Romance, Historical, Contemporary, Paranormal, Young Adult, Book reviews, industry news, and commentary from a reader's point of view

Friday News: Harlequin sued in a class action for underpayment of...

Harlequin

 

Introduction

Thanks to all who gave me the heads up although Wicked Pixie was the first so she gets the credit.  The lawyers for the Harlequin Class Action suit set up a website and loaded a file stamped copy of the petition yesterday.  I went through it and will summarize it for you.  The suit is for books signed to contract between 1990 and 2004 and covers only digital royalties.

Two Bit Summary

For purposes of this lawsuit, there are two main players: Harlequin Enterprises (hereinafter “HQE”) and Harlequin Switzerland.  The Harlequin authors bringing this suit assert that for all intents and purposes HQE and Harlequin Switzerland are essentially one corporation and therefore, they are entitled to 50% of the net proceeds received by HQE for the sale of their ebook instead of the 50% of net proceeds received by Harlequin Switzerland that they are now paid.

Example

The lawsuit, using an $8.00 figure (not sure why they use that instead of an actual cover price like $4.95 but whatever), asserts that the authors are entitled to $2 per sale instead of the 24 to 32 cents they currently receive.  Let’s use actual dollars here because I think that the value of the damages is important in evaluating risk. The digital list price of Judith Arnold’s “Father Found” is $4.99.  The discounted price is $4.19 at Amazon.  Assuming no other costs in the net receipts calculation and that Harlequin gives Amazon a 50% discount, the lawsuit is asserting that the author is owed $1.24 versus the $.24 to 32 cents that Arnold receives now.

Longer Summary

This lawsuit covers contracts between 1990 to 2004.  The date, I believe, is because after 2004 there was a specific provision for ebook royalties.  For contracts betweet 1990 and 2004, authors are being paid for royalties under a clause known as “All Other Rights” which I will talk about below.  While some books were published digitally prior to 2011, the main concern would be for sales of digital books that coincided with the Harlequin Treasury launch in 2011.

The authors claim on behalf of all Harlequin authors similarly situated that Harlequin Switzerland corporation is an entity created solely to enjoy certain tax benefits. Harlequin established one Swiss company called Harlequin Enterprises BV (hereinafter “Swiss 1″) in 1983. In 1994, Harlequin established a second Swiss entity called Harlequin Books S.A. (hereinafter “Swiss 2″) Together the two Swiss companies have about 10 employees (5 each says the petition).  The petition asserts that Harlequin Switzerland exists for tax purposes only.

The contracts authors entered into, beginning in 1983, identify Swiss 1 as the “Publisher”. Copyright pages, beginning in 1994, identify HQE publishing the book by arrangement with Swiss 2.

The 1990-2004 contracts have an “All Other Rights” clause.

“On all other rights exercised by Publisher or its Related Licensees fifty percent (50%) of the Net Amount Received by Publisher for the license of said rights by Publisher from a Related Licensee shall, in Publisher’s estimate, be equivalent to the amount reasonably obtainable by Publisher from an Unrelated Licensee for the license or sale of said rights.”

The “Other Rights” are defined as follows:

If Publisher licenses, sublicensees or sells to an Unrelated Licensee any of the following rights to the Work anywhere in the world, in any language, Author’s and Publisher’s share of net amount received by Publisher for said license, sublicense or sale shall be apportioned as follows…Any other rights to reproduce, adapt, publish or otherwise deal in any manner whatsoever now existing or that may hereafter come into existence  [Author's share] 50% [Publisher's Share] 50%.

In 2011, HQE sent a letter to its authors declaring that the ebook royalties would be paid pursuant to the AOR clause.  HQE told authors that the Net Amount received by Swiss 2 was 6-8% of cover price and thus authors would get 3-4% of the cover price.  The lawsuit asserts that because HQE is really the entity playing the role of Publisher by acquiring, editing, promoting, packaging, marketing, licensing and sub licensing the book that the split should be 50% of what HQE receives; not 50% of what Swiss 2 receives.

