Cadle Co. v. Schlichtmann, 00-1517
| Decision Date | 09 May 2001 |
| Docket Number | No. 00-1517,00-1517 |
| Citation | 258 F.3d 1 |
| Parties | (1st Cir. 2001) CADLE COMPANY, PLAINTIFF, APPELLANT, v. JAN RICHARD SCHLICHTMANN, DEFENDANT, APPELLEE. Heard |
| Court | U.S. Court of Appeals — First Circuit |
APPEAL FROM THE UNITED STATES DISTRICT COURT FOR THE DISTRICT OF MASSACHUSETTS [Hon. George A. O'Toole, Jr., U.S. District Judge] Scott L. Machanic, with whom Cunningham, Machanic, Celtin & Johnson, Llp, appeared on brief, for appellant.
Jan Richard Schlichtmann for appellee.
Before Torruella, Circuit Judge, Campbell, Senior Circuit Judge, and Schwarzer, * Senior District Judge.
This appeal presents the questions of whether a security interest in the accounts receivable of a law firm--including an account arising from a contingent fee agreement-- survives the firm's dissolution and the bankruptcy of one of its partners and, if it does, whether it attaches to a post-bankruptcy payment of the fee. We hold that it does and reverse the judgment.
From 1990 to early 1991, the law firm of Schlichtmann, Conway, Crowley and Hugo (the firm) represented plaintiffs in certain environmental litigation in the Middlesex Superior Court, Coble v. FL Aerospace Corp., Civil No. 89-76530, (the Groton matter). Among the firm's accounts receivable was a contingency fee agreement, the fee to be paid to the firm at the conclusion of the litigation. The firm had borrowed funds from the Boston Trade Bank (the Bank) and to secure those loans, the firm and its partners had signed a series of notes, guaranties, security agreements and UCC filings. By virtue of these documents, the Bank held a security interest in the Groton fee receivable. Before any part of this fee became payable, the Bank failed and the FDIC sold its assets--including the firm's notes and the security agreements--to Cadle Company (Cadle).
In December 1990, Jan Schlichtmann wrote to the Bank on behalf of the firm, reporting on the status of the outstanding loan accounts and on the progress of the Groton settlement. In the letter, Schlichtmann stated that "This letter serves as an additional security interest of the bank in all Groton fees received by this office."
In June 1991, the Superior Court approved the Groton settlement agreement, under which $825,000 was deposited into an escrow account, with distribution subject to the settlement's approval by the Massachusetts Department of Environmental Protection. In October 1991, Schlichtmann filed for bankruptcy under Chapter 7 of the Bankruptcy Code, causing the firm's dissolution pursuant to Massachusetts General Laws ch. 108A §§ 31 (1922) ("Causes of Dissolution"). In January 1992, the Bankruptcy Court issued a "Discharge of Debtor" order, releasing Schlichtmann from all his dischargeable debts.
Following Schlichtmann's bankruptcy and the firm's dissolution in 1991, Schlichtmann continued to work on the Groton matter until its final resolution in May 1995. In June 1995, $300,000 from the Groton settlement was deposited into Schlichtmann's escrow account. Of this amount, he distributed $100,000 to his former partners and $200,000 to himself ($110,000 of which he shared with Thomas Kiley, a former co- defendant who was dismissed from this case). Cadle received no part of the Groton fee settlement.
Cadle then filed this action against Schlichtmann, his former partners, and Kiley in June 1995. After considerable skirmishing, Schlichtmann/Kiley and Cadle filed cross-motions for summary judgment. On July 14, 1999, the district court denied both motions. The court concluded that because Schlichtmann's post-bankruptcy work on the Groton matter was not performed on behalf of the dissolved partnership, he was entitled to a portion of the Groton fee to compensate for the work he performed in his individual capacity. Whether the two-thirds portion of the Groton fee retained by Schlichtmann was a proper division between Schlichtmann and his former partners was to be resolved at trial.
The case went to trial in November 1999. 1 Cadle advanced two theories: First, that Schlichtmann's retaining $200,000 of the Groton fee and distributing $100,000 to his former partners constituted conversion of funds in which Cadle had a security interest; and, second, that Cadle was entitled to the entire Groton fee, having forborne enforcing the notes it held in reliance on Schlichtmann's promise to deliver the fee when received. Cadle's request for a jury instruction on promissory estoppel was denied. The jury returned a verdict for defendant.
Cadle appeals on two grounds: First, that because it held a security interest in the entire Groton fee, the court should have granted its motion for summary judgment; and, second, that the court erred in refusing to instruct the jury on promissory estoppel. Because we conclude that Cadle was entitled to the portion of the Groton fee retained by Schlichtmann, we do not reach the promissory estoppel issue.
