In a decision rejecting a nine-prong “qualified privilege” analysis as lacking predictability and as “inconsistent” with Pennsylvania privilege law, the Pennsylvania Supreme Court recently held that courts should look to the American Law Institute’s Principles of Corporate Governance (the “ALI Principles”) when analyzing attorney-client privilege issues in corporate derivative suits. Pointing to its adoption of certain ALI Principles in the seminal 1997 Cuker decision, the court directed that those principles should guide the analysis of who holds the privilege and how far the privilege extends when “arguably both the derivative plaintiffs and the current management claim to be acting on behalf of the corporation.” The decision in Pittsburgh History & Landmarks Foundation, et al. v. Arthur Ziegler Jr. et al., Nos. 53 WAP 2017, 54 WAP 2017 (Pa. Jan. 23, 2019) provides clarity and should lead to more consistency in disputes involving attorney-client privileged discovery in shareholder derivative suits. If lower courts apply the ALI Principles consistent with the Landmarks Foundation ruling, corporate management should be able to assert attorney-client privilege over a fairly broad category of communications where the corporation has elected to dismiss a pending derivative suit in accordance with the business judgment rule.
The dispute in Landmarks Foundation arose out of the reorganization of the boards of trustees of the Pittsburgh History & Landmarks Foundation (the “Foundation”) and its subsidiary corporation, Landmarks Financial Corp. (the “Corporation”). In June 2012, the Foundation’s board created a Governance Task Force to review various Foundation practices. Among the Governance Task Force’s eventual recommendations was to substantially reduce the number of seats on the boards of the Foundation and Corporation. As a result, five then-board members (“Plaintiffs”) lost their seats. Plaintiffs allege that, rather than being a legitimate business strategy, the removal was improper, ineffective, and an attempt to prevent their oversight of the Foundation’s president, whom they believed was engaging in actions that were inconsistent with the Foundation’s mission. After serving a demand on the Foundation and Corporation in accordance with standard procedures for bringing a derivative action under Pennsylvania law, Plaintiffs brought suit against the current management of the Corporation and Foundation (“Defendants”), contending that the board reduction was a scheme to eliminate supervision over the Foundation’s president, and that the resulting lack of supervision would be harmful to the Foundation and the Corporation.
After filing suit, Plaintiffs served the Defendants with requests for production seeking, among other things, legal opinions and other materials provided to or generated by the independent investigation committee formed to evaluate Plaintiffs’ pre-suit demand, as well as materials supporting Defendants’ conclusion that the suit was not warranted. Defendants refused to produce the materials based on the attorney-client privilege. Plaintiffs argued that the privilege did not apply because they could demonstrate good cause sufficient to invoke an exception to the privilege outlined in Garner v. Wolfinbarger, 430 F.2d 1093 (5th Cir. 1970). Plaintiffs further argued that the fiduciary and co-client exceptions to the attorney-client privilege applied. Defendants countered that the Garner good cause doctrine was inconsistent with Pennsylvania’s attorney-client privilege and that the other two privileges did not apply in the context of derivative litigation.
The trial court granted Plaintiffs’ motion to compel, finding that the attorney-client privilege only protected post-litigation communications between an independent committee and its counsel, and that both the fiduciary and co-client exceptions applied. The Commonwealth Court vacated the trial’s order, recognizing that the ALI Principles adopted in Cuker v. Mikalauskas 692 A.2d 1042 (Pa. 1997) controlled several issues in derivative litigation, including the attorney-client privilege. Specifically, the Commonwealth Court recognized that ALI Principle section 7.13(e) described the extent of the privilege in the derivative context, and observed that the Garner good cause analysis was described in a comment to that principle. Although the Commonwealth Court held that the fiduciary and co-client exceptions did not apply, it directed the trial court to engage in the nine-factor Garner analysis to determine the good cause exception’s applicability.
ALI Principles, not the Garner analysis, control privilege analysis in derivative context
In the majority opinion, five Pennsylvania Supreme Court justices rejected the adoption of a qualified attorney-client privilege pursuant to Garner, finding the good cause exception was “inconsistent with our prior caselaw emphasizing predictability in the application of the attorney-client privilege.” However, the majority did affirm the Commonwealth Court’s ruling in part, agreeing that the fiduciary and co-client exceptions did not apply.
