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The Feds Blow a Mighty “Wynd” on Privacy & Data Security – But Are They Full of Hot Air?

By: Aaron Krowne

A heated battle regarding the general province of federal regulators over businesses’ privacy and data security practices is currently raging. We are referring to the pending case of FTC v. Wyndham Worldwide Corp., which is being much-watched in the data security world. It pits, on one side, the Federal Trade Commission (“FTC”), with its general authority to prevent “unfair or deceptive trade practices,” against Wyndham Worldwide Corp. (“Wyndham”), a hotel chain-owner which was recently hit by a series of high-profile data breach hack-attacks. The main question to be decided is: does the FTC’s general anti-“unfair or deceptive” authority translate into a discretionary (as opposed to regulatory) power over privacy and data security practices?

Background of the Case

On July 30, 2014, FTC v. Wyndham was accepted on appeal to the Third Circuit, after Wyndham failed in its attempt to have the case dismissed. However, Wyndham was granted an interlocutory appeal, meaning that the issues it raised were considered by the Circuit Court important enough to determine the outcome of the case and thus needed to hear an appeal immediately.

The case stems from a series of data breaches in 2008 and 2009 resulting from the hacking of Wyndham computers. It is estimated that personal information of upwards of 600,000 Wyndham customers was stolen, resulting in over $10 million lost through fraud (i.e., credit card fraud).

The FTC filed suit against Wyndham for the breach under Section 5 of the FTC Act, alleging (1) that the breach was due to a number of inadequate security practices and policies, and was thus unfair to consumers; and (2) that this conduct was also deceptive, as it fell short of the assurances given in Wyndham’s privacy policy and its other disclosures to consumers.

The security inadequacies cited by the FTC present a virtual laundry-list of cringe-worthy data-security faux pas, including: failing to employ firewalls; permitting storage of payment card information in clear readable text; failing to make sure Wyndham-branded hotels implemented adequate information security policies and procedures prior to connecting their local computer networks to Hotels and Resorts (Wyndham’s parent company’s); permitting Wyndham-branded hotels to connect unsecure servers to the network; utilizing servers with outdated operating systems that could not receive security updates and thus could not remedy known vulnerabilities; permitting servers to have commonly-known default user IDs and passwords; failing to employ commonly-used methods to require user IDs and passwords that are difficult for hackers to guess; failing to adequately inventory computers connected to the network; failing to monitor the network for malware used in a previous intrusion; and failing to restrict third-party access.

Most people with basic knowledge of data security would agree that these alleged practices of Wyndham are highly disconcerting and do fall below commonly-accepted industry standards, and thus, anyone partaking in such practices should be exposed to legal liability for any damage that results from them. The novel development with this case is the FTC’s construction of such consumer-unfriendly practices as “unfair” under Section 5 of the FTC Act, which thus brings them under its purview for remedial and punitive action.

Wyndham resisted the FTC’s enforcement action by attempting to dismiss the case, arguing (1) that poor data security practices are not “unfair” under the FTC Act, and that (2) regardless, the FTC must make formal regulations outlining any data security practices to which its prosecutorial power applies, before filing suit.

Wyndham’s dismissal attempt based on these arguments was resoundingly rejected by the District Court. This Court’s primary rationale was, in effect, its observation that the FTC Act, with Section 5’s “unfair and deceptive” enforcement power, was intentionally written broadly, thus implying that the FTC has domain over any area of corporate practice significantly impacting consumers. Additionally, this broad drafting provides that this power is largely discretionary, which would be defeated by requiring it always be reduced to detailed regulations in advance.