The district court had jurisdiction under 28 U.S.C. §§ 1332, and this court has jurisdiction under 28 U.S.C. §§ 1291.
In its order denying Cadle's motion for summary judgment, the court acknowledged that the motion "hinges on its contention that the former law partnership . . . had a right to the entire $300,000 legal fee derived from the second Groton escrow account." The Cadle Co. v. Schlichtmann, Conway, Crowley & Hugo, 1999 WL 527715, at *1 (D. Mass. 1999). The court then reasoned that "[t]he only way it could potentially lay claim to this amount is if all compensable legal work required to gain access to the second escrow account had been completed at the time of the law firm's dissolution in October 1991." Id. The court observed that the settlement agreement required additional work by plaintiffs' lawyers post-bankruptcy, Schlichtmann performed that work, and he performed it in his individual capacity, rather than on behalf of the firm. He was, therefore, entitled to compensation. See id. The court concluded that "Cadle's security interest only extends to that portion of the Groton fee, if any, that belongs to the dissolved partnership." Id.
The fundamental error in this analysis is that it ignores the source of Schlichtmann's entitlement to the Groton fee. The fee to which Schlichtmann laid claim came out of the distribution from the Groton settlement and became payable by reason--and only by reason--of the fee agreement between the (now dissolved) firm and the Groton plaintiffs. The Distribution of Settlement Proceeds form clearly shows an allocation of 32.24% attorneys' fees (plus 4.02% for litigation consultation). It is unquestioned that this amount became payable by reason of the fee agreement between the firm and the plaintiffs. Thus, when Schlichtmann began to work for the plaintiffs after the dissolution, he simply took over the firm's work and carried out what the firm had agreed to do, for which it was to be compensated.
That the firm no longer existed is immaterial to Cadle's claim. It had a security interest in the entire Groton fee; as Schlichtmann wrote in December 1990, "I want to assure you of the bank's security in these anticipated fees in the Groton case." And that Schlichtmann may have taken over the Groton engagement and completed the work cannot operate to wipe out Cadle's acknowledged security interest in the fee from that work without the secured party's written consent; indeed, the security agreement specifically bars disposal of any collateral without the secured party's prior written consent.
Schlichtmann concedes that Cadle holds a security interest in the firm's accounts receivable which encompasses any Groton fee received by the firm. However, he contends that after the firm dissolved, the firm terminated its representation of the Groton clients, and thus left Cadle with a security interest in only the fees related to the work the firm performed on the matter prior to its dissolution. Agreeing with the district court, Schlichtmann characterizes his post-dissolution efforts on the Groton case as work performed in his individual capacity, not on behalf of the firm.
However, that the post-dissolution work on the Groton matter was performed by Schlichtmann does not alter Cadle's rights as a secured creditor. Partners cannot eliminate a security interest in the partnership's anticipated fees by transferring (without the creditor's written consent) the client files, whether by dissolution of the partnership or otherwise. In PNC Bank, Delaware v. Berg, 1997 WL 527978 (Del. Super. Ct. 1997), the court held that a bank could assert its security interest under Article 9 of the Uniform Commercial Code in contingent fee agreements that had been transferred before having matured. There, Tighe, Cottrell, and Logan--partners in a firm called Berg, Tighe, Cottrell & Logan--withdrew from the firm and opened a new firm called Tighe, Cottrell & Logan ("Tighe"). The partners in the new firm took with them many client files, including the active files on which Tighe, Cottrell, and Logan had themselves been working. See id. at 2. PNC Bank claimed a continuing security interest in the contingent fee files. In its defense, Tighe argued that the security interest was lost as a result of the agreement between Berg and Tighe in which Berg surrendered any interest in the client files in return for Tighe's relinquishing its interest in the Berg firm. See id. at 10. The court rejected the argument, holding that unless PNC Bank authorized this transfer, it retained the right under Uniform Commercial Code §§ 9-306 to follow the collateral, the contingent fee files. See id. The court went on to reject the argument that Tighe had invested eighteen months of effort and additional expense on the assumption that the total of any contingent fee recoveries would be theirs, concluding that this "has absolutely nothing to offer on the issue of whether PNC Bank has a security interest."...
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Security interest survives dissolution and bankruptcy.
...a law firm's putative contingent fee survived the firm's dissolution and bankruptcy, the First Circuit held in Cadle Co. v. Schlichtmann, 258 F.3d 1 The contingent fee agreement was part of a Boston law firm's accounts receivable, which became subject to a secured interest to the lender. Ab......