                      TO BE PUBLISHED IN THE OFFICIAL REPORTS

                           OFFICE OF THE ATTORNEY GENERAL
                                     State of California

                                DANIEL E. LUNGREN
                                    Attorney General
                      ______________________________________
                       OPINION                  :
                                                :    No. 97-1203
                          of                    :
                                                :    March 20, 1998
                DANIEL E. LUNGREN               :
                   Attorney General             :
                                                :
              ANTHONY M. SUMMERS                :
                Deputy Attorney General         :
                                                :
     ______________________________________________________________________

     THE HONORABLE DAVID G. KELLEY, MEMBER OF THE CALIFORNIA SENATE,
has requested an opinion on the following question:

     With respect to a real property lease and water purchase agreement between a city and a
general partnership which requires renegotiation of the rental rate and water fees every five years
in accordance with guidelines specified in the agreement, and a general partner is thereafter
elected to the city council, may the city council at the end of a five-year period (1) approve a
change in the rent and fees, (2) allow the rent and fee changes to be decided by a third-party
arbitrator in accordance with an arbitration clause contained in the agreement, (3) allow the
agreement to remain in effect with the previously set rent and fees, or (4) upon transfer of the
council member's proscribed interest to another general partner, family member, unrelated third
person, or trust, approve a change in the rent and fees?

                                         CONCLUSION

     With respect to a real property lease and water purchase agreement between a city and a
general partnership which requires renegotiation of the rental rate and water fees every five years
in accordance with guidelines specified in the agreement, and a general partner is thereafter
elected to the city council, the city council at the end of a five-year period (1) may not approve a
change in the rent or fees, (2) may not allow the rent or fee changes to be decided by a third-
party arbitrator in accordance with an arbitration clause contained in the agreement, (3) may not
allow the agreement to remain in effect with the previously set rent and fees, but (4) may
approve a change in the rent and fees upon transfer of the council member's proscribed interest to
another general partner, family member, unrelated third person, or trust.
                                            ANALYSIS

     With few exceptions, a city may not enter into a contract with a private entity that is owned
by a member of the city council. Government Code section 1090 Footnote No. 1 provides in
relevant part:

    ". . . [C]ity officers or employees shall not be financially interested in any contract made by
them in their official capacity, or by any body or board of which they are members."

The purpose of this statutory prohibition, applicable to most state and local officers and
employees, "is to remove or limit the possibility of any personal influence, either directly or
indirectly, which might bear on an official's decision, as well as to void contracts which are
actually obtained through fraud or dishonest conduct. . . ." (Stigall v. City of Taft (1962) 58
Cal.2d 565, 569.) The aim of the statute is "not only to strike at actual impropriety, but also to
strike at the appearance of impropriety." (City of Imperial Beach v. Bailey (1980) 103
Cal.App.3d 191, 197.) Section 1090's prohibition applies even though the contract may be fair
and equitable (Thomson v. Call (1985) 38 Cal.3d 633, 646-649) and the affected official would
agree to abstain from participating in the decision-making process (Fraser-Yamor Agency, Inc. v.
County of Del Norte (1977) 68 Cal.App.3d 201, 211-212).

     We are asked what effect, if any, the terms of section 1090 would have upon the
renegotiation of a contract that was originally executed prior to the election of the city council
member with the proscribed financial interest, where the contract itself requires periodic
renegotiation. In the situation to be analyzed, a city has leased city property to a general
partnership for farmland and has agreed to furnish the partnership with treated wastewater from
the city's treatment plant. The agreement states that the parties will renegotiate the rental amount
and fees for water at the end of every five-year period. If the parties are unable to agree, the
agreement calls for the joint selection of an arbitrator who will make a final decision as to the
amount of the rental and fees. Prior to commencement of another five-year period, one of the
general partners is elected to the city council. How is section 1090 to be applied in such
circumstances?

     1.     Approving the New Rental Rate and Water Fees

     We are first asked whether the city council's approval of a change in the rent and water fees
would constitute the "making of a contract" for the purposes of section 1090, when the
renegotiation of the rent and fees is required by the agreement executed prior to when the general
partner became a member of the city council. We conclude that approval of a new rental rate and
fees constitutes the making of a contract and would thus be prohibited. Footnote No. 2

     While section 1090 refers to a contract being "made," the term has been expansively
interpreted by the courts to include "such embodiments in the making of a contract as
preliminary discussions, negotiations, compromises, reasoning, planning, drawing of plans and
specifications and solicitation for bids." (Millbrae Assn. For Residential Survival v. City of
Millbrae (1968) 262 Cal.App.2d 222, 237; People v. Vallerga (1977) 67 Cal.App.3d 847, 868.)
      The facts presented here are similar to those involved in City of Imperial Beach v. Bailey,
supra, 103 Cal.App.3d 191. In Imperial Beach a city executed a contract for construction of a
building and the operation of a concession on a municipal pier. The contract term was for 10
years, with the concessionaire having an option to renew for two additional five-year periods.
During the first option period, the concessionaire was elected to the city council. The court ruled
that the contract's second renewal option could not be exercised since the concessionaire was
now a member of the city council. (Id., at p. 197.) The court noted:

       ". . . [Concessionaire's] argument that a renewal of the option is not a 'making' of a contract .
. . is contrary to the law under the facts of this case. . . . Whether the right to exercise the option
vested prior to [Concessionaire's] election to the Council, the fact still remains to exercise the
option at the present time [Concessionaire], as a Council member, would have to affirm the
contract and determine the new monthly rate. This she cannot do under section 1090." (Id., at p.
196.)

