By JOEL BERG, a freelance journalist and college professor
Angry investors, jilted lenders and frustrated landlords are increasingly looking to deep-pocketed attorneys for the relief of their economic pain.
As a result, lawyers around the country face lawsuits over a range of alleged misdeeds. Legitimate or not, the malpractice claims are diverting the attention of law firms, staining their reputations, and hiking defense costs for their insurers.
The details of recent lawsuits vary. But due in part to the recession, a broken deal often is at the center.
In New York, for example, a bad loan led to a $60 million case against law firm Paul Hastings Janofsky & Walker. The plaintiff is Ableco Finance, a specialty-financing unit of Cerberus Capital Management.
Ableco declined to comment beyond the lawsuit. According to the complaint, Ableco retained Paul Hastings in 2008 after being asked to lend $125 million to a company hoping to take clothing retailer Steve & Barry's out of bankruptcy.
Ableco lent the money. But the borrower, BH S&B Holdings, filed bankruptcy in late 2008 as retail sales plunged.
In the lawsuit, filed in a New York court, Ableco blames Paul Hastings for allegedly failing to ensure the loan agreement with BH adequately protected Ableco. Ableco claims it has lost roughly $60 million--hardly chump change--on the loan so far.
In its response, Paul Hastings denies any wrongdoing and alleges that Ableco is trying to hold attorneys liable for its own "bad business decisions."
"Paul Hastings adheres to the highest standards of professionalism and integrity in the representation of its clients, and its representation of Ableco in this matter was no exception," said Allan Whitescarver, a spokesman for the law firm.
In April, the government charged Goldman Sachs with offering debt securities backed by subprime mortgages that the firm knew would fail.
"The area that has given me some concern is the liability of attorneys who may be advising financial institutions, and whether there's going to be an attempt to reach those firms for failure to advise their clients with respect to risky transactions, issues concerning disclosure, sort of along the lines of what we're seeing in the Goldman Sachs case," Touitou said.
Another Goldman client stood to benefit from the mortgages' failure. Goldman has denied any wrongdoing in the case. "That's an area that I'm sort of keeping my eye on," Touitou said.
A loan default also is at the heart of a legal malpractice case in Chicago.
New Century Bank, which was shut down by state regulators in April, is suing outside attorneys who advised the bank during a $1.8 million loan to a trucking company. The attorneys had been with the Chicago firm Schwartz Cooper. In 2008, as part of a move unrelated to the bank litigation, most Schwartz attorneys joined Dykema Gossett.
The bank argues that it would not have made the loan if its attorneys had done adequate due diligence on, among other things, 34 trucks offered as collateral by the borrower.
After the borrower defaulted, New Century learned that many of the trucks had been impounded by the state of Georgia, according to the lawsuit, which was filed in the Circuit Court of Cook County in Illinois. The borrower and other principals involved in the transaction are bankrupt or insolvent, the lawsuit added.
Dykema has denied the bank's allegations and asked to have the complaint dismissed.
"All the things that they've alleged we should have told them, we did, and they refused to follow our advice," said Lori McAllister, Dykema's general counsel. She works in the firm's Lansing, Mich., office.
An attorney for New Century disagreed. "We see no evidence whatsoever of their objection to the transaction," said Mark Belongia, an attorney with Chicago-based Belongia Shapiro & Hynes, which is representing the bank.
Belongia believes the Federal Deposit Insurance Co., which was appointed as the bank's receiver, will continue to pursue litigation. "The FDIC (Federal Deposit Insurance Corp.) ? is very aggressive in pursuing claims where it believes the institution is owed monies," Belongia said.
BAD LOANS, BAD BLOOD
The two cases have more than a bad loan in common. They also reflect a clear relationship between client and attorney, a key ingredient in a malpractice case, lawyers said. But even if there was no direct relationship, plaintiffs may still blame the lawyers when deals come apart.
"They are going to go after whoever they can," said Jim Rhyner, law firm industry business manager for Chubb Specialty Insurance, a unit of Chubb Group of Insurance Companies in New York.
Claims brought by nonclients fall into three broad categories, Rhyner said.
The first includes cases where lawyers represents a person or entity that has committed fraud, Rhyner said. Claimants will allege attorneys knew about the fraud and potentially benefited from it, especially if they had a long history with the client.
Claims arising from bankruptcy cases fall into a second category, Rhyner said. Lawyers may be sued over actions that allegedly deepened a client's financial problems, harming creditors.
The third category arises from situations where law firms rely on clients for discovery, the costly and time-consuming process of digging through files and e-mails to produce documents relevant to a case, Rhyner said. Clients may fail to produce documents they should have, leading to lawsuits against their lawyers.
State courts vary when it comes to siding with plaintiffs in cases where attorneys are blamed for client actions, Rhyner said. "There are jurisdictions that are more conservative and some that are more lenient." Courts in New Jersey and California have taken a more liberal approach, while New York has been loathe to expand liability.
A U.S. Supreme Court case decided in 2008 offers some measure of protection, at least in the area of securities law, Rhyner said. The case, Stoneridge Investment Partners LLC v. Scientific-Atlanta Inc., hinged on whether third parties--a law firm or accounting firm, for example--could be considered liable for a public company's fraudulent financial statements.
Stoneridge had lost money on its investment in Charter Communications and sued two of the cable company's suppliers, Scientific-Atlanta and Motorola. The suppliers allegedly helped Charter executives prepare fraudulent statements.
The Supreme Court, in a 5-3 decision, sided with Scientific-Atlanta and Motorola, ruling that they could not be held responsible under U.S. securities laws because they had not prepared the public statements containing false information.
In general, courts have been fairly reluctant to expand liability outside the attorney-client relationship, said Philip Touitou, a partner in the New York office of law firm Hinshaw & Culbertson LLP.
But that probably won't stop claims, Touitou said.
The narrow view of liability is reflected in a case argued by Lance Kassab, a Houston attorney who specializes in legal malpractice. He represented a landlord who sued a tenant's lawyer. While negotiating a lease on behalf of the tenant, the lawyer had not disclosed the tenant's recent bankruptcy, Kassab said.
A judge dismissed the suit, noting the lawyer had no duty to disclose. Kassab said he is appealing.
"I think if you're negotiating a lease for somebody and providing financials, you ought to tell the landlord the whole picture," he said. "I don't think you get to hide the fact that they're insolvent."
Some courts might have agreed, according to Bill Voorhees, an attorney in Chester, N.J., who has worked on both sides of malpractice cases.
In a 2005 decision, the New Jersey Supreme Court wrote, "We do not expect a landlord or even an attorney to act as his brother's keeper in a commercial transaction. We do expect, however, that they will act in good faith and deal fairly with an opposing party."
It's an expectation that could conflict with an attorney's traditional loyalty to clients, said Voorhees, who writes at NewJerseyLegalMalpracticeBlog.com.
"I call it the duty not to be too cute," Voorhees said. "Some might call it the duty not to be a good lawyer, and I think they'd both be right."
June 1, 2010
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