Opinion ID: 692029
Heading Depth: 2
Heading Rank: 2

Heading: The Full Faith and Credit Question

Text: 1. The Jurisdiction of State Courts to Release Exclusively Federal Claims in a Class Settlement Matsushita first argues that the Epstein action is precluded because the Delaware judgment releasing the federal claims is entitled to full faith and credit. As a general rule, the Full Faith and Credit Act, 28 U.S.C. Sec. 1738, requires federal courts to give the same preclusive effect to state court judgments that those judgments would be given in the courts of the State from which the judgments emerged. Kremer v. Chemical Constr. Corp., 456 U.S. 461, 466, 102 S.Ct. 1883, 1889, 72 L.Ed.2d 262 (1982). This rule does not apply, however, if the state court did not have jurisdiction over the subject matter or the relevant parties. Underwriters Nat'l Assurance Co. v. North Carolina Life and Accidental Health Insurance Gty. Ass'n, 455 U.S. 691, 704-05, 102 S.Ct. 1357, 1365-66, 71 L.Ed.2d 558 (1982). See also Thomas v. Washington Gas Light Co., 448 U.S. 261, 283, 100 S.Ct. 2647, 2661-62, 65 L.Ed.2d 757 (1980); Durfee v. Duke, 375 U.S. 106, 110, 84 S.Ct. 242, 244-45, 11 L.Ed.2d 186 (1963); Grubb v. Public Util. Comm'n, 281 U.S. 470, 475, 50 S.Ct. 374, 376-77, 74 L.Ed. 972 (1930); Thompson v. Whitman, 85 U.S. (18 Wall) 457, 469, 21 L.Ed. 897 (1873). 25 The Epstein plaintiffs argue that the Delaware class settlement is not entitled to full faith and credit to the extent it released federal claims which are beyond the subject matter jurisdiction of state courts. Matsushita responds that courts have uniformly held that a state court class action settlement properly may preclude, by release, continued litigation by members of the class of all claims--state or federal, whether or not within the exclusive jurisdiction of the federal courts--arising out of the same subject matter or transaction. Supplemental Brief of Matsushita at 13. In other words, Matsushita reads existing case law as sanctioning the release of exclusively federal claims in the settlement of state class actions as long as the state and federal claims arise out of the same subject matter or transaction. We believe Matsushita's argument represents an overly expansive reading of the case law. As we read the cases, they support only a limited state court power to release exclusively federal claims in a class action settlement. Of all the cases cited by Matsushita, only two, Grimes v. Vitalink Communications Corp., 17 F.3d 1553 (3d Cir.), cert. denied, --- U.S. ----, 115 S.Ct. 480, 130 L.Ed.2d 393 (1994) and Nottingham Partners v. Trans-Lux Corp., 925 F.2d 29 (1st Cir.1991), implicate the Supremacy Clause because in each, as here, a state court extinguished exclusively federal claims in settling a state class action. 26 In every other case cited by Matsushita, the state court had subject matter jurisdiction to adjudicate all the claims that were released in the class settlement. Class Plaintiffs v. City of Seattle, 955 F.2d 1268, 1287-89 (9th Cir.), cert. denied, --- U.S. ----, 113 S.Ct. 408, 121 L.Ed.2d 333 (1992), for example, did not present the question of the preemptive effect of an exclusive federal jurisdiction statute on the power of a state court to release exclusively federal claims in settling a class action. Rather it involved the settlement of a federal class action based upon alleged violations of the federal securities laws. Our holding in Class Plaintiffs was that the Eleventh Amendment did not bar a federal district court from releasing claims against the State of Washington as part of a class settlement because the State had waived its sovereign immunity by participating in the settlement negotiations and consenting to be bound by the settlement agreement. Id. at 1289. For the same reason, In re Corrugated Container Antitrust Litig., 643 F.2d 195, 196 (5th Cir.1981), did not implicate the Supremacy Clause because the jurisdictional competence of a state court to release exclusively federal claims was not at issue. The holding of the Fifth Circuit was that a federal district court, in approving a class settlement of federal claims, had jurisdictional competence to extinguish state claims that were not pleaded, but which it had pendent jurisdiction to adjudicate. 643 F.2d at 221 n. 39. TBK Partners, Ltd. v. Western Union Corp., 675 F.2d 456 (2d Cir.1982), was also not a Supremacy Clause case because it too involved the approval of a class action settlement by a federal district court. In TBK Partners, the Second Circuit upheld a class settlement that extinguished state claims that were not pleaded and arguably beyond the jurisdiction of the district court to adjudicate. Id. at 460. Although not directly on point because it was not a preemption case--it did not involve the release of exclusively federal claims by a state court--TBK Partners is useful authority because it announced a principled test for limiting the preclusive effect of a judgment based upon a class settlement. Writing for the court, Chief Judge Newman reasoned, we see no reason why the judgment upon settlement cannot bar a claim that would have to be based on the identical factual predicate as that underlying the claims in the settled class action. We have previously assume[d] that a settlement could properly be framed so as to prevent class members from subsequently asserting claims relying on a legal theory different from that relied upon in the class action complaint but depending on the very same set of facts. National Super Spuds, Inc. v. New York Mercantile Exchange, 660 F.2d 9, 18 n. 7 (2d Cir.1981). Id. at 460 (emphasis added). Thus the Second Circuit gave preclusive effect to the settlement judgment's release of unpleaded state claims because the same facts were at the core of both the unpleaded state and the pleaded federal claims. Id. Had the judgment been based upon an adjudication rather than a settlement of the federal claims, the unpleaded state law claims would have been barred by the doctrine of issue preclusion because they turned on the very same set of facts. In applying an issue preclusion test to limit the preclusive effect of a judgment approving a class settlement, TBK Partners followed Judge Friendly's reasoning in National Super Spuds:  '[i]f a judgment after trial cannot extinguish claims not asserted in the class action complaint, a judgment approving a settlement in such an action ordinarily should not be able to do so either.'  