      The court's reasoning in Imperial Beach is applicable to the specified renegotiation of the
contract between the city and the partnership. Even though the original contract contains
guidelines for establishing the rental rates and water fees for each subsequent five-year period,
negotiation of the actual amounts would both constitute the "making" of a contract and present,
at the least, the appearance of a conflict of interest that section 1090 prohibits. Hence, such
renegotiation would be impermissible under the statute.

     2.      Allowing an Arbitrator to Decide

      The agreement in question provides that if the parties are unable to agree on a new rental
rate or water fees, they are to select an arbitrator to make a final decision as to the appropriate
sums. We conclude that the city may not exercise the "arbitration clause" without violating the
proscriptions of section 1090.

     If an arbitrator were to set the amounts, the city would still be required to take some action
to permit the arbitrator to act. As previously noted, it is not merely the signing of a document that
constitutes the making of a contract for purposes of section 1090; the entire process leading to
the contract's execution, including discussions and planning, is subject to the prohibition.
Obviously the city cannot make the election to exercise the arbitration clause without some
discussion or a vote, and deciding to send the matter to arbitration necessarily requires the city to
affirm the contract. As we stated in 76 Ops.Cal.Atty.Gen., supra, 121:

     ". . . Whether the renewal involves the renegotiation of the contract or a mere affirmation
thereof, the potential for [a party to the contract] to participate in the voting on the renewal
constitutes the conflict of interest."

     Any city determination to extend the contract, whether by renegotiation or allowing the new
payment schedules to be set by an arbitrator, would violate the public policy purposes underlying
section 1090. The determination to have the agreement terms submitted to arbitration cannot be
separated from the rest of the transaction and would result in a continuation of the contract in
which a council member has a direct financial interest. (See Thomson v. Call, supra, 38 Cal.3d
633.) Accordingly, the city may not exercise the "arbitration clause" without violating section
1090 in the described circumstances.

     3.     Forgoing Renegotiation

     The agreement between the city and the partnership calls for renegotiation of the payment
schedules at five-year intervals. If the city were to decide not to participate in renegotiations and
forgo any increases in the rental and water rates, would the city's decision constitute a proscribed
extension of the current contract? We conclude that the extended agreement would constitute a
new contract, with the old payment terms, in violation of section 1090.

     The decision not to renegotiate the payment terms has the same effect as renegotiating and
agreeing to keep the existing payment terms unchanged. A determination not to renegotiate is the
equivalent of establishing the rates for the new period and therefore constitutes the "making" of a
contract. As stated by the court in Imperial Beach v. Bailey, supra, 103 Cal.App.3d at 195, in
rejecting the suggestion that the unilateral setting of a rental rate by the city could avoid the
section 1090 prohibition:

     ". . . Assuming City sets the rate unilaterally, the Council must still approve it. Since
[concessionaire] is a member of the Council, this is prohibited by section 1090, even if she
abstains from voting. It is not her participation in the voting which constitutes the conflict of
interest, but her potential to do so."

In the circumstances presented for our analysis, the city may not forgo the right to renegotiate
and keep the current terms in force without violating the provisions of section 1090.

     4.     Transferring the Partnership Interest

      The execution of contracts that are prohibited by section 1090 are those in which a
government official has a financial interest. We have no doubt that the council member here may
terminate his proscribed financial interest by transferring his partnership interest to someone
else. In Imperial Beach v. Bailey, supra, 103 Cal.App.3d at 197, the court noted that the
concessionaire had a choice between remaining on the city council or continuing her ownership
of the concession. Simply put, if the city council member in question divests himself of his
financial interest, the proscription of section 1090 will not bar renegotiation of the rental rate and
water fees. (See 28 Ops.Cal.Atty.Gen. 168 (1956); 21 Ops.Cal.Atty.Gen. 228 (1953).)

     Of course, there must be a bona fide transfer that leaves the city council member without
any proscribed financial interest. A transfer that allows the member to retain a financial benefit
from the contract would not constitute the necessary divestiture to avoid section 1090's
prohibition.

     We conclude in answer to the question presented that with respect to a real property lease
and water purchase agreement between a city and a general partnership which requires
renegotiation of the rental rate and water fees every five years in accordance with guidelines
specified in the agreement, and a general partner is thereafter elected to the city council, the city
council at the end of a five-year period (1) may not approve a change in the rent or fees, (2) may
not allow the rent or fee changes to be decided by a third-party arbitrator in accordance with
arbitration clause contained in the agreement, (3) may not allow the agreement to remain in
effect with the previously set rent and fees, but (4) may approve a change in the rent and fees
upon transfer of the council member's proscribed interest to another general partner, family
member, unrelated third party, or trust.

                                                     *****

Footnote No. 1
Undesignated statutory references hereafter will be to the Government Code.
Footnote No. 2
Because the council member with the proscribed financial interest is a general partner of the contracting entity, the
exceptions from the statutory prohibition for certain "remote interests" (§ 1091) and "non-interests" (§ 1091.5) are
inapplicable. (See Citizens Advocates, Inc. v. Board of Supervisors (1983) 146 Cal.App.3d 171, 178-179; Fraser-
Yamor Agency, Inc. v. County of Del Norte, supra, 68 Cal.App.3d at 211-212; 67 Ops.Cal.Atty.Gen. 369, 375
(1984).) Moreover, we have not been advised of any facts that would invoke the "rule of necessity" which would
permit renegotiation of the contract; the agreement in question does not involve an essential public service or the
exercise of a power that only the city council member may legally perform. (See Eldridge v. Sierra View Local
Hospital Dist. (1990) 224 Cal.App.3d 311; 80 Ops.Cal.Atty.Gen. 335 (1997); 76 Ops.Cal.Atty.Gen. 118 (1993); 65
Ops.Cal.Atty.Gen. 305 (1982).)
