The settlement included a clear-sailing provision for attorney fees, whereby Massage Envy agreed not to object to class counsel’s fee request as long as counsel requested $3.3 million or less. It also contained a “reverter” provision, which provided that excess funds would revert to Massage Envy if the court awarded less than $3.3 million in attorneys’ fees.
The district court approved the settlement and awarded class counsel $2,612,500 in fees, representing approximately 25 percent of the $10 million face value of the voucher program and $450,000 in notice and administrative costs. Pursuant to the settlement agreement, around $600,000 in unawarded fees reverted to Massage Envy. Class member Kurt Oreshack objected. Oreshack argued that the vouchers were coupons and therefore class counsel’s fees should be determined by a percentage of the redeemed value of the vouchers, as required by the Class Action Fairness Act (CAFA) 28 U.S.C § 1712(a). Oreshack also contended that the district court abused its discretion by disregarding warning signs of class counsel’s self-interest.
On appeal, the Ninth Circuit joined the Fourth Circuit as the only Courts of Appeals to expressly state that district court decisions deciding the applicability of CAFA’s coupon provisions are subject to de novo review. To determine whether the Massage Envy vouchers qualified as coupons, the Ninth Circuit panel applied the three factors outlined in In re Online DVD-Rental Antitrust Litigation: (1) whether class members have to pay out of pocket before they can take advantage of the vouchers; (2) whether the vouchers are valid only for select products or services; and (3) how much flexibility the vouchers provide, including whether they expire or are freely transferable.
The vouchers’ flexibility and 18-month lifespan caused factor three to weigh against labeling them as coupons. However, factors one and two tipped the scales in favor of deeming the vouchers to be coupons, because all of Massage Envy’s products and services fall under the umbrella category of health and wellness, and class members receiving a $36.28 voucher could not purchase a single massage—Massage Envy’s principal product—without spending their own money. The court vacated the district court’s approval of the attorneys’ fee award and remanded the case for the district court to use the value of redeemed vouchers in awarding fees.
In the second part of its holding, the Ninth Circuit ruled that the district court abused its discretion in approving a class action settlement which contained indicia of collusion and did not provide enough benefit to class members.
When reviewing a pre-certification settlement agreement, courts are required to apply a heightened level of scrutiny. In the Ninth Circuit, this means analyzing the three Bluetooth factors: (1) when counsel receives a disproportionate distribution of the settlement; (2) when the parties negotiate a clear sailing arrangement; and (3) when the agreement contains a reverter clause that returns unawarded attorneys’ fees to the defendant, rather than the class. The presence of Bluetooth factors is a sign that class counsel has allowed pursuit of their own self-interest to infect settlement negotiations.
The Ninth Circuit held that the district court did not adequately consider these Bluetooth factors, and therefore, it must vacate the entire settlement approval order, not just the attorneys’ fee award. Judge Gould noted that reverter provisions are red flags, and while clear-sailing provisions are not prohibited, they are highly disfavored. Further, when a settlement provides non-cash relief and a reverter provision, as the voucher program did in this case, courts must be on high alert for attorneys’ fee awards that are artificially inflated in relation to the relief provide to the class. The ruling underscored that district courts must provide specific explanations for approving a pre-certification settlement, especially when Bluetooth factors are present.
Following its decision in Allison v. Tinder, this case provides another example of the Ninth Circuit emphasizing the heightened scrutiny district courts must apply when considering pre-certification settlements.
In the concurrence, Judge Eric Miller agreed with the decision of the court, but wrote separately to criticize the Ninth Circuit’s precedent requiring the application of the Online DVD three-factor approach to define what qualifies as a coupon under CAFA. If Judge Miller’s wish comes true, the Ninth Circuit will eventually reconsider Online DVD en banc, and clarify that under CAFA, “coupon” shall have its ordinary dictionary meaning.
