Los Angeles lawyer Julia Sylvadeconstructs the nexus of medicalmarijuana law among California,the federal government, and local jurisdictions page 12

MARCH 2017 / $5

THE MAGAZINE OF THE LOS ANGELES COUNTY BAR ASSOCIATION

Los Angeles lawyer Julia Sylvadeconstructs the nexus of medicalmarijuana law among California,the federal government, and local jurisdictionspage 12

HIGHTIME

HIGHTIME

3rd PARTYLITIGATIONFUNDINGpage 19

EARN MCLE CREDIT Plus

Attorney FeeDilution inBankruptcy

page 26

Prop. 65page 9

DigitalAssistantspage 34

PresidentialEmolumentspage 36

http://www.chapman.edu/law

http://www.walzermelcher.com

http://www.darraslaw.com

12 High TimeBY JULIA SYLVA

Despite legalization of medical marijuana and voter approval of Prop. 64,California marijuana law still faces complex federal and local challenges

19 Perils of Third-Party FundingBY LISA MILLER

Third-party funding of litigation, while advantageous and often necessary, canraise serious ethical conflicts for counsel and clientPlus: Earn MCLE credit. MCLE Test No. 266 appears on page 21.

26 Is the American Rule "American"?BY DAVID S. KUPETZ

In Baker Botts v. ASARCO, the Supreme Court addressed a collision between the American Rule and the Bankruptcy Code over attorney compensation in bankruptcy

F EATU RE S

Los Angeles Lawyer

the magazine of

the Los Angeles County

Bar Association

March 2017

Volume 40, No. 1

COVER PHOTO: TOM KELLER

03.17

8 Barristers TipsMastering the art of meeting the billable hours requirementBY ANNE R. NASH

9 Practice TipsCompliance with the Safe Water and Toxic Enforcement ActBY ABIRAMI GNANADESIGAN

34 Computer CounselorThe potential of new digital assistants foroffice useBY GORDON K. ENG

36 Closing ArgumentIs the Emoluments Clause a threat to Trump's presidency?BY STEPHEN F. ROHDE

DE PARTM E NTS

LOS ANGELES LAWYER (ISSN 0162-2900) is publishedmonthly, except for a combined issue in July/August, by theLos Angeles County Bar Association, 1055 West 7th Street,Suite 2700, Los Angeles, CA 90017 (213) 896-6503. Period -icals postage paid at Los Angeles, CA and additional mailingoffices. Annual subscription price of $14 included in theAssociation membership dues. Nonmember subscriptions:$38 annually; single copy price: $5 plus handling. Addresschanges must be submitted six weeks in advance of nextissue date. POSTMASTER: Address Service Requested. Sendaddress changes to Los Angeles Lawyer, P. O. Box 55020,Los Angeles CA 90055.

4 Los Angeles Lawyer March 2017

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EDITORIAL BOARD

Chair

TED M. HANDEL

Articles Coordinator

JOHN C. KEITH

Assistant Articles Coordinator

SANDRA MENDELL

Secretary

TYNA ORREN

Immediate Past Chair

DONNA FORD

JERROLD ABELES (PAST CHAIR)

SCOTT BOYER

CHAD C. COOMBS (PAST CHAIR)

THOMAS J. DALY

GORDON K. ENG

STUART R. FRAENKEL

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CHRISTINE D. GILLE

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MICHAEL MAUGE

COMM’R ELIZABETH MUNISOGLU

CARMELA PAGAY

GREGG A. RAPOPORT

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LACEY STRACHAN

THOMAS H. VIDAL

STAFF

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Copyright © 2017 by the Los Angeles County Bar Association. All rightsreserved. Reproduction in whole or in part without permission is pro -hibited. Printed by R. R. Donnelley, Liberty, MO. Member BusinessPublications Audit of Circulation (BPA).

The opinions and positions stated in signed material are those ofthe authors and not by the fact of publication necessarily those of theAssociation or its members. All manuscripts are carefully considered bythe Editorial Board. Letters to the editor are subject to editing.

Los Angeles Lawyer March 2017 5

LOS ANGELES LAWYER IS THE OFFICIAL PUBLICATIONOF THE LOS ANGELES COUNTY BAR ASSOCIATION

1055 West 7th Street, Suite 2700, Los Angeles CA 90017-2553Telephone 213.627.2727 / www.lacba.org

LACBA EXECUTIVE COMMITTEE

PresidentMARGARET P. STEVENS

President-ElectMICHAEL E. MEYER

Senior Vice PresidentPHILIP H. LAM

Vice PresidentTAMILA C. JENSEN

TreasurerDUNCAN W. CRABTREE-IRELAND

Assistant Vice PresidentHON. SHERI A. BLUEBOND

Assistant Vice PresidentANNALUISA PADILLA

Assistant Vice PresidentROXANNE M. WILSON

Immediate Past PresidentPAUL R. KIESEL

Barristers PresidentDAMON A. THAYER

Barristers President-ElectMARIANA ARODITIS

Chief Financial & Administrative OfficerBRUCE BERRA

General Counsel & Chief Administrative OfficerW. CLARK BROWN

BOARD OF TRUSTEES

RONALD F. BROT

HARRY W.R. CHAMBERLAIN

NATASHA R. CHESLER

REBECCA A. DELFINO

KENNETH C. FELDMAN

JO-ANN W. GRACE

JOHN F. HARTIGAN

MARY E. KELLY

LAVONNE D. LAWSON

F. FAYE NIA

BRADLEY S. PAULEY

ANGELA REDDOCK

DIANA K. RODGERS

MARC L. SALLUS

EDWIN C. SUMMERS III

DAVID W. SWIFT

WILLIAM L. WINSLOW

AFFILIATED BAR ASSOCIATIONS

BEVERLY HILLS BAR ASSOCIATION

CENTURY CITY BAR ASSOCIATION

CONSUMER ATTORNEYS ASSOCIATION OF LOS ANGELES

CULVER MARINA BAR ASSOCIATION

GLENDALE BAR ASSOCIATION

IRANIAN AMERICAN LAWYERS ASSOCIATION

ITALIAN AMERICAN LAWYERS ASSOCIATION

JAPANESE AMERICAN BAR ASSOCIATION

JOHN M. LANGSTON BAR ASSOCIATION

THE LGBT BAR ASSOCIATION OF LOS ANGELES

MEXICAN AMERICAN BAR ASSOCIATION

PASADENA BAR ASSOCIATION

SAN FERNANDO VALLEY BAR ASSOCIATION

SANTA MONICA BAR ASSOCIATION

SOUTH BAY BAR ASSOCIATION

SOUTHEAST DISTRICT BAR ASSOCIATION

SOUTHERN CALIFORNIA CHINESE LAWYERS ASSOCIATION

WOMEN LAWYERS ASSOCIATION OF LOS ANGELES

6 Los Angeles Lawyer March 2017

More than 50 years ago, Nobel laureate, poet, andsongwriter Bob Dylan wrote the prophetic phrase,“For the times they are a-changin’.” Dylan’s song

was an ode directed to the people, politicians, journalists,and parents and children experiencing and reacting to the

Ted M. Handel is the 2016-17 chair of the Los Angeles Lawyer Editorial Board and ChiefExecutive Officer of Decro Corporation, a nonprofit housing developer, which develops andmanages affordable multifamily projects for low-income families and seniors.

changes being brought about by the civil rights movement of the 1960s.While not quite at that level of historical significance, the times are nevertheless

“a-changin’” at Los Angeles Lawyer in their own profound and positive way. Inlate December 2016, an announcement was made at the magazine’s monthly Edi -torial Board meeting that Susan Pettit and John Lowe had been hired as editor-in-chief and senior editor of the publication, respectively. The decision by LACBAmanagement to remove “interim” from Susan’s title and “contract” from John’srepresents a new period of stability for the magazine. Perhaps more importantly, asI have already experienced as Chair, these changes create an opportunity to chartand embark upon a course that will not only preserve but enhance its reputation asa preeminent legal publication.

A graduate of the highly respected journalism program at the University ofMissouri, this is not Susan’s proverbial first rodeo with Los Angeles Lawyer. Shewas editor and publisher of the magazine from 1985 to 1995. Following this expe-rience, Susan spent 12 years as a legal and political producer for CNN and CNN.comin Washington and Atlanta. Susan then became a contract editor for the NationalGeographic Channel.

As for John, he provided editorial and proofreading services for Skadden, Arps,Slate, Meagher & Flom for nearly 20 years. John left to become an independentlegal editor and joined LACBA a few years ago. Among his skills as an editor is anencyclopedic knowledge of The Bluebook citation requirements.

Shortly after I became Chair last July, Susan rejoined the publication. One wordsums up our relationship since that time—collaborative. This collaboration hasbeen demonstrated in the give and take over her edits to my From the Chair columnsas well as the freewheeling and productive discussions we share on the magazine.It was also a pleasant surprise to learn Susan shares my passion for baseball as evi-denced by her immediate support when I first proposed devoting a column to VinScully and writing another on the Chicago Cubs.

Over the past several months, Susan and John have worked tirelessly with theEditorial Board to handle the myriad of tasks required to publish Los AngelesLawyer. These critical tasks include continually developing topics relevant to thediverse practices of LACBA members, identifying and securing authors to writearticles on those topics, and then editing their work product. Susan and John’scommitment to the magazine has also infused the publication with a new energy.We are now identifying ways to capture that energy and apply it in ways to get allEditorial Board members more engaged and help us recruit new members. Throughthese efforts, LACBA members can be assured that this valuable professionalresource and benefit will continue to flourish.

Please join me in congratulating Susan and John on becoming the permanenteditorial stewards of Los Angeles Lawyer. n

http://www.lmic.com

8 Los Angeles Lawyer March 2017

WHETHER AN ATTORNEY RECENTLY ADMITTED to the bar or a sea-soned practitioner, the often dreaded billable hour requirement is anearly unavoidable aspect of practicing within a law firm setting.As most firms rank their associates by their billable-hour outputand determine bonus and salary increases accordingly, the eager andcompetitive associate is one who constantly seeks to have his or herbilling stand out above the rest. Though the concept of billing timeto the client may seem straightforward, its mastery requires not onlyan understanding of the employer’s expectations but also the abilityto work smarter rather than just working harder.

The first step to mastering the billable-hourcriterion is to determine the firm’s minimumbilling requirement. This inquiry usually beginsat the interview or hiring stage of a job search,as a prospective employee gauges whether thefirm’s requirement will mesh with his or herdesired work-life balance expectations. How -ever, the search for the monthly billable goalmust not end there. A budding associate maygo into the first month on the job knowingwhat the requirement is but reaching that targetnumber will not necessarily set the associateabove the rest.

Depending on how much time is cut from his or her month, theassociate may not even make the minimum requirement—a scenariothat must be avoided at all costs. Asking the managing partner orother senior attorney in the appropriate function for a top-performingassociate’s monthly billing range is an ideal starting point for a newhire. By doing so, the associate now has a better, more realisticbillable goal for the month.

After ascertaining the quantifiable billable hour target, the nextstep is to determine what the firm considers billable activities andhow to adequately enter time under the appropriate task. Having astrong understanding of which billing entries make the cut and thebest way to phrase each entry will save new hires from having hoursof their time cut or from a stern admonition from a partner as toissues with certain entries.

Don’t reinvent the wheel here and try to be novel with the billingentry style or assume that what has worked at another firm willwork at the present one. Ask a partner or a friendly associate in thesame practice area for a copy of a recent month’s billing entries touse as a guideline. Reviewing and analyzing an example of a stellarmonth of billing will provide a new associate with valuable informationthat serves as a rubric for the associate’s month of billing to come.

Often, an attorney will keep an Excel spreadsheet of the time tobe entered into the billing program at a later date. Getting one’shands on a “Control + F” searchable document of this sort will savea new associate from the time and energy of figuring out exactlyhow the reviewing partner likes particular billing entries to appear.Moreover, having an example of an already approved month of

billing guides the new hire on how much time is acceptable to spendon certain activities. Knowing what others bill, for example, for“preparing for and drafting an answer”provides an associate notonly with a tangible amount of time to allot for a similar task, butalso assures that the associate will not have that entry cut from hisor her month’s billing.

Once the associate determines the monthly billing goal and accept-able ways to reach it, maximization of the attorney’s time is crucialto avoid end-of-the-month stress that accompanies a billable hourrequirement. Although this may seem obvious, the best approach to

accurately capture an attorney’s time spent on a particular task is toenter the time directly after the billing activity. To wait until the endof the day or even a few hours after the task is completed opens upthe possibility of forgetting the exact amount of time that was spentor, worse, forgetting the task altogether.

While some firms have designated support staff to input attorneybilling entries into the billing software, most firms require attorneysto enter their own time. Many attorneys keep track of their time inan Excel spread sheet, Word document, or handwritten list, andlater enter the time into their firm’s billing program at the end of theday, week, or month.

The attorneys who take this route are essentially entering theirtime twice, once into their personal time-tracking document andagain into the billing software—usually taking several hours of non-billable work time to enter their billable time. From an efficiencystandpoint, entering time directly into the billing program immediatelyafter the task eliminates the second, more time-consuming entry,which in turn provides the attorney with more time to work onbillable tasks.

While the nuances of a billable-hour requirement and bestpractices will differ among various firm environments, grasping thebasic principles of determining firm expectations and time man-agement will allow an already hard-working associate to outsmartthe competition. n­

barristers tips BY ANNE R. NASH

Mastering the Art of Meeting the Billable Hours Requirement

Asking the managing partner or other senior attorney in the

appropriate function for a top-performing associate’s monthly

billing range is an ideal starting point for a new hire.

Anne R. Nash is an associate at Hammons & Baldino LLP, in Torrance, Cali-f ornia, specializing in construction and business ligation. She serves on theBarristers Executive Committee.

Los Angeles Lawyer March 2017 9

RICH

ARD

EW

ING

THE SAFE DRINKING WATER AND TOXIC ENFORCEMENT Act of1986,1 better known as California’s Proposition 65, requires businessesto post warnings if there is exposure on the premises or through thesale of consumer products to any one of more than 900 listed chem-icals. In the event a 60-day notice is served claiming a violation ofProposition 65, what should counsel advise? 2 Or suppose that, evenif no notice has been served, a vendor regularly sells products con-taining one or more chemicals or provides services at a locationexposing the public to chemicals covered by Proposition 65, shouldit institute a compliance system to seek to avoid a Proposition 65lawsuit? Also, how should the compliance system operate in orderto meet the legal standard?

The exposure addressed by Proposition 65 can occur almost any-where—in homes, workplaces, and restaurants, and through exposureto consumer products. While Proposition 65 only applies to companiessubject to California jurisdiction, most major companies within theUnited States and many companies worldwide conduct sufficientbusiness in California to be covered. Therefore, Proposition 65’sreach is expansive, perhaps more so than that of any other stateenvironmental statute currently in effect. Moreover, because of thestiff penalties for violating Proposition 65, businesses must understandhow to comply and how to react if they are sued.

Proposition 65—Then Versus Now

Proposition 65 began as an initiative approved by California votersto “protect” the state’s drinking water sources from being contami-nated with chemicals known to cause cancer, birth defects or otherreproductive harm, and require “businesses to inform Californiansabout exposures to such chemicals.”3 The warnings mandated byProposition 65 are presumed to allow consumers to make an informeddecision about whether to risk exposure.

Over the years, the list of carcinogens and reproductive toxinscompiled by California’s Office of Environmental Health HazardAssessment (OEHHA) subject to Proposition 65 has grown to includeover 900 chemicals, comprised not only of carcinogens and repro-ductive toxins but also some chemicals that are classified as both.4

Today, despite Proposition 65’s stated purpose, the bulk of allegedviolations and subsequent lawsuits have little or nothing to do withCalifornia’s drinking water.

As the scope of Proposition 65’s coverage has grown, the chanceof receiving a 60-day notice has also increased exponentially overtime. Prior to 2000, 60-day notice filings were rare, reaching tripledigits for the first time in 1992. However, more than 1,000 60-daynotices were filed in 2015.5 In response to these developments, manybusinesses have chosen to institute preemptive warnings of the presenceof listed chemicals that are often not required but are simply adoptedto shield against liability. Ironically, the increasing ubiquity ofProposition 65 warnings may have contributed to consumer indifferenceand dilution of the message that the warnings are meant to convey.6

Most 60-day notices are served, and the ensuing lawsuits are brought,

by private attorneys on behalf of entities created in part to enforceProposition 65. While the benefit to consumers of Proposition 65warnings has become more questionable as the warnings have becomemore ubiquitous, there is little question that these lawsuits can be cost -ly for the companies sued. Penalties for failure to provide adequatewarnings can be as great as $2,500 per day per violation, and resolu -tions generally include payment of the plaintiff’s attorneys’ fees.

Compliance

What should California businesses do to comply with Proposition65? Although this is a straightforward question, for many companiesthere is unfortunately no simple answer. The best option for a particularbusiness depends upon its business objectives, and, ultimately, itsappetite for potentially protracted litigation or expensive settlements.

