WI Supreme Court Concludes Non-Compete Statute Applies to Non-Solicitation of Employees Agreement

Published by Paul W. Schwarzenbart on | Permalink

In Manitowoc Co. v. Lanning, 2018 WI 6, decided January 19, 2018, a 5-2 majority of the Wisconsin Supreme Court concluded that a non-solicitation of employees agreement (“NSE”) can be subject to scrutiny under Wis. Stat. § 103.465. Under the statute, enacted in 1957, any covenant by an employee “not to compete” with a former employer upon termination of employment is void in toto if the agreement imposes an unreasonable restraint in any respect. However, the divided opinions strongly suggest that the court is narrowing its view of the statute’s scope.

The lead opinion, authored by Justice Shirley Abrahamson and joined in by Justice Anne Walsh Bradley, trod a familiar path in non-compete cases. It frames two issues for review. One, was the NSE a “covenant … not to compete”? Two, if so, was any part of the NSE unreasonably broad, resulting in the entire covenant being void.

The lead opinion has little difficulty answering both questions in the affirmative. In doing so, it cites past precedents applying the statute to many restrictions other than an express agreement by an employee to refrain from future employment with a competitor. The lead opinion quotes Tatge v. Chambers & Owen, Inc., 219 Wis. 2d 99, 112, 579 N.W.2d 217 (1998), for the proposition that “it would be an exercise in semantics to overlook § 103.465 merely because [a provision] of the agreement is not labeled a ‘covenant not to compete,’” adding that the statute “has been applied to agreements viewed as restraints of trade.” 2018 WI 6, ¶ 5.

While the concurring opinion, authored by Justice Rebecca Grassl Bradley, and joined in by Justices Michael Gableman and Daniel Kelly, agreed that the NSE at issue in the case was subject to the statute, it strongly disagrees with the lead opinion’s analysis. The concurring opinion first criticizes the lead opinion for unduly relying on the court’s own case law interpreting the statute and failing to undertake a “textual analysis” of the statute. 2018 WI 6, ¶ 65.The concurring opinion states that in “abandoning this process, the lead opinion risks reading into Wis. Stat. § 103.465 imagined words derived from the court’s perception of the legislature's unspoken policies and purpose.” Id., ¶ 66.

What “imagined words”? Specifically, the concurring opinion focuses on the lead opinion’s reference to the NSE as a “restraint of trade” and its focus on the impact of the NSE on parties other than the employee and the employer. 2018 WI 6, ¶¶ 75, 76. This latter flaw, according to the concurring opinion, led the court to err in Heyde Cos., Inc. v. Dove Healthcare, LLC, 2002 WI 131, 258 Wis. 2d 28, 654 N.W.2d 830, by applying the statute to invalidate a “no hire” agreement between two employers, an agreement to which no employee was a party. The concurring opinion states flatly that Heyde “should be overruled as unsound in principle because its analysis is patently wrong,” and it then devotes significant analysis to explaining exactly why. Id., ¶¶ 78-81.

But despite its disagreement with the lead opinion’s view of the statute and its reliance on precedents applying the statute expansively, the concurring opinion reaches the same result in this case. It agrees the NSE was a “covenant … not to compete” because it restrained the employee, Lanning, from “engag[ing] in a particular form of competition,” i.e., “soliciting, inducing, or encouraging any Manitowoc employee from accepting employment with any Manitowoc competitor, thereby limiting Lanning in performing certain work—namely, recruitment for his new employer, a competitor of Manitowoc’s.” 2018 WI 6, ¶ 72. It rejects the analysis of the dissenting opinion, authored by Chief Justice Patience Roggensack and joined in by Justice Annette Kingsland Ziegler, as “internally contradictory,” in that it concluded the NSE was not a covenant not to compete under a strict reading of the statute, while at the same time stating that “the former employer will become a less effective competitor” due to the NSE not being enforceable.” Id., ¶ 74.

Once the lead and concurring opinions arrive at the conclusion that the NSE was subject to the statute, the outcome is clear. This NSE was afflicted by sins familiar to any attorney who has tried to enforce such agreements within the scope of the statute. It prohibited Lanning from soliciting “any” employee in any position with the company without regard to geographical location or personal familiarity with Lanning. 2018 WI 6, ¶¶ 46, 47, 56, 62. The lead opinion explicitly rejected Manitowoc’s argument that the statute should be applied on a “sliding scale” basis, with lesser scrutiny being given to an NSE because it was “less onerous” than a traditional not compete.” Id., ¶¶ 51-54. The concurring opinion made no reference to this argument, and presumably rejected it as contrary to its textual analysis of the statute.

So what can be drawn from this decision? Three thoughts:

First, an NSE can be treated as a non-compete subject to Wis. Stat. § 103.465, although the concurring opinion cautioned that “not every NSE provision necessarily falls under the purview of that statute.” 2018 WI 6, ¶ 65. The concurring opinion, however, makes no suggestions as to what circumstances might lead to the conclusion that a particular NSE is beyond the statute’s reach.

Second, given that the dissent joined with the concurrence in criticizing the lead opinion’s description of the statute as directed to “restraints of trade,” it appears there is a strong majority support on the court to overrule the Heyde Cos. case and it is likely only a matter of time before the court expressly does so.

Third, again, with the concurrence and the dissent in agreement that attention must focus on the text of the statute rather than expansive past precedents, it is reasonable to assume that, in future cases, employers will argue that Lanning favors a narrower, more textually focused application of the statute.

