Ultimate Action v. The November First Partnership CA2/1 ( 2021 )

Filed 12/16/21 Ultimate Action v. The November First Partnership CA2/1
NOT TO BE PUBLISHED IN THE OFFICIAL REPORTS
California Rules of Court, rule 8.1115(a), prohibits courts and parties from citing or relying on
opinions not certified for publication or ordered published, except as specified by rule
8.1115(b). This opinion has not been certified for publication or ordered published for
purposes of rule 8.1115.
IN THE COURT OF APPEAL OF THE STATE OF CALIFORNIA
SECOND APPELLATE DISTRICT
DIVISION ONE
ULTIMATE ACTION, LLC, B308448
Plaintiff and Appellant, (Los Angeles County
Super. Ct. No. 20STCV17040)
v.
THE NOVEMBER FIRST
PARTNERSHIP, et al.,
Defendants and Respondents.
APPEAL from an order of the Superior Court of Los
Angeles County, Michelle Williams Court, Judge. Affirmed in
part and reversed in part.
Wolf, Rifkin, Shapiro, Schulman & Rabkin, Mark J.
Rosenbaum and Johnny White for Plaintiff and Appellant.
Fox Rothschild, Dwight C. Donovan and Jack Praetzellis
for Defendants and Respondents.
___________________________________
Plaintiff Ultimate Action, LLC brought this derivative
lawsuit on behalf of 357 South Broadway, LLC (South Broadway)
to challenge various actions defendants took in managing the
company. Plaintiff challenges the trial court’s order denying
disqualification of South Broadway’s former law firm, Fox
Rothschild, from representing defendants in the lawsuit.
The duty of confidentiality generally prevents an attorney
from continuing to represent a client if the representation
conflicts with the attorney’s representation of a previous client in
a related matter. Once the previous client establishes a
substantial relationship between the successive representations,
the court must disqualify the attorney from representing the
second client because the law presumes the attorney received
confidential information during the first representation that is
relevant to the second.
An exception exists in a derivative lawsuit brought on
behalf of a small or closely held company against insiders who
run the company. Because the insiders are already privy to all of
the company’s confidential information, the second
representation has no danger of violating any duty of
confidentiality the attorney owes to the company.
Here, some defendants are South Broadway insiders but
one, Insignia PMG (Insignia), is not. Therefore, the court
correctly denied disqualification of Fox Rothschild insofar as it
represents the insiders, but erred in refusing to disqualify the
firm from representing Insignia. Accordingly, we affirm the
court’s order in part and reverse in part.
BACKGROUND
A. Prior Representation
Ultimate Action is a 60 percent owner of South Broadway.
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November First Partnership (November First) owns the
other 40 percent, and manages South Broadway.
Scott and Patricia Schwartz indirectly (through their trust)
hold a controlling stake in November First.
In early 2020, Ultimate Action negotiated with November
First to buy out the latter’s 40 percent interest in South
Broadway. Fox Rothschild represented South Broadway during
the negotiations.
In March and April 2020, Ultimate Action requested
information and documents regarding deferred maintenance it
discovered while investigating the proposed buyout, stating,
“investigations of the Property have uncovered damage and
deferred maintenance in excess of $2,000,000, and new matters
have arisen which have materially diminished the value of the
Property and collectability of rents.”
Fox Rothschild declined to provide the requested
documents, stating, “Your insistence on learning the ongoing
details of the management of [South Broadway] . . . is
unwarranted . . . . [¶] Please rest assured that [South
Broadway] will continue to be appropriately managed. Going
forward, we respectfully request that you direct any further
correspondence regarding [South Broadway] to the attention of
the undersigned.”
Ultimate Action responded: “[Y]our assertion that [South
Broadway] is ‘appropriately managed’ is patently untrue. . . . It
has become increasingly clear that [South Broadway] is
mismanaged, that Mr. and Mrs. Schwartz have been exploiting
their control of the [c]ompany to enrich themselves, and that
their caginess about sharing information . . . is rooted entirely in
their desire to conceal their own wrongdoing.”
