United States: Protecting The Class: Why 2nd Circ. Nixed A $7B Settlement

Last Updated: August 23 2016
Article by Gregory A. Markel

Most Read Contributor in United States, September 2017

In a June 30, 2016, opinion strongly focusing on whether benefits to class members were adequate, the Second Circuit rejected a $7.25 billion settlement of antitrust claims brought by millions of merchants against Visa, MasterCard and various banks over the alleged artificial inflation of certain credit card transaction fees. The settlement was the largest all-cash antitrust settlement in U.S. history. The court found that the settlement was fundamentally flawed because two classes of merchants with divergent interests had been represented in negotiations by the same lawyers. The conflict "sapped class counsel of the incentive to zealously represent the latter" class, resulting in inadequate representation in violation of both Fed. R. Civ. P. 23(a)(4) and the due process clause. See In re Payment Card Interchange Fee & Merch. Disc. Antitrust Litig., No. 12-4671-CV, (2d Cir. June 30, 2016) (the "Payment Card litigation").

The Payment Card litigation is the latest in a series of cases reflecting a growing tendency among judges to (1) protect the interests of class members and (2) scrutinize the real benefits to class members in the settlement context. See, e.g., In re TW Telecom Inc. Stockholders Litig., C.A. No. 9845-CB, at 43-44 (Del. Ch. Ct. August 20, 2015) (TRANSCRIPT) (Chancellor Andre Bouchard approving settlement "reluctantly" as the closest "I've gotten to not approving a settlement in my time on the bench" and indicating that proposed settlements "need to be scrutinized more going forward"); In re Dry Max Pampers Litig., 724 F.3d 713, 715, 721 (6th Cir. 2013) (rejecting settlement that "benefits class counsel vastly more than it does the consumers who comprise the class" and noting in doing so that "there is always the danger that the parties and counsel will bargain away the interests of unnamed class members in order to maximize their own"); Eva W. Cole, The Class Action Mechanism and Courts' Continued Focus on Class Certification and Settlement Requirements, Aspatore (Thomson Reuters), 2015 WL 4967448, at *2 (Aspatore/Thomson Reuters July 2015) ("[F]ederal courts have become seemingly more critical of class settlements, and are more carefully applying the 'fairness' standard ... to analyze whether a proposed class settlement should be approved by a court."). As we also discuss below, the Delaware Chancery Court, in a line of cases, has indicated it has and will scrutinize more closely what class members are giving up and getting in class action settlements. In recent cases involving cy pres settlements, similar concern is shown by courts for whether there are adequate benefits for class members to justify using cy pres provisions in settlements.

The Payment Card Litigation

The allegations of the plaintiffs' consolidated complaint attacked a number of practices of Visa and MasterCard. Settlement negotiations spanned several years and, ultimately, the district court approved the settlement and certified two settlement classes: (1) a Rule 23(b)(3) class, covering merchants that accepted cards from Jan. 1, 2004, to Nov. 28, 2012, which was eligible to receive up to $7.25 billion in monetary relief; and (2) a Rule 23(b)(2) class, covering merchants that accepted cards from Nov. 28, 2012, to the present or will accept them in the future, receiving only injunctive relief in the form of changes to Visa's and MasterCard's network rules. Rule 23(b)(3) plaintiffs were allowed to opt out of the class, while Rule 23(b)(2) plaintiffs were "stuck with this deal and this representation."

A number of objectors and opt-out plaintiffs appealed the class certification and the settlement as unreasonable and inadequate. The Second Circuit found that there was a clear conflict between merchants pursuing solely monetary relief and those seeking only injunctive relief and that due to that conflict "[u]nitary representation ... create[d] unacceptable incentives for counsel to trade benefits to one class for benefits to the other." Id. In doing so, it elucidated U.S. Supreme Court precedent by applying in the settlement context here the Supreme Courts' teaching that "divergent interests require separate counsel when it impacts the 'essential allocation decisions' of plaintiffs' compensation and defendants' liability." (quoting Amchem Prods. Inc. v. Windsor, 521 U.S. 591, 627 (1997)); see also In re Literary Works in Elec. Databases Copyright Litig., 654 F.3d 242, 251 (2d Cir. 2011).

The plaintiffs' counsel had an additional incentive to focus more on one class than the other: they would receive a percentage of the monetary relief awarded to the (b)(3) class but no corresponding fees were tied to the injunctive relief. The court found that having these conflicting representations violated both Rule 23(a)(4), which requires that "'the representative parties fairly and adequately protect the interests of the class'" and the due process clause, which "'requires that the named plaintiff at all times adequately represent the interests of the absent class members.'" (citations omitted). The Rule 23(a)(4) requirement is met only if "the proposed class representative ... ha[s] an interest in vigorously pursuing the claims of the class, and ... no interests antagonistic to the interests of other class members.'" Id. at *4.

