The opinion of the court was delivered by: Alvin K. Hellerstein, U.S.D.J.
OPINION AND ORDER GRANTING JUDGMENT DISMISSING COMPLAINT
In 1998, after many years of frustrating federal, state, and private litigation, the attorneys general of forty-six States entered into a Master Settlement Agreement with the major cigarette companies. The New York Supreme Court, reviewing the settlement, found that it went "well beyond what could have been achieved in plaintiffs' fondest dreams for the result after a protracted and risky trial," and that it "painstakingly accommodates the public interest" by compensating the State for past and future public health expenditures caused by cigarette smoking, while discouraging future cigarette consumption. New York v. Philip Morris, Inc., 686 N.Y.S.2d 564, 569 (N.Y. Sup. Ct. 1998), aff'd, 693 N.Y.S.2d 36 (N.Y. App. Div., 1st Dep't 1999).
Ten years have passed since the Master Settlement Agreement became effective. In that time, New York has reaped substantial benefits from it, consistent with the public purposes that animated the settlement. Most prominently, the State has received nearly $7.7 billion in compensation for health care costs, while the number of cigarettes sold each year in the United States has declined by 24%, from 484.5 cigarettes sold in 1997 to 365.8 billion cigarettes sold in 2007.
This lawsuit began in 2002, almost seven years ago. It has been to the Court of Appeals twice, resulting in three opinions. I expressed my views of the probable merits in largely denying Plaintiffs' motion for a preliminary injunction. Since then, and after remand from the Court of Appeals, the parties presented a full record to me and moved for judgment pursuant to Fed. R. Civ. P. 52. At my request, the parties supplemented the record at a three-day evidentiary hearing. I have now heard all relevant arguments, and issue this decision as a final determination of the issues.
Based on the supplemented record, the three opinions issued in this case by the Court of Appeals, and my own findings and conclusions issued in an opinion and order dated September 14, 2004, I hold as follows:
1. Plaintiffs have failed to show that the Master Settlement Agreement and its implementing legislation restrain the ability of non-participating cigarette manufacturers to compete.
2. Plaintiffs have failed to show that the Master Settlement Agreement and its implementing legislation violate the Commerce Clause of the United States Constitution.
3. Plaintiffs have failed to show that New York's Allocable Share Release amendment restrains competition or violates the Commerce Clause.
4. Plaintiffs have suffered no injury to their business or property, actual or threatened.
5. Plaintiffs are entitled to no legal or equitable relief.
Accordingly, for the reasons discussed in this opinion, I grant judgment to Defendants, dismissing the case against them, and dissolve the preliminary injunction that I previously granted.
At the outset of this case, I dismissed the Complaint, ruling that it failed to allege a legally sufficient claim for relief under either the federal antitrust laws or the Commerce Clause of the United States Constitution. Order of May 15, 2002. The Court of Appeals affirmed my ruling as to the Commerce Clause claim, but reversed my ruling as to the antitrust claim and ordered that portion of the Complaint reinstated on remand. 357 F.3d 205 (2d Cir. 2004) (Freedom Holdings I), reh'g denied & opinion revised, 363 F.3d 149 (2d Cir. 2004) (Freedom Holdings II). After remand and discovery, Plaintiffs moved for a preliminary injunction against enforcement of the Master Settlement Agreement and its implementing legislation in New York. I denied most of the motion, but enjoined the effectiveness of the recent Allocable Share Release amendment to the New York Public Health Law. 447 F. Supp. 2d 230 (S.D.N.Y. 2004) (Freedom Holdings III). The Court of Appeals affirmed, holding that Plaintiffs had failed to show irreparable injury, except as regards the Allocable Share Release amendment. 408 F.3d 112 (2d Cir. 2005).
After the second remand, Plaintiffs moved to amend the Complaint to add a count alleging a Commerce Clause violation. I allowed the amendment because the Court of Appeals had recently reversed the dismissal of a similar Commerce Clause claim in Grand River Enters. Six Nations, Ltd. v. Pryor, 425 F.3d 158, 169-73 (2d Cir. 2005).
