Supreme Court: Pharmaceutical Sales Reps Are Exempt

History of the FLSA and The Pharmaceutical Industry

In 1938, Congress enacted the FLSA with the goal of protecting covered workers from substandard wages and oppressive working hours. Among other things, the FLSA requires employers to pay covered employees for hours worked in excess of 40 hours per week at a rate of 1.5 times the employees' regular wages. Not all employees, however, are covered by the overtime compensation requirement because the FLSA provides for several exemptions.

For decades, pharmaceutical companies have considered their sales representatives to be exempt from overtime laws under either the outside sales and/or administrative exemption. The prescription drug industry is subject to extensive federal regulation, and prescription drugs may be dispensed only upon a physician's prescription. As a result, drug manufacturers sell medications to retail pharmacies that dispense the medications to an “ultimate user” who presents a prescription. In light of the drug regulations, pharmaceutical sales representatives (PSRs) or “detailers,” as they have been called in the trade, provide product information and samples to physicians in an effort to obtain a “nonbinding commitment” from the physicians to write prescriptions for the company's products, when medically appropriate. The position has existed in its current form since at least the 1950s, and it is estimated that the pharmaceutical industry employs approximately 90,000 such workers nationwide.

Christopher: Factual and Procedural Background

The Petitioners in Christopher, Michael Christopher and Frank Buchanan, formerly worked for Respondent SmithKline Beecham Corporation as pharmaceutical sales representatives. SmithKline is a multinational company that develops, manufactures, and sells prescription drugs. The petitioners alleged that they spent about 40 hours each week calling on physicians, and another 10 to 20 hours each week performing administrative tasks. They were well compensated for their efforts, earning more than $70,000 per year, but they did not receive overtime pay for working more than 40 hours per week.

The petitioners filed a putative class action in federal district court, alleging that SmithKline violated the FLSA by improperly classifying the PSRs as exempt employees and failing to pay them overtime wages. The petitioners argued that the PSRs did not make sales for SmithKline; rather, they merely promoted sales. The employer moved for summary judgment, arguing that the PSRs were covered by the FLSA's outside sales exemption. The district court agreed and granted summary judgment. After the DOL filed an uninvited amicus brief in a similar action, In re Novartis Wage and Hour Litigation, 611 F.3d 141, 153-55 (2d Cir. 2010), pending in the Second Circuit, expressing its interpretation that PSRs are not outside salespeople, Petitioners filed a motion to amend or alter the judgment. Petitioners argued that the district court erred in failing to give deference to the DOL's interpretation. The district court denied the motion, and the Ninth Circuit affirmed. See 635 F.3d 383, 93-95 (9th Cir. 2011). Because the Ninth Circuit's decision conflicted with the Second Circuit's decision in Novartis, the Supreme Court granted certiorari. The Court agreed to address two issues: 1) whether it must defer to the Department of Labor's interpretation of its regulations; and 2) whether PSRs are
outside salespeople under the FLSA, even though they cannot legally sell prescription drugs. The Court affirmed the Ninth Circuit's decision.

DOL's Position Is Not Entitled to Deference

Before addressing the FLSA exemption issue, the Court first discussed whether federal courts must defer to the DOL's position, as stated in its amicus briefs, under Auer v. Robbins, 519 U.S. 452 (1997). Generally, under Auer, courts defer to an administrative agency's interpretation of its own ambiguous regulations, unless its interpretation is “plainly erroneous or inconsistent with the regulation,” or does not “reflect the agency's fair and considered judgment on the merits.” In Christopher, although the Court was divided 5-4 on the outside sales exemption issue, it unanimously found that the exceptions to the Auer deference rule applied and that it would not give deference to the DOL's interpretation.

For decades, the nature of the PSR position has not materially changed. In 2009, the DOL ' for the first time ' announced its view that PSRs are not exempt outside salespeople. Instead of disclosing its view through the agency rule-making process, which provides an opportunity for public comment, the DOL announced its view in an amicus brief filed in the Second Circuit. At that time, the DOL's position was that “a 'sale' for purposes of the outside sales exemption requires a consummated transaction directly involving the employee for whom the exemption is sought.” It subsequently filed similar amicus briefs in other cases. After the Supreme Court granted certiorari in Christopher, however, the DOL changed its reasoning and opined that “an employee does not make a 'sale' for purposes of the outside salesman exemption unless he actually transfers title to the property at issue.”