Court Determines Defendant’s Breach of Contract Constituted a “Wrongful Act”

Published by Jeffrey A. Mandell, Olivia M. Pietrantoni on | Permalink

The Wisconsin Court of Appeals issued a decision that clarifies an exception to the general rule that attorneys’ fees are not recoverable damages. Talmer Bank & Trust v. Jacobsen, No. 2017AP752-FT (Wis. Ct. App. Jan. 10, 2018). The court held that a litigant may recover attorneys’ fees if he or she is forced into litigation with a third party because of another party’s breach of contract.

Background

The Gomezes entered into a land contract with the Jacobsens. The underling land was owned by the Jacobsens, subject to a mortgage. Pursuant to the contract, the Gomezes made monthly payments to the Jacobsens, and in turn the Jacobsens were supposed to continue making mortgage payments. Unbeknownst to the Gomezes, the Jacobsens missed fifteen consecutive monthly mortgage payments. Eventually the mortgage holder initiated a foreclosure action against both the Gomezes and the Jacobsens. The Gomezes reached a settlement with the bank that allowed them to stay on the property. The Gomezes then filed a cross-claim arguing that the Jacobsens must pay their attorneys’ fees that they incurred in defending the foreclosure action.

Generally in the United States, litigants may not recover attorneys’ fees as damages, but there are exceptions to this rule. The Gomezes invoked the “third-party litigation exception,” which states that a party may recover attorneys’ fees if another party’s wrongful act forces the individual into litigation. It was uncontested that the Jacobsens’ breach of the land contract forced the Gomezes into litigation with the bank, therefore the sole question before the circuit court was whether the Jacobsens’ breach constituted a wrongful act. The circuit court held that a breach could not constitute a wrongful act, and therefore the Jacobsens were not required to pay the Gomezes’ attorneys’ fees.

Court of Appeals’ Decision

On appeal, the Jacobsens argued that their breach of contract did not constitute a wrongful act because a wrongful act is limited to fraud, breach of a fiduciary duty, or “something similar.” The court of appeals rejected this argument. “Our supreme court has unequivocally declared that ‘a breach of contract as well as tort may be a basis for allowing [a] plaintiff to recover reasonable third-party litigation expenses.” ¶ 10 (quoting City of Cedarburg Light & Water Comm’n  v. Glens Falls Ins. Co., 42 Wis.2d 120, 166 N.W.2d 165 (1969)). The court explained that attorneys’ fees are recoverable when such fees are rightly considered part of the damages flowing from the defendant’s breach of contract.

The court’s decision makes clear that when a party’s breach of contract forces someone else into litigation with a third party, such breach is a wrongful action, which permits the individual to recover his or her attorneys’ fees from the breaching party.

Court Distinguishes Employers Ability to Recoup Draws on Commission

Published by Meg Vergeront, Olivia M. Pietrantoni on | Permalink

The Sixth Circuit Court of Appeals recently issued a decision holding that hhgregg Inc.’s practice of paying at least minimum wage to commissioned employees when earned commissions fell short of minimum wage during a given pay period, and then later deducting that amount if the employee made more than minimum wage in the future, did not violate the Fair Labor Standards Act (FLSA). Stein v. HHGregg, Inc., 873 F.3d 523 (6th Cir. 2017). The Sixth Circuit’s jurisdiction extends to Tennessee, Kentucky, Michigan, and Ohio. Wisconsin businesses are not directly affected by the outcome of this case, but the circuit’s decision is informative.

Background

Hhgregg’s retail employees are paid on commission. If the employees do not sell enough products to meet minimum-wage requirements in a given week, then hhgregg advances a “draw” to the employees to bring their wages up to minimum wage. If an employee later makes more than minimum-wage in a work week, then hhgregg will deduct the amount of previous draws from the employee’s paycheck. Current and former employees sued hhgregg claiming that the recoupment of draw advances from later paychecks violated the FLSA. Specifically, the plaintiffs argued that hhgregg’s policy violated the requirement that minimum wage be paid “finally and unconditionally or ‘free and clear.’” 29 C.F.R. § 531.35. That is, the employees claimed that this scheme resulted in an unlawful “kick back” of wages.

The Court’s Decision

The court concluded that recouping draws from later paychecks does not constitute an unlawful kick-back. The court explained that the regulations prohibit employers from demanding that employees return wages already delivered. However, the court held that hhgregg’s practice did not violate the anti-kick back FLSA regulations because hhgregg employees keep all draws received from the company in the paycheck in which the draw is received. If and when the employee makes more than minimum wage, hhgregg deducts draws from wages before they are delivered to the employee. Therefore, hhgregg was not receiving a kick-back from delivered wages, and thus did not violate the regulations.

Employer Take-Away

Stein v. Hhgregg provides helpful insight for Wisconsin employers who have commissioned employees. Wisconsin employers may wish to review their policies in light of this decision and consult with legal counsel.

Wisconsin Supreme Court Upholds Dismissal of Claims by John Menard’s Former Fiancée

Published by Susan Allen on | Permalink

The Wisconsin Supreme Court issued its last decision of 2017 in Sands v. Menard, 2017 WI 110, which involved a Watts v. Watts-type unjust enrichment claim by Debra Sands, the former fiancée of president and CEO of Menard, Inc., John Menard, Jr.  In a 5-2 decision authored by Chief Justice Roggensack, the court upheld the court of appeals’ decision dismissing Sands’ claims.  Our discussion of the court of appeals decision is available here.

Sands, an attorney and businesswoman, claimed that from 1998 through 2006, she and Menard participated in a joint enterprise intended to further grow and develop Menard’s business for their joint benefit.  Asserting that she provided both business and personal contributions to Menard throughout the course of their relationship that resulted in financial gain to his business, Sands sought a portion of Menard’s “net worth or assets, ownership interests in the Menard companies, or any part of the increased value in the Menard Companies.” Id. at ¶ 16.

