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eLABORate: High Court Declines to Follow DOL's Interpretation of FLSA Regulations

June 19, 2012

Yesterday, in Christopher v. SmithKline Beecham Corp., the U.S. Supreme Court affirmed that pharmaceutical sales representatives employed by drug companies are exempt from the minimum wage and overtime provisions of the Fair Labor Standards Act under the statute's exemption for "outside salesmen."  The ruling resolved a conflict among federal circuit courts on the issue and marks a major victory for the pharmaceutical industry.  While drug companies have been classifying pharmaceutical sales representatives as exempt for decades, the classification had been recently challenged in numerous courts and, since 2009, the U.S. Department of Labor has sided with employees in arguing that pharmaceutical sales representatives do not satisfy the criteria for exempt outside salesman under FLSA regulations.  The Supreme Court's decision to decline deference to the DOL's interpretation of regulations has a far reaching impact that extends beyond the pharmaceutical industry and will affect the way courts view the DOL's position on interpretations of other FLSA regulations.

In Christopher, pharmaceutical sales representatives who worked for SmithKline argued that they were improperly classified as exempt employees under the FLSA and, as a result, they were unlawfully denied overtime pay.  The dispute in the case centered around a technical application of the statutory provisions and regulations establishing the minimum wage and overtime exemption for "outside salesmen."  Pharmaceutical sales representatives and the DOL argued that, while pharmaceutical sales representatives encouraged doctors to prescribe SmithKline drugs to patients, the pharmaceutical sales representatives legally and practically could not actually consummate a "sale" of the drugs because such sales were prohibited by federal regulations.  The ultimate sale, according to pharmaceutical sales representatives and the DOL, occurred between the retail stores (pharmacies) and the patients.  SmithKline argued that the term "sale" under FLSA statutory provisions and regulations held a broader meaning and that, in the unique regulatory environment within which the pharmaceutical companies operate, the sales representatives made sales within the meaning of the FLSA outside salesmen exemption.

At the trial court level, SmithKline moved for summary judgment on the grounds that sales representatives were exempt from the FLSA's overtime compensation requirement as "outside salesmen." The district court agreed and granted summary judgment in favor of SmithKline. The U.S. Court of Appeals for the Ninth Circuit affirmed.  In a similar action then pending in the U.S. Court of Appeals for the Second Circuit, In re Novartis, the DOL filed an "uninvited" amicus brief asserting that pharmaceutical sales representatives are not outside salesmen. In In re Novartis, the Second Circuit afforded the DOL's interpretation controlling deference and ruled pharmaceutical sales representatives were entitled to overtime pay.  In Christopher, the DOL also filed an amicus brief offering the same interpretation as in In re Novartis, but the Ninth Circuit declined to follow the DOL's position.  The U.S. Supreme Court granted review of the case to resolve the split between the Second and Ninth Circuits and affirmed the judgment of the Ninth Circuit, holding that pharmaceutical sales representatives are properly classified as outside salesmen and thus are exempt from the FLSA's minimum wage and overtime compensation requirements.

The Court began its analysis of the outside salesmen exemption by addressing the level of deference that should be given to the DOL's interpretation of its regulation.  The Court recognized that under prior U.S. Supreme Court precedent, courts generally defer to an agency's interpretation of its own ambiguous regulations, even when that interpretation is advanced in a legal brief  (this deference is known as Auer deference because it derives from the 1997 U.S. Supreme Court case Auer v. Robbins).  However, the Court explained that Auer deference is inappropriate where the agency's interpretation is plainly erroneous or inconsistent with the regulation or when the agency's interpretation does not reflect fair and considered judgment on the matter in question.

The Court concluded that there were strong reasons for the Court to decline deference to the DOL's interpretation of the outside salesmen exemption regulations.  According to the Court, the DOL's interpretation would impose potentially massive liability on SmithKline (and other pharmaceutical companies) for conduct that occurred well before the DOL first announced the interpretation in 2009.  The Court noted that deferral to the DOL's interpretation would seriously undermine the principle that agencies should provide parties with fair warning of the conduct a regulation prohibits or requires.  Further, it would result in the kind of "unfair surprise" against which the Court has long warned.  For decades, the pharmaceutical industry had little reason to suspect that its longstanding practice of treating sales representatives as exempt salesmen transgressed the FLSA and, despite that treatment, the DOL never initiated enforcement actions with respect to pharmaceutical sales representatives. The Court, quoting the Seventh Circuit, stated that while it is possible for an entire industry to be in violation of the FLSA for decades without the DOL noticing, the more plausible hypothesis is that the DOL did not consider the practice to be unlawful.

After the Court determined it was not required to defer to the DOL interpretation, it addressed whether the DOL's interpretation was persuasive, and concluded that it was not.  First, the Court noted that the interpretation in the amicus brief lacked the hallmarks of thorough consideration because there was no opportunity for public comment. The interpretation states that an employee does not make a sale for purposes of the outside salesmen exemption unless he actually transfers title to the property at issue. The Court dismissed this as "flatly inconsistent with the FLSA, which defines sale to mean, inter alia, a consignment for sale" since a consignment for sale does not require a transfer of title.  For those reasons, the Court found the DOL's interpretation to be "wholly unpersuasive."
In light of its conclusion that the DOL's interpretation was neither entitled to Auer deference nor persuasive in its own right, the Court then employed traditional tools of interpretation to determine that SmithKline pharmaceutical sales representatives were exempt outside salesmen.  Starting with the text of the FLSA, the Court determined that the statute and regulations did not furnish a clear answer to the question before it, but did provide interpretive clues. The Court interpreted the phrase "other disposition" in the outside salesman exemption to represent an attempt to accommodate industry-by-industry variations in methods of selling commodities and include those arrangements that are tantamount, in a particular industry, to a paradigmatic sale of a commodity.
The Court explained that, given the unique regulatory environment within which pharmaceutical companies must operate, the nonbinding commitment from a physician to prescribe one of SmithKline's drugs comfortably falls within the catch-all category of "other disposition."  Further, the fact that pharmaceutical sales representatives bear the external indicia of salesmen provided support for the Court's conclusion.  The pharmaceutical sales representatives were hired for their sales experience, received sales training, worked away from the office with minimal supervision, and were rewarded with incentive-based compensation. Lastly, the Court stated that its holding comported with the apparent purpose of the FLSA's exemption for outside salesmen because the pharmaceutical sales representatives earned pay well above minimum wage (an average in excess of $70,000 per year in compensation) and performed work that is difficult to standardize to any time frame and cannot be easily spread to other workers after forty hours in a week.

The U.S. Supreme Court's decision that SmithKline's pharmaceutical sales representatives are exempt from overtime pay undoubtedly marks a major victory for the pharmaceutical industry, which currently employs over 90,000 employees in sales representative positions.  However, perhaps more importantly, the decision provides significant guidance to all employers regarding how courts should view changing (and seemingly partisan) agency interpretations of regulations and the impact of a long history of agency inaction in the face of common industry practices.