While not pled as a Piercing the Corporate Veil suit, that is essentially what it is.

What is Piercing the Corporate Veil?

This is a legal doctrine that allows the plaintiffs to tear aside Swiss 2′s corporate identity and put HQE in its place.  A good case to consider when evaluating this claim is the 2008 decision of NetJets Aviation, Inc. v. LHC Communications LLC, 537 F. 3d 168 (2nd Cir. 2008)  In NetJets, the Second Circuit (Circuit where NY resides) had to evaluate whether LHC was the alter ego for another entity.  NetJets is a company that offers essentially timeshares of private planes.  It entered into an agreement to provide access to a private plane with a company called LHC Communications.  LHC Communication severed the contract after a year and NetJets wanted LHC to pay up. LHC declared it had no money.  NetJets pursued Laurence S. Zimmerman personally, asserting that Zimmerman was LHC’s alter ego and thus responsible for its debts.

This is the standard for proving the alter ego claim set forth by NetJets and fairly close to what the Authors will have to prove against HQE and Swiss 1 and 2.  (All citations removed to make it easier to read)

To prevail under the alter-ego theory of piercing the veil, a plaintiff need not prove that there was actual fraud but must show a mingling of the operations of the entity and its owner plus an “overall element of injustice or unfairness.”

“[A]n alter ego analysis must start with an examination of factors which reveal how the corporation operates and the particular defendant’s relationship  to that operation. These factors include whether the corporation was adequately capitalized for the corporate undertaking; whether the corporation was solvent; whether dividends were paid, corporate records kept, officers and directors functioned properly, and other corporate formalities were observed; whether the dominant shareholder siphoned corporate funds; and whether, in general, the corporation simply functioned as a facade for the dominant shareholder.”

“[N]o single factor c[an] justify a decision to disregard the corporate entity, but … some combination of them [i]s required, and … an overall element of injustice or unfairness must always be present, as well.”

Simply phrased, the standard may be restated as: “whether [the two entities] operated as a single economic entity such that it would be inequitable for th[e] Court to uphold a legal distinction between them.”

Our Court has stated this as a two-pronged test focusing on (1) whether the entities in question operated as a single economic entity, and (2) whether there was an overall element of injustice or unfairness.  Finally, we note that the plaintiff need not prove that the corporation was created with fraud or unfairness in mind. It is sufficient to prove that it was so used.

NetJets was able to show that Zimmerman and LHC were essentially the same entity and that Zimmerman was using LHC to avoid debts.  The evidence (and this was in a summary judgment motion so all the evidence was read in a light most favorable to NetJets) showed that Zimmerman provided the capital to LHC in the amount of $20,100; that LHC invested millions of dollars provided by Zimmerman; that any additional capital needed by LHC to run was provided by Zimmerman and that Zimmerman took money out of LHC whenever he liked.  LHC’s only other officer besides Zimmerman was an employee of Zimmerman.  LHC’s office space was shared with Zimmerman’s other companies; many of the LHC employees worked for Zimmerman. Zimmerman controlled or dominated LHC.

The Harlequin lawsuit asserts that HQE dominated and controlled the Publishing aspect of the books.

Is this a legitimate claim?

Someone asked me this question on Twitter and I’m uncertain how to respond.  It’s not a frivolous claim.  It is a serious claim and a decent legal theory.  Whether Harlequin Authors will win is another question.  Piercing claims are notoriously difficult. I’ve only handled a couple of them and the winning claims largely rested on proving that the corporations shared the same board members, the same employees, did not keep regular minutes and intermingled assets.  I don’t see those allegations here. Instead, the allegations are that HQE did all the work of a Publisher and thus should be deemed the Publisher.  That’s not the traditional evidence of a piercing claim.  This is not to say that there aren’t cases out there like it, only that I am not familiar with them.