The Second Circuit found that "[Plaintiffs'] Counsel stood to gain enormously if they got the deal done ... For their services, the district court granted [plaintiffs'] counsel $544.8 million in fees." The court went on to say that "[a]s the Supreme Court recognized in [Ortiz v. Fibreboard Corp., 527 U.S. 815, 852 (1999)]: when 'the potential for gigantic fees' is within counsel's grasp," a court cannot assume class counsel will adequately represent two groups of class members with competing interests. Moreover, the inequality of representation was aggravated by the (b)(2) class not getting the right to opt out. The Second Circuit found that representation of the class was inadequate and declared the settlement a nullity despite the presence of skilled mediators and competent counsel for all parties in settlement negotiations.

Disclosure-Only Settlements in Delaware

Delaware courts in the past year and a half have likewise shown a growing concern for fairness to class members in their evaluation of, and increasing unwillingness to approve, settlements in merger litigation. Such settlements often provide immaterial supplemental disclosures to plaintiff shareholders in exchange for a broad release of claims and hundreds of thousands of dollars in attorneys' fees to class counsel. Such settlements were reportedly utilized to resolve 76 percent of all Delaware deal litigation in 2012 alone. See In re Trulia Inc. Stockholder Litig., 129 A.3d 884, 894 (Del. Ch. 2016). Beyond the provision of supplemental disclosures, the settlements frequently offered no meaningful benefits to the shareholders. In re PAETEC Holding Corp. S'holders Litig., C.A. No. 6761-VCG, (Del. Ch. Mar. 19, 2013).

In re Trulia Inc. was the culmination of this line of Delaware cases in which the Chancery Court developed, and specifically warned the bar of, a policy of enhanced scrutiny of disclosure-only settlements and overbroad releases to see that class members were treated fairly. See 129 A.3d at 898; see also In re Riverbed Tech. Inc. Stockholders Litig., C.A. No. 10484-VCG, (Del. Ch. Sept. 17, 2015) (TRANSCRIPT) (Vice Chancellor Sam Glasscock approving settlement but expressing concern over the limited benefits of the disclosure-only settlement as well as questions involving the motivations of counsel for the class representative in prosecuting the litigation); Acevedo v. Aeroflex Holding Corp., C.A. No. 7930-VCL, at 63 (Del. Ch. July 8, 2015) (TRANSCRIPT) (Vice Chancellor J. Travis Laster rejecting settlement in which the class received "nothing. Zero. Zip ... [aside from] theoretically ... therapeutic relief," which was deemed insufficient to support a broad release); In re TW Telecom, at 43-44. Finally, in In re Trulia, Chancellor Bouchard, for the Delaware Chancery Court, set forth a new materiality standard, holding that supplemental disclosures must address a "plainly material" misrepresentation or omission to be of benefit to shareholders. See 129 A.3d at 898.

Cy Pres Awards

The doubt expressed by some judges as to the value of cy pres awards to class members involves similar concerns for the adequacy of benefits to class members. Chief Justice John Roberts' statement in connection with the petition for writ of certiorari in Marek v. Lane, 134 S. Ct. 8 (2013) is instructive: "[T]his case might not have afforded the Court an opportunity to address more fundamental concerns surrounding the use of [cy pres] in class action litigation, including when, if ever, such relief should be considered [and] how to assess its fairness as a general matter ... In a suitable case, this Court may need to clarify the limits on the use of such remedies." Id. at 9; See also In re Baby Prods. Antitrust Litig., 708 F.3d 163, 170 (3d Cir. 2013) ("We vacate the District Court's approval of the settlement because the Court was apparently unaware of the amount of the fund that would be distributed to cy pres beneficiaries rather than being distributed directly to the class. On remand, the Court should consider whether this or any alternative settlement provides sufficient direct benefit to the class before giving its approval.").

Conclusion

Courts that have scrutinized the benefits of settlements to class members are recognizing the raison d'etre of class actions: to provide a mechanism for plaintiffs to bring claims that are numerous and similar, but too small to bring individually, where it is most efficient for them to be handled as a single case. Class actions were conceived of as a way of doing justice where requirements for class treatment are met. They were never designed to create bonanzas for lawyers.

Courts are increasingly making clear that, while class actions are useful when they are pursued competently for a proper purpose, they can be abused as well. One of the ways to incentivize constructive behavior in this arena, by parties and their counsel, is to focus on the most common end game — settlement — and require it to be fair to those for whom class actions were created.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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