Companies and regulators have been waiting since 2012 on the outcome of one cybersecurity-related court case: Federal Trade Commission (FTC) v. Wyndham Worldwide Corp.
Late in 2015, the U.S. Court of Appeals for the Third Circuit gave executives and watchdogs their answer. For the first time, a federal appeals court endorsed the FTC’s ownership of cybersecurity enforcement in the private sector, ruling that the commission can hold companies liable for failing to maintain adequate cybersecurity, even though the commission has not defined minimum cybersecurity standards through rules or regulations.
The Initial Challenge
The FTC initiated its first administrative enforcement actions in 2005 against companies whose allegedly insufficient cybersecurity failed to protect consumer data. The FTC has broad statutory authority to bring enforcement actions, challenging a wide range of allegedly fraudulent, deceptive, or unfair business practices. For an act or practice to be unfair under the law, the resulting consumer injury must be substantial, not reasonably avoidable by consumers, and not outweighed by benefits to consumers or the company’s efforts to remain competitive.
The FTC has articulated its cybersecurity authority in public statements and settlements. But the commission’s decision to bring inadequate cybersecurity practices within its purview largely escaped judicial scrutiny because companies agreed to consent decrees and settlements.
Between 2008 and 2009, Wyndham Worldwide Corporation—a global hotel company—suffered three separate cybersecurity breaches where hackers allegedly obtained payment card information from more than 619,000 consumers, resulting in at least $10.6 million in losses due to fraud.
The FTC filed an amended complaint in August 2012 in federal district court against Wyndham, alleging that it had engaged in unfair and deceptive practices that, “taken together, unreasonably and unnecessarily exposed customers’ personal data to unauthorized access and theft,” according to the filing.
The complaint went on to list 10 unfair practices the FTC accused Wyndham of engaging in, including failing to use firewalls to limit access to its networks, storing payment card information in clear readable text, failing to ensure that its hotels implemented adequate data security policies and practices before connecting to its network, failing to use reasonable measures to detect and prevent intrusions or to conduct security investigations, and failing to follow proper incident response procedures after the first cyberattack in April 2008.
The FTC’s complaint alleged that Wyndham’s statements about its cybersecurity practices were deceptive and that its inadequate cybersecurity practices were an unfair trade practice.
In response, Wyndham moved to have the case dismissed, focusing on the argument that the FTC does not have the authority to apply the prohibition against unfair trade practices to data security.
However, Judge Esther Salas of the U.S. District Court for the District of New Jersey rejected Wyndham’s motion, holding that the FTC had the authority to regulate companies’ failure to maintain reasonable and appropriate data security. Wyndham appealed to the Third Circuit, arguing that the lower court erred in holding that inadequate data security can be an unfair trade practice.
Wyndham contended that even if the court found that inadequate cybersecurity could be an unfair trade practice, it should not be held liable because it did not have fair notice that the meaning of prohibited unfair trade practices could include inadequate data security practices.
Wyndham advanced several arguments for the proposition that inadequate data security practices cannot be “unfair” acts or practices under the law. Among these, Wyndham argued that a “practice is only ‘unfair’ if it is ‘not equitable’ or is ‘marked by injustice, partiality, or deception.’”
Wyndham also argued that it was not treating customers unfairly when it was victimized by hackers. But the court discounted this argument as well, reasoning that even though the hackers were the most proximate cause of consumers’ injury, the cybersecurity intrusions were reasonably foreseeable and facilitated by Wyndham’s allegedly inadequate data security practices.
Wyndham finally argued that even if cybersecurity currently fits under the FTC’s jurisdiction, subsequent legislation should be interpreted to exclude cybersecurity from FTC jurisdiction. Wyndham pointed to a 2003 amendment to the Fair Credit Reporting Act, the Gramm-Leach-Bliley Act, and the Children’s Online Privacy Protection Act, arguing that there was no reason for Congress to enact these laws if the FTC could already regulate cybersecurity.
The court, however, rejected this argument as well, finding that Congress had independent reasons to enact each of these pieces of legislation, which were not inconsistent with the FTC’s authority to regulate cybersecurity.
Notably, though, the court did not decide whether Wyndham’s data security practices were unfair. The court’s ruling was limited only to whether inadequate data security practices could be unfair, and it left open the possibility that a lower court would determine whether Wyndham’s allegedly inadequate data security constituted an unfair practice.
However, a lower court will never answer that question because Wyndham reached a settlement with the FTC in December 2015. Under the terms of the settlement—which did not include financial penalties or require an admission of liability—Wyndham is required to establish and maintain a comprehensive information security program that conforms to the Payment Card Industry Data Security Standard. It also must undergo annual audits of its data security program.
