The U.S. Court of Appeals for the Second Circuit, recently reversed a trial court's approval of a settlement in a class action case, because the trial court presumed the fairness, adequacy, and reasonableness of the proposed settlement on the grounds the settlement was negotiated to at arm's-length, failed to assess the fairness, adequacy, and reasonableness of the agreed to attorney's fees and incentive payment, and erred in determining the class relief did not constitute "coupons" under the federal Class Action Fairness Act ("CAFA").
A copy of the opinion is available at: Link to Opinion
A group of California subscribers for an online and print newspaper filed a class action suit in the United Stated District Court of the Southern District of New York claiming a national newspaper automatically renewed subscriptions without providing the disclosures and authorizations required by California's Automatic Renewal Law, Cal. Bus. & 12 Prof. Code § 17600, et seq. (the "CARL").
Following a mediation, a settlement was reached between the parties whereby the class members would drop their claims in exchange for one-month subscriptions or pro rata cash payments. The settlement agreement also provided for the payments of substantial attorney's fees to class counsel, amounting to 76% of the cash settlement funds, and an incentive award to the class representative.
One of the class members objected to the proposed settlement, arguing that the settlement was unfair, the attorneys' fees calculation improperly exceeded limits set by the coupon settlement provisions of CAFA, and the incentive award was not authorized by law. The trial court disagreed, and certified the class for settlement purposes and approved the settlement. The objecting class member then filed an appeal.
On appeal, the objecting class member argued that the trial court erred by (1) misapplying Federal Rules of Civil Procedure Rule 23(e)'s legal standard in its review of the proposed settlement, (2) awarding $1.25 million in attorneys' fees based on a conclusion that the one-month subscriptions are not "coupons" under CAFA, and (3) awarding the class representative an incentive award of $5,000 and concluding she provided adequate representation.
In assessing whether the trial court misapplied Rule 23(e)'s legal standard, the Second Circuit determined the trial court erred when it imposed a presumption of fairness, adequacy, and reasonableness to the parties proposed settlement on the ground that it was negotiated between the settling parties at arm's-length.
By way of background, prior to Rule 23(e)(2)'s codification, courts applied a presumption of fairness to settlement agreements resulting from arm's-length negotiations. See McReynolds v. Richards-Cantave, 588 F.3d 790, 803 (2d Cir. 2009); Wal-Mart Stores, Inc. v. Visa U.S.A., Inc., 396 F.3d 96, 116 (2d Cir. 2005). The codification of the arm's-length negotiation as one of the procedural factors that courts must consider when approving proposed settlements supplants its historical role as a presumption. The Second Circuit agreed with the Ninth Circuit's opinion in Roes, 1-2 v. SFBSC Mgmt., LLC, where the Ninth Circuit held that applying a presumption of fairness is inappropriate under the codified Rule 23(e)(2) because the rule does not suggest that an affirmative answer to one factor creates a favorable presumption on review of the others. 944 F.3d 1035, 1049 n.12 (9th Cir. 2019).
In addition, the Second Circuit held that the trial court erred when it imposed a presumption of fairness, adequacy, and reasonableness in light of the attorneys' fees awarded and incentive award.
As stated above, the codification of Rule 23(e)(2) changed the analysis courts must undertake when evaluating a settlement for approval in class actions. Rule 23(e)(2) now requires the trial court to expressly consider two factors when reviewing the substantive fairness of a settlement: (1) the adequacy of the relief provided to a class and (2) the equitable treatment of a class member. See Fed. R. Civ. P. 23(e)(2)(C)-(D). In assessing the adequacy of class relief, the court must take in into account the terms and any proposed award of attorneys' fees. The reasoning behind this, as was the case under the previous examination of awards of attorney's fees, is to prevent unwarranted windfalls for attorneys. See Goldberger v. Integrated Res., Inc., 209 F.3d 43, 47 (2d Cir. 2000).
The trial court is therefore required to look at both the terms of the settlement and any fee award encompassed in a settlement agreement together. See Fresno County Employees' Ret. Ass'n v. Isaacson/Weaver Fam. Tr., 925 F.3d 63, 72 (2d Cir. 2019); see also McKinney-Drobnis v. Oreshack, 16 F.4th 594, 607 (9th Cir. 2021). This same analysis is also applied to incentive payments. See Murray v. Grocery Delivery E-Servs. USA Inc., 55 F.4th 340, 353 (1st Cir. 2022).
Here, the Second Circuit held that the trial court reviewed the appropriateness of the attorneys' fee and incentive awards separately from its consideration of the fairness, reasonableness and adequacy of the settlement. In essence, the trial court again incorrectly applied the old test for examining the appropriateness of the settlement.
