“In-House Legal Department Ethical And Professional Conduct Manual” - Chapter Two Copyright 0 2003 Association of Corporate Counsel (ACC)

http://www .acca.com/protected/legres/conductmanuaI/

XXXiV Compare Teradyne, Inc. v. Hewlett-Packard Co., 20 U.S.P.Q.2d 1 143, 1991 WL 239940 (N.D. Cal. 1991) (unity of interest test), with Apex Oil Co. v. Wickland Oil Co., CIV-S-94-1499- DFL-GGH, 1995 U.S. Dist. LEXIS 6398 (E.D. Cal., Feb. 28,1995). XXXV See, e.g. , Temdyne, Inc., 20 U.S.P.Q. 2d 1 143. XXXVi See ABA Model Rule 1.2(c); RESTATEMENT 0 14 cmt. f.; Ronald D. Rotunda, LEGAL

XXXVii See ABA Formal Op. 98-410 (Feb. 27, 1998). XXXViii See id.; see also RESTATEMENT 9 72 cmts. b & c. XXXiX However, as is pointed out by ABA Formal Op. 98-4 10, the duty that corporate counsel would have under Rule 1.6 as to confidentiality “is consistent with a director’s duty of confidentiality that arises from her role as a fiduciary for the corporation, although the scope of these two duties is not precisely the same.” Xl See ABA Formal Op. 98-41 0 (Feb. 27, 1998). Xli 43. See, e.g., RESTATEMENT 0 135. Xlii ABA Model Rule 1.2(a). See Ronald D. Rotunda, LEGAL ETHICS: THE LAWYER’S

Xliii With reference back to our widgets example, how can corporate counsel expect to be able to identify and avoid creating such a potential conflict of interest within the corporate family if corporate counsel is not in a position to evaluate and communicate to outside counsel the organization’s position as to the “identity” of the client?

ETHICS: THE LAWYER’S DESKBOOK ON PROFESSIONAL RESPONSIBILITY 0 14-7.3 (2002).

DESKBOOK ON PROFESSIONAL RESPONSIBILITY 5 3-2.1 (2002).

Frm Corporate Counsel Guidelines Author, John Villa Copyright, ACCAIWest

. .. . . -

8 1.04 The Client-Can Officers and Directors Be C+

Except where he or she i san individual client of corporate counsel, an employee, officer, or director has 120 legal right to assert or waive the

. confidentiality of his or her own communications.’ This can create problems for in-house corporate counsel who must’ strive to best serve the needs of the corporate client, while maintaining good relationships with others in the corporation. In one sense, it is almost always in the corporations’s interest for corporate counsel to‘ represent both the corpoi ’ -’.- ration and its employees in order to “maximize counsel’s control over the substance of the corporate version of the events in question, and how that version is.disclosed; obviously, it is in any company’s interest to. present a consistent and unified version’ of ‘events which give rise to potential liability.”’ A decision by counsel to represent a foriner employ- ee, for example, may foreclose opposing counsel from communicating freely.. with that employee? Perhaps .most important, corporate atmo-

Clients? ’.

.

5 1.04

1. Diversified Industria, Inc. v. Me&- dith, 572 F.2d 596,611 n. 5 (8th Cir.1977); In re Grand. Jury Investigation, 575 F.Supp. 777, 780 (N.D.Ga.1983); In re‘Grand Jury Proceedings, Detroit, Michigan, 434 F.Supp. 648 (E.DMich.1977), crffd, 570 F.2d 562 (6th Cir.1978); accord Farnsworth v. Van Cott, Bagley, Cornwall & McCarthy, 141 F.R.D. 310, 313 (D.Colo.1992) (where CEO and corporation were joint clients of law fm, the Corporation cannot assert the priv- ilege against the CEO in later litigation).

2. Serving Multiple Masters: Can Corpo- rate Counsel Ever Have Too Many Clients?, Comm. on Cow. Couns. Newsl. (ABA, Sec. on Litig.), Oct. 1993, at 12.

3. See 99 3.23-3.31, inficr; see also Va- lassis v. Samelson, 143 FRD. 118, 121 (E.D.Mich.1992) (quoting Rule 4.2 of the Model Rules of Professional.Conduct and ABA Formal Opinion 91-3p9). For a discus- sion of the cases on this.pdint, and of the proposed Restatement’s position, see Sher- man L. Cob, The Organizational Clienk Attorney-Client Privilege and the No-Con- tact Rule, 10 Geo. J. Legal Ethics 739, 770-781 (1997). See also John W. Gergacz, Attornq-Corporate Client Privilege 15.18 (2d ed. Supp. 1996). Of cciume, the corpora- tion still commands the privilege for privi- leged matters discussed by the employee with counsel during his or her employment. Valassis v. Siunuelson, 143 F.FLD. at 124. In some cases, corporate counsel may choose

Ded.2002 1-30

ATTORNEY-CLIENT PRIVILEGE 5.1.04

sphere sometimes fosters the impression that "[tJhe::'clients' of a general counsel and his or her staff will normally include the company,' the board of directors, its most se@or management, the heads of the various business divisions, the individual ,employees themselves, as: well. as even former employee^."^ This sense of a common -interest 'b,etween . ... the _. . corporation and its employees can greatly ease the work of corporate counsel, . by, encouraging corporate employees *to come forward ' with relevaxit information,. and. by inspiring confidences .that might not other- wise be shared. For these reasons, if is common practice"for corporate counsel to :represent corporate officials and employees in legal matters arising out of their employment.'

On the other hand, joint representation of the'corporation and its employees brings both practical and ethical problems. First and ,fore- most, the corporate ' counsel's client is the corporation. If' a corporate employee is personally involved in actions or decisions that cou1d:result in personal liability ,for him or herself, a conflict' betweexithe. q-pora- tion's best interests and that ,of the employee is cit least possible.Should the potential .conflict of interest become a real one; counsel. may not jointly represent the corporation and the employee without a 'waiver, nor would the corporation ordinarily wish counsel to .do so. In. such a situation, ethical obligations may require that the employee be repre:. .. . .

. . Even if no formal conflict ever arises, joint representati0ri':cWi" compromise the corporation's interests in other ways. Shodd. the '.corp& ration decide that it is in its .best interest to waive the.privilege,: counsel who has jointly represented both corporation and. employee may find he cannot execute that wish. Ordinarily, the wishes of 'one joint client % maintain the confidentiality of a given communication prevails oyer th+ . . $shes of the other to disclose it.' Joint representation would also bar

to seek a protective order or injunction' to those of one or more of.its &nstituents. safeguard the privilege. See Gergacz, supra, In :such circumstances the lawyer should at 20'; advise any constituent, .whose interest

the lawyer finds .adverse to that..zof. the ' 4. Sewing Multiple Masters: Can Corpo- orwization of the c~nfli& or mte Counsel Ever Have Too Many Clients?, conflict of interest, that the lawyer -- a m m . on carp. Couns. Newsl. (=A, &C. not represent m d . o e i t u e n t , =d'that on Litig:), Oct. 1993, at 11. such person may wish to obtain indepen-

5. ~ job T, Huidley, ' m i t e Knights, dent,representation. care must .be taken P+NUlptht anfidemes, ad the Morning to assure that the individual understands &r: The Efiect of T&sation-Rel&ed that, when there is' Such advqity Of in-

Zated Privileges, 5 DePaul Bus. L.J. 59, 104 proflde l e d representation. for that constituent. individual, and, that. dis- cussions becween'the lawyer for the orga~ (1992).

- . ' 6. See.M&el Rules of gofessional Con-. . nization and' the bdividual may.'not bi duct Rule 1.13(d), note [71: privileged. '. ,. . There are times when the organization's 7. In re Grand Jury Subpoena D u d '. interest may be or become adverse to Tecum Wesco), 391 F.Supp. 1029, 1033-34

_ .

.

.

sented by separate counsel! , * . .

. ..

D i s c l o ~ u ~ s on the Attorng.-Client and Re- terest, the lawer for 'the orwization

1-31 Dec.2002

. ..

0 1.04 CHAPTER 1

counsel from representing the company in a fbture action adverse to the employee?

Consider, for example, the corporate counsel who has been charged with conducting an internal corporate investigation. As commentators have .cautioned:

If inside counsel both interviews key employees and provides them with legal advice, counsel may find it dificult to approach the investigation with total independence. Additionally, under some circumstances, lawyers employed by the company may themselves be witnesses to the underlying conduct, thus dis- qualifying themselves from the role of counsel.. . . Moreover, if‘ pertinent employees have previously relied on inside counsel for legal advice, they might regard counsel as their personal lawyer during the course of their interviews. Although all witnesses should be told that the company’s counsel does not represent them personally, a prior legal relationship between a witness and an inside lawyer could obsap=e this admonition and create at least a factual dispute over the witness’ understanding at the time of the interview.”

. . .

(S.D.N.Y. 1975) (executive may assert privi- lege corporation has waived); but see In re Beyill,. B ,wlq , ,& Schulman .Asset Manage- ment .Corp., 805 F.2d 120, 124-24 (3d Cir. 1986) (executive may assert privilege only asto personal, not corporate, matters); ac: cord In re Grand Jury Subpoena, 274 F.3d 563,571-572 (1st Cir.2001) (individual priv- ilege may exist, but only to the extent that the communications made in the officer’s personal capacity are sepaiable.from those made in his corporate capacity). See also Restatement (Third) of The Law Governing Lawyers Q 73 cmt. j (2000). (‘‘When the person manifests an intention to make a communication privileged against the orga- nization; the lawyer must resist entering into such a client-lawyer relationship and receiving such a communication if doing so would constitute an impermissible conflict of interest.”).

8. ‘ See E. F. Hutton & Co. v. .Brown, 305 F.Supp.’ 371 (S.D.Tex.1969);. and cases col- lected in David B. Hamison, Annotation, Propriety of ,Attorney Who HF Represented Corpomtion‘hting for Corpomtion in Con- troversy with O f i e r , Director or Stockhold- er, 1 A.L.R.4th 1124 (1980 and 2000 rmpp.); see also Restatement (Third) of The Law Governing Lawyers 6 14 cmt. f rep. note (2000) (“If, however, an .officer.or agent and

the organization are co-clients, the normal rules of conflict of interest would preclude subsequent representation of the comphy’ &-.-

against the oficer or agent in a substantial- ly related matter by the same firm”) (cita- tions omitted).

9. See American. Bar Association, Sec- tion of Litigation, Internal Corpomte Inws- tigations, Conducting Them, protecting Them 8-9. (Brad D. Brian & Bany F. McNeil eds. 1992). See also In re Allen, 106 F.3d 582, 609-10 (4th Cir.1997) (Niemeyer, Circuit Judge, concurring in part and dis- senting in part) (Regarding an investigation by counsel into the leaks at an attorney general’s office of West Virginia, “If the targets of the investigation were not clients, as I would suppose, then t+ attorney-client privilege would not protect notes of Men’s intewiews with these persons under the long-standing line of cases cited by the ma- jority that leaves unprotected factual inves- tigations that do not involve typical attor- ney work. . . . If, on the other hand, we were to suppose that the targets of Men’s investigation were also her clients, then we have the unseemly and perhaps illegal sug- gestion that Allen was representing two op posite sides of a potentially illegal activity. Moreover, we would be in the untenable position of revealing the communications of

Dec.2002 1-32

A'ITORNEY-CLIENT PRIVILEGE 5 l.04

'. On balance, if'there is any realistic prospect that an individual will be targeted for. prosecution, the . corporation and ,the individual should hire separate 'counsel. Serious consideration should also .be given, . to separate counsel .when the corporate employee wjjl likely be 'individually sued. Although in-house counsel will not be abie'to mairitainI'& much control over the proceedings; the possibility of 'counsel being disqualified from representing the corporation is 'too ,high to ,risk.'o As one' commen- . . .

tator put it, . .

[ilnformation maximization is not a goal in itself, but'a m e a s to the end of informed legal advice and decision-making; and the end, cannot. be abandoned just '€0 maximize the meansf 'The .

logical extension of the suggestions that we.recognize. individual :: control over the corporate privilege would be that:.corporate

, counsel would become little more than ii legal aid bureau for." . corporate employees. Havhg $maximized. .his or her infokation' through confidentiality commitments to employees; corporate' counsel then would be prevented, by conflict of interest p+ci- ples, from representing any interests inconsistent with the employee's interest, including the corporation's where the indi- . vidual has not been following corporate policy."

Even for a criminal investigation, the corporation's Directors' and Offi- cers' Liability Policy will generally assume the cost of sepaqate counsel

. for a director or officer implicated .in unlawful activity.'q Counsel: should avoid, if possible, representing employees jointly *th the coqoration, and should clearly and consistently remind employees th& 'it. is' .the corporation, not the employee, which is his or her client.

her clients (the targets of the investigation) 12. See Joseph W. Bishop, Law: of Cor- to those who would discipline them."). porate Officers and Directors, Indemnifica-

. .

. . .._. .-...-

' '

- . ' 10. American BU Association, Section

of Litigqtion, The Attonqy-Client Privilege and the Work-Product Doctrine 33 (Edna S. Epstein & Michael M. Martin eds., 2d ed. 1989) ("Where there is any risk that the employee being interviewed may have per- sonal liability, it is prudent, and probably required by professional ethics, to warn the employee before questiogng. by the c o p - rak attorney and to afford him separate counsel.").

'

tion and Insurance 6 8.05'-(1996 Vupp.) ("While an insurance company will, 'under normal circumstances,eertaihly not be ex- pected to 'pay a baselew'cliim,. the .may well have a duty to deEead against; it i . . The trial court must reGew [the com- plaint's] allegations and detemiine whether any of them are covered by the.insured's policy. If any one of the allegations isaw ered by the policy, the insurer has s:duty to defend without regard to any exciusions."); see also American Bar Association, Section

' 11. John T . Hundley, White Knights, of Litigation, Internal C o ~ ~ o m t e Investiga- Pre-;Nuptial Confidences, and the Morning .tiom, Conducting Them, htec t ing Them Ajler: The Effect of Transaction-Reluted 135-38 (B.Brian &. B. M a d , eds. 1992) Disclosures on the AttornqpClient and Re- (discussing corporation's ability to indemni- luted Priuikges, 5 DePaul Bus.L.J. 59, 103 fy employees for counsel fees incurred in n. 209 (1992). . internal investigation).

1-33 Dec.2002

_ . . . . . . . .

S.1.04 ’ CHAPTER ’. 1 - 8 Such a.reminder is.a critical part of any exchange with an emplogee

who. has. a realistic prospect of becoming a target? Employees who seek the advice of corporate counsel (a’s opposed to those who are contacted by corporate counsel) and , are neve? clearly .informed that counsel .is not representing them may be surpfised. to. find they have no control over assertion of the privilege ‘and may feel betrayed by corporate counsel. In ektreme, ... .- ;.:, cees, counsel who fail to, disclose the possibility of a conflict of interest arid to obtain the corporate employee’s informed consent to the possible conflict may run afoul of their ethical resp~nsibilities,~~ and bear the . risk .. of disqualification in the future.

There .is also the. danger, however light,'^ that a court may later find that counsel was. representing the employee as an individual, 13. Such a reminder could be: As you know,’Eyour management] has

asked you to meet with us as part of our inquiry into [the matter]. The purpose of our meeting is so that we can gather the information that we need, as counsel, to develop the legal advice that the company has sought and to prepare for possible litigation involving this matter.

I am a lawyer and I represent the com- pany. I do not represent you or any other employee personally. This inquiry is be- ing undertaken pursuant to the compa- ny’s attorney-client privilege but the com- pany may decide to waive the privilege at some point in the future. If the company decides to waive its attomey-client privi- lege, it can do so without getting your consent and without even consulting with you. To allow the company to maintain the privileged protection of the informa- tion we gather, i t is important that you not discuss the substance of this inter- view with anyone. Do you have any questions before we

begin? American Bar Association, Section of Litiga- tion, I n t h d Corpomte Investigations, Con- ducting Them, Protecting Them 64 (Brad D. Brian & Barry F. McNeil eds., 1992). Where the corporation has a statutoqy or other obligation to disclose to the government the substance of the employee’s statements, some commentators urge that the employee also be advised of these obligations, or of the likelihood that the privilege will be waived. See id. at -7. The reality is that very few such warnings are ever actually given. See Vincent C. Alexander, The Corpo- rate Attorney-Client Privilege: A Study of the Participants, 63 St. John’s L. Rev. 191, 239 (Winter 1989) (only 24% of corporate

attorneys in survey identified internal in- vestigations as an occasion on which they had discussed the implications of the attor- ney-client privilege with corporate repre- sentatives).

14. See generally Vincent C . Alexander, The Corpomte Attorney-Client Privilege: A Study of the Participants, 63 St. John’s L. Rev. 191, 286-294 Winter 1989);‘Restate- ment (Third) of The Law Goveming Law- yers § 14 cmt. c (2000) (these include fee forfeiture, professional discipline, malprac-. . _.. tice liability and other sanctions).

15. See United States v. Bay State Am- bulance and Hosp. Rental Serv., 874 F.2d 20, 28 (1st Cir.1989) borne factors a court could consider determining whether an employee is a client of corporate counsel include whether the employee has retained other counsel, .has asked in-house qmnsel to take any action on his behalf, or has paid him for his services); see also In re Be.., B k l e r & Schulman Asset Managemint Corp., 805 F.2d 120,125 (3d Cir.1986) (even where there is joint representation, an exec- utive can not assert the privilege ‘‘as to matters involving the af€airss.of the [corpo- ration] or embracing his role or activiti& as [a corporate] officer or director”); Polycast Technology Corp. v. Uniroyal, Inc., 125 F.R.D. 47, 49 (S.D.N.Y.1989) (same); In re Grand July Investigation No. 83-30557, 575 F.Supp. 777,779 (N.D.Ga.1983) (same); In re Grand Jury Proceedings, Detroit, Michigan, August 1977, 434 F.Supp. 648, 650 (E.D.Mich.1977) (“If he makes.it clear when he is consulting the company lawyer that he personally is consulting the lawyer and the lawyer sees fit to accept and give communications knowing the possible’ con- flicts that could arise, he may have a.privi-

Dec.2002 1-34

..---. ....

AlY”OR,NEY-CL;IENT PRIVILEGE 0 1.04

although there was no express agreement to do so, and such was not the attorney’s intent? “If a lawyer fails to clarifl the lawyer’s role as representative solely of the organization and the organizations’s agent reasonably believes that the lawyer represents the agent, the agent may assert the privilege personally with respect to the agent’s own communi- cations.””

Courts are more likely to find such dual representation if counsel has represented the employee individually in the past,I8 has promised conf~dentiality,’~ or if the employee’s assumption that he was being represented was reasonable?’ Courts generally require “some aEiirma-

-

lege.”); In re Grand Jury Subpoena Duces Team, 391 F.Supp. 1029 ‘(SiD.N.Y.1975) (same);. .

16. See Wylie v. Marley Co., 891 F.2d 1463, 1471-72 (10th Cir.1989); Odmark v. . Westside Ban&rporation; Inc.,’ 636 F.Supp. 552, 555 (W.D.Wbsh.1986) (“If he makes it clear. when .he is consulting the company lawyer’that he personally is consulting the lawyer and the lawyer sees fit to accept and give communication knowing the possible conflicts that could arise, he may have a privilege.”); . In re Grand . Jury Subpoena Duces Team, 391 FSupp; 1029, 1033-34. (S.D.N.Y.1975); Kirby v. Kirby, .1987 WL 14862 (Del.a.1987). (directors of charitable foundation co-clients with corporation); see &o E. E. Hutbn & Co. v.. Brown, 305 F.Supp. .,371, 387-92 (S.D.Tex.1969) (court holds judicial appearance by attorney.on behalf of individual. creates presumption that attbrney represents the individual, and grants motion to disqualify); Restatement (Third) of The Law Governing. Lawyers 8 73 cmt. d (2000) (“Communications 0f.a non-agent constituent of the organization may be independently privileged under 8 75 where. the person is a co-client along with the organization. If the agent of the organi- zation has a conflict of ‘interest with the organization, the lawyer for the organiza- tion must not purport to represent both the organization and the agent without con- sent.. . . The lawyer may not mislead the agent about the nature of the lawyer’s loy- alty to the organization.. . . If a lawyer fails to clarify the lawyer’s role as representative solely of the organization and the organiza- tion’s agent reasonably believes that the lawyer represents the agent, the ‘agent may assert the privilew personally with respect to the agent’s own ‘communications. I ; .*‘.I.

17. Restatement (Third).of The Law Governing Lawyers 8 73 cmt. d (2000).

. .

:

18. Wylie v. Marley Co., 891 F.2d 1463, 1471 (10th Cir.1989) (prior representation in another matter could have led employee to believe that attorney was representing him); cfi United States v. Bartlett, 449 F.2d 700,’ 704 (8th Cir.1971) (later p e r s o d rep- resentation not relevant), cert. denied, 405 U.S. 932, 92 S.Ct. 990, 30 L.Ed.2d 808 (1972).

19. Westinghouse Elec. Corp. v. Kerr- McGee Carp., 580 F.2d 1311, 1321 (7th. Cir.1978), cert. denied, 439 US. 955, 99 S.Ct. 353, 58 L.Ed.2d 346 (1978); Odmark v. Westside Bancorporation, Inc., 636.- F.Supp. 552,555 (W.D.Wash.1986). See also United States v. Schaltenbrand, 930 F.2d 1554, 1563 (11th Cir.19911, cert. denied, 502 U.S. 1005, 112 S.Ct. 640, 116 L.Ed.2d 658 (1991) (in criminal matter, Air Force officer would not- necessarily understand the legal significance of the difference between speaking to a “standards of -conduct coun- selor”, as opposed to an “attorney advisor,” about matters deemed privileged on ’govk- ment)20wn form).