First, many businesses err on the side of caution, instituting pre-emptive warnings that may not be required. This is often the mostcost-effective solution, but this type of “over-warning” is disfavoredby Proposition 65 proponents and enforcers because it goes against

practice tips BY ABIRAMI GNANADESIGAN

Compliance with the Safe Water and Toxic Enforcement Act

Abirami Gnanadesigan practices business litigation with Dykema Gossettin Los Angeles.

the fundamental purpose of Proposition 65.If businesses do not want to institute pre-emptive warnings without any investigationor testing, they should first determine whetherthey are exempt from Proposition 65’s warn-ing requirements. Federal, state, and localgovernment agencies, entities operating publicwater systems, and businesses with less than10 employees are exempt.7

If the foregoing exemptions do not apply,a business will also be exempt if it can demon-strate that the exposure in question is so lowthat it will not exceed certain levels afterallowing for a specified margin of safety. Forapproximately 300 chemicals on the list, theOEHHA8 has determined No Significant RiskLevels (NSRLs) for chemical carcinogens andMaximum Daily Levels (MADLs) for chem-icals causing reproductive toxicity. Exposureat or below these levels does not requireProposition 65 warnings. For chemicals thatdo not have predetermined levels for com-pliance, the burden is on businesses to calculatetheir own levels, which can be a complicatedand uncertain process requiring expensivelaboratory product testing and exposureassessment.9

Businesses, individually or through tradegroups, may have the option of requestingSafe Use Determinations (SUD) from OEHHAconcerning their particular actions. A SUD isa written statement issued by OEHHA thatinterprets and applies Proposition 65 and itsimplementing regulations to a specific set offacts. Thus, a SUD provides a determinationof whether an exposure or average use of aspecified product is subject to the warningrequirement or discharge prohibition.

However, it can only be issued prospectivelybecause it is only available prior to service ofa 60-day notice. A SUD also is available onlyif the subject matter of the request is not atissue in a pending civil case or in any admin-istrative proceeding pending before a federal,state or local agency.

If businesses do not meet the requirementsfor exemptions, and a SUD is not availableor the determination is unfavorable, theyshould be prepared to provide warningsbefore new or continued exposure of Calif -ornians to listed chemicals occurs.

Proposition 65 vs. New Regulations

Proposition 65 governs the content andmethod of warnings. Specifically, Proposition65 states that “no person in the course ofdoing business shall knowingly and inten-tionally expose any individual to a chemicalknown to the State to cause cancer or repro-ductive toxicity without first giving a clearand reasonable warning.”10 Proposition 65provides “safe harbor” methods for providingwarnings and scripted warning language forspecific types of exposure, which are deemed

to be clear and reasonable under the law. Forexample, under the current regulatory text,consumer products warnings may be providedby using one or more of a number of methods,singly or in combination. Warnings can beplaced on the product’s label or other formsof labeling. Retailers can identify the productat the retail outlet in a manner that providesa warning—for example, through shelf label-ing, signs, menus, or a combination thereof.11

Both of these types of warnings must be suf-ficiently conspicuous to render them likelyto be read and understood by an ordinaryindividual under customary conditions of pur-chase or use.12 Warnings may also consist ofa system of signs, public advertising identifyingthe system, and toll-free information services,or any other system that provides clear andreasonable warnings.13

However, what constitutes a “clear andrea sonable warning” under this statutoryscheme is vague in many contexts, renderingcompliance difficult and heightening the riska business will receive a 60-day notice of vio - lation. For example, the currently operativesafe harbor methods and scripted warningsdo not account for evolving business modelsand consumer perception of these pervasivewarnings.

The current regulatory text is also unclearas to the burden on manufacturers versusretailers in providing warnings. Rec ognizingthe ambiguities in the law, OEHHA developedproposed regulatory guidelines that wereapproved by the Office of Admin istrativeLaw on August 30, 2016.14 By vir tue of thisregulatory action, all regulatory provisionsof Title 27 of Article 6 of the Cali f orn ia Codeof Regulations governing clear and reasonablewarnings—i.e., Sections 25601 et seq.—arerepealed.15 The repealed sections are nowreplaced with a new Article 6 that has beendivided into two subarticles.

Among other changes, for the first time,the new regulatory text provides a prescribedmethod of warning for internet sales. It man-dates the location and form of internet warn-ings for consumer products and requires thatthe warnings be provided by a clearly markedhyperlink using the word “WARNING” onthe product display page, or otherwise beprominently displayed to the purchaser beforethe purchaser completes his or her purchaseof the product. The new regulatory text spec-ifies that a warning is not prominently dis-played if the purchaser must search for it inthe general content of the website.

The new regulatory text also seeks to min-imize the burden of providing warnings onretailers, shifting that burden, where possible,to manufacturers, producers, packagers,importers, suppliers or distributers. However,retailers can be held liable if the retailer 1)fails to provide warnings for their private label

products, 2) has received warning materialsfrom an upstream party and failed to providethe warnings, 3) has knowingly introduced alisted chemical to be created in or added to aproduct, 4) modifies or obscures a product’slabel warning, or 5) has “actual knowledge”of the potential consumer exposure requiringthe warning. The retailer may also be heldliable if no upstream person in the productsupply chain is subject to Proposition 65.

Finally, the new regulatory text modifiesthe content of the scripted warnings that aredeemed clear and reasonable under Prop -osition 65. It also differentiates between on-product warnings and other warnings forconsumer products. Notably, in complyingwith the new regulatory text, companies arenot required to identify any specific chemicalfor on-product warnings, as opposed to warn-ings provided on posted signs, shelf tags, orshelf signs. There are three safe harbor ver-sions of on-product label warnings: one forproducts containing carcinogens, one forproducts containing chemicals causing repro-ductive harm, and one for products containingboth. In contrast, for signs, label, and internetwarnings, in many situations one or morelisted chemicals must be identified by name.

In order to provide businesses with a rea-sonable grace period in which to implementany necessary changes to their warnings, theeffective date of this regulation is August 30,2018. From now through August 30, 2018,a business may choose to comply with theexisting provisions of Article 6, or, it maychoose to implement the modified scriptedwarnings and clarified methods of transmis-sion found in the new regulatory text.16

Litigation Strategy

Whether or not a business chooses to imple-ment a compliance strategy, if it has beenserved with a 60-day notice, it may still beexposed to penalties for past violations andit will have to respond to any lawsuits filedagainst it.17

The vast majority of Proposition 65 lawsuitssettle by way of court and California At torneyGeneral approved consent judgments. Thesesettlements often require warnings, re formu l -ation of products, bans on exposures, the pay-ment of penalties, and the payment of at - torneys’ fees. For example, in 2015, there were582 reported Proposition 65 settlements. Totalsettlement payments equaled $26,226,761, civilpenalties equaled $5,102,341, and attorneys’fees equaled $17,828,941.18

If settlement is not palatable for a client,litigation may appear to be a legitimate andpotentially cost-saving long-term solutionbe cause a court judgment of compliance maybetter shield businesses against future actionsthan a consent judgment agreeing to certainremedial acts. However, only a handful of

10 Los Angeles Lawyer March 2017

Proposition 65 cases have gone to trial. Takinginto account the general lack of precedentand the ambiguities in the law, the strategyfor litigating Proposition 65 matters is com-plex and requires an in-depth understandingof the state of the law, general scientific prin-ciples, and the client’s business objectives.

Whatever benefits have come to Californiaconsumers from Proposition 65 have beenaccompanied by a significant cost to California,nationwide and worldwide businesses. Whilethe new regulatory text provides businesseswith more guidance as to what constitutes anadequate warning under Proposition 65, thepractical effect of these clarified regulations(including whether they will reduce businesses’litigation and other costs under Proposition65) remains to be seen. n

1 HEALTH & SAFETY CODE §§25249.5-.13.2 Private enforcers may bring Proposition 65 claimsin the public interest if they give 60 days’ notice tothe alleged violator, the Attorney General, and thedistrict attorney, city attorney, or prosecutor in whosejurisdiction the violation is alleged to have occurredprior to filing suit. A 60-day notice must contain acopy of the Proposition 65 statute, a description ofthe violation, identification of the private enforcer, atime period of the violation, a list of the chemicalsinvolved, and the route of exposure.3 Proposition 65, State of California Office of Environ -mental Health Hazard Assessment (OEHHA), availableat http://oehha.ca.gov (last visited Sep. 13, 2016).

4 The list is updated and published annually. The dutyto warn requirement in Proposition 65 becomes effectivetwelve months after a chemical is publish ed on thelist. See The Proposition 65 List, OEHHA, availableat http://oehha.ca.gov (last visited Sep. 13, 2016).5 60-Day Notice Search Results, Office of the AttorneyGeneral, State of California Department of Justice,available at http://oag.ca.gov (last visited Sep. 13, 2016).6 While there is no penalty associated with providingunnecessary warnings, it should be noted that OEHHAdiscourages businesses from providing generic warn-ings. See Businesses and Proposition 65, OEHHA,available at http://oehha.ca.gov (last visited Sep. 13,2016).7 An employee is generally determined to be “a personwho provides services for remuneration,” includingfull-time employees and part-time employees. HEALTH

& SAFETY CODE §25249.11(b); A “person in the courseof doing business” does not include any person employ-ing fewer than 10 employees in his or her business….”CAL. CODE REGS. tit. 27, §25102(h).8 OEHHA, a division of the California EnvironmentalProtection Agency, is the lead agency in charge of theimplementation of Proposition 65. Proposition 65 Lawand Regulations, OEHHA, available at http://oehha.ca.gov (last visited Sep. 13, 2016).9 Articles 7 and 8 of Title 27 of the California Code ofRegulations provide some guidance to businesses forcalculating exposures levels where no NSRLs or MADLshave been determined. See CAL. CODE REGS. tit. 27,§25703; see also CAL. CODE REGS. tit. 27, §25803.10 Clear and reasonable warnings are defined as followsunder the statute: “Whenever a clear and reasonablewarning is required under Section 25249.6 of the Act,the method employed to transmit the warning must bereasonably calculated, considering the alternative meth-ods available under the circumstances, to make the

warning message available to the individual prior toexposure. The message must clearly communicate thatthe chemical in question is known to the state to causecancer, or birth defects or other reproductive harm.Nothing in this section shall be construed to preclude aperson from providing warnings other than those spec-ified in this article that satisfy the requirements of thisarticle, or to require that warnings be provided separatelyto each exposed individual.” CAL. CODE REGS. tit. 27,§25601.11 HEALTH & SAFETY CODE §25603.1.12 Id.13 Id.14 Notice of Adoption Article 6: Clear and ReasonableWarnings, OEHHA, available at http://oehha.ca.gov(last visited Sep. 13, 2016).15 Id. An emergency rulemaking related to warningsfor bisphenol A took place in April 26. Regulationsof Title 27 of Article 6 subject to the emergency rule-making (Sections 25603.3(f) and (g)) are not repealed.16 “This article will become effective two years afterthe date of adoption. A person may provide a warningthat complies with this article prior to its two-yeareffective date; such warning will be deemed to be clearand reasonable. A warning for a consumer productmanufactured prior to the effective date of this articleis deemed to be clear and reasonable if it complieswith the September 2008 revision of this article.” CAL.CODE REGS. tit. 27, §25600(b).17 If a 60-day notice has been served, no lawsuit hasbeen filed, and a business believes it is compliant, itmay consult with the Attorney General or the privateenforcer to eliminate claims before a lawsuit is filed.18 Proposition 65 Settlement Executive Summary 2015—All Settlements Reported, available at https://oag.ca.gov/sites/all/files/agweb/pdfs/prop65/2015-summary-report.pdf?.

Los Angeles Lawyer March 2017 11

12 Los Angeles Lawyer March 2017

HA

DI F

ARA

HA

NI

smoke orotherwise

consume medical cannabis to alleviate nauseafrom chemotherapy or to cope with post-traumatic stress disorder, anxiety, or otherdisease or infirmity, most are unaware thattheir use of this drug is at the forefront oftwo significant legal conflicts: one betweenthe United States and California, and theother between the state and local jurisdictionsseeking to ban or regulate it. Prohibited byfederal law, California grants limited immu-nity against criminal prosecution to certainqualified patients who use medical cannabis.While California has enacted laws to regulatemedical cannabis, nearly half of its cities andcounties have acted at the same time to bancultivation and dispensaries. And, as if thismatter were not sufficiently hazy, California

voters approved Proposition 64 (Adult Useof Marijuana Act) in November 2016 allow-ing the recreational use of cannabis by adults.

Nearly 50 years ago, President RichardNixon declared a national “war on drugs”1

to address both civilian and Vietnam War vet-eran drug epidemics and set out to “consolidatevarious drug laws…provide meaningful reg-ulation…prevent diversion into illegal channels,and strengthen law enforcement tools againstthe traffic in illicit drugs.”2 These efforts cul-minated in enactment of the ComprehensiveDrug Abuse Prevention and Control Act of1970.3 Title II of this act, the Controlled Sub -stances Act (CSA), makes it unlawful to man-ufacture, distribute, dispense, or possess anycontrolled substance, even if based on medicalnecessity.4 Marijuana is listed as a Schedule Isubstance, which is described as having a high

potential for dependency and no acceptablemedical use. The possession, distribution, andcultivation of marijuana is a federal offense,except for certain limited research purposes.5

Like federal law, the Cal ifornia UniformControlled Sub stances Act6 prohibits the use,possession, cultivation, transportation, andfurnishing of marijuana.

CSA vis à vis CUA

Notwithstanding these prohibitions, Cali -fornia became the first state to remove obsta-

HIGHTIME

Continuation of the Obama administration's "hands-off"

policy toward California's regime under the Medical

Marijuana Regulation and Safety Act is not guaranteed

As patients

by Julia Sylva

Julia Sylva serves as counsel to cities on issuesrelated to municipal law, with special emphasison planning and zoning. She also represents privateclients in land use and related matters. She wouldlike to thank David McPherson, HDL Companies,for his contributions to this article.

cles preventing qualified patients from obtain-ing and using medical marijuana when votersapproved Proposition 215, the Com passion -ate Use Act (CUA), in 1996. The CUA allowsa patient’s personal use of marijuana formedical purposes upon a physician’s recom-mendation.7

In 2005, the U.S. Supreme Court in Gon -zales v. Raich8 was asked to decide if Congressexceeded its authority under the commerceclause by categorically prohibiting the man-ufacture and distribution of marijuana underthe CSA when this act was applied to intra -state regulation of the use of this drug formedical purposes as authorized by Ca lifornialaw (i.e., the CUA). Respondents soughtinjunctive and declaratory relief prohibitingenforcement of the CSA after Drug Enforce -ment Administration (DEA) agents seizedand destroyed their cannabis plants. As theCourt’s majority acknowledged, each respon-dent asserted a compelling medical reasonfor using marijuana. In addition, the majorityalso noted that the DEA acted after countyofficials found their use of marijuana waslawful under California law.

The Supreme Court ruled that congres-sional authority under the commerce clauseof the U.S. Constitution includes the powerto prohibit the local cultivation and use ofmarijuana regardless of whether this complieswith California law.9 Relying on its decisionin Wickard v. Filburn,10 the majority heldthat Congress has the power under this clauseto regulate an activity even if it is completelyintrastate and not necessarily “commercial,”if that activity nevertheless has a substantialeffect on interstate commerce. In Wickard,a farmer exceeded his wheat allotment underthe Agricultural Adjustment Act of 1938(AAA) arguing that Congress had no author-ity to regulate the excess wheat that he grewfor home consumption. The Supreme Courtupheld the AAA as a legitimate exercise ofcongressional authority to control the volumeof wheat to avoid surpluses and control mar-ket prices. The Court applied this rationalein Raich by finding that “a primary purposeof the CSA is to control the supply anddemand of controlled substances in both law-ful and unlawful drug markets.”11 Thus,“Congress had a rational basis for concludingthat leaving home-consumed marijuana out-side federal control would similarly affectprice and market conditions.”12

The majority also relied on its holding inUnited States v. Lopez in which the Courtconcluded that Congress only needs to presenta rational basis to believe that the activitywould affect interstate commerce. Here,“Con gress had a rational basis for believingthat failure to regulate the intrastate manu-facture and possession of marijuana wouldleave a gaping hole in the CSA.”13

The fact that the CUA exempts the usefor patients with a doctor’s prescription wasnot persuasive in Raich. The Supreme Courtnoted that “under California law the doctor’spermission to recommend marijuana use isopen-ended.”14 Thus, this exemption “canonly increase the supply of marijuana in theCalifornia market,”15 which was a primaryconcern in the Court’s commerce clause analy-sis. On remand from the Supreme Court, theNinth Circuit rejected the respondents’ re -maining challenges to the CSA, finding thelaw does not violate substantive due processor impermissibly infringe upon California’ssovereign powers.16

Preemption

A significant issue neither raised nor discussedin Raich was preemption.17 As the CaliforniaCourt of Appeal acknowledged:

The Raich court merely examined thevalidity of the CSA under the com-merce clause; it did not go further andexamine the relationship between theCSA and the CUA…[‘the Court’s hold-ing in Raich did not address the pre-emption of the (CUA)’]…Raich ‘nei-ther declared [the CUA] invalid onpreemption or any other grounds norgave any indication that Californiaofficials must assist in the enforcementof the CSA.’”18

On the contrary, the court stated that “inenacting the CSA, Congress made it clear itdid not intend to preempt the states on theissue of drug regulation. Indeed, ‘[t]he CSAexplicitly contemplates a role for the Statesin regulating controlled substances.’”19 Thegoal of Congress, in enacting the CSA, wasto “combat recreational drug abuse and curbdrug trafficking…not to regulate the practiceof medicine, a task that falls within the tra-ditional powers of the states.”20

The California Court of Appeal has alsoconstrued the CUA as a “narrowly draftedstatute designed to allow a qualified patientand his or her primary caregiver to possessand cultivate marijuana for the patients’ per-sonal use.”21 This act does “not alter theother statutory prohibitions related to mar-ijuana, including those that bar the trans-portation, possession for sale, and sale ofmarijuana. When the people of this statepassed [the CUA], they declined to decrimi-nalize marijuana on a wholesale basis.”22

