Be Warned: As Fiduciary Obligations Change, Preferred Ownership May Also Be Preferred | Robins Kaplan LLP
Imagine this. Years after leaving your position as in-house counsel at Company A, you find yourself embroiled in litigation with Company A’s adversary who is investigating your legal memoranda and internal privileged communications. Is it scary? Unfortunately, this can happen in several scenarios, but there are steps you can take to mitigate the risk.
So how does a former corporate lawyer end up in this position? An example is when Company A declares bankruptcy. Once that happens, the trustee or creditors’ committee of the now bankrupt Company A will likely seek every opportunity to assert claims – including claims of fiduciary duty – against the officers and directors of the company. company, past and present (which may or may not include the General Counsel in her official capacity). But what may surprise these former D&Os is that the party that now controls the bankrupt entity, whether a trustee or a committee of creditors, now controls the lien of Company A Therefore, any privileged communications in Company A’s possession are fair game, and counsel in the adversarial proceeding can freely ask questions regarding those communications.
This scenario can play out with even more complications when Company A is a subsidiary of Parent, Inc. Once Parent, Inc. begins to consider divesting a subsidiary or affiliate or putting it into bankruptcy, that company must immediately begin to take steps to not only ensure that fiduciary obligations are fulfilled under the Revlon Standard1 but also to protect the respective and joint privileges of the attorney-client of Parent, Inc. and Company A.
In many multi-entity businesses, a single legal department often serves all of the company’s entities, often through a cross-company services agreement. It generally works well and is most effective when the interests of all corporate entities are aligned. But once a parent company starts looking for strategic divestment opportunities or restructuring options for its subsidiary (here Company A), this alignment can change.
Accordingly, the officers and directors of Company A (which are often the same officers and directors of Parent, Inc. or other sister or overlapping companies) must ensure that they fulfill their fiduciary duties to Company A. A, and they have to be very careful about the hat they’re wearing at any given time. One potential safeguard is to ensure that Company A has its own general counsel – not an attorney who also serves in some capacity for Parent, Inc., but rather someone whose only duty is to Company A.
Not only is this prudent from a governance and fiduciary duty perspective, but it also helps both companies preserve their respective attorney-client privileges. If care is not taken to draw a clear line between Company A and Parent, Inc.’s respective legal representation, even Parent, Inc.’s inside information could also be vulnerable. Consider this scenario: Company A does not have its own general counsel, and Parent, Inc. continues to provide legal advice to Company A even after Parent, Inc. decides to divest Company A. After the sale, Parent, Inc. retains possession of such communications. Parent, Inc. – once a subpoena or discovery requests have been served in subsequent litigation – will have difficulty withholding such communications as privileged because it no longer controls Company A’s privilege. And such communications and memos often reflect advice to both Company A and Parent, Inc., creating a sticky window for Parent, Inc.’s trial attorney, who must try to decipher and draw a line between the two, and then defend that line. Thus, it is imperative that Parent, Inc. take steps to ensure that Company A has its own general counsel once it goes on sale if it does not already have one.
So how can Parent, Inc. and Company A’s attorneys best protect themselves in these scenarios?
- Identify whether there is a possibility that the interests of Parent, Inc. and Company A may become adverse or, at least, less aligned. Is Company A struggling and will Parent, Inc. need to consider various restructuring options? Is Parent, Inc. otherwise seeking to strategically dispose of Company A? In either of these situations, Parent, Inc. would be well served by appointing a general counsel to act solely as general counsel for Company A.
- If Parent, Inc. appoints someone from Parent, Inc.’s in-house counsel cadre to act as Company A’s general counsel, which often happens, follow these precautions:
- Clearly state the date the individual transitioned from representing Parent, Inc. to Company A and ensure that the transition is complete by that date. It’s too easy for Parent, Inc. employees to keep turning to this person, which blurs the line between the two companies and undermines the very purpose of appointing a general counsel for Company A in the first place.
- Make every effort to use a separate means of communication for the new role. If you continue to use the same email the person used when they were an advisor for Parent, Inc., Company A’s confidential documents will be mixed with those of Parent, Inc.
- Where a common interest exists in certain matters between Parent, Inc. and Company A, it may be wise to formalize an agreement to acknowledge such common interest and make it clear that by sharing communications, neither party is giving up their respective privilege. While this agreement does not preclude the new owners of Company A from inquiring or obtaining its privileged documents, it should give Parent, Inc. some leverage to ensure that Company A cannot waive privilege over communications of common interest without the consent of Parent, Inc.
- Use Parent, Inc. and Company A’s retention policy and ensure that it is followed, subject of course to any retention requirements in the event of a dispute. There is often a considerable volume of communications reflecting the negotiation of the divestiture of Company A by Parent, Inc. And depending on the circumstances surrounding that divestiture, it could be quite controversial and adverse. It may not be helpful for the new owners of Company A to have full access to the insider communications of the former owners of Company A during the sale process. Therefore, in the absence of prohibitions against destroying these otherwise privileged (or even unprivileged) communications, it may be wise to delete them. Obviously, you have to be very careful in doing so.
While these measures do not guarantee that in-house counsel will not find themselves subject to a deposition if control of the privilege passes to a now opposing party, they will hopefully help protect the various privileges at stake. Otherwise, appreciating the risk of your words and advice landing in unexpected hands should make you think twice about what is written.2
1 Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc.., 506 A.2d 173 (Del. 1986) (historic Delaware Supreme Court ruling that where dissolution or sale of business was unavoidable, “[t]The role of directors has changed from defenders of the stronghold of the company to auctioneers responsible for obtaining the best price for shareholders during a sale of the company”).
2 For excellent advice on managing risk in email communications, please see Thomas Berndt article published in the Spring 2022 issue of Projector.