Id. at 462 (quoting National Super Spuds, Inc. v. New York Mercantile Exchange, 660 F.2d at 18). Thus, in TBK Partners, the Second Circuit upheld the release of unpleaded claims in a settlement judgment which would have been barred by the issue preclusive effect of a judgment based upon an adjudication of the pleaded claims. As we read TBK Partners, Matsushita's reliance on it as dispositive authority for its argument that we should give preclusive effect to the Delaware settlement judgment merely because the state and federal claims arise out of the same transaction is completely misplaced. First, TBK Partners is not a Supremacy Clause case. Second, TBK Partners announced and applied an issue preclusion test, not an arising out of the same transaction test, in defining the limits on a court's power to release claims in a class settlement. As the Second Circuit summed up in TBK Partners: [w]e therefore conclude that in order to achieve a comprehensive settlement that would prevent relitigation of settled questions at the core of a class action, a court may permit the release of a claim based on the identical factual predicate as that underlying the claims in the settled class action even though the claim was not presented and might not have been presentable in the class action. Id. at 460 (emphasis added). We now turn to the only two cases cited by Matsushita that involved the preclusive effect of a state court judgment approving a class action settlement that included a release of exclusively federal claims. In both cases TBK's issue preclusion test was applied; in neither case was Matsushita's arising out of the same transaction test applied. In Nottingham Partners v. Trans-Lux Corp., 925 F.2d at 29, the First Circuit, citing TBK Partners, applied an issue preclusion test in holding that the release of exclusively federal claims in a state court settlement judgment was entitled to preclusive effect. Tracking the reasoning of both TBK Partners and National Super Spuds, the First Circuit's rationale was that the federal claims depended on the same underlying facts as the state claims--the failure of a corporation to disclose allegedly material facts in a proxy statement. Id. at 30-31, 33. In Grimes v. Vitalink Communications Corp., 17 F.3d at 1553, the Third Circuit followed the First Circuit's lead in Nottingham Partners in applying TBK Partners' issue preclusion test. The district court, citing TBK Partners and Nottingham Partners, had held that this federal securities case is barred by the collateral estoppel effect of the Delaware judgment [releasing those claims as part of a class settlement].... Id. at 1556. The Third Circuit affirmed because the facts that underlie the federal non-disclosure claims were actually litigated during the state court proceeding and were conclusively resolved against the objectors, here the federal plaintiffs. Id. at 1562. Thus, the cases cited by Matsushita fail to support its contention that we should give preclusive effect to the Delaware settlement judgment because the federal claims it released arose out of the same transaction as the state claims. Instead, these cases stand for a more restrictive limitation on the power of state courts to extinguish exclusively federal claims in approving class action settlements: a state court may release exclusively federal claims that would have been extinguished by the issue preclusive effect of an adjudication of the state claims. National Super Spuds and TBK Partners together provide the doctrinal framework for using issue preclusion in determining the limits of judicial authority to release unpleaded claims in settling class actions. But though neither National Super Spuds nor TBK Partners involved the preemptive effect of an exclusive federal jurisdiction statute on the reach of state judicial power in settling class actions, both involved the release of unpleaded state claims by federal district courts which had or may have had pendent jurisdiction to adjudicate the claims. Nonetheless, in both cases the Second Circuit recognized the importance of limiting judicial authority generally to release unpleaded claims in class settlements. Nottingham Partners and Grimes, in contrast, did implicate the Supremacy Clause because, as in the instant case, exclusively federal securities claims were extinguished by a state court judgment approving a class settlement. In both cases, the judgment was given preclusive effect because the state and federal claims arose out of the identical factual predicate. In other words, had the judgment followed an adjudication rather than a settlement, it would necessarily have resolved the federal claims as a matter of issue preclusion. In deciding the preclusive effect of the Delaware judgment at issue in this case, we need not decide whether to follow Nottingham Partners and Grimes in giving preclusive effect to a class action settlement that releases exclusively federal claims that turn on the same underlying facts as the state claims. All we need decide today is whether to break new ground in giving preclusive effect to a state court judgment that extinguishes exclusively federal claims that are factually unrelated to the state claims pleaded in the class action. 