Texas Lawyer Liability
for Negligent Misrepresentation to Nonclients (2002)
© A. Hawkins 2002
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List of Cases Covered in
this Course
Texas Supreme Court
Federal Land Bank Association of Tyler v. Sloane
et. al.
825 S.W.2d 439 (Tex. 1991)
McCamish, Martin, Brown & Loeffler,
Petitioner v. F. E. Appling Interests, individually and on behalf of Boca Chica
Development Co., Respondent
991 S.W.2d 787 (Tex. 1999)
Courts of Appeals
Arlitt v. Paterson
995 S.W.2d 713
(Tex. App. - San Antonio 1999)
Federal Land Bank Association of Tyler v. Sloane
et. al.
793 S.W.2d 692 (Tex. App. -Tyler 1990)
Mitchell v. Chapman
10 S.W. 3d 810 ( Tex. App. - Dallas 2000)
Safeway Managing Gen. Agency, Inc.., for State
and County Mutual Fire Insurance Company v.
Clark & Gamble, Kenneth L. Clarke, Sr., P.C., Kenneth L. Clark,
William J. Gamble, and John R. Wondra
985
S.W.2d 166 (Tex. App.-San Antonio 1998, no pet.)
Hight v. Dublin Veterinary Clinic
22 S.W.3d 614 (Tex.App.-Eastland 2000)
Chapman v. Porter and Hedges
32
S.W.3d 429 (Tex.App. - Houston [14th dist] 2000)
Lesikar v Rappeport
33 S.W.3d 382 (Tex.App.
Texarkana 2000)
Table of Contents
Case #1 1990: Sloane:[1] The Chicken Feed Case
Prologue to Sloane
Which comes first, the
chickens or the chicken coop?
Which comes first, the
chicken coop, or the loan?
What about the loan?
Why was the suit filed?
Benefit
Intent
The loving couple
The Texas Supreme Court
adopts the tort of Negligent Misrepresentation
The Elements of Negligent Misrepresentation
Damages for Negligent
Misrepresentation
The Sloane facts . . . the damages were not just chicken feed.
The remedy is for the
damages caused by the misrepresentation itself
Mr. Sloane flew the coop
The Texas Supreme Court
limited the remedy to pecuniary loss
The Texas Supreme Court
notes the “lower degree of fault”
Case #2 1999 McCamish: Lawyers are not exempt from
liability for
The Chicken Feed Tort of Negligent Misrepresentation.
The Texas Supreme
Court’s Synopsis of the McCamish case.
The Supreme Court’s
short statement of the McCamish
facts.
The court’s long
statement of the McCamish Facts
An aside and preview:
Transaction or Litigation?
The Supreme Court’s
statement of the McCamish Issue.
The Texas Supreme
Court’s holding in McCamish.
The Texas Supreme Court
Limits Liability for Negligent Misrepresentation
Limitations on the tort
of Negligent Misrepresentation
How to Avoid Liability
The Supreme Court tells
Lawyers how they may Avoid or Minimize Liability
The Solution
Could a Disclaimer
Increase Liability?
Tortious Silence
Case #3 Safeway: 1998: trial lawyers are not
exempt from
The Chicken Feed Tort of Negligent Misrepresentation
Case #4 Mitchell
2000: After McCamish held that
lawyers are not exempt from liability to the adverse party in a litigation context,
the Dallas Court of Appeals exempted a lawyer from liability to the adverse
party in litigation, citing McCamish.
Case #5 Chapman Trusts 2000: After McCamish
held that lawyers are not exempt from liability to the adverse party in a
litigation context, the Houston’s 14th Court of Appeals exempted a lawyer from
liability to the adverse party, citing McCamish.
Case #6 Lesikar[2] 2000: After McCamish held that lawyers are not
exempt from liability to the adverse party in a litigation context, the Texarkana
Court of Appeals exempted a lawyer from liability to the adverse party, citing McCamish.
Case #7 Arlitt 1999: Estate lawyers are not
exempt from
The Chicken Feed Tort of Negligent Misrepresentation
The court of appeals
described Arlitt’s convoluted facts.
The court of appeals
describes the malpractice claim.
The court of appeals
allowed the Negligent Misrepresentation claim.
The court of appeals
permitted suit for Attorney’s Fees and Costs as Damages.
The Court of Appeals
conclusion in Arlitt.
Case #8 Hight[3] 2000: The Chicken Feed Tort of Negligent
Misrepresentation might apply to dehorning horny goats - but it might not.
Workshop - How to be
Sued for Negligent Misrepresentation
Situation #1 What a kick! - Locke and Erxleben
Judge Throws Erxleben In
Jail
Locke Liddell Settlement
Serves as Warning to Other Firms[4]
Situation #2 Deep in the Heart of Texas.
Situation #3 Enron - When the mighty fall, many are hurt.
Millions, Billions,
Trillions
Thank You
Goats
The Course Text
Texas Lawyer Liability for Negligent Misrepresentation to
Nonclients (2002)
Texas
lawyers are being sued for negligently misrepresenting facts to
nonclients. A Lawyer can be liable even
though the lawyer does not benefit from the misrepresentation. A Lawyer can be liable for silence that
misleads. Lawyers can be liable to a
nonclient for misleading the nonclient on behalf of a client.
The
stakes are not chicken feed.
For
example, Locke Liddell & Sapp has paid tens of millions to settle claims by
nonclients who invested with Locke
Liddell & Sapp clients. A primary
allegation seems to be that (1) lawyers did not reveal to nonclients information the the lawyers learned about
their client and (2) lawyers approved communications by the client which misrepresented
facts to the nonclients. After
reviewing the law, we will return to the Locke Liddell & Sapp story to see
how Locke Liddell & Sapp became liable to nonclients for the wrongs of
their clients.
After
picking the Locke cases apart, we
will ponder the public reports about Enron, including the role of Vinson &
Elkins. Instead of the tens of millions paid by Locke, will a claim be brought for tens of billions?
As
we examine the cases, we will particularly note two issues. First, does the
tort apply to lawyers in litigation or does it only apply outside of a
litigation context? Second, can a
lawyer avoid liability by misrepresenting while disclaiming liability?
Before
examining cases of lawyer misrepresentation, we turn to Sloane, the leading Texas case on negligent misrepresentation.
*
* * * *
Case #1: Sloane:[5] The Chicken Feed Case
In
Sloane, chicken feed is central to the misrepresentation. In honor of the Sloane case, this course refers to the tort of negligent misrepresentation as “The Chicken Feed Tort of Negligent
Misrepresentation.” [6] [7] [8]
Prologue to Sloane
Sloane began with a
heartwarming entrepreneurial undertaking by the Sloanes. The Sloanes’ dream was chicken feed. The
Sloanes applied for a loan to build a chicken coop[9] and arranged to feed chickens for Pilgrim’s
Pride.
A
banker negligently misrepresented that the loan had been approved. It wasn’t.
The Sloanes relied on the banker’s representation. Dirt work was performed for the
new coop. The loan was denied, the chicken coop could not be finished or paid
for, and the chickens never came home to roost.
The
Sloanes appeared to have lost everything, but, through the wonders of the chicken feed tort of negligent
misrepresentation, money was awarded to the Sloanes to replace lost love
and lost money. The Texas Supreme Court held that the chicken feed tort of negligent misrepresentation exists and
that the cost of “dirt work” for the chicken coop justified a monetary remedy,
but the Texas Supreme Court also held that the
chicken feed tort of negligent misrepresentation provides no remedy for
losses to emotions or personal relationships.
Which comes first, the
chickens or the chicken coop?
What
a foolish question! The coop of course. Pilgrim’s Pride chickens must have a
place to call home, or the chickens cannot come home to roost.
Which comes first, the
chicken coop, or the loan?
What
a good question! The loan of course. Without the loan, there can be no coop,
and the chickens cannot come home to roost.
What about the loan?
The
loan application was denied, and rightfully so. There was no complaint about
that. There was no suit over denial of the loan. Denial of the loan was fine.
Why was the suit filed?
Even
though the loan was denied, the bank officer represented to the Sloanes that
(1) the loan had been approved and (2) the work could begin. The Sloanes relied
on the representation. It was false. It was a misrepresentation. The bank
officer was negligent. The Sloanes began the work. The earth moved. Expenses were incurred and money spent
because of the Sloane’s reliance on the misrepresentation that the loan was
approved. The misrepresentation caused a headache, heartache, misplaced dirt,
and other damages.
Benefit
No
one benefited. The misrepresentation did not benefit the banker or the bank.
Intent
The
Sloane’s cause of action was for the tort of negligent misrepresentation, not intentional misrepresentation.
Intention to misrepresent is not required. Intention to represent,
actual representation, and actual error in the facts represented, which makes
it a misrepresentation of facts, are
required.
The loving couple
The
Sloanes were married for 31 years prior to the misrepresentation. After the
chicken feed loan fiasco, Mr. Sloane moved out. There was damage to the heart,
the head, and the pocketbook.
The Texas Supreme Court
adopts the tort of Negligent Misrepresentation
“The Sloanes claim that the bank has a duty to use
reasonable care whenever it provides information to its customers or potential
customers, and that the bank breached this duty when it allegedly encouraged
the Sloanes to incur expenses in reliance on the information related to their
loan application. The Sloanes further allege that the bank misrepresented an
existing fact rather than a promise of future conduct. Both the bank and the
Sloanes rely on RESTATEMENT (SECOND) OF TORTS Sec. 552 (1977) to define the scope of this duty. We
agree with the Restatement’s definition. . .
.#[10] ”
The Elements of Negligent Misrepresentation
“The elements of a cause of action for the breach of this
duty are:
(1) the representation is made by a defendant in the course of his business, or in a transaction in which he has a pecuniary interest;
(2) the defendant supplies ‘false information’ for the
guidance of others in their business;
(3) the defendant did not exercise reasonable care or
competence in obtaining or communicating the information; and
(4) the plaintiff suffers pecuniary loss by justifiably
relying on the representation.”
Damages for Negligent
Misrepresentation
“The Restatement provides damages for this tort as follows:
‘(1) The damages recoverable for a negligent
misrepresentation are those necessary to compensate the plaintiff for the
pecuniary loss to him of which the misrepresentation is legal cause, including
‘(a) the difference between the value of what he
has received in the transaction and its purchase price or other value given for
it; and
‘(b) pecuniary loss suffered otherwise as a
consequence of the plaintiff’s reliance upon the misrepresentation.
‘(2) the damages recoverable for a negligent
misrepresentation do not include the benefit of the plaintiff’s contract with
the defendant.’ ”
The Sloane facts . . . the damages were not just chicken feed.
The
Sloanes would have fed Pilgrim’s Pride chickens with Pilgrim’s Pride feed under
a weight watcher’s contract in which the Sloanes would be paid for the weight
gained by the chickens.
“In early 1986, William, Lettie, and Robert Sloane had been
out of the business of raising chickens for two years when they learned they
could get a contract from Pilgrim’s Pride to raise broilers for the company on
the condition that they build new chicken houses on their farm.[11] On March 7, 1986, the Sloanes applied for a
$141,000 loan from the Federal Land Bank Association of Tyler. During the
application process, the Sloanes obtained an estimate of $105,000 for the costs
of necessary equipment and the construction of two chicken houses. They also
obtained a letter from Pilgrim’s Pride stating that the company agreed to ‘feed
out broilers’ for the Sloanes once the houses were constructed according to specifications
provided by Pilgrim’s Pride. The Sloanes subsequently sent the construction
estimate and the letter from Pilgrim’s Pride to their loan officer at the bank.
“Approximately a month after the Sloanes had applied for the
loan, the loan officer informed them that the bank’s board had approved the
loan, and that the Sloanes could go ahead with site preparation work. The
contractor hired by the Sloanes to build the new chicken houses contacted the
bank’s loan officer to see if he should begin construction, notwithstanding the
pending nature of the loan. The loan officer said that there was ‘no problem,’
and that ‘there was not any reason for them not to continue at that point.’ . .
.
“In June 1986, the Sloanes had one of their old chicken
houses demolished, and they paid approximately $9,000 for further site
preparation. As the work progressed they supplied the bank with receipts. In
August, 1986, the Sloanes received a letter from the bank denying their loan
application, giving as reasons the fact that they failed to include two
outstanding debts on their application, and that they incurred additional
liability for a car purchase while the loan was being processed.[12] The Sloanes subsequently failed to obtain
other financing. They then sued the bank alleging that the loan officer had
negligently misrepresented that the bank would approve their loan application.
Their claims included the financial and property damages suffered in preparing
to build the chicken houses, the loss of the Pilgrim’s Pride contract, and the
mental anguish caused by the bank’s allegedly negligent conduct. #[13]”
The remedy is for the
damages caused by the misrepresentation itself
There
was no loan. There was no suit for the failure to make the loan or for the
benefit that the Sloanes would have gained if the loan had been made. The only
damages for negligent misrepresentations are those damages caused by the
misrepresentation itself.
“The Sloanes would not have received the contract regardless
of whether the misrepresentation was made. Under the legal theory of this
section of the Restatement, they should not, therefore, receive the benefit of
a bargain that would never have taken place. The sole reason the Sloanes did
not get the Pilgrim’s Pride contract is because the bank did not give them the
loan money to build acceptable chicken houses. The Sloanes’ claim to these
damages is impermissibly predicated on giving them the benefit of the loan.”
Mr. Sloane flew the coop
The
misrepresentation and its consequences split the Sloane’s marital union. The court of appeals tells the sad story.
“Mrs. Sloane testified that since the denial of the loan,
her husband of 31 years had moved out of their house because he was so angry
with her as a result of this transaction. She further testified that since the
denial of the loan, she had suffered from and been treated for migraine
headaches due to nerves. Additionally, Robert Sloane testified that his nerves
were ‘on the edge all the time,’ that since the denial of the loan, he was
required to work two jobs to make ends meet and that he spent a great deal of
time worrying. . . . We find that there
was sufficient evidence to support the jury’s award of $15,000 for past mental
anguish.”
The Texas Supreme Court
limited the remedy to pecuniary loss
“The Restatement advances several policy reasons for
limiting damages, including a lower degree of fault indicated by a less
culpable mental state and the need to keep liability proportional to risk.
RESTATEMENT (SECOND) OF TORTS Sec. 552, comment a. There has been no trend to
reject the pecuniary loss rule in what is essentially a commercial tort.[14] We decline to extend damages beyond those
limits provided in Restatement section 552B.#[15] . . . We reverse the judgment of the court
of appeals insofar as it includes an award for mental anguish.”
The Texas Supreme Court
notes the “lower degree of fault”
An
aspect of the above statement by the Texas Supreme Court warrants comment. The
court noted the “lower degree of fault
indicated by a less culpable mental state.”
This reminds us that the the chicken feed tort of negligent
misrepresentation does not require a high degree of fault, or a highly culpable
mental state. In other words, the defendant
can be liable even though the defendant’s acts were merely the product of
negligence. Good intentions are not a defense. The standard for liability is
low.
* * * * *
Sloane teaches about the
chicken feed tort of negligent misrepresentation in general. In 1999, the Texas
Supreme Court applied the tort to misrepresentations by lawyers to nonclients.
Case #2: 1999: McCamish: Lawyers are not exempt from
liability for
The Chicken Feed Tort of Negligent Misrepresentation.
In
McCamish, Texas Supreme Court
unanimously refused to exempt lawyers from liability for The Chicken Feed Tort of Negligent Misrepresentation. It is important to note that the court
did not single out lawyers for liability. It only refused to exempt lawyers.
Liability for The Chicken Feed Tort of
Negligent Misrepresentation is normal, not exceptional. Exempting lawyers
would have created an exception.
“This Court has already adopted the tort of negligent
misrepresentation as described by the Restatement (Second) of Torts § 552.#[16] In Sloane, the Court endorsed section
552 to define the scope of a lender’s
duty to avoid negligent misrepresentations to prospective borrowers. Section
552(1) provides:
‘One who, in the course of his business, profession or
employment, or in any transaction in which he has a pecuniary interest,
supplies false information for the guidance of others in their business
transactions, is subject to liability for pecuniary loss caused to them by
their justifiable reliance upon the information, if he fails to exercise
reasonable care or competence in obtaining or communicating the information.’ ”
“ [A] negligent misrepresentation claim is not equivalent to
a legal malpractice claim. . . . Under
the tort of negligent misrepresentation, liability is not based on the breach
of duty a professional owes his or her clients or others in privity, but on an
independent duty to the non client based on the professional’s manifest
awareness of the nonclient’s reliance on the misrepresentation and the
professional’s intention[17] that the non client
so rely.#[18] Therefore, an attorney can be subject to a
negligent misrepresentation claim in a case in which she is not subject to a
legal malpractice claim.#[19]
“The theory of negligent misrepresentation
permits plaintiffs who are not parties to a contract for professional services
to recover from the contracting professionals.#[20] Likewise, section 552 imposes a duty to avoid negligent
misrepresentation, irrespective of privity.#[21]”
“Neither section 552 nor Sloane limits the class
of potential defendants under section 552 to nonlawyers. In addition, the
theory of negligent misrepresentation and section 552 itself do not require
privity or implicate the policy concerns behind the privity rule. Finally, the
Restatement (Third) of the Law Governing Lawyers § 73(2), which specifically
addresses situations in which an attorney invites reliance by a non client, not
only recognizes the tort of negligent misrepresentation, as defined by section
552, but also incorporates the
limitations of section 552 into its
duty analysis. We, therefore, conclude
that there is no reason to exempt lawyers from the operation of section
552 or to impose a privity requirement
on a negligent misrepresentation cause of action under section 552.”
