Filed 10/22/26
CERTIFIED FOR PUBLICATION
IN THE COURT OF APPEAL OF THE STATE OF CALIFORNIA
FIFTH APPELLATE DISTRICT
STEVEN K. DAVIS,
F089619
Plaintiff and Appellant,
(Super. Ct. No. 12CECG03718)
v.
FRESNO UNIFIED SCHOOL DISTRICT et al.,
OPINION
Defendants and Respondents.
APPEAL from a judgment of the Superior Court of Fresno County. Jeffrey Y.
Hamilton, Jr., Judge.
Carlin Law Group and Kevin R. Carlin for Plaintiff and Appellant.
Reed Smith, Raymond A. Cardozo, Kathryn M. Bayes; Whitney Thompson &
Jeffcoach, Timothy L. Thompson, Mandy L. Jeffcoach; Baker Manock & Jenson, Jerry
H. Mann; Kahn, Soares & Conway and Richard C. Conway for Defendant and
Respondent Harris Construction Co., Inc.
Creede-Blyth Law and Mark L. Creede for Defendant and Respondent Fresno
Unified School District.
-ooOoo-
Plaintiff Stephen K. Davis sued defendants Fresno Unified School District (Fresno
Unified or District) and Harris Construction Co., Inc. (Contractor), alleging defendants’
2012 lease-leaseback agreements for the construction of a $36 million middle school
violated California’s competitive bidding statutes and conflict of interest laws.
Defendants argued the competitive bidding requirements did not apply because the
project qualified for the exception in Education Code section 17406 (section 17406). In
an earlier 2015 appeal, we concluded section 17406’s exception applied to lease-
leaseback agreements only if the agreements (1) were genuine leases, (2) included “a
financing component for the construction of the project,” and (3) provided for the school
district’s “use of the newly built facilities ‘during the term of the lease.’ ” (Davis v.
Fresno Unified School Dist. (2015) 237 Cal.App.4th 261, 271, review denied, Aug. 26,
2015, S227786 (Davis I).) Applying this interpretation, we concluded Davis had
adequately alleged section 17406’s exception did not apply and, thus, he had stated a
claim for a violation of the competitive bidding statutes. (Davis I, supra, at p. 271.)
A court trial was held in 2024 on Davis’s competitive bidding and conflict of
interest claims. In its statement of decision, the trial court applied the interpretation of
section 17406 set forth in Davis I1 and determined the lease-leaseback agreement fell
within the exception because the leases were genuine, the construction costs carried by
Contractor provided Fresno Unified with a form of financing, and the new facilities were
used during the term of the lease. Thus, the court concluded Davis had failed to prove a
violation of the competitive bidding statutes. The court also determined Davis had failed
to prove that, as a result of entering into preconstruction services agreements with Fresno
Unified, Contractor was a “officer” or “employee” of Fresno Unified subject to the
conflict of interest prohibition in Government Code section 1090 (section 1090).
Consequently, the court denied the conflict of interest claim. Davis filed this appeal.
1 As explained in part III.C. below, the Davis I interpretation applies in this appeal
pursuant to the doctrine of law of the case, not the conflicting statutory interpretation
adopted in decisions of other districts of the Court of Appeal. In Davis v. Fresno Unified
School Dist. (2023) 14 Cal.5th 671 (Davis III), the Supreme Court stated, “that split of
authority is not before us.” (Id. at p. 684.)
2.
First, we conclude the conflict of interest claim was properly rejected. Davis has
not demonstrated the trial court misapplied the legal standards used to determine when an
outside advisor like Contractor is an “officer” or “employee” for purposes of section
1090. Second, we find as a matter of law that the lease-leaseback arrangement did not
qualify for the exception to competitive bidding in section 17406 because the project was
financed by the issuance of bonds, not by Contractor-financing. Third, the remedy for
the competitive bidding violation is set forth in subdivision (d)(1) of section 17406,
which was enacted in 2016 after the decision in Davis I was final. That provision states a
contractor may be paid its reasonable cost of construction, excluding profit, under
agreements that failed to qualify for section 17406’s exception. We conclude the
allowance of the contractor’s reasonable cost of construction is not an unconstitutional
gift. (Cal. Const., art. XVI, § 16.) We also conclude Davis has not shown the trial court
abused its discretion or committed legal or factual error when it included overhead costs
as part of the reasonable cost of the services provided. Based on the court’s finding that
Contractor’s net profit on the project was $236,129, that is the amount Contractor must
refund to Fresno Unified.
We therefore reverse the judgment and direct the trial court to enter a modified
judgment requiring Contractor to disgorge its profit.
FACTS
Sometime around 2006 through 2008, Fresno Unified initiated preparation of a
facilities master plan—that is, a long-range plan for its facilities that included a needs
assessment evaluating the suitability of its schools for student’s educational needs. The
plan was created by an outside firm. It identified major deficiencies throughout the
district and the kinds of projects needed to correct the deficiencies. The Board of
Education of Fresno Unified (board) approved the facilities master plan in 2009. The
facilities master plan also identified areas where new construction was needed.
3.
A major need was a middle school in southwest Fresno. Since 1978, southwest
Fresno had no middle school and students from that neighborhood were transported by
bus to four middle schools in other parts of Fresno. The construction of the southwest
middle school—later named the Rutherford B. Gaston Sr. Middle School (Gaston
Project)—was an important part of the facilities master plan.
Bonds
In March 2001, voters within the school district approved General Obligations
Bond Measure K authorizing Fresno Unified to sell $199 million in bonds to fund the
acquisition, construction, maintenance, and renovation of school facilities. In November
2010, after the board approved the facilities master plan, voters approved General
Obligation Bond Measure Q authorizing Fresno Unified to sell $280 million in bonds to
fund the acquisition, construction, maintenance, and renovation of school facilities. Both
measures authorized an ad valorem tax on taxable property within the school district to
fund Fresno Unified’s payment obligations under the bonds.
Board Communications—Project Delivery Methods
In December 2010 and January 2011, after the approval of Measure Q, Fresno
Unified’s Deputy Superintendent Ruth F. Quinto prepared, and Superintendent Michael
H. Hanson approved and signed, a series of “board communications” to the members of
Fresno Unified’s Board of Education (board) providing information about the methods
for completing facilities projects. Quinto testified that, as soon as the bond measure
passed, the superintendent wanted to begin educating board members about how Fresno
Unified could most effectively provide for the construction of its school projects and,
thus, avoid surprises as Fresno Unified moved forward with different construction
delivery methods.
The first of these board communications, “BC No. A.1,” included as attachments
two chapters from the Association of California Construction Managers (ACCM) Project
Delivery Handbook titled “What is Construction Management?” and “What is Agency
4.
Construction Management?” The board communication described future topics as
“Project Delivery Overview” and the three basic project delivery methods or models: (1)
traditional design-bid-build, (2) construction manager at risk, and (3) lease-leaseback.
Subsequent board communications addressed the three delivery methods and
provided chapters from the ACCM handbook describing each method. The three-page
chapter addressing the lease-leaseback method stated it involved the selection of a
developer-contractor to develop a new building or improvements on property the district
owned, followed by the simultaneous execution of “a Site Lease of the property giving
the [developer-contractor] the right to develop the project and a Facilities Lease giving it
the obligation to develop the project and to lease the improvements and the site back to
the District, with the District owning the improvements when the lease expires.” The
description also stated that different school districts and their attorneys had taken
different approaches to financing (if any), selection of the developer-contractor, lease
terms, and the methods for selecting trade contractors. It asserted this flexibility was a
primary attraction of the lease-leaseback method. Next, the description stated:
“Preconstruction work by the Developer-Contractor up to the time of
signing of leases is sometimes conducted under a Preliminary
Services Agreement, although some attorneys draft leases that are
signed immediately and then amended as design and pricing are
developed.
“Some attorneys draft leases providing for pre-construction services,
even design responsibility, with language that calls for an
amendment to give approval for construction to proceed including
setting the date of completion and the Guaranteed Maximum Price.”
The ACCM handbook’s description stated that “close coordination with a law firm
is critical” due to political sensitivities, the preparation of two additional contracts (i.e.,
the lease and leaseback), and the “decisions about the extent or terms of any financing
required.” In addition, it stated: “An attorney’s advice is also necessary to decide
5.
whether a Validation process is advisable. This is a legal proceeding recommended by
some attorneys to obtain court approval of the terms of the lease.”2
Request for Qualifications
After informing the board about the lease-leaseback delivery method, Fresno
Unified’s next step was to identify construction firms capable of completing school
facilities projects using that delivery method. In March 2011, Fresno Unified published a
request for qualifications3 titled “RFQ No. 110327, Lease Leaseback Services” in the
Fresno Bee newspaper and sent fax transmissions to various third parties. RFQ No.
110327’s introduction stated Fresno Unified was “requesting ‘statements of
qualifications’ from business entities experienced in the Lease Leaseback (LLB) public
project delivery method, or business entities that can demonstrate their competence and
ability to complete a public works project using the lease-leaseback delivery method.”
The request stated Fresno Unified would evaluate and qualify the firms that best met the
District’s needs for future projects based on 16 listed factors and other considerations it
deemed relevant. The factors included “expertise in finance and funding issues” and
experience, expertise, and knowledge of the lease-leaseback process.
RFQ No. 110327 split the description of the anticipated scope of services into two
categories: (1) assisting with project planning services and (2) construction and post-
2 An overview of validation actions by public agencies and reverse validation
actions is set forth in part I.C. of Davis v. Fresno Unified School Dist. (2020) 57
Cal.App.5th 911, 927–929 (Davis II). California has over 200 statutes, mostly in the
Government Code and Water Code, that authorize validation proceedings. (Davis II,
supra, at p. 929.) The statute at issue in Davis II and Davis III was Government Code
section 53511, which authorizes local agencies to bring an action to determine the
validity of its bonds, warrants, contracts, or obligations or evidence of indebtedness
pursuant to the validation provisions in the Code of Civil Procedure.
3 A request for qualifications asks for information about how the responding firm is
qualified to provide the requested services, which is more general than a request for
proposals regarding a particular project.
6.
construction services. The planning services included cost estimating and value review;
expedited design reviews that would generate proposed modifications; preparing a report
to Fresno Unified with recommendation for maintaining project budget; development of a
guaranteed maximum price acceptable to Fresno Unified; negotiating lease-leaseback
contracts with Fresno Unified; bidding the work with a minimum of three bids for each
trade and with input from Fresno Unified; identifying and obtaining will-serve letters
from all utilities serving the site; and preparing a critical path method schedule on
Primavera or other approved software. The request also stated:
“A selected LLB entity for a Project may also perform
design/constructability review and value engineering. If the District
proceeds with the Construction Phase of a Project, the selected LLB
entity will enter into appropriate Site and Facilities Lease
Agreements and related Construction Provisions, and may contract
with separate trade contractors to perform the various trades
comprising the entire Scope of Work.”
On March 18, 2011, after the newspaper notices had been published,
Superintendent Hanson approved and signed a board communication “to inform the
Board that the district is requesting qualification statements for lease-leaseback (LLB)
services for future district facilities projects.” The board communication stated the
deadline to respond was April 6, 2011, and, in accordance with best business practices, a
pre-RFQ conference for interested firms would be held two weeks before the deadline.
On March 31, 2011, after the conference, Fresno Unified issued an addendum to RFQ
No. 110327 explaining that the statement of qualifications should be limited to 30 pages
and advising that firms approved would remain qualified for a three-year period
Twenty-four contractors responded to the request. FUSD created a five-person
committee to individually score the contractors based on nine criteria. After the scores
were tabulated, Contractor Harris was ranked first, David A. Bush, Inc. was ranked
second, and plaintiff’s firm, Davis Moreno Construction, Inc., was ranked 14th.
7.
On May 17, 2011, Fresno Unified staff sent all firms that had responded to RFQ
No. 110327 an alphabetical list of the 14 contractors that staff would recommend the
board approve at its May 25, 2011 meeting. Contractor was on the list and Davis Moreno
Construction, Inc. was not. The agenda item prepared for the board meeting stated “staff
recommends approval of the following fourteen (14) respondents to provide lease-
leaseback services, on an as-needed basis, for a three (3) year period.” The agenda item
also stated the recommended approval would have no financial impact on Fresno Unified
because funding would be established on a project-by-project basis. Fresno Unified’s
board communication for that agenda item explained that approval of the
recommendation would establish a pool of “qualified contractors to provide lease-
leaseback services to the district for new construction and modernization projects when it
is determined that this method is appropriate for the particular project”; the list would
allow staff to negotiate a project with any qualified contractor; and all agreements for
lease-leaseback services would require board approval. A readily apparent implication of
the board communication was that any board member who disagreed with Fresno
Unified’s use of the lease-leaseback delivery method should vote against establishing a
pool of contractors qualified to provide construction services under that method.
At the May 25, 2011 meeting, the board approved the recommended list and, thus,
qualified those contractors pursuant to RFQ No. 110327. No contractor challenged the
scoring process used or the board’s approval of the 14 firms. The trial court stated it
received no evidence suggesting the “selection process was infirm or conflicted in any
manner.” The court specifically found that Contractor was not involved in the issuance
of RFQ No. 110327.
Lease-Leaseback Projects
Before setting forth details about the Gaston Project, we describe Fresno Unified’s
use of the lease-leaseback delivery method for other projects. The first lease-leaseback
project was approved by the board on August 10, 2011. The documents used were titled
8.
“Site Lease,” “Facilities Lease,” and “Construction Provisions.” The contractor was
Lewis C. Nelson and Sons; the project was the construction of Vang Pao Elementary
School; the contract amount was almost $16 million; and the source of funds was
Measure K. In total, the board voted 25 times to award lease-leaseback projects to
contractors that had been qualified under RFQ No. 110327. The last lease-leaseback
project was the $5,550,000 Hoover High School Aquatic Center approved by the board
on October 15, 2014. The contract was awarded to Bush Construction, Inc. and funded
by Measure Q. Nine of Fresno Unified’s 25 lease-leaseback projects were awarded to
Contractor.
To design and prepare the plans and specifications for the 25 lease-leaseback
projects, Fresno Unified used architectural firms that had been prequalified. A majority
of the lease-leaseback projects involved the use of preconstruction services agreements,
which Fresno Unified awarded with the intent that the contractor performing those
services would build the project. That intent was implemented in all Fresno Unified’s
projects that used a preconstruction services agreement.
On October 13, 2011, Fresno Unified sold approximately $55.5 million in “Series
G” general obligations bonds pursuant to Measure K and approximately $50.4 million in
“Series B” general obligation bonds pursuant to Measure Q. Fresno Unified secured the
indebtedness by pledging receipts from certain levies of ad valorem taxes on real
property within the district.
Gaston Project
Fresno Unified retained Darden Architects to draft the Gaston Project’s plans and
specifications and to act as the architect of record. Next, Fresno Unified and Contractor
entered into a “PRE CONSTRUCTION SERVICES AGREEMENT” for the Gaston
9.
