class actions settlements

I'm quoted in a May 23 Maryland Daily Record story on professional objectors (and don't miss the correction at the bottom of the story).

Because class action settlements bind class members absent from court proceedings, and because class action attorneys are negotiating their fees as part of the same settlement as the class settlement (even when they engage in the fiction of negotiating seriatim), Fed. R. Civ. Proc. 23(e) requires class action settlements to receive court approval as "fair, adequate, and reasonable" to ensure that class attorneys are not breaching their fiduciary duty to the class.

This permits legitimate objections to the settlement. But it also permits holdups. If class attorneys are awarded a $4 million fee, but appeals of a class action settlement approval take two to three years, the time-value of money means that it's worth hundreds of thousands of dollars to the class attorneys to pay the objectors to go away. This leads to rent seeking.

A reform to the Federal Rules of Civil Procedure was meant to address this problem: an objection cannot be withdrawn in district court without court approval. This certainly rids the system of the more blatant holdup payments that do nothing to benefit the class—though, given that the resulting proceeding will be non-adversary and any approval will not be appealed, there's little incentive for district courts not to rubber-stamp objection withdrawals.

Of more concern is that there is no parallel rule in the Federal Rules of Appellate Procedure. Simply by filing a notice of appeal, a holdup objector can avoid the need for court approval: indeed, appellate court mediators will formally encourage settlement to lighten the appellate court's docket. There's some reduction in the value of the objection, because the buyoff comes later rather than sooner, affecting the time-value of money for both the objector and the class counsel, but there's no real reduction in the incentive for rent-seeking.

Worse, the structure leads to perverse incentives: a rent-seeking or "professional" objector is likely to be financially better off if the district court denies the objection, permitting an immediate appeal—especially since many district courts are reluctant to award attorneys' fees to objectors even if the objection improved the settlement.

This can lead to low-quality objections. Of course, even professional objectors can make legitimate objections: they object to bad settlements as well as reasonable settlements, and even win occasionally: see, e.g., Synfuel Tech. v. DHL Express, 463 F.3d 646 (7th Cir. 2006). But low-quality objections hurt consumers in four ways: first, poor objections lead to poor precedent that encourages judges to rubber-stamp bad settlements over objections; second, one would expect that class counsel anticipates the expense of buying off professional objectors, and builds that into the settlement fee, increasing the cost of class action litigation to the detriment of consumers; third, to the extent the settlement legitimately provides class members with benefits, rent-seeking delays reduce the value of the settlement to the class if the class counsel has not negotiated interest-bearing escrow accounts (which is why courts should condition findings of fairness on the establishment of such accounts); and fourth, there is a signaling problem whereby it is difficult for legitimate objections to be treated as legitimate objections because the objector cannot distinguish himself from rent-seeking objectors. (Indeed, an intelligent Bayesian would expect most objectors to be rent-seeking: for the same reasons we have class actions to aggregate litigation, an objector has no financial incentive to spend time and money petitioning the court over an unfairness to a settlement where an excessive attorneys' fee might deprive the class member of a few dollars or even less. This is why thoughtful courts do not equate lack of formal objections with class members' approval of the settlement.)

The Center for Class Action Fairness resolves the signaling problem in a unique way: we announce in advance that we refuse to settle unless the settlement results in an objectively fair and reasonable settlement, and we refuse to request a fee for more than 4.4% of the additional pecuniary benefit to consumers resulting from our objections (with that fee coming from class attorneys' fees, rather than from consumers); to date, we've never settled an objection. Our interests are to put consumer welfare first. This hasn't stopped class counsel from trying to tar us with the "professional objector" brush, but we can demonstrate that they're being dishonest if they accuse us making a bad-faith objection for profit.