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June 18, 2013

Havasu Lakeshore Investments, LLC v. Fleming, 2013 WL 3337365

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The Fourth District decides disqualification is not warranted when a conflict is merely hypothetical, and not potential under the “reasonably likely to arise” test. 

Terry L. Fleming Sr. and his son Terry L. Fleming Jr. loaned money to Havasu Lakeshore Investments, LLC (the LLC), which was developing a mobile home park.  These loans were converted into membership interests in the LLC.  The managing member of the LLC was Capital Source Partners.  J. Victor Peloquin Construction, whose general partner was Jean Victor Peloquin, was also a member of the LLC.  Peloquin agreed to purchase the Flemings’ interests in the LLC at their option.  Eventually the LLC defaulted on its construction loan.  Fleming Sr. purchased the note and later the mobile home park at a trustee’s sale. 

Fleming Jr. sued Peloquin for failing to honor the option contract.  Capital Source Partners, J. Victor Peloquin Construction, and Peloquin individually cross-complained against Fleming Sr. and Fleming Jr. based, in part, on the acquisition of the construction loan note and the mobile home park. 

Fleming Sr. moved to disqualify Hart, King & Coldren (HKC), counsel for the LLC, Capital Source Partners, J Victor Peloquin Construction, and Peloquin.  Fleming Sr. asserted HKC violated its duties under Rule of Professional Conduct 3-310(E) because he had discussed legal matters with HKC about the LLC, and never waived the attorney-client privilege. 

Peloquin and HKC countered HKC did not represent the LLC during the Flemings’ actions that gave rise to the liability asserted in the cross-complaint, never represented Fleming Sr., and never received confidential information from him.  HKC asserted it had previously advised Peloquin regarding mobile home park operational matters, none of which involved either Fleming Sr. or Jr, and required no information about the members or internal operations of the LLC.  When HKC represented Peloquin after Fleming Sr. bought the construction loan from the bank, Fleming Sr. was represented by separate counsel.  Peloquin stated a different law firm represented the LLC in forming the LLC and its operating agreements, which the Court found to be true.  HKC did not start representing the LLC until Fleming Jr. initiated the lawsuit. 

The trial court disqualified HKC from representing the LLC and Peloquin individually.  The court reasoned the interests of the LLC and Peloquin as a non-member of the LLC potentially conflicted. 

The Court of Appeal noted an attorney bears two distinct ethical duties to a client: (1) a duty of loyalty, whereby an attorney devotes his or her entire energies to the client’s interests and (2) a duty of confidentiality, which fosters full and open communication between client and counsel. 

Although Fleming Sr. based his motion on the duty of confidentiality, the court granted the motion on the duty of loyalty, citing Rule of Professional Conduct 3-310(C) which prohibits attorneys from simultaneously representing clients whose interests are adverse to one another. 

However, potential conflicts do not warrant disqualification. A potential conflict of interest is not the same as a hypothetical conflict of interest.  A potential conflict means there is a reasonable likelihood an actual conflict will arise. 

Moreover Rule 3–600(E) permits counsel representing an organization to also represent any of its directors, officers, employees, members, shareholders, or other constituents, subject to the provisions of Rule 3–310.   For example, counsel may not represent a corporation and its management when they have actual adverse, conflicting interests. 

Fleming Jr. maintained there was an actual conflict between the LLC and Peloquin individually because Peloquin was defending claims of breach of contract and fraud.  The LLC, and its counsel, should be focused on issues of regarding the purchase and foreclosure of the LLC’s property. The Court disagreed the risk HKC may spread itself too thin, become distracted, or prioritize one matter over the other is the type of conflict addressed by Rule 3-310(C).  Moreover, such a conflict would not impact the Flemings’ interests. 

The cross-complaint presented no conflict because the interests of the LLC and Peloquin were clearly allied.  They both sought to recover the property from Fleming Sr. and restore it to the LLC. 

Fleming Jr.’s action against Peloquin individually did not involve the LLC.  The LLC had no rights or obligations under the option contract.

The Flemings status as minority members of the LLC did not create a conflict.  The Flemings were adversaries of Peloquin and the LLC.  Although an attorney cannot represent both a corporation and its principals in a derivative suit due to the conflicting interests of the parties, this case did not involve a derivative lawsuit or an attempt to dissolve the LLC.  There was no allegation Peloquin mismanaged the LLC or appropriated its property or funds.  There was no pending buy-out at a price based on a diminished fair market value due to Peloquin’s mismanagement. 

There is no authority for Fleming’s proposition an attorney may never jointly represent an entity and its management against a non-managing minority member. That notion is contrary to rule 3–600(E), which expressly permits counsel to represent an organization and its constituents, subject to rule 3–310. 

The Court concluded HKC was ethically permitted to jointly represent all cross-complainants against the Flemings, and Peloquin was authorized to provide consent to multiple representation on the LLC’s behalf.

Comment:  Disqualification motions are carefully scrutinized.  In this case, the court did not believe Fleming Sr.’s assertion he had confidential communications with HKC.  Absent this factor, the court was skeptical the LLC’s and Peloquin’s choice of counsel should be dictated by their opponent.

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