2OiviCompare United States v. Aramony, 88 F.3d 1369, 1390 (4th Cb.1996) (execu- tive could not have haq,.reasonable belief that his communicatiop would be kept con- fidential), cert. denied, 520 U.S. 1239, 117

United States v. Keplinger, 776 F.2d 678, 70041 (7th Cir.1985) (potential client’s subjective belief that attorney was repre- senting him was not “minimally reason- able” where attorney did not expressly agrke to do so and individual did not re- quest legal advice), cert. denied, 476 U.S. 1183, 106 S.Ct. 2919, 91 L.Ed.2d 548 (1986); United States v. Hart, 1992 WL 348425 a t *2 (E.D.La.1992) (existence of an indemnification agreement .and counsel’s

..JA

S.Ct. 1842, 137 L.Ed.2d 1046 (1997);.~ith

1-35 Dec.2002

- - _- - .. .. . - . . -. .. . . . . -~ . ... . . . . . . . . - . . .. .. . . . .. . . . . . __ .- . . .

. .

0 1.04 C-R 1

tive act by the individual communicating this belief to the corporation’s attorney and by the attorney who accepts this responsibility regardless of the conflict of interest that the representation may create.”21 Some courts employ a rebuttable presumption that comm-nications to corpo- rate.counse1 are made in the course of the corporation’s business; and hence not in the course of individual representation of the employee.P2 Given the widespread practice of joint representation, however, this approach has been criticized as .excessively harsh?’

.

...’ .

failure to emphasize that it was represent- ing only the corporation made it reasonable for the employees. to assume corporate counsel was representing them); see g e m - ally Paul R. Rice, Attomq-Client Privilege in.& United States § 4:32 (1993); Restate- ment (Third) .of The. Law Governing Law- yers Q 14 cmt, f (2000) (A.lawyer’s failure to cl& whom the lawyer represents may lead to .creation of an attorney-client rela- tionship the lawyer did not intend. Such clarification may be required .with respect to an officer of a corporate client. An impli- cation that such a relationship exists is a question of fact based on the ‘reasonable and apparent expectations of the individual, and. is more likely to be found wheie the lawyer performs personal legal services for the individual as wd.) aJLd 0 73. cmt. j (‘junless the person’s contrary intent is reenably manifest to a lawyer for the organization, the lawyer acts properly in assuming that a communication from any such person is on behalf and in the interest .of the organization v d , as such, is privi- leged in the interest of the organization and not of the individual making the communi- cation.”).

21. Paul R. Rice, Attorney-Client Privi- lege in the United States’ 9 432 (1993); see Odmark v. Westside Bancorporation, Inc., 636 F.Supp. 552, 555 (W.D.Wash.1986) (“If

he makes it clear when he is consulting the company lawyer that he personally is con- sulting the lawyer and the lawyer sees fit to’ ‘ --. . - accept and give communication knowing the possible conflicts that could arise, he may have a privilege. But in the absence of any indication to the company’s lawyer that the lawyer is to act‘ in any oth& capacity tan as lawyer for the company in,#* and receiving communications fiom control gtoup pefsonnel, the privilege is and should remain that of the company and not that of the cbvunicating officer.”).

22:. In re Grand Jury ’Subpoenas Duces Tecum, 798 F.2d 32,.34 (2d Cir.1986) (fact that allegedly privileged documents are in the possession of the corporation is enough to rebut ,officer’s claim of. attorxiey-client privilege ivithout a substaxitial factual sub- mission); Glidden Co. v. Jandernoa, 173 F.R.D.. 459, 476 W.D.Mich.1997) (same).

’ 23. Paul R. Rice, Attorney-Client Privi- lege in the United States 9 4:32 (1993) (“Because the practice is so prevalent, it is unreasonable for courts to impose an exclu- sive burden on the officer to demonstrate that he explicitly requested personal assis- tance and that the lawyer acquiesced. Pre- suming no representation for the officer is counterintuitive”). .

Dec.2002 1-36

n ram corporate Counsel Guidelines Author, John V i l l a Copyrisht, ACCA/West

.. . .:. ..: . . . . .

. . . . . . . . . . . . .

. . .

.. ' . . . . . .

8 3.08 Corporate Counsel as Legal Advisor-Special Prob:." lems in Identifying the ClientPCorporate Af€ili- ates

A significant unresolved ethics question for corporate counsel, both inside and outside, is whether a lawyer for one member of a corporate family of companies is also deemed the lawyer for some or all of the other members of the corporate family. A corollary issue is whether, and in what circumstances, will it be a conflict of interest for counsel to act as counsel for two or more members of a corporate group. The jurispru- dence on these issues is limited, leaving corporate counsel largely to draw their own condusions. For whatever solace it may provide to inside counsel, these issues are much more acute for outside law firms who face disqualification issues in litigation arising from corpo$ate family con- flicts.

Whatever rule ultimately emerges from the cases involving outside counsel may be inapplicable to inside counsel. Rather, the approach that conforms to corporate reality is that the corporate general counsel should act as lawyer for all corporate afffiates that management directs them to represent, unless to do so would violate ethical rules governing conflicts of interest. Corporate counsel performing a conflict-of-interest analysis might conclude that, depending on the transaction, co*orate counsel is free to represent multiple corporate affiliates; is permitted to

3-63 Dec.2002

. ’. ’

8 ‘3.08 CHAPTER 3

9 . .

represent multiple corporate affiliates only with appropriate consent; or is prohibited from representing more than one corporate affiliate. Whether the corporate affiliates have consistent, different, or conflicting interests is a question typically governed by economjcs.

[A] Corporate Family Issues in Litigation as Defined in Fiduciary Duty Cases

Ordinarily, corporate managers view all affiliated corporations as one entity, with each affiliate entitled to corporate counsel’s loyalty. In day-to-day decision-making, the business interests of corporate affiliates are typically aligned so that corporate counsel’s service to one affiliate is not in tension with the‘interests of other members of the corporate family.’ In many cases, subsidiaries have no legal department and the parent’s legal department acts as counsel for the subsidiary. In other cases, the subsidiary may have its own legal department, but the parent’s legal department may exercise some degree of oversight or control.

Whether corporate counsel can represent two or more members of a corporate group should not be resolved solely by the ethical rules; counsel also must consider fiduciary duty principles established by substantive corporate law. Put another way, the ethical rules should ultimately follow substantive: corporate law on the fiduciary duties of -’. members of a corporate group (and their directors and officers) to one another. Corporate law, in turn, follows the true economic interests of the shareholders, creditors and others.

Although corporate law on the duties of members of a corporate group is still in its formative stages, several principles are emerging. First, a parent and a wholly-owned; solvent subsidiary have a complete unity of interest.” Thus, corporate counsel should be free to treat them as one client. Indeed, “in a parent and wholly-owned subsidiary context, the directors of a subsidiary are obligated to manage the affairs of the subsidiary in the best interests of the parent andits shareh~lddrs.”~ The same rule appears to apply to sister corporations both of ,whom are 100 percent owned by a corporate parent; corporate counsel should be permitted to disregard corporate distinctions in transactions among members of a wholly-owned corporate group.

.

8 3.0s 2. See Coppenveld Corp. v. Indepen- dace Tube COT-, 467 US 75% 771, 104 SCt. 2731, 2741, 81 L.Ed.2d 628 (1984).

1. A lawyer may concurrently represent two subsidiaries of the same company pro-

.-

Ethics 6p. 87-19. , ,

Dec.2002 3-64

... .

ETHICAL ISSUES FOR INSIDE COUNSEL 5.3.08 This is the conclusion reached by the ABA: In ABA Informal

Opinion 973 (Aug. 26, 19671, the ABA Committee on Ethics and Profes- sional Responsibility stated:

If in the situation presented there is substantial identity of underlying ownership of both the employer coiporation and the other corporation for which the staff attorney of the employer is requested to perform legal services, we think there is no real- problem under the Canons quoted above [Canons 6,35, and 471. We would consider substantial identiiy of underlying ownership to exist in such situations as where the other corporation is a wholly-owned subsidiary of the employer, or the employer is a wholly-owned subsidiary of the other corporation, or the stock of both the employer and the other corporation is owned by substantially the same shareholders in substantially the s a m e . proportions. In such situations we would as a matter of reality and practicality ignore, for purposes of ethical considerations, the separate legal identities of the employer and the other corporation and consider them as one or at least consider each as the alGr ego of the other. Thus there would in substance be . only one “client” involved, and the prohibitions and admoni- tions of Canon 35 and Canon 47 and, if the corporations were dealing with each other, Canon 6, would not be applicable. There are two and possibly three corollaries to this general rule. The’-

first corollary involves a non-wholly-owned Subsidiary. The problem presented is obviously the lack of identity in ownership of the subsidiary. Transactions between members of the corporate family and the non- wholly-owned subsidiary should ordinarily be vie&ed as txysactions with an unrelated third partyY4 and counsel should apply the same conflicts analysis he would apply under Model Rule 1.7. A more subtle conflict may arise when the corporate parent and the non-wholly-owned subsidiary both contract with an unrelated third party, or when the corporate parent and the non-wholly-owned subsidiary both receive interests in a business enterprise. The division of income 07 interests between the corporate parent and the non-wholly-owned subsidiary may raise conflicts issues in that the minority owners of thesubsidisly may claim that the benefits of the transaction were unfairly skewed to the corporate parent. A lawyer who has facilitated such a transaction may find his conduct scrutinized under Model Rule 1.7. In short, any depar- ture from 100 percent ownership of relevant members of the corporate family may raise conflicts demanding careful attention.

A second corollary to the general rule is where one member of. k e corporate family is insolvent. The general mle of corporate law is that

.:. 4. See, eg., Sinclair Oil v. M e n , 280 ’ .

A.2d 717,720 (Del.1971).

3-65 Dec.2002

5 3.08 . . CHAPTER3

. . . .

when a corporation is insolvent, corporate fiduciaries owe their loyalty to the corporation’s creditors rather than its stockholders? Thus, a lawyer representing the corporate group may find his loydties divided between the interests of the corporate parent (and its shareholders) and the interests of creditors of the insolvent subsidiary. Sihce most transactions will not present a conflict between those two interests, corporate counsel generdly will not be precluded from providing advice to both entities- provided that she first satisfies the consent-after-consultation provision of Model Rule 1.7.

Counsel’s problems in deciding whether a company is insolvent and whether a particular action disadvantages the creditors vis-a-vis the shareholders is daunting and is at the cutting edge of legal theory. Perhaps the most sensible answer is that (i) inside counsel should ordinarily follow the judgment of management on these issues (ii) after management has been advised of the shifting fiduciary duty, (iii) if the decisions do not appear to be either self-interested or irrational.

The approach set forth above is consistent with the conclusion reached by the American Law Institute’s Restatement (Third) of the-law Governing Lawyers (2000). Comment d to Section 131 provides in part as follows:

d. Conflicting interests of affiliated organizations.

If an enterprise consists of two or more organizations and ownership of the organizations is identical, the lawyer’s obli- gation is ordinarily to respond according to the decision-making procedures of the enterprise, subject to any special limitations that might be validly imposed by regulatory regimes such as those governing financial institutions and insurance companies.

On the other hand, when ownership or membership of two or more organizations is not identical, the lawyer must respect the organizational boundaries of each and andyze possible conflicts of interest on the basis that the organizations are separate entities. That is true even when a single in‘dividual or organization has sufficient ownership or influence to exercise working control of the organizations (cf § 123, Comment d(i)). The third possible corollary to this general rule, which is suggested

by the text of Comment d, above, arises when a wholly-owned, solvent subsidiary is highly-regulated. These entities-such as financial institu- tions and insurance companies-may reflect a different pool of interests

5. See generally Geyer v. Ingersoll Pub- heen, 660 F.2d 506,512 (2d Cir.1981) (New lications Co., 621 A.2d 784 (Del.Ch.1992) York law); In re STN Enterprises, 779 F.2d (Delaware law); Clarkson Co. Ltd. v. Sha- 901,904 (2d Cir.1985) (Vermont law).

. -.-._ . . . .

*

.

Dec.2002 3-66

ETHICAL ISSUES FOR INSIDE COUNSEL 9 3.08

. - .. 0 .

- . .. ... . .

than other corporate family members. This notion. stems from litigation arising from the savings and loan crisis in which the .FDIC, FSLIC, and RTC argued that management and lawyers for federally-insured finan- .

cial institutions had duties beyond with their duties to the shareholders :

of the corporate parent. The argument was, in essence, that the signifi- cance of the regulation afTected the substantive and beneficial interests in the subsidiary. It remains to be seen whether there will be any further support for this notion now that the savings & loan crisis is over.

Assuming that there is a potential conflict of inkrest between affiliated corporations applying the foregoing analysis, can corporate counsel represent both companies? Possibly “yes” if the l a v e r can satisfy the standards of Model Rule 1.7 governing conflicts of interest involving concurrent clients. First, the lawyer must reasonably believe that she will be able to provide competent and diligent representation to each client. Second, the representation must neither be prohibited ‘by law nor involve the same litigation in which one client has asserted a claim against the other client. Third, the lawyer must obtain the informed consent of each affected client that is confirmed in writing? A special problem in obtaining consent in these circumstances is identified in Model Rule 1.13(e): “If the organization’s consent to the dual repre- .. sentation is required under Rule 1.7, the consent shall be given by an appropriate official of the organization other than the individual who is.... to be represented, or by the shareholders.” In effect, this cautions counsel to make sure that the person[s] making the decision to consent to the potential conflict is not under the control of the other client.

[B] Corporate Family Issues as Defined in Private Counsel Disqualification Cases

There is no simple answer to the question whether all members of a corporate group constitute a single client for the purposes of codlict-of- interest analysis for outside counsel.’ Model Rule 1.7,. which governs conflicts of interest, nowhere addresses the issue whether parent and affiliate are the same entity for conflicts purposes. Rule 1.7 prohibits representation “directly adverse” to an existing client (absent written

6. Model Rule 1.7(b). As defined in the client consented to the r;epreSentaton aRer Terminology section of the Model Rules, consultation. “informed consent” means the client’s agreement ‘ g a r the lawyer has communi- In the context Of the attorneyclient cated adequate information and explanation Pride& however, COUrtS generally hold about the material risks of and reasonably that all members ofthe COrpOrab W P are available alternatives to” the proposed rep- within the smpe Of the PMlege. see, e4.i resentations. Prior to its amendment in United States v. AT & T, 86 F.R.D. 603, 2002, Rule 1.7 similarly prohibited such a 616-17 (D.D.C.1979); Admiral Ins. Co. v. dual representation unless the lawyer rea- US. Dist. Ct., 881 F.2d 1486,1493 n. 6 (9th sonably concluded that he could represent Cir.1989); Weil Ceramics & Glass, Inc. v. both clients without adversely affecting the Work, 110 F.RD. 600,503 (1986). relationship with the other, and unless each

h e

7.

3-67 Dec.2002

.?.. .

c . .,. - . .

5 3.08 CHAPTER 3

informed consent sand reasonable attorney belief of .competent and dili- gent .representation 'of each client). Whether an affiliate is als0.m existing client is currently an unresolved question; various courts and the American Bar Association have offered conflicting views.

' On this subject, the Ethics Conimittee of the 'ABA has opined . . that: ' , ' the Model .Rules of Professiopd . Conduct do not prohibit a

lawyer from representing a party adverse to a particular corpo- ration merely because the lawyer (or another lawyer in the same firm) represents, in an uxirelated matter, another corpora-

. tion that owns the.pokntially adverse corporation, or is owned '

. . . by 'it, or isy' together with 'the adverse corporation, owned by 'a third entity. The fact of corporate :affiliation, without more, does

. ' ' not make dl of a corporate client's affiliates into clients as well. ABA Formal..Opidon ,95390 (Appendix. 32)? Generally, the ABA opin- ion would not necessadi prohibit ap .'attorney who represents a corpo- rate client from undertaking a representation adverse to his client's corporate .affiliate on an unrelated matter? Some courts, however, have held that representation of one member of the corporate family makes all affiliates "the client" for conflicts purposes." Other courts have refused to treat all corporate affiliates as a single client for purposes of

"

the client. conflict rules. .simply because the entities share a common corporate .family.'l Still 'others apply a fact-specific inquiry to determine -...- whether the affiliates should be regpded as a single entity or distinct entities for purposes of the conflicts rules.12 Sometimes the fad-specific

'

.

. 8.. ABA Comm. .On Ethics and Profes- sional Responsibility, Formal Op. 390 (1995).

9. id. Similarly, a Califor& ethics opin- ion found it ethically permissible for an attorney to represent a third party suing a wholly owned 'subsidiary of &other client, as long as the attorney had never represent- ed the wholly owned subsidiary and the parent was nqt, and was not expected to become, a party to the litigation. Cal. Eth. Op. 1989-113 (1989).

10. In re Blinder, Robinson & Co., 123 B.R. 900,909-10 (Bankr.D.Colo.1991). :. 11. See Pennwalt. Corp. v. Plough, Inc., 85 F.R.D. 264 (D.Dd.1980); whiting Corp. v. White Machinery Corp., 567, F.2d 713 (7th Cir.19771.. 12. See, e.g., Discotrade Ltd, v. Wyeth-

Ayerst Intemat'l Inc., 200 F.Supp.2d 355, 358-360 . (S.D.N.Y.2002) (evaluating corpo- rate relationship between sister corpora- tions and holding that where current client

and firm's opponent in unrelated litigation were wholly owned by same holding com- pany, shared same board of directors, in- teracted intimately through use of shared resources and benefit plans, and used let- terhead, business cards, and email address- es with same company logo, current client and opponent were deemed to be a single entity for purposes of conflict of interests, and, therefore,. firm was disqualified from engaging in further litigation against oppo- nent); Travelers Indem, . Co. v. Gerling Global Reinsurance Corp., No. 99 CIV. 4413(LMM), 2000 WL 1159260, at *6 (S.D.N.Y. Aug. 15, 2000) (applying fact-spe- cific approach and disqualifying firm that represented corporation andacted as coun- sel for third party in action against sister corporation, where the court found consid- erable overlap between the sister corpora- tions, particularly within their corporate structures); Gould, Inc. v. Mitrmi Mining & Smelting Co., .738 FSupp. 1121 (N.D.Ohio 1990) (finn in conflict allowed to withdraw from one representation and create protec-

Dec.2002 3-68

E’I3jICA.L ISSUES FOR INSIDE COUNSEL 53.08 -

inquiry includes consideration of whether a “substantial relationship” exists between the subject matters involved in the two representation^,^^ or whether any attorney-client relationship could be characterized as “vicarious and attenuated” rather than ‘ctraditi~nal.’y14 The results in the cases are unpredictable and conflicting; indecd, in one instance, two courts deciding the same issue for the same parties came to opposite conclusions.

An unpublished decision of a California federal district court re- quired a fact-specific inquiry to resolve the “same client” question, and found the role of corporate counsel pivotal to resolving it. In T e d y n e , Inc. v. Hewlett-Packard:6 the court noted that the parent controlled the subsidiw’s legal affairs; that it had hired and supervised the subsid- iary’s law firm; that the firm had aildressed correspondence to the parent for work done for the sub; and that the outside firm had billed the parent for work done for the sub. The court, therefore? found that parefit and subsidiary were the same client for purposes of the conflicts

Economic and strategic considerations will affect corporate counsel’s view on the question whether or not all members of the corporate family should be treated as a single client. Although existing law provides no clear answer to that question, corporate counsel must be aware that his own dealings with the legal affairs of aMiliates may affect the answer to.-

.

I ru1es.17

tive wall); Hartford Accident & Indem. Co. v. RJR Nabisco, Inc., 721 F.Supp. 534 (S.D.N.Y.1989) (subsidiary and parent deemed same client, but firm allowed to continue representation because partner with conflict had left firm); see also Cal. Ethics Op. No. 1989-113 (1989) (rejecting per se rule and spelling out fact-specific inquiry to be conducted in face of potential conflict). 13. See Glueck v. Jonathan Logan, Inc.,

653 F.2d 746, 748-50 (2d Cir.1981); In re Wingspread Corp., 152 B.R. 861, 86344 (Bankr.S.D.N.Y.1993); see &o Gen-Cor LLC v. Buckeye Corrugated Inc., 111 F.Supp.2d 1049, 1056-1057 (S.D.Ind.2000) (firm which represent6d corporate subsid- iary and acted as counsel for plaintiffs in unrelated action against subsidiary’s parent violated Rule 1.7; however, disqualification unnecessary where any codidential infor- mation obtained in connection with repre- sentation of subsidiary was not substantial- ly relevant to action against parent).

14. In re Wingspread Corp., 152 B.R. at 863.

15. Brooklyn Navy Yard Cogeneration Partners v. Superior Court of Orange Coun- ty, 60 CalApp.4th 248, 70 Cal.Rptr.2d 419 (Cal.App.4th Dist.1997) (California adopts “alter ego” approach and only requires dis- qualification. if‘ the. diiiate represented by the law fum is the “alter ego” of the affili- ate sued by the fm); Brooklyn Navy Yard Cogeneration Partners, L.P. v. PMNC, 174 Misc.2d 216, 663 N.Y.S.2d 499 (N.Y.Sup. 1997) (standard for disqualification requires that the court find that the circumstances “make it realistic and plausible to assume that confidential information was acquired that would give [the nm-affiliate client] an unfair advantage over [the corporate afiili- ate client].”).