In reaching its decision, the majority noted that section 7.13 was among the ALI Principles the Cuker court adopted to guide courts in derivative litigation, and which specifically addressed issues related to motions to dismiss derivative suits. Among the relevant provisions was section 7.13(a), which requires the defendant corporation to file with the court a report describing the procedures and determinations that led to the board or committee’s decision to move to dismiss the derivative suit. Section 7.13(e) mandates that in addition to that report the defendant must also provide related legal opinions reviewed by the board or committee, because the submission of the report creates a limited waiver as to those documents.1 In effect, the board or committee’s reliance on such legal opinions in reaching a conclusion as to the merit of the derivative lawsuit creates an analogue to the “advice of counsel” defense and its resulting limited privilege waiver. But section 7.13(e) explicitly states that communications “between the board or committee and its counsel with respect to the subject matter of the action,” as well as attorney work product, “do not forfeit their privileged character.” The majority also observed that the Reporter’s Note to section 7.13(e) stated that “additional discovery of the board’s or committee’s counsel is not intended,” despite the fact that providing the report “might be deemed a waiver of the privilege under traditional formulations of the privilege.” Thus, the privilege exception in the ALI Principles is a narrow one.
Further, the majority noted that while Comment (e) to section 7.13 discusses the nine-factor Garner good cause analysis, the comment did not indicate a formal adoption of the analysis. The comment focused only on two of the nine Garner factors and noted that courts applying Garner have applied the exception to permit production of materials “roughly contemporaneous with the events giving rise to the litigation” while still enforcing the privilege to shield documents related to pending derivative litigation. Accordingly, given the limited discussion of Garner, the majority found that the Cuker court’s adoption of ALI section 7.13 did not constitute an adoption of the Garner good cause analysis as well.
Nonetheless, the majority analyzed whether adopting the Garner good cause analysis would be consistent with Pennsylvania’s attorney-client privilege jurisprudence. Because the purpose of the privilege is to encourage full and frank communication between attorneys and clients, the majority observed that a privilege with unclear boundaries is “little better than no privilege at all.” Thus, predictability is essential to effectuating the purpose of the attorney-client privilege. Acknowledging the Garner analysis’ goal of providing balance where both management and plaintiffs are attempting to act on behalf of the corporation (the client, for privilege purposes), the majority ultimately found the analysis was unworkable in Pennsylvania because of its unpredictability and potential lack of consistency.
Rather than providing the requisite clarity and certainty, the majority found the Garner analysis required speculation as to how a future court will “weigh the nine subjective and amorphous factors,” which would result in management and counsel having “no meaningful way of determining whether their otherwise privileged communications would be later divulged,” thus chilling communications. The majority opined that such a scenario would lead to management operating without necessary legal guidance in “an already complicated legal environment.”
Fiduciary and co-client exceptions do not apply in this context
Finally, the majority affirmed the Commonwealth Court’s finding that Plaintiffs in a derivative suit cannot invoke the fiduciary or co-client exceptions to the attorney-client privilege. The majority noted that the Corporation and its management did not owe Plaintiffs any fiduciary duties, and that the parties could not be considered co-clients. Instead of attempting to “force the derivative fact pattern into these ill-fitting constructs,” the majority counseled that the ALI Principles, which were specifically designed for derivative litigation, should control.
Conclusion
Although different facts and circumstances affect the privilege analysis, this decision benefits corporate management and their counsel. First, the rejection of the fiduciary and co-client exceptions in the derivative context means that corporations asserting the attorney-client privilege can expect a fight on fewer fronts. Second, the majority’s clarification that the ALI Principles, rather than Garner’s nine-factor test, provide the analytical framework for attorney-client privilege application should offer increased predictability in this context and suggests substantial protection for legal communications as well as attorney work product. And, more generally, the majority’s desire to maintain consistency with the level of protection provided by the business judgment rule demonstrates the continuing central role of that powerful doctrine in Pennsylvania corporate law.
However, practitioners and management should be careful not to read the ruling too expansively; in a footnote, the majority advised that the holding “should be read against the facts and legal questions presented,” namely whether the Garner good cause analysis was appropriate where current corporate management has filed a motion to dismiss derivative litigation based upon an independent committee’s recommendation. The majority also reserved judgment for whether Garner might be applicable in other scenarios. But for corporate and management defendants in derivative lawsuits, the Landmarks Foundation decision provides increased clarity on attorney-client privilege issues.
- Section 7.13(e) states: The plaintiff’s counsel should be furnished a copy of related legal opinions received by the board or committee if any opinion is tendered to the court under § 7.13(a). Subject to that requirement, communications, both oral and written, between the board or committee and its counsel with respect to the subject matter of the action do not forfeit their privileged character, and documents, memoranda, or other material qualifying as attorney’s work product do not become subject to discovery, on the grounds that the action is derivative or that the privilege was waived by the production to the plaintiff or the filing with the court of a report, other written submission, or supporting documents pursuant to § 7.13.
Client Alert 2019-041
