Actuary "Ezekial 25:17 - The path of the righteous man is beset on all sides by the inequites of the selfish and the tyranny of evil men. Blessed is he that shepherds the weak from the valley of darkness for he is truly his brother's keeper, and the finder of lost children. And I will strike down upon thee with great vengeance and furious anger those who attempt to poison and destroy my brothers, and you will know my name is the Lord when I lay my vengeance upon thee."
Texas Lawyer Liability for Negligent Misrepresentation to Nonclients
© A. Hawkins 2004
CLE Course Provider
YouKnowItAll.com
Suitability
This course is suitable for all lawyers.
The Process for this course.
First, you read this text.
Second, you click on the Discussion Group link (and then the link to the discussion for this course). There you will find that you have the opportunity to comment, ask questions of the teacher, and read the discussion of others. You are not required to say anything, but you will have the chance to do so.
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Footnotes
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Optional Telephone Conference
The teacher is available for an optional personal telephone conference on the substance of this course. If you have a question about the application of the material in this course to a particular case, or would just like to visit about this topic, you may do so. A brief basic phone conference is $20 per course. If you would like to schedule a phone conference, email or call YouKnowItAll.com.
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)
McMahan v. Greenwood
May 29, 2003 (TexApp14 Houston 2003) (Opinion on Rehearing)
Swank v. Sverdlin
01-99-00428-CV (TexApp1 Houston)
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?
Silence Is Golden - 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.
Case #9 McMahan[4] 2003: The Chicken Feed Tort of Negligent Misrepresentation might apply a lawyer who represents a business client.
Case #10 Swank[5] : The Chicken Feed Tort of Negligent Misrepresentation might result in billion dollar verdicts, but not this time.
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
Situation #2 Deep in the Heart of Texas.
Situation #3 Enron - When the mighty fall, many are hurt.
Millions, Billions, Trillions
Thank You
Getting Your Goat
_______________________
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. Primary allegations seem 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:[6] 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.” [7] [8] [9]
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[10] 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. . . .#[11]
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.[12] 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.[13] 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.#[14]
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.[15] We decline to extend damages beyond those limits provided in Restatement section 552B.#[16] . . . 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.#[17] 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 nonclient based on the professional’s manifest awareness of the nonclient’s reliance on the misrepresentation and the professional’s intention[18] that the nonclient so rely.#[19] 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.#[20]
The theory of negligent misrepresentation permits plaintiffs who are not parties to a contract for professional services to recover from the contracting professionals.#[21] Likewise, section 552 imposes a duty to avoid negligent misrepresentation, irrespective of privity.#[22]
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 nonclient, 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,[23] 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 nonclient, 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.[24]
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.[25] 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.#[26]
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.#[27] [28]
Limitations on the tort of Negligent Misrepresentation
The Supreme Court describes limitations on the tort of negligent misrepresentation by an attorney to a nonclient.[29]
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.[30]
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.[31]
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 specifies those who may not rely may justify reliance by those who are not specified, and a disclaimer which disclaims certain factual aspects may justify reliance on other factual aspects. He has a good point. Disclaimers are tricky at best and dangerous at worst. When writing a disclaimer, first pause to contemplate 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.
Silence Is Golden - 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.[32] You may find it helpful to read Safeway quickly, then read Mitchell and return to Safeway for a careful reading, including 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.”[33]
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.[34] Under a negligent misrepresentation theory, liability is not based on professional duty;[35] instead, liability is based on an independent duty[36] to avoid misstatements intended to induce reliance.[37] Fraud is based on a similar duty.[38] [39] 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.[40] [41] Likewise, Safeway cannot sue for professional negligence, but it does have standing to sue for negligent misrepresentation and fraud.”[42]
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.[43] 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.[44]
“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.[45] 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.”
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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.
