The short answer is, “Maybe?”
Business and banking attorneys frequently represent businesses or lenders (or even bondholders and trustees) involved in joint ventures, partnerships, acquisitions, initiatives, participation loans, or other financial or joint business relationships/ventures. The issue of how far “common legal interest” protects the disclosure of work-product and attorney/client privilege (as well as the tax practitioner privilege) shared between joint venturists is of some import. On Nov. 10, 2015, the Second Circuit Court of Appeals considered the issue in Schaeffler v. U.S.[1] Ultimately, the Second Circuit reversed the district court, with the Second Circuit holding that neither the attorney/client privilege nor the work-product doctrine was waived under the facts and circumstances of the case at hand.
The Schaeffler facts are as follows.
The Schaeffler Group was an automotive and industrial-parts supplier incorporated in Germany. Mr. Schaeffler was an 80 percent owner of the ultimate parent of the Schaeffler Group. The Schaeffler Group attempted to acquire a minority interest in a German company, Continental AG, through a tender offer for its stock. To finance the offer, the Schaeffler Group executed an 11 billion euro loan agreement with a consortium of banks (the “consortium loan”). Due to a confligation of factors, including but not limited to the Lehman Brothers bankruptcy and the stock market crisis, far more shareholders than anticipated (or desired) accepted the offer, making the Schaeffler Group the holder of 89.9 percent of the Continental AG shares. In so becoming the majority owner, the Schaeffler Group’s solvency and its wherewithal to make payments under the consortium loan was in immediate jeopardy. Because Mr. Schaeffler was the 80 percent owner of the ultimate parent of the Schaeffler Group, the tax consequences of refinancing and restructuring the consortium loan impacted his personal tax liability. Anticipating a likely audit and tax litigation, the Schaeffler Group, its related entities and Mr. Schaeffler (the “Schaeffler Affiliates”) hired Ernst & Young to assist. Documents prepared by Ernst & Young were shared with the consortium loan lenders in considering and drafting the debt-restructuring documents.
As anticipated, the Internal Revenue Service (IRS) instituted an audit against the Schaeffler Affiliates. The IRS issued a summons seeking “all documents created by Ernst & Young, including but not limited to legal opinions, analysis and appraisals, that were provided to [the Schaeffler Affiliates]” that related to the debt restructuring. The Schaeffler Affiliates sought to quash the demand for legal opinions (e.g., legal memoranda prepared by Ernst & Young that identified potential tax consequences, analysis thereof and strategy related thereto).
The Southern District of New York denied the petition to quash, holding that the Schaeffler Affiliates had waived their attorney/client privilege by sharing the information with the consortium lenders even though the district court noted that the Schaeffler Affiliates and consortium lenders worked closely with Ernst & Young on the restructure and issues related thereto — including the tax issues. The district court held that the “common legal interest” exception to the waiver by third-party disclosure rule did not apply because the consortium lenders did not have any “legal stake” and would not be a co-defendant in any litigation. The district court appeared to draw a distinction between common legal interest and common economic interest. With regard to the work-product doctrine, the district court held that Ernst & Young would have neither acted differently nor produced the document in different form irrespective of whether or not it knew that no audit nor litigation would ensue. On that basis, the documents were not found to be protected.
On appeal, the Second Circuit noted the attorney/client privilege is generally waived by the disclosure of the communication to a third party absent the existence of a “common legal enterprise.”[2] Disclosures remain privileged where “a joint defense effort or strategy has been decided upon and undertaken by the parties and their respective legal counsel.”[3] The Second Circuit found that the dispositive issue was whether the consortium lender’s common interest with the Schaeffler Affiliates was of a sufficient legal character to prevent waiver by the sharing of those communications. The Second Circuit held the common interest to be sufficient based on the strong common interest in the outcome of the litigation with the IRS.
The Second Circuit also held that the agreements entered into between the consortium lenders and the Schaeffler Affiliates were replete with examples that reflected a common legal strategy in conjunction with the debt refinancing. The parties also intended for the documents to be kept confidential as evidenced by an “Attorney Client Privilege Agreement” between the consortium lenders and the Schaeffler Affiliates. Interestingly, the Second Circuit noted that a confidentiality agreement is not binding on the court but is relevant to the issue of whether or not the information was disclosed to anyone else. In short, the Second Circuit held that “a financial interest shared with another party where the legal aspects materially affect the financial interests” is sufficient to preserve the privilege.
With regard to the application of the work-product doctrine, the court noted that United States v. Adlman[4] provided a continuum of examples to determine whether documents are “prepared in anticipation of litigation” or simply prepared in the ordinary course. Adlman was noted by the court as supporting the idea that the work-product doctrine is inapplicable only if litigation is not expected (e.g., supporting records collected and created in the ordinary course to prepare federal tax returns). The Second Circuit held that the legal tax memorandum prepared by Ernst & Young was altogether different in terms of the level of detail and litigation-focused analysis. The court did not believe that the Schaeffler Affiliates would have required the same level of detail for a routine tax filing. The court found the Ernst & Young memorandum contained legal analysis, litigation strategy and the appraisal of the likelihood of success that fell “squarely” within Hickman v. Taylor.[5] Moreover, the Second Circuit seemed wary of the district court’s decision because it appeared to “imply that tax analyses and opinions created in large, complex transactions with uncertain tax consequences can never have work-product protection from IRS subpoenas.”
Schaeffler highlights that shared communications can open parties to a common enterprise to privilege waiver arguments. However, common-interest privilege agreements, while not binding on a court, may add to a court’s overall consideration of whether the waiver of attorney/client and work product was intended by the parties or is appropriate. Identifying both the economic and legal interests at stake among parties involved in common enterprises may be accomplished by directing the court’s attention to both the financial implications of the circumstances as well as the legal documentation crafted to address those circumstances.
[1] 806 F.3d 34 (2d Cir. N.Y. 2015).
[2] United States v. Schwimmer, 892 F.2d 237 (2d. Cir. 1989).
[3] Id. at 243.
[4] 134 F.3d 1194 (2d Cir. 1998).
[5] 329 U.S. 495 (1947).