In re: Adam Aircraft Industries, Inc.
Filing
23
ORDER re: 8 BANKRUPTCY RECORD ON APPEAL, 15 SUPPLEMENTAL BANKRUPTCY RECORD ON APPEAL. filed by Jeffrey A. Weinman. Order of the bankruptcy court is AFFIRMED. by Judge R. Brooke Jackson on 7/6/15. (jdyne, )
IN THE UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF COLORADO
Judge R. Brooke Jackson
Civil Action No 14-cv-02681-RBJ
IN RE: ADAM AIRCRAFT INDUSTRIES, INC.,
Debtor.
GEORGE F. ADAM JR.,
Appellant,
v.
JEFFREY A. WEINMAN, as Chapter 7 Trustee and
ALLEN & VELLONE, P.C.,
Appellees.
ORDER
George F. Adam, Jr. appeals from a bankruptcy court award of a partial contingent fee to
the Trustee’s special counsel notwithstanding that, in Mr. Adam’s view, there was no “recovery”
to the bankruptcy estate on which a contingent fee could be calculated. For the reasons set forth
in this order, the judgment of the bankruptcy court is affirmed.
FACTS and CASE HISTORY
Mr. Adam was the founder and the largest common shareholder of Adam Aircraft
Industries, Inc., a manufacturer of small aircraft. On February 15, 2008 Adams Aircraft filed a
petition for bankruptcy under Chapter 7 of the Bankruptcy Code. Morgan Stanley Senior
Funding, Inc. and Morgan Stanley & Co., LLC, on behalf of themselves and a consortium of
1
other lenders (collectively “Morgan Stanley”), were the largest secured creditors of the estate.
Morgan Stanley also had substantial unsecured claims.
Asset Sale
A few months after the bankruptcy filing the Trustee, Jeffrey A. Weinman, sold the
debtor’s assets for $10 million cash in a single transaction. Initially the Trustee agreed that
Morgan Stanley and the bankruptcy estate would divide the portion of the sales proceeds that
was subject to Morgan Stanley’s security interest, 91% to Morgan Stanley and 9% to the estate.
R. 279-80.1 The Trustee, apparently pursuant to that agreement and with the approval of the
bankruptcy court, distributed $5,826,837.30 of the sale proceeds to Morgan Stanley. R. 70.
Investigation of Potential Claims against Morgan Stanley
Later the Trustee decided that he should investigate the validity of that he calls the
“forced transfer” of those funds to Morgan Stanley as well as Morgan Stanley’s conduct in the
months leading up to the bankruptcy petition. He described the circumstances of this bankruptcy
as unique in his experience (which includes serving as a trustee in more than 25,000 bankruptcy
cases) because it involved the “sudden failure of a company that had been operating full bore just
a month or so before and had obtained financing somewhat shortly before, in excess of $100
million, and then the secured lender’s actions . . . effectively put it out of business.” R. 276.
In March 2010 the Trustee applied for the court’s approval, pursuant to 11 U.S.C. § 327,
to retain the Denver law firm of Allen & Vellone as Special Counsel to the Trustee for the
1
Certain assets such as avoidance actions were not subject to Morgan Stanley’s security interest.
2
purpose of investigating Morgan Stanley’s conduct. R. 7-8.2 Allen & Vellone is a firm with
which Mr. Weinman has had a long association.3 The fee was to be determined by the firm’s
hourly rates of $375 for Patrick D. Vellone, $285 for Mathew M. Wolf, $110 for law clerks and
$100 for paralegals, subject to the court’s ultimate review and approval. Id. The court approved
the application on March 11, 2010. R. 16.
Over the next seven to eight months the law firm investigated potential claims against
Morgan Stanley and billed for its services using the hourly rate schedule. The law firm
determined that the estate did have viable causes of action, and the estate authorized the firm to
file a complaint based on those claims. R. 17-18.
Modified Contingency Fee Agreement
According to both Mr. Vellone and the Trustee, the Trustee wanted the law firm to
pursue the litigation solely on a contingency fee. R. 243, 260; 282. The Trustee’s concern was
that the litigation could be “hard and long and costly.” R. 283. He claims that he did not
anticipate an easy, quick settlement. Id. In any event, Mr. Vellone declined to take the case
solely on a contingent basis, indicating that it was more risk than his law firm was willing to
take. R. 243.
Nevertheless, according to Mr. Vellone, he did believe that the case offered sufficient
potential to justify a blended hourly and contingent fee arrangement. R. 245. Ultimately, Mr.
Vellone and the Trustee negotiated a Modified Contingency Fee Agreement. R.21. Under that
2
Section 327(a) of the Bankruptcy Code permits a trustee, with the court’s approval, to employ attorneys
to represent or assist the trustee in carrying out the trustee’s duties.
3
Mr. Vellone has known Mr. Weinman for about 25 or the 27 years he has practiced law, and he has
either represented him or co-counseled cases with him more than one hundred times. R. 257.
3
Agreement the fee would be determined by a combination of 75% of the firm’s normal hourly
rates plus 15% of the “gross amount recovered” by the firm on behalf of the estate through
settlement or trial. Id. The term “gross amount recovered” was defined to mean “the total
amount recovered before any subtraction of expenses and disbursements, including any amount
collected by virtue of trial or any settlement of the Matter prior to trial or any reduction in the
Client’s liability to the Defendants under the Bankruptcy Code.” R. 21-22 (emphasis added).