The money being asserted in damages is quite low. There are maybe 5,000 books in question and assuming those books have sold 100,000 copies in total (the Harlequin Treasury titles don’t seem to be generating much interest as far as I can tell) and assuming that the authors are owed about $1.00 per sale to a customer, the damages are fairly low.  The real cost factor here may be the attorneys’ fees.  Attorneys’ fees in class action suits are in the millions of dollars.  Oftentimes, when attorneys’ fees are part of an award, defendants will settle just to avoid the astronomical legal bill.   Authors likely want Harlequin to just sever the contracts and allow the authors to self publish them.

It’s hard to say what the outcome will be.

What’s Next

Harlequin’s answer will need to be filed within 21 days of the complaint being served. Given that the Harlequin entities are outside the U.S., I believe the federal rules allow 90 days to respond.

Two questions

1) Why didn’t the suit assert per Rosetta case that Swiss 1 and Swiss 1 didn’t have the rights to ebook publication?  This very issue is being litigated by Open Road and Jean Craighead George against HarperCollins.  The Rosetta case occurred back in 2000 and 2001.  Rosetta was sued by Random House for selling digital copies of books Random House felt was under contract.  Random House moved for an injunction to halt the sales but the court refused to grant it.   The Second Circuit upheld the denial of the injunction:

But the law of New York, which determines the scope of Random House’s contracts, has arguably adopted a restrictive view of the kinds of “new uses” to which an exclusive license may apply when the contracting parties do not expressly provide for coverage of such future forms. In any case, determining whether the licenses here in issue extend to ebooks depends on fact-finding regarding, inter alia, the “evolving” technical processes and uses of an ebook, Random House, 150 F.Supp.2d at 615 n. 5, and the reasonable expectations of the contracting parties “cognizant of the customs, practices, usages and terminology as generally understood in the ? trade or business” at the time of contracting. ? Without the benefit of the full record to be developed over the course of the litigation, we cannot say the district court abused its discretion in the preliminary way it resolved these mixed questions of law and fact.

2) Why didn’t the suit assert a fraud claim since piercing ordinarily isn’t allowed unless improper conduct occurs.  

Those are my monday morning quarterbacking thoughts.  I was told by one author that the Author lawyers were told to proceed with the strongest legal theory.  My practice was always include as many counts of wrongdoing as possible.  There are three cases, it is said.  The one the client brings to you.  The one you prep for trial and the one you actually try.  They are all a little different.

Jane Litte is the founder of Dear Author, a lawyer, and a lover of pencil skirts. She spends her downtime reading romances and writing about them. Her TBR pile is much larger than the one shown in the picture and not as pretty. You can reach Jane by email at jane @ dearauthor dot com

16 Comments

  1. Sheryl Nantus
    Jul 20, 2012 @ 06:06:19

    Thanks for the great analysis and legalese help!

    “Authors likely want Harlequin to just sever the contracts and allow the authors to self publish them.”

    I would suggest this is probably the end goal here – to get their rights back. Whatever money they may recoup sounds like it’ll barely cover the lawyers’ costs.

    Should be an interesting RWA next week…

    ReplyReply

  2. Courtney Milan
    Jul 20, 2012 @ 07:03:21

    I think that Claim 6 is not a piercing the corporate veil type claim, but a breach of contract claim that honestly, I think is easier to win that the earlier ones.

    Claim 6 says that the contract requires that licenses made to related licensees must be for the amount that could be reasonably obtainable from an unrelated licensee for the same sale. At this point, Harlequin Switzerland can get licenses for around 50% of net receipts. So a license to HQE for 6% of net receipts is not remotely like what can be reasonably obtained from an unrelated licensee.

    For this one, they don’t have to prove any of the piercing the corporate veil factors–they just have to demonstrate that the contract requires that a license given to HQE must be for what could be “reasonably obtained” from an unrelated licensee, and that they could reasonably obtain substantially more from an unrelated licensee.

    My sense is that this is the strongest of the arguments they’re making, and I’m not sure why it’s backloaded.

