Liabilities & Professional Responsibilities of Bond Lawyers....The "shot across the bow" for bond lawyers as to the liability potential of their practice was settlement of the WPPSS

Liabilities & Professional Responsibilities of Bond Lawyers. An Overview http://www.nabl.org/library/topicalmats/alas/alasov1.html

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LIABILITIES AND

PROFESSIONAL RESPONSIBILITIESOF BOND LAWYERS:

AN OVERVIEW

ByWilliam Freivogel

Senior Vice President and Deputy Loss Prevention Counseland

Karen K. PhillipsAssociate Loss Prevention Counsel

Table of Contents

I. INTRODUCTION 1

II. GLOSSARY 2

III. THE DISHONEST OR INCOMPETENT PARTICIPANT 3

A. The Bond Claims Involving Allegations of Client Misconduct 3

B. Other Forms of Wrongdoing 7

C. The Whistle-Blowing Issue 7

D.Who Is the Client? 8

E. The Lessons 8

IV. CONFLICTS OF INTEREST 9

A. The Conflict of Interest Claims 9

B. Resources on Conflicts of Interest 11

C. The Ethics Opinions 12

D. The Lessons 13

V. ENGAGEMENT LETTERS 14

VI. CLEANING UP THE MESS:CAN YOU DO IT? 14

APPENDIX A 16

Lawyer Liability in Large Firm Real Estate Practice 16

APPENDIX B 20

Selected Conflict of Interest Issues of Relevance to Bond Lawyers 20

B.1. Consequences of Conflicts 20

a. Disqualification 20

i. Motions to Disqualify 20

ii. Standing of Non-Client to Seek Disqualification 20

b. Malpractice 22

c. Disgorgement of Fees 24

d. Other Consequences 24

B.2. Representing Adverse Parties in Unrelated Matters 26

a. Suing a Current Client 26

b. The Validity of Advance Consent 26

B.3. Lawyer as Intermediary—Joint Confidences Problem 32

B.4. Partnership Issues 34

a. Limited Partnerships 34

i When is the Lawyer for a Limited Partnership Deemed to be theLawyer for Limited Partners of that Partnership? 34


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ii. When Is a Lawyer Who Is Directly Adverse to a Limited PartnershipDeemed to be Directly Adverse to Limited Partners of the Partnership? 37

b. General Partnerships 38

B.5. Conflicts Issues Peculiar to Close Corporations 40

a. Introduction 40

b. Lawyer’s Duties to Shareholders 40

i. The malpractice cases 40

ii. The disqualification cases 41

iii. The disciplinary cases 43

c. When is a Lawyer Who is Directly Adverse to a Close CorporationDeemed to be Directly Adverse to Its Shareholders? 43

d. Lawyers’ Duties to Officers and Directors 43

e. Corporate Organizers as "Former Clients" 44

f. Sale of a Business 45

B.6. Duties to Directors, Officers and Employees of CorporateClient 46

B.7. State Governments 47

APPENDIX C 49

Ethics Rules on Client Confidences 49

APPENDIX D 61

Lawyer Liability in Financial Institutions Practice 61

APPENDIX E 64

Reported Decisions and Ethics Opinions Involving Bond LawyerLiabilities and Professional Responsibilities 64

APPENDIX F 69

Litigating Matters Arising from Your Firm’s Transaction Work 69

APPENDIX G 72

Bibliography 72

Attorneys’ Liability Assurance Society

I. INTRODUCTION.

The "shot across the bow" for bond lawyers as to the liability potential of their practice was settlement of the WPPSS litigation in1987-88. One law firm, a bond law boutique in New York City, paid $500,000; it had no malpractice insurance. A Seattle law firmthat did have insurance paid $7.25 million. The Bond Buyer, September 8, 1992.

The mounting litigation against bond lawyers has, since the WPPSS settlements, taken a direction not suggested by those cases.The WPPSS cases concerned allegedly incorrect legal opinions (see the cases numbered 9 and 10 in Appendix E immediatelyfollowing this paper). While allegedly defective legal opinions and other acts of alleged negligence continue to form the basis forcases against bond lawyers, the most serious trends track two major causes of losses in the transactional practice generally: thedishonest client, and conflicts of interest. Those are the two areas that we will emphasis in the following materials. What we willnot discuss is a third area that also accounts for some loss - simple negligence. The reason we will not discuss simple mistakes isthat most bond lawyers are members of the National Association of Bond Lawyers ("NABL"), and a significant number of thoselawyers are active in, or attend, NABL functions. Our experience is that NABL is virtually unequaled in the quality of itseducational programs. We could add little to that effort. Moreover, the causes of loss from simple mistakes follow no pattern. Wewould not know how best to spend our time (and your time) in discussing them.

As Loss Prevention Counsel for the Attorneys’ Liability Assurance Society ("ALAS"), we counsel our Member Firms on a dailybasis. We read all available literature on the causes of claims against lawyers. By far, the most valuable resource we have is theability to study the claims themselves - both against ALAS Member Firms and against other law firms. We believe the summariesof claims against bond lawyers that appear throughout this paper to be the most instructive materials available.

A special word about the claim descriptions that follow. With a few prominent exceptions we have not identified which do, andwhich do not, involve ALAS Member Firms. Many of the facts have been changed to hinder identification of the firms involved. Allthe information was gleaned from press accounts or from publicly filed court pleadings. And, importantly, we express no view asto the merits of any claim. Indeed, in most cases we believe the claim was unfounded and involved overreaching plaintiffs’lawyers, or overworked judges who too frequently cannot or will not grant summary relief where it is warranted.


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Immediately following this Introduction is a Glossary of many of the terms and publications that we mention later in this paperand in the Appendices. The Appendices contain a number of relevant parts of ALAS publications. We will explain that relevance atthe appropriate places that follow.

II. GLOSSARY.

(a) "ABA [Formal] [Informal] Opinion" means a Formal or Informal (as the case may be) Opinion of the American Bar AssociationStanding Committee on Ethics and Professional Responsibility.

(b) "ABA Task Force" means the Conflicts of Interest Task Force of the American Bar Association Section of Business Law. TheABA Task Force has published a memorandum and related forms at Conflicts of Interest Issues, 50 Bus. Law 1381 (1995). Thefollowing materials, where appropriate, will refer to pertinent parts of that publication.

(c) "Bond Counsel" means the lawyer who opines on the validity and tax aspects of a bond transaction.

(d) "Bond Lawyer" means bond counsel, counsel to the issuer, counsel to the conduit borrower, counsel to the underwriter,counsel to the credit enhancer, or counsel to anyone else in a tax-exempt financing.

(e) "DR" means a Disciplinary Rule of the American Bar Association Model Code of Professional Responsibility (1969).

(f) "Geo. J. Legal Ethics" means The Georgetown Journal of Legal Ethics, a quarterly publication of the Georgetown UniversityLaw Center.

(g) "Hazard and Hodes" means Hazard and Hodes, The Law of Lawyering: A Handbook on the Model Rules of ProfessionalConduct (2d ed. 1990) (including 1997 Supp.).

(h) "Journal" means the ALAS Loss Prevention Journal.

(i) "Law. Man. Prof. Conduct" means the ABA/BNA Lawyers’ Manual on Professional Conduct.

(j) "Manual" means the 1997 edition of the ALAS Loss Prevention Manual.

(k) "Model Rule(s)" means the American Bar Association Model Rules of Professional Conduct.

(l) "NABL" means the National Association of Bond Lawyers.

(m) "Participant" means bond issuer, underwriter, advisor, conduit borrower or credit enhancer.

(n) "Restatement" means The American Law Institute Restatement of the Law Governing Lawyers, the development of which isongoing. Although not final, the contents of its various drafts have been cited in numerous state and federal court opinions.

(o) "Wolfram" means Modern Legal Ethics (1986), authored by Professor Charles W. Wolfram of Cornell Law School. (ProfessorWolfram is preparing a second edition for publication in 1997 or 1998.)

III. THE DISHONEST OR INCOMPETENT PARTICIPANT.

The claims summaries that follow will be the most eloquent statement of what can happen to counsel when a participant behavesinappropriately. First, some relevant data: since we have been keeping track, about twenty-five cases against law firms havebeen settled for $20 million or more each. Of those cases, at least twenty contained allegations of client dishonesty. In a numberof those cases the client went to jail.

Next, we refer you to Brian Redding’s article that appeared in the May 1996 Journal. Relevant parts of it appear at Appendix Afollowing. It deals with lawyer liability in the real estate practice. All of the concepts he discusses in the article are equallyapplicable to the bond practice. Note particularly his discussion of dishonest clients in the "Aiding and Abetting" section.

A. The Bond Claims Involving Allegations of Client Misconduct.

By far the largest group of bond claims ALAS has received involve allegedly dishonest participants. In other words, the claimalleges that one or more participants fraudulently misrepresented or failed to disclose material facts in connection with the bondissue, and that one or more law firms aided and abetted, or otherwise assisted, that conduct. More than 90% of all bond claimsreceived by ALAS include this type of allegation. Frequently, it is alleged that the misrepresentation or omission was made in theofficial disclosure statement accompanying the issue. But we have also seen claims alleging that the misrepresentation was madein other marketing documents or even orally over the telephone.

Case 1: Several county government agencies issued $100 million in mortgage revenue bonds to finance the construction of fiveprivate prisons. The law firm represented the underwriter in connection with the issue. A year after the prisons were constructed,all except one remained empty. The state subsequently condemned the facilities and purchased them at less than half of theirbond value.

The municipal bond funds that purchased the bonds sued the developer and the law firm. The suit alleged that the law firm hadsent a letter to prospective investors that falsely assured them that a ready market existed for the prisons. The suit also allegedthat the official statement contained material omissions and misrepresentations. Specifically, the plaintiffs claimed that the officialstatement failed to mention that the developer had numerous unsatisfied judgments against it, including a judgment fordefrauding an investor. Further, the plaintiffs alleged that the prisons failed to comply with fundamental requirements formaximum security prisons. Allegedly, one of the partners in the law firm was aware of a court order that imposed requirementsth t ld l d f th i b t f th i t t k t b t th t f il d t d i th l i tiff f th


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that would preclude use of the prisons by most of their target market, but the partner failed to advise the plaintiffs of thoserequirements.

At trial, the jury found against the law firm and indicated that damages ranged from $20 million to $70 million. The case wasthereafter settled for an amount in the millions of dollars.

Case 2: In the mid-1980's, various landowners in a planned development area realized that for their planned development to besuccessful, there would have to be major improvements in transportation access to the area. Thus, they organized a PublicImprovement Corporation (the "PIC") to fund the construction of a thirty-mile roadway linking their planned development to amajor metropolitan area.

In 1986, the PIC issued nearly $100 million in tax free municipal bonds for the purpose of constructing the roadway. In 1987, thePIC refinanced the 1986 bonds by a second bond issue. The bond documents obligated borrowers to repay the bonds fromassessments levied against their property and created liens on their land. The bond liens contained a reallocation clause whichrequired unpaid amounts due from defaulting property owners to be reallocated to non-defaulting property owners. The law firmacted as bond counsel, counsel for the developer, counsel for the property owners’ association, and counsel for certainlandowners.

Certain owners of the property encumbered by the liens sued the law firm, as well as others, claiming that the firm failed todisclose to them the existence of or explain the effect of the reallocation clause. They further alleged that the law firm did notadvise them they needed a legal opinion on the financial documents until one day before closing, so that they were forced to hirethat firm. Finally, the plaintiffs alleged that the law firm had an attorney-client relationship with each of the landowners who weremembers of the property association, because the firm had represented the association. The complaint stated that as a result ofthis conduct, defendants were liable for negligent misrepresentation, fraudulent concealment, securities violations, and RICOviolations.

The complaint sought damages for the decline in the value of plaintiffs’ land due to the increased assessments. This case wasultimately settled for more than $5 million.

Case 3: A law firm served as bond counsel for a bond issue that was part of twenty-one separate bond issues generated bypublic agencies and municipalities over a five-year period for the purpose of acquiring nursing home facilities. The purchasers ofthe bonds sued all counsel, including the law firm in question, as well as the promoters, the underwriters, the underwriters’counsel, and the accounting firm alleging that the bonds were issued as part of an elaborate Ponzi scheme. The complaint allegedthat the Ponzi scheme generated large fees for the defendants in violation of securities fraud, mail fraud, wire fraud and civilracketeering laws. The complaint sought damages of nearly $100 million, which was the amount plaintiffs had paid for the bonds.

Specifically, the claim against the law firm in question alleged that the firm had reviewed the disclosure documents that omittedcertain material facts: 1) the funds from the various bond issues could be commingled as part of the alleged Ponzi scheme; 2)prior projects were not meeting the feasibility studies’ projections; and 3) certain adverse information regarding the promoters’backgrounds. Allegedly, funds from the projects were commingled to cover cash flow problems and working capital shortagesrelative to one project with funds from another.

The defendants in total settled for approximately $20 million, although the law firm in question was responsible for only a smallportion of that settlement.

Case 4: A city issued $335 million of revenue bonds to finance a plant for handling solid waste. Bond counsel issued an opinionthat the bonds were tax exempt and not arbitrage bonds. Several years later the IRS demanded that the city rebate arbitrageprofits of $30 million or the bonds would no longer be tax exempt. A class action complaint was filed against bond counsel andothers involved with the bond issue alleging that the re-marketing memo issued when the bonds were re-marketed containedmisrepresentations and omissions of material facts. The complaint asserts that the memo failed to disclose: 1) that if the bondswere not properly offered and sold prior to the deadline, their tax status would be doubtful; and 2) that there were substantialquestions regarding the economic feasibility of the plant. The case is pending.

Case 5: Bond counsel also acted as special tax counsel in connection with the issuance of multi-family housing mortgage bonds.Sometime after the issuance, the IRS advised the issuer that the bonds were not tax exempt. The issuer then sued bond counselalleging that the firm failed to report certain facts when the bonds were re-marketed and seeking a declaration that if the bondsare held to be taxable, the defendants be obligated for any deficiency on the bonds. A partner in the firm has pled guilty to afelony, admitting he failed to report certain facts with respect to the bond issue. The case is pending.

Case 6: A water and sanitation district defaulted on certain municipal bonds it had issued. The bondholders sued the underwriter.The underwriter cross claimed against bond counsel, alleging that the official statement contained material misrepresentations.The case is pending.

Case 7: A law firm was counsel to an operating authority involved in a $5 million industrial development bond issue to finance awaste disposal facility. The project was never completed. The claim against the law firm relates to alleged misrepresentations inthe offering materials concerning the viability of the technology and the tax status of the bonds.

Case 8: This potential suit involves securities that were certificates of participation in sublease payments to be made by a city toa bank as trustee for the bondholders. Bond counsel also acted as counsel to the underwriter. A developer leased the land andthen subleased it to the city. Ultimately city officials reneged and refused to levy taxes necessary to cover the lease payments,and a shortfall in those payments resulted. So far, the bank has sued the city; the bondholders have sued the city and the bank.

Case 9: The plaintiffs in this pending case purchased securities in the form of certificates of participation that assigned to themthe right to receive payments on a lease for a community college. The plaintiffs sued bond counsel and others allegingdefendants misrepresented and failed to disclose material facts regarding the validity of the lease and the security for thepayment of principal and interest on the certificates


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payment of principal and interest on the certificates.

Case 10: This case involves a class action brought on behalf of all persons who purchased industrial revenue bonds issued tofinance a health care facility that were declared in default. The law firm in question served as counsel to the owner and asco-counsel to the authority that issued the bonds. The complaint alleges that: 1) the defendants entered into a conspiracy tofraudulently induce the plaintiff class to purchase the bonds; 2) the prospectus contained material misrepresentations andomissions regarding the economic viability of the facility; and 3) the law firm gave a false opinion that the prospectus wasaccurate. The case against the law firm was settled for approximately $2 million.

Case 11 - Orange County: This is such an important matter and has received so much publicity, we will not attempt to disguiseit. In 1994, Orange County, California filed for Chapter 9 bankruptcy protection—the largest municipal bankruptcy in history. Notlong afterwards, Orange County sued its brokerage firm, Merrill, Lynch & Co., Inc. and its outside auditor, KPMG Peat Marwick.

In June 1996 the County added its lawyers to the list of those it seeks to hold responsible for its financial debacle. It sued itsoutside law firm alleging there was a "pervasive and systemic failure" to protect the County from a risky investment strategy.The complaint seeks more than $500 million in damages against the law firm. The firm served as bond counsel for $1.3 billion inbond sales for Orange County for approximately half a year in 1994.

The complaint centers around allegations that it was the role of counsel to structure the County’s internal financingarrangements. It alleges that the law firm provided incompetent services and false and misleading information to the County inconnection with its function as bond counsel. In particular, the complaint alleges that the law firm knew that the CountyTreasurer was engaging in financial transactions that could cause the County catastrophic losses, but the firm failed to disclosethis risk to the County Board. Because of the misconduct of County officials, the County purportedly incurred large and high-riskobligations that it could not discharge that resulted in losses of approximately $1.8 billion in the market value of its investmentportfolio. The County alleges that the law firm is responsible for $500 million of this loss.

The defendant law firm is not an ALAS Member. Nevertheless, Orange County’s complaint contains a number of allegations, eachof which, standing alone, could only be characterized as our worst nightmare:

1. Orange County seeks certification of a class of the law firm partners as defendants, "[i]n order for a judgment to be executedagainst the personal assets of the partners." Complaint, paragraph 8.

2. Paragraph 145 of the Complaint alleges that if the law firm had acted responsibly, the notes in question would never havebeen issued, and the law firm would not have been paid. Paragraph 146 goes on to allege that full disclosure would havediscredited the public officials who hired the law firm and would have reduced the likelihood that the County would have hired thefirm on future matters. Finally, paragraph 120 alleges that the the law firm partner involved contributed to the reelectioncampaign of one of these public officials.

3. At paragraph 181 of the Complaint, and at other places, the County contends that the law firm lawyers should have told theCounty Board about the officials’ misconduct. This has a disquieting resemblance to the allegations of the Resolution TrustCorporation that law firms representing failing thrifts had a duty to go above the heads of the managers who hired them andreport certain instances of alleged management misconduct to the institutions’ boards of directors. See "Preventing MalpracticeClaims in the Financial Institutions Practice," at page 9 of the September 1992 edition of the Journal.

4. The Complaint cleverly tracks the evolution of disclosure language in the various drafts of the official statements. For example,paragraph 163 says in part:

163. . . .The sentence "From time to time, the County Investment Pool has and may also enter various reverse repurchaseagreements which are essentially leverage instruments" was changed to this:

From time to time, a significant portion of these securities are pledged with respect to reverse repurchase agreements authorizedby law.

5. The Complaint includes in the body of paragraph 129 a photocopy of the lawyer’s notes of a meeting, part of which say, "Ifi[nterest] rates go up 300 bp pts [basis points] DISASTER."

B. Other Forms of Wrongdoing.

We have discussed at length alleged fraudulent nondisclosure. What about other forms of participant wrongdoing such as bidrigging, yield-burning, and kickbacks? Our experience tells us that (1) where this type of conduct appears, (2) someone claimseconomic loss in the transaction, (3) and one or more law firms were present and arguably should have known of the conduct,the law firms’ liability insurance policies will be too tempting a target for plaintiffs’ lawyers to resist. Most law firms doing bondwork have high deductibles, and the size of the transaction may exceed the firm’s coverage. Thus, even in the case of the mostgroundless of claims, the firm will spend a lot of its own money extricating itself, while along the way there will be a fear of anexcess jury verdict that some partners are simply not emotionally equipped to handle.

For example, take the IRS’ recent Rev. Proc. 96-41, dealing with yield-burning. Municipalities must make certain payments to theIRS to avoid having issues declared taxable. Are they not likely, then, to seek relief from the underwriters who overcharged themin the first place? See Wall St. J., July 25, 1996. What about the law firm for the underwriter that arguably knew about theyield-burning or had strong reason to suspect it was going on? What about counsel for the issuer who knew some underwriterswere overcharging for the securities, but failed to take steps to protect the issuer? What if the bonds are declared taxable? Willthe bondholders sit still for that, or will they go looking for deep pockets?

