May 20, 2016

ETHICS CORNER: Addressing Conflicts of Interest Based on Economic Adversity

James Tallon

In December 2014, a three-judge panel of the Federal Circuit issued a short, non-precedential ruling disqualifying the Jones Day firm as counsel for the plaintiff in Celgard LLC v. LG Chem, Ltd., 594 Fed. Appx. 669, 2014 WL 7691765 (Fed. Cir. 2014). The Celgard decision generated a surge of commentary because the disqualification was based on the court’s view that, in representing plaintiff Celgard, Jones Day was “directly adverse” to Apple, Inc., a client of Jones Day that wasn’t a party to the case, but whose economic interests would be affected if Celgard prevailed. In the months following Celgard, no reported decision has relied on Celgard to reach a similar result and in one reported decision, a court has declined to follow Celgard’s lead. Milwaukee Electric Tool Corp. v. Metco Battery Technologies LLC, 2015 WL 1898393 (E.D. Wisc. 2015).

Celgard sued LG Chem alleging that LG Chem infringed Celgard’s patent having to do with lithium batteries. Celgard sought a preliminary injunction to prevent the sale of LG Chem batteries. It sent its motion to Apple, a customer of LG Chem, but not a party to the Celgard case, accompanied by a request to work with Apple to “find a mutually beneficial business arrangement.” The district court granted Celgard’s motion and preliminarily enjoined sales of LG Chem lithium batteries.

After that, Jones Day appeared for Celgard as counsel in the district court and with respect to an appeal from the entry of the preliminary injunction. Apple requested that Jones Day – counsel to Apple in unrelated matters – withdraw, but that firm declined to do so. Instead, Jones Day said they would not “counsel Celgard in any matter adverse to Apple, including licensing negotiations.”

On appeal, the Federal Circuit ruled that North Carolina Rule of Professional Conduct 1.7(a) applied. That rule prohibits representation of a client when the lawyer “will be directly adverse to another client.” Applying that rule and relying on its earlier decision in Freedom Wireless, Inc. v. Boston Communications Group, Inc., 2006 WL 8071423 (Fed. Cir. 2006), the court held that “the burden placed on the attorney-client relationship here extends well beyond the sort of unrelated representation of competing enterprises allowed under Rule 1.7(a)” and disqualified Jones Day.

In Freedom Wireless, the Federal Circuit disqualified Quinn Emanuel from representing plaintiff Freedom because Quinn was “directly adverse” to another client, Nextel. Quinn represented Freedom, owner of certain patented prepaid wireless service technology, in suing several wireless carriers for joint infringement. Freedom didn’t sue Nextel, but Nextel was aware of the litigation and “did not believe its legal interests were directly implicated.” Quinn told Freedom that it “would not be adverse to Nextel under any circumstances” and Freedom agreed.

After commencing its initial suit, Freedom sued additional wireless carriers, including Nextel, but Quinn did not represent Freedom in its case against Nextel. Ultimately, Freedom prevailed in the initial case and obtained an injunction which broadly prohibited the defendants in that case from “making, using or selling” Freedom’s technology “either by themselves or jointly with any other companies.” Quinn issued a press release emphasizing the broad coverage of the injunction. Based on the express terms of the injunction, as well as Quinn’s press release, Nextel concluded that its interests were implicated, because Nextel had contracted with one of the defendants in the initial case to provide wireless services, after the suit had been filed and was pending, but before entry of the injunction. Nextel moved to intervene and to disqualify Quinn.

The Federal Circuit characterized the question as whether Quinn was directly adverse to Nextel, notwithstanding that Nextel was not a party to the case in which Freedom had obtained its injunction. Deciding that Massachusetts law governed, the court quoted the Massachusetts Supreme Judicial Court’s statement that “[t]he undivided loyalty that a lawyer owes to his clients forbids him, without the clients’ consent, from acting for [a party] in one action and at the same time against [the same party] in another.” Noting that Quinn had “asserted a position that an injunction obtained on behalf of one client, Freedom Wireless, should limit the activity of another client, Nextel,” the court concluded that “a clear and direct conflict of interest has arisen” and disqualified Quinn. The court declined to limit disqualification to representation of Freedom on the appeal of the injunction, holding that “now that it has been asserted that the injunction applies to Nextel, advocacy on issues supporting the injunction will be directly adverse to Nextel such that partial disqualification is not an adequate remedy.”

Quoting Freedom Wireless, the Celgard court held that “[t]hese grounds for disqualification apply equally here” and disqualified Jones Day. The court was influenced by the fact that, in light of the injunction, Apple might have to find another supplier of lithium batteries and could be subject to Celgard using the injunction as leverage in negotiating a business relationship. Consequently, in the court’s view, “in every relevant sense, Jones Day’s representation of Celgard is adverse to Apple’s interests.”

In reaching this conclusion, the court attached no importance to the fact that Apple was not a party to the litigation, stating that “[t]he rules and cases such as Freedom Wireless interpreting them make clear it is the total context, and not whether a party is named in a lawsuit, that controls whether the adversity is sufficient to warrant disqualification.” The court also dismissed Celgard’s argument that it would be prejudiced by having to obtain new counsel, observing that Celgard and Jones Day were at fault because they “clearly knew the potential for conflict here yet elected to continue with the representation.” Additionally, the court rejected the argument that, if Rule 1.7(a) was interpreted “to cover conflicting representations merely because the client is up or down the supply chain then ‘lawyers and clients would have no reliable way of determining whether conflicts of interest exist in deciding whether to commence engagements.’” In an unsatisfying, cryptic response, the court said only “[t]hat . . . is not our holding.”

