STATE OF NEW YORK
STATE ETHICS COMMISSION

Advisory Opinion No. 90-14: Interpretation of the term "net revenues," as found in §73(10) of the Public Officers Law.

INTRODUCTION

The following advisory opinion is issued in response to several inquiries, including written inquiries from the law firms of [Firm A], [Firm B] and [Firm C], on how to define the term "net revenues," as contained in §73(10) of the Public Officers Law, in determining whether an entire firm is disqualified from appearing or practicing before a State agency because of the disqualification of one of its members or associates.

Pursuant to the authority vested in the New York State Ethics Commission ("Commission") by §94(15) of the Executive Law, the Commission hereby renders its opinion that, for purposes of §73(10), the term "net revenues" shall be defined as gross revenues received from appearing, practicing, communicating or otherwise rendering services in relation to any matter before, or transacting any business with, a State agency (or a city agency with respect to affected political party chairs as defined) minus all fixed operating expenses in an appropriate proportion to such gross revenues of the firm.

Further, a disqualified member or associate is not precluded from sharing the fees derived from a "screened" matter in the limited circumstance where such fees are part of a fixed operating expense applied to all firm members' or associates' fixed salaries and expenses and are a small percentage of both the firm's total revenue and the disqualified individual's fixed salary and expenses.

BACKGROUND

Subdivision 10 of §73 of the Public Officers Law directs the Commission to define the term "net revenues . . . in accordance with generally accepted accounting principles" for the purposes of determining first, from which revenues a present or former State officer or employee may be paid, and second whether a firm, association or corporation is disqualified from appearing, practicing or representing any person before a State agency on the basis of the disqualification of one of its members or associates.1 More specifically, the text of §73(10) provides in relevant part that:
10. Nothing contained in this section, the judiciary law, the education law, or any other law or disciplinary rule shall be construed or applied to prohibit any firm, association or corporation in which any present or former statewide elected official, state officer or employee, or political party chairman, . . . is a member, associate, retired member, of counsel or shareholder, from appearing, practicing, communicating or otherwise rendering service in relation to any matter before, or transacting business with a state agency, or a city agency, with respect to a political party chairman in a county wholly included in a city with a population of more than one million, otherwise proscribed by this section, the judiciary law, the education law or any other law or disciplinary rule with respect to such official, member of the legislature or officer or employee, or political party chairman, where such statewide elected official, state officer or employee . . . or political party chairman does not share in the net revenues, as defined in accordance with generally accepted accounting principles by the state ethics commission . . . or, acting in good faith, reasonably believed that he or she would not share in the net revenues as so defined . . . . (Emphasis added.)
In sum, the above-cited provision would subject the members, associates, retired members, of counsels and shareholders of firms, associations, and corporations to disqualification from appearing, practicing, or rendering services before a State agency if the disqualified member or associate shares in the firm's net revenues resulting from its dealings with a State agency.2 Although the initial inquiry came from law firms, the Commission is charged with developing a definition that applies to a class of current and former State officers and employees that includes, but is not limited to, lawyers.

DISCUSSION

The Definition.

The Commission is directed to define "net revenues" in accordance with generally accepted accounting principles for application to all current and former State officers and employees who are covered by §73(10). The term "net revenues" is defined neither in §73(10) nor anywhere else in the Ethics in Government Act of 1987. There is no legislative history from which to draw the Legislature's intent in applying the term.

An exhaustive search of treatises on generally accepted accounting principles has revealed no generally accepted definition of the term "net revenues." The Financial Accounting Standards Board ("FASB"), the primary organization responsible for the development of generally accepted accounting principles, has informed the Commission that there is no officially sanctioned or generally accepted or used definition of the term "net revenues."

The Commission, therefore, looked to the generally used definitions of "net income" and "net profits" to establish a workable definition of the term "net revenues" for the purpose of §73(10).3 In Kohler's Dictionary for Accountants (6th ed. 1983), "net income" is defined as

Revenues less operating costs. The balance remaining to stockholders of a business enterprise after deducting from the gross revenues for a given period all the operating expenses and income deductions during the same period.4
In Black's Law Dictionary (5th ed. 1979) "net income," is defined to include "[g]ross income after subtracting ordinary and necessary expenses in efforts to obtain or to keep it." (Emphasis added.)

"Net profit" is the excess of all revenues and gains for a period of time over all expenses and losses for the period. The concept of "net profit" presumes the deduction of both operating costs and certain other distributions such as taxes and bonuses and other items dependent on the existence of excess revenues.5

Both "net income" and "net profits" entail a deduction of expenses from gross revenues. The only distinction between the two terms is, for net profit, certain non-operating costs such as taxes and bonuses, or extraordinary expenses, are also deducted.

The Commission has determined to define net revenues as gross revenues received from appearing, practicing, communicating or otherwise rendering services in relation to a matter before, or transacting business with, a State agency (or a city agency with respect to affected political party chairs), minus all fixed ordinary and necessary operating expenses. In this way, firms would be prohibited from granting their disqualified associates or members bonuses or extraordinary perquisites from the fees generated by "screened" matters, since these items would be included in net revenues in which the disqualified member or associate could not share pursuant to §73(10).