Project stating the agreement was effective as of February 10, 2012.4 Deputy
Superintendent Quinto’s signature on the agreement was dated February 28, 2012. The
preconstruction services included plan and design review, value engineering, schedule
preparation, and other services. In a recital titled “Compensation,” the agreement stated:
“In return for District’s selection of Contractor to construct the Project, the services
rendered [under this preconstruction services agreement] shall be performed at no cost to
the District. However, should the District utilize another contractor to construct the
Project, the District shall pay and Contractor shall receive as full compensation for all
Services contemplated … the total sum of Five Thousand Dollars.” (Italics added.) That
amount was below the threshold requiring the approval of Fresno Unified’s board and, as
a result, the board did not vote on the award of the preconstruction services agreement to
Contractor. Before entering into the preconstruction services agreement, Fresno
Unified’s staff considered whether to ask other contractors to construct the entirety of the
Gaston Project. When Fresno Unified selected Contractor from among the 14 contractors
qualified under RFQ No. 110327, the mutual expectation and intent was that Contractor
would bring the Gaston Project to completion, provided the board approved the lease-
leaseback agreements.
On March 2, 2012, three days after Quinto signed the preconstruction services
agreement, Contractor received the construction plans and specifications for the Gaston
Project prepared by Darden Architects. Contractor began its review and the scheduling
4 In Davis I, we noted that “counsel for Fresno Unified stated during oral argument
[on March 24, 2015,] that there was no preconstruction contract.” (Davis I, supra, 237
Cal.App.4th at p. 295, fn. 18.)
10.
of meetings with specific trades to discuss ideas on enhancing the schedule,
constructability, estimate and value engineering.5
During the preconstruction review, Fresno Unified, with input from Darden
Architects and Contractor, decided to divide the Gaston Project into two phases to allow
separate submissions of construction drawings to the Division of State Architect (DSA).
The phase 1 site work included demolition of Carver Academy, construction of a flood
control basin, off-site landscaping and soil remediation, below ground electrical and
plumbing work, and sidewalks. The DSA could review and approve the plans for the
first phase more quickly than plans for the entire project and, thus, the work on the first
phase could begin before DSA completed its review of the plans for the second phase—
construction of the buildings. Doug Reitz managed the preconstruction part of the
Gaston Project for Contractor. He testified that splitting the project into phases instead of
waiting for DSA approval of the entire project reduced the project’s timeline by three to
five months.
In April 2012, Contractor issued a bid package soliciting bids from subcontractors
for the site work (demolition, abatement, grading, underground utilities) and off-site work
(concrete, landscaping). On May 17, 2012, DSA approved Darden Architects’ plans and
5 Davis I and Davis II were decided at the pleading stage, when we were not
informed of the steps Fresno Unified had taken before the preconstruction services
agreement was signed. Those steps included (1) the board’s approval, in concept, of a
new middle school located in southwest Fresno; (2) the board communications describing
the three basic project delivery methods and the use of a Preliminary Services Agreement
with the contractor; (3) RFQ No. 110327 and its description of the lease-leaseback
method of project delivery; (4) the board’s 2011 approval of the prequalification of 14
construction firms, including Contractor, pursuant to RFQ No. 110327; and (5) Fresno
Unified’s use of lease-leaseback arrangements for projects predating the Gaston Project.
Why defendants did not seek judicial notice of this information, particularly RFQ No.
110327 and the board’s 2011 prequalification of Contractor in connection with their
pleading-stage challenges to Davis’s claims, is unknown. Counsel for each party could
offer no reason for these omissions at oral argument. That information would have
significantly affected our analysis of Davis’s conflict of interest claims.
11.
specifications for the first phase of the Gaston Project, which included the site
improvements, outdoor athletic fields and courts, and marquee sign.
Phase 1 Lease-Leaseback
The agenda for the May 23, 2012 board meeting included items A-9 and A-10,
which were labeled “ADOPT Resolution 11-21, Authorizing the Execution of Lease-
leaseback Agreements (Site Lease and Facilities Lease with Construction Provisions) for
Construction of Rutherford B. Gaston, Sr. Middle School, Phase I (On-Site /Off-Site
Work)” and “APPROVE Pre-Construction Services Agreement for Structural Steel
Detailing Professional Services for Rutherford B. Gaston, Sr. Middle School,”
respectively. (Boldface omitted.) Item A-9 described the work included in phase 1,
stated approval of the resolution would allow that work to begin, identified the maximum
guaranteed price ($5,277,469), and stated the superintendent recommended approval. It
also stated: “Fiscal Impact: Sufficient funds of $5,277,469 are available in the
2011/2012 Measure K budget.” Item A-10 stated approval of the preconstruction
services agreement relating to structural steel was “recommended at this time due to the
anticipated long lead time to procure and fabricate the structural steel.” It also stated:
“Fiscal Impact: Sufficient funds of $375,300 are available in the 2011/2012 Measure K
budget.”
On May 20, 2012, Superintendent Hanson signed a board communication
numbered “AS.1” to provide the board additional information on the Gaston Project and
agenda items A-9 and A-10. The board communication stated that phase 1 covered only
on-site and off-site work for the Gaston Project, not construction of the buildings, and
explained the reasons for dividing the project into two phases. It stated that approvals
were being sought for individual components of the overall project, rather than just one
construction agreement, to “accelerate construction of this challenging project.” It stated
the actual procurement and fabrication of steel would be included in the scope of work
12.
for phase 2 of the Gaston Project and the lease-leaseback agreements for phase 2 would
“be recommended to the Board in the next few months.”
At its May 23, 2012 meeting, the board adopted a resolution authorizing the lease-
leaseback agreements for phase 1 of the Gaston Project with a guaranteed maximum
price of $5,277,469. The vote was 8-0 with one member absent. A clause in the
resolution addressed financing by stating: “WHEREAS, in order to ensure that moneys
sufficient to pay all costs will be available for the Project, the District desires to
appropriate funds for the Project from its current fiscal year as provided in the Facilities
Lease.” The board also approved Fresno Unified entering into the preconstruction
service agreement with Contractor for structural steel detailing. The proposed
preconstruction services agreement for structural steel detailing stated Contractor would
“provide detailed plans, drawings and other documents for the ultimate fabrication and
erection of steel members to be used in the construction of the [Gaston] Project” in
exchange for $375,300.
The day after the board meeting, Fresno Unified issued a notice of award letter to
Contractor stating the board had approved the phase 1 agreements for a final guaranteed
maximum price of $5,277,469, which included contingencies of $435,753. The site lease
and facilities lease (with incorporated construction provisions) executed by Fresno
Unified and Contractor were dated as of May 24, 2012.
Phase 2 Lease-Leaseback
On August 8, 2012, DSA approved the plans for construction of phase 2 of the
Gaston Project consisting of an administrative/classroom/library/music/science/kitchen
building, a gymnasium and shower-locker building, and a mechanical building.
On September 24, 2012, Fresno Unified sent a notice of intent letter to Contractor
requesting it to execute and return the proposed site lease and facilities lease for phase 2
of the Gaston Project in advance of the board’s anticipated approval of the agreements at
its September 26, 2012 meeting. The agenda for the board meeting included item B-11
13.
describing Resolution 12-01, which would authorize the execution of the lease-leaseback
agreements for phase 2 of the Gaston Project at a guaranteed maximum price of
$36,702,876. Item B-11 stated the superintendent recommended adoption and also
addressed the fiscal impact by stating: “Sufficient funds of $36,702,876 are available in
the 2012/2013 Measure K and Measure Q budgets.”
At the September 26, 2012 meeting, the board adopted Resolution 12-01 by a vote
of 6-0, with two members absent. The next day, Fresno Unified sent Contractor a notice
of award letter and a notice to proceed letter. The notice of award stated the board had
approved the phase 2 agreements for a final guaranteed maximum price of $36,702,876
that included owner-controlled contingencies of $1,938,292. It also stated Contractor
was required to provide certain documents within 10 days, including executed
performance and payment bonds, a certificate of insurance, certificate of workers’
compensation, a completed emergency contact information form, a designation of
subcontractors form listing agreed subcontractors, and executed escrow agreements if
Contractor desired to use an escrow account.
The eight-page site lease for phase 2 of the Gaston Project was dated as of
September 27, 2012 (Site Lease). Under its terms, Fresno Unified leased the project site
to Contractor for $1 in rent for a term coinciding with the term of the facilities lease.
Section 6.1 of the Site Lease stated: “Title to all improvements made on the Site during
the term hereof shall vest subject to the terms of the Facilities Lease.”
The 15-page facilities lease for phase 2 of the Gaston Project also was dated as of
September 27, 2012 (Facilities Lease). Under its terms, Contractor agreed to cause the
project to be constructed in accordance with the DSA approved plans and specification
and the “Construction Provisions for the Project” attached to the Facilities Lease
(Construction Provisions). Contractor, as sublessor, subleased the project and the site to
Fresno Unified, as sublessee, for a term ending “on the completion of the Project and
14.
payment of the last Lease Payment, as provided in the Lease Payment Schedule.”6 That
schedule, Exhibit C to the Facilities Lease, stated Fresno Unified “shall make Lease
Payments … in conformance with and subject to the terms and conditions for payments
for the Project as set forth in the Construction Provisions – Exhibit D.” The Construction
Provisions required monthly progress payments for the construction services rendered,
with a five percent retention pending the acceptance of the project and recordation of a
notice of completion. The Construction Provisions also stated that the guaranteed
maximum price included $1,000 rental/lease payments that could be prepaid or paid
monthly by Fresno Unified during the course of construction. The Construction
Provisions allowed Contractor until May 15, 2014, to complete the project, which was
595 days after the notice to proceed.
The Facilities Lease stated the parties understood and intended that Fresno
Unified’s payment obligations constituted a current expense and “shall not in any way be
construed to be a debt of [Fresno Unified] in contravention of any applicable
constitutional or statutory limitation or requirement concerning the creation of
indebtedness.” It also stated Fresno Unified “has appropriated that portion of the
Guaranteed Maximum Price to be earned during the current fiscal year from [Fresno
Unified’s] current fiscal year and/or State funds to be received during the [Fresno
Unified’s] current fiscal year, and has segregated or will segregate such funds in a
separate account to be utilized solely for Lease Payments. [Fresno Unified] will do so for
each fiscal year during which the Project is to be constructed or Lease Payments are to be
made.”
To receive monthly payments for construction services rendered, Contractor
submitted an “APPLICATION AND CERTIFICATION FOR PAYMENT” that
6 The Site Lease is the “lease” in the lease-leaseback arrangement and the Facilities
Lease is the “leaseback.” (Davis I, supra, 237 Cal.App.4th at pp. 271–272.)
15.
included the total sum of the work completed to date and the amount of the current
payment due. The applications include an architect’s certificate for payment in which the
architect certified the quality of work and stated Contractor was entitled to payment of
the amount requested. Each monthly application was accompanied by a certificate for
retention payment and two invoices.
For example, application No. 4 was signed by Contractor on February 7, 2013. It
covered the period from January 1, 2013, through January 31, 2013, and stated the
current payment due was $2,130,889.14. Certificate for retention payment No. 4R
requested a payment of $112,152.06 be made into the escrow account at United Security
Bank. Contractor’s invoice Nos. 3773A and 3773B were dated January 31, 2013, and
requested payment of $2,129,889.14 (i.e., the application’s amount less the $1,000 lease
payment) and a monthly lease payment of $1,000, respectively.
On May 29, 2014, Fresno Unified and Contractor signed a certificate of occupancy
stating Fresno Unified (1) had assumed full possession 10 days earlier and (2) accepted
the work on phase 1 and 2 as substantially complete. On June 7, 2014, Fresno Unified
opened the middle school for an open house and tours to the public. Since June 26, 2014,
Fresno Unified has continuously occupied the entirety of the middle school. In August
2014, students started attending classes there.
On November 19, 2014, an amended notice of completion identifying the punch
list work completed since May 19, 2014, was recorded. The amended notice stated the
work on phase 1 of the Gaston Project had been completed on September 1, 2014. On
December 4, 2014, a notice of completion for phase 2 of the Gaston Project was
recorded. It stated the work on phase 2 had been completed on November 13, 2014.
The final lease payment was made by a release of $65,875.44 of escrowed funds to
Contractor on March 24, 2016. This release of funds occurred approximately 16 months
after the notice of completion for phase 2 was recorded. In total, Fresno Unified paid
Contractor $36,051,375 in connection with phase 2 of the Gaston Project.
16.
Parties
Contractor was founded in 1914 and, since that time, has engaged in the business
of construction and construction management, predominately in central California.
Contractor worked on a wide variety of construction projects in both the public and
private sector, developing a proficiency in the areas of education, healthcare, and dairy
and food processing. In 2006, Contractor undertook its first lease-leaseback school
construction project when it managed the construction of a school for Kings Canyon
School District. By 2016, Contractor had been awarded many lease-leaseback contracts
for the construction of schools in the region.
The parties stipulated that Davis has standing as a taxpayer to bring this action
pursuant to Code of Civil Procedure section 526a. He is the president, treasurer, chief
executive officer, and the majority shareholder of Davis Moreno Construction, Inc., a
Fresno-based contractor that has handled construction projects for school districts and
sometimes is a direct competitor of Contractor. The trial court found Davis’s primary
motive for pursuing this lawsuit was his and his company’s financial interests, rather than
providing a public benefit. In particular, the court stated Davis’s request for
disgorgement of the $36 million paid to Contractor, plus interest, and the absence of a
request that subcontractors or suppliers disgorge payments is “evidence of Davis’s true
motivation, to eliminate his competitor, [Contractor].”
Before this lawsuit was filed, Davis and his company were familiar with the lease-
leaseback arrangement that uses a preliminary services agreement for certain
preconstruction services before the same contractor enters into lease-leaseback
agreements. In November 2006, his firm entered into a nine-page “Preliminary Services
Agreement” with Kerman Unified School District (KUSD) for the design and
construction of a new school. The preconstruction services provided were substantially
similar to the preconstruction services provided by Contractor on the Gaston Project.
17.
In April 2007, the related KUSD lease-leaseback agreements were signed.
Specifically, Davis’s firm and KUSD executed a 31-page lease-leaseback agreement, a
“Site Lease,” and a “Sublease Agreement” for the turn-key construction of a four-
classroom building with restroom facilities at the Liberty Intermediate School. The terms
of these agreements were similar to the terms of the lease-leaseback arrangement
challenged in this lawsuit. Davis’s firm relied on this project and two others using a
lease-leaseback arrangement to show its experience with the lease-leaseback delivery
method in its response to Fresno Unified’s RFQ No. 110327.
The appellate record’s copy of Davis’s firm’s response to RFQ No. 110327 does
not contain the certificate described in the last paragraph of section 4 of the RFQ. That
paragraph stated: “Exceptions to this RFQ – The Response shall certify that the
Respondent takes no exceptions to this RFQ or any addenda.”
