Dukes v. Wal-Mart: Supreme Court Announces New Class Action Standards That Will Substantially Curtail Employment Discrimination Class Actions, As Well As Consumer, Antitrust, and Other Class Actions

On June 20, in Dukes v. Wal-Mart, the U.S. Supreme Court dealt a huge blow to plaintiffs seeking to certify employment discrimination class actions under Federal Rule of Civil Procedure 23, as well as consumer, antitrust, and other class actions. The heavily publicized case involved a proposed 1.5-million-person class of female Wal-Mart employees seeking to bring disparate impact and pattern or practice claims for discrimination in promotions and compensation. Justice Scalia wrote for the majority. In a 5-4 decision, the Court found that allegations that Wal-Mart had a “common” policy of permitting local managers to use discretion to make employment decisions based upon subjective factors did not satisfy the commonality requirement of Rule 23(a)(2). Significantly, the Court held that the commonality requirement is not met by “generalized questions” that do not meaningfully advance the litigation and is not met where named plaintiffs and members of the purported class have not suffered the “same injury.” In addition, in a unanimous decision, the Court found that claims for “individual monetary damages,” including back pay, could not be certified under Rule 23(b)(2). This decision provides defendants in class actions with a variety of tools to defeat efforts to certify large class actions involving disparately situated plaintiffs.

The Court Must Consider Certain Merits Issues in Deciding Class Certification Motions

The Court reached several conclusions that addressed, and rejected, arguments plaintiffs have made for years in support of certifying broad class actions in all contexts. For example, the Court put the final nail in the coffin of the argument that a district court must accept plaintiffs’ allegations as true and avoid any factual considerations of the “merits” in ruling upon class certification. The Court made it clear that a district judge must engage in a “rigorous analysis” before certifying a class action and must consider the merits of plaintiffs’ claims if they overlap with issues related to certification. The Court also suggested that a district court must scrutinize supposedly expert opinions offered in support of class certification. In making this ruling, the Court suggested that the standard set forth in Daubert v. Merrell Dow Pharmaceuticals, Inc., 509 U.S. 579 (1993) (the Daubert standard) likely applies to expert evidence used in the class certification process.

“Commonality” Element Not Met Where Common Questions Are Not Significant

While acknowledging that even a single common question could be sufficient to establish communality, the Court held that reciting basic common questions, such as whether Title VII was violated, is not enough. A plaintiff must identify common questions that depend upon the same contention and the resolution of that contention must “resolve an issue that is central to the validity of each one of the claims in one stroke.” For example, the Court acknowledged that the case before it presented common questions like “do all of us plaintiffs indeed work for Wal-Mart?” and “do our managers have discretion over pay?” but held that “reciting these questions is not sufficient to obtain class certification.” Rather, it held that “commonality requires the plaintiff to demonstrate that the class members have suffered the same injury.” In discussing this point, the Court made clear that “commonality” does not exist merely because a purported class all allegedly suffered a violation of the same provision of law. This will be a significant benefit to defendants in defeating class actions where many purported class members have suffered no injury at all.

The Court then addressed the “wide gap” between an individual claim of discrimination and the existence of a company policy of discrimination that creates a class of individuals with the same injury as the named plaintiff, which was first acknowledged by the Supreme Court in General Telephone Co. of Southwest v. Falcon, 457 U.S. 147, 157-58 (1982). It noted that such a gap could be bridged, and commonality found, in two ways. First, it cited the case of a uniform biased testing procedure that impacted all test takers in the same way. Second, it could occur when there is “significant proof” that an employer “operated under a general policy of discrimination.” In discussing the second way, the Court made it clear that “the bare existence of delegated discretion” is not sufficient to establish commonality.

Significantly, the Court rejected three arguments routinely made by plaintiffs in arguing for class certification. First, the Court rejected the testimony of plaintiffs’ social science expert, Dr. William Bielby, who claimed that Wal-Mart had a culture that made it susceptible to gender bias, finding it useless to the salient question of whether plaintiffs could prove a general policy of discrimination. In doing so, the Court suggested that the testimony of expert witnesses used in support of class certification is subject to the Daubert standard. Second, the Court rejected the use of aggregate statistical analyses and the mere existence of gender disparities in pay, promotion, or representation as enough to meet the commonality burden in an employment case. Instead, the Court suggested that to show commonality, a plaintiff would at least need to demonstrate store-by-store disparities. Third, the Court found that affidavits from 120 individuals, or 1 out of every 12,500 class members, fell well short of meeting the burden of having “significant proof” that Wal-Mart operates under a general policy of discrimination. While these rejections occurred in the context of this employment discrimination claim, purported class plaintiffs in many other cases frequently attempt to rely on similar evidence to support class certification. For example, antitrust plaintiffs attempt to use aggregate statistical analyses of costs and prices and consumer class action lawyers use surveys, regression analyses, and purported social science analyses to establish the existence of commonality. The Court’s decision in Dukes makes clear that the Court may not merely accept plaintiffs’ efforts to homogenize out individual issues through unreliable expert testimony.

Rule 23(b)(2) Cannot Be Misused to Circumvent Due Process

The Court next ruled, in the unanimous portion of the opinion that will have a substantial impact on class actions generally, that individualized claims for money damages cannot be certified under Rule 23(b)(2) and instead must be certified, if at all, under the more onerous requirements of Rule 23(b)(3). In so ruling, the Court noted that Rule 23(b)(3), unlike Rule 23(b)(2), mandates notice to the class and an opportunity for class members to opt out of the lawsuit, necessary safeguards consistent with preserving the constitutional due process rights of class members whose individual claims for monetary damages would be adjudicated if a class were certified. The Court rejected the “predominance test” established by the Ninth Circuit, which permitted the certification of claims for monetary damages as long as claims for injunctive relief “predominated” over the claims for monetary damages. It cited favorably to the “incidental damages” test first adopted by the Fifth Circuit in Allison v. Citgo Petroleum Corp., 151 F.3d 402, 415 (5th Cir. 1998), which permits certification of claims for monetary relief as long as that relief “flow[s] directly from liability to the class as a whole,” which “should not require additional hearings.” While seeming to express skepticism that monetary damages could ever be incidental to injunctive and declaratory relief, the Court declined to adopt a bright-line rule prohibiting all money damages from ever being certified under Rule 23(b)(2). This ruling has widespread implications because Rule 23(b)(3) requires plaintiffs to prove that common questions predominate over individual ones and that a class action is superior to other available methods for fairly and efficiently adjudicating the controversy. Given the Court’s cynicism regarding the use of discretionary decisionmaking as grounds for the less stringent commonality standard, this burden should be extremely difficult for plaintiffs’ attorneys to meet in employment class actions without significantly altering the types of class actions they bring.

Even in the many jurisdictions that have long been critical of Rule 23(b)(2) certification of claims for monetary damages, plaintiffs’ attorneys have previously had some success in distinguishing back pay from monetary damages and thereby getting claims for huge back pay awards certified under Rule 23(b)(2). The Supreme Court put an end to that practice as well. In a far-reaching ruling that will effectively require plaintiffs who bring class action employment discrimination lawsuits (except those solely for classwide injunctive relief) to meet the standards of Rule 23(b)(3), the Court held that back pay, regardless of whether it is characterized as equitable, cannot be certified under Rule 23(b)(2). Central to this holding was the Court’s rejection of the Ninth Circuit’s proposed sampling-based approach to doling out back pay to the class without ever permitting Wal-Mart to defend the employment decisions it made regarding each individual class member. Rather than approve this approach, which it derisively referred to as “trial by formula,” the Court held that Wal-Mart was “entitled to individualized determinations of each employee’s eligibility for backpay.” This ruling not only precludes certification of the claims for money damages under Rule 23(b)(2), but will also make it difficult for plaintiffs to certify claims for monetary damages under Rule 23(b)(3). In addition, this ruling will limit the use of Rule 23(b)(2) to obtain “restitution damages” or any other type of money damages in all kinds of cases, including consumer class actions, antitrust class actions, and products liability actions.

What Comes Next?

In general, it will be more difficult for plaintiffs to obtain class certification in all cases. District courts will now be required to scrutinize closely all alleged common questions of law and fact to determine if the proposed class action can generate common answers to those questions that are apt to drive the resolution of the litigation. In particular, variations in whether class members suffered injury will be ripe for attack given the express language of the Court’s opinion. It will not be sufficient for plaintiffs to allege a “general policy” without proving the existence of such a policy and its impact on each class member. In addition, defendants are now more likely to have challenges to expert testimony at the class certification stage heard under the Daubert standard, which will have the effect of further requiring an actual showing of commonality by plaintiffs rather than mere assertions of commonality by lawyers or their experts. Even where some level of commonality is shown, in damages cases plaintiffs will also need to meet the predominance and other standards of Rule 23(b)(3), and they will not be able to circumvent due process through the use of formulaic damages awards that do not permit defendants to address the individual variations in the claims of each class member.

We also expect this decision to be tremendously helpful to retailers and other businesses that delegate authority to the local level in all types of class actions. The Court held that decisions relevant to the case were “decentralized” and made in local Wal-Mart stores, which it found to be the “opposite” of a common practice that would justify a class action. Retail and other similar companies frequently operate in this manner with respect to employment and many other decisions. These companies will be able to argue that nationwide class actions are inappropriate where the relevant decisions are made at the local level.

