Rappaport v. Gelfand (197 Cal. App. 4th 1213, 2011)

Opinion

CROSKEY, J.

Defendants and appellants Marvin Gelfand (Gelfand), Steven Glaser (Glaser), Gelfand Rappaport & Glaser LLP (GRG) and Gelfand & Glaser LLP (GG), the successor to GRG, appeal a judgment in favor of plaintiff and respondent Jerry Rappaport (Rappaport) following a bench trial to determine the “buyout price” of a dissociating partner’s interest in a law firm pursuant to Corporations Code section 16701, subd. (b). That section is part of the Uniform Partnership Act of 1994 (UPA) (§ 16100 et seq.), which applies to law partnerships.

In this apparent case of first impression in California, we are called upon to construe section 16701, subdivision (b), which provides, “The buyout price of a dissociated partner’s interest is the amount that would have been distributable to the dissociating partner under subdivision (b) of Section 16807 if, on the date of dissociation, the assets of the partnership were sold at a price equal to the greater of the liquidation value or the value based on a sale of the entire business as a going concern without the dissociated partner and the partnership was wound up as of that date. Interest shall be paid from the date of dissociation to the date of payment.”

Here, the trial court ruled that “[bjecause of the peculiar relationship between dissociation and the wind-up process when applied in the law firm context, a construct is created to calculate a value as of October 31, 2005, based upon individual assets being liquidated over time, and then bringing the value ‘back’ to the date of dissociation.” The trial court’s interpretation of section 16701 is correct and its creating a “construct” based on individual assets being liquidated over time is a reasonable application of the statute. It awarded judgment in favor of Rappaport and against all of the appellants, based on 31 percent of the liquidation value of the partnership as determined by expert testimony. (See fn. 5, post.)

The trial court further found that appellants Gelfand and Glaser were individually liable, in addition to the limited liability partnerships of GRG and GG, for the amount of the buyout payment to Rappaport. Although we affirm the trial court’s interpretation and application of section 16701, subdivision (b), we reverse the trial court’s finding of individual liability on the part of Gelfand and Glaser.

In addition, our review of the record indicates that the trial court made a relatively minor mathematical error which we will correct by modifying the judgment.

FACTUAL AND PROCEDURAL BACKGROUND

1. The Partnership and Rappaport’s Dissociation Therefrom

The instant action arises from the dissociation of Rappaport from the law firm of GRG. Gelfand and Glaser were the original partners of the firm and had been so since 1986. In 2000, Rappaport joined Gelfand and Glaser to form GRG. Gelfand held a 46 percent share in the practice; Rappaport’s share was 31 percent; and Glaser had the remaining 23 percent share. There was no oral or written partnership agreement governing the terms of any partner’s dissociation.

In 2005, Rappaport indicated he wished to dissociate from the GRG limited liability partnership. Gelfand and Glaser wished to continue their partnership and did so for approximately 14 months thereafter. The three partners agreed the effective date of dissociation would be October 31, 2005. From October of 2005 through February of 2006, the parties attempted to negotiate the terms of Rappaport’s dissociation. On February 22, 2006, after negotiations broke down, Rappaport made a written demand for compensation for his partnership interest in accordance with section 16701, which “controls and provides that I am to receive the greater of the liquidation or going concern value.”

2. Proceedings

On December 21, 2006, Rappaport filed suit against Gelfand, Glaser, GRG and GG (collectively, appellants), seeking, inter alia, damages for breach of section 16701, subdivision (b). GG, the successor to GRG, filed a cross-complaint against Rappaport for money had and received and for conversion. On February 20, 2008, the matter came on for trial.

The three major assets of GRG in issue during the trial were (1) general accounts receivable; (2) possible recovery of a contingency fee in a case identified as Hughes v. U.S. Foodservice (Hughes litigation); and (3) receivables due from work in four separate litigation matters on behalf of a client, Dr. Morry Waksberg (Waksberg litigation). Also in dispute was the amount of liability that should be attributed to Rappaport under the office space lease.

At trial, Rappaport presented expert testimony by Jan Goren (Goren), a certified public accountant, and Paul Kelley (Kelley), a civil litigator who was specifically retained to value the Hughes litigation and Waksberg litigation receivables. GRG presented expert testimony by David Nolte (Nolte) of Fulcrum Financial Inquiry.

3. Trial Court’s Ruling

The trial court issued an extensive statement of decision which set forth the valuation methodology that it adopted and applied to the various assets and liabilities in issue. It began its analysis as follows: “[Section 16701] permits an individual to ‘dissociate’ from the partnership while permitting the remaining partners the option of buying out the departing partner as of a given date, while continuing the partnership.. . . Essentially, neither the departing partner nor the remaining partners should obtain an advantage by the dissociation. The basic policy judgment is that the departing partner should get the same amount through the buyout that he or she would get if the business were wound up.” (Italics added.)