Davis did not challenge the lease-leaseback arrangement used for phase 1 of the
Gaston Project because he intended to have his construction firm bid to perform work as
a subcontractor. On July 24, 2012, Davis’s firm submitted bids to perform concrete work
on the Gaston Project. Davis filed this lawsuit after his firm’s bid to perform concrete
work was not accepted.
From June 2016 (approximately one year after Davis I) through the trial in March
2024, Fresno Unified awarded contracts to Davis’s firm totaling over $224 million under
the design-bid-build delivery method. At the time of trial, approximately $9.4 million in
change orders had been submitted on those projects, and Davis’s active (i.e., pending)
contracts had a value of approximately $114 million. In contrast, Contractor was not
involved in any projects awarded by Fresno Unified during that period.
PROCEEDINGS
Davis filed this lawsuit in November 2012. The operative pleading is the first
amended complaint filed in March 2013. The first appeal arose from a judgment entered
after the trial court sustained demurrers of Fresno Unified and Contractor to that
18.
pleading. (Davis I, supra, 237 Cal.App.4th at p. 271.) In June 2015, we reversed the
judgment, concluding the first, third, and fourth causes of action stated claims for (1)
violations of California’s competitive bidding laws and (2) conflicts of interest. (Ibid.)
The Supreme Court denied review and remittitur was issued. Fresno Unified and
Contractor answered the first amended complaint in October 2015. (Davis II, supra, 57
Cal.App.5th at p. 923.) In 2016, Fresno Unified filed a motion for judgment on the
pleadings and Davis filed a motion for summary adjudication of the conflict of interest
claims against Contractor. (Ibid.) The trial court denied these motions.
In May 2019, Fresno Unified filed another motion for judgment on the pleadings
asserting all the claims (1) were subject to California’s validations statutes and (2) were
moot because the challenged contracts had been fully performed. (Davis II, supra, 57
Cal.App.5th at p. 924.) The trial court granted the motion and filed a judgment
dismissing the action and awarding costs to defendants. (Ibid.)
Davis filed a second appeal, and we reversed the judgment in November 2020.
We concluded (1) the first amended complaint contained both a reverse validation action
and a taxpayer’s action, (2) the trial court’s dismissal of the reverse validation portion of
the lawsuit was proper, and (3) the dismissal of the taxpayer action portion of the lawsuit
was improper because it stated viable claims. (Davis II, supra, 57 Cal.App.5th at p. 945.)
Those claims stated were for violations of California’s competitive bidding laws and for
conflicts of interest prohibited by section 1090 and common law principles. (Davis II,
supra, at p. 944.)
Defendants filed a petition for review, which the Supreme Court granted “to
address a single question: ‘Is a lease-leaseback arrangement in which construction is
financed through bond proceeds rather than by or through the builder a “contract” within
the meaning of Government Code section 53511?’ ” (Davis III, supra, 14 Cal.5th at p.
678.) Had this question been answered “yes,” California’s validation statutes would have
applied to phase 2 of the Gaston Project and, as argued by defendants, the agreements
19.
would be deemed valid under the statutes because they had been fully performed. In
April 2023, the Supreme Court answered the question in the negative, concluded
California’s validation statutes did not apply to the defendants’ transaction, and the
litigation could continue based on Davis’s standing to bring a taxpayer action. As a
result, the court affirmed Davis II and the matter was returned to the trial court for further
proceedings. (Davis III, supra, at p. 700.)7
A six-day court trial was conducted in March and April 2024. The witnesses who
testified included Davis; former Deputy Superintendent Quinto; Karin Temple, Fresno
Unified’s assistant superintendent for operational services in 2012; Doug Reitz, an
employee of Contractor who worked on the project’s preconstruction services; Michael
Spencer, the president of Contractor at the time of trial and its director of business
development during 2012 through 2015; Richard Spencer, Michael Spencer’s father and a
50 percent owner of Contractor; and Ryan Diel, chief operating officer of Contractor at
the time of trial. A week before the trial, the parties entered into a written stipulation of
facts for all purposes in this case.
After the close of evidence, both sides filed written arguments along with
supporting statements of facts. In August 2024, Davis filed his reply to defendants’
closing argument.
In February 2025, the trial court filed a tentative statement of decision. Davis filed
a request for a statement of decision, objections to the proposed statement of decision,
and proposed additions. Contractor also submitted proposed additions and, 10 days later,
Davis filed objections to Contractor’s proposed additions.
7 Shortly after remittitur was issued in Davis III, Davis filed an application to set a
trial date. Subtracting the time spent on the appeals, Davis calculated that the five-year
period for bringing the case to trial would expire on October 16, 2023. (See Code Civ.
Proc., § 583.310.) At the hearing on the application, the trial court, on its own motion,
extended the five-year deadline to April 30, 2024, and set trial for March 18, 2024.
20.
In March 2025, the trial court issued its final statement of decision. The court
determined Davis had failed to prove a violation of the competitive bidding statutes or a
conflict of interest. On April 7, 2026, judgment was entered in favor of defendants.
Davis timely appealed.
In May 2025, we issued an order directing the parties to address issues of statutory
interpretation involving subdivision (d) of section 17406, which was added by
Legislature in 2016 in response to Davis I. (See Stats. 2016, ch. 521, § 2 [Assem. Bill
No. 2316].) Davis, in support of his supplemental brief, requested judicial notice of
“documents obtained by the staff of Legislative Intent Service, Inc. on Assembly Bill
2316 of 2016.” We granted the unopposed request for judicial notice of the legislative
history.
DISCUSSION
I. STANDARDS OF REVIEW
Context for our application of the various standards of review is established by the
fundamental principles of appellate practice requiring appellate courts to presume the
trial court’s judgment is correct and requiring appellants to affirmatively demonstrate
prejudicial error. (Denham v. Superior Court (1970) 2 Cal.3d 557, 564; Eagle Fire &
Water Restoration, Inc. v. City of Dinuba (2024) 102 Cal.App.5th 448, 470.)
First, when an appellate court reviews the sufficiency of the evidence supporting a
trial court’s finding of fact, the fundamental question is “whether any reasonable trier of
fact could have made the finding that is now challenged on appeal.” (Conservatorship of
O.B. (2020) 9 Cal.5th 989, 1005.) In a civil appeal contesting the sufficiency of the
evidence, “the power of an appellate court begins and ends with a determination as to
whether there is any substantial evidence, contradicted or uncontradicted,” to support the
challenged findings. (Crawford v. Southern Pacific Co. (1935) 3 Cal.2d 427, 429;
Brewer v. Murphy (2008) 161 Cal.App.4th 928, 936 (Brewer).) Under the substantial
evidence standard, appellate courts view the evidence in the light most favorable to the
21.
prevailing party, drawing every reasonable inference and resolving all conflicts in the
evidence in support of the challenged findings. Evidence is “substantial” for purposes of
this standard of review if it is of ponderable legal significance, reasonable in nature,
credible, and of solid value. (Brewer, supra, at p. 935.)
Second, when an appellate court reviews how questions of law were resolved in
the trial court’s statement of decision, it conducts a de novo review. (Veiseh v Stapp
(2019) 35 Cal.App.5th 1099, 1104; Brewer, supra, 161 Cal.App.4th at p. 936.) Questions
of law include the proper interpretation of a statute “and the application of that
interpretation to an established set of facts.” (Cleveland v. Taft Union High School
District (2022) 76 Cal.App.5th 776, 803.) That set of facts includes undisputed facts and
facts established by the rule, described above, that the appellate court must view the
evidence in the light most favorable to the prevailing party. (Ibid.; Le Gault v. Erickson
(1999) 70 Cal.App.4th 369, 372 [“ ‘It is well settled that the interpretation and
application of a statutory scheme to an undisputed set of facts is a question of law ...
which is subject to de novo review on appeal.’ ”].)
Third, when reviewing a determination by the trial court that a party failed to carry
its burden of proof, an appellate court must consider whether the evidence compels a
finding in that party’s favor as a matter of law. (Valero v. Board of Retirement of Tulare
County Employees’ Assn. (2012) 205 Cal.App.4th 960, 966.) In Valero, this court stated
“ ‘it is misleading to characterize the failure-of-proof issue as whether substantial
evidence supports the judgment.’ ” (Id. at p. 965.) Under the compelled-as-a-matter-of-
law standard, the appellant’s evidence must be (1) uncontradicted and unimpeached and
(2) of such a character and weight as to leave no room for a judicial determination that it
was insufficient to support a finding. (Ibid.; Jones v. Solgen Construction, LLC (2024)
99 Cal.App.5th 1178, 1196; Dreyer’s Grand Ice Cream, Inc. v. County of Kern (2013)
218 Cal.App.4th 828, 838.)
22.
II. CONFLICT OF INTEREST CLAIMS
Earlier in this litigation, we concluded Davis had alleged sufficient facts to state a
cause of action for a violation of California’s conflict of interest laws. (Davis I, supra,
237 Cal.App.4th at p. 301.) We also stated: “Ultimately, whether Davis will be able to
prove Contractor violated the conflict of interest provision of … section 1090 will depend
upon the facts established by the evidence.” (Ibid.) The trial court determined Davis has
failed to prove Contractor was subject to the conflict of interest laws. We agree.
A. Statutory Text and Purpose
Section 1090, subdivision (a) provides that “state, county, district, … and city
officers or employees shall not be financially interested in any contract made by them in
their official capacity.” Section 1090 codified an established common law rule barring
public officials from having a personal financial interest in the contracts they formed in
their official capacities. (Davis I, supra, 237 Cal.App.4th at p. 298, citing Lexin v.
Superior Court (2010) 47 Cal.4th 1050, 1072 (Lexin).) The rationale for the prohibition
is that a person cannot serve two masters simultaneously. (Lexin, supra, at p. 1073.)
“Where public and private interests diverge, the full and fair representation of the public
interest is jeopardized.” (Ibid.)
In People v. Superior Court (Sahlolbei) (2017) 3 Cal.5th 230 (Sahlolbei), the
Supreme Court stated the purpose of the common law rule and section 1090 was to
protect “the actual and perceived integrity of the public fisc. As a result, liability … can
accrue without ‘actual fraud, dishonesty, unfairness or loss to the governmental entity.’ ”
(Sahlolbei, supra, at p. 239; Stigall v. City of Taft (1962) 58 Cal.2d 565, 569 (Stigall)
[statute’s goals include removing or limiting the possibility of any personal influence that
might bear directly or indirectly on an official’s decision].) This prophylactic purpose is
the basis for the principle that “section 1090 should be construed broadly to ensure that
the public has the official’s ‘absolute loyalty and undivided allegiance.’ ” (Sahlolbei,
supra, at p. 239.) When applying section 1090, courts evaluate the substance of the
23.
challenged transaction and disregard technical or formal aspects of the parties’
relationship. In other words, they look behind any veil that may enshroud the parties’
activities. (Sahlolbei, supra, at p. 239.)
B. Elements Establishing a Violation
The issues raised by the application of section 1090’s text to Davis’s conflict of
interest claim include (1) whether Contractor or its personnel were government “officers
or employees”; (2) whether Contractor “made” the challenged contracts in its “official
capacity”; and (3) whether Contractor was “financially interested” in the contracts.
(§ 1090, subd. (a); see Lexin, supra, 47 Cal.4th at p. 1074.)
The last of these elements is not disputed. The payment of over $36 million to
Contractor under the leaseback contract establishes that Contractor was “financially
interested in [the leaseback] contract” for purposes of section 1090, subdivision (a). (See
Davis I, supra, 237 Cal.App.4th at p. 301 [allegation that Contractor agreed to build the
Gaston Project for a guaranteed maximum price of $36.7 million adequately stated
Contractor was financially interested in the lease-leaseback contracts].)
In addition, for purposes of this appeal, we assume without deciding that the lease-
leaseback agreements were “made by” Contractor. (§ 1090, subd. (a).) In Stigall, the
Supreme Court rejected a “narrow and technical interpretation of the word ‘made’ and
construe[d] its statutory meaning to encompass the planning, preliminary discussions,
compromises, drawing of plans and specifications and solicitation of bids, … which here
were, in the broad sense, embodied in the making of the contract.” (Stigall, supra, 58
Cal.2d at p. 571.) Because the preconstruction services provided by Contractor impacted
the project’s plans and specifications and influenced the price agreed upon in the
Facilities Lease, the assumption that Contractor participated in the making of the lease-
leaseback agreements is reasonable.
As a result of this assumption, our analysis of the application of section 1090’s
text is limited to (1) whether Contractor was an “officer” or “employee” of Fresno
24.
Unified and (2) whether its participation in the making of the lease-leaseback agreements
was “in [an] official capacity.”
1. Outside Advisors Can Be Officers or Employees
“Section 1090 does not define ‘officer’ or ‘employee.’ ” (Sahlolbei, supra, 3
Cal.5th at p. 234.) In Sahlolbei, the Supreme Court set forth standards for determining
when outside advisors qualify as officers or employees after undertaking an historical
analysis of revisions to section 1090 and related legislative materials. (Sahlolbei, supra,
at pp. 236–237.) The court concluded “the Legislature understood section 1090’s
reference to ‘officers’ to apply to outside advisors with responsibilities for public
contracting similar to those belonging to formal officers.” (Id. at p. 237.) The court also
stated “that when the Legislature added the term ‘employees’ to section 1090, it similarly
intended to include outside advisors with responsibilities for public contracting similar to
those belonging to formal employees, notwithstanding the common law distinction
between employees and independent contractors.” (Ibid.) The court also quoted with
approval the Attorney General’s conclusion that the Legislature, in amending section
1090 to include employees, intended to apply the conflicts of interest laws “ ‘to
independent contractors who perform a public function and to require of those who serve
the public temporarily the same fealty expected from permanent officers and
employees.’ ” (Sahlolbei, supra, at p. 237, quoting 46 Ops.Cal.Atty.Gen. 74, 79 (1965).)
Based on its understanding of the Legislature’s intent, the court rejected bright-
line interpretations that would hold “all independent contractors are exempt from section
1090 liability” or, conversely, would hold “all independent contractors are covered by
section 1090.” (Sahlolbei, supra, 3 Cal.5th at p. 240.) Rather, the court concluded
section 1090 extended only to independent contractors who could be said to have been
entrusted with transacting business on behalf of the governmental entity. (Sahlolbei,
supra, at p. 240, citing Stigall, supra, 58 Cal.2d at p. 570.) The court rephrased this
standard by stating that “independent contractors come within the scope of section 1090
25.
when they have duties to engage in or advise on public contracting that they are expected
to carry out on the government’s behalf.” (Sahlolbei, supra, at p. 245, italics added.) The
court refused “to adopt the ‘considerable influence’ standard when it comes to defining
who is covered by section 1090 in the first instance.” (Ibid.)
