In a fee dispute between Quinn Emanuel Urquhart & Sullivan and the former owners of ConnectU Inc., a New York judge has blocked an attempt by ConnectU to force rival Facebook Inc. to answer subpoenas seeking information on the value of its stock.
At issue is exactly how much of a contingency fee Quinn Emanuel has earned for its representation of ConnectU in the 2007 settlement of a high-profile trade secrets case that accused Facebook founder Mark Zuckerberg of stealing the idea for the social media site from his Harvard University classmates, the founders of ConnectU.
The settlement amount, which is based largely on Facebook stock, was believed by ConnectU at the time to be about $65 million. But ConnectU's founders have since come to believe that the value of the shares in privately owned Facebook are worth much less.
When ConnectU's former owners attempted to challenge the agreement in 2008, Quinn Emanuel declined and the parties ended their attorney-client relationship. Quinn Emanuel then took ConnectU to arbitration seeking a 20 percent contingency fee that it says comes to $13 million. The ConnectU litigants argued the $65 million value Quinn placed on the settlement was too high and based on a mistaken assumption of the value of Facebook stock. Last summer, an arbitration panel in New York issued requests for information from Facebook, a nonparty to the arbitration, concerning the value of its shares.
The panel also issued subpoenas to two other nonparties: Houlihan, Lokey, Howard & Zukin, Facebook's financial advisor, and Microsoft Corp., whose $240 million investment in Facebook in 2007 was a basis for the plaintiffs' valuation of the settlement.
But in a decision released last week, Manhattan Supreme Court Justice Richard Lowe III denied ConnectU's motions to compel compliance with the requests for information, citing jurisdictional grounds and the three companies' status as nonparties to the arbitration.
"Private parties are free to value transactions based on the price of any entity, public or private, and the mere fact that the value of the entity is subject to a good faith dispute does not give such private parties the right to drag the non-party into disclosing confidential information," Lowe wrote in ConnectU Inc. v. Quinn Emanuel Urquhart Oliver & Hedges, 602082/2008.
Richard Werder, a lawyer at Quinn Emanuel who represents the firm, declined to comment.
ConnectU's lawyer, Sean F. O'Shea at O'Shea Partners, did not respond to a request for comment.
Facebook, represented by Jonathan Bach at Cooley Godward Kronish, did not respond to a request for comment, and Microsoft, represented by Lisa Simpson of Orrick, Herrington & Sutcliffe, declined to comment.
SOCIAL MEDIA RIVALS
ConnectU sued Facebook and Zuckerberg in 2004 in Massachusetts, accusing the popular social networking site of copyright infringement, misappropriation of trade secrets, breach of contract and fraud. Quinn Emanuel came on as ConnectU's lawyers in 2007, and five months later the parties signed a handwritten settlement agreement.
As part of the settlement, Facebook acquired ConnectU, and the company's four owners -- Divya Narendra and Howard, Tyler and Cameron Winklevoss -- received $20 million in cash and more than 1.2 million shares of Facebook stock, according to a February 2009 report by The Associated Press, citing an improperly redacted court transcript.
The four ConnectU plaintiffs say they signed the settlement agreement in the belief that Facebook's shares were worth $35.90 each. That assumption was based on Microsoft's October 2007 investment in Facebook for a 1.4 percent stake which, according to a press release at the time, valued Facebook at $15 billion.
But in March 2008, while finalizing the settlement documents, ConnectU's former owners said they discovered that a more recent valuation of Facebook's common stock priced shares at $8.88 each. They later learned that Facebook had filed tax documents with the state of California valuing its common stock at $7.75 a share as of February 2008.
ConnectU attempted to challenge the settlement, but in June 2008, a U.S. Northern District of California judge granted a motion by Facebook to enforce it.
Meanwhile, Quinn Emanuel commenced arbitration seeking 20 percent of the settlement, or $13 million in fees. ConnectU argued that Facebook's shares were worth as much as 80 percent less than that claimed by the law firm.
ConnectU's former owners also asserted a malpractice claim against Quinn Emanuel in the arbitration, arguing the firm was negligent in not obtaining the most recent valuations of Facebook's common stock.
Last summer, the arbitration panel issued subpoenas to Facebook, Houlihan and Microsoft.
The three companies objected, arguing the information was confidential and privileged. Facebook, which was targeted for stock valuation data dating back to 2004, argued it was proprietary information that, if made public, would damage the company when dealing with future business partners.
DISCOVERY
Justice Lowe noted in his decision last week that as a general matter arbitration does not typically involve broad discovery requests. New York courts have only ruled once before on third-party arbitration subpoenas, he said.
In 2005, the Appellate Division, 1st Department allowed ImClone Systems Inc. to take depositions of third parties in an arbitration with its former CEO and founder, Samuel D. Waksal. The court held that an arbitration panel may direct depositions of nonparties when a party could show a "special need or hardship," such as lack of information.
But in 2008, the 2nd U.S. Circuit Court of Appeals issued Life Receivables Trust v. Syndicate 102 at Lloyd's of London, 07-1197-cv, which held that the arbitration act barred arbitrators from issuing pre-hearing subpoenas to third parties.
While the decision was not binding on New York state courts, Lowe said it "changes the landscape from which the ImClone decision was made and from which to interpret it." The circuit ruling's impact was "significant" because the information sought by ConnectU was the same type of information sought in Life Receivables, Lowe said.
He found ConnectU could not establish a special need or hardship to require Microsoft or Houlihan to produce the information, and said ConnectU's expert sought information that would "greatly amplify and greatly improve" its expert's report. ConnectU to date has been able to base its own arguments on tax documents and analyst reports and estimates.
Lowe said Quinn Emanuel's reliance on a public announcement of the Microsoft deal did not justify the "intrusive discovery into sensitive and confidential information." Should either side submit the press release that announced Microsoft's deal as evidence, "then both parties should deal with the press release on its own terms," Lowe wrote.
The judge also declined to grant a motion to force Facebook to produce copies of documents from the hard drive of Zuckerberg's personal computer during his days at Harvard.
Even though Zuckerberg is Facebook's CEO and a founder, he "is entitled to maintain and protect separate property from the company," Lowe said.