C. The Whistle-Blowing Issue.

The issue of when counsel may or must disclose to others a client’s plan to commit a crime or fraud is extraordinarily complex -


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principally because the states’ ethics rules are so different. Given the same set of facts, in some jurisdictions the lawyer’s lips aresealed, in other jurisdictions the lawyer is permitted (but not required) to blow the whistle, and in a few other jurisdictions thelawyer must disclose the client’s plans. To see what the state of affairs is in your jurisdiction, see the state-by-state chart thatappears at Appendix C following.

D. Who Is the Client?

This issue is, of course, important in alleged conflict of interest situations, and we will discuss it in the following section onconflicts. But it can also be important in the context of the dishonest participant. Take the following example: Underwriter asksLawyer to be bond counsel. For whatever reason, Underwriter has separate counsel, and the Issuer has separate counsel. No onediscusses with Lawyer who the Lawyer's client(s) will be. It turns out that Underwriter is engaged in a fraud, and both the Issuerand the purchasers claim they were harmed. Because Lawyer was brought into the transaction by Underwriter, everybody claimsthat Lawyer represented Underwriter and aided and abetted Underwriter's fraud. Worse yet, Issuer claims that Lawyer alsorepresented Issuer. That means, according to Issuer, that Lawyer should have disclosed to Issuer what Lawyer knew aboutUnderwriter's fraud so that Issuer could have killed the deal.

Change the facts. The public officials were engaged in a fraud, and Underwriter and purchasers are claiming they were harmed.Because Lawyer was to be paid out of the bond proceeds, everybody now claims Lawyer was representing Issuer and aided andabetted the public officials' misconduct. And, of course, Underwriter will claim that Lawyer was also representing Underwriter.That means that Lawyer had a duty to disclose early on what Lawyer knew about the public officials’ misconduct.

Recall the discussion above about disclosure of the client’s plan to commit a fraud. Whether the incipient wrongdoer is in fact aclient may be determinative as to what the lawyer’s duties of disclosure (or nondisclosure) are. Brian Redding discusses the needto identify with precision who is and who is not the client in his article at Appendix A following. We will discuss the importance ofthis in the following section on conflicts of interest.

E. The Lessons.

Know your client. If you do not trust your client to do the right thing in connection with a bond transaction, you have apotentially big problem (see Cases 1-11 above). If the client is new to you, check him/her/it out. A spotty background may notrequire you to decline the representation, but knowing about it may cause you to take special precautions during therepresentation. For example, the first time the client threatens not to make disclosures that you think are necessary, you willknow your first suspicions about the client were at least partially true and that you must "woodshed" the client into doing theright thing or withdraw before the damage is done. (This is one place where the whistle-blowing issues discussed at C. abovemay arise.) If you are a member of ALAS and want guidance on how to check out a prospective new client, go to one of the LossPrevention Partners in your firm. That person will have our Manual and other materials on new matter intake. If the two of youwant additional help, call one of us.

We believe that law firms should have vigorous new matter screening procedures requiring some sort of second-partner review ofall new clients and new matters for existing clients. This is particularly true for securities matters and other matters where otherpeoples’ money will be involved.

Identify your client. On the importance of doing that in the context of client fraud see part D immediately above. Also, see thematerials on engagement letters at Section V following.

IV. CONFLICTS OF INTEREST

This is the most rapidly growing important cause of loss to large law firms. While litigation conflicts have been a source ofproblems, the transactional practice is where the big conflict-of-interest claims and losses are occurring. We have collected atAppendix B following a wide variety of matters in which an alleged conflict of interest resulted in a huge loss. Again, see BrianRedding’s article on losses in the real estate practice at Appendix A following. Conflicts are a serious problem in that practice, andthe same principles apply to the bond practice.

A. The Conflict of Interest Claims

Case 12: American Medical Corporation ("American Medical") owns and operates for-profit hospitals. In 1990, it decided to forma new, not-for-profit company, Hospitals, Inc., to buy two of its hospitals and used an outside law firm to form Hospitals, Inc.After Hospitals, Inc. was formed, it utilized the proceeds from the sale of an issue of tax-exempt, state-insured bonds to buy thetwo hospitals from American Medical. The same firm originally engaged by American Medical to form Hospitals, Inc. representedHospitals, Inc. in connection with the bond issue and the acquisition of the two hospitals. As part of that transaction, the law firmhelped perform for Hospitals, Inc. the due diligence to determine whether the acquisition was prudent for Hospitals, Inc., and thefirm subsequently issued its routine opinion as counsel to Hospitals, Inc., the borrower, in connection with the closing of the bondissue.

Subsequently, the acquisition proved unprofitable. Hospitals, Inc. defaulted on the bonds and shortly thereafter filed forbankruptcy. The state agency insuring the bonds then sued the law firm as well as the investment banker involved in the bondissue on behalf of Hospitals, Inc. alleging, among other things, negligence and fraudulent misrepresentation and breach offiduciary duty. Notwithstanding the fact that American Medical had been represented by independent counsel prior to andthroughout the sale transaction, the suit alleged that the firm had a conflict of interest because it had originally been engaged byAmerican Medical to form Hospitals, Inc. and later represented Hospitals, Inc. in the bond-financed acquisition of two of AmericanMedical’s hospitals. The state claimed that Hospitals, Inc. had paid American Medical significantly more than the two hospitalswere actually worth. The state seeks to recover the amount the bankruptcy trustee says is the difference between the state bondguarantee and what the hospitals were actually worth—plus punitive damages. Even though discovery has subsequentlydemonstrated otherwise, the state asserts that its loan committee was reassured by the law firm that the sale was anarm’s-length transaction.


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This claim has not been resolved. Discovery by the defendant law firm indicates no basis for the state’s claims of conflict ofinterest and misuse of confidential information, but the defense and its accompanying expense and disruption continues.

Case 13: In 1990 a law firm was retained as bond counsel for a municipality that issued approximately $50 million in generalobligation, unlimited tax bonds. The law firm allegedly participated in marketing the bonds, drafting the ballot proposition,creating the bond structure, and developing the financial structure for the municipality.

The municipality sued the law firm alleging that the firm had a conflict of interest because in addition to serving as bond counsel,the firm had also served as counsel for the underwriter and for the purchaser of the bonds without the consent of themunicipality. This conflict of interest allegedly resulted in higher costs for the municipality while benefitting the underwriter andpurchaser.

The complaint also included a count alleging that the firm had misinterpreted a statute dealing with state aid. As a result of itsmisinterpretation, the law firm allegedly incorrectly advised the municipality as to the method of computing the additional statefunding that could be expected if bonds were issued to cover an existing deficit. The municipality alleged that it relied on thisadvice and included in its budget more state revenue than was actually received. The third count of the complaint alleged thefirm was negligent in drafting the ballot proposal language.

This case went to trial, and a jury found the firm negligent on all three counts of the complaint and awarded damages of severalmillion on each count. The law firm appealed. With respect to the claim alleging a conflict of interest, the appellate court orderedjudgment notwithstanding the verdict for defendant finding that the plaintiff failed to establish causation between the conflict andthe alleged harm. The court also reversed the judgments on the other two counts because the trial court failed to includestandard jury instructions regarding comparative negligence. The plaintiffs have sought leave to appeal to the state supremecourt, but the supreme court has not yet decided whether it will take the appeal.

Case 14: A law firm represented a bank that was acting as one of several corporate trustees for certain industrial revenue bondissues, the proceeds of which were used for the purchase and development of a nonprofit medical facility. A class action law suitwas filed by the bondholders against numerous defendants including the bank. The law firm represented the bank in thelitigation, which the bank settled for $1.5 million. The bank then sued the law firm alleging it had an inherent conflict of interest,in that it had represented the bank in connection with its duties as trustee to the bonds and then represented the bank in itslitigation with the bondholders. The complaint alleged that in the litigation the firm failed to advise or inaccurately advised thebank of the basis of its liability, the risk of exposure, and the law firm’s potential liability for any damages. Also, a partner of thelaw firm was to be a material witness in the litigation. In addition to the conflict of interest claims, the complaint allegedmalpractice, breach of fiduciary duty and breach of contract in connection with the law firm’s duties as counsel for the trustee tothe bonds.

The claim was settled for approximately $1.5 million.

Case 15 – Ferber: Here is one that shows how serious a conflict of interest can become, although no lawyer has apparentlybeen sued. Mark Ferber, then with Lazard Freres & Co., had a retainer agreement with Merrill Lynch that paid him $1 million peryear. At the same time Ferber was a financial adviser to several large municipal bond issuers. He steered about $12 million infees to Merrill Lynch during the period of the retainer agreement. He did not disclose the retainer agreement to his municipalclients. On August 9, 1996, in federal court in Boston, Ferber was found guilty of 58 of 61 counts of fraud and corruption. OnDecember 19, 1996, U. S. District Judge William Young sentenced Ferber to 33 months in federal prison and ordered him to pay$1 million in fines. In a separate settlement agreement with the SEC regarding related civil charges, Ferber agreed to pay anadditional penalty of $650,000 and was barred from the securities business. It is noteworthy that during Ferber’s sentencing,Judge Young lashed out against the municipal bond lawyers who worked on the deals involved, stating:

"I sat and heard the most sorrowful and evasive explications and excuses for legal advice (during the trial) in regard to [what]must be disclosed, ... If that sorry lot of municipal bond attorneys don’t understand it, let me spell it out: it is required that everypotential conflict of interest be disclosed in writing and in detail."

The Bond Buyer, December 20, 1996.

Case 2: See the description of Case 2 at Section III above. While the case involved an unworthy client, several of the allegationsdwelt upon the law firm’s multiple representation and how that allegedly contributed to the plaintiffs’ losses.

Case 11 – Orange County: The principal focus of the complaint, as described in Section III above, is the misconduct of Countyofficials, the law firm’s role in assisting that conduct, and the law firm’s failure to tell the County Board about that conduct.However, the County’s lawyers have done something that we see more and more frequently. They have pleaded that the law firmhad an economic incentive to do this—that it had a conflict of interest. First, they wanted to close the deal so that they could bepaid. Second, they did not want to be a part of exposing the corrupt officials by insisting upon full disclosure of their activities.Stated another way, the law firm wanted to continue to get business from those officials. As shown in Section B.1 of Appendix Bfollowing, concerning the consequences of conflicts, and in Brian Redding’s paper at Appendix A following, these types of conflictallegations provide a kind of color to malpractice cases that simply makes juries see red.

B. Resources on Conflicts of Interest.

We commend to anyone doing bond work the excellent 1995 NABL paper, "The Function and Professional Responsibilities of BondCounsel." Its emphasis on the need to identify who is and who is not the client and other aspects of bond lawyer conflicts is trulyuseful and timely.

We also call your attention to the following documents, which have been lifted from the 1997 ALAS Loss Prevention Manual andappear at Appendix B following:


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B.1. "Consequences of Conflicts." This section was discussed earlier in this paper.

B.2. "Representing Adverse Parties in Unrelated Matters." Increasingly, Member Firms are asking large clients on one-shottransactions to agree that the Firm may oppose the client on unrelated matters. Form language is included.

B.3. "Lawyer as Intermediary - Joint Confidences Problem." What happens when the lawyer learns something confidential fromone joint client that would be relevant to the other? This is a crucial issue in multiple representations. We state in this paper andwill urge again in the section on engagement letters that the lawyer have a written agreement of the parties on what the lawyershould, or should not, do in that situation.

B.4. & B.5. "Partnership Issues" and "Conflicts Issues Peculiar to Close Corporations." A bond transaction may involve aparticipant that is either a limited partnership or a close corporation. These two papers discuss conflicts issues that frequentlyarise with such entities.

B.6. "Duties to Directors, Officers and Employees of Corporate Client." Bond lawyers deal closely with public officials. Thesepeople may need an occasional reminder as to who is the client - particularly when what they want to do may not be in the bestinterests of their employer. See the discussions of Orange County above.

B.7. "State Governments." Can a law firm represent one branch of state government while simultaneously representing a privateclient against another branch of state government? There is very little law on this, but it may be an important subject for bondlawyers. We think those few authorities that we know of, and have cited in this paper, lead to the reasonable conclusion that alaw firm may represent one part of the state and oppose another part on unrelated matters.

C. The Ethics Opinions.

Most bond lawyers know about Iowa Supreme Court, Board of Ethics and Conduct, Formal Ethics Opinion 95-20, dated February22, 1996. It says that one lawyer in an Iowa law firm may not be "bond counsel" in a "negotiated issuer debt financing" if (a)another lawyer in the firm is currently representing the underwriter in an unrelated matter, or (b) if no one in the firm iscurrently representing the underwriter, but the underwriter is a regular client of the firm. The opinion seems to say that bondcounsel is, by definition, counsel for the issuer. It then says that the interests of the issuer and underwriter in a negotiatedtransaction are so adverse that consent will not cure the conflict. It cites only Wolfram at pages 340 and 341. It cites no court orethics opinion with a similar view of bond transactions. Wolfram does not mention bond transactions and does not cite anythinghaving to do with such transactions.

We have a problem with the Iowa opinion on two levels. First, it makes the sweeping assertion that "bond counsel" is a fortioriissuer’s counsel. Our understanding is that while that is frequently the case, it may not always be the case. The Iowa Board citesnothing for its statement.

The second problem is that we believe that the conflict ought to be consentable, even if bond counsel is also counsel for theissuer. While Wolfram recognizes that some conflicts are too basic to be consentable, he does not mention bond transactions.There is another important distinction. Iowa still has a version of the old ABA Model Code of Professional Responsibility; the Iowaopinion cites DR 5-105 of that Code. Wolfram says that Rule 1.7 of the newer ABA Model Rules of Professional Conduct, thecounterpart to DR 5-105, is, on its face, more disposed to consentability. The vast majority of states have adopted a version ofthe new Model Rules. While we do not agree with the Iowa opinion on DR 5-105, the situation in the Model Rule states should, inany event, be more favorable.

One other state ethics opinion dealing with bond transactions specifically is Oregon State Bar Association, Board of Governors,Formal Opinion 1991-37, dated July 199l. There the issue was whether a lawyer could represent both the issuer and underwriterin the same transaction. Ostensibly, the answer is "no"; however, the opinion confuses the issue by quoting from that part of DR5-105 that deals with the circumstances under which a party may consent to the conflict. Oregon’s rules, like Iowa’s, are alsobased on the old ABA Model Code. Thus, whatever, the Board meant, the rules in Model Rule states may be somewhat moreliberal - at least under Wolfram’s analysis, discussed just above.

D. The Lessons.

(Introductory Note: We are about to state some principles that are going to give some of you heartburn. It may be the nature ofthe practice in your geographical area. It may be the nature of the clients you represent or the participants that you frequentlymeet in deals. If you were to start doing everything we recommend immediately, you may alarm some people and, perhaps, losesome good clients. So, go slow if you must. But, understand how rapidly the liability atmosphere is deteriorating, and how gleefulplaintiffs’ lawyers are when they find some sort of conflict of interest in failed or distressed business transactions. At a minimum,when confronted with a multiple representation, consult with your firm’s Loss Prevention Partner, or Ethics Committee Chair, toidentify ways to minimize your exposure without alienating anyone unnecessarily.)

Principle No. 1: Identify who is, and who is not, the client in writing, and see that all participants get that writing. The offeringdocument is one good place to do this. Or, put it in the engagement letter and distribute a copy to all participants. (On that lastpoint, see the discussion of engagement letters that follows.) A widely distributed writing may prevent someone, who youthought was not a client, from claiming that you represented her/him/it and that you did not look out for their interests becauseyou were favoring some other client in the transaction. We see that claim all the time in the transactional practice - even where itwas clear that the claimant had other counsel in the transaction. If, acting as bond counsel, you do not specify any client, you willleave yourself open to the claim by any and all participants that you represented one, several, or all of them. Thus, you mayhave duties of care and disclosure duties to more participants than you realized.

Principle No. 2: If you must represent more than one participant in a transaction (and you frequently will), make full disclosure ofthe multiple representation in writing, explain the potential conflicts, and obtain the consent of each of the clients.


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Principle No. 3: In a multiple representation provide in writing what your withdrawal obligations are in the event that a conflictarises.

Principle No. 4: In a multiple representation provide in writing what happens if you gain a confidence from one client that wouldbe relevant to another. Dealing with confidences in a multiple representation has become a serious problem. The law is not clearon the lawyer’s disclosure (or non-disclosure) obligation. See the ALAS paper at Appendix B.3. following. All agree that providingthe answer up front in writing is far superior to trying to figure it out when the problem occurs.

V. ENGAGEMENT LETTERS.

A NABL committee is nearing the end of a project to furnish form engagement letters for bond transactions. An exposure draft ofone such form and annotations appeared in the June 1, 1997, issue of the NABL Quarterly Newsletter. The draft letter form ismissing provisions dealing with conflict of interest issues, including multiple representations. The committee and the NABL Boardof Directors are working together to produce those provisions. Nevertheless, what the committee and Board have done to date isexcellent.

Annotation B to the exposure draft states in part as follows:

At the time of bond counsel’s submission of the [engagement] letter to the engaging party, consideration should be given tosending a memorandum to other known parties to the transaction communicating that the Issuer is bond counsel’s client. . . .

That is very important. ALAS has had to defend numerous serious claims involving transactions in which a party claimed that thelaw firm represented it, when the law firm’s understanding was that its only client was someone else. See the references to"I-am-not-your-lawyer" letters in the article that follows at Appendix A.

VI. CLEANING UP THE MESS: CAN YOU DO IT?

ALAS’ claims are revealing a new and potentially very serious problem. Brian Redding discusses this problem in some detail in anarticle appearing below at Appendix F. It has to do with whether a law firm should handle a dispute for a client if the disputearises out of an underlying transaction that the law firm handled for that same client. If your firm is in a Model Rule state, therelevant rule is 1.7(b). In states with the older Model Code, see DR 5-101.

In the bond practice it would go something like this: Your law firm represented the issuer in a tax-exempt financing and acted asbond counsel. The firm issued a clean opinion that the bonds were tax-exempt. The IRS is conducting an audit of the transactionand has indicated that it intends to declare the bonds taxable. The IRS has offered to enter into a closing agreement with theissuer. The issuer wants to contest the determination and asks your firm to handle the dispute with the IRS.

Suppose you take on the matter, and the result is a bad one. Will the issuer turn on your law firm and claim that your firmskewed the defense to make it appear that it was the issuer’s conduct, and not the law firm’s, that resulted in the unfavorableoutcome? This is not a hypothetical risk. ALAS is defending claims like this in other transactional contexts, as this is beingwritten. At least one such case has been settled for an amount in the millions of dollars.

Do not take on a representation that arises out of an underlying transaction in which your firm participated without discussing itwith your firm’s loss prevention partner or a member of the firm’s ethics committee. As Brian Redding points out in the AppendixF article, this new representation may or may not be risky or unethical. For example, if the IRS claim arises solely out of conductof the issuer or others that occurred long after your firm’s involvement ended, the risks may, indeed, be minimal.

If, on the other hand, the IRS claim arises out of the structure of the deal, and if your firm worked closely with the issuer andunderwriter on that very structure, your loss prevention partner or ethics committee may conclude that your firm cannot handlethe subsequent matter under any circumstances.

A third result is that the question is a close one, and you should advise the client of all the issues raised by your subsequentinvolvement, and obtain the client’s informed, written consent. In some cases, it may be necessary for the client to consult withindependent counsel on the propriety of your firm’s continued involvement, before it signs such a consent.

Like most other lawyers in the firm, bond lawyers are rarely equipped to conduct this analysis by themselves. First, they may nothave adequate knowledge about how the conflict rules work. Secondly, they may lack sufficient objectivity to evaluate their ownconduct. In short, get help from those in the firm who are qualified to give it.