2. The Trial Court’s Decision
The statement of decision listed one of the issues presented at the trial as whether
Contractor was an “officer” or “employee” of Fresno Unified and stated: “Short answer:
no.” The part of the statement of decision addressing Davis’s conflict of interest claim
began by (1) setting forth the general requirements for establishing a violation of section
1090; (2) stating California Taxpayers Action Network v. Taber Construction, Inc. (2019)
42 Cal.App.5th 824 (Taber II) “directly addressed a contractor’s 1090 conflict of interest
claim”; and (3) concluding “[t]he facts in Taber II are on nearly ‘all fours’ to the instant
matter.” Next, the court discussed Taber II, reiterated that “the relevant agreements are
akin to those that existed in Taber II,” and found that “the evidence proved beyond a
preponderance standard that there was no [section] 1090 violation in any of the actions
taken or worked performed by [Contractor].” The court also referred to Davis’s
contention that Contractor “was an ‘officer’ or ‘employee’ of [Fresno Unified] at the time
the lease-leaseback was entered into due to the preconstruction agreement[s]” and stated:
“That argument was not supported by the evidence at trial.” More generally, the
“CONCLUSION” of the statement of decision declared: “The Court finds that
PLAINTIFFS [sic] failed in their [sic] proof burden and take nothing by way of their [sic]
complaint.”
To identify the applicable standard of review, we must determine whether the trial
court’s rejection of the section 1090 claim should be characterized as a finding of fact or
a determination that Davis failed to carry his burden of proof. Despite the trial court’s
statement that the evidence proved there was no section 1090 violation and its explicit
finding “that the contract was negotiated at arms-length and in good faith,” we conclude
26.
the court’s resolution of that claim is accurately characterized as a determination that
Davis failed to carry his burden of proving Contractor was an “officer” or “employee” for
purposes of section 1090. Accordingly, we review this particular failure-of-proof
determination by asking whether the evidence compels a finding in Davis’s favor as a
matter of law. (Valero v. Board of Retirement of Tulare County Employees’ Assn., supra,
205 Cal.App.4th at p. 966.) Under this standard, Davis’s evidence must be (1)
uncontradicted and unimpeached and (2) of such a character and weight as to leave no
room for a judicial determination that it was insufficient to support a finding that
Contractor was an officer or employee. (Ibid.)
3. Contractor Was Not an “Officer” or “Employee”
Our evaluation of whether the trial court erred in applying the legal standards set
forth in Sahlolbei begins by considering whether the evidence compels a finding that
Contractor had “duties to engage in … public contracting” on behalf of Fresno Unified.
(Sahlolbei, supra, 3 Cal.5th at p. 245, italics added.) The parties stipulated that
Contractor (1) had no authority to enter into contracts in the name of Fresno Unified; (2)
had no authority to approve contracts in the name of Fresno Unified; (3) did not decide
on behalf of Fresno Unified whether to enter into an agreement with Contractor to
construct the Gaston Project; and (4) did not decide on behalf of Fresno Unified whether
to enter into or approve the phase 2 Site Lease or Facilities Lease. These stipulated facts
compel a finding that Contractor had no duty to engage in public contracting on Fresno
Unified’s behalf—that is, Contractor was not entrusted with transacting business on
behalf of Fresno Unified. (Ibid.) To the extent Davis contends the finding-compelled-as-
a-matter-of-law standard was met by the agreements Contractor made with
subcontractors to complete the Gaston Project, we reject that contention because the
subcontractors had contracts with and were paid by Contractor—that is, the subcontracts
were made on Contractor’s behalf, not on behalf of Fresno Unified.
27.
Consequently, the question whether Contractor was an “officer” or “employee” for
purposes of section 1090 is narrowed to whether Contractor had “duties to … advise on
public contracting that [it was] expected to carry out on [Fresno Unified’s] behalf.”
(Sahlolbei, supra, 3 Cal.5th at p. 245, italics added.) In other words, whether Contractor
was an “outside advisor[] with responsibilities for public contracting similar to those
belonging to formal officers” or employees (Id. at p. 237) depends on whether it had a
duty to act on behalf of Fresno Unified when advising on the contracts related to the
Gaston Project.
Davis’s appellate briefing emphasizes the advice Contractor gave Fresno Unified
under the preconstruction services agreements. He refers to testimony of Assistant
Superintendent Temple about recommendations from Contractor that influenced the price
and timeline of the Gaston Project. Davis argues Contractor violated section 1090
“because, based on consulting and advice [Contractor] gave District pursuant to the …
Preconstruction Services Agreements, [Contractor] participated in the making of the
September 27, 2012 Lease Leaseback Agreements” for phase 2 of the Gaston Project. He
also contends Contractor “was in a position to influence how much money District was
going to pay [Contractor] to construct the Project since the Guaranteed Maximum Price
for the construction of the Project was not set in the Lease Leaseback Agreements until
they were awarded to [Contractor] by District on September 26, 2012, [citation] which
was after [Contractor] performed its preconstruction services.” In Davis’s view, the trial
court misapplied section 1090 to the undisputed facts and, thus, we should conduct a de
novo review and correct the error of law.
The weakness in Davis’s appellate arguments is that they do not explicitly address
all aspects of the standard for determining when an independent contractor or outside
advisor is treated as an officer or employee subject to section 1090. In particular, Davis
presents no arguments on the question whether Contractor was expected to act on behalf
28.
of Fresno Unified when it carried out its contractual duties to furnish preliminary design
review services.
In comparison, the written closing argument defendants presented to the trial court
referred to the preconstruction services provided on the project and explicitly asserted
“there is no evidence that [Contractor] was transacting business on behalf of the District
which the California Supreme Court requires.” Defendants then quoted the following
discussion in Taber II of the school district’s use of a lease-leaseback arrangement:
“In this case, however, it cannot reasonably be said that Taber was
hired to engage in or advise on public contracting on behalf of the School
District. The School District did not contract with Taber in the
[preconstruction services agreements] for Taber to select a firm to complete
the HVAC project. Rather, the School District contracted with Taber for
Taber to provide preconstruction services in anticipation of Taber itself
completing the HVAC project. Taber provided those services (including
planning and setting specifications) in its capacity as the intended provider
of construction services to the School District, not in a capacity as a de
facto official of the School District.” (Taber II, 42 Cal.App.5th at p. 836.)
Accordingly, our review of the parties’ arguments considers whether Davis has
demonstrated Contractor’s obligation or responsibilities under the preconstruction
services agreements to provide advice and recommendations on constructability, value
engineering, scheduling, and other matters was done on behalf of Fresno Unified rather
than on behalf of itself as an independent contractor. Davis’s failure to address the
distinction between advising on behalf of Fresno Unified and advising on Contractor’s
own behalf, since the firm expected to be the construction manager and general
contractor, is a reason why he has not carried the appellant’s burden of demonstrating
reversible error. Furthermore, the trial court made factual findings that support the
determination that the advice given by Contractor was not rendered on behalf of Fresno
Unified. In particular, the contract for the Gaston Project was negotiated at arm’s length
and in good faith and the expectation was that Contractor would negotiate a lease-
leaseback arrangement for the construction of the middle school. Also, the condition that
29.
the lease-leaseback arrangement had to be approved by the board provided Fresno
Unified with the options of not going forward with the project or proceeding with a
different firm. That condition and the choices available to the board shows Fresno
Unified was acting for itself and holding Contractor at arm’s length in connection with
the preconstruction services. Thus, Davis has not affirmatively demonstrated Contractor
had duties or responsibilities for providing advice on the project “similar to those
belonging to formal officers” or employees. (Sahlolbei, supra, 3 Cal.5th at p. 237.)
The specific arguments presented by Davis on appeal do not alter our conclusion.
Those arguments do not address the principle that an outside advisor is an officer or
employee only if its duty to provide advice is on behalf of the public entity. For instance,
Davis contends that Contractor, “by way of the Pre-Constructions Services Agreements,
was retained to and did advise District in a position by which [Contractor] could
influence how District spent its money on the Lease Leaseback Agreements for the
construction of the Gaston Project and that is enough to bring [Contractor] within
California’s conflict of interest prohibitions.” This contention fails because giving advice
and having influence is not enough to satisfy the standard for being an officer or
employee set forth in Sahlolbei. If giving advice were the only requirement to being an
officer or employee for purposes of section 1090, all outside advisors would be deemed
officers or employees. The Supreme Court has rejected such a broad interpretation of the
statute. (Sahlolbei, supra, 3 Cal.5th at p. 240.)
Davis also asserts that Contractor’s “ability to influence how District spent its
money … is the trigger the Supreme Court identified as giving rise to a conflict of
interest in [Sahlolbei, supra,] 3 Cal.5th 230.” Again, the ability to influence the terms of
a contract does not, standing alone, establish a conflict of interest under section 1090
because (1) advice can be given and influence can be exercised at arm’s length and (2)
there are other aspects of the standard for being an officer or employee that must be
established to trigger a violation of section 1090.
30.
4. Official Capacity
Another reason why section 1090 does not apply to the lease-leaseback
agreements is that the statute applies only if the defendant (1) participated in the making
of the challenged contract (2) in the defendant’s “official capacity”—that is, in his or her
role as an “officer” or “employee” of the public entity. (Lexin, supra, 47 Cal.4th at p.
1074.) Here, because Contractor was not an officer or employee, it necessarily follows
that Contractor’s participation in the making of the lease-leaseback agreements was not
“in [its] official capacity” within the meaning of section 1090.
In Sahlolbei, the high court stated the limitation of the statute’s scope to contracts
“made in the defendant’s ‘official capacity’ [was not] an empty one. There may be
instances where officials subject to section 1090 will be involved in the making of public
contracts in which they benefit, but will not be liable because they were not acting in
their official capacities.” (Sahlolbei, supra, 3 Cal.5th at p. 246.) As examples, the court
referred to a case holding an outside attorney did not act in his official capacity when he
directly renegotiated his own contract with the agency (Campagna v. City of Sanger
(1996) 42 Cal.App.4th 533, 539–540) and an Attorney General’s opinion concluding city
firefighters who have developed a firefighting protective device could sell the device to
the city’s fire department without violating section 1090 if they contracted with the city
solely in their private capacities. (Sahlolbei, supra, at p. 246.) In those situations, the
attorney and firefighters were employed by a public entity and, thus, had an official
capacity but did not make the contracts in that capacity.
Here, we have assumed Contractor participated in the making of the lease-
leaseback agreements. That participation, however, was not in an “official capacity”
because Contractor was not an officer or employee of Fresno Unified. Davis attempts to
distinguish this case from Taber II because the contractor in that case was selected after a
request for proposal and, in this case, Contractor was a firm prequalified pursuant to a
request for qualifications and did not submit a request for proposal for the project. This
31.
factual distinction does not compel the finding that Contractor became an officer or
employee of Fresno Unified when it entered into the preconstruction services agreements
for the Gaston Project. The role of the firms in each case was similar because each firm
was the contractor expected to complete the construction project and, in that capacity, the
firm did not undertake duties for providing advice on the project “similar to those
belonging to formal officers” or employees. (Sahlolbei, supra, 3 Cal.5th at p. 237.)
Lastly, Davis’s arguments have not convinced us that Taber II was wrongly
decided and that we should disagree with its analysis of section 1090. To summarize, the
trial court did not err in concluding Davis failed to prove his conflict of interest claim.
III. SECTION 17406’s EXCEPTION TO COMPETITIVE BIDDING
A. Historical Overview
A legal history of lease-leaseback arrangements for the construction of public
works was provided by the Supreme Court in Davis III:
“The state Constitution imposes restrictions on local government
debt. Specifically, such debt may not exceed the total annual income
and revenues of the local entity in question without satisfying
specified voter-approval requirements. (See Cal. Const., art. XVI, §
18, subd. (a).) This court held, however, in City of Los Angeles v.
Offner (1942) 19 Cal.2d 483, that the cumulative amount payable
under a multiyear lease is not a debt for purposes of the
Constitution’s debt limitation—provided, that is, that the local entity
receives appropriate consideration in each year for the lease
payments it makes during that year.
“In 1957, 15 years after our decision in City of Los Angeles v.
Offner, supra, 19 Cal.2d 483, the Legislature enacted the provision
of the Education Code that is at the heart of this proceeding,
authorizing school districts to use lease-leaseback arrangements as a
way of financing the construction of school facilities. (See Stats.
1957, ch. 2071, § 1, pp. 3682–3687.) The lease-leaseback provision
is now codified in Education Code section 17406 …. Under section
17406, a school district may lease its land to a builder (or some
related entity) for $1 per year, and the builder then constructs a
building or buildings on that land. Typically, the builder is
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compensated by leasing the land and the newly constructed school
facilities back to the school district for a period of several years after
construction is complete, receiving regular lease payments under that
multiyear lease. (See Ed. Code, § 17417.) Finally, when both leases
terminate, title to the land and the new facilities vests in the school
district. (§ 17406.) In this way, the school district obtains costly
improvements to its school facilities and pays for them over the
course of many years, but it does so without entering into a debt
obligation that would require voter approval. In essence, the school
district shifts the financing of the construction project to the builder
(or some related entity), who in order to secure that financing, is free
to assign to a lender its right to receive lease payments from the
school district. (See, e.g., City of Desert Hot Springs v. County of
Riverside (1979) 91 Cal.App.3d 441, 444–445.) Thus, consistent
with the provisions of section 17406, even though a school district
may end up making payments directly to a lender, from the district’s
perspective, the payments are lease payments and not debt service.
“Significantly, section 17406 does not merely provide a method by
which a school district can avoid the state Constitution’s debt
restrictions; it also allows a school district to avoid competitive
bidding requirements otherwise mandated by state law. Moreover,
some districts use lease-leaseback arrangements for the latter
purpose alone. Under this approach, there is no multiyear
leaseback of the completed project to the school district after
construction is complete, and therefore there is no builder
financing of the project. The lease payments by the school district
compensate the builder for construction services performed during
the period that the payment covers, and when the project is
complete, the lease payments cease.
“The Courts of Appeal have reached conflicting decisions as to
whether this manner of structuring a lease-leaseback arrangement is
consistent with section 17406 (compare Davis I, supra, 237
Cal.App.4th 261, [§ 17406 applies only to builder-financed projects,
not projects that are independently financed by the school district]
with California Taxpayers Action Network v. Taber Construction,
Inc. (2017) 12 Cal.App.5th 115 [rejecting that conclusion] and
McGee v. Balfour Beatty Construction, LLC (2016) 247 Cal.App.4th
235 [same]), but that split of authority is not before us.” (Davis III,
supra, 14 Cal.5th at pp. 682–684, fns. omitted, boldface added.)
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With this background, we turn to section 17406’s text and how it has been
interpreted by the Court of Appeal.
