Update: On September 15, 2015, the Supreme Court of Ohio handed down a merit decision in this case.  Read the analysis here.

“This case is bigger than just your client’s dispute with White Hat,” Chief Justice Maureen O’Connor said to counsel for the Schools, later commenting it was all about following the money.

On September 23, 2014, the Supreme Court of Ohio heard oral argument in the case of Hope Academy Broadway Campus, et. al. v. White Hat Management, LLC, et. al., 2013-2050. The literal issue in the case is who owns certain personal property bought with public funds for charter schools by its private management company, but the broader issue involves the accountability of a private management company for those public dollars. Judge John Wise of the Fifth District Court of Appeals sat for Justice O’Donnell, who recused himself from the case.  Justices are not required to give any public reason for a recusal.

Case Background

The plaintiffs in this case are the governing boards of ten charter schools (“The Schools”). Charter schools (technically, community schools, but the blog will use their more familiar name), which are public schools by definition, but exempt from many of the requirements of traditional public schools, are governed by a board, and operate pursuant to a Community School Agreement between the schools and a sponsor approved by the Ohio Superintendent of Public Education. Charter schools are allowed to contract with private educational management organizations to administer the schools’ daily functions. Defendant White Hat is such a management company.

The Schools entered into identical management agreements with separate educational management organizations owned by White Hat. The management agreements between the parties required White Hat to handle day-to-day operations within each school, including the purchasing of furniture, computers, books, and all other equipment. White Hat was paid a “Continuing Fee” based upon the number of students in each school, plus reimbursements for state and federal grants. The management agreements also expressly provided that White Hat would operate as an independent contractor, and not as a partner or a joint venturer with the Schools.

After the original contracts expired, the parties entered into subsequent one-year term agreements ending in 2010, when the Schools filed suit after White Hat refused to provide meaningful information about its use of public funds. The Schools contended that they were entitled to all property purchased by White Hat with public funds, without having to pay White Hat for that property. The Schools sought declaratory and injunctive relief and an accounting against White Hat.

Procedural Posture

The trial court found that the Schools were entitled only to the personal property in their names under the management agreements, but that White Hat owned the rest, which the Schools would have to buy from White Hat if they wanted that property. The trial court also found that no formal general fiduciary relationship was created by the management agreements. The Tenth District Court of Appeals affirmed. Read the oral argument preview of this case here.

Key Statutes and Precedent

Chapter 3314 (establishes community schools and sets forth entire statutory framework for their operation)

Cordray v. Internatl. Preparatory School, 2010-Ohio-6136. (An officer, employee, or duly authorized representative or agent of a community school (in this case its treasurer) is a public official and may be held strictly liable to the state for the loss of public funds.)

Oriana House, Inc. v. Montgomery, 2006-Ohio-1325. (Private entity providing day-to-day management services to a correctional facility subject to audit by state. Private entities are not subject to public records act disclosure requirements absent a showing by clear and convincing evidence that the private entity is the functional equivalent of a public office.)

Yovich v. Cuyahoga Falls City School Dist. 10^th Dist. No. 91-AP-1325 (June 23, 1992)(Once public funds are paid to a private entity, they lose their public character.)

At Oral Argument

Schools’ Argument

The one hundred million dollars paid to White Hat Management Company by the Schools should retain their public character. It is the position of the Schools that all property bought with public funds belong to them. White Hat has consistently refused to account for that money. The state auditor should be able to audit White Hat, because White Hat is a “public official.” The only way White Hat can operate a charter school is through the contract as the duly authorized representative of the Schools. Under Cordray there is no question that White Hat is a public official.

Until the Schools can see and understand how this money was being spent, and for what purpose, there was no way to know if the management agreement was breached. The nature of the funding source has not been resolved in this case. This court should hold the nature of the funding source as used in these contracts means that any assets purchased with public monies must belong to the schools for the benefit of the school districts where those schools reside.

White Hat received these monies under color of public office, and as a result it has certain fiduciary obligations. Nothing in the enabling statute allows White Hat anything other than the right to the day-to-day operations of the school. It doesn’t give the management company the right to own anything. Anything bought with the Continuing Fee belongs to the schools, because it was bought with public dollars. White Hat agreed to be the purchasing agent for the schools under the management agreement.

Under the management agreement, White Hat did not disclaim either a fiduciary or an agency relationship. It doesn’t matter that the contract characterizes White Hat as an independent contractor. White Hat is stepping into the shoes of the school board and performing a traditional government function—there is nothing more public official than that.

White Hat’s Argument

This is just a straightforward contract interpretation case which centers on whether the schools or White Hat own the property purchased to deliver the education model. Both lower courts found that the management companies owned the furniture and the equipment pursuant to the contract, and this court should do the same. Once money is paid as reasonable compensation for services rendered, it loses its public nature. This court has never held otherwise.