16. No. G91-0344, 1991 WL 239940 (N.D.Cal.1991). 17. See also H d o r d Accident & In-

dem. Co. v. RJR Nabisco, 921 F. Supp. at 540 (parent and subsidiary deemed same client because parent (1) attached “consid- erable importance” to litigation against subsidiary; and (2) supervised subsidiary‘s litigation with “right to steer the ... litiga- tion as it saw fit”).

3-69 Dec.2002

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ... -. . . . - _- . -. -. -. ... . . . . ... - . -. ......... .- - -

b

0 3.08 CHAPTER 3

conflicts questions presented by the use of outside law firms. Corporate counsel and the outside lawyer may..agree in advance that affiliates are (or are not) to be treated as c1ients.for purposes of the conflicts of interest rules. For maximum clarity, corporate. counsel may wish to insert a provision in a retainer agreement with outside counsel delimit- ing (or not) the specific client(s) represented. A sample provision is included as Appendix 3-5.

Counsel Guideline 3.7 Corporate Family Conflict Analysis In deciding whether corporate counsel can represent more than one

member of a family of: corporations or subsidiaries in. the same tramac- tion or matter, the following analysis should be applied:

Step 1 Is the transaction between. two or more afiliated companies , so that one benefits at the expense of the other?

. step 2

step 3

Step 4

Is the transaction one in which the two affdiated compa- .nies are contracting or ,dealing with a third party so that there are some benefits or burdens that could be allocat- ed between the affiliated companies?18 If the answer to both of these questions is “no,” then there will generally be no risk of conflict of interest.

If the answer to either questions is “yes,” then ask whether there is 100% identity of ownership of the .affiliated corpora- tions? 0 If there is 100% identifjl of ownership, and neither of the

two companies are insolvent or nearing insolvency, then there is generally no risk of conflict of interest.

If the transaction has the potential of a conflict based upon the. above: analysis, then corporate counsel should treat the two corporations as if they were separate. clients under Model Rule 1.7. This would require obtaining an informed consent to the conflict. In securing the consent, counsel must be certain that the person[sJ giving consent are not under the control of the other client. See Model Rule 1.13(e).

. ... .

#*’

-. . . . -. . . .

5 205.2

PART 205-STANDARDS OF PRO- FESSIONAL C O N D U C T FOR AT- TORNEYS APPEARING AND PRACTICING BEFORE THE COM- MISSION IN THE REPRESENTATION OF AN ISSUER

Sec. 205.1 Purpose and scope. 205.2 Definitions. 205.3 lssuer as client. 205.4 Responsibilities of supervisory attor-

205.5 Responsibilities. of a subordinate at-

205.6 Sanctions and discipline. 205.7 No private right of action.

AUTHOFWY: 15 U.S.C. 77s, 78d-3. 78w. 8Oa-37. 80a-38.8Ob-11. 7202. 7245. and 7262. SOURCE: 68 FR 6320, Feb. 6. 2003. unless oth-

erwise noted. EFFECTIVE DATE NOTE: A t 68 FR 6320. Feb.

6. 2003, part 205 was added, effective August 5. 2003.

9205.1 Purpose and scope. This part sets forth minimum stand-

ards of professional conduct for attor- neys appearing and practicing before

neys.

torney.

the Commission in the representation of an issuer. These standards supple- ment applicable standards of any juris- diction where an attorney is admitted or practices and are not intended to limit the ability of any jurisdiction to impose additional obligations on an at- torney not inconsistent with the appli- cation of this part. Where the stand- ards of a state or other United States jurisdiction where an attorney is ad- mitted or practices conflict with this part, this part shall govern.

0 205.2 Definitions.

lowing definitions apply:

the Commission:

For purposes of this part, the fol-

(a) Appearing and practicing before

(1) Means: (i) Transacting any business with the

Commission, including comrnunica- tions in any form;

(ii) Representing an issuer in a Com- mission administrative proceeding or in connection with any Commission in- vestigation, inquiry. information re- quest; or subpoena:

(iii) Providing advice in respect of the United States securities laws or the Commission's rules or regulations thereunder regarding any document tha t the attorney has notice will be filed with or submitted to, or incor- porated Into any document that will be filed with or submitted to, the Com- mission, including the provision of such advice in the context of preparing, or participating in the preparation of, any such document: or

(iv) Advising an issuer as to whether information or a statement, opinion, or other writing is required under the United States securities laws or the Commission's rules or regulations thereunder to be filed with or sub- mitted to, or incorporated into any document that will be filed with or submitted to, the Commission: but

(2) Does not include an attorney who: (i) Conducts the activities in para-

graphs (a) (1) (i) through (a) (1) (iv) of this section other than in the context of providing legal services to an issuer with whom the attorney has an attor- ney-client relationship; or

(11) Is a non-appearing foreign attor- ney.

223

Q 205.2

(b) Appropriate response means a re- sponse to an attorney regarding re- ported evidence of a material violation as a result of which the attorney rea- sonably believes:

(1) That no material violation, as de- fined in paragraph (i) of this section, has occurred, is ongoing, or is about t o occur:

(2) That the issuer has, as necessary, adopted appropriate remedial meas- ures, including appropriate steps or sanctions to stop any material viola- tions that are ongoing, t o prevent any material violation that has yet to occur, and to remedy or otherwise ap- propriately address any material viola- tion that has already occurred and to minimize the likelihood of its recur- rence: or

(3) That the issuer, with the consent of the issuer's board of directors, a committee thereof to whom a report could be made pursuant to 5205.3(b)(3). or a qualified legal compliance com- mittee, has retained or directed an at- torney to review the reported evidence of a material violation and either:

(i) Has substantially implemented any remedial recommendations made by such attorney after a reasonable in- vestigation and evaluation of the re- ported evidence: or

(ii) Has been advised that such attor- ney may, consistent with his or her professional obligations, assert a colorable defense on behalf of the issuer (or the issuer's officer, director, employee, or agent, as the case may be) in any investigation or judicial or ad- ministrative proceeding relating to the reported evidence of a material viola- tion.

(c) Attorney means any person who is admitted, licensed, or otherwise quali- fied to practice law in any jurisdiction, domestic o r foreign, or who holds him- self or herself out as admitted. li- censed, or otherwise qualified to prac- tice law.

(d) Breach of fiduciary duty refers t o any breach of fiduciary or similar duty to the issuer recognized under a n appli- cable Federal or State statute or at common law, including but not limited to misfeasance, nonfeasance, abdica- tion of duty, abuse of trust, and ap- proval of unlawful transactions.

17 CFR Ch. II (4-1-03 Edition)

(e) Evidence' of a material violation means credible evidence, based upon which it would be unreasonable. under the circumstances, for SI prudent and competent attorney not to conclude that it is reasonably likely that a ma- terial violation has occurred, is ongo- ing, or is about to occur.

(f) Foreign government issuer means a foreign issuer as defined in 17 CFR 230.405 eligible to register securities on Schedule B of the Securities Act of 1933 (15 U.S.C. 77a et se9.. Schedule B).

@ In the representation of an issuer means providing legal services as an attorney for an issuer, regardless of whether the attorney is employed or retained by the issuer.

(h) Issuer means an issuer (as defined in section 3 of the Securities Exchange Act of 1934 (15 U.S.C. 78~)). the securi- ties of which are registered under sec- tion 12 of that Act (15 U.S.C. 781), or that is required to file reports under section 15(d) of that Act (IS U.S.C. 78o(d)). or that files or has filed a reg- istration statement that has not yet become effective under the Securities Act of 1933 (15 U.S.C. 77a et seq.). and tha t it has not withdrawn, but does not include a foreign government issuer. For purposes of paragraphs (a) and (g) of this section, the term "issuer" in- cludes any person controlled by an issuer, where an attorney provides legal services to such person on behalf of. or at the behest, or for the benefit of the issuer, regardless of whether the attorney is employed or retained by the issuer.

(i) Material violation means a mate- rial violation of an applicable United States federal or state securities law, a material breach of fiduciary duty aris- ing under United States federal or s ta te law. or a similar material viola- tion of any United States federal or s ta te law.

(j) Non-appearing foreign attorney means an attorney:

(I) Who is admitted to practice law in a jurisdiction outside the United States:

(2) Who does not hold himself or her- self ou t as practicing, and does not give legal advice regarding, United States federal or state securities or other laws (except as provided in paragraph (i) (3) (ii) of this section): and

224

Securities and Exchange Commission

(3) Who: (i) Conducts activities tha t would

constitute appearing and practicing be- fore the Commission only incidentally to, and in the ordinary course of, the practice of law in a jurisdiction outside the United States; or

(ii) Is appearing and practicing before the Commission only in consultation with counsel, other than a non-appear- ing foreign attorney, admitted or li- censed to practice in a state or other United States j u r isdic tion. (k) Qualified lega2 compliance com-

mittee means a committee of an issuer (which also may be an audit or other committee of the issuer) that:

(1) Consists of a t least one member of the issuer's audit committee (or, if the issuer has no audit committee, one member from an equivalent committee of independent directors) and two or more members of the issuer's board of directors who are not employed, di- rectly or indirectly, by the issuer and who are not, in the case of a registered investment company, "interested per- sons" as defined in section Z(a)(19) of the Investment Company Act of 1940 (15 U S .C. 80a-Z(a) (1 9)) ;

(2) Has adopted written procedures for the confidential receipt. retention, and consideration of any report of evi- dence of a material violation under 5 205.3:

(3) Has been duly established by the issuer's board of directors, with the au- thority and responsibility:

(i) To inform the issuer's chief legal officer and chief executive officer (or the equivalents thereof) of any report of evidence of a' material violation (ex- cept in the circumstances described in 9 205.3(b)(4));

(ii) To determine whether a n inves- tigation is necessary regarding any re- port of evidence of a material violation by the issuer, its officers, directors, employees or agents and, if it deter: -

5 205.3

- _- mines an-investigation is necessary or appropriate, to:

(A) Notify the audit committee or the full board of directors: (B) lnitiate an investigation, which

may be conducted either by the chief legal officer (or the equivalent thereof) or by outside attorneys; and

(C) Retain such additional expert per- sonnel as the committee deems nec- essary: and

(iii) At the conclusion of any such in- vestigation. to:

(A) Recommend, by majority vote, that the issuer implement an appro- priate response to evidence of a mate- rial violation: and (B) Inform the chief legal officer and

the chief executive officer (or the equivalents thereof) and the board of directors of the results of any such in- vestigation under this section and the appropriate remedial measures to be adopted: and

(4) Has the authority and responsi- bility. acting by majority vote, to take all other appropriate action, including the authority to notify the Commis- sion in the event t ha t the issuer fails in any material respect t o implement an appropriate response tha t t he quali- fied legal compliance committee has recommended the issuer to take.

(1) Reasonable or reasonably denotes, with respect t o the actions of a n attor- ney, conduct tha t would not be unrea- sonable for a prudent .and competent . attorney.

(m) Reasonably believes means tha t an attorney believes the matter in ques- tion and tha t the circumstances are such tha t the belief is not unreason- able.

(n) Report means to make known to directly. either in person. by telephone, by e-mail. electronically. or in writing.

. . .

225

ACCA Docket (September 2001): Perils of Joint Representation of Corporations and Corporate Employees 1Ql5IQ3 9:Q9 AM

. . . . . . . . . . . . . . . . . . . . . . . . . . . .

Jump to a Section i r :

. . . . .

Ethics & Privilege September 2001

Perils of Joint Representation of Corporations and Corporate Employees A new lawsuit names as defendants the company and the CEO. The suit, on its face, appears utterly without merit, but you have not fully investigated the matter. As general counsel, you must weigh the risks and benefits of hiring a single law firm to represent both the company and the CEO. One of the greatest risks of hiring only one law firm, you have heard, is the possibility that the firm will be required to withdraw from the representation of both the company and the CEO i f the two clients' interests are later seen to be in conflict. What are the rules in this treacherous area? One court has now adopted the Restatement rule allowing a lawyer to drop the CEO, or other corporate employee, as an "accommodation" client while keeping the company. In re Rite Aid Corp. Securities Litigation.1

One of the most vexing problems facing inside counsel is the decision whether to hire one law firm to represent both the company and its employees (typically executives) when individuals are named as defendants along with the company. There are obvious financial benefits from hiring only one firm as defense counsel. More importantly, corporate employees and executives often prefer to be represented by the company's lawyers because they believe that this situation conwiys to the Dlaintiff a united front and implies that the

John K. Villa is a partner with Williams 8 Connolly LLP in Washington, DC. He specializes in corporate litigation (civil and criminal) involving financial services, directors', officers', and lawyers' liabilities, and related issues. He is an adjunct professor at Georgetown Law School and a regular lecturer for company fully endorses the employees' conduct in the

underlying matter. On the other hand, in-house counsel i ACCA. are sensitive to the risks that conflicts can develop j between the interests of the corporation and the interests of corporate employees. If that conflict ethically requires that the law firm withdraw from the representation of both the company and the employee, then the result will be deeply disruptive to the corporation's defense. Withdrawal from the representation of both joint clients when a conflict develops is, in fact, the general rule required by Model Rules 1.7, 1.9, and'l.16, but the Restatement (Third) of the Law Governing Lawyers has given impetus to the notion of "accommodation" clients. Under the "accommodation" client concept. now endorsed in the Rite Aid case, a lawyer can under some circumstances withdraw from the representation of the corporate employee or executive as an accommodation client and

I: '

continue representing the company. m. ...

ABOUT THE AUTHOR

John K. Villa, "Perils of Joint Representation of Corporations and Corporate Employees," ACCA Docket 19, no. 8 (2001): 90-95.

I

I

Do Not Miss John K. Villa's Corporate Counsel Guidelines published by ACCA and West Group

Corporate Counsel Guidelines is two-volume treatise written expressly for in-house counsel. It i applies general prinaples to the i corporate bar, providing specific i guidelines. This treatise tackles the :

most common issues faang corporate counsel, even those issues that have no guiding precedent or ethics opinions.

Cost: $220, and ACCA members 1 receive a 30% discount. To order, : contact West Publishing 8001344- 1 5009; www.westaroumom. . . . :

% :

. . . .

: i . .

http: //www.acca.comlprotected/pubs/d~ketlso0l lethicsl .php Page 1 of 2

ACQI Docket (September 2001): Perils of Joint Represemetion of Corporationsand Corporate Employees 1013/03 408 PM

ics & Privil

September 2001

Perils of Joint Representation of Corporations. and Corporate Employees

Before considering the accommodation client rule, let us review some of the rules of ethics and privilege governing joint representation. A lawyer may not represent two or more clients who are "directly adverse" to each other unless "the lawyer reasonably believes the representation will not adversely affect the relationship with the other client; and ... each client consents after consultation." Model Rule 1.7(a). Because direct adversity suggests such situations as opposing parties in litigation or in transactions, this rule generally will not be applicable to situations in which the inside counsel is realistically considering having one law firm jointly represent both the company and its executives or employees. The applicable standard is more likely to be Model Rule l.?(b), which applies in situations in which the representation of one client "may be materially limited by the lawyer's responsibilities to another client . .. ." The question is whether the lawyer's obligation to secure the best outcome for the company will be "materially limited" by the lawyer's obligation to secure the best outcome for the jointly represented executive. In those situations, as in the 1.7(a) direct adversity conflict, the. lawyer cannot undertake the representation unless he or she "reasonably believes that the representation will not be adversely affected" and "the client consents after consultation." Before taking on a dual representation in corporate civil litigation, a lawyer must therefore first "reasonably believe"* that the corporation and the executive or employee will not be "adversely affected" by the

dual representation, and the lawyer must obtain the clients' consent "after consultation," which requires explaining the risks to each client3 Assuming that the lawyer concludes that the clients will not be "adversely affected" and that the two clients "consent after consultation," the lawyer may ethically agree to represent both clients. The.two clients are generally considered coequal joint clients of the lawyer. ,

Now that we have worked out the ethical rules, it is important to review the rules of attorney-client privilege. The traditional rule is that there are no confidences between jointly represented clients, and thus the lawyer in our illustration is free to provide to the company any information the lawyer receives from the executive or other employee and vice-versa4 Even this area has become murky, however, because at least three significant jurisdictions now have reached a contrary conclusion: a lawyer is not free to share information between joint clients without the disclosing client's consent5 For example, D.C.. Ethics Opinion 296 holds that, if, in jointly representing a corporation and an employee, the corporate employee discloses to the lawyer information about the employee's illegal conduct, then the lawyer cannot provide the information to the corporation absent the employee's consent. If the employee does not consent, then the lawyer must resign from the representation of both the company and the employee. The solution to this problem, the D.C. Ethics Opinion advises, is to secure prior agreement that the lawyer is permitted to share confidences between the two clients.

Returning to our case in chief, what happens when the lawyer who agreed to jointly represent both the corporation and the corporate employee discovers that the two clients' interests are conflicting? This situation can occur, for example, when subsequent investigation or discovery reveals that the executive was dishonest, breached a duty to the corporation, violated the corporate code of conduct, or broke a federal or state law in a mistaken attempt to benefit the corporation. Can counsel drop the corporate executive and proceed with the company as the sole client? In cases in which the lawyer undertakes the representation of two clients, the general ethics rule precludes the lawyer from terminating his or her representation of one of the clients in favor of the other client, even when a conflict subsequently develops between the two clients.* This situation has become known as the "hot potato" rule, in recognition of a well-known ruling that "[a] firm may not drop a client like a hot potato, especially if it is in order to keep happy a far more lucrative ~l ient ."~ The unhappy result of the hot potato rule is that the

I .................................................

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

Do Not Miss John K. Villa's Corporate Counsel Guidelines published by ACCA and West Group

Corporate Counsel Guidelines is a two-volume treatise written expressly for in-house counsel. It applies general principles to the . corporate bar, providing specific guidelines. This treatise tackles the most common issues facing corporate counsel, even those issues that have no guiding precedent or ethics opinions.

Cost $220, and ACCA members receive a 30% discount. To order, contact West Publishing 800/344- 5009; www.westgroup.com.

.................. ...,..... "l-l .......... ........ * .................................................................. 0

................................................................. ..

ACCA Docket (September 2001): Perils of Joint Repemtation of Corporarfons and Corporate Employees 10/3/03 4:08 PM

lawyer must withdraw from the representation of both clients when a conflict between the two clients develops.

Although the hot potato rule remains the prevailing standard, there is some developing support for the rule that withdrawal from the representation of only one of two joint clients is permissible if the dropped client is an accommodation client. Following a rule that developed in the Second Circuit, the Restatement opines that a lawyer may, with the informed consent of each client, undertake the representation of one client "as an accommodation to the lawyer's regular client."* In the event that adverse interests subsequently develop between the clients, even if relating to the matter involved in the common representation, that preclude the lawyer from continuing to represent both clients, then the accommodation client may be deemed to have consented to the lawyer's continued representation of the regular client in the matter9 This approach is the one that the U.S. District Court for the Eastern District of Pennsylvania adopted in Rite Aid.

Rite Aid was a federal securities class action resulting from the corporation's disclosure of severe financial problems. The defendants included the corporation and its CEO.'O Based on in-house counsel's belief that both defendants shared an identity of interest because the allegations were, in his view,' ' without merit, one law firm was retained to represent both the corporation and the CEO in the litigation. With respect to the representation of the CEO, however, in-house counsel instructed the law firm not to Speak directly with the CEO, but to work through in-house counsel. The law firm included in its engagement letter that, in the event that a conflict arose between the corporation and the CEO, the CEO would be required to retain separate counsel and outside counsel would continue to represent the corporation. Two other facts are important. First, the CEO never provided any confidential information to the law firm.12 Second, at the same time that in-house counsel had engaged one law firm to represent both the corporation and the CEO as counsel of record, a separate law firm was hired to represent only the CEO.13 A law firm that is hired to look out for the interests of an individual client in these circumstances but not enter an appearance in litigation or surface publicly until absolutely necessary is sometimes referred to as "shadow counsel." An investigative audit subsequently disclosed apparently serious breaches of fiduciary duty on the part of the CEO, which the CEO had concealed. The firm that had jointly represented both Rite Aid and the CEO then advised Rite Aid that it could no longer represent the CEO, who had recently resigned, and that the CEO must retain his own counsel in the litigation.14

Following a partial settlement of the litigation, which resolved secuiities claims against Rite Aid but did not release the former CEO, the former CEO moved for disqualification of Rite Aid's law firm on the basis that its continuing representation of Rite Aid with respect to the partial settlement violated Model Rule 1.9(a). Model Rule 1.9(a) prohibits a lawyer from representing a client (here, Rite Aid) in the same or a substantially related matter in which that person's interests are materially adverse to those of a former client (here, the former CEO). In denying the motion, the court found that the CEO was an accommodation client under the terms of the Restatement." Its conclusion was based on his . engagement of and his dealings with the law firm through in-house counsel and the corporation, which was the basis for a finding that the CEO had consented to outside counsel's continued representation of the corporation.' The court also relied on the Second Circuit's holding before the accommodation client theory of the Restatement, in which the appeals court had held that simultaneous representation did not require disqualification in cases in which it was clear that the nonmoving party (the corporation) was the primary client and that the moving party (the former CEO) was a secondary client that had no reason to believe that any information would be withheld from the nonmoving party.I7 Finally, the court held that the former CEO had waived his rights.''