By defining net revenues to include certain gross revenues minus all operating expenses, including rent, wages, utilities, and similar day-to-day expenses (and thus excluding income taxes, bonuses to officers, and extraordinary items), application of this definition to firms, associations or corporations subject to §73(10) would be relatively straightforward. Any other definition of net revenues might potentially create onerous changes in the accounting practices actually utilized by firms, associations or corporations and generally accepted by the FASB.

Such a definition of net revenues would clearly bolster the purpose and intent of the Ethics in Government Act, which is to limit the private gain by current and former State officers and employees based on their connections and information acquired through State service.

Application of the Definition

Pursuant to the Commission's definition of the term net revenues, even if one member or associate of a firm is disqualified from appearing before his or her former agency,6 other members or associates of the firm would not be disqualified from engaging in the matter, as long as the distribution of net revenues from State-related activities is in accordance with §73(10) and this Advisory Opinion. As described below, the firm must insure that the "screened" individual does not share in the net revenues earned as a result of the firm's participation in the State-related matter.

Applying the Commission's definition of net revenues to individuals compensated on an hourly or per diem basis is a simple matter. The individual is compensated only for his or her work on matters in which he or she is not disqualified and from revenues obtained from such matters. No further calculations would be required.

An otherwise disqualified individual, who is compensated strictly on a fixed wage or salary basis and receives no bonuses or other extra compensation, may be paid in part from revenues derived from a "screened" matter. However, the fixed salary of the disqualified individual must bear a reasonable relationship to the work performed and to the salary paid for such a position in that organization and in the general field, and be paid not only from "screened" fees, but from all gross revenues received.7 The issue of fixed salary will be less likely to produce concern if the "screened" fees earned are low, relative to all the fees generated by the firm, and the percentage devoted to such fixed salaries, therefore, is also low.8

Applying the Commission's definition of net revenues to partners or principals of firms or associations is somewhat more complicated. A partner's compensation often represents a share of the firm's revenues that is unrelated to work actually performed by the partner. Likewise, principals of a professional corporation are typically paid a sum that is related to the corporation's estimated income for the upcoming year and is unrelated to the income generated by a particular principal.

The District of Columbia ("D.C.") Bar, in an ethics opinion affecting fees generated from a matter in which a "screened" government lawyer was disqualified, addressed situations where the "screened" attorney is a partner or otherwise shares in the firm's revenues that is unrelated to work performed or generated.9 The D.C. Bar constructed a formula to determine the amount attributable to overhead and the amount of profit unavailable to the "screened" partner. First, the firm determines what percentage of gross income is available to distribution to all the partners.10 This percentage is then applied to the gross revenues generated from the screened matter in order to determine the amount that is attributable to overhead and the amount of profit that is unavailable to the "screened" partner. The sum which is unavailable to the "screened" partner can be shared by the unscreened partners. In this fashion, the amount of profit to be distributed to all the partners of the firm would have to be proportionately reduced by the amount received from "screened" fees when distributed to the "screened" partner.11

With respect to a professional corporation, the D.C. Opinion advocates a similar approach be applied to the sum that is available for distribution to the principals either as salaries or as after-salary profit. Even though the principals' salaries are an expense of the corporation, these salaries are compensation for the principals just as the shares from a partnership are compensation for partners. Funds derived from a "screened" matter must be deducted from the pool from which the "screened" principal's salary is drawn.12

Consideration of disciplinary rules governing attorneys.

The Code of Professional Responsibility, which governs the professional conduct of lawyers in New York State, contains Disciplinary Rule 5-105(b), addresses the disqualification of lawyers. The effect of that rule, which disqualifies an entire law firm from engaging in a matter if any partner or associate is disqualified due to a conflict of interest, has been modified by the adoption of an amended disciplinary rule, which will become effective September 1, 1990. The amended rule moves in the direction of the Commission's definition of net revenues and interpretation of its application. The amended rule, DR 9-101(B), provides
B. Except as law may otherwise expressly permit:

    1. A lawyer shall not represent a private client in connection with a matter in which the lawyer participated personally and substantially as a public officer or employee, and no lawyer in a firm with which the lawyer is associated may knowingly undertake or continue representation in such a matter unless:

    1. The disqualified lawyer is effectively screened from any participation, direct or indirect, including discussion, in the matter and is apportioned no part of the fee therefrom; and

    2. There are no other circumstances in the particular representation that create an appearance of impropriety. (Emphasis added.)
Inasmuch as §73(10) of the Public Officers Law specifically governs those current and former State officers and employees who are lawyers with respect to their ability to share in net revenues generated from certain governmental activities, it should follow that the Commission's definition of net revenues and application of the statutory subdivision will apply to such disqualified lawyers and serve as an exception to the Disciplinary Rule, which the law expressly permits.

