By Ed Anderson, Martin Bader, and Matthew M. Mueller

The Federal Circuit (Dyk*, Rader & Moore) recently weighed in on the long-disputed issue of privilege for settlement negotiations. On April 9, 2012, the Federal Circuit handed down its decision in In re MSTG, Inc., Misc. Dkt. No. 996. The Federal Circuit declined to create a privilege that would prevent disclosure of settlement negotiations during discovery. In so doing, the Court extended the scope of discovery into settlement negotiations, a trend beginning with ResQNet. In re MSTG, slip op. at 19 (“Our cases appropriately recognize that settlement agreements can be pertinent to the issue of reasonable royalties.” (citing, Inc. v. Lansa, Inc., 594 F.3d 860, 869-73 (Fed. Cir. 2010))).

The case stemmed from the Northern District of Illinois, where MSTG sued AT&T Mobility and other mobile phone service providers and manufacturers for infringement of patents related to 3G mobile communications technology. MSTG eventually settled with all defendants, except AT&T. AT&T sought disclosure of settlement agreements and negotiations related to those settlements. MSTG provided the settlement agreements, but refused to disclose any correspondence or draft agreements from the predicate negotiations. AT&T moved to compel under ResQNet and progeny, arguing relevance to determining an applicable reasonable royalty.

Initially, the magistrate judge denied AT&T’s request, finding them irrelevant. AT&T sought reconsideration on the grounds that MSTG’s expert opined on a reasonable royalty based upon the disclosed settlement agreements. Although the expert did not directly cite settlement negotiations, the magistrate judge, and later the district court, held that the “negotiations could shed light on why the parties reached their royalty agreements” and whether “the licenses could be considered a basis for calculating a reasonable royalty.” In re MSTG, slip op. at 4. The Federal Circuit stayed the disclosure of the negotiations pending outcome of the appeal.

Judge Dyk noted that the issue of whether settlement negotiations are privileged is a matter of first impression for the Federal Circuit. The Court also noted that district and circuit courts are divided on the issue. The Sixth Circuit is the only circuit court to adopt a settlement negotiation privilege, doing so in Goodyear Tire & Rubber Co. v. Chiles Power Supply, Inc., 332 F.3d 976, 979-83 (6th Cir. 2003). The Seventh Circuit, where the Northern District of Illinois is located, expressly declined to adopt a settlement negotiation privilege in In re General Motors Corp. Engine Interchange Litigation, 594 F.2d 1106, 1124 n.20 (7th Cir. 1979). District courts in the Northern District of California and District of the District of Columbia have rejected a settlement negotiation privilege, while the Southern District of California and Eastern District of Texas have adopted the privilege in some regard.

The Federal Circuit relied on six factors the Supreme Court previously considered in assessing privileges generally and reasoned that there should be no newly-created privilege for settlement negotiations. In re MSTG, slip op. at 8 (“MSTG urges us to invoke Rule 501 of the Federal Rules of Evidence to fashion a new privilege in patent cases that would prevent discovery of litigation settlement negotiations related to reasonable royalties and damages.”).

First, the court looked to the policy decisions of the states. Acknowledging that many states have adopted a mediation privilege, the court did not find any state that recognized a privilege for settlement negotiations outside of mediation.

Second, the court examined whether Congress has considered the issue of settlement negotiation privilege. The court found that Federal Rule of Evidence 408 cut strongly against a settlement negotiation privilege. Rule 408 does not allow settlement negotiations to “prove or disprove the validity or amount of a disputed claim or to impeach by a prior inconsistent statement or a contradiction.” Fed. R. Evid. 408(a). Rule 408, however, allows settlement negotiations to be admitted into evidence for any other purpose, including showing a witness’s bias, negating a contention of undue delay, or proving obstruction of a criminal investigation. Fed. R. Evid. 408(b). Essentially, the court found that because Rule 408 permits admission of settlement negotiations in some contexts, it would be inappropriate for a settlement negotiation privilege to prevent disclosure of the very evidence that Congress deems admissible.

Third, the court considered whether a settlement negotiation privilege appeared on the “list of evidentiary privileges recommended by the Advisory Committee of the Judicial Conference in its proposed Federal Rules of Evidence.” In re MSTG, slip op. at 13. A settlement negotiation privilege was not included among the nine privileges recommended, which the court found cut against its appropriateness.

Fourth, the court looked at whether a settlement negotiation privilege would “advance a public good.” Here, the court found that because settlements occur routinely without a privilege, there is no reason to create a settlement negotiation privilege to help facilitate settlements.

Fifth, any settlement privilege would require numerous exceptions due to the admissibility of evidence under Rule 408. Thus, the court reasoned that having a privilege with numerous exceptions would make it uncertain. Quoting the Supreme Court, the court noted that an uncertain privilege is little better than no privilege.

Finally, the court noted that there are already mechanisms in place that a court can use to protect and promote settlement negotiations. These include limiting the scope of discovery under Rule 26, entering protective orders to limit to whom information is disclosed, and creating a higher showing for discovery of confidential documents, such as tax forms. Although the court expressly declined to address what limits or showing might be required to obtain settlement negotiations, the court found that the existence of mechanisms to limit discovery cuts against the need to create a new privilege to protect and promote settlement negotiations.

The Federal Circuit affirmed, finding that the district court did not abuse its discretion in requiring disclosure of settlement negotiations, when the settlement agreements were already disclosed. The court reasoned that settlement negotiations might lead to information showing MSTG’s damages expert committed errors in his reasonable royalty analysis. In addition, although not referring directly to settlement negotiations, MSTG’s expert concluded that settlement agreements reflect a 75% discount on the reasonable royalty rate, which may be countered by the actual negotiations of those settlement agreements.

Based on its decision in In re MSTG, the Federal Circuit is taking a firm but flexible approach to the disclosure of settlement negotiations. Although there is no blanket privilege for settlement negotiations, there are still avenues through Rule 26, by which a litigant could limit or prevent the disclosure of settlement negotiations.