Mr. Adam objected that the proposed modification was not in the best interest of the
estate or its creditors. R. 34. He argued that the only change in circumstances was that the
firm’s investigation had revealed that the estate had meritorious claims. There was no
suggestion that the estate could not continue to pay on an hourly rate basis. Although neither the
Trustee nor the law firm had provided an estimate of the recovery, Mr. Adam suggested that it
potentially could be in the tens of millions of dollars. He argued that there was no justification
for permitting the firm to continue to bill hourly rates while also being allowed to participate in
the recovery. R. 35-38.
Before the modified contingency agreement was considered by the bankruptcy court, and
apparently because counsel was concerned about a possible statute of limitations problem, the
law firm filed a lawsuit against Morgan Stanley in district court seeking damages for breach of
contract. Jeffrey Weinman, as Chapter 7 Trustee for the Bankruptcy Estate of Adam Aircraft v.
Morgan Stanley Senior Funding, Inc., Morgan Stanley & Co., Inc., No. 10-cv-2933-REB-KMT.
The parties then began, for the first time, to explore possible settlement. Mr. Vellone focused
primarily on Morgan Stanley’s secured interest in the remaining money in the estate’s bank
account. However, a secondary concern voiced by the Trustee was that even if the estate could
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obtain a release of the secured claim, Morgan Stanley was still in a position potentially to get
back through its unsecured claims everything they might give up by releasing the secured claim.
R. 285-86. In any event, the initial settlement negotiations were unsuccessful. R. 285.
Meanwhile, Mr. Vellone decided that, because of certain liability releases in the contracts
with Morgan Stanley, a better strategy would be to pursue claim subordination in the bankruptcy
court. R. 247. On March 9, 2011 the law firm filed a voluntary notice of dismissal of the district
court case and, on the same day, it filed an Adversary Complaint on behalf of the Trustee against
Morgan Stanley in the bankruptcy court. R. 42.
In the Adversary Complaint the Trustee alleged that in early 2007 Morgan Stanley agreed
to underwrite $120 million in financing for Adams Aircraft; then, after the company ceased
negotiations with other prospective lenders, Morgan Stanley cut its commitment to $80 million,
still taking a $4 million transaction fee; then, after taking substantial losses in the credit crisis
that emerged in mid-2007, Morgan Stanley without cause served the company with a notice of
default and froze approximately $40 million in the company’s accounts, basically a ruse to get
out of its commitment to Adams Aircraft. The Trustee alleged that Morgan Stanley’s actions
made it impossible for the company to continue to operate and forced it into bankruptcy. R. 4655. The Trustee sought equitable subordination or disallowance of Morgan Stanley’s secured
and unsecured claims and remission to the estate of approximately $36 million that Morgan
Stanley had been paid on the loan. R. 56-57.
On March 11, 2011, two days after the filing of the Adversary Complaint, the bankruptcy
court heard argument on Mr. Adam’s objection to the modified contingency fee agreement.
Instead of ruling definitively one way or the other, the court decided to approve the fee
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agreement “at least for now . . . for purposes of allowing this case to go forward,” adding that “if
there is success” the court would deal with the fee issue then. R. 137.
Settlement
No formal discovery was obtained in the adversary proceeding. Morgan Stanley filed a
motion to dismiss under Rule 12(b), which was denied. In re Adam Aircraft Industries, Inc.,
2012 WL 646273, at *5 (Bankr. D. Colo. Feb. 28, 2012). The Trustee and Morgan Stanley then
negotiated a settlement. R.69-75.
In the Settlement Agreement the parties recited, as relevant here, (1) that Morgan Stanley
had asserted secured claims totaling approximately $56.6 million on behalf itself and other
lenders who participated in the Morgan Stanley loan; (2) that the Trustee had sold substantially
all of the company’s assets to a third party for a gross purchase price of $10 million; (3) that the
Trustee had paid $5,826,837.30 to Morgan Stanley from those proceeds; (4) that, after deducting
the Trustee’s Carve-out Proceeds ($581,255.45) and certain other amounts ($910,824.25), the
“Remaining Sales Proceeds” from the $10 million asset sale were $2,681,083.00;4 (5) that
Morgan Stanley had a secured interest in the Remaining Sales Proceeds; (6) that Morgan Stanley
asserted an unsecured claim in whatever is not covered by its secured interest in the Remaining
Sales Proceeds, including the “Trustee’s Carve-Out Proceeds” and the “Trustee’s Recovery
Proceeds” (monies that the Trustee has recovered “by virtue of avoidance and similar actions”);
4
The figure $910,824.25 is a number I derived by subtracting from the $10 million sales proceeds the
$5,826,837.30 paid to Morgan Stanley and $581,255.45 in Trustee Carve-out Proceeds, and the
$2,681,083.00 denominated as the “Remaining Sales Proceeds.” It might be explained in an order entered
March 10, 2008. See Settlement Agreement, Recital G. R. 70. That order was not included in the record
filed with this Court. If one takes 45.72% of what the Trustee’s motion describes as “$2,028,316 in
preference recoveries plus additional estate recoveries (the ‘Trustee Recovery Proceeds’),” R.64, the
result is a different number: $927,346.08.