“While the statute sets forth two alternatives for valuing the dissociating partner’s interest, there remains some question whether the concept of sale as of the entire business is theoretically possible when applied to a law practice. ... HQ As applied to the instant case, the parties agree upon which assets must be valued to determine Rappaport’s share as of October 31, 2005. The disagreement lies in the method of valuation.”

The trial court reasoned, “Because of the peculiar relationship between dissociation and the wind-up process when applied in the law firm context, a construct is created to calculate a value as of October 31, 2005, based upon individual assets being liquidated over time, and then bringing the value ‘back’ to the date of dissociation.” The trial court was persuaded by the testimony of Rappaport’s expert, Goren, who opined “that in assessing value, one would calculate an amount on October 31[, 2005,] based upon individual assets being liquidated over time, calculating risk, and then bringing the value ‘back’ to the date of dissociation. Whether looking at sale of the business as [a] whole, or by liquidation of assets, Goren assumed all partners were attempting to maximize the value of the assets. He did not view ‘liquidation’ as assuming the sale of all assets on one date.”

With respect to the three major assets of GRG and the lease liability, the trial court ruled as follows:

a. General Accounts Receivable

On the date of Rappaport’s dissociation, GRG, like most law firms, had a number of accounts receivable. Nolte, for the defense, valued the general accounts receivable at 25 percent of face value for accounts under 90 days, and of no value thereafter, for a total valuation of $60,800. Nolte reasoned as follows: “Due to the nature of most ‘service’ businesses, a strict liquidation assumption provides a serious discount when compared to the face amount of a receivable. Service receivables are not the result of a transfer of acceptable physical goods, but are instead subject to after-the-fact claims that the billed services were not desired, of poor quality, etc. In this situation there is almost no market for the non-recourse sale of ‘service’ receivables, especially where the service provide[r] is not providing ongoing work that the debtor needs. As a result, the receivables of a ‘service’ business have almost no value under the treatment prescribed by law in the case of a withdrawing partner.”

Goren, in turn, valued 0-90 day receivables at 90 percent of face value, 90-180 day receivables at 55 percent of face value, and agreed that receivables had no value if they exceeded 180 days, for a total valuation of $256,842. Goren noted the assessment of accounts receivable was particularly difficult in the context of a statutory dissociation “because in a partnership windup, there is an orderly process over time, where under [section] 16701, one must make an assumption as to an orderly process, yet value the asset at a particular point in time.” Goren based his valuation of the receivables upon GRG’s 85 percent collection rate for the year 2005 to date.

The trial court fully credited Goren’s testimony in this regard and found Rappaport had “met his burden as to the accounts receivable analysis.”

b. The Contingency Fee in the Hughes Litigation

In July of 2002, Rappaport was retained on a contingency fee basis to represent Craig Hughes, a former employee of U.S. Foodservice, in an employment discrimination action (Gov. Code, § 12940 et seq.) filed in federal court. The district court entered judgment in Hughes’s favor following a bench trial and awarded him damages, statutory attorney fees consisting of a lodestar ($400,000) and multiplier (25 percent), costs and interest. The defendant appealed to the Ninth Circuit Court of Appeals. As of the statutory buyout date of October 31, 2005, appellate briefing had been completed and the case was awaiting a date for oral argument.

Kelley, on behalf of Rappaport, “opined that given his experience as a litigator, the case had a buyout value ranging from 85%-95%, from which he chose a buyout value of 90% of the $900,000 recovery on October 31—in essence, a 10% risk of loss in the Ninth Circuit.” Kelley based the high market value on three factors: the standard governing the issues was the deferential substantial evidence standard; the major issue on appeal, which involved exclusion of certain evidence, was not well briefed and was, thus, unlikely to result in reversal; and, with respect to mitigation of damages, the defendant-employer had failed to meet its burden to show the availability of comparable or substantially similar employment. Further, there was no risk regarding the satisfaction of a judgment because the employer was a solvent corporation and had posted an appeal bond.

With respect to the Hughes litigation, Rappaport’s other expert, Goren, opined that “settlement value” was “ ‘frankly’ the only reasonable value one can place upon ongoing litigation in the context of a buyout value under [section] 16701.” Nolte, for the defense, objected to use of a settlement figure as the buyout value. Nolte opined the buyout value of the Hughes litigation was 50 percent of the value of the judgment.