Medical Marijuana Program Act

Before Raichwas decided, the California leg-islature enacted the Medical Marijuana Pro -gram Act (MMP)23 in 2003 granting furtherlimited immunity from criminal prosecutionfor distribution, cultivation, and use of medicalmarijuana. As the court noted in People v.Urziceanu, the MMP was the legislature’s ini-

tial response to the directive in the CUA thatit “implement a plan to provide for the safeand affordable distribution of medical mari-juana to those patients who need it.”24 “[T]heMMP is more broadly intended to protect aqualified patient ‘who transports…marijuanafor his or her own personal medical use.’”25

Under the MMP, the Department of PublicHealth (DPH) is required to maintain a vol-untary program for issuing identification cardsto qualified patients who are entitled to pro-tection under Health and Safety Code Section11362.5 and who are diagnosed and docu-mented by a medical provider as having aserious medical condition as defined in theCUA.26 With this card, patients may use med-ical marijuana and their legally designatedprimary caregivers may obtain access to non-profit collectives and cooperative cultivationprojects.27

California courts have upheld these limi-tations. In 2008, Roger Mentch sought todefend himself against charges of cultivatingand possessing marijuana for sale by assertingthat he was a “primary caregiver” under theCUA and MMP.28 A “primary caregiver” isdefined as “the individual designated by theperson exempted under this section who hasconsistently assumed responsibility for thehousing, health, or safety of that person.”29

However, Mentch could only prove that he“took a ‘couple’ of patients to medical appoint -ments on a ‘sporadic basis,’ and that he pro-vided shelter to a patient when he was sellingmarijuana.”30 Based on this, the CaliforniaSupreme Court rejected his claim that he wasa “primary caregiver.” As the Supreme Courtstated:

While the [Medical Marijuana] Pro -gram does convey additional im mun -ities against cultivation and possessionfor sale charges to specific groups ofpeople, it does so only for specificactions; it does not provide globallythat the specified groups of people maynever be charged with cultivation orpossession for sale. That is, the immu-nities conveyed by [Health and SafetyCode] section 11362.765 have threedefining characteristics: (1) they eachapply only to a specific group of people;(2) they each apply only to a specificrange of conduct; and (3) they eachapply only against a specific set oflaws.31

That same year, the California Departmentof Justice released the “Guidelines for theSecurity and Non-Diversion of MarijuanaGrown for Medical Use.”32 The guidelinesexplained the actions that qualified patientsand primary caregivers must take to complywith the then applicable laws, including obtain-ing a doctor’s recommendation, re ceiving anidentification card, and limiting patients to

14 Los Angeles Lawyer March 2017

possessing no more than 6 mature or 12 imma-ture plants. It also created a regulatory schemepermitting nonprofit collectives and cooper-atives to operate legally, provided they com-plied with corporate formalities, required allmembers to complete a written applicationto participate in the purchase and sale, andprohibited purchase and sale to nonmembers.33

Finally, the guidelines made clear that medicalmarijuana could not be smoked within 1000feet of a school, recreation center, youth center,school bus, or moving vehicle,34 and thatstorefront dispensaries engaged in mass pro-duction or illegal sales could be subject toseizure, arrest, or criminal prosecution.

Local Bans

While California voters and legislators sup-port the limited use of medical cannabis,many local governments object to its use andhave adopted bans based on their authorityto regulate land use. As of January 2016, 43percent of California cities have chosen toban medical marijuana business operationswithin their jurisdictions.35 Historically, landuse regulation has been a function of localgovernment under the grant of police powercontained in the California Constitution: “Acounty or city may make and enforce withinits limits all local, police, sanitary, and otherordinances and regulations not in conflictwith general laws.”36

As the California Supreme Court statedin City of Riverside v. Inland Empire PatientsHealth and Wellness Center, Inc., “The in -herent local police power includes broadauthority to determine, for purposes of thepublic health, safety, and welfare, the ap -propriate uses of land within a local juris-diction’s borders, and preemption by statelaw is not lightly presumed.”37 The supremecourt acknowledged that “a city’s or county’spower to control its own land use decisionsderives from this inherent police power, notfrom the delegation of authority by thestate.”38 The legislature imposes a “minimumof limitation in order that cities and countiesmay exercise the maximum degree of controlover local zoning matters.”39

The decision in Riverside focused onwhether the CUA and MMP preempted a banin the City of Riverside on medical marijuanadispensaries. In enforcing this ordinance, thecity brought a public nuisance action against amedical marijuana distribution facility operat -ed by the defendants. The California SupremeCourt affirmed the trial court’s issuance of apreliminary injunction barring the facilityfrom distributing marijuana.40

In analyzing whether local bans on dis-pensaries are preempted by state law, thesupreme court stated that “local legislationthat conflicts with state law is void.…” Aconflict exists if the local legislation “dupli-

cates, contradicts, or enters an area fullyoccupied by general law, either expressly orby legislative implication.”41 “Similarly, locallegislation is ‘contradictory’ to general lawwhen it is inimical thereto.”42

In this instance, however, the CUA andthe MMP were deemed not to preempt River -side’s ban. On the contrary, no express conflictexisted between the state’s medical marijuanastatutes and the city’s action. Further, the courtalso found no implied conflict:

[T]he MMP merely exempts the coop-erative or collective cultivation anddistribution of medical marijuana byand to qualified patients and their des-ignated caregivers from prohibitionsthat would otherwise apply under statelaw. The state statute does not therebymandate that local governments autho-rize, allow, or accommodate the exis-tence of such facilities.43

Accordingly, the supreme court held that“there appears no attempt by the’ legislatureto fully occupy the field of medical marijuana

regulation as a matter of statewide concernor to partially occupy this field under cir-cumstances indicating that further local reg-ulation will not be tolerated.”44 Further, thecourt stated that “neither the CUA or theMMP expressly or impliedly preempts theauthority of California cities and counties,under their traditional land use and policepowers, to allow, restrict, limit or entirelyexclude facilities that distribute medical mar-ijuana, and to enforce such policies by nui-sance actions.”45 There is thus no conflictbetween the state medical marijuana statutesand a city’s actions in prohibition as the state’sstatutes “do no more than exempt specificgroups and specific conduct from liabilityunder particular criminal statutes.”46

While this legal area evolves and the leg-islature and voters continue to expand therights of medical cannabis patients, attorneysrepresenting municipalities have authoritythat they and their clients can rely upon tosupport a ban on the sale, cultivation, anddistribution of medical marijuana as a legit-

Los Angeles Lawyer March 2017 15

imate exercise of those jurisdictions’ broadpolice powers.

Alternatively, municipalities have the op -tion to regulate and tax these businesses.Local regulation and taxation may be exten-sive. In exercising its land use authority, localgovernments may impose standards based onlocation and size and distance of use.47 Theymay also conduct background checks, demandthat business entities be fully insured and ingood standing, and demonstrate the abilityto indemnify the jurisdiction if any litigationor any adverse action arises from the medicalmarijuana business.48 Also, the hours of op -eration and parking requirements may bestrictly regulated. Further, a city wishing toregulate medical cannabis may benefit fromsales tax, a special tax on medical marijuanarelated business, and development fees.49

MMRSA

In an effort to adopt uniform standards wheremedical marijuana is permitted locally, Gov -ernor Edmund G. Brown signed three billsin 2015 that are collectively referred to as theMedical Marijuana Regulation and Safe ty Act(MMRSA).50 The MMRSA overhauled Cal -ifornia law relating to the cultivation, pro-cessing, and distribution of medical marijuanato patients and caregivers.

The MMRSA grants regulatory and licens-ing authority to the Department of Food andAgriculture (DFA) for cultivation sites. Thisincludes the establishment of “State cultivatorlicense classifications,” which are describedas “Type(s)” 1 to 4, regulating outdoor andindoor cultivation, square footage and natural

versus artificial lighting requirements.51 Types:3, 3A, and 3B are subject to a limited numberof licenses to be issued by the DFA.52 TheDFA has not yet determined the number oflicenses that will be issued.

The MMRSA also regulates environmen-tal impacts associated with cannabis culti-vation and unlawful water diversions in coor-dination with the State Water ResourcesCon trol Board.53 In addition, the Departmentof Pesticide Regulation must monitor appro-priate pesticide tolerances on cannabis cropsintended for human consumption.54 Further,as it relates to “edibles,”55 the DPH mustdevelop standards for the production andlabeling of edible medical cannabis prod-ucts.56 A Medical Marijuana Regulation andSafety Act Fund was created to receive finesand civil penalties for specified violations57

to be appropriated by the legislature in thefuture.

The MMRSA initially provided that DFAwould be the sole licensing authority for cul-tivation applications if local governmentsdid not adopt land use regulations or ordi-nances regulating or prohibiting this activityby March 1, 2016.58 However, this deadlinehas now been superseded.59

The MMRSA60 requires the issuance ofboth a state and local license to cultivatemedical marijuana. A license is valid for 12months from date of issuance.61 Any facilityoperating in compliance with a local zoningordinance on or before January 1, 2018, maycontinue operating until state licensing author-ities approve or deny its application for licen-sure. Also, any licensee granted a license by

a local jurisdiction that demonstrates that itis in good standing with that agency byJanuary 1, 2016, will receive priority fromthe state.62

The act also created a Bureau of MedicalCannabis Regulation (BMCR) within theCalifornia Department of Consumer Affairs.The BMCR oversees the overall regulatoryscheme and establishes minimum health andsafety and testing standards. It also requiresthe Board of Equalization, in consultationwith DFA, to adopt a system for reportingthe movement of commercial cannabis andcannabis products. In this regard, the MMRSArequires that transporters be bonded andinsured, and that they adhere to minimumsecurity requirements for the commercial trans-portation and delivery of medical can nabisproducts.63 The MMRSA also clarifies thatfor-profit entities may now be qualified toengage in the medical marijuana business.64

In addition, the MMRSA also sets forth criteriafor licensing medical marijuana businesses,regulating physicians and their recommenda-tions of medical cannabis, and recognizes localauthority to levy taxes and fees under a uniqueidentifier and track and trace program.65 TheBMCR will begin issuing licenses on January1, 2018. The governor’s administration plansto actively engage with local governments andlocal law enforcement in implementing theMMRSA.66

Federal Enforcement

The legal quagmire over medical marijuanahas been exacerbated by a change in federalenforcement policy. In 2013, the U.S. De - partment of Justice (DOJ) issued a documententitled “Guidance Regarding Mari juana En -force ment.”67 In the guidance, the DOJ reit-erated its primary objectives to prevent mari-juana from being distributed to minors andto thwart criminals from earning revenuesfrom its sale. The DOJ maintains that “[t]heCSA’s prohibitions on the possession, distri -bution, or manufacture of marijuana remainfully enforceable in this jurisdiction,”68 in -cluding California. However, in exercising itsprosecutorial discretion, the DOJ has not pros-ecuted marijuana users and businesses, pro-vided they comply with state and local laws.The DOJ relies on state and local law enforce-ment to address marijuana activity throughenforcement of their own narcotics laws.69

To further complicate the situation, theNinth Circuit in United States of America v.McIntosh held in August 2016 that the DOJis prohibited “from spending funds…for theprosecution of individuals who engaged inconduct permitted by the State MedicalMarijuana Laws and who fully complied withsuch laws.”70 The court in McIntosh reliedon the Consolidated Appropriations Act,2016,71 which “prohibits the Department of

16 Los Angeles Lawyer March 2017

Due to the illegal proliferation of dispensaries in the City of Los Angeles, the citycouncil enacted an Interim Control Ordinance (ICO) in October 2007 banningstorefront sales of medical marijuana. In May 2013, Los Angeles voters approvedMeasure D, which allowed 135 medical marijuana dispensaries designated in theICO to stay open, provided they complied with public health and safety andzoning requirements. The measure also im posed a new tax of $60 per $1,000 ofmari juana sold. Since passage of Measure D, the City Attorney’s Office hascontinued to file criminal complaints against businesses that operate illegal andunlicensed dispensaries and has successfully secured the closure of more than500 unlawful medical marijuana dispensaries.1

In November 2016, the city council ap proved placing Measure M on the March2017 ballot. The proposed ballot measure would amend various provisions of theLos Angeles Municipal Code related to cannabis activity, including enforcement,taxation, and regulation of medical and nonmedical can nabis activity in the city.As of early January 2017, the city has not yet released a draft of proposedMeasure M but has taken extensive written and oral input from interested partiesat town hall meetings.

1 Medical Marijuana, Mike Feuer, L.A. City Attorney, http://www.lacityattorney.org (last visited Jan. 17,2017).

City of Los Angeles and Medical Marijuana

Justice from spending funds to prevent states’implementation of their medical marijuanalaws.”72 The appellate court ruled that “theAppropriations Clause constitutes a separa-tion-of-powers limitation that Appellants caninvoke to challenge their prosecutions.”73

Consistent with this decision, the U.S.attorney in the Northern District of Californiadismissed a complaint with prejudice in Nov -ember 2016 against a collective in Oaklandthat sells cannabis to more than 100,000patients.74

This hands-off policy by the federal gov-ernment appears to be consistent with thetrend as more states and cities legalize medicalcannabis. However, there is no guarantee thatthe federal government will continue withthis liberal policy. Vested interests should beaware that the federal statutes of limitationsmay range from five to 10 years; thus, it ispossible that those engaging in medical mar-ijuana-related businesses could be prosecutedby the federal government in the future.

Attorneys may take sanctuary in the factthat the Los Angeles County Bar AssociationProfes sional Responsibility and Ethics Com -mittee has opined that a member does notviolate the California Rules of ProfessionalConduct or the California State Bar Act byadvising or assisting clients who wish to engagein medical marijuana and related businessactivities.75

Proposition 64

As if use of marijuana for medical purposesdid not already present a myriad of legalchallenges, law enforcement and local gov-ernment will now be further challenged byProposition 64. Under this recent voter-ap -proved initiative, possession of one ouncefor recreational use is allowed, as is the cul-tivation of up to six plants per residence andthe possession of the marijuana produced bythese plants for adults 21 or older. Proposition64 becomes effective on January 1, 2018.This is also the date when the DFA is expectedto issue licenses to marijuana retailers, dis-tributors, and microbusinesses.

Plants and harvest exceeding one ouncemust be kept in a locked space not in publicview at one’s residence. Local governmentsmay still forbid cultivation outdoors but mustallow it inside a private residence or accessorystructure that is “fully enclosed and secure.”76

Also, under limited circumstances, local juris-dictions “may allow for the smoking, vapor-izing, and ingesting of mari juana or marijuanaproducts on the premises of a [licensed] retaileror microbusiness.”77

Proposition 64 is not meant to interferewith the ongoing implementation of the CUA.Medical marijuana patients retain their exist-ing rights under the CUA to possess and cul-tivate as much as they need for personal med-

ical use so long as they have a doctor’s rec-ommendation, irrespective of the Prop osition64 limits for adult users. Local governmentsmay still restrict cultivation based on theirland use and taxation authority, excludingthe six indoor plant minimum allowed forpersonal use.

The administrative, statutory, and taxa-tion scheme of Proposition 64 is complexand comprehensive.78 It imposes excise andcultivation taxes that will be distributed by the state controller to various interestedpublic agencies and entities in the state.However, local governments may not be therecipient of grants that may assist with lawenforcement, fire protection, or other localprograms addressing public health and safetyassociated with Proposition 64 if they havebanned cultivation for commercial or recre-ational use.79

Enforcement of Proposition 64 presentsunique challenges. For instance, smoking ofcannabis is prohibited in “any public place.”80

In addition, local governments may continueto enforce ordinances that regulate reductionof exposure to secondhand smoke or “contacthigh.”81 The enforcement of these provisionson private businesses and landlords and ten-ants of public housing is yet to be deter-mined.

Fiscal Impact

State and local government anticipate a posi -tive fiscal impact of Proposition 64, but thehealth and safety and public policy impactsare daunting.82 It is premature to estimatethe exact fiscal impact or law enforcementproblems associated with the few cities thathave opted to regulate medical marijuanapursuant to the MMRSA, as they are still inthe entitlement stage. The only likelihood isthat medical marijuana is here to stay in oneform or another subject to the broad policepowers of local governments that can usethat power to protect the public health, safety,and welfare of its constituents.