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(7) that the bankruptcy court had determined that the City of Pueblo is entitled to a payment from
the Remaining Sales Proceeds of $709,065.72 on a lien claim; 5 and (8) that the Trustee had
commenced an Adversary Proceeding seeking, among other things, equitable subordination of
Morgan Stanley’s claims. R. 69-70. The settlement provided that Morgan Stanley would assign
its secured claim to the Trustee and subordinate its unsecured claim to all other claims, and the
Trustee would seek dismissal of the Adversary Proceeding and release Morgan Stanley from all
other claims. R. 71-72.
In a motion to approve the settlement the Trustee stated that he believed that the value of
the settlement to the bankruptcy estate was “at least $3,097,952.99.” R. 63, ¶4.d. This was
represented to be 91% of Morgan Stanley’s secured claim in the Remaining Sales Proceeds plus
45.72% of Morgan Stanley’s unsecured claim. R. 64.
Specifically, the value to the estate of the release of Morgan Stanley’s secured claim was
said to be $1,794,535.72, derived by deducting the Pueblo lien ($709,065.72) from the
Remaining Sales Proceeds ($2,681,083.00) and multiplying by .91 (91%). The Trustee
estimated that all unsecured claims totaled $111,000,000; that Morgan Stanley’s unsecured
claims totaled $50.7 million, or 45.72% of the total; and, therefore, that Morgan Stanley had a
45.72% interest in the sum of (1) $241,297.47, being the nine percent of the Remaining Sales
Proceeds not covered by Morgan Stanley’s security interest; (2) $581,255.45, being the “Trustee
Carve-out Proceeds;” and (3) $2,028,316.00, being the “Trustee Recovery Proceeds.” Thus,
5
The Trustee believed that the Pueblo lien was only worth $301,094.89 and appealed the bankruptcy
court’s valuation. The appeal for the most part was not successful, but it did result in decreasing the
Pueblo lien from $709,065.72 to $706,819.32. In re Adam Aircraft Industries, Inc., No. 12-cv-11573CMA, 2013 WL773044, at *4 (D. Colo. Feb. 28, 2013).
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Morgan Stanley’s unsecured claim totaled $1,303,417.27. The total savings was the sum of
$1,303,417.27 and $1,794,535.72, i.e., $3,097,953.99.
According to Mr. Vellone, there were no objections to the settlement. R. 252. The
bankruptcy court issued a brief order, in the form tendered by the Trustee, approving the
settlement on July 3, 2012. R. 77.
Fee Application
On July 30, 2012 the law firm filed an application for approval of $538,085.95 in
attorney’s fees and $10,145.82 in costs. R. 78. The law firm represented that the hourly
component of the requested fee award was $73,086.37. R. 84. It represented that the reduction it
had achieved in the estate’s liability to Morgan Stanley was $3,099,977.22, R. 82.6 Fifteen
percent of that number is $464,996.58. The sum of those two numbers is $538,082.95, a number
$3.00 less than the fee requested.7 The fee amounts to more than five times what the fee would
have been at 100% of the law firm’s normal hourly rates.
As for the Adversary Proceeding, Mr. Vellone insisted that he still believed that the
Trustee’s claims were meritorious. However, he characterized the litigation as uncertain, risky
and expensive – so much so that he gave it no monetary value. R. 65-66. Rather, “by causing
Morgan Stanley to forego its secured and unsecured claims, any rights in all current and future
estate assets, and assign its lien in the Reserve Fund to the Estate, the Estate will have achieved
6
This number is higher than the $3,097,952.99 originally determined to be the amount of the savings
because of the reduction of the Pueblo lien ordered by the district court. See n.6 supra.
7
The law firm represented in its motion that the hourly component was $73,086.37. This is 75% of the
rates that would have been charged. However, the supporting affidavit of Patrick Vellone states that the
hourly component was $72,850.13. R. 95. That would make a difference of $236.24 in the amount of the
fee. Neither Mr. Adam nor the bankruptcy court has made an issue on appeal of that nominal difference.
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through this settlement 100% of the relief it seeks in its Equitable Subordination claim in the
Adversary Proceeding.” Id. at 67.
Objection and Hearing
On October 5, 2012 Mr. Adam filed an objection to the contingent portion of the fee
application, purportedly on behalf of himself and all other creditors of the bankruptcy estate. R.
141. The law firm filed a response. R. 148. The bankruptcy court held a hearing on the
application for attorney’s fees and costs on November 13, 2012. R. 211-318 (transcript).
Counsel for the law firm called two witnesses, Mr. Vellone and the Trustee, in support of the
application.
Mr. Vellone testified, among other things, that a fee contingent on either a recovery or a
reduction in liability is customary in lender liability cases. R. 243. He added that most lender
liability cases are resolved by claims reduction. R. 243-44. His firm had handled other cases on
a combination of discounted hourly rates and a discounted contingency fee. “In fact, they’re
pretty common.” R. 245. In contrast, in “garden-variety” cases where trustees challenge proofs
of claim the standard practice is that counsel is hired on an hourly rate. R. 273.
The Trustee testified that Morgan Stanley’s release of its secured and unsecured claims in
the settlement “at least – at least – doubled whatever distribution there will be to the unsecured
creditors.” R. 288.8 He added that he never thought when the Adversary Proceeding was
brought that Morgan Stanley would write a check to the bankruptcy estate. His hope was that he
could retain the funds in the estate’s bank account and get rid of the unsecured claims. R. 290.