B. Interpretation of Section 17406’s Exception
The version of section 17406 in effect in 20128 when the phase 2 lease-leaseback
agreements for the Gaston Project were signed provided:
“(a) Notwithstanding Section 17417, the governing board of a school
district, without advertising for bids, may let, for a minimum rental
of one dollar ($1) a year, to any person, firm, or corporation any real
property that belongs to the district if the instrument by which such
property is let requires the lessee therein to construct on the demised
premises, or provide for the construction thereon of, a building or
buildings for the use of the school district during the term thereof,
and provides that title to that building shall vest in the school district
at the expiration of that term. The instrument may provide for the
means or methods by which that title shall vest in the school district
prior to the expiration of that term, and shall contain such other
terms and conditions as the governing board may deem to be in the
best interest of the school district.
“(b) Any rental of property that complies with subdivision (a) shall
be deemed to have thereby required the payment of adequate
consideration for purposes of Section 6 of Article XVI of the
California Constitution.”9
The First, Second and Fourth Districts have concluded the statute’s plain language
establishes “three requirements: ‘[1] the real property belong[s] to the school district, [2]
the lease is for the purposes of construction, and [3] the title shall vest in the school
district at the end of the lease term.’ ” (California Taxpayers Action Network v. Taber
Construction, Inc., supra, 12 Cal.App.5th at p. 127 (Taber I), quoting McGee v. Balfour
8 Section 17406 was amended in 2014, 2015, 2016, and 2021. (See Stats. 2014, ch.
408, § 1; Stats. 2015, ch. 214, §1; Stats. 2016, ch. 521, § 2; Stats. 2021, ch. 666, § 5.)
Section 17406’s predecessor was former section 15705 of the Education Code. (See
Stats. 1959, ch. 2, § 1; Davis I, supra, 237 Cal.App.4th 282.)
9 The italicized words “such” and “thereof” were changed to “this” and “of the
lease,” respectively, by the 2014 amendment. (See Stats. 2014, ch. 408, § 1.)
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Beatty Construction, LLC, supra, 247 Cal.App.4th at p. 244; accord, Los Alamitos
Unified School Dist. v. Howard Contracting, Inc. (2014) 229 Cal.App.4th 1222, 1227.)
In contrast, our 2015 decision in Davis I disagreed with Los Alamitos’s view of the
statutory requirements and interpreted section 17406 as including three additional
criteria. First, section 17406 required “a true lease, not simply a traditional construction
contract designated as a lease by the parties.” (Davis I, supra, 237 Cal.App.4th at p.
284.) Second, based on “the primary statutory purpose of providing financing for school
construction,” we concluded the lease-leaseback arrangement “must include a financing
component.” (Id. at p. 285.) Third, we concluded the exception was available only if
there was “a lease term during which the school district, as tenant, makes use of the
newly built facilities.” (Id. at p. 289.) This requirement is based on the statutory text that
refers to an “instrument” that “requires the lessee therein to construct … a building or
buildings for the use of the school district during the term thereof,” that is, the term of the
lease. (§ 17406, subd. (a), italics added.)
Applying the foregoing interpretations to Davis’s first amended complaint, we
concluded he adequately alleged the exception in section 17406 did not apply to the
lease-leaseback arrangement on the grounds that (1) “the subject leaseback agreement
was simply a traditional construction agreement and not a genuine lease,” (2) the
arrangement “did not include a financing component for the construction of the project”;
and (3) the arrangement did not provide for Fresno Unified to use the newly built
facilities during the term of the lease. (Davis I, supra, 237 Cal.App.4th at p. 271.)
C. Law of the Case
An initial question of law is whether the statutory interpretation adopted in Davis I
or the conflicting interpretation adopted in Taber I, McGee and Los Alamitos, applies in
this appeal. At oral argument, counsel for Contractor asserted the trial court applied
Davis I as law of the case, made the requisite findings on the three additional criteria
recognized in Davis I, and argued those findings should be upheld in this appeal. We
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note the Supreme Court denied review in Davis I, subsequently acknowledged the split of
authority on whether section 17406 “applies only to builder-financed projects, not
projects that are independently financed by the school district,” and stated in Davis III the
“split of authority is not before us.” (Davis III, supra, 14 Cal.5th at p. 684.) Thus, the
high court has not altered the precedent established in Davis I. Consequently, we again
conclude the “interpretation of … section 17406 adopted in Davis [I] is now law of the
case” and, thus, is binding in this appeal. (Davis II, supra, 57 Cal.App.5th at p. 941, fn.
15.)
Because the law of the case doctrine applies, we need not repeat the rationale for
the interpretation adopted in Davis I and explain why we continue to think Davis I was
faithful to the Legislature’s commands. (See generally, CRST Expedited, Inc. v. Superior
Court (2025) 112 Cal.App.5th 872, 899–900 [the faithful agency doctrine of statutory
interpretation]; Barrett, Substantive Canons and Faithful Agency (2010) 90 B.U. L. Rev.
109, 112 [view that federal courts function as the faithful agents of Congress].)
D. A Genuine Lease with a Financing Component
1. Trial Court’s Decision
The trial court determined the lease-leaseback agreements complied with section
17406 and, as a result, were not subject to the competitive bidding statutes. The court
referred to Davis I and its determination that the lease-leaseback arrangements “must
include a financing component.” (Davis I, supra, 237 Cal.App.4th at p. 285.) The court
noted “the Davis I decision provides no definition of the type, term, interest rate or other
components of its financing condition” and found that Contractor had provided financing
by acting like a bank for Fresno Unified. First, the court found that Contractor had been
required to pay subcontractors numerous times before being paid by Fresno Unified and
concluded that, by advancing these payments and waiting for reimbursement, Contractor
provided “a form of financing.” Second, the court found that Contractor was not paid in
full until it received the final lease payment on “March 24, 2016, almost two years after
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the District began using the school in May, 2014” and this waiting for final payment was
an additional form of financing Contractor provided Fresno Unified. The court noted that
in May 2014, Contractor was owed approximately $4 million; in August 2014, it was
owed $2.9 million; and in November 2014, it still was owed $1.9 million.
2. The Financing Component
Here, we consider whether the phase 2 lease-leaseback arrangement entered into
by Fresno Unified and Contractor included “a financing component” as required by the
interpretation of section 17406 adopted in Davis I. An explicit definition of the word
“financing” or the term “financing component” was not provided in Davis I.
Generally, the noun “financing” means either “[t]he act or process of raising or
providing funds” or the “[f]unds that are raised or provided.” (Black’s Law Dictionary
(12th ed. 2024) p. 771.) Particular types of financing include “debt financing,” which is
defined as “[t]he raising of funds by issuing bonds or notes or by borrowing from a
financial institution,” and “equity financing,” which is “[t]he raising of funds by issuing
capital securities (shares in the business) rather than [obtaining] loans or selling bonds.”
(Id. at p. 772, italics added.) The broader term “outside financing” means “[t]he raising
of funds by selling stocks (equity financing) or bonds (debt financing).” (Ibid.)
In Davis I, we did not set forth these basic definitions of “financing.” Rather, we
described different methods for financing that school districts could use for new facilities.
“The traditional method for financing new school facilities is for school districts to obtain
voter approval for the issuance of general obligations bonds and then use the proceeds
from the bonds to pay for the construction.” (Davis I, supra, 237 Cal.App.4th at p. 276.)
We compared the “traditional method” to financing provided under a lease-leaseback
arrangement in which “the builder finances the project (probably with assistance from a
third party lender) and is paid over the term of the lease, which can last 40 years.” (Id. at
p. 277.) We also stated:
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“The leaseback, with its payment term of up to 40 years, allows a
school to acquire facilities that it might not be able to pay for using
other financing methods. As a result, the lease-leaseback method
opened up a new source of financing for school construction—
namely, private sector funding through the contractor and a third
party lending money to the contractor.” (Davis I, supra, 237
Cal.App.4th at p. 279.)
Davis I proceeded to address a variation of the lease-leaseback arrangement in
which “the school district pays for the construction (using local bond funds) as it
progresses, with the final payment being made when construction is completed. As a
result, the school district does not occupy and use the new facilities as a rent-paying
tenant for a set length of time. Because the school district pays for the construction as it
is completed, this alternate approach cannot be characterized as a method of financing
the construction of new school facilities.” (Davis I, supra, 237 Cal.App.4th at pp. 280–
281, italics added.) In other words, this variation of the lease-leaseback arrangement
combines the traditional method of financing (i.e., funds raised by the sale of bonds) and
the lease-leaseback method of delivery.
The foregoing variation of lease-leaseback arrangements was used for the Gaston
Project. The funds that Fresno Unified used to make the progress payments were bond
proceeds. Agenda item B-11 for the September 26, 2012 board meeting identified the
guaranteed maximum price for phase 2 of the Gaston Project ($36,702,876) and
addressed the fiscal impact of approval by stating: “Sufficient funds of $36,702,876 are
available in the 2012/2013 Measure K and Measure Q budgets.” Similarly, when Deputy
Superintendent Quinto was asked if Fresno Unified was using lease-leasebacks as a
financing method for school construction, she testified: “Not in the traditional sense, no.”
The exchange continued:
“Q. And what is the traditional sense?
“A. The traditional sense is that we were issuing bonds … on
the open market and going to the capital market in order to indebt
ourselves in the traditional manner by which school districts
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typically go out to the market to raise capital in order to construct
school buildings.”
“Q. And so [Contractor] wasn’t providing Fresno Unified any
financing under phase 1 or phase 2?
“A. No, they were not.” (Boldface omitted.)
Quinto’s description of her understanding of financing in the traditional sense is
consistent with Davis I’s description of the traditional method of financing school
construction. (Davis I, supra, 237 Cal.App.4th at p. 276.)
The fact the Gaston Project was paid for with funds raised by selling bonds is
further demonstrated by the one-page “Lease-Leaseback Projects OVERVEIW” prepared
by Fresno Unified and referred to at trial as Exhibit 299. The overview that contains five
columns: project description, contractor, board approval date, contract amount, and
“Source.” Temple, Fresno Unified’s assistant superintendent for operational services in
2012, testified the overview was “a list of all the lease[-]leaseback projects the District
entered into, the contractor’s name and the date of the board approval, the contract …
amount and the funding source.” (Italics added.) The funding source for both phases of
the Gaston Project was identified as “Measure K.” Further, Measure K or Measure Q
were identified as the source for 23 of the 25 lease-leaseback projects listed in the
overview. In comparison, the source for the $4.26 million Edison High School Aquatic
Center was listed as “General Fund” and the source for the $1.86 million “Portable
Relocation & Infrastructure 2014” project was listed as “School Facility Fees.”
We conclude that, as used in Davis I, the terms “financing” and “financing
component” refer to the how the funds used to pay for the construction were raised by
Fresno Unified. In particular, if Fresno Unified incurred debt to be able to pay for the
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construction, that debt would be regarded as the source of the project’s financing.10
Applying this definition to the facts of this case, we conclude the lease-leaseback
arrangement for phase 2 of the Gaston Project did not include a contractor-financing
component because the construction was fully funded by proceeds raised by the sale of
bonds. Because that lease-leaseback arrangement did not include a contractor-financing
component, the arrangement did not meet the requirements of section 17406 and, thus,
the contracts did not qualify for section 17406’s exception to competitive bidding.
3. Delays in Payment Did Not Finance Part of the Project
We separately address defendants’ contention that Contractor provided financing
to Fresno Unified as a result of two types of delays in the payments owed to Contractor.
As described in part III.D.1, ante, the trial court accepted the legal theory that delays in
payment constituted “financing” and found Contractor had to wait for reimbursement of
amounts paid to subcontractors and, further, Contractor was not paid in full until it
received the final lease payment on March 24, 2016, almost two years after Fresno
Unified began using the middle school. These findings about the timing of certain
payments is supported by substantial evidence in the record. Consequently, the question
considered here is not whether sufficient evidence supports the findings. Rather, the
question is a legal one—whether delays in payment to Contractor constitute “financing”
as that term was used in Davis I’s interpretation of section 17406. We conclude they do
not.
First, the delays in payment did not alter the source of the funds used to pay for the
construction. The source—bond proceeds—was described by the Supreme Court’s
statement in Davis III that “the underlying project was fully funded by a prior sale of
10 The Facilities Lease stated the parties understood that Fresno Unified payment
obligations were a current expense and “shall not in any way be construed to be a debt of
[Fresno Unified.]” Thus, the Facilities Lease recognizes that the project’s financing is
not coming from Contractor.
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general obligation bonds, and payment of the debt service on the bonds was from ad
valorem property taxes. Therefore, payment [of the bond indebtedness] did not depend
on the lease-leaseback arrangement or even on completion of the project.” (Davis III,
supra, 14 Cal.5th at p. 678, italics added.) Later, the court reiterated this point by stating:
“[T]he lease-leaseback arrangement at issue here did not involve a
long-term lease that operated in practice as a financing mechanism.
Rather, the cost of the District’s new middle school was fully funded
by the sale of general obligation bonds that preceded the lease-
leaseback arrangement by nearly a year, and the lease-leaseback
arrangement was to that extent analogous to an ordinary purchase
contract for the acquisition of goods or services.” (Davis III, supra,
14 Cal.5th at p. 691, fn. omitted.)
In short, the funds used to pay for construction (i.e., the financing) were obtained
through the sale of bonds and the delays in payment were not what caused Fresno Unified
to be able to afford paying for the construction. Consequently, in the circumstances of
this case, we conclude as a matter of law that the delays in payment did not constitute
“financing.”
Second, that portion of the delayed payments involving the release of retainage
from an escrow account did not provide any economic benefit to Fresno Unified and,
thus, would not qualify as “financing” even under a broader definition of the term. “The
withholding of ‘retainage’ until construction of the entire project is complete is a standard
practice in the construction industry. Retainage is usually 5 or 10 percent of the amount
otherwise due.” (Davis III, supra, 14 Cal.5th at p. 679, fn. 1.) Here, article 13 of the
Construction Provisions was titled “PROGRESS PAYMENTS FOR CONSTRUCTION
SERVICES” and set forth Fresno Unified monthly payment obligation: “Each Progress
Payment shall comprise a sum equal to ninety-five percent (95%) of the value of the
construction service work performed from the first through the last day of the previous
month, less the aggregate of previous payment. The remaining five percent (5%) shall be
withheld by the District, either in its own accounts or in accordance with the
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requirements of Article 15 of these Construction Provisions.” Article 15 addressed the
formal acceptance of completion of the Gaston Project and also obligated Fresno Unified
to “release any retention, less sums withheld pursuant to any good faith dispute relating
to the Project, within thirty-five (35) days of recordation of the Notice of Completion.
The release of the retention hereunder shall constitute the final Lease Payment, as
provided for in the Facilities Lease.”11
Contractor elected to have the retainage held in an escrow account and,
accordingly, the defendants established an escrow account—money market checking
account 1413392—at United Security Bank. When Contractor submitted a monthly
application for payment (accompanied by the architect’s certificate verifying the progress
of the work), it also presented Fresno Unified with a certificate for retention payment
identifying the amount to be deposited into the escrow account at United Security Bank.