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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[46] 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.[47]
There is no dispute that Mitchell needed the document to succeed in his earlier suits.[48] 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[49] even though it was in Chapman’s office.[50]
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.[51] Mitchell’s interests are outweighed by the public’s interest[52] in loyal, faithful, and aggressive representation by attorneys employed as advocates.[53] [54] If Chapman’s conduct violated his professional responsibility,[55] the remedy is public[56] rather than private.[57] [58]
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,’[59] Chapman’s conduct in representing his client could not create an actionable duty under section 522 of the Restatement (Second) of Torts.[60] [61] Second, Chapman did not provide false information for the guidance of Mitchell in a business transaction.[62] [63] Finally, Mitchell does not fall within the narrow class of potential claimants listed under section 522(2).[64] [65]
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: 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,[66] 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.[67] 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.’[68] 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.[69]
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[70] 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.[71]
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,[72] 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.[73] Whether such a duty exists is a question of law.[74] 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.[75] 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.[76] 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,[77] 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.[78] 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,[79] Kristine opposed the application to probate Mr. Arlitt’s 1983 will and 1985 codicil, and this will contest[80] 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.” [81]
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.[82] 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.[83] 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.’ [84]
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:[85] 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 stretches our minds with Hight. 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.
Case #9 McMahan[86] 2003: The Chicken Feed Tort of Negligent Misrepresentation might apply a lawyer who represents a business client.
An office practitioner who engages in routine activities such as business formation, estate planning, and contracts may become a defendant in a negligent misrepresentation suit.
McMahan v. Greenwood May 29, 2003 (TexApp14 Houston 2003) (Opinion on Rehearing)
John McMahan appeals from summary judgments granted in favor of . . . J. Randle Henderson . . .
John McMahan owned and operated a business refurbishing and selling antique and exotic automobiles. By early 1989, his inventory and equipment were under a lien securing a note held by the FDIC. In March of 1989, McMahan and Howard Greenwood began discussions for a business venture dealing in classic cars, which culminated in the formation of Fine Rides, Inc. in April of 1989. Greenwood was to provide financing and perform certain business functions, including financial management and accounting, while McMahan was to sell and service the cars and serve as company president. Although, initially Greenwood was to be the sole shareholder of Fine Rides, the parties signed a stock option agreement which provided that as part of his compensation, McMahan had an option to purchase 70% of the company's stock in exchange for his contribution of certain assets. The agreement provided that McMahan's stock option could be exercised at any time beginning April 1, 1989. Henderson, an attorney, drafted the incorporation documents and the Stock Option Agreement.
. . .
Henderson . . . presented a no-evidence ground challenging McMahan’s claim for negligent misrepresentation. Under section 552 of the Restatement of Torts:
One who, in the course of his . . . profession . . . 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.[87]
The Texas Supreme Court recognizes that although this provision imposes a duty on attorneys to avoid misrepresentation irrespective of privity, liability is limited under section 552(2)(a) to situations in which the attorney providing the information is aware of the non-client and intends that the non-client rely on the information.[88]
McMahan argues that if Henderson represented only the Greenwood defendants at the time he allegedly made the statements regarding stock ownership, then Henderson made false statements without exercising reasonable care or competence in obtaining or communicating the information and with the intent that McMahan rely on the misrepresentations. Henderson counters, however, that there is no evidence of any alleged material misrepresentation and that the evidence conclusively demonstrates that he and McMahan were in adversarial positions during the negotiation, drafting, and execution of the settlement agreement, such that McMahan could not have justifiably relied on Henderson's statements regarding stock ownership. Henderson’s arguments are identical to those he asserted against McMahan’s fraud and fraudulent inducement causes of action. For the reasons we rejected them there, we reject them here.
In determining whether a plaintiff has met the requirement of justifiable reliance under section 552, we must consider the nature of the relationship between the attorney, the client, and the nonclient.[89] Generally speaking, a third party is not justified in relying on an attorney’s representation when made in an adversarial context.[90] However, not every situation outside of litigation is clearly defined as adversarial or nonadversarial, and consequently, we examine the extent to which the interests of the client and the third party are consistent with one another.[91]
Here, while statements made during settlement negotiations[92] were likely made in an adversarial context, statements made during the formation and operation of Fine Rides most likely were not. Absent fraud, the Greenwood defendants and McMahan were ostensibly working toward the same goal of a successful business venture, and Henderson’s alleged initial statements regarding stock ownership would have acted to ensure that McMahan continued to work for Fine Rides and contributed assets to the company.
