Legal Newsline

Sunday, August 18, 2019

Second Circuit declines Visa, MasterCard antitrust settlement

By Jessica Karmasek | Jul 11, 2016

NEW YORK (Legal Newsline) - The U.S. Court of Appeals for the Second Circuit recently declined to approve an antitrust settlement between millions of merchants and leading credit card issuers Visa and MasterCard, calling it “unreasonable” and “inadequate.”

Circuit Judges Ralph K. Winter, Dennis Jacobs and Pierre N. Leval concluded in their June 30 opinion that the class plaintiffs -- including Amazon.com, Wal-Mart and Costco, among others -- were “inadequately represented.” The federal appeals court vacated a 2013 decision by Judge John Gleeson. Gleeson recently resigned from the U.S. District Court for the Eastern District of New York in March.

“After nearly 10 years of litigation, the parties agreed to a settlement that released all claims in exchange for disparate relief to each of two classes: up to $7.25 billion would go to an opt-out class, and a non-opt-out class would get injunctive relief,” Jacobs explained in the panel’s opinion. “The district court certified these two settlement-only classes, and approved the settlement as fair and reasonable.”

At issue in the class action lawsuit are the fees that merchants -- and ultimately consumers -- pay on all credit and debit card transactions.

In general terms, a Visa or MasterCard credit card transaction is processed as follows: the customer presents a credit card to pay for goods or services to the merchant; the merchant relays the transaction information to the acquiring bank; the acquiring bank processes the information and relays it to the network (here, Visa or MasterCard); the network relays the information to the issuing bank; if the issuing bank approves the transaction, that approval is relayed to the acquiring bank, which then relays it to the merchant.

If the transaction is approved, the merchant receives the purchase price minus two fees: the “interchange fee” that the issuing bank charged the acquiring bank and the “merchant discount fee” that the acquiring bank charged the merchant.

In a given transaction, the interchange fee that the acquiring bank pays -- and is, in turn, paid by the merchant -- varies depending on the credit card network and the type of credit card. Thus, the American Express credit-card network generally charges a higher interchange fee than the Visa or MasterCard networks.

Additionally, Visa and MasterCard have different product levels within their credit card portfolios, such as cards that give consumers generous rewards and typically charge a higher interchange fee than cards that offer few rewards or none.

The plaintiffs -- all merchants who accept Visa- and MasterCard-branded credit cards -- challenge as anti-competitive various network rules, including:

- The “default interchange” fee, which applies to every transaction on the network (unless the merchant and issuing bank have entered into a separate agreement); and

- The “honor-all-cards” rule, which requires merchants to accept all Visa or MasterCard credit cards if they accept any of them, regardless of the differences in interchange fees.

In addition, they take issue with multiple rules that prohibit merchants from influencing customers to use one type of payment over another, such as cash rather than credit, or a credit card with a lower interchange fee. These “anti-steering” rules include the “no-surcharge” and “no-discount” rules, which prohibit merchants from charging different prices at the point of sale depending on the means of payment.

The plaintiffs allege these Visa and MasterCard network rules allow the issuing banks to impose an artificially inflated interchange fee that merchants have little choice but to accept.

Their argument is that the honor-all-cards rule forces merchants to accept all Visa and MasterCard credit cards (few merchants can afford to accept none of them); the anti-steering rules prohibit them from nudging consumers toward cheaper forms of payment; the issuing banks are thus free to set interchange fees at a supra-competitive rate; and that rate is effectively locked in via the default interchange fee because the issuing banks have little incentive to deviate from it unless a given merchant is huge enough to have substantial bargaining power.

“Merchants in the (b)(2) class that accept American Express or operate in states that prohibit surcharging gain no appreciable benefit from the settlement, and merchants that begin business after July 20, 2021 gain no benefit at all,” Jacobs wrote for the panel. “In exchange, class counsel forced these merchants to release virtually any claims they would ever have against the defendants.

“Those class members that effectively cannot surcharge and those that begin operation after July 20, 2021 were thus denied due process.”

Jacobs continued, “This is not a matter of certain merchants (e.g., those based in New York and those that accept American Express) arguing that class counsel did not bargain for their preferred form of relief, did not press certain claims more forcefully, or did not seek certain changes to the network rule books more zealously. This is a matter of class counsel trading the claims of many merchants for relief they cannot use: they actually received nothing.”

The Second Circuit, in its 41-page opinion, said this “bargain” is particularly unreasonable for merchants that begin accepting Visa or MasterCard after July 20, 2021 -- the day that all of the injunctive relief will terminate under the proposed settlement agreement.

“They will be deemed to have released all of their claims pertaining to a whole book of rules, including (perhaps most importantly) the honor-all-cards and default interchange rules, and in return have the chance that the defendants will permit surcharging,” Jacobs explained. “In substance and effect, merchants operating after July 20, 2021 give up claims of potential value and receive nothing that they would not otherwise have gotten.

“Since there was no independent representation vigorously asserting these merchants’ interests, we have no way to ascertain the value of the claims forgone.”

The Retail Industry Leaders Association welcomed the Second Circuit’s decision to throw out the “harmful” settlement.

“Quite simply, the settlement orchestrated by the card networks and banks would have undermined merchants’ legal rights forever and would have allowed Visa and MasterCard to impose higher and higher swipe fees with impunity,” said Deborah White, executive vice president and general counsel for RILA.

As a member of the class, RILA formally opted out and objected to the settlement in 2014. As the trade association of the world’s largest and most innovative retail companies, RILA said it was especially concerned the terms of the settlement could limit emerging innovations that can bring meaningful competition to the marketplace, such as mobile payments.

White said the decision to throw out the “grossly flawed” settlement is a victory for all merchants and consumers.

Leval, in a separate concurrence, described the settlement as anything but: “It is a confiscation,” he said.

“What is particularly troublesome is that the broad release of the Defendants binds not only members of the Plaintiff class who receive compensation as part of the deal, but also binds in perpetuity, without opportunity to reject the settlement, all merchants who in the future will accept Visa and MasterCard, including those not yet in existence, who will never receive any part of the money,” the judge wrote.

He continued, “One class of Plaintiffs receives money as compensation for the Defendants’ arguable past violations, and in return gives up the future rights of others. The Supreme Court has addressed such circumstances and ruled that an adjudication coming to this result is impermissible.”

According to the appeals court, class counsel stood to gain “enormously” if they got the deal done.

“The (up to) $7.25 billion in relief for the (b)(3) class was the ‘largest-ever cash settlement in an antitrust class action,’” Jacobs noted. “For their services, the district court granted class counsel $544.8 million in fees.”

The district court calculated these fees based on a graduated percentage cut of the (b)(3) class’ recovery; thus counsel got more money for each additional dollar they secured for the (b)(3) class.

Both Visa and MasterCard have said they are reviewing the decision to determine their next steps.

From Legal Newsline: Reach Jessica Karmasek by email at jessica@legalnewsline.com.

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