The American Law Institute's Restatement (Third) of the Law Governing Lawyers is a relatively newly minted authority, and Rite Aid appears to be the first reported decision that has addressed the application of the Restatement's accommodation client theory to situations involving the simultaneous representation of a corporate entity and its individual member~.'~ Although the theory may, in the future, provide a solution for conflicts that subsequently unfold during the course of this type of representation, it may require an engagement letter that clearly identifies outside counsel's responsibilities in the event a conflict develops between the interests of the corporation and those of the individuals.2' Other factors that may warrant the inference that the accommodated client understood and consented to such representation include the individual client's contact with the law fihn solely through the corporation?' the fact that the law firm had represented Rite Aid as the regular or primary client for a long period of time before its representation of the corporate employee or officer, the limited duration and scope of the representation of the corporate officer, and the understanding that the law firm "was not expected to keep confidential from [the corporation] any information provided to the lawyer by [the corporate Finally, two factors weighing against disqualification in Rite Aid were that the CEO had had his own lawyer throughout the case to protect his rights and that he had had not provided confidential information to the corporation's lawyers.

Even if the accommodation client theory gains increasing acceptance, it has unknown risks. For example, after the law firm has withdrawn from the representation of the accommodation client, what use can the law firm make of any information provided to it by the accommodation client during the course of the representation? Although the application of the accommodation client theory implies that

http:l/www.acca.com/plproted/pubs/dockeUsoO I/ethics2.php

ACCA Docket (September 2001): Perils of Joint Representation of Corporations and Corpora? Employees 10t3103 4:08 PM

the accommodation client has consented to the disclosure or sharing of information with the regular client,23 does this consent also entitle counsel to use the information against the client after withdrawal? Of course, one can argue that no lawyer can forget what he has already learned. The question is whether the lawyer will be prohibited from acting adversely in any way to the former client because of the lawyer's duty "to take no unfair advantage of the client by abusing knowledge or trust acquired by means of the repre~entation."~~

Rite Aid and the accommodation client rule from the Restatement are at the cutting edge of the ethics/ privilege jurisprudence involving jointly represented clients. There is no assurance that other courts will follow this lead, and the consequences of the traditional hot potato rule can be calamitous if it results in the withdrawal of the law firm from the representation of both clients. Thus, although corporate counsel should keep an eye on these and other similar developments, it would be a grave mistake to rely upon the accommodation client rule without full recognition of. the risks it entails.

If the risks are too high, there is a worthy alternative. The primary law firm could represent only the corporation, and the corporate employee-defendants could be represented by a separate lawyer(s) paid for by the corporation under its indemnity obligations. If the individuals' lawyers are urged to avoid duplication of work and agree to operate under a joint defense agreement, then the ethical and privilege risks are much diminished, probably without a huge increase in cost to the corporation. Of course, this alternative is financially realistic only in large cases in which you would otherwise hire shadow counsel. And it has a cost: the corporate employees are not represented jointly by the corporation's outside law firm. Most employees and some executives readily accept this result. Many CEOs find it unacceptable for appearance purposes.

The foregoing discussion of the accommodation client rule has been exclusively in the context of civil litigation, and so it should be. Although there may be no principled distinction between civil and criminal litigation for application of this rule, the fact is that the likelihood of a conflict developing between a corporation and a corporate employee or officer is, in the author's experience, far greater in criminal cases than in civil cases. And the conflicts can become much sharper if the government offers the corporation a good deal if it abandons the corporate employee (or vice versa). Thus, the dynamics of criminal litigation make it far less attractive to use the accommodation client theory there than in civil litigation.

What are the practical lessons to be learned from this analysis?

Until your jurisdiction has endorsed the accommodation client rule, caution dictates hiring separate counsel for individuals and minimizing duplication of work.

0 Don't rely upon the accommodation client rule in cases in which there appears a significant likelihood of a conflict developing.

Draft initial engagement letters with extreme care. Recite therein that the corporation is the primary client, that the law firm is entitled to advise the corporation of anything that the individual client tells counsel, and that, in the event of a conflict, the law firm will withdraw from the representation of the individual and continue representing the corporation and is free to use-all '

information that it has previously gained from the individual for any purpose whatsoever. Devote whatever time and resources are necessary to explain to the individual employee the implications of these terms, including having the individual employee consult with separate counsel, in order to satisfy the burden of "consent after consu I ta t ion. " .

If financially feasible, hire shadow counsel to monitor the litigation for individual defendants and not enter an appearance or otherwise surface until absolutely necessary.

Copyright (c) 2001 John K. Villa and the American Corporate Counsel Association. All rights reserved.

b~pJlwww.acca.comlp~tectcd/pubsldocketsoO1 lethies2.php Page 3 of 4

ACCA Docket (September 2001): P d s of Joint bpmtk of Corponrion~ q d Corporstc Employees

NOTES

1, 2.

3.

4. 5. 6.

7.

8. 9.

10.

11. 12. 13. 14. 15. 16.

17.

18. 19.

20.

21. 22. 23.

24.

1

In re Rite Aid Corp. Sec. Litig., - F. Supp. 2d-, 2001 WL 389341 (E.D. Pa. 2001). The term "reasonably believes" as defined in the "Terminology" section of the Model Rules means that "the lawyer believes the matter in question and that the circumstances are such that the belief is reasonable." The term "consultation" as defined in the "Terminology' section of the Model Rules means "communication of information reasonably sufficient to permit the client to appreciate the significance of the matter in question." Brennan's, Inc. v. Brennan's Restaurants, Inc., 590 F.2d 168 (5th Cir. 1979). D.C.. Ethics Op. No. 296 New Yop.State Bar Op. No. 555; see also 111. Adv. Op. 98-07. Under the Model Rules of Professional Conduct, the obligation of a lawyer to withdraw when presented with a conflict during the representation of a single client is governed by Rule 1.7(a). In cases in which a lawyer represents more than one client on a matter and withdraws from representing one of the clients after a conflict between the clients has developed during the representation, the question of whether the lawyer may continue to represent the remaining client@) is determined by Model Rule 1.9, governing representations adverse to a former client. Model Rule 1.7, cmt. 2; see also Restatement (Third) of the Law Governing Lawyers,/l32, cmt. c (noting that the existence of grounds for mandatory or permissive withdrawal may be sufficient to render the representation of one client "former" under the fonner-client conflict NI~S of/132, but only if the lawyer's primary motivation is not the desire to represent the other client). Picker Int'l, Inc. v. Varian AssoCS., Inc., 670 F. Supp. 1363, 1365 (N.D. Ohio 1987). affd, 869 F.2d 578 (6th Cir. 1989). See also Harte Biltmore Ltd. v. First Pennsylvania Bank, 655 F. Supp. 419 (S.D. Fla. 1987). Restatement (Third) of the Law Governing Lawyers,/32, cmt. i. Id. (further providing that the lawyer bears the burden of showing that circumstances exist warranting the inference that the accommodation client had understood the relationship and had impliedly consented to the arrangement). The chief financial officer and the president subsequently became clients of outside counsel in this matter under the same terms as the original repmentation of the corporation and the CEO. In re Rite Aid Corp. Sec. Litig., 2001 WL 389341, at '2. In house counsel's view was based on the CEO's representation that the claims were meritless. Id. at '6. Id. at '3. Id. at '2. Id. at '3. Restatement (Third) of the Law Governing LawyersJ132. cmt. i. In re Rite Aid Corp. Sec. Litig.. 2001 WL 389341, at '8. The court also found that, aside from the accommodation client reasoning of the Restatement, the CEO had effectively consented'to the continued representation of the corporation because the engagement letter "could not have been clearer with respect to the relationship between [outside counsel's] representation of Rite Aid and its representation of [the CEO]." Id. Id. at 5 '6 (discussing Allegaed V. PerOt, 565 F.2d 246 (2d Cir. 1977), and Kempner v. Oppenhelmer 8 Co., 662 F. Supp. 1271 (S.D.N.Y. 1987)).

In Universal City Studios Inc. v. Reimerdes, 98 F. Supp. 2d 449 (S.D.N.Y. 2000), the court rejected the law finn's assertion that the plaintiff, a former client, was an accommodation client whom the firm could unilaterally drop in favor of another client whom the fi" represented in an unrelated action against the plaintiff. The court found that the firm's decision to undertake the representation of the other client was improper at the outset because of the advefse interests. The court also found that the firm's conclusion that the plaintiff was an accommodation client was based on factual assumptions that "are demonstrably wrong . , . unproved, or are unwarranted inferences drawn from assertions" made .by the firm. Id. at 454. In Rite Aid, the court stated that counsel's letter "made it pellucid" that the firm would; in the case of a conflict between the corporation and its CEO, cease its representation of the CEO but continue its representation of the corporation. Although the CEO contended that he did not see the letter, nor agree to this provision, the court held that the CEO was construd'wly on notice of the letter's contents because it was 'his decision to engage counsel through Rite Aid." 2001 WL 389341, at '8. Id. Restatement (Third) of the Law Governing LawyersJ132, cmt. 1. See In re Rite Aid Corp. Sec. Lltig., 2001 WL 389341, at '5'6 (discussing pre-Restatement cases applying pdmary client theory, wherein Courts rejected the contention that counsel had breached the duty of confidentiality under Canon 4 because the secondary client had had no reason to believe at the outset of the representation that any information would be withheld from the primary client). Restatement (Third) of the Law Governing Lawyem, /33(d).

Id. at '9-'10.

S B

contact the editor

4s e. . o - request friendly vefsion . reprint permission

1013m3 408 PM

. . . . ........_...................................................................................................... ... ............................................................................................ ". Networks Ylnformation YAdvowcv $Publications YEducation YMarketDlace YAbout ACCA

American Corporate Counsel Association. 1025 Connecticut Ave, NW, Suite 200, Washington, DC 20036-5425. 202/293-4103. webmistress'@acca.com.

' Copyright'2001 American Corporate Counsel Association. All rights reserved.

htlp:/lwww.acca.com/pro~ec~dlpubddocke~s~l/etbics2.pbp . Page 4 of4

RULE 1.7: CONFLICT OF INTEREST: CURRENT CLIENTS

(@Except as provided in paragraph (b), a lawyer shall not represent a client if the representation involves a concurrent conflict of interest. A concurrent conflict of interest exists if:

(1)the representation of one client will be directly adverse to another client;or

(2)there is a significant risk that the representation of one or more clients will be materially limited by the lawyer's responsibilities to another client, a former client or a third person or by a personal interest of the lawyer.

(b)Notwithstanding the existence of a concurrent conflict of interest under paragraph(a), a lawyer may represent a client if:

(1)the lawyer reasonably believes that the lawyer will be able to provide competent and diligent representation to each affected client;

(2)the representation is not prohibited by law;

(3)the representation does not involve the assertion of a claim by one client against another client represented by the lawyer in the same litigation or other proceeding before a tribunal; and

(4)each affected client gives informed consent, confirmed in writing.

Comment

General Principles

[I] Loyalty and independent judgment are essential elements in the lawyer's relationship to a client. Concurrent conflicts of interest can arise from the lawyer's responsibilities to another client, a former client or a third person or from the lawyer's own interests. For specific Rules regarding certain concurrent conflicts of interest, see Rule 1.8. For former client conflicts of interest, see Rule 1.9. For conflicts of interest involving prospective clients, see Rule 1.1 8. For definitions of "informed consent" and "confirmed in writing," see Rule l.O(e) and(b).

.

121 Resolution of a conflict of interest problem under this Rule requires the lawyer to: 1) clearly identify the client or clients; 2) determine whether a conflict of interest exists; 3) decide whether the representation may be undertaken despite the existence of a conflict, i.e., whether the conflict is consentable; and 4) if SO, consult with the clients affected under paragraph(a) and obtain their informed consent, confirmed in writing. The clients affected under paragraph (a) include both of the clients referred to in paragraph (a)( 1)and the one or more clients whose representation might be materially limited under paragraph (a)(2).

[3] A conflict of interest may exist before representation is undertaken, in which event the representation must be declined, unless the lawyer obtains the informed consent of each client under the conditions of paragraph (b). To determine whether a conflict of interest exists, a lawyer should adopt reasonable procedures, appropriate for the size and type of firm and practice, to determine in both litigation and non- litigation matters the persons and issues involved. See also Comment to Rule 5.1. Ignorance caused by a failure to institute such procedures' will not excuse a lawyer's violation of this Rule. As to whether a client- lawyer relationship exists or, having once been established, is continuing, see Comment to Rule 1.3 and Scope.

141 If a conflict arises after representation has been undertaken, the lawyer ordinarily must withdraw from the representation, unless the lawyer has obtained the informed consent of the client under the conditions of paragraph(b). See Rule 1.16. Where more than one client is involved, whether the lawyer may continue to represent any of the clients is determined both by the lawyer's ability to comply with duties owed to the

former client and by the lawyer's ability to represent adequately the remaining client or clients, given the lawyer's duties to the former client. See Rule 1.9. See also Comments[S] and [29].

[5] Unforeseeable developments, such as changes in corporate and other organizational affiliations or the addition or realignment of parties in litigation, might create conflicts in the midst of a representation, as when a company sued by the lawyer on behalf of one client is bought by another client represented by the lawyer in an unrelated matter. Depending on the circumstances, the lawyer may have the option to withdraw from one of the representations in order to avoid the conflict. The lawyer must seek court approval where necessary and take steps to minimize harm to the clients. See Rule 1.16. The lawyer must continue to protect the confidences of the client from whose representation the lawyer has withdrawn. See Rule 1 .g(C).

Identifying Conflicts of Interest: Directly Adverse

163 Loyalty to a current client prohibits undertaking representation directly adverse to that client without that client's informed consent. Thus, absent consent, a lawyer may not act as an advocate in one matter against a person the lawyer represents in some other matter, even when the matters are wholly unrelated. The client as to whom the representation is directly adverse is likely to feel betrayed, and the resulting damage to the client-lawyer relationship is likely to impair the lawyer's ability to represent the client effectively. In addition, the client on whose behalf the adverse representation is undertaken reasonably may fear that the lawyer will pursue that client's case less effectively out of deference to the other client, Le., that the representation may be materially limited by the lawyer's interest in retaining the current client. Similarly, a directly adverse conflict may arise when a lawyer is required to cross-examine a

damaging to the client who is represented in the lawsuit. On the other hand, simultaneous representation in unrelated matters of clients whose interests are only economically adverse, such as representation of competing economic enterprises in unrelated litigation, does not ordinarily constitute a conflict of interest and thus may not require consent of the respective clients.

I client who appears as a witness in a lawsuit involving another client, as when the testimony will be

[7] Directly adverse conflicts can also arise in transactional matters. For example, if a lawyer is asked to represent the seller of a business in negotiations with a buyer represented by the lawyer, not in the same transaction but in another, unrelated matter, the lawyer could not undertake the representation without the informed consent of each client.

Identifying Conflicts of Interest: Material Limitation

[8] Even where there is no direct adverseness, a conflict of interest exists if there is a significant risk that a lawyer's ability to consider, recommend or carry out an appropriate course of action for the client will be materially limited as a result of the lawyer's other responsibilities or interests. For example, a lawyer asked to represent several individuals seeking to form a joint venture is likely to be materially limited in the lawyer's ability to recommend or advocate all possible positions that each might take because of the lawyer's duty of loyalty to the others. The conflict in effect forecloses alternatives that would otherwise be available to the client. The mere possibility of subsequent harm does not itself require disclosure and consent. The critical questions are the likelihood that a difference in interests will eventuate and, if it does, whether it will materially interfere with the lawyer's independent professional judgment in considering alternatives or foreclose courses of action that reasonably should be pursued on behalf of the client.

Lawyer's Responsibilities to Former Clients and Other Third Persons

[9] In addition to conflicts with other current clients, a lawyer's duties of loyalty and independence may be materially limited by responsibilities to former clients under Rule 1.9 or by the lawyer's responsibilities.to other persons, such as fiduciary duties arising from a lawyer's service as a trustee, executor or corporate director.

Personal Interest Conflicts

[ I 01 The lawyer's own interests should not be permitted to have an adverse effect on representation of a client. For example, if the probity of a lawyer's own conduct in a transaction is in serious question, it may be difficult or impossible for the lawyer to give a client detached advice. Similarly, when a lawyer has discussions concerning possible employment with an opponent of the lawyer's client, or with a law firm representing the opponent, such discussions could materially limit the lawyer's representation of the client. In addition, a lawyer may not allow related business interests to affect representation, for example, by referring clients to an enterprise in which the lawyer has an undisclosed financial interest. See Rule 1.8 for specific Rules pertaining to a number of personal interest conflicts, including business transactions with clients. See also Rule 1 .I 0 (personal interest conflicts under Rule 1.7 ordinarily are not imputed to other lawyers in a law firm).

[ I 1 J When lawyers representing different clients in the same matter or in substantially related matters are closely related by blood or marriage, there may.be a significant risk that client confidences will be revealed and that the lawyer's family relationship will interfere with both loyalty and independent professional judgment. As a result, each client is entitled to know of the existence and implications of the relationship between the lawyers before the lawyer agrees to undertake the representation. Thus, a lawyer related to another lawyer, e.g., as parent, child, sibling or spouse, ordinarily may not represent a client in a matter where that lawyer is representing another party, unless each client gives informed consent. The disqualification arising from a close family relationship is personal and ordinarily is not imputed to members of firms with whom the lawyers are associated. See Rule I .lo.

[I21 A lawyer is prohibited from engaging in sexual relationships with a client unless the sexual relationship predates the formation of the client-lawyer relationship. See Rule 1.80).

Interest of Person Paying for a Lawyer's Service

[I31 A lawyer may be paid from a source other than the client, including a co-client, if the client is informed of that fact and consents and the arrangement does not compromise the lawyer's duty of loyalty or independent judgment to the client. See Rule 1.8(9. If acceptance of the payment from any other source presents a significant risk that the lawyer's representation of the client will be materially limited by the lawyer's own interest in accommodating the person paying the lawyer's fee or by the lawyer's responsibilities to a payer who is also a co-client, then the lawyer must comply with the requirements of paragraph (b) before accepting the representation, including determining whether the conflict is consentable and, if so, that the client has adequate information about the material risks of the representation.

_. - _- - - . . -

Pro hi bited Representations

[I 41 Ordinarily, clients may consent to representation notwithstanding a conflict. However, as indicated in paragraph (b), some conflicts are nonconsentable, meaning that the lawyer involved cannot properly ask for such agreement or provide representation on the basis of the client's consent. When the lawyer is representing more than one client, the question of consentability must be resolved as to each client.

[I 51 Consentability is typically determined by considering whether the interests of the clients will be adequately protected if the clients are permitted to give their informed consent to representation burdened by a conflict of interest. Thus, under paragraph (b)(l), representation is prohibited if in the circumstances the lawyer cannot-reasonably conclude that the lawyer will be able to provide competent and diligent representation. See Rule I .I (competence) and Rule 1.3 (diligence).

[I 61 Paragraph (b)(2) describes conflicts that are nonconsentable because the representation is prohibited by applicable law. For example, in some states substantive law provides that the same lawyer may not represent more than one defendant in a capital case, even with the consent of the clients, and under federal criminal statutes certain representations by a former government lawyer are prohibited, despite the informed consent of the former client. In addition, decisional law in some states limits the ability of a governmental client, such as a municipality, to consent to a conflict of interest.

[I 71 Paragraph (b)(3) describes conflicts that are nonconsentable because of the institutional interest in vigorous development of each client's position when the clients are aligned directly against each other in the same litigation or other proceeding before a tribunal. Whether clients are aligned directly against each other within the meaning of this paragraph requires examination of the context of the proceeding. Although this paragraph does not preclude a lawyer's multiple representation of adverse parties to a mediation (because mediation is not a proceeding before a "tribuna1"under Rule 1 .O(m)), such representation may be precluded by paragraph (b)(l ).

Informed Consent

[la] Informed consent requires that each affected client be aware of the relevant circumstances and of the material and reasonably foreseeable ways that the conflict could have adverse effects on the interests of that client. See Rule 1 .O(e) (informed consent). The information required depends on the nature of the conflict and the nature of the risks involved. When representation of multiple clients in a single matter is undertaken, the information must include the implications of the common representation, including possible effects on loyalty, confidentiality and the attorney-client privilege and the advantages and risks involved. See Comments [30] and [31 ](effect of common representation on confidentiality).

[I 91 Under some circumstances it may be impossible to make the disclosure necessary to obtain consent. For example, when the lawyer represents different clients in related matters and one of the clients refuses to consent to the disclosure necessary to permit the other client to make an informed decision, the lawyer cannot properly ask the latter to consent. In some cases the alternative to common representation can be that each party may have to obtain separate representation with the possibility of incurring additional costs. These costs, along with the benefits of securing separate representation, are factors that may be considered by the affected client in determining whether common representation is in the client's interests.