At the same time, however, the risk stillexists that with the new presidential admin-istration, Congress could restore funding forprosecution for violations of the CSA. Never -theless, these prosecutions will not likely beat the forefront of the new administration.President Trump has inferred his deferenceto states in this public policy issue.83 Further,the CSA was adopted during the Nixon era,when the war on drugs was paramount. Itappears that regulation, not prohibition, isthe wave of the future for voters and soci-ety-at-large, which Congress may seek tohonor someday. n

1 Gonzales v. Raich, 545 U.S. 1, 10 (2005).2 Id. at 10.3 Comprehensive Drug Abuse Prevention and Control

Act of 1970, Pub. L. No. 91-513, 84 Stat. 1236 (1970).4 United States v. Oakland Cannabis Buyers’ Coop.,532 U.S. 483 (2001).5 21 U.S.C. §§801, et seq.6 HEALTH & SAFETY CODE §11000, et seq.7 HEALTH & SAFETY CODE §11362.5(d).8 Gonzales v. Raich, 545 U.S. 1, 10 (2005).9 Id. at 9.10 Wickard v. Filburn, 317 U.S. 111 (1942).11 Raich, 545 U.S. at 19.12 Id.13 Id. at 22.14 Id. at 31.15 Id. at 32.16 City of Garden Grove v. Superior Ct., 157 Cal.App. 4th 355, 367 (2007) (citation omitted).17 Id.18 Id. at 382 (citation omitted).19 Id. at 383 (emphasis in original).20 Id.21 People v. Urziceanu, 132 Cal. App. 4th 747, 772-73 (2005).22 Id. at 773.23 HEALTH & SAFETY CODE §§11362.7 et seq.24 Urziceanu, 132 Cal. App. 4th at 783.25 City of Garden Grove v. Superior Ct., 157 Cal.App. 4th 355, 375 (2007).26 HEALTH & SAFETY CODE §11362.7.27 Qualified Patients Ass’n, et al. v. City of Anaheim,187 Cal. App. 4th 734, 744 (2010).28 People v. Mentch, 45 Cal. 4th 274 (2008).29 HEALTH & SAFETY CODE §11362.5(e).30 Mentch, 45 Cal. 4th at 280.31 Id. at 274.32 Guidelines for the Security and Non-Diversion ofMarijuana Grown for Medical Use, Dep’t of Justice,State of California (Aug. 2008), available at https://oag.ca.gov.33 As amended in 2016, HEALTH & SAFETY CODE

§11362.775 provides that collectives and cooperativeswill cease having immunity from criminal sanctionsone year after the Bureau of Medical CannabisRegulation posts a notice on its website that the applic-able agencies have begun issuing licenses.34 HEALTH & SAFETY CODE §11362.79.35 Allison Edrington, List of Cities, Counties BanningCommercial Cannabis in California, The Ganjier,http://www.theganjier.com/2016/01/19/list-of-cities-counties-banning-commercial-cannabis-in-california(last visited Jan. 20, 2017).36 CAL. CONST. art. XI, §7.37 City of Riverside v. Inland Empire Patients Healthand Wellness Ctr., Inc., 56 Cal. 4th 729, 738 (2013).38 Id. at 742.39 CAL. CONST. art. XI, §7; GOV’T CODE §65800; andDeVita v. County of Napa, 9 Cal. 4th 763 (1995).40 Riverside, 56 Cal. 4th at 729.41 Id. at 743 (citations omitted).42 Sherwin-Williams Co. v. City of Los Angeles, 4 Cal.4th 893, 897 (1993).43 Riverside, 56 Cal. 4th at 759. (emphasis in original). 44 Id. at 755.45 Id, at 762.46 City of Claremont v. Kruse, 177 Cal. App. 4th1153, 1175 (2009).47 GOV’T CODE §65800; DeVita v. County of Napa, 9Cal. 4th 763, 792 (1995).48 BUS. & PROF. CODE §§19322-19323.49 CAL. CONST. arts. XIIA, §3(b); XIIIC, §1(e); XIIIC-XIIID; GOV’T CODE §§19300 et seq.50 BUS. & PROF. CODE §§19360 et seq.; FISH & GAME

CODE §12029; HEALTH & SAFETY CODE §§11362.769,11362.777; WATER CODE §13276. See also DonDuncan, CA Governor Signs Three Historic MedicalCannabis Bills, Americans for Safe Access (Oct. 9,2015), http://www.safeaccessnow.org.

Los Angeles Lawyer March 2017 17

51 BUS. & PROF. CODE §§19300 et seq.52 Id.53 BUS. & PROF. CODE §19332 et seq.54 BUS. & PROF. CODE §19331 et seq.55 Marijuana edibles contain tetrahydrocannabinol orTHC and include brownies, cookies, space cake, and firecrackers.56 BUS. & PROF. CODE §19332(c).57 Penalties and fines will be imposed on personsengaging in cannabis activity without a license andassociated unique identifiers required by the MMRSA.See BUS. & PROF. CODE §19360.58 AB 243 (Wood, 2015), superseded by HEALTH &SAFETY CODE §1362.777.59 In February 2016, HEALTH & SAFETY CODE §11362.777 was amended granting local jurisdiction an indef-inite period in which to develop and adopt rules andregulations for the medical marijuana industry.60 BUS. & PROF. CODE §19300.61 BUS. & PROF. CODE §19321(b).62 BUS. & PROF. CODE §19321(c).63 BUS. & PROF. CODE §19334(3)-(4).64 BUS. & PROF. CODE §19300.5(a).65 BUS. & PROF. CODE §§19335 et seq.66 The 2016-17 Budget: Overview of Governor’sProposals to Implement the Medical Marijuana Reg -ulation and Safety Act, Legislative Analyst’s Office(Feb. 18, 2016), available at http://www.lao.ca.gov/handouts/resources/2016/MMRSA-Overview-021816.pdf.67 Memorandum from James M. Cole, Deputy AttorneyGeneral to all U.S. Attorneys (Aug. 29, 2013), availableat https://www.justice.gov.68 City of Riverside v. Inland Empire Patients Healthand Wellness Ctr., Inc., 56 Cal. 4th 729, 740 (2013)(citing Gonzales v. Raich, 545 U.S. 1 (2005)). 69 The August 2013 Guidance was prepared by JamesM. Cole, Deputy Attorney General, DOJ (the “ColeMemo”).70 United States v. McIntosh, et al., No. 15-10117, at27 (9th Cir., Filed Aug. 16, 2016). 71 Consolidated Appropriations Act, 2016, (CAA)Pub. L. No. 114-113, 129 Stat. 2242 (2015). 72 McIntosh, No. 15-10117, at 6 (citing ConsolidatedAppropriations Act §542). 73 McIntosh, No. 15-10117, at 23.74 See, e.g., Maura Dolan, Federal prosecutors dropcase against Bay Area pot dispensary, L.A. Times, May3, 2016, available at http://www.latimes.com. 75 Opinion No. 527: Legal Advice and Assistance toClients Who Propose to Engage or Are Engaged in theCultivation, Distribution, or Consumption of Marijuana,L.A. LAWYER , Nov. 2015, at 60-65.76 Prop. 64 (§11362.2(b)(2)),Text of Proposed Laws,California General Election, Tuesday Nov. 8, 2016,available at http://vig.cdn.sos.ca.gov/2016/general/en/pdf/text-proposed-laws.pdf.77 BUS. & PROF. CODE §26200(d).78 HEALTH & SAFETY CODE §34010 et seq.79 HEALTH & SAFETY CODE §34019(f)(3)(C).80 HEALTH & SAFETY CODE §11362.3(a)(1).81 Evan S. Hermann, et al., Non-smoker exposure tosecondhand cannabis smoke II: Effect of room venti-lation on the physiological, subjective, and behavioral/cognitive effects, 151 Drug and Alcohol De pendence194 (2015).82 JAMES F. MOSHER, J.D., THE 2016 CALIFORNIA

MARIJUANA INITIATIVE AND YOUTH: LESSONS FROM

ALCOHOL POLICY. COUNTY OF VENTURA: VENTURA

COUNTY BEHAVIORAL HEALTH, (2016), available athttp://venturacountylimits.org.83 Jeremy Berke, Here’s where President-elect DonaldTrump stands on marijuana legalization, BUSINESS IN -SIDER (Nov. 9, 2016), http://www.businessinsider.com/where-donald-trump-stands-on-weed-legalization-2016-11.

18 Los Angeles Lawyer March 2017

Los Angeles Lawyer March 2017 19

of lenders, including New York-based Counsel Financial (backed by

Citi group) recently financed New York’s Ground Zero workers’ litigation to the tune ofabout $35 million. The action settled for approximately $680-710 million; the consortiumreportedly cleared $11 million.1 The potential upside in this type of third-party litigationfunding is staggering. But at what cost to the attorney-client relationship?2 Trial lawyersface myriad ethics issues when representing clients; one of the most important is counsel’spromise to protect client interests with undivided loyalty. The attorney-client relationship isthus a fiduciary relationship of the highest degree.3 This relationship may be jeopardizedwhen a third party—which is otherwise a complete stranger to the matter—finances litigation.Third-party litigation funding is solely a financial product that allows an entity to pay theupfront trial costs of a plaintiff or a class of plaintiffs. Funding is nonrecourse; unsuccessfullitigants owe nothing to these financiers.4

Trial funding by third parties need not inherently create conflicts, but the financier mustunderstand that its involvement is strictly monetary. The investment must not carry with itany degree of strategic control. Counsel must make clear to all involved that the attorney’sundivided loyalty is to the client, not the third-party funder.5 No privileged information canbe independently divulged nor can the third party influence the litigation or negotiationstrategy: this is strictly within the purview of the client.6 In many outside funding situations,no conflict is likely to arise.

For example, in family law, third-party family members or close friends sometimes pay

Lisa Miller is a California and New York trial lawyer and administrative hearing officer. She chairs theethics and technology standing subcommittee of the LACBA Professional Responsibility and EthicsCommittee.

MCLE ARTICLE AND SELF-ASSESSMENT TEST

By reading this article and answering the accompanying test questions, you can earn one MCLE legal ethics credit.

To apply for credit, please follow the instructions on the test answer sheet on page 21.

Perils ofThird-PartyFundingIf counsel discloses work product to a third-party financierwho has no interest in maintaining confidentiality, work-product protection may be waived

A CONSORTIUM

by LISA MILLER

the legal bills of a loved one. While the attor-ney must ensure that the lender understandshis or her role is strictly providing financialsupport, in a setting where financing is basedon an ongoing personal relationship, thelender usually shares a common interest withthe client. When the third party financing alawsuit is making business decisions basedon financial gain, however, the interests ofthe funder and the client, and at times, coun-sel, can be at odds.

Litigation funding, although not com-pletely a new concept, is paradoxically bothon the upswing and still largely unknown.Also, while third-party funding is increasinglyavailable to litigators, funding issues remainlargely opaque. To make smart ethics callsand avoid unexpected ethics pitfalls in thecontext of trial finance, advocates shouldfamiliarize themselves with the substance andprocedures involved.

While litigation funding is financing bythird parties who offer cash, usually in ex -change for a return on successful resolution,7

this is not the only approach. Another optionis online crowdfunding.8 Plaintiffs receivedonations from individuals, or offer rewards($2 for each $1 contributed, for example).The individual online funders expect a returnon their investments upon successful comple-tion of the litigation. Thus, these are notsimply donations to cover trial costs, e.g., lit-igation funding appeals through popularcrowdfunding sites that include GoFundMe,KickStarter, or IndieGoGo.9

Considering the ethical disparity triggeredby the distance between professional fundersand retained counsel, the question ariseswhether plaintiffs’ counsel may ethically usethese options, and if so, how. Also, whatwould be the appropriate context for repre-senting clients who are contemplating orhave already secured this financing on theirown?

Most third-party funding agreements im -plicate some common deal identifiers: 1) adirect contract relationship exists betweenthe funder and the original party to the caseor with the advocate, 2) the case continueswith the original party to the matter in place,and 3) because no assignment of the under-lying claim occurs, financial backers are notparties.10 Considering these basic qualifiers,the touchstone of the initial analysis is thelegality of the transaction itself. Rights torecover money via a judicial proceeding aregenerally transferable—a thing in action ispresumptively assignable, with the exceptionof most personal causes of action.11 Pro -hibition of the common-law concepts of main-tenance (intermeddling of a disinterestedparty to encourage a lawsuit) and champerty(the maintenance of a person in a lawsuit oncondition that in some way the action is to

be shared with the maintainer) are unknownto the laws of California.12 Based on theseconcepts, counsel may legally use third-partyfinancing and represent clients engaged inthird-party funding relationships. However,advocates may be on slippery ethical groundas they must consider more than legality—they and their clients need to be sensitive toobvious as well as subtle ethics issues.13

Ethical Implications

Counsel’s ethical obligations to clients maynever be infringed based on divergent financialinterests triggered by third-party funding.Advocates’ obligations in the context of thirdparties funding litigation generally focus onmaintaining independent control of the liti-gation, avoiding conflicts, and preventinginadvertent waiver of privilege.14 For exam-ple, in the context of providing financing,funders may require that counsel report casedevelopments. When third-party fundersrequire that the advocate seek consent fromthe financier regarding file strategy, this maysuggest that funders are seeking to influencethe progress of the file. The input on strategyby third-party funders results from the factthat, generally, funders take “first resolutiondollars,” i.e., traditional priority of repaymentis the funder gets paid first from recovery,before counsel and client.15 For example, ina $50 million case, funded at $10 million, adefendant may offer to settle in the range of$12-15 million. Under the terms of mostfunding agreements, funders would likelypush for acceptance, and they will recover$10 million, plus additional sums as statedin the contract. The plaintiff will resist takingthe offer since the plaintiff in this scenario,after funder repayment, receives almost noth-ing on a $50 million action, thereby settingup a conflict of interest.16

The conflict becomes clearer when con-sidering the divergent loyalties and obligationsof each side. Counsel’s ethical obligationsrequire that he or she act in the best interestof the client and in conformity with the client’sdirectives. Alternatively, third-party fundersare primarily ethically obligated to bring inthe best possible return for investors. Noneof the third-party funders’ fiduciary dutiesextend to counsel’s client, before or aftercontracts are signed and funds are advanced.Therefore, advocates (and their clients) mustbe sensitive to and resist pressure from trialfinanciers regarding trial strategy or resolutiondecisions. Third-party funders’ advocacy re -garding trial strategy—informed by loyaltyto the financial backers—must never beallowed to compromise counsel’s loyalty tothe client.17

As a corollary, if a trial file attached to athird-party funding agreement is over-lever-aged, counsel’s worries regarding repayment

may affect advocacy decisions, even absentblatant funder demands. If the file’s financingcommitments become sufficiently unbalanced,the advocate may feel compelled to unrea-sonably risk trial to attempt generating averdict large enough to cover all third-partypayment obligations and to provide a satis-fying return for counsel and client. Whenreasonable settlement options are rejectedon this basis, it harms the client’s interests.This type of conflict can undermine counsel’sduty of undivided loyalty to the client.

As well, counsel may refer clients to fun-ders, but counsel must refuse referral feesthat extinguish independence of judgmentregarding whether financing is in the client’sinterest. An advocate’s consideration of finan-cial commitments on a client’s matter mustnever compromise candid advice regardingfinancing terms.

Conflict rules may prohibit an attorney,or a company the attorney substantially owns,from financing clients whom the attorney, orthe attorney’s firm, represent. Likewise, ifcounsel signs the finance agreement, the clientmay later direct counsel not to pay the funder,thus arguably rendering counsel and clientadverse, which in turn likely violates Calif -or n ia Rule of Professional Conduct 3-300(avoiding interests adverse to a client). Third-party financing may cause counsel to inad-vertently compromise the client’s confidences,even without direct counsel-client conflict.These ethics challenges may arise in the dis-covery process. If so, this could place counselin conflict with Rule of Profes sional Conduct3-310(F) (avoiding representation of adverseparties) and Business and Professions Code6068(e) (protecting client confidences), a dif-ficult ethical gauntlet for counsel.

Privilege and Discovery

Privilege may accidentally be compromisedand therefore lost in the ordinary course oflitigation if an outside funder reads the filewhen considering a finance contract. As partof the negotiation regarding funding, mostfunders demand case data. Funders sometimesseek access to information before and aftercommitting funds, which may require updatesand sometimes direct file access as precon-ditions of financing or continued financing.18

Counsel’s discussions with potential funderscould unintentionally waive attorney-clientprivilege, implicating discovery conflicts andmaybe trial results.19 This analysis createsethics pressure points on clients.20

One possible hot-spot is the potential foroutside financing to raise additional conflicts,despite client authorization. A paradigm maybe created in which clients believe they mustchoose between revealing confidential infor-mation that they are uncomfortable disclosingto third parties and losing the funding for

20 Los Angeles Lawyer March 2017

Los Angeles Lawyer March 2017 21

MCLE Answer Sheet #266

PERILS OF THIRD-PARTY FUNDING

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Law Firm/Organization

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INSTRUCTIONS FOR OBTAINING MCLE CREDITS

1. Study the MCLE article in this issue.

2. Answer the test questions opposite by markingthe appropriate boxes below. Each questionhas only one answer. Photocopies of thisanswer sheet may be submitted; however, thisform should not be enlarged or reduced.

3. Mail the answer sheet and the $20 testing fee($25 for non-LACBA members) to:

Los Angeles Lawyer MCLE Test P.O. Box 55020 Los Angeles, CA 90055

Make checks payable to Los Angeles Lawyer.

4. Within six weeks, Los Angeles Lawyer willreturn your test with the correct answers, arationale for the correct answers, and acertificate verifying the MCLE credit you earnedthrough this self-study activity.

5. For future reference, please retain the MCLEtest materials returned to you.

ANSWERS

Mark your answers to the test by checking theappropriate boxes below. Each question has onlyone answer.

1. n­True n­False

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3. n­True n­False

4. n­True n­False

5. n­True n­False

6. n­True n­False

7. n­True n­False

8. n­True n­False

9. n­True n­False

10. n­True n­False

11. n­True n­False

12. n­True n­False

13. n­True n­False

14. n­True n­False

15. n­True n­False

16. n­True n­False

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MCLE Test No. 266The Los Angeles County Bar Association certifies that this activity has been approved for Minimum ContinuingLegal Education credit by the State Bar of California in the amount of 1 hour. You may take tests from backissues online at http://www.lacba.org/mcleselftests.

1. Third-party funders’ receiving case data as part ofthe negotiation regarding funding has no effect on dis-covery of privileged material.

True.False.