Once Fresno Unified paid the retainage into an escrow account, it no longer had the
benefit or the use of those funds. For instance, the interest that accrued on the escrow
account was paid to Contractor. Alternatively, viewed from Contractor’s perspective,
Contractor did not assume the credit risk that Fresno Unified would be financially unable
to make the retention payments because, as Diel testified during cross-examination, the
money had been “put in a third party account for safekeeping.”
To summarize, the delays in payments experienced by Contractor on phase 2 of
the Gaston Project did not provide a “financing component” as that term was used in
Davis I. Therefore, the lease-leaseback arrangement for phase 2 did not qualify for
section 17406’s exception to competitive bidding. As a result, Davis proved the
arrangement violated California’s competitive bidding laws.
11 In Davis II, 57 Cal.App.5th 911, we stated: “The existence of a standard 5 percent
retention does not establish, as a matter of law, that Contractor provided a financing
component to Fresno Unified under the [lease-leaseback c]ontracts.” (Id. at p. 941.)
42.
IV. REMEDY FOR THE COMPETITIVE BIDDING VIOLATION
A. Background
1. Disgorgement Under Prior Law
Ordinarily, statutory requirements for competitive bidding and advertising for bids
before a public contract is awarded are mandatory and “a contract made without
compliance with the statute is void and unenforceable as being in excess of the agency’s
power.” (Miller v. McKinnon (1942) 20 Cal.2d 83, 87–88.) “In general, under long-
standing California law, if a public contract is declared void, a contractor may not be paid
for work performed under that contract.” (Amelco Electric v. City of Thousand Oaks
(2002) 27 Cal.4th 228, 234.) This harsh remedy deters violations of the competitive
bidding and other requirements of public contracting statutes. Courts have justified its
application by stating that “persons dealing with a public agency ‘are presumed to know
the law with respect to the requirement of competitive bidding and act at their peril.’ ”
(Marshall v. Pasadena Unified School Dist. (2004) 119 Cal.App.4th 1241, 1259, quoting
Miller, supra, at p. 89.)
In 2003, the Legislature softened the no-payment remedy for certain situations
involving competitively bid contracts by enacting Public Contract Code section 5110.
(See Stats. 2003, ch. 678, § 2.) That statute provided:
“If the contract is later determined to be invalid due to a defect or
defects in the competitive bidding process caused solely by the
public entity, the contractor who entered into the contract with the
public entity shall be entitled to be paid the reasonable cost,
specifically excluding profit, of the labor, equipment, materials, and
services furnished by the contractor prior to the date of the
determination that the contract is invalid if all of the following
conditions are met.” (Pub. Contract Code, § 5110, subd. (a), italics
added.)12
12 The protections of this provision did not extend to contractors that performed work
under lease-leaseback agreements that failed to comply with section 17406 because such
agreements are not obtained through “the competitive bidding process.” (Pub. Contract
Code, § 5110, subd. (a).)
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The statutory conditions addressed the contractor’s good faith belief the contract
was valid, satisfactory performance of the work, the absence of contractor fraud in
obtaining or performing the contract, and the absence of any other statutory or
constitutional violation. (Pub. Contract Code, § 5110, subd. (a)(1)–(4).) “In adopting
section 5110, the Legislature declared its intent that a contractor ‘may be paid the
reasonable cost, specifically excluding profit, of labor, equipment, materials, and services
that were rendered under a contract that was competitively bid, but subsequently
determined to be invalid, in order to avoid unjust enrichment of the public entity and an
unlawful taking of the contractor’s property.’ (Stats. 2003, ch. 678, § 1.)” (Marshall v.
Pasadena Unified School Dist., supra, 119 Cal.App.4th at p. 1260, fn. 14, italics added.)
The term “unlawful taking” appears to refer to the constitutional requirement that private
property may be taken for public use only when just compensation has been paid to the
owner. (Cal. Const., art. I, § 19, subd. (a); see U.S. Const., 5th Amend. [“nor shall
private property be taken for public use, without just compensation”].)
2. 2016 Amendment to Section 17406
Almost immediately after Davis I was final, various interested groups pursued
legislation to overturn Davis I’s interpretation of section 17406, as well as limiting the
potential damage exposure (disgorgement of all monies received) from violating the
statute. (Assem. Bill No. 975 (2015-2016 Reg. Sess.) §§ 1, 2 [as amended Aug. 18,
2015].) Eventually, in 2016, after Davis I (June 2015) and McGee (April 2016) were
decided, the Legislature responded to these decisions’ conflicting interpretations of
section 17406 by amending section 17406. (Stats. 2016, ch. 521, § 2; see Sen. Rules
Com., Off. of Sen. Floor Analyses, 3d reading analysis of Assem. Bill No. 2316 (2015–
2016 Reg. Sess.) as amended Aug. 19, 2016, pp. 6–7 [discussion of court cases] (Senate
Floor Analysis).) Assembly Bill No. 2316 was authored by Assemblymember Patrick
O’Donnell, chair of the Assembly Education Committee.
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The amendment modified and clarified the Education Code’s “lease-leaseback
provisions to remove the authority [from those provisions] to let such a contract without
advertising for bids” and “require[d] that such a contract be awarded through a
competitive process, as specified.” (Senate Floor Analysis, supra, p. 1.) Thus, the
amendment did not implement one of the interpretations of section 17406 from the
conflicting Court of Appeal decisions. Rather, the amendment changed the way lease-
leaseback contracts could be awarded, thereby preventing further use of the controversial
method employed in Los Alamitos, McGee, Taber I, and this case.
In addition, the amendment lessened the consequences of noncompliance with the
former version of the statute by “provid[ing] that a contractor may be paid reasonable
costs, as specified, if a court invalidates a lease-leaseback instrument entered into prior to
July 1, 2015 for a school construction project, if specified conditions are met.” (Senate
Floor Analysis, supra, p. 1.) Because the Site Lease and Facilities Lease were entered
into in September 2012, this limitation on disgorgement was available to protect
Contractor, if it met the statutory conditions.
The 2016 statutory text limiting disgorgement provided that when a court
determines an instrument is invalid because it falls outside section 17406’s exception to
competitive bidding, “the contractor who entered into the instrument with the school
district may be paid the reasonable cost, specifically excluding profit, of the labor,
equipment, materials, and services furnished by the contractor before the date of the
determination that the instrument is invalid,” provided that a court determined four
conditions were met. (§ 17406, subd. (d)(1), italics added; cf. Pub. Con. Code, § 5110,
subd. (a).) First, the contractor had to proceed with the construction based on a good
faith belief the instrument was valid. (§ 17406, subd. (d)(1)(A).) Second, the school
district had to determine the work performed was satisfactory and the district’s
determination had to be reasonable. (§ 17406, subd. (d)(1)(B).) Third, there could be no
contractor fraud in obtaining or performing the work. (§ 17406, subd. (d)(1)(C).) Fourth,
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the instrument could “not otherwise violate state law related to the construction or leasing
of public works of improvement.”13 (§ 17406, subd. (d)(1)(D).)
Subdivision (d)(2) of section 17406 places a mandatory ceiling on the payment
allowed to contractors under instruments that fall outside section 17406’s exception to
competitive bidding:
“In no event shall payment to the contractor pursuant to this section
exceed either of the following:
“(A) The contractor’s costs as included in the instrument plus the
cost of any approved change orders.
“(B) The lease payments made, less profit, at the point in time the
instrument is determined to be invalid by a court of competent
jurisdiction.” (Italics added.)
The statutory language at the center of the parties’ dispute about the meaning and
application of subdivision (d) of section 17406 are the terms “profit” and “reasonable
cost”; the prepositional phrase “of the labor, equipment, materials, and services furnished
by the contractor” that modifies or restricts the term “reasonable cost”; and the phrase
“costs as included in the instrument.” (§ 17406, subd. (d)(1), (2).) These words and
phrases are not defined in the article of the Education Code addressing lease-leasebacks,
elsewhere in the Education Code,14 or in Public Contract Code section 5110, which was
the model for section 17406’s safe harbor provision. In addition, the parties have not
cited any case law addressing their meaning as used in subdivision (d) of section 17406
13 This condition appears to prevent the safe harbor from extending to lease-
leaseback arrangements that violate California’s conflict of interest laws. Because we
have upheld the trial court’s determination that no conflict of interest had been proven,
we need not address the various arguments raised by the parties about the safe harbor
provision’s impact on the remedies available when a lease-leaseback arrangement
violates section 1090.
14 In contrast, the terms “shall” and “may” are defined by Education Code section
75: “ ‘Shall’ is mandatory and ‘may’ is permissive.”
46.
or Public Contract Code section 5110. Consequently, this appeal presents issues of first
impression regarding the proper interpretation of that statutory text.
3. The Trial Court’s Decision
After the trial court issued its tentative decision, Contractor proposed adding three
paragraphs addressing how the safe harbor in subdivision (d)(1) of section 17406 would
have applied if Davis had established the lease-leaseback arrangement did not comply
with section 17406. Davis objected to the proposed addition on the ground it was
unnecessary surplusage because he was not the prevailing party in the tentative decision,
Contractor was not subject to any disgorgement, and, as a result, there was no need to
address the application of the section 17406’s safe harbor.
The trial court rejected Davis’s arguments, adopted Contractor’s proposed
paragraphs with minor changes, and included an introductory sentence stating that,
although Davis had not met his burden of proof, the court would comment on the safe
harbor provision “should the Appellate Court decide contrary to the trial court.” The
court addressed the four conditions needed to qualify for the safe harbor’s protection by
finding Contractor met its burden of proving (1) Contractor proceeded with the good faith
belief that the agreements were valid and enforceable; (2) Fresno Unified was satisfied
with Contractor’s performance; (3) there was no fraud by either Contractor or Fresno
Unified in procuring or performing the challenged agreements; and (4) the agreements
did not violate other state laws. Consequently, the court found “that the safe harbor
elements were met, so that disgorgement would be limited to $236,129 in the event that”
the lease-leaseback arrangement was deemed invalid because it fell outside section
17406’s exception to competitive bidding. The court did not explicitly state how it
interpreted subdivision (d) of section 17406 or how it arrived at the amount of $236,129.
4. Evidence of Overhead Expenses and Net Profit
The figure of $236,129 is derived from Chief Operating Officer Diel’s testimony
about his calculation of Contractor’s net profit on phase 2 of the Gaston Project. Diel
47.
worked for Contractor as a project manager before becoming its chief operating officer in
2017. Diel testified Contractor’s revenue from phase 2 of the Gaston Project was
$36,051,375; its gross profit from that phase was $1,498,958; and, after deducting
$1,262,829 in general and administrative expenses (i.e., indirect cost or overhead)
allocated to the project, the net profit was $236,129. Diel’s allocation of overhead
expense to the Gaston Project used information from the parts of Contractor’s redacted
financial statements covering 2012, 2013 and 2014 admitted at trial as Exhibit 305.
The redacted financial statements included schedules of general and administrative
expenses that listed 35 expense items or categories, eight of which had been redacted by
Diel. Diel testified the redacted items might not be reasonably related to the Gaston
Project and gave as examples expenses for travel, promotion, marketing, unassigned field
staff, and maintenance of Contractor’s self-perform equipment. The unredacted items
(with the amounts) for 2013 included officers’ payroll ($264,568), estimators’ payroll
($395,998), office staff payroll ($420,850), payroll taxes for office employees
($148,931), employee benefits ($188,418), rent/facility ($441,048), facility maintenance
($47,375), maintenance of vehicles and office trailers ($92,810), utilities ($130,176),
legal and accounting ($102,231), and computer costs ($180,540).
Contractor’s general and administrative expenses for 2014 included “Bonuses” of
$640,000, which Diel did not redact. When asked who received the bonuses, Diel
answered: “My assumption, these were companywide bonuses. I don’t know which
individuals. If I was lucky, I may have received one.” When asked if everyone got the
bonus and if it was shared proportionately, Diel replied: “Our bonuses have always been
based on performance.”
Diel allocated a portion of Contractor’s overhead expenses to the Gaston Project
by performing calculations that appeared to be based on the Eichleay formula, which
typically is used in federal litigation involving federal public works projects. (JMR
Construction Corp. v. Environmental Assessment & Remediation Management, Inc.
48.
(2015) 243 Cal.App.4th 571, 584 (JMR Construction).) The Eichleay formula “ ‘is a
method of allocating … home office overhead costs to a project that [has] been extended
or delayed.’ ” (Ibid.) “ ‘Home office overhead costs are those that are expended for the
benefit of the whole business, which by their nature cannot be attributed or charged to
any particular contract.’ ” (Ibid.)
The steps in calculating the overhead expenses a contractor may recover under the
Eichleay formula begin by identifying (1) the total overhead cost incurred by the firm
during the contract period, (2) the billings from the delayed contract, and (3) total billings
of the firm during the contract period. The total overhead cost figure is multiplied by the
ratio of billings from the delayed contract to total billings of the firm during the contract.
The result is the amount of overhead allocable to the contract. The underlying idea is that
each dollar of the firm’s revenue (i.e., billings) bears an equal portion of the overhead for
the period in question. The next steps of the Eichleay formula (1) divide the overhead
allocated to the contract by the days of contract performance to get to the daily contract
overhead rate and (2) multiply the daily contract overhead rate times the days of
government-caused delay—the result is the amount recoverable. (JMR Construction,
supra, 243 Cal.App.4th at pp. 584–585, citing Wickham Contracting Co., Inc. v. Fischer
(Fed.Cir. 1994) 12 F.3d 1574, 1577, fn. 3.)
Here, Diel determined the relevant contract period for phase 2 of the Gaston
Project began with the issuance of the notice to proceed (Sept. 27, 2012) and ended when
the work was completed (Nov. 13, 2014). As shown on Exhibit 306, he calculated
Contractor’s average per day revenue and average per day general and administrative
expenses (i.e., overhead) for each year in the contract period—2012, 2013 and 2014—
and then multiplied the number of days the contract was in effect during that year by the
average daily revenue and average daily overhead expense for that year. For example, in
2012, the contract period for phase 2 of the Gaston Project covered 96 days (September
27th through December 31st) and Contractor’s 2012 average daily revenue and average
49.
daily overhead were $186,932 and $8,893, respectively.15 These daily figures are
multiplied by 96 days, resulting in $17,945,428 of Contractor’s total revenue and
$853,764 of its overhead for 2012 being allocated to the contract period.
The same calculations were performed for 2013 and 2014. When the calculations
for each year were combined, Contractor’s total revenue for the contract period was
$217,321,223 and its total overhead for that period was $7,612,455. Because the
payments on phase 2 of the Gaston Project were $36,051,375, that project generated
16.59 percent of Contractor’s total revenue of $217,321,223 for the contract period.
