Court: Court of Appeals for the Ninth Circuit; August 19, 1996; Federal Appellate Court
The case involves a legal malpractice claim against the law firm Shea, Gould, stemming from its role in settling a shareholder derivative suit related to the failed Imperial Savings Association (ISA). Ronald L. Durkin, representing the bankruptcy estate of Imperial Corporation of America (ICA), alleges that Shea, Gould breached fiduciary duties and was negligent in its settlement of the derivative suit, which was approved by the district court just before federal regulators seized ISA.
The settlement, part of the Shields v. Thygerson case, involved a $12.5 million payment from American Casualty Company, with $10 million designated for class action claims and $2.5 million for derivative actions. ICA was required to contribute an additional $500,000, leading to a total settlement fund of $13 million for plaintiffs. The settlement also included a release for ICA's directors and officers from potential claims.
U.S. Magistrate Judge Harry McCue approved the settlement, finding the notice to shareholders adequate and the settlement fair and negotiated in good faith. However, on the same day, the Office of Thrift Supervision ordered the seizure of ISA, leading to ICA filing for Chapter 11 bankruptcy shortly thereafter.
Durkin's claims against Shea, Gould include allegations of malpractice, collusion, conflicts of interest, nondisclosure, and misrepresentation, seeking at least $30 million in damages. He argues that the firm failed to inform the ICA Board of the conflict of interest and the substantial nature of the claims against the directors, and that key information about ICA's insolvency was not disclosed during the settlement approval process.
Shea, Gould filed a motion for summary judgment or partial summary judgment, arguing that the Shields judgment collaterally estops Durkin from contesting the fairness and adequacy of the Shields settlement and the representation by derivative shareholder plaintiffs. The district court denied this motion on July 12, 1994, ruling that collateral estoppel did not apply since Durkin had not had a full and fair opportunity to litigate the settlement's adequacy. The court also determined that prior adjudication regarding settlement adequacy does not bar a legal malpractice claim against an attorney's conduct in the earlier action. The court certified its decision for interlocutory appeal under 28 U.S.C. 1292(b), which was granted by a motions panel on April 6, 1995. Subsequently, the district court stayed all discovery pending the appeal's outcome.
In the related case of Durkin v. Milberg Weiss, the appellants, representing shareholder plaintiffs and their attorneys from the Shields litigation, faced breach of fiduciary duty and fraudulent transfer claims. They contended that res judicata barred Durkin's claims. However, the district court had not certified for appeal its prior dismissal of Durkin’s malpractice claims against the shareholders' attorneys, meaning the only subject of appeal was the denial of Shea, Gould’s summary judgment motion on Durkin’s malpractice claim. The court emphasized that the certification issue originated from the July 12, 1994 order denying Shea, Gould’s motion. Consequently, the appellate court determined it lacked jurisdiction over the fiduciary duty and fraudulent transfer claims and dismissed the appeal in Milberg Weiss for lack of jurisdiction. The court then considered the applicability of issue preclusion to Durkin's malpractice claims against Shea, Gould in the lead case, noting that collateral estoppel prevents relitigation of issues that have been actually litigated and necessarily determined by a court.
Issue preclusion can be applied in subsequent lawsuits involving different causes of action when a party from the prior litigation is involved. However, special circumstances that raise doubts about the fairness or thoroughness of prior proceedings can create exceptions to this rule. A party must have had a "full and fair opportunity" to litigate the issues; otherwise, collateral estoppel does not apply.
In the case of Durkin's malpractice claim against Shea, Gould, the district court denied the motion for issue preclusion on five grounds. First, Durkin had not had a "full and fair opportunity" to litigate the adequacy of the Shields settlement. Second, prior adjudication of a settlement's adequacy does not bar a legal malpractice claim against the attorney, as such a claim hinges on potential negligence affecting the settlement's outcome. Third, Durkin was not precluded from claiming inadequate representation by Shea, Gould, as that issue was not litigated in prior actions. Fourth, any findings regarding the representation of ICA by derivative shareholders do not resolve whether Shea, Gould breached duties to ICA. Lastly, the factual issue of Shea, Gould's duty breach can only be determined after relevant discovery.
On appeal, Shea, Gould contended that the district court erred in denying issue preclusion, arguing that the essential elements were satisfied, that ICA had a full opportunity to litigate, and that representing ICA as a nominal defendant did not negate issue preclusion. However, these arguments were deemed unmeritorious. The elements of issue preclusion—substantial identity of issues, final judgment on the merits, and the party against whom estoppel is asserted being a party or in privity—were recognized, confirming that Durkin, in privity with ICA, could pursue his claims as the Shields settlement was court-approved.
