U.S. District Judge Charles Breyer, Northern District of California
U.S. District Judge Charles Breyer, Northern District of California (Hillary Jones-Mixon / The Recorder)

SAN FRANCISCO – A federal judge in San Francisco has ruled the Heller Ehrman bankruptcy estate has no claim to profits earned from client business former partners brought with them to new law firms.

In a 13-page order issued Wednesday, U.S. District Judge Charles Breyer sided with firms such as Orrick, Herrington & Sutcliffe and Jones Day that fought clawback actions after hiring Heller partners. Breyer expressed concern that the estate’s campaign to recover fees threatened clients’ rights.

“A law firm—and its attorneys—do not own matters on which they perform their legal services,” Breyer wrote. “Their clients do.”

The California ruling comes as the New York Court of Appeals is mulling the fate of New York’s “unfinished business” doctrine and its application to the work performed by lawyers who left Thelen and Coudert Brothers when the firms filed for bankruptcy. The lawyers then joined Jones Day, Seyfarth Shaw and other firms, who are disputing claims from Thelen and Coudert trustees that they retain an interest in the cases.

At recent oral arguments, New York judges appeared skeptical about finding that lawyers are responsible to their former bankrupt firms for fees earned on uncompleted matters, especially as to how well the interests of clients would be served in such situations (NYLJ, June 5).

The issue reached the state Court of Appeals in the form of cerified questions from the U.S. Court of Appeals for the Second Circuit seeking guidance on decisions by Southern District Judge William Pauley that the unfinished business doctrine does not apply to the hourly fees earned by former Thelen attorneys who took work to other firm, and by Judge Colleen McMahon, who ruled Coudert’s bankruptcy estate does have a valid interest in the hourly fees generated by unfinished business matters.

Breyer’s California order overturns the ruling of U.S. Bankruptcy Judge Dennis Montali, who found that Orrick, Foley & Lardner, Davis Wright Tremaine and Jones Day must pay the Heller estate under Jewel v. Boxer, 156 Cal. App. 171, a 1984 ruling from California’s First District Court of Appeal that permits a failed firm to recover profits from business that partners take with them to new employers.

In a footnote, Breyer quoted Pauley as saying there was “good reason to believe” that neither the highest courts of New York and California would follow Jewel.

Arguments in the New York Court of Appeals on June 4 and in the briefs focused on how the unfinished business doctrine is treated in New York state precedents, mainly Stem v. Warren, 227 NY 538 (1920), and not on the California court’s finding in Jewel. The decision in Stern endorsed the unfinished business rule, but that case involved architects and not lawyers.

The order of Breyer, the California judge, “brings much-needed clarity of thinking and analysis to an issue where there has been an insufficient amount of that so far,” said Jones Day partner Robert Mittelstaedt, who represented his firm. “We view it as vindicating Jones Day’s decision to fight this kind of case rather than cave in.”

Lawyers said they were optimistic that Breyer’s order would stem the flow of clawback suits that have followed law firm collapses since Brobeck, Phleger & Harrison dissolved in 2003.

“Today’s decision should help put an end to the so-called Jewel claims that trustees have been bringing in law firm bankruptcies over the past 10 years,” Arnold & Porter partner Jonathan Hughes, who represented Orrick, wrote in an email.

Heller estate lawyer Christopher Sullivan, a partner at Diamond McCarthy, said he expects that the estate will appeal Breyer’s order, noting that state and district judges elsewhere have endorsed the so-called Jewel doctrine.

“We were hoping for a different outcome in this district court, but we continue to believe that Judge Montali correctly decided the issues,” he said.

At a hearing , Breyer was skeptical that the dissolution of a global firm such as Heller should be guided by Jewel, a case stemming from the 1970s breakup of a four-lawyer firm in Alameda. Though the case has been cited dozens of times across the country, Breyer mused that subsequent courts had not fully considered the implications of the Jewel doctrine for modern law practice.

“It is essential to provide a market for legal services that is unencumbered by quarrelsome claims of disgruntled attorneys and their creditors,” he wrote.

Noting that the California Supreme Court had never taken up the issue, Breyer concluded that state law offered no clear guidance.

The Jewel doctrine poses serious consequences for legal business, Breyer noted. It could discourage solvent law firms from taking in lawyers and clients who flee dissolving competitors and “would incentivize partners of a struggling firm to jump ship at the first sign of trouble to avoid the kind of suit defendants now find themselves in, even if that would destabilize an otherwise viable firm,” he wrote.

And he insisted that solvent firms should not be punished for carrying out the work of defunct players.

“Heller ceased to be able to represent its clients, leaving them with no choice but to seek representation elsewhere,” he wrote. “Defendants came to the rescue of these clients.”