TUOHEY BARTON v. ANAHEIM MEMORIAL HOSPITAL (1986)

Tuohey & Barton, a professional law corporation, filed a complaint against Anaheim Memorial Hospital (AMH) to recover a finder's fee allegedly earned by Conrad G. Tuohey when AMH acquired the stock of Fullerton Community Hospital (FCH).   The agreement to pay a finder's fee was not reduced to writing.   The trial court found enforceability of the agreement was barred by section 5–101 of the Rules of Professional Conduct and by the statute of frauds.   Tuohey & Barton appeals;  we reverse the judgment.

I

In 1977, Conrad G. Tuohey was the principal shareholder of the law firm of Tuohey, Barton & McDermott.   At that time, the firm was general counsel for AMH;  John A. McDermott, a minority shareholder of the firm, did almost all of AMH's legal work.   Tuohey, who had extensive legal experience in dealing with hospitals throughout California and specifically in Orange County, learned that AMH was interested in acquiring another hospital.   He met with James W. McAlvin, AMH's representative, to discuss a possible acquisition.   They also discussed whether AMH would be willing to pay Tuohey a finder's fee if he located a suitable hospital.

Tuohey testified McAlvin orally agreed to pay a finder's fee if Tuohey located a hospital that was ultimately acquired by AMH.   The fee would be based on the “Lehman formula,” which provides for a sliding scale based on the sales price.¹  He also testified McAlvin agreed that any acquisition negotiations on behalf of AMH would be conducted by the firm and would be billed separately from the finder's fee.

Tuohey then revealed the name of FCH to AMH.   The principals of the two entities were introduced in May 1978, and negotiations between them continued on and off until the acquisition was completed in April 1980.   The negotiations were conducted on behalf of AMH by McDermott and billed at an hourly rate.²

AMH purchased the FCH facilities for $4,150,000;  $2,490,000 was allocated to the purchase of real property, and $1,660,000 to the sale of the going business and personalty.   Tuohey learned of the sale from a newspaper article in October 1979 and made demand on AMH for the fee.   AMH denied the existence of the agreement, and Tuohey assigned his interest in the fee to the law firm, which filed a complaint for common counts based on services rendered.

Although the evidence was in conflict, the trial court found AMH orally agreed to pay Tuohey a finder's fee if he located a hospital ultimately purchased by AMH.   It found Tuohey had performed under the agreement and that the fee earned was $104,700 for the purchase of the real property and $76,400 for the purchase of the personal property.   However, the court found the agreement was in violation of rule 5–101 of the Rules of Professional Conduct of the State Bar of California and was therefore unenforceable.   It further found that portion of the fee attributable to real property was barred by the statute of frauds.   On appeal, the firm contends (1) an oral finder's fee agreement between an attorney and his client does not violate rule 5–101 because it is not an adverse interest;  and (2) a fully executed oral agreement for a finder's fee is not barred by the statute of frauds.   Although we agree with the trial court that Tuohey violated rule 5–101, we find he is entitled to a reasonable fee and that his recovery is not barred by the statute of frauds.

II

The firm asserts the origins of rule 5–101 and the case law interpreting it clearly indicate the State Bar intended it to apply only where the attorney acquired an interest adverse to the client.   However, the face of the rule suggests a broader application.  Rule 5–101 provides:  “A member of the State Bar shall not enter into a business transaction with a client or knowingly acquire an ownership, possessory, security or other pecuniary interest adverse to a client unless (1) the transaction and terms in which the member of the State Bar acquires the interest are fair and reasonable to the client and are fully disclosed and transmitted in writing to the client in manner and terms which should have reasonably been understood by the client, (2) the client is given a reasonable opportunity to seek the advice of independent counsel of the client's choice on the transaction, and (3) the client consents in writing thereto.”  (Rules of Prof. Conduct, rule 5–101 [23 West's Cal.Codes Ann. Rules, pt. 2 (1981 ed., 1986 cum.supp.) p. 281].)

This rule is part of the new Rules of Professional Conduct which were approved by the Supreme Court and made effective January 1, 1975;  they superseded the former Rules of Professional Conduct which had been in effect since 1928.   The sources of rule 5–101 are former rule 4, former American Bar Association, Model Code of Professional Responsibility, Disciplinary Rule 5–104(A), and Clancy v. State Bar (1969) 71 Cal.2d 140, 77 Cal.Rptr. 657, 454 P.2d 329.   (1 Witkin, Cal.Procedure (3d ed.1985) Attorneys, § 419, p. 471.)

Former rule 4 read:  “A member of the State Bar shall not acquire an interest adverse to a client.”  (Former rule 4, Rules Prof.Conduct.)   Disciplinary Rule 5–104(A) states:  “A lawyer shall not enter into a business transaction with a client if they have differing interests therein and if the client expects the lawyer to exercise his professional judgment therein for the protection of the client, unless the client has consented after full disclosure.”  (ABA Model Code Prof.Responsibility, DR 5–104(A).)