In Christopher, the Court severely criticized the DOL's announcement of its new regulatory interpretation after litigation had commenced as “unfair surprise.” To defer to the agency under those circumstances, the Court cautioned, would have potentially imposed “massive liability” on an entire industry for “conduct that occurred well before that interpretation was announced” and would have “seriously undermine[d] the principle that agencies should provide regulated parties 'fair warning of the conduct [a regulation] prohibits or requires.'” The Court noted that until 2009, the pharmaceutical industry had little reason to suspect that its long-standing practice of classifying PSRs as exempt violated the FLSA. Despite the industry's well-known practice, the DOL never initiated any enforcement actions with respect to the PSRs or “otherwise suggested that it thought the industry was acting unlawfully.” According to the Court, “[o]ther than acquiescence, no explanation for the DOL's inaction is plausible.” Thus, the Court ruled that deference to the DOL was unwarranted.

Pharmaceutical Sales Reps Are Exempt

After deciding that it would not give any special weight to the DOL's amicus position, the Court's majority opinion addressed the substance of the case ' whether PSRs were properly classified as exempt under the outside sales exemption. The Court first addressed the DOL's interpretation, which the majority deemed “quite unpersuasive.” Specifically, the majority held that the DOL's position that a “sale” requires a transfer of title was “flatly inconsistent” with the language of the FLSA, which defines “sale” to include a “consignment for sale.” A “consignment for sale” does not involve the transfer of title.

The majority then interpreted the text of the FLSA and its regulations. The FLSA exempts anyone “employed ' in the capacity of outside salesman.” 29 U.S.C. ' 213(a)(1). The DOL's regulations define an outside salesman as an employee whose primary duty is “making sales,” and it adopts the FLSA's definition of “sale.” 29 C.F.R. ' 541.500(a)(1)(i). The majority found three noteworthy textual clues in that definition of “sale.”

First, the “sale” definition “includes any sale, exchange, contract to sell, consignment for sale, shipment for sale, or other disposition.” Because the statutory definition begins with the verb “includes” instead of “means,” the majority concluded that the examples enumerated in the text are intended to be “illustrative, not exhaustive.” Second, the list of transactions in the “sale” definition is modified by the word “any,” which the majority construed to mean “one or some indiscriminately of whatever kind.” Third, Congress included a broad catch-all phrase: “other disposition.” Thus, the majority concluded that Congress intended that the general definition of “sale” should be read broadly, accommodating “industry-by-industry variations in methods of selling commodities.”

Next, the majority addressed PSRs specifically, holding that “sale” includes obtaining a “nonbinding commitment” from a physician to prescribe the company's drugs, which is the most that PSRs are able to do to ensure the eventual disposition of the pharmaceuticals. The majority emphasized that the PSRs “bear all the external indicia of salesmen:” PSRs were hired for their sales experience; they were trained to close sales by obtaining the maximum commitment possible from the physician; they worked away from the office, with minimal supervision; and they typically earned significant salaries and incentive compensation. Such employees, explained the majority, were “hardly the kind of employees that the FLSA was intended to protect.”

In reaching its conclusion, the majority made two significant proclamations that will affect other litigation involving application of the FLSA exemptions, regardless of the industry or the exemption. First, the Court rejected the contention that the FLSA exemptions must be “narrowly construed” against the employer seeking to assert them, where, as in Christopher, the Court was “interpreting a general definition that applies throughout the FLSA.” Second, the majority endorsed a “functional, rather than formal” interpretation of exemptions, noting that the inquiry must accommodate industry-by-industry variations in methods of selling products. As it explained, “when an entire industry is constrained by law or regulation from selling its products in the ordinary manner, an employee who functions in all relevant respects as an outside salesman should not be excluded from that category based on technicalities.”

Interestingly, although the dissent strongly disagreed with the majority's conclusion, it also did not suggest that the outside sales exemption required an actual transfer of title of goods, as the DOL advocated. Rather, the dissent opined that the outside sales exemption requires a salesperson to “obtain a firm commitment to buy the product,” as opposed to the “nonbinding commitment” that satisfied the majority.

