Appellate Decision Underscores Lawyers’ Duty to Fulfill Retainer Agreement’s Obligations

The Appellate Division, First Department recently held that a legal malpractice action could withstand a law firm’s motion to dismiss the claim on the grounds that plaintiff failed to plead the “but for” causation element of the claim, reversing the trial court’s dismissal.

In Macquarie Capital (USA) Inc. v. Morrison & Foerster LLP, Supreme Court, New York County, Index Number 650988/15, the plaintiff, an investment banking firm, sued the defendant law firm regarding its representation of the plaintiff related to plaintiff’s underwriting of a public stock offering of Puda Coal, Inc. (Puda).  The defendant was retained to conduct due diligence for the transaction and gain a full understanding of Puda, which conducted its operations in China through another company, Shanxi Puda Coal Group Co., Ltd. (Shanxi).  Plaintiff also hired an international private investigation firm to investigate the individuals associated with Puda. The firm issued an investigative report, which disclosed that Puda had misrepresented that it publically owned a 90% interest in Shanxi, and provided the report to the plaintiff.

The plaintiff forwarded the investigative report to the defendant and indicated that “no red flags were identified.” Neither the plaintiff nor the defendant picked up on the report’s finding that Puda misrepresented its ownership interest in Shanxi. Thereafter, the defendant issued an opinion letter confirming its due diligence findings and advising that nothing came to its attention that caused it to believe that the offering documents contained false statements. Thereafter, Puda conducted two public offerings before its fraud was ultimately made public, resulting in class action claims and an SEC regulatory action against the plaintiff, both of which the plaintiff settled.

The plaintiff sued the defendant for legal malpractice for failing to adequately investigate Puda’s ownership in Shanxi and for failing to properly review the investigative report. The plaintiff also alleged that the malpractice was compounded by the defendant’s opinion letter. The defendant moved to dismiss the complaint, which was granted by the trial court. The trial court held that since the plaintiff was in possession of the investigative report, the defendant’s failures could not have proximately caused the plaintiff’s damages. On appeal, the Appellate Division, First Department unanimously reversed and reinstated the complaint. The First Department rejected the defendant’s argument that the investigative report gave the plaintiff prior notice of Puda’s material misrepresentations. Even though the plaintiff acknowledged that it had possession of the investigative report, the Appellate Division held that, at the pre-answer stage, the information provided in the report could not be described as “explicitly” putting the plaintiff on notice and not requiring the defendant’s interpretation of the information contained in the report.  In reaching its determination, the First Department cited to case law holding that a defendant law firm cannot shift the legal responsibility it was hired to undertake to its client. The First Department further held that it could be reasonably inferred from the allegations in the complaint that the plaintiff incurred damages that were attributable to the defendant’s conduct, including litigation expenses incurred to mitigate the damages caused by the defendant’s alleged malpractice.

The Macquarie Capital decision highlights the importance of performing the tasks defined in the lawyer’s retainer agreement pursuant to the applicable standard of care. Although the client may also be privy to certain information relied upon by the lawyer to provide its legal services, it does not absolve the lawyer from properly performing the legal work he or she was hired to provide.  Moreover, the decision highlights some unwillingness by the courts to dismiss a legal malpractice claim at the pre-answer stage, even where, as here, there was documentary evidence and certain acknowledgements by the plaintiff to support the lawyer’s motion.

For more information about the court’s decision, please contact Jonathan Bruno or Deborah Isaacson.