Monday, November 22, 2004
A recent decision by U.S. District Judge Harold Baer, Jr. on the availability of the work product protection for an internal investigation report shows the difficulty corporations face after the Sarbanes-Oxley Act and the heightened pressure on them to cooperate in government investigations. In Merrill Lynch & Co. v. Allegheny Energy Inc., No. 02 Civ. 7689 (S.D.N.Y. Oct. 26, 2004) [Westlaw citation 2004 WL 2389822], the court considered the following:
Allegheny also seeks production of two reports, which are the results of Merrill Lynch's internal investigation into the circumstances surrounding [Robert] Gordon's theft of some $43 million in connection with the Falcon Energy Trade. In the Fall of 2002, shortly after this lawsuit was filed, the United States Attorney's Office for the Southern District of New York informed Merrill Lynch that it was investigating the Falcon Energy Trade. Merrill Lynch therefore undertook its own internal investigation (conducted by and under the supervision of in-house and outside counsel), which culminated in two reports . . . .
When Merrill Lynch's internal investigation was disclosed, the company's outside auditor, Deloitte & Touche, requested and received copies of the internal report. Allegheny Energy based is discovery request for the report on the ground that disclosure to Deloitte & Touche constituted a waiver of the attorney-client privilege--which Merrill Lynch conceded--and the work product protection. The court rejected the claim, stating:
[C]ourts are split in their treatment of disclosures to a corporation's accountants or auditors. More precisely, courts differ in their conceptualization of two critical points that are often implicitly intertwined in their analysis: whether the "adversary" contemplated by the work product privilege is necessarily a litigation adversary and whether a corporation's auditor is such an adversary, to whom disclosure will waive the privilege. While admittedly there are good arguments on both sides, in this case, I answer both questions in the negative and conclude that Merrill Lynch's disclosure of the reports to Deloitte & Touche did not constitute a waiver of the applicable work product protection.
This is a close question, as Judge Baer states, and presents an issue that will be of continuing concern to corporations. The Sarbanes-Oxley Act imposes increased duties on accountants to discover and report fraud and certify that a company's internal controls are adequate to prevent misconduct. Therefore, they will demand access to internal investigative reports in order to determine the sufficiency of the company's internal controls and to assure that there is no deeper misconduct. Similarly, under the Department of Justice's Principles of Federal Prosecution of Business Organizations there is a strong incentive for corporation's to cooperate in federal criminal investigations by conducting an internal investigation and providing the results of that to the government by waiving the attorney-client privilege and work product protection. The risk of any disclosure of the internal report is the loss of any protection from discovery requests of third parties, especially in shareholder and securities lawsuits. Whether Judge Baer's opinion becomes the norm, at least with regard to providing reports to accountants, will no doubt be tested in future cases. (ph)