The court spent an extensive portion of the majority decision discussing Watts and its progeny, highlighting the fact that the Watts Court evaluated the standard factors for an unjust enrichment claim:  (1) whether a benefit was conferred on the defendant by the plaintiff; (2) whether the defendant knew and/or appreciated the benefit; and (3) whether it would be inequitable for the defendant to retain the benefit under the circumstances.  While Watts involved cohabitating parties, the court noted that it is the joint enterprise, not the romantic relationship, that provides a basis for the unjust enrichment claim. 

The court then distinguished Watts from the facts before it, noting that Menard had already established his highly successful business before meeting Sands, both Sands and Menard were educated and involved in business, and both had sufficient financial resources.  Further, Sands did not allege that she and Menard comingled any funds, purchased any real estate or personal property jointly or that she had obligated herself on any of Menard’s business or personal debt.  Thus, the court concluded that Sands and Menard did not engage in a joint enterprise.  Despite making this determination, the court went on to evaluate the unjust enrichment factors, further concluding that Sands could not state a claim under this analysis.  Most notably, in evaluating whether it would be inequitable for Menard to accept or retain any benefits conferred by Sands, the court determined Sands could not demonstrate that any benefits she conferred upon Menard during the relationship were not offset by the benefits she received given that she lived a luxurious lifestyle during the relationship.

While not necessary for the disposition of this case, the court nonetheless addressed the additional issue of whether Supreme Court Rule 20:1.8(a) served as an absolute bar to Sands’ unjust enrichment claim.  Unlike the court of appeals, the majority determined that Supreme Court Rule 20:1.8(a), which governs Wisconsin lawyers’ involvement in business transactions with clients and financial conflicts of interest, did not create an absolute bar to Sands’ claims.  Citing the preamble to the Supreme Court Rules, the court explained that the rules assist the courts in determining whether lawyers have met the standards of care applicable in each case.  The court explained that Rule 20:1.8(a) was not determinative on the viability of Sands’ unjust enrichment claim because Sands was not engaged in “the practice of law in Wisconsin” during the time period at issue.

After fully evaluating the unjust enrichment claims, the court also upheld the court of appeals’ decision to dismiss Menard’s, Inc.’s counterclaim against Sands for breach of fiduciary duty.  The purported claim arose from the closing of a 2005 transaction in which Sands was involved; however, the claim was not asserted until after Sands sued Menard years later.  The court determined that Menard – a very experienced businessman – knew or should have known that he needed to investigate Sands’ role in the transaction sooner, and thus, the statute of limitations barred his claim.  Finally, the court upheld the dismissal of claims by Sands against Menard Trustees on the grounds that Watts does not support an unjust enrichment claim against a third party, because such a claim would lack the necessary joint enterprise.

Justice Abrahamson concurred in part and dissented in part, and was joined by Justice Ann Walsh Bradley.  The dissent opined that Sands did state an adequate claim for unjust enrichment such that the claim should proceed, taking particular issue with the majority’s comparison of the facts in Watts and its progeny to the facts in this case.

This case highlights the importance of clear agreements between business partners and cohabitating partners to avoid confusion and potential litigation.  Even the most experienced business people and attorneys can become involved in litigation when the parties’ relationship terms are unclear.

Appeals Court Limits Pro Rata Insurance Policy Distributions To Post-Trial Liability Determinations

Published by Bruce Huibregtse, Gregory M. Jacobs on | Permalink

In Lovelien et al. v. Austin Mutual Insurance Company et al., No. 2016AP1679 (Wis. Ct. App. Dec. 27, 2017), the Wisconsin Court of Appeals addressed an issue that often arises when multiple claimants allege damages against an insured and the total damages claims exceed the coverage limits of the relevant insurance policy: does Wisconsin law impose any restrictions or other obligations on how an insurer elects to distribute the available funds among the claimants through pre-verdict settlements?

In Lovelien, Austin Mutual had issued a $500,000 liability policy to an insured who was facing claims from multiple parties in excess of that amount arising from a multi-fatality automobile accident.  After failing to reach a global settlement, Austin Mutual settled with all but two of the claimants for $245,000.  Austin Mutual then deposited the remaining $255,000 with the court clerk and the court distributed those limited funds equitably between the remaining two claimants.  Lovelien, slip op. at ¶¶ 5-6.  The two remaining claimants appealed, arguing that Austin Mutual’s settlement and release with the other claimants violated Wisconsin’s “direct action” statute.  Id. ¶ 12. 

Wisconsin’s direct action statute states the following:

Any bond or policy of insurance covering liability to others for negligence makes the insurer liable, up to the amounts stated in the bond or policy, to the persons entitled to recover against the insured for the death of any person or for injury to persons or property, irrespective of whether the liability is presently established or is contingent and to become fixed or certain by final judgment against the insured. 

Wis. Stat. § 632.24.

According to the appellants, Austin Mutual’s partial settlement and release violated the clear intent of this statute by making payments to certain claimants without a determination of each claimant’s equitable pro rata share of the $500,000 policy limit based on the amount of damages each claimant suffered.  Lovelien, slip. op. at ¶ 12.

Writing for a unanimous Court of Appeals, Judge Seidl rejected the appellants’ argument.  Noting that courts are bound by unambiguous statutory language, Judge Seidl explained that the direct action statute merely creates an avenue for a claimant to recover directly from an insurer without having to first establish an insured’s liability.  While the statute does limit an insurer’s exposure to the relevant policy limit, it otherwise is silent as to how an insurer must distribute those funds among the claimants.  To accept the appellants’ argument, the Court held, would be tantamount to impermissibly inserting additional requirements into the statute.  Id. ¶¶ 14-19.

