## Facts

- Matsushita Acquisition Corporation (Matsushita) acquired MCA, Inc. through a 1990 tender offer and buyout.
- Lawrence Epstein and other former MCA shareholders filed a putative class action in federal court in California, alleging that the buyout violated federal securities law and SEC rules governing tender offers, including claims tied to alleged preferential treatment for certain MCA executives.
- While the California federal case was pending, related shareholder litigation proceeded in the Delaware Court of Chancery on behalf of the same shareholder class, asserting state-law fiduciary-duty theories arising out of the transaction.
- In Delaware, the parties attempted to resolve the dispute through a class settlement that would also release the class’s federal securities-law claims, even though those federal claims could not be litigated on the merits in Delaware state court.
- Delaware class counsel initially proposed a settlement that would release the federal securities claims for no additional consideration to the class, while seeking a large attorneys’ fee award; the Delaware court rejected that proposal.
- The parties later returned with a revised Delaware settlement that released the federal securities claims in exchange for a small added payment to shareholders—reported as two cents per share—and the Delaware court approved the settlement and entered judgment.
- After the Delaware judgment, Matsushita sought to end the California federal case, arguing that the Delaware class settlement and judgment released (and therefore barred) the federal securities claims.
- The case reached the U.S. Supreme Court in *Matsushita Electric Industrial Co. v. Epstein*, which held that 28 U.S.C. § 1738 generally requires federal courts to give full faith and credit to a state-court class judgment that releases federal securities claims, even when federal courts have exclusive jurisdiction over those claims, and remanded.
- On remand to the Ninth Circuit, Epstein argued that the Delaware judgment still could not bind absent class members because the Delaware proceeding denied due process through inadequate representation of the federal securities claims; Matsushita argued that any objections had to be raised in Delaware and could not be re-litigated in federal court.

## Issues

1. After *Matsushita* and § 1738, may federal plaintiffs avoid the preclusive effect of a state-court class settlement releasing exclusive federal securities claims by collaterally attacking the state judgment on due process grounds (inadequate representation and related defects)?
2. If such a collateral attack is permitted, did the Delaware settlement process provide constitutionally adequate representation for the class with respect to the released federal securities claims?

## Decision

- The Ninth Circuit held that full faith and credit does not require a federal court to treat a state-court class judgment as binding on absent class members if the state proceeding lacked the minimum due process protections required for class adjudication.
- The court allowed the federal plaintiffs to raise a collateral due process challenge to the Delaware judgment, rather than limiting them to objections and review within the Delaware case alone.
- Applying due process standards for binding absent class members, the court concluded the Delaware representation of the federal securities claims was constitutionally deficient given how those claims were handled in the settlement process.
- The Ninth Circuit reversed the district court’s ruling that treated the Delaware judgment as barring the federal case and remanded for further proceedings.

## Legal Principles

- A state-court judgment in a class action can bind absent class members only if due process is satisfied, including adequate representation of the class and procedures that fairly protect absent members’ interests.
- 28 U.S.C. § 1738 (full faith and credit) generally requires federal courts to respect state-court judgments, but it does not compel enforcement of a judgment against absent parties where due process was not met.
- A class settlement may release claims, including federal claims, but the release is not effective against absent members if class counsel and the settlement process did not fairly represent and protect the interests tied to those released claims.
- Where the asserted defect is constitutional (such as inadequate class representation), absent class members may be permitted to mount a collateral attack on the binding effect of the judgment in a later forum.

## Conclusion

In *Epstein II* (1997), the Ninth Circuit, on remand after the Supreme Court’s *Matsushita* decision, held that the Delaware class settlement releasing MCA shareholders’ federal securities claims was not entitled to binding effect against absent class members because the settlement proceedings failed due process—most importantly, by providing inadequate representation of the federal claims—so the federal action could proceed on remand.


Epstein v. MCA, Inc. (Epstein II), 126 F.3d 1235 (1997)