What Is the Likely Impact Of Christopher?

Although the outcome in Christopher was driven by the particular facts of that case, the opinion will certainly have a far-reaching effect on both the deference given to federal agencies and the overall interpretation and application of the FLSA's overtime exemptions.

The Court's ruling could significantly limit the ability of federal agencies to adopt regulatory interpretations that impose unanticipated liability on employers. At the very least, courts are unlikely to give federal agencies unquestioned deference in interpreting federal statutes and regulations, especially where the agency changes its position without providing “fair warning” through rulemaking and notice procedures. The opinion also serves as an important reminder to employers that courts may not always support all administrative decisions. Certainly, employers should continue to exercise caution when taking a position contrary to an administrative agency, but they do not need to assume that the courts will always uphold the agency's position.

With respect to questions regarding the FLSA's exemptions, moving forward, courts are expected to take a broader approach when interpreting FLSA exemptions that rely on general FLSA definitions. Additionally, courts are likely to take a “functional,” rather than a “formal,” approach, viewing the employee's responsibilities in the context of the particular industry.

Shirley O. Lerner, a member of this newsletter's Board of Editors, is a shareholder in Littler Mendelson, resident in its Minneapolis office.

The U.S. Supreme Court's recent decision in Christopher v. SmithKline Beecham Corp., No. 11-204, 2012 U.S. LEXIS 4657 (2012), was not only a landmark decision for the pharmaceutical industry, but also provided important guidance for the application of the outside sales exemption in other settings, the interpretation of all FLSA exemptions, and the deference to be given the Department of Labor's interpretation of its own guidelines.

Over the past several years, wage and hour litigation has exploded as employees have increasingly challenged whether their employers have properly classified them as exempt from the minimum wage and 40-hour overtime standards under the Fair Labor Standards Act (FLSA), 29 U.S.C. ” 201 et seq. The risk of improperly classifying employees can be significant because employers who fail to pay overtime properly may be liable for double the amount due for the past two years, plus the employees' attorney fees. If the violation is found to be “willful,” the statute of limitations increases to three years.

Despite the increased litigation, the United States Supreme Court has rarely addressed the FLSA's overtime exemptions. On June 18, 2012, however, the Court finally clarified the criteria for applying the outside sales exemption. In Christopher, the Court, in a 5-4 decision, held that pharmaceutical sales representatives are exempt from overtime laws under the outside sales exemption. The decision immediately affected other litigation involving pharmaceutical sales representatives, and another putative class action, potentially valued at $70 million, was dropped as a result. The decision will likely have an even broader long-term impact, however, because in reaching its decision, the Court refused to give deference to the Department of Labor's interpretation of its own guidelines ' thereby potentially putting a substantial limit on the deference courts give federal agencies' use of amicus briefs to change their interpretations of federal regulations.

History of the FLSA and The Pharmaceutical Industry

In 1938, Congress enacted the FLSA with the goal of protecting covered workers from substandard wages and oppressive working hours. Among other things, the FLSA requires employers to pay covered employees for hours worked in excess of 40 hours per week at a rate of 1.5 times the employees' regular wages. Not all employees, however, are covered by the overtime compensation requirement because the FLSA provides for several exemptions.

For decades, pharmaceutical companies have considered their sales representatives to be exempt from overtime laws under either the outside sales and/or administrative exemption. The prescription drug industry is subject to extensive federal regulation, and prescription drugs may be dispensed only upon a physician's prescription. As a result, drug manufacturers sell medications to retail pharmacies that dispense the medications to an “ultimate user” who presents a prescription. In light of the drug regulations, pharmaceutical sales representatives (PSRs) or “detailers,” as they have been called in the trade, provide product information and samples to physicians in an effort to obtain a “nonbinding commitment” from the physicians to write prescriptions for the company's products, when medically appropriate. The position has existed in its current form since at least the 1950s, and it is estimated that the pharmaceutical industry employs approximately 90,000 such workers nationwide.

