Class Action Countermeasures : Class Action Lawyers & Attorneys : McGuireWoods Law Firm : Complex Litigation, Mass Torts

For many, the start of a new year is not just a time to look ahead, but also a nice landmark for looking back. So it is with class-action litigators. In the past month, there have been at least four different "Year End Reviews" of class actions. (I'm not counting my own, which are more top ten lists than anything else.)

So how do these various reviews stack up? Pretty well, actually.

Baker Hostetler's 2012 Class Action Year End Review
Where to find it: Here.
What's to like: It's a comprehensive look at class actions in 2012; and one of the authors is Paul Karlsgodt, the guy who brings you the Class Action Blawg.  It also has a very useful breakdown of recent class actions by topic and by specific industry.
What's to complain about:  Not much.  It gets the law largely right.  The most I might quibble with would be some of the editorial choices, but those are small potatoes indeed.
Most interesting finding: Watch out for privacy and LIBOR-related class actions.

"The continued proliferation of privacy class action litigation is widely expected in 2013, as the courts continue to grapple with the interpretation of both new and old privacy laws to rapidly changing technologies. Another potential trend to keep an eye on is the development of class action litigation relating to the LIBOR rate-fixing scandal, which has the potential to impact trillions of dollars of financial transactions worldwide and could be a catalyst to the accelerated expansion of class and collective action procedures in other parts of the world."

Skadden's Insights/Global Litigation
Where to find it: Here.
What's to like: A brief, incisive review of class action practice by defense guru John Beisner and his partner Jessica Miller. (Also, a products liability summary by former class action blogger Russell Jackson.)
What's to complain about: It's pretty brief; less than 2.5 pages. But it does pack a lot into them.
Most interesting finding: Watch out for single-state class actions.

"While nationwide classes based on state law are still moribund, a number of traditionally conservative courts around the country have embraced smaller, single-state consumer fraud and employment discrimination class actions, suggesting that 2013 may bring more class actions."

Seyfarth Shaw's Ninth Annual Workplace Class Actions
Where to find it: Here. 
What's to like: Comprehensive, detailed, data-driven analysis of awards and settlements in workplace class actions.
What's to complain about: Doctrinally, it's a little vague on occasion. And you have to order it, rather than just being able to download it. (I received only the first two chapters for review purposes.)
Most interesting finding: Dukes's big influence was in enabling a divide-and-conquer strategy for employment defendants.

"Wal-Mart influenced settlement strategies in workplace class actions in a profound way. Employers settled fewer employment discrimination class actions than at any time over the past decade and at a fraction of the levels as in 2006 to 2011. This reflected the impact of Wal-Mart, and the notion that difficulties in certifying nationwide, massive class actions impaired the ability of the plaintiffs’ bar to convert their case filings into blockbuster settlements. It also manifested the ability of defendants to dismantle large class cases, or to devalue them for settlement purposes. Simply stated, Wal-Mart aided employers to defeat, fracture, and/or devalue employment discrimination class actions, and resulted in fewer settlements at lower amounts."

(Internal footnote omitted.)

Cornerstone Research: Securities Class Action Filings 2012 Year in Review
Where to find it: Here. 
What's to like: Data, data, and more data. The class action media has already had a field day picking this apart, because there's just so much in it.
What's to complain about: Nothing, really. It does what it says on the tin, which is give data on filings, rather than settlements or decisions.
Most interesting finding: Merger class actions are declining.

"Compared with the past two years, federal filings associated with merger and acquisition (M&A) transactions have fallen sharply. Thirteen cases were filed in 2012 compared with 40 and 43 in 2010 and 2011, respectively. Evidence indicates these actions are now being pursued almost exclusively in state courts after the unusual jump in federal M&A filings in 2010 and 2011."

I understand how this probably looks: in the past month, I've complained that there's very little interesting going on in class action scholarship, and I've posted a "biting criticism" (as one correspondent put it) of the latest overview from two of the most respected names in class action academia. And then I turn around and praise three year end reviews by defense firms, and one by a consulting firm. But these are currently the facts on the ground. University academics--perhaps because they don't have much skin in the game except as "class action experts" in litigation--have shown in the past two years that they care mostly about Supreme Court cases and the "demise of the class action" that will result after the next wrong decision. Practicing lawyers, on the other hand, care about actually winning cases and serving clients. To do their jobs, they need good information; to get clients, they have to share that information. At this point, that apparently means that I'd rather be reading another firm's take on the last year than one by a law professor, no matter how distinguished.

