California Court of Appeal Approves Arbitration of Class Action Attorneys' Fees and Limited Role of Objectors

In a case of first impression, the California Court of Appeal in In re Cellphone Termination Fee Cases, (Cal.App.1st Dist., Div. 5, Dec. 31, 2009) 180 Cal. App.4th 1110 has affirmed a trial court's award of attorneys' fees to class counsel, despite finding that the trial court abused its discretion in refusing to enforce a fee arbitration provision because of the absence of prejudice.  In the process, the Court also reaffirmed "the limited role of unnamed class members in class action settlements."    

Factual Background

In re Cellphone Termination Fee Cases involves the settlement of a consumer class action against Sprint based on allegations that Sprint secretly locked cell phone handsets it sold to make it impossible for customers to switch cell phone providers without purchasing new handsets.  Although the plaintiffs originally claimed nearly $800 million in damages for a California-only class, the parties agreed to settle the case for therapeutic relief alone - Sprint would pay consumers no money in the settlement.  Rather, Sprint agreed to (1) inform its customers that its handsets contained software programming locks and (2) unlock handsets for customers who had completed their contracts with Sprint.  As part of the settlement agreement, the parties agreed to submit the amount of the fee award to binding arbitration, with a floor of $500,000 and a ceiling of $2,950,000.

Over the objection of two class members, the trial court found that the settlement was fair, that the range of attorneys' fees authorized by the fee arbitration provision was reasonable and that the arbitration provision was not the product of collusion.  Specifically, the trial court noted that "the parties reached agreement on the material terms of the settlement before negotiating a fee for class counsel, class counsel did not seek a larger fee award in exchange for a smaller class recovery, and the substantive settlement was not linked to the fee award in a way that might have prejudiced the members of the class."  It also emphasized that plaintiffs "secured only an agreement to a range with a floor equal to their expenses and a ceiling slightly lower than class counsel's lodestar plus expenses with no multiplier."   Notwithstanding these findings, the trial court concluded that the fee arbitration provision was "'void in its entirety' because it did not provide for the participation of objecting class members in the arbitration."  The trial court subsequently awarded $2.5 million in attorneys' fees and costs.  Sprint appealed, arguing that the trial court erred in refusing to approve the fee arbitration provision.

The Court Of Appeal Finds Abuse Of Discretion But No Prejudice

The Court of Appeal found that the trial court abused its discretion because there was no legal basis to require unnamed class members to participate in the arbitration.  Indeed, "the key consideration for the trial court is the substantive fairness of the settlement terms" - not "the transparency of the process by which the terms of the settlement were accomplished."  As a general matter, unnamed class members play only a "limited role" in class action settlements; otherwise the "effectiveness of the class action device is destroyed."  The court is tasked with the "responsibility to scrutinize the fairness of settlements" precisely because "unnamed class members are not direct participants in settlement negotiations."  So long as the "objectors have had an opportunity to present their views" in light of adequate documentation, the trial court's review was confined to determining that the settlement was reasonable and not fraudulent or collusive.  Because the unnamed class members had an opportunity to object to the settlement, including the fee range in the arbitration provision, they had no right to further participation, especially since the therapeutic relief they were entitled to would not be affected by the fees awarded.

Although the Court of Appeal admitted that "the trial court could have, and perhaps should have, delayed final approval of the settlement, including determination of the reasonableness of the fee award, until after the arbitration," it nonetheless affirmed the judgment because Sprint failed to carry its "very onerous" burden to establish actual prejudice.  It was not enough "to show that a different reasonable decision maker could have rendered a more favorable fee determination."  In the absence of evidence of bias or unfairness, the showing of prejudice was "entirely speculative." 

Furthermore, the appellate court emphasized that Sprint could have sought immediate review of the trial court's refusal to approve the fee arbitration provision by extraordinary writ.  In the Court's view, by waiting to seek review of the identity of the decision maker until after the trial court's judgment, Sprint effectively asked the court to allow it to play a game of "Heads I win. Tails you lose."  Therefore, the trial court's error was not a basis for reversal.

Conclusion:  A Different View of Arbitrability in Class Action Settlements

While In re Cellphone Termination Fee Cases recognizes yet another limitation on the role of unnamed class members in the consideration of class action settlements, it imposes a prejudice requirement although none exists in other contexts where the parties' agreement to arbitrate a dispute is improperly ignored.  That is, in other contexts where the parties' agreement contains a clear expression of their intent to have a controversy decided through arbitration, the trial court's work is complete when it decides that the controversy at bar is within the scope of those matters intended to be arbitrated.  According to this Court, in the context of a class action settlement, even in the face of a clear and all-encompassing arbitration clause, arbitration of a fee award is not required so long as the trial court makes a reasonable decision that is not demonstrably different than the decision that would have been obtained through arbitration.  In light of the looser standard of review to be applied to an arbitrator's determination, In re Cellphone Termination Fee Cases creates a high hurdle of showing an abuse of discretion, and prejudice, that would otherwise not have to be shown to invalidate a trial court's award.