The Texas Supreme
Court’s Synopsis of the McCamish case.
“In this case, we determine whether McCamish, Martin, Brown
& Loeffler, a law firm representing (VSA), may be liable to... nonclients
[Appling], for the tort of negligent misrepresentation, as defined by the
Restatement (Second) of Torts § 552
(1977). At trial, McCamish, Martin moved for summary judgment on
Appling’s negligent misrepresentation claim on the sole ground that, absent
privity, McCamish, Martin owed no duty to Appling. The trial court rendered a
take-nothing summary judgment in favor of McCamish, Martin based on the lack of
privity between the parties. The court of appeals reversed and remanded for a
trial on the merits,[22]holding that a negligent
misrepresentation claim is not the equivalent of a legal malpractice claim and
is not barred by the privity rule. We affirm the judgment of the court of
appeals.”
The Supreme Court’s
short statement of the McCamish
facts.
“Appling
... filed this suit... against McCamish, Martin, alleging that McCamish, Martin
negligently misrepresented that the VSA Board had approved the settlement agreement.”
The court’s long
statement of the McCamish Facts
“Appling, a general partnership comprising four family
trusts, was the managing partner of Boca Chica, a joint venture formed to
develop recreational property. According to Appling’s affidavit, Boca Chica
obtained a loan and line of credit from VSA in 1985 to finance a real estate
project. Boca Chica accepted the loan based on VSA’s oral representation that
VSA would later expand the line of credit, provided that Boca Chica’s lot sales
justified completing the development. However, in 1987, VSA decided not to
extend the additional credit, despite the continued viability of the project.
In 1988, Boca Chica went bankrupt and brought a lender liability claim against
VSA for $15 million in damages.
“With trial set for March 13, 1989, Boca Chica feared that
the Federal Savings & Loan Insurance Corporation would declare VSA
insolvent and take it over before a judgment could be obtained. If VSA were
placed in receivership, Boca Chica’s claim, based on the breach of an oral
promise, would be unenforceable against VSA. Boca Chica was, therefore, anxious
to settle. Boca Chica and VSA entered into settlement negotiations in early
March 1989. They reached an agreement, which called for Boca Chica to deed the
development to VSA in exchange for forgiveness of the outstanding debt that
Boca Chica owed to VSA. Once the parties agreed on these terms, Appling wanted
to ensure that the settlement agreement would be enforceable against the FSLIC.
“Under 12 U.S.C. § 1823(e)(1), no agreement is enforceable
against the FSLIC unless the agreement:
“(A) is in writing, (B) was executed by the depository
institution and any person claiming an adverse interest thereunder, including
the obligor, contemporaneously with the acquisition of the asset by the
depository institution, (C) was approved by the board of directors of the
depository institution or its loan committee, which approval shall be reflected
in the minutes of said board or committee, and (D) has been, continuously, from
the time of its execution, an official record of the depository institution.
“Appling distrusted VSA’s representations that the agreement
met the requirements of section 1823(e). Consequently, Appling agreed to sign
the agreement only if VSA’s lawyers would affirm that the agreement did, in
fact, comply with the statute. The parties and their attorneys signed a
settlement agreement, dated March 8 and 9, 1989, in which the requested
representations were made:
“[B]oth Victoria and its counsel represent to Plaintiffs
that (a) this agreement is in writing; (b) it is being executed by both
Victoria and Plaintiffs contemporaneously with the acquisition of these assets
by Victoria; (c) that the Agreement has been approved by the Board of Directors
of Victoria Savings Association and that such approval is reflected in the
minutes of said board (a copy of which shall be attached to this Agreement);
and (d) that a copy of this Agreement shall be from the time of its execution
continuously maintained as an official record of Victoria; all in accordance
with 12 USC § 1823(e).
“The settlement agreement also included a ‘full, mutual
general release’ by both parties as to ‘all claims and causes of action, known
and unknown, asserted or which might have been asserted, in this litigation.’
The agreement did not contain any disclaimer of reliance on representations
made by the other party.
“McCamish, Martin represented VSA in the underlying lawsuit.
Ralph Lopez, an attorney with McCamish, Martin, signed the settlement
agreement. In his deposition, Lopez stated that he was VSA’s attorney of record
for the lawsuit and that he signed the settlement agreement in the course and
scope of his employment with VSA.
“On February 16, 1989, the VSA Board of Directors, including
Tom Martin, a McCamish, Martin shareholder who principally represented VSA,
adopted a resolution consenting to the Texas Savings and Loan Commissioner
putting VSA under ‘voluntary supervision.’ This resolution gave Jerry Payne,
representative of the Texas Savings and Loan Department, the power to settle
lawsuits against VSA. On March 3, 1989, the VSA Board, including Martin, and
James Pledger, the Savings and Loan Commissioner, signed an agreed order
placing VSA under the Commissioner’s voluntary supervisory control. The order
provided, in part, that ‘no action taken at any Board meeting will be valid or
binding on [VSA] unless and until such action is approved in writing by the
Supervisor or the Commissioner.’
“On March 12, 1989, the VSA Board approved the settlement
agreement reached by Appling and Boca Chica. Martin did not sign the approval
resolution. In his deposition, Lopez claimed that Martin did not inform him
about the supervisory order and that Lopez did not know the VSA Board lacked
the authority to approve the settlement agreement when he signed the agreement
on behalf of VSA.
“Payne never ratified the settlement agreement, and the
agreement was never entered as a final judgment. On June 29, 1989, VSA was
declared insolvent, and the FSLIC was appointed receiver. The FSLIC removed
Appling’s case against VSA to federal court. The federal court concluded that
the VSA Board gave up its authority to enter into a settlement when it signed
the agreed supervisory order on March 3, 1989. Thus, the settlement agreement
was not binding on the FSLIC because it was not approved by the VSA Board as
required by section 1823(e). See F.E.
Appling Interests v. McCamish, Martin, Brown & Loeffler, C.A. NO.
V-89-0027 (S.D. Tex. May 11, 1992) (mem.).
“Appling then filed this suit, individually and
on behalf of Boca Chica, against McCamish, Martin, alleging that McCamish,
Martin negligently misrepresented that the VSA Board had approved the
settlement agreement.”
An aside
and preview: Transaction or Litigation?
In
McCamish the alleged
misrepresentation was made in the context of settlement of litigation. It was made by lawyers for one litigant to
an adverse litigant. The Supreme Court held that the tort of negligent
misrepresentation reaches such facts.
Was
this a “transactional” setting? Was it
an “adversarial” setting? Was it
“litigation”? Was it “in the course of
the lawyer’s business?” On its face, it
appears to the author to be an adversarial litigation setting and that it is
“in the course of the lawyer’s business.”
Some appellate courts, without explanation or analysis, have stated that
it was a “transactional” setting, as opposed to an “adversarial” setting.
Does McCamish apply to a
lawyer who makes a representation to a nonclient who is in an adversarial
relationship with the lawyer’s client? Does McCamish answer that question? If
so, what is the answer?
Later
we examine Mitchell, Chapman Trusts, and
Lesikar. In Mitchell, the Dallas Court of Appeals cited McCamish for the proposition that negligent misrepresentation does
not apply to a lawyer misrepresenting facts to a party adverse to the lawyer’s
client in the course of litigation. Chapman Trusts from the 14th Court of
Appeals and Lesikar from the
Texarkana Court of Appeals also read McCamish
as being limited to “transactional” settings and exempt adversarial litigation
misrepresentations. For now, just think
about McCamish. Is it a transactional
setting, or a litigation setting? McCamish arose out of the settlement of
litigation.
Exempting
adversarial settings has some appeal.
Is an adversarial setting excluded?
In McCamish, was the setting
adversarial? Consider the elements of
the tort. There must be an intent to create reliance on a factual
representation. That is not a classic
“adversarial” situation. If it occurs
during litigation, it might be seen as a representation made under a flag of
truce. For example, in response to a
discovery request, may a lawyer say “the document you requested does not exist”
when the requested document is on the lawyer’s desk? Is such a factual misrepresentation proper, or must adversaries
avoid misrepresentations, even in an adversarial context?
We
return to McCamish.
The Supreme Court’s
statement of the McCamish Issue.
“...[T]he parties present this Court with one precise question:
Whether the absence of an attorney-client relationship precludes a third party
from suing an attorney for negligent misrepresentation under the Restatement
(Second) of Torts § 552. We do not decide or address in any way the liability
of McCamish, Martin in this case. Instead, we determine only whether Appling, a
non client, may bring a negligent misrepresentation cause of action, as defined
by section 552, against McCamish, Martin.”
The Texas Supreme
Court’s holding in McCamish.
“The trial court granted McCamish, Martin’s motion for
summary judgment on Appling’s negligent misrepresentation claim on the sole
ground that, absent privity, McCamish, Martin owed no duty to Appling. Because we hold that McCamish, Martin may owe a
duty to Appling, irrespective of privity, we affirm the judgment of the
court of appeals, remanding this cause to the trial court.”
The Texas
Supreme Court Limits Liability for Negligent Misrepresentation
“Under
section 552(2), liability is limited to loss suffered:
(a) by the person or one of a limited group of
persons for whose benefit and guidance [one] intends to supply the information
or knows that the recipient intends to supply it; and (b) through reliance upon
it in a transaction that [one] intends the information to influence or knows
that the recipient so intends or in a substantially similar transaction.[23]
“This formulation limits liability to situations in which
the attorney who provides the information is aware of the nonclient and intends
that the nonclient rely on the information.[24] In other words, a section 552 cause of
action is available only when information is transferred by an attorney to a
known party for a known purpose. Again we see that reliance is intended by the
lawyer. A lawyer may also avoid or
minimize the risk of liability to a nonclient by setting forth (1) limitations
as to whom the representation is directed and who should rely on it, or (2)
disclaimers as to the scope and accuracy of the factual investigation or
assumptions forming the basis of the representation or the representation
itself.#[25]
“Moreover, section 552 guards against exposure to unlimited
liability by requiring that a claimant justifiably
rely on a lawyer’s representation of material
fact. Thus, not every statement made by an attorney to a nonclient is
actionable under section 552. For example, an attorney’s statements
communicating her client’s negotiating position are not statements of material
fact.#[26] [27]”
Limitations
on the tort of Negligent Misrepresentation
The Supreme Court describes limitations on the tort of
negligent misrepresentation by an attorney to a nonclient.[28]
1. information is transferred
2. by an attorney
3. to a known party, and
4. for a known purpose
The Supreme Court also states that the limitations are the
following.[29]
1. an attorney
2. provides information
3. aware of the nonclient, and
4. intends that the nonclient rely on the information
The Texas Supreme Court places additional limitations on the
cause of action.
“[S]ection 552 guards against exposure to unlimited
liability by requiring that a claimant justifiably
rely on a lawyer’s representation of material
fact.”
How to
Avoid Liability
A simple way to minimize exposure is for a
lawyer to refrain from
misrepresentations. Perhaps honesty is the best policy after all.
The
Supreme Court tells Lawyers how they may Avoid or Minimize Liability
The
Texas Supreme Court suggests that an attorney may limit liability by
disclaiming reliance. This is a dubious
concept. Remember that intended
reliance is an element of negligent misrepresentation. If reliance is not sought, what is the point
of making the representation in the first place? If reliance is sought, can slick legalisms disclaim reliance
while intending to create reliance? We
examine the Supreme Court’s statement:
“A lawyer may also avoid or minimize the risk of liability
to a nonclient by setting forth (1) limitations as to whom the representation
is directed and who should rely on it, or (2) disclaimers as to the scope and
accuracy of the factual investigation or assumptions forming the basis of the
representation or the representation itself.”[30]
If
the “disclaimer” is simply a clarification, it makes sense. But, if it is intended to eliminate
liability while still creating reliance, the disclaimer is of questionable
value. The problem with the supreme
court’s approach is that there is no tortious conduct if there is no intent to
create reliance. How does a lawyer create reliance while disclaiming reliance?
The concepts are mutually inconsistent. The idea that a lawyer may misrepresent
facts, but disclaim liability, is repugnant.
Would these disclaimers preclude liability?
•“This statement should not be relied upon as
being truthful or correct.”
•“The lawyer who makes this representation
doesn’t know if it is true.”
•“I intend that you rely upon what I say, but
you may not rely upon what I say.”
The Solution
The
real solution is easy to state, but difficult to accomplish. Clear, accurate,
truthful and complete statements which clearly indicate any areas of conjecture
or uncertainty are the only proper representations. Be careful, accurate and truthful. If that can’t be done, the representation should not be made.
Remember the low standard for liability and lack of a requirement of intent to
mislead when deciding whether to make a representation.
Could a Disclaimer
Increase Liability?
One
of the Texas lawyers who previously took this course suggested that a
disclaimer which clarifies who may not to rely may also support reliance by
those who are not excluded, and a disclaimer which disclaims certain factual
aspects may support reliance on other factual aspects. He has a good point. Disclaimers are tricky at best and dangerous
at worst. When writing a disclaimer,
consider the level of care you would use if you were disarming a live
bomb. With that in mind, consider the
care you will give the disclaimer. Then
proceed.
Tortious
Silence
There
is an even more difficult problem. It appears that Locke Liddell & Sapp’s
silence was deemed to be a misrepresentation. The lawyers were alleged to have
not informed the investors of fraud by the lawyer’s client. If a
misrepresentation is by silence, how does one disclaim reliance on silence? How
does a lawyer contact a nonclient to notify the nonclient that the lawyer’s
silence is a misrepresentation which should not be relied upon? Do disciplinary
rules allow such contact? What contact is proper if the nonclient has a lawyer?
Good luck. Silence is addressed in Lesikar, but the money that was paid by
Locke Liddell & Sapp suggests that the old concept, silence is golden may have a new connotation.
Case #3 Safeway: 1998:
trial lawyers are not exempt from
The Chicken Feed Tort of Negligent Misrepresentation
On
December 9, 1998, after the court of appeals decided McCamish, but before the Texas Supreme Court McCamish decision, and before Mitchell,
Arlitt, or Lesikar, the San Antonio
Court of Appeals decided Safeway v. Clark
and Gamble.[31] You may find it helpful to read Safeway quickly, then read Mitchell and return to Safeway for a careful reading, with the
footnotes.
The
Safeway court stated the issue and
its holding as follows:
“This appeal questions whether an insurance carrier has
standing to sue the attorneys it hires to represent its insured. We hold the
carrier lacks standing to bring causes of action based on agency or the
existence of an attorney-client relationship. However, we also hold the carrier
has standing to assert claims for negligent misrepresentation, fraud,
conspiracy, breach of contract, and breach of warranty.”[32]
The
court stated the negligent misrepresentation and fraud issues in the following
manner.
“A negligent misrepresentation claim is not equivalent to a
professional malpractice claim.[33] Under
a negligent misrepresentation theory, liability is not based on professional
duty;[34] instead, liability
is based on an independent duty[35] to avoid
misstatements intended to induce reliance.[36] Fraud
is based on a similar duty.[37] [38] Therefore, an attorney can be subject to a negligent misrepresentation or fraud
claim in a case in which the attorney is not subject to a professional
malpractice claim.[39] [40] Likewise,
Safeway cannot sue for professional negligence, but it does have standing to
sue for negligent misrepresentation and fraud.”[41]
The
court described the factual background in which the case arose in the following
manner.
“In 1993, Eliodoro Garcia was involved in a car accident
with Michelle Manning, who was insured for $20,000 by State and County Mutual
Fire Insurance Company (SCM). In 1994, Garcia obtained a default judgment
against Manning in the amount of $495,212.70. Shortly thereafter, Garcia sued
SCM. Acting through Safeway Managing General Agency, Inc. (Safeway), SCM hired
the law firm of Clark & Gamble and its attorneys, Kenneth L. Clark, Sr.,
William J. Gamble, and John R. Wondra (collectively, Clark & Gamble), to
represent Manning. SCM was represented by its own attorney.
“Clark & Gamble negotiated a settlement with Garcia for
$23,647.25. According to Safeway, Clark & Gamble characterized the
settlement as a full release of all Garcia’s claims.[42] Accordingly, Safeway released the funds
without first approving the settlement papers. When Safeway received the
executed documents, it discovered that Garcia had settled only the amount of
the judgment in excess of the policy limits. To settle the claims against the
policy, Safeway paid Garcia an additional $20,000.[43]
“Safeway then sued Clark & Gamble for negligence, gross
negligence, fraud, civil conspiracy, breach of fiduciary duty, breach of
agency, breach of warranty, and breach of contract. The cause of action for
breach of fiduciary duty was specifically premised on an attorney-client
relationship between Safeway and Clark & Gamble. In a similar fashion, the
breach of agency theory was premised on an agency relationship between Safeway
and Clark & Gamble. In contrast, the causes of action for negligence, gross
negligence, and fraud were based, among other things, on Clark & Gamble’s
misrepresentations about the settlement. The foundations for the remaining
causes of action were unclear.