27 The question of first impression confronting us is whether Congress, in denying state courts subject matter jurisdiction over 1934 Act claims, intended to leave state courts with the power to extinguish exclusively federal claims by approving a class action settlement that could not have been extinguished by adjudicating the class action. We can imagine no reason for imputing such an intent to Congress. We recognize that Congress could reasonably have been concerned about accommodating the interests of state courts in achiev[ing] a comprehensive settlement that would prevent relitigation of settled questions at the core of a class action, TBK Partners, 675 F.2d at 462, but that concern would not be served by authorizing state courts to settle questions not at the core of a class action. The very cases Matsushita relies upon counsel against an expansive state court power to release exclusively federal claims. In applying an issue preclusion test rather than a same transaction test, the cases embrace Judge Friendly's common sense reasoning that a court's jurisdiction to extinguish claims by class settlement should not exceed its jurisdiction to extinguish claims by adjudication. Ignoring this reasoning, Matsushita asks us to impose a same transaction test without offering logic or precedent in support of such a test. 28 As we shall now show, the federal claims extinguished by the Delaware judgment could not have been extinguished by the issue preclusive effect of an adjudication of the state claims because, although the federal and state claims arose out of the same transaction, they are based upon different underlying facts. 2. The Disparity Between the State and Federal Claims Matsushita makes no attempt to argue that any of the Williams Act claims of the Epstein plaintiffs share any predicate facts in common with the state law claims that formed the basis of the Delaware class action. Instead, Matsushita rests its preclusion argument solely on the fact that the claims arose out of the same transaction--Matsushita's acquisition of MCA. The gravamen of the federal class action is that Matsushita violated SEC Rules 14d-10 and 10b-13 by offering greater value for the stock of Wasserman and Sheinberg than it offered for the stock of other shareholders. 29 Thus the legal theory underlying the federal claims is that Matsushita breached a duty to shareholders that is imposed on tender offerors by federal securities laws. The relevant factual inquiry is whether Wasserman and Sheinberg received greater consideration than other MCA shareholders during the tender offer, section 14d-10(a)(2), or a type of consideration not offered to other MCA shareholders. Sec. 14d-10(c)(1). The gravamen of the state class action is that MCA directors breached their fiduciary duty of care to MCA as imposed by Delaware law. First, the Delaware plaintiffs claimed that MCA's directors breached their fiduciary duty by failing to take steps to maximize shareholder value upon a change of corporate control as required by Revlon, Inc. v. MacAndrews & Forbes Holdings, 506 A.2d at 182. Plainly, this Revlon claim turns on different fact issues than the federal securities claims do. The question whether the MCA directors took the steps required by Revlon to assure maximum shareholder value is completely distinct from the question whether Matsushita violated the Williams Act by extending preferential treatment to some of the shareholders in making the tender offer. The second state claim was that MCA's directors breached their duty of candor by failing to disclose to the shareholders information concerning the merger such as the compensation packages MCA officers received under the terms of the merger agreement. But whether or not the MCA directors breached their fiduciary duty by failing to make disclosures has no bearing on whether directors received preferential treatment from Matsushita in violation of the Williams Act. 30 The third state claim was that the defendants breached their fiduciary duty of loyalty by making preferential arrangements for themselves as part of the tender offer, and that Matsushita aided and abetted the MCA defendants in this breach. At first glance, this claim appears to be at least in the same ball park as the Rule 14d-10 claim. However, although this state claim is no doubt artfully drafted to resemble the 14d-10 claim, there is in fact no Delaware statutory or common law rule that prohibits a shareholder from obtaining the best deal for himself as part of a change of corporate control. 31 Thus, adjudication of the claim would not have raised a question of fact whether Wasserman or Sheinberg received preferential treatment from Matsushita. In sum, the state and federal claims are completely disparate. The only thing they share in common is that they arise out of the same transaction, which is the sole nexus Matsushita relies upon in arguing that the Delaware judgment's release of the federal claims is entitled to full faith and credit. Since the Delaware class action settlement judgment in this case attempted to extinguish exclusively federal claims which it could not have extinguished through adjudication, we hold that the decree exceeds the jurisdiction of the state court and, therefore, is not entitled to full faith and credit.