The Court further held that the appellants’ position was unsupported by the Wisconsin case law they cited, as those cases all addressed factually distinguishable post-verdict pro rata distributions where the respective liability of the insured to each claimant had already been established.  Placing the same pro rata burden on an insurer prior to trial would curtail both the insurers’ and claimants’ rights to settle, reasoned the Court, as it arguably would require every multi-claimant dispute to proceed to trial.  Moreover, to the extent that allowing an insurer to enter into potentially inequitable (non pro rata) partial settlements prior to trial creates valid public policy concerns, the Court concluded that it is up to the legislature to determine what public policy best serves the people of Wisconsin.  Id. ¶¶ 20-22.

Having been recommended by the Court for publication as binding Wisconsin precedent, the Lovelien decision raises a number of questions and concerns for those injured by Wisconsin insureds.  Under circumstances where an insured’s policy limits are well below the total amount of damages incurred by multiple injured parties, is an insurer free to simply pick and choose which party or parties get rewarded with the available funds?  May an insurer pay the full policy amount to one claimant and leave the other victims wholly uncompensated?  May an insurer use the threat of paying the available policy limits to other claimants as a sword during settlement negotiations to create leverage? Under the rationale applied by the Court here, the answer to all of these questions now appears to be “yes” in Wisconsin.

In the wake of Lovelien, therefore, parties involved in multi-victim accidents in Wisconsin should attempt to identify as early as possible whether any potentially responsible party may be underinsured and, if discovered, alter their settlement negotiation strategy accordingly.  Under such circumstances, failing to engage in prompt settlement discussions with Wisconsin insurer(s) could result in the policy limits being distributed to other claimants, leaving a party to have to pursue an insured directly to seek redress.

Stafford files U.S. Supreme Court amicus brief on scope of 5th Amendment Self-Incrimination Clause

Published by Jeffrey A. Mandell, Erika Bierma on | Permalink

The Fifth Amendment to the U.S. Constitution guarantees that “no person . . . shall be compelled in any criminal case to be a witness against himself.” U.S. Const. amend. V. In February, the Supreme Court of the United States will hear City of Hays, Kansas v. Vogt (No. 16-1495), a case about the scope of that guarantee.

The Vogt case asks “whether the prosecution’s use of a defendant’s prior compelled statement used in a preliminary hearing as evidence to his guilt violates the Fifth Amendment?” Stafford Rosenbaum filed a brief on behalf of the National Association of Criminal Defense Lawyers (NACDL) and the American Civil Liberties Union (ACLU) urging the Court to answer the question with a “yes.”

Factual and Procedural Background

Vogt was a police officer for the City of Hays. In 2013, he applied for a police job with the City of Haysville. (Despite similar names, the cities are almost 200 miles apart.) During the hiring process, Vogt disclosed that he had kept a knife that he obtained while working as a Hays police officer. Haysville offered him a job, conditioned upon his returning the knife to the Hays police department.

When Vogt returned the knife, the Hays police chief opened an internal affairs investigation to determine whether the circumstances constituted a violation of department policy. As required by his job with the Hays police department, Vogt cooperated with the inquiry, including by giving a statement about his possession of the knife. Vogt then gave his two-week notice. The officer leading the internal investigation required Vogt to provide a more detailed statement. The police chief forwarded Vogt’s second statement to the Kansas Bureau of Investigation (KBI), which opened a criminal investigation. That investigation led to two felony criminal charges against Vogt. As a result of those charges, Haysville withdrew its job offer to Vogt.

Because the charges against Vogt were felonies, Kansas law entitled him to a preliminary hearing. The purpose of such a hearing is for a judicial officer to determine whether the prosecution has enough evidence to show probable cause and move forward to trial. At the preliminary hearing, the prosecution used the statements Vogt provided during the Hays police department’s internal investigation. The district court dismissed the charges because it concluded that, even with Vogt’s statements, the prosecution lacked probable cause to proceed.

Vogt then filed a federal civil rights suit, alleging that the use of statements he made during his employer’s internal investigation to initiate a criminal case against him violated the Fifth Amendment’s guarantee against self-incrimination. The district court rejected this theory. But, on appeal, the U.S. Court of Appeals for the Tenth Circuit held that the Fifth Amendment applies to preliminary hearings so that Vogt’s suit should have been allowed to proceed. The Supreme Court granted a writ of certiorari to resolve a disagreement among various federal courts of appeals about the scope of the self-incrimination guarantee.

The arguments made by NACDL and the ACLU

As amici, NACDL and the ACLU presented three arguments to the Court.

First, the constitutional text and Supreme Court precedent support the application of the Self-Incrimination Clause to preliminary hearings. The term “criminal case” means “an action, cause, suit, or controversy at law” or “a question contested before a court of justice.” Chavez v. Martinez, 538 U.S. 760, 766 (2003) (plurality) (citing Blyew v. United States, 13 Wall. 581, 595 (1872)). While Chavez did not pinpoint when a “criminal case commences” for Fifth Amendment purposes, it clearly did not limit the guarantee against use of compelled statements to trial, stating that “‘[a] criminal case’ at the very least requires the initiation of criminal proceedings.” Id. at 766. It follows that an adversarial, evidentiary proceeding held after a criminal complaint has been filed by a prosecutor, designed for a judicial officer to determine whether there is sufficient evidence proceed to trial, is part of the criminal case at which compelled self-incriminating statements may not be used.