“Clark & Gamble moved for summary judgment, arguing that
all of Safeway’s causes of action assumed an attorney-client relationship
between Safeway and Clark & Gamble, which, according to the firm, did not
exist. Thus, argued Clark & Gamble, Safeway lacked standing to sue. The
trial court granted the motion, and Safeway appealed.”
The
court of appeals affirmed dismissal of the causes of action which require a
relationship of attorney-client or agency.
“Because no attorney-client or agency
relationship exists between Safeway and Clark & Gamble, Safeway lacks
standing to bring its claims for breach of fiduciary duty and breach of agency.[44] However, Safeway has standing to bring the
causes of action unrelated to the existence of an attorney-client
relationship.”
Negligent
misrepresentation is not the only claim which was allowed by the court of
appeals. Other claims which were not based on agency or attorney-client
relationship were allowed. When considering negligent misrepresentation, one
should always consider whether other causes of action may also be pursued. A careful review of their elements and the
relationships which give rise to various causes of actions is required.
Safeway’s assorted claims provide an example.
“The remainder of Safeway’s claims include civil
conspiracy, breach of contract, and breach of warranty. According to Clark
& Gamble, Safeway lacks standing to bring these causes of action because
they are based on an attorney-client relationship that does not exist. These
causes, however, are not specifically based on the existence of an attorney-client
relationship or agency, and we cannot presume they are. . . . By not
challenging any other basis for standing, Clark & Gamble failed to
establish its right to summary judgment as a matter of law. We hold Safeway has
standing to bring its remaining claims.”
* * * * *
After McCamish held that lawyers are not
exempt from liability to the adverse party in a litigation context, three
Courts of Appeals exempted a lawyer from liability to the adverse party in
litigation, citing McCamish.
* * * * *
Case #4: 2000: Mitchell: After McCamish held that lawyers are not exempt from liability to the
adverse party in a litigation context, the Dallas Court of Appeals exempted a
lawyer from liability to the adverse party in litigation, citing McCamish.
On
January 21, 2000, the Dallas Court of Appeals decided Mitchell v. Chapman[45] in which it held that lawyers representing a
client in litigation are exempt from claims of negligent misrepresentation by
parties who are adverse to their clients in the litigation. The case is short. The holding relies on McCamish and the restatement. The
holding lacks analysis or explanation and appears to be contrary to McCamish. In order to let you judge for
yourself, the entire opinion is quoted.
“This is a suit
filed by an unsuccessful litigant against an opposing attorney. Herman E.
Mitchell sued Carlyle H. Chapman alleging he withheld a document from discovery
essential to Mitchell’s recovery in two prior suits. Chapman was the attorney
for a defendant in both prior suits. Mitchell
contends Chapman acted either willfully or negligently in denying the existence
of the document and that Mitchell, and his attorney, relied on that
misrepresentation. The trial court entered summary judgment denying Mitchell
any recovery. The only issue presented is whether Mitchell has a cause of
action against Chapman. We hold he does not because the relationship between
Mitchell and Chapman in the earlier suits was clearly adversarial and Chapman
owed no legal duty to Mitchell.[46]
“There is no dispute
that Mitchell needed the document to succeed in his earlier suits.[47] In those suits, Mitchell sued to recover
disability benefits under an insurance policy and the document, a part of the
insurer’s underwriting file, increased the benefits available to Mitchell. Mitchell contends that despite his
repeated efforts to obtain the underwriting file by discovery, Chapman, on behalf of his client, denied it
existed[48] even though it was
in Chapman’s office.[49]
“The summary judgment turned only on whether Mitchell had a
cause of action against Chapman. Accordingly, we do not address whether Chapman
had the underwriting file, as alleged, or whether Chapman acted either
willfully, negligently, or unethically in not producing the document in
response to discovery. Neither do we address Chapman’s argument that there is
another remedy available to Mitchell, by bill of review in the United States
District Court where the earlier suits were pending. We hold Mitchell does not have a cause of action against Chapman for
willfully failing to produce the document because of the nature of their
relationship in the earlier two suits.[50] Mitchell’s
interests are outweighed by the public’s interest[51] in loyal, faithful, and aggressive representation by
attorneys employed as advocates.[52] [53] If Chapman’s conduct violated his
professional responsibility,[54] the remedy is public[55] rather than private.[56] [57]
“We further hold Mitchell does not have a cause of action
for negligent misrepresentation for several reasons. First, as the relationship between Mitchell and
Chapman’s client in the earlier suits was ‘adverse,’[58] Chapman’s conduct
in representing his client could not create an actionable duty under section
522 of
the Restatement (Second) of Torts.[59] [60] Second, Chapman
did not provide false information for the guidance of Mitchell in a business
transaction.[61] [62] Finally, Mitchell
does not fall within the narrow class of potential claimants listed under
section 522(2).[63] [64]
“The
judgment of the trial court is affirmed.”
The Mitchell opinion of the Dallas Court of
Appeals did not refer to Safeway v. Clark
and Gamble (case #3 above) which
was decided a year prior to Mitchell, nor
does it quote §522.
Case #5: 2000: Chapman
Trusts: 2000: After McCamish held that
lawyers are not exempt from liability to the adverse party in a litigation
context, the Houston’s 14th Court of Appeals exempted a lawyer from liability
to the adverse party, citing McCamish.
Chapman v. Porter and Hedges,[65] is another Chapman case, Mitchell v. Chapman, except for its
statement that McCamish doesn’t apply in adversarial situations.
“In post-submission briefing, the Trusts submit
that Porter & Hedges is subject to a negligent misrepresentation claim,
citing McCamish, Martin, Brown & Loeffler v. F.E. Appling Interests.[66] In McCamish, the high court held that a
nonclient may bring a cause of action, as defined by section 552 of the
Restatement of Torts, in cases such as those where one party to a transaction receives and relies on ‘an
evaluation, such as an opinion letter, prepared by another party’s attorney.’[67] Section 552 provides as follows:
“One who, in the course of his business, profession or
employment, or in any other transaction in which he has a pecuniary interest,
supplies false information for the guidance of others in their business
transactions, is subject to liability for pecuniary loss caused to them by
their justifiable reliance upon the information, if he fails to exercise
reasonable care or competence in obtaining or communicating the information.[68]
“In
this instance, the Trusts' sole allegation against Porter & Hedges is that
Burger "misrepresented the facts" when he advised the Trusts that
they were guilty of tortiously interfering with the settlement agreement between
Motorola and Atkins. There is no
allegation that the Trusts relied on Burgert’s alleged misrepresentation to
their detriment. Nor would such
reliance have been justifiable, given the adversarial nature of the parties'
relationship. See McCamish, 991 S.W.2d at 794 (explaining that a third party’s reliance on an attorney’s
representation is not justified when the representation takes place in the
adversarial context). Therefore, the
lone allegation raised by the Trusts does not rise to the level of a negligent
misrepresentation claim as contemplated by McCamish. Accordingly, we hold
that summary judgment was proper on the negligent misrepresentation claim
lodged by the Trusts.”
Case #6: Lesikar[69] : 2000: After McCamish
held that lawyers are not exempt from liability to the adverse party in a
litigation context, the Texarkana Court of Appeals exempted a lawyer from
liability to the adverse party, citing McCamish.
Lesikar is
a long, messy case involving estate, trust, family, and attorney
litigation. It resulted in a long
opinion. We won’t attempt to sort out
the facts here because most of the case is outside the scope of this course.[70]
“Jenny contends that Werley negligently misrepresented
material facts to her and that those misrepresentations damaged her. In
McCamish, Martin, Brown & Loeffler v. F.E. Appling Interests,[71] the Texas Supreme Court
recognized a cause of action for negligent misrepresentation against an
attorney by a nonclient. In this case, Jenny contends that the
misrepresentations originate from Werley’s failure
to disclose certain information, i.e., that Lyn was acquiring Clark,
Thomas’s interest in wells 2 and 5.
“Werley contends that he had no duty to Jenny. He argues
that the duty an attorney has in this context does not extend to a plaintiff,
like Jenny, on the opposing side of litigation. He also contends that there was
no duty because the misrepresentation, if any, was not material and was not
such that Jenny was justified in relying on it.
“In McCamish, the court outlined the scope of the duty
imposed on an attorney to a nonclient. Relying on Restatement (Second) of Torts
§ 552(2) (1977), the court held that the duty arises when (1) the attorney is
aware of the nonclient and intends that the nonclient rely on the
representation, and (2) the nonclient justifiably relies on the attorney’s
representation of a material fact. For purposes of determining whether there is
justifiable reliance, a reviewing court must consider the nature of the
relationship between the attorney, client, and nonclient.
“Jenny contends that Werley made misleading statements to
her attorney that nothing was happening with respect to Lyn’s effort to acquire
the Clark, Thomas interest. She alleges that Werley also denied contacting
Clark, Thomas on Lyn’s behalf. She contends Werley later admitted sending an
assignment to Clark, Thomas, but denied having heard anything from them about
it. Within thirty days of these statements, the assignment from Clark, Thomas
to Lyn was consummated. Jenny further contends that after completing the
assignment arrangement, Werley misrepresented the terms of the assignment to
her attorney.
“Taking all of these assertions as true, we hold that Werley
did not have a duty to Jenny. This case
is distinguishable from McCamish, which occurred in a transactional, as opposed
to a litigation, setting. In this case, the parties had engaged in
numerous, protracted suits. The summary judgment evidence reveals, and Jenny
admits, that she was aware that Clark, Thomas was interested in settling the
overpayment claim and had contacted each of the co-executrices. Under these
facts, she was not justified in relying
on Werley’s statements, even if they were material and Werley intended that she
rely on them.
“Jenny also contends that Werley misrepresented material
facts by failing to disclose information when he had a duty to speak. She
argues that as the attorney for the estate representative, he had a duty to
disclose that the estate could recover the Clark, Thomas interest, a thing of
value. She also contends that Werley had a duty to disclose the extent to which
Lyn was attempting to acquire the Clark, Thomas interest. She says she was
harmed by her agreement to close the estate, which was based on her belief that
the issue of the estate’s claims against Clark, Thomas for overpayment would be
severed out for further proceedings.
“For there to be
actionable nondisclosure fraud, there must be a duty to disclose.[72] Whether such a duty
exists is a question of law.[73] A duty to disclose may arise in four
situations: (1) when one is in a fiduciary relationship; (2) when one
voluntarily discloses some information, but not all of the pertinent
information; (3) when new information makes an earlier representation misleading
or untrue; and (4) when one makes a partial disclosure and conveys a false
impression.
“Nevertheless, an attorney has no duty to reveal information
about a client to a third party when that client is perpetrating a nonviolent,
purely financial fraud through silence.[74] When an attorney does make
misrepresentations on behalf of a client, the general standard for fraud
applies. But the attorney has no duty to correct representations that prove to
be false.[75] We
hold that Werley did not have a duty to disclose this fact to Jenny or to
correct any representation that proved to be false.”
Another aside. When you read about the Locke Liddell & Sapp
situations, consider the prior paragraph.
If the prior paragraph is correct, why did Locke Liddell & Sapp pay
tens of millions of dollars?
Case #7: Arlitt: 1999: Estate lawyers are not
exempt from
The Chicken Feed Tort of Negligent Misrepresentation
Between
the McCamish court of appeals
decision and the McCamish Supreme
Court opinion, but after deciding Safeway,
the San Antonio Court of Appeals decided Arlitt,[76] a probate case in which lawyers were sued
over (1) estate planning matters and (2) the probate litigation which resulted
from displeasure over the dispositions in a will and codicil. Negligent misrepresentation
was one of several causes of action brought by a variety of family members in
various capacities. Arlitt shows how the tort of negligent
misrepresentation, which does not require privity, compares to malpractice and
other torts which require privity.[77] Estate planning lawyers
who believe they are protected from suit in the absence of privity should be
aware of the potential for liability for negligent misrepresentation.
The court of appeals
described Arlitt’s convoluted facts.
“On May 6, 1987, William H. Arlitt, Jr. (Mr. Arlitt) died,
leaving a will drafted in 1983 by Allan G. Paterson, a partner in the firm of
Bayern, Paterson, Aycock & Amen, P.C. Mr. Arlitt also left a codicil
drafted in 1985 by Chilton Maverick. Under the 1983 will, Mr. Arlitt left his
firearms and personal jewelry to his son, William H. Arlitt III (Bill); the
remainder of his personal effects and his share of the household effects to his
wife, Margie V. Arlitt (Mrs. Arlitt); and the remainder of his estate in equal
shares to the Arlitt Grandchildren Trust and the Margie V. Arlitt Trust, which
was to benefit Mrs. Arlitt during her lifetime. At Mrs. Arlitt’s death, the
assets and accumulated income in her trust were to be distributed to the
Arlitt’s four children--Bill, Kristine, Sezanne, and Janet. However, in the 1985 codicil, Mr. Arlitt reduced
Kristine’s share of his estate to $50,000 in cash; the remainder of Kristine’s
share under Mr. Arlitt’s 1983 will was devised to her children in trust.
“Because the 1985
codicil substantially disinherited her,[78] Kristine opposed
the application to probate Mr. Arlitt’s 1983 will and 1985 codicil, and this will contest[79] remained pending
for almost six years.
As a result, the 1983 will and 1985 codicil were not admitted to probate until
May 1992 and March 1993, respectively. After four years of the contest
litigation, Mrs. Arlitt, individually and as the personal representative of Mr.
Arlitt’s Estate, and Bill, Sezanne, and Janet (collectively, "the Arlitts")
filed this suit against Allan G. Paterson; Bayern, Paterson, Aycock & Amen,
P.C.; and Chilton Maverick (collectively, "the Attorneys"). The
Arlitts alleged Mr. and Mrs. Arlitt, ‘on behalf of themselves, and also on
behalf of their children (and as their children’s agents),’ sought and received
legal estate planning services from the Attorneys; the Attorneys negligently
advised Mr. and Mrs. Arlitt regarding their joint estate plan and negligently
drafted Mr. Arlitt’s 1983 will and 1985 codicil; and the Attorneys’ negligence
‘[has] or will cause the Arlitts to sustain substantial damages by way of
(among other things) will contest(s), construction proceedings, and estate tax
consequences.’ The Arlitts also alleged negligent
misrepresentation, negligent undertaking, gross negligence, and breach of
express and implied contract.
The court of appeals
describes the malpractice claim.
“The Attorneys moved for summary judgment, arguing all of
the Arlitts’ claims were, in legal effect, legal malpractice claims; all were
barred by the statute of limitations; and all suffered a fatal defect--the
Arlitts were not in privity with the Attorneys and thus could not establish the
duty requisite to a legal malpractice claim.” [80]
The court of appeals
allowed the Negligent Misrepresentation claim.
“The Arlitts sued the Attorneys for negligence, negligent misrepresentation, negligent
undertaking of representation, and breach of contract. However, the Attorneys’
motions for summary judgment address only the Arlitts’ negligence claim because,
they contend, all of the Arlitts’ claims are legal malpractice claims. We agree
the Arlitts’ negligence, negligent undertaking, and breach of contract claims
are, under Texas law, legal malpractice claims.[81] But we do not reach the same conclusion with
respect to the Arlitts’ negligent
misrepresentation claims.
“As discussed below, to prevail on a legal
malpractice claim, a plaintiff must show privity in order to prove the attorney
owed her a duty of ordinary care.[82] But a
plaintiff need not show privity in order to establish a duty not to negligently
misrepresent. See Federal Land Bank Ass’n v. Sloane. Accordingly, ‘[a] negligent misrepresentation claim is
not equivalent to a malpractice claim’" and ‘an attorney can be subject to
a negligent misrepresentation claim in a case in which he is not subject to a
professional malpractice claim.’ ” [83]
“Because the Attorneys’ motions for summary
judgment do not address the Arlitts’ negligent
misrepresentation claims, the trial court erred in rendering judgment against
the Arlitts on these claims, and they must be remanded.”
The court of appeals
permitted suit for Attorney’s Fees and Costs as Damages.
“Mrs. Arlitt contends the trial court erred in rendering
judgment against her on the ground no contract or statute permits her to
recover the attorney’s fees and costs she incurred individually in the will
contest and will construction proceedings. We agree.
“Attorneys’ fees, as such, are not recoverable unless
permitted by statute or contract. . . . But contractual or statutory
authorization is not necessary to recover attorneys’ fees and costs as
damages.
“Because Mrs. Arlitt seeks to recover the attorneys’ fees
and costs she incurred in the will contest and construction proceedings as
damages, she need not demonstrate statutory or contractual authorization.