8
Mr. Weinman testified that, as of the date of the attorney’s fee hearing, he believed there was between
$4 and $5 million in the estate, about half from the remainder of the “Remaining Sales Proceeds,” and the
rest from separate adversary proceedings brought by the Trustee. R. 298-301.
9
Mr. Adam through counsel opposed the contingent piece of the fee application. In his
view, Colorado’s Rules Governing Contingent Fees, found at Chapter 23.3 of 1 COLORADO
COURT RULES – STATE (2015) (hereafter “Colorado Contingent Fee Rules”), and related case law
base contingent fees on amounts actually recovered, not on saving a client from paying out to the
other side. R. 216-21. He did not oppose compensating the law firm according to the original
agreement (which the parties agree would have been $97,448.50 at 100% of the hourly rates). R.
222-24.
During the hearing counsel for Mr. Adam cross-examined the law firm’s two witnesses,
Mr. Vellone and the Trustee, Mr. Weinman. During cross-examination of Mr. Vellone, counsel
also suggested, apparently for the first time, that the law firm might not have provided the
Trustee with a written disclosure statement, as required by Rule 4 of Colorado’s Rules
Governing Contingent Fees. R. 262.9 Mr. Adam did not call any other witnesses.
In his closing argument counsel emphasized his agreement, on behalf of Mr. Adam, that
Morgan Stanley put the company into bankruptcy; that there was good basis for litigation against
Morgan Stanley; that it was going to be difficult litigation; that he understood the risks, problems
and costs that would be involved; and that the settlement benefitted the estate. R. 303-05. But,
in his view, the contingency fee component of the modified contingency agreement was
inappropriate. The firm would have been compensated at their normal hourly rates, there was no
recovery in the usual sense of the word, and attempting to determine the dollar amount saved for
the client is a matter of speculation. R. 305-10.
9
Mr. Vellone testified that he made the disclosures orally. He believed that they had also been provided
in writing, although he did not have a copy available at the hearing. R. 262-64.
10
Counsel for the law firm responded that Mr. Adam had no standing to challenge the fee
arrangement, which was a contract between the law firm and its client, the Trustee. R. 313.
Alternatively if the court invalidated the fee agreement, then the law firm would be entitled to
receive the “reasonable value of their services.” R. 313-14. He suggested that the fee requested
did reflect the reasonable value of the services as determined by applying the relevant factors per
§ 330 of the Bankruptcy Code, the Johnson [v. Georgia Highway Express, Inc., 488 F. 2d 714
(5th Cir. 1974], and the Rules of Professional Conduct. R. 314-16.
Bankruptcy Court Ruling
After taking the matter under advisement, the bankruptcy court issued written findings
and conclusions on February 1, 2013. R. 166-75. The court began with §§ 328 and 330 of the
Bankruptcy Code. In relevant part § 328 provides,
(a) The trustee . . . , with the court’s approval, may employ . . . a professional
person . . . on any reasonable terms and conditions of employment, including on a
retainer, on an hourly basis, on a fixed or percentage fee basis, or on a contingent
fee basis. Notwithstanding such terms and conditions, the court may allow
compensation different from the compensation provided under such terms and
conditions after the conclusion of such employment, if such terms and conditions
prove to have been improvident in light of developments not capable of being
anticipated at the time of the fixing of such terms and conditions.
11 U.S.C. § 328(a).
In relevant part § 330 provides,
(a)(1) After notice to the parties in interest and the United States Trustee and a
hearing, and subject to sections 326, 328, and 329, the court may award to a . . .
professional person employed under section 327 . . .
(A) reasonable compensation for actual, necessary services rendered by the . .
. professional person . . . ; and
(B) reimbursement for actual, necessary expenses.
(2) The court may . . . award compensation that is less than the amount of
compensation that is requested.
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(3) In determining the amount of reasonable compensation to be awarded . . . the
court shall consider all relevant factors, including –
(A) the time spent on such services;
(B) the rates charged for such services;
(C) whether the services were necessary to the administration of, or beneficial
at the time at which the service was rendered toward the completion of, a case
under this title
(D) whether the services were performed within a reasonable amount of time,
commensurate with the complexity, importance, and nature of the problem,
issue, or task addressed;
(E) with respect to a professional person, whether the person is board certified
or otherwise has demonstrated skill and experience in the bankruptcy field;
and
(F) whether the compensation is reasonably based on the customary
compensation charged by comparably skilled practitioners in cases other than
cases under this title.
(4)(A) Except as provided in subparagraph (B) [which is not relevant here], the
court shall not allow compensation for . . .
(ii) services that were not -(I) reasonably likely to benefit the debtor’s estate; or
(II) necessary to the administration of the estate.
11 U.S.C. § 330(a)(1)-(4).
The court reasoned that, under these provisions and cases interpreting them, the threshold
issue is whether the attorney has demonstrated that his services benefitted the estate. If benefit is
shown, then the court determines the reasonableness of the fee using a “lodestar” analysis. R.
171.
The court found that the settlement benefitted the estate. While Morgan Stanley retained
the $5,826,837.30 distribution that the court had approved in 2009, the release of its secured and
unsecured claims to the remaining assets meant that “all of the estate’s unencumbered funds may
be paid to unsecured creditors other than Morgan Stanley, resulting in a benefit to the estate.” R.
