U.S. Can’t Go After Tobacco’s Past Profits

The tobacco industry won a resounding victory Friday when a federal appeals court barred the Justice Department from seeking forfeiture of $280 billion in past profits as part of its fraud and racketeering case against the top cigarette makers.

In a 2-1 ruling, the U.S. Court of Appeals for the District of Columbia declared that the government may not seek that money in civil suits filed under the racketeering statute known as RICO. The decision does not end the massive case -- the government can still seek other sanctions -- but wipes out by far the most worrisome threat to the tobacco companies.

The decision sparked wide speculation that the Justice Department might seek to settle the case rather than appeal the ruling and continue the trial, which has been puttering along since September in U.S. District Court in Washington.

A Justice spokeswoman declined to comment, saying only that department lawyers were reviewing the decision. They could seek reconsideration by the full appeals court or file an appeal with the Supreme Court.

“We are extremely pleased that the appellate court agreed with our long-held belief that disgorgement is not an appropriate remedy,” said Charles A. Blixt, general counsel of R.J. Reynolds Tobacco Co. “This ruling dramatically transforms the DOJ suit.”

The suit, filed in 1999 during the Clinton administration, is the largest civil racketeering case in history and involves the biggest sum ever sought by the Justice Department in a civil matter.

The parties listed about 73,000 trial exhibits and took more than 300 depositions before trial. The government has run up legal costs of at least $139 million, and with their armies of top-flight corporate defenders, the tobacco companies are believed to have spent several times more.

The suit accuses cigarette makers of engaging in a decades-long conspiracy to distort the risks of smoking and of second-hand smoke; of targeting minors with cigarette advertising; and of regulating nicotine levels to keep customers hooked.

It alleges 145 acts of wire and mail fraud -- linked to specific ads and public statements -- along with civil violations of the RICO law, which was passed to fight organized crime but also has been used against businesses and unions. RJR and its codefendants, including Altria Group Inc.’s Philip Morris USA, British American Tobacco and Loews Corp.’s Lorillard unit, have denied all the charges.

Along with forfeiture of past profits, the government has been seeking court-ordered changes in industry practices, such as the use of bigger warning labels, advertising restrictions and industry-funded smoking cessation programs.

But “the primary focus for the industry and Wall Street investors was on the amount of profits tobacco interests would be forced to disgorge,” said Mary Aronson, a legal and financial analyst based in Washington. Thus, the decision is “a major disappointment for the Department of Justice and a big relief for the tobacco industry.”

The outcome was not unexpected, given the conservative majority of the panel and the tenor of questions at the November hearing on the industry’s disgorgement appeal.

Even so, tobacco investors were turning cartwheels Friday.

In trading on the New York Stock Exchange, industry leader Altria rose $3.26, or 5.1%, to $67. Reynolds American Inc., parent of RJR, climbed $3.69 to $85.60; Carolina Group, a tracking stock for Loews’ Lorillard unit, gained $1.52 to $33.50; Vector Group Ltd., owner of Liggett Group Inc., rose 47 cents to $16.53; and British American’s U.S.-traded shares rose 75 cents, or 2%, to $36.15.

Tobacco foes tried to put the best face on the decision, pointing out that U.S. District Judge Gladys Kessler could still order significant changes in industry practices if she found that the companies did engage in fraud.

William Schultz, the former deputy assistant attorney general who managed the case during the Clinton administration, said the ruling “is a setback but it doesn’t cut the heart out of the case.”

Citing the measures available to Kessler, William V. Corr, executive director of the Campaign for Tobacco-Free Kids, said that disgorgement was not even “the most important remedy in undoing the harm the industry has caused.” Corr added that the setback should not be used by the Justice Department as an excuse to forge a weak settlement.

Since last fall, the massive case has been proceeding on two tracks. The government has called more than 40 witnesses to testify in Kessler’s courtroom, including prominent tobacco whistle-blowers and top industry executives. Meanwhile, the Court of Appeals had been considering an industry challenge to Kessler’s ruling that the government could proceed with its $280-billion disgorgement claim.

The astronomical sum was an estimate of 30 years of gross profits from sales to 33 million “youth-addicted” smokers -- defined as those who became smokers of at least five cigarettes a day before the age of 21 between 1971, when the RICO law took effect, and 2001. The figure represents $75 billion in income from those sales, plus more than $204 billion in interest.

Cigarette makers charged that the number was basically pulled from thin air to coerce them into settling. In their appeal, they argued that disgorgement was not permitted in a civil RICO case.

Judge David Sentelle and Senior Judge Stephen Williams, appointees of President Reagan, agreed.

“We can find no justification for considering any order of disgorgement,” Sentelle wrote for the majority. “We need not twist the language to create a new remedy not contemplated by the statute.”

Clinton appointee Judge David Tatel dissented, arguing that the ruling “disregards Congress’ plain language” and “controlling Supreme Court precedent.”

The decision creates a split in the federal appeals courts on the important question of whether disgorgement can be sought in a civil RICO case. In United States vs. Carson, the 2nd Circuit Court of Appeals ruled that disgorgement was permissible but must be limited to illicit profits that could be used to fund future illegal conduct.

By barring disgorgement altogether, Friday’s ruling would strip the Justice Department of a key prosecutorial weapon, some analysts said.

Schultz said the new leaders at the Justice Department, where Atty. Gen. Alberto R. Gonzales took over this week, would have to weigh the possible public reaction if they didn’t vigorously pursue the case.

They “will have to do a massive calculation” of “what’s the right thing to do legally,” Schultz said, and “what’s the right thing to do politically.”