LEGAL/LEGISLATIVE ALERT FOR SEPTEMBER, 2020

Published on: August 26, 2020

PANDEMIC CLOUDS

Economists are becoming increasingly concerned about the pandemic-clouded economic outlook. Recent employment reports suggest their concerns may be justified. More than 1.1 million workers submitted initial unemployment claims for the week ending August 15 – more than analysts had expected. The previous week’s total was also revised upward to 971,000 from the preliminary estimate of 923,000. “This is not a sign of a healthy labor market,” Carl Tannenbaum, chief economist at Northern Trust, told the New York Times.

The momentum the labor market had exhibited in May and June also faded in July, as employers added 1.8 million workers to their payrolls. That was more than the most pessimistic analysts had expected, but still well below the nearly 5 million jobs added in June, leaving the economy with a net loss of 13 million jobs since March.  The unemployment rate fell to 10.2 percent- a marked improvement since it hit 15 percent in April, though still above the 10 percent peak in the Great Recession.

Some analysts are warning that July’s troubling employment numbers may understate the damage. One recent survey found that nearly a third of the workers who were recently rehired (and would not have been classified as unemployed in the Labor Department tally) have lost their jobs again. A poll conducted by AP and the NORC Center for Public Affairs Research found that nearly half of the households that have suffered a job loss now expect the loss to be permanent; in the same poll in April, four of five respondents were confident that they would be rehired.

Separately, Challenger, Gray & Christmas, an outplacement firm, reported that U.S. companies slashed nearly 263,000 positions in July, a 54 percent increase over June and the third-highest layoff total the company has ever reported.

“This recession has been really confused, because what we had was really a suppression where we told everybody to stay home — and that wasn’t really job loss,” Betsey Stevenson, a member of the Council of Economic Advisers during the Obama administration, told Politico. “The real question is, when you end the suppression, how many jobs are left? And boy, it sure looks like we lost a whole lot of jobs.”

COCKROACH EFFECT

The housing market is beginning to resemble a cockroach. Like that bug – the only life form expected to survive a nuclear apocalypse – the housing market is one of the few segments of the economy that seems to be surviving, and even thriving, in the fallout from the pandemic.

Sales of existing homes exploded in July, rising nearly 25 percent above June’s total. That represents a healthy 8.7 percent increase over the year-ago level and the strongest sales pace in 14 years. It is also the largest monthly gain in the history of a survey that began in 1968. Inventory levels also set a record, but not a good one. The supply of existing homes for sale shrank by more than 21 percent year-over-year, falling to a 3.1 month’s supply at the current sales pace compared to a 4.2-month supply the same month last year, representing the lowest July inventory since the National Association of Realtors (NAR) launched this survey in1982. The dearth of listings combined with low mortgage rates to offset the pandemic’s drag on the labor market, analysts said.

“I think there is a big societal change concerning housing decisions today,” Lawrence Yun, the NAR’s chief economist said. said Yun. “The upper income bracket has been more stable in terms of jobs, and they are taking advantage of record low mortgage rates.”

Sales of new homes also benefited from the listing shortage, rising by nearly 14 percent in July after posting a 15.1 percent gain in June – a 13-year high. The strong performance boosted both builder confidence and single-family housing starts, which increased by nearly 23 percent in July. Permits for single-family homes, an indicator of future construction activity, increased by 17percent in July and by nearly 16 percent year-over-year.

Despite these signs of strength, the pandemic and the uncertainty of efforts to control it cloud the housing market’s outlook, Danielle Hale, chief economist for realtor.com, cautioned. “Continued healing in the housing market is a positive for the overall economy,” she told CNBC.com. “But elevated jobless claims raise concerns about how sustainable this housing demand [will be]. especially in the face of rising prices.”

Mark Fleming, chief economist for First American Financial, also added a cautionary note. Growing demand from millennials should continue to boost sales, he agreed, “but you can’t buy what’s not for sale. The limited supply of existing homes for sale will continue to be an issue,” he told MarketWatch, “and it will take builders years at a faster pace to build enough new supply to make up for the imbalance between supply and demand.”

COVERAGE BATTLE

Businesses have lost another round in their fight to secure insurance coverage for pandemic-related business losses. The Multidistrict Litigation (MDL) panel rejected a proposal to consolidate 15 separate lawsuits from companies in two states (Pennsylvania and Illinois) into a single proceeding.

The cases the businesses want to consolidate “entail very few common questions of fact, which are outweighed by the substantial convenience and efficiency challenges posed by managing a litigation involving the entire insurance industry, the panel ruled, finding arguments that these problems can be overcome “not persuasive.”

Consolidating the cases “will not serve the convenience of the parties and witnesses or further the just and efficient conduct of this litigation,” the panel concluded.But the panel also suggested that insurers might have a stronger argument for consolidation, because of the common language and common provisions in the insurance policies at issue in the coverage disputes. Because of those similarities, the panel said, “there is a significant possibility the actions will share common discovery and pretrial motion practice.” Centralizing the litigation, the panel added, “could also eliminate inconsistent pretrial rulings [regarding[ the overlapping nationwide class claims most of the insurers face.”