Christopher: Factual and Procedural Background

The Petitioners in Christopher, Michael Christopher and Frank Buchanan, formerly worked for Respondent SmithKline Beecham Corporation as pharmaceutical sales representatives. SmithKline is a multinational company that develops, manufactures, and sells prescription drugs. The petitioners alleged that they spent about 40 hours each week calling on physicians, and another 10 to 20 hours each week performing administrative tasks. They were well compensated for their efforts, earning more than $70,000 per year, but they did not receive overtime pay for working more than 40 hours per week.

The petitioners filed a putative class action in federal district court, alleging that SmithKline violated the FLSA by improperly classifying the PSRs as exempt employees and failing to pay them overtime wages. The petitioners argued that the PSRs did not make sales for SmithKline; rather, they merely promoted sales. The employer moved for summary judgment, arguing that the PSRs were covered by the FLSA's outside sales exemption. The district court agreed and granted summary judgment. After the DOL filed an uninvited amicus brief in a similar action, In re Novartis Wage and Hour Litigation, 611 F.3d 141, 153-55 (2d Cir. 2010), pending in the Second Circuit, expressing its interpretation that PSRs are not outside salespeople, Petitioners filed a motion to amend or alter the judgment. Petitioners argued that the district court erred in failing to give deference to the DOL's interpretation. The district court denied the motion, and the Ninth Circuit affirmed. See 635 F.3d 383, 93-95 (9th Cir. 2011). Because the Ninth Circuit's decision conflicted with the Second Circuit's decision in Novartis, the Supreme Court granted certiorari. The Court agreed to address two issues: 1) whether it must defer to the Department of Labor's interpretation of its regulations; and 2) whether PSRs are
outside salespeople under the FLSA, even though they cannot legally sell prescription drugs. The Court affirmed the Ninth Circuit's decision.

DOL's Position Is Not Entitled to Deference

Before addressing the FLSA exemption issue, the Court first discussed whether federal courts must defer to the DOL's position, as stated in its amicus briefs, under Auer v. Robbins , 519 U.S. 452 (1997). Generally, under Auer, courts defer to an administrative agency's interpretation of its own ambiguous regulations, unless its interpretation is “plainly erroneous or inconsistent with the regulation,” or does not “reflect the agency's fair and considered judgment on the merits.” In Christopher, although the Court was divided 5-4 on the outside sales exemption issue, it unanimously found that the exceptions to the Auer deference rule applied and that it would not give deference to the DOL's interpretation.

For decades, the nature of the PSR position has not materially changed. In 2009, the DOL ' for the first time ' announced its view that PSRs are not exempt outside salespeople. Instead of disclosing its view through the agency rule-making process, which provides an opportunity for public comment, the DOL announced its view in an amicus brief filed in the Second Circuit. At that time, the DOL's position was that “a 'sale' for purposes of the outside sales exemption requires a consummated transaction directly involving the employee for whom the exemption is sought.” It subsequently filed similar amicus briefs in other cases. After the Supreme Court granted certiorari in Christopher, however, the DOL changed its reasoning and opined that “an employee does not make a 'sale' for purposes of the outside salesman exemption unless he actually transfers title to the property at issue.”

In Christopher, the Court severely criticized the DOL's announcement of its new regulatory interpretation after litigation had commenced as “unfair surprise.” To defer to the agency under those circumstances, the Court cautioned, would have potentially imposed “massive liability” on an entire industry for “conduct that occurred well before that interpretation was announced” and would have “seriously undermine[d] the principle that agencies should provide regulated parties 'fair warning of the conduct [a regulation] prohibits or requires.'” The Court noted that until 2009, the pharmaceutical industry had little reason to suspect that its long-standing practice of classifying PSRs as exempt violated the FLSA. Despite the industry's well-known practice, the DOL never initiated any enforcement actions with respect to the PSRs or “otherwise suggested that it thought the industry was acting unlawfully.” According to the Court, “[o]ther than acquiescence, no explanation for the DOL's inaction is plausible.” Thus, the Court ruled that deference to the DOL was unwarranted.

