Friday, March 16, 2007
Agency’s Former Counsel Held Liable in Contracting Scheme
C.A. Says Conflict-of-Interest Statute Allows Recovery of Payments to Independent Contractor
By KENNETH OFGANG, Staff Writer
The former counsel for the California Housing Finance Agency and a company in which he held an undisclosed interest must return payments made to the business under a contract with the agency, the Fourth District Court of Appeal ruled yesterday.
Div. Three affirmed a multimillion dollar judgment against ex-lawyer Robert L. McWhirk of Laguna Beach, former CHFA insurance director John Schienle, and Hanover/California Management and Accounting Center, Inc. An Orange Superior Court jury sided with the CHFA, which said the men schemed to enrich themselves at public expense by creating a company that did business with the agency while they were undisclosed principals.
The jury awarded the agency $6.7 million in damages and $1.6 million in prejudgment interest, plus $375,000 in punitive damages against each defendant. In affirming, the Court of Appeal rejected McWhirk’s argument that Government Code Sec. 1090, the conflict-of-interest statute, does not apply because he was an independent contractor for the CHFA at the time.
The statute provides:
“Members of the Legislature, state, county, district, judicial district, and city officers or employees shall not be financially interested in any contract made by them in their official capacity, or by any body or board of which they are members. Nor shall state, county, district, judicial district, and city officers or employees be purchasers at any sale or vendors at any purchase made by them in their official capacity.”
Superior Court Judge Richard Gallivan instructed the jury that “[t]he ‘officer or employee’ language of Section 1090 must be interpreted broadly. The fact that someone is designated an independent contractor is not determinative; the statute applies to independent contractors who perform a public function.”
CHFA General Counsel Thomas C. Hughes told the MetNews that the scheme was “incredibly complex” and constituted a “massive abuse of trust by our attorney” that was not discovered until after Schienle retired.
The two men are awaiting trial on related criminal charges in Sacramento Superior Court, where proceedings have been delayed pending the outcome of the civil appeal, Hughes said. McWhirk resigned from the State Bar in November 2004, shortly before the verdict came down but with no disciplinary charges pending.
Paul Salvaty of O’Melveny & Myers in Los Angeles, who represented the agency on appeal with Richard W. Buckner and Kristina M. Hersey of the same firm, said the rejection of the independent contractor defense is an important development in the law. He added that collection efforts are already underway and that “we expect to get a significant part of the judgment back.”
CHFA is a statutorily created agency that lends money, buys loans, and insures mortgages in order to provide Californians with affordable housing. Schienle ran the agency’s insurance programs from 1986 to 2001, while McWhirk served as general counsel from 1984 to 1990 and as outside counsel from 1991 to 2000.
Witnesses testified that that Schienle and McWhirk formed Hanover California to provide the agency with insurance premium processing services, that McWhirk served as the company’s legal adviser and chief executive while also serving as outside counsel for CHFA, and that the business was conducted from McWhirk’s home, with the attorney’s domestic partner managing day-to-day operations despite his lack of experience in the area.
The ostensible owner of the company was Roger Formisano, but evidence showed that he was promised $100,000 for his role in the scheme, with the understanding that he would relinquish his stock to McWhirk and his partner once McWhirk was no longer representing the agency.
Once the company was formed, Schienle and McWhirk persuaded the agency to contract with Hanover California to provide its services in exchange for a share of the premiums, which was to rise gradually so that after a policy was in effect for five years, all of the premiums would go to the company. The result, auditors concluded, was that the company’s earnings rose from $35,000 in 1996, its first year in operation, to approximately $6 million in the last 2.5 years the contract was in effect.
The scheme unraveled, Justice Richard Aronson explained in his opinion for the Court of Appeal, after Schienle retired and his replacement discovered the contract. The fact that he and McWhirk were the beneficiaries of the contract came to light after PriceWaterhouseCoopers was retained to conduct an audit, and the contract was terminated and suit filed.
Following a seven-week trial, the jury found that all defendants committed fraud and negligent misrepresentation, that McWhirk and Schienle were liable for breach of fiduciary duty and conflict of interest, and that McWhirk had committed legal malpractice and breached his contract to serve as outside counsel. Jurors rejected Hanover California’s cross-complaint for breach of its contract with the agency.
Aronson said the trial judge’s instruction on the broad scope of Sec. 1090 was correct. Previous Court of Appeal decisions, the justice noted, have applied the statute to contract city attorneys, including one who had an undisclosed agreement with a firm he retained as outside counsel to pay him a portion of its contingency fee for representing the city in a tort matter.
The justice also cited an earlier Court of Appeal decision applying a city charter provision similar to Sec. 1090 to an attorney who, while under contract to rehabilitate city-owned properties, purchased many of those properties at below-market prices through third parties, as well as an attorney general opinion that a financial consultant retained to advise with regard to a bond issue was an “employee” within the meaning of Sec. 1090.
“Consistent with the above authorities, we conclude that an attorney whose official capacity carries the potential to exert ‘considerable’ influence over the contracting decisions of a public agency is an ‘employee’ under section 1090, regardless of whether he or she would be considered an independent contractor under common-law tort principles,” the justice wrote.
The defendants’ attorney, Gregory M. Bergman of Bergman & Dacey in Los Angeles, did not return a call seeking comment.
The case is California Housing Finance Agency v. Hanover/California Management and Accounting Center, Inc., G034968.
Copyright 2007, Metropolitan News Company