In the

United States Court of Appeals

For the Seventh Circuit ____________

No. 06-3778

DOUG SUTTON and

PRESCOTT NOTTINGHAM,

on behalf of themselves and

all others similarly situated,

Plaintiffs,

v.

ROBERT F. BERNARD, et al.,

Defendants.

APPEAL OF:

MILBERG WEISS BERSHAD & SCHULMAN LLP,

lead counsel for plaintiffs, on behalf of itself and

all other counsel for plaintiffs.

____________

Appeal from the United States District Court

for the Northern District of Illinois, Eastern Division.

No. 00 C 6676–John F. Grady, Judge.

____________

ARGUED APRIL 4, 2007—DECIDED OCTOBER 12, 2007

____________

Before KANNE, WILLIAMS, and SYKES, Circuit Judges.

WILLIAMS, Circuit Judge. The legal claims in this multimillion dollar securities class action have been settled. The

issue of attorneys’ fees for class counsel, however, has
2 No. 06-3778

not. Having saved the calculation of the fee award for

the end of the litigation, the district court concluded that

the “degree of success” obtained for the class was the

controlling factor in its decision. As we explain more fully

below, the district court failed to approximate what the

market would have paid the lawyers for their services

had they negotiated their fee at the beginning of the case,

an approach that our precedent requires. Therefore, we

vacate the district court’s decision and remand for a

recalculation of the award.

I. BACKGROUND

On February 27, 2001, the district court appointed the

law firm of Milberg Weiss Bershad & Schulman LLP

(“Counsel”) as the lead attorneys for the plaintiffs in a

securities fraud action against three former executive

officers of the Internet consulting company Marchfirst, Inc.

The complaint alleged that the defendants had made

false and misleading public statements that artificially

inflated the price of the company’s stock, resulting in

damages to those who had purchased or acquired

Marchfirst stock between March and November of 2000.

Marchfirst, which filed for bankruptcy shortly before the

complaint was filed, was not named in the suit. In the

district court’s February 27, 2001, order appointing

Counsel, it reserved for later determination the issue of

how attorneys’ fees would be awarded.

On December 17, 2001, the district court granted the

plaintiffs’ motion for certification of the class, and discovery began. During this time, the Trustee in the Marchfirst

bankruptcy proceeding filed an action against former

directors and officers of the company, including the three

defendants to the class action, alleging a breach of their

fiduciary duties. Claiming priority over the class action,

the Trustee succeeded in obtaining an injunction to stay
No. 06-3778 3

1 Counsel also sought reimbursement of $757,274.23 in expenses

it incurred during the litigation. The district court approved

expenses of $639,508.56, which Counsel does not appeal.

those proceedings, except for discovery, pending the

resolution of its action. The class members found themselves competing with the Trustee for Marchfirst’s

assets, so they, along with the defendants and the defendants’ insurer, took part in a sixteen-month-long mediation. As a result of this process, an agreement was finalized on December 20, 2004, which provided for an

$18,000,000 settlement for the class and a $6,000,000

settlement of the Trustee’s action.

After receiving no objections to the settlement from the

class, on March 24, 2005, Counsel petitioned the district

court for compensation equal to 28% of the gross settlement amount, or $5,040,000, in fees.1

 Counsel explained its

request by first noting that according to a study by National Economic Research Associates, the $18,000,000

settlement exceeded the median expected settlement by

50%. In addition, Counsel argued that the quality of its

legal services was demonstrated by its ability to secure

this amount in spite of the legal and factual complexities

presented by the case. Counsel further contended that

its fee request was fair and reasonable because it represented 88% of its cumulative lodestar of $5,693,884 (the

equivalent of Counsel’s hours spent on the case multiplied

by its hourly rate), and was lower than fee percentage

awards of 33% approved by other judges in the Northern

District of Illinois. Counsel also told the court that it

risked nonpayment at the outset of the litigation since

its compensation depended on the success of the suit.

On July 12, 2006, before addressing Counsel’s fee

award, the district court granted final approval of the

settlement amount, declaring it “reasonable, considering
4 No. 06-3778

the uncertain outcome of the legal and factual questions

that would be involved in a trial of the case . . . .” Sutton

v. Bernard, 446 F. Supp. 2d 814, 816 (N.D. Ill. 2006). The

court then stated that Counsel’s fee would be awarded

from the net settlement amount of $17,360,491.44, a figure

that excluded expenses, as opposed to the total recovery.

Id. at 819-22 (citing Montgomery v. Aetna Plywood,

Inc., 231 F.3d 399, 408 (7th Cir. 2000)).

