Disputes Abound When Law Firms Dissolve
July 11, 2022
Some of the most complex and hotly-contested business divorce litigation arises from the dissolution of law firms. Perhaps law firm dissolutions are prone to litigation because many are organized as partnerships or LLPs, and New York’s Partnership Law, which governs those entities, is far more archaic (and less intuitive) than the regulatory regimes governing other forms of business association. Perhaps it is because lawyers ironically are unlikely to properly document the intricacies of their own partnership agreements. Or perhaps lawyers simply are more litigious than other business owners.
Whatever the reason, the dissolution of a law firm implicates a host of issues not ordinarily present in most other businesses. Lawyers’ ethical obligations, confidential files, and clients’ unfettered ability to choose their counsel all add to the complexity of the dissolution process, particularly when the process devolves into litigation.
The litigation between Samuel Capizzi (“Capizzi”) and his former law firm, Brown Chiari LLP (“BCLLP”) has already made its mark on business divorce jurisprudence with keystone decisions concerning collateral estoppel and judicial estoppel (discussed in this post). As it approaches its sixth birthday, the case continues to deliver, with Erie County Commercial Division Justice Timothy J. Walker recently authoring two notable decisions concerning Capizzi’s interest in some 1,600 contingency fee cases held by BCLLP at the time of its dissolution.
Law Firm Dissolution Basics
New York courts have considered their fair share of law firm dissolution cases, and several basic principles emerge from the caselaw:
First, while New York’s partnership law provides that a partnership is automatically dissolved upon the death of a partner or upon the election of a partner to dissolve where no definite partnership term is stated (see Partnership Law § 63), an agreement of the partners can alter that default framework. So in Zohar v LaRock, 185 AD3d 987, 991 [2d Dept 2020], the resignation of a partner did not cause the dissolution of the law firm because the partnership agreement specifically provided that it “shall not be dissolved” upon the resignation of any partner.
Second, dissolution of the partnership may not be the end of the road for the firm. Partners of a law firm that dissolved due to the death or resignation of a partner may elect under Section 73 of the Partnership Law to carry on the business of the dissolved partnership, provided that the deceased or retired partner is paid the value of her interest as of the date of dissolution. Cohen v Akabas & Cohen, 79 AD3d 460, 462 [1st Dept 2010], describes the valuation process undertaken in the event that partners wish to continue the business of the law firm after dissolution resulting from the death of a partner.
Third, the goodwill of a law firm—its ability to attract clients as result of the firm’s name, location, or reputation of its lawyers—presumptively is a distributable asset absent some indication that the partners intended otherwise. Thus, in Dawson v White & Case, 88 NY2d 666 , the Court found that the goodwill of White & Case was not a distributable asset because, historically, incoming partners were not charged and outgoing partners were not credited for goodwill.
Fourth, the distribution of the law firm’s caseload—most law firms’ largest asset—depends on the fee structure of the firm’s representation. On the one hand, pending contingency fee cases of a dissolved partnership are assets subject to distribution. This means that if a departing partner takes a contingent fee case and subsequently litigates it to settlement or verdict, the dissolved firm is entitled to the value of the case at the date of dissolution, with interest, or, “[s]tated conversely, the lawyer must remit to his former firm the settlement value, less that amount attributable to the lawyer’s efforts after the firm’s dissolution” (Murov v Ades, 12 AD3d 654, 656 [2d Dept 2004]). On the other hand, ongoing hourly-fee cases are not considered “assets” of the firm subject to distribution (In re Thelen LLP, 24 NY3d 16, 29 ).
These principles set the table for Justice Walker’s recent decisions concerning Capizzi’s interest in the more than 1,600 contingency fee cases in which BCLLP was counsel as of Capizzi’s resignation.
Earlier Capizzi Proceedings
We’ve covered several earlier phases of the dispute between Capizzi and BCLLP on this blog. To briefly recap, in 2016, Capizzi sent the other two partners in BCLLP, Brown and Chiari, a letter in which he purported to withdraw as a partner from BCLLP, which would effect the dissolution of the firm. Brown and Chiari in response denied that Capizzi was an equity partner with the power to dissolve BCLLP. They relied principally on Capizzi’s testimony in an earlier dispute with another former partner, during which Capizzi testified that he was a mere “income” partner rather than an equity partner.
In 2019, after a 20-day bench trial, Justice Walker held that Capizzi was an equity partner of BPLLC at the time of his resignation from the partnership, and his resignation therefore triggered the dissolution of the partnership (read Frank McRoberts’ post on that decision, which focused mostly on whether Capizzi’s earlier testimony that he was an income partner estopped him from claiming status as an equity partner, here). That holding was affirmed by the Fourth Department in May 2021 (read Frank’s post on the affirmance here).