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Robert Klonoff, Dean of the Lewis & Clark Law School, has produced a new article, The Decline of Class Actions (forthcoming from the Washington University Law Review), that provides a much-appreciated overview of recent developments in class action law from a plaintiff's perspective. (Disclosure: Dean Klonoff provided a very nice blurb for the Class Action Playbook.) Regular readers of this blog know that I am actually a big fan of plaintiffs' perspectives: I think understanding them is crucial to a conscientious and seals defense of class action litigation. And while there is much to like in Dean Klonoff's analysis, there is also a fair amount that is lost to the same old pro-plaintiff analysis that many courts have begun to reject.

Unlike a number of his scholarly colleagues, Dean Klonoff doesn't say that the class action is dead, just that courts have made it a lot harder to get a class certified, and that he considers that a problem. He traces that problem to a number of the "new" requirements that courts have imposed on class-action plaintiffs in the last decade. What are those new requirements? Well, they'll look familiar to readers of Rule 23.

Rigorous analysis. Dean Klonoff worries that courts now require too much evidence from plaintiffs at the certification stage. Some of his concerns have some actual foundation (a number of practitioners, both plaintiff and defense, have noted that the increased focus on rigorous analysis has shifted costs toward the beginning of the case for both sides, a result necessarily in tension with the efficiency arguments for class certification). But others betray an ignorance of how lawyers actually litigate cases. For example, he expresses concern that:

While courts have imposed strict new evidentiary burdens on plaintiffs, they have increasingly permitted defendants to seek denial of class certification without submitting to discovery. For instance, in Pilgrim v. Universal Health Card, LLC, the Sixth Circuit upheld the district court’s dismissal of class allegations in a nationwide class action, reasoning that “we cannot see how discovery or for that matter more time would have helped [plaintiffs].” Other courts have taken this approach as well. Case law requiring plaintiffs to put forward exacting evidentiary proof in support of class certification is difficult to square with case law permitting defendants to move to strike class allegations without allowing plaintiffs even minimal discovery.

In fact, it is easy to square these two requirements. The plaintiff bears the burden of providing the court with an adequate basis for certifying a class. LIke with any burden, that means that ties go to the other party (in this case, the defendant). If the plaintiff has pled a class action that can't be certified because of an insurmountable legal defect, there is no reason to engage in discovery that cannot cure that defect. This is the exact same reason that we require a plaintiff both to prove her case by a preponderance of the evidence, but also allow the defendant to file a motion to dismiss.

More importantly, Dean Klonoff does not address the actual new requirement imposed by Rule 23(c)(1)(B), which requires a detailed order from courts certifying a class. Without actual evidence from plaintiffs, courts will find it hard to meet this new requirement.

Interestingly, Dean Klonoff does think that courts should resolve Daubert questions before certification, because they are about the admissibility of evidence, rather than proof of the merits.

Ascertainability. Dean Klonoff also worries about courts' increased focus on the viability of class definitions.

Indeed, the trend of more exacting scrutiny of class definitions has been recognized by one of the nation’s leading class action defense attorneys, John Beisner. In a recent article, Beisner noted that “more and more decisions are turning on the requirement of an ascertainable class definition.” He thus urged class action defense counsel to look for ways to challenge the class definition.

(Internal footnotes omitted.) According to Klonoff, a "more measured" approach would be to allow the plaintiffs to amend their class definition whenever it is challenged. And, in many cases, that is exactly what a court will do. But sometimes amending a class definition is simply futile: if there is no common issue uniting the class, then any definition will be either overbroad or impermissibly merits-based.

Numerosity. Dean Klonoff has identified an important trend here. Prompted by a need for a more rigorous analysis, courts have expanded their analysis of numerosity. In particular, they have begun to question the assumptions plaintiffs make, and to look at the effect that geographic dispersion may have.

Although the case law is conflicting, plaintiffs are nonetheless at risk of losing on class certification if their numerosity argument is based on inference or on appeal to common sense. The strict approach adopted by some courts represents yet another troublesome trend. Indeed, the large number of successful challenges to numerosity—which was once the least demanding requirement of Rule 23(a)—is one of the most dramatic recent developments.