Clancy v. State Bar, supra, 71 Cal.2d 140, 77 Cal.Rptr. 657, 454 P.2d 329 was a disciplinary proceeding involving a widow who was induced to loan $1,000 to her lawyer by his misrepresentation that it was an investment.   The court stated:  “The relationship between an attorney and client is a fiduciary relationship of the very highest character.   All dealings between an attorney and his client that are beneficial to the attorney will be closely scrutinized with the utmost strictness for any unfairness.  [Citation.]  It is incumbent upon the attorney to show that the dealings are fair and reasonable and were fully known and understood by the client.   The burden is on the attorney to show that the transaction between them was ‘at arm's length.’  [Citation.]”  (Id., at pp. 146–147, 77 Cal.Rptr. 657, 454 P.2d 329.)

Under former rule 4, the term “adverse” did not necessarily mean harmful to the client.   In Ames v. State Bar (1973) 8 Cal.3d 910, 106 Cal.Rptr. 489, 506 P.2d 625, attorneys purchased the senior encumbrance and note on real property on which their clients held a junior encumbrance;  the purchase was requested by the clients in order to protect them from a threatened foreclosure of the senior encumbrance.   The attorneys and clients entered into agreements allowing the clients a reasonable time to raise monies to purchase the senior note;  when the clients were unable to do so after an “adequate and reasonable time,” the attorneys foreclosed on the senior encumbrance and purchased the property.   The court found the attorneys had violated former rule 4 despite the fact they were acting in what they thought were the best interests of their clients, had no intent to deceive, defraud or otherwise oppress them, and the clients suffered no actual injury.   Although the attorneys showed the transaction was fair and reasonable and that the clients consented to it, the court held:  “The Rules of Professional Conduct are intended not only to establish ethical standards for members of the bar [citation], but are also designed to protect the public.”  (Id., at p. 917, 106 Cal.Rptr. 489, 506 P.2d 625.)   Thus, the absence of actual injury to the clients was not determinative;  it was the possibility of detriment to the client that constituted the violation.  “[W]ithin the context of [former] rule 4, an attorney must avoid circumstances where it is reasonably foreseeable that his acquisition may be detrimental, i.e., adverse, to the interests of his client.”  (Id., at p. 920, 106 Cal.Rptr. 489, 506 P.2d 625.)

With this background, we examine the face of rule 5–101.   The rule is clearly in the disjunctive, applying its requirements to either “a business transaction with a client” or “[any] ․ interest adverse to a client.”   Thus, it is broader than its predecessors, former rule 4 and Disciplinary Rule 5–104(A).   We assume the drafters of the rule intended the effect of this new language.

In recent cases, the Supreme Court has given a literal interpretation to rule 5–101.   In Ritter v. State Bar (1985) 40 Cal.3d 595, 221 Cal.Rptr, 134, 709 P.2d 1303, clients loaned money to their attorney in exchange for a reduction of the contingent fee in their action.   The loan agreement was in writing;  the terms were fully disclosed to the clients and were fair and reasonable;  there was no evidence of false or misleading statements to induce the loan or of bad faith or personal gain at the clients' expense;  and the loan was fully repaid within the time agreed upon.   The court found the attorney's failure to advise the clients to seek independent counsel constituted a violation of rule 5–101, reiterating that “[a]ll dealings between an attorney and his client that are beneficial to the attorney will be closely scrutinized with the utmost strictness for any unfairness․”  (Id., at p. 602, 221 Cal.Rptr. 134, 709 P.2d 1303, quoting from Clancy v. State Bar, supra, 71 Cal.2d 140, 146, 77 Cal.Rptr. 657, 454 P.2d 329.)   In Dixon v. State Bar (1982) 32 Cal.3d 728, 187 Cal.Rptr. 30, 653 P.2d 321, the court characterized rule 5–101 as “requir[ing] that any business relationships with clients be on terms that are fair and reasonable, with the client's written consent and with the client being informed of a right to independent counsel․”  (Id., at p. 732, 187 Cal.Rptr. 30, 653 P.2d 321, emphasis added.)

 While we are reluctant to hold rule 5–101 applicable to every casual business transaction between persons who happen to be attorney and client, the case before us falls within its purview for several reasons.   The transaction was a business venture which arose because of the nature of the professional relationship between Tuohey and AMH;  and the rule expresses a strong public policy that attorneys should not enter into such ventures with clients unless a full and fair disclosure is evidenced by a writing and the client is advised to seek independent counsel.   It is undisputed that the agreement here was never reduced to writing nor was the client ever advised to seek independent legal counsel.

Furthermore, the amount of Tuohey's fee was tied to the amount of the purchase price;  since that purchase price was being negotiated by another principal in Tuohey's firm, Tuohey's interest in a higher fee was a potential conflict of interest with AMH's desire for the lowest possible purchase price.³  This factor bolsters our conclusion that the requirement of a writing for an agreement of this type would not only protect the public but heighten its confidence in the legal system as well.

III

The firm contends that even if the oral agreement violates rule 5–101, it should not be held void;  rather, it should be held to entitle Tuohey to recover a reasonable fee.   We agree.

