In most houses, Halloween lasts until the kids eat that last candy bar — saving it from their parents’ grasp.  So I don’t think it’s too late to spotlight a case that’s bound to scare in-house counsel, in which the New Jersey Supreme Court recently ruled that the remedy of disgorgement can be applied to “disloyal” GC’s — even in the absence of economic harm to the company.

Disloyal GC

The New York lawyer in Kaye v. Rosefielde worked as general counsel and chief operating officer for plaintiff’s various real estate businesses and time-share entities at an annual salary of $500,000.  Evidence presented at a bench trial led to a finding that the lawyer had committed a variety of misconduct during the two years he had been employed, including self-dealing and breach of the duty of loyalty.

The trial court ordered rescission of the interests that the lawyer had improperly acquired in some of the plaintiff’s entities.  But the court refused to order that the lawyer to disgorge his compensation, because “there was no evidence that Rosefielde’s breach of his fiduciary obligations to his employer resulted in actual damage to any of the plaintiff entities.”

The intermediate appellate court affirmed that ruling.  The N.J. Supreme Court solely reviewed the disgorgement ruling, examining whether “whether a showing of economic loss by an employer is a prerequisite to granting the remedy of equitable disgorgement.”   The state’s high court said “No,” reversing and remanding.

Remedy not dependent on economic damages

In holding that economic loss is not required in order to impose disgorgement as a remedy, the court looked to Cameco, Inc. v. Gedicke, a 1999 case that didn’t involve an employee who was a lawyer.  There, although discussing equitable disgorgement only briefly, the court said that “the remedy is not contingent on a finding of damages,” and “noted the absence of any showing …  that the employer had suffered money damages ‘proximately caused’ by the employee’s disloyalty.”

The supreme court in Kaye also relied on the Restatement (Third) of Agency, § 8.01 cmt. d(2) (2005), on remedies for breach of fiduciary duty, which says that a disloyal agent “may be required to forfeit … compensation paid or payable to the agent” during the relevant time.  There is no mention of any required proximate link between the agent’s disloyalty and proximate economic harm to the principal.

On the question of how much the disloyal agent must forfeit, the Restatement view is that the “better rule permits the court to consider the specifics of the agent’s work,” the nature of the breach of duty and whether the disloyalty “tainted all of the agent’s work” or only specific transactions, leading to apportionment of the disgorgement remedy.

Remand for consideration of apportionment factors

That is the approach that the court in Kaye took, remanding for consideration of several factors:

  • degree of employee’s responsibility and compensation level;
  • number of disloyal acts;
  • possible jeopardy to the employer’s business resulting from disloyalty; and
  • degree of planning the employee carried out in pursuing disloyal acts.

Following the Restatement’s lead, the court directed that on remand the trial court “should apportion the employee’s compensation, rather than ordering a wholesale disgorgement that may be disproportionate to the misconduct at issue.”

Law Governing Lawyers

Interestingly, the court in Kaye did not look to a specific provision in the Restatement (Third) of the Law Governing Lawyers that deals with disgorgement.  Section 37 says that lawyers “engaging in clear and serious violation of duty to a client may be required to forfeit some or all of the lawyer’s compensation for the matter. Considerations relevant to the question of forfeiture include the gravity and timing of the violation, its willfulness, its effect on the value of the lawyer’s work for the client, any other threatened or actual harm to the client, and the adequacy of other remedies.”  (Emphasis added.) Perhaps any consideration of “actual harm to the client” was a complicating factor that the Kaye court wanted to exclude from its analysis.

At any rate, Kaye points to the scary moral:  one of the remedies for employee-lawyer disloyalty can be disgorgement, without any nexus to economic damage to the employer-client.