In a related development, a district court judge in Missouri has ruled that a group of hair salon and restaurant owners can proceed with their law suit demanding business interruption coverage for their pandemic losses.

Although hundreds of businesses have filed business interruption coverage suits against insurers, only three U.S. district courts have ruled on the issue to date. Two of them agreed with the insurance industry that COVID did not cause the physical property damage required to trigger coverage, but in a recent decision, Judge Stephen Bough in the Western District of Missouri found potential legal merit in the business owners’ argument that coverage was due, concluding that he virus had, in fact, caused physical damage to their property. “COVID-19 allegedly attached to and deprived Plaintiffs of their property, making it ‘unsafe and unusable, resulting in direct physical loss to the premises and property,’” the judge wrote.

Judge Bough did not rule on the merits of the case; his decision (Studio 417 Inc. et al v Cincinnati Insurance Co,) simply rejected a motion by the insurance industry defendants to dismiss the case, allowing the litigation to proceed.

The decision is significant, nonetheless, Kim Winter, an attorney who represents policy holders in insurance coverage disputes, told MarketWatch, because plaintiffs “can use [it] as persuasive authority“ in other cases demanding business interruption coverage for pandemic losses.

OFFICE MALAISE

While the housing market seems to have been newly energized by low rates and pent up demand, the office market seems to have slipped into a pandemic-induced “malaise,” triggering fears of a the most severe contraction in decades. Underlying those fears are predictions that the pandemic and the work-from-home trend it has spawned, to trade the downtown office towers they no longer need for smaller, less expensive suburban locations.

Moody’s Analytics REIS estimates that the value of office buildings across the U.S. will fall by 17.2% in 2020 – almost as steep as the 20 percent decline projected for the retail sector and the 20.5 percent dip Moody’s is predicting for the lodging industry.

Some analysts suggest the fears for the office sector are overblown. Any exodus from the cities, they contend, will be smaller and certainly slower than pessimistic projections anticipate. Among other constraints, they note, businesses are locked into long-term leases that they can’t easily dislodge. Some analysts also question whether the remote working arrangements that are expected to slash office space requirements will remain popular after the virus has receded.

Analysts who question the disaster predictions also point out that the office market was battered severely during the Great Recession, suffering and recovering from a larger valuation loss (35 percent) greater than Moody’s is projecting now.

But James Shevlin, president of the commercial real estate firm CWCapital, sees a crucial difference between the two experiences. The Great Recession, he notes, triggered a capital crisis – building owners couldn’t refinance their mortgages. The predicted migration from downtown office buildings, on the other hand, would squeeze profits, leaving building owners without the funds needed to make their mortgage payments. ‘If we can’t figure this stuff out by the end of the year,” he told the Wall Street Journal, “we’re going to have some problems.”

PPP FOR CONDOS?

The Congressional impasse over Coronavirus relief that has eliminated the weekly supplemental employment benefits on which millions of unemployed workers have been depending has also blocked, at least for now, access to federal financial assistance for condominiums and cooperatives.

Congressional leaders, including Senate Minority Leader Chuck Schumer (D-NY) had assured industry executives that common interest ownership communities would be eligible for the popular Paycheck Protection Program included in the first relief measure. Some condominium association management companies took advantage of the program, but the Small Business Administration (SBA) ruled that real estate entities (including condos and co-ops) did not qualify for it.

In a conference call with industry officials, Schumer assured them that the second relief bill would address that concern, according to Habitat magazine, which reported on that conversation. “The PPP is critical for many housing co-ops to weather this crisis and maintain their buildings and employees – as member-owners struggle to pay fees. I will continue to fight for expanding PPP eligibility to cover housing co-ops,” Schumer told the magazine after the conference call.

Negotiations to hammer out a framework for the relief measure eventually collapsed, with Democrats, Republicans and the White House unable to agree on the amount of aid to be provided and to whom. Those discussions ended in July and aren’t expected to resume until after Labor Day.

IN CASE YOU MISSED THIS

Corporate bankruptcies are on a track to hit a ten-year high this year. The homeownership rate is also heading toward a 12-year high, but analysts suggest taking this statistic with a grain (or several grains) of salt.

Think the pandemic will end the corporate office as we know it? Think again. The trend toward working remotely “isn’t going to be sustainable,” one human resources executive contends.

Real estate industry executives are pushing back hard against the 50 basis points Fannie Mae and Freddie Mae adding to the cost of refinancing a mortgage.

Housing industry executives who usually cheer moves to reduce regulations are furiously opposing HUD’s move to overhaul, and effectively end, the Affirmatively Furthering Fair Housing regulation adopted by the Obama Administration.

Home buyer demand is so strong and the supply of homes so limited that some Arizona builders are resorting to lotteries to sell available home sites.

LEGAL BRIEF

CONFLICT CLOUDS BUSINESS JUDGMENT

The Business Judgment Rule gives condominium board members broad protection from personal liability, allowing them to make stupid decisions, even if those decisions are harmful, as long as they are well-intended and made in good faith. Those caveats ─ ‘well-intended and in good faith’ ─ are essential, however, as this California Appeals Court decision (Coley v. Eskaton) illustrates.