Class action employment discrimination lawyers will likely respond to this decision by modifying the types of cases they bring and how they characterize the common questions asserted in those cases. We expect plaintiffs’ attorneys to file smaller class actions focused on specific job groups and/or locations, perhaps with multiple subclasses. Joe Sellers, one of the lawyers for the plaintiffs in Dukes, has already been quoted as saying the decision will result in “more class actions at the store or regional level.” See “Wal-Mart Case Is a Blow for Big Cases and Their Lawyers,” http://www.nytimes.com/2011/06/21/business/21class.html?_r=1&smid=tw-nytimes&seid=auto. These smaller class cases may be brought under state laws in state courts to avoid some of the impact of this decision on certification. In addition, plaintiffs may focus on more tailored challenges targeting specific aspects of employers’ personnel policies that apply to a broad range of employees. It is also likely that employers will face more multiplaintiff cases that attempt to consolidate various individual discrimination claims, including pattern or practice claims. Mr. Sellers has stated that the plaintiffs’ lawyers in Dukes have prepared “thousands” of individual charges of gender discrimination that they plan to file with the Equal Employment Opportunity Commission (EEOC)See “Wal-Mart Women Vow to Press Bias Fight in Courts, Agency,” http://www.businessweek.com/news/2011-06-21/wal-mart-women-vow-to-press-bias-fight-in-courts-agency.html. In short, we expect to see plaintiffs’ attorneys testing various avenues to obtain the most expansive classes possible under the new standards.

We also expect to see an increase in Equal Pay Act claims. While the standard for certification in those cases is demanding, plaintiffs’ counsel may view it as a favorable alternative to proceeding under Rule 23 in light of this decision. Moreover, while class action counsel are not likely to entirely abandon theories premised upon subjectivity and stereotyping, we expect more class actions focused on objective personnel policies, such as employment tests, that apply generally to a large group of employees. The EEOC has been aggressively investigating such cases for several years as part of its focus on screening procedures and claims of systemic discrimination.

Finally, as has already started, we expect calls for government action. The EEOC has stated that it is reviewing the Dukes decision and determining whether it warrants any changes in its strategies for enforcement of Title VII. The Commission, which is not bound by Rule 23, could respond by more aggressively filing representative actions, potentially in partnership with intervening private class counsel. In addition, civil rights groups have already started calling for congressional action, including a renewed push for passage of the Paycheck Fairness Act. While the current Congress is unlikely to move forward with such legislation, as we saw with the Lilly Ledbetter Fair Pay Act, future political changes to the makeup of Congress could result in legislation designed to eat away at some of the employer-friendly aspects of the Dukes decision.

What Should Employers Do Now?

The Dukes decision is a great win for employers who no longer face the prospect of defending overbroad class claims indiscriminately attacking the individualized decisionmaking of local managers based upon ill-defined, allegedly discretionary policies. However, now is not the time for employers to become complacent. As noted above, we expect more targeted class claims as class action plaintiffs’ attorneys test the boundaries of this decision. While this next wave of cases will almost certainly focus on smaller classes than that at issue in Dukes and the other large class actions of recent years, it will still create significant risks to organizations who are sued, in terms of litigation costs, potential exposure, and public relations. Fortunately, Dukes ups the ante for plaintiffs’ attorneys as well, as they now face a much greater battle when filing class actions, and we expect that they will be more diligent in researching and selecting cases than they have been in the past. For this reason, as well as to most efficiently manage their businesses, employers should continue to develop employment practices and policies that reflect best practices, monitor those practices and policies to ensure compliance with EEO policies, and analyze the impact of such practices and policies for equity and consistency with diversity policies and goals.

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United States Supreme Court Strikes Down Largest Employment Discrimination Class Action in History

On June 20, 2011, the United States Supreme Court granted employers some long-awaited relief by substantially raising the bar for plaintiffs (and their lawyers) seeking to certify large employment discrimination class actions. In Wal-Mart v. Dukes (No. 10-277), the Court reversed the Ninth Circuit Court of Appealsen banc decision upholding the certification of a class action filed on behalf of approximately 1.5 million hourly and salaried female employees alleging sex discrimination in pay and promotions. The potential damages were estimated to be more than a billion dollars.

As we have detailed in prior newsletters and bulletins, because of potentially large damage awards and fee-shifting provisions, employment class actions have been a boon for the Plaintiff’s bar while exposing employers to significant liability and litigation costs.  Although the Dukes decision will not put an end to class actions, it, at the very least, temporarily halts the large nationwide employment discrimination class actions. In its ruling, the Supreme Court significantly increased the plaintiffs’ burden of proof at the class certification phase and mandates that district courts look more carefully at whether class certification is appropriate, including a critical assessment of plaintiffs’ proof of class-wide discrimination.

The Supreme Court’s Decision in Dukes

Following an increasing trend, the Dukes plaintiffs alleged that Wal-Mart discriminated against its female employees by delegating subjective decision making authority with respect to pay and promotion decisions to its local store managers and by building a corporate culture that fostered sex bias in these managerial decisions. Both the district court and the Ninth Circuit held that plaintiffs demonstrated that their class claims were appropriate for certification by relying on:

(i) statistical evidence purportedly demonstrating disparities in the pay and promotions of males and females; (ii) anecdotal reports of discrimination by 120 female employees; and (iii) the “expert” testimony of a sociologist who concluded that Wal-Mart’s culture was susceptible to gender discrimination.

Plaintiffs Did Not Satisfy Their “Commonality” Burden under Rule 23(a)

In a strongly worded opinion, Justice Scalia, writing for the 5–4 majority, disagreed that the Dukes plaintiffs’ evidence was sufficient to support class certification because it did not meet plaintiffs’ burden of satisfying Rule 23 of the Federal Rules of Civil Procedure requirements for certification. As recast by Justice Scalia, to meet these requirements, plaintiffs must provide “significant proof” that their class claims involve a common issue the resolution of which is “central to the validity of each one of the [class members’] claims in one stroke”; for example, discriminatory bias on the part of the same manager or the use of a discriminatory test.

The majority’s decision removes any doubt that a trial court must conduct a “rigorous analysis” to ensure that plaintiffs have satisfied the Rule 23 elements, including a searching review of evidence that goes to the merits of the case. Exploration of the merits was appropriate in Dukes, the majority found, because it necessarily overlapped with the plaintiffs’ class-wide allegations that Wal-Mart engaged in a pattern and practice of discrimination.

In Dukes, the majority found plaintiffs’ evidence fell far short of the required “significant proof.” The Court did not reverse a prior decision that delegation of subjective decision making to individual managers could constitute a common discriminatory practice, but the majority found plaintiffs’ evidence lacking where Wal-Mart had a “general policy of non-discrimination” and where thousands of managers were making literally millions of pay and promotion decisions in some 3,400 stores. Specifically, the Court rejected plaintiffs’ sociological expert’s conclusion that Wal-Mart’s corporate culture made it more susceptible to gender bias in managerial decision making because the expert could not even opine, let alone show, that gender bias infected .5 percent or 95 percent of managerial decisions. The Court concluded that this was “the opposite of uniform policy that could provide commonality needed for a class action.”

The majority also found plaintiffs’ statistical and anecdotal evidence to be equally unpersuasive. Plaintiffs’ statistical expert conducted a region-by-region analysis and found that female representation in management positions was substantially less than in lower hourly positions and that females earned less than men. The Court discounted this proof, stating that any disparity at the regional level could not by itself establish that there were pay or promotion disparities at the individual stores, and even less so across all class members, which the majority stated was necessary to support plaintiffs’ theory of commonality. Furthermore, even if the statistics supported disparity at all the individual stores, the analysis did not consider potential assertions by Wal-Mart’s managers that women are not as readily available in certain store areas or the differences in the criteria used by the individual stores to make the decisions. The Court further found that the plaintiffs’ anecdotal evidence comprised of 120 affidavits representing the reporting experiences of only 1 out of every 12,500 class members and only 235 of Wal-Mart’s 3,400 stores could not show the whole company operated under a general policy of discrimination.

Plaintiffs Could Not Pursue Individualized Monetary Claims under Rule 23(b)(2)

The Court also unanimously resolved a split in the Courts of Appeal and held that the claims for backpay should not have been certified as a class action under Rule 23(b)(2) because such backpay damages were not “incidental” to the injunctive or declaratory relief sought. The Court concluded that certification under Rule 23(b)(2) is inappropriate when “each member would be entitled to an individualized award of monetary damages.”

Instead, the Court held that the monetary claims involving individualized proof must proceed under Rule 23(b)(3), which permits class certification only upon a showing that common questions of law and fact predominate over questions affecting individuals and after providing notice of the class action to potential class members and an opportunity to opt out. The Court reasoned that these procedural safeguards were necessary to protect class members’ individual interests in monetary relief.

The Court also rejected the position adopted by the Ninth Circuit that a statistical sample of class members could be used to determine the damages for the whole class without individualized proceedings. The Court reasoned that this sampling method was inconsistent with the procedures established by the Supreme Court for determining the scope or lack of individual damages in Title VII claims. The majority further suggested, without deciding, that this approach might also violate an employer’s right to individualized determinations of each class member’s eligibility for backpay.

