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Yesterday, the SEC sued Maxim Integrated Products (and its CEO and CFO) for filing false financial information by improperly backdating options. The CEO agreed to pay $800k; the company didn’t pay a fine. Meanwhile, a second Brocade backdating case went to jury. And there’s more to report…

The following analysis is from Travis Laster: Now, there is a third important decision from Chancellor Chandler in the Maxim option backdating case: Ryan v. Gifford, C.A. No. 2213 (Nov. 30, 2007). It comes in the guise of a discovery decision, but it has major implications for special committee practice. [We have posted this opinion, as well as the other ones from this case, in our “Backdated Options” Practice Area on CompensationStandards.com.]

1. Holding: Waiver of Privilege – In the most significant of several holdings, the Chancellor ruled that a Special Committee created by the Maxim board to investigate concerns about stock option backdating waived the attorney client privilege as to all of the communications between the Special Committee and its lawyers and therefore had to produce all communications relating to the investigation and report. The waiver arose because the Special Committee and its counsel made a presentation to the full board regarding the outcome of the investigation at which the individual board members who were alleged to have been involved in the option scheme and their counsel were present.

According to the Chancellor, “The presentation of the report constitutes a waiver of privilege because the client, the Special Committee, disclosed its communications concerning the investigation and final report to third parties – the individual director defendants and [their counsel] Quinn Emmanuel – whose interests are not common with the client, precluding application of the common interest exception to protect the disclosed communications. …The Special Committee was formed to investigate wrongdoing and in response to litigation in which certain directors were named as individual defendants. This describes a relationship more akin to one adversarial in nature.” (page 7). The Court found that the waiver as to the presentation of the report was a “partial waiver” which “operates as a complete waiver for all communications regarding this subject matter.” (pages 6-7).

The Chancellor also held that in the absence of a waiver, the materials would be ordered produced under the “good cause” exception to the attorney client privilege – also known as the Garner doctrine – which can be invoked in stockholder litigation against fiduciaries.

As a result, the Chancellor ordered Maxim to produce “all communications between [Special Committee counsel] and the Special Committee and [Special Committee counsel] and Maxim.” This included all of the communications that occurred “during the course of the investigation” and during the board presentations.

The Special Committee asserted work product doctrine as to notes of witness interviews, arguing that they necessarily contained attorney mental impressions. The Chancellor ordered these documents provided to the Court for in camera inspection.

Although the application of Garner to these facts is consistent with Delaware precedent, the waiver rationale appears novel. There is considerable tension between the ruling and typical special committee practice, in which committees frequently render a final report and make a presentation to the full board. Historically such a report and presentation have not resulted in a complete privilege waiver. Instead, there has been case-by-case analysis under Zapata as to what materials a plaintiff can obtain, with special committees largely being able to maintain the attorney-client privilege. In footnote 2, the Chancellor notes that the Maxim committee was not a special litigation committee and implies that the privilege analysis might have been different for a formal SLC, citing Moore Business Forms v. Cordant Holdings Corp.

Moore Business Forms, however, contemplated a special committee that would negotiate with and oversee litigation against a major stockholder; it did not involve a traditional special litigation committee. It is thus not clear that a meaningful distinction with respect to the privilege can be drawn between formal special litigation committees and other board committees, or that Ryan‘s holding can readily be cabined from extending to other committee contexts.

2. Risk of No Privilege Going Forward – In the aftermath of Ryan, there is a significant risk that the attorney-client privilege will not be available for a special committee and its counsel when conducting an internal investigation, particularly in the area of stock option backdating, if the special committee chooses to give a report and presentation to the full board with named defendants in attendance. Excluding named defendants and their counsel from the presentation of the report would provide a basis to distinguish Ryan and avoid waiver, but such a course may not be practical. Future committees and their counsel may also attempt to document clearly that they are not intending to waive any privilege and to distinguish between the Committee’s substantive report and mid-investigation communications.

There is support in Delaware law, primarily in the takeover context, for permitting discovery into what a board was told by counsel but barring discovery into underlying lawyer communications. Given the broad waiver rationale in Ryan, it is not clear how such an approach would fare. It does seem likely, however, that future decisions will cabin the expansive scope of the waiver ruling.

3. Producing in Native File Format – In a second noteworthy holding, the Chancellor ordered Maxim to produce documents in native file format, with original metadata. This is the first Delaware Chancery opinion to address native format and metadata issues. The Chancellor held that “metadata may be especially relevant in a case such as this where the integrity of dates entered facially on documents authorizing the award of stock options is at the heart of the dispute.” (page 3). The Chancellor also noted that the Special Committee and its advisors had analyzed the metadata as part of their investigation. The opinion also addresses a handful of other issues, mainly involving discovery and claims by the company that production of certain documents would be burdensome.

Tips for 10-Ks and Proxy Statements

Getting quite a few questions from members seeking firm memos about the upcoming proxy season. In addition to our own checklist, these proxy season checklists from law firms are in the “Proxy Season” Practice Area, near the top.

In addition, I recently posted the latest annual update of Alan Kailer’s chapter regarding preparation of the executive compensation tables. And don’t forget our popular contest which has a host of 10-K tips: “The Main Event: Vote for Your Favorite Practice.”

Couple of SEC Doings

Next Tuesday, the SEC will hold an open Commission meeting to adopt its Form D and S-3 proposals, as well as approve the PCAOB’s budget and issue an oil & gas concept release.

Then, next Tursday and the following Monday, the SEC will hold IFRS roundtables. The SEC also has posted the adopting release regarding the ’34 Act registration exemption for employee options.

The Latest on Fairness Opinions

With new rules from FINRA impacting fairness opinion practices (and a host of new cases addressing management conflicts), the dynamics – and processes – of preparing fairness opinions have been changing. Join these experts tomorrow on DealLawyers.com as they explore the latest trends and developments in this webcast: “The Latest on Fairness Opinions” (print out these “Course Materials” in advance):

– Kevin Miller, Partner, Alston & Bird LLP
– Dan Schleifman, Managing Director and Chairman of the Investment Banking Committee – Advisory, Credit Suisse Securities (USA) LLC
– Ben Buettell, Managing Director and Co-Head Fairness Opinion Practice, Houlihan Lokey Howard & Zukin
– Denise Cerasani, Partner, Dewey & LeBoeuf LLP

This program will cover:

– Recently approved FINRA Rule 2290 – what impact will it have on fairness opinion practices?
– Fairness Opinions: Their Uses and Abuses – How should (and do) boards use fairness opinions?
– What are the implications of recent case law developments regarding investment banking conflicts, including the disclosure of fees (Caremark) and discovery regarding material relationships (Orstman)
– What are the latest issues raised by SEC Staff comments regarding fairness opinion disclosure

– Broc Romanek