    ReplyReply

  3. Jane
    Jul 20, 2012 @ 08:05:54

    Here’s my confusion. I read the petition (and since there is no contract attached I can’t discern the language for myself) as saying Harlequin Switzerland was receiving net receipts of 6-8% of the cover price. HQE is receiving something more, obviously. Using the 4.99 as an example, from Amazon, HQE would be receiving (in round numbers) $2.50. Isn’t HQE saying in its 2011 letter to authors that Harlequin Switzerland licenses the product to HQE and then HQE sends the net receipts back to Harlequin Switzerland?

    Setting that aside for the moment, I don’t think we can say that the amount HQE could get for a reasonably obtained non related licensee is necessarily 50%. I don’t think you are saying that either, only that the amount would be something more than 6-8% off the cover (which I think translates into something like 25% of the net receipts).

    ReplyReply

  4. Nadia Lee
    Jul 20, 2012 @ 09:10:19

    @Jane:
    I don’t think you are saying that either, only that the amount would be something more than 6-8% off the cover (which I think translates into something like 25% of the net receipts).

    Actually 6% cover is only about 12% net, assuming that HQ gets 50% cover from ebook vendors.

    This is how it breaks down –

    Hypothetical cover price: $4.99
    HQE receives 50% from ebook vendors: $2.50
    The inter-company licensing model (let’s use 6%): HQ Switzerland gets $0.30.
    The author’s cut is $0.15 per ebook sold.

    Like what Courtney said — 6-8% cover is VERY low. Most Big 6 are paying 25% net to authors for ebook sales, so it’s probably safe to assume that a company like Harlequin would try to get at least that much if they’d been dealing with non-affiliated companies.

    If Harlequin Switzerland had licensed ebook rights for 25% of net –

    Cover price: $4.99
    Licensee’s cut from Amazon: $2.50 under wholesale. $3.49 under agency.
    Harlequin’s cut from the licensee: $0.62 under wholesale. $0.87 under agency.
    Author’s cut: $0.31 under wholesale. $0.43 under agency.

    ReplyReply

  5. Romance Slut
    Jul 20, 2012 @ 09:16:09

    Thanks for giving such a clear description of this case. My own (completely ignorant) opinion is that this seems to have been a long time coming. For the average reader, the internet and digital publishing has meant that not only is easier to access any book at any time either by buying or lending, but it’s also made it easier to appreciate the process authors have to go through to get their work into the hands of readers. It was always a complete mystery to me how that paperback/hardback got into my sweaty paws, and how my $8.99 was divided up, but now authors are willing to share how much they actually get per book, and, like most readers, I’m sure, I’m pretty horrified at how little it is. And then to do some fancy-schmancy international accounting trickery to make sure that authors get practically nothing – that seems (a) cheap and (b) desperate. Why do publishers pay their authors so little? What are they hoping to achieve? It doesn’t strike me as a very sustainable business model. As ignorant as I am of the publishing industry, even I know that where there is a business opportunity, small businesses find a way through, and it seems to me that publishers are simply incentivizing authors to create a whole independent publishing network of editors, graphic designers, cover artists, digital formatting wizards…

    ReplyReply

  6. Jane
    Jul 20, 2012 @ 09:20:55

    @Romance Slut – I do think that the low royalty rates is one of the reasons that there is high anti trad publishing sentiment expressed by some people. I wrote back in 2006 how I thought the Harlequin digital royalty rates were super low. A lot of authors commented in the thread that the low royalty was worth the built in readership.

    ReplyReply

  7. Courtney Milan
    Jul 20, 2012 @ 10:56:35

    @Jane: Isn’t HQE saying in its 2011 letter to authors that Harlequin Switzerland licenses the product to HQE and then HQE sends the net receipts back to Harlequin Switzerland?

    No. That is not what is happening for the contracts that have the 50% of net receipts language. For those contracts, HarlS licenses the product to HQE at a 6% of cover royalty rate (for series books) and an 8% royalty rate (for single-titles). We know that HQE gets 50% of the cover price from Amazon–that’s what Harlequin disclosed when it sent out the e-book royalty rate contract amendments.