The Appellate Court noted that this error did not automatically require reversal of the settlement's approval; however, in the present case, this error could not be seen as harmless. The attorneys' fees awarded in this case were $1.25 million, while the total cash settlement fund was $1.65 million. As discussed below, the trial court calculated the total amount of attorneys' fees by adding the value of the one-month subscriptions to the cash set aside for pro rata distribution to class members that opt for cash. This too was in error as it violated CAFA's coupon settlement requirements as the one-month subscriptions were in fact coupons.
The Second Circuit next held that the trial court erred by failing to apply CAFA's coupon settlement provision when calculating the attorneys' fee awards because the one-month subscriptions are in fact coupons. A finding that the one-month subscriptions are in fact coupons therefore undermines any determination that the evaluation of the attorneys' fees awarded in the settlement was harmless error.
By way of background, CAFA was enacted to address concerns surrounding class actions where settlements included coupons to purchase more products from the defendants, which incentivizes attorneys to pursue settlements that provide class members with low-benefit coupons while fattening the pockets of class action attorneys who inflate their fees based on unrealistic face value of non-monetary relief. In re: Lumber Liquidators Chinese-Manufactured Flooring Prod. Mktg., Sales Pracs. & Prod. Liab. Litig., 952 F.3d 471, 488 (4th Cir. 2020). CAFA directs courts to calculate attorneys' fee awards in "coupon" settlements based on the redemption value of the coupons, rather than the face value. See 28 U.S.C. ' 1712(a). In the present case, the trial court incorrectly declined to do so because it concluded the one-month subscriptions were not coupons.
In examining whether the one-month subscriptions were coupons, the Appellate Court set to define what a coupon is. The Court looked to the dictionary definition of coupon, the legislative history of CAFA, and several cases that have dealt with similar issues. The New Oxford American Dictionary defines coupon as an item that entitles its user to free or discounted products or services, while the Mariam-Webster Dictionary defined it as a form surrendered in order to obtain an article, service, or accommodation. New Oxford American Dictionary 389 (2d ed. 2005); Merriam-Webster's Third New International Dictionary 266 (2002). The legislative history makes it clear that CAFA's coupon settlement provisions apply to settlements where the non-cash relief provided to class members entitles them to free or discounted products or services.
The Second Circuit noted that the Ninth Circuit previously looked at three non-dispositive factors in weighing whether a settlement term is a coupon under CAFA: (1) whether class members have to hand over more of their own money before they can take advantage of' a credit, (2) whether the credit is valid only for select products or services,' and (3) how much flexibility the credit provides, including whether it expires or is freely transferrable. In re Easysaver Rewards Litig., 906 F.3d 747, 755 (9th Cir. 2018), quoting In re Online DVD-Rental Antitrust Litig., 779 F.3d 934, 951 (9th Cir. 2015).
Here, the Appellate Court found that the one-month subscriptions at issue fell under the plain definition of the word "coupon," and even met the definition under the more restrictive Ninth Circuit evaluation. The coupons at issue are digital vouchers surrendered in order to obtain a one-month subscription to a newspaper. Under the Ninth Circuit evaluation, the Court found that in order for the class members to take advantage of the one-month subscriptions, they were required to do business with the defendants again in order to redeem the benefit provided; the one-month subscription restricts the universe of products that class members are entitled to obtain based on their subscription status; and although the subscriptions did not expire and were transferable, their low value of $3-5 means that a potential transferee has little incentive to buy the subscription from a class member rather than purchase it from the defendant newspaper directly.
Finally, the Appellate Court found that the incentive award did not create a conflict of interest between the class representative and other class members. The Second Circuit relied on prior precedent stating that incentive payments to class representatives, by themselves, do not create an impermissible conflict between class members and their representative. See In re Online DVD-Rental Antitrust Litig., 779 F.3d 934, 951 (9th Cir. 2015). To prevail on this issue, a claimant will need to show that something exists, outside of the payment itself, to create a conflict between the class representative and other class members as to invalidate a settlement in a class action. In addition, the Second Circuit found extensive support in its sister circuits permitting the payment of incentive payments for class representatives. In re Apple Inc. Device Performance Litig., 50 F.4th at 785-86; Jones v. Singing River Health Servs. Found., 865 F.3d 285 (5th Cir. 2017); Caligiuri v. Symantec Corp., 855 F.3d 860, 867 (8th Cir. 2017).
Accordingly, the Second Circuit held that the trial court erred when: it imposed a presumption of fairness, adequacy, and reasonableness to the parties proposed settlement on the ground that it was negotiated between the settling parties at arm's-length; it imposed a presumption of fairness, adequacy, and reasonableness in light of the attorneys' fees award and incentive award; and it determined that the one-months subscriptions were not coupons under CAFA. Thus, the Appellate Court vacated the trial court's approval of the settlement award and attorneys' fees and remanded the case for further proceedings.
Ralph T. Wutscher
Maurice Wutscher LLP
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