2. A fundamental ethical conflict that arises in thepresence of third-party funding is independent judg-ment regarding control of the litigation.

True.False.

3. If counsel realizes that the third-party fundingcontract is usurious, counsel must immediately securewritten waivers from the client in order to save thedeal.

True.False.

4. Monetary advances that are actually loans, whichlitigants must repay , constitute usury per se.

True.False.

5. Third-party funding agreements can be structuredso they are outside usury laws.

True.False.

6. If class counsel discusses the ethics issues in athird-party funding arrangement with the lead plaintiff,counsel’s ethical obligations to the class are satisfied.

True.False.

7. Third-party funders and the lawyers they are backingshare a community of interest, with similar goals andmotivations.

True.False.

8. Class counsel are under no ethical obligation todisclose to anyone the involvement of a third-partyfunding agreement.

True.False.

9. When privilege logs are needed in the context ofdiscovery, they should note specific, applicable privi-leges, and not “common interest.”

True.False.

10. Courts are never permitted to seek disclosure ofthe existence of a funding agreement.

True.False.

11. Plaintiff’s counsel can never be compelled to turnover third-party funding agreements to the defense.

True.False.

12. The involvement of third-party financiers withpotential lead class counsel could raise questionsabout that law firm’s resources to meet the demandsof representing the class.

True.False.

13. Material transferred between counsel for the com-pany and an investor or potential investor in that com-pany is not always protected by the joint defense doc-trine.

True.False.

14. The common interest doctrine insulates from dis-covery material shared between lawyers who are nego-tiating adversaries in the course of representing theirrespective clients.

True.False.

15. If negotiations with third-party funders are purelyfinancial, the common interest doctrine may not protectthe sharing of privileged material from discovery.

True.False.

16. Paying the lender a portion of attorney fees couldbe considered prohibited fee-sharing.

True.False.

17. Counsel may waive work-product protection by dis-closing counsel’s work product to a third party—includ-ing, potentially, prospective funders—who have nointerest in maintaining confidentiality.

True.False.

18. California advocates seeking third-party fundingfor litigation in California must be careful to avoid acci-dental champerty.

True.False.

19. Disclosures to third-party funders might be pro-tected under Evidence Code §912.

True.False.

20. Counsel’s discussions with potential funders cancreate ethics pressures for clients.

True.False.

their litigation, and possibly their ability topress forward in litigation. Clients in thisposture could feel unable to rely on existingcounsel due to counsel’s obvious bias andseek a legal opinion with another advocatewho does not fully understand the historyand nuances of the client’s matter.

Once clients commit to securing funding,the financiers’ confidentiality protocols shouldbe carefully examined. Counsel should assistthe parties to the transaction in defining thelimits of disclosures and the legal and financialobligations to defend against intrusion intothe client’s confidential information. Counsel

should consider demanding contract termsthat include recourse for the funder’s breachof counsel’s obligations to safeguard clientconfidences.

A subsidiary issue concerns the potentialfor and consequences of waiver of privilege.Counsel should secure the client’s writteninformed consent prior to cooperating withthird-party funders’ demands for disclosuresprior to signing financing contracts. Dis -closures to financiers should be no broaderthan necessary to outline the operative facts,issues, and procedural posture of the case, incounsel’s judgment. Even if an advocate bal-ances preserving confidences with the client’sdesire to finance the file, this does not addressall the issues regarding breaking open privilegevia disclosures to financial partners.

California civil litigators sometimes ref-erence the common interest doctrine whenthey believe that effective client representationrequires sharing with third parties privilege-protected material without waiving confiden-tiality. In Citizens for Ceres v. Superior Court,the California Court of Appeal interpretedEvidence Code Sections 912 and 952, findingthat California has no “common interest priv-ilege,” but in limited circumstances Californialaw provides for survival of the attorney-client privilege when confidential informationis shared with a third party, as long as it isshared with a reasonable expectation that theinformation disclosed will remain confidentialand the disclosure is necessary to accomplish

the privilege holder’s purpose in seeking legaladvice.21 The doctrine can, therefore, in somecircumstances, insulate from discovery mate-rial shared between negotiating adversaries.Trial lawyers involved in negotiating third-party funding arrangements ar guably functionas both transactional attorneys negotiatingbusiness commitments and as trial lawyerszealously representing clients in adversarialproceedings. The added wrinkle is that fundersare never advocates with a client in the mix.

As background, attorney-client privilegegenerally falls when lawyers voluntarily dis-close confidences to unrelated third parties.22

The underlying issue is that, during financialnegotiations on the file, participants areadverse, rendering disclosures potentiallyoutside attorney-client privilege.23 In Cal -ifornia, evidentiary privileges are purely statu-tory, and courts cannot recognize new priv-ileges. As a result, the fact that the EvidenceCode does not recognize a joint defense priv-ilege for separately represented parties is thefinal word in California litigation.24 However,disclosures may be protected under EvidenceCode Section 912, which provides some shel-ter: disclosure does not waive privilege if itis both confidential and reasonably necessaryfor the accomplishment of the purpose forwhich counsel was consulted.25

Most cases construing Section 912, though,contemplate several attorneys represent ingmultiple clients who are parties to a singleaction—for example, codefendants pool re-sources for efficiency or consistency. This isnot the case during third-party funding dis-cussions, however, in which parties who claimcommon interest as a defense to disclosureof privileged material are adversarial. Aus -piciously, the common interest necessary forwaiver protection—although not obvious infinancial negotiations—has recently been recognized among nonlitigants and adversenegotiating parties.26 Because the funder rela-tionship during negotiations is both adver-sarial and exclusively financial, the commoninterest doctrine may not be available.27 Thus,sharing privileged information is only selec-

tively protected.28

Third-party funding is fundamentally abusiness negotiation, not seeking or providinglegal advice, but some courts have recognizedthat communications between parties to abus iness negotiation are within the con -templa tion of the attorney-client privilege.29

How ever, while some communications out -side litigation may come under the rubric ofthe common interest doctrine, these types ofcommunication must be shared for a legalrather than business purpose. Entities mustshare identical, or nearly identical, legal inter-ests for the common interest doctrine to apply

and for privileges and protections to kick in.30

Counsel seeking funding and protectionfrom discovery need to structure their ap -proach and communications to establish thatthe parties share a common interest in thesuccessful prosecution of the matter, render -ing the disclosures “reasonably necessary toac complish the purposes for…consultingcounsel.”31 Generally, the purpose of con-sulting counsel would be successful litiga-tion—the same interest motivating the fin -anciers’ participation. For protections tore liably attach, however, the communicationmust contain legal advice furthering the at torney-client re lationship and reasonably necessary to representation.32 This is a toughneedle to thread because legal advice rarelyplays a role in communications that are actu-ally conducted under the aegis of arm’s-lengthadversarial financial negotiations.

Contrary to the requirements of Calif -ornia’s common interest doctrine, funders aregenerally neither counsel nor client. Counselmay want to try to cast the advocate’s role inthe funding negotiation as that of providinglegal advice and guidance on the merits ofthe legal arguments in the client’s case.

Arguably, absent legal advice, common-interest analysis might be inapplicable.33

Consequently, communication among client,counsel, and finance companies may waiveprivilege, exposing privileged material to dis-covery. Another analysis is emerging to protectprivilege when counsel shares sensitive material

22 Los Angeles Lawyer March 2017

THIRD-PARTY FUNDING is fundamentally a business

negotiation, not seeking or providing legal advice, but

some courts have recognized that communications

between parties to a business negotia tion are within the

contemplation of the attorney-client privilege.

as part of trial financing. Courts recognizethat the waiver analysis covers work product(Wells Fargo Bank v. Superior Court).34 Thetrend is to protect financing-related disclosuresas protected attorney work product, preparedin anticipation of litigation.35 Unfortunately,counsel may unexpectedly waive work-prod-uct protection by disclosing counsel’s workproduct to a third party with no interest inmaintaining confidentiality.36

Considering these analyses, are litigationfunding arrangements discoverable? In somejurisdictions, courts have compelled disclosureof documents shared with potential third-party investors during discussions aboutpotential financing.37

In Nidec Corp. v. Victor Co., a federalcourt sitting in California held that materialtransferred between counsel for the companyand an investor was not protected by thejoint defense doctrine.38 In Nidec, the plaintiffsought access to documents about the defen-dant’s patents, which the defendant hadshared with a potential investor. The courtdid not recognize the existence of any com-mon legal interest; the seller shared privilegedlegal advice predominantly to further a busi-ness interest, not a legal interest, because theinvestor was unlikely ever to be a defendant.

Counsel must understand the nuances of,and advise clients about, potential discoveryconsequences of sharing otherwise-protectedmaterial disclosed pursuant to purely finan-cial conversations.39 Once counsel securesthe funding contract, splitting fees with non -attorneys may be implicated, depending onthe deal’s structure, and this may violate Rule1-320 (financial arrangements with non law -yers).40 California Rule of Professional Con -duct 1-320(A) generally prohibits membersfrom directly or indirectly sharing legal feeswith nonlawyers. Although agreements struc-tured as traditional loans or purchase agree-ments of claim proceeds are likely consistentwith Rule 1-320, paying a lender from attor-ney fees could be prohibited fee-sharing.41

Class Actions

The overall growth in third-party litigationfunding extends to class actions. However,based on the unique dynamics of class-actionrelationships, the ethics analysis is not iden-tical to nonclass relationships. One aspectof class litigation affecting third-party fundinganalysis is the additional pressure to disclosethe fact of funding to the court. Class certi-fication requires court approval and, to someextent, supervision of the development ofthe matter.42

The involvement of third-party financierswith potential lead class counsel may raisequestions about the law firm’s resources tomeet the demands of representing the class.Counsel’s motives are then already in conflict

with the court’s curiosity and potentially withan unknown number of class members. Thisraises concerns about counsel’s avoiding inter-ests adverse to the client, as proscribed byRule 3-310.43

When, early in the process, the court des-ignates lead class counsel, clients are bothknown and unknown. If a third party has aseat at the table, with a meaningful voiceregarding whether to settle and the particularterms, the court will likely seek disclosureof information in this regard. Another ethicalconcern in this context concerns zealous rep-resentation—revealing the need for fundingmay appear to weaken the firm’s ability toeffectively represent clients in litigation. Thismay compromise the firm’s ultimate successin the case.

For these reasons, some courts seek dis-closure of the existence of a funding agree-ment, perhaps presaging a trend towardgreater transparency. Thus, with whom shouldclass counsel be consulting?44 The lead plaintiffis a single discussion; at early stages of classlitigation, the identities, and even the totalnumber, of clients and potential clients is notsolidified. Class members who may want toreact to a class counsel’s strategy to seek out-side funding lack channels to hear this newsor be heard in response. The plaintiff’s counselmay be ethically obligated to separately dis-close the existence of the funding agreementto all known and potential class members aspart of the opt-out discussion. Once the fund-ing is widely disclosed, confidentiality maybe broken, exposing funding material in dis-covery. This disclosure would likely occurwithout input from clients, raising additionalethical concerns.

Further conflict may arise regarding fun-ders who are working to create a businessparadigm to secure the best financial return.Unlike ethics requirements for class counsel,funders are not necessarily bound to the bestinterests of a group of injured individuals.Courts hearing contested lead counsel peti-tions may require firms to disclose third-party funding.

Another complicated situation arises whenmultiple counsel from different firms are des-ignated to represent a class, but one of theattorneys is using third-party financing. Al -though the attorney is fundamentally oblig-ated to represent the class, he or she hasbrought a nonlawyer participant into themanagement cadre without approval or con-sent from co-counsel, potential clients, orperhaps even some of the clients already iden-tified in the class. In this situation, althoughplaintiffs’ lawyers owe a duty of undividedloyalty to class clients, counsel has a financierparticipating in important analyses who haslittle focus on what is best for injured parties.Co-counsel and clients may not be aware of

the undisclosed divided loyalty that may arisewhen bankers influence settlement moves.Class counsel cannot realistically secure con-sent from all class action clients since not allclients have yet been identified at early stages.This raises questions about counsel’s effectivecompliance with ethics obligations underRule 1-310 (forming a partnership with anonlawyer).

Guidelines for California class actionsoffer robust due process protections for classmembers, which could safeguard the classagainst possibly troubling third-party litiga-tion financing contracts. If class membershave intragroup conflicts of interests, theissues are more complex. Certification of aclass encompassing these types of conflictsmay trigger designation of subclasses, eachwith its own class counsel and representative.In a third-party funding context, this typeof internal conflict may stimulate separatefunding contracts with the attorneys, possiblyraising competing approaches to strategy andresolution.45 Thus, third-party litigationfinancing, as currently practiced, may havedifficulty falling within all of a counsel’sethics obligations in class actions with des-ignated subclasses.

To help the courts efficiently deal withapproving class settlements, some plaintiff’slawyers are obtaining experts, sending outreleases, and scheduling mediators at some-what earlier stages than in the past.46 Thissuggests more court scrutiny at preliminaryprocedural stages. With larger expenses ear-lier in the process, third-party financing willbe a larger and more common occurrence.Analogizing to the plaintiffs’ bar demandsin discovery for disclosure of all insurancepolicies, the defense bar has argued that itis entitled to see the agreements if third par-ties are financing plaintiffs in class actionsbecause third-party funding maintaining lit-igation is the corollary of this entrencheddiscovery rule.47 The defense would be look-ing for language in the agreement that high-lights ethics conflicts or other pressuresaffecting the course of litigation. Indeed, onJan uary 23, 2017, the U.S. District Courtfor the Northern District of California posteda rule change requiring that plaintiffs in pro-posed class, representative, and collectiveactions disclose the identity of third-partyfunding sources.48

Ethical implications in the area of third-party funding are being recognized moreslowly than the industry is growing, so counselmust be watchful regarding possible ethicspitfalls. Maintaining independence, avoidingconflicts, and preventing inadvertent waiverof privilege should be at the forefront of coun-sel’s analyses when considering third-partylitigation financing. The following activitiesrepresent practical approaches to apply when

Los Angeles Lawyer March 2017 23

considering third-party funding litigation:

• Discuss with clients, in detail, all of thepotential risks and adverse effects of third-party funding.

• Obtain detailed and clear written waiversdelineating ethical, strategic, and financialconsequences of third-party funding.

• Maintain privilege logs that note specific,applicable privileges (e.g., attorney-client orattorney work product) rather than commoninterest since the common interest doctrineis not one of California’s statutorily decreedprivileges.49 n

1 Binyamin Appelbaum, Investors Put Money onLawsuits to Get Payouts, N.Y. TIMES, Nov. 4, 2010,

at 1, available at http://www.nytimes.com; JesseSolomon, 9/11 workers approve settlement with NewYork City, CNN, Nov. 19, 2010, http://www.cnn.com/2010/US/11/19/ny.911.workers.settlement) [here-inafter Appelbaum]; Mireya Navarro, Sept. 11 WorkersAgree to Settle Health Lawsuits, N.Y. TIMES, Nov.19, 2010, at 1, available at http://www.nytimes.com.2 Client Confidentiality and the Attorney-clientPrivilege, Third-party Litigation Financing: CommercialClaims as an Asset Class, Practical Law Company,40, available at http://www.parabellumcap.com/docs/faq/Aaron-Katz-and-Steven-Schoenfeld-Practical-Law-Third-Party-Litigation-Funding.pdf (last visited Jan.25, 2017).3 Neel v. Magana, Olney, Levy, Cathcart & Gelfand,6 Cal. 3d 176, 189-190 (1971); Clancy v. State Bar,71 Cal. 2d 140, 146-148 (1969).4 Summary of Findings: Second Annual LitigationFinancing Survey (2013), Session 9: Commercial Li -

tigation Funding, Ethics, and Law, A.B.A., availableat http://www.americanbar.org (last visited Jan. 25,2017); Emerging Issues in Third-Party LitigationFunding: What Antitrust Lawyers Need to Know,Presentations, Fullbrook Capital Mgmt., LLC, avail-able at http://www.fulbrookmanagement.com (lastvisited Jan. 25, 2017); Appelbaum, supra note 1.5 CAL. RULES OF PROF’L CONDUCT R. 3-310(C).6 CAL. RULES OF PROF’L CONDUCT R. 3-300, 3-100.7 Jason Krause, Third-party financing is growing, andlawyers are big players, A.B.A.J., Jul. 1, 2016, availableat http://www.abajournal.com.8 Invest4Justice (https://www.linkedin.com/company/invest4justice-litigation-crowdfunding (last visitedJan. 25, 2017)), LexShares (https://www.lexshares.com/), and EquityNet (https://www.equitynet.com)are a few industry participants. See also SamanthaHurst, Invest4Justice Peer-to-Peer Litigation Crowd -funding; Enabling Equal Access to Justice, Globally,CROWDFUND INSIDER, Dec. 17, 2014, http://www.crowdfundinsider.com.9 GoFundMe (https://www.gofundme.com), for exam-ple, is an online platform on which users create Webpages summarizing financial needs and share experi-ences via Facebook, Twitter, LinkedIn, and e-mail.KickStarter (https://www.kickstarter.com) and Indie -GoGo (https://www.indiegogo.com) operate similarly.10 This discussion does not apply to insurance policiescovering costs of defense.11 CIV. CODE §§953, 954; Baum v. Duckor, 72 Cal.App. 4th 54, 64-65 (1999). See alsoMurphy v. Allstate,17 Cal. 3d 937, 942 (1976); Reichert v. General Ins.Co., 68 Cal. 2d. 822, 834 (1968).12 Mathewson v. Fitch, 22 Cal. 86, 95 (1863); CIV.CODE §§953, 954; see In re Cohen’s Estate, 66 Cal.App. 2d. 450 (1944).13 Los Angeles County Bar Ass’n Prof’l Responsibility& Ethics Comm., Formal Op. No. 500 (1999)(Financing Legal Expenses of Another’s Lawsuit) [here-inafter Formal Op. 500]; CAL. RULES OF PROF’LCONDUCT R. 3-310(F); BUS. & PROF. CODE §6068(e).14 Formal Op. 500, supra note 13.15 Mick Smith, Mechanics of Third-Party FundingAgreements: A Funder’s Perspective, in MECHANICS