Henderson cites no authority, and we have found none, suggesting that simply because parties become adversarial after statements are made, the non-client cannot continue to justifiably rely on the uncorrected earlier statements. The extent, if any, to which the change in the nature of the relationship to an adversarial one may have affected the justification of McMahan’s reliance is a question of fact, and the trial court erred in granting summary judgment against McMahan’s negligent misrepresentation claims.
Case #10 Swank[93]: The Chicken Feed Tort of Negligent Misrepresentation might result in billion dollar verdicts, but not this time.
The lawyers settled. They were no longer in the case when the jury returned a $1.5 billion dollar verdict. Yes, that is one thousand five hundred million dollars. Yikes. The trial court reduced the cash damages to a mere 180 million dollars - chicken feed, you might say. Even that is reversed if the “fact” that is misrepresented is a future “fact” or prediction, since the future is not a “fact.”
Swank v. Sverdlin 01-99-00428-CV (TexApp1 Houston)
In this commercial dispute, Mark Swank, Marvin Chudnoff, Jeffrey Sussman, Louis Dreyfus Natural Gas Holdings Corp., L.D.E. Associates, L.L.C., and James McCoy, Jr. appeal a judgment in favor of Anatoly Sverdlin individually and derivatively on behalf of Automated Marine Propulsion, Systems, Inc. . . .
Sverdlin asserts a conditional cross-appeal asserting that the trial court erred in disregarding the jury’s affirmative finding of negligent misrepresentation.
Sverdlin had sued Gardere Wynne and one of its attorneys, David Jungman, alleging malpractice based on conflicts of interest. Those claims were settled for a confidential amount. The jury awarded approximately $1.5 billion to Sverdlin and AMPS. Following several post-verdict hearings, the Honorable Judge Dwight Jefferson disregarded numerous findings, reduced the verdict to approximately $235 million in damages, and returned the patents and 100% of AMPS’s stock to Sverdlin. After Judge Jefferson resigned, the case was transferred to the Honorable Judge Tracy Christopher. After several post-judgment hearings, Judge Christopher remitted a portion of the punitive damages, further reducing the judgment to approximately $180 million.
. . .
To prevail on a negligent misrepresentation claim, the plaintiff must demonstrate: (1) the representation was made by a defendant in the course of his business, or in a transaction in which he had a pecuniary interest; (2) the defendant supplied 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 suffered pecuniary loss by justifiably relying on the representation.[94] To establish negligent misrepresentation, the plaintiff must also prove that the defendant misrepresented an “existing” fact in the course of the defendant’s business rather than a promise of future conduct.[95]
The alleged oral representations, which Sverdlin asserts constitute negligent misrepresentation, are promises of future conduct, and are not promises of existing fact.[96] For example, the alleged oral promises not to fire Sverdlin, not to take control of AMPS, and not to exercise their stock options are promises of future conduct, not existing fact. As such, Sverdlin is not entitled to recover for negligent misrepresentation.
In determining whether Sverdlin met the justifiable reliance element, we must consider the nature of the relationship and the contract. Reliance on representations made in a business or commercial transaction is not justified when the representation takes place in an adversarial context.[97] Chudnoff, LDNGH, and LDE were adversaries of appellees in negotiating the June and September 1996 contracts. Thus, representations made by Chudnoff, LDNGH, and LDE during the contract negotiations do not justify reliance by Sverdlin and AMPS. Furthermore, in examining the contracts, the alleged misrepresentations by appellants are contrary to the terms of the contracts. To determine the terms of the contract, Sverdlin could have read the contracts. The fact that Sverdlin failed to read the contracts and simply chose to sign them does not amount to a ground of recovery for negligent misrepresentation.
We hold that the trial court did not err in disregarding the jury’s finding of negligent misrepresentation.
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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 - Preview
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 - Preview
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 - Preview
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.
