Interests of Plaintiffs in Class Action Conflicted with other Class Members, Warranting Certification of Subclass and new Hearing on Approval of Class Acton Settlement Second Circuit Holds
Plaintiffs filed a class action Merck-Medco managed Case, L.L.C., a/k/a Medco Health Solutions, Inc., a pharmaceutical benefits manager (PBM), and its former parent company Merck & Co. Inc. (collectively Medco) alleging violations of the Employee Retirement Income Security Act of 1974 (ERISA) for breach of fiduciary duties. Gruer v. Merck-Medco Managed Care, LLC, ___ F. 3d ___ (2d Cir. October 4, 2007) [Slip Opn., at 6]. Ultimately, the parties reached a tentative settlement of the class action. Important to our discussion, the class action settlement required Medco pay $42.5 million to class members, allocated primarily on a pro rata share of monies spent by each plan but reducing by 55% the share of certain plans because those plans could not have been injured directly by the conduct of Medco. Id., at 8. The district court approved the class action settlement, but the Second Circuit reversed and remanded holding that the lower court erred in failing to consider the conflict of interest between the purported representatives of the class action and other members of the class.
In very broad terms, plaintiffs in the class action complaint consisted of individuals, as beneficiaries of certain welfare benefit plans, and of trustees of welfare benefit plans. Gruer, at 4. The class action complaint alleged that Medco breached fiduciary duties under ERISA by “failing to act in their best interest in its capacity as a pharmaceutical benefits manager for the plans,” id., as set forth in the Note. A class action settlement was proposed, at which time certain entities sought leave to intervene and/or objected to the settlement. Id. The district court certified a class action, approved the settlement, awarded legal fees, and severed those cases in which ERISA plans opted out of the class action settlement, id.
The Second Circuit initially remanded the case to the district court to address “serious questions…as to whether the certified representative Plaintiffs had constitutional standing to assert ERISA claims and to enter into the Settlement Agreement on behalf of the class.” Gruer, at 4-5. The district court held that plaintiffs did have standing, and the appellate court upheld this determination for reasons not discussed here. See id., at 5 and 15-20. The thrust of the opposition was that (1) “self-funded” plans were not represented adequately in the class action litigation by the class representatives, and should be represented by a subclass, particularly as they believed that the plans receiving a 55% reduction should not receive any monies whatsoever, id. at 9, and (2) that the 55% figure was not supported by any evidence and thus the settlement was not fair, reasonable and adequate, id., at 10. The district court rejected these arguments. (Again, we do not here discuss other arguments made by the self-funded plans or other aspects of the lengthy and detailed opinion.)
The Second Circuit held that a conflict of interest existed between the self-funded plans and the funds that were insured or capitated, explaining at page 26: “While we do not here decide whether the self-funded Plans in fact suffered greater injury, we think it proper to allow them to raise their claims as part of a separate subclass. The Self-Funded Plans dispute any recovery to the insured or capitated Plans, yet none of the class representatives is part of an exclusively self-funded plan that could adequately advance this position. Because the antagonistic interest apparent in the class should be adequately and independently represented, we remand to the District Court for certification of a subclass encompassing the self-funded plans in order to better protect their claims in this litigation.” The Circuit Court also agreed that the district court did not have sufficient evidence to determine that the 55% allocation was fair, reasonable and adequate. “As even the District Court recognized, ‘[t]he [Class] Notice is silent as to how the proponents of the settlement derived the insured [P]lans’ claim reduction of 5% relative to the claims of the self-funded [P]lans.’” Id., at 29. On remand, this issue will be more adequately addressed with the aid of the objections to be raised by the new subclass.
Importantly, the Second Circuit held that “the reasonableness of the size of the settlement fund” is not challenged on appeal and so “there is no need to renegotiate that aspect of the Settlement Agreement.” Gruer, at 30. Rather, “the new subclass will be free on remand to negotiate only for a reallocation of the settlement proceeds, with any agreed change subject to the reasoned approval of the District Court.” Id. On remand, then, the possibility exists that the “class” that negotiated the class action settlement – the insured and capitated plans – will not receive any of the settlement proceeds if the district court ultimately agrees that the self-funded plans are the only class members entitled to share in the settlement proceeds.
NOTE: The class action complaint alleged that Medco breached fiduciary duties owed under ERISA by a PBM by “(i) managing formularies…to favor the products of [Merck], over competing drugs; (ii) implementing programs tending to increase the sales of Merck drugs; (iii) entering into drug purchase contracts…that included price, rebate, and discount terms that were favorable to Medco but more costly to the Plans; (iv) engaging in practices prohibited under ERISA…; and (v) generally failing to disclose to the Plans that it was not acting in their best interest but in the interests of Merck.” Gruer, at 6.