172.
12
Regarding reasonableness of the fee, the court turned to In re Market Center East Retail
Property, 469 B.R. 44 (B.A.P. 10th Cir. 2012). There, after construing the factors listed in §
330(a)(3) of the Code as illustrative but not exhaustive, the bankruptcy appellate panel stated,
Indeed, the only prohibition upon a court’s review of compensation is found when
a court approves a contingent fee under § 328. It is well established that once a
contingent fee has been approved under § 328(a) the bankruptcy court may not
revoke such approval and award compensation upon something other than a
contingent fee basis unless “such terms and conditions prove to have been
improvident in light of developments not capable of being anticipated at the time
of the fixing of such terms and conditions.”
Id. at 54.
The bankruptcy court noted the law firm’s claim was based on its claim that the
settlement reduced the estate’s liability to Morgan Stanley by $3,099,997.22. R. 173. The court
did not expressly analyze that figure or make its own finding as to the amount of the reduction of
liability. Instead, it implicitly found the figure and the resulting $464,999.58 contingent fee to be
reasonable “because the estate benefitted due to reduced liability, and . . . Adam has not
established any basis for changing the Modified Contingency Fee Agreement.” Id.
The court approved the amount of costs requested, $10,086.37, finding that they had been
appropriately itemized and appeared to be reasonable. R. 174. However, it rejected the hourly
rate component of the fee request, without prejudice, because the law firm had submitted only a
summary of the hours billed rather than the itemization required by a local bankruptcy rule. R.
173. But after the law firm filed a supplemental application including the itemization of its hours
and charges as required by the local rule, the hourly rate component of the fee, $73,086.37, was
also approved. R. 320.
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First Appeal
On May 6, 2013 Mr. Adam filed a notice of appeal from the bankruptcy court’s orders
approving the law firm’s fee application. R. 321. The district court, by Judge Arguello, noted
that in In re Market Center East Retail Property, Inc., 730 F.3d 1239 (10th Cir. 2013), the Tenth
Circuit had overturned the bankruptcy appellate panel’s decision cited by the bankruptcy court
and had held that the bankruptcy court must consider the § 330(a)(3) and relevant Johnson
factors “and only those factors” when evaluating the reasonableness of attorney’s fees under §
330. R. 330. Because the bankruptcy court had listed but not analyzed those factors, instead
approving a contingent fee under § 328, Judge Arguello reversed the approval of the requested
fee and remanded for reconsideration of the fee agreement in light of those factors. R. 331.
The Bankruptcy Court on Remand
With the bankruptcy court’s consent, both Mr. Adam and the law firm simultaneously
submitted proposed findings of fact and conclusions of law. No additional evidence was taken.
In a written order issued September 12, 2014 the court listed and discussed each § 330 factor and
each Johnson factor. R. 378-89.
Regarding the six § 330(a)(3) factors, the court found, based on its review of the firm’s
work and billing records, that the time spent (380 hours) was reasonable. R. 380. The rates were
comparable to rates charged in the community by attorneys of similar skill in similar cases. Id.
The services were beneficial to the estate because, as the court had previously found, the release
of Morgan Stanley’s secured and unsecured claims provided the estate with more money than it
would have had if the claims had remained in place. R. 381. The matter involved complex
14
transactions and legal questions and were performed in a reasonable time. Id. The attorneys
who worked on the engagement had demonstrated skill and professionalism in bankruptcy
matters, particularly where lender liability issues were involved. R. 381-82. And, critically, that
the compensation requested was reasonable. R. 382.
The latter finding of reasonableness was based on a number of additional findings
concerning the “hybrid” combination of hourly and contingent fees. The court cited Mr.
Vellone’s testimony that most lender liability cases are resolved by claims reduction, and that a
discounted hourly fee combined with a discounted contingency fee based on either a recovery or
a reduction in liability of the defendant is “pretty common” in such cases. R. 382. The court
also found that the law firm agreed to represent the trustee when other firms expressed no
interest. The court specifically found the testimony of Mr. Vellone and Mr. Weinman to be
“credible and reliable.” R. 383. Further, while acknowledging that the published case law
regarding hybrid contingency fees is “sparse,” it concluded that it did not follow that such fees
are improper or that they are not customary. Moreover, said the court, while In re Market Center
East Retail Property cautioned courts to avoid relying on a “big risk/big reward” argument in
evaluating the “time spent” factor under § 330(a)(3)(A), it also recognized that §330(a) does not
mandate any particular fee arrangement. R. 383.
The court also went through the Johnson factors, one by one, noting that his findings on
the § 330(a)(3) factors applied equally to several of the Johnson factors. In addition, with
respect to “The Customary Fee,” the Court found that the hybrid fee arrangement, while less
common than either straight hourly rate or contingent fee agreements, was negotiated by the
Trustee, as the estate’s fiduciary, after the Trustee obtained an initial assessment of the viability
15
of the estate’s claims against Morgan Stanley. R. 385. With respect to “The Amount Involved
and the Results Obtained,” the court pointed to the Trustee’s representation that withdrawal of
Morgan Stanley’s secured claim to approximately $2 million in sales proceeds and its agreement
not to assert an unsecured claim “enabled the Trustee to distribute funds to creditors other than
Morgan Stanley, a distinct financial benefit to the estate.” R. 387. As to the “Undesirability” of
the case, the court noted that the Trustee had discussed the case with his primary counsel, who
had expressed no interest. Id.