APPENDIX A

Lawyer Liability in Large Firm Real Estate Practice

by Brian J. Redding

[Revised from the May 1996 issue of the ALAS Loss Prevention Journal]

Introduction

In January of 1996 I spoke to a bar association committee about lawyer liability in real estate practice. In preparation for thatspeech, I reviewed all of ALAS’ real estate claims involving incurred loss (i.e., claims having amounts paid or reserved). Inaddition, two of ALAS’ claims counsel (Mark Gralen and Dan Goldman) identified for me a number of additional matters that,although not classified as "real estate" claims, nevertheless involved lawyering related to a real estate project. When theseadditional claims are taken into account, the total incurred loss on "real estate-related" matters jumps dramatically from below$50 million to substantially more than $100 million. If "real estate" is defined to include all representations related to real estate,it is my opinion that large law firm real estate practice which often involves representation of developers and creation of


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it is my opinion that large law firm real estate practice, which often involves representation of developers and creation ofinvestment vehicles, including limited partnerships, is a practice area carrying significant malpractice risks. Those risks, whilevaried, fall into several categories, which are discussed below.

Aiding and Abetting

We have discussed previously in this Journal what I have dubbed the "Model Big Money ALAS Case"—i.e., a recurring factualscenario that characterizes many of the claims that result in substantial incurred loss to ALAS. See, e.g., the September 1993issue of this Journal, p. 8. This model case involves a business transaction in which the ALAS lawyer represents one of the partiesto the transaction. The client is sued for wrongdoing—fraud, misrepresentation, breach of fiduciary obligation, etc. The lawyer isthen sued for "aiding and abetting" the client’s wrongdoing—i.e., she papered the deal and did not disclose the client’s allegedmisconduct. This "Model Big Money ALAS Case" comes in many forms—securities transactions, loan transactions, sale ofbusiness, purchase of business, asset transfers, etc. One of the most frequent settings for this type of claim, however, is themajor real estate transaction. Real estate developments frequently involve big-money, high-risk transactions undertaken byhigh-flying entrepreneurs, not given to crossing the t’s on disclosure and other legal niceties. That is, as a group real estateentrepreneurs contain more than their fair share of "unworthy clients," to use a phrase coined by one of my colleagues.

Obviously, ALAS firms can’t cease doing real estate work, just because some developers are high-risk clients. ALAS firms can,however, recognize the kind of risks raised by representation of such clients, and subject them to closer than normal scrutiny inthe new business intake process. They can also educate young lawyers about the risks associated with this type of representationand encourage all firm lawyers to be sensitive to red flags—possible indicators of improper disclosure or similar clientwrongdoing.

Conflicts of Interest

In recent years, the severity of many of ALAS’ big money claims has been exacerbated by conflict of interest problems. That hasbeen particularly true of our significant real estate-related claims. Frequently, in a real estate transaction an ALAS lawyer servestwo functions. First, she represents a party to the transaction. In that capacity, she lawyers in favor of her client, and againstothers in the transaction. In drafting the agreements governing the deal she attempts to advantage her client, thereby potentiallycausing disadvantage to others. Often, however, she does more. Frequently, the ALAS lawyer is the most experienced, or bestknown, lawyer in the deal, or comes from the best known firm. Sometimes, she represents the deepest pocket client, as well.Those factors lead to the ALAS lawyer being asked to take on lawyering tasks that benefit the group, as a whole. If the dealcraters, and others suffer serious economic harm, such activities can lead to a claim that the ALAS lawyer was a "lawyer for thedeal"—i.e., she represented all, or at least many, of the participants, and in doing so violated the conflict of interest provisions ofthe applicable rules of professional conduct. Often, there is no letter defining precisely what entity the lawyer represents. Inmany cases, an "I’m not your lawyer" letter written to others in the transaction would have greatly aided the defense of themalpractice claim.

Another conflict problem that sometimes causes claims is the situation where a lawyer represents A in a real estate transactionwith B, when B is a significant client of the firm on other matters. After A suffers what it believes is economic harm, it files amalpractice suit alleging that its law firm had a conflict of interest (e.g., under Model Rule 1.7(b)) that caused it to "pull itspunches" in structuring the deal. Sometimes our lawyer has made oral disclosures, and obtained oral consent to therepresentation. However, a dispute arises as to what was said, and the adequacy of the conflicts waiver required by the ethicsrules. The lack of written disclosure and waivers, again, makes defense of the malpractice claim far more difficult than it mightotherwise have been.

We’ll repeat here the conflict of interest advice we’ve historically given on this subject (see the September 1994 issue of thisJournal, p. 3, for a somewhat more extensive discussion of this subject).

1. At the outset of a representation, force yourself to decide precisely which client(s) you will represent in the transaction. If thatdiscussion requires waivers, get them in writing. Consult your firm’s ethics committee or loss prevention partner as to the form ofthe necessary disclosure and consent.

2. Tell everyone in sight (not just your "client"). That is, advise all participants in the transaction, so that others that you don’tbelieve are your clients cannot claim that they relied on you to represent their interests. (For a form of "I’m not your lawyer"letter in a real estate context, see Tab III.A., p. 53 of the 1997 ALAS Loss Prevention Manual.)

3. Explain to everyone what your role means—e.g., that non-clients can’t rely on you to protect their interests in preparing draftsof documents, and, if they want legal representation, they will have to obtain it from another law firm. If you are going torepresent multiple clients, treat the representation as a joint representation controlled by Model Rule 2.2 (whether or not youhave that rule in your jurisdiction). That is, make clear to your multiple clients that if a conflict develops between them and theycan’t resolve it, you’ll have to withdraw. Also, deal expressly in your agreement with the sharing of material confidentialinformation. I suggest you agree that all material information, from whatever source, will be shared with all of the joint clients.

4. Put it in writing!

4 (a). Put it in writing!

4 (b). Put it in writing!

If it’s not in writing, the agreement is potentially subject to the kind of factual dispute that precludes summary judgment. Havingthe agreement in writing is no guarantee of summary judgment, but you’re far better off than with an oral agreement.

Unless you have spent the time looking at malpractice claims that those of us at ALAS have, it is difficult to appreciate howsignificant conflicts of interest are, in terms of the hierarchy of malpractice problems facing large law firms. I believe thatconflicts rate right at the top of the list, and that the only way to deal with them is careful scrutiny of the problem, particularly


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g p , y y y p , p y(but not exclusively) at the client intake stage. That is particularly true in real estate deals, which often involve transactionsbetween persons or entities that have worked together before and have previous relationships with your firm.

Investing in Client’s Deals

In the early 1990s ALAS’ Loss Prevention Counsel wrote and spoke frequently about the dangers of client-related entrepreneurialactivities, including investing in clients’ deals. (See the September 1993 issue of this Journal, p. 8). In recent years I, at least,have failed to emphasize that message to the extent I had previously. This year, I’ve turned up the volume on that message, inpart because we’ve seen recently a number of troublesome claims involving this kind of activity. Several of those claims involvelawyers investing in real estate deals with a client. Part of the problem is that lawyers who engage in business dealings withclients frequently fail to "dot the i’s" on compliance with the ethics rules, e.g., Model Rule 1.8(a).

Model Rule 1.8(a) prohibits a lawyer from entering into a business transaction with a client unless the terms are "fair andreasonable" to the client, are fully disclosed and transmitted "in writing" to the client in a "manner which can be reasonablyunderstood by the client," and the client "consents in writing." Caution dictates that the lawyer also explain in the waiver letterany respect in which the lawyer’s interest may differ from the client’s interest.

ALAS has long advised that ALAS Members adopt a policy requiring that any investment in a client’s deal be approved by thefirm’s management committee. I have often suggested that, in addition, a member of the firm’s ethics committee (or the firm’sloss prevention partner) be required to approve the form of the "1.8 letter." My experience has been that if the ethics committeedoesn’t draft the Rule 1.8 letter, it frequently won’t pass muster, if scrutinized by an unforgiving judge or ethics committee. See,e.g., Avianca, Inc. v. Harrison, 1995 U.S. App. LEXIS 30863 (D.C. Cir. 1995) (discussed in the January 1996 issue of this Journalat p. 21). In Avianca the court held that failure to comply with the literal requirements of Rule 1.8 created a rebuttablepresumption of malpractice, and the lawyer’s estate was required to disgorge to the client any profits from the transaction. UnderAvianca, and similar holdings, the plaintiff’s "expert" in the malpractice case may be allowed to pontificate from the witness standabout your violation of the ethics rules, merely because you failed to focus on the technical requirements of Rule 1.8.

[Note: For purposes of this paper, we have omitted a section of this article entitled "Garden-Variety Negligence."]

Conclusion

Large firm real estate practice presents two major risk areas. First, as in all complex areas of large firm practice, there are plentyof opportunities for garden variety errors. In large projects, the potential for serious economic harm from such errors is,obviously, significant. We can’t tell you how to prevent such errors except to suggest that the time-tested methods ofdouble-checking, supervision of associates, etc., are more important than ever.

The second area of concern, liability for alleged conflicts and aiding and abetting client wrongdoing, is essentially the sameconcern faced by many transactional lawyers. However, the speculative nature of many real estate deals, combined with thenature of the clients that are involved in real estate development and the complex and multiple groupings of entities andindividuals involved, make complex real estate work more dangerous than most practice areas, in my view. The potential for"lawyer for the deal" claims, or representations "adverse" to persons or entities that are clients of the firm on unrelated mattersis greater than in some other transactional areas. The loss prevention solutions to these problems are easy to identify, butdifficult to execute. The solutions are: 1) rigorous new business screening procedures to identify high-risk clients; and 2)effective conflict of interest handling, both at the outset of a matter, and as it develops (and new parties enter the fray or thenature of the transaction changes). Detailed discussion of these areas is beyond the purview of this article. (For an extendeddiscussion of each, see Tabs III.A. and III.B. of the 1997 ALAS Loss Prevention Manual.) Suffice it to say that any real estatelawyer who needs to brush up on these fundamental aspects of loss prevention should talk with the loss prevention partner ofher firm. That conversation will be a lot more pleasant if done now, rather than after a claim situation has arisen.

APPENDIX B

SELECTED CONFLICT OF INTEREST ISSUESOF RELEVANCE TO BOND LAWYERS

[Revised (and renumbered) from Tab III.B. of the 1997 ALAS Loss Prevention Manual]

Appendix B.1.

Consequences of Conflicts

a. Disqualification

i. Motions to Disqualify

By far the most likely result of a conflict of interest is that the lawyer involved in the conflict will be disqualified from therepresentation. It has been said that on a motion to disqualify, all doubts should be resolved in favor of disqualification. Rogers v.Pittston Co., 800 F. Supp. 350, 353 (W. D. Va. 1992), aff’d, 996 F. 2d 1212 (4th Cir. 1993). Nevertheless, in limitedcircumstances, where the conflict is brief and causes no harm, the lawyer involved might escape disqualification. See, e.g.,Research Corp. Technologies v. Hewlett-Packard Co., 936 F. Supp. 697 (D. Ariz. 1996); Am South Bank, N.A. v. Drummond, 589So. 2d 715 (Ala. 1991) (discussed in the January 1992 Journal, p. 19). Such cases, however, are few and far between and shouldnot be relied upon to ignore a conflict.

The lawyer’s personal disqualification will frequently be imputed to every member of the firm in every office of the firm unless theconflict can be cured. Unlike the broad sweep of DR5-105(D), however, Model Rule 1.10(a) causes imputed disqualification onlyin cases where the "taint" arises under one of the basic conflicts Rules—1.7, 1.8(c), 1.9 and 2.2. Restatement ß 203 is similarly

i P h th t i t t ti l ff t f th M d l R l d th R t t t i th t th ti l fi


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narrow in scope. Perhaps the most important practical effect of the Model Rules and the Restatement is that the entire law firmwill not be disqualified if one of its lawyers will be a key witness in the matter. See Model Rule 3.7.

ii. Standing of Non-Client to Seek Disqualification

Scenario:

Corporation A, a long-time client of your firm, engages in a stock purchase transaction with Corporation B. In the transaction,Corporation A purchases the stock of C, formerly a wholly-owned subsidiary of B. The sale price was based in part upon a reportby Corporation B’s investment banker D, also a client of your firm (on matters not related to this transaction). A now asks you tosue B on the theory that B failed to disclose certain material facts, which would have decreased the price of the stock, ifdisclosed. A tells you that it believes investment banker D (your client on other matters) was duped by B’s misrepresentation,just as A was, and A does not intend to name D as a defendant. However, A intends to accuse D of stupidly letting itself be usedby B as a pawn in B’s scheme.

The issue is whether your anticipated allegation that your current client, D, who is not a party to this suit and who has not soughtyour disqualification, was duped and used as an instrument of B’s fraud can be the basis of a motion by B’s counsel to disqualifyyou.

In In Re Appeal of Infotechnology, Inc. Shareholder Litigation, 582 A.2d 215 (Del. 1990) (discussed in the January 1991 Journal,p. 10), the Delaware Supreme Court, reversing the trial court, held that on those facts a non-client had no standing to raise aconflict of interest, absent a showing that the judicial proceedings had been somehow tainted by the lawyer’s conduct. In TelesatCablevision, Inc. v. Opryland USA, Inc. No. 90-137-CIV-ORL-19 (M.D. Fla. 1990) (unreported opinion), (discussed in the January1991 Journal, p. 19), the court disqualified counsel due to a conflict of interest with a third party, thus inferentially recognizingthe right of a non-client (the defendant in the litigation) to raise a disqualification issue.

These cases continue the long-standing split among the courts on this issue. A number of courts have allowed non-clients to raiseconflict of interest issues. See, e.g., Kevlik v. Goldstein, 724 F.2d 844 (1st Cir. 1984); U.S. v. Clarkson, 567 F.2d 270, 271 n. 1,(4th Cir. 1977); Brown & Williamson Tobacco Corp. v. Daniel International Corp., 563 F.2d 671 (5th Cir. 1977); In Re Gopman,531 F.2d 262, 265 (5th Cir. 1976); Planning & Control, Inc. v. MTS Group, Inc., 1992 U.S. Dist. LEXIS 3004, 1992 WL 51569(S.D.N.Y. 1992); Zarco Supply Co. v. Bonnell, 658 So. 2d 151 (Fla. App. 1995). Courts taking this position have often reasonedthat a lawyer has an obligation to bring violations of the ethics rules to the court’s attention. That argument was accepted by thetrial court in In Re Infotechnology, but rejected by the Delaware Supreme Court.

Other courts have disagreed, holding that only a client has standing to raise a conflict of interest on the part of its counsel orformer counsel. See, e.g., In Re Yarn Processing Patent Validity Litigation, 530 F.2d 83, 88-90 (5th Cir. 1976); Loew v. Graves,404 So. 2d 652, 653 (Ala. 1981); Fisher Studio v. Loew’s, Inc., 232 F.2d 199, 204 (2d Cir.), cert. denied, 352 U.S. 836 (1956);E.F. Hutton & Co. v. Brown, 305 F. Supp. 371, 377 (S.D. Tex. 1969); Morgan v. North Coast Cable Co., 63 Ohio St. 3d 156, 586N.E.2d 88 (1992); Dawson v. City of Bartlesville, 901 F. Supp. 314 (N.D. Okla. 1995).

In Seifert v. Dumatic Ind. Inc., 413 Pa. 395, 197 A.2d 454 (1964), the court in dictum in a footnote said it questioned thestanding of a non-aggrieved party to raise the issue, but then pointed out that the court could raise it sua sponte, 413 Pa. at400, 197 A.2d at 456. The court did not rule on standing because it found no conflict. Another sua sponte disqualification is atCoaker v. The Geon Co., 890 F. Supp. 693 (N.D. Ohio 1995).

A related issue is whether a firm which has been disqualified in a case has standing to appeal the disqualification in its own name.In state court the answer is probably yes. See In re Appeal of Infotechnology, 582 A. 2d 215 (Del. 1990). But see Townsend v.Townsend, 474 S.E. 2d 242 (S.C. 1996) where the court ruled that a lawyer lacked standing to move for reconsideration of hisdisqualification. Kirkland v. National Mortgage Network, Inc., 884 F.2d 1367 (11th Cir. 1989) indicates the answer is also yes infederal court. The Kirkland court reasoned that the disqualification could hang over the lawyer’s "name and career for years tocome." Id. at 1369. See also Kleiner v. First National Bank of Atlanta, 751 F.2d 1193, 1200 (11th Cir. 1985).

Neither In Re Infotechnology nor Telesat involved a current representation that was substantially related to the instant case.Rather, counsel was simply taking a current litigation posture that created potential economic or reputational harm to anon-party to the litigation, while counsel’s firm simultaneously represented that party on unrelated matters. Perhaps the mostimportant lesson from Infotechnology and Telesat is that all parties to a transaction having interests adverse to your clientshould, to the extent feasible, be put into your conflict of interest database, for purposes of conflict analysis (there is also anobvious client relations issue in these situations). It is always possible that the non-party client will seek to intervene and objectto your representation. See, e.g., Estates Theatres, Inc. v. Columbia Pictures, Inc., 345 F. Supp. 93 (S.D.N.Y. 1972). Properanalysis of the potential conflict begins with identification of the potential conflict.

b. Malpractice

Conflicts of interest affect a firm’s malpractice exposure in two ways. First, they may, if other necessary elements are present(e.g., proximate cause and damages), form the core of a malpractice case. Padco, Inc. v. Kinney & Lange, 444 N.W.2d 889(Minn. App. 1989) supports the view that the client of a disqualified firm has a cause of action against a firm that causes itself tobe disqualified if the client can show that the law firm was negligent and that damages resulted from the disqualification. Second,where the gravamen of a malpractice complaint is some other conduct (e.g., garden variety negligence), the conflict of interestoften "colors" the claim, making the defense more difficult than it would otherwise have been.

For example, if a firm were to be disqualified in the middle of protracted litigation because of a conflict of interest that the firmshould have identified, the client that is required to replace counsel in mid-stream may have a claim for damages proximatelycaused by the conflict of interest (e.g., fees paid to educate new counsel or to replace "tainted" work product). See Damron v.Herzog, 67 F.3d 211 (9th Cir. 1995) (holding under Idaho law, plaintiff stated a cause of action for malpractice based on aconflict of interest). Cf. Papanicolaou v. Chase Manhattan Bank, 720 F. Supp. 1080 (S.D.N.Y. 1989) (law firm disqualified forviolation of ethics rules after some 7 500 hours had been expended on the litigation)


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violation of ethics rules after some 7,500 hours had been expended on the litigation).

In Baldasarre v. Butler, 254 N.J. Super. 502, 604 A.2d 112 (1992), a lawyer represented both the sellers and buyer in the samereal estate transaction. When a dispute and litigation arose, the lawyer wound up with a $1.93 million judgment against him. Thecomplicated facts and procedural history in that case through the appellate court are discussed in detail at pages 16-18 in theSeptember 1992 issue of the Journal. The lawyer appealed to the New Jersey Supreme Court. Prior to oral argument in that courtthe lawyer settled with the sellers; the amount of the settlement was not made public. The appeal proceeded as to certain otherparties. Notwithstanding the absence of the lawyer from the appeal, the supreme court concluded its opinion with the admonitionthat it is never appropriate for a lawyer to represent both the seller and the buyer in the same real estate transaction, even withfull disclosure and consent, if the transaction is "complex." Baldasarre v. Butler, 132 N.J. 278, 625 A.2d 458 (1993).

Similarly, in Schlesinger v. Herzog, 672 So. 2d 701 (La. App. 1996), the Louisiana appellate court upheld a $5.5 millionmalpractice verdict against a lawyer who had represented both sides in a corporate merger and sale of assets. Although thelawyer had allegedly assured the plaintiff that if the asset deal was not consummated the merger would be unwound, thatagreement was never reduced to writing. After the asset deal fell apart, the other party refused to unwind the merger, and theinjured party successfully sued the lawyer alleging malpractice based on the lawyer’s conflict.