The court began its calculation of the appropriate fee

percentage by looking to the “degree of success” Counsel

had obtained for the class, a factor it considered crucial to

its determination of an appropriate fee percentage. Id. at

820. Next, it cited Counsel’s representation that the

settlement equaled a recovery of nineteen cents per

share, which the court calculated would yield a distribution of $78 to a class member with the median number of

shares, 400. Id. at 821. Although the court regarded the

settlement as the best Counsel could obtain “under the

circumstances,” it did not believe that the small recovery

could justify Counsel’s requested fee percentage of 28%,

which it considered “excessive.” Id. at 821, 822. Citing

its duty to render a fair judgment, the court decided that

a fee of 15% of the net settlement amount, or $2,605,000,

was the highest it could award. Id. at 822. A few days

after issuing its decision, the district court filed a supplemental opinion and stated that the Private Securities

Litigation Reform Act of 1995, 15 U.S.C. § 78u-4(a)(6)

(2007), “contemplate[s] a fee . . . that is measured by

the results that have actually been achieved in the case.”

See Sutton v. Bernard (“Sutton II”), 446 F. Supp. 2d 823,

824 (N.D. Ill. 2006).

Counsel appeals, challenging the district court’s approach in determining that the appropriate attorneys’ fee

was 15% of the settlement fund, barely half of Counsel’s

fee request.
No. 06-3778 5

II. ANALYSIS

We review the district court’s methodology de novo “to

determine whether it reflects procedure approved for

calculating awards.” Harman v. Lyphomed, Inc., 945 F.2d

969, 973 (7th Cir. 1991). Our review of the final award

is for an abuse of discretion, which “occurs when the

court reaches an erroneous conclusion of law, fails to

explain a reduction or reaches a conclusion that no evidence in the record supports as rational.” Id.

Once a settlement has been reached in a class action, the

attorneys for the class petition the court for compensation

from the settlement or common fund created for the class’s

benefit. This method of payment is an exception to the

“American Rule,” which requires each party to bear its

own expenses. Florin v. Nationsbank of Ga., N.A., 34 F.3d

560, 562-63 (7th Cir. 1994); Skelton v. Gen. Motors Corp.,

860 F.2d 250, 252 (7th Cir. 1988). Also known as the

common fund doctrine, this payment scheme “is based on

the equitable notion that those who have benefited from

litigation should share in its costs.” Skelton, 860 F.2d at

252 (internal quotations omitted).

In deciding fee levels in common fund cases, we have

consistently directed district courts to “do their best to

award counsel the market price for legal services, in

light of the risk of nonpayment and the normal rate of

compensation in the market at the time.” In re Synthroid

Mktg. Litig., 264 F.3d 712, 718 (7th Cir. 2001) (collecting

cases). In Synthroid, we vacated the district court’s award

after finding that it failed to follow our market-based

approach when it capped counsel’s fee percentage at 10%

on the basis that there was a large recovery involved. Id.

at 717-18. Because the attorneys’ fee had not been determined up front in that case, we instructed the district

court on remand to undertake an analysis of the terms to

which the private plaintiffs and their attorneys would have
6 No. 06-3778

2 We also pointed the district court to the following benchmarks

to aid in its determination on remand of what might have

occurred ex ante: (1) actual fee agreements; (2) data from large

common fund cases where the parties negotiated the fees

privately, and (3) bids and results from class counsel auction

cases for insight into the fee levels attorneys in competition

were willing to accept. Synthroid, 264 F.3d at 719-21.

contracted at the outset of the litigation when the risk of

loss still existed.2 Id. at 718-19; see also In re Cont’l Ill.

Sec. Litig., 962 F.2d 566, 572 (7th Cir. 1992) (the goal in

awarding a reasonable attorneys’ fee is to give the lawyer

what he would have received in an arms-length negotiation).

A similar disposition is required in this case. Like the

court in Synthroid, the district court here employed a

methodology that does not reflect the market-based

approach for determining fee awards that is required by

our precedent. As described earlier, the district court’s

analysis centered solely on the results achieved by Counsel

to justify awarding a fee percentage of 15% of the common

fund. The court attributed its emphasis on this standard

to Hensley v. Eckerhart, 461 U.S. 424, 436 (1983), which

involved the appeal of an award of attorneys’ fees to a

group of plaintiffs who prevailed on five of their six

constitutional challenges to the defendants’ practices. In

deciding the issue of whether a partially prevailing

plaintiff could recover fees for legal services on unsuccessful claims, the Court held “that the extent of a plaintiff’s

success is a crucial factor in determining the proper

amount of an award of attorney’s fees under 42 U.S.C.

§ 1988,” the applicable fee-shifting provision. Id. at 440.

The Court continued, “where the plaintiff achieved only

limited success, the district court should award only that

amount of fees that is reasonable in relation to the

results obtained.” Id. Based on this language, the district
No. 06-3778 7

court decided that Counsel was not entitled to a fee

percentage of 28% because it had achieved what the court

considered to be only a small net recovery for the class. See

Sutton, 446 F. Supp. 2d at 820-21. In reaching this conclusion, however, the district court misapplied the principles

that govern fee shifting cases to the common fund case

before it.

