OHIO STATE BAR O ASSOCIATION.

Transcription

1 OHIO STATE BAR O ASSOCIATION. EST I880 OSBA Informal Advisory Opinion January 25, 2013 Re: Request for Informal Advisory Opinion You have requested the opinion of the Ohio State Bar Association Committee on Legal Ethics and Professional Conduct on the following question: May a lawyer enter into a contingent-fee agreement to negotiate an oil and gas lease on behalf of a client, where the lawyer's fee will be a fixed percentage of the possible royalty the client will potentially receive in the future? The Committee concludes that the Ohio Rules of Professional Conduct ("ORPC") do not prohibit entering into a contingent-fee agreement where the lawyer represents the client in a transaction and it is agreed that the lawyer's compensation, if any, will come from revenue that the transaction will potentially generate, provided that: (1) the matter is appropriate for a contingent fee, including under ORPC Rule 1.5(d)(l)-(2); (2) the agreement does not result in an illegal or clearly excessive fee under ORPC Rule 1.5(a); and (3) the client has been fully informed under ORPC Rule 1.5(b) and (c)(1). Applicable Rules of Professional Conduct: Your request for an opinion requires consideration of the following provisions of the Ohio Rules of Professional Conduct ("ORPC" or "Rules"): 1.5(a) 1.5(b) 1.5(c) 1.5(c)(l) (lawyer shall not make an agreement for or charge illegal or clearly excessive fee); (basis of fee shall be communicated to the client); (fee may be contingent on outcome of the matter for which service is rendered, except in matter in which a contingent fee is prohibited); (contingent fee agreement shall be in writing signed by client and lawyer and shall state method by which fee is to be determined); 1.5 (d)(1) (contingent fees in domestic relations matters prohibited); 1.5(d)(2) (contingent fees in criminal cases prohibited). HEADQUARTERS MAILING ADDRESS PHONE 1700 Lake Shore Drive PD Box FAX /-1008 Columbus, Ohio Columbus, Ohio WEB www_ohiobar.org

2 Opinion: 1. Contingent fee agreements can be appropriate in transactional representations. The most common use of contingent-fee agreements between lawyers and clients is in personal injury litigation. But contingent fees are not necessarily confined to that context. ORPC 1.5(c) provides that "[a] fee may be contingent on the outcome of the matter for which the service is rendered, except in a matter in which a contingent fee is prohibited by division (d) of this rule or other law." Contingent fees are prohibited in domestic relations matters and in criminal cases. ORPC 1.5(d)(1)-(2). But apart from these exceptions, which are based on public policy concerns, Rule 1.5(c) does not expressly bar contingent fees for representing clients in transactions such as leases or in litigation that does not involve personal injury. Indeed, the language of Rule 1.5(c) ("contingent on the outcome of the matter") is broad enough to include many types of matters. l In 1994, the ABA's Legal Ethics and Professional Conduct Committee considered several issues in connection with contingent fees, and concluded that such compensation arrangements are permitted in multiple situations -- they are not limited to situations in which the lawyer will be representing a plaintiff, or confined to clients who cannot afford to pay hourly rates or flat fees. See ABA Comm. on Ethics & Prof1 Resp., Formal Op at 2 (Dec. 5, 1994). The Committee opined that "contingent fees are not limited to litigation practice." Id. 2 Rather, contingent-fee arrangements "reflec[t] the desire of clients to tie a lawyer's compensation to her performance and to give the lawyer incentives to improve returns to the client," and can potentially be appropriate whenever the lawyer and client agree to that objective. Id. In the most usual setting for a contingent-fee arrangement a plaintiff's personal-injury suit the lawyer's fee is dependent on an obvious contingency (the client's recovery), and there is an obvious risk that the lawyer will not earn any fee if the contingency does not occur. The same can be true in the transactional setting. For instance, in the oil-and-gas lease that raises the ' Two Ethical Considerations of the former Ohio Code of Professional Responsibility reflect a former assumption that contingent fees would arise in connection with a lawyer's representation of a client in litigation. See EC 2-19 (contingent fees "in civil cases" have been longaccepted in proceedings to "enforce claims"); EC 5-7 (contingent fee gives lawyer "financial interest in the outcome of litigation," but reasonable contingent fee nonetheless permissible). However, current Rule 1.5 (effective February 1, 2007) and its accompanying explanatory comments do not reflect the same assumption. See also Rev. Code (B) (requiring that a contingent fee agreement be in writing when it is in "connection with a claim that is or may become the basis of a tort action..." but without restricting contingent fee agreements to tort actions). The ABA Ethics Committee noted that "[f]ees in the mergers and acquisitions arena are often either partially or totally dependent on the consummation of a takeover or successful resistance of such a takeover. Additionally, fees on public offerings are often tied to whether the stocks or bonds come to market and to the amount generated in the offering. Banks are also hiring lawyers to handle loan transactions in which the fee for the bank's lawyers is dependent in whole or part on the consummation of the loan." (Id. at 2.) -2-