Implications of the Court’s Decision in Dukes

The most immediate effect of the Dukes decision is that district courts will need to reconsider the appropriateness of employment discrimination class actions on their docket that were certified under Rule 23(b)(2). In the longer run, Dukes may not have sounded the death knell for all large discrimination class actions but it has made it very difficult for plaintiffs to mount class actions that seek to cover multiple types of claims, e.g., pay and promotions, and many different job classes, facilities and/or managers. As a consequence, future class actions are more likely to focus on more discrete claims of discrimination covering fewer locales and limited to common decision makers and covering a more homogenous class. In particular, Dukes is likely to curtail the bringing of class actions under the “delegation of subjective decision making” theory. Although the Court did not articulate clear evidentiary standards for establishing “commonality,” the Court emphasized the need to demonstrate a common allegedly operative discriminatory practice and injury across all putative class members. It is difficult to see how plaintiffs will mount class actions based on “subjective decision making” given the Court’s emphasis that “demonstrating the invalidity of one manager’s use of discretion will do nothing to demonstrate the invalidity of another’s.”

The Dukes decision also, as a practical matter, will require district courts to probe more deeply into the merits at the class certification stage, and the Supreme Court endorsed the consideration of Daubert motions to exclude expert testimony before class certification to assess such testimony’s adequacy. Moreover, although Dukes is restricted to class certification requirements, its emphasis on proving that the alleged discriminatory practice applied to and may have injured all class members may also lead to higher standards of proof in establishing class-wide discrimination on the merits.

Dukes also will lessen the incentive of plaintiffs’ attorneys to bring class actions by making it more difficult to seek monetary damages for large, diffuse classes.

How plaintiffs’ attorneys will respond is open to speculation. The attorneys representing Dukes profess their intent to bring individual and more discreet, localized class actions. This may become an overall trend. Employers should keep in mind that the Dukes decision has no immediate impact on the ability of the EEOC to bring company-wide pattern and practice suits because the EEOC generally is not required to satisfy the “commonality” principles espoused by the Supreme Court. Nevertheless, the Dukes decision, which comes on the heels of the Court’s May 2011 pro-employer decision in AT&T Mobility v. Concepcion et ux. seemingly validating the use of mandatory arbitration agreements to bar employees’ ability to litigate claims on a class basis, is a welcome change for employers.

Supreme Court Limits Class Actions in Wal-Mart Victory

Supreme Court’s unanimous decision in favor of Wal-Mart restricts the ability of plaintiffs to seek certification of a class for damages.

On June 20, 2011, the Supreme Court of the United States issued its highly-anticipated ruling in Wal-Mart Stores, Inc. v. Duke.  The Court unanimously held that the Ninth Circuit Court of Appeals erred in affirming the certification of the class under Rule(b)(2) of the Federal Rules of Civil Procedure.  A 5-4 majority further held that the plaintiffs failed to carry their burden of establishing commonality under Rule 23(a)(2). 

The majority held that Rule 23(a)(2) requires a party seeking certification of a class to demonstrate more than the mere existence of common questions; rather, the party seeking certification must demonstrate that class-wide proceedings will generate common answers to those questions.  The Court ruled that the plaintiffs failed to come forward with “significant proof” that Wal-Mart operated under a general policy of discrimination.  The Court concluded that evidence that Wal-Mart’s policy of discretion produced an overall sex-based disparity was insufficient.  Because there was “no convincing proof of a company wide discriminatory pay and promotion policy,” the plaintiffs failed to establish the existence of any common question.

The majority also held that the class was improperly certified under Rule 23(b)(2) because the monetary relief sought by the plaintiffs was not merely incidental to the injunctive or declaratory relief that they requested.  The Court concluded that Rule 23(b)(2) does not authorize class certification when each class member would be entitled to an individual award of monetary damages, which, in this case, was the request for backpay.

Justice Ginsburg, Justice Breyer, Justice Sotomayor and Justice Kagan concurred in the majority’s reversal of certification of the class under 23(b)(2), but found that the majority erred in its analysis under Rule 23(a)(2).  The concurring Justices stated that the case should have been remanded to the district court for analysis under Rule 23(b)(3).  They also criticized the majority for conducting a “dissimilarities” analysis under Rule 23(a)(2) which essentially grafted onto Rule 23(a)(2) the predominance analysis required under Rule 23(b)(3).

The Court’s ruling greatly restricts the ability of plaintiffs to seek certification of a class for damages without meeting all of the requirement of Rule 23(b)(3), including predominance and superiority, by seeking certification under Rule 23(b)(2).  Plaintiffs also will no longer be able to satisfy their burden under Rule 23(a)(2) simply by identifying the common issues in the case.  Rather, plaintiffs must now present significant proof that the common questions can be answered with common proof.

Dukes v. Wal-Mart: What the Supreme Court Decision Means for Employers

In Dukes v. Wal-Mart, the United States Supreme Court reversed certification of the largest sex discrimination class action in our nation’s history. The Plaintiffs sought to certify a nation-wide class of approximately 1.5 million former and current female Wal-Mart employees. The Plaintiffs alleged that nation-wide class certification was appropriate because Wal-Mart engaged in a policy or practice of denying its female employees raises or promotions by giving its local managers discretion to determine when to give raises or promotions.

Justice Scalia, writing for a 5-4 majority, gave renewed life to the requirement that plaintiffs establish common questions of law or fact when seeking to certify a class action. In reversing class certification in Dukes, Justice Scalia explained that a proper class must present both a common question and, more importantly, a common answer to the question of “why was I disfavored?” Significantly, plaintiffs must present “convincing proof” to support their contentions, instead of simply relying on allegations in a complaint. The majority of the Supreme Court agreed that the Plaintiffs had failed to establish a “common answer” because they sought to litigate over millions of employment decisions without “some glue holding the alleged reasons for all of those decisions together.” In so holding, the Supreme Court specifically noted that Wal-Mart had an EEO policy that it enforced, including providing penalties to those who violated the policy.

The Supreme Court’s reversal of class certification in Dukes is a significant victory for employers everywhere. Plaintiffs will have to narrow their class definitions. Employers may delegate authority to local managers without concern that the delegation, in and of itself, will form the basis for a class action complaint. However, to take advantage of the Dukes decision, employers should make sure to enforce their EEO policies and be aware that senior executives’ memos or emails setting forth corporate policy may well be the evidence that decides whether a company-wide or region-wide class action is appropriate.

Additionally, employers should be aware of their workplace demographics. Wal-Mart was accused of having a statistically significant bias against women in both promotions and pay. While Wal-Mart may have had a non-discriminatory explanation for these statistics, the cost of providing such an explanation may prove to be prohibitively high. Employers should consider periodically monitoring their workplace demographics to determine if any evidence of possible discrimination exists. Because it is unlawful (in most cases) to intentionally favor groups of workers, even if the goal is to avoid a perceived statistical bias, dealing with problematic demographics/statistics may be complicated and may require counsel. In almost all cases, however, employers will be better served knowing about adverse statistical evidence they find on their own, rather than learning of the evidence through the filing of a class discrimination complaint.

U.S. Supreme Court Rejects Gender Discrimination Class Action Against Wal-Mart

On June 20, 2011, the United States Supreme Court released its widely-anticipated decision in Wal-Mart Stores, Inc. v. Dukes, et al., 564 U.S. ___ (2011) (“Wal-Mart“). In Wal-Mart, the Supreme Court reversed the Ninth Circuit Court of Appeals and held that the proposed nationwide gender discrimination class action against the retail giant could not proceed. In a decision that will come as welcome news to large employers and other frequent targets of class action lawsuits, the Supreme Court (1) arguably increased the burden that plaintiffs must satisfy to demonstrate “common questions of law or fact” in support of class certification, making class certification more difficult, especially in “disparate impact” discrimination cases; (2) held that individual claims for monetary relief cannot be certified as a class action pursuant to Federal Rule of Civil Procedure 23(b)(2), which generally permits class certification in cases involving claims for injunctive and/or declaratory relief; and (3) held that Wal-Mart was entitled to individualized determinations of each proposed class member’s eligibility for backpay, rejecting the Ninth Circuit’s attempt to replace that process with a statistical formula.

The named plaintiffs in Wal-Mart were three current and former female Wal-Mart employees. They sued Wal-Mart under Title VII of the federal Civil Rights Act of 1964, alleging that Wal-Mart’s policy of giving local managers discretion over pay and promotion decisions negatively impacted women as a group, and that Wal-Mart’s refusal to cabin its managers’ authority amounted to disparate treatment on the basis of gender. The plaintiffs sought to certify a nationwide class of 1.5 million female employees. The plaintiffs sought injunctive and declaratory relief, punitive damages, and backpay.

The trial court and Ninth Circuit had agreed that the proposed class could be certified, reasoning that there were common questions of law or fact under Federal Rule of Civil Procedure 23(a), and that class certification pursuant to Rule 23(b)(2) – which permits certification in cases where “the party opposing the class has acted or refused to act on grounds that apply generally to the class, so that final injunctive relief or corresponding declaratory relief is appropriate respecting the class as a whole” – was appropriate because the plaintiffs’ claims for backpay did not “predominate.” The Ninth Circuit had further held that the case could be manageably tried without depriving Wal-Mart of its due process rights by having the trial court select a random sample of claims, determine the validity of those claims and the average award of backpay in the valid claims, and then apply the percentage of valid claims and average backpay award across the entire class in order to determine the overall class recovery.