Consent Confirmed in Writing

[20] Paragraph (b) requires the lawyer to obtain the informed consent of the client, confirmed in writing. Such a writing may consist of a document executed by the client or one that the lawyer promptly records and transmits to the client following an oral consent. See Rule I .O(b). See also Rule 1 .O(n) (writing includes electronic transmission). If it is not feasible to obtain or transmit the writing at the time the client gives informed consent, then the lawyer must obtain or transmit it within a reasonable time thereafter. See Rule 1 .O(b). The requirement of a writing does not supplant the need in most cases for the lawyer to talk with the client, to explain the risks and advantages, if any, of representation burdened with a conflict of interest, as well as reasonably available alternatives, and to afford the client a reasonable opportunity to consider the risks and alternatives and to raise questions and concerns. Rather, the writing is required in order to impress upon clients the seriousness of the decision the client is being asked to make and to avoid disputes or ambiguities that might later occur in the absence of a writing.

Revoking Consent

[21] A client who has given consent to a conflict may revoke the consent and, like any other client, may terminate the lawyer's representation at any time. Whether revoking consent to the client's own representation precludes the lawyer from continuing to represent other clients depends on the circumstances, including the nature of the conflict, whether the client revoked consent because of a material change in circumstances, the reasonable expectations of the other client and whether material detriment to the other clients or the lawyer would result.

Consent to Future Conflict

[22] Whether a lawyer may properly request a client to waive conflicts that might arise in the future is subject to the test of paragraph(b). The effectiveness of such waivers is generally determined by the extent to which the client reasonably understands the material risks that the waiver entails. The more comprehensive the explanation of the types of future representations that might arise and the actual and

.

. . . . . . . . .............. .......... ... -- . . . . . . . . ....

reasonably foreseeable adverse consequences of those representations, the greater the likelihood that the client will have the requisite understanding. Thus, if the client agrees to consent to a particular type of conflict with which the client is already familiar, then the consent ordinarily will be effective with regard to that type of conflict. If the consent is general and open-ended, then the consent ordinarily will be ineffective, because it is not reasonably likely that the client will have understood the material risks involved. On the other hand, if the client is an experienced user of the legal services involved and is reasonably informed regarding the risk that a conflict may arise, such consent is more likely to be effective, particularly if, e.g., the client is independently represented by other counsel in giving consent and the consent is limited to future conflicts unrelated to the subject of the representation. In any case, advance consent cannot be effective if the circumstances that materialize in the future are such as would make the conflict nonconsentable under paragraph (b).

Conflicts in Litigation

[23] Paragraph (b)(3) prohibits representation of opposing parties in the same litigation, regardless of the clients' consent. On the other hand, simultaneous representation of parties whose interests in litigation may conflict, such as coplaintiffs or codefendants, is governed by paragraph(a)(2). A conflict may exist by reason of substantial discrepancy in the parties'testimony, incompatibility in positions in relation to an opposing party or the fact that there are substantially different possibilities of settlement of the claims or liabilities in question. Such conflicts can arise in criminal cases as well as civil. The potential for conflict of interest in representing multiple defendants in a criminal case is so grave that ordinarily a lawyer should decline to represent more than one codefendant. On the other hand, common representation of persons having similar interests in civil litigation is proper if the requirements of paragraph (b) are met.

[24] Ordinarily a lawyer may take inconsistent legal positions in different tribunals at different times on behalf of different clients. The mere fact that advocating a legal position on behalf of one client might create precedent adverse to the interests of a client represented by the lawyer in an unrelated matter does not create a conflict of interest. A conflict of interest exists, however, if there is a significant risk that a lawyer's action on behalf of one client will materially limit the lawyer's effectiveness in representing another client in a different case; for example, when a decision favoring one client will create a precedent likely to seriously weaken the position taken.on behalf of the other client. Factors relevant in determining whether the clients need to be advised of the risk include: where the cases are pending, whether the issue is substantive or procedural, the temporal relationship between the matters, the significance of the issue to the immediate and long-term interests of the clients involved and the clients' reasonable expectations in retaining the lawyer. If there is significant risk of material limitation, then absent informed consentof the affected clients, the lawyer must refuse one of the representations or withdraw from one or both matters.

[25] When a lawyer represents or seeks to represent a class of plaintiffs or defendants in a class-action lawsuit, unnamed members of the class are ordinarily not considered to be clients of the lawyer for purposes of applying paragraph (a)(l) of this Rule. Thus, the lawyer does not typically need to get the consent of such a person before representing a client suing the person in an unrelated matter. Similarly, a lawyer seeking to represent an opponent in a class action does not typically need the consent of an unnamed member of the class whom the lawyer represents in an unrelated matter.

Nonlitigation Conflicts

[26] Conflicts of interest under paragraphs (a)( I ) and (a)(2)arise in contexts other than litigation. For a discussion of directly adverse conflicts in transactional matters, see Comment [7]. Relevant factors in determining whether there is significant potential for material limitation include the duration and intimacy of the lawyer's relationship with the client or clients involved, the functions being performed by the lawyer, the likelihood that disagreements will arise and the likely prejudice to the client from the conflict. The question is often one of proximity and degree. See Comment[8].

'

[27] For example, conflict questions may arise in estate planning and estate administration. A lawyer may be called upon to prepare wills for several family members, such as husband and wife, and, depending

upon the circumstances, a conflict of interest may be present. In estate administration the identity of the client may be unclear under the law of a particular jurisdiction. Under one view, the client is the fiduciary; under another view the client is the estate or trust, including its beneficiaries. In order to comply with conflict of interest rules, the lawyer should make clear the lawyer's relationship to the parties involved.

[28] Whether a conflict is consentable depends on the circumstances. For example, a lawyer may not represent multiple parties to a negotiation whose interests are fundamentally antagonistic to each other, but common representation is permissible where the clients are generally aligned in interest even though there is some difference in interest among them. Thus, a lawyer may seek to establish or adjust a relationship between clients on an amicable and mutually advantageous basis; for example, in helping to organize a business in which two or more clients are entrepreneurs, working out the financial reorganization of an enterprise in which two or more clients have an interest or arranging a property distribution in settlement of an estate. The lawyer seeks to resolve potentially adverse interests by developing the parties' mutual interests. Otherwise, each party might have to obtain separate representation, with the possibility of incurring additional cost, complication or even litigation. Given these and other relevant factors, the clients may prefer that the lawyer act for all of them.

Special Considerations in Common Representation

[29] In considering whether to represent multiple clients in the same matter, a lawyer should be mindful that if the common representation fails because the potentially adverse interests cannot be reconciled, the result can be additional cost, embarrassment and recrimination. Ordinarily, the lawyer will be forced to withdraw from representing all of the clients if the common representation fails. In some situations, the risk of failure is so great that multiple representation is plainly impossible. For example, a lawyer cannot undertake common representation of clients where contentious litigation or negotiations between them are imminent or contemplated. Moreover, because the lawyer is required to be impartial between commonly represented clients, representation of multiple clients is improper when it is unlikely that impartiality can be maintained. Generally, if the relationship between the parties has already assumed antagonism, the possibility that the clients'interests can be adequately served by common representation is not very good. Other relevant factors are whether the lawyer subsequently will represent both parties on a continuing basis and whether the situation involves creating or terminating a relationship between the parties.

[30] A particularly important factor in determining the appropriateness of common representation is the effect on client-lawyer confidentiality and the attorney-client privilege. With regard to the attorney-client privilege, the prevailing rule is that, as between commonly represented clients, the privilege does not attach. Hence, it must be assumed that if litigation eventuates between the clients, the privilege will not protect any such communications, and the clients should be so advised.

[31] As to the duty of confidentiality, continued common representation will almost certainly be inadequate if one client asks the lawyer not to disclose to the other client information relevant to the common representation. This is so because the lawyer has an equal duty of loyalty to each client, and each client has the right to be informed of anything bearing on the representation that might affect that client's interests and the right to expect that the lawyer will use that information to that client's benefit. See Rule 1.4. The lawyer should, at the outset of the common representation and as part of the process of obtaining each client's informed consent, advise each client that information will be shared and that the lawyer will have to withdraw if one client decides that some matter material to the representation should be kept from the other. In limited circumstances, it may be appropriate for the lawyer to proceed with the representation when the clients have agreed, after being properly informed, that the lawyer will keep certain information confidential. For example, the lawyer may reasonably conclude that failure to disclose one client's trade secrets to another client will not adversely affect representation involving a joint venture between the clients and agree to keep that information confidential with the informed consent of both clients . [32] When seeking to establish or adjust a relationship between clients, the lawyer should make clear that the lawyer's role is not that of partisanship normally expected in other circumstances and, thus, that the

clients may be required to assume greater responsibility for decisions than when each client is separately represented. Any limitations on the scope of the representation made necessary as a result of the common representation should be fully explained to the clients at the outset of the representation. See Rule 1.2(c).

[33] Subject to the above limitations, each client in the common representation has the right to loyal and diligent representation and the protection of Rule 1.9 concerning the obligations to a former client, The client also has the right to discharge the lawyer as stated in Rule 1.16.

Organizational Clients

[34] A lawyer who represents a corporation or other organization does not, by virtue of that representation, necessarily represent any constituent or affiliated organization, such as a parent or subsidiary. See Rule 1 .I 3(a). Thus, the lawyer for an organization is not barred from accepting representation adverse to an affiliate in an unrelated matter, unless the circumstances are such that the affiliate should also be considered a client of the lawyer, there is an understanding between the lawyer and the organizational client that the lawyer will avoid representation adverse to the client's affiliates, or the lawyer's obligations to either the organizational client or the new client are likely to limit materially the lawyer's representation of the other client.

[35] A lawyer for a corporation or other organization who is also a member of its board of directors should determine whether the responsibilities of the two roles may conflict. The lawyer may be called on to advise the corporation in matters involving actions of the directors. Consideration should be given to the frequency with which such situations may arise, the potential intensity of the conflict, the effect of the lawyer's resignation from the board and the possibility of the corporation's obtaining legal advice from another lawyer in such situations. If there is material risk that the dual role will compromise the lawyer's independence of professional judgment, the lawyer should not serve as a director or should cease to act as the corporation's lawyer when conflicts of interest arise. The lawyer should advise the other members of the board that in some circumstances matters discussed at board meetings while the lawyer is present in the capacity of director might not be protected by the attorney-client privilege and that conflict of interest considerations might require the lawyer's recusal as a director or might require the lawyer and the lawyer's firm to decline representation of the corporation in a matter.

. - . . . . - . - - -. . . . .. . -. .. . . . . .

.-

a

. - . . . . . , . .. . .

. .

morn corporate Counsel Guidelines Author, John Villa Copyright, =/West

. .. . -.. . .

5 3.07 Corporate Counsel as Legal Adviso-The Interests of the Corporation versus the Interests of Manage- ment

Model Rule 1.13(a) provides that a “lawyer employed . . . by an organization represents the organization acting through its duly autho- rized constituents.” Model Rule 1.13(a) answers the “who is the client’’ question. Corporate counsel represents the business entity ,(and not its constituent& The Model Code contains a similar provision: Ethical Consideration 5-18 provides that “[a] lawyer employecE or retained by a corporation or similar entity owes his allegiance to the entity and not to a stockholder, director, officer, employee, representative or other person connected with the entity.” These provisions do not mean that the corporation’s counsel is barred from also providing legal sewices to members of the corporate family or the corporation’s constituents.’

represent board of directors but was specifi- 1. See, e.g., Tex. Eth. Op. 476 (1992) d l Y hired to Provide Services to mem-

bers of organization); Tex. Eth. Op. 512 (1995) (permitting in-house attorney to rep

0 3.07

(finding rule c o n c e d g organization as client inapplicable to attorney who did not

3-49 Dec.2002

..

3 3.07 CHAPTrn’ 3

. .

. : I . .. * .

. . ’ .

The corporate entity, being a legal fiction, can only act through its human agents. Consequently, corporate counsel must serve the entity through interaction with persons none of whom is the agual client. This can cause a significant problem for counsel when the adorney believes that decisions of corporate management are not in th’e corporation’s best interest. As we shall see, the steps corporate counsel should take under those circumstances depend on the reasons that corporate counsel dis- agrees with management’s decision. In rare instances, it is clear that management’s decision is not in the best interests of the corporation and must be challenged.’.’ In most instances, however, the lawyer is best advised to follow the dictates of management.

* * * Because of its singular importance in defining the ethical obligations

of corporate counsel, the ABA’s Model Rule 1.13 is. ‘set forth in its entirety:’”

’

resent joint venture in which corporation was venturer).

1.1 In view of recent legislation, corpo- rate counsel will be required to act with respect t o evidence of securities $elations and other misconduct. Under the Sarbanes- Oxley Act of 2002, Pub. L. No. 107-204,116 Sht. 745 (2002), the Securities and Ex- change Commission has been directed’to issue minimum standards of professional conduct for attorneys appearing and prac- ticing before the Commission.. One rule which must be included in these standards is a rule “requiring an attorney to report evidence of a material violation of securities law or breach of fiduciary duty or similar violation by the company . . . ’to the chief legal counsel or the chief executive officer of the Company[.]” Pub.L. No. 107-204, su- pm, at 0 307(1), 116 Stat. a t 784. The rule must further. require the attorney to report such evidence to the audit committ+e of the board of directors or to another c o d t t e e of the board of directors comprised solely of directors who are not employed in any way by the company, if there is not an appmpri- ate response to the evidence by the chief legal counsel or the chief executive officer. Id. at 0 207(2), I16 Stat. at 784. As one commentator has noted, this law imposes a broad reporting duty on corporate counsel, requiring counsel to make a report whenev- er he or she ‘‘has evidence” of a securities violation, instead of when counsel has knowledge of such violations. See SEC Must Issue Attorney Conduct Rules Under New

.

. . . . i Fed’eral Accounting Reform Law, 18:hw- yen’ Manual on plpfesswd condt;r~‘45? (July 31,2002). 1.2 ’’ Because of the “unexpechd ’ :Ad

traumatic bankruptcy of: Emn- and. other Emn-like. situatiow,’! the.. ABA ,appoir&ed a Task Force charged wit$ the responsibil.. . -.. .- . ity of examining the laws and ethical principles governing the hles of lawyers, executive :officers, and .directors, and of recommending changes that would seme to improve corporate ,responsibility. ABA .Task Force on Coiporate Responsibility, Preliminary. Report at 3 (July 16, 2002). One of the recommended changes pertains to Model Rule 1.13, and involves amend- ing the rule by requiring a-1awyer.b take remedial measures.upon .discovering crime or fraud on the part of ‘th<,.coiporati~n, even if .the crime or fraud is unrelated‘ to the representation but is discovered dur- ing the course of the repmntation, “he Tasli’Force has also reqnmendd, other changes to Rule 1.13 perm’itting the law- yer to go directly to the top.of the corpo- rate ladder when it is unlikely that inter- mediate officeks and directms ‘will take the necessary corrective action, and ensur- ing that disclosure of any confidential in- formation. when reporting to corporate au- thority will not constitute a violation of the confidentiality stri$ures of Rule 1.6. In order to effectuah these changes, the Takk Force also recommended making changes to’certain other rules, including. Rule 1.6, by making disclosrire of confi-

. .

. :

Dec.2002 3-50

ETHICAL ISSUES FOR INSIDE COUNSEL 03.07 -

Organization as Client (a) A lawyer employed or retained by an orgahization rep-

resents the organization acting through. its. duly authorized constituents. . .: . . ._

’ . If a ‘lawyer ftjr an organization ,knows that an offieer, employee ’ or other person associated with the organization’ is engaged in action, intends to act or refhses to act in a matter related .to the. representation that is . a violation of. a . legal obligation to the. organization, or a violation of law which reasonably might be imputed. to. the organization, and is likely to result in substantial injury to the .organization, the lawyer shall proceed as is reasonably necessary imthe. best interest of the organization. In determining how to proceed,. the Iawyer shall give due consideration to the seriousness .of’ the violatiofi and its ,consequences, the, scope and nature : of the lawyer’s

. representation, the responsihility. in.the organization and the . apparent motivation of the.-peGon involued, the policies of the. .

organization concerning such matters and zgy other relevant considerations. Any measures. taken shall be designed ,to mini-. . . ,mize disruption of the organization and the risk of .,revealing’.. . . ’ information relating to the representation to persons outside .. :.. . the organization. Such ,. measures may include among others: . * . --.- -.

(1) asking. rekideration of the matter; (2) advising that a separatedegal opinion on the matter

be sought for presentation to app.ropriate. authority in the org-kation; and .

(3) referring the matter to higher authority in the organization, including if warranted by the seriousness of the matter, referral to.the highest authority that can act behalf of the organization as ,determiiied by-applicable law ...

. (c) If,. despite the lawyer‘s. efforts ,& accordance with para- graph (b), the highest auth0rity“that c& .act on behalf .of the organization insists upon action; or. a refirsal toract, that is clearly a violation of law and . .:;. is . ,likely to, result in substantial . .

dential information mandatory when client misconduct is k n o m and is reasonably certain to ksult in substantial injury to the financial interests or pfoperty of an; other; Rule 1.2, ‘by prohibiting a lawyer from assisting a client in conduct that the, lawyer “reasonably should know” is crimi- nal or fraudulent; .‘and Rule 1.4, by pro- hibiting a lawyer from making a state- ment of material fact or law which the

lawyer “reasohably should know” is false, or,fiom failing to disclose a material fact when the lawyer “reasonably should know” that such failure will assist the client in furthering a fraudulent or crimi- nal ad:See Task Fo- Proposes Model Rule ‘Changes for Lawyer Response to Corporate Wrongdoing, 18 Lciwyers’ M&u- ul on Professional Conduct 458459 (July 31, 2002).

3-5 1 Dec2002

0 :.3.07 CHAPTER 3

injury to the organization, the lawyer may resign in accordance with Rule 1.16.

* (d) In dealing with an organization’s directors, officers, employees, members, shareholders or other constituents, a law- yer shall explain the identity of the client when it is apparent that the organization’s interests are adverse to those of the constituents with whom the lawyer is dealing.

(e) A lawyer representing an organization may also repre- sent any of its directors, officers, employees, members, share- holders or other constituents, subject to the provisions of Rule 1.7. If the organization’s consent to the dual representation is required by Rule 1.7, the consent shall be given by an appropri- ate official of the organization other than the individual who is to be represented, or by the shareholders. Several states-notably Maryland, Michigan, New Jersey, and New

Hampshire-have adopted a substantially modified form of Model Rule 1.13. Unlike the Model Rule, the rules adopted in those states permit a lawyer to disclose confidential client information otherwise protected by Rule 1.6 under the same or substantially the same Circurastances de- scribed in the ABA’s 1981 Draft of Rule 1.13, namely when the*lawyer reasonably believes that: . .

(1) the highest authority in the organization has acted to further the personal or financial interests of members of that authority which are in conflict with the interest of the organiza- tion; and

(2) revealing the information is necessary in the best inter- est of the organization.

Looking to Model Rule 1.13, the commentary provides the starting

When constituents of the organization make decisions for it; the decisions ordim’ ly must be accepted by the lawyer ev$ftheir utility or prudence is doubtful. Decisions concerning pdlicy and operations, including ones entailing serious risk, are not as such in the lawyer’s province.

Neither the ethics rules nor anything inherent in the fiduciary duties of corporate counsel requires, or even permits, counsel to sit in judgment on the prudence or wisdom of true business judgments by members of management who are free from conflicts of interest. This much is clear: the corporate lawyer is not ethically required to investigate, evaluate or

(emphasis supplied).

point for corporate counsel to analyze his duties:

2. Id. at cmt. 3. (emphasis supplied). . .

Dec.2002 3-52

ETHICAL .ISSUES FOR INSIDE COUNSEL 0.3.07

second-guess business decisions of management and cannot be faulted for failing to do so.

If disagreements about business judgments are not, :by themselves, enough to cause counsel.to conclude that corporate management is not acting in the best interests of the company, then what is needed? The beginning point for this analysis is the text of Model Rule l.l3(b):

.. If a lawyer for an organization knows that an officer, employee or other person associated with the orghization is engaged in action, intends to act or refbses to act in a matter related to’the

’ representation that is a violation of a legal obligation to the. organization, or a violation of law which reasonably might he

. . :.. imputed to the organization, and is likely to result in substan- ’ tial injury to the organization, the lawyer’ shall ‘proceed as is reasonably necessary in the best interest of the organization. Thus, there are three elements to the analysis: (1) is the act “related

to therepresentation”; (2) is it serious wrongdoing-either a breach of a duty3,o the entity or illegal; and (3) is it ‘clikely to result in substantial injury to the ormzation”?

..

.

.. . . [A] : “Related to the Representation” . - Model Rule 1.13(b) is limited in its application to corporate actions . . .

or decisions that are “related’ to the representation” the lawyer :-k._.. proiriding to the organization. This condition is signifidant as applied to private law firm counsel because most law’firms are hired on a task-by- task’basis. Thus, if a law firm learned of a misguided corporate action that was not “related to the [fum’s] representation!’ of the orgdzation, Model’.Rule l.l3(b) would not apply and outside counsel would have ‘no ethical duty to pursue the matter further.

The “related to the representation” limitation; however, may not prove as significant to some corporate counsel because there is presum- ably no similar task-oriented limitation on the scope of representation by a corporate general counsel’s office.. Put another way, it is at least arguable that all corporate activity is “related to the repqesentation” of a :company by its chief legal oficer. It is possible, of.course, that a subordinate lawyer in the corporate counsel’s ofice who’ had’ responsibil- ities for one substantive area-for example antitrust-may leain of a troublesome corporate decision iri another area-such . export restric- tions-in which the lawyer has no personal involvement. While the lower-level corporate counsel may be able to conclude that Model Rule 1.13(b) does not require him personally to take action, there can be little doubt that the lower-level attorney must bring the matter to the atten- tign of his own superiors in the company’s .office of general counsel**’-

.