The Self-Incrimination Clause also applies by its own terms because a preliminary hearing is a stepping stone to conviction. When a preliminary hearing is held, the judicial officer’s finding of probable cause is a necessary precondition for the prosecution to proceed to criminal conviction. That means that the preliminary hearing—assuming the prosecution prevails at that hearing—moves the defendant one step closer to conviction; and if the prosecution does not prevail the criminal case is over. Using a defendant’s compelled statement against him in such a hearing is, therefore, part and parcel of the defendant’s path to conviction.

Second, a determination that the Self-Incrimination Clause does not apply to preliminary hearings would severely prejudice defendants. Preliminary hearings require only probable cause—a much lower bar than the beyond-a-reasonable-doubt standard used at criminal trials. Allowing a prosecutor to clear that bar with a defendant’s self-incriminating statement undermines the Constitution and the purposes of a preliminary hearing. Allowing cases to proceed by using a defendant’s self-incriminating statement is inefficient and unjust. Postponing consideration of challenges under the Fifth Amendment harms defendants and distorts the criminal justice system. Requiring a defendant to wait after the preliminary hearing to adjudicate the admissibility of their own statement is too late. Some defendants will plead guilty long before reaching such an adjudication. This is true because very few criminal cases—fewer than a handful of every 100 prosecutions—proceed to trial. As a result, a preliminary hearing may be the only “day in court” that a defendant has.

Third, none of the concerns cited by the U.S. Department of Justice in support of its position that the Tenth Circuit decision should be reversed can withstand scrutiny. Moreover, the government’s position carries a chilling implication. By the Government’s logic, nothing would prevent a prosecutor from compelling a defendant to take the witness stand and forcing him to testify at a preliminary hearing, as long as the testimony was not used at trial. Such a scenario is inimical to the absolute protections the Court has long understood the Self-Incrimination Clause to confer. A ruling that countenances such a practice would be a substantial and deleterious change in constitutional doctrine.

Conclusion

This case presents a significant self-incrimination question. The Court’s decision could significantly affect Fifth Amendment jurisprudence. Oral argument will be held February 20. Stafford Rosenbaum’s Appellate Practice Blog will report on further developments as the case progresses

WI COURT OF APPEALS CONFIRMS LIMITED LIABILITY EXPOSURE FOR BANKS UPON EMBEZZLEMENT BY EMPLOYEES

Published by Richard Latta, Gregory M. Jacobs on | Permalink

On December 12, 2017, the Wisconsin Court of Appeals addressed a civil dispute arising from the high-profile criminal embezzlement scheme committed by Koss Corporation Vice President of Finance, Sujata (“Sue”) Sachdeva.  At issue were allegations Koss made against its bank seeking recovery on the theory that the bank committed bad faith in not detecting the embezzlement scheme. See Koss Corp. v. Park Bank, No. 2016AP636 (Wis. Ct. App. Dec. 12, 2017).

Koss’s complaint alleged that Park Bank of Milwaukee, Wisconsin, violated Wisconsin’s Uniform Fiduciaries Act (“UFA”) by allowing Ms. Sachdeva to embezzle about $34 million from Koss accounts for personal use. Ms. Sachdeva used a variety of ways to embezzle the $34 million, including requesting cashier’s checks and cashing checks made out to “petty cash,” as well executing wire transfers to pay personal credit card bills.  Koss alleged the bank’s failure to discern Ms. Sachdeva’s embezzlement scheme amounted to a violation of Wis. Stat. § 112.01(9), which exposes a bank to liability if it permits transactions “with knowledge of such facts that [the Bank’s] action in paying the check amounts to bad faith.”

The bank moved for summary judgment, asserting that no material facts established it had intentionally or deliberately allowed the transactions to occur in bad faith.  At the circuit court, the court held that Koss had failed to cite any evidence that the bank “intentionally ignored Sachdeva’s embezzlement,” without which there was no way to show the bank acted in bad faith.  The court further noted that the circumstances established only the bank may have been negligent in failing to uncover the fraudulent conduct, but that one of the purposes in adopting the UFA was to eliminate negligence claims against banks arising from transactions where employees or other persons acting as an agent of a depositor commit an act causing a loss to the depositor. 

On appeal, Koss took the position that, although the bank lacked actual knowledge of Ms. Sachdeva’s embezzlement scheme, the circumstances raised enough red flags that a factfinder could conclude that the bank’s failure to detect the fraudulent transactions amounted to bad faith under the UFA.  In support of its position, Koss cited to (1) the large volume of improper checks—adding up to millions of dollars—Sachdeva requested, (2) the bank allowing unauthorized Koss representatives to request, endorse, and pick up checks, (3) the bank’s acceptance of checks payable to companies with cryptic initials (e.g., “N.M., Inc.” for Neiman Marcus and “S.F.A., Inc.” for Saks Fifth Avenue), (4) after-the-fact deposition testimony from a bank employee that the large number of cashier’s checks requested were “strange,” (5) Ms. Sachdeva’s testimony that she chose the bank at issue because of the ease in which she could conduct her fraudulent transactions, and (6) the bank’s failure to implement and/or enforce proper fraud-detection policies and procedures.

Despite this evidence, the Court of Appeals affirmed the circuit court by dismissing Koss’ claim of bad-faith.  Consistent with cases from other jurisdictions interpreting the UFA, our Court of Appeals concluded that to effectively bring a claim of bad faith under the UFA a depositor needs “proof of two elements: (1) circumstances that are suspicious enough to place a bank on notice of improper conduct by the [employee embezzling the depositor’s money on deposit]; and (2) a deliberate failure [by the bank] to investigate the suspicious circumstances because of a belief or fear that such inquiry would disclose a defect in the transaction at issue.”  Id., ¶ 27.