Accordingly, the trial court erred in rendering a summary judgment against her
on this issue.
The Court of Appeals
conclusion in Arlitt.
“... We . . . reverse the trial court’s judgment against the
Arlitts on their negligent misrepresentation claims because these claims were
not addressed in the motions for summary judgment. The Arlitts’ negligent
misrepresentation claims, as well as the legal malpractice claim brought by
Mrs. Arlitt in her individual capacity, are thus remanded to the trial court
for further proceedings consistent with this opinion.”
Case #8: Hight:[84] 2000: The Chicken Feed Tort of Negligent
Misrepresentation might apply to dehorning horny goats - but it might not.
We
appreciate the humor that Texas parties and courts provide for our
entertainment. Can Texas courts outdo
themselves with cases that are even more remarkable than chicken feed cases? It is a tall order, but they try. The Eastland Court of Appeals contributes Hight to the cause. We began this course with an animal
husbandry case involving chicken feed. We end this course as we began, with an
animal husbandry case. This one involves Punk Carters’ horny stud goat, Pancho. Pancho was too horny for his own good.
“Appellants contend that the trial court erred in granting
the Edwards’ motion for summary judgment on their DTPA claim. Appellants assert
that the Edwards ‘represented themselves as a reputable and established service
company which was capable of caring for Pancho and standing him at stud,
collecting, storing and selling his semen, and providing reproductive
services.’ Appellants argue that, since Pancho died while in the Edwards’
custody and care, they were not capable of caring for Pancho as represented. In
addition, appellants state that evidence existed that the Edwards ‘took an
unconscionable course of action.’ We disagree.
“In reviewing the record before us, we have found no
evidence of any false, misleading, or deceptive act or practice enumerated in
Section 17.46 of the DTPA. We have also been unable to find any evidence of
unconscionability. Section 17.45(5) defines an unconscionable action or course
of action as ‘an act or practice which, to a consumer’s detriment, takes
advantage of the lack of knowledge, ability, experience, or capacity of the
consumer to a grossly unfair degree.’
“The Edwards provided routine boarding and care for Pancho
at their breeding facility. Appellants offer no evidence that the Edwards were
incompetent in providing genetic services or routine boarding and care.
Additionally, appellants offer no evidence of any representation made by the
Edwards which encompasses the performance of veterinary care, surgical
treatment, or postoperative treatment. The Edwards informed Hight of the
problem with Pancho’s horns after almost one year of caring for him, and there
is evidence in the record that Pancho’s
horns were growing into the back of his neck.”
The
late lamented Pancho died after an operation to remove his ingrown horns. Punk
had no Pancho. Alas.
*
* * * *
Workshop - How to be
Sued for Negligent Misrepresentation
Situation #1 What a kick!
Situation #2 Deep in the Heart of Texas.
Situation #3 Enron - When the mighty fall, many are hurt.
Sometimes
the best way to avoid a problem is to think about what would cause the problem,
and avoid it. In this section, we
consider how an attorney can be sued for negligent misrepresentation.
Situation #1 What a kick! - Locke and Erxleben
The
formula was simple. Begin with a famous athlete who wishes to run a Ponzi
scheme. The athlete solicits
investments on the premise of a Midas touch which brings huge profits to the
investors. The athletic con man uses
the money from new investors to pay off early investors, creating the illusion
of real profits. Then mix in a lawyer
who represents the athletic con man. The lawyer merely (1) vouches for the con
man and (2) prepares, or approves, the solicitations used to raise the
money. The Texas Chicken Feed Tort of Negligent Misrepresentation
transforms the lawyer into the role of guarantor of the investments, making up
the losses. Even if the lawyer doesn’t “vouch” for the con man, the lawyer
might be liable for silence if the lawyer doesn’t inform the nonclients of the
client’s con.
If
that scenario seems far fetched, you will get a kick out of the Locke situation.
Situation #2 Deep in the Heart of Texas.
The
facts are the same as situation #1 except the con man is not an athlete. He is merely an experienced young con man
who is on probation for prior cons.
If
that scenario seems far fetched, the
second Locke situation shows what can
happen deep in the heart of Texas.
Situation #3 Enron - When the mighty fall, many are hurt.
Instead
of an obvious Ponzi scheme, the facts involve one of the largest corporations
in the world. After it collapses, it appears that it might have “cooked its
books” to create a false impression.
Substantial losses and liabilities are hidden off the books by partnership
which offer profits to managers and losses and liabilities to the company. In this situation, let’s assume that the
lawyer set up, or knows about, or should know about, the partnerships, hidden
losses, hidden debts, and exaggerated sales and profits arising from
transactions between related parties, subsidiaries, and controlled
partnerships. Let’s also assume that shareholders and lenders lose several
dozen billion dollars. To enliven the
situation, assume that a company employee told management about the problem,
management asked the law firm which helped create the partnerships, and the law
firm told management that there is no problem and no need to investigate
further.
Does
that seem farfetched? Consider the news
reports on Enron and lawyers. The losses involved in Enron’s demise are
not chicken feed.
* * * * *
Situation #1 What a kick! - Locke and Erxleben
In
this situation, the lawyers paid about $30 million but deny liability. That raises the obvious question of what the
lawyers would pay if they were liable.
Judge Throws Erxleben In
Jail[85]
A former Longhorn All-American is behind bars. Russell
Erxleben went to jail Friday. A judge revoked his bond after he allegedly
threatened an ex-investor. Erxleben had been free on bond since being sentenced
to seven years in prison last week. He pleaded guilty to conspiracy and
securities fraud charges in November. About 700 investors lost close to $34
million when Erxlenben’s company Austin Forex International folded in 1998.
Locke Liddell Settlement
Serves as Warning to Other Firms[86]
Locke Liddell & Sapp’s agreement to pay $22 million to settle a suit alleging
it aided a client in defrauding investors is expected to serve as a warning to
other firms that they must take action when they learn a client’s alleged
wrongdoing may be harming third parties. The firm agreed April 14 to settle a
suit stemming from its representation of Russell Erxleben, a former University
of Texas star football kicker whose foreign currency trading company was
allegedly a Ponzi scheme. Erxleben pleaded guilty last November to federal
conspiracy and securities-fraud charges and is to be sentenced in May.
Locke Liddell’s settlement comes on the heels of an $8.5 million settlement by Sheinfeld,
Maley & Kay and attorney Lee Polson. The two settlements, minus attorneys’
fees and expenses, are expected to bring investors a recovery of more than 60 cents on the dollar.
And if those large settlements don’t get lawyers’ attention,
the American Law Institute is considering making a lawyer’s duty to a third
party clear in its Restatement of the Law Governing Lawyers. In the Texas disciplinary rules, it states
that a lawyer may disclose confidential
client information in order to prevent the client from committing a criminal or
fraudulent act.
Jim George, an Austin lawyer who is a member of the ALI,
says he favors making it clear that a
lawyer must tell people if a client is hurting them.
"It’s a very simple legal proposition — a lawyer can’t
help people steal money," says George, of George & Donaldson.
George represents
investors who lost $34 million they placed in Erxleben’s Austin Forex
International.
Daniel N. Matheson III, a former Locke Liddell partner who represented
Erxleben, said in his deposition that he
knew in March 1998 that $8 million in AFI’s losses hadn’t been reported to
investors. AFI, which was founded in September 1996, shut its doors in
September 1998. A few days later, Texas securities regulators seized its
accounts and put the company into receivership.
Harriet Miers, co-managing partner of
Locke Liddell, says the firm denies
liability in connection with its representation of Erxleben.
"Obviously, we evaluated that this was the right time to settle and to resolve
this matter and that it was in the best
interest of the firm to do so," Miers says.
The Locke Liddell settlement covers partner Curtis Ashmos of
Austin and former partners Daniel Matheson and Jane Matheson.
Other defendants,
including an accounting firm and an Austin businessman, remain in the case.
The settlement agreement bars lawyers for the plaintiffs
from talking to the media about the settlement.
Judge Paul Davis of Travis County’s 200th District Court
agreed April 17 to certify a class for settlement purposes. If investors whose
losses total more than $300,000 opt out of the settlement, Locke Liddell can
walk away from it, according to the agreement.
Janet Mortenson, the
court-appointed receiver for Austin Forex, testified that settlement was reached
after two long days of mediation. She said that investors would benefit from
getting quick payment. Had the case been certified as a class action, Locke
Liddell would have filed an interlocutory appeal, which could have delayed the
case from going to trial for at least a year, Mortenson said.
Mortenson also defended the 24.5 percent contingent fee being paid to Bickerstaff, Heath,
Smiley, Pollan, Kever & McDaniel for representing her. She said she had no
money to pursue the claims against the law firms and was turned down by several
firms because of the complexity of the case.
"This is a perfect example of the appropriateness of
contingency fees," Mortenson said.
Bickerstaff partner Michael Shaunessy was the lead lawyer
for Mortenson.
By filing the malpractice case on behalf of both Mortenson
and the investors, the plaintiffs’ lawyers avoided a legal fight over who was
the proper party to file suit.
The case came together
after Davis ruled that Mortenson owned the legal privilege and work product of
Erxleben’s lawyers. Documents, including lawyers’ notes contained in the boxes
that were turned over to Mortenson formed the basis of the suit, which was
filed last October.
Test Case
The case was viewed as a
test of the Texas Supreme Court’s April 1999 ruling that a lawyer can be sued
by a nonclient for negligent misrepresentation. In McCamish, Martin, Brown
& Loeffler v. Appling Interests, however, the court made it clear that a
lawyer could be liable only when the lawyer invites the nonclient to rely upon
the lawyer’s opinions and misrepresentations.
Kathy Patrick, who represented Locke Liddell, questioned
Mortenson at the fairness hearing about the state of the law on lawyers’ duty
to third parties. Mortenson agreed that the case was on the "frontier of
Texas law."
Patrick, of Houston’s Gibbs & Bruns, also pointed out
that Locke Liddell had credible defenses, including evidence that Erxleben may
have concealed his conduct from his attorneys.
Before the settlements, Mortenson had only recovered about
$300,000 in cash, four cars and a $75,000 skybox for UT football games.
As alleged in the petition, Erxleben traded on his football
reputation to solicit investors. He allegedly represented that each investor’s
account was maintained separately and that trading profits were allocated
appropriately.
But the plaintiffs claim the funds were placed into a single
account and traded together as one large pool of money. The suit alleges that
Erxleben sometimes misappropriated funds for his personal use and would
allocate profits to individual investor accounts at his own discretion, often
favoring some investors over others.
The petition alleges the
lawyers allowed AFI to sell unregistered securities, signed off on brochures
and promotional materials that contained misrepresentations, and knew about the
company’s growing losses for months before state securities regulators began
investigating.
Situation #2 Deep in the
Heart of Texas
Locke again paid several million
dollars, but denied liability. Again,
we wonder what Locke would pay if it
was liable.
* * * * *
Big Texas Law Firm
Settling With Victims of Swindlers[87]
Used Firm to Gain Clients’ Trust
A major Texas law firm that once served
President Bush is paying millions of
dollars to settle claims the firm was complicit in fraud perpetrated by two of
its clients.
Locke Liddell & Sapp
has paid $30.5 million in the past two years to settle class-action lawsuits by
investors in enterprises run by convicted swindlers Brian Russell Stearns and
Russell Erxleben. The deals turned out to be elaborate Ponzi schemes.
The plaintiffs claim the
firm's credibility enabled the men to gain investors' trust and commit
securities fraud -- and that the firm should have raised questions about their
clients' conduct.
Mediation was beginning this week for a separate federal
lawsuit filed by two foreign corporations that loaned $20 million to Stearns.
Locke Liddell denies that
the firm or the four lawyers named in lawsuits assisted in the criminal
enterprises. The firm now believes it was used by the con men.
"Certainly, the firm was definitely misled by both of
these sets of clients," John McElhaney, a Locke Liddell partner from
Dallas, told the Houston Chronicle in Monday's editions.
McElhaney said the firm settled the cases to avoid lengthy
litigation.
In July, Stearns was
sentenced to 30 years in federal prison for defrauding investors of $40
million. Erxleben,
a former star placekicker for the New Orleans Saints, is serving a seven-year sentence for stealing $36 million through
his foreign currency trading company, Austin Forex International.
Michael Shaunessy, the
lawyer who filed the two class-action lawsuits, said he believes the Locke
Liddell lawyers ignored obvious signs that their clients were running scams.
"Unfortunately
we have members of the legal community who don't understand their ethical
obligations," Shaunessy said.
Professional ethics
rules require a lawyer to withdraw from representing a client "if the
lawyer's services will be used by the client in materially furthering a course
of criminal or fraudulent conduct."
To gain credibility, Stearns let investors know the
426-lawyer firm represented Bush when he was governor and Texas Rangers'
baseball team general partner.
Investors in a Ponzi or pyramid scheme are typically offered
high rates of return. However, new investments are used to pay off early
investors until the scheme collapses.
* * * * *
Law firm
denied knowledge of client's scam[88]
Brian Russell Stearns, dressed casually in a sports shirt
and slacks, appeared in the Austin offices of one of the state's largest and
most prestigious law firms in late 1998, looking for a lawyer to create a family trust.
Though only 28,
Mr. Stearns submitted a list of assets
that totaled $58 million and a memo with run-on sentences and poor grammar. The
attorney at Locke Purnell Rain Harrell ordered a background search on the
prospective client.
Notwithstanding his presumed millions, Mr. Stearns, according to the data search,
previously had lived in a nondescript house in Houston – the tax district's
appraised value was less than $25,000 – and owned a financed, 2-year-old Chevy
Geo.
"My recollection
is that based on the searches . . . there
was nothing to indicate that a client relationship with Mr. Stearns would be
imprudent," the attorney said in a deposition earlier this year.
Last month, an insurance
company for the firm, renamed Locke Liddell & Sapp after its merger with a
Houston practice, paid out $8.5 million to settle a lawsuit that accused the
firm of helping Mr. Stearns "steal millions of dollars from innocent
investors while claiming ... that they did not know their client was doing
anything wrong."
In documents filed earlier with the court, the law firm
denied the allegations made in the lawsuit.
"The settlement was
made to conclude a very costly and time-consuming litigation," said John
H. McElhaney, a Locke Liddell partner and member of its risk management
committee. "It involves no admission of wrongdoing or liability
whatsoever."[89]
The settlement was the second in about a year in which Locke
Liddell has paid out millions after being accused in civil proceedings of
aiding a client in committing fraud. Last year, the Dallas-based firm paid $22
million to investors of client Russell Erxleben, a former University of Texas
and pro football star. Mr. Erxleben, who headed Austin-Forex International, a
foreign currency exchange company, pleaded guilty to bilking investors out of
$50 million and was sentenced to seven years in prison.
"Both the Erxleben
and Stearns matters were extremely rare aberrations," Mr. McElhaney said.
In the lawsuit involving
Mr. Stearns, Austin attorneys Nanneska Hazel and Michael Shaunessy claimed that
Locke Liddell continued to represent him in investment and lending deals even
after another client told the firm that Mr. Stearns had written hot checks and
might have been involved in a "securities matter" in Maryland. The
law firm said it couldn't substantiate those allegations.
Court records show that
at the time Mr. Stearns retained Locke Liddell, he was on five years' probation
from Baltimore for a grand theft conviction in another investment scheme.
During the year that the
firm represented Mr. Stearns, one of its lawyers, Phillip Wylie of Dallas, was
aware that Mr. Stearns was under investigation for securities fraud in Georgia
and Texas, Mr. Shaunessy and Ms. Hazel contended in the suit. They claimed that
Mr. Wylie knew that Mr. Stearns was borrowing $26 million while failing to pay
previous investors, and that he deceptively claimed to collateralize loans with
a bogus $40 million Federal Home Loan Bank bond.
Additionally, the lawsuit claimed, some investors wired their funds directly to the law firm's client trust account from which Mr. Stearns bought jets,[90] made deposits into personal checking
accounts, and paid off investors who were threatening to sue.
"None of the
investors' money coming into the Locke Liddell . . . account went into anything
that Locke Liddell or Wylie could even begin to construe as an 'investment'
from which a return could be expected," court documents stated.[91]
Mr. Wylie, who
according to Locke Liddell resigned
in April 2000, was duped by Mr.
Stearns, according to Mr. Wylie's lawyer, Timothy Duffy of Dallas.
"Mr. Stearns was extremely adept at convincing people
of his legitimacy," Mr. Duff said. "A group of West Coast investors,
before investing with Mr. Stearns, hired private detectives and international
bond experts and were so convinced of Mr. Stearns' legitimacy and abilities
that they invested several million dollars directly with Mr. Stearns."
Contrary to claims by some investors from Brady, the only
funds deposited into Locke Liddell's
client trust account, Mr. Duffy said, "were the proceeds of complex
loan transactions where the lenders were extremely sophisticated and were
represented by national or international law firms."
Mr. McElhaney said Locke
Liddell also settled for a "confidential amount" another
Stearns-related lawsuit filed by British-based trust Ivor-Wolfson Corp., which
had loaned Mr. Stearns $20 million.
According to Mr.
McElhaney, there are two "relatively minor claims"[92] pending against the law firm in the Stearns matter, one by
a Las Vegas gem dealer and another by Brady National Bank.
* * * * *
Locke
Liddell Agrees to Settle Suit Over Alleged Ponzi Scheme[93]
Dallas-based Locke Liddell & Sapp has agreed to pay $8.5
million to settle a class action suit alleging it aided a client in defrauding
investors through a Ponzi scheme.
The firm and former lawyer Phillip Wylie are settling with a
plaintiffs class that invested with former Locke Liddell client Brian Russell
Stearns, an Austin, Texas, businessman serving 30 years in prison after he was
found guilty in February on 80 charges, including money laundering and
securities fraud.
The settlement agreement came out of a two-day mediation in
June.
"We thought it was in the best interest of both the
plaintiffs and the firm to get this complicated and protracted and expensive
litigation behind us," says Locke Liddell partner John McElhaney of
Dallas. "The firm will not suffer
any losses beyond deductible payments under the insurance policy."
Judge John K. Dietz of the 250th District in Austin gave
preliminary approval to the settlement on July 31 and certified a class for
settlement purposes. He set a final fairness hearing for Sept. 5, giving the
class members a month to decide if they want to opt out of the agreement.
While investors
will not recoup everything with the settlement, they can expect a recovery of up to 68 percent, according to terms of the
agreement.
"It's a good settlement," says Michael Shaunessy,
a lawyer for receiver Janet Mortenson. "Ultimately for the investors it's
a trade-off of time and certainly over the risk and benefit. It you go to
trial, they might have gotten more, they might have gotten less."
Shaunessy, a partner in Bickerstaff, Heath, Smiley, Pollan,
Kever & McDaniel in Austin, says that without a settlement, the defendants
would likely have appealed the suit to the Texas Supreme Court, delaying any
payment to the plaintiffs.
The settlement is on behalf of the firm and Wylie.
The settlement's term
sheet provides $6,130,200 for a group of at least 342 investors who live in and
around the town of Brady, Texas, giving them a recovery of about 68 percent of
their money.
Another $1,382,100 will
go to a group of investors, chiefly from California, who will get back about 50
cents on the dollar. A third group of investors, including some from Canada and
Australia, will share in $987,700, giving them 8 cents to 10 cents on the
dollar.
As alleged in the petition, the Brady investors got involved
after Stearns married Reagan Martin, a former beauty queen from Brady, and word
got around town that some of her relatives who invested with Stearns received
huge returns on their money.
According to pleadings, lawyers
from Bickerstaff Heath who represent receiver Mortenson will ask Dietz at the
fairness hearing to approve fees totaling $1,487,500. At the same time, lawyers
for the plaintiff class representatives, George & Donaldson of Austin, will
request the same amount.
DÉJA VU
Locke Liddell has been down this road before.
In 2000, the firm agreed to pay $22 million to settle litigation stemming from the firm's
representation of Russell Erxleben, a former University of Texas star football
kicker whose foreign currency trading company was allegedly a Ponzi scheme. He
pleaded guilty to federal conspiracy and securities fraud charges.
McElhaney says the firm admits no wrongdoing by settling the
Stearns litigation, and he alleges the firm did not represent Stearns in
connection with any of the transactions the plaintiffs complain about in the
suit.
"The firm
certainly does not admit any liability in this case that has just settled,"
McElhaney says.
The class action suit, Janet
Mortenson, et al. v. Locke Liddell & Sapp, et al., which was filed in
September 2000, pulled Locke Liddell and Wylie into the legal morass involving
Stearns, who was arrested in September 1999 and indicted. The criminal case
against Stearns has been big news in Central Texas because hundreds of people
from the area around Brady, the hometown of the beauty queen Stearns married in
1998, are among individuals who lost money through Stearns' alleged pyramid
operations.
After Stearns' conviction in February, federal Judge James
Nowlin of the U.S. District Court for the Western District of Texas sentenced
him to 30 years in prison. Stearns' criminal defense attorney, Austin solo
Stephen Orr, did not return a telephone message by press time on Aug. 2.
The class action suit
filed by R. James George Jr. and Shaunessy alleges Locke Liddell and former
special counsel Wylie helped Stearns defraud investors and allowed the firm's
Interest on Lawyers Trust Account to be used as a "conduit." It
alleges that money from investors that went into the firm's trust account was
deposited into Stearns' bank accounts and was used to pay for his
"expensive toys."
The plaintiffs allege
that more than $26 million went through the Locke Liddell IOLTA account between
Jan. 1, 1999, and Sept. 21, 1999 -- money the plaintiffs allege wasn't used for
legitimate investments.
They also allege Wylie
continued to help Stearns solicit funds even after he learned his client was
breaching his fiduciary duty to investors and was engaging in fraud.
Wylie, who left Locke Liddell in 2000, declined
comment and referred questions to his lawyer, Timothy Duffy, a member of
Dallas' Burleson, Pate & Gibson. Duffy did not return a telephone message
by press time on Aug. 2.
The firm and Wylie are
defendants in a related suit -- Ivor
Wolfson Corp., et al. v. Locke Liddell & Sapp, et al. -- filed in
federal court in New York in November 1999 by two corporations seeking to
recover $26 million, plus interest and costs, that they allege Stearns owes
them.
The plaintiffs in that suit, Ivor Wolfson Corp. and Tremmer
Limited, allege claims of fraud, conspiracy to defraud, aiding and abetting
fraud, fraudulent concealment, negligent
misrepresentation, breach of fiduciary duty and breach of warranty against
Locke Liddell and Wylie.
John Harris, an attorney for Ivor Wolfson and Tremmer, says
discovery is close to wrapping up in the litigation, but federal Judge Alvin
Hellerstein of the U.S. District Court for the Southern District of New York
has not set a trial date.
Harris, a shareholder in Stillman & Friedman of New
York, says there have been no settlement negotiations with the firm and Wylie.
McElhaney confirms the suit is pending and no trial date has
been set.
FIRM PROCEDURES
Wylie's representation of Stearns dates back to September
1998, when he was a partner in Dallas' Locke Purnell Rain Harrell, which merged
in January 1999 with Liddell, Sapp, Zivley, Hill & LaBoon of Houston to
become Locke Liddell.
The Texas suit alleges
Wylie assisted Stearns with securities, business litigation and corporate matters
and drafted documents that Stearns used in soliciting investments. He paid the
firm at least $243,332 in fees. But the suit also alleges Wylie and the firm
helped Stearns make his pyramid scheme work and that lawyers at the firm should
have known investor funds deposited in the IOLTA account for Stearns were sent
out for improper and illegal uses.
The suit alleges those improper uses include paying $4.2
million to an early investor who wanted his promised return and using money to
buy a Lear Jet.
McElhaney says the firm
has not changed any of its procedures in the wake of the litigation or the settlement
adding, "The firm's policies are
proper ones."
* * * * *
Shattered dreams of love
and riches
A small town gave its
sweetheart and its cash to a high-rolling grifter[94]
BRADY, Texas – It should have been the American Dream, this
love story set deep in the heart of Texas.
Raegan Martin graduated a year early from Brady High and still managed to be named
co-valedictorian, heading off to Austin on a scholarship at the University of Texas. She was well-rounded, independent, mature beyond her years and, as if to
underscore that versatility, she was also the reigning Miss Heart of Texas.
At 28, Brian Russell Stearns was a decade older, a quiet but
confident businessman from the East. Like a multitude of other young
insta-millionaires lured by high tech and high hopes, he had transplanted
himself in Austin. Korean-born and
adopted by American parents, he was, by his own account, self-taught in the
esoteric world of international finance.
Residents in this ranching town of 6,000 now acknowledge
that they never understood precisely
what it was that Mr. Stearns did for a living. Not that it mattered all
that much; on reflection, at least a few admit that greed may have obscured their common sense. What was obvious,
though, were the lavish symbols of Brian Stearns' success.
After she started dating him, Raegan Martin began showing up
at her parents' in chauffeur-driven
limousines. Sometimes, the college
freshman shuttled into Curtis Field north of town in an Italian helicopter or a
Learjet, events as uncommon in Brady as rain in July.
In June 1998, when Ms. Martin's family and a contingent of
longtime friends drove 125 miles to Austin for the couple's wedding, they were
welcomed at a hilltop, Mediterranean-style
villa overlooking Lake Austin. The $2.2 million estate was the groom's gift to
his teen-age bride.
"Brian Russell Stearns, well, he was lightning in a
bottle," Robert Webster, chief of the U.S. attorney's criminal division in
Dallas, would say later. "The moon and the stars were in perfect
alignment."
Word travels fast when it doesn't have far to go. So it was
little wonder a few months later that news of the Martin family's phenomenal
windfall was making the rounds at the offices of The Brady Standard-Herald, up the street at Steffens Flowers, and
across the square at Santa Fe Crossing, a railroad depot converted into the
town's trendiest restaurant.
The story had it that Raegan's parents, Mike and JoAnn
Martin, had pooled $125,000 from the recent sale of their home with another
$81,000 they borrowed from the Brady National Bank and invested it with their
new son-in-law. Eleven days later, Brian Stearns wired $1,029,377 – a 500
percent return – into the Martins' bank account.
Then lightning struck again. Raegan's aunt and uncle and a
handful of friends had invested $250,000 with Mr. Stearns. Barely more than a
month later, they raked in $947,840 – a return of nearly 400 percent.
"A person's finances are supposed to be
confidential," said attorney C. Ed Carrithers, who is the Martin family
lawyer. "But if someone wires in
millions of dollars to the local bank in a town this size, I guarantee you word
gets out."
Cashing in
Overnight, Brian Stearns was a bona fide rainmaker. Soon,
the well-heeled, the average, and even a few hardscrabblers – more than 350 people all told – dipped into their
savings, cashed in their pension plans, and borrowed against their houses.
Then they stood in line, $4.7 million
in hand, to cash in on the bonanza engineered by the town's newly adopted son.
"Some of it was money they had saved all their lives,"
said Erin Neely Cox, a federal prosecutor in Dallas, "and some of it they
hadn't even entrusted to banks."
More than two years later now, the American Dream has
morphed into Crime Story. At the time
Mr. Stearns introduced himself to Raegan Martin on Austin's Sixth Street strip,
he was hardly the financial wunderkind he portrayed. Nor was he, as he
professed, the battle-decorated commando who had fought in Panama.
In reality, he was
still on probation from Maryland, where he had been busted out of the National
Guard as a private. But not before he had sucked thousands of dollars from
fellow soldiers in an investment fraud.
Brian Stearns, it turned out, was bullish only on himself. The Brady money, along with another $45
million he scammed worldwide, vanished quicker than a summer dust devil.
Heart of
Texas
The exact geographical center of Texas is actually a few
miles north up U.S. 377, but it's close enough for the local chamber of
commerce to fudge a little and declare Brady the Heart of Texas. And more than
a dozen businesses – including a wellness center and a funeral home – have
adopted the Heart of Texas label.
However vibrant the tag, Brady is typical of a hundred other
small Texas towns. Though it enjoys an almost nonexistent crime rate and an exemplary-rated
high school, it also witnesses more deaths than births. It's 125 miles from the
nearest interstate, just another Rand McNally speck between Austin and San
Angelo.
People at the heart of the saga that fractured this small
town aren't available for comment these days. Brian Stearns didn't respond to a
request for an interview. Raegan Stearns, who according to acquaintances is
still taking classes at the University of Texas, has an unlisted phone number.
Much of the story has been detailed in court records by
warring lawyers in a civil lawsuit and by the federal prosecutors who
ultimately sent Mr. Stearns to prison. One
lawyer, who had represented Mr. Stearns, once claimed his Fifth Amendment
privilege against self-incrimination 523 times rather than discuss his role.
Dr. Chuck Priess isn't shy about talking. In fact, he was
one of the first to suggest suing Brian Stearns.
"Small towns operate on two words – friendship and
trust," said Dr. Priess, until recently a second-generation dentist in
Brady. "You violate that, you're in a circle of fire. You can't exist like
that in a small town."
Raegan's family exemplified small-town values. Her dad, Mike
Martin, was a self-made man, having built his Heart of Texas Electric into a
successful commercial construction business. Her mother, JoAnn, was a real
estate agent.
Dr. Priess had been the Martins' dentist for 25 years and
had treated Raegan since she was 4.
"What we heard was that Stearns was a high-finance kind
of guy, a real high-roller," said Dr. Priess, who has since moved to
Austin. "Nobody really knew how he did what he did, but tell you what, the
lifestyle of the Martins sure got substantially better."
The Martins, by all accounts, were tightlipped about the
investment with their new son-in-law. In fact, they moved away two months after
their windfall, putting $200,000 down and assuming $10,000-a-month mortgage
payments on a 751-acre ranch in Burnet County, northwest of Austin.
But an aunt and uncle of
Raegan who had reaped a 400 percent return on their initial Stearns deal were
soon collecting money for another investment with Mr. Stearns. The uncle is a
retired teacher.
"They had good
intentions," said Mr. Carrithers. "They had made money on the first deal,
and they looked at it as a way to help some people, some of them he'd taught in
school."
Word traveled like a brush fire in drought. People were
phoning around, asking how to get in on the deal, said Dr. Priess, who invested
$20,000 from the recent sale of his dental practice. He knew two cowboys who
built fences, and they each ponied up $3,500. There were some who scrounged up
$500 and a handful who could manage only $50 apiece.
"Everybody who made
money from the first deal, except for maybe one guy who paid off a tractor
loan, gave it back to Stearns," Mr. Carrithers recalled.
"All these hundreds
of people invested and only about 10 had ever met him [Mr. Stearns]," said Dr. Priess, who
had once flown with Mr. Stearns on his helicopter to Austin. "I remember
him talking about 'flipping' some bonds or something. He talked fast and we
were totally confused. He talked over our heads."
Ponzi scheme
What Mr. Stearns was
really talking, according to an 82-count federal indictment filed in July 2000
in Austin, was a Ponzi scheme, a scam that hooks investors with promise of
exorbitant returns in dramatically short periods.
Inevitably, a few of the initial investors – like the
Martins and their relatives and a few friends – made staggering profits, which
gave Mr. Stearns credibility. But those returns weren't from investments.
Indeed, there were no investments. The "profits" actually were funds
contributed by other investors who ultimately were destined to receive nothing.
Mr. Stearns, the indictment alleged, diverted the money to his own
"personal use and ... opulent lifestyle."
Crimes of persuasion depend on illusion. Not coincidentally,
the same props that underwrote Brian Stearns' credibility also guaranteed his
high life, a two-fer of good fortune, all of which he financed with other
people's money.
He flew prospective
investors to Las Vegas and other places in a Learjet 35A or a Gulfstream III.
For short jaunts, to survey, say, his 133 acres of lakefront property near
Austin or check on his $2 million oil leases in South Texas, he used the
Italian Agusta jet helicopter, managing to drop into conversation that the
pilot was an off-duty employee of the Texas Department of Public Safety. Idling
around Austin, he chose from a Lamborghinia
Diablo ($226,610, with tax, title, and license), two BMWs, a Mercedes-Benz
SL600 convertible, or a Toyota Land
Cruiser.
And in Mr. Stearns' office in the hilltop villa was a
photograph of him with President Bill Clinton, taken when the president
appeared in Austin in 1998 for a fund-raiser for gubernatorial candidate Garry
Mauro.
There were other props, too, that convinced people that the understated man could offer them a
handhold on the brass ring. Using a computer supposedly linked to the Bloomberg
financial network, Mr. Stearns showed a
prospective British lender that he owned a $40 million Federal Home Loan Bank
bond, which he offered for collateral. He also produced a copy of a brokerage
house's account that showed he had access to Barclays Bank bonds worth $2.3
billion. Neither, the FBI discovered, was remotely true.
But the British trust manager fell for the pitch. It is
probably little consolation to the Brady folks who gave Mr. Stearns almost $5
million, but he also sucked in presumably sophisticated international
investment brokers from Canada to Great Britain and the Channel Islands for
more than $45 million.
Moreover, according to confiscated bank records, it was proceeds from a $20 million loan by
a British corporation, Ivor-Wolfson, that paid Raegan Martin Stearns' parents,
aunt and uncle, and other investors the staggering profits that triggered the
investment whirlwind in Brady.
At least three investors from Brady and another from Great
Britain said there was yet another
compelling fact that gave them confidence in Mr. Stearns. He was represented by
Phillip Wylie, a veteran attorney with Locke Liddell & Sapp, one of the
largest and most prestigious law firms in Texas.
The federal indictment
alleged, as did investors in two civil lawsuits, that Mr. Stearns used Locke
Liddell's stature "in an attempt to persuade investors that his investment
programs were legitimate and reputable."
Civil attorneys Nanneska
Hazel and Michael Shaunessy, both of Austin, later claimed in court documents
that while Mr. Wylie was telling potential investors that Mr. Stearns
"honors all of the commitments he makes," the lawyer knew that Mr.
Stearns already had been accused of cheating other investors.
Some of the investment
funds were wired directly to Locke Liddell's client trust fund, Ms. Hazel and
Mr. Shaunessy claimed, which "lent an aura of credibility and
respectability to Stearns that a young man of Stearns's background would never
have."
In court documents filed in response to the lawsuit, Locke
Liddell denied any wrongdoing by the firm.[95]
Timothy Duffy, a Dallas lawyer who represents Mr. Wylie,
said his client was duped like everyone else who dealt with Mr. Stearns. Mr.
Wylie, he said, "believed the client and did not perceive him to be a
fraud or a con man."
The Stearns-Wylie matter
incident was an "extremely rare aberration," said John H. McElhaney,
a Locke Liddell partner and member of the firm's risk management committee.
"The firm has confidence in its policies and
procedures,"[96] Mr. McElhaney said. "We are continuing
with a longstanding commitment to high quality legal services."
But among the Brady investors, at least, Mr. Stearns had
perhaps the greatest cachet of all, according to Ms. Cox, the prosecutor:
"He married the town sweetheart."
'I have never failed'
It's been two years since FBI and IRS agents handcuffed
Brian Russell Stearns and hauled him from his lavish hilltop estate, even as he
protested that he was worth millions and simple logistical problems accounted
for the fact that several hundred people on two continents hadn't received
their profits.
While he was locked up awaiting trial, Mr. Stearns told
Larry B. Smith, publisher of The Brady
Standard-Herald, that investors needed to be patient: "You will get
the money that is due you. I have never failed on repayment of a loan."
The promise was as bogus as the alleged billions of dollars
he claimed in collateral. The money never came.
"The money's one thing," said Dr. Priess,
"but this thing ruined so many
friendships. One marriage ended over it. A woman in Arkansas lost her house
over it. It divided the town. And believe it or not, there's a handful
that's still fiercely committed to him."
Raegan Martin Stearns,
now 22 and mother of the couple's 2-year-old daughter, testified at her
husband's trial in February about the quixotic odyssey that took her from a UT
dorm to the mansion on the hill. When
she wasn't entertaining her husband's guests, she said, she was flying with him
aboard their private jets throughout the country. He didn't consult her about
his business, and she didn't ask a lot of questions.
If she had any criticism
of her husband, it was that he had violated her request that he not do business
in her home town.[97]
"Brady is my safe haven," Ms. Stearns testified.
"I grew up in a small town and immediately entered a life that was very
overwhelming. He gave me some things of a lot of value, and all I could give
him was a big, loving family, and I didn't want to intertwine the two."
Mr. Stearns' explanation was disjointed and complex. He
portrayed himself as a man who had taken only a few college courses, but who
nonetheless had engineered multimillion-dollar packages for insurance companies
and even the Pakistani Air Force.
His financial contacts, he boasted, ranged from Hong Kong to Poland.
Convicted on 82 counts
The jury convicted him
on all 82 counts.
After a court-ordered psychiatric exam was completed, U.S. District Judge James
R. Nowlin sentenced Mr. Stearns in July.
The judge quoted from the psychiatric report: "Indeed,
it seems likely that the defendant
generally refrains from resorting to the truth whenever a lie will do."
Telling Mr. Stearns that he "might have been successful
in conning a lot of these folks in various ways, but you are not going to con
me," Judge Nowlin sentenced him to
30 years in federal prison and ordered him to pay restitution of $36,054,990
– the money still unaccounted for after the government seized all the other
assets it could find.
Last month, Locke
Liddell, the Dallas-based law firm, which had been sued over its representation
of Mr. Stearns, settled out of court with investors for $8.5 million.
Mr. McElhaney said the settlement involved no admission by
the firm of wrongdoing or liability, and was made in order to end
time-consuming and costly litigation.
In Brady, the Locke
Liddell settlement meant that local investors received 73 cents for every
dollar they invested with Mr. Stearns.[98]
"Most of us had written it off," said Dr. Priess.
"We figured that no crook saves money. But I've talked with maybe 150
people, and they're tickled to death. Me, I'm happy as a dead bird in the
park."
Still, locating winners around here is tougher than finding
a pasture without prickly pear.
Raegan Martin Stearns' parents, Mike and JoAnn, returned to
Brady not long ago, moving into a modest house they once used as rental
property. They lost to foreclosure the showplace ranch, which was also listed
in their daughter's and Mr. Stearns' names.
"All of the big money that came from Stearns he gave
back to Stearns for another investment," said Mr. Carrithers, the Martins'
lawyer. The couple, who arranged for
attorneys to defend their son-in-law, also tapped out a retirement account
they had established before they ever met him.
"Mike's cranking to get his electrical business started
again, which isn't easy," said Mr. Carrithers. "I wouldn't want to be
starting over at his age."
Meanwhile, Dr. Priess said, there's enough blame to go
around. "The fact is, we got greedy and didn't pay attention to detail.
"I still trust the family," he said. "They're
good folks, really are. But that Stearns guy, he's where he needs to be for the
next 30 years."
Situation #3 Enron - When the mighty fall, many are hurt.
Are
the most famous lawyers from the largest firms in the tallest office buildings
exempt from the Texas Chicken Feed Tort of Negligent Misrepresentation if they
are involved with large corporate clients who mislead, misrepresent, lie, and
deceive investors who lose tens of billions of dollars instead of tens of
millions of dollars? Perhaps we will
find out. The facts of the Enron
fiasco are not yet clear. The
consequences for those who represented Enron are speculative. Perhaps the most intriguing statement was
made by Harry Reasoner, former managing partner of Vinson and Elkins who seemed
pleased when he said that, so far, only one suit for a mere $35 million
included Vinson and Elkins as defendants. That suit included a negligent
misrepresentation claim. Public reports
indicate that Vinson and Elkins was later dismissed from that suit. Perhaps the risk is merely chicken
feed. Or, perhaps not. This text is completed on February 1, 2002,
it is too early to tell where the dust will settle. Regardless of the actual facts and consequences, the early
reporting of the Enron story indicates potential risks for lawyers when they
represent clients who have a bad day.
We turn to a sample of public reports of Enron and lawyers.
* * * * *
Enron
Execs Given Week to Respond
Judge Gives Enron Execs a Week to Respond to Bid
to Freeze $1.1 Billion in Assets[99]
HOUSTON (AP) -- A federal judge heard but did not rule
Friday on a request by a New York bank to freeze more than $1 billion allegedly
gained by top Enron Corp. officials who sold millions of shares before the
former energy giant collapsed.
U.S. District Judge Lee Rosenthal gave lawyers for the
defendants a week to respond.Amalgamated Bank has sued 29 current and former
Enron executives and board members, including Chairman Ken Lay and Texas Sen. Phil Gramm's wife, Wendy Gramm,
an Enron board member. Gramm is also the former chairwoman of the Commodity
Futures Trading Commission, a federal agency that oversees commodity and
options trading to protect markets from fraud and manipulation.
The lawsuit, filed in federal court in Houston on behalf of
people who bought Enron securities from October 1998 through November this
year, alleges that the named executives and board members engaged in a
three-year pattern of fraud and deception that caused Enron share prices to
fall from a high of about $90 a year ago to less than a dollar.
The suit claims that during that time, the defendants sold $1.1 billion in stock, all the while hiding the
company's true financial condition.
Amalgamated's lawyers wanted Rosenthal to approve a
temporary restraining order freezing those gains so the issue could be
investigated further.
Amalgamated Bank's lawsuit is among about 60 lawsuits filed on behalf of shareholders
as well as employees who watched their 401(k) accounts shrivel because the
company froze them just before the shares started tumbling.
Amalgamated claims it
lost more than $10 million in the meltdown, and the suit is seeking $25 billion
in damages.
The bank is being represented by San Diego-based Milberg Weiss Bershad Hynes
& Lerach LLP.
The other suits were put on hold when Enron filed one of the
largest Chapter 11 reorganizations in history on Sunday. The Amalgamated suit differs in that it names only individual
executives and board members as defendants -- not the company itself.
Lawyers for the defendants said it would be a monumental task for their clients to
liquidate any real estate, stocks, or other assets bought with proceeds from
sales of Enron stock so the money could be frozen.
They also challenged
whether board members or some managers should be held equally liable as top
executives,
and said many records the plaintiffs' lawyers want to investigate are owned by
Enron -- not the defendants.
``The management at Enron is, across the board, bitterly
disappointed at the failure of this company,'' said Robin Gibbs, who represents
Gramm and other defendants. He called an asset freeze ``inappropriate and
unwarranted.''
William Lerach, one of the bank's attorneys, argued that at least some executives are flight risks.
Lerach said he had heard rumors that former Enron chief financial officer
Andrew Fastow had recently bought a plane ticket to Israel, and that former
chief executive Jeff Skilling had been in Brazil.
Fastow's lawyer, Craig Smyser, said Fastow is in the United
States, though he appears in public less and less because he and his family
have received death threats since he was fired from Enron in October. Smyser
also said Fastow bought 10,000 shares of Enron stock in August, and hasn't sold
any shares since November last year.
``Mr. Fastow is as distraught as anyone with the fall of
Enron,'' Smyser said.
Skilling's lawyer, Jeffrey Kilduff, said Skilling was in
Houston last week and this week and Lerach was repeating a rumor[100] about a trip to Brazil. Kilduff said Skilling still owns 1.8 million shares
of Enron stock and had sold shares as
part of a program to sell 10,000 shares per week.
``The notion that he left the company when he saw the
writing on the wall is simply rumor,[101] '' Kilduff said.
Rosenthal didn't address Lerach's flight risk argument.
Just months ago Enron was the country's seventh largest
company in terms of revenue. But investors and traders evaporated after the
company in October revealed questionable
partnerships, at least two run by Fastow, that helped keep billions of dollars
in debt off its books and Enron acknowledged it overstated profits for four
years.
The swift collapse has launched investigations by the
Securities and Exchange Commission, Labor Department, Justice Department and a
congressional committee.
Enron shares closed at 75 cents Friday, up 9 cents or 13.6
percent, on the New York Stock Exchange.
* * * * *
Enron Workers Sue as
Savings Evaporate[102]
HOUSTON (Reuters) - After climbing utility poles in all
kinds of weather for 35 years, Roy Rinard was hoping to retire in a few years,
but that was before the collapse in
Enron Corp.'s stock price devoured his retirement savings.
``I'm basically wiped
out,'' said Rinard, 54, who works for Portland
General Electric, an Oregon utility company acquired by the Houston-based
energy trading giant in 1997.
``I'm right back to ground zero and I'll have to go on
working as long as I can,'' said Rinard, who suffers from arthritis and a lung
condition that leaves him short of breath.
Encouraged by Enron's
then-strong performance and the company's bullish view of its future prospects,
Rinard moved all of the money invested in his 401(k) retirement account into
Enron stock earlier this year.
But it proved to be a costly decision as the value of his
account fell from $470,000 a year
ago to around $40,000 today.
Rinard now hopes a
lawsuit filed in U.S. District Court in Houston will recover at least some of
his money.
The suit, filed on behalf of Enron employees by
Seattle-based law firm Hagens Berman, alleges that Enron breached its fiduciary
duty by encouraging its employees to invest heavily in Enron stock without
warning them of the risks of doing so.
Enron's stock, which peaked at $90 in August 2000, closed at
$4.74 on Friday, after falling sharply in recent weeks amid a series of
damaging financial disclosures.
A broadly similar suit filed by the Keller Rohrback law
firm, also Seattle based, alleges that another Enron employee, Pamela Tittle,
lost $140,000 on Enron stock held in her retirement account.
According to that suit, the Enron retirement savings plan had assets worth $2.1 billion at the end
of last year, including $1.3 billion, or 62 percent of the total, in Enron
stock. . . .
Hagens Berman plans to
seek class-action status for its suit and says 21,000 Enron employees could be
eligible to join it.
The suit alleges that
Enron “locked down” 401(k) retirement accounts on Oct. 17, preventing employees
from changing the investments they held in their accounts until Nov. 19.
During that period Enron reported its first quarterly loss
in four years and took a charge of $1.2 billion against stockholders' equity as
a result of off-balance-sheet deals that would later come under investigation
by U.S. regulators.
In that time, Enron
shares fell from $30.72 at the close of trading Oct. 16 to $11.69 on Nov. 19.
Enron spokeswoman Karen Denne said employees' access to the
accounts was blocked as part of a previously planned change in the
administration of the retirement plan and that the measure was in effect from
Oct. 26. to Nov. 19.
Steve Lacey, a 45-year-old emergency repair dispatcher who
has worked for Portland General Electric for 21 years, said the measure came at
a time when bad news about Enron was flying thick and fast, driving the stock
price down at a dizzying pace.
``We couldn't take our money out of Enron stock into another
portfolio. Basically they had us locked
down to where we had no say over our own future,'' he said.
Lacey declined to quantify his own losses but said he and many of his colleagues had invested
most of their retirement funds in Enron stock because it had performed better
in the past than the other investments available under the Enron plan.
Denne said Enron
employees were normally able to choose among 18 different investment options,
but Enron's matching contributions were always made in the form of its own
stock.
Lacey said he felt sorry for older colleagues at Portland
General who had suffered a heavy financial blow just before they were due to
retire, adding that he was only beginning to realize how serious the
consequences could be for himself.
``My goal was to have an extremely comfortable retirement
and that may be a little clouded now,'' he said.
* * * * *
Shareholder and
Securities Suits Abound in Response to Enron's Financial Woes[103]
Weeks before Enron Corp.'s stock slid to single-digit depths
and rival Dynegy Inc. agreed to acquire the formerly high-flying energy trading
company, plaintiffs' lawyers representing disgruntled shareholders were moving
in for the kill.
The first shareholder
suit was filed in state court in Houston on Oct. 17, more than three weeks
before the deal with Dynegy was announced on Nov. 9. At least a dozen more have
been filed since then in Houston. While the defendants vary from suit to suit,
they include the Houston-based corporation and affiliated companies, and
various officers and directors.
Another state court suit
names Vinson & Elkins, Enron's longtime outside counsel, and another
names Arthur Andersen, its accounting firm.
Lawyers also have been
running down to the federal courthouse in Houston, filing securities fraud
class action suits, and some derivative suits similar to the litigation filed
in state court. Plaintiffs' lawyers representing angry shareholders also have
filed another dozen or so derivative suits in state court in Oregon, the state
where Enron is incorporated.
The deal, calling for Dynegy to acquire Enron for about $9
billion in stock and $15 billion in assumed debt, is without question a huge
transaction. It's big news in Houston, where Enron employs thousands and pays outside counsel tens of millions in
fees each year. The acquisition itself will keep dozens of lawyers busy for
at least six to nine months.
The litigation is likely to keep lawyers busy a lot longer.
While the deluge of shareholder suits isn't unexpected --
it's becoming routine whenever a corporation's stock starts to slip --
securities litigation by definition is complicated and costly and likely to
drag on for years after Enron's name is just a memory in Houston.
"We've got a
monster here being created," says Houston lawyer Jeffrey Kaiser, who filed
at least five suits in state court in Houston, including the suits against Vinson
& Elkins and Arthur Andersen.
"It's going to be
interesting, keep me busy for a while," says Stephen Susman, Enron's
defense attorney in the shareholder suits. Susman says he's taking an unusual
position as a defense attorney in the litigation.
Houston plaintiffs' lawyer Marian Rosen is another Houston
attorney assuming an unaccustomed role in the litigation. Instead of
representing plaintiffs, Rosen and her husband, Fred, are the plaintiffs in one
of the shareholder derivative suits filed in state court.
"As a shareholder I feel that we have a cause of
action," says Rosen, who played a similar role nearly a decade ago in
other litigation involving Compaq Computer Corp., a suit that eventually
settled.
"When they say they are going back to 1997 [to restate
earnings] because there have been improprieties as far as accounting is
concerned, it raises a lot of issues," says Rosen, of Marian Rosen &
Associates.
Rosen's lawyer is George Fleming, of Fleming &
Associates in Houston, who also represented her in the earlier Compaq
litigation. . . .
A lawyer with experience
defending officers and directors in shareholder litigation, Dallas' James
Coleman Jr., a partner in Carrington Coleman Sloman & Blumenthal, says the
suits are always costly because so much is at stake, even if the directors did
nothing wrong.
"A lot of times, there's nothing at stake, they
[plaintiffs] just want to get some money. A lot of times, it's very serious.
That's when the rubber meets the road. You have to make a decision on whether
or not you can defend it and figure out what that's going to cost," says
Coleman, who is commenting generally.
LOTS OF
LAWYERS
The stock of Enron, a
marketing and trading company, has fallen by about 80 percent since the
beginning of the year, going as low as $7 a share. In recent weeks, the stock
has been depressed by revelations of some questionable financial transactions
involving some limited partnerships set up by Enron's former chief financial
officer, Andrew Fastow, and news of a formal investigation by the Securities
and Exchange Commission. Then, on Nov. 8, in a filing with the SEC, the company
said it overstated its earnings by about $600 million from 1997 through 2000
and the first two quarters of 2001.
"This is one of the hottest stories in the country
right now. One doesn't have to be a drop-dead idiot to figure that out,"
says Richard Zook, whose firm has filed two suits in state court on behalf of
investors and filed the first securities fraud class suit in federal court in
Houston.
In that suit, Patricia
D. Parsons v. Enron Corp., et al., No. H01-3903, filed on Nov. 13, the
plaintiff is suing Enron, Fastow, chairman Kenneth Lay, former president
Jeffrey Skilling and Arthur Andersen. Parsons alleges the defendants engaged in
securities fraud by failing to reveal full information about the company's
finances, which led to an artificial inflation of the company's stock price
during the class period of Oct. 22, 1998, through Nov. 8. She seeks class
certification and unspecified actual and punitive damages.
But the shareholder derivative suits are a little different.
Rosen's suit, for instance, is a shareholder derivative suit that seeks to
recover damages on behalf of the nominal defendant, Enron. Her suit seeks
damages from 13 officers and directors for their alleged failure to provide
oversight into some transactions between Enron and the limited partnerships set
up by Fastow. She alleges breach of fiduciary duty of loyalty and breach of
fiduciary duty of due care and seeks an accounting of all transactions between
Enron, Fastow and the investment partnerships.
Dynegy's plan to acquire Enron in a deal valued at about $23
billion is proving a big project for at least four firms. Enron is using Vinson
& Elkins and Weil, Gotshal & Manges for the deal, while Dynegy's
lawyers are from Baker Botts and Akin, Gump, Strauss, Hauer & Feld. That's
in addition to large teams of in-house lawyers from both Houston-based
companies.
The litigation is also providing work for many lawyers.
Susman, a partner in Susman Godfrey in Houston, is defending Enron Corp., while
Robin Gibbs, a partner in Gibbs & Bruns in Houston, represents directors
named in the suits. Both firms have done work for Enron in the past.
Craig Smyser, a partner in Smyser Kaplan & Veselka in
Houston, is representing Fastow, along with Richard Drubel, a former Susman
Godfrey partner who is now a partner in the New Hampshire office of Boies,
Schiller & Flexner.
For the SEC investigation, Smyser says Fastow has also hired
Lawrence Iason, a partner in New York's Morvillo, Abramowitz, Grand, Iason
& Silberberg, and David Gerger, a partner in Foreman, DeGeurin, Nugent
& Gerger of Houston.
A group of plaintiffs' lawyers from Houston are working on
the suits filed in state and federal court, along with a number of firms from
elsewhere that have national practices in the securities litigation arena.
Daniel Gartner, of the Gartner Law Firm in Houston, filed
the first suit, Martin Gubernick v.
Kenneth L. Lay, et al., No. 2001-53605. It was assigned to 152nd District
Judge Harvey Brown, who will hear a motion to consolidate in December. Gartner
says he is working with lawyers from Shiffrin & Barroway in Bala Cynwyd,
Pa.
Also on Oct. 17, W. Kelly Puls, a partner in Puls, Taylor
& Woodson of Fort Worth, filed a suit; he is working with lawyers from New
York firms Abbey Gardy and Law Offices of James V. Bashian. Puls later filed
another suit with lawyers from Abraham & Paskowitz of New York.
Other teams include partners Marc Stanley and Roger Mandel
and associate Martin Woodward of Dallas' Stanley, Mandel & Iola, who are
working with lawyers from Hulett Harper and Emge & Associates, both of San
Diego; and Zook and his partner Tom Cunningham, both of Cunningham, Darlow,
Zook & Chapoton of Houston, who are working with Wolf Popper of New York.
Also, Thomas Bilek, a partner in Hoeffner, Bilek &
Eidman of Houston, is working with New York firms Pomerantz Haudek Block
Grossman & Gross and Jaroslawicz & Jaros on one suit filed in state
court in Houston. He also is working with Bernstein Liebhard & Lifshitz of
New York on another, and with Law Offices of Brian M. Felgoise of Philadelphia
on a third one, according to a list of the litigation included with the motion
to consolidate.
Kaiser, a partner in Kaiser & May, and Robert Fritz, of
Fritz Law Firm in Houston, filed five suits together, including the suits
against Vinson & Elkins and Arthur Andersen.
THE FUTURE
The eventual acquisition of Enron by Dynegy is far from
music to the ears of several large Houston firms that do a lot of work for
Enron. According to Texas Lawyer's
annual "Who Represents Corporate Texas?" report, which was published
in September, Enron had 216 lawyers. A
list of the corporation's major outside firms included Vinson & Elkins,
Bracewell & Patterson and Andrews & Kurth and litigation boutiques
Susman Godfrey and Gibbs & Bruns.
Enron has traditionally
been Vinson & Elkins' largest client, but it's also the largest client for
Bracewell and a major client at Andrews & Kurth.
While all firms clearly continue to do work for Enron, the
volume of that work may decline if Dynegy is successful in its plan to acquire
Enron in the third quarter of 2002.
Bracewell's managing partner
Patrick Oxford says the firm has done work for Enron for 15 years, including a lot of
regulatory and public policy work in Washington, D.C., and is currently representing the joint lending
team of JPMorgan Chase and Citibank in a financing for Enron.[104] (Vinson & Elkins represents Enron in
connection with the financing.)
Oxford says Enron
provides slightly more than 5 percent of Bracewell's billings and
"that's going to be missed." Bracewell has done work for Dynegy, he
says.
Dynegy hasn't been a client of Andrews & Kurth, says
Howard Ayers, the firm's managing partner, but "they are well known to us
and we are well known to them."
"Our posture is Enron is a very good client. The merger
is at least nine months away," Ayers says.
He says Enron is
"one of our very good and significant clients."
Harry Reasoner, Vinson
& Elkins' managing partner, wouldn't say if Enron is currently the firm's
largest client, but he says it provides "somewhat less than 10 percent of
the firm's billings."
James Derrick, Enron's
executive vice president and general counsel, was a partner in Vinson &
Elkins.
The firm also does considerable work for Dynegy.
"I don't have any concern about our prospects for the
future. As you know, we were named the pre-eminent energy law firm in the world
and we will continue to try to compete for opportunities," he says.
Vinson & Elkins has
even more at risk than a major client. In Shirley
J. Pratz, et al. v. Vinson & Elkins, No. 2001-57195, three Enron
shareholders allege lawyers in the Houston-based firm gave advice to Enron in
connection with the limited partnerships that was "falsely representing
the propriety and legality of such transactions to Enron and the
plaintiffs."
The suit also alleges
that from 1997 through 2001, Enron executives including Fastow, former
president Skilling and chairman Lay used the five limited partnerships to
benefit financially at the expense of Enron and its shareholders.
The plaintiffs seek
class action status and allege fraud, negligent misrepresentation, legal
malpractice, breach of fiduciary duty and breach of implied and express
warranties against Vinson & Elkins. They seek $35 million in actual
damages, along with interest and punitive damages.
Reasoner says, "It
is significant of the many suits that have been filed by sophisticated and
outstanding lawyers, only one suit was filed naming the firm on a limited
matter and we believe there is no legitimate basis for it."
Reasoner says it's too soon to say who will defend Vinson
& Elkins.
Vinson
& Elkins has received most of the early attention, but clearly other firms
were involved with Enron and related entities.
Recent reports indicate that it was not Vinson & Elkins, but other
law firms that created the Enron partnerships.
Will creditors or shareholders be intrigued by another law firm that
represented both Enron and some of Enron’s lenders? What are the risks? In
hindsight, will lawyers decide that representing Enron wasn’t worthwhile after
all? Will lawyers refuse to represent
potential clients that are similar to Enron in the future? Will lawyers quit practicing law? Should lawyers quit practicing law?
Millions, Billions,
Trillions
Locke
settled for tens of millions. Enron
involves tens of billions. Is Enron
unique? No. If Enron hadn’t failed, but had been acquired by Dynergy, the
chickens might not have come home to roost.
Other corporations have written off billions. Some have written off tens of billions. If they don’t fail, there can be little apparent
consequence. But is there a risk? Sure.
If billions of dollars must be written off because “assets” no longer
have a value equal to book value, people can wonder if the representation of
value was a misrepresentation. Consider the following news. Do you think that any misrepresentations
were made? If so, were any lawyers
negligent in not preventing, correcting, or announcing the
misrepresentations? Might there be
liability? Will CNN broadcast, and Time
Magazine publish, stories on misrepresentations by their parent corporation and
losses of tens of billions of dollars of dollars of stockholder value?
AOL to
take $40-bln to $60-bln charge [105]
AOL Time Warner, the
world's largest media and Internet company, told securities analysts late
Monday that it would take a charge of $40 billion to $60 billion in the first
quarter to write down goodwill and braced Wall Street for more tough times
ahead. .
. .
The conference call marked a contrast in tone
from events in 2001. AOL Time Warner
maintained an optimistic air throughout much of 2001 . . . Reeling from the
vicious slowdown in advertising spending by American companies, AOL Time Warner
has twice had to reduce its growth expectations over the past year.
Meanwhile, the
writedown lowers the worth of the goodwill, which is the difference between the
acquisition price of a company's asset and its book value.
It was introduced when America Online and Time
Warner engaged in the $108 billion merger 12 months ago. The charge may yet surpass JDS Uniphase's record of $50 billion in fiscal 2001.
US set for $1 trillion
of Internet writeoffs[106]
US COMPANIES could be forced to write off a
total of $1 trillion in the first three months of this year to cover the cost
of acquisitions made at the peak of the Internet boom, analysts said yesterday.
Under new accounting
rules that have already forced AOL Time Warner to write off up to $60 billion,
US companies will have to give details of the amount they overpaid for
acquisitions during the boom of the late 1990s and early 2000.
The write-offs will be
unprecedented in stock market history and will result in US businesses
reporting losses of a magnitude never seen before. Although the write-offs
are book-keeping exercises that do not involve any cash, they will prove to be
embarrassing for many chief executives.
In AOL’s case, the
write-off suggests that Gerald Levin, the former head of Time Warner, did not
get a good deal when he merged the media group with AOL. Mr Levin is to stand
down as chief executive of AOL in May.
The new accounting rules, introduced by the
Financial Accounting Standards Board (FASB) on January 1, force US companies to
declare any fall in the value of “goodwill” they paid for acquisitions.
Goodwill is the premium paid for an acquisition over and above what accountants
call the “fair value” of its assets.
The fall in the stock market value of high-tech
companies since early 2000 has resulted in hundreds
of billions of dollars of this goodwill being wiped out. But before the new
accounting rules were introduced US companies could spread goodwill charges
over a period of up to 40 years, effectively making it irrelevant. Now companies have to report changes to
goodwill annually.
According to Alfred King, vice-chairman of
Valuation Research, who has advised the Senate on accounting standards, AOL’s
write-off will “open the floodgates”. He and other analysts believe the total could reach $1 trillion.
Other companies expected to make big write-offs
include Viacom, the media group, and the telecoms companies AT&T and Qwest
Communications. According to recent filings with the Securities and Exchange
Commission, Viacom has about $72 billion
of goodwill on its books, while AT&T has $25 billion and Qwest $34
billion. Analysts argue that the value of this goodwill has been severely
reduced over the past year.
Bob Willens, an accounting analyst with Lehman
Brothers, said: “If you add it all up it’s
pretty easy to get to $1 trillion. I think there will be a certain amount
of embarrassment about it. When you
write off goodwill you acknowledge that the acquisition is not going to be as
successful as you thought. But I don’t think it will have much of an effect
on stocks because it is already priced into the market.”
Mr Willens added that he expected most companies
to get their write-offs out of the way in the first quarter. “Companies have
until the end of the year to do it,” he said. “But most will do it in the first
quarter because otherwise they will have to go back and restate their results.”
As
you read the following column by political operative and commentator Dick
Morris, consider whether the discussion of the “independence” of an auditor
that earns big fees applies to a law firm that earns big fees from a client,
and then is asked to conduct and “independent investigation” of the
client. In other word, does the same
concept which applies to AA apply to V&E?
Will the Enron fiasco and other fiascos cause people to ask this
question and “follow the money” to make claims against lawyers? Will V&E, Locke, and others lobby for
new Texas laws to protect lawyers from liability for misrepresentations and
client fraud? Accounting firms that
have affiliated consulting or back office entities are criticized as lacking
independence. Do the same concepts
apply to law firms who become too dependent on a client to provide objective
advice? Should law firms reconsider the
range of services they sell to one client?
Is a “full service” law firm impaired as counsel and vulnerable to suits
because it does too much for a client?
Some
have suggested that Enron is the end of the move to multidisciplinary practice
in which lawyers, accountants and others work for the same entity. Can an argument be made that the split of
authority and responsibility is part of the problem and that the solution is to
combine the lawyer and accountant functions in one entity that will clearly be
knowledgeable and responsible. If the
accountants blame the lawyers and the lawyers blame the accountants, would putting
them together end the accusations, create clear responsibility, and reduce the
problems?
TOP DEM
OPENED THE DOOR[107]
Democrats seeking to blame President Bush and the GOP for
the Enron scandal need to look more closely at their own house - especially at
the work done by the former Democratic National chairman, Sen. Christopher J.
Dodd.
While many candidates of both parties have received campaign
contributions from Enron and its "independent auditor" Arthur
Andersen, very few have passionately fought their cause in Washington as
diligently as Chris Dodd.
It was on account of
Dodd's tireless efforts that Arthur Andersen was able to act as both
"independent auditor" and management consultant to Enron for $100
million a year. That role - so fraught with conflict of interest that it makes
a joke of the concept of outside auditors protecting shareholders - has been
identified as one of the major causes of the debacle.
In 1995, it was Dodd who
rammed through legislation, overriding President Clinton's veto, to protect
firms like Andersen from lawsuits in cases just like Enron. The Dodd bill
limited liability for lawyers and accountants for "aiding and
abetting" corporate fraud by their clients, making them liable only for
their "proportionate" share of the blame, rather than for the entire
fraud.
So, if an accounting
firm kept secret the true picture of a corporation's finances, it would only be
liable for part of the total fraud on
the investors.
For shareholders, this law is awful - the fraudulent company
has usually lost nearly all its value before the shareholder learns about it,
so there's nothing left. For the accounting firm, though, it's great - the
shareholders can't pin the total losses on you.
And from Andersen's point of view, it was really wonderful,
because they were already facing thousands of lawsuits for their role in
securities fraud.
A grateful accounting industry showed its appreciation to
Sen. Dodd by contributing $345,903 to his campaign between 1993 and 1997. Every
major accounting firm pitched in - Deloitte & Touche, Ernst & Young,
Coopers & Lybrand, Peat Marwick, Price Waterhouse. (Dodd has received more
money from Arthur Andersen than any other Democrat - $54,843.)
From '93 to '97, Dodd also received $523,551 from the
securities industry, which was thrilled with other provisions of the '95 law
that limited liability from securities lawsuits, notably for firms that failed
to live up to their predictions about future earnings.
Consumer groups had opposed the legislation - the U.S.
Public Interest Research Group labeled it "The Crooks and Swindlers Protection Act."
But Dodd's services to Andersen didn't stop there. Every
analysis so far of the Enron scandal lays much of the blame on the conflict of
interest that Andersen faced in auditing and consulting for Enron at the same
time.
Auditors must be independent to assure that companies do not
report misleading financial data to stockholders. Once Andersen was getting up to $100 million a year in consulting fees
from Enron, does anyone really believe that they would have blown the whistle
on the firm's shady books?
But when the SEC tried to bar this practice, so ridden with
conflict of interest, it was Chris Dodd, along with Rep. Billy Tauzin (now
R-La., though a Democrat until August 1995), who according to the Associated
Press "brokered a deal" to stop the SEC action.
As a result of Dodd's intervention, the SEC agreed not to
issue a ban on the practice of auditing and consulting for the same client.
Such practices have led to what Sen. Barbara Boxer (D-Calif.) called "the
kind of hide-the-debt shell game that took place at Enron."
In an ultimate act of
hypocrisy, Dodd has now actually introduced legislation to ban accounting firms
from doing consulting for companies it audits - precisely the same policy he
killed when the SEC was considering it.
Now that this issue is in the public eye, Dodd is pretending
to be an advocate for the shareholders. But the Enron workers who lost their
pensions and the Enron shareholders who lost their portfolios know it is too
late for them. And Arthur Andersen knows it makes no difference to them now.
Reflections
Lawyer
liability for the Texas Chicken Feed Tort
of Negligent Misrepresentation is a reality. Claims are increasing in number and size. The fact that claims are being settled for
millions to avoid trial indicates the severity of the problem.
Some
lawyers who took this course in its earlier editions said that they were
shocked and had no idea that there was such a nutty concept as lawyers being
liable for representations to nonclients.
Others said that this was simply a routine restatement of standard
concepts that all lawyers should know.
When you are visiting with other lawyers, you might find it enlightening
to ask the others whether they think that there is such a concept. The responses might be interesting.