The primary issue in dispute is whether the plaintiff, Durkin, can establish causation and damages in his malpractice action against Shea, Gould. Under California law, a plaintiff must demonstrate four elements: duty, negligent act or omission, proximate causation of damages, and the measure of damages. Shea, Gould argues that Durkin must prove that the settlement was unreasonable and that the defendants would have paid more than the actual settlement amount. They contend that Magistrate Judge McCue's finding that the settlement was fair and adequate resolves the causation and damages issues, thus barring Durkin's claims.
However, the court disagrees with Shea, Gould's assertion, noting that Durkin's malpractice action presents two distinct issues not addressed by Magistrate Judge McCue: (1) whether Shea, Gould adequately represented ICA’s interests during a financially precarious time, and (2) the reasonableness of the Shields settlement in the context of malpractice. The court highlights that Judge McCue's ruling did not determine whether Shea, Gould had properly represented ICA or its creditors, nor did it find that the settlement met the standards of reasonableness for assessing attorney malpractice.
Furthermore, the court clarifies that a settlement deemed “fair and adequate” under Rule 23.1 does not equate to a reasonable settlement regarding alleged attorney incompetence. Shea, Gould's claim that ICA had a sufficient opportunity to litigate is also challenged; the real parties in interest in derivative actions are the shareholders, not the corporation itself. Durkin alleges that the urgency created by ICA's impending bankruptcy influenced the settlement process, potentially compromising ICA's interests. Thus, Durkin maintains that these factors warrant the continuation of his malpractice action against Shea, Gould.
Durkin asserts multiple nondisclosures and conflicts of interest related to the retention of the law firm Shea, Gould by Allan R. Tessler, the ICA Board Chairman, who was also "of counsel" to the firm during the Shields litigation. Durkin argues that since a malpractice action cannot commence until after the settlement is finalized, he was not afforded a “full and fair opportunity” to contest the settlement's adequacy in the Shields proceedings. Shea, Gould contends they were not retained to represent ICA as a plaintiff but merely served as a nominal defendant in the derivative actions, thus having no obligation to maximize ICA's recovery. They assert that any duties owed to ICA raise factual questions not suitable for their current appeal and that the district court's conclusions regarding issue preclusion lack merit. The court has previously established that a court-approved settlement does not shield an attorney from future malpractice claims. The firm also references case law indicating that subsequent derivative claims can be precluded if they attack settled actions, but points out that Durkin is not pursuing such a derivative action. Shea, Gould's reliance on the case Valerio is deemed misplaced as it involved class members attempting to reopen a settlement due to alleged malpractice, which was barred on statute of limitations grounds rather than res judicata. Additionally, Shea, Gould argues that Durkin's malpractice action undermines public interests in promoting settlements and ensuring litigation finality, as well as enforcing rules governing derivative actions.
Courts have acknowledged the interests of Shea, Gould but emphasized that exceptional circumstances can justify exceptions to standard rules of preclusion. Attorneys are not protected from malpractice claims solely due to their involvement in a court-approved settlement. The court affirmed the district court’s July 12, 1994 Order in Durkin v. Shea, Gould, and dismissed the appeal in Durkin v. Milberg Weiss for lack of appellate jurisdiction.
In a related case, FDIC v. Alshuler, ICA filed for Chapter 11 bankruptcy, transferring assets to the Benchmark Irrevocable Trust, with Durkin as trustee, who seeks to pursue claims against ICA’s former directors and attorneys. Each director allegedly faces significant personal liability. Under Federal Rule of Civil Procedure 23(e), the district court must ensure that any proposed settlement is fundamentally fair, adequate, and reasonable. Rule 23.1 mandates that derivative actions must demonstrate fair representation of shareholder interests and cannot be dismissed without court approval. Before approving class action settlements, courts must verify the absence of fraud or collusion among negotiating parties.
Shea, Gould is also in bankruptcy, having filed for Chapter 11 on December 22, 1995, and received modification of the automatic stay to proceed with the appeal. The district court previously ruled against dismissing fraudulent transfer claims, asserting that ICA did not have a full and fair opportunity to litigate, and noted that issues surrounding the preclusive effect of court-approved settlements on legal malpractice claims require distinct legal consideration. The Court of Appeals’ jurisdiction is limited to the specific order under appeal, rather than the broader issues raised.
The excerpt addresses appellate jurisdiction concerning claims in bankruptcy-related cases, specifically rejecting Milberg Weiss' argument that an earlier district court order regarding fraudulent transfer claims was certified for appeal based on a passing reference in a later order. The court emphasizes the importance of noting any defects in appellate jurisdiction, even when a motions panel has previously ruled on jurisdiction. It highlights that various claims may be brought against participants in settlements made before bankruptcy, including breach of duty or malpractice, and explains that derivative actions allow individual shareholders to sue to protect corporate interests. The reliance on certain cases by Shea and Gould is deemed misplaced, as those cases focused on fraudulent transfers rather than malpractice. The excerpt further notes that strong judicial policy favors settlements, and limiting the res judicata effect of class action settlements could diminish defendants' willingness to settle disputes.