2.1 See n. 1.1, supra.

3-53 Dec.2002

0 3.07 CHAPTER ‘3

thus, ultimately. resulting in informing the general counsel herself, who presumably does not have any such limitations on the scope of her work.

[B] Nature of the Employee’s Wrongdoing The gravity-of-wrongdoing elemeit of Model Rule 1.13 can be trig-

gered by ‘(1) a violation of law by the corporate’ employee or (2) a violation of the employee’s duty to the

[ I ] Violates a Duty to the Entity Corporate fiduciaries are ordinarily thought to owe two duties to the

company-the duty of .loyalty and the duty of due care? The seemingly straightforward standard of Model Rule 1.13 is easy to apply to duty of loyally issues but quite dflicult to apply to duty of care issues if, indeed, the duty of care was @tended to be covered.

[a1 DutyofLoyalty The generally accepted definition of the duty of loyalty is that a

corporate fiduciary is bound not to consider interests other than the best interests of the corporation in making a business decision.‘ Examples of breaches of the duty of loyalty include certain transactions between the corporate manager (or those associatkd with him) and the corporation,S usurpation of corporate opportunity,’ insider trading,’ and other transac- tions in which a corporate oficer puts other interests before those of the corporation. If corporate counsel learns of a duty-of-loyalty violation by a -*.

corporate officer, this often will provide sufficient basis for ignoring the usual chain of command. Indeed, although the “substantial harm’’ threshold would appear to apply to both duty-of-loyal-jy and duty-of-due- care concerns, it is likely that a much lower degree of harm is required to trigger Model Rule 1.13 when the corporate oficer is clearly disloyal. See 0 3.07[DJ, infra.

[bJ Duty of Due Care There is a serious question whether the breach of the duty of due

.care by a corporate agent was intended to be included in the notion of

2.2 See n. 1.1, suvra. 5. Revlon. Inc. v. M a c A n k & Forbes . - Holdings, Inc., 506 ~ . 2 d ‘173, 182 (Del. 1985); Weinberger v. UOP, 457 A.2d 701, As noted in chapter.& there are the

ed duty Of due -) &’’ corporate directors to . implement compli-

seeds of new “dUtY” (or perhaps amd- 710 (h1.1983); Mills Aqugtion v. M a d - require lan, 559A2d 1261,1280 (De1.1989).

ance programs. See In re -&aremark Ink- 6. Thorpe v. CERBCO, 676 k2d 436, national Inc. Derivative Litigation, 698 A.2d 442 (Del.1996); Broz v, Cellular Info. Sys- 959, 970 (Del.Ch.1996). See 5 5.3O[Al, in- tems, Inc., ’673 A.2d 148, 154-55 (1996); fM. Guth v. Loft, Inc., 5 A2d 503 (1939).

4. See genemZZy R Franklin Balotti & 7. United States v. O’Hagan, 521 U.S. Jesse A. Finklestein, The DeZaware h w of 642, 117 S.Ct. 2199, 138 L.Ed.2d 724, Corporatwns and Business Organizations (1997); Dirks v. SEC, 463 U.S. 646, 103 9 4.10 (2d ed. 1996). S.Ct. 3255,77 L.Ed.2d 911 (1983).

Dec.2002 3-54

. . . . ... ..

s. -.... ,

ETHICAL ISSUES FOR INSIDE COUNSEL

legal .obligations to the ,organization within the meaning of Model Rule 1.13. Model Rule 1.13 imd its .commentary indicate that a lawyer may not be required to pwsue.the ''corporate ladder" analysis if the only criticism that can be leveled at the corporate officer is that the officer,in good faith, made an unwise or impruaent business decision. That'inter- pretation is addressed.in the commentaq to Model Rule 1.13:

0 337

:

. . '. . . When coristituen'ts of'the 'organkation make decisions for it, the.

decisions or&nqily must be accepted by the lawyer even if'their utility or' pnidence is doubtM."Decisions concerning policy aid

. operations, including ones entailing serious risk, are not as such ' .. ' in the lawyer's province. "

'.. In, thi?'.,only reported decision .to.address this issue, KPERS u, Byrd squarely held that attorneys do not u3ldertake.a duty to determine the appropriateness of business. decisions .. even if the lawyers deem them @sky.* The bright line,test.makes.s.ense because it is easy to apply and consistent with the limited. scope.. of most attorneys' .roles. Lawyers, including: in-house counsel, , 'are usudy' hired to exercise legal, not businkss,'judgment., But 'what if another court disagrees with KPERS? If a'bright-line test is not used, what risks might arise under Model Rule .. 1.13 for a violation . . L of the:*duty of due care?

The classic definition of the duty of due care is that it requirestha&-.- a corporate fiduciary act in good faith, with the care that a reasonably prudent person in similar circumstances would exercise;and in a man- ner that 'the corporate fiduciary reasonably believes to be in the corpora- tion's best interest? In. the Model. Rule 4.13 cantext, the practical problem for corporate counsel would be trying to distinguish between a business decision that counsel suspected to be wrong and a business decision that counsel is ceeain is very obyiously wrong and will have disastrous .consequences. The difference ,between the two often would be a matter of degree; thus, it would be difficult to formulate a rule for corporate counsel to follow in all "due'"re'' cases. .. .. It is significant that, in most cases, the corporate officer making the decision. has more information 'and is. better qualified . by education, training, and experience to weigh the risks and benefits than is corporate counsel. Furthermore, skillful,. some say intuitive, balancing of risk and reward is perhaps the most elusive and highly sought after trait in-a successful. buskessperson.. Counsel should almost never substitute their own balancing of risk and reward as a basis for concluding that a bushessperson . . has breached a duty to the .corporation.

8. Kansan Public Retirement System v. 9. See Model Business Code Q 8.30(a). Lekis Rice & Fingersh, L.C., No. 96CV795, slip op. (Kan.Dist.Ct. March 16,1999).

. . ... .

.

3-55 Dec.2002

. . . . . . . . . . .

. .

5 3.07 CHAPTER 3

The one factor that might weigh in the opposite direction is when counsel concludes that management is not giving suficient weight to counsel’s assessment of a legal risk that is uniquely within counsel’s domain. For example, if‘ corporate counsel advised a corporate manager that the corporation had only a 25 percent chance of winning a. case at trial, and counsel then heard the manager, as a key part of a business decision, substitute his own evaluation (without the benefit of a contrary legal opinion) that the company was 100 percent certain to win’at trial, then counsel might seriously question whether the manager gave due care to the business decision.

In short, Model Rule 1.13 certainly does not require corporate counsel in an ordinary case to second guess the business judgment of a corporate officer and bring the matter in question to the attention of higher authorities within the organization. Indeed, it is hard to imagine how corporations could continue dperating, or how corporate counsel could still do or keep his job if such a rule were routinely followed.

What about the most difficult case-where the corporate. officer’s decision is made in good faith, after all appropriate factors are taken into consideration, but is obviously wrong and will have catastrophic results? Under the ethical rules, commentary and the precedent-admittedly slim-the corporate counsel has no duty to act. In the end, whether something is obviously wrong or will have catastrophic results is still a--- matter of.business, not legal, judgment and prediction. On the other hand, given the dearth of authority, we could understand counsel taking some action if he knew that the ultimate decisionmaking authority in the corporation was not fully informed of the risks of the corporate decision.

[2J Violation of h w If corporate counsel knows that a coeprate officer is engaging in or

about to engage in “a violation of law which reasonably might be imputed to the organization,”’* corporate counsel may question whether the oficer’s decisions are in the best interests of the company. The Model Rules do not define “violation of law,” and the term’is subject to several possible interpretations. “Violation of law” co&ld mean the violation of a criminal law. It could include the violation of any civil law or regulation. It could also be interpreted to mean scienter-based wrongs, criminal or not. The last interpretation is most likely, although the issue is not free from doubt and there is no controlling precedent.

The term “violation of law” is not likely to mean the violation of every law or regulation.” For example, corporate officers may, in their

10. Model Rule 1.ltNb). ’ 11. Since the Iawyer must %now” of a violation, this rule would not apply where

Dec.2002 3-56

- _ _ - - -- --- ........ .- . . . . . . ..... . . . . . . .... _. . . . - - .. - . . _-_ ..... b

. . . - . . .. -. ... . . . . . ..

. . . . . . .. .

ETHICAL ISSUES FOR INSIDE COUNSEL 0 3.07 judgment, decide that it is necessary to file a required form with the government late, or with incomplete information. Except in an unusual case, corporate counsel would not bring the matter to the attention of higher authorities. The sense of Model Rule 1.13(b) is that it applies to exceptional events requiring the extraordinary step of disregarding nor- mal lines of corporate authority. Violation of most non-criminal laws does not appear to have the gravity required. Even the criminal versus civil line is a hard one to apply: violation of a civil statute or regulation may give rise to criminal liability.”

.

:

The standard that makes the most sense is that “violation of law” in Model Rule 1.13(b) means acts that are also referred to in Model Rule L2(d): Model Rulee1.2(d) provides that “[a].lawyer shall not . . . assist a

’ The absence of governing authority leaves this‘kue, like :m‘&y others, in doubt. .In a close case, however, a sensible lawyer would probably be swayed by the relative potential for harm to the corporation. The ‘greater the potential for h&, .the more ‘likely the lawyer will conclude that he .should take the matter to higher authority &thin .the company whether or not ethically. required to do so.

client in conduct the lawyer knows is criminal or fraudulent.” ‘ . .

.. .

[C] Level of Certainty Required Model Rule 1.13(b) requires‘that the lawyer know that the decision

in question ‘is a violation of a law or of a .duty owed to the organiza- tion;l2-’ The preamble to the Model Rules states that “knows” melins “actual knowledge of the fact. in question.” Th-, it is a subjective standard. In contrast, the preamble defines other mental states, such’as “reasonably should know,” which’is an objective standard that changes a lawyer virith knowledge of facts that “a lawyer of reasonable prudence and competence would ascertain.”

As applied to an issue of business. judgment,..it is extremely difficult to “know” that a business judgment is right or wrong; it isleven more diMicult to ‘‘know” that such a decision is a violation of the duty of due care, ‘negligent or reckless. The requirement thac corporate counsel have actual knowledge that an officer’s activkies violate ‘a duty or law imposes a very high level of certainty. It ’will be difficult to meet that standard when there are serious questions of judgment, such’as when the i s k e

. . . . . &..- .

’

application of the law was uncertain. See es.. Crandon v. Kansas, 257 Kan. 727, 897

the Federal Reserve System under-the Bank Holding Company Act.

3-57 Dec.2002

CHAPTER 3 9 i3.07 . .

_ . . .

presented is one of business judgment or where the reach of the law+ uncertain.13

Thus, even’if the courts ultimately find that the duty of due care falls within the ambit of Model Rule 1.13, theicear impossibility of knowing that the business decision constitutes a breach of the duty of due’ care may effectively eliminate “due -eyy ‘as a basis ‘for Model Rule 1.13 obligations. ’

‘ [DJ . “Likely to Result in Substantial3njury to the Organiza- *ion”

’

. . If corporate counsel concludes that the corporate officer’s decision is

“related to the representation” and is of a type that satisfies the second element of Model Rule 1.13(b), then counsel must turn to the final element: is the officer’s action “likely to result in substantial injury to the organization”?’a’ The key words are “substantial i n . . ” There, is no definition of “substantial injury’’ in Model Rule 1.13, its commentary, or the case law. The terminology section at the beginning of the Model Rules does, however, define “substantial” as “a material matter of clear and weighty importance.” Counsel may, therefore, consider looking to securities law or even public accounting principles for an idea of what would be a “material” matter for the corporation. .

Although Model Rule 1.13 seemingly applies the same level-of-har& --. standard to all types of conduct (violations of law, breaches of loyalty, and breaches of due care), experienced corporate lawyers will recognize that there are, in reality, different standards at play.-For example, where corporate counsel knows that the corporate decision-maker is engaged in a duty-of-loyalty violation, it is very likely that counsel should go “up the corporate ladder’’ almost irrespective of the degree of harm to the corporation. To a lesser degree, the same is probably true of “violations of law”; corporate counsel probably will not accept instructions that would cause the corporation to violate any law or regulation without express direction from a very senior officer. #

Duty-of-care violations a re a different matter. It ~s”difficult for corporate counsel to. second-guess a corporate officer’s decision. A factor that weighs heavily in determining whether to challenge the decision is the magnitude of h p if the corporate oEcer is wrong; the greater the harm, the more likely that corporate counsel will go over the officer’s head.

13. See M A Munucrl, Discussion of of misconduct that is reasonably certain to “Standard of Certainty’’ under Rule 1.16. result in substantial injury to the financial

13.1 As to the proposed change to Mod- interests or property of others, see n. 1.2, el Rule 1.6, authorizing disclosms ,of confi- supm. dential information when the lawyer knows

Dec.2002 3-58

ETHICAL ISSUES FOR INSIDE COUNSEL 5 3.07

.. .. . . .

[E] Counsel’s Response to Problems with Corporate.Man- . agement: How Does the Lawyer Obtain the Corporation’s View and When Must He Resign?

As we have seen, Model Rule 1.13 spells out a list of factors corporate’counsel must take into account before he may be required to challenge the decision of a corporate offcer from whom counsel is accustomed%o receiving directions. Even if the‘ lawyer concludes, howev- er, that Model Rule 1.13 does not ethically require challenging .the businessperson’s “legal but stupid” decision, that does not necessarily prohibit the lawyer from doing so. Lawyers &nd other businesspersons may properly elect.. to apply informal persuasion or more aggressive action to dissuade a misguided coworker making the “legal but stupid” decision that will ultimately prove very damaging. This assumes, of course, that the informal persuasion or more aggressive action does not violate ‘any ‘0the.r ethical rule-such as disclosing- confidential informa- tion”outside the client entity.

Once he has made the determination under Model Rule 1.13 that he must challenge the, of’ficer’s view, how does he do SO? This will depend in part ‘on the‘ jurisdiction. Most states have adopted the form .of Model Rule; l;l3 recommended by the ABA,’.’” which is discussed below. A .. separate sedion discusses the rule as adopted in’Mqland, Michigan, New’ Jersey and New Hampshire.

The ABA-approved Model Rule cautions that corporate counsel’s action must be designed to minimize both disruption to the company itid the risk of revealing entity confidences to outsider^.'^ Measures suggest- ed by the. rule include (1) asking reconsideration; (2) advising that a separate legal opinion be obtained and presented to appropriate persons in the entity; and (3) referring the matter to a higher authority in :the organization, “including, if warranted by the seriousness of the matter, referral to the highest authority that can act in behalf of the organiea- tion. ‘1. . . ”’

Although n&Llly a corporation’s “highest authority’’ is its board of direc$ors, .the rule does not make a board issue of eve@ potential iroblem: . Indeed,, Comment 3 to Model Rule 1.13 statps’. that “[Cllear

’ .

:

. . . . -.

’13.2 As’to the new, federal reporting obligations imposed on. cbrporate. counsel with respect to evidence of violations of the secudties laws or breaches of fiduciary duties, see n:l.l, supm. As to’the .ABA’s proposed changes to .Model Rule 1.13, such as..an..amendment that would authorize the lawyer to’go directly to the top of the. corpo- rate ladder when it is unlikely that interm’e- diate officers and directors will take the necessary corrective. action, see n. 1.2, su- Pm.

14. See Crandon v. State, 257 Kan. 727, 897 P.2d 92 (Kan. 1995) (general counsel violated ethics rules including Model Rule 1.13 by publicly disclosing criticisms); cf Douglas v. DynMcDermott Petroleum Opef- ations Co., 144 F.3d 364 (5th Cir.1998) (in- house counsel’s conduct in disclqsjng to third parties interoffice complaints of dis- crimination constituted breach of her duties of confidentiality and loyalty). - .

3-59 . Dec.2002

..---. .._ . . . .

- . . . . ... . . . f 1.. . .

justification should exist for seeking review over the head of the constit- uent normally responsible for it.” And Comment 3 W h e r notes that “the lawyer may have an obligation to refer a matter to higher authori- ty, depending on the seriousness of the matter and whether the Constitu- ent in question has apparent motives to act -at variance with the organization’s interest.”’s Comment 4 also emphasizes that “applicable law may prescribe that under certain conditions highest authority repos- es elsewhere; for example in the independent directors of a corporation.” For instance, in the event of a derivative suit, certain officers and directors may be disqualified from their normal-decision-making roles for the corporation. Corporate counsel must then consult independent di- rectors who bear responsibility for making certain decisions on the entity’s behalf.

If the corporation’s highest authority declines to take remedial measures, corporate counsel faces a real problem. Model Rule 1.13(c) states:

if, despite the lawyer’s efforts in accordance with paragraph (b), the highest authority that can act on behalf of the organization insists upon action, or a refusal to act, that is clearly a violation of law and is likely to result in substantial injuiy to the organization, the lawyer may resign in accordance with Rule 1.16. . .....-

Model Rule 1.13(c) (emphasis supplied). Thus, the rule provides that if these measures fail to resolve the

issue, corporate counsel may, but is not required to, resign in accordance with the provisions of Rule 1.16 governing termination of representation. Note, however, that if counsel concludes that the corporation is acting in a criminal or fraudulent manner, the lawyer cannot Usist in the conduct whether or not he resigns?

Surprisingly, despite the enormous attention devoted to it by the bar and scholarly works, there are almost no reported decisionp applying Model Rule 1.13. One of the. few cases to apply the’ Rule, and the high- water mark for Model Rule 1.13 devotees, is In re Amen’oan Continentul CorpJLincoln Savings and Loan Securities Litigation,’’ In that case, which arose from the Charles Keating litigation, the court denied a law firm’s motion for summary judgment, referring to both Model Rule 1.13 and Model Rule 1.16 (declining or terminating representation where, inter alia, the client insists on action that is criminal or fraudulent). Although the court referred to the corporate ladder concept and Model Rule 1.13, it focused primarily on Model Rule 1.16 and the firm’s

15. Model Rule 1.13, cmt. 3. 17. 794 F.Supp. 1424 (D.Ariz.1992). 16. See Model Rule l.2(d).

Dec.2002 3-60

ETHICAL ISSUES FOR INSIDE COUNSEL 5 3.07 representation being used to assist in violations of the anti-fraud provi- sions of the federal securities law. Under the circumstances, the court found that the firm should have withdrawn from representation under

Indeed, Model Rule 1.13 and Model Rule 1.16 may blend together for corporate counsel where serious illegal conduct is involved and continu- ing. While Model Rule 1.13 is the obvious product of a compromise that suggests but does not require any specific action,” Model Rule 1.16(a)(l) is unequivocal: a lawyer “sball withdraw” if his “representation will result in violation. of . . . law.” It is Model Rule 1.16(a)(l) that will provide the ultimate rule of decision for a corporate counsel who con- cludes that the corporation is using his senrices to commit an ongoing crime or fraud-such as selling dangerous products that jeopardize health and safety.

Model Rule l.l6(a)(l)? - .

[F] Model Rule 1.13-The Minority Rule As noted above, four states-New Jersey, Maryland, Michigan, and

New Hampshire-adopted an early version of Rule 1.13 that the Ameri- can Bar Association rejected. This minority version of Rule 1.13 provides that a lawyer may disclose confidential client information “if the lawyer . reasonably believes that:

(1) the highest authority in the organization has acted to fur- ther the personal or financial interests of members of that authority which are in conflict with the interest of .the organiza- tion; and (2) revealing the information is necessary in the best interest of the organization.” Significantly, this rule permits corporate counsel to go outside the

company after the entity’s highest authority (typically the board of directors) rejects counsel’s concerns?’ This is in stark.contrast to the

. .....

18. See 794 FSupp. at 1452. 19. No specific measures are required

by Model Rule l.l3(b), although several op- tions are listed.

20. The ruIe appears to permit corpo- h t e counsel to become a “whistleblower” on management (when other means of rec- w n g the problem have failed). Thus, it would allow counsel who has unsuccessfully “gone up the corporate ladder” to report the corporation’s serious misconduct to a federal prosecutor, the SEC, the EPA, or other law enforcement or regulatory agen- cies. Most corporate counsel interested in keeping their jobs presumably would not report. Nevertheless, the minority version

of Rule 1.13 could create quite a dilemma for corporate counsel. On. the ’one hand, if he goes up the corporatd ladder without success,. he can report\ the corporation’s misconduct (for example, an ongoing viola- tion of federal environmental laws, or the continued shipment of defective and poten- tially dangerous products) and kiss his ca- reer goodbye. On the other hand, if he f& to disclose management’s continuing mis- conduct, he could (under appropriate facts) face liability as an aider and abettor of the misconduct and face disciplinary action for (among other things) aiding the corporation in an ongoing crime or fraud.

Under the Sarbanes-Oxley Act of 2002, Pub.L. NO. 107-204, ,116 Stat. .745 (2002)’

. 3-61 Dec.2002

... 3 3.07 . CHAPTER3

version of the rule adopted by the ABA .(Model .Rule 1.13), which nowhere allows disclosure outside the’ company; In fact;the ABA- approved version. states that “[alny measures taken shall be designed. t o minimize . . . the risk of revealing information relating to the’ represen- tation to persons outside :the. Organization.’’ ’

. . . .

