The Fifth Circuit Court of Appeals recently issued a guiding decision that emphasizes the importance of careful drafting of class action settlement agreements. In Klier v. Elf Atochem North America, Inc., No. 10-20305, 2011 U.S. App. LEXIS 19650 (5th Cir. Sept. 26, 2011), the Court of Appeals restricted the use of the doctrine of cy pres to distribute unused funds in class settlements to charities. The doctrine of cy pres, meaning "as near as possible," is an equitable doctrine used by some courts and advanced by some class counsel to distribute to charities all or a portion of funds in claims-made settlements that class members fail to claim.

Unused Settlement Funds

The Klier appeal involved a class action begun in 1992 that arose out of toxic chemical exposure. The settlement agreement created three subclasses, each of which was allocated a portion of the $41.4 million settlement fund. Approximately $830,000 that was allocated to a medical monitoring program created for subclass B went unused because of a low participation rate and the absence of any significant health problems. The parties agreed that an additional distribution to this subclass was not economically feasible, and proposed seven charities as recipients of these leftover funds through cy pres distributions; the district court agreed. One class member objected, arguing that the unused funds should be distributed to subclass A, whose members suffered compensable adverse health effects, and that the proposed charities lacked sufficient nexus to the class.

The Court of Appeals agreed with the objections and reversed. The court began by noting that the rules of civil procedure "cannot work as substantive law," which "demands a narrow construction of Rule 23." Slip op. at *11-12. Settlement funds represent a property interest created by agreement, approved by the court, and a cy pres distribution to a third party of unclaimed funds is impermissible when "it is still logistically feasible and economically viable to make additional pro rata distributions to class members," unless the additional distribution would be a windfall to class members whose liquidated damages were already "100% satisfied." Id. at 13.

Settlement Agreement Controls

Importantly, the Klier court emphasized that a district court "cannot modify the bargained-for terms of the settlement agreement," and that once approved, it must be followed by the court and parties: "The terms of the settlement are always to be given controlling effect. Cy pres comes on stage only to rescue the objectives of the settlement when the agreement fails to do so." Id. at 16. The court then engaged in a probing analysis of the terms of the settlement agreement and concluded that, because subclass A members suffered serious health conditions that were not fully compensated, and the undistributed funds to subclass B were not unused by the entire class, the distributions to charities were improper.

In addition to authoritatively restricting application of the doctrine of cy pres, Klier emphasizes the importance of retaining experienced counsel to defend and, when appropriate, resolve class actions. Through careful drafting of class settlement agreements that anticipate every eventuality, such as reversion clauses that return undistributed funds to the defendant, businesses can maximize the value they receive from, and limit the costs of, class action settlements.