Seventh Circuit Rejects "Scandalous" Settlement
By Bethany Leigh Rabe, Litigation News Associate Editor – September 8, 2014

The U.S. Court of Appeals for the Seventh Circuit issued a scathing rebuke of class counsel in an opinion reversing the approval of a settlement. Referring to the case as “eight largely wasted years,” to the settlement as “scandalous,” and to the terms as “[selling] out the class,” Judge Posner’s opinion dealt harshly with class counsel. Eubank v. Pella. This opinion is “consistent with a recent trend of courts turning up the heat on class action settlement scrutiny,” explains Jeffrey D. Gardner, Phoenix, AZ, cochair of the ABA Section of Litigation’s Class Actions & Derivative Suits Committee.

The Eubank v. Pella Litigation
In 2006, the plaintiffs filed a class action lawsuit against Pella, a windows manufacturer, claiming that certain of its windows had a design defect that allowed water to enter, causing damage. The court certified two classes: one for customers who had already replaced or repaired their windows, and one for those who had not. The Seventh Circuit affirmed the class certification on a Rule 23(f) interlocutory appeal.

Class counsel negotiated a proposed settlement in the fall of 2011, which the district court approved in 2013. Objectors—four former named plaintiffs whom class counsel had purportedly removed from named plaintiff status when they opposed the settlement—appealed.

Under Federal Rule of Civil Procedure 23(e), claims, issues, or defenses of a certified class may be settled only with the court’s approval. Rule 23(e)(2) requires that a proposed settlement that will bind the class be “fair, reasonable, and adequate.” The district court approved the settlement via two two-page orders that “ignore[d] virtually all” of the objections to the settlement, despite the obligation to “give careful scrutiny to the terms of proposed settlements in order to make sure that class counsel are behaving as honest fiduciaries for the class as a whole.” The Seventh Circuit rejected the settlement, laying out numerous “red flags.”

Red Flags as to Class Counsel
The opinion notes several ethical issues involving class counsel. First, the initial named plaintiff was the father-in-law of the lead counsel for the class, a conflict that Judge Posner referred to as a “palpable” impropriety. Second, lead counsel was being investigated by the Illinois state bar during the settlement negotiations and ultimately was sanctioned with a 30-month suspension from practicing law. This created a conflict of interest, because lead counsel had a strong incentive to get the settlement signed and approved as quickly as possible, which may not have been in the class’s best interest. There were also questions regarding lead counsel’s messy departure from his former firm.

“A fundamental tenet is that a lawyer may not permit personal interests to have an adverse effect on the client’s representation,” explains Thomas G. Wilkinson Jr., Philadelphia, PA, cochair of the Conflicts of Interest Subcommittee of the Section of Litigation’s Ethics and Professionalism Committee. “Lawyers who are under a cloud of discipline and facing the potential loss of license also need to convey such material information to their clients and make an objective assessment whether the circumstances are such that they should withdraw for the benefit of the client,” says Wilkinson.

Substantive Red Flags
The settlement was rife with issues as well. Among the problems the opinion identified: Class counsel was to receive fees up front, but the class members received only contingent claims, and the district court made no attempt to estimate how many such claims would be filed, failing to verify the claimed value of the settlement. Although the parties claimed the value of the settlement was $90 million, the appellate court assessed it at a fraction of that amount. The district court also failed to estimate the likely outcome of a trial.

Further, the settlement provided for a $2 million advance of attorney fees to lead class counsel before the notice of the settlement was sent to the class, and the settlement was structured to make it very difficult for the class members to recover. Additionally, some class members were entitled only to “coupons” on future Pella purchases, which Judge Posner called a “warning sign of a questionable settlement.” “The claims forms were complicated and effectively discouraged claims,” states Wilkinson. “The entire process was stacked against the claimants,” Wilkinson adds. As a whole, Judge Posner summed up, “class counsel sold out the class.”

Lessons for Judges and Lawyers
So how can counsel—and trial court judges—avoid finding themselves on the receiving end of a decision like this one? A trial judge “should not succumb to the tendency to give the same deference to class action settlement terms as it would a voluntary settlement between two parties,” offers Wilkinson. Plaintiffs’ counsel should “steer clear of settlement terms that appear to place the lawyer’s interests above those of the class members, even when such terms are offered by defense counsel,” he continues.

Finally, “the tougher judgment call falls on defense counsel, who may be presented with an opportunity to settle a class action on highly favorable terms to their client, but where the terms provide lopsided benefits to class counsel in relation to the class members. While defense counsel may not owe ethical duties to claimants who are not their clients, they must be wary of accepting terms that will not withstand objective judicial scrutiny. For defense counsel, following the path of least resistance in securing a settlement is not always in the long-term best interest of their client,” explains Wilkinson.

Even at the settlement stage, where everyone has an incentive to move on, Gardner explains, both sides should be prepared to defend the settlement before the district court. “More and more, you are going to see district courts being much more probing and engaged—as they should be—in examining whether or not the class is really getting any kind of material benefit.”

Keywords: class action, ethics, settlement, class counsel, conflict of interest, objectors, Judge Posner, Seventh Circuit

 
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