(*This article was originally published in Law360.)

On May 29, 2014, U.S. District Judge William Alsup of the Northern District of California denied preliminary approval of a proposed settlement between Defendant Aeropostale Inc. and named Plaintiff Portia Daniels in a collective action involving claims for failure to pay overtime wages. Judge Alsup took issue with the settlement largely because the majority of opt-in collective action members would have to “give a release and covenant not to sue defendants in exchange for zero cash,” among other failings.

Daniels alleges in her lawsuit that clothing retailer Aeropostale violated the Fair Labor Standards Act by failing to include nondiscretionary bonus amounts in overtime pay calculations for nonexempt store employees. Concurrently, plaintiff’s counsel had two other wage actions pending against Aeropostale in state court: one suit asserts California overtime and wage-and-hour claims; and the second asserts California vacation, rest period and waiting-time claims. The Daniels case does not allege any state law claims, and the court previously granted conditional certification, after which nearly 600 employees had opted in. The parties reached a tentative settlement and sought preliminary approval by the court of that agreement. The court evaluated whether the proposed settlement was fair and reasonable and found it was “decidedly not” for the reasons discussed below.

Most Opt-Ins Receive Nothing, or Virtually Nothing, in Exchange for Release

Judge Alsup first criticized the settlement because the vast majority of collective action opt-ins “would receive nothing or virtually nothing in this proposed settlement but nonetheless would provide a release and covenant not to sue.” Under the proposed agreement, the final “true-up amount” was $8,645.61 for all 594 collective action members. This amounted to 60 percent of members receiving $0. And while 38 percent of members stood to receive between $1 to $200, 78 percent of this subgroup would receive only $1 to $25. As Judge Alsup made clear, “No one should have to give a release and covenant not to sue in exchange for $0 (or virtually $0). The collective action opt-ins would be better off simply walking away from this lawsuit with their rights to sue still intact.”

No Evidentiary Support that the Settlement is Fair

The settlement amount was also problematic from Judge Alsup’s because the record did not contain any support showing how the proposed settlement was fair, aside from a few declarations the court dismissed as “mere after-the-fact advocacy in support of the proposed settlement.” The court specifically took issue that at the time of the agreement, counsel for both the plaintiff and defendants did not know the actual exposure amount. To protect absent opt-in members and evaluate the fairness and reasonableness of a proposed settlement, the court stated that it was important the parties and court had sufficient information to determine the total triable amount.

Release is Too Broad

The court next found that the proposed release was too overbroad because counsel were authorized to settle only the conditionally certified FLSA claim, yet the agreement contained a general release. Further, the proposed settlement contained an additional release that would insulate many of the parties involved in the settlement from claims related to the settlement agreement. The court found it troubling that aside from opt-ins receiving nothing at all, they could not go after their counsel for malpractice for “foisting this deal upon them.” As the court said, “This takes the cake.”

Gag Order

The proposed settlement prohibited parties and counsel from soliciting or encouraging collective action members to submit objections, exclusion requests or appeals. The court found this provision was not fair and reasonable because it could be unduly burdensome for individual collective action members to navigate the settlement procedures on their own, especially since plaintiff’s counsel were not permitted to aid them. Thus, the proposed settlement prevented plaintiff’s counsel from vigorously advocating in the best interest of their clients: the individual collective action members.

Conflict of Interest

The court recognized that plaintiff’s counsel had a conflict of interest since they represented settlement classes in three actions against the defendants. All three actions involved employment claims. Therefore, defendants had an incentive to settle all lawsuits at once, which created opportunities for counsel to manipulate the allocation of settlement dollars among the three cases (and potentially disadvantaging one class over another).

Inadequate Notice

The notice to collective action members included a 14-page proposed notice, four-page claim form and one-page objection form that were all “chock-full of legalese.” Thus, the notice failed to “plainly lay out the salient points” and would be “oppressive to the average person.” Further, the disclosure of the zero settlement amount was buried on page three of a separate exhibit and the broad release buried on page eight of the notice. Nor did the notice say that 90 percent of opt-ins would receive nothing or virtually nothing. The court additionally found that the procedures to object or receive money were onerous, especially since the gag order would put the burden on individual class members to figure out the procedures by themselves.

Excessive Incentive Award

Finally, the court took issue that, while 90 percent of collective action members would receive nothing or virtually nothing, the named plaintiff “brazenly” sought $5,000 as an incentive award on top of the total proposed settlement amount for all members of $8,645.61. Given that plaintiff “has done nothing in this action except to foist a terrible settlement on the people she claims to represent,” the court denied the request for $5,000 as an incentive award.

Lessons for Employers

Judge Alsup’s order should alert employers that judges will not simply rubber-stamp a class or collective action proposed settlement that was agreed to by the parties as fair and reasonable. In reaching a tentative settlement, the parties must consider whether a court will accept the proposed settlement as reasonable and fair to members of the class or collective action.

Some lessons employers should take away from the Daniels decision when reaching a settlement agreement include:

  • Employers cannot look at only the total amount of settlement, they must also consider the breakdown of how the amount is distributed. If a large majority of class or collective action members will get nothing, or virtually nothing, then the settlement distribution should be closely evaluated to make sure that the reason for that distribution is sound, supported by evidence and will stand up to scrutiny.
  • In wage-and-hour settlements, the parties need to know specific information about overtime hours worked and pay information (e.g., how much nondiscretionary bonuses were paid), including the total triable amount at issue.
  • Release language cannot be so overbroad as to include claims that counsel are not authorized to settle.
  • Language restricting counsel’s communications with class or collective action members should not be so expansive as to prohibit class counsel from aiding their clients to navigate through the settlement procedures.
  • Notice to class or collective action members should be made in plain language, understandable to the average person, and important details about the settlement should not be buried within the notice. Procedures to accept, object to or appeal the settlement amount should also be more simplified when possible.
  • Incentive awards for named plaintiffs must be proportionate to the effort the individual put into vindicating his/her and other members’ rights in the lawsuit. It also cannot be disproportionate to the total settlement amount for all class or collective action members.

On June 10, 2014, pursuant to stipulation between the parties, Judge Alsup issued an order decertifying the conditionally certified FLSA collective action. Trial is currently set to proceed on Daniels’ individual claim. Aeropostale also voluntarily agreed to pay overtime adjustment based on any nondiscretionary bonus earned to each qualified collective action member without seeking a release of claims.