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Situation #1 What a kick! - Locke and Erxleben
In this situation, the lawyers paid about $30 million but deny liability. What would the lawyers pay if they were liable? The following accounts are from the news media.
Judge Throws Erxleben In Jail[98]
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[99]
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. The following accounts are from the news media.
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Big Texas Law Firm Settling With Victims of Swindlers[100]
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.
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Law firm denied knowledge of client's scam[101]
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."[102]
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,[103] 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.[104]
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"[105] pending against the law firm in the Stearns matter, one by a Las Vegas gem dealer and another by Brady National Bank.
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Locke Liddell Agrees to Settle Suit Over Alleged Ponzi Scheme[106]
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. If 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."
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Shattered dreams of love and riches
A small town gave its sweetheart and its cash to a high-rolling grifter[107]
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.[108]
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,"[109] 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.[110]
"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.[111]
"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.
This portion of this course is based on the early reports of the Enron fiasco. A great deal has occured, including multibillion dollar suits in which major law firms were named as defendants. Other courses cover some of the claims made in those suits and include more detailed and recent information. For the purposes of this course, we look at a snapshot of the situation as of about January, 2002, and focus on the chicken feed tort of negligent misrepresentation.
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. 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. The following accounts are from the news media.
* * * * *
Enron Execs Given Week to Respond
Judge Gives Enron Execs a Week to Respond to Bid to Freeze $1.1 Billion in Assets[112]
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[113] 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,[114] '' 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.
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Enron Workers Sue as Savings Evaporate[115]
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[116]
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.[117] (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 for a while. 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 [118]
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[119]
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 bookkeeping 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[120]
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. Their responses will be interesting.
Getting Your Goat
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.
Thank You.
Thank you for your business! We hope you found this course educational, interesting, and useful. Please go to www.YouKnowItAll.com to observe the Discussion and to certify your actual study hours.
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[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] McMahan v. Greenwood May 29, 2003 (TexApp14 Houston 2003) (Opinion on Rehearing)
[5] Swank v. Sverdlin 01-99-00428-CV (TexApp1 Houston)
[6] Federal Land Bank Association of Tyler v. Sloane et. al. 825 S.W.2d 439 (Tex. 1991)
[7] All rights reserved.
[8] 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).
[9] 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.”
[10] 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.
[11] “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).”
[12] footnote by the court omitted
[13] footnote by the court omitted
[14] 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.”
[15] 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).”
[16] “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).”
[17] Federal Land Bank Association of Tyler v. Sloane et. al. 825 S.W.2d 439 (Tex. 1991).
[18] 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.
[19] 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)).
[20] 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).
[21] 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.
[22] See Cook, 700 S.W.2d at 234.
[23] 953 S.W.2d 405
[24] 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.
[25] This is a key concept. How does a lawyer disclaim reliance if the lawyer intends reliance?
[26] 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.
[27] 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.]
[28] The court’s statement implies that representations of fact to adverse parties during litigation are actionable. But see Mitchell.
[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
[30] “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)
[31] This representation by the Texas Supreme Court may not be one to rely upon.
[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] 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.)
[34] F.E. Appling Interests v. McCamish, Martin, Brown & Loeffler, 953 S.W.2d 405, 408 (Tex.App.—Texarkana 1997, pet. granted).
[35] Mitchell seems to say the opposite.
[36] Mitchell found no such duty.
[37] Id.; RESTATEMENT (SECOND) OF TORTS § 552 (1977).
[38] Mitchell found no such duty.
[39] Sears, Roebuck & Co. v. Meadows, 877 S.W.2d 281, 282 (Tex. 1994).
[40] 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).
[41] footnote by the court omitted
[42] 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.)
[43] Compare the facts to Mitchell. If false statements on behalf of a client are immune in Mitchell, why aren’t they immune in Safeway?
[44] 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?
[45] 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.
[46] Mitchell v. Chapman, 10 S.W.3d 810 (Tex. App. - Dallas 2000)
[47] McCamish also represented the adverse party in litigation. McCamish’s alleged misrepresentation was made in the course of settlement of that litigation.
