On Broadway, “The Music Man” cautioned against “trouble in River City.” In a pending lawsuit, Berger et al v. Cushman & Wakefield of Pennsylvania Inc. et al, case number 2013-cv-05195, the U.S. District Court for the Eastern District of Pennsylvania is examining trouble from River City; an 8.2-acre parcel along Philadelphia’s JFK Boulevard, marketed as a 12 million s/f mixed-use development, including 600-foot skyscrapers.
Berger’s lawsuit accuses Cushman & Wakefield of recklessly overvaluing the development and claiming that zoning changes - which were pending before city council at the time - would not affect the development. However, the project was dashed in part because of a pending ordinance to restrict building height. The development was marketed by Charles M. Naselsky, a now convicted former real estate partner at both Blank Rome and Cozen O’Connor. As a result of Naselsky’s involvement, both law firms have been named as defendants.
A discussion of the lawsuit, still mired in preliminaries, is beyond the scope of this article. The point is that with alarming frequency, seemingly innocent third parties such as law firms, appraisers and real estate brokers are being named as defendants in lawsuits stemming from failed commercial real estate deals.
While any real estate professional is familiar with customary construction defect, environmental and breach of contract claims, more complex financial fraud and securities cases are being brought against these third parties. This evolution in strategy is occurring because the nature and complexity of real estate investment continues to evolve. Real estate deals have matured, from individual holdings to 1031 exchanges, tenant-in-common vehicles and now real estate investment trusts and crowdfunding. These transactions may, explicitly or implicitly, constitute the sale of a security or other form of financial instrument.
So, when considering the form of investment vehicle, a third party must anticipate being named in a complaint alleging financial mismanagement, securities fraud and breach of fiduciary duty. Prudent third parties must seek to minimize these exposures through properly drafted transaction documents which include appropriate disclosures. Consideration must also be given in documents to forum designation, choice of law and the selection of arbitration or litigation remedies.
Some may naively believe that a civil lawsuit for a failed real estate venture is the worst-case scenario, but this is simply not the case. Due to the frequency of investors seeking retribution after losing money, like Mr. Berger, any third party in a real estate transaction is at risk. Risk may not come just from a lawsuit, but may stem from the government inserting itself. The SEC remains active in the enforcement of securities and financial fraud laws and a change in the occupancy of the White House may not matter. In any event, state attorneys’ general would likely fill any void in federal enforcement.
A prepared third party will ensure that it is aware of these issues and will take all necessary precautions if, in fact, there is trouble in River City.
Neil A. Stein, Esquire is a principle of Kaplin Stewart Meloff Reiter & Stein, P.C. and a member of the Land Use, Zoning & Development and Real Estate, Business & Finance Transactions Departments.