Transacting parties beware—in New York, unlike some other jurisdictions, sharing legal analysis between transacting parties results in the loss of the attorney-client privilege by each party so sharing as of the time of the sharing, even though the transaction subsequently closes and the acquiring party inherits the privilege (unless you can show that the sharing was in anticipation of litigation in which the parties shared a common interest).

If an attorney renders legal advice to his or her own client in connection with a deal, that advice is protected from discovery by one of the most ancient of the recognized evidentiary privileges—the attorney-client privilege. And that protection exists whether or not the advice that was provided to the attorney’s client was solicited or given in connection with or in anticipation of litigation. Instead, the only test for determining whether confidential communications between an attorney and his or her client are privileged is whether the communications were “made for the purpose of obtaining or facilitating legal advice in the course of a professional relationship.” That cherished and well-recognized privilege can be waived, however, if an otherwise privileged communication is “made in the presence of third parties,” or the otherwise privileged communication is “subsequently revealed to a third party.”

The “waiver by sharing with a third party” rule is subject to some practical exceptions, however, including joint representation of multiple clients by the same attorney, and the use of agents or employees to enable the attorney to render legal advice to the client. There has also long been an exception that allowed multiple lawyers that each represented separate clients as co-defendants or co-plaintiffs in litigation matters “to share confidential information about [common legal] strategies without waiving the privileged as against third parties.” This was originally referred to as the “joint defense” exception, but it is also referred to as the “common interest” exception, even though the latter name suggests that the exception is larger than is in fact recognized in some courts. And it is that distinction between the actual breadth of this exception and its name that was the subject of a case recently decided by New York’s highest court, Ambac Assur. Corp. v. Countrywide Home Loans, Inc., 2016 NY Slip Op 04439 (N.Y. June 9, 2016).

Sharing confidential information regarding legal strategy respecting regulatory and other matters in the context of a merger of two companies is a common and necessary part of doing a deal. Thus, when Countrywide Financial Corporation and Bank of America Corporation entered into a Merger Agreement, dated as of January 11, 2008, they each exchanged information with their attorneys and their attorneys each exchanged information with each other that “pertained to a number of legal issues the two companies needed to resolve jointly in anticipation of the merger closing, such as filing disclosures, securing regulatory approvals, reviewing contractual obligations to third parties, maintaining employee benefit plans and obtaining legal advice on state and federal tax consequences.” But when a lawsuit was filed by a third party to that merger, after the merger closed, naming Bank of America as Countrywide’s successor in interest and alleging that Bank of America was responsible for Countrywide’s alleged fraud in connection with the sale of residential mortgaged-back securities, this exchange of information between the pre-merger parties that might have otherwise been privileged with respect to the individual merger parties and their separate counsel (if not so exchanged), became the subject of a discovery dispute.

According to the New York Court of Appeals, “[a]lthough the parties were represented by separate counsel, the merger agreement directed them to share privileged information related to these pre-closing legal issues and purported to protect the information from outside disclosure.” Pursuant to a common interpretation of the “common interest” privilege, therefore, “Bank of America argued that the merger agreement evidenced the parties’ shared legal interest in the merger’s ‘successful completion’ as well as their commitment to confidentiality, and therefore shielded the relevant communications from discovery.” Indeed, several state and federal courts have recognized the “common interest” privilege as having exactly this breadth. And the lower New York appeals court also agreed that the common interest privilege in New York should not be limited to communications that involved anticipated or pending litigation. Indeed, the lower appellate court decision had specifically noted that its decision had been “guided by Delaware’s approach to the common-interest privilege.” According to the lower appeals court decision, “Delaware recognizes that disclosure may be confidential even when made between lawyers representing different clients if those clients have a common interest—that is, an interest that is ‘so parallel and non-adverse that, at least with respect to the transaction involved, [they] may be regarded as acting as joint venturers.’”

But the New York Court of Appeals disagreed, holding that in New York, in order to avoid a waiver of the attorney-client privilege through the sharing of privileged information between parties that have a common legal interest, the sharing of information must be in connection with pending or reasonably anticipated litigation. Indeed, the Court of Appeals made clear that the so-called “common interest privilege” is really not a privilege at all; instead it is a very limited exception to the “waiver by sharing with a third party” rule that would otherwise cause a loss of the attorney-client privilege. As a result of this decision, the discovery dispute will now center on whether each of the withheld communications can be determined to have been in contemplation of litigation as opposed to simply in contemplation of the closing of a transaction involving shared interests and benefits to both parties.

There was a strong dissenting opinion that would have held that the common interest “privilege should extend to confidential communications between separately represented parties, in which they have a common legal interest in a transaction, not involving pending or reasonably anticipated litigation.” The dissenting opinion noted, appropriately, that:

The attorney-client privilege is a long-standing exception to the general rule promoting discovery as part of the truth-finding process, and one tolerated because it serves the individual and societal goals of furthering the proper administration of justice by encouraging the free flow of information essential to legal representation. It has never been limited to client communications involving pending or anticipated litigation. Even so, the privilege is deemed waived where a client shares information with a third party, under circumstances that reflect the client’s disinterest in the continued protection of the confidences. However, where parties to a merger seek to comply with legal requirements and agree to treat as confidential any exchanges of information made for purposes of seeking legal and regulatory advice to complete the merger, the parties cannot be assumed to have vitiated the private nature of the information, or to harbor an unreasonable expectation of privacy in these exchanges. Therefore, extension of the attorney-client privilege to these communications is fully in line with the goals of our common law and the needs of our complex system of commercial regulation.