Counsel Guideline 3.6 Corpora& Ld&r Analysiszo-’ . . ...

In the majority of states which’ have adopted the ABA’S version of Model Rule 1.13, the corporate counsel’s analysis should be as follows:

, . . . Step . 1 Is the conduct of the corporate agent’.‘‘rel&ed ..$o the

.

. ’

step 2

Step 3

Step 4

representation” that the lawyer is providing to the entity? If not, there is no further ethical obligation under Model Rule 1.13!0.2

If the conduct is related to the representation, does i t violate a duty that the corporate officer owed to the entity--i.e., does it constitute a violation of the duty of loyalty or, possibly, the duty of due care as those duties are defihed by state law? Note that honest questions of business judgment are almost never violations of the duty of due care.

Is the conduct a serious violation of law that reasonably might be imputed to the organization? If so, then the conduct probably satisfies this prong of Model Rule 1.13.

-

. --.-

In deciding whether the conduct viola@ a duty to the organization, does the lawyer have “actual’knowledge of the fact in question”? In other words, does he have a high level of certainty that there is a violation?

Assuming dl of the preceding conditions are d i k e d ; will the conduct result in “substahtial” injury to the organiza- tion? Nearly any duty.-of-loyalty breach is sufficient. Other- wise, the iqiury must be of a “material matter of clear and weighty importance.” #*

I

counsel for public companies have @ obli- gation to‘ report evidence of securities law violations and breaches of fiduciary duties to specified individuals and/or committees within the corporation pursuant t o ‘ d e s of professional conduct to be promulgated by the SEC. The Act hrther provides protec- tion to any whistleblower by making it a criminal offense for a publicly traded com- pany to retaliate against a whistleblower. See n. 1.1, supra. ’ . .

. 20.1 . This analysis. must be considered in conjunction with the Sarbanes-Oxley Act

of 2002, Pub.L. No. 107-204,’ 116 Sit. 745 (20021,. and the new obligations which the Act imposes on counsel who represknt pub- lic companies before the Securities md Ex- change Commission. See n. 1.1, supra.

20.2 Under the proposed changes to Rule 1.13 made in August of 2002, counsel will be.required to take remedial measirres upon discovering the crime or fraud,’even if unre’lated to the representation. See n.: 1.2, supra: . . . .

Dec.2002 3-62

E”€€ICAL ISSUES FOR INSIDE COUNSEL 6 3.08 . Step 5 If all these conditions have been met, then the lawyer must

take some action although the decision. on what action to take is up to her.

Remedial steps may include but are..not limited to those , described in the Rule (asking for reconsideration, advis- ’ ing that a second opinion be..obtained, referring the

matter to a higher authority within the organization, i.e, . . going up the corporate ladder).

0 Any such remedial measure must .be “designed*to mini- . mize disruption of the organization and the ,risk of

. revealing information relating.to the representation of persons outside the ,organization:”

Step 6 If these steps do not succeed and the’organization.insists on proceeding with the conduct, the lawyer may (but is not required to) resign qndm, Model Rule 1.16.

0 If’ the lawyer elects not .to re&, however, he cannot take any action that would violate a disciplinary rule (Model Rule 1.16(a)(l)) such as personally assisting the client in conduct that the lawyer knows is criminal or

*

.

.

‘

. fraudulent (Model Rule l.2(d)). .. .

. . . .

Selected Material and

Hypothetical / Case Study Number Three

YOU are the general counsel of Nemo, a multinational public holding company. Last year, Nemo sold one of its major subsidiaries, Sinker, to pay down debt. Sinker, now also a public company, had historically accounted for nearly a third of Nemo’s revenue.

Nemo hears that one of its employees has gone to the SEC to claim that Nemo’s financials for the past several years overstate revenues because of fraud in the revenue reported from Sinker subsidiary before it was spun off. Your CEO calls you and orders you to “Find out what this is all about before the sun goes down!!”

YOU call the CFO of Sinker, whom you knew from before the sale, and ask him what this is all about and remind him that if an SEC investigation is started, he must preserve Nemo’s “trade secrets.” He declines to talk to YOU, but minutes later you receive a call from the general counsel of Sinker. The GC of Sinker is your former subordinate, and she tells you that they have heard that the SEC is interested in this issue, that Sinker “has no dog in this fight,” and to keep away from Sinker‘s employees. She suggests that it may be easier for Sinker to cooperate with the SEC, waive all privileges and give everything to the SEC now so they will not be dragged into Nemo’s problems.

“And as for you,” she says,“I’d ger yourself a good lawyer, if you’re telling witnesses not to cooperate with the SEC . . .. Have a nice day!” she cheerfully concludes.

You call your friend, who is the senior partner at the outside law firm that represents Nemo. He listens carefully to what you relay, and then says, “I really wish you hadn’t told me all that as I may now have a Sarbox problem because of the letter you sent to all of your outside counsel last week.”

. .

Copyright 02003, Association of Corporate Counsel (ACC) Visit us on the web at hctp://www.acca.com

9 1.22

corporate counsel Guidelines Author, John Villa Copyright; A!XA/WEST

CHAPTER 1

. . - .

Counsel Guideline 1 .I0 Privilege Retention Considerations in S e l h g Corporate Subsidiaries Affiliates a Counsel must be particularly cautious when negotiating the sale

of a corporate subsidiary or, .affiliate. Once-the subsidiw. or affiliate is sold, the new owners have the power to assert or w&ve the privilege including h t h respect to communications made in .the. course of the negotiations. In such a situation, counsel should:

.

a

a

. . . . . .

a

limit the preclosing communications shared with counsel for the subsidiary or affiliate t9 those absolutely necessary for the consummation of the deal, ever mindful that they may not remain confidential; request a provision in the sales agreement giving the original parent corporation sole control over the right $0 assert or waive the attorney-client privilege as to all matters that occurred prior to the closing; and obtain an agreement from the new owners that they will not request corporate counsel to disclose any confidence or secret that was learned prior to the sale except as may be necessary for continuing operations.

.

. . . . .

L

.. .

Frm Corporate Counsel Guidelines m i g h t -/WEST

’..Author, John Villa

Appendix 1-2

Sample Joint Defense Agreement

[ON COUNSEL’S LETTERHEAD] [DATE]

Dear [NANIE OF OTHER COUNSEL]: This letter is to confirm our mutual understandings concerning our

joint defense obligations. The joint defense arises from and relates to our representation of our respective clients in connection Viith [SPECIFY

TION AND TO’ANY INVESTIGATION OF THE CORPORATION OR ITS EMPLOYEES].

MATTER, REFERRING TO ANY ONGOING OR POTENTIAL LITIGA-

We have mutually concluded that our representation of our respec- tive clients raises issues of common interest to our respective clients and that the sharing of certain documents, information, factual materials, mental impressions, memoranda, and client communications, whether.. oral or written (hereinafter referred to as “defense materials”), will facilitate the rendering of professional legal services to our respective clients. .These defense materials are privileged from disclosure to adverge.- or other parties as a result of the attorney-client privilege, the work- product doctrine, and/or other applicable privileges.

.

It is our mutual understanding and agreement that the oral or written sharing or disclosure of defense materials between us, and between us and our respective clients, will not diminish in any way the confidentiality of such materials and will not constitute a waiver of any applicable privilege. We have krther agreed that neither we nor our clients will disclose defense materials received from the other counsel or his client (or to which access is permitted by the other counsel or his client), or the contents of any such defense materials, to anyone except our respective clients, attorneys within our firms, or. out employees or agents, unless we fwst obtain the consent in writing of the other party to this agreement, such party’s counsel. It is further agreed that all persons permitted access to defense materials under the provisions of this letter shall be advised that the defense materials are privileged and subject to the terms of this agreement.

‘

.

Defense materials (including all copies thereof and the relevant portions of any notes or other documents reflecting oral defense materi- als or the contents of defense materials) s h a l l h returned upon request at any time to the attorney who funished or permitted access to them. Defense materials also shall be returned promptly to the attorney who .

1-137 Nov.2001

RULE 4.2: COMMUNICATION WITH PERSON REPRESENTED BY COUNSEL

In representing a client, a lawyer shall not communicate about the subject of the representation with a person the lawyer knows to be represented by another lawyer in the matter, unless the lawyer has the consent of the other lawyer or is authorized to do so by law or a court order.

Comment

[I J This Rule contributes to the proper functioning of the legal system by protecting a person who has chosen to be represented by a lawyer in a matter against possible overreaching by other lawyers who are participating in the matter, interference by those lawyers with the client-lawyer relationship and the uncounselled disclosure of information relating to the representation.

[2] This Rule applies to communications with an)! person who is represented by counsel concerning the matter to which the communication relates.

[3] The Rule applies even though the represented person initiates or consents to the communication. A lawyer must immediately terminate communication with a person if, after commencing communication, the lawyer learns that the person is one with whom communication. is not permitted by this Rule.

[4] This Rule does not prohibit communication with a represented person, or an employee or agent of such a person, concerning matters outside the representation. For example, the existence of a controversy between a government agency and a private party, or between two organizations, does not prohibit a lawyer for either from communicating with nonlawyer representatives of the other regarding a separate matter. Nor does this Rule preclude communication with a represented person who is seeking advice from a lawyer who is not othewise representing a client in the matter. A lawyer may not make a communication prohibited by this Rule through the acts of another. See Rule 8.4(a). Parties to a matter may communicate directly with each other, and a lawyer is not prohibited from advising a client concerning a communication that the client is legally entitled to make. Also, a lawyer having independent justification or legal authorization for communicating with a represented person is permitted to do so.

.

[5] Communications authorized by law may include communications by a .lawyer on behalf of a client who is exercising a constitutional or other legal right to communicate with the government. Communications authorized by law may also include investigative activities of lawyers representing governmental entities, directly or through investigative agents, prior to the commencement of criminal or civil enforcement proceedings. When communicating with the accused in a criminal matter, a government lawyer must comply with this Rule in addition to honoring the constitutional rights of the accused. The fact that a communication does not violate a state or federal constitutional right is insufficient to establish that the communication is permissible under this Rule.

[6] A lawyer who is uncertain whether a communication with a represented person is permissible may seek a court order. A lawyer may also seek a court order in exceptional circumstances to authorize a communication that would otherwise be prohibited by this Rule, for example, where communication with a person represented by counsel is necessary to avoid reasonably certain injury.

r/l In the case of a represented organization, this Rule prohibits communications with a constituent of the organization who supervises, directs or regularly consults with the organization’s lawyer concerning the matter or has authority to obligate the organization with respect to the matter or whose act or omission in connection with the matter may be imputed to the organization for purposes of civil or criminal liability. Consent of the organization’s lawyer is not required for communication with a former constituent. If a constituent of the organization is represented in the matter’by his or her own counsel, the consent by that counsel to a communication will be sufficient for purposes of this Rule. Compare Rule 3.4(f). In communicating with a current or former constituent of an organization, a lawyer must not use methods of obtaining evidence that violate the legal rights of the organization. See Rule 4.4.

[8] The prohibition on communications with a represented person only applies in circumstances where the

lawyer knows that the person is in fact represented in the matter to be discussed. This means that the lawyer has'actual knowledge of the fact of the representation; but such actual knowledge may be inferred from the circumstances. See Rule 1 .O(f). Thus, the lawyer cannot evade the requirement of obtaining the consent of counsel by closing eyes to the obvious.

[9] In the event the person with whom the lawyer communicates is not known to be represented by counsel in the matter, the lawyer's communications are subject to Rule 4.3. .

.. ..._... - . . . ... . . ; .. . ..

n ram Corporate. Ccjunsel 'Guidelines Author, John. VLlla a W i g h t 7 AOCA/iest

ETHICAL ISSUES FOR INSIDE COUNSEL 9'3.24 -

. .- . . .

. , _ . .. . . . . . . . . ... .

. . :

. . .. . . . . ' . . .

8 .3.24 Adverse Party's Contact with Corporate Employees-

Since former employees are no longer part of the corporate client, one might expect that Model Rule 4.2 would not prohibit lawyers opposing the corporation from contacting them. With some exceptions, that appears to be the general rule.'

Conta'ct with Former Employees

. . . . .- ....

3. 76 N.Y.2d 363,559 N.Y.S.2d 493, 558 N.E.2d 1030 (N.Y. 1990)

4. Of course, this does not mean that the company's employees are required to meet with the plaintiffs counsel (absent a subpoena) or that they are required to do so outside corporate counsel's presence. On the question whether corporate counsel can

'recommend or insist that current employ- ees refuse to meet with opposing counsel except in formal discovery, see 0 3.28, i n b .

5. Dent v. Kaufman, 185 W.Va. 171,406 S.E.2d 68 W.Va. 1991); State v. CIBA- GEIGY, 247 N.J.Super. 314, 589 A.2d 180 (N.J.Super.Ct.App.Div. 1991).

6. K-Mart Corp. v. Helton, 894 S.W.2d 630 (Ky.1995).

7. See Camden v. Maryland, 910 F.Supp. 1115 (D.Md.1996) (and cases cited).

9 3.24 1. See ABA Formal Opinions 91-359

and 95-396; Va. State Bar Standing Comm. on Legal Ethics, Op. 1749 (March 29,2001)

(permitting such'wntact as long-as the for- mer employee is not represented by counsel and is not asked about discussions between the fonner employee and corporate counsel with respect to 'matters releviilnt to the pending litigation); see &o FleetBoston Robertson Stephens, Inc. v. Innovex, In+, 172 F.Supp.2d 1190, 1195 (D.Minn.2001) (ad0pting.a flexible approach in analyzing Rule 4.2 in the context of fortner manageri- al employees, and holdirfjj that nde is not violated where counsei did not solicit any privileged information and the former em- ployee did not relate such idormation); see generally Estate of May Schwartz v. H.BA. Mgmt. Inc., 673 So.2d 116 (FlaApp.1996); Fulton v. Lane, 829 P.2d 959 (Okla.1992); Orlowski v. Dominick's. Finer Foods,' 937 F.Supp. 723 (N.D.Ill.1996); Shearson Leh- man Brothers v. Wasatch Bank, 139 F.R.D. 412 (D.Ut.1991); Shoreline Computers, Inc. v. Warnaco, Inc., 2000 WL 371206 (Conn. Sup. Ct. 2000); Neil S. Sullivan Associates v. Medco Containment Services, Inc., 257 N.J.Super. 155, 607 A.2d 1386 (NJSup.

3-109 Dec.2002

. ..

. . . . ... . .

8 9.24 ‘ ’ ’. CHAPTER 3

The principal exceptions to this rule are where (1) the foriner employee was centrally involved in the transaction;’ or (2)’ the former employee possesses .confidential, bordering on privileged, information about the event .or. the. litigation? Contacting the former employee and securing information from him in such circumstances may lead to disqualification. The Restatement has given a somewhat narrower view of . . .the, . no-contact rule as it applies to former empl~yees.~

Even if‘ a lawyer is permitted to contact a former .employee, the lawyer should and in most jurisdictions must disclose his “identity &d the fact that the lawyer represents a party that is .adverse to the .employee’s former .employee in pending or prospective litigati~n.”~

8 ..3.25.; Adverse Party’s Contact with Corporate Employees- .. - . . Contact..Through .a Third Party .

I Occ&sionally, a lawyer will attempt to circumvent the restrictions in Model RUle.4;2 by using a non-lawyer third.party to contact the repre- sented person. The argument most people rely on for this strategy is khe notion that the rule is intended to prevent a lay persodparty from being disadv’antaged uis-a-uis his opponent’s lawyer. If this were the reason for .: the rule, then one might be able to circumvent it by sending in a non- lawyer assistant. It is“not, and contact through intermediaries is prohib: ._..._. ited.’

1992); Niesig v. Team I, 76 N.Y.2d 363, 559 N.Y.S.2d 493, 558 N.E.2d 1030 (N.Y.1990); but see Armsey v. Medshares Management Services, Inc., 184 F.R.D. 569; 573-574 811 F.Supp. 651 (M.D.Fla.1992).

:”

. .. .. . _. .

. *

... 3. See’ e.g., Camden v. Maryland, 910

FSupp. 1115 (D.Md.1996) and Rentclub, Inc. v. Transamerica Rental Finance Corp.,

m& imployer and af€& its liability in pending litigation); Public Service Electric &.Gas Co. v. Assocjated Electric & Gas Ins. Sedces, 745 F.Supp. 1037 (D.N.J.1990). (Rule 4.2 is absolute. prohibition on ex parfe interjiews of fever. employees); cfi Don- do& v. NGK Metals Corp., No. 00-1966, 2001 WL 516635, a t *2. (E.D.Pa. May 16, 2001) (Rule 4.2 provides no basis for allow: ing attorneys representing adverse interests th conduct ’ex parte interviews of a putative clak member merely because of that mem- ber’s status as a former’management em- ployee, unless such person hai been named @ a defendant in the same or a related &). :: 2. Chancellor v. Boeing Co., 678 F.Supp.

250.(D.Kan.1988).

5. D.C. Ethics Op. 287. See, e.g., Don- dore’ ‘v. NGK Metals Corp., ,.No. 00-3966, 2001 WL 516635, at *4-*5 (E.D.Pa. May 16, 2001) (setting forth, as Exhibit A, the Court Required Notice to F o F e r Managemeht Employees),

0 3.25 1. See, e.g., Midwest Motor Sports Inc.

v. Arctic Cat Sales Inc., 144 F.Supp.2d 1147 (D.S.D.2001) (defendant’s attorneys acted impermissibly in violation .of Rule 4.2 when they sent investigator, posing as a customer who was equipped with hidden recorder, to talk to adversNes’ employees in attempt to obtain statements for use ‘as admissio.ns against corporation).

Dec.2002 3-110

ACCA Docket (NovemberlDecember 2001 1: Hold on to That Privileqel The Transfer of Privilege with the Sale of a Corporate Subsidiary 1015103 1O:lO AM

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..._ ~

: =.lm . . . . . . . . . . .

Ethics & Privilege November/December 200 1

Hold on to That Privilege! The Transfer of Privilege with the Sale of a Corporate Subsidiary

The sale of your corporate subsidiary has just closed, and now it's time to congratulate one another and take a few days off. The phone rings. IPS your outside counsel. He has just received a call from the general counsel of the acquiring company, who wants to talk to his law firm, which represented both your company and the subsidiary. about some "contingent liabilities" that the buyer has allegedly just found. Wait a second-she can't talk to your outside counsel, because that would violate the privilege. You call her and ask her what she thinks she's doing. She says she merely Wants to talk to .former counsel to the corporate entity that her company has just purchased on the matters as to which the law firm represented the subsidiary (not everything it did for the parent). By the way, she may have a few questions for you because your office performed legal services for both comnanies. Is she off her rocker? As it happens, no, she is not crazy. You failed to see the transfer of the privilege, and now you will pay for that failure.

In today's fast-moving corporate world, it seems as if corporate subsidiaries are bought and sold like properties on a Monopoly board. Unfortunately, the rules of attorney-client privilege have not, in some lawyers' estimation, kept up with corporate realities. A prime example of this phenomenon is the problem that can occur if corporate lawyers fail to anticipate the general rule that the attorney-client privilege transfers' with the other assets of a corporate entity unless the parties otheNvise agree. The failure to reach agreement can prove to be a costly error, especially if the acquiring entity uses this tactic to develop adverse information regarding the issues that were involved in the sale transaction itself.

By way of background, it is fair to say that the ethics and privilege rules that determine when a parent and its subsidiary are treated as a single entity are still developing. Many courts, however. have found that a parent corporation and its wholly owned subsidiary share a common interest, and for this reason, they are considered the client of corporate counsel for purposes of the attorneyclient privilege.' In Other situations, the counsel explicitly represents both the parent and the subsidiary on some discrete issues, albeit not on all matters2 Because each corporation is a client, the privilege has been characterized as a joint privilege3 that either entity may assert4 or waive5 against a third party seeking the disclosure of confidential communications. Because, however, counsel for the parent is deemed an agent of the subsidiary and vice versa! neither entity may raise the privilege as a bar against the other.'

. . ./

ABOUT THE AUTHORS '

John K. Villa is a partner with Williams & Connolly LLP in Washington, DC. He specializes in corporate litigation (civil and criminal) involving financial services. directors', officers', and lawyers' liabilities, and related issues. He is an adjunct professor at Georgetown Law School and a regular lecturer for

ACCA. He is also the author of Corporate Counsel Guidelines, published by ACCA and West Group.

. . . _ . j Do NOT Miss JOHN K. VILLA'S i CORPORATE COUNSEL GUIDELINES 1 PUBLISHED BY ACCA AND WEST GROUP :

! Corporate Counsel Guidelines is a I i two-volume treatise written I expressly for in-house counsel. It I i applies general principles to the : I corporate bar, providing specific i 1 guidelines. This treatise tackles the : most common issues facing j corporate. counsel, even those ; ; issues that have no guiding I precedent or ethics opinions.

1 Cost: $220, and ACCA members I I receive a 30% discount. To order, . , contact West Publishing 8001344- '

I 5009; www.westarouD.com.

. .

. : . .

Mare.... - - . * .

John K. Villa, "Hold on to That Privilege! The Transfer of .Privilege with the Sale of a Corporate Subsidiary," ACCA Docket 19, no. 10 (2001): 100-102.

Communities Resources Inhouse Membershio Education MarketDlace About ACCA

American Corporate Counsel Assocfation. 1025 Connecticut Ave, NW, Suite 200, Washtngton, DC 20036-5425. 2021293-41 03. webmistress9acca. com.

