The following is a case update written by the Hon. Meredith Jury (U.S. Bankruptcy Judge, CD CA, ret.), analyzing a recent decision of interest:
The California Court of Appeal (the Court) recently affirmed an award of attorney fees to third-party beneficiaries of a contract with a prevailing party attorney’s fees clause (“the Fee Applicants”) after the dismissal of a cross-complaint against them, despite the fact the Fee Applicants were not parties to the contract and the award was based on tort, not contract claims. Hom v Petrou, 2021 WL 3361063 (Cal Court of Appeal, First Appellate Division, August 3, 2021).
Stephen Hom’s parent leased a building to Pure Entertainment, LLC to operate a bar and restaurant. The lease allowed Pure Entertainment to encumber its leasehold in favor of its lenders. It gave numerous rights and responsibilities to such lenders, including the right to perform anything required of Pure Entertainment under the lease, to foreclose on the leasehold, to cure any breach, and even to enter into a new lease following any default. The lease also specified that the lease could not be modified or canceled without the written consent of the lender. The last sentence of the lease (“the fee clause”) stated: “Should any dispute arise from this Lease or the tenancy hereby created…. then the prevailing party will be entitled to reimbursement of its reasonable attorneys’ fees, in addition to any other remedy awarded.”
Petrou and Utter were secured lenders of Pure Entertainment, holding a pledge of all of its assets. Litigation arose between Pure Entertainment and Hom’s parents, taken over by Stephen Hom as trustee after his parents died. Hom filed a cross-complaint against Petrou and Utter, claiming that the lenders were purposefully interfering with his ability to collect rent and evict Pure Entertainment. Hom eventually executed a settlement agreement that required him to dismiss the cross-complaint with prejudice. Petrou and Utter, the Fee Applicants, then moved for attorney fees, which were granted with an award of $150,000.
Hom appealed and the Court affirmed.
The Court first cited a recent significant appellate case, Brown Bark III, L.P. v Haver, 219 Cal. App. 4th 809, 818 (2013) for the standard for an award of attorney fees in California:
A party may not recover attorney fees unless expressly authorized by statute or contract….[T]he parties may agree on whether and how to allocate attorney fees…..They may agree the prevailing party will be awarded all the attorney fees incurred in any litigation between them, limit the recovery of fees only to claims arising from certain transactions or event, or award them only on certain types of claims. The parties may agree to award attorney fees on claims sounding in both contract and tort.
Although Cal. Civil Code section 1717 makes an attorney fee provision reciprocal for an action on a contract, reciprocity does not apply to an award in tort litigation. However, that restriction was not relevant here, because the fee clause quoted above was reciprocal on its face, awarding fees to whichever party prevailed. The pertinent issues the Court needed to address were (1) whether the fee clause applied to the Fee Applicants, who were not direct parties to the lease, (2) whether the fee clause was broad enough to cover tort actions, and (3) whether the Fee Applicants had prevailed.
The Court addressed first whether the fee clause authorized an award to nonsignatories to the lease. It rejected the argument that prior California cases had blanketedly barred recovery by nonsignatories by distinguishing those cases factually and ruling that no precedent established a per se rule against such recovery. The Court concluded there could not be a bright line prohibition because the language of any agreed attorney fees clause would be unique to each contact, expressing the intent of the parties. It recognized that third party beneficiaries may be entitled to bring an action to enforce a contract if they establish that they are likely to benefit from the contract and that a motivating purpose of the contracting parties was to provide a benefit to the third party.
Applying those principles here, the Court found it simple to rule the Fee Applicants were proper third party beneficiaries. The provisions which allowed lenders to cure defaults and basically take over performance for the lessee made it clear they would benefit from those terms and the contract in general. Particularly important was that the lease could not be modified without the lender’s consent. “Permitting Petrou and Utter to obtain benefits under the lease is therefore consistent with the parties’ expectations.” The Court ruled that one of the benefits to which the Fee Applicants were entitled was the fee clause.
Next, addressing whether the clause was broad enough to cover a tort claim, the Court found it significant that it applied to “any dispute” arising from the lease and the tenancy it created. The Court noted this expansive language and concluded that the cross- complaint here definitely arose from the lease and the tenancy. Since “any dispute” was not limiting, the parties’ intention that the clause would apply to tort claims was evident from the words of the agreement.
Hom did not challenge the well-settled California law that dismissal of an action, even through a settlement, will result in the dismissed defendants being deemed the prevailing parties so long as the right to fees is not based solely on a contract claim. The Court therefore did not opine on the third required element. It concluded the trial court did not err when it found the Fee Applicants could benefit from the broad fee clause.
California case law addressing the breadth and applicability of attorney fee clauses in contracts is plentiful, developing extensively over the last 25 years. The proliferation began with the introduction of reciprocity by Civil Code section 1717, which makes the right to fees reciprocal no matter how a clause is written, but by its own terms, section 1717 is applicable only to “actions on a contract.” The California Supreme Court decision in Santisas v. Goodin, 17 Cal. 4th 599 (1998), was one of the first cases to hold that a clause, found in a contract, might allow for an award of fees based on a tort claim. depending on how broadly the clause was worded. Santisas itself reversed the trial court’s award of fees because a provision in section 1717 prevents a fee award when a contract action is voluntarily dismissed (that provision was found inapplicable here), but the concept that fees might be awarded on a tort claim remains good law.
A court’s inquiry on an application for attorney fees must always start with the exact wording of the fee clause in the agreement. Because of the importance of such inquiry, the sophistication of fee clauses has evolved with the case law. Any attorney advising a client or seeking fees after prevailing in litigation must do as the courts do: analyze the language of the agreement to determine the intent of the parties regarding the breadth of recovery. It is important to keep in mind that unless an action is “on a contract” a unilateral right to fees will be allowed because section 1717 does not apply to a non-contract claim. Litigants frequently do not recognize this restriction on reciprocity, believing all fee clauses are reciprocal. That is not so.
This submission was authored by the Hon. Meredith Jury (U.S. Bankruptcy Judge, CD CA, ret.), a member of the ad hoc group. Thomson Reuters holds the copyright to these materials and has permitted the Insolvency Law Committee to reprint them. This material may not be further transmitted without the consent of Thomson Reuters.