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Lease-Leaseback Bill Dies in Committee, California Supreme Court Denies Petition to Review Fresno Case

September 3, 2015

There were two developments during late August regarding the use of “lease-leaseback” contracts.

At the State Capitol, a bill supported by contractors who are interested in continuing lease-leaseback contracts died in committee. On August 25, the Fresno Bee reported that:

A late-blooming bill aimed at protecting school construction contractors from financial losses if their “lease-leaseback” deals are voided by the courts appears to have died just a week after being introduced.

Sen. Carol Liu, D-La CaƱada Flintridge, who chairs the Senate Education Committee, spurned pleas by lobbyists for the contractors to hear the measure, Assembly Bill 975.

A spokesman for the bill’s author, Assemblyman Kevin Mullin, D-South San Francisco, said the issue will be set aside for the remainder of this year’s legislative session, which has scarcely two weeks to run. “We won’t be pursuing it at this time,” the spokesman said.

The issue arose when the 5th District Court of Appeal in Fresno declared that a lease-leaseback contract issued by Fresno Unified School District for the construction of Rutherford B. Gaston Middle School violated state competitive bidding and conflict of interest laws.

Fresno Unified is appealing to the state Supreme Court but if the decision is upheld, it could invalidate contracts for completed school projects totaling several billion dollars around the state including, potentially, one in Mullin’s hometown. And under state “disgorgement” law, contractors could be compelled to pay back the money.

Lease-leaseback contracts have been authorized for years, generally involving long-term leases at the end of which schools become the property of the districts, but in Fresno’s case, the lease lasted only for the construction period and involved a contractor, Harris Construction, which had been retained as a consultant before receiving the contract.

A rival contractor, Stephen Davis, sued, alleging that the Harris deal misused lease-leaseback authority and won on appeal.

Ever since, lobbyists for contractor groups such as Associated General Contractors and the Coalition for Adequate School Housing have sought legislative relief. Last week, Mullin, through a gut-and-amend maneuver, placed in AB 975 a provision that contractors would be entitled to keep lease-leaseback payments even if their contracts were voided, as long as they had dealt in “good faith.”

Opposition developed from taxpayer groups and lawyers who had pursued the Fresno case and after meeting with stakeholders on Monday, Liu decided not to hear AB 975 and pursue, instead, a broader look at lease-leaseback arrangements next year.

The case has become a burning controversy in Fresno with critics saying that Fresno Unified Superintendent Michael Hanson had become personally chummy with the owner of Harris Construction. Hanson, however, has defended the contract as saving money and time. Fresno Unified Trustee Brooke Ashjian has said that FBI agents had sought information about the disputed contract.

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The other development occurred in San Francisco. In a closely watched action on August 26, the California Supreme Court denied petitions for review of the opinion in Davis v. Fresno Unified School District (June 1, 2015) case no. F068477 (5th App. Dist.). The Court has also denied requests for depublication of the case by the school district and various statewide organizations interested in the outcome. This means that a lawsuit will be allowed to proceed against a particular lease-leaseback arrangement that is similar to many in use by school districts in the State, and the trial court will be bound by the guidance provided by the Fifth District Court of Appeal in its decision. The lawsuit will also be allowed to proceed on a civil cause of action for conflict of interest under Government Code section 1090, et seq., seeking to invalidate the contract on the basis of an alleged conflict of interest involving an outside consultant.

The appellate court's decision called into question a number of aspects of many school district lease-leaseback agreements. The Davis court also addressed conflict of interest in a manner that is applicable to all local agencies. The court allowed further legal action on a claim that the contractor, as a pre-construction consultant to the school district, participated in the making of a contract in which it subsequently became financially interested, and thus potentially violated conflict of interest laws. With today's action by the Supreme Court, the appellate court's opinion will remain binding law, although it could be overturned in the future by legislative action or, eventually, by a further appellate ruling if the case is again appealed after the trial court has completed proceedings in this case.

The Davis case will now return to the trial court. Because of the scrutiny of lease-leaseback agreements that has followed the Davis case, and may continue until the case is finally resolved, school districts may wish to work particularly closely with their legal counsel on lease-leaseback issues and agreements.

Sources:  Fresno Bee, Lozano Smith law firm.



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