Based on the idea that each dollar of revenue should be allocated a proportionate share of
the overhead expense, Diel allocated 16.59 percent of the $7,612,455 of overhead for the
contract period (i.e., $1,262,829) to phase 2 of the Gaston Project. Diel subtracted the
allocated overhead amount of $1,262,829 from gross profit of $1,498,958 to get a net
profit of $236,129.
To summarize, in finding the appropriate disgorgement amount would be
$236,129, the trial court resolved issues of law by impliedly interpreting the word
“profit” used in subdivision (d)(1) of section 17406 to mean net profit, not gross profit,
which is the equivalent of impliedly interpreting the phrase “reasonable cost … of the …
services furnished by the contractor” to include a portion of Contractor’s general and
administrative expenses (i.e., overhead or indirect costs). The court resolved an issue of
fact by impliedly finding that the reasonable amount of Contractor’s overhead
apportioned to phase 2 of the Gaston Project was $1,262,829, the amount calculated by
Diel.
15 Despite 2012 being a leap year, Diel divided the yearly totals by 365 days, rather
than 366 days, which slightly overstated the 2012 daily averages. Had 366 days been
used, they would have been $186,420.80 and $8,869.07, respectively. Davis has not
raised this error. For that reason and its de minimis impact, we do not address that error
further.
50.
B. Interpreting Subdivision (d) of Section 17406
The interpretation of a statute presents questions of law subject to independent
review on appeal. (See pt. I., ante.) Our role is to ascertain the intent of the Legislature
so as to effectuate the purpose of the law. We begin with the statute’s words and
consider whether they have a plain meaning or, alternatively, are ambiguous—that is
susceptible to more than one reasonable interpretation. When statutory language is
ambiguous, courts select the interpretation most closely aligned with the apparent intent
of the Legislature, with a view of promoting rather than defeating the general purpose of
the statute and avoiding absurd consequences. (Merced Irrigation Dist. v. Superior Court
(2017) 7 Cal.App.5th 916, 925.) Courts determine the apparent intent underlying
ambiguous statutory language by considering that language in context and by evaluating
a variety of extrinsic aids, including the ostensible objects to be achieved by the statute,
the evils to be remedied, public policy, and the statute’s legislative history. (Cisneros v.
Department of Motor Vehicles (2024) 104 Cal.App.5th 381, 407–408.)
1. Statute’s Ambiguity
On the threshold question of statutory interpretation, we conclude section 17406,
subdivision (d)(1) unambiguously grants the trial court discretion in determining whether
a contractor “may be paid” any of its costs, but is ambiguous about the scope of that
discretion. For example, the exclusion of “profit” from the amount a contractor “may be
paid” could mean either net profit or gross profit. (§ 17406, subd. (d)(1).) Similarly, the
phrase “reasonable cost … of the labor, equipment, materials, and services furnished by
the contractor” could be interpreted to encompass both direct and indirect costs or, like
the interpretation requiring the disgorgement of gross profit, could permit only the
payment of direct costs. (Ibid.)
2. Resolving the Ambiguity About Profit and Overhead
The legislative history for the 2016 amendment that added subdivision (d) to
section 17406 does not explicitly state whether “profit” means net profit or gross profit;
51.
whether “reasonable cost” includes or excludes indirect costs (i.e., overhead); or whether
“reasonable cost” is limited to direct costs. Davis notes the 19 uses of the term “any
profit” in the judicially notice legislative materials. For example, staff comments in a
report of the Senate Committee on Education refer to “reasonable costs (excluding any
profit).” (Sen. Com. on Education, Rep. on Assem. Bill No. 2316 (2015–2016 Reg.
Sess.) June 29, 2016, p. 3 (Education Committee Report).) Davis contends “any profit”
encompasses gross profit and, thus, the statute precludes the payment of gross profit in all
cases. Under this interpretation, the trial court would have no discretion to allow the
contractor to be paid a portion of its overhead.
“Profit” means “[t]he excess of revenue over expenditures in a business
transaction; GAIN.” (Black’s Law Dict. (12th ed. 2024) p. 1465.) Below this general
definition, Black’s Law Dictionary sets forth several definitions for particular types of
profit, including “gross profit” and “net profit.” Gross profit is defined as “[t]otal sales
revenue less the cost of the goods sold, no adjustment being made for additional expenses
and taxes.” Net profit is defined as “[t]otal sales revenue less the cost of the goods sold
and all additional expenses.” (Ibid.) Here, Diel’s use of “net profit” to mean “gross
profit” minus general and administrative expenses (i.e., overhead or indirect costs) is
consistent with these definitions.
Generally, the word “ ‘any’ ” means “ ‘of whatever kind’ ” or “ ‘without
restriction.’ ” (Zabrucky v. McAdams (2005) 129 Cal.App.4th 618, 628.) “Any” is
defined by Black’s Law Dictionary to mean: “Some; one out of many; an indefinite
number. One indiscriminately of whatever kind or quantity.” (Black’s Law Dict. (6th ed.
1990) p. 94.) The dictionary acknowledges that “ ‘any’ has a diversity of meaning and
may be employed to indicate ‘all’ or ‘every’ as well as ‘some’ or ‘one’ and its meaning in
a given statute depends upon the context and the subject matter of the statute.” (Ibid.)
We conclude the use of “any profit” in the legislative materials provides some
support for inferring “profit” should be interpreted broadly to mean gross profit because
52.
gross profit is a kind of profit. The inference would be stronger if the Legislature had
included “any” or “all” in the statutory text or had explicitly resolved the question by
referring to gross profit. Because the inference is not conclusive, the use of “any profit”
in the legislative materials does not end our inquiry into legislative intent.
We also consider what the legislative materials said about the term “reasonable
cost” or, more generally, about costs. An enrolled bill report addressed the legal impact
of the 2016 amendment by stating: “This bill also specifies that contractors may recover
their actual costs, in specified circumstances, if a court has invalidated a lease-leaseback
contract entered into before July 1, 2015. This provision could apply to the contract
invalidated in the Davis litigation.” (Enrolled Bill Rep. on Assem. Bill No. 2316 (2015–
2016 Reg. Sess.), Sept. 9, 2016, p. 7, italics added.) The report also described Davis’s
attorney’s opposition to the bill, stating that he “opposes the provision allowing
contractors to recover their actually incurred reasonable costs in certain circumstances if
a contract is invalidated, stating that contractors have violated conflict of interest laws
and should not be given a free pass.”16 (Id. at p. 4, italics added.) Because overhead
consists of expenses actually paid by a contractor, the use of the terms “actual costs” and
“actually incurred reasonable costs” provides some support for the inference that the safe
harbor allows contractors to be paid a portion of their overhead as part of the cost of the
services furnished in performing the contract. However, like the use of “any profit,” the
use of “actual costs” and “actually incurred” does not unequivocally demonstrate the
Legislature intended to authorize the payment of a portion of the contractor’s overhead.
Next, we consider Contractor’s argument that the inquiry into legislative intent
should examine statutes and judicial decisions that existed when section 17406 was
16 This argument is off point because the failure to comply with section 17046 is not
necessarily a violation of California’s conflict of interest laws and a contractor with a
conflict of interest would not be able to satisfy the fourth condition to be eligible for the
safe harbor’s protection. (See § 17406, subd. (d)(1)(D).)
53.
amended in 2016. Contractor refers to Government Code section 16727, which restricts a
public entity’s use of proceeds from the sale of bonds to specified purposes including the
costs of construction of capital assets. “Costs allowable under this section include costs
incidentally but directly related to construction or acquisition, including, but not limited
to, planning, engineering, construction management, architectural, and other design work,
environmental impact reports and assessments, required mitigation expenses, appraisals,
legal expenses, site acquisitions, and necessary easements.” (Gov. Code, § 16727, subd.
(a).) This statute’s reference to “costs incidentally but directly related to construction”
does not provide a useful analogy for interpreting the text of section 17406 because the
costs listed are not general and administrative expenses (i.e., indirect costs), but are
“directly related to construction.” Thus, the discussion of administrative oversight work
in San Lorenzo Valley Community Advocates for Responsible Education v. San Lorenzo
Valley Unified School Dist. (2006) 139 Cal.App.4th 1356 and a 2004 Attorney General
opinion does not address the public entity’s overhead expenses, such as the cost of
owning or renting its main office. Rather, the administrative costs discussed were for
“ ‘monitoring contracts and project funding, overseeing construction progress, and
performing overall project management and accounting that facilitates timely completion
of the construction project’ ” (San Lorenzo Valley, supra, at p. 1401, quoting 87
Ops.Atty.Gen. 157, 160 (2004)), not general and administrative expenses that are
regarded as indirect costs.
Contractor also refers to Government Code section 50054, which addresses the
price a city or county may charge when it provides construction services or constructs
public works for another agency:
“[T]he price charged for such services or construction shall be
sufficient to reimburse the governmental body performing such
services for the full cost thereof including labor, material, equipment
costs or rentals and a reasonable allowance for overhead. In
computing overhead, without limitation on other factors properly
54.
includable, there shall be allocated to the overhead cost its
proportionate share of indirect labor and administrative costs.”
(Italics added.)
This text shows the Legislature treated overhead as part of the cost that a
governmental body may recover for construction services. The Legislature also referred
to overhead in a provision of the Public Contract Code adopted in 1983 when the
Legislature “created the California Uniform Construction Cost Accounting Commission.”
(Pub. Contract Code, former § 21100; Stats. 1983, ch. 1054, § 1; see Stats. 1986, ch.
1019, § 40 [renumbered Pub. Contract Code § 22010].) One of the commission’s duties
is to recommend “uniform construction cost accounting procedures for implementation
by public agencies in the performance of, or in contracting for, construction on public
projects.” (Pub. Contract Code, § 22017, subd. (a).) The recommended cost accounting
procedures must “be consistent with construction cost accounting procedures and
reporting requirements utilized by state and federal agencies on public projects.” (Ibid.)
Cities with a population under 75,000 that elect to utilize the procedures “shall assume an
overhead rate equal to 20 percent of the total costs of a public project, including the costs
of material, equipment, and labor.” (Pub. Contract Code, § 22017, subd. (b)(1), italics
added.) Cities with a population over 75,000 “may either calculate an actual overhead
rate or assume an overhead rate equal to 30 percent of the total costs of a public project.”
(Id., subd. (b)(2), italics added.)
After the commission makes its recommendation, the State Controller evaluates it
and either formally adopts or rejects the recommended accounting procedures. (Pub.
Contract Code, § 22018.) After formal adoption, the State Controller must “promulgate
the uniform procedure for all public agencies electing to participate, together with
instructions for their adoption and implementation by any public agency.” (Pub. Contract
Code, § 22019.) Because the accounting procedures are adopted pursuant to the
Legislature’s directions, we conclude those procedures provide some insight into how the
Legislature views the treatment of overhead for accounting purposes.
55.
The 2025 edition of the commission’s Cost Accounting Policies and Procedures
Manual (Cost Accounting Manual)17 identifies three methods that can be used when
public entities elect to calculate their overhead rates. (Cost Accounting Manual, §§ 3.08,
7.01, pp. 48–49, 71.) Appendix A to the manual refers to the federal government’s
method of calculating overhead. Appendix B sets forth a method that allocates overhead
costs as a percentage of direct labor costs. The third option is any method “satisfactory
with the Commission, provided that acceptable accounting procedures are used and all
administrative costs are included.” (Cost Accounting Manual, § 3.08, p. 49.) The
manual describes the nature of overhead by stating: “Overhead costs cannot be identified
with or charged to jobs or units of production unless some more or less arbitrary
allocation basis is used.” (Ibid.; see 2 C.F.R. § 200.412 [“There is no universal rule for
classifying certain costs as direct or indirect costs.”]; JMR Construction, supra, 243
Cal.App.4th at p. 584 [home office overhead costs “ ‘are expended for the benefit of the
whole business [and] by their nature cannot be attributed or charged to any particular
contract.’ ”].) The manual’s Appendix B states:
“Overhead costs represent economic resources that are employed for
common or joint purposes benefiting several end cost objectives and are not
identifiable to an individual end cost objective. The challenge is to achieve
an equitable allocation of overhead costs to these various end cost
objectives of the public agency.” (Cost Accounting Manual, p. 79.)18
17 The Cost Accounting Manual is available online at the State Controller’s website
<https://www.sco.ca.gov/ard_cuccac.html>. Because it is formally adopted,
promulgated, and published by a state official, judicial notice of the manual is not
necessary. (See Quelimane Co. v. Stewart Title Guaranty Co. (1998) 19 Cal.4th 26, 45,
fn. 9 [“A request for judicial notice of published material is unnecessary. Citation to the
material is sufficient.”]; Thornton v. California Unemployment Ins. Appeals Bd. (2012)
204 Cal.App.4th 1403, 1410, fn. 3 [request for judicial notice of published
recommendation of the California Law Revision Commission denied as unnecessary].)
18 In the context of this case, the “individual end cost objective” was phase 2 of the
Gaston Project.
56.
The Cost Accounting Manual also states that both the construction industry and
public agencies recognize that the significant cost elements of any construction project
include overhead and lists 13 overhead items, including the cost of processing payroll,
data processing, facilities, and top management. (Cost Accounting Manual, § 3.08, p.
49.)
To summarize, Government Code section 50054, Public Contract Code section
22017, and the Cost Accounting Manual support the inference that the Legislature
intended the reasonable cost of the services furnished on a construction project to include
a reasonable portion of the contractor’s overhead.
This inference is also supported by case law addressing the damages recoverable
for breach of a construction contract. In Allen v. Gardner (1954) 126 Cal.App.2d 335,
the general contractor on a school construction project sued a subcontractor who had
agreed to furnish specially designed concrete but had delivered only a small portion of
the agreed quantity. (Id. at p. 337–338.) The trial court found the subcontractor had
breached the subcontract, found the replacement concrete cost the general contractor
$43.02 a cubic yard, and awarded damages based on the difference between that cost and
the price of $15.50 per cubic yard set in the subcontract. (Id. at p. 338.) The cost of
$43.02 of each cubic yard of the replacement concrete included $5.69 for overhead,
computed at 15.24 percent of the cost of the labor, equipment, cement and aggregate for
each cubic yard. On appeal, the subcontractor argued there was no evidence supporting
the award of overhead. (Id. at p. 344.) The court rejected this argument and concluded
the method for estimating the overhead expense was appropriate. (Id. at p. 345.) Under
that method, the overhead costs caused by the breach was estimated by determining
“what proportion of the total business of [the general contractor] was represented by the
concrete job, and [allocating] that proportion of the total overhead expenses as applicable
to the concrete job.” (Ibid.) The court summarized by stating the case was
57.
“predominantly a fact case” and substantial evidence supported the fact of damage and
the amount fixed in the award. (Id. at p. 346.)