On “The Nature and Length of the Professional Relationship,” the court noted the
Trustee’s representation that he had employed the law firm with good results in the past, and Mr.
Vellone’s testimony about his long professional relationship with Mr. Weinman. Id. Finally,
under the heading “Awards in Similar Cases,” the court noted Mr. Vellone’s testimony, which he
repeated that he found to be credible, that he had performed services under similar hybrid
arrangements in other cases, once resulting in a fee that was five times the lodestar amount, and
another time receiving no contingent fee when the verdict was returned for the opposing party.
R. 388.
Based upon those findings and its analysis of the applicable factors, the court again
awarded $73,086.37 the firms recorded hours at 75% of the firm’s normal hourly rates; plus
$464,999.58, the contingent fee component based on 15% of $3,099,997.22; plus $10,145.82 in
expenses. R. 389. The court denied the law firm’s request for permission to file a second fee
application for the time spent on Mr. Adam’s objection and the appeal. Id. The court entered its
judgment accordingly. R. 402.
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Second Appeal
Mr. Adam appealed again, and this time the system assigned the appeal to this Court. It
has been fully briefed. Neither party has requested oral argument.
STANDARD OF REVIEW
The bankruptcy court’s conclusions of law are reviewed de novo, but the court’s findings
of fact are reviewed under a clearly erroneous standard. In re Market Center East Retail
Property, 730 F.3d at 1244. “A finding of fact is clearly erroneous if it is without factual support
in the record or if, after reviewing all the evidence, we are left with the definite and firm
conviction that a mistake has been made.” Id. (quoting In re Commercial Fin. Servs., 427 F.3d
804, 810 (10th Cir. 2005)).
CONCLUSIONS
Mr. Adam’s appeal boils down to the argument that a contingent fee may not be awarded
absent an influx of funds to the estate, although he comes at it from three different angles: (1)
there was no recovery on which a contingency fee could be based; (2) a contingency fee cannot
be based on the amount of cash in the client’s bank account; and (3) Colorado law requires a
recovery of funds in order to receive a contingent fee. I will discuss each argument in turn.
A. Is a Recovery of Funds a Necessary Requirement for a Contingency Fee?
I begin by putting the Modified Contingency Fee Agreement in the proper context. First,
and contrary to Mr. Adam’s Opening Brief, the evidence in the record does not support the
proposition that the Allen &Vellone law firm “sought to change the fee agreement to add a
contingency fee in addition to hourly fees.” ECF No. 9 at 7. Rather, the uncontested evidence is
17
that it was the Trustee, not the law firm, who requested that the litigation be handled on a
contingency fee. After Mr. Vellone indicated that his firm was not willing to take that much risk,
he and the Trustee compromised on a hybrid fee arrangement that included both an hourly and a
contingency component.
Second, the evidence does not suggest that basing a contingent fee on the “reduction in
the Client’s liability to the Defendants” was irrational. Morgan Stanley’s claims, if successfully
pursued, would consume most if not all of the estate’s remaining funds. The evidence is that the
Trustee’s primary objective in pursuing the Adversary Proceeding was to retain the funds in the
estate’s bank account by getting rid of Morgan Stanley’s claims. He testified that he did not
expect Morgan Stanley to “write a check.” In that context, if the law firm was going to accept
the engagement on a partial contingency fee, it makes sense that it would want it to be based on
reduction of the estate’s apparent liability to Morgan Stanley as an alternative to recovery of
additional funds from Morgan Stanley. The evidence in the record is that this type of hybrid
arrangement, based in part upon reduction of liability, was not uncommon in Mr. Vellone’s
experience or in lender liability litigation generally. In that regard, I bear in mind not only that
Mr. Adam presented no contrary evidence but also that the bankruptcy court explicitly found the
testimony of both the Trustee and Mr. Vellone to be credible.
Third, there was no objection to the settlement between the estate and Morgan Stanley.
Mr. Adam did not, for example, complain that the settlement provided no influx of additional
cash to the estate. On the contrary, his counsel commented more than once during the hearing
that the settlement was beneficial to the estate. Reflecting his satisfaction with the legal work
that culminated in the settlement, Mr. Adam continues to have no objection to the hourly rate
18
portion of the fee award ($73,086.37) or to the award of costs ($10,086.37). Id. at 13. He would
also consider a fee based on 100% of the hours recorded at the law firm’s normal hourly rates
(i.e., $97,448.50) to be reasonable. Id. at 15.
The foregoing background puts the fee agreement in context but begs the question of
whether basing a contingency fee on as reduction in the client’s liability is legally valid. I turn to
that next.
Mr. Adam begins by arguing that there was money to be had. For example, the
Adversary Proceeding could have obtained the return of the $5.8 million “improvidently
disbursed.” ECF No. 9 at 17. Whether the litigation might have accomplished reimbursement of
that payment, or even more – and at what cost – are matters of speculation. The Trustee made a
judgment call, and there is no basis in the record to assume that there would have been a pot of
gold at the end of the rainbow had the litigation ground on.