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B. Derivative Lawsuit
On May 5, 2020, Ultimate Action filed the instant
derivative lawsuit, which names five defendants, including
November First, Scott and Patricia Schwartz, and Insignia, an
outside vendor of property management services to South
Broadway.
In 15 causes of action, Ultimate Action, derivatively on
behalf of South Broadway, alleges the Schwartzes and “their
instrumentalities” mismanaged South Broadway for several
years, committing waste and embezzlement through such devices
as insider loans and unfair property management and brokerage
contracts with the Schwartzes’ closely held entities, including
Insignia. Ultimate Action alleges the defendants are alter egos of
one another, and Insignia receives above-market fees in breach of
November First’s fiduciary duties to South Broadway.
C. Current Representation
Insignia is a property manager contracted to manage the
commercial property located at 357 South Broadway for the
South Broadway company, billing $2,200 per month for this
service. Scott and Patricia Schwartz each own 25 percent of
Insignia. The record does not disclose who owns the remaining
50 percent interest.
Fox Rothschild represents Insignia and the other
defendants in the derivative action except nominal defendant
South Broadway.
It is undisputed that Fox Rothschild does not represent
South Broadway in the lawsuit, but previously represented it in
matters substantially related to those the lawsuit raises.
On September 24, 2020, Ultimate Action moved to
disqualify Fox Rothschild due to its conflict of interest in having
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previously represented South Broadway. The trial court denied
the motion without making factual findings, and Ultimate Action
appeals.
On appeal, Ultimate Action abandons its disqualification
request as to all defendants but Insignia.
DISCUSSION
A. Standard of Review
We review a trial court’s decision on a motion to disqualify
counsel for abuse of discretion. (In re Charlisse C. (2008) 45
Cal.4th 145, 159.) “As to disputed factual issues, a reviewing
court’s role is simply to determine whether substantial evidence
supports the trial court’s findings of fact; ‘the reviewing court
should not substitute its judgment for . . . express or implied
[factual] findings [that are] supported by substantial evidence.
[Citations.]’ [Citation.] As to the trial court’s conclusions of law,
however, review is de novo; a disposition that rests on an error of
law constitutes an abuse of discretion.” (Ibid.) The court’s
application of the law to the facts is reversible only if arbitrary
and capricious. (Ibid.) We presume the record contains evidence
supporting every express and implied finding of fact. (Marriage
of Fink (1979) 25 Cal.3d 877, 887.)
B. Adequacy of the Court’s Statement of Decision
Ultimate Action preliminarily argues that the trial court’s
failure to indicate its reasoning on the record itself compels
reversal. We disagree.
In deciding disqualification motions, “trial judges must
indicate on the record they have considered the appropriate
factors and make specific findings of fact when weighing the
conflicting interests involved.” (Smith, Smith & Kring v.
Superior Court (Oliver) (1997) 60 Cal.App.4th 573, 582.)
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However, when the issue of disqualification should be decided as
a matter of law because there are no material disputed facts,
specific factual findings are not required. (Hetos Investments,
Ltd. v. Kurtin (2003) 110 Cal.App.4th 36, 52.)
As will be seen, here, all material facts are undisputed.
C. Rules Governing Attorney Disqualification
Rule 3-310 of the Rules of Professional Conduct requires
that attorneys avoid representing successive clients with
conflicting interests without the clients’ informed written
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consent.
“The issue of disqualification ‘ultimately involves a conflict
between the clients’ right to counsel of their choice and the need
to maintain ethical standards of professional responsibility. The
paramount concern, though, must be the preservation of public
trust in the scrupulous administration of justice and the integrity
of the bar. The recognized and important right to counsel of one’s
choosing must yield to considerations of ethics that run to the
very integrity of our judicial process.’ ” (Metro-Goldwyn-Mayer,
Inc. v. Tracinda Corp. (1995) 36 Cal.App.4th 1832, 1838.)
In cases of successive representation, “ ‘the chief fiduciary
value jeopardized is that of client confidentiality’ ”—the former
client’s right to rely on the confidentiality of communications
with his or her former counsel. The rule in such cases is that
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Rule 3-310 provides in pertinent part: “A member shall
not, without the informed written consent of the client or former
client, accept employment adverse to the client or former client
where, by reason of the representation of the client or former
client, the member has obtained confidential information
material to the employment.” (Rules of Prof. Conduct,
rule 3-310(E).)