Based on our consideration of the wording of subdivision (d) of section 17406, the
legislative history of the bill enacting that subdivision, other statutes, the Cost
Accounting Manual, and case law, we infer the Legislature did not intend to bar trial
courts from allowing contractors to be paid for overhead costs allocated to the
construction project. Restated using the statutory text, the Legislature intended the
“reasonable cost … of … services furnished by the contractor” to include overhead.
(§ 17406, subd. (d)(1).) Part of the rationale for this interpretation is that, as a practical
matter, contractors could not furnish the “services” needed to complete a construction
project without a home office supporting the personnel assigned to that project. Thus, it
is reasonable for a portion of the contractor’s overhead to be allocated to the project.
3. Scope of Discretion
Further issues of statutory interpretation involve the scope of the trial court’s
discretion and the types of decisions it makes in applying subdivision (d) of section
17406. First, the phrase “may be paid” and the legislative history clearly demonstrate the
trial court has the discretionary authority to determine whether the contractor should be
paid any of its reasonable costs of the labor, equipment, materials and services furnished.
(See Education Committee Report, supra, p. 6 [recommendation that the court be given
the discretion “to determine the appropriate remedy based upon the specific
circumstances surrounding the [challenged] contract”].) If the court decides, in an
exercise of that discretion, to allow the payment of some costs, it also has the discretion
to determine which particular items of cost to include in the allowed payment.
Second, any allowance of payment under this discretionary authority is subject to
the mandatory limits contained in subdivision (d)(2) of section 17406. (See Williams v.
Superior Court (2017) 3 Cal.5th 531, 540 [scope of discretion always resides in the
particular law being applied].) Thus, the amount the contractor is paid or allowed to
58.
retain must not exceed “[t]he contractor’s costs as included in the instrument plus the cost
of any approved change orders” or “[t]he lease payments made, less [net] profit” when
the instrument is declared invalid by a court. (§ 17406, subd. (d)(2)(A), (B).) Here, the
guaranteed maximum price for phase 2 of the Gaston Project included amounts to cover
Contractor’s overhead expenses and provide a profit. As a result, the limitation directly
applicable in this case prohibits Contractor from retaining the profit portion of the $36
million in lease payments, which we have interpreted to mean net profit. (§ 17406, subd.
(d)(2)(B).)
Third, once a trial court has, in an exercise of its discretion, decided to allow
payment, its authority is limited by the modifier “reasonable” before the word cost and
the prepositional phrase “of the labor, equipment, materials, and services furnished by the
contractor” before the lease-leaseback arrangement is declared invalid. Stated another
way, a trial court cannot allow payment of (1) an amount of a particular cost that is
unreasonable or (2) a cost item that was not furnished in performing the construction.
The application of the modifier “reasonable” and the prepositional phrase present the trial
court with questions of fact. Accordingly, the trial court’s findings of fact as to what was
furnished and the reasonable value of that which was furnished are subject to review
under the substantial evidence standard.
4. Method for Allocating Overhead
Another legal question presented is how to characterize the selection of a formula
or method for allocating a portion of the contractor’s overhead to the construction project
in question. This characterization would establish the applicable standard of review.
(See generally, Sierra Club v. County of Fresno (2018) 6 Cal.5th 502, 514 [under
California Environmental Quality Act, an agency’s choice of methodology for analyzing
a potentially significant environmental impact “is amenable to substantial evidence
review”].) We do not decide whether the selection of a method resolves a question of
law, a question of fact, a mixed question of law and fact, or is committed to the trial
59.
court’s discretion. Regardless of how the selection is characterized, we conclude the
formula used by Diel and accepted by the trial court was reasonable as a matter of law, as
a matter of fact, and was not arbitrary or capricious.
We agree with the statement in the Cost Accounting Manual that charging
overhead costs to a job or unit of production requires the use of “some more or less
arbitrary allocation basis.” (Cost Accounting Manual, § 3.08, p. 49.) The manual
recognizes a variety of ways to perform that allocation. (Cost Accounting Manual,
§ 3.08, pp. 48–49.) Further, we have not located, and the parties have not cited, a
California case adopting a particular method and rejecting all others. Thus, for purposes
of section 17406, we conclude there is no single formula or method for allocating a
contractor’s overhead to a particular construction project.
Consequently, we consider whether the variation of the Eichleay formula used by
Diel, which allocated a proportionate share of overhead expenses to each dollar of
revenue from the contract period, was appropriate for this case. The Eichleay formula is
generally accepted by federal courts when determining the recoverability of home office
overhead as an element of damages for a government-caused delay. (See JMR
Construction, supra, 243 Cal.App.4th at p. 587.) As described earlier, the foundation for
determining the amount of overhead recoverable involves allocating part of the
contractor’s total overhead for the contract period to the contract in question. (Id. at p.
584.) That foundational amount is then converted to a daily amount and that daily
amount is multiplied by the days of the government-caused delay to get the amount
recoverable. (Ibid.) If this method is reasonable for determining the overhead that a
project continued to incur after the contract period due to the delay, it logically follows
that it also is a reasonable method for determining the foundational amount—that is, the
amount of the contractor’s total overhead for the contract period allocable to the contract
in question. The method used by Diel also is supported by its similarities to the method
60.
used in Allen v. Gardner, supra, 126 Cal.App.2d 335 to estimate recoverable overhead.
(Id. at p. 345.)
Our conclusion that the method was reasonable and appropriate in the
circumstances of this case also is supported by Davis’s failure to identify any alternate
method of allocating overhead, much less a superior one. As a result, we conclude the
trial court did not err in accepting the formula used by Diel, which allocated 16.59
percent of Contractor’s general and administrative expenses for the contract period to
phase 2 of the Gaston Project.
C. Application of Subdivision (d) of Section 17406
First, we consider whether the trial court abused its discretion in deciding to allow
Contractor to retain all of the lease payments except its net profit. Because Contractor
satisfied the four statutory conditions, that decision did not exceed to bounds of reason.
(See Continental Baking Co. v. Katz (1968) 68 Cal.2d 512, 527.) Second, based on our
interpretation of section 17406, subdivision (d), we conclude the trial court did not
commit a legal error by limiting disgorgement to Contractor’s net profit. Third, the court
did not commit factual error by making findings that were not supported by substantial
evidence. The testimony of Diel and the supporting exhibits qualify as substantial
evidence that Contractor’s net profit on phase 2 of the Gaston Project was $236,129.
D. Constitutional Prohibition of Gifts
Having resolved the issues of statutory interpretation, we turn to Davis’s
constitutional challenges to the safe harbor provision. Davis contends the entire $36
million paid to Contractor for phase 2 of the Gaston Project must be disgorged because
section 17406’s limitation of disgorgement to profit violates section 6 of article XVI of
the California Constitution, which states in part:
“The Legislature shall have no power to ... make any gift or
authorize the making of any gift, of any public money or thing of
value to any individual, municipal or other corporation[.]”
61.
Courts addressing whether an appropriation of public funds constitutes a “gift”
subject to this constitutional provision address “whether the funds are to be used for a
‘public’ or a ‘private’ purpose.” (County of Alameda v. Janssen (1940) 16 Cal.2d 276,
281; Paramount Unified School Dist. v. Teachers Assn. of Paramount (1994) 26
Cal.App.4th 1371, 1388.) Funds used for a “public purpose” are not a gift within the
meaning of the California Constitution’s gift clause. (Janssen, supra, at p. 281.) “The
benefit to the state from an expenditure for a ‘public purpose’ is in the nature of
consideration and the funds expended are therefore not a gift even though private persons
are benefited therefrom.” (Ibid.; see Preston v. State Bd. of Equalization (2001) 25
Cal.4th 197, 225.) In the absence of a public purpose, the term “ ‘gift’ ” includes “ ‘ “all
appropriations of public money for which there is no authority or enforceable claim,” ’ or
which are grounded on mere moral or equitable obligations.” (West Contra Costa Unified
School Dist. v. Superior Court (2024) 103 Cal.App.5th 1243, 1256.)
“The determination of what constitutes a public purpose is primarily a matter for
the Legislature to determine, and its discretion will not be disturbed by the courts so long
as that determination has a reasonable basis.” (County of Alameda v. Carleson (1971) 5
Cal.3d 730, 746.) “Where the Legislature makes findings, they are ‘given great weight
and will be upheld unless they found to be unreasonable and arbitrary.’ [Citation.] But
‘[t]he failure to explicitly state a public purpose is not decisive. The courts may infer the
public purpose from other legislation or the manner in which the legislation is enacted.’ ”
(West Contra Costa Unified School Dist. v. Superior Court, supra, 103 Cal.App.5th at p.
1257.)
Here, the Legislature did not explicitly find that the payments allowed under the
safe harbor created by subdivision (d)(1) of section 17406 were for a public purpose.
(See Stats. 2016, ch. 521, §§ 1, 2.) However, because section 17406 addresses leases that
“require[] the lessee therein to construct on the demised premises … a building or
buildings for the use of the school district” (§ 17406, subd. (a)(1)), we infer the payments
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allowed by the safe harbor had a public purpose. Specifically, educating children
provides a public benefit, when school districts provide that education they are serving a
public purpose, and school districts need building to be able to perform the function of
educating children. It follows that the construction of buildings for use by school
districts serves a public purpose and payment for construction, which is allowed only if
the school district reasonably determines the construction is satisfactory, is for the public
purpose. Consequently, we conclude the safe harbor contained in subdivision (d)(1) of
section 17406 is not unconstitutional, either on its face or as applied to the facts of this
case.19 (See In re D.L. (2023) 93 Cal.App.5th 144, 156–157 [typically, the
constitutionality of a statute may be challenged “in two ways: on its face or as applied”].)
V. COSTS
First, we address the costs incurred in this appeal. Second, we address the costs
incurred in the trial court litigation.
A. Costs on Appeal
Code of Civil Procedure section 1034, subdivision (b) states: “The Judicial
Council shall establish by rule allowable costs on appeal and the procedure for claiming
those costs.” Generally, “the party prevailing in the Court of Appeal in a civil case … is
entitled to costs on appeal.” (Cal Rules of Court, rule 8.278(a)(1).) When the Court of
Appeal affirms a judgment without modification or reverses a judgment in its entirety, the
prevailing party is clear. (Cal Rules of Court, rule 8.278(a)(2).) In contrast, where “the
Court of Appeal reverses the judgment in part or modifies it, … the opinion must specify
the award or denial of costs.” (Cal Rules of Court, rule 8.278(a)(3).) In fulfilling that
19 We note that Public Contract Code section 5110, the provision on which section
17406’s safe harbor was modeled, has not been declared unconstitutional. (Senate Floor
Analysis, supra, at p. 7 [safe harbor “modeled after Public Contract Code provisions that
protect against disgorgement if the contract is invalidated because of a defect in the
bidding process”].)
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mandate, the Court of Appeal may, in the interests of justice, “award or deny costs as it
deems proper.” (Cal Rules of Court, rule 8.278(a)(5).) Under these provisions, this court
has the discretion to determine which of the parties, if any, should be allowed to recover
costs on appeal.
In exercising that discretion, we take into account defendants’ success on the
conflict of interest claims and the fact that the remedy on those claims would have been
more extensive than just the disgorgement of net profit. (See § 17406, subd. (d)(1)(D).)
Based on the partial success of this appeal, we deem it proper to award Davis 50 percent
of the costs he incurred in this appeal and require him to bear the other 50 percent.
B. Costs Incurred Below
Code of Civil Procedure section 1032, subdivision (b) states: “Except as otherwise
expressly provided by statute, a prevailing party is entitled as a matter of right to recover
costs in any action or proceeding.” The term “prevailing party” is defined in subdivision
(a)(4) of section 1032 of the Code of Civil Procedure and its first sentence states:
“ ‘Prevailing party’ includes the party with a net monetary recovery,
a defendant in whose favor a dismissal is entered, a defendant where
neither plaintiff nor defendant obtains any relief, and a defendant as
against those plaintiffs who do not recover any relief against that
defendant.” (§ 1032, subd. (a)(4), italics added.)
The four categories of litigants identified in this provision must be treated as a
prevailing party for purposes of awarding costs and the superior court has no discretion to
deny them prevailing party status. (Michell v. Olick (1996) 49 Cal.App.4th 1194, 1197;
see Code Civ. Proc., § 1032, subd. (b) [recovery of costs as a matter of right].) In
comparison, the second sentence of in subdivision (a)(4) of section 1032 of the Code of
Civil Procedure states:
“If any party recovers other than monetary relief and in situations
other than as specified, the ‘prevailing party’ shall be as determined
by the court, and under those circumstances, the court, in its
discretion, may allow costs or not and, if allowed, may apportion
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costs between the parties on the same or adverse sides pursuant to
rules adopted under Section 1034.” (§ 1032, subd. (a)(4), italics
added.)
Davis’s opening brief requests that the judgment be reversed and the matter
remanded back to the trial court for the entry of a judgment stating that he, “as the
prevailing party, shall be awarded allowable costs pursuant to California Code of Civil
Procedure section 1032.” His opening brief, however, does not address the question of
whether the plaintiff in a taxpayer action who obtains a judgment requiring a defendant to
disgorge (i.e., refund) money to a defendant public entity is “the party with a net
monetary recovery” for purposes of the first sentence of subdivision (a)(4) of section
1032 of the Code of Civil Procedure. Stated another way, this issue is whether Davis, as
a plaintiff who recovered nothing for himself, is the party with a net monetary recovery.
(See Black’s Law Dict. (12th ed. 2024) [“net” means “[t]he final amount remaining after
all other amounts have been taken away”].) The respondent’s brief also does not address
the issue of how subdivision (a)(4) of section 1032 of the Code of Civil Procedure applies
to these circumstances.
In the absence of reasoned argument by the parties supported by citation of
authority (Cal. Rules of Court, rule 8.204(a)(1)(B)), we conclude the better course is for
the trial court to decide the question of who, if anyone, is the prevailing party. This
approach will give the parties an opportunity to address the application of the first and
second sentences of subdivision (a)(4) of section 1032 of the Code of Civil Procedure to
the facts of this case.
DISPOSITION
The judgment is reversed and the cause remanded to the trial court with directions
to enter, no later than 10 days after the issuance of remittitur, a modified judgement that
includes the following terms:
1. On Plaintiff’s causes of action for noncompliance with
Education Code section 17406 and violation of the competitive bidding
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statutes, judgment is entered against Defendants and in favor of Plaintiff
such that Defendant Harris Construction Co., Inc. shall return $236,129 in
profit to Defendant Fresno Unified School District.
2. Judgment on Plaintiff’s remaining claims is entered against
Plaintiff and in favor of Defendants.
The trial court also is directed to conduct further proceedings not inconsistent with
this opinion, which proceedings are not necessarily limited to determining the prevailing
party for purposes of an award of costs; the amount of costs awarded, if any; and the
entitlement to and the amount of an award of attorney fees.
Appellant Davis shall recover 50 percent of his costs on appeal from respondents.
FRANSON, J.
WE CONCUR:
DETJEN, Acting P. J.
SNAUFFER, J.
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