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December 20, 2012 Articles

Preserving Privilege During an Internal Investigation

To maintain privilege is to maintain options.

By Daniel S. Park

When a government begins investigating a corporation or allegations are brought by private plaintiffs, a corporation often will find it advisable to conduct an internal investigation to determine what has happened. These investigations often entail detailed witness interviews, analyses of corporate policies and practices, and a thorough review of sensitive documents. The findings of these investigations may be gold mines of information about a corporation’s potentially wrongful behavior. Privilege is therefore critical to a successful investigation, for to maintain privilege is to maintain options.

Although the materials produced during an internal investigation traditionally have been protected by attorney-client privilege, as they are often produced by outside counsel, cases in recent years have demonstrated that constant vigilance is required to preserve privilege. For example, in November 2012, a federal district court found that an email from a company’s president informing senior management of an incident at a company plant was not privileged. Graff v. Haverhill North Coke Co., No. 1:09-cv-670, 2012 WL 5495514, at *21 (S.D. Ohio Nov. 13, 2012). The court found that the email had not clearly been written to seek legal advice—even though corporate counsel had been copied on the email. And the court found that the company had waived privilege not only with respect to an audit report that the company had disclosed to plaintiffs, but also as to all documents and communications underlying the report. Id. at *17.

Even more alarming is the decision in In re OM Group Sec. Litig., in which a company conducted an audit and shared the audit report with the full board of directors. In a subsequent securities-fraud litigation, the Northern District of Ohio found that, because the audit committee had shared the report with the full board, the corporation had waived privilege not only as to the audit report but also for all underlying materials used in preparing the report. In re OM Group Sec. Litig., 226 F.R.D. 579 (N.D. Ohio 2005).

Corporate counsel and boards of directors must therefore bear in mind many factors when conducting or overseeing an internal investigation to preserve privilege. In the absence of set rules or universal methodologies for structuring a response, there are three overarching factors that a board of directors should consider when deciding whether to conduct an internal investigation so as to best protect the attorney-client privilege.

Conducting an Internal Investigation
Any number of events or allegations of wrongdoing may trigger the need for an internal investigation. A governmental or regulatory entity may begin its own investigation of the company—sometimes without any forewarning. An outside auditor may request more information as part of their audit procedures—particularly in a post-Enron environment. Or a whistleblowing employee may submit concerns regarding accounting or financial fraud, pursuant to the procedural protections of Sarbanes-Oxley or Dodd-Frank. It may be a shareholder who brings an allegation of corporate wrongdoing. Or a member of the media could trigger the need for an internal investigation, as was the case in 2006, where a Wall Street Journal article entitled “The Perfect Payday” revealed many companies’ habits of awarding stock options to executives with exercise prices that clearly had been picked in hindsight, but had not been disclosed as backdated. The article spurred internal investigations at hundreds of companies, including at UnitedHealth Group, Inc., which eventually led to the resignation of its chairman and CEO. Report of Wilmer Cutler Pickering Hale & Dorr LLP to the Special Committee of the Board of Directors of UnitedHealth Group, Inc., Oct. 15, 2006.

Regardless of the triggering event, it is critical to keep in mind several important concerns when conducting an internal investigation to preserve privilege.

Clearly Define Who Should Be Involved
In most cases, the internal investigation is conducted by a special or existing committee of the board, consisting of independent and disinterested directors. Independence and good faith are characteristics evaluated by a court when a special committee recommends the dismissal of a shareholder derivative suit. Ideally, members should also be qualified and experienced to be able to give weight to the findings of the investigation.

The special committee then usually retains outside legal counsel—either the corporation’s regular outside counsel or a special independent counsel. In some situations, a company’s regular counsel will suffice, and may be an efficient and less expensive option, if the counsel can be expected to assist with the investigation in a credible and objective manner. Where regular counsel may have conflicts or are implicated in the investigation, it is best to hire special outside counsel, especially if that counsel is experienced in handling internal investigations. One need look no further than the Enron scandal to recognize that special counsel is best where the alleged wrongdoing is pervasive and implicates usual counsel. Roger C. Cramton, Enron and the Corporate Lawyer: A Primer on Legal and Ethical Issues, 58 Bus. Law 143, 164 (2002).

Sometimes the board of directors may be tempted to run the investigation itself, as they bear ultimate responsibility for the actions of management and the conduct of the entire corporation. This may, however, be ill-advised. See, e.g., Caremark Int’l Inc. Derivative Litig., 698 A.2d 959, 969 (Del. Ch. 1996) (a director’s failure to implement and carry out an effective compliance program may render the director individually liable); McCall v. Scott, 239 F.3d 808 (6th Cir. 2001) (a board’s failure to react both to a criminal investigation of the corporation and other red flags led the court to find a strong inference of intentional or reckless disregard). A proper investigation should be limited to those who must be involved; it rarely will require the involvement of all directors. After all, whoever is involved in the investigation must be part of the attorney-client relationship. When a special committee conducts an investigation and hires special outside counsel, the relationship is restricted to those persons only. Communicating findings with others—including other board members not on the committee—risks destroying privilege. See in re OM Group, 226 F.R.D. 579.

This is particularly important where members of the board are themselves implicated in the allegations against the corporation. If a board member is a subject of the investigation, he or she is not to participate in the special committee or its decision-making process. See, e.g., Ryan v. Gifford, 2007 WL 4259557, at *3 (Del. Ch. Ct. Nov. 30, 2007) (waiver may occur where board members are themselves implicated in the wrongdoing).

And even in-house corporate counsel must be wary of being involved in an investigation. In-house counsel are often responsible for both legal and business advice, which can be a dangerous mix when it comes to protecting privilege. If a corporation cannot establish that a particular communication was for legal advice—including, for example, where an attorney is simply copied on an email chain—then privilege may be at risk. See Graff, 2012 WL 5495514, at *21.

Clearly Define the Scope and Process
The scope of an investigation must be determined at the outset to handle information in a privileged and effective manner. By defining the scope of the investigation, the persons involved will be readily identifiable, and it will be clear who should be interviewed and what documents should be collected and preserved. Failure to preserve relevant documents can lead to charges of obstruction of justice.

Most importantly, the investigation should be planned so that all information flows through attorneys. Communications during an investigation should be couched in language that makes clear that legal advice is being sought or provided—a forwarded email with just a “FYI” may not pass muster. In fact, those involved in the investigation should receive guidelines on proper emailing techniques: “Reply-all” can be dangerous, and committee members should be wary of emailing sensitive information even to other board members.

Counsel should also, if appropriate, identify investigative materials as having been prepared in anticipation of litigation to receive work-product protection. Work product is helpful particularly because it is only waived by production of the materials to adversarial interests, unlike attorney-client privilege, which can be waived by disclosure to any third party.

Clearly Define What to Do with the Results
Once an investigation is complete, the investigating body—usually the special committee—typically reports its findings either orally or in writing. The report details the factual findings and  the investigative process, analyzes potential liabilities, and recommends remedial actions.

Whether to publish the report or keep it under wraps is a decision that must be made on a case-by-case basis. In some circumstances, such as where a governmental entity is already investigating a company, disclosure might be advisable to curry favor with the investigating body. This, however, should be a decision that is made after a full analysis of the ramifications of disclosure, including the likelihood of having to produce the disclosed report—and all underlying materials—to private plaintiffs in subsequent civil lawsuits. Federal prosecution guidelines make clear that prosecutors may take voluntary disclosure into account when deciding whether to charge a business. See Principles of Federal Prosecution of Business Organizations, Jan. 20, 2003. That said, it is no longer the practice of government agencies to request that companies waive privilege.

Ultimately, the report should, even if not disclosed, be used as a road map to prevent future wrongdoing, even if the investigation did not reveal any. Sometimes a report will reveal a need for a change in corporate culture to emphasize the need for compliance with the law. Such corporations are strongly encouraged to develop a risk-management and compliance program, which may require hiring compliance officers, providing training and educational resources to employees, setting forth clear standards of conduct, identifying problem areas within the corporation, and creating a robust system for responding to future reports of wrongdoing. In fact, failure to have a risk-management plan in place may itself be a source of liability for the board, in violation of its duty of care. Risk management also involves the assessment of those risks that are unavoidable and handling them by purchasing applicable director-and-officer liability insurance.

There are many situations in which a corporation may, through a special committee and special legal counsel, find it necessary to conduct an internal investigation. Recent cases have demonstrated the need for the special committee and the board to act judiciously to preserve attorney-client privilege over all materials generated by the investigation. Clearly defining the scope, who should be involved, and how the results will be reported will greatly enhance the chances that the privilege will be maintained.

Keywords: criminal litigation, corporate counsel, Enron

Daniel S. Park is an associate with Gibson, Dunn & Crutcher LLP in Los Angeles, California.

Copyright © 2012, American Bar Association. All rights reserved. This information or any portion thereof may not be copied or disseminated in any form or by any means or downloaded or stored in an electronic database or retrieval system without the express written consent of the American Bar Association. The views expressed in this article are those of the author(s) and do not necessarily reflect the positions or policies of the American Bar Association, the Section of Litigation, this committee, or the employer(s) of the author(s).