OF THIRD-PARTY FUNDING AGREEMENTS: A FUNDER’SPERSPECTIVE 19, 23-24 (Lisa Bench Nieuwveld &Victoria Shannon, 2012).16 Conference, Litigation Funding: The Basics andBeyond, Center on Civil Justice at N.Y.U. Sch. of Law(2015), as reported by David Lat, 5 Ethical Issueswith Litigation Finance, Above the Law (Dec. 2, 2012),available at http://abovethelaw.com.17 CAL. RULES OF PROF’L CONDUCT R. 3-300; BUS. &PROF. CODE §6068(e)(1); Flatt v. Superior Ct. (Daniel),94 Cal. 4th 275 (1994); RESTATEMENT (THIRD) OF LAW

GOVERNING LAWYERS §121, Comment b.18 GUIDE TO LITIGATION FINANCING, A.B.A., 12, avail-able at http://www.americanbar.org (last visited January25, 2017). 19 CAL. RULES OF PROF’L CONDUCT R. 3-100, 3-110;BUS. & PROF. CODE §6068(e)(1).20 Formal Op. 500, supra note 13, (citing BUS. &PROF. CODE §60608, EVID. CODE §§950 et seq., andCODE CIV. PROC. §2018. See also De Los Santos v.Superior Ct., 27 Cal. 3d 677, 683 (1980); accordHoiles v. Superior Ct., 157 Cal. App. 3d 1192, 1200(1984).21 Citizens for Ceres v. Superior Ct., 217 Cal. App.4th 889, 914-917 (2013).22 EVID. CODE §912; see, e.g., Weil v. Investment/Indic -ators, Research & Mgmt., Inc., 647 F. 2d 18 (9th Cir.1981).23 EVID. CODE §952 (citing Solon v. Lichtenstein, 39Cal. 2d 74 (1952)).24 Raytheon Co. v. Superior Ct. (Renault & HandleyEmployees Inv. Co.), 208 Cal. App. 3d 683, 689

24 Los Angeles Lawyer March 2017

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(1989).25 Id.26 See OXY Res. Cal. LLC v. Superior Ct., 115 Cal.App. 4th 874, 894 (2004); Morvil Tech., LLC v.Ablation Frontiers, Inc., No. 10-CV-2088-BEN (BGS),2012 WL 760603, at *3 (S.D. Cal. Mar. 8, 2012);BriteSmile, Inc. v. Discus Dental Inc., No. C 02-3220JSW (JL), 2004 WL 2271589, *1-2 (N.D. Cal. Aug.10, 2004).27 Leader Techs., Inc. v. Facebook, Inc., 719 F. Supp.2d 373 (D. Del. 2010) (citing In re Regents of theUniv. of Cal., 101 F. 3d 1386, 1389 (Fed. Cir. 1996));but see Carlyle Inv. Mgmt. LLC, et al. v. MoonmouthCo. S.A., et al., C.A. No. 7841-VCP 2015 WL778846. At *9, 17-23 (Del. Ct. Ch.2015). 28 EVID. CODE §§912, 952.29 OXY, 115 Cal. App. 4th at 894. See STI Outdoorv. Superior Ct., 91 Cal. App. 4th 334, 340 (2001).30 OXY, 115 Cal. App. 4th at 889.31 Citizens for Ceres v. Superior Ct., 217 Cal. App.4th 889, 901 (2013).32 See McKesson HBOC v. Superior Ct., 115 Cal.App. 4th 1229, 1239-41 (2004) (construing CODE

CIV. PROC. §2018(c)).33 People v. Shrier, 190 Cal. App. 4th 400, 413(2010); Continental Cas. Co. v. St. Paul Surplus LinesIns., 265 F.R.D. 510, 528-29 (E.D. Cal. 2010).34 Wells Fargo Bank v. Superior Ct., 22 Cal. 4th 201,214 (2000).35 CODE CIV. PROC. §2018.030(a); see Coito v.Superior Ct., 54 Cal. 4th 480 (2012).36 Wells Fargo, 22 Cal. 4th at 215.37 See Leader 719 F. Supp.2d at 376 and Abrams v.First Tenn. Bank Nat’l Ass’n, No. 3:03-cv-428, 2007WL 320966, at *1 (E.D. Tenn. Jan. 30, 2007).38 Nidec Corp. v. Victor Co., 249 F.R.D. 575, 580(N.D. Cal. 2007).39 Id. at 579.40 Funding terms vary widely. Although funders labeltransactions “purchases” or “assignments” of antic-ipated proceeds termed “assets”—arrangements thatfall outside usury laws—they could be loans. Whenlitigants must disgorge the bulk of their recoveries,and the advances are actually loans, this may beusury. Ghirardo v. Antonioli, 8 Cal. 4th 791, 798(1994). If the funding arrangement is usurious (orotherwise unlawful), the agreement is unenforceable.Counsel should notify the client of the issue andcease participation.41 In the Matter of Bragg, 3 Cal. State Bar Ct. Rptr.615 (Review Dept. 1997); State Bar Formal Op.1999-154. See generally State Bar Formal Op. 1984-79.42 BACKGROUND ON CALIFORNIA CLASS CERTIFICATION,CLASS CERTIFICATION IN CALIFORNIA, 4-5 (Feb. 2010),available at http://www.courts.ca.gov. The court’sapproval is needed for, inter alia, certification, notice,and resolution. 4 WITKIN, CALIFORNIA PROCEDURE

§§267 et seq. (5th ed. 2008).43 CAL. RULES OF PROF’L CONDUCT R. 3-310.44 Cal Pak Delivery, Inc. v. United Parcel Service,Inc., 52 Cal. App. 4th 1 (1st Dist. 1997) (citingPalumbo v. Tele-Commc’ns, Inc., 157 F.R.D. 129,132-33 (D.D.C. 1994)).45 See Amchem Products, Inc. v. Windsor, 521 U.S.591, 626-27 (1997).46 See, e.g., Class Action Roundtable, CALIFOR NIA

LAW YER (Nov. 2016), available at http://www.callawyer.com.47 Id., (Comments by Brad W. Seiling, co-chair ofManatt, Phelps & Phillips' class action defense practicegroup).48 Notice Regarding Civil LR 3-15, U.S. Dist. Ct.,N.D. Cal., https://www.cand.uscourts.gov/news/210.49 See OXY Res. Cal. LLC v. Superior Ct., 115Cal.App.4th 874, 894 (2004).

Los Angeles Lawyer March 2017 25

26 Los Angeles Lawyer March 2017

AM

AN

E KA

NEK

O

?of profession-als, including

attorneys, employed in bankruptcy cases is subject to court approval.Under U.S. Bank ruptcy Code Section 330(a), the bankruptcy court isauthorized to award “reasonable compensation for actual, necessaryservices” rendered by attorneys and other professionals employed bythe bankruptcy estate’s representative.1 The clear intent of the BankruptcyCode is that attorneys and other professionals serving in bankruptcycases be compensated no less favorably than they would for performingcomparable services in nonbankruptcy cases.2 The Bankruptcy Codespecifically provides for compensation for preparing a fee applicationthat is required to be filed with the court3 yet lacks explicit languageauthorizing compensation to professionals for work performed indefending a fee application.

Before a professional is eligible to be compensated under Section330(a), the professional’s employment must be approved by the court.Pursuant to Section 327(a) of the Bankruptcy Code, the debtor inpossession or bankruptcy trustee is authorized, subject to court approval,to employ professionals to represent and assist them in carrying out

their statutory duties.4 Accordingly, unlike most nonbankruptcy situ-ations, the employment and compensation of attorneys and other pro-fessionals in bankruptcy cases is subject to court approval after noticeand a hearing.5

Outside the bankruptcy context, there is the long-established“American Rule” that each side must pay its own attorney’s feesunless a statute or contract provides otherwise.6 In Baker BottsL.L.P. v. ASARCO LLC,7 the U.S. Supreme Court addressed a col-lision between the American Rule and the intent of the BankruptcyCode that attorneys in bankruptcy cases be compensated at therate they would be compensated outside of bankruptcy court. TheCourt considered “whether §330(a)(1) permits a bankruptcy courtto award attorney’s fees for work performed in defending a feeapplication in court.”8 Justice Clarence Thomas delivered the opinionof the Court holding that a departure from the Am erican Rule wasnot warranted and, accordingly, the rule precluded the award offees.9 The dissenting opinion filed by Justice Stephen Breyer asserts,among other things, that “the American Rule is a default rule thatapplies only where ‘a statute or contract’ does not ‘provid[e] other-

David S. Kupetz, a partner in the Los Angeles law firm of SulmeyerKupetz, concentrates his practice on restructuring, business reorganization, bankruptcy,assignments for the benefit of creditors, and other insolvency solutions.

Is the American Rule

“American”Bankruptcy professionals face a significant risk of fee dilutionwhen forced to address objections to their billing

COMPENSATION

by David S. Kupetz

wise.’ And here, the statute ‘provides oth-erwise.’”10

Facts of ASARCO

When it began its Chapter 11 bankruptcy case,ASARCO LLC was a severely distressed min-ing, smelting, and refining company based in Tucson, Arizona. It faced enormous debt, serious cash flow problems, falling copperprices, a striking workforce, and environmen -t al liabilities. Upon commencement of theChap ter 11 case, ASARCO became a debtorin posses sion (with all the powers of a bank-ruptcy trustee) and obtained bankruptcy courtap proval to retain two law firms as counselin the case. “Among other services, the firmsprosecuted fraudulent-transfer claims againstASARCO’s parent company and ultimatelyobtained a judgment against it worth between$7 and $10 billion.”11 The judgment playeda significant role in the successful reorganizationof ASARCO, resulting in ASARCO’s emergingfrom Chapter 11 in 2009 with creditors paidin full, $1.4 billion in cash, little debt, andsatisfaction of all environmental issues.12

ASARCO’s counsel filed fee applicationsseeking court approval of compensation undersection 330(a). The fee applications wereopposed by ASARCO, which was now “onceagain controlled by its parent company.”13

Thus, while the law firms’ client objected totheir fees, the parent company—the unsuc-cessful defendant in the litigation—was nowin control and attempting to seek retributionagainst former opposing counsel.

After extensive discovery and a six-daytrial on fees, the Bankruptcy Courtrejected ASARCO’s objections andawarded the law firms approximately$120 million for their work, plus a$4.1 million enhancement for excep-tional performance. The court alsoawarded the firms over $5 million fortime spent litigating in defense of theirfee applications.14

ASARCO appealed, and the district courtheld that the law firms could recover the feesincurred for the fee-defense litigation. TheFifth Circuit Court of Appeals reversed, con-cluding that without a specific statutory pro-vision explicitly providing for the recovery ofattorney’s fees for defending a fee application,the American Rule barred the law firms frombeing paid for fee-defense litigation.15 Thiswas an unusual application of the AmericanRule in which the client (although now con-trolled by the former adversary) was challeng-ing fees of its counsel based on the AmericanRule, rather than the other party to litigationraising the issue. The Supreme Court grantedcertiorari on the issue of whether the feesincurred defending the fee applications arecompensable under Section 330(a).

Justice Thomas began the majority’s analy-

sis by identifying the American Rule as the“bedrock principle” when considering theaward of attorney’s fees, with “roots in ourcommon law reaching back to at least the18th century….”16 Moreover, the Court ex -plained that “[w]e have recognized departuresfrom the American Rule only in ‘specific andexplicit provisions for the allowance of attor-neys’ fees under selected statutes.’”17 Acknow -ledging that statutory deviations from theAmerican Rule may take various forms, theCourt emphasized that “they [statutes] tendto authorize the award of ‘a reasonable attor-ney’s fee,’ ‘fees’ or ‘litigation costs,’ and usuallyrefer to a ‘prevailing party’ in the context ofan adversarial action ….”18 The Court citedthe attorney’s fees provision of the EqualAccess to Justice Act (EAJA)19 as an exampleof the clarity required of a fee-shifting statutethat trumps the American Rule.20 Under thisprovision, a court is to award a prevailingparty other than the United States fees incurredin a civil action in accordance with certainconditions.21 The Court stated that there couldbe little dispute that this type of fee-shiftingprovision adequately authorizes deviation fromthe American Rule.22

In contrast, the Court reasoned that in theBankruptcy Code “Congress did not expresslydepart from the American Rule to permit com-pensation for a fee-defense litigation by pro-fessionals hired to assist trustees in bankruptcyproceedings.”23 In considering Section 327(a),which governs the estate representative’s em -ployment of professionals, the Court foundthat professionals are employed to serve “forthe benefit of the estate.”24 Turning to Section330(a)’s authorization of payments to profes-sionals of “reasonable compensation for actual,necessary services rendered,” the Court con-cluded that the “text [of the Bankruptcy Code]cannot displace the American Rule with respectto fee-defense litigation.”25

The Court recognized that the statute’sprovision for “reasonable compensation foractual, necessary services rendered” authorizescourts to award attorney’s fees for work donein representing the estate’s representative, “asthe Bankruptcy Court did here when it orderedASARCO to pay roughly $120 million forthe firms’ work in the bankruptcy proceed-ing.”26 However, the Court concluded that“the phrase ‘reasonable compensation foractual, necessary services rendered’ neitherspecifically nor explicitly authorizes courts toshift the costs of adversarial litigation fromone side to the other—in this case, from theattorneys seeking fees to the administrator ofthe estate—as most statutes that displace theAmerican Rule do.”27

Language Limitations

The Court identified limitations in the lan-guage of Section 330(a) allowing “reasonable

compensation” only for “actual, necessaryservices rendered.” The Court determinedthat this language dictates that compensablework only can be work done in service ofthe estate’s representative. Further, the Courtfound that the dictionary definition of theword “services” involves labor performedfor another.28 The Court reasoned that liti-gating the fee application “against the admin-istrator of a bankruptcy estate” does notconstitute labor performed for the estate’srepresentative.29

The Court asserted that Congress couldhave shifted the burdens of fee-defense liti-gation under Section 330(a) by includingsuch language in that provision. Moreover,the Supreme Court cited a particular Bank -ruptcy Code section in which this had beendone.30 Interpreting Section 330(a) to embodya legislative decision to limit compensation,the majority concluded that the statute pre-cludes the redistribution of litigation costs.The Court was not persuaded by the argu-ments of the law firms, the United States asamicus curiae, and the dissent and charac-terized them as resisting its “straightforward”interpretation of the Bankruptcy Code.31

The law firms argued that fee-defense lit-igation falls within “services rendered” tothe representative of the estate under Section330(a). The Court rejected this reading ofthe term “services” asserting that this a p -proach “could end up compensating attor -neys for the unsuccessful defense of a feeapplication.”32 While it would seem that thisconcern could be mitigated by the exerciseof the court’s discretion, the majority foundthis potential result would be a particularlyunusual and inappropriate deviation fromthe American Rule.33

Unlike most nonbankruptcy situations,to be paid, a professional in a bankruptcycase needs to file a detailed application seekingcompensation.34 The application will onlybe granted following notice and a hearing.35

Further, the Bankruptcy Code specificallyprovides that “[t]he court may, on its ownmotion or on the motion of the United StatesTrustee,...the trustee for the estate, or anyother party in interest, award compensationthat is less than the amount of compensationthat is requested.”36 Moreover, unlike in sym-metrical litigation, multiple parties may objectto fee applications in bankruptcy cases. Non -bankruptcy fee litigation typically in volvesa lawyer and his or her client. In contrast,the process for obtaining compensation inbankruptcy cases is more complicated, in -volves multiple parties, and may impose sub-stantially greater costs. The Court discountedthis concern as resting “on unsupported pred-ications of how the statutory scheme willoperate in practice.”37 Reaching a differentconclusion, the dissent contended that “to

28 Los Angeles Lawyer March 2017

maintain comparable compensation, a courtmay find it necessary to account for the rel-atively burdensome fee-defense processrequired by the Bankruptcy Code. Accountingfor this process ensures that a professionalis paid ‘reasonable compensation.’”38

The dissent accepted the Court’s view “thata professional’s defense of a fee application isnot a ‘service’ within the meaning of theCode.”39 The dissent, however, found it sig-nificant that the Bankruptcy Code providesbroad discretion for the courts to determinewhat constitutes “reasonable compensation”and cited the statutory language providingthat a court should consider the nature, extent,and value of services rendered, “taking intoaccount all relevant factors.”40 Agreeing withthe brief filed by the government, the dissentreasoned that it is appropriate to view com-pensation for fee-defense work as part of thecompensation for the underlying services in abankruptcy case.41

The dissent further found that a bank -ruptcy court has discretion to “consider as‘relevant factors’ the cost and effort that aprofessional has reasonably expended inorder to recover his or her fees.”42 The dis-sent explained that it was taking a restrainedapproach and that “where fee-defense workis not necessary to ensure reasonable com-pensation for some underlying service,...acourt should not consider that work whencalculating compensation.”43