The Supreme Court reversed. A five-justice majority concluded that there were not common questions of law or fact across the proposed class, and hence Federal Rule of Civil Procedure 23(a)(2) was not satisfied. Clarifying earlier decisions, the majority made clear that in conducting this analysis, it was permitted to consider issues that were enmeshed with the merits of the plaintiffs’ claims. The majority then explained that merely reciting common questions is not enough to satisfy Rule 23(a). Rather, the class proceeding needs to be capable of generating “common answers” which are “apt to drive the resolution of the litigation.” The four-justice dissent criticized this holding as superimposing onto Rule 23(a) the requirement in Rule 23(b)(3) that “common issues predominate” over individualized issues. The dissent believed that the “commonality” requirement in Rule 23(a) could be established merely by identifying a single issue in dispute that applied commonly to the proposed class. Because the trial court had only considered certification under Rule 23(b)(2), the dissent would have remanded the case for the trial court to determine if a class could be certified under Rule 23(b)(3).

The majority held that the plaintiffs had not identified any common question that satisfied Rule 23(a), because they sought “to sue about literally millions of employment decisions at once.” The majority further explained that “[w]ithout some glue holding the alleged reasons for all those decisions together, it will be impossible to say that examination of all the class members’ claims for relief will produce a common answer to the crucial question why was I disfavored.”

Addressing the plaintiffs’ attempt to provide the required “glue”, the majority held that anecdotal affidavits from 120 class members were insufficient, because they represented only 1 out of every 12,500 class members, and only involved 235 out of Wal-Mart’s 3,400 stores nationwide. The majority also held that the plaintiffs’ statistical analysis of Wal-Mart’s workforce (which interpreted data on a regional and national level) was insufficient because it did not lead to a rational inference of discrimination at the store or district level (for example, a regional pay disparity could be explained by a very small subset of stores). Finally, the majority held that the “social framework” analysis presented by the plaintiffs’ expert was insufficient, because although the expert testified Wal-Mart had a “strong corporate culture” that made it “vulnerable” to gender discrimination, he could not determine how regularly gender stereotypes played a meaningful role in Wal-Mart’s employment decisions, e.g., he could not calculate whether 0.5 percent or 95 percent of the decisions resulted from discriminatory thinking. Importantly, the majority strongly suggested that the rigorous test for admission of expert testimony (the Daubert test) should be applied to use of expert testimony on motions for class certification.

The Court’s other holdings were unanimous. For one, the Court agreed that class certification of the backpay claim under Rule 23(b)(2) was improper because the request for backpay was “individualized” and not “incidental” to the requests for injunctive and declaratory relief. The Court declined to reach the broader question of whether a Rule 23(b)(2) class could ever recover monetary relief, nor did it specify what types of claims for monetary relief were and were not considered “individualized.” The Court made clear, however, that when plaintiffs seek to pursue class certification of individualized monetary claims (such as backpay), they cannot use Rule 23(b)(2), but must instead use Rule 23(b)(3), which requires showing that common questions predominate over individual questions, and includes procedural safeguards for class members, such as notice and an opportunity to opt-out.

Lastly, the unanimous Court agreed that Wal-Mart should be entitled to individualized determinations of each employee’s eligibility for backpay. In particular, Wal-Mart has the right to show that it took the adverse employment actions in question for reasons other than unlawful discrimination. The Court rejected the Ninth Circuit’s attempt to truncate this process by using what the Court called “Trial by Formula,” wherein a sample group would be used to determine how many claims were valid, and their average worth, for purposing of extrapolating those results onto the broader class. The Court disapproved of this “novel project” because it deprived Wal-Mart of its due process right to assert individualized defenses to each class member’s claim.

Looking forward, the Wal-Mart decision will strengthen the arguments of employers and other companies facing large class action lawsuits. In particular, the decision reaffirms that trial courts must closely scrutinize the evidence when deciding whether to certify a class action, especially in “disparate impact” discrimination cases. Statistical evidence that is based on too small a sample size, or is not well-tailored to the proposed class action, should be insufficient to support class certification. Likewise, expert testimony that is over-generalized and incapable of providing answers to the key inquiries in the case (here, whether a particular employment decision was motivated by gender discrimination) should also be insufficient to support class certification. Finally, the Court’s holding that defendants have the right to present individualized defenses as to each class member, and that this right cannot be short-circuited through statistical sampling, will provide defendants with a greater ability to defeat class certification where such individualized determinations would otherwise prove unmanageable.

Former Student Athletes’ Right of Publicity and Antitrust Claims Will Proceed Against the NCAA and Electronic Arts

Closely watched class action lawsuits by former student athletes against the National Collegiate Athletic Association (“NCAA”), its licensing arm, the Collegiate Licensing Company (“CLC”), and the popular video game maker, Electronic Arts, Inc. (“EA”) will proceed following a May 2, 2011 decision by Judge Claudia Wilken of the United States District Court for the Northern District of California. See In re NCAA Student-Athlete Name & Likeness Licensing Litigation Case No. 4:09-cv-01967-CW (N.D. Cal. May 2, 2001) (the “May 2 Order”).

The stakes in the NCAA Student-Athlete Name & Likeness Licensing Litigation are high. If the student athlete plaintiffs are successful, the NCAA, as well as its member conferences and universities, could face significant liability, and the NCAA would need to substantially change the way in which it approaches its licensing efforts and student-athlete relationships. The resolution of the licensing and First Amendment issues also has the potential to cause significant repercussions across the entertainment industry, including the motion picture industry, as courts grapple with determining the breadth of First Amendment protection in an age of realistic computer generated depictions that could arguably be mistaken for the real thing.

Supreme Court Unanimously Rejects Fifth Circuit’s Loss Causation Standard

On June 6, 2011, the U.S. Supreme Court issued a unanimous opinion in Erica P. John Fund, Inc. v. Halliburton Co., holding that a plaintiff is not required to prove “loss causation” to obtain class certification in a securities case. The Supreme Court’s decision eliminates a major hurdle for class action plaintiffs in the Fifth Circuit, and it will likely result in an increase in securities litigation filings within the Circuit.

The Loss Causation Doctrine

Traditionally, the key battleground in securities class actions has been at the pleading stage. Courts have stringently applied federal pleading requirements to prevent unmeritorious actions from moving forward. But if a plaintiff could survive a motion to dismiss, there were relatively few hurdles to obtaining class certification.

The Fifth Circuit, however, erected an additional barrier to plaintiffs at the class certification stage. Since 2007, the Fifth Circuit has required plaintiffs to prove “loss causation”—i.e., proof that the alleged fraud actually caused the plaintiffs’ losses—in order to certify a class in a securities case.

Loss causation has been a hot issue in securities litigation since the Supreme Court’s 2005 decision in Dura Pharmaceuticals, Inc. v. Broudo. The element of “loss causation” is distinct from the separate element of “reliance.”  To establish “reliance,” the plaintiff must prove that the alleged fraud caused him to purchase or sell the disputed security. To establish “loss causation,” the plaintiff must prove that the alleged fraud proximately caused his economic loss. In Basic v. Levinson, a seminal 1988 decision, the Supreme Court held that reliance may be presumed for a plaintiff who purchased or sold a company’s securities in an efficient market (thus establishing the well-known “fraud-on-the-market presumption”). Seventeen years later in Dura, the Court held that a plaintiff must prove his losses were caused by the alleged fraud, as opposed to external events such as adverse market conditions.

After Dura, the Fifth Circuit issued a series of decisions that gave teeth to the “loss causation” doctrine as a defense to securities class actions, but also conflated loss causation with reliance. Beginning with its decision in Oscar Private Equity Invs. v. Allegiance Telecom, Inc., the Fifth Circuit repeatedly required plaintiffs to prove, at the class certification stage, that the defendants’ alleged misstatements (as opposed to other contemporaneous disclosures or market forces) independently moved the market before they were entitled to invoke Basic’s fraud-on-the market presumption of reliance. This created a significant burden for plaintiffs, especially where multiple disclosures were made simultaneously, and it had a chilling effect on securities cases in the Fifth Circuit.

Not surprisingly, the plaintiffs’ bar has roundly criticized the Fifth Circuit standard. But so have many others, including other circuit courts. In August 2010, Judge Easterbrook of the Seventh Circuit expressly disapproved of the Fifth Circuit’s “go it alone approach.” The Second and Third Circuits also have rejected the Fifth Circuit standard. No other circuit court has agreed with the Fifth Circuit’s approach. Earlier this year, the Supreme Court agreed to hear the Halliburton case to resolve the split among the circuit courts.

The Halliburton Case

The Halliburton plaintiff sued the company for alleged material misrepresentations regarding its potential liability in asbestos litigation, its accounting of revenue in its engineering and construction business, and the benefits of a merger with now-defunct Dresser Industries Inc. The plaintiff alleged that Halliburton’s share price declined when the company subsequently corrected the alleged misstatements, and they filed a motion for class certification on behalf of all Halliburton shareholders.

The district court denied the plaintiff’s class certification request, finding that the plaintiff had failed to establish loss causation with respect to any of its claims. The district court noted, however, that it would have certified the class but for the Fifth Circuit’s “stringent loss causation requirement.” The Fifth Circuit affirmed the district court’s decision, emphasizing that the plaintiff had failed to prove “loss causation, i.e., that the corrected truth of the former falsehoods actually caused the stock price to fall and resulted in the losses.”

The Halliburton plaintiff filed a petition for writ of certiorari, asking the Supreme Court to address what it called the Fifth Circuit’s “substantial and unprecedented burden” on securities class action plaintiffs. The petition argued that the Fifth Circuit’s holding is in direct conflict with principles adopted in other circuits and federal district courts, as well as the Supreme Court’s holding in Basic.