The FTC’s win in the Third Circuit in Wyndham was an endorsement of the commission’s emergence as the nation’s leading private sector cybersecurity regulator. The ruling confirmed that all businesses subject to the FTC’s general consumer protection jurisdiction are also subject to its cybersecurity regulation.
While the court did not articulate a minimum cybersecurity standard, it did tell businesses where to look: the FTC guidebook—Protecting Personal Information: A Guide for Business—and the FTC’s consent decrees in administrative cases raising unfairness claims based on inadequate corporate cybersecurity.
The Third Circuit commented that these sources of guidance—such as the guidebook’s specific recommendations to encrypt sensitive information, use firewalls, require strong passwords, and implement a breach response plan—“could certainly” help “determine in advance” what conduct might constitute an unfair practice.
The FTC guidance on these topics is found in its guidebook and a second publication, Start with Security: A Guide for Business, in which the commission attempts to synthesize the lessons learned from the more than 50 FTC data security settlements into 10 key takeaways.
While the FTC does not explore the nuances of various encryption technologies or firewall applications, its public guidance can be an important tool to facilitate critical discussions with senior management about the cybersecurity policies and procedures all businesses should consider.
Firewalls. The FTC alleged that Wyndham’s failure to use firewalls to segment and limit access to its networks was an unfair trade practice. A firewall can be a simple, yet effective, way to protect computers and networks from hacker attacks.
Companies should consider whether to install a “border” firewall to separate their networks from the Internet and set access controls to allow only trusted employees with a legitimate business need to access the network, according to the FTC guidebook.
The “protection a firewall provides is only as effective as its access controls,” the guidebook explains, and thus those controls should be reviewed regularly to ensure access is granted only to appropriate personnel.
Passwords. In addition to firewalls, the FTC also alleged that Wyndham failed to effectively use another basic security precaution: secure passwords. Specifically, the FTC charged that Wyndham allowed servers using well-known default user IDs and passwords to connect to Wyndham’s network and failed to require the use of complex passwords.
The FTC has outlined, in some detail, what it describes as “sensible password hygiene.” In its guidebook, the commission explains that strong passwords are long and include a mix of letters, numbers, and characters—not common dictionary words.
Furthermore, businesses should require that passwords be changed frequently, be new each time, and be different from user names. Default passwords should be immediately changed, and employees should be prohibited from posting passwords near their workstations or sharing passwords with anyone, especially via unencrypted e-mail.
While these best practices may seem like common sense, they are frequently ignored. For example, in a 2011 case against Twitter, the FTC alleged, according to Start with Security, that the “company let employees use common dictionary words as administrative passwords, as well as passwords they were already using for other accounts.”
These lax practices left “Twitter’s system vulnerable to hackers who used password-guessing tools, or tried passwords stolen from other services in the hope that Twitter employees used the same password to access the company’s system,” the guidance explained.
Data transmission. The FTC’s complaint against Wyndham alleged that it improperly stored payment card information in clear, readable text. Sensitive information, like payment card data, stored on a computer network, on disks, or on portable storage devices should be encrypted.
Furthermore, when a business receives or transmits credit card information or other sensitive financial data, it should consider using Transport Layer Security/Secure Sockets Layer (TLS/SSL) or another secure connection that protects the information while in transit. Data must be secured not only when traveling between a business and third parties, but also when it is being e-mailed or stored within the company’s network.
In the 2005 Superior Mortgage Corporation case, for example, the FTC said that “the company used SSL encryption to secure the transmission of sensitive personal information between the customer’s Web browser and the business’s website server,” according to Start with Security. “But once the information reached the server, the company’s service provider decrypted it and e-mailed it in clear, readable text to the company’s headquarters and branch offices.”
The FTC has said that businesses should use industry-tested and -accepted methods of securing sensitive data. In a 2008 complaint against ValueClick, the FTC alleged that “the company stored sensitive customer information collected through its e-commerce sites in a database that used a non-standard, proprietary form of encryption,” according to Start with Security.
“Unlike widely accepted encryption algorithms that are extensively tested, the complaint charged that ValueClick’s method used a simple alphabetic substation system subject to significant vulnerabilities,” the FTC explained. “The company could have avoided these weaknesses by using tried-and-true industry-tested and accepted methods for securing data.”
Access. The FTC complaint against Wyndham also alleged that it failed to properly restrict third-party vendors’ access to its network. While business needs may dictate that a company provide vendors and other third parties access to its network, policies and procedures must be in place to ensure that third-party access is secure and restricted to appropriate parties.
The FTC has brought several enforcement actions against companies that, even if they adequately secured their own networks, failed to ensure that vendor access to those networks had appropriate security.
For example, in a 2008 case, Premier Capital Lending allegedly activated a remote login account for a client without first assessing the client’s security, which was later exploited to access and take personal information from the business’s system.
Similarly, in a 2011 case against Settlement One, the company allegedly permitted clients to access information through the business’s online portal without first ensuring that the clients had basic security measures, like firewalls and updated antivirus software.
Not only should businesses demand that their service providers maintain reasonable security measures, but that commitment should also be written into contracts.
Planning. The FTC also alleged that Wyndham failed to use reasonable measures to detect and prevent intrusions into its network or to conduct security investigations. Moreover, Wyndham allegedly failed to follow proper incident response procedures after it fell victim to the first of its three cyberattacks.
While there is no one-size-fits-all approach to data security, the FTC has outlined the critical elements of a plan for responding to security incidents. A senior staff member should be designated to coordinate and implement response to a cybersecurity incident. When an incident occurs, there should be no question regarding who is spearheading the response.
Even if a business outsources the technical aspects of investigating and remediating a cybersecurity incident, the business should consider in advance which parties it will notify in the event of an incident.
As the FTC guidebook notes, a business may need to notify consumers, law enforcement, regulatory agencies, customers, credit bureaus, and other affected businesses. It is far easier to develop a plan to meet these notification obligations before an incident occurs than to scramble to figure out who must be notified when the response to a cybersecurity incident is already under way.
Even though FTC guidance, complaints, and consent decrees are “neither regulations nor adjudications on the merits,” as the court noted in Wyndham, they nevertheless put businesses on notice that the FTC will pursue unfairness claims based on certain inadequate cybersecurity practices.
Cybersecurity professionals already comb through these documents trying to ascertain the specific data security practices that may be required. The court’s endorsement of these sources of guidance makes reference to these materials all the more important and, in the absence of relevant rules or regulations, will likely give the FTC significant influence in defining minimum cybersecurity standards for American businesses.
The Industry Impact
The Third Circuit’s endorsement of the FTC’s cybersecurity authority provides an important opportunity for U.S. businesses to evaluate their own cybersecurity policies and practices.
While such an evaluation is especially important for businesses already subject to the FTC’s general consumer protection jurisdiction, it is wise for all businesses to become familiar with what may become the private sector’s de facto cybersecurity standard.
The FTC’s ability post-Wyndham to bring cybersecurity enforcement actions for deception and unfairness means that it can initiate an enforcement action against any business, subject to its jurisdiction, whose cybersecurity practices it has reason to believe are unfair, even if the company’s statements about those practices are accurate.
Taking the allegedly unfair practices in Wyndham as an example, the FTC could bring an enforcement action for unfair trade practices solely on the basis of data security deficiencies, such as failing to employ firewalls, encrypt payment card information, or require strong passwords.
Because the FTC has not promulgated a rule or regulation defining fair cybersecurity standards, businesses are left to sift through the materials pointed to in Wyndham—including the FTC’s various guidance documents and consent decrees—to figure out what cybersecurity policies and practices they must have in place to avoid a potential FTC enforcement action alleging inadequate cybersecurity.
The commission’s statement marking its 50th data security settlement offer also conveys, in general terms, its expectations.
“The touchstone of the commission’s approach to data security is reasonableness: a company’s data security measures must be reasonable and appropriate in light of the sensitivity and volume of consumer information it holds, the size and complexity of its business, and the cost of available tools to improve security and reduce vulnerabilities,” the FTC said in a press release. “Through its settlements, testimony, and public statements, the commission has made clear that it does not require perfect security; reasonable and appropriate security is a continuous process of assessing and addressing risks; there is no one-size-fits-all data security program; and the mere fact that a breach occurred does not mean that a company has violated the law.”
Post-Wyndham, the stakes for implementing adequate cybersecurity practices are higher than ever. In the absence of other private sector cybersecurity standards, the minimum standard articulated in FTC consent decrees is likely to become the de facto cybersecurity standard applied in other areas, including shareholder lawsuits, enforcement actions by state attorneys general and other regulators, and cybersecurity insurance providers.
Amid rising cybersecurity risk and increased attention from a variety of regulators, the Wyndham court’s reliance on FTC guidance and consent decrees as the source of a minimum cybersecurity standard suggests that businesses should be looking closely at how their own cybersecurity policies and practices measure up.
Adam S. Lurie is a litigation partner at Cadwalader, Wickersham & Taft LLP, specializing in representing companies in civil, criminal, and regulatory disputes. Keith M. Gerver and Peter T. Carey are associates at Cadwalader, Wickersham & Taft LLP’s White Collar Defense and Investigations group, based in Washington, D.C. They advise clients in a variety of complex criminal, civil, and regulatory matters, concentrating on government enforcement actions and internal corporate investigations.