3 inquiry here, there is the possibility that the parties will not reach any lease agreement; there is also the possibility that if a lease is achieved there will be no oil or gas production and therefore no royalties resulting from the project. Additional risks include the risk of changes in the relevant law or regulations that could eliminate (or diminish) royalties, and the risk that the client will exercise its right to dismiss the lawyer, in which case the lawyer would only be entitled to recover under a quantum meruit theory. See Reid, Johnson, Downes, Andrachik & Webster v. Lansberry, 68 Ohio St. 3d 570, 1994-Ohio-512 (1994). Moreover, even if royalties result from the lease, their amount would be contingent on factors outside the lawyer's control, including the productivity of the leasehold, fluctuation in the price of the commodity and fluctuation in the demand for the product.3 Courts have expressly or tacitly approved contingent-fee agreements in contexts similar to the one giving rise to this inquiry. In Schrader Byrd & Companion, P.L.L.C. v. Marks, 648 S.E.2d 8 (W. Va. 2007), a contingent fee agreement provided for the attorneys to receive ongoing payments equal to 30 percent of the increase in coal royalties that resulted from the settlement of lengthy litigation. In upholding the agreement, the court ruled that "fee payment arrangements whereby the attorney receives a portion of future income to the client do not inherently create an impermissible relationship..." Id. at 13. The court endorsed the trial court's observation that the settlement itself was uncertain, and that even after the settlement the fee was uncertain "because it was contingent on the price of coal, whether anyone would mine it, and the amount of usage that would take place." Id. See also Dream Makers, Inc. v. Marshek, Ohio-7069 (8th Dist. Ct. App. Dec. 19, 2002) (upholding, without discussing ethics rules, contingent fee agreement between inventor and lawyer who negotiated license with infringer in exchange for 40 percent of any royalties received under the licensing agreement); In re Mueller, 873 N.E.2d 652, 659 n.1 (Ind. Ct. App. 2007) (approving, in dicta, contingent fee charged by conservatorship's attorney for negotiating mining lease; fee was tied to amount of royalties received under lease, no fee would be received if no royalties were paid, and agreement was in writing and signed by all parties). Ethics opinions in other jurisdictions also have approved contingent-fee agreements in non-litigation settings. See, e.g., Los Angeles Cty. Bar Ass'n Formal Op. 507 (Oct. 15, 2001) (contingent fee for preparing and prosecuting a patent application, consisting of percentage of net profits from licensing the patent); Maine Prof 'l Ethics Comm'n Op. 57 (July 1, 1985) (contingent fee for obtaining development permits from administrative commission); Ill. St. Bar Ass'n Prof1 Cond. Adv. Op (July 2012) (contingent fee for identifying and recovering unclaimed Even in situations where there is no risk of non-recovery, a contingent fee can be reasonable within the definition of ORPC 1.5(a). For instance, as the ABA Ethics Committee noted, defendants may enter into "reverse contingent fee" agreements, in which their lawyers are compensated by an agreed percentage of the amount the client saves; yet the achievement of some savings from the amount the plaintiff demands is almost always a certainty. Formal Op at 2, 6 n. 14. And where there is no risk of non-recovery, market forces should be counted on to reduce the fee accordingly. See Formal Op at n. 13 (noting that in air disaster cases where insurers conceded liability and made early settlement offers, contingent fee rates averaged 17 percent of recovery). -3-