    So HQE is not sending the net receipts it receives back to HarlS. HQE is keeping 44% of the cover price (for series authors) and sending 6% to HarlS, and HarlS is giving 50% of that 6% to the author. The numbers are even more disparate for products sold on Harlequin’s website, where they take in (presumably) a lot more than 50%.

    I do not know of any other publisher that licenses its digital products to any other unrelated licensee in exchange for 6% of the cover price.

    ReplyReply

  8. Patricia McLinn
    Jul 20, 2012 @ 11:43:58

    Let’s use actual dollars here because I think that the value of the damages is important in evaluating risk. The digital list price of Judith Arnold’s “Father Found” is $4.99. The discounted price is $4.19 at Amazon. Assuming no other costs in the net receipts calculation and that Harlequin gives Amazon a 50% discount, the lawsuit is asserting that the author is owed $1.24 versus the $.24 to 32 cents that Arnold receives now.

    The numbers in this example became a bit jumbled, with the money owed to the author drawn from the complaint example of an $8 title.

    For “Father Found” listed at $4.99 (Amazon’s discounted price doesn’t matter unless Hq changes its current agreement with Amazon, which gives it 50% of list), Harlequin receives $2.495 — let’s say $2.50 to drop the half pennies.

    The complaint does, indeed, say that the author should receive $1.25.

    What actually happens is that HqE sends HqSwiss $0.15 (6% of $2.50) to $0.20 (8% of $2.50), while HqE retains $2.35 to 2.30.

    HqSwiss then passes 50% of what it received on to the author — $0.075 to $0.10.

    So Hq’s arms take in $2.425 to $2.40.

    And the difference on your $4.99 example for the author is from $1.24 to 7.5-10 cents.

    ReplyReply

  9. Jane
    Jul 20, 2012 @ 11:48:25

    Thanks for the numbers clarification. I wasn’t sure of the 24-30 cents was what authors were actually receiving.

    ReplyReply

  10. Courtney Milan
    Jul 20, 2012 @ 11:49:27

    @Patricia McLinn: What actually happens is that HqE sends HqSwiss $0.15 (6% of $2.50) to $0.20 (8% of $2.50), while HqE retains $2.35 to 2.30.

    My understanding from Julie Chivers’s various explanations was that HQE sent 6% of cover, not 6% of net receipts. So HQE would send $0.30 to $0.40 to HarlS, meaning that the author would get $0.15 to $0.20.

    ReplyReply

  11. Teresa Hill
    Jul 20, 2012 @ 12:01:32

    Dear Romance Slut :)
    The answer is, publishers have done this because they could get away with it. They had all the power. They don’t anymore.
    HQ’s 6% royalty was low compared to most all other major publishers. But even with the big guys, 8% was the standard paperback royalty. Sad, but true.
    Thankfully, it’s not anymore, with digital sales.

    ReplyReply

  12. Patricia McLinn
    Jul 20, 2012 @ 12:35:49

    @Courtney Milan:

    YES — you’re right, Courtney. I goofed that. Sorry, everyone! So let me do this again.

    CORRECTED CORRECTED CORRECTED

    For “Father Found” listed at $4.99 (Amazon’s discounted price doesn’t matter unless Hq changes its current agreement with Amazon, which gives it 50% of list), Harlequin receives $2.495 — let’s say $2.50 to drop the half pennies.

    The complaint does, indeed, say that the author should receive $1.25.

    What actually happens is that HqE sends HqSwiss $0.30 (6% of $4.99 cover price) to $0.40 (8% of $4.99 cover price), while HqE retains $2.20 to $2.10.

    HqSwiss then keeps 50% of what it received and passes 50% on to the author — $0.15 to $0.20.

    So Hq’s arms take in $2.35 to $2.30.

    And the difference on your $4.99 example for the author is from $1.24 to 15-20 cents.