At the close of discovery, both Plaintiffs and Defendants moved for summary judgment pursuant to Fed. R. Civ. P. 56 or judgment pursuant to Fed. R. Civ. P. 52. I agreed to decide the case as if after a bench trial pursuant to Rule 52. After arguments, presentation of evidence, and submissions of updated economic data, I now deliver my findings and conclusions on a complete record.
In addition, I have reviewed, de novo, the extensive factual record before me in Freedom Holdings III, as reintroduced and supplemented to support the present motions. Except as specifically indicated below, I adhere to and incorporate here the findings and conclusions of Freedom Holdings III.
In Freedom Holdings III, I presented an extensive summary of the MSA, its interconnecting provisions, and its purposes and applications. 447 F. Supp. 2d at 233-42. As the parties have pointed out no error, I need not repeat that analysis in fresh detail. I incorporate it by reference, as the basis of this decision as well, and offer an abridged description here.
The Master Settlement Agreement ("MSA") resolved massive litigation brought by the Attorneys General of forty-six states (including New York), the District of Columbia, and several territories, against the four largest cigarette manufacturing and marketing companies, Philip Morris, Inc., R.J. Reynolds Tobacco Co., Brown & Williamson Tobacco Co., and Lorillard Tobacco Co.*fn1 The States alleged that cigarette smoking had caused them to incur billions of dollars in Medicaid and other public health costs, and sought recovery of those costs and injunctive relief to reduce future damage. They reached an agreement with the companies and entered into the MSA on November 23, 1998. The MSA required the four major cigarette companies, designated "Original Participating Manufacturers," or OPMs, to make substantial payments to the States pursuant to several formulas, immediately and over time. Collectively, they were to pay about $2.4 billion in the first year and about $225 billion over the next twenty-five years. In exchange, the States surrendered past, present, and future tobacco-related claims against the OPMs. The MSA contemplated that the OPMs would meet their payment obligations by increasing the prices of their cigarettes, thereby reducing future public cigarette consumption. The amount owed by each OPM would be adjusted annually to account for inflation and changes in the OPMs' relative market shares. See Freedom Holdings III, 447 F. Supp. 2d at 234-35.
In approving the settlement, the New York Supreme Court found that the MSA achieved New York's most important goals when it first filed suit. New York v. Philip Morris, 686 N.Y.S.2d at 568. Most plainly, the MSA compensated New York for past public health expenditures while promising a revenue stream to pay for future care. In addition, by charging more for cigarettes, the OPMs promoted the public health by discouraging present smokers from continuing and potential smokers from beginning. The MSA's other provisions also advanced the same public health goal by banning advertising and sales of cigarettes to minors, requiring greater disclosure of the health effects of tobacco and nicotine, and requiring the OPMs to fund educational and clinical programs that publicize and treat the health consequences of smoking.*fn2
The MSA "goes well beyond what could have been achieved in plaintiffs' fondest dreams for the result after a protracted and risky trial," the New York Supreme Court concluded, "and . . . painstakingly accommodates the public interest." Id. at 569; see N.Y. Pub. Health Law § 1399-nn(5).
The MSA encouraged other cigarette companies to participate in the settlement as "Subsequent Participating Manufacturers," or SPMs. It provided a "grandfathered" benefit to companies that joined the MSA within sixty days of November 23, 1998, its execution date. These grandfathered SPMs incur payment obligations only if their share of the total cigarette market exceeds the greater of their 1998 share or 125% of their 1997 share. Those payment obligations, like those of SPMs that joined the MSA after the sixty day period, are determined according to an arithmetical formula that results in payments similar to those required of OPMs.*fn3
Together, the OPMs and SPMs are designated "Participating Manufacturers," or PMs.