Next, Mr. Adam suggests, as he has before, that the Colorado Contingent Fee Rules apply
here. I doubt it. Mr. Adam cites no Tenth Circuit or Supreme Court authority, nor have I found
any, indicating that state law would regulate the fee paid pursuant to a federal statute to a lawyer
hired by a bankruptcy trustee to represent the estate in bankruptcy court. In my view regulation
of such fees is a matter of federal law. See In re 5900 Associates, Inc., 468 F.3d 326, 329 (6th
Cir. 2006) (“Fees in a bankruptcy proceeding are governed by federal, not state, law.”).
In any event, even if the Colorado Contingent Fee Rules were applied, I do not find them
to be supportive of Mr. Adam’s position that a contingent fee may not be based on reduction of a
client’s liability to a third person. Rule 1, headed “Definitions,” defines the term “contingent fee
agreement” as a written agreement for legal services “under which compensation is to be
19
contingent in whole or in part upon the successful accomplishment or disposition of the subject
matter of the agreement.” (emphasis added). That is consistent with the fee agreement here.
Rule 5, headed “Contents,” requires the agreement to include “a statement of the contingency
upon which the client is to be liable to pay compensation otherwise than from amounts collected
for him by the attorney.” The clear inference is that contingency fees are not necessarily based
on “amounts collected” by the attorney. It is true that the form provided with the Rules contains
the sentence, “The client will pay the attorney (including any associated counsel) ___ percent of
the (gross amount collected) (net amount collected).” Form 2. The form is designed for the
typical case where the fee is based on monies collected. It does not follow that it is the only way
that a contingency can be structured.
Mr. Adam is on stronger ground when he cites In re Bjone, No. 86-05426, 1987 WL
857514 (Bankr. D. N.D. April 28, 1987), not because the case has precedential value here but
because it gets to the heart of the potential weakness in a “reduction of liability” contingent fee
arrangement: determination of the amount of the savings to the client. As always, the facts are
important. The lawyer represented Bjone in two cases, both arising from a falling out among
partners over the financing and construction of a condominium project. In one case the partners
sued Bjone and others, including a bank, for $3.5 million plus punitive damages. The lawyer
agreed to charge $100 per hour to defend Bjone in that case. Bjone was the plaintiff in the
second case, seeking indemnity from the bank. In that case the lawyer agreed to represent Bjone
for a fee “contingent and based upon recovery as follows: settlement before trial, 25%; after
commencement of trial, 33 1/3%; after appeal 40%.” Id. at *1.
20
While the cases were pending Bjone filed a Chapter 7 bankruptcy case. Then both cases
were settled, the first by a payment to Bjone of $35,000 (and a mutual release), and the second
by releasing Bjone from his guarantees of a $450,000 note, a $95,000 mortgage debt, and
liability under various retail installment contracts. Id.
The problem arose when the lawyer determined, in a manner not specified to the
bankruptcy judge, that the releases in the second case resulted in savings to Bjone of $180,000.
The lawyer combined those savings with the $35,000 payment in the first case and, claiming thus
to have achieved a $215,000 “recovery,” sought a fee of 25% of that amount based on the fee
agreement in the second case. Bjorn objected.
The bankruptcy court, noting that a contingent fee based on an amount perceived by the
attorney to be a net savings to the client, cited Wunschel Law Firm, P.C. v. Clabaugh, 291 N.W.
2d 331 (Iowa 1980). There the fee agreement did provide for a fee of one-third of any amount
saved the client. The client was the defendant in a lawsuit wherein the prayer for relief in the
complaint was for $17,500. When the case was settled for $1,750, the lawyer contended that he
had therefore saved the client $15,750 and demanded one third of that amount as his fee. The
Iowa Supreme Court found that, absent agreement by the client, basing a fee on difference
between the ad damnum clause in the complaint and the amount ultimately awarded is so
speculative and unreasonable as to be void on grounds of public policy. The court permitted the
lawyer to seek recovery on a quantum meruit basis.
Similarly, the bankruptcy judge in Bjone found that the lawyer’s suggestion that he had
saved Bjone client $180,000 was speculative and not an appropriate basis on which to determine
a fee. He permitted the lawyer to reapply for a fee award on a quantum meruit basis. Id. at 3.
21
The facts here, however, are distinguishable in a manner that makes a difference. One
distinction, of course, is that unlike Bjorn (although similarly to Wunschel), the fee agreement
here does expressly provide for a contingent fee based on reduction in the client’s liability. That
alone is not dispositive, as the bankruptcy court always retains the ultimate authority to
determine a reasonable fee based upon consideration of the § 330 and Johnson factors. But here,
unlike both of those cases, the client did not object to the requested fee; on the contrary, the
Trustee affirmatively supported the fee request before the bankruptcy court. Also, Mr. Vellone
provided a specific method of calculating the amount of the savings to the estate, based on the
amount of the estate’s funds that he contends were subject to Morgan Stanley’s secured and
unsecured claims. Finally, in the present case the bankruptcy court determined that the amount
was reasonable, before and after applying the § 330 and Johnson factors.
The potential soft spot here is that the bankruptcy court did not make specific findings as
to the reasonableness of the law firm’s calculation of the amount saved. To be sure, the Trustee
did not dispute the amount. Even Mr. Adam did not dispute the calculations. Still, it would have
been better practice for the bankruptcy court to have made additional findings. But because Mr.
