- Delaware Court Holds Counsel Privileges Waived by Reporting Results of an Internal Investigation to Conflicted Directors
- August 19, 2008
- Law Firm: Troutman Sanders LLP - Atlanta Office
The Delaware Chancery Court has held that a corporation lost its authority to control the counsel privileges when its special investigating committee reported the results of its investigation to Board members who were involved in the subject matter of the investigation, and their counsel. Ryan v. Gifford, WL 4259557 (Del. Ch. Nov. 30, 2007).1 The company’s announcement apparently exonerating directors in an 8-K and its more detailed private report to NASDAQ implying the opposite were also factors in denying the company’s privilege claim.
Initially, it appears that the Delaware court’s Ryan decision directly conflicts with a basic tenet of the Supreme Court holding in Upjohn v. United States, 449 U.S. 383 (1981) that a company may retain counsel privileges relating to the underlying material of an internal investigation even after reporting the results to regulatory and law enforcement authorities. Closer analysis indicates, however, the evolution, as well as the complication, of the law and practice of internal investigations.
In both Ryan and Upjohn, the company authorized an internal investigation with the assistance of outside counsel. Counsel collected and reviewed documents, interviewed dozens of witnesses and kept notes of the interviews. The responsible company official and assisting counsel reported the findings and conclusions of the investigation to the Board, to securities regulators and to the public. And in each case, directors either knew of, or were allegedly involved in the matters under investigation.
The different results in Ryan and Upjohn are attributable to the refinement since Upjohn of the separate roles of the Board of Directors, special committees and investigating counsel, particularly under Delaware law. The Delaware court proceeded on the now developed principle that an internal investigation is a reliable and effective function for the company and its shareholders, but only where the investigating committee’s conduct and conclusions are truly, and not merely formally, independent of individual interests of corporate personnel. As the Board in Ryan did not give its special committee the full authority to act independently for the company under the Delaware Supreme Court’s Zapata decision,2 the committee’s actions manifested a lack of independence and an apparent intent to favor directors subject to its investigation.3
The Ryan court added an additional perspective by predicating its decision partially on its conclusion that, when the interested directors received the special committee’s report with their counsel in the Board meeting, they were acting in their individual, not their fiduciary capacity, since they were already known subjects of the investigation. This is a readily understood and logical distinction in retrospect. However, applying it during an investigation in circumstances when there is, at most, a suspicion that some directors may have individual exposure, is a problematic and very uncertain basis for designing and conducting an internal investigation. The better approach is first to assure that the special committee and its counsel are truly independent. The committee can then choose whether and when to report its findings and conclusions to the Board and the public, and in doing so, it can consider all the interests that may be affected by the manner and timing of its report. In that process, it may avoid waiver by following the approach of the investigators in Upjohn who retained privileges for counsel’s notes and confidential communications, while providing the results of its investigation to the company and the public.4
1 Certification for interlocutory appeal denied, Civil Action No. 2213-CC, January 2, 2008.
2 Zapata Corp. v. Moldonado, 430 A.2d 779 (1980).
3 The Ryan court also relied on Garner v. Wolfinbarger, 430 F.2d 1093 (5th Cir. 1970), cert. denied, 401 U.S. 974 (1971) for an alternative conclusion that the plaintiff shareholders had established evidence sufficient to warrant denial of any counsel privilege, particularly since those interviewed by special committee counsel had invoked their Fifth Amendment privilege not to provide substantive information after initially cooperating with the internal investigation.
4 Note that Ryan was decided under Delaware law and rules, and Upjohn was decided under the Federal Rules of Evidence and the Federal Rules of Civil Procedure.