Similarly, if negligence is the gravamen of the complaint, expert testimony (e.g., by a law professor or retired judge) thatcounsel had a conflict of interest and violated his duties under applicable ethics rules may influence the finder of fact, particularlyon difficult issues like causation. See, e.g., Hazard, "Conflicts are Often Key in Malpractice," National Law Journal, September 10,1990, p. 13. See also, Scognamillo v. Olsen, 795 P.2d 1357 (Col. App. 1990) ("expert" testimony in malpractice case that conflictof interest by counsel prevented underlying action from settling contributed to return of $1 million malpractice verdict, whereprimary theory of liability was negligent advice re: settlement).

In Maritrans GP Inc. v. Pepper, Hamilton & Scheetz, 529 Pa. 241, 602 A.2d 1277 (1992), under its unique facts, the PennsylvaniaSupreme Court held that a law firm should be enjoined from representing business competitors. That case involved not only aclaim for injunction but a claim for damages. The cited opinion addressed only the propriety of a preliminary injunction. After theopinion came down, the parties settled the damages claim, with the law firm agreeing to pay the aggrieved client $3 million. WallSt. J., Nov. 17, 1992. See discussion of this case in the May 1992 Journal, p. 20, the January 1993 Journal, p. 11, and theSeptember 1993 Journal, p. 2 (a six-page reprint of the Maritrans article that appeared in the 1993 Annual General Meeting LossPrevention Seminar handout).

Another unreported case involved an Oklahoma law firm, which at first tried to represent one oil company, Adco Oil Co., in an oilfield division proceeding and wound up representing another oil company, Mobil Oil Corp., on the other side of the sameproceeding. Adco sued the firm, claiming it used Adco confidences in representing Mobil. After a trial the jury rendered a verdictagainst the firm totaling $120 million, the largest legal malpractice verdict ever rendered. Wall St. J., Oct. 29, 1992. Reportedlythe case was settled, based upon a pretrial "high-low" settlement agreement, for substantially less than the verdict.

ALAS’ experience has been consistent with the principles discussed above. A number of its serious claims have involved, in oneway or another, conflict of interest issues. For example, the handout materials for the 1995 Annual General Meeting relate to newclient/new matter intake issues. Pages 9-17 of those materials contain nine case studies of serious ALAS claims that related tonew matter intake. Five of the nine had serious conflict of interest allegations. Of those five, one was settled for eight figures,three were settled for seven figures, and one was settled for six figures.

A recent, but not atypical, example of what can happen to a law firm that was apparently not sensitive to conflicts principles isMilbank, Tweed, Hadley & McCloy v. Boon, 13 F.3d 537 (2d Cir. 1994). There the court upheld a jury verdict against Milbank for$2 million, in a matter where Milbank had represented a principal in the attempted purchase of certain assets. The transactionwas delayed, and Milbank later allegedly represented the principal’s agent in the purchase of the same assets, over theobjections of the principal. The facts are complex, and there were substantial disputes as to some of them; nevertheless, theSecond Circuit held that the jury could have found that Milbank breached its fiduciary duty to the principal.

A bankruptcy judge in Dallas in an unreported opinion found Akin, Gump, Strauss, Hauer & Feld liable in a conflict of interestclaim and entered judgment against the firm for $8 million ($4 million compensatory, $4 million punitive). Dallas Morning News,December 8, 1995, page 1D. According to the article, the firm will appeal this order.

In June 1994, a Fairfax County, Virginia, circuit court judge entered a $500,000 judgment against a large San Francisco-basedfirm because the firm masterminded the break-up of a closely held corporate client at the behest of one of the incorporators.Washington Post, June 13, 1994.

c. Disgorgement of Fees

Conflicts of interest have led to some substantial court-ordered fee forfeitures. In Hendry v. Pelland, 73 F.3d 397 (D.C. Cir.1996), for example, the District of Columbia Circuit Court held that disgorgement of fees was an appropriate remedy where thelawyer had violated applicable ethics rules by representing various family matters with conflicting interests in a real estatematter. The court required disgorgement even though there was no evidence the ethical violation caused any actual damage tothe client. Disgorgement of fees was also found to be appropriate without proof of causation or damages in Eriks v. Denver, 118Wash. 2d 451, 824 P.2d 1207 (1992). In Eriks, the court ruled that a lawyer who tried to represent both general partners andlimited partners in an IRS audit of their limited partnership had to return all fees plus prejudgment interest on those fees withoutregard to causation. See also Estate of Brandon v. Hedland, Fleischer, Friedman & Cooke, 902 P.2d 1299 (Alas. 1995); In re LifeIns. Trust Agreement of Seeman, 841 P.2d 403 (Colo. App. 1992); Gilchrist v. Perl, 387 N.W. 2d 412 (Minn. 1986) and additionalcases cited at Professional Liability Reporter, 310-311, October 1994.

Courts have taken various approaches in determining the amount or extent of the fee forfeiture. In Dewey v. R.J. ReynoldsTobacco Co., 109 N.J. 201, 536 A.2d 243 (1988), a law firm representing plaintiffs in substantial tobacco litigation brought in alateral lawyer who had worked on that very litigation for the law firm representing the defendants. The court found that theplaintiffs’ firm had been so careless and insensitive in failing to take any steps to protect the defendants’ confidences it ordered


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plaintiffs firm had been so careless and insensitive in failing to take any steps to protect the defendants confidences, it orderedthe firm to complete the cases and charge the plaintiffs no fees for work done after the ruling. For another approach see FinancialGeneral Bankshares, Inc. v. Metzger, 523 F. Supp. 744 (D.D.C. 1981), vac. on other grnds, 680 F. 2d 768 (D.C. Cir. 1982) wherethe court required forfeiture of fees incurred after the ethical violation occurred.

d. Other Consequences

Schwartz v. Hamblen, 276 Ill. App. 3d 1018, 659 N.E.2d 61 (1995), leave to appeal granted, 167 Ill. 2d 569, 667 N.E. 2d 1063(1996), provides an example of the extreme consequences that can result from a conflict of interest. The Schwartz court firstheld that the conflicted lawyer was disqualified. Then the court went on to hold that the lawyer’s conflict so tainted theproceeding that the client’s case had to be dismissed with prejudice. This is the only conflicts decision we know of where thelawyer’s conduct caused the client to lose her rights completely.

In Actel Corp. v. Quicklogic, 1996 U.S. Dist. LEXIS 11816, 1996 WL 297045 (N.D. Cal. 1996) the party which had opposingcounsel disqualified argued that the work product of the disqualified firm should be destroyed, that the firm should be prohibitedfrom communicating with successor counsel, and that the firm should be prohibited from giving its file to successor counsel.While the court declined to apply these harsh remedies, it did recognize that they might be appropriate under somecircumstances.

Here is a new one. Berkeley v. Home Insurance Co., 68 F.3d 1409 (D.C. Cir. 1995), was part of a morass of claims andcross-claims involving conflicts of interest and malpractice insurance coverage. The court found that the law firm had a seriousconflict of interest that was so clearly a violation of the ethics rules, that the law firm’s conduct triggered the "dishonest acts"exclusion of the lawyer’s malpractice policy. The court found that the lawyer’s conduct was "deliberately wrongful" and that thepolicy would not cover that part of an award against the lawyer predicated upon the conflict.

The bottom line on conflicts is that they have the potential to cause a firm serious problems, by causing the firm to bedisqualified from representing its client, by giving rise to a malpractice claim, by exacerbating a claim based primarily on otherconduct, by causing disgorgement of fees, by generating adverse publicity, or by impairing a firm’s relationship with one or moreof its clients. (See also Restatement ß 201, Comment f, for a discussion of the general consequences of conflicts of interest. )

Finally, it should be noted that the lawyer may be subject to several different jurisdictions’ rules of professional conduct thatcontain varied and even conflicting provisions. He may be involved in litigation, for example, in a court whose rules differ fromthose of the state in which he is licensed. Case law has failed to develop a consistent standard for determining which ethics rulesapply. The 1993 amendments to ABA Model Rule 8.5 seek to remedy this situation by specifying which jurisdiction’s rules applyto what conduct. So far though only Illinois and the District of Columbia have adopted the substance of ABA Model Rule 8.5. SeeIllinois Rule of Professional Conduct 8.5 and D.C. Rule of Professional Conduct 8.5.

Appendix B.2.

Representing Adverse Parties in Unrelated Matters

a. Suing a Current Client

The now well-settled principle that a lawyer may not sue a current client without that client’s consent, even on a completelyunrelated matter, is codified in Model Rule 1.7(a): "A lawyer shall not represent a client if the representation of that client will bedirectly adverse to another client, º." (Texas Rule 1.06—the counterpart to Model Rule 1.7—is the only one in the United States,to our knowledge, that explicitly allows a lawyer to be adverse to a current client on an unrelated matter without consent.)1

b. The Validity of Advance Consent

Scenario:

A prospective new client is a relatively large organization (e.g., a city or county government or multinational corporation) that islikely, if not certain, to create future conflicts with other existing or prospective clients. The new matter appears to be a limitedengagement without much prospect of developing an ongoing relationship. In another situation, as an accommodation to animportant existing client, a firm is asked to represent in a single matter one or more other large organizations who haveessentially the same interests in that matter as the firm’s existing client. If, as a condition to undertaking either representation,the law firm requests and the new client agrees, in advance, to simultaneous adverse representation by the firm at a later dateon unrelated matters, is that relatively broad form of advance consent enforceable?

The scenario presents a common situation faced by large firms with a diverse client base. For several years, we have suggestedthe use of specific engagement letter provisions that would permit a firm to accept future adverse representations in unrelatedmatters. Suggested draft language is included at the end of this section. See also Tab III.A., Section 7, concerning engagementletters generally.

In April 1993, the American Bar Association’s Standing Committee on Ethics and Professional Responsibility analyzed this issuefrom the perspective of the ABA Model Rules. See Formal Opinion 93-372, April 16, 1993 (Law. Man. Prof. Cond. 1001:173)which was discussed in the September 1993 Journal at p. 23.

In summary, the ABA Committee concluded that seeking prospective consent to future adverse representation was permissibleunder the Model Rules, but nevertheless expressed a "guarded view" of prospective consent. The Committee’s principal concernappeared to be the sufficiency of the disclosure necessary to establish "informed consent" by the client. As the Committee stated:

Informed consent by the client is as necessary for effectiveness of a prospective waiver as for a contemporaneous waiver, but inthe nature of things the consent is much less likely to be fully informed. Given the importance that the Model Rules place on theability of the client to appreciate the significance of the waiver that is being sought, it would be unlikely that a prospective waiver


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ability of the client to appreciate the significance of the waiver that is being sought, it would be unlikely that a prospective waiverwhich did not identify either the potential opposing party or at least a class of potentially conflicting clients would survivescrutiny. Even that information might not be enough if the nature of the likely matter and its potential effect on the client werenot also appreciated by the client at the time the prospective waiver was sought. For example, a prospective waiver from a clientbank allowing its lawyer to represent future borrowers of the bank could not reasonably be viewed as permitting the lawyer tobring a lender-liability or a RICO action against the bank, unless the prospective waiver explicitly identified such drastic claims.

The closer the lawyer who seeks a prospective waiver can get to circumstances where not only the actual adverse client but alsothe actual potential future dispute are identified, the more likely it will be that a prospective waiver is consistent with therequirement of the Model Rules that consent be attended by a consultation that communicates "information reasonably sufficientto permit the client to appreciate the significance of the matter in question." Model Rules Terminology. The goal should be for theclient to be able to recognize the legal implications and possible effects of the future representation at the time the waiver issigned. That this involves predictions about the future where prognostication can be difficult only highlights the substantialburden that those seeking enforceable prospective waivers must meet.

Because of this concern the Committee opined that no lawyer could rely with certainty on prospective general consent if asubsequent conflict were to arise. If the subsequent conflict were not adequately disclosed in the original document, theCommittee suggests that a second request for consent might be required.

In addition to its emphasis on the sufficiency of disclosure, the Committee stressed that the other requirements of Model Rule 1.7pertaining to simultaneous adverse representation must be met as well. Specifically, the lawyer must reasonably believe that therepresentation will not adversely affect the professional relationship with the first client, regardless of client consent. Of course,Model Rule 1.7(a) requires the lawyer to obtain consent from the second client, who may be unwilling to be represented by alawyer who simultaneously represents its opponent on some other unrelated matter.

The Committee also concluded that a client’s valid prospective consent to conflicting representation could not in any event bepresumed to waive an objection to the disclosure or use of confidential client information protected by Rule 1.6, absent anexpress agreement to that effect. The Committee further opined that any prospective consent should be in writing, observingthat where the terms of a purported waiver are not explicit, the client should not be held to such terms.

ABA Formal Opinion 93-372 is consistent with other authorities that have approved the general concept of prospective consent.These include:

Restatement ß 202, Comment d, Illustration 3.

South Carolina Bar Advisory Opinion 93-23 (October 1993).

Oregon Formal Opinion No. 533 (May 1990).

Note, Prospective Waiver of the Right to Disqualify Counsel for Conflict of Interest, 79 Mich. L. Rev. 1074 (1981).

O’Dea, The Lawyer-Client Relationship Revisited: Methods for Avoiding Conflicts of Interest, Malpractice Liability, andDisqualification, 48 Geo. Wash. L. Rev. 693, 730-32 (1980)

Wolfram ß 7.2.4, p. 347.

Hazard and Hodes ß 1.7:305.

Kennecott Copper Corp. v. Curtiss-Wright Corp., No. 78-1295 LFM (S.D.N.Y. April 10, 1978) (unreported opinion).

Interstate Properties v. Pyramid Co. of Utica, 547 F. Supp. 178 (S.D.N.Y. 1982).

Unified Sewerage Agency v. Jelco Inc., 646 F.2d 1339 (9th Cir. 1981).

Firms should be aware, however, that there is potentially contrary authority. These authorities include:

Virginia State Bar, Standing Committee on Legal Ethics, Opinion 1408 (3/12/91 and 5/13/91) which holds that a law firmrepresenting a bank in one lawsuit may not at the same time oppose the bank in an unrelated lawsuit, even with consentfrom all concerned. That opinion does not involve an advance consent; however, the clear inference is that advance consentwould also be prohibited.

Massachusetts Bar Association Committee on Professional Ethics Opinion 92-3 (9/22/92) dealt with a "hot potato" situation,holding that a lawyer could not drop one client in order to represent another adverse to the first. (For more on the "hotpotato" doctrine, see Section I.E. of this Tab III.B.) With respect to how a lawyer might avoid such a situation, theCommittee acknowledged that some lawyers were using advance consents. Calling this practice "relatively new," theCommittee said it was "not ready to comment on the permissibility of such clauses."

In Crystal, Disqualification of Counsel for Unrelated Matter Conflicts of Interest, 4 Geo. Jour. L. Ethics 273, 306-07 (1990),the author discusses ALAS’ earlier version of the suggested consent language. He is less optimistic than we regarding thevalidity of advance consent.

In summary, we continue to believe that advance consent should be effective in appropriate cases. If the client who gives suchconsent is a large organization advised on this issue by its own inside counsel (as would normally be the case), in most instancesthere should be little question about the validity of such consent, provided the subsequent adverse matter is in fact notsubstantially related and there is no danger of misuse of the first client’s confidential information. In addition, as noted in ABAFormal Opinion 93-372, the better the lawyer can anticipate and describe the nature of the future adverse representation in theconsent document the better the chances of an effective waiver Nevertheless such advance consent probably should not be


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consent document, the better the chances of an effective waiver. Nevertheless, such advance consent probably should not berelied upon in the subsequent adverse matter if (i) the law firm is alleging fraudulent or criminal conduct or similar egregiouswrongdoing on the part of the management of the existing client, or (ii) the personnel of the client with whom the firm is dealingon the first matter would also necessarily be involved adverse to the firm in the second matter (e.g., the first matter and thesecond matter are both of such importance that the general counsel of the organization is personally and frequently involved inboth matters).

Lawyers who plan to seek advance waivers should also consider the client’s perspective. In that regard, an article entitled"Contests and Conflicts" in the January/February 1994 edition of The American Lawyer, pp. 56-57, may be instructive. The articledescribes a roundtable discussion of the issue of potential disqualification arising from initial "beauty contest" client interviews.The three corporate counsel who participated all expressed negative reactions to advance consents to future adverserepresentation in the context of initial client interviews. One corporate counsel was quoted as saying: "There is no way that anygeneral counsel who was anything other than senile would authorize signing the suggested `let me sue you’ letter." If thissample is representative of the universe of corporate counsel, firms might encounter some resistance to the concept ofprospective consent from potential clients.

In any event, if a prospective client refuses to grant such advance consent, or if there is a serious question in the jurisdiction asto the enforceability of such consent, then the law firm must decide up front whether the perceived advantages of accepting thatnew client outweigh the potential disadvantages resulting from the firm’s possible preclusion from a later important matter foranother client (assuming that the first client who has not consented in advance will be unlikely to consent later when the secondmatter actually arises).

In lieu of advance consent to simultaneous adverse representation, consideration should be given to a potentially lessprovocative solution: advance consent to the law firm’s resignation from the first representation (assuming resignation at thattime is otherwise permissible), so that the firm, unhindered by the "hot potato" rule, can more or less instantly transform theexisting client into a former client.

Suggested Provisions. Firms seeking to obtain advance consent to future adverse representation should consider the use oftwo separate provisions to achieve such consent. The first, pursuant to Model Rule 1.2(c), would limit the scope of the currentrepresentation so that there is less danger that the future adverse representation will be found to be related. The secondconfirms the consent and discloses, to the extent possible, the nature of any potential future adverse representation.

Client; Scope of Representation. Our client in this matter will be [name of client] (the "Company") and we will advise theCompany in connection with, and the scope of our engagement and duties to the Company shall relate solely to, [detaileddescription of transaction and scope of representation]. You may limit or expand the scope of our representation from timeto time, provided that any substantial expansion must be agreed to by us.

Conflicts. As we have discussed, you are aware that the firm represents many other companies and individuals. It is possible thatduring the time that we are representing the Company, some of our present or future clients will have [disputes or transactions]with the Company. [Add for banks: For example, although we are representing you on , we currently have or may have clientswhom we represent in connection with obtaining a loan from you.] The Company agrees that we may continue to represent ormay undertake in the future to represent existing or new clients in any matter that is not substantially related to our work foryou even if the interests of such clients in those other matters are directly adverse. We agree, however, that your prospectiveconsent to conflicting representation contained in the preceding sentence shall not apply in any instance where, as a result of ourrepresentation of you, we have obtained proprietary or other confidential information of a nonpublic nature, that, if known tosuch other client, could be used in any such other matter by such client to your material disadvantage. [You should know that, insimilar engagement letters with many of our other clients, we have asked for similar agreements to preserve our ability torepresent you.] [Note: If possible and if not prevented by considerations of confidentiality, insert disclosures about prior orexisting relationships with other parties and the probable nature of any anticipated adverse relationships. It is essential to reviewABA Formal Opinion 90-372 discussed above, for guidance on what should be included.]

A Special Note on Consent by Government Agency. Two states, New Jersey and West Virginia, have adopted a rule, basedon public policy grounds, that a governmental body cannot consent to any adverse representation by its counsel, in advance orotherwise, even in an unrelated matter where there is no risk of misuse of the government’s confidences. See New Jersey Rulesof Professional Conduct 1.7(a)(2), 1.7(b)(2) and State of West Virginia ex rel. Morgan Stanley & Co. v. MacQueen, 187 W. Va.97, 416 S.E.2d 55 (1992). See also Restatement ß 202, Comment g(ii); City of Little Rock v. Cash, 277 Ark. 494, 644 S.W. 2d229 (1982) (prohibits adverse representation without analysis).

For many years the Committee on Professional Ethics of the New York State Bar Association had a similar rule. That changedwhen the Committee issued Opinion 629, dated March 23, 1992 (see May 1992 Journal, p. 23). In that opinion the Committeespecifically overruled a series of opinions going back some 25 years and opined that a lawyer may accept the consent of agovernmental body if it is obvious that the lawyer can adequately represent both clients under New York Disciplinary Rule5-105(C).