(Emphasis added.)  Both plaintiffs and defense can benefit from a greater understanding of this development.

Commonality. Not surprisingly, given his overall thesis, Dean Klonoff believes that the Supreme Court erred in its holding in Dukes. As he puts it:

The majority decision in Dukes cannot be squared with the text, structure, or history of Rule 23(a)(2). Nothing in the text of Rule 23(a)(2), or in the Advisory Committee Notes thereto, requires that the common question be central to the outcome. Instead of looking at the traditional methods of interpreting Rule 23(a)(2), the majority relied heavily on a law review article by Professor Nagareda.

Dean Klonoff also questions whether Nagareda was really writing about commonality, even though Nagareda makes makes it clear that he is referring to common questions in Rule 23 a number of times (both Rule 23(a)(2) and 23(b)(3) use the same term; it makes sense they would mean the same thing). This begs the question: Why would you want to certify a class where the common question was not central to the outcome of the case?  This, unfortunately, is not a question he answers. (Dean Klonoff does raise another interesting question, which is whether the use of the term "common question" in Rule 23 is the same as in Rules 20 and 42.)

Adequacy. After pointing out that he actually supports a more stringent adequacy requirement in general, Dean Klonoff argues that adequacy should not encompass claim-splitting.

There is, however, a disturbing trend in “adequacy” jurisprudence. That case law focuses not on the ability of class representatives and counsel to vigorously represent the class, but on counsel’s selection of the causes of action to assert. The argument is that, by not bringing all potentially viable claims, the representatives and counsel have (1) impermissibly “split” claims, thereby prohibiting class members (pursuant to res judicata) from later bringing those omitted claims, or (2) subjected class members to the risk that collateral estoppel could essentially nullify their remaining (unfiled) claims.

(Internal footnote omitted.)  Dean Klonoff's solution is simply to have courts state that collateral estoppel shall not apply to claims that could have been raised, but were not for strategic reasons. This is a disturbing suggestion on several levels, not least of which is that it undermines the balance that justifies class aggregation, that of the right to individual trials on the one hand, and the need for global resolution--for plaintiff or defendant--on the other.

Other Issues. Dean Klonoff also worries that plaintiffs cannot use Rule 23(b)(2) strategically to certify money damages classes that would not qualify under Rule 23(b)(3), and that courts have clamped down on fraud and multi-state class actions (the former because reliance is very difficult to prove on a classwide basis, the latter because plaintiffs have not offered any viable methods of certifying a nationwide class). He believes that these constitute "per se" rules against certification.

Klonoff doesn't have much practical advice for lawyers, instead he advocates forum-shopping to find more receptive circuits. (He recommends the Second, Third, and Ninth.) Instead, he largely critiques the holdings, and asks courts to hold differently going forward.

So the good news is that Dean Klonoff has published an actual work of doctrinal scholarship that can help lawyers, something we desperately need more of. The bad news is, it's clearly plaintiff-biased; but that's not really bad news. Dean Klonoff is a smart man who knows class-action law well; reading his analysis of the latest class certification cases will help any conscientious defense lawyer hone his arguments. The real bad news (call it the "ugly") is that these are apparently the best pro-certifictaion arguments. Rather than basing them on the case law as it stands, Klonoff instead questions the legitimacy of recent holdings:

They suggest a suspicion about class actions generally, premised on the assumption that the class action is a blunt instrument to coerce settlement and secure large attorneys’ fee awards.

In fact, as several class-action plaintiffs made clear at the DePaul Law Review Symposium, these are not the only arguments available to plaintiffs. Plaintiffs who actually meet the requirements of Rule 23--by avoiding individualized issues, providing evidence that each of the requirements are met, and engaging in comprehensive legal analysis where appropriate in multistate class actions--are on exceptionally strong footing at certification. When one's arguments all start out by assuming a premise like "courts should not be suspicious," then the battle is won or lost before any argument gets made. Either the judge is suspicious or she isn't, either she agrees that the text of Rule 23 is secondary to deterrence and efficiency, or she does not. At that point, all the arguments of this kind that exist are unlikely to change her mind from where she started.