Celgard sparked significant concern among lawyers because the court’s holding can be read to extend the meaning of “direct adversity” to encompass situations in which a client’s economic interests are implicated, whether the lawyer knows this or not. Celgard had argued that protecting Apple’s interests would create a precedent requiring lawyers to understand where clients stand in a supply chain, but rather than explaining why Celgard was wrong, the Celgard court simply disagreed.

Celgard doesn’t provide guidance whether a lawyer that helps a pharmaceutical client introduce a new drug has a conflict with another client that already sells a drug to treat the same condition as the new drug and whose market share may be or will be diminished by introduction of the new drug. Nor, for example, does Celgard tell us whether a lawyer that establishes a precedent favoring employees with respect to wage and hour legislation is in conflict with employer clients that will incur costs to adhere to the law as construed by the new precedent. Likewise, based on Celgard, lawyers may have a legitimate concern about where to draw the line between those situations that extend “well beyond the sort of unrelated representation of competing enterprises allowed under Rule 1.7(a)” and those that do not as for example, where two clients are interested in acquiring the same asset.

Defining “direct adversity” is not a new problem. In Formal Opinion 05-435, the ABA Standing Committee on Ethics and Professional Responsibility opined that a lawyer representing an insurer in one litigated case was not directly adverse to the insurer where the another of the lawyer’s clients had sued a defendant for whom the client insurer was providing defense and indemnity, even though the insurer would be affected economically. The committee noted that while the insurer’s economic interest as a nonparty was aligned with the interests of its insured, the economic adversity was not the sort of direct adversity that constitutes a conflict of interest. Likewise, in Formal Opinion No. 05-434, the committee concluded that there was no conflict of interest where a lawyer assists a testator to disinherit a beneficiary whom the lawyer represented on other matters. The committee noted that “[d]irect adverseness requires a conflict as to the legal rights and duties of the clients, not merely conflicting economic interests.”

One can hope that, as precedent, Celgard will be confined to its facts and specifically to situations where a lawyer objectively knows with certainty that a client will be affected by a prohibitive injunction. In any case, Celgard has not been followed in reported decisions.

In a more recent case addressing the direct adversity standard, Milwaukee Electric Tool Corp. v. Metco Battery Technologies LLC, the court was confronted with a situation closer factually to Freedom Wireless than Celgard. Milwaukee Electric simultaneously commenced eight separate patent infringement cases against different defendants. All defendants were alleged to have infringed three of Milwaukee Electric’s patents; some defendants were alleged to have infringed additional patents. DLA Piper represented Milwaukee Electric in seven cases, but not in one case in which the named defendant was Snap-on, Inc., a longtime client of DLA Piper. In that case, Milwaukee Electric was represented by different counsel. Snap-on moved to disqualify DLA Piper on the ground that all eight cases raised numerous common issues of law and fact, making DLA Piper directly adverse to Snap-on. In fact, Milwaukee Electric had moved to consolidate the eight cases on the grounds that they all involved the same or similar patents and also that common questions of law and fact were pervasive.

The district court determined that Wisconsin Supreme Court Rule 20:1:7(a) governed. That rule prohibits lawyers from taking on a client if the representation involves a concurrent conflict of interest; a concurrent conflict is deemed to exist where the representation of one client will be directly adverse to another client. In applying that rule, the court noted that Seventh Circuit jurisprudence deems disqualification a “drastic measure” to be exercised only when “absolutely necessary.”

The court reviewed and summarized the authority relied on by Snap-on, including Celgard, as well as the authority relied on by Milwaukee Electric in opposition to disqualification. Conceding that the outcome was not “crystal clear,” the court held that, taking into account the balance of the duty of loyalty against the right to choose one’s own counsel, DLA Piper was not directly adverse to Snap-on and denied disqualification.

In reaching this conclusion, the court relied on several factors. First, DLA Piper was not attempting to establish Snap-on’s liability, nor had that firm participated in any motion against Snap-on or opposed any motion made by Snap-on. Second, the court noted that the manner in which the cases would unfold over time was difficult to see, thus making it uncertain how DLA Piper would be arrayed against Snap-on. Third, the court rejected as speculative the argument that depositions would be logistically complicated because DLA Piper represented Milwaukee Electric in just seven of the eight cases. Fourth, the court observed that, in light of the case schedule, Milwaukee Electric would be prejudiced if it had to find new counsel. Finally, the court discounted Snap-on’s arguments that direct adversity was evidenced by the fact that DLA Piper would be making arguments contrary to the views of Snap-on, on the bases that (a) claim construction would vary from product to product and defendant to defendant; and (b) DLA Piper’s arguments regarding patent validity would relate to the circumstances of plaintiffs’ patents and would be independent of the specific circumstances of Snap-on.

Interestingly, the court also justified its ruling “due to [the] sincere concern that disqualification motions may be used as an ‘abusive litigation tactic.’” Specifically, the court noted that the defendants, including Snap-on, had twice requested a stay and had petitioned the Federal Circuit for a writ of mandamus from the district court’s order denying the defense motions to stay.

One can quarrel with the Milwaukee Electric court’s analysis and conclusion. Equally, one can criticize the Celgard court for failing to articulate its reasoning and curt dismissal of valid arguments, unless, of course, one accepts that the answer was obvious that no explanations were required. That said, applying the “direct adversity” standard is fact specific and it is not always obvious “what sort of unrelated representation of competing enterprises are allowed.” The bar deserves guidance when it comes to resolving tough conflict questions and in this respect, the Milwaukee Electric court succeeded.

James Tallon

Partner in the Litigation Group at Shearman & Sterling LLP

James Tallon is a partner in the Litigation Group at Shearman & Sterling LLP. “Ethics Corner” is sponsored by the Professional Responsibility Committee, and is edited by Robert Evans III, a partner at Shearman & Sterling LLP.