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disqualification of the attorney is required, but only if there is “ ‘a
“substantial relationship” ’ ” between the former and the current
representations, which gives rise to a presumption that
confidential communications passed between them. (In re
Charlisse C., supra, 45 Cal.4th at p. 161.)
“A ‘substantial relationship’ exists whenever the ‘subjects’
of the prior and the current representations are linked in some
rational manner. [Citations.] ‘Thus, successive representations
will be “substantially related” when the evidence before the trial
court supports a rational conclusion that information material to
the evaluation, prosecution, settlement or accomplishment of the
former representation given its factual and legal issues is also
material to the evaluation, prosecution, settlement or
accomplishment of the current representation given its factual
and legal issues.’ ” (Fiduciary Trust Internat. of California v.
Superior Court (2013) 218 Cal.App.4th 465, 480 (Fiduciary
Trust).)
Here, undisputed evidence showed that Fox Rothschild
represented South Broadway in its response to inquiries by
Ultimate Action about malfeasance and insider dealing, and now,
without the company’s consent, represents Insignia in a lawsuit
where Insignia is alleged to have participated in those same
insider dealings. (Although South Broadway is a nominal
defendant in the derivative action, thus nominally on Insignia’s
side, in a derivative lawsuit the company is actually a plaintiff; if
the allegations against the defendants are proved, South
Broadway stands to benefit from recovery for the defendants’
wrongful actions. (Forrest v. Baeza (1997) 58 Cal.App.4th 65,
74.)) Because the subjects of the prior and successive
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representations concerned the same insider dealings, they are
substantially related.
“Where the requisite substantial relationship between the
subjects of the prior and the current representations can be
demonstrated, access to confidential information by the attorney
in the course of the first representation (relevant, by definition, to
the second representation) is presumed and disqualification of the
attorney’s representation of the second client is mandatory . . . .”
(Flatt v. Superior Court (1994) 9 Cal.4th 275, 283; see also Truck
Ins. Exchange v. Fireman’s Fund Ins. Co. (1992) 6 Cal.App.4th
1050, 1056 [“If a substantial relationship exists, courts will
presume that confidences were disclosed during the former
representation which may have value in the current
relationship”].)
This is so regardless of the likelihood that confidential
information will be disclosed to the second client, and of the likely
import of such disclosure. “[T]he only question is whether there
is a substantial relationship between the subject of the prior
representation and the subject of the current representation. If
the answer is yes, ‘access to confidential information by the
attorney in the course of the first representation (relevant, by
definition, to the second representation) is presumed and
disqualification of the attorney’s representation of the second
client is mandatory.’ ” (Fiduciary Trust, supra, 218 Cal.App.4th
at p. 479.) “The conclusive presumption also avoids the ironic
result of disclosing the former client’s confidences and secrets
through an inquiry into the actual state of the lawyer’s
knowledge and it makes clear the legal profession’s intent to
preserve the public’s trust over its own self-interest.” (H. F.
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Ahmanson & Co. v. Salomon Brothers, Inc. (1991) 229 Cal.App.3d
1445, 1453.)
Because Fox Rothschild has accepted employment adverse
to its former client without the client’s consent, it must be
disqualified from that representation unless an exception to
Rules of Professional Conduct, rule 3-310(E) exists.
Relying on three cases, Insignia argues, and the trial court
found, an exception to disqualification under Rules of
Professional Conduct, rule 3-310(E) exists where there is no
danger of the attorney imparting confidential information to the
successive clients because that information was obtained solely
from those clients.
In Forrest v. Baeza, supra, 58 Cal.App.4th 65, a brother and
sister and the sister’s husband each owned one-third of a
corporation, which was represented by an attorney. After a
falling out, the brother sued his sister and her husband
derivatively on behalf of the corporation. The First District held
that the attorney’s continuing representation of his individual
shareholder clients was permissible because when “the
functioning of the corporation has been so intertwined with the
individual defendants that any distinction between them is
entirely fictional, and the sole repositories of corporate
information to which the attorney has had access are the
individual clients, application of the ‘former client’ rule would be
meaningless.” (Id. at p. 82.)