    ReplyReply

  13. Ros
    Jul 20, 2012 @ 16:42:14

    I’m pretty sure that what authors really want in this scenario is to get their rights back. The built-in readership is one thing when the books are first published but for backlist books pre-2004, Harlequin are barely doing anything to promote them. Those books, properly packaged and self-published could be selling really well for some authors, and getting decent royalty rates at the same time. So it’s not just that they are getting a pittance per book, they’re probably not selling many books either.

    ReplyReply

  14. Janet W
    Jul 21, 2012 @ 13:27:06

    Fascinating, just fascinating. It’s like seeing a picture of an iceberg, one can only imagine what lies beneath. I hope Ros’s theory is correct. As someone who is on an eternal treasure hunt for good and great OOP (Out of Print) books, I applaud authors sharing their old books with a new audience. Usually altho not always, authors price them reasonably (often around $3.99) unlike publishers. Off topic, I saw a fairly undistinguished Debbie Macomber from 20 years back being repackaged and sold for $18.00 in trade paperback earlier this year. Price gouging.

    The one element that seems unlikely to me is that Harlequin had no advance knowledge of the lawsuit. Wouldn’t the authors have tried behind the scenes to resolve this? Litigation is so expensive, one “assumes”, which is dangerous, that taking legal action is a last resort.

    ReplyReply

  15. Laura Resnick
    Jul 21, 2012 @ 23:39:59

    Teresa Hill wrote: “The answer is, publishers have done this because they could get away with it. They had all the power. They don’t anymore.”

    Yep. Until wuite recently, a writer had no viable means to sell a book to tens (or hundreds) of thousand of readers via national and international distribution without a publisher. Therefore, a writer needed a publisher SO much that (apart from a few mega-selling writers) the power was all entirely in publishers’ hands–and many of them abused it with egregious contractual clauses, practices, and payment methods.

    It is a VERY new concept, and a VERY new reality that publishers need writers but writers DON’T necessarily need publishers. A writer can sell a self-published ebook (content without form) to readers a LOT more easily than a publisher can sell them a book with 400 blank pages in it (form without content). It is SUCH a new landscape that many people in the industry haven’t adjusted to it–and, indeed, are digging in their heels and emphatically refusing to adjust to it. But change happens even to those who refuse to accept it, after all.

    The Hq case is a clear result of this shift in power, with a publisher stuck in the mindset that writers will have to put up with anything it chooses to do, while the writers have adjusted to the changing reality enough to say, “Um, actually, no, we DON’T have to put up with anything anymore. So we’re no longer putting up with THIS.”

    We’re seeing many examples of this new paradigm every day (ex. writers turning down deals and walking away because the publishers won’t negotiate egregious clauses–hardly ANYONE ever used to walk away from a deal when the publisher refused to delete or alter an egregious clause, but more and more writers are doing it now, because they HAVE OTHER OPTIONS for publishing their work now). The Hq lawsuit may, for all we know, be only the first of many lawsuits we’ll see writers filing against publishers on the basis of business practices which will no longer be tolerated in this much-changed (but very RECENTLY changed) landscape.

    ReplyReply

  16. Laura Resnick
    Jul 21, 2012 @ 23:48:59

    Janet W wrote: “The one element that seems unlikely to me is that Harlequin had no advance knowledge of the lawsuit.”

    Well, Harlequin was genuinely “surprised” by it, then apparently the company was dropped on its head at some point, with tragic results. As per information we’ve seen online by now, a substantial group of writers spent roughly a year attempting to negotiate these issues with Harlequin, through legal counsel representing the writers and paid via the writers’ combined resources.

    Call me simplistic and pessimistic, but I’m thinking that if you’re approached by counsel representing a group of people who have similar or identical legal, fiscal, and contractual objections to your practices toward them, and they hang in there for MONTHS of espensive legal discussions, during which time you do not satisfy them or come to an agreement with them… Then you would have to be catastrophically foolish not to realize that their next inevitable step might very well be to file a lawsuit against you.

    ReplyReply

Leave a Reply

Notify me of followup comments via e-mail. You can also subscribe without commenting.

%d bloggers like this: