed a significant portion of the FTC's enforcement action against POM. Similarly, Reebok failed to comply with NAD recommendations regarding its advertising for its Shape Up shoes resulting in a referral to the FTC. The FTC investigation culminated in a high-profile consent order and a $25 million payment. Likewise, the dietary supplement Airborne failed to comply with the NAD's recommendations as to its advertising. In that case, the result was a high-profile settlement with the FTC and a $30 million payment. There are a number of other examples of referrals to the FTC and also similar referrals to other appropriate federal agencies such as the Department of Transportation and the Food and Drug Administration.

Take away

Understandably, a company whose advertising is the subject of an NAD challenge may be tempted either to not participate in a voluntary process or to fail to follow NAD's non-binding recommendations. Doing so, however, may expose the company to regulatory scrutiny and possible monetary penalties. Failing to participate in the self-regulatory process and comply with NAD's recommendations will often be significantly more painful than not. On the other hand, participating in the self-regulatory process and incorporating NAD's recommendations will typically result in the avoidance of an enforcement action.
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Publication:Inside Counsel Breaking News
Date:Feb 17, 2015
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