(Hat tip to Professor Lahav at the Mass Tort Litigation Blog for finding the article.)

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For the last six or seven years, a growing academic literature has put forward the argument that the primary justification for class actions is not to compensate absent class members, but to deter corporate wrongdoing. That justification has formed the basis of a number of arguments, from Professor Fitzpatrick's proposal that class action attorneys earn a 100% commission on their cases to Professor Lahav's that the law should go a little easier on the class-action lawyer. It also underlies many of the fears that tightening the class-action rules may lead to rampant corporate misconduct.

Few practitioners or scholars have really confronted the deterrence justification for class actions in depth. However, today's piece of Classic Scholarship, Class Action “Cops”: Public Servants or Private Entrepreneurs?, by John Beisner, Jessica Miller, and Matt Shors (57 STAN. L. REV. 1441), was an early and muscular entry into the debate. Beisner and company argue that, because of the incentives they face, class-action lawyers neither can nor should act as "private attorney generals," and that, in doing so, they distort the careful choices about how best to enforce the law that government must make.

First, they point out, there is no justification in the law for a "pure deterrence" class action. In fact, allowing class actions to operate as purely "private attorney general" vehicles would likely violate the Rules Enabling Act.

In the first place, the concept raises fundamental questions about the validity of the class action device under the Rules Enabling Act. After all, if the true purpose of the class concept were to facilitate private law enforcement, it would be a substantive right. The Rules Enabling Act, however, authorizes the federal judicial branch to create nothing more than purely procedural mechanisms.

Then, they show just why it is that we (rightly) don't trust the idea of private enforcement in other areas of the law.

In this regard, the private law enforcement characterization promoted by some class action attorneys is no different from permitting self-appointed “police officers” to roam the streets, set up speed traps, pull over drivers (whether or not they were speeding), and give them the option of either (1) spending a few nights in jail, or (2) resolving the problem by paying the police officer (for personal benefit) whatever he demands. No doubt, the self-appointed “cops” would argue that this would be an efficient system. After all, it would discourage speeding.
But justifiably, the public would have no trust in--or respect for--such a system of law enforcement, since prosecutorial decisions would be driven (or at least would have the appearance of being driven) by the overwhelming financial self-interest of the police officers themselves.

(In layman's terms, nobody rooted for Jackie Gleason in Smokey and the Bandit.)

Nonetheless, many continue to argue, if Smokey isn't doing his job properly, don't we need someone to backstop him? Isn't that a strong argument to bring in Dog the Bounty Hunter, to what the cops don't have the time or resources to do? [Warning: Link has autoplaying audio.]

As Beisner and company point out, the answer there is probably "no." First, Dog doesn't have the same incentives as real police. He's going to chase after the most telegenic fugitives, rather than the most dangerous. (Witness his current "Most Wanted," celebrity fugitive Randy Quaid.) And that will lead to over-deterrence in high-profile cases where the government is already working, and under-deterrence where the work is harder and the rewards less certain. The same thing happens in class actions, where many lawyers choose to just piggyback on government investigations or voluntary corporate action.

The reason class action lawyers prefer to follow--rather than to lead-- government investigations is simple: those lawyers prefer “no research” lawsuits that appear likely (from the investigation itself) to yield lucrative settlements with only a minimal investment of time and money. In contrast, government lawyers, who by definition are not driven by profits, tend to be willing to spend more time doing the factual and legal research needed to decide what kinds of cases should be brought, not simply to increase revenue, but to further the public good.

Moreover, there may be good reason the government might choose not to chase after Randy Quaid.

"The “gap-filler” argument also ignores that state officials often choose not to initiate legal action for reasons other than inadequate resources. For example, state attorneys general, as elected officials tasked with pursuing the public interest, have discretion to determine that, although a particular lawsuit might produce a recovery, the lawsuit should not be brought."

When might it choose not to bring a lawsuit? Say, when doing so might harm another vulnerable population within the state.  (And here, despite mightily trying to bring this analogy around to reality TV and celebrity fugitives, I admit defeat.)