Pharmaceutical Sales Reps Are Exempt

After deciding that it would not give any special weight to the DOL's amicus position, the Court's majority opinion addressed the substance of the case ' whether PSRs were properly classified as exempt under the outside sales exemption. The Court first addressed the DOL's interpretation, which the majority deemed “quite unpersuasive.” Specifically, the majority held that the DOL's position that a “sale” requires a transfer of title was “flatly inconsistent” with the language of the FLSA, which defines “sale” to include a “consignment for sale.” A “consignment for sale” does not involve the transfer of title.

The majority then interpreted the text of the FLSA and its regulations. The FLSA exempts anyone “employed ' in the capacity of outside salesman.” 29 U.S.C. ' 213(a)(1). The DOL's regulations define an outside salesman as an employee whose primary duty is “making sales,” and it adopts the FLSA's definition of “sale.” 29 C.F.R. ' 541.500(a)(1)(i). The majority found three noteworthy textual clues in that definition of “sale.”

First, the “sale” definition “includes any sale, exchange, contract to sell, consignment for sale, shipment for sale, or other disposition.” Because the statutory definition begins with the verb “includes” instead of “means,” the majority concluded that the examples enumerated in the text are intended to be “illustrative, not exhaustive.” Second, the list of transactions in the “sale” definition is modified by the word “any,” which the majority construed to mean “one or some indiscriminately of whatever kind.” Third, Congress included a broad catch-all phrase: “other disposition.” Thus, the majority concluded that Congress intended that the general definition of “sale” should be read broadly, accommodating “industry-by-industry variations in methods of selling commodities.”

Next, the majority addressed PSRs specifically, holding that “sale” includes obtaining a “nonbinding commitment” from a physician to prescribe the company's drugs, which is the most that PSRs are able to do to ensure the eventual disposition of the pharmaceuticals. The majority emphasized that the PSRs “bear all the external indicia of salesmen:” PSRs were hired for their sales experience; they were trained to close sales by obtaining the maximum commitment possible from the physician; they worked away from the office, with minimal supervision; and they typically earned significant salaries and incentive compensation. Such employees, explained the majority, were “hardly the kind of employees that the FLSA was intended to protect.”

In reaching its conclusion, the majority made two significant proclamations that will affect other litigation involving application of the FLSA exemptions, regardless of the industry or the exemption. First, the Court rejected the contention that the FLSA exemptions must be “narrowly construed” against the employer seeking to assert them, where, as in Christopher, the Court was “interpreting a general definition that applies throughout the FLSA.” Second, the majority endorsed a “functional, rather than formal” interpretation of exemptions, noting that the inquiry must accommodate industry-by-industry variations in methods of selling products. As it explained, “when an entire industry is constrained by law or regulation from selling its products in the ordinary manner, an employee who functions in all relevant respects as an outside salesman should not be excluded from that category based on technicalities.”

Interestingly, although the dissent strongly disagreed with the majority's conclusion, it also did not suggest that the outside sales exemption required an actual transfer of title of goods, as the DOL advocated. Rather, the dissent opined that the outside sales exemption requires a salesperson to “obtain a firm commitment to buy the product,” as opposed to the “nonbinding commitment” that satisfied the majority.

What Is the Likely Impact Of Christopher?

Although the outcome in Christopher was driven by the particular facts of that case, the opinion will certainly have a far-reaching effect on both the deference given to federal agencies and the overall interpretation and application of the FLSA's overtime exemptions.

The Court's ruling could significantly limit the ability of federal agencies to adopt regulatory interpretations that impose unanticipated liability on employers. At the very least, courts are unlikely to give federal agencies unquestioned deference in interpreting federal statutes and regulations, especially where the agency changes its position without providing “fair warning” through rulemaking and notice procedures. The opinion also serves as an important reminder to employers that courts may not always support all administrative decisions. Certainly, employers should continue to exercise caution when taking a position contrary to an administrative agency, but they do not need to assume that the courts will always uphold the agency's position.

With respect to questions regarding the FLSA's exemptions, moving forward, courts are expected to take a broader approach when interpreting FLSA exemptions that rely on general FLSA definitions. Additionally, courts are likely to take a “functional,” rather than a “formal,” approach, viewing the employee's responsibilities in the context of the particular industry.

Shirley O. Lerner, a member of this newsletter's Board of Editors, is a shareholder in Littler Mendelson, resident in its Minneapolis office.