Illinois has also abandoned the position that a public body could never consent to simultaneous adverse representation inunrelated matters. See Illinois State Bar Association Opinion 86-4, dated August 29, 1986; and Miller v. Norfolk & WesternRailway Co., 183 Ill. App. 3d 261, 538 N.E.2d 1293, 1296 (4th Dist. 1989).

The New Jersey and West Virginia rules clearly are a minority view on the issue of the validity of consent by a public entity.Nevertheless, the governing rule in the relevant jurisdiction should be determined before seeking consent to an adverserepresentation, either current or prospective, from a unit of government.

Appendix B.3.

Lawyer as Intermediary—Joint Confidences Problem


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Scenario:

Lawyer represents multiple clients having a common objective and no apparent significant conflicting interests. For example,three individuals desiring to form a partnership or corporation, each of whom will have a one-third ownership interest and equalmanagement authority; or a husband and wife who wish to construct a joint and mutually dependent family estate plan. Otherpossibilities, although more problematic from the standpoint of whether the lawyer may undertake the joint representation, arethe case of a buyer and seller in a routine property transfer, who have essentially made the basic business deal before consultingthe lawyer, or the lender and borrower in a credit transaction, who have essentially agreed on the basic terms of the loan beforeconsulting the lawyer.

The types of representation described above are governed by Model Rule 2.2, and should be undertaken only in conformity withthe strict requirements of whatever version of Model Rule 2.2 is in effect in the relevant jurisdiction. In particular, the lawyershould recognize that he or she will be required to resign as the common lawyer "if any of the clients so requests" (Model Rule2.2(c)) and that, following such resignation, the lawyer is prohibited from continuing to represent any of the clients in that matterregardless of purported consent. In effect, Model Rule 2.2(c) creates an irrebuttable presumption that a broken-downintermediation creates a non-consentable conflict for the lawyer between and among all of the former joint clients. See alsoRestatement ß 211.

An important question not addressed by Model Rule 2.2 is whether the lawyer must resign merely because one of the membersof the joint client group suddenly decides for personal reasons to obtain his or her own separate counsel. If all of the protectivecriteria of Model Rule 2.2 remain satisfied, it should be the case that the lawyer may remain as common counsel for the rest ofthe group.

Note that Model Rule 2.2 is somewhat misleadingly labeled "Intermediary." In fact the Rule has nothing to do with the ordinarymediation or arbitration process where a lawyer is acting as mediator or arbitrator in a dispute involving parties who are notclients of the lawyer.

Lawyers should recognize that Model Rule 2.2(a)(3) permits multiple representation only if "there is little risk of materialprejudice to the interest of any of the clients if the contemplated resolution is unsuccessful." Thus, if an unsuccessful resolutionmight cause material harm to one of the clients, multiple representation is prohibited.

Some lawyers continue to believe that, with the consent of all of the involved clients, it is proper for separate lawyers or separategroups of lawyers within the same law firm to represent two or more different clients in the situations described above in asemi-adversarial mode, and/or pursuant to an understanding that each of the separate lawyers or groups of lawyers within thesame firm purportedly will zealously represent the interests only of a single client vis-a-vis the others. In that scenario, someform of in-firm screening or insulation techniques normally are implemented to protect the files and secrets of each one of themultiple clients from discovery by the lawyers for any one of the others. Regardless of purported consent by all affected clients,that type of arrangement clearly is not proper in any jurisdiction in which the substance of Model Rule 2.2 is applicable, and thereis no support for the propriety of any such arrangement in general. In any event, we strongly discourage any intra-firm multiplerepresentation on that basis or on any basis other than pursuant to the criteria specified in Model Rule 2.2.

When a lawyer acts as intermediary in the situations described above, there comes into play an important principle known as the"joint confidences" or "co-client" rule, the full implications of which are not yet fully understood. Basically, the rule is that, unlessthe clients agree otherwise, there is no attorney-client privilege, and no confidentiality obligation on the part of the lawyer,between and among clients jointly represented by the same lawyer in a common enterprise with respect to all matters relating tothat enterprise. See Brennan’s Inc. v. Brennan’s Restaurants, Inc., 590 F.2d 168, 173 (5th Cir. 1979); Alexander v. SuperiorCourt, 685 P. 2d 1309 (Ariz. 1984). Of course, the normal attorney-client privilege and confidentiality obligation applies withrespect to the entire world outside the joint client group. The effect of the joint confidences rule is that, if one of the clientssuddenly discloses to the lawyer that he has done or intends to do something that might adversely affect the others, the lawyernot only is permitted to but is probably required to disclose that information to the others in the joint client group. Failure todisclose could make the lawyer liable to the party who was entitled to receive the disclosure.

Many lawyers are unaware of this problem. The astute ones deflect the problem by reaching a clear understanding with all of thejoint clients at the outset that secrets of any one of them relevant to the common enterprise will be disclosed by the lawyer tothe others. If any one of them refuses to agree to that disclosure stipulation, that is a clear signal that group harmony is fragile,and the lawyer probably should not undertake the role of intermediary. See generally J. Dzienkowski, Lawyers as Intermediaries:The Representation of Multiple Clients in the Modern Legal Profession, 1992 U. Ill. L. Rev. 741, 803-814; Kaufman, Problems inProfessional Responsibility, at 234-44 (3d ed. 1989); Wolfram ß 6.4.8; Hazard and Hodes ß 2.2:202; ABA Model Rule 2.2,Comments [6]-[7]; Restatement ß 112, Comment l; Restatement ß 125, Comment d. For a contrary view as to the lawyer’sdisclosure obligations to joint clients, see Florida State Bar Ethics Committee Advisory Opinion 95-4 (12/20/96) (where lawyersjointly represented husband and wife in estate matters, lawyer precluded from disclosing husband’s confidences to wife); IllinoisState Bar Opinion 90-15 (1/2/91). As to disclosure obligations in the limited partnership context in New York see Formal Opinions1986-2 (4/30/86) and 1994-10 (10/21/94) of the Committee on Professional Ethics of the Association of the Bar of the City ofNew York.

Appendix B.4.

Partnership Issues

a. Limited Partnerships

i. When is the Lawyer for a Limited Partnership Deemed to be the Lawyer for Limited Partners of that Partnership?

Scenario:


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Lawyer represents the general partner of a limited partnership and also does all the legal work for the partnership. Lawyer mayor may not have the title, "Counsel to the Partnership." One of the limited partners sues either the general partner or thepartnership, or both. The general partner asks Lawyer to handle the defense of the suit. The limited partner moves to disqualifyLawyer, contending that because Lawyer represented the general partner and the partnership, Lawyer also represented thelimited partners or, at the very least, had a fiduciary or similar relationship with the limited partners preventing Lawyer frombeing adverse to them.

There is a split of authority over the extent to which Lawyer in this situation has a client relationship or fiduciary relationship ofthe sort preventing Lawyer from taking a position adverse to a limited partner.

In Roberts v. Heim, 123 F.R.D. 614 (N.D. Cal. 1988), the court held that, at least for discovery purposes, counsel for the limitedpartnership was also counsel for the limited partners. See also Wortham & Van Liew v. Superior Court, 188 Cal. App. 3d 927, 233Cal. Rptr. 725 (4th Dist. 1987). To the opposite effect is Quintel Corp. v. Citibank, 589 F. Supp. 1235 (S.D.N.Y. 1984), where thecourt held that a lawyer for the general partner had no fiduciary duty to the limited partners who were represented by their ownlawyer. Also to the opposite effect is Ferguson v. Lurie, 139 F.R.D. 362 (N.D. Ill. 1991), where the court held thatcommunications between general partners and their lawyers were privileged and, therefore, not discoverable by limited partners.

The following cases deal less directly with this issue; they decide the extent to which a limited partner has a sufficientrelationship with the lawyer for the partnership to enable the limited partner to sue the lawyer for malpractice.

Insufficient Relationship Sufficient Relationship

Hackett v. Village Court Associates, 602 F. Supp. 856(E.D. Wis. 1985).

Amsler v. American Home Assurance Co., 348 So. 2d 68(Fla. App. 1977), cert. denied, 358 So. 2d 128 (Fla.1978).

Mursau Corp. v. Florida Penn Oil & Gas, Inc., 638 F. Supp.259 (W.D. Pa. 1986), aff’d, 813 F.2d 396, 398 (3d Cir.1987).

Morin v. Trupin, 711 F. Supp. 97 (S.D.N.Y. 1989).

Security Bank v. Klicker, 142 Wis. 2d 289, 418 N.W.2d 27(Wis. App. 1987).

Marshall v. Quinn—L Equities, Inc., 704 F. Supp. 1384(N.D. Tex. 1988)(placement memorandum explicitlydisclaimed lawyer/client relationship).

Margulies v. Upchurch, 696 P.2d 1195 (Utah 1985).

Rhode Island Depositors Economic Protection Corp. v.Hayes, 64 F.3d 22 (1st Cir. 1995).

Fortson v. Winstead, McGuire, Secrest & Minick, 961 F.2d469 (4th Cir. 1992).

Rose v. Summers, Compton, Wells & Hamburg, P.C., 887S.W.2d 683 (Mo. App. 1994).

Berk v. Sherman, 682 A.2d 209 (D.C. 1996)(non-managing partner is analogous to limited partner,and limited partner may sue partnership lawyer formalpractice).

Zendell v. Newport Oil Corp., 226 N.J. Super. 431, 544A.2d 878 (1988).

Adell v. Sommers, Schwartz, Silver & Schwartz, 170 Mich.App. 196, 428 N.W.2d 26 (Mich. App. 1988).

Pucci v. Santi, 711 F. Supp. 916 (N.D. Ill. 1989) (lawyeralso director and shareholder of general partner and wasclose to limited partners).

One might argue that in the above "Sufficient Relationship" jurisdictions the lawyer for the partnership would have a disqualifyingconflict if the lawyer sought to appear adverse to any limited partner on any matter.

Several recent decisions have brought only confusion to this area. One is Johnson v. Superior Court, 38 Cal. App. 4th 463, 45Cal. Rptr. 2d 312 (1995). This is a suit by limited partners against the lawyer representing the partnership. The court notedCalifornia precedent for the proposition that mere representation of a partnership does not per se constitute representation of theindividual partners. The court goes on, however, to state:

This is a case, we are convinced, in which the undertaking by [the lawyer] to represent the partnership, generally, imposed uponhim an obligation of loyalty to the partnership and to all partners in terms of their entitlement to benefits from the partnership.Whether this constituted [the lawyer] an attorney, literally, for the individual limited partners, is of no great moment.

The court, citing no cases supporting the quoted standard, reversed the summary adjudication for the lawyer. See also MarylandCommittee on Ethics Opinion 95-54 (7/21/95) (lawyer represents partnership and not any individual partner).

Arpadi v. First MSP Corp., 68 Ohio St. 3d 453, 628 N.E.2d 1335 (1994), is worse. It applies the aggregate theory ofrepresentation, as it relates to general partnerships, to limited partners. Thus, in Ohio, lawyers who represent limitedpartnerships represent each and every limited partner. At least one federal district court has made a similar holding, Pucci v.Santi, 711 F. Supp. 916, 927-928 (N.D. Ill. 1989); however, the same court might rule differently today because it has adopted a


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Santi, 711 F. Supp. 916, 927 928 (N.D. Ill. 1989); however, the same court might rule differently today because it has adopted aversion of the Model Rules as local court rules.

The Committee on Professional Ethics of the Association of the Bar of the City of New York has addressed these issues twice inrecent years, in Formal Opinions 1986-2 (4/30/86) and 1994-10 (10/21/94). Each opinion discussed the situation in which alawyer had been hired by a general partner to do work for a limited partnership. The lawyer learned of wrongdoing of the generalpartner, and when confronted, the general partner refused to disclose the wrongdoing to the limited partners. The issue waswhether the lawyer was permitted or compelled to notify the limited partners. In each case the Committee adopted the entitytheory of representation pursuant to EC 5-18 of the New York Code of Professional Responsibility. In the 1986 opinion theCommittee said that the lawyer would be permitted to disclose the general partner’s wrongdoing to the limited partners, becauseof the lawyer’s duty to the partnership entity. In the 1994 opinion, the Committee said that the lawyer must disclose thewrongdoing, again, because of the lawyer’s duty to the partnership entity. The Committee cited its 1986 opinion but did notexplain the seeming inconsistency between its discretionary disclosure holding in 1986 and its mandatory disclosure rule in 1994.

The Supreme Court of Indiana reached the opposite conclusion in Bell v. Clark, 670 N.E. 2d 1290 (Ind. 1996). When presentedwith the same situation of misconduct by the general partner, that court held the lawyer had no duty to disclose the generalpartner’s misconduct to the limited partners because the attorney-client relationship ran only to the limited partnership and notto the individual partners.

ii. When Is a Lawyer Who Is Directly Adverse to a Limited Partnership Deemed to be Directly Adverse to LimitedPartners of the Partnership?

As the foregoing cases illustrate, for some purposes the lawyer for a limited partnership will be deemed lawyer for the limitedpartners. What, then, if a lawyer is asked to sue a limited partnership, and that lawyer already represents certain of the limitedpartners of that limited partnership on other matters? Is the converse true? Is being adverse to the limited partnershiptantamount to being adverse to the limited partners? May the lawyer take on the suit over the objection of the limitedpartner/clients?

The answer depends upon whether the suit will be "directly adverse" to the limited partners within the meaning of Rule 1.7(a).The issue of what is direct adversity within the meaning of Rule 1.7(a) is complex and unsettled.

On the one hand, under the entity principle embodied in Rule 1.13, one could argue that suing the limited partnership is notequivalent to suing the limited partners. As shown below, that is the position in ABA Opinion 91-361 as to general partnerships;however, that opinion ducked the issue as to limited partnerships.

On the other hand, Paragraph [11] of the Comment to Rule 1.7 says that the issue of adversity "is often one of proximity anddegree." Thus, if a limited partner has invested her life savings in a limited partnership, and if the lawsuit has the potential towipe out the value of the limited partnership interests, some tribunal might well conclude that the suit was "directly adverse" tothat limited partner and require under Rule 1.7(a) that the lawyer obtain that limited partner’s consent before suing the limitedpartnership. This view was rejected in the corporate context by the majority in ABA Formal Opinion 95-390 (1/25/95). Themajority said Model Rule 1.7(a) does not apply in the case where a lawyer is suing a corporation, which is 100% owned byanother of the lawyer’s current clients. While the suit would have financial impact upon the lawyer’s client, that did not constitutedirect adversity.

North Star Hotel Corp. v. Mid-City Hotel Associates, 118 F.R.D. 109 (D. Minn. 1987), takes the opposite approach. It does notinvolve adversity to a limited partner. It does involve the kind of financial impact on clients of the firm that the ABA Committeesaid was not direct adversity under Model Rule 1.7(a). The relationships are complicated but worth pursuing.

On behalf of North Star Hotel Corp. ("North Star"), Law Firm sued a limited partnership, Mid-City Hotel Associates ("Mid-City").Harry Johnson and his wife are the general partners of Mid-City (combined interest—20%), and their children are limited partners(combined interest—80%). As general partner, Harry Johnson would be personally liable for any judgment not satisfied fromMid-City’s assets. Harry Johnson is not a client of Law Firm. Law Firm also represents in unrelated matters two other limitedpartnerships, St. Louis Centre ("Centre") and Burnsville Woods ("Burnsville"). Pineapple Management, a corporation("Pineapple"), owns 49.5% of Centre. Harry Johnson owns 96% of Pineapple. HAJ Construction ("HAJ") owns 50% of Burnsville.Harry Johnson owns 100% of HAJ. Harry Johnson has personally guaranteed several million dollars of loans to Law Firm’s clients,Centre and Burnsville.

Defendant, Mid-City moved to disqualify Law Firm. The court held that because Law Firm could obtain a substantial judgmentagainst Harry Johnson personally on behalf of North Star in the instant case, and because that judgment could jeopardizeJohnson’s ability to guarantee the loans to Law Firm’s clients, Centre and Burnsville, the resulting potential financial impact toCentre and Burnsville constitutes direct adversity as to Centre and Burnsville under Rule 1.7(a), and Law Firm should bedisqualified from representing North Star.

b. General Partnerships

The American Bar Association, Standing Committee on Ethics and Professional Responsibility, in Formal Opinion 91-361, datedJuly 12, 1991, has come down solidly for the position that a lawyer for a general partnership is not thereby a lawyer for thepartners.

A partnership is an organization within the meaning of [ABA Model] Rule 1.13. Generally, a lawyer who represents a partnershiprepresents the entity rather than the individual partners.

The Fifth Circuit followed the analysis of ABA Formal Opinion 91-361 in Hopper v. Frank, 16 F.3d 92 (5th Cir. 1994). To the sameeffect, see Responsible Citizens v. Superior Court, 16 Cal. App. 4th 1717, 20 Cal. Rptr. 2d 756 (1993); Opinion 1994-137(undated) of the State Bar of California Standing Committee on Professional Responsibility and Conduct; and Legal Ethics Opinion1458 (5/11/92) of the Virginia State Bar Standing Committee on Legal Ethics.


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The Indiana Supreme Court declined to adopt Formal Opinion 361 in Rice v. Strunk, 679 N.E.2d 1280 (Ind. 1996). That courtconcluded that where a partnership is subject to the Uniform Partnership Act (UPA), and the partnership is managed by all of thegeneral partners, the attorney for the partnership has an attorney-client relationship with the partnership as well as with each ofthe general partners. However, the court went on to hold that the UPA could be superseded where the partners structured thepartnership so that the management of the partnership was delegated to fewer than all of the partners. In that situation theattorney-client relationship would run only to the partnership as an entity and not to any particular partner. The court warnedthat even under these circumstances, an attorney-client relationship could exist with an individual partner if the specificcircumstances indicate that the lawyer affirmatively assumed the representation of a partner. See also Security Bank v. Klicker,142 Wis. 2d 289, 418 N.W.2d 27 (Wis. Ct. App. 1987) (whether attorney-client relationship exists with individual partners is aquestion of fact).

The Connecticut Bar Association Committee on Professional Ethics has gone even further. In Informal Opinion 93-13 (undated),the Committee said that a lawyer may not rely on the ABA opinion and oppose a partner when the lawyer took no steps at theoutset of the representation to make clear to the partner that the lawyer would be representing only the partnership.

Griva v. Davison, 637 A.2d 830 (D.C. App. 1994) presented a different but related situation. In that case, a lawyer attempted torepresent two of three partners of a general partnership, and the partnership, in a matter adverse to the third partner. The courtruled that because the third partner had a veto power over partnership action, the lawyer could not represent the first twopartners and the partnership without the third partner’s consent.

In Al-Yusr Townsend & Bottum Co. v. United Mid East Co., 1995 U.S. Dist. LEXIS 14622, 1995 WL 592548 (E.D. Pa. 1995), thecourt held that a lawyer for a joint venture was also the lawyer for the venturers. The court discussed the reasonableexpectations of the venturers and said that because the lawyer discussed confidential matters with the venturers, they couldreasonably believe that they were "clients." It is not clear from the opinion whether the court would have found a clientrelationship without that personal contact. Some of the language suggests the court would have.

One would think that if the entity theory applied to general partnerships, it would also apply to limited partnerships.Nevertheless, in footnote 1 to Opinion 91-361 the ABA Committee noted many of the cases cited in Section IV.E.1. above andsaid that because of the structural differences between general and limited partnerships, the Model Rules might not apply thesame to limited partnerships as they do to general partnerships. The Committee did not explain that difference further, so it isunclear how Opinion 91-361 will affect decisions with respect to limited partnerships.

A slight variation of the above cases is Eriks v. Denver, 118 Wash. 2d 451, 824 P.2d 1207 (1992), in which the court held that alawyer representing both general partners and limited partners in an IRS audit had a serious conflict of interest and was requiredto return all fees earned and prejudgment interest on those fees.

In Greate Bay Hotel & Casino, Inc. v. The City of Atlantic City, 264 N.J. Super. 213, 624 A.2d 102 (1993), the court extended theentity theory to business trusts and held that lawyers for a business trust could be adverse to one of the trustees.