CONCLUSION

The Commission finds that the term net revenues, as contained in §73(10) of the Public Officers Law, shall be defined as gross revenues received from appearing, practicing, communicating or otherwise rendering services in relation to any matter before, or transacting any business with a State agency (or a city agency with respect to affected political party chairs as defined), minus all fixed operating expenses in an approximate proportion to gross revenues of the firm.

As a result, "disqualified" members and associates of firms may be paid from the fees generated by a "screened" matter in the limited circumstances where such fees are part of the fixed salary and expenses of all firm members or associates and are a small percentage of both the firm's total revenues and the disqualified individual's fixed salary and expenses. For "disqualified" members and associates, who, as partners or principals in firms, are eligible to share in revenues from work performed or generated by others, the amount of profits to be distributed to all the partners of the firm must be proportionately reduced, by the amount received from "screened fees," when distributed to a "disqualified" partner or principal.

This conclusion is consistent with the spirit of the Ethics in Government Act without being unduly burdensome on firms and associations and their respective members and associates.

Finally, an entire firm is not disqualified from appearing, practicing or representing any person before a State agency on the basis of the disqualification of one of its members, so long as net revenues derived from such appearances, etc., are distributed in accordance with this Opinion.

The Commission has endeavored to establish a definition of net revenues and indicate its application in a general fashion. It is likely that future inquiries with more specific circumstances (such as partial ownership in buildings or shares of the business, etc.) will need to be addressed by the Commission to determine whether and how the §73(10) restrictions on sharing in net revenues would apply. This opinion, until and unless amended or revoked is binding on the Commission in any subsequent proceeding concerning the person who requested it and who acted in good faith, unless material facts were omitted or misstated by the person in the request for an opinion.

All concur:

Elizabeth D. Moore, Chair

Angelo A. Costanza
Norman Lamm
Robert B. McKay, Members

Dated: June 21, 1990


ENDNOTES

1. Disqualification of an individual will occur on the basis of the individual's concurrent or prior employment in State service. Prohibitions on concurrent employment are provided under subdivisions 2, 3, 4 and 7 of §73 of the Public Officers Law. Restrictions on the post-employment activities of former New York State officers and employees are contained in §73(8) of the Public Officers Law.

2. It is noted that §73(10) applies not only to the former or present State officers and employees who are employees of a law firm, association or corporation, but also to any such individuals, regardless of their employer. The Commission defines "member or associate" of a firm, association or corporation in a more broad manner to mean, in effect, an employee.

3. In this connection, it is instructive to note that Black's Law Dictionary advises one interested in defining the term "net revenues" to look to the definition provided under "net income" and "net profits."

4. Kohler's, in a further explanation of "net income," provides that under various FASB pronouncements, it is now required for business entities to distinguish between "income from continuing operations" and gains and losses from "extraordinary items and discontinued operations." Kohler's does not have any entry in its dictionary for the term "net revenues."

5. See Kohler's Dictionary for Accountants and Black's Law Dictionary.

6. A current State employee may be disqualified by the provisions of subdivisions 2, 3, 4, or 7 of §73, and may not share in any net revenues generated by the firm through transactions in connection with such subdivisions. A former State employee's disqualification would result from application of subdivision 8 of §73, which sets forth a two-year bar on appearing or practicing or receiving compensation for services rendered on matters before the former employee's former State agency, and a lifetime bar on appearing or practicing or receiving compensation for services before any State agency, in relation to a matter with respect to which the employee was directly concerned and in which he personally participated during his employment, or which was under his or her active consideration.

7. This line of reasoning compares with the decision of the opinion of the Bar of Washington, D.C., discussed in detail below.

8. Of course, even though "screened" fees may, in part, support a fixed salaried present or former State employee, that employee may not participate, in any activity prohibited by §73, in the earning of such fees.

9. See Opinion No. 162, adopted December 17, 1985, attached.

10. Although this part of the Advisory Opinion discusses an opinion affecting lawyers only, present and former State officers and employees are to be guided by this specific analysis as the Commission is applying this formulation to all individuals covered by §73(10), regardless of whether they are lawyers.

11. The D.C. Opinion provides the following example: A firm has gross revenues of one million dollars; sixty percent goes to pay salaries of associates and support staff, rent and other fixed operating expenses and the remaining forty percent is available for distribution to the partners. In addition, $50,000 of the gross revenue has been generated by a matter from which a particular partner is screened. Applying, the expense-to-profit ratio to this sum, sixty percent goes to overhead and forty percent of $50,000, or $20,000 of the amount available to the partners' pool, is unavailable to the particular partner from the "screened" matter.

12. While not specifically provided for in the D.C. Opinion, the same formula for partners and principals can be applied in determining an associate's or other employee's yearly bonus. The amount of available revenues to be allocated as bonuses for all associates or employees would have to be proportionately reduced to the "screened" associate or employee by the amount attributed to the "screened" fees. The amount that represents the proportional reduction cannot then be used for extra fringe benefits for the individual, such as contributions to a Keogh plan, or other perquisites.