3rd Circuit Questions Calculation of $31M Fee Award in Rite Aid Class Action

Shannon P. Duffy
The Legal Intelligencer
January 27, 2005


A federal judge may have been too generous when he awarded more than $31 million in fees to the lawyers who secured a $126 million settlement in a class action suit against Rite Aid Corp., the 3rd U.S. Circuit Court of Appeals has ruled.

In its 33-page opinion in In re Rite Aid Corp. Securities Litigation, a unanimous three-judge panel found that "in all respects but one," U.S. District Judge Stewart Dalzell had "performed an exemplary analysis" in his rulings on the fee award.

Dalzell correctly followed the percentage-of-recovery approach in deciding that the plaintiffs lawyers were entitled to 25 percent of the fund, the appellate panel found, but he erred in his application of a lodestar "crosscheck" by focusing only on the hourly rates for the top lawyers.

The lodestar is calculated by multiplying the number of hours reasonably worked on a case by a reasonable hourly billing rate for such services based on the given geographical area, the nature of the services provided and the experience of the attorneys.

Although the 3rd Circuit prefers the percentage-of-recovery method for deciding class-action fee awards, the court has also said it is "sensible" for trial judges to "crosscheck" the percentage fee award against the lodestar method.

Now the 3rd Circuit has insisted that the crosscheck must be based on the hourly rates of all of the plaintiffs lawyers so that it will accurately reflect how much of a "multiplier" the fee award represents.

The panel found that Dalzell erred in calculating the rate solely on the basis of the senior-most partners at lead firms -- whose average billing rate is $605 -- and instead should have applied a "blended billing rate" that would approximate the fee structure of all the plaintiffs attorneys who together logged more than 12,000 hours on the case.

"Had the hourly rates been properly blended, taking into account the approximate hourly billing rates of the partners and associates who worked on the case, the multiplier would have been a higher figure, alerting the trial court to reconsider the propriety of its fee award," Chief U.S. Circuit Judge Anthony J. Scirica wrote.

"Failure to apply a blended rate, we believe, is inconsistent with the exercise of sound discretion and requires vacating and remanding for further consideration," Scirica wrote in an opinion joined by 3rd Circuit Judge D. Michael Fisher and visiting 9th Circuit Senior Judge Arthur L. Alarcon.

But Scirica also stressed that the percentage-of-recovery approach "is the proper method" of awarding attorney fees, and said the lodestar crosscheck calculation "need entail neither mathematical precision nor bean-counting."

The shareholder suits filed in the wake of Rite Aid's accounting scandal led to settlements totaling more than $334 million. The first settlement, worth $207 million, led to a fee award of $48.25 million.

In the second settlement, the accounting firm KPMG paid $125 million and former Rite Aid CEO Martin Grass paid $1.4 million.

Wednesday's decision from the 3rd Circuit focused only on the $31 million in fees awarded in the second case.

Court records show that 34 plaintiffs firms will share in the fees, but that more than 80 percent will go to the two lead firms that together logged more than 11,000 hours on the case -- Berger & Montague in Philadelphia and Milberg Weiss Bershad Hynes & Lerach in New York.

The Berger firm's team was led by Sherrie R. Savett and included Carole R. Broderick and Robin Switzenbaum. The Milberg Weiss team was led by David J. Bershad and included William C. Fredericks, Brian C. Kerr, Susan M. Greenwood and Christian Siebott.

The appeal from the fee award was brought by shareholder Walter Kaufmann who argued that Dalzell's $31 million fee award was unreasonable and that he should have applied a declining percentage "sliding scale" principle to reduce the percentage-of-recovery to account for the magnitude of the settlement fund.

Now the 3rd Circuit has rejected most of Kaufmann's arguments, but sided with him on his complaint that Dalzell's crosscheck was faulty.

Significantly, the court rejected Kauffman's argument that courts must apply a sliding-scale and reduce the percentage in huge settlements such as KPMG's.

"Our jurisprudence confirms that it may be appropriate for percentage fees awarded in large recovery cases to be smaller in percentage terms than those with smaller recoveries," Scirica wrote.

"But there is no rule that a district court must apply a declining percentage reduction in every settlement involving a sizable fund. Put simply, the declining percentage concept does not trump the fact-intensive ... analysis."

Scirica noted that the 3rd Circuit has "generally cautioned against overly formulaic approaches in assessing and determining the amounts and reasonableness of attorneys' fees."

Dalzell did not abuse his discretion in awarding 25 percent of the fund, Scirica found, because the award was premised on Dalzell's findings that the plaintiffs lawyers were "extraordinarily deft and efficient" in the handling of a complex securities case, and had secured a "rich settlement."

"The court found class counsel's efforts played a significant role in augmenting and obtaining an immense fund. The court did not abuse its discretion in declining to apply a 'sliding scale' reduction, nor in viewing the size of the fund to be a factor weighing in favor of approval of the fee request," Scirica wrote.

In the suits, investors alleged that between May 1997 and March 1999, Rite Aid portrayed itself as a company with "very strong" profitability and said it was in the midst of a major program to expand and modernize its operations.

In fact, the suit alleged, the modernization and expansion programs were "encountering significant problems."  But instead of publicly disclosing the problems, the suit alleged that Rite Aid engaged in a variety of improper accounting methods designed to hide its true financial picture by both artificially inflating its earnings and deflating its expenses.

Over a three-year period, the suit alleged, Rite Aid succeeded in artificially inflating its after-tax earnings by more than $1.6 billion.

The suit also alleged that KPMG was "aware of" and "recklessly disregarded" Rite Aid's improper accounting practices.

In each of the three years, the suit said, KPMG issued "unqualified auditor's opinions" that said Rite Aid's financial statements conformed with generally accepted accounting principles.

The public first learned of the problems in March 1999 when Rite Aid announced that its fourth-quarter earnings would be less than expected. The news caused stock prices to drop from $37 per share to $22.56. Soon after, investors learned that the SEC was investigating Rite Aid's accounting practices. The company responded by restating its financial results for the previous three years.

But the suit alleged that the true extent of Rite Aid's problems weren't revealed until November 1999, when a series of disclosures rocked the company and caused its stock price to plummet down to just $5.38 per share.