As indicated above, Hensley involved an award of attorneys’ fees under 42 U.S.C. § 1988(b), which provides that

in certain proceedings “the court, in its discretion, may

allow the prevailing party, other than the United States,

a reasonable attorney’s fee as part of the costs . . . .” By

contrast, in this case, the district court was required to

determine a reasonable attorneys’ fee for Counsel to be

paid out of the common fund. In Skelton, we highlighted a

key difference between these two fee recovery schemes,

namely the source of the plaintiffs’ attorneys’ fees. See

860 F.2d at 252. As we observed, in statutory fee-shifting

cases, the prevailing party, usually the plaintiff, recovers

the attorneys’ fee from the defendant, whereas in a

common fund case, the court awards the plaintiffs’ attorneys’ fees from the fund. Id. In Hensley, the Court emphasized the significance of the results obtained to avoid

awarding excessive fees in cases where the plaintiff had

only achieved limited success. See 461 U.S. at 436. In a

common fund case, where the defendant’s liability is

limited to the amount paid into the fund, there is no

danger of unduly burdening that party with payment of

the plaintiffs’ attorneys’ fee for time spent on unsuccessful claims. This is especially so considering that compensating Counsel from the common fund is premised on the

idea that the plaintiffs and their counsel share in the

litigation’s costs. See Skelton, 860 F.2d at 252. We therefore find that the district court erred in holding that the

“degree of success” standard articulated in Hensley applied

to its calculation of a fee percentage in a common fund
8 No. 06-3778

case. Cf. Hensley, 461 U.S. at 433 n.7 (applying standard

to cases where Congress has authorized a fee award to

the prevailing party).

The district court also sought to justify its methodology

by citing to the section of the Private Securities Litigation

Reform Act that governs the award of attorneys’ fees and

expenses in securities class actions. See Sutton II, 446

F. Supp. 2d at 823. Under that provision, “[t]otal attorneys’ fees and expenses awarded by the court to counsel

for the plaintiff class shall not exceed a reasonable percentage of the amount of any damages and prejudgment

interest actually paid to the class.” 15 U.S.C. § 78u-4(a)(6).

According to the district court, this language requires an

ex post determination of the fee percentage that is measured by the results achieved for the class. See generally

Sutton II, 446 F. Supp. 2d 823. We emphasize that we

do not take issue with the timing of the district court’s

fee determination, but rather, with the method used.

Because the court chose to wait until the end of the

litigation, it was required to set the fee by estimating

what the parties would have agreed to had negotiations

occurred at the outset. Synthroid, 264 F.3d at 719. The

trouble we have with the district court’s methodology

is that the fee determination began and ended with the

amount actually recovered for the class; the court did not

consult the market for legal services for guidance in what

constituted, as an abstract matter, a “reasonable percentage.” Cf. Missouri v. Jenkins, 491 U.S. 274, 285 (1989) (in

determining attorneys’ fees, “we have consistently looked

to the marketplace as our guide to what is ‘reasonable’ ”).

By looking to the marketplace, the district court avoids

assigning a value “based on nothing more than a subjective

judgment regarding [Counsel’s] work.” Montgomery, 231

F.3d at 408; see also In re Cont’l, 962 F.2d at 568 (in failing to follow the market, district court judge “thought he
No. 06-3778 9

knew the value of the class lawyers’ legal services better

than the market did”).

We have said that the market price for legal fees

“depends in part on the risk of nonpayment a firm agrees

to bear, in part on the quality of its performance, in part

on the amount of work necessary to resolve the litigation,

and in part on the stakes of the case.” Synthroid, 264 F.3d

at 721. Here, the district court dismissed Counsel’s

contention that it faced a risk of nonpayment for its

services by declaring, “[t]his is a common argument in

support of large fees in class actions, but it has no relationship to reality,” and adding that class actions rarely go

to trial and that they all settle. Sutton, 446 F. Supp. 2d

at 822. In Continental, we rejected this rationale as an

inadequate basis for the district court’s refusal to account

for the risk of loss in its fee award. 962 F.2d at 569-70. We

recognized that there is generally some degree of risk that

attorneys will receive no fee (or at least not the fee that

reflects their efforts) when representing a class because

their fee is linked to the success of the suit. Id. Because the district court failed to provide for the risk of loss,

the possibility exists that Counsel, whose only source of a

fee was a contingent one, was undercompensated. See id.

at 569.

A review of the shortcomings in the district court’s

methodology leads us to conclude that the court abused its

discretion in awarding Counsel’s fee percentage. The

district court erroneously concluded that its fee determination was controlled by the “degree of success” achieved

for the class. In addition, it did not factor into its assessment the value that the market would have placed on

Counsel’s legal services had its fee been arranged at the

outset. Because the district court’s fee award of 15% of

the common fund is based on an erroneous conclusion of

law, it must be vacated.
10 No. 06-3778

III. CONCLUSION

The judgment of the district court is VACATED and the

case is REMANDED for further proceedings consistent with

this opinion. On remand, Circuit Rule 36 shall apply.

A true Copy:

Teste: 

 ________________________________

Clerk of the United States Court of

Appeals for the Seventh Circuit 

USCA-02-C-0072—10-12-07