But the majority was unpersuaded. According to the majority, New York’s version of the common interest exception is “limited to situations where the benefit and the necessity of shared communications are at their highest, and the potential for misuse is minimal,” i.e. where “two or more parties are engaged in or reasonably anticipate litigation in which they share a common legal interest.” Why? Because, according to the majority, it is only then that “the threat of mandatory disclosure may chill the parties’ exchange of privileged information and therefore thwart any desire to coordinate legal strategy.” The majority dismissed the idea that this same concept could apply in a merger context. According to the majority:

The same cannot be said of clients who share a common legal interest in a commercial transaction or other common problem but do not reasonably anticipate litigation. Bank of America contends that highly regulated financial institutions constantly face a threat of litigation and that the protection of their shared communications is necessary to facilitate better legal representation, ensure compliance with the law and avoid litigation. But no evidence has been presented here that privileged communication-sharing outside the context of litigation is necessary to achieve those objectives. There is no evidence, for example, that mergers, licensing agreements and other complex commercial transactions have not occurred in New York because of our State’s litigation limitation on the common interest doctrine; nor is there evidence that corporate clients will cease complying with the law. Rather, “when parties share attorney-client communication for planning purposes outside of the specter of anticipated litigation, such as when parties cooperate to strengthen or obtain patent protection . . . it is more likely that [they] would have shared information even absent the privilege” (Melanie B. Leslie, The Costs of Confidentiality and the Purpose of Privilege, 2000 Wis L Rev 31, 68 [2000]).

The merger at the heart of this dispute provides the perfect example: Bank of America and Countrywide obtained regulatory approval and filed the requisite disclosures in anticipation of a closing merger, even when New York state courts had made clear that their joint communications would not remain privileged unless they were engaged in or anticipated litigation. Put simply, when businesses share a common interest in closing a complex transaction, their shared interest in the transaction’s completion is already an adequate incentive for exchanging information necessary to achieve that end. Defendants have not presented any evidence to suggest that a corporate crisis existed in New York over the last twenty years when our courts restricted the common interest doctrine to pending or anticipated litigation, and we doubt that one will occur as a result of our decision today.

Really? Prior to this case, it was only lower court decisions that had stated this interpretation of New York’s common interest exception, and the Appellate Division in this case had specifically disagreed with those other lower appellate courts. This case raises the stakes in how to exchange information that of necessity must be exchanged in a transactional context for both parties. Here the acquirer in the merger inherited the benefits of the target’s attorney-client privilege upon the closing of the merger, but because of the pre-closing exchange of information between the target and the acquirer, the acquirer has effectively waived the privilege for the target as to the otherwise privileged communications it received pre-closing to the extent those communication cannot be traced to some anticipated litigation of common interest, even though it now is the target.

Unlike some other jurisdictions, New York has now clearly placed itself in position regarding the common interest privilege/exception, which is unsympathetic to the realities of the modern deal practice.

Okay, you say, the solution to this problem is simple. Let’s all make sure we never choose New York law to apply to our merger agreements.

Bzzzzzzt. Ohhhh … That’s wrong! But thanks for playing!

The Merger Agreement in this case was in fact governed by Delaware law. But privilege issues are not necessarily covered by standard choice of law provisions (indeed, privilege issues may be construed as procedural issues covered by the forum court’s law rather than substantive issues covered by the contractually chosen law (see this prior Weil Insights blog posting here for a discussion of that distinction)). Moreover, the party bringing the claim here was a non-party to the Merger Agreement and the plaintiff brought the claim based on events unrelated to the merger itself. So the plaintiff was not bound by the choice of law clause in any event. And even between parties to a merger agreement, what about the inclusion of so-called Xerox provisions for the benefit of the acquirer’s lenders, which mandate the application of New York law to claims involving those lenders? Moreover, the standard provision in a merger agreement, which preserves the privilege for the target shareholders rather than allowing it to pass in the merger to the surviving corporation, is not really relevant if the underlying privilege was waived by the actual sharing of the information with the other party pre-merger. Finally, the fact that there was a choice of forum provision in the Merger Agreement mandating litigation in Delaware courts regarding the Merger Agreement was likewise not relevant to a case brought in New York by a non-party to the Merger Agreement.

Despite the majority’s confidence that this will not change existing deal practice, it may well usher in a lot more caution and refusal to share information that may be privileged in the transactional context. And a lot of questions remain. For example, what constitutes “in anticipation of litigation?” What if you are jointly trying to resolve issues like successor liability from a prior divested business of the target or a tax concern from that same divestiture? If there is actual pending or anticipated litigation, but it will only impact the target and not the acquirer (except for the economic hit to the target post closing), is the sharing of information concerning that anticipated litigation involving the target within New York’s common interest exception since the acquirer has no common legal interest in the anticipated litigation otherwise? Should parties to a merger hire one joint counsel to advise on all matters that fall within the common interest—and retain separate counsel to negotiate between the two parties? These questions certainly require answers before a seller would want to share with the buyer or the buyer would want to have shared with the buyer privileged information concerning the target company in a merger context.