Their solution: if you want private cops, then you have to treat them more like cops than private businessmen. Cops don't make 30% commissions on their drug busts, and with good reason. That kind of incentive would warp their instinct to protect the public rather than line their pockets. (Similarly, SEC lawyers don't get to keep 30% of their fines, and yet they can still draw heavy criticism for under- or over-enforcement.)  Everything about the class action rules as they stand and are enforced--the emphasis on procedure, the allowance of contingency fees, the use of common funds--rests on the assumption that the attorneys are securing compensation for civil wrongs, rather than supplementing actual law enforcement.

But the most interesting aspect of this debate to me, after having reread this article, is that it makes one thing very clear. The real issue here is not whether corporations should be allowed to effectively self-regulate. That argument is difficult at the best of times, and these are not the best of times. But if we don't trust corporations to effectively self-regulate, why would we trust plaintiff's lawyers--whose incentives match the corporations' rather than the government's--to do the exact same thing? The best answer I can come up with isn't very flattering to the plaintiffs' lawyers.

[Disclosure: At the time the article was written, John, Jessica, and Matt were all colleagues of mine. To my knowledge, none of them have ever made Burt Reynolds or Dog the Bounty Hunter references.]

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 My apologies for posting late this week; I'm suffering from a little jet lag. I spent yesterday in Virginia at the annual conference for the American College of Court Business Judges, where John Beisner and I were presenting a number of developments in class action litigation.  Today I'm England, and by tonight, I will be in the Hague for the 5th Annual Conference on the Globalization of Class Actions and Mass Litigation, where Paul Karlsgodt (of ClassActionBlawg) and I will be eagerly taking notes.  

Before John and I presented on Monday, we were treated to a panel discussing the ALI's recently-finalized Principles of the Law of Aggregated Litigation. Victor Schwartz (long hailed as the "intellectual guru of the wrongdoers of America") moderated, and Professors Troy McKenzie and Charles Silver, and the Hon. William Highberger, discussed the development of the Principles. Among the highlights:

• The ALI Principles have featured in several prominent class-action opinions in the past year, including Smith v. Bayer Corp. in the Supreme Court, and Gates v. Rohm & Haas Co. in the Third Circuit.
• While Wal-Mart Stores, Inc. v. Dukes did not explicitly cite the Principles, it relied heavily on the late Richard Nagareda's work on divisible and indivisible remedies and the nature of common questions, as did the Principles.
• The Principles have proven to be more stringent about cy pres relief than much of the case law, which may have influenced the Fifth and Ninth Circuits in their recent restrictions of when cy pres may be used.
• The evolution of the Principles through its draft forms reflect a desire to minimize gamesmanship, including the removal of a number of examples discussing medical monitoring (which often does not lend itself to class treatment), a de-emphasis of subclasses to prevent any gamesmanship in class proposals (by, say, proposing a massive class, but having a subclass as a fallback position), and the deletion of a discussion of using a company's principal place of manufacture in conflict-of-law analysis (because conflicts of law involves substantive--rather than procedural--questions).
• Certain of the Principles endorse changes in the law, rather than just restating it. Most notably, §§ 2.10 (which recommends allowing opt-ins where possible, or "aggregation by consent), and 3.17 (which would allow plaintiffs to give informed "advance consent" to settlement agreements, facilitating mass tort settlements).

Overall, the Principles are still new enough that most lawyers don't cite them very frequently when briefing mass or class actions. However, the judges in the audience seemed pretty enthusiastic about the analysis. Make of that what you will.

Given my travel and conference schedule this week, there'll be no post tomorrow.  But join me on Friday for the first set of highlights from the Globalization conference.  Safe travels to those who'll be there.  

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Skadden attorneys John Beisner, Jessica Miller, and Jordan M. Schwartz have drafted a white paper for the Institute for Legal Reform titled "Cy Pres: A Not So Charitable Contribution to Class Action Practice."  Relying heavily on Martin Redish's critique of cy pres recovery, they trace cy pres relief from its "pre-Christian" origins as a means of distributing estates to its most recent abuses. Their final recommendation is interesting, and fairly moderate:

in order to mitigate the legal and ethical concerns associated with cy pres awards, any application of the cy pres doctrine—even in the context of settlements—should be subject to two critical limitations. First, whenever a settlement agreement includes a cy pres component, the fees awarded to class counsel should be tied to the value of money and benefits actually redeemed by the injured class members—not the theoretical value of the cy pres remedy. Such a restriction would be consistent with the intent of the Class Action Fairness Act (“CAFA”), which mandates that any portion of plaintiffs’ counsel’s fees that is based on the value of coupons awarded to class members “shall be based on the value to class members of the coupons that are redeemed,” rather than the theoretical value of the coupons available to class members. Extending the CAFA coupon requirement to class action settlement cases involving cy pres would help ensure that plaintiffs’ attorneys vigorously represent and defend the interests of absent class members by maximizing the benefits actually redeemed by the class members.