White Hat is not a public official, nor a fiduciary here. It is clearly an independent contractor. That relationship is clearly spelled out in the contract. The statute allows charter schools to enter into a contract with management companies and places no other limitations on that contract—if the parties had intended to create a fiduciary or an agency relationship, they could have, but they didn’t.

Nevertheless, White Hat has regularly provided detailed financials to the Schools. The treasurers of the schools have participated in school audits, as is their proper role. They are public officials. White Hat doesn’t serve the public official function. The legislature has amended the community school statutes at last a dozen times and never has designated an operating company as a public official.

What Was on Their Minds?

Exactly What the Case Was About

What is it that we are deciding today, asked Justice Pfeifer? Where does this case go, and how does it get unwound?

Isn’t this case all about following the money, asked Chief Justice O’Connor, in a key question of the day.

The Management Agreement

Doesn’t the contract itself govern here, asked Chief Justice O’Connor? Were issues of accounting and accountability put into the contract?

Doesn’t specific contract language state what happens at the end if a school is no longer operating, asked Justice French? Is this just a breach of contract action?

Was this contract a sham, asked Justice Pfeifer?

The Community School Statutes

Is there statutory authority for an audit here, asked Chief Justice O’Connor, commenting that what the auditor would or would not do was not before the court. Isn’t whether or not White Hat failed in its role in managing these schools a statutory problem? Shouldn’t the schools be able to answer some of the issues about their performance?

Is there anything in the statutes that speaks to the source of the funds throughout the life of the contract, asked Justice Lanzinger?

Accountability

The boards were aware of the failing grades schools were getting, commented Chief Justice O’Connor. Didn’t that didn’t cause them to examine what was going on with White Hat? Aren’t the Schools seeking a declaration that the nature of the funding source dictates that these dollar remain public dollars, subject to scrutiny by the state auditor, regardless of any profit White Hat makes, the Chief asked in a key question of the day. Was White Hat saying that the Schools do have the information they need to answer their questions about the giving up of the dollars? (yes, said counsel for White Hat.)

If the funds are the private funds of White Hat, even if the Schools were to find the funds were used improperly, could there be any sanction or remedy asked Judge Wise?

The School Property

The Schools want all of it, and White Hat wants to give them none of it, asked Justice Pfeifer? The Schools don’t even know which assets are in dispute because the Schools can’t see the books? (correct, said the Schools’ lawyer) The Schools aren’t asking for White Hat’s profit; just what it paid for the assets in dispute? Exactly what property is in the schools?

Wasn’t White Hat obligated to supply whatever was necessary to manage the day-to-day operation of the schools, asked Chief Justice O’Connor? That would include the building, the teachers’ salaries, and everything from desks to pencils? How much they paid to get that done and how much they pocketed out of those dollars as profit, is unknown?

The Money

It was state money that purchased the desks and computers, but became White Hat’s money at the point it received the check, asked Justice Pfeifer? What would keep White Hat from turning around one day and selling all this stuff to Hong Kong? There’s no requirement that it be continued to be used for an educational purpose? Later, when White Hat referred to its money, Pfeifer said sharply, “when you say ‘our own money,’ that is the state’s money that the schools paid to White Hat?”

Oriana House; Cordray

If the Court were to affirm the court of appeals, would Oriana House have to be overruled, asked Justice O’Neill? (yes, said the Schools’ lawyer; no said White Hat’s lawyer.) If White Hat is performing the traditional function of a public school, why are they not public officials pursuant to Cordray? Doesn’t that 100 million dollars to educate the kids make them a public official?

How is the Cordray case involved here, asked Justice Lanzinger? There is some very broad language in that case stating that community schools are public officials and that public money received or collected is public money—is that just dicta?

What is a Public Official

Was White Hat the functional equivalent of a public official asked Chief Justice O’Connor?

Doesn’t the entity running a charter school serve exactly the same function as the superintendent of a traditional public school? Therefore, aren’t both public officials, asked Justice O’Neill? In a key question of the day he asked, if you are doing a public function with public funds, aren’t you the functional equivalent of that public official?

Status of White Hat Under the Management Agreement

Doesn’t the contract specifically state that White Hat is an independent contractor, asked Justice French?

Is the management company a duly authorized representative of a community school, asked Justice Lanzinger, also noting later that the contract does not state that White Hat was taking any fiduciary responsibility.

How it Looks from the Bleachers

To Professor Bettman

More like a Congressional hearing than an appellate argument. There was clearly a sense of shock and outrage among the justices, especially Justice O’Neill, about this hundred million dollars in funds White Hat has received.  The problem, however, could just be in the statutory scheme which set up these charter schools—to my view, this whole system is unconscionable, but that is just my personal opinion.  The idea that a for-profit company can better run the schools is to me a very dubious premise; charter schools have not performed well despite being exempt from many requirements of traditional schools, and despite getting public dollars first, without having to rely on passing a traditional school tax levy.  OK, enough of that rant.