While the Appeals Court acknowledged that Koss cited ample evidence to establish the bank’s negligent failure to investigate and discover Ms. Sachdeva’s embezzlement scheme, it concluded that Koss failed to adduce facts sufficient to allow a factfinder to determine that the elements of proof for bad faith under the UFA were satisfied:

Although the transactions Sachdeva engaged in may appear suspicious or odd in hindsight, Koss has not cited any evidence to indicate that, in the larger context of Koss’s banking practices and the banking practices of Park Bank’s other corporate clients, the transactions were suspicious enough to put Park Bank on notice of Sachdeva’s misconduct.  Koss also fails to cite any evidence indicating that Park Bank deliberately declined to investigate Sachdeva’s transactions due to a fear that further inquiry would disclose defects in them.

Id., ¶ 51.  The Appeals Court then concluded that allowing Koss’ claim to proceed would be contrary to the UFA’s purpose of insulating banks from the misconduct of a depositor’s employees.  Id., ¶ 52.

This decision highlights how important it is for businesses to adopt and enforce internal monitoring protocols for financial activities by their employees and agents.  By adopting the UFA, Wisconsin has allocated the risk of loss stemming from fraudulent financial transactions to businesses rather than banks in all but the most egregious circumstances.  Businesses failing to take notice of suspicious financial activities (1) not only expose themselves to the risk of severe financial losses, but also (2) if the business has publicly traded securities then they may expose themselves to possible violations of federal securities law for failing to properly ensure the accuracy of their financial reporting.  See id., ¶ 12 n.4 (noting an adverse judgment entered against Koss pursuant to SEC lawsuit).

Please feel free to contact Greg Jacobs or Rich Latta if you would like to discuss any of the matters discussed above.

While a law firm with which Mr. Latta was previously affiliated may have provided legal representation of a party mentioned in Koss Corporation v. Park Bank, Mr. Latta did not represent any party involved and the thoughts expressed herein are strictly his own.

2017 WISCONSIN ACT 67 MAKES MAJOR CHANGES TO WISCONSIN LAND USE LAW

Published by Jeffrey A. Mandell, Matthew Dregne on | Permalink

A new law signed by Governor Walker makes major changes to how private property can be regulated in Wisconsin. This new law, 2017 Wisconsin Act 67 (the “Act”), makes broad changes. This post addresses two aspects of the Act: changes to conditional use permits and preemption of clauses that merge substandard lots.

Conditional use permits

Before the Act, conditional use permit regulations were a flexible zoning tool that allowed potentially objectionable land uses, but only if the community determined that the use would meet specified standards. For example, a community might use a conditional use process to authorize a restaurant or nightclub in a neighborhood business district, but first require the applicant to demonstrate that the proposed operation will not lead to noise, traffic, or other conflicts with neighboring properties.

Act 67 changes or casts doubt upon several longstanding practices associated with conditional use regulations and proceedings. Historically, Wisconsin courts have upheld ordinances that contained generalized standards allowing the community to consider a proposed conditional use’s impacts on public health, safety, and general welfare. Plan commissions and governing bodies have had the right to consider a broad range of testimony from concerned citizens. Communities have had the right say no to a proposed conditional use, if the applicant failed to convince the community that the proposed use met specified community standards. The Act alters all of these practices.

First, the Act requires that standards governing conditional uses be “reasonable and, to the extent practicable, measurable….” This new requirement is certain to spark litigation. We anticipate legal challenges to generalized health, safety, and welfare standards that are common in zoning codes but leave significant discretion to municipal decision-makers. Especially in the short-term, communities will likely struggle to identify standards that will withstand legal scrutiny when challenged under the Act. Even before the courts weight in, it is clear that the Act reduces the flexibility local governments had under prior law.

Second, the Act prohibits a community from basing a conditional use permit decision on “personal preferences or speculation.” Much public testimony will be subject to challenge under this language. Public testimony from citizens about the impact of a proposed conditional use will be off-limits, unless it is directly tied to “reasonable” and “measurable” standards. The Act enables permit applicants to challenge adverse public testimony on the theory that it improperly expresses personal preferences or contains speculative personal opinions. Members of the public are not always experts in science or the law, and it may prove difficult for many to provide testimony that meets the requirements of the Act.

Third, the Act instructs that, where an applicant “meets or agrees to meet all of the requirements and conditions specified” in the ordinance or imposed by the decision-maker, the conditional use permit must be granted. This language appears to put the burden on the community to prove that a proposed conditional use cannot meet “reasonable” and “measurable” standards. This reverses prior law, which placed the burden on the applicant to show that it would meet the community’s standards.

In light of these changes, Wisconsin communities will likely reevaluate their ordinances—and even the viability of conditional use regulations. The Act may significantly decrease the incidence of the conditional use process. It may prove much easier for local governments to delete potentially objectionable land uses from their zoning codes than to develop new conditional use standards and practices that comply with the Act.

Merger clauses

The Act also creates new statutory provisions, Wis. Stat. § 66.10015(4) and § 227.10(2p), that preempt any ordinance, rule, or action requiring lots to be merged without the consent of the owners. Like the treatment of conditional use permits, this is a significant departure from settled law.

As the U.S. Supreme Court noted earlier this year, merger provisions are “legitimate exercise[s] of government power, as reflected by [their] consistency with a long history or state and local merger regulations that originated nearly a century ago.” Murr v. Wisconsin, 137 S. Ct. 1933, 1947 (2017). Merger provisions are also widespread in Wisconsin, in use by more than two-thirds of Wisconsin counties. See Brief of Amici Curiae Wis. Counties Ass’n, et al. at 7, Murr v. Wisconsin, No. 15-214 (U.S.) (filed June 16, 2016).

The state’s blanket preemption of merger provisions will remove a major tool that local governments and regulatory agencies have used to reduce the number of properties too small to comply with land-use restrictions. “When States or localities first set a minimum lot size, there often are existing lots that do not meet the new requirements, and so local governments will strive to reduce substandard lots in a gradual manner.” Murr, 137 S. Ct. at 1947. As the Supreme Court recognized, one “classic way of doing this” is “by implementing a merger provision, which combines contiguous substandard lots under common ownership, alongside a grandfather clause, which preserves adjacent substandard lots that are in separate ownership.” Id. The Act’s preemption of merger provisions removes this tool to ameliorate the number of substandard lots.

Moreover, the Act favors substandard lots over minimum lot-size regulations. It creates another new provision, Wis. Stat. § 66.10015(2)(e), which prohibits a local government from taking any action “that prohibits a property owner from…conveying an ownership interest in a substandard lot [or] using a substandard lot as a building site.…” Property regulators are thus restricted in two ways: they cannot restrict the development of properties that do not meet current restrictions and they cannot reduce the number of such properties through merger. Under the new rules, once a property has been created and recognized by law, it is largely immune from later-enacted restrictions on development or sale.

Municipalities should review their ordinances for provisions restricting substandard lots or providing for merger of such lots that are now inconsistent with state law.

While Act 67’s changes are substantial, they do not go as far as the sponsors of the legislation initially proposed. The legislation that became Act 67—2017 Assembly Bill 479—was initially introduced as an effort to reverse the outcome in Murr. There, Wisconsin state courts and then the U.S. Supreme Court affirmed the use of land use regulations and a merger clause as proper exercises of regulatory authority to protect environmentally sensitive land along the shores of the Lower St. Croix River. (For more about the Murr case, go here, here, and here.)

As initially proposed, the responsive legislation sought not only to protect substandard lots but also to adopt by statute a lower legal threshold for a plaintiff to prove that a land-use restriction constituted a government taking that necessitates government compensation of the landowner. The Wisconsin legislature amended the legislative language to remove the takings language. For land-use regulators, this small victory may be cold comfort given the extensive ways the Act limits the tools available to them.

Circuit Court Ordered to Enforce Option-to-Purchase Provision in Commercial Real Estate Lease

Published by Susan Allen, Gregory M. Jacobs on | Permalink

District II of the Wisconsin Court of Appeals recently remanded a commercial lease dispute back to the Waukesha County Circuit Court, directing the court to enforce the parties’ agreed-upon option-to-purchase provision as written.  See Headstart Building, LLC v. National Centers for Learning Excellence, Inc., No. 2016AP434 (Wis. Ct. App. Nov. 8, 2017).

The dispute originated from a 2002 commercial lease in which Headstart Building, Inc. (“Headstart”) agreed to lease real estate property in Waukesha to National Centers for Learning Excellence, Inc. (“NCLE”).  Id. ¶ 5.  The lease included a provision allowing NCLE to invoke an option to purchase the property at any time.  The following language in the option-to-purchase provision is the focus of the parties’ dispute:

In the event Tenant shall elect to exercise Tenant’s option to purchase the Premises, Landlord and Tenant shall each choose an appraiser to appraise the Premises which appraisals must be completed within forty-five (45) days of the date Tenant notifies Landlord that it intends to exercise its option to purchase.  In the event the fair market value of the Premises in the two appraisals differs by no more than five percent (5%), the Appraised Value shall be the average of the two appraisals.  In the event the appraised value of the Premises in the two appraisals differs by more than five percent (5%), the two appraisers shall agree upon a third appraiser and the result of such third appraisal shall be the Appraised Value.

Id. ¶ 6.

In December 2012, NCLE invoked its right to purchase the property, and the two parties commissioned their respective appraisals.  Headstart’s appraiser valued the property at $6.88 million dollars while NCLE’s appraiser issued a $4.075 million valuation.  Upon comparing the two appraisals, it became clear that the cause of such a wide discrepancy was the differing methodologies employed by the appraisers.  Headstart’s appraiser determined the fair market value with consideration of the current NCLE lease encumbrance, while NCLE’s appraiser calculated the fair market value of the property free and clear of the current lease.  Id. ¶¶ 7-8.

Rather than following the terms of the option-to-purchase provision and have their respective appraisers seek a third party to resolve the conflict, the parties instead engaged in written correspondence disputing the proper methodology to calculate the fair market value of the property.  Once those communications broke down, Headstart filed suit in Waukesha County Circuit Court requesting specific performance of the option-to-purchase (at $6.88 million) and damages arising from NCLE’s bad faith breach of the lease.  NCLE filed a declaratory judgment counterclaim, requesting the court to declare the proper appraisal methodology.  Id. ¶ 9.

After a two-day bench trial, Judge Haughney issued an oral ruling rejecting Headstart’s breach of contract and bad faith claims, though it was unclear from the record whether the grounds for the dismissal was based on Headstart’s failure to follow the option’s procedure of seeking a third appraisal or because the court concluded that the parties’ differing appraisal methodology positions represented a failure to reach a meeting of the minds, rendering the entire provision unenforceable.  Judge Haughney requested supplemental briefing regarding the fate of NCLE’s declaratory judgment counterclaim, and ultimately dismissed that claim as moot on the ground that the option provision was unenforceable and must be stricken from the lease in its entirety.  Id. ¶¶ 10-11.

