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New York’s Court of Appeals on Thursday rebuffed an effort by the nation’s largest public pension system to sue for malpractice a Manhattan law firm that had never directly represented the fund. In State of California Public Employees’ Retirement System v. Shearman & Sterling, 133, the court reiterated and perhaps bolstered prior rulings where it erected a large but not insurmountable hurdle in matters where a non-client attempts to sue a lawyer. It also reaffirmed that assignment of malpractice cases must be by clear language, and that a general assignment will not suffice. In the legal malpractice case, the California Public Employees’ Retirement System (CALPERS) attempted to sue Shearman & Sterling for legal work that CALPERS alleged caused it to lose roughly $8 million on a commercial loan investment. Shearman & Sterling did not directly work for CALPERS on the loan deal. Rather, the firm had been retained by Equitable Real Estate Investment Management Inc. The case dates back to August 1993, when Equitable retained Shearman & Sterling to represent it in a $23.3 million commercial loan transaction involving a borrower from Long Island, Nathan L. Serota, who assigned the loan commitment to Sersons Corp. Equitable ultimately sold the loan to CALPERS, assigning to the retirement system all of its rights and interests. Almost immediately, Sersons defaulted and CALPERS in 1996 demanded full payment of principle and interest. At that point, CALPERS claimed, it learned for the first time that the note included an acceleration fee of about $1.1 million, not the $9.1 million that would normally be included as a prepayment penalty in a standard CALPERS note. Sersons paid CALPERS the $1.1 million in March 1997. Equitable paid CALPERS $400,000 in a settlement agreement that specifically transferred to CALPERS any rights that Equitable had to sue Shearman & Sterling. CALPERS then sued Shearman & Sterling, asserting claims for professional negligence and breach of contract. NO PRIVITY The Appellate Division, 1st Department, dismissed the complaint, finding the allegations insufficient to establish that CALPERS and the law firm had a relationship approaching privity. On Thursday, the Court of Appeals affirmed 5-0. Judge Richard C. Wesley, writing for the court, said case law has long required either actual privity of contract or a relationship that is so close that privity is approached. Here, the only direct contact between Shearman & Sterling and CALPERS prior to the closing on the Sersons loan was a letter that the firm sent to the retirement system, asking CALPERS and its counsel to review and approve the note. Judge Wesley said CALPERS cannot now rely on that letter when it retained the right of final approval of the loan documents and failed to object. The Court also rejected CALPERS’ claim that it was an intended third-party beneficiary of the law firm’s contract to provide Equitable with legal services. “There certainly was a valid and binding contract between Equitable and Sherman & Sterling for the law firm’s services in the Sersons loan transaction,” Wesley wrote. “However, contrary to CALPERS’ assertion, Equitable did not retain Shearman & Sterling for CALPERS’ benefit.” On the issue of assignment, where CALPERS claimed that the settlement agreement gave it any rights that Equitable had to sue Shearman & Sterling, the Court held there was no malpractice claim to assign because the reduced acceleration fee caused no injury to Equitable. Joining Judge Wesley were Chief Judge Judith S. Kaye and Judges George Bundy Smith, Howard A. Levine and Carmen Beauchamp Ciparick. Judge Albert M. Rosenblatt did not take part. Paul Vizcarrondo Jr. of Wachtell Lipton Rosen & Katz in Manhattan, who argued for Shearman & Sterling, said the decision suggests the Court will “look carefully at attempts by non-clients to assert malpractice claims against lawyers.” Kenneth R. Puhala of Layton Brooks & Hecht in Manhattan, which represented CALPERS, declined comment.

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