Opinion 1994-10 (10/21/94) of the Committee on Professional and Judicial Ethics of the Association of the Bar of the City of NewYork addresses the issue of when must a lawyer for a limited partnership and the sole general partner disclose general partnermisconduct to the limited partners. The Committee, relying upon DR5-109 and EC5-18, said that where the sole general partneris guilty of misconduct, the lawyer for the limited partnership must report the misconduct to the partnership’s only otherconstituents, the limited partners.

Appendix B.5.

Conflicts Issues Peculiar to Close Corporations

a. Introduction

Both Model Rule 1.13(a) and its counterpart in the Model Code, EC 5-18, provide that a lawyer for a corporation is not, by virtueof that relationship, a lawyer for the corporation’s shareholders, directors, employees or other persons connected with thecorporation. Thus, for example, a lawyer for a corporation could represent the corporation in a matter adverse to one of thoseconstituents. A perfect example of such a case is Ferranti International, PLC v. Clark, 767 F. Supp. 670 (E.D. Pa. 1991)(discussed at greater length in the September 1991 Journal, p. 19). There, the court held that a law firm for a corporation couldbe adverse to the corporation’s former general counsel—even though that general counsel hired that law firm in the first instanceand worked closely with it.

The situation is not quite so simple in the case of close corporations. At least one writer has taken the view that a lawyer for aclose corporation should be deemed to be a lawyer for the shareholders and has proposed an addition to the ethics codes to soprovide. Mitchell, Professional Responsibility and the Close Corporation: Toward a Realistic Ethic, 74 Cornell L. Rev. 466 (1989).As the reader will see, the cases have not uniformly fallen in line with that view.

Part b following will focus on the relationship between the close corporation’s lawyer and its shareholders. Part c analyzeswhether acting adverse to a close corporation is equivalent to acting adverse to its shareholders. Part d will deal with the lawyer’srelationship with officers and directors. Part e will consider the effect of the lawyer’s having initially represented the originalorganizers of the corporation. Part f addresses the unique issues that can arise when the corporation is sold.

b. Lawyer’s Duties to Shareholders

The cases and opinions have arisen in three contexts:

1. Does a shareholder have standing to sue a close corporation’s lawyer for malpractice?


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2. Should a lawyer for a close corporation acting adversely to a shareholder be disqualified?

3. Should a lawyer for a close corporation acting adversely to a shareholder be disciplined?

i. The malpractice cases.

The following cases held that shareholders of a close corporation had standing to sue the corporation’s lawyer; however, thecourts noted that there were special circumstances including the fact that the lawyer had previously represented the complainingshareholders:

Meyer v. Mulligan, 889 P.2d 509 (Wyo. 1995).

Compton v. Joseloff, Civ. No. H 90-430, (Conn. Super. 1991) (unreported).

Opdyke v. Kent Liquor Mart, Inc., 40 Del. Ch. 316, 181 A.2d 579 (1962).

The following cases held that shareholders of close corporations did not have standing to sue a close corporation’s lawyer formalpractice because the lawyer represented the corporation, not the shareholders:

Skarbrevik v. Cohen, England & Whitfield, 231 Cal. App. 3d 692, 282 Cal. Rptr. 627 (Cal. App. 1991).

Goerlich v. Courtney Industries, Inc., 84 Md. App. 660, 581 A.2d 825 (1990).

TJD Dissolution Corp. v. Savoie Supply Co., 460 N.W.2d 59 (Minn. App. 1990); Holmes v. Winners Entertainment, Inc., 531N.W.2d 502 (Minn. App. 1995).

Schaeffer v. Cohen, Rosenthal, Price, Mirkin, Jennings & Berg, P.C., 405 Mass. 506, 541 N.E.2d 997 (Mass. 1989).

Felty v. Hartweg, 169 Ill. App. 3d 406, 523 N.E.2d 555 (Ill. App. 1988).

Hager-Freeman v. Spircoff, 229 Ill. App. 3d 262, 593 N.E.2d 821 (1992) (generally there is no lawyer/client relationship[593 N.E.2d at 831]; but here there are sufficient additional facts for the case to proceed against the lawyer).

Fassihi v. Sommers, Schwartz, Silver, Schwartz & Tyler, P.C., 107 Mich. App. 509, 309 N.W.2d 645 (Mich. App. 1981).

Bowen v. Smith, 838 P.2d 186 (Wyo. 1992) (unclear how many shareholders there were—may not be "close" corporation).

Brennan v. Ruffner, 640 So. 2d 143 (Fla. App. 1994) (only three shareholders).

Egan v. McNamara, 467 A.2d 733 (D.C. App. 1983).

ii. The disqualification cases.

Each of the following courts disqualified a lawyer for a close corporation in a matter because the lawyer had attempted to beadverse to a shareholder. In no case, however, did the court say that the shareholder was a client of the lawyer. There wereusually additional circumstances present. For example, the shareholder may have been a former client or may have disclosedconfidences to the lawyer during the lawyer’s representation of the corporation.

Rosman v. Shapiro, 653 F. Supp. 1441 (S.D.N.Y. 1987).

Margulies v. Upchurch, 696 P.2d 1195 (Utah 1985).

In Re Bowman Trading Co., 99 A.2d 459, 471 N.Y.S.2d 289 (Sup. Ct. 1984).

Woods v. Superior Court of Tulare County, 149 Cal. App. 3d 931, 197 Cal. Rptr. 185 (Cal. App. 1983).

Sturm v. Sturm, 61 Ohio St. 3d 298, 574 N.E.2d 522 (1991) (dissent-dictum).

The following courts refused to disqualify a close corporation’s lawyer from being adverse to a shareholder:

Mayer-Wittmann Joint Ventures, Inc. v. Gunther Int’l, Ltd., 1994 Conn. Super. LEXIS 1507, 1994 WL 271795 (1994).

McCarthy v. John T. Henderson, Inc., 246 N.J. Super. 225, 587 A.2d 280 (N.J. App. 1991).

Terre Du Lac Prop. Owners’ Ass’n., Inc. v. Shrum, 661 S.W.2d 45 (Mo. App. 1983).

Bobbit v. Victorian House, Inc., 545 F. Supp. 1124 (N.D. Ill. 1982).

Wayland v. Shore Lobster & Shrimp Corp., 537 F. Supp. 1220 (S.D.N.Y. 1982).

Meehan v. Hopps, 144 Cal. App. 2d 284, 301 P.2d 10 (Cal. App. 1956).

In re Tetzlaff, 31 Bankr. 560 (E.D. Wis. 1983).

Seifert v. Dumatic Ind. Inc., 413 Pa. 395, 197 A.2d 454 (1964).

I O i i 216 d t d J 15 1990 th Di t i t f C l bi B L l Ethi C itt id th l f l


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In Opinion 216, dated January 15, 1990, the District of Columbia Bar Legal Ethics Committee said the lawyer for a closecorporation could be adverse to a bank even though the bank, through execution on a judgment, had become a 50%shareholder, because the bank could not reasonably believe it had a lawyer-client relationship with the corporation’s lawyer.

The Virginia State Bar Standing Committee on Legal Ethics in Legal Ethics Opinion No. 1517, dated April 12, 1993, said that alawyer for a corporation owned equally by two shareholders could be adverse to one of the shareholders provided the lawyer hadnever represented, or obtained confidences from, that shareholder.

In Opinion 93-58 (10/5/93) the Rhode Island Supreme Court Ethics Advisory Committee said that a lawyer could not representthe majority shareholder and the corporation against the only other shareholder without the latter’s consent. That samereasoning evidently led to a $500,000 malpractice judgment against a large San Francisco-based firm in a Virginia trial court,Washington Post, June 13, 1994. According to the article, the law firm helped create a lobbying corporation for two shareholders.The law firm then later assisted one of the shareholders in a plan to create a competitor lobbying firm, without disclosing thoseefforts to the other shareholder.

South Carolina Bar Advisory Opinion No. 91-24, dated October 1991, involved a lawyer who represented a limited partnershipand inquired whether he could ethically take a case in which the adverse party was a corporation 95%-owned by a generalpartner of the limited partnership. The opinion would only say that an impermissible conflict was "likely" and discussed several ofthe authorities cited in this section.

See also the discussion of ABA Formal Opinion 95-390 (1/25/95) at Subsection c below.

iii. The disciplinary cases.

The Oregon Supreme Court has held in a disciplinary case that representation of a close corporation constituted representation ofthe shareholders if the shareholders were all members of the same family. In re Banks, 283 Or. 459, 584 P.2d 284 (1978).Oregon Formal Opinion 1991-85 (7/91) said that representation of a corporation having only two shareholders would notautomatically constitute representation of the shareholders.

c. When is a Lawyer Who is Directly Adverse to a Close Corporation Deemed to be Directly Adverse to ItsShareholders?

Suppose a lawyer represents an individual who owns 52% of a corporation. May that lawyer sue the corporation on an unrelatedmatter without the consent of the lawyer’s shareholder client? We raised a similar issue in connection with limited partnerships atAppendix B.4.a. For reasons stated there, we believe that the suit is permissible—without the consent of the client/limitedpartner/shareholder. However, we also cautioned that if the potential harm to the client/limited partner/shareholder is substantialenough, some tribunal might conclude that the lawyer suing the limited partnership/corporation is "directly adverse" to theclient/limited partner/shareholder within the meaning of Model Rule 1.7(a), which would require the lawyer to obtain the client’sconsent.

That is essentially what the court held in Committee on Legal Ethics v. Frame, 189 W. Va. 641, 433 S.E.2d 579, 582 (1993) inthe corporate context. The lawyer was representing a woman in a divorce and sought, on behalf of another client, to sue acorporation in which the divorce client owned 52% of the stock. The court held that the lawyer should be disciplined for bringingthe action without the consent of the divorce client.

The majority in ABA Formal Opinion 95-390 (1/25/95) would likely hold the other way. In that opinion the majority said that,absent extraordinary circumstances, a lawyer may sue a corporation even though the lawyer already represents aclient/corporation that owns 100% of the stock of the defendant/corporation and even though the suit could have a financialimpact on the client. The majority said that was not direct adversity within the meaning of Model Rule 1.7(a). A substantialminority of the ABA Committee would hold the other way.

d. Lawyers’ Duties to Officers and Directors

There are fewer cases dealing with constituents other than shareholders. Hile v. Firmin, Sprague & Huffman Co., 71 Ohio App. 3d838, 595 N.E.2d 1023 (Ohio App. 1991) held that directors of a close corporation could not sue the corporation’s lawyer formalpractice because the lawyer did not represent them. A contrary view was taken in Manoir – Electroalloys Corp. v. AmalloyCorp., 711 F. Supp. 188 (D.N.J. 1989) in a disqualification context. There the court held that a law firm could not be adverse to acorporation if that law firm already represented the president of the corporation on unrelated matters.

e. Corporate Organizers as "Former Clients"

We are aware of three cases that touch on the extent to which corporate organizers can be considered "former clients" of the lawfirm they retained to form the corporation.

One is Jesse v. Danforth, 163 Wis. 2d 1044, 473 N.W.2d 532 (Wis. App. 1992), rev’d, 169 Wis. 2d 229, 485 N.W.2d 63 (1992)which involved a law firm that formed a corporation to purchase medical equipment at the request of 23 doctors, who thenbecame shareholders. The law firm later filed a malpractice action against two of those doctors on behalf of another client. Thedoctors moved to disqualify the law firm. The trial court denied the motion. The appellate court reversed. The Wisconsin SupremeCourt reversed the appellate court and held that under Rule 1.13 of Wisconsin’s version of the Model Rules of ProfessionalConduct, the law firm represented the corporate entity and not the shareholders and that the entity concept was "retroactive."The court was saying, in effect, that although the law firm might have represented the doctors during the formation of thecorporation, once the corporation was formed, the doctors would be deemed to have never been clients of the law firm.

Compton v. Joseloff, Civ. No. H 90-430 (Conn. Super. Ct. 1991) (unreported) involved an individual who had asked a lawyer toorganize a corporation. Later, the individual sought to sue the lawyer for malpractice. The lawyer claimed that he representedonly the corporation and that the individual therefore did not have the requisite privity to sue The court refused to dismiss the


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only the corporation and that the individual, therefore, did not have the requisite privity to sue. The court refused to dismiss thecase because the individual did have a client relationship with the lawyer before the corporation was formed.

Meyer v. Mulligan, 889 P.2d 509 (Wyo. 1995) is also a corporate organizer situation. The court held that the shareholders’ caseagainst the corporation’s lawyer should go to the jury. The court’s language is instructive:

When an attorney is asked to represent prospective shareholders (if more than one) in organizing a close corporation, or whenthe attorney is later asked to represent all the shareholders in preparing a shareholders’ agreement or any document affectingcorporate control or the transfer of shares, he should discuss with them possible conflicts of interests and let each participantdecide if he wants the attorney to serve as his counsel.

* * * Based upon the facts, it is not clear who [the lawyer] represented.

We have suggested engagement letter language for just such a situation. See Tab III.A. of the Manual at Form E-10.

f. Sale of a Business

The sale of a business can create unique conflicts issues as demonstrated in Tekni-Plex, Inc v. Meyner and Landis, 89 N.Y. 2d123, 674 N.E. 2d 663 (1996). Tekni-Plex is an unusual case where the court disqualified a law firm on the grounds it was adverseto a former client even though the former client technically no longer existed. The law firm involved had represented thecorporation for many years, had represented its sole owner on personal matters, and had represented them both in the sale ofthe corporation. Upon the sale, the corporation was merged into a new corporation formed by the buyer. The new corporationbrought an arbitration action against the former owner who retained the law firm to represent him. The new corporationsuccessfully moved to disqualify the lawyer on the grounds that he had represented a former client in a substantially relatedmatter. The court held that it would treat the new corporation as a former client of the law firm because the new corporationcontinued the business operations of the old client just as they had been.

Appendix B.6.

Duties to Directors, Officers and Employees of Corporate Client

Model Rule 1.13 was designed to do a number of things relating to organizational clients. Rule 1.13(a) makes clear that thelawyer retained by an organization represents the organization, not the constituents (directors, officers, etc.). Rules 1.13(b) and(c) deal with the organization’s lawyer’s rights and obligations when faced with wrong-doing within the organization.

Model Rule 1.13(d) embodies the civil counterpart of the "Miranda Warning":

(d) In dealing with an organization’s directors, officers, employees, members, shareholders or other constituents, a lawyer shallexplain the identity of the client when it is apparent that the organization’s interests are adverse to those of the constituents withwhom the lawyer is dealing.

Rule 1.13(d) is premised upon the practical notion that high-ranking (chairman, president, etc.) and even low level constituentsof the organization in the regular course of events may become confused as to the lawyer’s duties to them. Whenever theorganization and a constituent may become adverse, and there is a danger that the constituent may erroneously assume orbelieve that the lawyer is looking after the constituent’s interests, or has duties of confidentiality and loyalty to the constituent,the constituent must be warned that the lawyer’s allegiance is to "the company." Comments [7] and [8] under Model Rule 1.13expand on this theme:

[7] There are times when the organization’s interest may be or become adverse to those of one or more of its constituents. Insuch circumstances the lawyer should advise any constituent, whose interest the lawyer finds adverse to that of the organizationof the conflict or potential conflict of interest, that the lawyer cannot represent such constituent, and that such person may wishto obtain independent representation. Care must be taken to assure that the individual understands that, when there is suchadversity of interest, the lawyer for the organization cannot provide legal representation for that constituent individual, and thatdiscussions between the lawyer for the organization and the individual may not be privileged.

[8] Whether such a warning should be given by the lawyer for the organization to any constituent individual may turn on thefacts of each case.

See also Hazard and Hodes ß 1.13:502, and Restatement ß 212, Comment e.

For a recent example of a firm that complied with the above, and thereby avoided a disqualification, see Pacific Dunlop Holdings,Inc. v. Barosh, 1993 U.S. Dist. LEXIS 955, 1993 WL 22688 (N.D. Ill. 1993).

Appendix B.7.

State Governments

May a law firm represent a state government and at the same time oppose that same state government on unrelated matters?We have always believed that this should be permissible. Two opinions support our view.

The first is that of a New York intermediate appellate court, Aerojet Properties, Inc. v. State of New York, 138 A.D.2d 39, 530N.Y.S.2d 624 (N.Y. App. 1988). There the court said it was all right for a lawyer to represent a claimant against the state beforethe Court of Claims to recover unpaid rent and at the same time defend the state before the Court of Claims in a personal injurymatter. The court said "[g]iven the multitudinous nature of the State’s activities, even the appearance of impropriety seems deminimis here."

The second is a recent memorandum opinion of the state trial court in Minnesota arising out of a suit by the State of Minnesota


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The second is a recent memorandum opinion of the state trial court in Minnesota, arising out of a suit by the State of Minnesotaagainst all the major tobacco companies, State of Minnesota v. Philip Morris, Inc., Second Judicial District, Ramsey County, Minn.,# C1-94-8565, Nov. 29, 1994. Several firms entering appearances for the defendants were also representing state agencies in avariety of unrelated matters. The state moved to disqualify those firms. The judge denied those motions, holding that "therepresentation of their respective state agencies does not adversely affect" the state.

Recently, the State of Washington adopted a new rule providing that representation of one state agency does not usuallypreclude accepting a representation adverse to another agency. Washington Rule of Professional Conduct 1.7(c) states thatunless the parties agree otherwise or the "broader governmental entity" gives timely notice, the lawyer’s client is the agency onlyand not the "broader governmental entity" of which the agency is a part.

Caution: There are bound to be circumstances in which the result will be different:

Situation Number 1. A law firm is currently representing a state agency. A new client asks the law firm to handle a similar matteragainst that same agency. Moreover, the lawyers in the Attorney General’s office who are supervising the first matter will alsosupervise the second matter.

Situation Number 2. A law firm is defending the state college system in a sex discrimination case; the government lawyerinvolved is on the legal staff of the college in question. A new client asks the law firm to handle a tax dispute with state revenueofficials; the government lawyer involved is an Assistant Attorney General regularly assigned to handle tax matters.

In analyzing what the result should be in each situation, we should begin with the following standard rationalization for theconflicts rules:

The basic thrust of the conflict of interest rules is to protect the reasonable expectations of clients with regard to the loyalty ofthe client’s lawyer and the confidentiality of the work of a present or former lawyer.

Wolfram, Sec. 7.1.1, p. 313.

The state could justifiably be concerned in Situation Number 1. The law firm’s loyalty could be questioned, and the law firm’sability to capitalize on what it has learned from representing the state in its suit against the state would be clear. Disqualificationis probably the correct result.

In Situation Number 2 neither loyalty nor confidentiality should be an issue. Nevertheless, some trial judge somewhere will ignorethe theoretical bases for the conflict of interest rules and hold that a law firm cannot sue the state if the firm is alreadyrepresenting the state in some vastly dissimilar matter. One would hope that these occurrences would be rare; nevertheless, therisk of such aberrational holdings, and the need to pursue aggravating and time-consuming appeals from them, will be presentuntil there are more decisions along the lines of those from New York and Minnesota.

APPENDIX C

Ethics Rules on Client Confidences

[Reprinted from Tab III.F. of the 1997 ALAS Loss Prevention Manual]

The attached chart analyzes in summary form the provisions of the ABA Model Code of Professional Responsibility (1969), theABA Model Rules of Professional Conduct (1983), the various state versions of the Code and the Rules, and related comments,ethics opinions and case law that are applicable to ALAS members on the controversial "whistle-blowing" issue.

The chart indicates, with appropriate citations, whether a lawyer "May" or "Must" or "Must Not," as the case may be, revealconfidential client information relating to:

a. Client’s intention to commit any crime.

b. Client’s intention to commit a crime likely to result in death or bodily injury.

c. Client’s intention to commit a criminal fraud likely to result in injury to the financial interest or property of another party.

d. Client’s intention to commit a non-criminal fraud likely to result in injury to the financial interest or property of another party.

e. Client’s prior commission of a crime or fraud, using the lawyer’s services, resulting in injury to the financial interest or propertyof another party.

f. Client’s prior or contemporaneous commission of perjury or other fraud on a tribunal.

g. Client’s contemporaneous misrepresentation or concealment of a material fact amounting to a criminal or fraudulent act by theclient.