As Justice Pfeifer put it from the outset, it is hard to determine exactly what this case is about as a legal matter. The Schools clearly were totally outsmarted in the negotiation of the management agreements, but to give the lawyer for the Schools credit, she didn’t use that as an excuse. As Chief Justice O’Connor noted, this case is about much more than this particular dispute with White Hat. It’s about much more than who owns the desks and pencils at the end of the day. It really is about accountability and what is a fair profit here, from public dollars.

While this crowd is not one to legislate from the bench, or add terms to contracts, there was clearly a sense of moral outrage in the air. The court may not go so far as to say that public funds retain their character as public funds even after paid over to a private management company operating a school (although Justice O’Neill seems ready to go that far.) The court could define an educational management company as a public official, but it seems more likely to find some kind of agency or fiduciary relationship when acting on behalf of a public entity like a school in a totally governmental function like running a school.  Although the contract states that White Hat is an independent contractor, just saying so doesn’t automatically make it so, although Justice French seemed most inclined to buy that argument. The contract is silent about a fiduciary relationship—as became apparent in the rebuttal section.  It neither creates one, nor disclaims one.  The court could impose one as a matter of law in this context.  That’s a traditional legal role, not “judicial activism” (which I have written many times before is strictly in the eye of the beholder).

I may be talking through my hat, here, if you will pardon the bad pun.

To Student Contributor Rebecca Campbell

The biggest thing on the minds of the Justices in this case is the money. The trickiest part of this case: finding a clear legal path to the money. Chapter 3314 leaves many questions in the air when it comes to the money. White Hat continues to proffer the argument this is strictly a case of contract interpretation, and the contract was unambiguous. The Schools are fighting to get a ruling declaring the nature of the funding source as public funds as the determinative factor of White Hat’s relationship to the Schools, which would ultimately determine who holds title to the assets purchased with that money.

Because the money in question is hundreds of millions of dollars from the taxpayers of Ohio, I do not think the Justices bought the “simple contract interpretation” stance. Justice O’Neill came out of the gate like a bulldog during White Hat’s argument, seemingly refusing to relinquish the public nature of the funds. By the end of White Hat’s argument, the whole panel appeared to be fleshing out the Schools’ simple agency and public official arguments.

This case is tricky, because the court will have to work around a beast that is statutory in nature and silent on classifying the funds after payment in order to give the Schools the result they want. To do so will probably be blatant judicial advocacy. However, the panel appeared to be picking up on real issue: duty, not just to the schools, but to the taxpayers who ultimately fund the schools.

Although this court is usually hesitant to rule in a manner which bleeds into the Legislature’s territory, I think the justices will overwhelmingly find a way to establish a resolution favorable to the Schools.

To Student Contributor Austin LiPuma

Lots of discussion about the basis of the controversy here: What’s in dispute? Is it a contractual issue? Is a statutory violation? Is it both? Once these details were hashed out it appeared that each Justice was alert, invested, and had a question to pose. The schools submit that accountability has been completely vaporized because White Hat has not been forced to supply details or be subjected to an audit. At the same time, it has been permitted to keep all property purchased through grants and public funding. Ultimately, the written contract limits the argument from the Schools—they did not create an agency or fiduciary duty with White Hat. Instead, White Hat was an independent contractor and once the relationship was severed, all property that had been purchased throughout the course of the relationship is White Hat’s.

However, this seeming inequity was recognized by a majority of the Justices (especially Justices Pfeifer and O’Neill). Counsel on behalf of White Hat asserted the company’s rights to ownership should stand pursuant to the contract as well as its compliance with a state audit. The general concern of the court was the duties White Hat takes on; it pays teachers’ salaries, is responsible for the building, and completely furnishes the school, so how is it not a public actor? Why should White Hat be able to extend the benefits of public funding by owning the property after the severance of a relationship? As Justice Pfeifer put it, couldn’t White Hat ultimately decide unilaterally to end an agreement and “ship supplies (purchased with State funding) to Hong Kong?” Counsel responded with a resounding yes, and may have dealt a blow White Hat’s argument.

Oriana was the primary focus of the court and ultimately may weigh against White Hat. White Hat’s responsibilities appeared to be those of a public entity. Despite the contract not creating an express agency, the lack of accountability and possession of assets from public funding might be too much for the court to accept. I think the court will rule in favor of the schools despite the contractual restraints highlighted by White Hat.

Because of the educational concern and need to enforce accountability, the court will likely find that White Hat does not have ownership of the assets purchased with public funding through the Continuous Fee.