On June 6, 2011, in a unanimous opinion authored by Chief Justice John Roberts, the Supreme Court soundly rejected the Fifth Circuit’s approach to class certification in securities cases. The Supreme Court found that the Fifth Circuit’s loss causation requirement is “not justified by Basic.” Chief Justice Roberts explained that the Fifth Circuit approach “contravenes Basic’s fundamental premise – that an investor presumptively relies on a misrepresentation so long as it was reflected in the market price at the time of his transaction. The fact that a subsequent loss may have been caused by factors other than the revelation of a misrepresentation has nothing to do with whether an investor relied on the misrepresentation in the first place, either directly or presumptively through the fraud-on-the market theory. Loss causation has no logical connection to the facts necessary to establish the efficient market predicate to the fraud-on-the-market theory.”

The Impact of Halliburton

Halliburton will have significant impact in the Fifth Circuit. The Supreme Court has removed a major hurdle for securities plaintiffs. But the issue of loss causation at the class certification stage may not be dead. It may simply be reframed.

Interestingly, Halliburton distanced itself from the Fifth Circuit’s case law in its arguments before the Supreme Court. Halliburton argued that if a defendant successfully rebuts the fraud-on-the-market presumption, then the plaintiffs are required to prove that the alleged misstatements had a price impact upon the stock price. This approach is consistent with opinions from the Second and Third Circuits. While acknowledging the argument, the Supreme Court refused to express an opinion on this proposed framework.

Following the Supreme Court’s decision, Halliburton issued a press release expressing its confidence in victory at the Fifth Circuit after remand. Halliburton noted that the Supreme Court had not addressed “the question of whether proof that alleged misrepresentations had no impact on the stock price rebuts the presumption of reliance and prevents class certification,” and it signaled that this would be a principal defense going forward. If the Fifth Circuit accepts this argument—that plaintiffs must prove price impact if the Basic presumption is rebutted—Halliburton may have done little more than shift the burden of proof, and loss causation will remain a substantial hurdle for class certification in securities litigation.

While the impact of Halliburton on securities class actions remains uncertain, the issue of loss causation at the class certification stage is likely to be litigated for years to come. This may be the newest battleground at the Fifth Circuit.

U.S. Supreme Court: Investors Can Seek Class Action Status Without Proving Loss Causation

In Erica P. John Fund, Inc. v. Halliburton Co., 563 U.S. __ (June 6, 2011), the U.S. Supreme Court resolved a split in the lower courts as to whether securities fraud plaintiffs must prove loss causation to obtain class certification, ruling in a unanimous opinion that such proof is not a prerequisite to obtaining class certification in a securities fraud case. The investors alleged that the company made various misrepresentations designed to inflate its stock price in violation of Section 10b of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder. The district court found that the suit could not proceed as a class action because the plaintiff did not show loss causation, which the Fifth Circuit required of securities fraud plaintiffs seeking class certification. The Fifth Circuit affirmed the denial of class certification, see 597 F.3d 330 (5th Cir. 2010), but the Supreme Court reversed.

Although this ruling will affect class certification proceedings in the Fifth Circuit, the narrow scope of the opinion—coupled with the fact that several other circuits had already rejected the requirement of showing loss causation at the class certification stage—makes it unlikely that this decision will have a significant effect outside the Fifth Circuit or the securities fraud context.

Background

The Erica P. John Fund’s (EPJ Fund’s) class action complaint asserted that Halliburton made false statements about “(1) the scope of its potential liability in asbestos litigation, (2) its expected revenue from certain construction contracts, and (3) the benefits of its merger with another company.” Halliburton, 563 U.S. ___, slip op. at 2. It further alleged that Halliburton later issued corrective disclosures that caused the stock price to drop and, consequently, investors to lose money. Id.

The Supreme Court’s Decision

The sole question before the Supreme Court was whether the claims of the EPJ Fund satisfied Federal Rule of Civil Procedure 23(b)(3), which requires a court to find “that the questions of law or fact common to class members predominate over any questions affecting only individual members” in order to certify a class. Halliburton, 563 U.S. ___, slip op. at 3-4 (quoting Fed. R. Civ. P. 23(b)(3)). The Supreme Court noted that the answer to this question “begins, of course, with the elements of the underlying cause of action . . . [and] a securities fraud action often turns on the element of reliance,” i.e., whether the plaintiff relied on the alleged misrepresentation or omission in making the investment decision. Halliburton, 563 U.S. __, slip op. at 4. Before Halliburton, the circuit courts were split as to whether proving loss causation was necessary to obtain class certification in a Rule 10b-5 action.

In Basic Inc. v. Levinson, 485 U.S. 224, 243 (1988), the Supreme Court articulated the “fraud-on-the-market theory” as giving rise to a rebuttable presumption of reliance in certain securities fraud cases. The fraud-on-the-market theory holds that the market price of shares is a function of all publicly available information about the company and its business, which necessarily includes any misrepresentations. Accordingly, when shares are traded on well-developed and efficient securities markets, a misstatement may defraud the entire market by affecting the price of the stock. Under this theory, the Supreme Court held that a stock purchaser is entitled to a presumption of reliance on the market price of the stock whenever he or she “buys or sells stock at a price set by the market,” even if the purchaser did not directly rely on any misstatements. Id. at 244. To invoke this presumption of reliance, plaintiffs must demonstrate that the alleged misrepresentations were publicly known, that the stock traded in an efficient market, and that the purchase or sale took place between the time the misrepresentations were made and the truth was revealed. Id. at 241-48.

In Halliburton, the Supreme Court held that the Fifth Circuit had impermissibly imposed an additional burden by requiring plaintiffs to prove loss causation at the class certification stage as a precondition to Basic‘s rebuttable presumption of reliance. Halliburton, 563 U.S. __, slip op. at 6. In rejecting this requirement, the Supreme Court explained that loss causation “requires a plaintiff to show that a misrepresentation that affected the integrity of the market price also caused a subsequent economic loss.” Id. at 7. Although the Fifth Circuit held that an inability to prove loss causation would necessarily prevent a plaintiff from invoking the rebuttable presumption of reliance, the Supreme Court stated:

Such a rule contravenes Basic‘s fundamental premise—that an investor presumptively relied on a misrepresentation so long as it was reflected in the market price at the time of his transaction. The fact that a subsequent loss may have been caused by factors other than the revelation of a misrepresentation has nothing to do with whether an investor relied on the misrepresentation in the first place, either directly or presumptively through the fraud-on-the-market theory.Id.

The Limited Significance of Halliburton

Halliburton is perhaps most notable for its brevity and the narrowness of its holding. The opinion does not address any other “questions about Basic, its presumption, or how and when it may be rebutted.” Id. at 9. The Court also left the door open for Halliburton to challenge class certification on grounds other than the plaintiffs’ inability to prove loss causation, noting that “[t]o the extent Halliburton has preserved any further arguments against class certification, they may be addressed in the first instance by the Court of Appeals on remand.” Id. Moreover, the Court did not offer any hint that it was prepared to reconsider the presumption of reliance or the fraud-on-the-market theory more generally.

In short, this decision can best be understood as a very specific answer to a very specific question-whether securities fraud plaintiffs must factually prove loss causation before a class may be certified. Halliburton will of course affect class certification proceedings in Fifth Circuit securities actions. However, given that several other circuits (the Second, the Third, and the Seventh) had already rejected the Fifth Circuit’s approach, Halliburton, 563 U.S. ___, slip op. at 3, it is unlikely to have a major effect on litigation in other jurisdictions

U.S. Supreme Court Rules Arbitration Clauses May Waive Class Action Rights

The Supreme Court of the United States ruled on April 27, 2011, that state laws and court decisions that prohibit arbitration clauses from containing class action waivers are preempted by the Federal Arbitration Act, and that such clauses are not necessarily unconscionable.

The Supreme Court of the United States recently handed down a decision in AT&T Mobility LLC v. Concepcion, 562 U.S. ___ (2011), which will have a major impact on the enforceability of class action waivers in arbitration clauses.  The court held that the Federal Arbitration Act (FAA) preempts state statutory and decisional authority that treats arbitral class action waivers as unconscionable, as a matter of law.  The Supreme Court also specifically disapproved of a California Supreme Court decision that had held that class action waivers in consumer contracts were unconscionable, and thus unenforceable.  The AT&T decision could provide a road map for companies desiring to avoid consumer class action claims.

Section 2 of the FAA makes agreements to arbitrate “valid, irrevocable, and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract.”  9 U.S.C. §2.  The California decision had held that class action waivers are, as a matter of law, unconscionable in consumer contracts of adhesion involving small amounts at issue.  Based on its finding that unconscionability may provide grounds to revoke any contract, the California court found the FAA did not prohibit it from refusing to enforce an arbitral class action waiver.