 Although Tuohey technically violated rule 5–101, the violation does not automatically preclude him from recovery against AMH in the courts.  “A party who has rendered part or all of the bargained-for exchange, or has otherwise materially changed his position in reliance on the return promise in an ‘illegal’ bargain, has often seemed to deserve and been given a restitutionary remedy.   Some of the factors that are influential in determining whether restitution or some other judicial remedy will be granted ․ are the degree of criminality or evil, the comparative innocence or guilt of the parties, the extent of the public harm involved, the moral quality of the conduct of the parties, and the severity of the penalty or forfeiture that will result from refusal of relief.”  (6A Corbin, Contracts (1962) § 1534, p. 818, fn. omitted;  see also Moran v. Harris (1982) 131 Cal.App.3d 913, 182 Cal.Rptr. 519;  Homestead Supplies, Inc. v. Executive Life Ins. Co. (1978) 81 Cal.App.3d 978, 147 Cal.Rptr. 22.)   Here, of course, restitution of benefits by AMH is not possible;  thus, we consider the propriety of awarding Tuohey a reasonable fee for his services.

 After evaluating the conflicting evidence, the court below found Tuohey had earned his fee by fully performing under the terms of the oral agreement:  “I found Mr. Tuohey's testimony completely credible.   I listened carefully for inconsistencies and I listened to the other witnesses carefully and I am satisfied that there was an oral agreement, which I believe probably Mr. McAlvin [AMH's agent] decided that based upon advice from another attorney, subsequently, that he could beat Mr. Tuohey out of the fee because it wasn't in writing.”   The court made no finding that Tuohey acted against AMH's best interests;  in fact, the evidence was uncontradicted that the entire transaction was beneficial to AMH.   To deny Tuohey a reasonable fee under these circumstances would result in a clear case of unjust enrichment and would be a forfeiture disproportionate to the violation.

IV

 Finally, we conclude the statute of frauds ⁴ does not bar Tuohey's recovery of that portion of the fee attributable to real property.

In Tenzer v. Superscope, Inc. (1985) 39 Cal.3d 18, 216 Cal.Rptr. 130, 702 P.2d 212, the court held that although the statute of frauds bars an action on an oral agreement for a real estate finder's fee, plaintiff, who was not a licensed real estate broker, could invoke the doctrine of estoppel to foreclose defendant from relying on the statute of frauds as a defense.  “The doctrine of estoppel to plead the statute of frauds may be applied where necessary to prevent either unconscionable injury or unjust enrichment.  [Citation.]  On the basis of the factual contentions advanced in [plaintiff's] papers, [defendant] has received the benefit of [plaintiff's] performance but relies upon the statute of frauds to avoid paying the agreed-upon price․  [T]hese allegations suggest a case of unjust enrichment․  In such cases, the doctrine of estoppel to assert the statute of frauds may be applied in the interests of fairness.”  (Id., at p. 27, 216 Cal.Rptr. 130, 702 P.2d 212.)   The court specifically declined to extend the rule of Keely v. Price (1972) 27 Cal.App.3d 209, 103 Cal.Rptr. 531, which precludes licensed real estate brokers from relying on estoppel to recover under an oral commission agreement, to unlicensed real estate finders.  (Id., 39 Cal.3d at p. 28, 216 Cal.Rptr. 130, 702 P.2d 212.)

The case before us presents facts virtually identical to those alleged in Tenzer.   Fairness requires us to apply the doctrine of estoppel to prevent unjust enrichment on the part of AMH.   We thus hold Tuohey is entitled to a reasonable fee in the amount of $181,100.⁵

The judgment is reversed.   The trial court is directed to enter judgment for appellant in the amount of $181,100, plus costs.   Appellant is entitled to costs on appeal.

FOOTNOTES

1.   The Lehman formula is the standard formula for calculation of finder's fees.   It provides for a fee equal to the sum of 5 percent of the first $1 million, 4 percent of the second $1 million, 3 percent of the third $1 million, 2 percent of the fourth $1 million and 1 percent of any remainder.  (Zalk v. General Exploration Co. (1980) 105 Cal.App.3d 786, 791, fn. 2, 164 Cal.Rptr. 647.)

2.   McDermott left the firm in June 1979 and continued representing AMH under his own letterhead.

3.   Although the situation presents a potential conflict of interest, AMH does not suggest Tuohey or McDermott did anything to inflate the purchase price it paid for FCH.

4.   Civil Code section 1624, provides in part:  “The following contracts are invalid, unless they, or some note or memorandum thereof, are in writing and subscribed by the party to be charged or by the party's agent:  ․ (d) An agreement authorizing or employing an agent, broker, or any other person to ․ find a purchaser or seller of real estate ․ for compensation or a commission․”

5.   The standard formula for calculating a finder's fee is the Lehman formula (ante, fn. 1), which the parties agreed to use.   It has been approved for use in fixing the reasonable value of a finder's services where that amount is in dispute.  (Zalk v. General Exploration Co., supra, 105 Cal.App.3d at p. 791, 164 Cal.Rptr. 647.)   AMH does not contend the formula produces an unreasonable fee as applied here.   Therefore, we adopt that measure and find Tuohey is entitled to a fee of $181,100.

WALLIN, Associate Justice.

TROTTER, P.J., and CROSBY, J., concur.