The trial court credited Rappaport’s expert testimony and found it was appropriate to base the valuation of the Hughes litigation contingency fee on its settlement value, in that “anyone experienced in settlement negotiations recognizes such a value as that in which each side has, at least in theory, recognized the value of the case based upon its risks and strengths, i.e., much as market decisions are made.” In accordance with Rappaport’s valuation, the trial court found “the Hughes receivable has a buyout value of 90% of $800,000 ($900,000 minus the $100,000 fee reduction[]), or $720,000.”

c. The Waksberg Litigation

In September of 2003, GRG entered into what the trial court characterized as a “stormy litigation relationship” with Dr. Morry Waksberg, a “ ‘career’ litigator.” Dr. Waksberg was involved in substantial litigation with the United States government and Transamerica Life Insurance Company, and was also prosecuting lawsuits against three prominent law firms which had represented him in the past. GRG knew Dr. Waksberg was “difficult” but believed the firm could “manage” him. GRG undertook to represent Dr. Waksberg based on the belief that the Transamerica litigation was about to settle for approximately $11 million. Dr. Waksberg apparently indicated an inability to pay attorney fees to GRG pending settlement with Transamerica. GRG agreed to await payment and included in the retainer agreement a clause that provided GRG with 1.5 times its normal hourly rate pending settlement and payment, after which GRG would bill at its normal hourly rate.

The trial court found that “GRG had no greater ability to ‘manage’ [Dr.] Waksberg than did prior counsel.” GRG was relieved as Dr. Waksberg’s counsel in late 2004, and GRG subsequently filed lien notices in Dr. Waksberg’s pending cases for fees and costs he owed. As of the buyout date, GRG’s billings to Dr. Waksberg, including the 1.5 fee multiplier, amounted to $1,289,339.

As of the date Rappaport left GRG, the firm had four matters pending involving Dr. Waksberg: (1) an arbitration initiated by GRG to establish and reduce to judgment the amount of fees and costs owed; (2) a lawsuit filed by Dr. Waksberg seeking to invalidate GRG’s lien rights, void the retainer agreement, and enjoin the arbitration proceedings; (3) an interpleader filed by Transamerica; and (4) a multimillion dollar action for malpractice against GRG.

Kelley, for Rappaport, opined the buyout value of the uncollected Waksberg litigation fees of $1,289,339 as of October 31, 2005, at 66% percent of their value, or $859,559, of which Rappaport was entitled to 31 percent, or $266,463. Kelley considered the buyout value appropriate “because of the strength of the lien.”

In contrast, Nolte valued the buyout value of the uncollected Waksberg litigation fees at zero. Unlike Kelley, who analyzed the Waksberg litigation fees apart from the contingent liability presented by Dr. Waksberg’s malpractice claim, Nolte viewed them as one consolidated package. Nolte opined “the liability portion of Waksberg offset the value of the lien such that absent purchase of buyout insurance, the receivable, when coupled with the malpractice claim was unsalable.”

The trial court found Nolte’s approach “essentially concludes that the seller would be willing to give the asset away,” and rejected the notion “that in a market with a willing buyer, and willing seller, Waksberg would be wholly without value as an asset.” The trial court found, “based upon the Kelley testimony and the court’s review of the facts presented, [that] the legal malpractice claim does not present a substantial impediment to obtaining some net financial recovery from the lien filed on behalf of GRG” and thus, the Waksberg litigation receivable did have value contrary to Nolte’s conclusion.

Although the trial court found value in the Waksberg litigation receivable, it found no evidentiary basis for Kelley’s conclusion that the buyout price for the receivable was 66% percent of total fees as of October 31, 2005. Because the evidence did support the conclusion that the Waksberg litigation receivable had value but did not support the specific valuations assigned by the competing experts, the trial court adopted the mean value of the receivable, that is, 33% percent of $1,289,339, or $429,779.66.

d. The Office Space Lease Liability

Rappaport’s expert, Goren, determined that Rappaport’s portion of the liability for the firm’s office space totaled $25,293. Nolte, appellants’ expert, found that Rappaport’s liability totaled $58,305. Without elaboration, the trial court determined that the total lease liability that should be apportioned to Rappaport was $37,759.

4. Judgment and Appeal

On November 17, 2008, the trial court entered judgment in favor of Rappaport for his 31 percent share of the partnership in the sum of $230,758 plus interest from November 1, 2005, to the date of judgment. (§ 16701, subd. (b).) Although the trial court did not include an explanation of how the final judgment amount was calculated in its statement of decision, we were able to recreate the calculation based on information from the record, including the parties’ experts’ testimony. Our calculations show that the trial court made a small mathematical error in the sum of $1,064.80.

The trial court further held that both Gelfand and Glaser, individually, as well as both limited liability partnership entities, GG and GRG, were liable for the buyout price due to Rappaport. The trial court also found in favor of Rappaport on the cross-complaint, finding that GG had failed to meet its burden to establish the elements of its causes of action for money had and received and for conversion.

Appellants filed a timely notice of appeal from the judgment.