Addressing the “unfairness” question directly, the FTC argued (and the District Court agreed) that, in the data-security context, “reasonableness [of the practices] is the touchstone” for Section 5 enforcement, and that, particularly, “unreasonable data security practices are unfair.” As to defining unreasonable security practices, Wyndham advocated a strict “ascertainable certainty” standard (i.e., specific regulations set out in advance), but the District Court (again, siding with the FTC) shot back that “reasonableness provides ascertainable certainty to companies.” This argument seems almost circular and fails to define what exactly is “reasonable” in this context. But the District Court observed that in other areas of federal enforcement (e.g., the National Labor Relations Board and the Occupational Safety and Health Act), an unwritten “reasonableness” standard is routinely used in the prosecution of cases. Typically, in such cases, reference is made to prevailing industry standards and practices, which, as the District Court observed, Wyndham itself referenced in its privacy policy.

Fears & Concerns

The upshot of the case is that if the FTC’s assertion of the power to enforce “reasonable” data security practices is affirmed, all privacy and data security policies must be “reasonable.” This will in turn mean that such policies must not be “unfair” generally, and also not “deceptive” relative to companies’ privacy policies. In effect, the full force of federal law, policed by the FTC, will appear behind privacy and data security policies – albeit, in a very broad and hard to characterize way. This is in stark contrast to state privacy and data security laws (such as Delaware’s, California’s or Florida’s), which generally consist of more narrowly-tailored, statutorily-delimited proscriptions.

While consumers and consumer advocates will no doubt be heartened by the Court’s broad read on the FTC’s protective power in the area of privacy and data security, not surprisingly, there are fears from both businesses and legal observers about such a new legal regime. Some of these concerns include:

  • Having the FTC “lurking over the shoulders” of companies to “second guess” their privacy and security policies.
  • A situation where the FTC is, in effect, “victimizing the victim” – prosecuting companies after they’ve already been “punished” by the direct costs and public fallout of a data breach.
  • Lack of a true industry standard against which to define “reasonable” privacy and data security policies.
  • A “checklist culture” (as opposed to a risk-based data security approach) as the FTC’s de facto data security requirements develop through litigation.
  • A wave of class-action lawsuits emboldened by FTC “unfair and deceptive” suits.
  • Uncertainty: case-by-case consent orders that provide little or no guidance to non-parties.

These concerns are definitely real, but likely will not result in much (if any) push-back in Wyndham’s favor in the District Court. That is because, while the FTC may not have asserted power over data security practices in past (as Wyndham made sure to point out in its arguments), there is little in the FTC’s governing charter or relevant judicial history to prevent it from doing so now. Simply put, regulatory agencies can change their “minds,” including regarding what is in their regulatory purview – so long as the field in question is not explicitly beyond their purview. Given today’s new reality of omnipresent social networks and, sensitive, cloud-resident consumer data, we can hardly blame the FTC for re-evaluating its late-90s-era stance.

No Going Back

Uncle Sam is coming, in a clear move to regulate privacy and data security and protect consumers. As highlighted recently in the New York Attorney General’s report on data breaches, the pressure is only growing to do something about the problem of dramatically-increasing data breaches. As such, it was only a matter of time until the Federal Government responded to political pressure and “got into the game” already commenced by the states.

Thus, while the precise outcome of FTC v. Wyndham cannot be predicted, it is overwhelmingly likely that the FTC will “get what it wants” broadly speaking; either with the upholding of its asserted discretionary power, or instead, by being forced to pass more detailed regulations on privacy and data security.

Either way, this case should be a wake-up call to businesses, many of whom are in fact already covered by state laws relevant to privacy and data security, but whom perhaps haven’t felt the inter-jurisdictional litigation risk is significant enough to ensure their policies and practices are compliant with those of the strictest states (such as California and Florida; or even other nations’, such as Canada).

The precise outcome of FTC v. Wyndham notwithstanding, the federal government will henceforth be looking more closely at all data breaches in the country – particularly major ones – and may be under pressure to act quickly and stringently in response to public outcry. But “smaller” breaches will most certainly be fair game as well; thus, small- and mid-sized businesses should take heed as well. That means getting in touch with a certified OlenderFeldman privacy and data security attorney to make sure your business’s policies and procedures genuinely protect you and your users and customers… and put you ahead of the blowing “Wynds of change” of federal regulation.