Second, the parties (rather than the court) should determine whether residual settlement funds should be disposed of through cy pres—and if so, to what charities. Such an approach will minimize the risk that judges will use their influence to steer cy pres funds to their preferred charities.

(Internal footnotes omitted.)  

So what can defense lawyers use in this white paper? It provides a cogent summary of the best arguments against cy pres relief. More specifically, it offers an argument against those plaintiffs who seek certification by arguing that using cy pres relief will avoid the need to confront individualized issues in a case:

extending cy pres to litigated class actions would violate the Rules Enabling Act—and threaten the integrity of the judicial process—by using Federal Rule of Civil Procedure 23 to dramatically alter the substantive law. Under the Rules Enabling Act, a rule of procedure or evidence may not “abridge, enlarge or modify any substantive right.” This is so because using a procedural rule to alter the substantive law would interfere with the powers of Congress and state legislatures to decide governing laws. Notably, courts have rejected other efforts to transform substantive law in the context of aggregate litigation in similar contexts; of most relevance here, courts have rejected “fluid recovery” theories—under which plaintiffs seek to prove “class” damages rather than individual damages of each class member—as violating the Rules Enabling Act.

(Emphases added; internal footnotes omitted.) This situation is more than just a hypothetical. Most notably, Judge Jack Weinstein tried to use this tactic to avoid confronting individualized issues when certifying a class tobacco purchasers, a decision that was heavily criticized at the time. (The Second Circuit eventually reversed him.) It's also a good example of the growing trend of relying on the Rules Enabling Act to argue against sloppy certification analyses that effectively change the fundamental rights of the parties.

(Hat tips to Ted Frank and Jordan LeClerc for spotting.)

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What is grand strategy? It's a term that's usually thrown around in military, security, and foreign policy circles. As the military historian Liddell Hart defined it in his classic book Strategy:

[T]he role of grand strategy – higher strategy – is to co-ordinate and direct all the resources of a nation, or band of nations, towards the attainment of the political object of the war – the goal defined by fundamental policy.

...

while the horizons of strategy is bounded by the war, grand strategy looks beyond the war to the subsequent peace. It should not only combine the various instruments, but so regulate their use as to avoid damage to the future state of peace – for its security and prosperity.

What does this mean for class actions? It means that often, the best defenses against a class action don't involve a specific lawsuit. Instead, they involve larger policies and strategic decisions. For one thing, it is possible to have a firm-specific (or client-specific) "grand strategy" for fighting class actions. The most obvious grand-strategic move is one that law firms sell to clients all the time, a compliance policy. If a corporation has a robust compliance policy, it is less likely to get sued for breaking the law.

But some corporations are just located in industries where they're more likely to be sued in class actions. A corporation like that might decide that part of its grand strategy will be to oppose every class action on Rule 23 grounds and settle class actions where the plaintiff has a valid claim on a named-plaintiff basis. Its goal over time could be twofold: (1) build a reputation as a vigorous litigator, which should deter those plaintiffs looking for a quick settlement; and (2) make incremental changes in class-action law to eliminate the worst plaintiff-side abuses. Specific law firms may have grand strategies as well. For example, throughout the 2000s, O'Melveny & Myers, under the leadership of John Beisner, made part of its goal to create a legislative environment that curbed the worst of plaintiff-side abuses. Part of that effort involved providing scholarship that analyzed the reasons why some plaintiff practices made for bad policy. One outcome that grand strategy helped produce was passage of the Class Action Fairness Act. These are hardly trade secrets, Beisner's scholarship is published, and he mentions his CAFA testimony in his firm biography. [Disclaimer - I worked at OMM during the period I'm discussing.]