[48] Damage occurred.
[49] This denial is alleged to be the representation. Such a denial is intended to be relied upon.
[50] This is alleged to be the truth, in contrast to the alleged representation.
[51] McCamish’s relationship was also adverse.
[52] 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.
[53] 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.
[54] See Bradt v. West, 892 S.W.2d 56, 71 (Tex. App.-Houston [1st Dist.] 1994, writ denied).
[55] 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.
[56] 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?
[57] 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.
[58] See Renfroe v. Jones & Assocs., 947 S.W.2d 285, 287 (Tex. App.-Fort Worth 1997, pet. denied).
[59] 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.
[60] It did in McCamish.
[61] See Restatement (Second) of Torts § 522 (1977); McCamish, Martin, Brown & Loeffler v. F. E. Appling Interests, 991 S.W.2d 787, 793 (Tex. 1999).
[62] McCamish applied the tort to settlement of litigation. The court of appeals does not discuss that.
[63] See Restatement (Second) of Torts § 522 (1977).
[64] F. E. Appling Interests, 991 S.W.2d at 793-94.
[65] Page 793-94 does not appear to support the court of appeals.
[66] Chapman Children’s Trusts v. Porter and Hedges 32 S.W.3d 429 (Tex.App. - Houston [14th dist] 2000) (Tex.App. - Houston [14th dist] 2000)
[67] 991 S.W.2d 787, 792 (Tex. 1999)
[68] Id. at 793.
[69] See Federal Land Bank Ass’n v. Sloane, 825 S.W. 2d 439, 442 (Tex. 1991)
[70] Lesikar v Rappeport 33 S.W.3d 382 (Tex.App. Texarkana 2000)
[71] Lesikar v Rappeport 33 S.W.3d 382 (Tex.App. Texarkana 2000)
[72] 991 S.W.2d 787 (Tex. 1999)
[73] Bradford v. Vento, 997 S.W.2d at 725.
[74] Id.
[75] Bernstein v. Portland Sav. & Loan Ass'n, 850 S.W.2d at 704.
[76] Id.
[77] Arlitt v. Paterson, 995 S.W.2d 713 (Tex. App. - San Antonio 1999)
[78] For the privity requirement for malpractice in the estate planning context, see Barcelo v. Elliot, 923 S.W.2d 575, 577 (Tex. 1996)
[79] Some would consider a $50,000 cash bequest to be something other than a disinheritance. The court of appeals casually refers to it as substantially disinheriting. One suspects that the estate was substantial. It is not clear that Kristine was affected prior to the death of Mrs. Arlitt, who appears to be very much alive at the time of the proceedings. From the limited facts in the opinion, it is possible that, if Kristine predeceases Mrs. Arlitt, Kristine might be “substantially unaffected,” rather than “substantially disinheriting.”
[80] The court fails to understand the distinction between a contested application for probate of a will and a proceeding to set aside a previously probated will. As the court describes the facts, the application for probate was opposed. See Texas Probate Code § 10 regarding opposition to an application to probate a will and § 93 regarding an application to set aside a previously probated will. In Arlitt, the application for probate which was opposed was pending. The application was not tried. To describe it as a will contest which was not tried is erroneous. The ‘contest’ was simply the ‘opposition’ to the application for probate. It is the application which was not tried. The applicants that had the burden of going forward. The ‘opposition’ is the defense against the application for probate. There is no explanation of why the applicants did not bring their application to trial sooner. Texas probate litigation is a mystery to many lawyers and judges, yet, many of those who do not understand it assume that they do understand it. Sometimes lawyers and judges only know enough to be dangerous.
[81] Arlitt v. Paterson, 995 S.W.2d 713 (Tex. App. - San Antonio 1999)
[82] See Barcelo, 923 S.W.2d at 579.
[83] See id.
[84] F.E. Appling Interests v. McCamish, Martin, Brown & Loeffler, 953 S.W.2d 405, 408 (Tex. App.--Texarkana 1997, pet. granted); see also Safeway Managing Gen. Agency, Inc. v. Clark & Gamble, 985 S.W.2d 166, 169 (Tex. App.--San Antonio 1998, no pet.)