In AT&T, the Supreme Court held that this rule interferes with the clear intent of the FAA to promote arbitration, noting “[t]he ‘principal purpose’ of the FAA is to ‘ensur[e] that private arbitration agreements are enforced according to their terms.’”  AT&T slip op., at 9–10 (quoting Volt Information Sciences, Inc. v. Board of Trustees of Leland Stanford Junior Univ., 489 U.S. 468, 478 (1989)).  The court found that the California rule would disallow enforcement of any arbitration agreement that included a class action waiver in a consumer contract.  While the California court reasoned that its rule should only apply to adhesion contracts, the Supreme Court noted that “the times in which consumer contracts were anything other than adhesive are long past.”  AT&T slip op., at 12.  The Supreme Court also noted that the other requirements for the California rule to be applied—that the case involve small dollar amounts and involve schemes to cheat consumers—were too flexible and would only require basic allegations to be made to defeat the terms of an arbitration agreement.  The Supreme Court held that when a state law would impair the purpose of the FAA to the extent that the California rule would, the FAA must preempt the conflicting state law.

Importantly, the Supreme Court did not rule that all arbitral class action waivers are enforceable.  Rather, the Supreme Court held only that arbitral class action waivers are not, in and of themselves, unconscionable.  Courts still must evaluate the particular arbitration agreement at issue on a case-by-case basis to determine whether the terms are fair.  The arbitration agreement at issue in the AT&T decision, however, provides an example of an arbitration agreement that courts have held to be fair and enforceable.  The highlights of that arbitration agreement include the following:

  • Venue in the county where the consumer resides
  • Consumer election to have the arbitration be in-person, telephonic or decided based on written submissions
  • AT&T agreed to pay all costs for nonfrivolous claims
  • Arbitrators had the power to award any form of individual relief, including issuing injunctions and presumably awarding punitive damages
  • AT&T waived any right to seek reimbursement of its fees and costs
  • In the event that a consumer received an award greater than AT&T’s last written settlement offer, AT&T was to pay a $7,500 minimum recovery and double the amount of the consumer’s attorney’s fees

In finding AT&T’s terms fair, the Supreme Court relied on the District Court’s finding that consumers “were better off under their arbitration agreement with AT&T than they would have been as participants in a class action, which ‘could take months, if not years, and which may merely yield an opportunity to submit a claim for recovery of a small percentage of a few dollars.’”

Businesses at risk for consumer class actions should consider whether the cost of a generous arbitration provision like AT&T’s may outweigh the risk of consumer class actions.  The key to this analysis is the difference between the number of consumers who are likely to pursue individual claims to their conclusion and the likelihood that a plaintiff’s attorney will assert claims on behalf of a large number of consumers without their active participation.

California Court of Appeal Shines More Light on Meal and Rest Break Class Actions – Flores v. Lamps Plus, Inc.

In Flores v. Lamps Plus, Inc., the California Court of Appeal in Los Angeles joined a growing list of California appellate courts recently holding that class certification is not proper in meal and rest break cases. Significantly, the court in Lamps Plus found that California law requires employers to provide employees with meal and rest breaks, not to ensure the breaks are taken. Because plaintiffs would have to show why they missed a break — and not simply establish that they did not receive a break — the Court found that individualized inquiries were necessary to establish violations of the Labor Code, and therefore class treatment was not appropriate.

Lamps Plus had a policy requiring all non-managerial employees to take meal and rest breaks as required by California labor law and regulations, and employed a progressive discipline policy for those who violated it. The plaintiffs argued that the law required Lamps Plus to not only provide them with meal breaks, but to ensure that they actually took the breaks. The Court rejected this argument, concluding that the language in the applicable statute and Wage Order “does not mean employers must ensureemployees take meal breaks[, but r]ather, employer must only provide breaks, meaning, making them available.” The Court noted that “[t]he notion that an employer must ensure all employees take their meal and rest periods is utterly impracticable.”

This issue is pending before the California Supreme Court in a pair of closely-watched cases. We will continue to monitor this issue and report on it.

Simple Steps Employers Can Take to Minimize the Risk of Preventable Lawsuits

Employers today are facing a barrage of wage and hour lawsuits on an unprecedented scale.  Indeed, it is not uncommon to see plaintiffs’ attorneys target a particular industry for “special” attention, especially when there appears to be a significant number of employers unclear about or unconcerned with the obligations imposed by the Fair Labor Standards Act (FLSA) and state wage and hour laws.  The hospitality industry has come under just such scrutiny, with single plaintiff and class action lawsuits filed against national chains as well as local “mom and pop” establishments.  With no employer immune, there are several areas where a proactive employer should pay particular attention.

Minimum Wage, Overtime and Off-The-Clock Claims

One issue that turns up time and again, particularly with less sophisticated employers, involves incorrect minimum wage payments.  Under federal and state law, employers are required to pay nonexempt employees the minimum wage.  In many cases, employers do not realize the federal or state minimum wage has changed and that, as a result, hourly employees are not being paid the appropriate minimum wage until a lawsuit has been filed.  Employers often mistakenly rely on HR consulting firms or payroll companies to notify them of any changes in the minimum wage.  However, the wage and hour laws place the onus of compliance on the employer. Unless the employer has an indemnification agreement with its payroll provider, the employer is on the hook for the unpaid wages plus any fees or other penalties that may be imposed.  Employers should periodically verify whether a minimum wage hike has occurred or is planned.

Another easily correctible mistake involves the incorrect payment of overtime to hourly workers.  Instead of paying employees time-and-one-half (1.5x) the hourly rate for hours worked in excess of 40, some hospitality and service industry employers continue to pay employees the straight time rate for overtime hours.  For example, an employee is paid $10 per hour for all hours worked, including overtime hours, even though the federal and state laws require the employee to be paid $15 per hour for all hours over 40.  Some employers erroneously believe that an employee may agree, or even offer (in exchange for more hours) to accept a lesser overtime wage than is required by the law.  The law is very clear, however, that employees may not waive their right to be paid the minimum or overtime wage.

Off-the-clock claims are another headache plaguing hospitality employers.  These lawsuits stem from the nonpayment of wages for time spent working by employees before clocking in and after clocking out (i.e., off-the-clock work), and they are often filed in conjunction with minimum wage and overtime claims.  To succeed on these claims, the employees must prove that the employer knew they were engaging in off-the-clock work activities without compensation.  The success of these claims often hinges on whether the employer has implemented timekeeping rules, notified employees of the rules and disciplined employees who violated them.  Credibility of the supervisors and witnesses is also a major factor.

Employers would be well-served to require employees to clock in and out using a time clock and to have supervisors review the time cards on a weekly basis.  Under federal and state law, employers are required to keep accurate records.  Failure to do so can result in the courts giving more credence than they otherwise would to the employees’ estimate of the hours they worked.  Employers should also make clear to employees that they are not permitted to work overtime without prior authorization and that they will be disciplined up to and including termination if they work unauthorized overtime.  Employers also may want to consider implementing workplace rules requiring employees to start working as soon as they clock in and to leave the premises after they clock out, and depending on the industry and job, prohibiting employees from working at home.

Lest employers think these lawsuits are not a cause of concern, under federal law, employees may be awarded liquidated damages in an amount that is equal to the amount of the unpaid minimum wage or overtime amounts plus their attorneys’ fees.  Thus, lawsuits, often stemming from innocent mistakes, may end up costing employers hundreds of thousands of dollars, not including attorneys’ fees.  Moreover, state or federal departments of labor may decide to audit all of the company’s wage and hour practices.

Be Careful with Tip Credit Arrangements

Treatment of “tipped” employees is another hospitality industry practice that is frequently challenged by plaintiff’s attorneys.  Under federal and most states’ laws, employers may pay tipped employees a reduced hourly rate if the employer follows certain rules.  For example, Illinois law permits employers to pay tipped employees an hourly rate of $4.95 per hour, rather than the statutory $8.25 per hour.  To qualify for this credit under federal law, the employer must satisfy the following requirements:

  • Inform each tipped employee of the “tip credit” arrangement by, for example, posting the federal DOL notices regarding tipped employees and having employees sign a written acknowledgement of understanding.
  • Tipped employees must receive at least $30 in tips per month.  Compulsory service charges determined by the employers are not tips.
  • Tipped employees must be paid at least the minimum wage when the decreased hourly rate and tips are added together.
  •  Employees must be permitted to keep ALL tips, provided that a valid tip-sharing arrangement (or “tip pool”) may be utilized.  Employees may not be required to contribute more to the tip pool than what is “customary and reasonable.”

If the employer fails to satisfy any of the above conditions, the tip credit arrangement is invalid and the employer may be liable for the amount saved by using the tip credit, any additional overtime amounts and liquidated damages.

Most lawsuits challenging the tip credit take issue with the last element.  The general rule is that tip-sharing arrangements typically may not include dishwashers, cooks, managers, maintenance employees, janitorial staff and any other individuals not typically involved in serving customers.  Managers generally may not participate because their primary responsibility is to supervise, not service customers.  Starbucks has been fighting lawsuits all over the country, which claim that various supervisory employees should not be included in the tip pool.  The safest course is to limit the tip pool to employees whose primary responsibility is directly servicing customers.

Another type of lawsuit that could have wide-ranging ramifications for the service and hospitality industries challenges the amount of time that tipped employees spend on non-tip producing activities.  In Fast v. Applebee’s International, the Eighth Circuit Court of Appeals affirmed a Missouri federal district court decision adopting the U.S. Department of Labor’s position that non-tip producing activities, when routine and in excess of 20 percent of the employee’s shift, should be compensated at the minimum wage with no tip credit allotted.  With this decision, employers are confronted with the onerous task of implementing monitoring and record keeping practices aimed at tracking whether minuscule activities, such as cutting lemons, need to be detailed during the employee’s shift.  This case may well prompt the plaintiffs’ bar to pay even more attention to how service and hospitality employers pay their employees.