CONTENTIONS

Appellants contend that the trial court erred in its interpretation of section 16701, subdivision (b), which requires the buyout price to be calculated by valuing the limited liability partnership’s assets as if sold for liquidation value on the date of dissociation; instead, the trial court erroneously created a “construct” based upon individual assets being liquidated over time and then bringing the value “back” to October 31, 2005, the date of dissociation.

Appellants also contend that the trial court erred in entering judgment against the individual defendants because both GG and GRG are limited liability partnerships and individual limited partners in a limited liability partnership are not liable for such partnership’s obligations.

DISCUSSION

1. Statutory Formula for Determining Buyout Price of Dissociating Partner’s Interest

There is no dispute that this matter is governed by the UPA. (§ 16100 et seq.) The UPA’s definition of “business” as including “every trade, occupation, and profession” (§ 16101, subd. (1)) “precludes an exception for law partnerships.” (Jewel v. Boxer (1984) 156 Cal.App.3d 171, 177 [203 Cal.Rptr. 13] (Jewel).) The UPA defines “partnership” to include “a registered limited liability partnership.” (§ 16101, subd. (9).) Thus, the provision at issue, section 16701, applies to registered limited liability partnerships such as GG and GRG.

Under the UPA, if there is a dissociation of a partner, as contrasted with a dissolution of the partnership, the remaining partners have a right to continue the business and the dissociated partner has a right to be paid the buyout price of his or her partnership interest. (§ 16701, subd. (a).) Section 16701 addresses the buyout of a partner’s interest pursuant to the UPA when the partnership business is not wound up. Section 16701 provides in pertinent part: “(a) If a partner is dissociated from a partnership, the partnership shall cause the dissociated partner’s interest in the partnership to be purchased for a buyout price determined pursuant to subdivision (b). H] (b) The buyout price of a dissociated partner’s interest is the amount that would have been distributable to the dissociating partner under subdivision (b) of Section 16807[] if, on the date of dissociation, the assets of the partnership were sold at a price equal to the greater of the liquidation value or the value based on a sale of the entire business as a going concern without the dissociated partner and the partnership was wound up as of that date. Interest shall be paid from the date of dissociation to the date of payment.” (Italics added.)

The UPA allows partners to deviate from its default provisions by negotiating such deviations in a contractual partnership agreement. Section 16103 states at subdivision (a): “Except as otherwise provided in subdivision (b), relations among the partners and between the partners and the partnership are governed by the partnership agreement. To the extent the partnership agreement does not otherwise provide, this chapter governs relations among the partners and between the partners and the partnership.”

Thus, parties are free to enter into their own agreements concerning the buyout of a dissociating partner’s interest. However, in the absence of such an agreement, the buyout of a departing partner’s interest in the partnership business is governed by section 16701. As there is no oral or written partnership agreement between the parties that governs dissociation, Rappaport’s dissociation is governed by the default provisions found in section 16701.

2. The Trial Court’s Interpretation of Section 16701 Is Correct and Its Application of the Statute Was Both Reasonable and Consistent with the Statutory Language

The focus of this appeal is section 16701, subdivision (b), which states in pertinent part: “The buyout price of a dissociated partner’s interest is the amount that would have been distributable to the dissociating partner ... if, on the date of dissociation, the assets of the partnership were sold at a price equal to the greater of the liquidation value or the value based on a sale of the entire business as a going concern without the dissociated partner and the partnership was wound up as of that date.” (Italics added.)

Appellants contend that the trial court erred as a matter of law in its interpretation of section 16701, subdivision (b). Specifically, appellants make five separate arguments in support of their contention: (1) the trial court erred in permitting Rappaport to offer testimony from an accountant and a lawyer regarding the proper method of valuing GRG’s assets and liabilities; (2) the trial court erred by looking to external sources of information to construe section 16701, subdivision (b), because the statute is not ambiguous; (3) the trial court erred in attempting to conform its interpretation and application of section 16701, subdivision (b), to the process a law firm would follow in an orderly dissolution; (4) the trial court erred when it failed to value the assets as if they were sold for liquidation value on the date of dissociation; and (5) the trial court abused its discretion when it admitted testimony of Goren and Kelley regarding the interpretation of section 16701, subdivision (b), and such admission is prejudicial.

The majority of appellants’ arguments need not be addressed separately, as each can be dispensed with based on our analysis of the interpretation of the relevant statutory language. Issues involving statutory construction are questions of law and are, thus, reviewed de novo. (SBAM Partners, LLC v. Wang (2008) 164 Cal.App.4th 903, 907 [79 Cal.Rptr.3d 752].) “As the matter is a question of law, we are not bound by evidence on the question presented below or by the lower court’s interpretation. [Citations.] [