Having established that Capizzi was an equity partner in BCLLP, the Court’s next task—and the subject of its two most recent opinions—was to determine (i) the scope of Capizzi’s interest in the huge caseload that BCLLP carried at the time of his resignation and (ii) how to value that interest. In a pair of decisions issued this January and June, the Court addressed each of those issues. Because the parties put these issues to the Court seemingly in reverse order, we’ll consider the June decision first.
Does Capizzi Have an Interest in the 1,600 Contingency Fee Cases in Which the Firm was Counsel at the Time of His Resignation?
At the time of Capizzi’s resignation, BCLLP was counsel of record in more than 1,600 contingency fee cases (the “Disputed Files”). Capizzi therefore sought a 33.33% interest in the Disputed Files. Brown and Chiari contended that Capizzi had no interest in the Disputed Files because the parties had orally agreed (prior to Capizzi’s resignation) that “if one of them departed the firm, they could take their files with them and they had no interest in on-going files at the firm after they left.” In support of this agreement, Brown and Chiari again pointed to Capizzi’s earlier testimony regarding a similar deal in connection with a prior dispute upon another partner’s departure.
Last month, the Court issued an Order finding that Capizzi possessed a 20% interest in the Disputed Files. While the Court acknowledged that partners are free to enter into an oral agreement concerning the distribution of assets upon dissolution, it found no evidence of such an agreement here:
Defendants have failed to sustain their burden, because they have failed to: (i) explain the Alleged Agreement’s precise terms; (ii) show when the Alleged Agreement was made (a precise date or even a year); (iii) identify the parties to the Alleged Agreement when it was originally made, or the circumstances under which the parties made it; (iv) overcome Capizzi’s testimony that the Alleged Agreement was just an ‘understanding’ of his rights as an employee/non-equity partner in Brown, Chiari, Capizzi & Frascogna, LLP (‘Frascogna Firm’), a different law firm that pre-existed BCLLP; and (v) dispute Capizzi’s testimony that the four ‘partners’ in the Frascogna Firm never discussed this understanding or explained how there can be an “agreement” under such circumstances.”
The Court also rejected Capizzi’s contention that he was entitled to 33.33% of the value of the Disputed Files. Citing to the firm’s tax filings and prior admissions from Capizzi in a FAFSA application that he was a 20% partner, the Court held that Capizzi possessed a 20% equity interest in the Disputed Files, not a 33.33% interest.
How to Value the Disputed Contingency Fee Cases
Having determined that Capizzi holds a 20% equity interest in the Disputed Files, the Court remanded the matter to a special referee to review the Disputed Files at BCLLP as of Capizzi’s resignation and to make a report and recommendation to the Court as to the value of Capizzi’s interest in those cases.
But precisely how would the referee be instructed to value the cases? In earlier proceedings, Brown and Chiari argued that in order to capture the risks associated with each of the Disputed Files while only utilizing information that was known or knowable as of the valuation date, the referee should (i) project the fee revenue associated with the cases; (ii) apply probability factors to the projected outcomes; and then (iii) apply a discount rate to adjust the future cash flows to provide the value as of the valuation date.
Capizzi argued that the referee should take a simpler approach. Since most of the 1,600 cases had been settled since Capizzi’s resignation, Capizzi argued, the referee should simply award Capizzi his share of each case’s settlement value less any amount attributable to the lawyers’ efforts after dissolution of BCLLP.
In January, the Court issued an Order establishing the methodology that the referee will utilize in the valuation of the Disputed Files.
Relying principally on the Second Department’s decision in Murov, discussed above, Justice Walker rejected Brown and Chiari’s approach in favor of Capizzi’s, holding that:
[Brown and Chiari’s] analysis and ultimate opinions unnecessarily over-complicate the valuation issue before the court. Employment of projections and discount rates in favor of actual ‘known’ information is obtuse, and has the effect of creating artificial valuations at the expense of ignoring actual, known information compiled over the past six (6) years. The better way to value the Dissolved Firm’s unfinished contingency fee cases is to employ the method urged by Plaintiff, which he describes as ‘settlement value less the amount attributable to the lawyer’s efforts after dissolution.’ “
We’ll await the referee’s report and recommendation. If the prior proceedings among the parties in this hotly-contested litigation are any guide, we can expect fierce litigation over the referee’s findings.