There is some good news for hospitality employers.  The United States Department of Labor recently reversed a long-standing enforcement rule specifying that, for purposes of how much an employee may contribute to a tip pool, the term “customary and reasonable” meant 15 percent.  In other words, the DOL previously took the position that requiring employees to contribute more than 15 percent of tips into a tip pool would jeopardize the employer’s tip credit arrangement.  The DOL pronounced in its new regulations that there is no maximum contribution percentage that applies to valid mandatory tip pools.  Employers should nevertheless be mindful to establish “tip pool” contribution rates that are consistent with industry standards.

Time To Review Your Company’s Consumer Disclosures?

A series of recent federal court decisions highlight the importance of making sure your company’s online consumer disclosures are robust and accurate. If done properly, they just might help you avoid a class-action lawsuit.

In Berry v. Webloyalty.com, Inc., the court dismissed a putative nationwide consumer class action, concluding that the company’s business practices were not unfair or misleading as a matter of law because of the company’s disclosures. Slip Opinion, No. 10-1358 (S.D. Cal. Apr. 11. 2011).

The case involved “post-transaction marketing,” the practice of presenting a consumer with an offer from a third party after the primary transaction has been completed. This type of marketing generally involves a data-sharing arrangement, where the company completing the primary transaction passes data to a second company for marketing purposes. After the consumer takes some further action (e.g., entering an email address, checking a box and clicking “yes”), the second company charges the consumer for a new product or service using the payment information provided to the first company.

This practice has been criticized by certain legislators and officials at the Federal Trade Commission. Last December, Congress passed and the President signed the Restore Online Shoppers’ Confidence Act into law, targeting online post-transaction marketing; the law now requires additional disclosures to be made and prohibits third-party sellers from charging consumers for goods or services without the consumer’s express consent and from receiving certain financial information obtained during the initial transaction.

Notwithstanding any public debate over the propriety of these marketing practices, several federal courts have granted motions to dismiss in post-transaction marketing cases based on the companies’ disclosures. The most recent example is Berry, where the court took judicial notice of the company’s disclosures and ultimately dismissed the case, concluding that no reasonable consumer could have been misled, given the disclosures that were made.

After reviewing the online disclosures and terms of service, the court in Berry held that “the explicit and repeated disclosures that defendants made in their enrollment page suffices to defeat” all of the plaintiffs’ claims, including fraud, invasion of privacy and violations of the Electronic Communications Privacy Act, Electronic Funds Transfer Act and California’s Unfair Competition Law. Slip Op’n at 9. The court explained that by completing his transaction after receiving such disclosures, plaintiff had consented to the conduct about which he complained. Id. Although the plaintiff claimed he did not understand he would be charged for the third party’s product (here a membership club providing discounts on products and services), the court emphasized that the enrollment page disclosed more than five times that, by signing up, plaintiff would be charged $12 per month after an initial thirty-day trial period. Id. at 10.

Bsed on these disclosures, the court granted the defendants’ motion to dismiss, thus ending the case and potentially saving the companies millions in discovery costs and other expenditures.

Other federal courts have reached similar conclusions. In Baxter v. Intelius, Inc., No. 09-1031, (C.D. Cal. Sept. 16 2010), the court granted a motion to dismiss, concluding that “[t]he disclosures combined with the affirmative steps for acceptance are sufficient that, as a matter of law, the webpage is not deceptive.” Similarly, in In re Vistaprint, Marketing and Sales Practices Litigation, No. 08-1994 (S.D. Tex. Aug. 31, 2009), aff’d, No. 09-20648 (5th Cir. Aug. 23, 2010), the court held that a “consumer cannot decline to read clear and easily understandable terms that are provided on the same webpage in close proximity to the location where the consumer indicates his agreement to those terms and then claim that the webpage, which the consumer has failed to read, is deceptive.”

A key factor in each of these cases was the courts’ willingness to examine the company’s online disclosures in connection with a motion to dismiss. In each case, the plaintiffs opposed any review of the disclosures, arguing that they were outside the four corners of the complaint and may not be authentic. In Baxter and Vistaprint, the court rejected the argument because plaintiffs came forward with nothing to challenge the authenticity of the disclosures. In Berry, the court took the extraordinary step of allowing discovery on the authenticity and accuracy of the disclosures before ruling on the motion to dismiss. When the plaintiffs were unable to offer any evidence that the disclosures were not authentic, the court considered them in connection with the motion to dismiss and granted the motion.

These cases highlight two strategies that could help your company reduce the risk of class-action lawsuits.

First, the cases demonstrate that, even for controversial business practices, robust consumer disclosures may provide an effective defense against a consumer class-action lawsuit.

Action Step: Consider conducting a comprehensive review of your company’s consumer disclosures to evaluate whether your company is adequately protected and in compliance with existing law.

Second, the cases demonstrate the importance of being able to provide a court with accurate copies of the disclosures individual consumers saw and in a form that is subject to judicial notice in connection with a motion to dismiss.

Litigating a class action can be incredibly expensive and risky. One effective way to mitigate the risk is to have a strategy for defeating them at the earliest stages of the case, preferably on a motion to dismiss. But if you cannot provide accurate copies of the actual disclosures made to the named plaintiff, the court may be unwilling to consider them on a motion to dismiss and you may have lost one of your company’s most effective weapons against class actions.

Action Step: Consider reviewing your company’s systems for documenting consumer transactions to ensure you can provide accurate copies of consumer disclosures for any given transaction.

Seventh Circuit Reverses Summary Judgment In Kraft ERISA “Excessive Fees” Case

On April 11, 2011, a divided Seventh Circuit panel reversed summary judgment in favor of Kraft Foods Global, Inc. in a class action ERISA breach of fiduciary duty case involving “excessive fees” claims in connection with Kraft’s 401(k) plan. The main take away from the decision is that fiduciaries must continue to be diligent and thoroughly consider plan administration issues and document why decisions were made or not made or practices followed, even on decisions and practices once thought to be routine or common industry standards. By following such a prudent practice, fiduciaries will substantially increase their ability to defend challenges concerning fiduciary conduct.

In Kraft, plaintiffs alleged three primary claims considered on appeal: that the use of a unitized company stock fund as an investment option was improper; that the plan’s recordkeeping fees were too high and imprudently monitored; and that the fiduciaries imprudently allowed the plan trustee to retain interest income from “float.”

In a 2-1 decision, the panel ruled that the plaintiffs could proceed to trial on their theory that the unitized company stock fund was imprudently designed because of “investment drag” and “transaction drag” that is inherent with the widely popular unitized funds. Like most company stock funds, Kraft plan participants held units of the fund rather than directly holding shares of company stock. The plaintiffs alleged that the fiduciaries should have considered the “drag” that unitized funds cause on gains (and losses). The Seventh Circuit ruled that there was no evidence that the fiduciaries ever consciously decided in favor of a unitized plan finding that the benefits of a unitized fund outweighed the downsides, or whether they just ignored the issue. According to the majority, that was sufficient to proceed to trial. In a strongly worded dissent, Judge Cudahy called the plaintiffs’ theories on this, and others in the case, an “implausible class action based on nitpicking with respect to perfectly legitimate practices of fiduciaries.”

The majority further reversed summary judgment for the defendants on whether the recordkeeping fees were too high. The plaintiffs argued that the fiduciaries should have solicited competitive bids from other recordkeepers about every three years. Kraft had used the same recordkeeper since 1995, without a competitive bid, although Kraft received advice from several third-party independent consultants that the fees were reasonable. The plaintiffs submitted an opinion from an expert finding that the fees were excessive. In a decision with potentially wide-sweeping ramifications, the Seventh Circuit held that while the defendants’ reliance on the contemporaneous opinions of outside independent consultants that the fees were reasonable may be enough to prevail at trial, it was not enough to overcome the plaintiffs’ contrary admissible expert opinion at summary judgment which created a genuine issue of fact. The use of a consultant cannot “whitewash” otherwise unreasonable fees and a trier of fact could conclude that the defendants did not satisfy their duty solely through the use of independent consultants to ensure that the recordkeeping fees were reasonable. The dissent argued that the fiduciaries’ use of an outside consultant to confirm the reasonableness of the fees showed a prudent process and asked “what the majority’s holding means for ERISA fiduciaries” and “what is adequate to support a fee without the fear of litigation?” As noted by the dissent, this decision “will only serve to steer [fiduciaries] attention toward avoiding litigation instead of managing employee wealth.”

The Seventh Circuit upheld summary judgment for the defendants on whether the float income the trustee received was a reasonable part of the trustee’s overall compensation, because the fiduciaries proved that they received reports showing the float income and the plaintiffs failed to offer admissible evidence that such information was not considered.

Fifth Circuit Update: Trade Secrets, Fiduciaries in Bankruptcy and Mass Tort Class Actions

Here is the Murphy’s Law of the blogosphere: courts will let fly with all kinds of new opinions when the blogger lacks time to keep up with them.

Lest I fall too far behind, here are three from the mighty Fifth Circuit’s output in the last week that may be of interest to the civil practitioner.