The facts in this case read like a case study in what condominium developers should not do. The developer (Eskaton) created the eponymous Eskaton Village Grass Valley – a ’55 and older’ community consisting of 130 detached homes and a lodge including 137 rental units. An Eskaton subsidiary (EVGV) owned the lodge and managed the Village community. The arrangement gave EVGV, with 137 votes, a perpetual majority, which it used to elect employees of EVGV or other Eskaton entities to three of the five positions on the association’s governing board. Two of the board members (Murch and Donovan) were the CEO and chief operating officer, respectively, of all of the Eskaton entities, with bonus plans based on how the companies performed. If you detect a conflict of interest here, you’re not alone; the courts found one too.

The legal battle flared in 2012, when the board voted to reallocate security costs, which had been divided equally between the detached homes and the lodge, assigning 83.3 percent of those costs to the homes and 16.7 percent to the lodge. Coley (the plaintiff) and one other owner-elected board member opposed the change. Coley and another owner sued the Eskaton entities and Murch and Donovan personally, alleging, among other complaints, breaches of fiduciary duties to the association and its members. The suit added the association as a nominal defendant only, to comply with legal rules.

After initially allocating legal fees among all the units, the board voted to charge those costs entirely to the detached homes. Murch shared advice the association’s attorney provided the board with his personal attorney and with the attorney representing Eskaton entities. Coley cited these acts, among others, as evidence of the conflict of interest that, he charged, improperly influenced decisions Murch and Donovan made and led them to breach their fiduciary duty to the association.

Establishing Liability

The trial court awarded Coley $654,242 for attorney’s fees and legal costs and $2,300 in damages, but refused to hold Murch and Donovan personally liable, concluding that Coley had failed to prove they had acted in self-interest or benefited personally from their actions. The trial court also ruled that Murch and Donovan could not invoke the business judgment rule as a shield, because their “irreconcilable conflict of interest” made them ineligible for its protections. Rather, the court said, their employer, the Eskaton entities, and the association were “vicariously liable” for damages resulting from the decisions the two board members had made.

Both sides appealed. The defendants (Eskaton) argued that the court erred by making them “vicariously liable” for the actions of their employees. They argued further that the court should have given Murch and Donovan an opportunity to demonstrate that they had acted reasonably and in good faith and were, in fact, eligible for protection under the business judgment rule. Their argument, in effect: Eskaton had no vicarious responsibility for the damages caused by its employees, and the employees, who were responsible for their actions, were protected from personal liability by the business judgment rule.

Coley, on the other side, argued that the court should have applied the business judgment rule, determined that Murch and Donovan were not protected by it, and held them personally liable, along with their employer, for the damages they had caused.

The Appeals court agreed with Coley, that the employees had personal liability, and it found that the Eskaton entities (the employer) had liability, as well.

Vicarious Or Direct

On the latter question (employer liability), Eskaton argued that vicarious liability is “derived wholly from the liability of the employees.” There could be no vicarious liability here, Eskaton contended, because the trial court had found no personal liability for the employees.

But the Appeals Court pointed out that while the trial judge used the term ‘vicarious liability” once in his decision, he relied on and followed the logic used in other decisions finding companies directly liable for damages resulting from the actions of their employees.

“Even assuming the court relied on vicarious-liability principles in finding the Eskaton entities liable,” the court said, “the defendant’s argument would still fail in light of our conclusion that the trial court should have found both Murch and Donovan personally liable, thus providing the necessary predicate for vicarious liability.”

On that key (personal liability) question, the trial court had ruled that because Murch and Donovan had an “irreconcilable conflict of interest,” the business judgment rule did not apply. The Appeals Court agreed with that reasoning. It also agreed with the lower court’s observation that “a conflict does not necessarily establish actionable impropriety,” but it does require a showing that the actions were “just and reasonable.” The corporate defendants, “made no effort to satisfy this…standard,” the Appeals Court said.

Demanding Too Much

The court also agreed with Coley that the trial court erroneously required him to demonstrate that the Eskaton-appointed directors had acted in their own interest and profited personally from their actions in order to establish their personal liability for damages. “This was error,” the court said.

“Once Coley established the existence of a fiduciary relationship, breach of that fiduciary duty and damages, he was entitled to damages, absent some applicable affirmative defense. In demanding more from Coley before awarding damages,” the Appeals Court concluded, the trial court “asked for too much….

“A director may still be liable for damages resulting from his or her breach of fiduciary duties, even if the director did not personally benefit from that breach,” the court added. “To find otherwise would absolve directors of liability when they abuse their positions to benefit, for example, friends and family. It would also inappropriately immunize directors who abuser their positions to benefit themselves, but fail to succeed for reasons outside their control.”

WORTH QUOTING:

“A particular cruelty of the pandemic has been its disproportionate effects on many areas that were already suffering.” ─ Federal Reserve Chairman Jerome Powell.


Marcus, Errico, Emmer & Brooks specializes in condo law, representing clients in Massachusetts, Rhode Island, and New Hampshire.