In Beachcomber Management Crystal Cove, LLC v.
Superior Court (2017) 13 Cal.App.5th 1105, the managing
members of a limited liability company had exclusive rights to
manage the company. In a derivative action brought on the
company’s behalf, the Fourth District vacated the trial court’s
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disqualification order and remanded the matter for a
determination whether the derivative defendants “were insiders
subject to the Forrest rule.” (Id. at p. 1123.)
In Ontiveros v. Constable (2016) 245 Cal.App.4th 686, a
corporation was held by two shareholders. When the minority
shareholder sued the corporation and the majority shareholder,
both were represented by the same attorney. When the action
changed into a derivative action midstream, the trial court
disqualified the attorney. Applying the Forrest exception to the
rule of mandatory disqualification, the Fourth District reversed
the attorney’s disqualification as it pertained to the majority
shareholder, noting that because there was no confidential
information counsel could have received from the corporation
different from what it received from the majority shareholder,
there was no danger counsel would breach his duty of
confidentiality to the corporation. (Ontiveros, at p. 700.)
Here, it is undisputed that any confidential information
supplied to Fox Rothschild during its period of prior
representation came from Scott and Patricia Schwartz, the
co-trustees of the Schwartz Family Trust, the managing general
partner of South Broadway’s managing member.
The Schwartzes own 50 percent of Insignia, which unlike
the parties in Forrest, Beachcomber, and Ontiveros, is not a
member, manager or shareholder of South Broadway but an
independent contractor providing property management services
to a property the company owns. Insignia also has two other
owners, and no evidence cited below or urged on appeal indicates
these owners supplied confidential information to Fox Rothschild.
Therefore, in representing Insignia, Fox Rothschild could possibly
impart to a non-insider confidential information previously
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obtained from South Broadway. (See Civil Service Com. v.
Superior Court (1984) 163 Cal.App.3d 70, 79 [the former client
“must have no fear that information disclosed to or obtained by
the attorney in the course of the representation will in some way
later be used against the client”].)
Accordingly, the Forrest exception to mandatory
disqualification under Rules of Professional Conduct,
rule 3-310(E) does not apply with respect to Fox Rothschild’s
representation of Insignia, and the firm must be disqualified from
that representation. (See People ex rel. Deukmejian v. Brown
(1981) 29 Cal.3d 150, 155 [“subsequent representation of another
against a former client is forbidden not merely when the attorney
will be called upon to use confidential information obtained in the
course of the former employment, but in every case when, by
reason of such subsequent employment, he may be called upon to
use such confidential information”].)
Insignia argues that the possibility of Fox Rothschild
communicating confidential information to Insignia is
“far-fetched.” Perhaps so, but it is “the possibility of the breach of
confidence . . . that triggers disqualification” (Woods v. Superior
Court (1983) 149 Cal.App.3d 931, 934), not the probability.
Insignia argues it and the Schwartzes are indistinguishable
because it is being sued solely as their alter ego. Even if true, the
allegation that Insignia and the Schwartzes are alter egos for
purposes of liability does not establish that they are
indistinguishable for purposes of Fox Rothschild’s conflict of
interests.
Insignia argues that it would not matter whether Fox
Rothschild imparts confidential information to Insignia because
the Schwartzes are already in a position to convey such
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information to Insignia. But Rules of Professional Conduct, rule
3-310 applies regardless of the second client’s potential
non-attorney sources of confidential information, and affords no
exception to the attorney for the conduct of others. In
determining whether disqualification is proper we consider only
whether a conflict of interest exists, not the extent of the harm it
might cause. (H. F. Ahmanson & Co. v. Salomon Brothers, Inc.,
supra, 229 Cal.App.3d at p. 1453.)
DISPOSITION
The court order is reversed as to Insignia and otherwise
affirmed. Appellant is to recover its costs on appeal.
NOT TO BE PUBLISHED
CHANEY, J.
We concur:
ROTHSCHILD, P. J.
CRANDALL, J.*
*
Judge of the San Luis Obispo County Superior Court,
assigned by the Chief Justice pursuant to article VI, section 6 of
the California Constitution.
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