The opinions run the gamut from:

Texas Trade Secrets Composed Of Publicly Available Components

Tewari De-Ox Systems v. Mountain States involved claims of misappropriation of trade secrets under Texas law. The interesting part of the case arose because aspects of the “secrets” weren’t secret at all because they had been part of a patent application which became public 18 months later under the terms of the Intellectual Property and Communications Omnibus Reform Act of 1999, 35 U.S.C. § 122(b)(1)(A). But the Fifth Circuit revived the trade secret claims because

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a trade secret can exist in a combination of characteristics and components each of which, by itself, is in the public domain, but the unified process, design and operation of which in unique combination, affords a competitive advantage and is a protectible secret.

Judge Prado wrote the court’s opinion.

Bankruptcy: Officer Of General Partner Also Acting As Fiduciary To Limited Partnership 

FNFS v. Harwood principally involved the question of whether the debtor had committed fraud or defalcation while acting in a fiduciary capacity such that his debts to a limited partnership were not discharged in bankruptcy under11 U.S.C. § 523(a)(4). The debtor was an officer and director of a company that acted as general partner of a limited partnership to which the money was owed. He argued that while he was a fiduciary to the general partner company, he was not a fiduciary of the limited partnership. Looking to the substance of the business relationship,  the control he exercised and the confidence reposed in him, the court ruled that he was “acting in a fiduciary capacity” to the limited partner.  Some of the key language:

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We conclude that an officer of a corporate general partner who is entrusted with the management of the limited partnership and who exercises control over the limited partnership . . . owes a fiduciary duty to the partnership that satisfies Section 523(a)(4). We emphasize that it is not only the control that the officer actually exerts over the partnership, but also the confidence and trust placed in the hands of the controlling officer, that leads us to find that a fiduciary relationship exists sufficient for the purposes of Section 523(a)(4).

Here, the test was satisfied because, as a factual matter, there was evidence that the debtor had exercised near-complete control over both tiers of the entity until a few months prior to his termination, and the general partner’s board entrusted the debtor with the sole and plenary authority over the day-to-day management of the partnership enterprise. Judge King wrote the court’s opinion.

Mass Tort: No Class Certification Without A Trial Plan To Deal With Individual Issues

Finally, Madison v. Chalmette Refining represents another attempt to certify a class of plaintiffs claiming injury from a mass accident, here the emission of petroleum coke dust from a refiner. According to the Fifth Circuit, the trial court had not done the “rigorous analysis” and “close look” that is necessary before determining that common issues predominate and the case would not degenerate into mini-trials.

The court reversed the district court’s class certification order and cast some doubt on its pre-Amchem mass-tort precedents in language indicating (as in Texas state court) importance of a trial plan for dealing with individualized issues:

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Whether Watson has survived later developments in class action law–embodied in Amchem and its progeny–is an open question, but even in Watson, the district court had “issued orders detailing a four-phase plan for trial.”. . . . In Turner v. Murphy Oil USA, Inc., . . .  [c]ritical to the court’s predominance inquiry was the fact that “Plaintiffs submitted a proposed trial plan to the Court. The plan provides for a three-phase trial.”  * * *

We must reverse because, “[i]n its certification order, the [district] court did not indicate that it [had] seriously considered the administration of the trial. Instead, it appears to have adopted a figure-it-out-as-we-go-along approach . . . By failing to adequately analyze and balance the common issues against the individualized issues, the district court abused its discretion in determining that common issues predominated and in certifying the class. We do not suggest that class treatment is necessarily inappropriate. As Chalmette Refining acknowledged at oral argument, class treatment on the common issue of liability may indeed be appropriate. But our precedent demands a far more rigorous analysis than the district court conducted.

Judge Clement wrote the court’s opinion.

Orange County Florida Business Court – A Success Story After 7 Years

The Federal Courts have often been a forum of choice for complex business litigation historically, with business bemoaning that the Federal Court jurisdictional requirements exclude many kinds of cases.

In January 2004, Orange County established a specialized subdivision known as “Business Court” to establish a forum for resolution of complex business disputes. Following a Federal Court model, specialized rules and rigorous case management were put in place, and more reliance was placed on written submittals. Since its inception, 3,604 cases have been assigned to Orange County’s Business Court. There are two other business courts in Florida – Miami-Dade and Hillsborough County.

The Business Court option is determined on a case-by-case basis. Early in a Business Court case, the judge holds a case management conference in which attorneys and clients both participate. A case management order is then generated that, like the one in Federal Court, tells everyone far in advance when their trial will take place. There are limits on depositions and other discovery similar to those in the Federal Courts, and reliance on written submittals is often used to weed out legally non-meritorious claims and defenses.

Advantages of the Business Court over its State Court alternative are illustrated by some of my recent class action trial experiences. A few years ago, I participated in a class action bench trial in Broward County in which the decision was affirmed on appeal by the Florida Supreme Court in 2008. In February 2009, I won a class action bench trial in Orange County Business Court. While the actual trials were not very different, the Business Court case proceeded in a much more streamlined fashion because of the rules and case management that were put in place. Pretrial activities in both cases included motions and extensive discovery, including fact witness depositions, expert reports and expert depositions. The Business Court entered a series of Case Management Orders tailored to our particular case that entirely barred certain topics from being the subject of discovery. The Business Court trial started exactly when the Case Management Orders directed. In contrast, the Broward County class action had little case management, which led to unnecessary discovery and our having to show up for trial twice. Although both cases resulted in defense judgment outcomes, the clients and witnesses were far less inconvenienced in the Business Court case.

Another example of Business Court case management involved four class actions concerning a public merger transaction that my partner and I defended in 2010. Once all four cases were transferred to the Business Court, they were consolidated. An early hearing was held on whether the consolidated case in Florida should proceed or, alternatively, whether mirror image lawsuits in Nevada should. The Business Court judge quickly ruled that the earlier filed Nevada cases would proceed. Three months into the cases, the Florida class actions were stayed.

After seven years, it is clear that the Orange County Business Court is a success story. The fact that Business Court forum is available might actually make Orange County a more attractive place to do business, removing some of the legal uncertainties of complex litigation.

2010 Year-End Securities Litigation Reports Show a Second Half Increase In New Class Action Filings, With Merger Cases Spiking

NERA and Cornerstone Research (in cooperation with Stanford Law School’s Securities Class Action Clearinghouse) recently issued their respective year-end assessments of securities litigation for 2010. (Their findings and analyses are summarized in press releases here:  NERACornerstone.) Both report that new federal securities class action filings reversed their first-half 2010 decline. (We previously reported on trends for the first half of 2010 here.) One notable development was the increase in class actions by shareholders challenging the fairness of proposed mergers at a pace ahead of the increase in merger activity, suggesting a shift in focus and resources among the plaintiffs’ bar as credit crisis litigation begins to wind down.

The Ninth Circuit Rules that Foreign Documents Brought into the Country are Subject to Federal Grand Jury Demands

Forced Disclosure of Documents: Subpoena to Produce Documents In Criminal Case Trumps Protective Order in Civil Case

The Ninth Circuit issued a ruling earlier this month that has handed the federal government another tool in its discovery belt and provides defense counsel with fair warning as they prepare to defend white-collar clients. The Ninth Circuit has ordered three U.S. law firms (White & Case LLP, K&L Gates LLP, and Nossaman LLP) to turn over foreign documents that the firms received through their representation of foreign companies in a civil antitrust class action lawsuit involving liquid crystal display (LCD) products to a grand jury empanelled by the Department of Justice (DOJ). The DOJ issued grand jury subpoenas for the documents to aid its investigation of alleged criminal antitrust violations by the foreign companies. The documents were produced from locations in foreign countries to the law firms as part of a civil class action suit but were protected by a protective order issued by the judge handling the civil suit. The foreign documents were originally outside the access of the grand jury, since they were located outside the United States. However, the Ninth Circuit ruled that after the law firms were provided the documents in the United States for the civil antitrust case, the documents took on the status of any ordinary document located in this country and becomes available to the grand jury. In ordering the law firms to turn over documents from the civil antitrust case to the grand jury and the DOJ in connection with a criminal matter, the Ninth Circuit reminded the litigants that a grand jury subpoena supersedes a civil protective order.

In 2006, the United States was conducting an antitrust investigation into alleged criminal conduct. Soon after this investigation became public, a number of civil suits were filed by private plaintiffs against the companies under investigation. The litigation resulted in the production by the civil defendants (the foreign companies) of documents originating outside the United States. As a result of the production for this civil antitrust case, the documents came into the possession of the law firms in the United States.

Court’s Reasoning for Ordering Turnover of Documents

In ordering the law firms to turn over the documents, the Ninth Circuit ruled that a grand jury subpoena, which is issued in federal criminal investigations, trumps a civil protective order issued to protect disclosure of documents. The court determined that the grand jury subpoena should take precedence because: (i) there was no collusion between the plaintiffs in the civil antitrust suit and the DOJ that would suggest a subterfuge to gain access to the foreign documents, and (ii) the law firms did not claim that the documents were privileged.

In explaining its decision, the court stated:

“By a chance of litigation, the documents have moved from outside the grasp of the grand jury to within its grasp. No authority forbids the government from closing its grip on what lies within the jurisdiction of the grand jury.”

Key Takeaways

Companies and legal counsel should remain cognizant of:

  1. Potential consequences of a decision to bring documents into the United States for the purpose of use in a civil case, including the possibility that the Department of Justice will be able to access such information for use in a criminal case, and
  2. The importance of considering the applicability of attorney-client and work-product privileges to foreign documents whether or not brought into the United States, and whether those privileges are recognized by the foreign jurisdictions or if the foreign jurisdictions have alternative protections that may be asserted in making decisions to bring documents into the country.