Last week, in In re Lupron Marketing & Sales Practices Litigation, Nos. 10-2494, 11-1329, 2012 U.S. App. LEXIS 8263 (1st Cir. Apr. 24, 2012), the First Circuit issued a significant opinion providing substantial guidance on distribution of excess funds in a class action settlement on a cy pres basis. This situation typically occurs when there is a settlement fund capped at a particular amount, the class members are required to submit claim forms and have their claims approved in order to receive payment from the fund, and the total amount paid to those class members who submit claim forms is less than the total settlement fund.  The court must then determine how to distribute the remaining funds to class members or on a cy pres basis, or whether to return them to the defendant, or whether to send another notice and provide class members an additional opportunity to make a claim.  In Lupron, the First Circuit heard an appeal by objectors challenging a cy pres distribution of excess settlement funds.  Retired Supreme Court Justice David Souter sat on the panel for this case. 

The First Circuit cited with approval and extensively discussed the ALI Principles of the Law of Aggregate Litigation § 3.07 (2010) (for more on these principles, see my September 8, 2011 blog post).  Here is what I saw as the key points the court made:

  • If the class members who participate in the settlement were not fully compensated by the claims process, the first preference should be to provide the class members with additional pro rata compensation.  Id. at *27.  As the court noted, this likely will be how excess settlement funds are distributed in most settlements because class action settlements are usually compromises that typically do not provide full, 100% compensation.  In the Lupron case, however, the class members were fully compensated for the loss they sustained (i.e., being improperly charged an unduly high amount for the Lupron prescription drug).  Thus, the question was whether the class members who made claims should be provided additional payments in excess of their losses or if the money should be returned to the defendant or distributed on a cy pres basis (typically to a nonprofit organization or in some other manner that would attempt to reach or aid those members of the class who did not make claims in the claim process).
  • The court explained that returning the remaining funds to the defendant is not favored under the ALI Principles because it “would undermine the deterrence function of class actions and the underlying substantive-law basis of the recovery by rewarding the alleged wrongdoer simply because distribution to the class would not be viable.”  Id. at *28.  Thus, from the defendant’s viewpoint, if you want to have excess settlement funds revert back to the defendant, make sure that is agreed to up front and presented to the court for approval as part of the settlement.
  • The court adopted a “reasonable approximation” test, set forth in the ALI Principles, for cy pres awards

ALI Principles § 3.07(c) sets up an order of preference: when feasible, the recipients should be those “whose interests reasonably approximate those being pursued by the class.” Id. If no recipients “whose interests reasonably approximate those being pursued by the class can be identified after thorough investigation and analysis, a court may approve a recipient that does not reasonably approximate the interests being pursued by the class.” Id.

Both case law and the ALI Principles support our adoption of the “reasonable approximation” test. As to whether distributions reasonably approximate the interests of the class members, we consider a number of factors, which are not exclusive. These include the purposes of the underlying statutes claimed to have been violated, the nature of the injury to the class members, the characteristics and interests of the class members, the geographical scope of the class, the reasons why the settlement funds have gone unclaimed, and the closeness of the fit between the class and the cy pres recipient.  Failure to meet the reasonable approximation test can lead to reversal.

Id. at *28-29 (boldface added).  In applying this test, the court of appeals found no abuse of discretion in the district court’s award of a cy pres fund to the Dana Farber/Harvard Cancer Center for research on diseases for which the Lupron medication was prescribed.  The court concluded that: (a) there was no evidence that Dana Farber profited from the alleged fraudulent scheme; (b) the Dana Farber proposal appropriately would fund research impacting the treatment of all diseases treated by Lupron; (c) although Dana Farber is located in Boston where the court sits, the projects would be national and even international in scope; and (d) the objectors had waived any possible basis for recusing the district court judge based on his disclosure that he is a member of the board of a hospital that was affiliated with another hospital that was affiliated with Dana Farber.

  • It is preferable for the parties to designate in their settlement agreement appropriate cy pres recipient(s).  This is because “the adversary process is better suited to the parties making the decisions and leaving less to the discretion of the judges.”  Id. at *45.  The First Circuit explained that distributing cy pres funds is not a traditional judicial function, and “having judges decide how to distribute cy pres awards both taxes judicial resources and risks creating the appearance of judicial impropriety.”  Id.  Although it might be easier for the parties to not worry about identifying a cy pres recipient in the settlement agreement, particularly where it may be unnecessary, the First Circuit clearly prefers that.  It can avoid the kind of collateral, post-settlement dispute that led to additional litigation at the trial and appellate levels in the Lupron matter.

In insurance class actions, I can see some potential practical problems in trying to satisfy the First Circuit’s “reasonable approximation” test, assuming the class members were fully compensated by the settlement, which is rare.  In property insurance coverage-related cases, the Red Cross, which provides assistance to victims of fires and disasters, would probably qualify.  But in auto or life insurance cases, or those involving underwriting issues, it will be more difficult to find a way to distribute a cy pres award that would meet the First Circuit’s test.  There are some groups that sometimes file amicus briefs in support of policyholders in insurance cases, usually on coverage issues, but that does not seem to be the type of organization that would meet the First Circuit’s test.  If you expect a significant chance that a cy pres award will need to be made in connection with a class action settlement, it’s worth giving some thought early in the process to how such an award could be distributed consistent with court requirements.   As the First Circuit notes, reaching an agreement on that up front can avoid a headache down the road.