[85] 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)
[86] McMahan v. Greenwood May 29, 2003 (TexApp14 Houston 2003) (Opinion on Rehearing)
[87] Restatement (Second) of Torts ' 552(1) (1977).
[88] McCamish, Martin, Brown & Loeffler v. F.E. Appling Interests, 991 S.W.2d 787, 794 (Tex. 1999).
[89] Id.
[90] Id.
[91] Id.
[92] Teacher’s note: How do “settlement negotiations compare to the facts in McCamish?
[93] Swank v. Sverdlin 01-99-00428-CV (TexApp1 Houston)
[94] Federal Land Bank Ass’n. v. Sloane, 825 S.W.2d 439, 442 (Tex. 1991).
[95] See Miksch v. Exxon Corp., 979 S.W.2d 700, 706 (Tex. App.—Houston [14th Dist.] 1998, pet. denied).
[96] See id. (holding that alleged oral promise not to terminate Miksch was not a misrepresentation of an existing fact but was a promise to refrain from taking an action in the future).
[97] McCamish, Martin, Brown & Loeffler v. F.E. Appling Interests, 991 S.W.2d 787, 794 (Tex. 1999).
[98] KEYE Saturday September 30, 2000
[99] By Janet Elliott, Texas Lawyer, April 24, 2000.
[100] The Associated Press October 22, 2001
[101] By Howard Swindle, The Dallas Morning News 11/25/2001
[102] What does this say about litigation? Did a law firm really pay $8,500,000 just to end a law suit, and for no other reason.
[103] Is lawyers allowed to do this? See the IOLTA course for a discussion of how IOLTA accounts may not be used.
[104] This is intriguing. Did Locke invest the money in an interest bearing investment for its client? If not, why not? Did it place the money in an IOLTA account? If so, is that a violation of the rules which require income earning investments where practical? Did the IOLTA system get the income? Did Locke ask for a refund from IOLTA? Did the IOLTA regulators offer a refund? The IOLTA establishment claims that IOLTA accounts couldn’t earn money for the client because the amounts are small or temporary. Is that true in this case? If the amount is sufficient to pay for a jet plane, is it sufficient to earn interest?
[105] How much is “relatively minor” in the context of this case? Is a several million dollar claim “relatively minor?”
[106] Brenda Sapino Jeffreys Texas Lawyer, August 3, 2001
[107] By Howard Swindle, The Dallas Morning News 11/25/2001
[108] Did they? Was it a “general denial” under the Texas rules of procedure or a specific assertion? Is a misrepresentation in a pleading acceptable?
[109] If there is no problem, why are there problems?
[110] Her story is remarkable. She claims to know nothing. She enjoyed the benefits. She didn’t want her friends and neighbors involved. If money was being made, why not let them in on it? If it was a scam, she has a point. Did she know? Her story is very convenient.
[111] Consider the concept of the law firm covering 73% of the losses, and claiming that it did so just to avoid litigation.
[112] By Kristen Hays Associated Press Writer Saturday December 8, 2001
[113] Note that it is not called “false.” What is the purpose of saying it is a “rumor” without saying that it is false?
[114] Is it true?
[115] By Andrew Kelly November 25, 2001
[116] Brenda Sapino Jeffreys (Texas Lawyer) November 17, 2001
[117] Does representing the lender create a problem if the borrower is a client? On February 1, 2002, the Wall Street Journal reported on the criticism of the lending institutions which lent money to Enron, and knew of financial issues, at the same time that their brokerage arms, without disclosing the problems, advised customers to buy Enron debt. Does that bring to mind the Chicken Feed Tort of Negligent Misrepresentation?
[118] By Jon Friedman, CBS.MarketWatch.com
[119] London January 10 2002 From Chris Ayres in New York Copyright 2002 Times Newspapers Ltd.
[120] by Dick Morris, New York Post, January 29, 2002.
Monday, December 18, 2006
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