The most important part of developing grand strategy is recognizing that defending a lawsuit, even a "bet the company" lawsuit, still must fit into a company's (or law firm's) larger goals. Defense lawyers tend to treat this statement as a truism: of course you align your strategy with your client's goals. But treating this advice as strategy instead of marketing can help lawyers develop far more robust defenses to class actions.

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Securities class actions have often drawn criticisms from both defense counsel and their ideological allies. One of the more interesting criticisms has been that securities class actions may be nothing more than shell games moving money around in such a way that the only parties to benefit are the lawyers. The theory goes like this: when a plaintiff files a securities class action, she seeks compensation for a drop in the value of her shares. The firm, faced with a bet-the-company lawsuit, settles (with a payout to the plaintiffs’ lawyers). The settlement, on a prorated basis, goes to the plaintiff. And then the value of her stock in the company drops because the company has paid her a settlement and her (and its) attorneys a large fee.
It’s a tidy story, presenting a logic that’s difficult to argue against. But is it true? Law professors Lynn Bai, James Cox, and Randall Thomas set out to test this story. Their study, “Lying and Getting Caught: An Empirical Study of the Effect of Securities Class Action Settlements on Targeted Firms” reached a number of conclusions, two of which are important to this discussion.

• Defendant firms tend to perform worse than their counterparts after they’re sued. Or, as the authors put it, their regression analysis “confirm[s] the deterioration in sample defendants’ operational efficiency in the early years following the commencement of the lawsuit. For the post-settlement periods, defendant firms with high settlement amounts had a higher probability of under-performing their peer groups than companies facing lower settlement amounts.”
• Class-action settlements often come out of a firm’s operating capital. “These numbers are consistent with the theory that insurance provided less than a full coverage of the settlement amounts and the discrepancy was paid out of the defendants’ current assets. The settlement payment exacerbated liquidity constraints on the part of the defendants, making them more vulnerable to liquidity crunches and prone to bankruptcy.”

In this case, the bottom line for defendants is that securities class actions affect the bottom line of defendants. One hardly needs an academic study to prove that. But this is one of the first studies to outline the ways in which a securities class action can directly affect the financial health of a firm. Ironically, the securities class action winds up sapping the very assets that a firm needs to stay healthy, and provide an adequate return on investment for the same shareholders the lawsuit is supposed to protect. From a strictly doctrinal standpoint, this study suggests that a securities class action may not be superior to other methods of resolving any controversy arising out of a stock drop. It’s an argument that defense counsel will surely pursue further.
 

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Class-action defense guru John Beisner has published a new study on third-party litigation financing: “Selling Lawsuits, Buying Trouble: Third-Party Litigation Funding in the United States” (US Chamber Institute for Legal Reform, October 2009). Since it’s published by the US Chamber of Commerce, this is an advocacy piece, and one aimed more at policymakers than courts. (Beisner reaches one empirical conclusion: that allowing widespread third-party funding in Australia led to an increase in class-action filings there.)

While the policy arguments are certainly not dull, I’m more interested in the strategic implications of the piece for class-action lawyers.

And here’s the real question third-party financing raises: if plaintiff’s counsel (or the plaintiff) receives third-party litigation funding, have they compromised their adequacy as class representatives? Courts have held that a named plaintiff owes a fiduciary duty to the class; and so does the class counsel.  If either the named plaintiff or counsel is beholden to a third party who is underwriting the action, they may have compromised their ability to represent the class in an unbiased fashion.

In addition, class plaintiffs have long portrayed themselves as the underdog, a David taking on a corporate Goliath who needs judicial (rather than divine) intervention to prevail. If the plaintiff is backed by a large hedge fund, the fight is no longer David-versus-Goliath, but a clash of the titans, where neither side naturally requires sympathy.

This suggests a discovery tactic: why not spend an interrogatory asking about the plaintiff’s source of funding in class actions? Granted, the Federal rules make interrogatories a limited resource. And diving into a possible battle over work-product or the attorney-client privilege (colorable, but likely unsuccessful arguments the plaintiffs might assert) may appeal only to more combative defendants. But exposing a potential conflict of interest and nullifying plaintiffs’ traditional David-versus-Goliath rhetoric may be well worth the effort.

[Disclosure: I used to work with Beisner and his co-author Jessica Miller at O’Melveny & Myers LLP, and, on occasion, helped them research previous articles.]

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