Thank You
Thank you for your business! We hope you found this course educational,
interesting, and useful. Please go to www.YouKnowItAll.com
It you find
Texas goat cases enlightening, much more on Pancho's case is in
YouKnowItAll.com’s course on no evidence
summary judgments and a “messy goat” case is in YouKnowItAll.com’s course
on Texas judicial immunity.
[1] Federal
Land Bank Association of Tyler v. Sloane et. al. 825 S.W.2d 439 (Tex. 1991)
[2] Lesikar
v Rappeport 33 S.W.3d 382 (Tex.App. Texarkana 2000)
[3] The full name
of Hight v. Dublin Veterinary Clinic is Marcus
W. Hight and Punk Carter d/b/a/ Hight/Carter Goat Partnership v. Dublin
Veterinary Clinic, a Professional Corporation; J. Dennis Reed, D.V.M.; John
Edwards and Jackie Edwards d/b/a/ Erath General Genetic Services 22 S.W.3d 614 (Tex.App.-Eastland 2000)
[4]
By Janet Elliott, Texas Lawyer, April 24, 2000.
[5] Federal
Land Bank Association of Tyler v. Sloane et. al. 825 S.W.2d 439 (Tex. 1991)
[6]
All rights reserved.
[7]
Tax lawyers and others who relish acronyms and refuse to use real words
may refer to “The Chicken Feed Tort of
Negligent Representation” as TCFNR
(pronounced tooookfurner).
[8]
The bank officer denied that he said the loan was approved and work
could begin. His statement may have been true. However, in the legal system the
“facts” are what the court says they are. Thus, we deal with the “facts” found
or stated by the court, as distinct from the “truth.”
[9]
In today’s politically correct era, chicken coops are called chicken
houses or in Texas, chicken ranches. However, we are not politically correct,
at least with respect to chickens.
[10] “See,
e.g., Cook Consultants, Inc. v. Larson, 677 S.W.2d 718 (Tex.App.—Dallas
1984), rev'd on other grounds, 690
S.W.2d 567 (Tex. 1985), on remand,
700 S.W.2d 231, 234 (Tex.App.—Dallas 1985, writ ref'd n.r.e.); Traylor v. Gray, 547 S.W.2d 644, 656
(Tex.Civ.App.—Corpus Christi 1977, writ ref'd n.r.e.); Rosenthal v. Blum, 529 S.W.2d 102, 104-05 (Tex.Civ.App.—Waco 1975,
writ ref'd n.r.e.) (citing an earlier draft of the Restatement).”
[11]
footnote by the court omitted
[12]
footnote by the court omitted
[13] footnote
by the court:
“The
petition states:
“More
particularly, Plaintiffs expended approximately $15,000.00 in site preparation
work for construction of the broiler houses, which were never built, and which
has further resulted in a reduction in the value of their property because of
the resulting damage to their hay pastures. Plaintiffs were further deprived of
the opportunity to enter into a contract with Pilgrim’s Pride Corporation for
the feeding of broiler chickens, as a result of which they would in all
reasonable probability have realized the profits of approximately $12,000.00
per year for at least five (5) years. Plaintiffs further suffered mental
anguish and emotional distress and upset as the result of Defendant’s negligent
conduct, all to their damage in the total sum of ONE HUNDRED THOUSAND
($100,000.00) DOLLARS, for which they come now and sue.”
[14] footnote by the court:
“We have not been referred to any case
rejecting the limitation of damages in Restatement section 552B to pecuniary
loss. On the other hand, a number of courts have adopted or cited with approval
the Restatement section 552B delineation of damages available for negligent
misrepresentation. See, e.g., Coastal
(Bermuda) Ltd. v. E.W. Saybolt & Co., Inc., 826 F.2d 424, 432-33 (5th
Cir. 1987); Cunha v. Ward Foods, Inc.,
804 F.2d 1418, 1423-26 (9th Cir. 1986); Rosales
v. AT & T Information Systems, Inc., 702 F.Supp. 1489, 1501 (D.Colo.
1988); Robinson v. Poudre Valley Federal
Credit Union, 654 P.2d 861, 863 (Colo.Ct.App. 1982); Shaffer v. Earl Thaker Co., Ltd., 6 Haw.App. 188, 716 P.2d 163,
165-66 (1986); Danca v. Taunton Savings
Bank, 385 Mass. 1, 429 N.E.2d 1129, 1134 (1982); Law Office of L.J. Stockler, P.C. v. Rose, 174 Mich.App. 14, 436
N.W.2d 70, 86 (1989); Frame v. Boatman’s
Bank, 782 S.W.2d 117, 122 (Mo.Ct.App. 1989); Onita Pac. Corp. v. Trustees of Bronson, 803 P.2d 756, 763-65
(Or.Ct.App. 1990); First Interstate Bank
of Gallup v. Foutz, 107 N.M. 749, 764 P.2d 1307, 1309-10 (1988).
“Several courts have allowed mental
anguish damages in connection with a negligent misrepresentation without
discussing section 552B of the Restatement or the policy reasons for limiting
recovery to pecuniary loss. See Lawyers
Title Ins. v. Vella, 570 So.2d 578, 585 (Ala. 1990); Dousson v. South Central Bell, 429 So.2d 466 (La.Ct.App. 1983), writ not considered, 437 So.2d 1135 (La.
1983); Little v. York County Earned
Income Bureau, 333 Pa.Super. 8, 481 A.2d 1194 (1984), appeal dism'd, 510 Pa. 531, 510 A.2d 351 (1986); Vance v. Vance, 408 A.2d 728 (Md.
Ct.App. 1979). At least two courts have held that damages for mental anguish
are not available in a suit for negligent misrepresentation when there is no
accompanying physical injury. Niblo v.
Parr Mfg., Inc., 445 N.W.2d 351, 354 (Iowa 1989); Crowley v. Global Realty, Inc., 124 N.H. 814, 474 A.2d 1056, 1058
(1984). The parties have not raised and we do not here resolve whether other
sections of the Restatement allow recovery of mental anguish damages for
negligent torts. See Little, 481 A.2d
at 1201-02; Hubbard v. Allied Van Lines,
Inc., 540 F.2d 1224, 1230 (4th Cir. 1976).”
[15]
“We confine our holding to common-law actions for negligent
misrepresentation, and express no opinion on actions based upon a statute. See Luna v. North Star Dodge Sales, Inc.,
667 S.W.2d 115 (Tex. 1984); How Ins. v.
Patriot Financial Services, 786 S.W.2d 533 (Tex.App. — Austin 1990, writ
denied).”
[16] Federal Land Bank Association of Tyler v.
Sloane et. al. 825 S.W.2d 439 (Tex. 1991).
[17] Manifest awareness of reliance and intention to create reliance
are required. Negligence relates to the
facts misrepresented. Creating reliance is intentional, not negligent. Or is
it? Compare this statement that the
reliance is intended with the court’s suggestion to lawyers that they limit
reliance. Either a lawyer intends reliance or doesn’t intend reliance. If
reliance is intended, how does that square with the court’s suggestion that the
lawyer state that the lawyer can limit liability by disclaiming reliance. It would seem that either reliance is sought
or it is not.
[18]
See Horizon Fin., F.A. v. Hansen, 791 F. Supp. 1561, 1574 (N.D. Ga.
1992) (citing Eisenberg v. Gagnon, 766 F.2d 770 (3d Cir. 1985), and Robert
& Co. Assocs. v. Rhodes-Haverty Partnership, 300 S.E.2d 503 (Ga. 1983)).
[19] See Mehaffy, Rider, Windholz & Wilson
v. Central Bank Denver, N.A., 892 P.2d 230, 236 (Colo. 1995); Kirkland Constr.
Co. v. James, 658 N.E.2d 699, 700-02 (Mass. App. Ct. 1995).
[20]
See FSLIC v. Texas Real Estate Counselors, Inc., 955 F.2d 261, 268 n.13
(5th Cir. 1992); see also Horizon, 791 F. Supp. at 1574; Mehaffy, 892 P.2d at
236; Kirkland, 658 N.E.2d at 700-02.
[21]
See Cook, 700 S.W.2d at 234.
[22]
953 S.W.2d 405
[23] Author’s note: Sometimes the author of this course finds it
helpful to create a conceptual diagram of a complicated sentence. In the case
of §552(2), even when diagramed, some of the concepts are not clear. The day
when concepts will be clearly stated in the restatement has not arrived. Still,
this diagram of §552(2) may be useful.
Under
section 552(2),
liability
is limited to
loss
suffered:
(a) by the
person
or
one of a limited group of persons
for whose benefit and
guidance
[one] intends to supply the information
or
knows
that the recipient intends to supply it; and
(b) through reliance upon it
in a transaction
that [one]
intends the
information to influence
or
knows that
the recipient so intends
or in a substantially
similar transaction.
[24]
This is a key concept. How does
a lawyer disclaim reliance if the lawyer intends reliance?
[25]
See, e.g., Molecular Tech. Corp. v. Valentine, 925 F.2d 910, 916 (6th
Cir. 1991); Horizon, 791 F. Supp. at 1574; Petrillo, 655 A.2d at 1361-62; Mark
Twain, 912 S.W.2d at 540; see also Tex. Disciplinary R. Prof’l Conduct 2.02
cmt. 6.
[26]
See, e.g., Tex. Disciplinary R. Prof’l Conduct 4.01 cmt. 1
(differentiating between representations of material fact and negotiating
positions, specifically in the context of settlement claims). . . .
[Author’s
Note. Rule 4.01 and comment 1 to it are the following.
V.
NON-CLIENT RELATIONSHIPS
Rule
4.01 Truthfulness in Statements to Others
In
the course of representing a client a lawyer shall not knowingly:
(a) make a false statement of material
fact or law to a third person; or
(b) fail to disclose a
material fact to a third person when disclosure is necessary to avoid making
the lawyer a party to a criminal act or knowingly assisting a fraudulent act
perpetrated by a client.
Comment:
False
Statements of Fact
1. Paragraph (a) of this Rule refers to
statements of material fact. Whether a particular statement should be regarded
as one of material fact can depend on the circumstances. For example, certain
types of statements ordinarily are not taken as statements of material fact
because they are viewed as matters of opinion or conjecture. Estimates of price
or value placed on the subject of a transaction are in this category.
Similarly, under generally accepted conventions in negotiation, a partys
supposed intentions as to an acceptable settlement of a claim may be viewed
merely as negotiating positions rather than as accurate representations of material
fact. Likewise, according to commercial conventions, the fact that a particular
transaction is being undertaken on behalf of an undisclosed principal need not
be disclosed except where non-disclosure of the principal would constitute
fraud.]
[27]
The court’s statement implies that representations of fact to adverse
parties during litigation are actionable. But see Mitchell.
[28]
“This formulation limits liability to situations in which the attorney
who provides the information is aware of the nonclient and intends that the
nonclient rely on the information. In other words, a section 552 cause of
action is available only when information is transferred by an attorney to a
known party for a known purpose.” McCamish 991 S.W.2d @ 794
[29]
“This formulation limits liability to situations in which the attorney
who provides the information is aware of the nonclient and intends that the
nonclient rely on the information. In other words, a section 552 cause of
action is available only when information is transferred by an attorney to a
known party for a known purpose.”McCamish 991 S.W.2d @ 794 (Tex. 1999)
[30]
This representation by the Texas Supreme Court may not be one to rely
upon.
[31] Safeway
Managing Gen. Agency, Inc.., for State and County Mutual Fire Insurance
Company, v. Clark & Gamble, Kenneth
L. Clarke, Sr., P.C., Kenneth L. Clark, William J. Gamble, and John R. Wondra,
985 S.W.2d 166 (Tex. App.-San Antonio 1998, no pet.)
[32] Safeway
Managing Gen. Agency, Inc.., for State and County Mutual Fire Insurance Company,
v. Clark & Gamble, Kenneth L.
Clarke, Sr., P.C., Kenneth L. Clark, William J. Gamble, and John R. Wondra,
985 S.W.2d 166 (Tex. App.-San Antonio 1998, no pet.)
[33] F.E. Appling Interests v. McCamish, Martin,
Brown & Loeffler, 953 S.W.2d 405, 408 (Tex.App.—Texarkana 1997, pet.
granted).
[34] Mitchell seems to say the opposite.
[35] Mitchell found no such duty.
[36] Id.;
RESTATEMENT (SECOND) OF TORTS § 552 (1977).
[37] Mitchell found no such duty.
[38] Sears, Roebuck & Co. v. Meadows, 877
S.W.2d 281, 282 (Tex. 1994).
[39] See Appling,
953 S.W.2d at 408; see also Querner v. Rindfuss, 966 S.W.2d 661, 667
(Tex.App.—San Antonio 1998, pet. denied); Burnap v. Linnartz, 914 S.W.2d 142,
148-49 (Tex.App.—San Antonio 1995, writ denied).
[40]
footnote by the court omitted
[41] Safeway
Managing Gen. Agency, Inc.., for State and County Mutual Fire Insurance
Company, v. Clark & Gamble, Kenneth
L. Clarke, Sr., P.C., Kenneth L. Clark, William J. Gamble, and John R. Wondra,
985 S.W.2d 166 (Tex. App.-San Antonio 1998, no pet.)
[42] Compare
the facts to Mitchell. If false
statements on behalf of a client are immune in Mitchell, why aren’t they immune in Safeway?
[43]
If a misrepresentation occurred, it did not injure Manning, Clark and
Gamble’s only client. It may have helped Manning by causing Safeway to settle.
Would the Mitchell court call this
“loyal, faithful, and aggressive representation by attorney’s engaged as
advocates” in “the public’s interest”? If not, why not?
[44]
The alleged misrepresentation only hurt Safeway. Safeway was not the
client. The client was not hurt. Since no client was damaged, and the client
may have been benefited, Safeway’s claim for malpractice and related causes are
not valid on the merits.
[45] Mitchell v. Chapman, 10 S.W.3d 810 (Tex.
App. - Dallas 2000)
[46]
McCamish also represented the
adverse party in litigation. McCamish’s alleged misrepresentation was made in
the course of settlement of that litigation.
[47]
Damage occurred.
[48]
This denial is alleged to be the representation. Such a denial is
intended to be relied upon.
[49]
This is alleged to be the truth, in contrast to the alleged
representation.
[50]
McCamish’s relationship was also adverse.
[51]
Does the public interest require exempting, and therefore encouraging
fraud or misrepresentation by lawyers or parties in litigation? Is it in the public interest to allow those
who hide the critical evidence to win a case through deceit, lies,
misrepresentations, or fraud, when they should lose on the merits. Is it in the public interest for the
plaintiff who has a valid cause of action to lose their claim because of
successful fraud? If fraud in litigation is in the public interest, the
Disciplinary Rules of Professional conduct which regulate legal ethics should
be changed to allow fraud, or promote it.
If the Dallas court is correct, McCamish should be overruled, and the
McCamish firm should be praised.
[52] The court of
appeals appears to approve of intentional as well as fraudulent misrepresentations,
lies, and fraud by lawyers on behalf of clients at the expense of adverse
parties in litigation. That is remarkable. If this conduct is not actionable as
a result of public policy, is there any limit to what a lawyer may do without
liability? The court of appeals is wrong.
Fraudulent litigation tactics are not in the public interest. Also see Rule 4.01 and the comment to Rule
4.01 that are quoted in another footnote.
[53] See Bradt v.
West, 892 S.W.2d 56, 71 (Tex. App.-Houston [1st Dist.] 1994, writ denied).
[54] This is not the issue. Negligent misrepresentation is a tort. It is
not created by the Disciplinary Rules of Professional Conduct, nor do those
rules prevent suit for the tort.
[55] Is the concept of a public remedy
inconsistent with the statement in this paragraph about “the public’s interest in loyal, faithful, and aggressive
representation by attorneys employed as advocates” or can the disciplinary
rules prohibit action that is in the public interest? Do the disciplinary rules state public policy?
[56]
If the only remedy for a lawyer’s misconduct is
professional discipline, McCamish and legal malpractice must not exist, nor
may a lawyer be criminally prosecuted for an act which violates the
disciplinary rules. The court of appeals is wrong in suggesting that only one
remedy may be applied.
[57] See Renfroe v.
Jones & Assocs., 947 S.W.2d 285, 287 (Tex. App.-Fort Worth 1997, pet.
denied).
[58]
The same was true in McCamish where the Texas Supreme Court found an
actionable tort despite the adverse party in litigation status of the McCamish
firm.
[59]
It did in McCamish.
[60] See Restatement
(Second) of Torts § 522 (1977); McCamish, Martin, Brown & Loeffler v. F. E.
Appling Interests, 991 S.W.2d 787, 793 (Tex. 1999).
[61]
McCamish applied the tort to settlement of litigation. The court of
appeals does not discuss that.
[62] See Restatement
(Second) of Torts § 522 (1977).
[63] F. E. Appling
Interests, 991 S.W.2d at 793-94.
[64]
Page 793-94 does not appear to support the court of appeals.