4 property of client); Ill. St. Bar Ass'n Prof I Cond, Adv. Op (1991) (contingent fee for handling securities registration, consisting of securities). 2. A contingent fee agreement must not result in an illegal or clearly-excessive fee. A contingent fee agreement can involve payments to the lawyer that stretch into the future; however, if the agreement results in excessive fees, it becomes impermissible, even if the agreement was permissible at its inception. See ORPC 1.5(a). A fee is "excessive" when it is higher than reasonable. Id. Multiple factors determine whether a fee is reasonable, including: whether it is fixed or contingent; the time and labor required; the amount involved; the results obtained; relevant time limitations; and the experience and ability of the lawyer. See ORPC 1.5(a)(1)-(8). Because a contingent fee consisting of a percentage of a client's royalty can possibly become excessive over time, the lawyer receiving such payments has a continuing obligation to monitor the agreement. In order to avoid an excessive fee, the lawyer and the client might be required to modify or even terminate the agreement at some future time. In order to avoid the possibility that the fee will become excessive over time, the lawyer and client should consider during their discussions whether it is appropriate to place an upper limit on the amount of the total fee.4 Several courts have analyzed the reasonableness of contingent fees received over time, emphasizing the ongoing nature of the reasonableness requirement. See, e.g., Holmes v. Loveless, 94 P.3d 338, (Wash. Ct. App. 2004) (evaluating reasonableness of fee is ongoing process, not restricted to time that agreement is entered into; agreement basing fee on cash distributions from joint venture not enforceable after 20 years of payments where payments had totaled more than $380,000 but legal fees were valued at only $8,000); Colorado v. Feather, 180 P.2d 437 (Colo. 2007) (contingent fee agreement under which attorney received $11,000 in oiland-gas royalties over 12 years was unreasonable, where attorney recovered only $4,000 for client and fee did not relate to value of lawyer's services; attorney's claim of "perpetual interest" in royalty payments rejected and attorney publically censured). But see Baumeister v. McReynolds, 571 N.W.2d 79 (Neb. 1997) (fee of $700,000 based on tonnage of material brought to landfill was not unreasonable after four years, where lawyer had successfully negotiated complex deal despite high risk of failure, future income was completely dependent on unpredictable usage of landfill, and client could not afford hourly rates, which would have amounted to $250,000; analyzing contingent fee agreement as a business transaction with client).5 4 Rule 1.5 cmt. [3] notes that "applicable law may impose limitations on contingent fees, such as a ceiling on the percentage allowable..." 3 This Opinion assumes that the lawyer and client have agreed on terms that could result in a contingent fee to the lawyer consisting of the payment of future revenue from a client's transaction or business. Under different circumstances, a lawyer and client might agree that the lawyer will actually "accept an interest in the client's business or other nonmonetary property as payment of all or part of a fee." ORPC Rule 1.8 cmt. [1] (emphasis added). When this occurs, the arrangement constitutes a business transaction between the lawyer and client, mandating compliance with the requirements of Rule 1.8(a). Id. However, Rule 1.8 "does not apply to ordinary fee arrangements between client and lawyer, which are governed by Rule 1.5." Id. Under -4-

5 3. Some matters are not appropriate for a contingent fee; in all events, the client's decision to enter into a contingent fee agreement must be fully-informed. While "nothing.., expressly prohibits a lawyer from entering into a contingent fee agreement with any client" (Formal Op at 3), not all matters are appropriate for a contingent fee. Contingent fees are barred in domestic relations cases (ORPC Rule 1.5(d)(1)) and in criminal cases (ORPC Rule 1.5(d)(2)). It has also been deemed impermissible to charge a contingent fee for some other types of non-litigation matters, either because they are viewed as merely administrative, or because the amount of the fee is deemed excessive, given the near certainty of a successful outcome. See, e.g., Iowa Supreme Ct. Bd. of Prof 'l Ethics & Cond. Op (Sept. 2, 1993) (disapproving contingent fee in workers' compensation matters where employer or insurer pays benefits voluntarily); Ga. St. Disc. Bd. Op. 37 (Jan. 20, 1984) (disapproving contingent fee for obtaining nofault insurance benefits); Utah St. Bar Ass'n Op. 114 (Feb. 20, 1992) (disapproving contingent fee for obtaining undisputed no-fault insurance benefits). In situations where a contingent fee is not barred, the client's decision to enter into a contingent-fee agreement must be an informed one. The lawyer must communicate the basis of the fee to the client. ORPC 1.5(b). "The nature (and details) of the compensation arrangement should be fully discussed by the lawyer and client before any final agreement is reached." Formal Op at 3. Where the client is considering a contingent fee in connection with negotiating an agreement, factors that would be particularly pertinent to discuss include: "the likelihood of success... the amount of time that is likely to be invested by the lawyer... the likely amount of the fee if the matter is handled on a non-contingent basis; the client's ability and willingness to pay a non-contingent fee; the percentage... that the lawyer would receive as a contingent fee and whether that percentage will be fixed or on a sliding scale; [and]... how expenses of the [matter] are to be handled." Id. at 3-4. The client's degree of sophistication is a significant factor in providing information sufficient to ensure that the client's consent is fully informed. ORPC Rule 1.0 cmt. [6]. The client's business acumen (or lack thereof) is especially relevant when entering into a contingent fee agreement that will potentially stretch into the future and result in a series of payments to the lawyer. Particularly in that setting, the lawyer must take into consideration "the experience and sophistication of the client with respect to litigation and other legal matters." Formal Op at 3. The importance of informed consent to a contingent-fee arrangement is underscored by the requirement that the agreement be in writing and signed by the client and the lawyer. ORPC 1.5(c)(1). The written agreement must "state the method by which the fee is to be determined." Id. In the context of a contingent fee agreement for negotiating an oil-and-gas lease, this requirement calls for express written terms outlining how the fees will be calculated against any royalties and how the fees will be paid. The agreement should also indicate how expenses will be treated. the facts presented by this inquiry, the lawyer would not acquire an interest in the client's business. -5-

6 Sincerely, Legal Ethics and Professional Conduct Committee OHIO STATE BAR ASSOCIATION Note: Advisory Opinions of the Ohio State Bar Association Legal Ethics and Professional Conduct Committee are informal, non-binding opinions in response to prospective or hypothetical questions regarding the application of the Supreme Court Rules for the Government of the Judiciary, the Rules of Professional Conduct, the Code of Judicial Conduct, and the Attorney's Oath of Office. S