Adams did not dispute the calculation or offer an alternative calculation in his appeal, I do not
address it further. I note that expressly in the event that a challenge to the calculation of the
amount saved might be raised for the first time on further appeal.
In sum, I do not agree that a contingent fee must, as a matter of law, be based on an
influx of cash to the client. It can, in appropriate circumstances, be based on reduction of the
client’s liability, so long as the reduction or “savings” can reasonably be determined.
22
B. Basing a Fee on the Cash in the Client’s Bank Account
Mr. Adam argues that a contingency fee award should not be based on the amount of
cash in the estate’s bank account. ECF No. 9 at 22. The argument is a “straw man.” The fee
was calculated on the amount that Morgan Stanley would have taken out of the estate’s account
had its claims been enforced. If, as the Trustee feared, those claims would have gobbled up all
the remaining funds, then the fee could be characterized as having been based on the cash in the
bank account, but the fact would remain that the cash was instead preserved for distribution to
the unsecured creditors other than Morgan Stanley. Mr. Adam notes that Morgan Stanley’s
actual claim exceeded $50 million, but that neither Mr. Vellone nor the bankruptcy court (nor the
Trustee) suggested a $7.5 million fee award. Id. Of course not. You cannot save money that the
estate did not have.
Mr. Adam poses a better question when he asks about the implications that basing a fee
on savings might have “for bankruptcy proceedings where submitted secured and unsecured
creditor claims are challenged (as done every day), and then abandoned or reduced.” Id. at 24. I
cannot pretend to know what occurs in bankruptcy courts “every day,” nor do I have any basis to
comment on the extent to which the present facts might be considered to be unique. What I can
comfortably say is that no matter what might be agreed between a trustee and retained counsel,
the ultimate authority is the bankruptcy court. Any fee would have to be found to be reasonable
after application of the relevant factors. The Bjone case is an example of a court’s rejecting a fee
agreement in favor of a quantum merit recovery. The bankruptcy court here found that the
23
requested fee, both in structure and amount, was reasonable based on the record before it. Mr.
Adam has not given me any basis to find otherwise.
C. Colorado Law Regulating Contingency Fee Agreements.
In the last section of his brief Mr. Adam suggests that the fee agreement is inconsistent
with the Colorado Contingent Fee Rules and, thereby, with the Colorado Rules of Professional
Conduct.10 I disagree.
Taking the Colorado Contingent Fee Rules first, I have indicated my doubt that those
rules affect a bankruptcy court’s determination of the reasonableness of an attorney’s fee. See
supra at 19-20. I also noted that those rules, even if applicable, do not prohibit a contingency fee
based upon reduction in the client’s potential liability to a third person. Id. Mr. Adam adds, as
he did during the bankruptcy court hearing, that Rule 4(a) of the Colorado Contingent Fee Rules
requires a written disclosure statement in addition to a written contingency fee agreement.
However, again even assuming for the sake of argument that those rules apply, and also
assuming without deciding that Mr. Adam has standing to raise this objection, the only evidence
in the record is Mr. Vellone’s testimony that he made the required disclosures to the Trustee, and
he believes that he did so in writing as well as orally. R. 262-64.
As for the Rules of Professional Conduct, Rule 1.5 provides that a lawyer “shall not make
an agreement for, charge, or collect an unreasonable fee or an unreasonable amount for
expenses.” It goes on to list the factors that should be considered in determining the
10
The Colorado Rules of Professional Conduct are found as an Appendix to Chapters 18 to 20,
COLORADO COURT RULES – STATE (2015).
24
reasonableness of a fee. They are largely the same factors that are found in § 330 of the
Bankruptcy Code and in the Johnson case.11
I also note that the American Bar Association’s Standing Committee on Ethics and
Professional Responsibility concluded in Formal Opinion 93-373, issued April 16, 1993, that the
Model Rules of Professional Conduct “do not prohibit ‘reverse’ contingent fee agreements for
representation of defendants in civil cases where the contingency rests on the amount of money,
if any, saved the client, provided the amount saved is reasonably determinable, the fee is
reasonable in amount under the circumstances, and the client’s agreement to the fee arrangement
is fully informed.” (quoting the Committee’s summary of its opinion). As discussed, the law
firm provided a method of determining the savings that has not been challenged; the bankruptcy
court determined that the amount was reasonable after applying the relevant factors; and the
Trustee, himself a lawyer, was fully informed and was supportive of the requested fee.
ORDER
For the foregoing reasons, the order of the bankruptcy court issued September 12, 2014
awarding the law firm of Allen & Vellone, P.C. an attorney’s fee of $73,086.37, calculated at
75% of the firm’s normal hourly rates; plus $464,999.58, the contingent fee component of the fee
based on 15% of $3,099,997.22; plus $10,145.82 in expenses, is AFFIRMED.
DATED this 6th day of July, 2015.
BY THE COURT:
11
These factors are (1) time and labor required, (2) likelihood of preclusion of other employment, (3) fee
customarily charged in the locality, (4) amount involved and results obtained, (5) time limitations
imposed by the client or circumstances, (6) nature and length of the professional relationship, (7)
experience, reputation, and ability of the lawyer(s), and (8) whether the fee is fixed or contingent.
25
___________________________________
R. Brooke Jackson
United States District Judge
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