Development fees at heart of Santa Rosa lawsuit

A Sonoma County judge this week allowed a group of developers to move forward with a lawsuit claiming Santa Rosa owes them more than half a million dollars for infrastructure work on a development in the city’s southwest area more than a decade ago.

The unusual case is raising eyebrows at City Hall because it touches on a real estate deal involving deceased developer Bijan Madjlessi, who was indicted in 2011 for fraud after defaulting on millions in loans from Sonoma Valley Bank, losses that led to the bank’s closure.

It also involves allegations that a deputy city attorney committed malpractice by representing the city against the developers after previously representing them in private practice. The attorney, Molly Dillon, has since been removed from the case.

Sonoma County Superior Court Judge Peter Ottenweller Wednesday denied the city’s latest request to dismiss the 2014 lawsuit brought by CVSR Holdings LLC, an entity owned by developers Alan Strachan and Mike Smith, who is president of Argonaut Constructors.

That means the case, which the Santa Rosa City Council has been hearing about behind closed doors recently, can proceed to trial next month.

Strachan was the driving force behind the sprawling Courtside Village housing and commercial development in southwest Santa Rosa that would eventually include more than 500 houses and condominiums on nearly 70 acres.

In the late 1990s, the city and the developers struck an agreement where the developers would perform infrastructure work that would normally be done by the city, such as streets, sidewalks and storm drains, in exchange for credits.

Those credits, which in 2004 were valued at $1.2 million, were supposed to be used to offset the cost of the substantial development fees charged on new units built in the area west of Roseland. Those credits, and whether the city still owes them to the developers, are at the heart of the lawsuit.

In 2000, the credits were set aside in CVSR Holdings by a lender in the project.

The development agreements with the city, which were reauthorized several times, made it clear that if another developer were to actually build some of the units, then the original developers who completed the infrastructure work would be reimbursed when the units were sold. It was the city’s responsibility to collect the fees through escrow from these “third party” developers and repay Strachan and Smith, according to CVSR’s attorney, Steven Copeland, of Sonoma.

The project’s 2003 bankruptcy, however, jumbled everything.

Strachan and Smith purchased CVSR Holdings and the remaining credits from the lender with the help of Dillon while she worked at the local law firm Clement, Fitzpatrick & Kenworthy, according to the lawsuit.

In 2004, Marin County developer Madjlessi bought vacant land and began building apartment complexes in the development with millions borrowed from Sonoma Valley Bank, according to Copeland.

For a while it worked fine, with Madjlessi selling units and the city reimbursing CVSR more than $715,000 as required.

But when 2008 came the real estate market imploded, sales froze and the city, which had deferred Madjlessi’s fees, went unpaid. Madjlessi defaulted on 42 unsold units and in 2010 Sonoma Valley Bank went under. Its assets were later acquired by Westamerica Bank, which foreclosed on Madjlessi’s units.

“When these agreements were drafted, nobody banked on a down market, and when that happened everyone lost,” Copeland said.

When the bank sought to sell the units, the city struck a deal for the bank to pay $350,000 in fees owed on the units, but the city didn’t reimburse CVSR anything, Copeland said.

Copeland argues that while in private practice, Dillon worked between 2004 and 2006 to help Strachan and Smith acquire the credits, and then when she went to work for the city, she negotiated the deal with Westamerica that effectively cut CVSR out of the fees.

Copeland argues that Dillon should have recused herself from the negotiations with Westamerica because they directly affected her former clients. The lawsuit names her and accuses her of malpractice and breach of fiduciary duty.

Once the issue was raised by Copeland in 2015, Dillon was “walled off” from the case.

The city to date has raised a variety of legal defenses, including that the statute of limitations had run out and that CVSR’s issue is with Madjlessi, not the city.

Madjlessi was killed in May of 2014 when his Mercedes sedan plunged off the Shoreline Highway near Muir Beach. The crash was ruled an accident.

The city now takes the position that because the agreement only called for the credits to offset fees, there is no cash value for the credits and, since the project is now completely built, the city argues it owes the original developer nothing.

Outside attorneys representing the city asked Ottenweller to clarify this last point Wednesday, but the judge declined, saying it was a matter to be determined at trial.

CVSR is seeking $466,000 in unpaid credits, plus interest back to 2012, attorney’s fees and damages for Dillon’s alleged breach of fiduciary duty.

Strachan and Smith have often been on the losing end of lawsuits related to Courtside Village. More than 20 investors and business partners successfully sued the men over business deals related to the project, including an elderly couple who say the men robbed them of their property by improperly redrawing their lot lines.

The latter case resulted in about $1.6 million in judgments and attorney’s fees against the men, according to the couple’s attorney, Mike Watters. Smith has settled, but Strachan owes about $1.1 million, Watters said.

Neither City Attorney Sue Gallagher nor Dillon’s outside attorney, Scott Emblidge, could be reached for comment.

You can reach Staff Writer Kevin McCallum at 707-521-5207 or kevin.mccallum@pressdemocrat.com. On Twitter @srcitybeat.