After NCLE filed an appeal seeking to revive its declaratory judgment counterclaim, the Wisconsin Court of Appeals overruled the Circuit Court’s order striking the option from the lease.  Writing for the Court, Judge Hagerdorn noted that, while essential contractual terms (such as the purchase price in a real estate transaction) must be definite in order to be enforceable, it is well-settled under Wisconsin law that the terms need not be 100% certain so long as they are “capable of being ascertained from the agreement itself.”  Id. ¶ 17.  The Court referenced a long line of Wisconsin precedent upholding real property contracts setting a “fair market value” price to be determined by appraisement, and concluded that the parties’ dispute was one of differing interpretations of agreed-upon contractual terms.  Id. ¶¶ 17-22.   In conclusion, the Court found that the provision provided a simple, straightforward and definite means of determining the purchase price: either the average of the parties’ respective appraisals or, if the difference between those values was too great, the third appraised value of the property.  Id. ¶ 22.

Despite this conclusion, however, the Court found that substantive questions regarding the meaning of the option-to-purchase provision were not before it on appeal and remanded the case to the Circuit Court to address NCLE’s declaratory judgment counterclaim regarding whether the parties must appraise the property with consideration of the NCLE lease encumbrance.  Id. ¶¶ 24-25.  In a concurring opinion, Presiding Judge Reilly disagreed with these remand instructions, concluding that the proper methodology for determining the fair market value of commercial real estate is not a question of law for the courts to decide and that the provision here provides a dispute resolution procedure (i.e., a third appraisal) that should be enforced.  Id. ¶¶ 26-29.

While exercising restraint in only addressing the narrow question presented to it on appeal (whether NCLE’s declaratory judgment claim was properly dismissed), the Court of Appeals’ analysis leaves little doubt in the enforceability of the entirety of the parties’ option-to-purchase provision, including their agreed-upon means of resolving any valuation disputes through the use of a third appraiser.  It will be interesting to see if the Circuit Court follows the Court of Appeals’ lead on remand or instead elects to resolve the substance of the parties’ “fair market value” appraisal methodology dispute, which is one of first impression in Wisconsin.  See id. ¶ 24 n.7

U.S. Supreme Court Reiterates That Not All Procedural Time Limits Are Jurisdictional

Published by Jeffrey A. Mandell, Meg Vergeront on | Permalink

The U.S. Supreme Court’s first decision of the current term involves a suit alleging age and sex discrimination in the workplace. But the Court addressed only an important, though technical, issue about deadlines for appellate filings. Hamer v. Neighborhood Housing Services of Chicago, No. 16-658, was argued on October 10. The Supreme Court quickly turned around a unanimous decision on November 8, 2017, authored by Justice Ruth Bader Ginsburg.

Charlaine Hamer brought a federal lawsuit for employment discrimination. The trial court granted summary judgment in favor of the defendants. Under 28 U.S.C. 2107(a) and Federal Rule of Appellate Procedure 4(a)(1)(A), Ms. Hamer had 30 days from the entry of judgment to notice an appeal. But a few days before the 30-day deadline, Ms. Hamer’s attorneys sought both to withdraw from the case due to strategic differences with the client and requested a 60-day extension of the appeal deadline so that Ms. Hamer could find new counsel for her appeal. The trial court granted both motions. Represented by new counsel, Ms. Hamer filed her appeal shortly before the extended deadline.

The U.S. Court of Appeals for the Seventh Circuit, however, questioned whether it had jurisdiction over Ms. Hamer’s appeal and asked the parties to brief that issue. As the appellate court noted, Federal Rule of Appellate Procedure 4(a)(5)(C) limits extensions of time for noticing an appeal to no more than 30 days after the initial deadline. Federal statute—28 U.S.C. 2107(c)—also addresses extensions, but it does not set an outer limit for their length. Here, the district court had granted Ms. Hamer a 60-day extension.

The difference between the statutory text (which does not limit the length of an extension) and Rule 4(a)(5)(C) (which does) has divided appellate courts. Two circuits had deemed the limitation in Rule 4(a)(5)(C) a mandatory claims-processing rule, which means it must be followed but can be waived or forfeited such that there are circumstances where an appeal could be timely even if filed during an extension longer than the Rule countenances. Three circuits had deemed the limitation jurisdictional, which means they considered it an absolute bar to proceeding with an appeal filed after the outside limit of the rule, regardless of circumstances. In Ms. Hamer’s case, the Seventh Circuit joined the jurisdictional side of this split.

The Supreme Court clarified that the 30-day limitation on extensions in Rule 4(a)(5)(C) is a mandatory claims-processing rule, not a jurisdictional limit. The Court reiterated that limits prescribed by congressionally enacted statutes mark jurisdictional boundaries, whereas those prescribed by judicially crafted rules present mandatory claims-processing rules. Here, because the statute governing the timing of appeals—28 U.S.C. 2107—does not itself limit the length of a potential extension, the 30-day restriction in Rule 4(a)(5)(C) is not jurisdictional.

While 28 U.S.C. 2107 had, prior to 1991, limited extensions of the deadline to notice an appeal to 30 days, the Supreme Court refused to speculate that Congress’s deletion of that limit was inadvertent. See Hamer, slip op. at 7-8. And though a prior Supreme Court decision had stated that “the taking of an appeal within the prescribed time is ‘mandatory and jurisdictional,’” Bowles v. Russell, 551 U.S. 205, 207 (2009) (quoting Griggs v. Provident Consumer Discount Co., 459 U.S. 56, 61 (1982) (per curiam)), the Hamer Court explained that the word “jurisdictional” is now more carefully and precisely used. See Hamer, slip op. at 9-10.

What’s next? Ms. Hamer’s case goes back to the Seventh Circuit. And future appellate litigants and their attorneys should proceed cautiously, recognizing that the rule allowing an extension of up to thirty days to notice an appeal is a mandatory claims-processing rule, not a jurisdictional limitation.

Law clerk Laura Lamansky assisted with researching and writing this blog post.

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