It must be emphasized that the attached chart is a somewhat cryptic summary intended to alert the reader to the generalsituations where the question is whether disclosure of a client confidence or secret is discretionary, mandatory, or prohibited, asthe case may be, and to direct the reader to the relevant provision and language in the Code or in the Rules and relatedauthorities. There are many subtle distinctions and refinements that emerge when one compares the ABA Model Code, the ABAModel Rules, the Code or Rules of any particular state, the local rules of federal district courts, and a state’s comments, ethicsopinions and case law. There is no substitute for reading the relevant Rule and related authorities word for word. Unfortunately,in certain situations (as indicated by footnotes on the chart) the applicable Rule and relevant ethics opinions and case law areambiguous and, in some instances, incomprehensible.


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The attached chart reflects amendments to the Model Code, the Model Rules and the states’ Rules or Codes of which we areaware as of February 1997. We have not undertaken to determine the existence or effect of amendments effective after thatdate.

Attachment

INTENT TO COMMIT/PREVENTION RECTIFICATION

See Cover SheetFor FullExplanation ofColumns

A B C D E F G

(Note: If there isno "ProposedRules" box for astate listed below,that means thestate has recentlyamended its oldCode, or adoptednew Rules, andthat it is thereforeunlikely that therewill be any furtheractivity in the nearfuture.)

Any Crime Death/

Injury

Criminal

Fraud

Non-CriminalFraud

Prior Crimeor Fraud

UsingLawyer’sServices

PriorPerjury/Fraudon Tribunal

Ongoing ClientMisrepresentationor Concealment

ABA

Model Rules ofProfessionalConduct

Must Not

1.6(a)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)2

Must

4.1(b)3

See also

1.2(d)

ABA

Model Code ofProfessionalResponsibility

May

4-101(C)(3)

May

4-101(C)(3)

May

4-101(C)(3)

Must Not

4-101(B)(1)

Must Not

7-102 (B)(1)4

Must Not

7-102(B)(1) 4

Must

7-102(A)(7) 5

and

2-110(B)(2)

But see

7-102(B)(1) 4

ALABAMA

Current Rules ofProfessionalConduct

Must Not

1.6(a)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(B)3

See also

1.2(d)

ALASKA


Must Not

1.6(a)

May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

ARIZONA


May

1.6(c)

Must

1.6(b)

May

1.6(c)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

ARKANSAS

Current ModelRules ofProfessional

May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also


26 of 40 5/10/2006 2:29 PM

ProfessionalConduct

See also

1.2(d)

CALIFORNIA

Current StatutoryProvisions

Must Not

ß6068(e)

Business

and

Professions

Code

Must Not

ß6068(e)

Business

and

Professions

Code6

Must Not

ß6068(e)

Business

and

ProfessionsCode6

Must Not

ß6068(e)

Business

and

Professions

Code6

Must Not

ß6068(e)

Business

and

Professions

Code

Must Not

ß6068(e)

Business

and

Professions

Code

Must Not

ß6068(e)

Business

and

Professions

Code

Proposed Rule: In 1996 the State Bar of California circulated for public comment a new Rule 3-100 that is consistent withModel Rule 1.6(b)(1), and requested comments by September 9, 1996. As of February 1997, the State Bar had not decidedwhether to submit the new rule to the California Supreme Court for approval.

COLORADO


May

1.6(b)

May

1.6(b)

May

1.6(b)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

CONNECTICUT


Must Not

1.6(a)

Must

1.6(b)

May

1.6(c)(1)

Must Not

1.6(a)

May

1.6(c)(2)

Must

3.3(a)

Must

4.1(b)3

See also

1.2 (d)

DELAWARE

Current Lawyers’Rules ofProfessionalConduct

Must Not

1.6(a)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2 (d)

DISTRICT OFCOLUMBIA


Must Not

1.6(a)(1)

May

1.6(c)(1)

Must Not

1.6(a)(1)

Must Not

1.6(a)(1)

Must Not

1.6(a)(1)1

Must Not

3.3(d) and1.6(a)(1)

Must

4.1(b)3

See also

1.2 (e)

FLORIDA


Must

4-1.6(b)(1)

Must

4-1.6(b)(2)

Must

4-1.6 (b)(1)

Must Not

4-1.6(a)

Must Not

4-1.6(a)1

Must

4-3.3(a)

Must

4-4.1(b)3

See also

4-1.2 (d)

GEORGIA

Current Code ofProfessionalResponsibility

May

4-101(C)(3)

May

4-101(C)(3)

May

4-101(C)(3)

Must Not

4-101(B)(1)

Must

7-102(B)(1)4

Must

7-102(B)(1)4

Must

7-102(A)(7)5

and

7-102(B)(1)4

HAWAII


Must Not

1.6(a)

May

1.6(c)(1)

May

1.6(c)(1)

May

1.6(c)(1)

Must

1.6(b)15

Must

3.3(a)

Must

4.1(b)9

IDAHO


May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)


27 of 40 5/10/2006 2:29 PM

ILLINOIS


May

1.6(c)(2)

Must

1.6(b)

May

1.6(c)(2)

Must Not

1.6(a)

Must Not

1.6(a)

and

1.2(g)

Must

3.3(a)4

Must

4.1(b)3

INDIANA


May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

IOWA

Current Code ofProfessionalResponsibility forLawyers

May

4-101(C)(3)

May

4-101(C)(3)

May

4-101(C)(3)

Must Not

4-101(B)(1)

Must Not

7-102(B)(1)7

Must Not

7-102(B)(1) 7

Must

7-102(A)(7) 5

and

2-110(B)(2)

But see

7-102(B)(1) 7

KANSAS


May

1.6(b)(1)

May

1.6(b)(1)

Must Not

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

KENTUCKY


Must Not

1.6(a)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

See footnote 8

to this chart

LOUISIANA


Must Not

1.6(a)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(c)

MAINE


May

3.6(h)(4)

May

3.6(h)(4)

May

3.6(h)(4)

Must Not

3.6(h)(1)

Must Not

3.6(b)3

Must Not

3.6(b)4

Must

3.6(d)

and

3.5(b)(2)(ii)

(see footnote 5which discussesABA Model Codecounterparts ofthese two rules)

MARYLAND

Current Lawyers’Rules ofProfessionalConduct

Must Not

1.6(a)

May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(2)

Must

3.3(a)

Must

4.1(a)(2)and (b)

See also

1.2(d)

See footnote 9

MASSACHUSETTS

Current Canons ofEthics andDisciplinary RulesRegulating the

May

4-101(C)(3)

May

4-101(C)(3)

May

4-101(C)(3)

Must Not

4-101(B)(1)

Must Not

7-102(B)(1)4

Must Not

7-102(B)(1) 4

Must

7-102(A)(7) 5

and


28 of 40 5/10/2006 2:29 PM

g gPractice of Law 2-110(B)(2)

But see

7-102(B)(1) 4

Proposed Rules ofProfessionalConduct

Must Not

1.6(a)

May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(3)

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

MICHIGAN


May

1.6(c)(4)

May

1.6(c)(4)

May

1.6(c)(4)

Must Not

1.6(b)(1)

May

1.6(c)(3)

Must

3.3(a)

May

1.6(c)(3)

See also

1.2(d)

MINNESOTA


May

1.6(b)(3)

May

1.6(b)(3)

May

1.6(b)(3)

Must Not

1.6(a)

May

1.6(b)(4)

Must

3.3(a)

Must Resign

1.2(c)

and

1.16(a)(1)

MISSISSIPPI


May

1.6(b)

May

1.6(b)

May

1.6(b)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

MISSOURI


Must Not

1.6(a)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

MONTANA


Must Not

1.6(a)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

NEBRASKA


May

4-101(C)(3)

May

4-101(C)(3)

May

4-101(C)(3)

Must Not

4-101(B)(1)

Must Not

7-102(B)(1)4

Must Not

7-102(B)(1) 4

Must

7-102(A)(7) 5

and

2-110(B)(2)

But see

7-102(B)(1) 4

NEVADA

Current Rules ofProfessionalConduct (NevadaSupreme CourtRules 150 et seq.)

May

156(3)(a)10

Must

156(2)

May

156(3)(a)10

May

156(3)(a)10

May

156(3)(a)10

Must

172(1)

Must

181(2)3

[equivalent of4.1(b)]

See also

152(4)

NEWHAMPSHIRE

Current Rules of

Must Not

1.6(a)

May

1.6(b)(1)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)(3)

Must

4.1(b)3


29 of 40 5/10/2006 2:29 PM


See also

1.2(d)

NEW JERSEY


Must Not

1.6(a)

Must

1.6(b)(1)11

Must

1.6(b)(1)11

Must

1.6(b)(1)11

May

1.6(c)(1)11

Must

3.3(a)

Must

4.1(a)(2)

and

4.1(b)9

See also

1.2(d)

NEW MEXICO

Current Rules of

ProfessionalConduct

Must Not

16-106(A)

"Should"

16-106(B)

May

16-106(C)

Must Not

16-106(A)

Must Not

16-106(A)1

Must

16-303(A)

Must

16-401(B)3

See also

16-102(D)

NEW YORK


May12

4-101(C)(3)

May

4-101(C)(3)

May12

4-101(C)(3)

Must Not12

4-101(B)(1)

Must Not12

7-102(B)(1)

But see4-101(C)(5)

Must Not

7-102(B)(1)4

Must

7-102(A)(7)5

and

2-110(B)(2)

But see7-102(B)(1)

NORTHCAROLINA

Current Rules ofProfessionalConduct of theNorth CarolinaState Bar

May

4(C)(4)

May

4(C)(4)

May

4(C)(4)

Must Not

4(B)(1)

Must Not

4(B)(1)

But see

7.2(B)(1)

Must Not

4(B)(1)

But see

7.2(B)(1)

Must Resign

7.1(A)(4)

and

7.2(A)(8)

Proposed Rules May

1.6(d)(4)

May

1.6(d)(4)

May

1.6(d)(4)

Must Not

1.6(c)(1)

May

1.6(d)(5)

Must

3.3(a)

Must

4.1(b)

See also

1.2(d)

NORTH DAKOTA


Must Not

1.6

But see

1.6(d)

Must

1.6(a)

May

1.6(d)

May

1.6(d)

May

1.6(f)

Must Not

1.6

and

3.3(d)

May

1.6(f)

See also

1.2(d)

OHIO

Current Code of

ProfessionalResponsibility

May

4-101(C)(3)

May

4-101(C)(3)

May

4-101(C)(3)

Must Not

4-101(B)(1)

Must

7-102(B)(1)4

Must

7-102(B)(1)4,13

Must

7-102(A)(7)5

and

7-102(B)(1)4

OKLAHOMA


May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

Must Not

1.6(a)

May

1.6(b)(2)

Must

3.3(a)

Must

4.1(b) 3

See also

1.2(c)

OREGON

Current Code of

P f i l

May

4-101(C)(3)

May

4-101(C)(3)

May

4-101(C)(3)

Must Not

4-101(B)(1)

Must Not

7-102(B)(1)4

Must Not

7-102(B)(1)4

Must

7-102(A)(7)5


30 of 40 5/10/2006 2:29 PM


and

2-110(B)(2)

But see

7-102(B)(1)4

PENNSYLVANIA


May

1.6(c)(2)14

May

1.6(c)(1)

May

1.6(c)(1)

May

1.6(c)(2)14

May

1.6(c)(2)

Must

3.3(a)

See also

1.6(b)(1)

Must

4.1(b)3

See also

1.2(d)

RHODE ISLAND


Must Not

1.6(a)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

SOUTHCAROLINA


May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

SOUTH DAKOTA


Must Not

1.6(a)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)

May

1.6(b)(3)

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

and

1.6(b)(3)

TENNESSEE


May

4-101(C)(3)

May

4-101(C)(3)

May

4-101(C)(3)

Must Not

4-101(B)(1)

Must Not

7-102(B)(1)4

Must Not

7-102(B)(1)4

Must

7-102(A)(7)5

and

2-110(B)(2)

But see

7-102(B)(1)4

TEXAS

CurrentDisciplinary Rulesof ProfessionalConduct

May

1.05(c)(7)

Must

1.05(e)

May

1.05(c)(7)

May

1.05(c)(7)

May

1.05(c)(8)

Must

3.03(a)

Must

4.01(b)9

See also

1.02(c)

UTAH


Must Not

1.6(a)

May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(2)

Must

3.3(a)

Must

4.1(b)3

See also

1.2(c)

VERMONT

Current Code of


May

4-101(C)(3)

May

4-101(C)(3)

May

4-101(C)(3)

Must Not

4-101(B)(1)

Must Not

7-102(B)(1)4

Must Not

7-102(B)(1)4

Must

7-102(A)(7)5

and

2-110(B)(2)


31 of 40 5/10/2006 2:29 PM

But see

7-102(B)(1)4

Proposed Rules Under Study by Special Committee

VIRGINIA

Current Code of


Must

4-101(D)(1)

Must

4-101(D)(1)

Must

4-101(D)(1)

Must Not

4-101(B)(1)

May

4-101(C)(3)

Must

4-101(D)(2)

May

7-102(A)(7)

and

4-101(C)(3)

Proposed Rules Must

1.6(c)(1)

Must

1.6(c)(1)

Must

1.6(c)(1)

Must Not

1.6(a)

May

1.6(b)(3)

Must

1.6(c)(2)

and

3.3(a)(2)

Must

4.1(b)3

See also

1.2(c)

WASHINGTON


May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)1

Must Not

3.3(a)

Must

4.1(b)3

See also

1.2(d)

WEST VIRGINIA


May

1.6(b)

May

1.6(b)

May

1.6(b)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

WISCONSIN

Current Rules ofProfessionalConduct forAttorneys

Must Not

20:1.6(a)

Must

20:1.6(b)

Must

20:1.6(b)

Must

20:1.6(b)

May

20:1.6(c)(1)

Must

20:3.3(a)

Must

20:4.1(b)3

See also

20:1.2(d)

WYOMING

Current Rules ofProfessionalConduct forAttorneys at Law

May

1.6(b)(1)

May

1.6(b)(1)

May

1.6(b)(1)

Must Not

1.6(a)

Must Not

1.6(a)1

Must

3.3(a)

Must

4.1(b)3

See also

1.2(d)

TOTALS FROMALLJURISDICTIONS

Must: 2

May: 29

MustNot:20

Must: 10

May: 39

Must Not:1

"Should":1

Must: 4

May: 36

MustNot:11

Must: 2

May: 8

MustNot:41

Must: 3

May: 14

MustNot:34

Must: 38

May: 0

Must Not: 13

Must: 45

May: 3

Must Not: 1

Must Resign: 2

Notes for Chart

1. Model Rule 1.6 generated more controversy than any other Rule during the six-year (1977-83) Model Rules project.Although the black letter Rule emphasizes the obligation of confidentiality and generally prohibits "whistle-blowing" (except toprevent death or substantial bodily harm), the Official Comment to Rule 1.6 is designed to permit under some circumstanceswhat has been referred to as "flag-waving" by means of an abrupt and noisy resignation from the representation. The idea isthat, although the lawyer is prohibited from disclosing any specifics about a client crime or fraud, the lawyer’s resignation,accompanied by the "withdrawal" or "disaffirmance" of the lawyer’s previous "opinion, document, affirmation, or the like," will inmost instances signal the other parties involved in the transaction that the client may be engaged in wrongdoing. The portion ofthe official comment dealing with the lawyer’s obligation to resign under certain circumstances, and specifying what "signals" thelawyer is permitted to give in connection with any such resignation notwithstanding the black letter Rule, is extraordinarilyconfusing.* This so-called "noisy withdrawal" Comment is the subject of a comprehensive analysis in ABA Formal Opinion 92-366(8/8/92). ABA Opinion 92-366 is itself analyzed and explained in a note beginning at page 14 of the January 1993 issue of theALAS Loss Prevention Journal.

2. See American Bar Association Standing Committee on Ethics and Professional Responsibility Formal Opinion 87-353 (April 20,


32 of 40 5/10/2006 2:29 PM

1987). That Opinion was sharply criticized in Goldberg, Heaven Help the Lawyer for a Civil Liar, 2 Geo. J. Legal Ethics 885(1989). See also ABA Formal Opinion 93-376 (August 6, 1993) discussing the application of Model Rule 3.3(a) to perjury of aclient in a pre-trial deposition.

3. Model Rule 4.1(b) provides that:

"[i]n the course of representing a client a lawyer shall not knowingly: . . . (b) fail to disclose a material fact to a third personwhen disclosure is necessary to avoid assisting a criminal or fraudulent act by a client, unless disclosure is prohibited by Rule1.6." (Emphasis added.)

It has been suggested that the underscored clause, which was a last-minute addition during the final drafting process in 1983 inorder to make Rule 4.1(b) consistent with the final lip-sealing version of Rule 1.6, has effectively negated the entire paragraph(b) of Rule 4.1. That is not a proper interpretation. Although the lawyer is prohibited by the final clause of the Rule from explicitlydisclosing that the client is concealing or misrepresenting material facts, the lawyer in this situation is required by Rules 1.2(d)and 1.16(a)(1) to resign forthwith as counsel if the client cannot be persuaded to correct the record. Further, under the OfficialComment to Rule 1.6 discussed in footnote 1 above, the lawyer after resigning may also noisily "withdraw or disaffirm" anyfraudulent statement of the client with which the lawyer might be deemed to be associated by reason of the lawyer’s priorpresence in the transaction as the client’s counsel. In other words, and similar to the situation under Rule 1.6 discussed infootnote 1 above, Rule 4.1(b) does not permit "whistle-blowing" in the normal sense, but (when interpreted in harmony withRules 1.2(d) and 1.16(a)(1)) it clearly requires a certain amount of flag-waving that will alert even the most naive citizen to thefact that the lawyer’s client has probably concealed or misrepresented material facts. Presumably the naive citizen, withassistance from his or her counsel, will promptly investigate and discover the truth, or at least some of the untruths, and willthus avoid being victimized. See Hazard and Hodes, The Law of Lawyering: A Handbook on the Model Rules of ProfessionalConduct (2d. Ed.) (1997 Supp.) ßß 4.1:300-307. See also ABA Formal Opinion 93-375 (August 6, 1993) analyzing a lawyer’sdisclosure obligations in the context of representing a financial institution in connection with the statutory examination of theinstitution by the regulators. Additionally, where the client’s behavior constitutes continuing misconduct, the permissivedisclosure provisions of the many states that have adopted Rule 1.6 in modified form come into play (see Columns C and D onthe chart). If disclosure of a client’s intent to commit a crime or fraud is permitted under Rule 1.6, then such disclosure becomesmandatory under the "shall not knowingly º fail to disclose" language of Rule 4.1(b) if the situation also meets the requirementsof that Rule. For all these reasons the foregoing chart classifies this situation as a "Must" disclose case.

4. The ABA’s original (1969) version of DR 7-102(B)(1) reads as follows:

DR 7-102 Representing a Client Within the Bounds of the Law

B. A lawyer who receives information clearly establishing that:

(1) His client has, in the course of the representation, perpetrated a fraud upon a person or tribunal shall promptly call upon hisclient to rectify the same, and if his client refuses or is unable to do so, he shall reveal the fraud to the affected person ortribunal.