The dissent recognized the risk of fee dilu-tion if fee-defense work were uncompensated.As an example, the dissent stated:

Consider a bankruptcy attorney whoearns $50,000—a fee that reflects herhours, rates, and expertise—but isforced to spend $20,000 defendingher fee application against meritlessobjections. It is within a bankruptcycourt’s discretion to decide that, takinginto account the extensive fee litigation,$50,000 is an insufficient award. Theattorney has effectively been paid$30,000, and the bankruptcy courtmight understandably conclude thatsuch a fee is not ‘reasonable.’44

The dissent argued that in a previous casecited by the majority, involving the EAJA, theCourt acknowledged that work performed indefense of a fee application is relevant to deter-mining reasonable compensation.45 The dissentreasoned that to interpret “reasonable com-pensation” differently would run counter toa basic object ive of the Bankruptcy Code.Under section 330(a)(3)(F), bankruptcy courtsare directed to consider “whether the com-pensation is reasonable based on the customarycompensation charged by comparably skilledpractitioners in cases other than cases under”the Bankruptcy Code.46 This provision arisesfrom the intent of Congress to “ensure that

high-quality attorneys and other professionalswould be available to assist trustees in repre-senting and administering bankruptcy estates”and would “remain in the bankruptcy field.”47

The Court was unconvinced by this “flaw -ed and irrelevant policy argument.”48 Themajority was not concerned with the warningthat absent compensation for fee-defense lit-igation bankruptcy attorneys will have theirfees diluted, and thus the congressional goalsthat bankruptcy attorneys receive compen-sation comparable to nonbankruptcy lawyersso talented attorneys take on bankruptcyworks will be undermined. The Court assertedthat “[i]n our legal system, no attorneys,regardless of whether they practice in bank-ruptcy, are entitled to receive fees for fee-defense litigation absent express statutoryauthorization. Re quiring bankruptcy attor-neys to pay for the defense of their fees thuswill not result in any disparity between bank-ruptcy and nonbankruptcy lawyers.”49

The majority sought to assuage concernsregarding potential frivolous objections tofee applications that will have the effect ofdiluting attorney’s fees, noting that “FederalRule of Bankruptcy Procedure 9011—bank-ruptcy’s analogue to Civil Rule 11—autho-rizes the court to impose sanctions for bad-faith litigation conduct, which may includean order directing payment…of some or allof the reasonable attorneys’ fees and otherexpenses incurred as a direct result of the

violation.”50 Section 330(a)(6) provides that“any compensation awarded for the prepa-ration of a fee application shall be based onthe level and skill reasonably required to pre-pare the application.”51 The dissent explainedthat “[t]his provision does not authorize com-pensation, but rather assumes (through thewords ‘any compensation awarded’) pre-existing authorization under §330(a).”52 Thedissent asserted that because time spentpreparing a fee application is compensable,time spent defending it must be, too.

The Court, however, found that Section330(a)(6) “cuts the other way.”53 The major-ity concluded that while preparation of a feeapplication is a “service rendered” to theestate’s representative, defense of that appli-cation is not. The Court made an analogyto an auto mechanic:

[I]it would be natural to describe acar mechanic’s preparation of an item-ized bill as part of this ‘services’ tothe customer because it allows the cus-tomer to understand—and, if necessarydispute—his expenses. But it wouldbe less natural to describe a subsequentcourt battle over the bill as part of the‘services rendered’ to the customer.54

The dissent countered the majority’s argu-ment by stating:

[C]ustomers do not generally pay theirmechanics for time spent preparingthe bill. A mechanic’s bill is not a sep-

Los Angeles Lawyer March 2017 29

In re Stanton1 involves a situation in which the law firm employed by a Chapter 7 bankruptcytrustee supplemented its fee application in response to an objection of the U.S. Trustee.Applying the analogy used by the majority in ASARCO, the Florida bankruptcy court char-acterized counsel’s “work supplementing his fee application and responding to the U.S.Trustee’s objection [as being]…akin to the mechanic’s preparation of an itemized bill as part of his ‘services’ to the customer.”2 At issue were fees incurred after the case wasconverted from Chapter 11 to a Chapter 7 case, and the U.S. Trustee was asking in itsobjection for the type of detail required in a Chapter 11 case even though the local rulesdid not require such detail in a Chapter 7 case. As a result, the bankruptcy court held thatsupplementing the fee application should be compensable, stating “[h]ad the U.S. Trusteesimply objected to…[the] fees because they were unnecessarily duplicative, the outcomemight be different. A fight over whether fees were unnecessarily duplicative is more akinto time spent on a subsequent court battle over the mechanic’s bill which would notproperly be understood as part of his services. Here, the parties were not fighting over theamount of the bill, but whether it was detailed enough.”3

The Stanton court found that the supplemental disclosure benefitted the administrationof the bankruptcy estate by providing additional information allowing the parties tounderstand the work performed. Applying ASARCO, the court concluded that “[t]he takeawayfrom the Supreme Court’s decision…is clear: It is the nature of the work—not when it isperformed—that determines whether it is compensable. Only work done in service of theestate administrator is compensable. Because supplementing the detail provided in hisinitial fee application benefitted the estate and was necessary for the administration ofthe case,…[counsel] is entitled to recover…fees incurred performing that work.”4

1 In re Stanton, No. 8:11-bk-22675, 2016 Bankr. LEXIS 3827 (Bankr. M.D. Fla. 2016.)2 Id. at *8-9.3 Id. at *9.4 Id. at *14.

Compensable Work

30 Los Angeles Lawyer March 2017

arate ‘service’ but rather is a mediumthrough which the mechanic conveyswhat he or she wants to be paid.Similarly, a legal bill is not a ‘service’rendered to a client…. A bill preparedby an attorney, or another bankruptcyprofessional, is not a ‘service’ to thebankruptcy estate.55

The Court seemed to take offense at whatit characterized as a change in position bythe U.S. Trustee.56 The Court cited to state-ments of the U.S. Trustee a few years priorand in filings with the lower courts in thiscase that reasonable charges for preparingfee applications are compensable, but timespent defending them ordinarily is not. Ac -cordingly, the Court asserted that the U.S.Trustee previously (before changing its posi-tion) properly characterized such work asbeing for the benefit of the professional andnot the estate.57 Further, the majority usedthe U.S. Trustee’s change of position to sup-port its rejection of policy-based argumentsin this case, stating: “The speed with whichthe Government has changed its tune offersa good argument against substituting pol-icy-oriented predictions for statutory text.”58

The dissent argued that the Court is unableto reconcile its narrow interpretation of “rea-sonable compensation” with the provisionunder Section 330(a)(6) for fee-applicationpreparation fees.59 The dissent rejected themajority’s apparent adoption of the view thatpreparation of a fee application must be a“service” because it is not required of lawyersin areas other than bankruptcy as a conditionto getting paid. The dissent explained:

[I]f the existence of a legal re -quirement specific to bankruptcy weresuf ficient to make an activity a com -pens able service, then the time that a profes sional spends at a hearingdefending his or her fees would alsobe compensable. After all, the statutepermits a court to award compensationonly after ‘a hearing’ with respect tothe issue. §330(a)(1). And there is nosuch requirement for most attorneys,who simply bill their clients and arepaid their fees. But the majority doesnot believe that preparing for or appear-ing at such a hearing—an integral partof fee-defense work—is compensable.60

In concluding that the majority wronglydistinguished between recovery of fees forfee application preparation and fee-defenselitigation, the dissent contended that the basicpurpose of the Bankruptcy Code’s fee awardprovision is undermined.61 On the otherhand, the Court stated that it is simply apply-ing the text of the Bankruptcy Code and thatthe arguments of the dissent and the govern-ment are “too insubstantial to support a devi-ation from the American Rule.”62 Moreover,

the Court rejected the statutory basis for fee-defense compensation identified by the dissentas inadequate since “[t]he open-ended phrase‘reasonable compensation,’ standing alone,is not the sort of ‘specific and explicit provi-sio[n]’ that Congress must provide in orderto alter this default rule.”63 Further, themajority justified its conclusion: “[W]e wouldlack the authority to rewrite the statute evenif we believed that uncompensated fee liti-gation would fall particularly hard on thebankruptcy bars.”64 As a result, the Courtcon cluded, “because §330(a)(1) does not ex -plicitly override the American Rule with respectto fee-defense litigation, it does not permitbankruptcy courts to award compensationfor such litigation.”65

Boomerang Tube

ASARCO did not address the contract excep-tion to the American Rule. Subsequently, inIn re Boomerang Tube, Inc.,66 a bankruptcycourt in the District of Delaware, applyingASARCO, considered the contract exception.In this case, the Official Committee of Un -secured Creditors filed applications seekingapproval for the employment of counsel thatincluded a provision indemnifying counselfor expenses incurred in any successfuldefense of their fees. The U.S. Trustee con-tended that ASARCO precludes payment offees under the provision. The U.S. Trusteealso argued “that the fee defense provisionshould not be approved because such feesare outside the scope of employment andare unreasonable.”67

Unlike ASARCO, in which the profes-sionals’ employment was under Section 327,approval of the fee defense provisions inBoomerang Tube were sought pursuant toSection 328 of the Bankruptcy Code, whichis an express exception to Section 330 andallows compensation to professionals (subjectto advance approval by the court) “thatwould otherwise not be available under sec-tion 330 (such as fixed fees, contingent fees,etc.”).68 Recognizing that Section 328 is anexception to Section 330, the BoomerangTube court determined this distinction to beirrelevant since “[t]he text does not refer tothe award of defense fees to a prevailingparty. Therefore, the Court concluded thatsection 328 does not provide the statutoryexception to the American Rule and cannotprovide authority for approval of the feedefense provisions.”69

In Boomerang Tube, the bankruptcy courtfound that “the contract exception to theAmerican Rule is not precluded by the rulingin ASARCO.”70 However, the court explainedthat to be enforceable any contractual excep-tion to the American Rule would have to beconsistent with the other provisions of theBankruptcy Code.71 The Boomerang Tube

court viewed the retention agreements be -tween the committee and counsel as contracts.However, they are not conventional bilateralagreements since they are “subject to objectionby other parties and…ultimately subject toapproval (and modification) by the Court.”72

The bankruptcy court next examined whethersuch contracts are exceptions to the AmericanRule.

Determining they are not, the court againfocused on the unconventional nature of thecontracts, stating:

[T]here is not a contract between twoparties providing that each will beresponsible for the other’s legal fees ifit loses a dispute between them. Rather,here there is a contract between twoparties (the Committee and CommitteeCounsel) that in the event CommitteeCounsel win a challenge to their fees,the third party (the estate) will paytheir defense costs even if the estate isnot the party who objected.73

The court noted that this was not the typ-ical contract modifying the American Ruleand found that the contract cannot bind theestate, which is not a party to it.

The court further explained that retentionagreements in bankruptcy are more compli-cated than simple contractual matters. Re -gardless of the terms of an employment con-tract, court approval in accordance with therequirements of the Bankruptcy Code is nec-essary. Accordingly, “if the Court finds thata contract that the Debtor or the Committeenegotiated is impermissible, the Court maynot approve it or may modify it.”74 This ledthe court to determine that the retention agree-ments do not constitute contractual exceptionsto the American Rule. The court added that“[e]ven if they were, however, the Court muststill determine if they are permissible underthe Bankruptcy Code.”75

Following the approach taken by themajority in ASARCO, the Boomerang Tubecourt found that the fee defense provisionsdo not involve services for the creditors’ com-mittee but rather would only be for the benefitof committee counsel. The court concludedthat such provisions are not reasonable termsfor employment of counsel. The committeepointed out that exculpation and indemni-fication clauses are relatively common inretention agreements in large Chapter 11cases and should be approved if the clausesare reasonable in accordance with section328(a). The court acknowledged that theThird Circuit, in a case that predated theASARCO decision, “has held that in dem -nification provisions sought by professionalsmay be approved as reasonable under section328(a).”76 The court distinguished the ThirdCircuit decision that “did not ad dress whethersection 328(a) is an explicit statutory exception,

http://www.lacba.org/golf-2017

or whether a retention agreement ap provedunder that section is a contractual exception,to the American Rule.”77 Further, the courtpointed out that the Third Circuit case involvedindemnification of financial advisors, whichare “typically provided similar protectionsoutside of bankruptcy.”78

The Boomerang Tube court found casesthat predate ASARCO to be unpersuasive.Under ASARCO, the court concluded thatit is prevented from ruling that Section 328allows defense fees, even if they were rou-tinely allowed by the market in bankruptcyor nonbankruptcy contexts prior to thatruling.”79 The court also rejected the attemptto recover defense fees as expenses as op -posed to fees, stating “there is no differencein the analysis between approving the de -fense costs as fees (because the retained pro-fessional defends its own fees) or as expenses(because the retained professional hires out-side counsel to represent it). Both are subjectto the American Rule and to the SupremeCourt’s ruling in ASARCO.”80 The courtconcluded by advising that it would reachthe same conclusion if the fee defense pro-visions were in a retention agreement sub-mitted by any professional under Section328(a), including professionals retained bythe debtor. “Such provisions are not statu-tory or contractual exceptions to the Am -erican Rule and are not reasonable termsof employment of professionals.”81

Amendment to Section 330

An amendment to Section 330 of the Bank -ruptcy Code specifically authorizing the courtto award fees for the successful defense of afee application would address the threat tocomparable compensation posed by ASARCO.While the Bankruptcy Code al ready directsthe court to consider all relevant factors whendetermining reasonable compensation, theSupreme Court finds this directive inadequateto overcome the American Rule. As a result,bankruptcy professionals face a significantrisk of fee dilution when forced to addressobjections to their fees. This risk is heightenedby the asymmetrical nature of bankruptcycases in contrast to the ordinarily bilateral lit-igation from which the American Rule arose.The suggestion of the ASARCOmajority thatthis issue may be addressed through the recov-ery of sanctions would likely only work inextreme cases since courts are constrained inimposing sanctions. Further, as reflected byBoomerang Tube, under ASARCO, the doormay have closed on the ability to contractaround the American Rule in the bankruptcycontext. n

1 11 U.S.C. §330(a). See also 11 U.S.C. § 1103(a).2 See In re Nucorp Energy, Inc. 764 F. 2d 655, 658(9th Cir. 1985). See also Burgess v. Klenske (In re

32 Los Angeles Lawyer March 2017

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Manoa Finance Company, Inc.), 853 F. 2d 687, 689-90 (9th Cir. 1988).3 11 U.S.C. §330(a)(6).4 11 U.S.C. §327(a). See also 11 U.S.C. §1106(a) forduties of the estate’s representative in Chapter 11.5 See 11 U.S.C. §102(1).6 See Hardt v. Reliance Standard Life Ins. Co., 560U.S. 242, 252-53 (2010); Arcambel v. Wiseman, 3U.S. 306 (1796).7 Baker Botts L.L.P. v. ASARCO LLC, 135 S. Ct.2158 (2015).8 Id. at 2162.9 Justices Roberts, Scalia, Kennedy and Alito joinedin the entirety of the opinion; Justice Sotomayor con-curred in the judgment and all but one section of theopinion. Justices Breyer, Ginsburg and Kagan filed adissenting opinion.10 ASARCO, 135 S. Ct. at 2171 (citations omitted)(dissent).11 Id. at 2163.12 Id.13 Id.14 Id.15 ASARCO LLC v. Jordan Hyden Wombel Culbreth& Holzer, P.C. (In re ASARCO LLC), 751 F .3d 291,299-302 (5th Cir. 2014), aff’d sub nom. Baker BottsL.L.P. v. ASARCO LLC, 135 S. Ct. 2158.16 ASARCO, 135 S. Ct. at 2164, (citing Arcambel v.Wiseman, 3 U.S. 306.) 17 ASARCO, 135 S. Ct. at 2164 (citing Alyeska Pipe -line Service Co., v. Wilderness Society, 421 U.S. 240(1975)).18 ASARCO, 135 S. Ct. at 2164 (citing 28 U.S.C.§2412(d)(1)(A), 42 U.S.C. §§1988(b), 2000e-5(k),and citing generally Hardt v. Reliance Standard LifeIns. Co, 560 U.S. 242, 253, and nn. 3-7 (collectingexamples)).19 5 U.S.C. §504; 28 U.S.C. §2412.20 ASARCO, 135 S. Ct. at 2164.21 See 28 U.S.C. §2412(d)(1)(A).22 ASARCO, 135 S. Ct. at 2164. The dissent, however,asserts that “[t]he fee provision of the Equal Accessto Justice Act, as enacted at the time, permitted an‘award to a prevailing party…of fees and other ex -penses… incurred by that party in any civil action…brought by or against the United States.’…The pro-vision did not mention fee-defense work—but theCourt [in Jean] nonetheless held that such work wascompensable.…I would do the same here.” Id. at2171-72 (dissent) (citations omitted) (citing Commis -sioner v. Jean, 496 U.S. 154, 158, 160-66 (1990))(quoting 28 U.S.C. §2412(d)(1)(A) (1988)).23 Id.24 Id.25 Id. See also 11 U.S.C. §330(a)(1).26 ASARCO, 135 S. Ct. at 2165. 27 Id.28 Id. (citing WEBSTER’S NEW INTERNATIONAL DICTION -ARY (2d ed. 1934); BLACK’S LAW DICTIONARY 3d ed.1933, and OXFORD ENGLISH DICTIONARY (1933).29 ASARCO, 135 S. Ct. at 2165.30 The Court references section 110(i), which providesthat “[i]f a bankruptcy petition preparer…commitsany act that the court finds to be fraudulent, unfair, ordeceptive, on the motion of the debtor, trustee, UnitedStates trustee (or the bankruptcy administrator, if any),”the bankruptcy court must “order the bankruptcy peti-tion preparer to pay the debtor … reasonable attorneys’fees and costs and moving for damages under this sub-section.” ASARCO, 135 S. Ct. at 2165-66 (citing 11U.S.C. §110(i)(1)(C). Other fee-shifting provisions inthe Bankruptcy Code appear at §§303(i)(1)(C),363(k)(1), 523(a)(2), 526(c)(2), 707(b)(4)(A), and707(b)(5)(A).31 ASARCO, 135 S. Ct. at 2166.32 Id.

