When Inverse Condemnation and Eminent Domain Overlap: Owners Beware of Attorney Contingency Fee Arrangements

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Property owners are routinely hiring attorneys well in advance of a public agency's filing of an eminent domain action.  Many times, the representation begins before it is even certain whether the agency will actually move forward with acquiring the property.  And sometimes, claims for inverse condemnation may ripen during the public agency's construction of the project on other nearby properties.  When this overlap exists between inverse condemnation and potential future eminent domain actions, owners should be careful to assess how the attorney will be compensated.  A recent Court of Appeal decision provides a cautionary tale.

Background

In Wasserman, Comden, Casselman & Esensten v. Patel, the owner of a hotel retained a law firm on a contingency fee basis in connection with claims against various government agencies arising out of the construction of a shopping center and residential development immediately adjacent to the owner's hotel.  The hotel owners filed an inverse condemnation action, contending that the development's construction, traffic, trash unloading, congestion, noise, dust, fumes and blocked access significantly impacted hotel operations.  The owners sought damages for diminution in value, loss of revenue, loss of goodwill, property damage, and increased operating costs.

The hotel owner's engagement agreement with its law firm identified the subject matter of representation as "a claim for damages or other appropriate relief against whomever is responsible for the injury or loss suffered by Client" arising out of the construction and operation of the shopping center project.  The owner agreed to pay the law firm 40% of any recovery.

As the inverse condemnation action moved closer to trial, the government agencies notified the owner they were considering taking the hotel through eminent domain to further expand the shopping center.  The owner was offered $6 million for the hotel, even though the appraised value was significantly less.  The owner rejected the offer, and retained a separate law firm on an hourly basis to defend the potential eminent domain action.

The Settlement

Several months later, the offers for the hotel went up and up, and the parties finally reached an agreement at $16.25 million, plus $500,000 to settle the inverse condemnation action, plus the owner's ability to leaseback the hotel for nearly a year for only $1.  The agreement also contained a provision indicating that the parties disputed the allocation of the purchase price, and the figure agreed upon was in consideration for the hotel and for settlement of the inverse condemnation litigation.  The hotel owner's inverse condemnation attorneys were not involved in negotiating the settlement.

The Attorneys' Fees Dispute

The hotel owner thereafter offered the attorneys $200,000 -- 40% of the $500,000 the owner claimed was recovered to settle the inverse condemnation action.  The owners claimed the contingency fee was never intended to cover a sale of the property.  The attorneys claimed that the gross recovery on the owner's claim was $17.75 million ($500,000, plus the full $16.25 million allocated to the purchase price of the hotel, plus the $1 million valuation given to the $1 one-year lease-back of the property).

The Result

Pursuant to the contingency fee agreement, the law firm and the hotel owner participated in a binding arbitration to resolve the disputed amount of attorneys' fees owed.  The arbitration panel issued an award in the amount of $4.82 million (plus interest, plus attorneys' fees in the amount of $114,000 and costs of $88,000).  The arbitrators agreed with the law firm's position, explaining that the hotel owner had consistently contended that the inverse condemnation lawsuit was worth between $15 and $17 million (as indicated in the owner's own verified discovery responses in the litigation identifying past and future lost income, loss of goodwill, and damage to the hotel property).  

In addition, the total value of the settlement greatly exceeded (by a factor of three) the fair market value of the hotel as reflected in the various appraisals obtained during litigation, supporting the conclusion that the settlement was a direct result of the law firm's efforts in the inverse condemnation action.  However, the arbitrators concluded the "gross recovery" subject to the 40% contingency should not include the fair market value of the hotel, and they therefore based the contingency award on the total settlement amount ($17 million) less the property's $5.2 million value.

Both the trial court and the Court of Appeal subsequently affirmed the arbitration award.

Conclusion

The Patel case provides a cautionary tale for property owners retaining attorneys on a contingency fee basis.  The hotel owner's attorneys secured nearly $5 million in attorneys' fees on a case where they spent well less than $1 million in billable time under an hourly basis calculation.  It is hard to know just how much of a role the law firm played in securing the large settlement as opposed to the new firm assisting with the future eminent domain action, or the government agencies' (and the shopping center developer funding the litigation) simply wanting to avoid significant litigation now that the hotel property was needed for the shopping center's expansion.  But the contingency fee firm was entitled to the large fee award because of how broadly the contingency fee agreement was worded, and because the terms were not more clearly spelled out in the settlement.  

Property owners should think long and hard about whether a contingency fee arrangement makes sense, or whether an hourly fee arrangement is more appropriate (or perhaps a blend of both).  It all depends on the delta between the agency's offer and the owner's/attorney's belief on the likely award, and the owner's appetite for risk.