0 Copyright 2001 American Corporate Counsel Association. Al l rights reserved.

http:Ilwww.acca.com/protected/pubsldocketlndOl lethicsl .php Page 1 of 1

>ACCA D&et (Novcmber/Decanber 2001): Hold on to That Privilege! The Transfer of Privilege with the Sale of a Corporate Subsidiary 1013/03 4 0 9 PM

November/December 2001

Wold on to That Privilege! The Transfer of Privilege with the Sale of a Corporate Subsidiary

If the stock of the subsidiary is sold to a third party, the right to assert the attorney-client privilege is subject to. the control of the transferred corporation and passes to new management upon a change in the control of the corporation8 The right to assert or waive the privilege on behalf of the subsidiary likewise passes to the new ~wners .~ Essentially, the purchasing corporation, or newly created entity into which the transferred subsidiary may have merged, "acquires" the former subsidiary's share of the joint privilege,' which it may unilaterally waive at its discretion.' ' This rule has its greatest effect in cases in which allegations of breach of contract, fraud, or other misconduct in connection with the sale of a subsidiary arise subsequent to the sale: what had been protected communications during the course of negotiations between the parent corporation, its subsidiary, and their joint lawyer may now be subject to disclosure upon the demand of the adverse new owners of the subsidiary.'* Although both the former parent corporation and the subsidiary "are entitled to assert the attorney-client privilege with respect to communications made on their behalf, either may waive it[,]" and the latter is now at the discretion of the new owner.' Such a consequence may well be very damaging to the interests of the parent corporation, but prudent action before the sale may help avoid or at least minimize any resulting damage.

One approach is to include a provision in the sales agreement that states that the parent corporation does not relinquish its control over the attorney-client pri~i1ege.l~ It has been held that providing in the agreement that the corporation retains "all its rights [and] privileges" following the sale as existed before the sale may be sufficient to support the finding that the corporation intended to retain control over the exercise of the privilege. A more detailed agreement or provision that allows the new subsidiary to'obtain information from joint counsel on all matters other than those involving the sale transaction may also be an appropriate division of the privilege.

Even perfect foresight, however, may not prevent this problem. The strategic and planning dilemma facing corporate counsel-is that, at the outset of sale negotiations, one cannot predict with assurance precisely which terms the purchaser will ultimately agree to. If the financial terms are sufficiently attractive or if the business consequences of failing to sell are unbearably bleak, then seller's counsel may not be able to insist on a provision that retains the privilege (or any part of it) for the seller. Arguing that the provision is necessary to prevent the purchaser from inquiring into fraud-in-the- transaction claims will surely chill negotiations.

The need for taking precautions against compelled disclosures of confidential communications is also important in cases in which a subsidiary separates from the parent corporation and assumes an independent corporate identity. Although the subsidiary may be precluded from asserting the attorney- client privilege against its parent as to matters in which they may share a joint privilege,' s its authority to waive the privilege with respect to these matters in any subsequent investigation or litigation' could likewise prove harmful to its former parent.

What have we learned from this discussion, and what steps can one take?

r .................................................... ;pZJ

.................................................................... Do Not Miss John K.

Counsel Guidelines published by ACCA anh West Group

V i ' s corporate

Corporate Counsel Guidelines is a two-volume treatise written expressly for in-house counsel. It applies gene@ principles to the corporate bar, providing , specific guidelines. This treatise tackles the most common issues facing corporate counsel, even those issues that have no guiding precedent or ethics opinions.

Cost: $220, and ACCA members receive a 30% discount. To order, contact West Publishing 800/344- 5009; www.westarour>.com.

............. x ........... ......,.. ) ........ -.. .......... I..... r....*.* ................. 0 ,

.................................................................... J

* In an ideal world, with unlimited funds for counsel, each separate corporation could always be

htlp://www.acca.com/proproted/pubs/dockdndO 1 /eUcsZ.php Page 1 of 2

> A m Docket (November/Deccmkr 2001): Hold on to That Privilege! The Transfa of fivilege with the Sale of 8 Corporate Subsidiary ION03 4:09 PM

represented separately, but this solution is impractical and wasteful.

When approaching the sale of a significant subsidiary, however, the selling corporation may want to retain new and separate counsel to represent the subsidiary .in the transaction while using the parent's traditional counsel to handle the sale for the parent.

The parties should explicitly agree, in the initial term sheet if possible, to the handling of the privilege and the fact that the subsidiary will have no right to any information arising from the sale transaction. This term must obv.iously be included in the final agreement, as well.

To the extent possible, lawyers who had jointly represented both the parent and the subsidiary before the sale should attempt to segregate their files to facilitate any postsale inquiry by the subsidiary.

Copyright (c) 2001 John K. Villa and the American Corporate Counsel Association. All rights reserved.

NOTES

1.

2.

3.

4. 5.

6.

7. 8.

9.

10. 11. 12.

13. 14.

15. 16.

In re Southern Air Transport, Inc.,'255 B.R. 706, 71 1 (S.D. Ohio 2000); Glidden Co. v. Jandernoa, 173 F.R.D. 459, 472 W.D. Mich. 1997); see United States v. ATBT, 86 F.R.D. 603,616-617 (D.D.C. 1979) (noting that the corporate client consists of the parent corporation, its wholly owned subsidiaries, and, in some cases, its partially owned subsidiaries). A good example of this rule is the dispute between DuPont and Conoco. See Charles F. Richards Jr. and Thad J. Bracegirdle, Attomey-Client Privilege: The Role of Counsel in Parent-Subsidiary Transactions, CORP. LAW DAILY (May 18, 2001) (discussing oral ruling in E.I. Du Pont de Nemours 8 Co. v. Conoco, Inc., CA. No. 17686 (Del. Ch. Feb. 6, 2001), involving the defendant's breakoff from the plaintiff, wherein the court held that there was no evidence that parent's outside counsel had jointly represented subsidiary with respect to tax-sharing agreement, in which their interests were adverse and for which subsidiary had been represented by separate counsel with respect to separation agreement). Bass Public Ltd. Co. v. Promus Companies, Inc., 868 F. Supp. 615, 620 (S.D.N.Y. 1994); Polycast Technology Corp. v. Uniroyal, Inc., 125 F.R.D. 47, 49 (S.D.N.Y. 1989); Medcom Holding Co. v. Baxter Travenol Lab., Inc.. 689 F. Supp. 841, 844 (N.D. 111. 1988). In re Grand Jury Subpoenas, 89-3 and 894, 902 F.2d 244, 249 (4th Cir. 1990). Bass Public Ltd. Co. v. Promus Companies, Inc., 868 F. Supp. at 620; Polycast Technology Corp. v. Uniroyal, Inc., 125 F.R.D. at 49. For purpose of the privilege, when a Parent corporation owns a controlling interest in a corporate subsidiary, the parent corporation's agents who are responsible for legal matters of the subsidiary are considered agents of the subsidiary. The subsidiary corporation's agents who are responsible for affiirs of the parent are also consklered agents of the parent for the purpose of the privilege. Restatement (Third) of The Law Governing LawyeW73, cmt. d (2000). In re Southern Air Transport, Inc., 255 B.R. at 712; Glidden Co. v. Jandemoa, 173 F.R.D. at 472. Commodity Futures Trading Comm'n v. Weintraub, 471 U.S. 343. 349, 105 S. Ct. 1986, 85 L. Ed. 2d 372 (1985); see Restatement (Third) of The Law Governing Lawyers, supra,/l3 at cmt. k; cf. Pilates. Inc. v. Georgetown Bodyworks Deep Muscle Massage Centers, Inc., 201 F.R.D. 261 (D.D.C. 2000) (plaintiff corporation was,not a successor-in-interest bf defendant Corporation for purposes of assertion of attomey-client privilege in case in which plaintiff had acquired only trademarks from defendant, but had not acquired any stock or any other financial assets). Commodity Futures Trading Comm'n v. Weintraub. 471 U.S. at 349 Bass Public Ltd. Co. v. Promus Companies, Inc., 868 F. Supp. at 619; Polycast Technology Cow. v. Uniroyal, Inc., 125 F.R.D. at 49; Medcom Holding Co. v. Baxter Travenol Lab., lnc.. 689 F. Supp. at 844; see also In re Grand Jury Subpoenas, 902 F.2d at 248 (when a subsidiary becomes an independent corporate entity with the consent of the parent, the new entity has the authority to waive the privilege). Polycast Technology Corp. v. Uniroyal, Inc.. 125 F.RD.at 49. Bass Public Ltd. Co. v. Promus Companies, inc.. 868 F. Supp. at 621. See Polycast Technology Cow. v. Uniroyal, Inc., 125 F.R.D. at 51 (in action by buyer of subsidiary against former parent corporation for having allegedly supplied misleading financial data, court granted buyer's motion to compel former parent corporation to produce notes taken by officer of former subsidiary regarding advice given by parent's in-house counsel as to officer's duty to disclose business data to buyer); Medcom Holding Co. v. Baxter Travenol Lab., Inc., 689 F. Supp. at 844 (in action by buyer of subsidiary against former parent corporation, court compelled parent to produce documents containing confidential communications generated during presale negotiations between parent corporation's in-house counsel and officers of its subsidiary relating to sale of the latter). Medcom Holding Co. v. Baxter Travenol Lab., Inc., 689 F. Supp. at 845. See Bass Public Ltd. Co. v. Promus Companies, Inc., 868 F. Supp. at 620 (recognizing that such a provision in a merger agreement was indicative of an intent that acquired corporation continue as joint holder of attomey-client privilege with former subsidiary and thus could waive the privilege for the benefit of its new corporate parent). Glidden Co. v. Jandemoa, 173 F.R.D. 459,472 (W.D. Mich. 1997). See In re Grand Jury Subpoenas, 902 F.2d at 248.

American Corporate Counsel Association. 1025 Connecticut Ave, NW, Suite 200, Washington, DC 20036-5425. 20229341 03. webmistress(a2acca .corn.

I Copyright 2001 American Corporate Counsel Association. All rights reserved.

http:llwww.acca~eom/proteckdlpubs/docktthdO1 /ethicsZ.pbp Page 2 of 2

_ _ ~ -~

ACCA Docket (Janlrrry 2002): wbrc Can You Tell Your Employee Wbm Ibc Feds Arrive to Quation them?

Ethics & Privilege January 2002

..........................................................................................................................................................................................................................................

What Can You Tell Your Employees When the Feds Arrive to Question Them? The sale of your corporate subsidiary has just closed, and now it's time to congratulate one another and take a few days off. The phone rings. It's your outside counsel. He has just received a call from the general counsel of the acquiring company, who wants to talk to his law firm, which represented both your company and the subsidiary, about some "contingent liabilities" that the buyer has allegedly just found. Wait a second-she can't talk to your outside counsel, because that would violate the privilege. You call her and ask her what she thinks she's doing. She says she merely wants to talk to former counsel to the corporate entity that her company has just purchased on the matters as to which the law firm represented the subsidiary (not everything it did for the parent). By the way, she may have a few questions for you because your office performed legal services for both companies. Is she off her rocker? As it happens, no, she is not crazy. You failed to see the transfer of the privilege, and now you will pay for that failure.

Your company is the target of a federal criminal investigation. The federal investigators have contacted a number of current and former employees to obtain evidence. Against your advice, the company had decided against providing a separate lawyer to represent those individuals. You, of course, do not represent them. Now, some of the employees have contacted you, asking about the investigation . and about whether and how they should respond to the government agents. How far can you go in providing information? What are the risks?

Corporate investigations, whether conducted by the company itself or by government agents, create unique and intractable problems for in- house counsel. corporate employees are accustomed to seeking advice from inside counsel, and inside counsel are accustomed to providing advice, yet that advice-giving can be the source of a problem. The ethical rules permit a lawyer to give only very limited advice to a nonclient without raising the prospect of being deemed the person's lawyer and jeopardizing the corporation's interests. And sometimes, giving even this limited advice can land the lawyer in hot water. m....

John K. Villa is a partner with Villiams & Connolly U P in rlashington, DC. He pecializes in corporate tigation (civil and criminal) ivolving financial services,

directors', ofiicem', and lawyers' liabilities, and related

issues. He is an adjunct professor at Georgetown Law School and a regular lecturer for ACCA. He is also the author of Corporate Counsel Guidelines, published by ACCA and West Group.

1 ..............................................

..................................... Do Nwr Mrss JOHN K, VlLL4% COrnR4*rn COUNSEL ~ U I D E L ~ E S P U B L I S ~ ]BY ACCA mi WEST GROUP

Corporate Counsel Guidelines is a two-volume treatise written expressly for in-house counsel. It applies general principles to the corporate bar, providing specific guidelines. This treatise tackles the most common issues facing corporate counsel, even those issues that have no guiding precedent or ethics opinions.

Cost $220, and ACCA members receive a 30% discount. To order, contact West Publishing 800/344- 5009; www.westarouD. corn. . ........................................ .,

0

. . . . . . . . . . .C

John K. Villa, "What Can You Tell Your Employees When the Feds Arrive to Question Them?" ACCA Docket 20, no. 1 (2002): 90-92.

Communities YResources Ylnhouse Profession YMernbershie &Education Y m YAbout ACCA American Corporate Counsel Association. 1025 Connecticut Ave, NW, Suite 200, Washington, DC 20036-5425.

202/293-4103. webrnistress@acca.com. Copyright 2001 American Corporate Counsel Association. All rights resewed.

hnp://www.acca.comlprotccledlpubsldoc~~~~~hics 1 .php

January 2002

What Can You Tell Your Employees When t h e Feds Arrive to Question Them?

_.....__I..._ ...................-.................... I- ...... .I ........... .-..A". ................................. .... ....... .. ..... ...-..., ......... I_h ................................................................................

To understand the ethical implications better, let's review the pertinent rules and their application to the corporate client. '

Rule 4.3 of the Model Rules of Professional Conduct regulates a lawyer's communications with an unrepresented person:

In dealing on behalf of a client with a person who is not represented by counsel, a lawyer shall not state or imply that the lawyer is disinterested. When the lawyer knows or reasonably should know that the unrepresented person misunderstands the lawyer's role in the matter, the lawyer shall make reasonable efforts to cortect the misunderstanding.'

Unlike its predecessor under the Model Code? which prohibited the lawyer only from giving advice to unrepresented persons whose interests conflicted with those of the client, Model Rule 4.3 is broader in scope, applying to any unrepresented person, whether adverse or not, and to any type of communication made on behalf of a client, whether it is advice or not. Thus, although Rule 4.3 does not expressly prohibit the lawyer from giving advice,3 the official comment to the Model Rule recommends that "the lawyer should not give advice to the unrepresented person, except the advice to obtain counsel." Even this standard, however, has been modified in many jurisdictions?

The principal point to glean from Model Rule 4.3'is that its focus is on the unrepresented person's understanding, not whether the lawyer intended to mislead the nonclient5 For that reason, whenever a lawyer acting on behalf of a client "knows or reasonably should know"6 that the unrepresented person misunderstands the lawyer's role, the lawyer is obligated to take "reasonable efforts" to cowed the misunderstanding? This rule may require in-house counsel to clarify their roles and the identities of their clients and to explain that they do not represent individuals8 .

A second, even more difficult question is that of what in-house counsel can tell current and former employees about responding to government inquiries. The touchstone for this analysis is Model Rule 3.4

FAIRIUES5 TO OPPOSING P A R N AND COUNSEL

A Lawyer shall n o t . . . (9 Request a person other than a client to refrain .from voluntarily giving relevant information to another party unless: (1) the person is a relative or an employee or another agent of a client; and (2) the lawyer reasonably believes that the person's interests will not be adversely affected by refraining from giving such information. .

The commentary to Model Rule 3.40 states that "paragraph (9 permits a lawyer to advise employees ..of a client to refrain from giving infomafion to another party, for the employees may identify their interests with those of the client." C0rporat.e counsel may ethically ask all corporate employees, including those who are not members of the control group, to refrain from talking to opposing counsel without the corporation's lawyer present. Given the different status normally accorded to former employees, however, it is doubtful whether this rule would permit corporate counsel to ask former employees not to cooperate with opposing counsel.

.: ...............................................

Do Not Miss John K. Villa's Corporate Counsel Guidelines published by ACCA and West Group

Corporate Counsel Guidelines Is a two-volume treatise written expressly for in-house counsel. It applies general principles to the corporate bar, providing specific guidelines. This treatise tackles the most common issues facing corporate counsel, even those issues that have no guiding precedent or ethics opinions.

Cost: $220, and ACCA members receive a 30% discount. To order, contact West Publishing 800/344- 5009; www.we starouD.com.

.............. .. ........................... * .... ................................................................ 0

....................... ..................- .... - ...... ..

pasc 1 of2

>ACCA Docket (J~nuay 2002): What Can You Tell Your Employees When the Feds Arrive b Question Thcm?

What about government investigators? In principle, there should be no difference for ethical purposes between asking Corporate employees not to talk to opposing parties in civil litigation and making the same request of corporate employees when the opposing party is a federal or state government investigating or prosecuting the corporation. In practice,. however, there are sound reasons for a corporation in a criminal investigation not to instruct its employees to refuse to talk to federal or state law enforcement officers or prosecutors. The company and any officers who would give such instructions could face obstruction ofjustice claims, see 18 U.S.CJ1512, although we are aware of no prosecutions of corporate counsel on this theory. On the other hand, it is proper for the corporation to inform employees that they may be contacted by law enforcement officers, that it is entirely their choice whether or not to grant an interview, that they may wish to consult with counsel before deciding whether or not to grant an interview, and that, if they choose to grant an interview, they must tell the truth.

In view of the potential for misunderstanding in the context of a corporate investigation, in-house counsel should take the following preventive measures before an investigation in order to ensure compliance with Rules 4.3 and 3.4(9:

* In instances in which the corporation has decided against retaining counsel for its employees, in- house counsel should, after having informed the employees of the existence of the investigation and the fact that a government agent may contact them for an interview, advise the employees that in- house counsel represents the corporation, not the individual employees, and explain that, because the privilege for any communications with in-house counsel is held by the corporation and not the employee, only the corporation can assert or waive the privilege.

If the investigation Is conducted by a law enforcement agency, in-house counsel should not advise, recommend, or suggest that the employee refuse to cooperate.

Although in-house counsel may also inform the employees of their right to decide whether to speak with the government agent, in-house counsel should also explain that separate counsel, if retained by an employee, is the person to consult for advice on whether and how to respond in any investigation.

The implementation of these measures, together with in-house counsel's reiteration of the corporate attorney's role, whenever necessary, will help ensure compliance with the Model Rules and prevent the unwitting creation of an attorney-client relationship with potentially adverse consequences for the corporate client. It will also help protect the corporation and its lawyers from claims of interfering with law enforcement investigations.

Note: In a future column, we will examine the ethical restrictions on government lawyers and investigators when contacting corporate employees. So stay tuned.

Copyright (c) 2002 John K. Villa and the American Corporate Counsel Association. All rights reserved.

OTES 1. ABA Model Rules of Professional Conduct, Rule 4.3 (2001). 2. ABA Model Code of Professional Responsibility, DR7-104(A)(2). 3. What constitutes advice, as opposed to the mere provision of information, depends upon the circumstances in the

given case and, consequently, is subject to varying interpretations. See, generally, "Communications with Persons Unrepresented by Counsel: Practice Guide," 71 ABAlBNA Lawyer's Man. on Prof1 Conduct 501 (1998).

4. Some jurisdictions that have adopted the Model Rules have altered Model Rule 4.3 by including the prohibition against giving advice as set forth in DR7-104. See, e.g., Colo. Disciplinary Rules of Professional Conduct, Rule 4.3 (2001); Mass. R. Prof" Conduct, Rule 4.3(b) (2001): Va. R. Prof1 Conduct, Rule 4.3(b) (2000). In the District of Columbia, for example, the prohibition against giving advice expressly applies only to unrepresented persons whose interests are adverse to those of the lawyer's dent. See D.C. R. Prof1 Conduct, Rule 4.3(a) (1999).

5. See Attorney Q v. Mississippi State Bar, 587 So. 2d 228 (Miss. 1991); In re Air Crash Disaster, 909 F. Supp. 1116, 1125 (N.D. 111. 1995).

6. As defined in the Terminology section of the Model Rules, the phrase wasonably should know," as applied to a lawyer, "denotes that a lawyer of reasonable prudence and competence would ascertain the matter in qUeStiOn." ABA Model Rules of Professional Conduct (2001). In the case of Rule 4.3, a lawyer should reasonably know of a noncliint's misunderstanding from the nature of the questions asked by the individual, see In re Faraone, 722 A.2d 1. 3 (Del. 1998) (questions concerning the unrepresented person's potential liability with respect to certain transactions), or from the individual's known inexperience with the law and. the context in which the contact with the lawyer takes place. See ABA Model Rules of Professional Conduct, Rule 4.3, cmt.

7. Id., Rule 4.3. 8. See Brown v. St Joseph County, 148 F.R.D. 246, 254 (N.D. Ind. 1993).

1(u3/03 410 PM

Communities %Resources Ylnhouse Profession YMembershiD YEducation V m YAbout ACCA American Corporate Counsel Association. 1025 Connecticut Ave, NW, Suite 200, Washington, DC 20036-5425.

202/293-4103. webmistress@acca.com. Copyright 2001 American Corporate Counsel Association. All rights reserved.

pase20f2