33 Id.34 See FED. R. BANKR. P. 2016(a).35 11 U.S.C. §330(a).36 11 U.S.C. §330(a)(2). See also ASARCO, 135 S.Ct. at 2171 (dissent).37 Id. at 2168.38 Id. at 2171 (dissent).39 Id. at 2169 (dissent).40 Id. (emphasis in original), (citing 11 U.S.C.§330(a)(3)).41 Id. at 2169.42 Id. at 2170.43 Id. at 2172.44 Id. at 2071.45 Id. (citing Commissioner v. Jean, 496 U.S. 154,160-166 (1990). The dissent asserts that in Jean “[t]heCourt quoted with approval the Second Circuit’s state-ment that ‘[d]enying attorneys’ fees for time spent inobtaining them would dilute the value of a fee awardby forcing attorneys into extensive, uncompensatedlitigation in order to gain any fees.” ASARCO, 135 S.Ct. at 2170 (dissent, (citing Jean, 496 U.S. at 162)(quoting Gagne v. Maher, 594 F.2d 336, 344 (1979)(internal quotation marks omitted)).46 11 U.S.C. §330(a)(3)(F).47 ASARCO, 135 S. Ct. at 2170 (dissent), (citing H.R. REP. NO. 95-595, at 330 (1977), reprinted in 1978U.S.C.A.A.N. 5963, 6286).48 ASARCO, 135 S. Ct. at 2168.49 Id.50 Id. at 2168 n.4 (quotation marks omitted), (quotingLaw v. Siegel, 571 U.S. __, __, 134 S. Ct. 1188,1198(2014)).51 11 U.S.C. §330(a)(6).52 ASARCO, 135 S. Ct. at 2170.53 Id. at 2167.54 Id.

55 Id. at 2172 (dissent).56 The U.S. Trustee is a division of the Department ofJustice with responsibility for monitoring bankruptcycases and in the opinion, the U.S Trustee is generallyreferred to by the Court as the “Government.”57 ASARCO, 135 S. Ct. at 2167.58 Id. at 2168.59 Id. at 2173 (dissent).60 Id.61 Id.62 Id. at 2168.63 Id. (citing Alyeska Pipeline, 421 U.S. 240, 260,(1975).64 ASARCO, 135 S. Ct. at 216965 Id.66 In re Boomerang Tube, Inc., 548 B.R. 69 (Bankr.Del. 2016).67 Id. at 70.68 Id. at 72.69 Id.70 Id. at 73.71 Id.72 Id. at 74.73 Id. at 74-75.74 Id. at 75.75 Id.76 Id. at 76 (citing In re United Artists Theatre Co.,315 F. 3d 217, 230 3d Cir. 2003).77 In re Boomerang Tube, Inc., 548 B.R. at 76.78 Id. Bletchley Hotel at O’Hare Field LLC v. RiverRd. Hotel Prtnrs, LLC, B.R. No. 09-B-30029, 2016U.S. Dist. LEXIS 102884 (N.D. Ill. 2016). The districtcourt in this case holds that under ASARCO theAmerican Rule precludes fee-shifting.79 In re Boomerang Tube, Inc., 548 B.R. at 78.80 Id.81 Id. at 79 n.6.

Los Angeles Lawyer March 2017 33

•lease disputes•land use disputes

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REAL ESTATE DISPUTE CONSULTING

34 Los Angeles Lawyer March 2017

THE LATEST CROP OF DIGITAL ASSISTANTS offers much promise.Amazon Echo, which incorporates Amazon’s Alexa voice assistantsoftware, has been on the market for about a year, and Googlerecently introduced Google Home, which incorporates the GoogleAssistant software that is already bundled with the Android operatingsystem. The vision is simple: have a conversation with your digitalassistant in whatever form it may take—a computer, cell phone,wrist watch, or, in the case of the Amazon Echo and Google Home,a device about the size of a couple of cans of soda that can be set ona desk or shelf—and the assistant takes care of the rest. It can turnon the lights, play music, read the latest news, send an e-mail,schedule an appointment, make a phone call, find a document, ormaybe even draft a document. However great the potential, thesedevices are not at the point where they can be used to significantlyimprove work flow because various hurdles remain with regard tosecurity, privacy, and utility.

Both devices incorporate an excellent microphone system forpicking up the user’s spoken conversation—including commandsand queries—from within a 10-foot radius of the device. They alsohave a speaker system that allows the digital assistant to voice itsresponses to user requests. In the case of Amazon Echo, the digitalassistant is called Alexa, while Google Home’s assistant is simplycalled the Google Assistant. Both devices require an active Internetconnection. They also must call back to Amazon or Google, as thecase may be, in order to use the computing power of their makersto handle voice recognition and most other operations.

Here is a snapshot of the present state of both devices and thecurrent challenges to their integration into a business environment.The Amazon Echo is more capable than the Google Home. Thedevice had a head start in development and can be set up with multipleoperating systems, including Windows, Apple, and Android. AmazonEcho has attracted a large base of developers who create what arecalled skills for Alexa. Moreover, other companies—for example,Lenovo—have incorporated the Alexa software into their own AmazonEcho alternative devices. Amazon has also rolled out variations ofthe Echo such as the Amazon Tap, which is a battery-powered portableversion of the Echo. As of this writing, Alexa-based systems have116 skills. The Alexa development kits are avail able for free. Theyinclude a number of scripts—let’s call them building blocks—thatare available to make the development of new skills easier and faster.

Google Home, on the other hand, is limited to Android devicesfor setup and operation. Although the Google Assistant softwarehas been around for many years, Google is in the early stages ofrolling out its development platform for the Google Home. PerhapsGoogle can quickly close the gap, but this process will likely bedriven by developer interest. As an example of the difference betweenthe operating level of the two devices, Amazon Echo allows a userto retrieve and have Alexa read aloud e-mail—including Gmail, senda reply to an e-mail, and access multiple e-mail accounts. However,Google Home only permits access to one Gmail account, and while

Google Assistant will read the content of the e-mail to a user, itcannot create or send a response.

The basic features for these devices include playing music fromonline sources, searching the Internet for answers to questions,making to-do lists, and checking weather and traffic. The low-hanging fruit for the integration of these devices into your physicalenvironment is their application with household appliances. Wirelessadapters—allowing you to operate appliances with voice com mands—are presently available for lights, refrigerators, televisions, stereos,thermostats, and door locks, and there are more are on the way. Atthis time the Amazon Alexa has a lead in the number of compatibleappliances. Of course, there is a price for connectivity that should befactored into the total cost, so add $50-100 extra for a compatibleset of lights, special bulbs, and a connecting hub.

There are no current applications that integrate these devices intoa law firm or law department environment. No time billing or casemanagement programs are linked to these devices. Applications anddata that are stored and operated in the cloud have the best developmentpotential as these devices are not set up to interact with local computersand servers directly. It may be possible to program one of thesedevices to access cloud storage such as Dropbox, but access is likelyto be through the Amazon or Google servers. Then, upon locatingdocuments in the cloud storage, will the user be able to transmitthem to or open them on a desktop PC in a seamless manner? Not atthis time, and, aside from the problem of technical feasibility, anumber of security issues are raised by this scenario.

Voice recognition is the essential interface for using these devices.The degree of user satisfaction with the voice recognition of thesedevices will vary on an individual basis, but, on average, they performfairly well. Those who have used voice-recognition dictation softwareor experienced the use of voice-based customer service telephone linesare aware that it can range from humorous to extraordinarily frustratingwhen the user’s spoken word is inaccurately interpreted by the voice-recognition software. Advances in computing power have reduced theissue. Since voice commands are routed through the Amazon andGoogle servers, the available computing power is much greater thanon a single-user computer. One proviso: because user experience canvary greatly, if a significant portion of the users in a given office mayhave poor results with the voice recognition, these devices then wouldnot improve productivity.

As with person-to-person speech recognition, accuracy improveswith experience. Frequent interaction with another person increasesfamiliarity with his or her accent, speech patterns, and vocabulary. Insimilar fashion, Amazon and Google keep copies of user conversationswith their devices on databases so their computers can better learn tounderstand requests made by thousands of users.

computer counselor BY GORDON K. ENG

The Potential of New Digital Assistants for Office Use

Gordon K. Eng, a business and real estate lawyer in Torrance, California, is amember of the Los Angeles Lawyer Editorial Board and a frequent contributorto the Computer Counselor.

Los Angeles Lawyer March 2017 35

Because user conversations are capturedby these devices and transmitted to theAmazon and Google servers on which theyare stored for use, privacy concerns havebeen raised. In order to improve the respon-siveness of these devices, Amazon and Googlerecommend keeping them on, which meansthat they can record all conversations in theroom for as long as they are switched on.Both companies say that their devices willconstantly listen for their wake-up commandword or phrase—Alexa or Hello Google—and that they only keep a few seconds ofrecorded sound before the command wordand the questions or commands that followthe command word or phrase.

Both devices retain the user’s questionson the company servers, and both companiesoffer a way to manually remove these logs.The companies also say that the data, includ-ing voice recordings transmitted by thesedevices to the company servers, is encrypted.More over, both companies reserve the rightto use the recordings as part of their generalspeech database to improve overall perfor-mance of their speech recognition software,but when used in this manner the recordingsare not associated with a particular user. Afair amount of trust must be given that thesepractices are accurate and will be maintainedby these companies. Amazon is facing a suitto compel it to disclose information andrecordings taken by an Amazon Echo at ahome in Bentonville, Arkansas that is thesite of a murder investigation. So far, Amazonhas refused to disclose the information.

The devices are intended to be located ona desk or other location where the user caneasily be heard. While Amazon and Googlemay limit the amount of audio they recordand send to their servers, the devices aredesigned to be continuously listening andconnected to the Internet. Thus, a nefariousthird party could modify the devices to makethem full-time eavesdropping tools. AmazonEcho and Google Home have on-and-offswitches for their microphones. Switching themicrophone on whenever the device is to beused reduces its usefulness but also reduceseavesdropping exposure.

Neither device has a password protectionfeature, and the wake-up word or phrase forthese devices cannot be changed significantly.Say “Alexa” or “Google” on purpose or byac cident and you have instant access to thesystem, so there is potential for access byguests and intruders. Several user profiles canbe created on Amazon Echo that can enhancesecurity because an unauthorized user mustidentify the correct profile before queryingthe calendar, e-mail, or to-do lists associatedwith the profile. Alternatively, the devices canbe turned off and locked up at the end ofeach day. How ever, these additional security

steps interfere with the ease of use of thedevices and create more opportunities forhuman error in implementing a strong securityenvironment.

These devices are ready to go out of thebox in terms of playing publicly availablemusic or searching the Internet. Althoughcontrolling some appliances will require moremoney to be invested, the results are promis-ing. However, they are not ready for officeuse at this time.

It is worth mentioning that a potentialuser probably can use Siri on the iPhone orGoogle Assistant on an Android phone toaccomplish many of the current core functionsof Amazon Echo or Google Home that are

applicable to business such as checking cal-endars and e-mail. Also, an interesting alter-native to these two devices is Cortana, thedigital assistant built into Microsoft Windows10. Since it is already part of the PC operatingenvironment, it can access some of the soft-ware running on the user’s PC. For officeuse there may be more opportunity for inte-gration with law office software. Cortanauses information stored on the PC as well asinformation sent to Microsoft’s servers, sothere is some opportunity to limit the dis-closure of certain private information, butto the extent information passes through theMicrosoft servers there are privacy and secu-rity concerns. n

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36 Los Angeles Lawyer March 2017

TO THANK BENJAMIN FRANKLIN for his service as American ministerto France from 1776 to 1785, King Louis XVI gave him a snuff boxfestooned with 408 diamonds. Two years later when the Founderswrote the new Constitution, fearing public officials could be corruptedby such gifts, they included in Article 1 (Section 9) a prohibitionknown as the Foreign Emoluments Clause, which states: “No Titleof Nobility shall be granted by the United States: And no Personholding any Office of Profit or Trust under them, shall, without theConsent of the Congress, accept of any present, Emolument, Office,or Title, of any kind whatsoever, from any King, Prince, or foreignState.” Today, could this obscure provision threaten the presidencyof Donald J. Trump and result in his impeachment and removal fromoffice?

After Trump was sworn in, Citizens for Responsibility and Ethicsin Washington (CREW) filed a lawsuit accusing Trump of violating“the Constitution during the opening moments of his presidency andis poised to do so continually thereafter for the duration of his admin-istration.” Never before has anyone with “business interests as vast,complicated, and secret as those of Donald J. Trump” been electedpresident, creating “countless conflicts of interest, as well as unprece-dented influence by foreign governments.”1

CREW, a nonprofit, nonpartisan organization dedicated to holdingpublic officials accountable for their actions, is led by ethics lawyerswho worked for George W. Bush and Barack Obama and representedby top constitutional law scholars, including Laurence Tribe, ErwinChemerinsky, and Zephyr Teachout, author of Corruption in America:From Benjamin Franklin’s Snuff Box to Citizen’s United (2014).

CREW’s complaint accuses Trump of violating the emolumentsclause as a result of his ongoing business dealings (from which hehas refused to divest ownership) with more than 20 governmentsaround the globe. The lawsuit cites transactions with entities ownedby foreign governments, which include leases at Trump Tower inNew York City, room reservations and use of venues and services atTrump’s new Washington D.C. hotel, hotel stays, property leases,and other business transactions at Trump’s domestic and internationalproperties, and payments from foreign-government-owned broadcastersfor the rebroadcast and foreign versions of The Apprentice and itsspinoffs.

The lawsuit raises several serious legal and constitutional issues,but the two most intriguing are whether CREW has standing to sueand whether fair value exchanges constitute prohibited emoluments.To establish standing, CREW must show not merely a theoreticalinterest in whether Trump is violating the Constitution but that theorganization itself has suffered and continues to suffer a concreteinjury in fact from Trump’s conduct.

CREW is relying on the unanimous ruling in Havens RealtyCorporation v Coleman,2 in which the Supreme Court granted asso-ciational standing to a nonprofit fair housing organization known asHOME. The Court found that HOME met the injury in fact require-ment by alleging that the defendant’s action frustrated its ability to

provide counseling and referral services for low- and moderate-incomehomeseekers and that the association had incurred significant expensein furthering its purpose. HOME alleged a “concrete and demonstrableinjury to the organization’s activities—with the consequent drain onthe organization’s resources—constitutes far more than simply a setbackto the organization’s abstract social interests.” CREW also cites Raginv. Harry Macklowe Real Estate Co.,3 in which the Second Circuit—where CREW filed its case—upheld standing in a similar situation.Consequently, CREW alleges that without the injunctive and declaratoryrelief requested, it will suffer “a significant diversion and depletion”of its “time, resources, and efforts,” which it would otherwise devoteto the myriad of ethical issues it has been addressing for 15 years.

CREW’s lawsuit triggered reports that competing hotels such asthe Four Seasons, which are losing business because foreign govern-ments are flocking to Trump’s properties to curry favor with thenew president, may join the lawsuit. That would strengthen standing.But even if the lawsuit survives this threshold procedural challenge,do Trump’s business deals in which foreign governments get somethingin return for their payments run afoul of the Constitution?

CREW points out that the clause broadly prohibits not only pre-sents, but also “Emoluments...of any kind whatsoever,” which “couldcover anything else of value, including remuneration at, above, orbelow market rates.”

The dictionary definition of “emolument” favors CREW’s position.According to Merriam Webster, it means “a return arising from officeor employment usually in the form of compensation or perquisites.”Obviously, compensation is a fair value exchange, just like rent atTrump Tower. The Constitution itself supports the idea that an emol-ument may involve a fair value exchange. Article II provides that“the President shall, at stated times, receive for his services, a com-pensation...and he shall not receive within that period any otheremolument.”

It remains to be seen whether the courts will agree with CREWthat Trump’s business dealings with foreign governments pose “agrave threat to the United States and its citizens” in violation of theConstitution.

Trump doesn’t think so. He has boldly declared: “I have a no-conflict situation because I’m president.” That sounds hauntingly likeRichard Nixon’s infamous statement that “when the president doesit, that means it is not illegal.” Remember what happened to him. n

1 Citizens for Responsibility and Ethics in Washington v. Donald J. Trump, No.1:17-cv-00458, 1 (S.D. N.Y. Jan.31, 2017). 2 Havens Realty Corp. v Coleman, 455 U.S. 363 (1982).3 Ragin v. Harry Macklowe Real Estate Co., 6 F. 3d 878 (1993).

closing argument BY STEPHEN F. ROHDE

Is the Emoluments Clause a Threat to Trump’s Presidency?

Stephen F. Rohde, a constitutional lawyer and author of the books AmericanWords of Freedom and Freedom of Assembly, has served as chair of the ACLUFoundation of Southern California and Bend the Arc: a Jewish Partnershipfor Justice.

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