The States and the OPMs anticipated that the design of the MSA was vulnerable to the actions of companies that chose not to join it, designated "Non-Participating Manufacturers," or NPMs. If NPMs could sell cigarettes at prices that did not reflect the settlement burden assumed by PMs, the entire structure of the MSA would be defeated, and the fundamental goal of reducing cigarette consumption would be frustrated. To solve this problem, the MSA provided for States to adopt legislation known as "Escrow Statutes," which require NPMs to make payments into state-specific escrow accounts that are somewhat less than, but roughly equivalent to, the payments required by PMs. These payments prevent NPMs from taking advantage of the MSA by significantly undercutting PMs on price, and assure the States that funds will be available to pay damages if the States prevail in lawsuits against NPMs. See N.Y. Pub. Health Law § 1399-nn(6) ("It is thus in the interest of the state to require that [NPMs] establish a reserve fund to guarantee a source of compensation and to prevent such manufacturers from deriving large, short-term profits and then becoming judgment-proof before liability may arise."). Thus, the Escrow Statutes preserve the MSA and the public health benefits that it sought to foster.
If a State fails to enact or "diligently enforce" an Escrow Statute, it exposes itself to the MSA's "NPM Adjustment" provision, which can reduce OPMs' MSA payments. MSA Art. IX(d). If the OPMs prove that they collectively lost market share to the NPMs, that the MSA was a "significant factor" in that loss, and that the State in issue failed to enact or diligently enforce an Escrow Statute, the OPMs can reduce their payments by three times the amount of market share loss over 2%. MSA Art. IX(d)(1). To date, no NPM adjustment has been granted, although The Brattle Group, the firm tasked with making the "significant factor" determination, concluded in 2003, 2004, and 2005 that the MSA had been a "significant factor" in the OPMs' loss of market share. See Pl. Exh. 362, ¶ 228. The Brattle Group's determination, however, must be paired with an arbitrator's finding that a State failed to "diligently enforce" its Escrow Statute, which has yet to occur.
In 2001, to aid enforcement of its Escrow Statute, New York passed its Contraband Statute. N.Y. Tax Law §§ 480-b, 481(1)(c), 1846. The Contraband Statute requires every cigarette manufacturer selling cigarettes in New York to certify annually that it is either making payments under the MSA as a PM or complying with the Escrow Statute as an NPM. A manufacturer that fails to certify under the Contraband Statute is denied state tax stamps, which allow a manufacturer to sell cigarettes without incurring regulatory and monetary penalties.
The PMs deposit their annual payments into a national escrow account, from which each State receives its "allocable share." This share, fixed in the MSA, generally represents the State's proportional burden of past and future damages. Freedom Holdings III, 447 F. Supp. 2d at 236; see MSA Exh. A. Initially, Escrow Statutes provided that NPMs could claim a refund of their annual escrow payment to the extent that the amount they paid exceeded the State's allocable share of total national payments. This Allocable Share Release provision allowed NPMs to reduce their overall obligations by concentrating their sales within a single State or a few States, thereby becoming entitled to refunds from the States and lowering their marginal escrow payments significantly below the costs incurred by OPMs. For example, if an NPM sold cigarettes only in New York, which has an allocable share of 12.76%, it could receive a credit for all per-cigarette payments under New York's Escrow Statute that exceed 12.76% of its total sales, despite selling 100% of its cigarettes in the State.
The States, including New York, began to repeal the Allocable Share Release provisions of their Escrow Statutes, thereby eliminating the yearly refunds. In Freedom Holdings III, I enjoined New York from repealing its Allocable Share Release provision. See N.Y. Pub. Health Law § 1399-pp, as amended, 2003 N.Y. Laws 666, eff. Oct. 15, 2003. I was concerned, given the paucity of market data, that the repeal could "jeopardize the ability of the NPMs to compete with the SPMs and OPMs," and I considered that more experience was needed. 447 F. Supp. 2d at 246. Since then, every MSA Statebut one has likewise amended its Escrow Statute to preclude any yearly recovery of escrowed funds, to prevent market leveraging by regional NPMs at the expense of PMs.
III. Developments Since Freedom Holdings III
In this section, I present new developments and updated data from the four years since my decision in Freedom Holdings III. PricewaterhouseCoopers, the independent auditor appointed under the MSA, charts the annual tax costs of cigarettes from reports of federal excise taxes paid by manufacturers and sellers of cigarettes, as well as U.S. Customs data. Freedom Holdings III presented the relevant data, comparative ...