This version of DR 7-102(B)(1) is referred to in this footnote as "Version 1." It was soon perceived that Version 1 wasinconsistent with DR 4-101(B) because it literally obliterated the attorney-client privilege and the obligation of confidentiality, andrequired the lawyer to speak out in any case where, "in the course of the representation," the lawyer’s client has perpetrated afraud upon a person or a tribunal. The ABA, spurred in part by the pleas of securities lawyers (who in the aftermath of theNational Student Marketing scandal were apprehensive about the SEC’s threats to deputize them as securities law policemen),decided that result was not intended. In 1974 the ABA amended Version 1 by adding the following clause at the end as animportant limitation on the applicability of Version 1: "except when the information is protected as a privileged communication."(The version of DR 7-102(B)(1) after the 1974 amendment is referred to in this footnote as "Version 2.") In drafting Version 2,the ABA again bungled the task by phrasing the exception to refer only to the relatively narrow testimonial attorney-clientprivilege, whereas the proponents of the 1974 amendment intended to protect all confidences and secrets of the client from themandatory disclosure provisions of the first version of DR 7-102(B)(1). Thus, it was necessary for the ABA Committee on Ethicsand Professional Responsibility to issue Formal Opinion 341 (September 30, 1975) holding that the term "privilegedcommunication" included all confidences and secrets of the client, not merely the narrow class of confidences and secrets towhich the attorney-client privilege applies. Currently there are seven states (Maine, Massachusetts, Nebraska, New York, Oregon,Tennessee and Vermont) that adopted the ABA 1974 amendment to DR 7-102(B)(1), have declined to adopt any version of theModel Rules, and therefore continue to have what is referred to in this footnote as Version 2 or the equivalent thereof. (New Yorkand Oregon have varied the wording of Version 2 slightly, but their wording is the functional equivalent of Version 2 asinterpreted by ABA Formal Opinion 341.) Those states are classified in column F of the foregoing chart as "Must Not" disclosestates. (Prior editions of the Manual called attention to Tennessee Formal Ethics Opinion 93-F-133 (12/10/93), in which the Boardof Professional Responsibility of the Supreme Court of Tennessee opined that perjury enjoys "no protection by being a privilegedcommunication" and must be disclosed. In late 1996, the Tennessee Supreme Court overruled that opinion to the extent itrequired attorneys to disclose privileged information about client fraud. Formal Ethics Opinion 96-F-133(A) (12/6/96)). Only twostates (Georgia and Ohio) continue to have what is referred to in this footnote as Version 1 of DR 7-102(B)(1). Those states areclassified in column F of the foregoing chart as "Must" disclose states. However, there has always been some ambiguity inGeorgia as to the binding effect of DR 7-102(B)(1) because that DR is "advisory" only. It was officially excluded from the limitednumber of Georgia Disciplinary Rules that can be invoked as a basis for professional discipline. Illinois adopted a modified versionof the Model Rules in August 1990, but retained the substance of its prior Version 2 of DR 7-102(B)(1) as new Illinois Rule1.2(g). See Illinois State Bar Association Opinion No. 94-24 (May 17, 1995) for a discussion of the relationship between IllinoisRule 1.2(g) and Illinois Rule 3.3(a).

5. DR 7-102(A)(7) reads as follows:

DR 7-102 Representing a Client Within the Bounds of the Law.


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(A) In his representation of a client, a lawyer shall not:

(7) Counsel or assist his client in conduct that the lawyer knows to be illegal or fraudulent.

This Disciplinary Rule basically says that a lawyer cannot commence to act or continue to act as counsel if the client is or will beengaged during the course of the representation in conduct that the lawyer knows is illegal or fraudulent. It is roughly thepredecessor of Model Rules 1.2(d) and 4.1(b) referred to in footnote 3 above. Even in those states that have Version 2 of DR7-102(B)(1) (see footnote 4 above), which severely limits the lawyer’s authority to disclose a prior client fraud, the better view isthat DR 7-102(A)(7), like its successor, Model Rule 4.1(b), speaks to contemporaneous concealment or misrepresentation by theclient during the course of the representation and that, at a minimum, the lawyer is required to resign. See also on this point DR2-110(B)(2). Thus, in all instances the foregoing chart classifies this situation as a "Must" disclose case. However, if Version 2 ofDR7-102(B)(1) is in effect, the disclosure cannot be an explicit revelation of a client confidence but has to be in the indirect formof an abrupt withdrawal as counsel from the transaction, followed by a disavowal by the lawyer of any fraudulent concealment ormisrepresentation with which the lawyer might be deemed to be associated by reason of the lawyer’s presence in the transactionat the time of the concealment or misrepresentation.

6. Lawyers’ obligations to maintain client confidences in California are governed by ß 6068(e) of the California Business andProfessions Code, not by the California Rules of Professional Conduct. Section 6068(e) recognizes no exception to the obligationof secrecy in the context of this chart. While there had been several ethics opinions that suggested some implied exceptions (see,for example Opinions 414 [4/29/83] and 436 [4/15/85] of the Los Angeles County Bar Association, and Formal Opinion 1988-96[undated] of the State Bar of California), a recent opinion of the San Diego County Bar Association, 1990-1 (undated), is stronglyanti-disclosure. In that opinion the Legal Ethics and Unlawful Practices Committee said that even when the client has expressedan intention to kill or injure someone, the lawyer may not "blow the whistle." The Committee relied principally upon the CaliforniaSupreme Court’s failure to adopt any such exception when it promulgated the revised Rules of Professional Conduct in 1988 (eff.May 27, 1989).

7. Iowa, Columns E and F — To be protected from disclosure, the information in question must come within the definition of theattorney-client privilege contained in Iowa Code ß 622.10. If the information is not privileged pursuant to that section, then thesetwo situations are "Must" disclose cases. Section 622.10 prohibits "a practicing attorney," among other professions, "who obtainsinformation by reason of the [attorney’s] employment," from testifying about "any confidential communication properly entrustedto the [attorney] in the [attorney’s] professional capacity, and necessary and proper to enable the [attorney] to discharge thefunction of the [attorney’s] office according to the usual course of practice or discipline," unless the client waives the privilege.

8. Kentucky, Column G — The special drafting committee recommended that Rule 4.1(b) be deleted, stating that "sufficientguidance is provided by Rules 1.2(d), 1.6, and 1.16." The Kentucky Supreme Court adopted that recommendation. See footnote3 above regarding Model Rule 4.1(b) generally.

9. The Hawaii, Maryland, New Jersey and Texas versions of Model Rule 4.1(b) do not contain the ABA’s confusing limiting clauseat the end ("unless disclosure is prohibited by Rule 1.6") referred to in footnote 3 above. Therefore, in the context of an ongoingtransaction where the lawyer’s client has committed a criminal or fraudulent act by concealing or misrepresenting a material fact,the lawyer must disclose to the affected third parties the full truth. As a general proposition, the lawyer should first remonstratewith the client if practicable, then act affirmatively to reveal the client’s deceit only if and after the client has refused to rectifythe situation.

10. Nevada, Columns A, C, D and E — In all these cases, the disclosure is authorized only if the "lawyer’s services have beenused" in connection with the transaction.

11. In New Jersey the disclosure must or may, as the case may be, be made if the client’s conduct is merely "illegal" but doesnot rise to the level of a crime or a fraud. In Opinion 677 (published 10/10/94) the Advisory Committee on Professional Ethics ofthe New Jersey Supreme Court opined that a supervisory and regulatory "department of the state of New Jersey" is a "tribunal"within the meaning of New Jersey’s version of Rule 1.6, which requires a lawyer to blow the whistle on a client perpetrating afraud on a tribunal.

12. The Committee on Professional Ethics of the Association of the Bar of the City of New York has opined that a lawyer whorepresents a limited partnership and the general partner on partnership and other matters must disclose wrongdoing by thegeneral partner to the limited partners, Formal Opinion 1994-10 (10/21/94). A discussion of this opinion and related opinionsappears at Tab III.B., Section IV.E. of this edition of the Manual.

13. In Office of Disciplinary Counsel v. Heffernan, 58 Ohio St. 3d 260, 569 N.E.2d 1027 (1991), the Ohio Supreme Courtsuspended a lawyer for six months because the lawyer had failed to inform a lower court upon learning "a few months" after thefact that the lawyer’s client had perpetrated a fraud upon that court.

14. Pennsylvania, Columns A and D — In these cases the disclosure is authorized only if the "lawyer’s services are being or hadbeen used" in the transaction.

15. Disclosure is required only "where the act [in furtherance of which the lawyer’s services had been used] has resulted insubstantial injury to the financial interests or property of another." Otherwise the lawyer "may" disclose under Rule 1.6(c)(2).

APPENDIX D

Lawyer Liability in Financial Institutions Practice

[Reprinted from Tab IV.A. of the 1997 ALAS Loss Prevention Manual]

The S&L Crisis—Lessons for Lawyers


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Much has been written about the S&L debacle and lawyers’ liability resulting from that crisis. What follows is a concise but, webelieve, comprehensive summary of what we have learned about the prevention of malpractice claims in the financial institutionspractice. An expanded treatment of these points is at "Preventing Malpractice Claims in the Financial Institutions Practice," ALASLoss Prevention Journal, September 1992, pp. 2-9.

Here are the lessons:

1. Climbing the Corporate Ladder. Be alert to the scenario described in ABA Model Rule of Professional Conduct 1.13: "anofficer, employee or other person associated with the organization is engaged in action, intends to act or refuses to act in amatter related to the representation that is a violation of a legal obligation to the organization, or a violation of law whichreasonably might be imputed to the organization, and is likely to result in substantial injury to the organization, . . . ." Model Rule1.13, and virtually every state version of that Rule, require a lawyer when confronted with that situation to "proceed as isreasonably necessary in the best interest of the organization," specifying that the lawyer must consider, among other things,whether to refer the matter to the organization’s board of directors or other governing body. For example, a law firm should notclose a loan on behalf of an institution if the loan officer is purportedly waiving one or more conditions of the loan commitmentand the firm has reason to believe that the officer is not authorized to do so. Bear in mind that the regulators’ position is thatsome closing conditions (e.g., an M.A.I. appraisal) are not waivable by anybody, and a telephoned assurance from the appraiserthat everything is fine and that the written appraisal will be delivered as soon as the appraiser’s secretary recovers from the flu isnot a sufficient basis for proceeding with the closing. If the proposed transaction is one in which an institution insider isparticipating as a principal, or will otherwise apparently derive some personal benefit therefrom, the outside lawyer should giveespecially careful scrutiny to that transaction.

2. Liability for Aiding and Abetting. As a general proposition, the legal ethics codes throughout the country forbid a lawyerfrom acting as counsel to a client on a matter where the client is engaged in criminal or fraudulent conduct, but the majority ofthose codes do not explicitly forbid a lawyer from acting as counsel to a client engaged in conduct that is "unlawful" or "illegal."However, federal law (12 U.S.C. ß 1813(v) (1995)) applicable to banks and thrifts contains an explicit provision prohibiting allpersons from "aiding and abetting" or "counseling" a violation of any applicable statute or regulation by the institution. As acorollary thereto, Model Rule of Professional Conduct 1.16(a)(1), and virtually every state version of that Rule, prohibit a lawyerfrom engaging in representation if doing so "will result in violation of the rules of professional conduct or other law . . ."(emphasis added). Accordingly, if a lawyer believes that the client’s conduct or proposed conduct violates an applicable statute orregulation, and if climbing the corporate ladder fails to remedy the situation, a lawyer must resign if the client apparently intendsto use the lawyer’s services or work product to aid and abet a violation of an applicable statute or regulation, otherwise thelawyer is at risk of becoming liable for any resulting loss to the institution, and of being subject to professional discipline.

3. Document the Firm’s Limited Responsibility. If a law firm is acting as loan closing counsel, and has no responsibility foradvising the institution as to the "loan to one borrower" regulations or other regulatory requirements, that limitation on the firm’sresponsibility should be confirmed by an explicit written understanding with the client. The regulators take the position that thelaw firm should have a reasonable basis for believing that there are in fact other competent advisors (e.g., inside compliancepersonnel, or another outside law firm) who are analyzing the institution’s compliance with regulatory requirements.

4. Do Not Disregard Obvious Issues Outside the Firm’s Limited Area of Responsibility. As in any type of representation,if the scope of the law firm’s services has been clearly defined and limited by agreement with the client, the law firm neverthelesshas an obligation to alert the client if the firm knows that the client is oblivious to other issues that require legal analysis.

5. Watch Out for the Captive Institution. The history of the past 15 years demonstrates that the institutions that are mostsusceptible to damage as a result of fraud, self-dealing, and mismanagement are those that are effectively controlled by either asingle individual or a small group of individuals. Among other things, those types of institutions are not likely to have a strongBoard, or inside personnel who perform a watchdog function.

6. Parent/Subsidiary Conflicts. If the regulated financial institution is a subsidiary of a parent company, and if the law firmordinarily represents both the parent and the subsidiary on various matters, recognize that there may be a conflict—even in anotherwise completely lawful transaction—between what is in the best interests of the regulated subsidiary on the one hand andthe unregulated parent on the other. If there is potentially that type of conflict, consider what disclosures should be made to eachBoard. Also consider whether each company should have its own separate counsel, especially if the independent directorpopulation on the subsidiary’s Board is thin.

7. Multiple Representation Conflicts. It is almost always imprudent to represent both the lender and the borrower, or theseller and the buyer, in the same transaction, even with the purported consent of both. In any situation where the firm isrepresenting only one client (e.g., the lending institution) but another party to the transaction (e.g., the borrower) is a client ofthe firm on other matters, make certain that both those parties are aware of the facts, and that each of them gives the firm anenforceable (i.e., fully informed and properly authorized) consent to the conflict of interest.

8. Opinions and Representations. In preparing and issuing opinions, or in making representations to regulators, make certaina reasonable inquiry is made into the accuracy of the factual assumptions on which your conclusion is based. Applications forchange of control approval and other similar important regulatory approvals present a special danger in this regard becauseoutside counsel may be looked upon by the regulators as "standing behind" the factual representations included in those kinds ofapplications. Where necessary, make clear to the regulators that the representations are the client’s, not yours. Everynon-routine formal opinion should be reviewed by a disinterested second partner who is an experienced financial institutionspractitioner and is not personally involved in the legal work for that particular client. The review should be particularly rigorous inany case where the opinion drafter has a potentially distracting extra-curricular interest vis-a-vis the institution (e.g., boardmembership, investment, family connection, or close personal friendship with the Chairman or C.E.O.).

9. Annual Regulatory Examination. If a law firm is counseling an institution with respect to its annual examination by theregulators, the lawyers involved should be familiar with American Bar Association Formal Opinion 93-375 (8/6/93). The firmshould avoid being perceived by the regulators as the alter ego or agent of its client or as being the principal conduit between


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should avoid being perceived by the regulators as the alter ego or agent of its client, or as being the principal conduit betweenthe client and the regulators for purposes of the give and take that is inherent in the examination process. In general, given theextremely broad statutory rights of access to the institution’s personnel and records that the examiners possess, it is ordinarily inthe best interests of both the client and the law firm for the law firm to have a low profile during the examination process.

10. Fee Arrangements. Regardless of whether the client is the lender or the borrower, avoid arrangements whereby the firm iscompensated in a loan transaction on a basis such that the firm has a significant economic interest in seeing that the loan isclosed (e.g., a generous fee calculated as a percentage of the loan, or a substantially reduced fee if the loan does not close).

11. In-Firm Review. A firm lawyer should not be permitted to do any of the following without advance review by, and approvalof, either the governing committee of the firm, or a special committee appointed by the governing committee:

(a) accept a new financial institution client (approval of one member of the new business screening committee should besufficient);

(b) accept a position as an officer or director of any financial institution(whether or not a client);

(c) make any personal investment in, borrow from (except for ordinary course of business non-commercial loans), or engage inany business transaction with, a financial institution client; or

(d) invest in any "deal" involving a financial institution in which the firm is counsel to one of the parties.

APPENDIX E

Reported Decisions and Ethics Opinions Involving BondLawyer Liabilities and Professional Responsibilities

[Note: We have arranged the following decisions and ethics opinions strictlychronologically, and not by court, starting with the most recent first and working back.]

Court Decisions

1. B.L.M. v. Sabo & Deitsch, 164 Cal. Rptr. 2d 335 (Cal. App. 4 Dist. June 10, 1997). In this case the defendant law firm servedas special counsel to the City of Rialto, California and as bond counsel on a project to construct senior citizen housing. When theproject failed, the project’s developer sued the law firm for malpractice on the theory that it had failed to exercise reasonablecare in performing legal services related to its function as bond counsel. The trial court granted summary judgment in favor ofthe law firm reasoning that the firm was not liable to the developer because the developer was not its client. The California courtof appeals affirmed agreeing that the law firm’s duty ran to its client, not to the developer. (Caution: Although this opinionseemingly limits the liability of bond counsel, it does not diminish the importance of defining precisely who the client is in theinitial engagement letter. See Judge McKinster’s dissent in B.L.M. where he argues that the designation of the law firm as "bondcounsel for the project" was ambiguous and suggested that the firm also represented the developer. 64 Cal. Rptr. 2d at 351.)

2. Pontiac School District v. Miller Canfield Paddock & Stone, 221 Mich. App. 602, (Mich. App. Feb. 21, 1997). The Pontiac SchoolDistrict sued the defendant law firm alleging the firm was liable for malpractice in connection with a $54 million bond issue. Theplaintiff alleged the firm had a conflict of interest because it represented both the school district which issued the bonds and thelead underwriter on the bond issue. In two other counts, the school district alleged the firm committed malpractice because itfailed to properly interpret a state statute and because it negligently drafted the ballot language. Following a jury trial, theplaintiff was awarded almost $4 million in present damages and more than $21 million in future damages. The law firm appealedthe judgment. As to the conflict of interest claim, the Michigan appellate court ordered judgment notwithstanding the verdict forthe defendant, finding that the plaintiff had not established causation between the conflict and the harm. The appellate court alsoreversed the judgment on the other two counts because the trial court had failed to give the standard jury instruction oncomparative negligence.

3. Mehaffy, Rider, Windholz & Wilson v. Central Bank, N.A., 892 P.2d 230 (Colo. 1995). The Colorado Supreme Court held that alawyer who issued an opinion letter that misstated materials facts for the purpose of inducing a non-client to purchase municipalbonds could be liable for negligent misrepresentation to the non-client.

4. Washington Elec. Coop. v. Massachusetts Mun. Wholesale Elec. Co., 894 F. Supp. 777 (D. Vt. 1995). This opinion focuses onthe liability of several law firms that had provided legal opinions stating that certain Vermont utilities had authority to enter intopower sales agreements with the Massachusetts Municipal Wholesale Electric Company ("MMWEC") to receive power from anuclear facility. The power sales agreements were later found to be ultra vires and void ab initio, and the MMWEC and certainMassachusetts utilities sued the law firms that had issued the opinions. The district court granted summary judgment to thelawyer defendants on plaintiffs’ malpractice claims because no attorney-client relationship existed between the lawyers and eitherMMWEC or the Massachusetts utilities. The court also granted summary judgment on plaintiffs’ indemnity claim because therewas no privity between plaintiffs and defendants. The court further found that use of the following judicial discretion clause in theopinion letters at issue absolved the lawyers of any liability: "the obligations of the Participant[s] under the agreements and theenforceability thereof may be subject to judicial discretion." The court remanded plaintiffs’ negligent misrepresentation claim tothe magistrate noting that unlike a claim for legal malpractice, a negligent misrepresentation claim does not require anattorney-client relationship.

5. Shawmut Bank, N.A. v. Kress Associates, 33 F. 3d 1477 (9th Cir. 1994). This case involved the collapse of a commercial realestate project which had been financed by industrial development bonds. Following the collapse, the bondholders sued thedeveloper, the bondholders’ trustee, the underwriter, and the law firms that had represented the city and the underwriter inconnection with the bond issue. In remanding the case for further proceedings, the Ninth Circuit suggested that the services of


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g p g , ggbond counsel and underwriter’s counsel in drafting and proofreading the trust documents raised a factual question as to whetherthe trustee, although a nonclient, was a beneficiary of the law firm’s services and thus owed a duty of due care.

6. Werner v. Satterlee, Stephens, Burke & Burke, 797 F. Supp. 1196 (S.D.N.Y 1992). In this case shareholders of the Matthews& Wright Group, Inc., ("M & W"), a municipal bonds underwriter, sued the New York firm of Satterlee Stephens claiming the firmhad been general counsel to the underwriter and as such participated in a series of sham bond closings and in the fraudulent saleto the public of M & W stock. The district court denied the law firm’s motion to dismiss, holding: 1) plaintiffs’ claim was notbarred by the statute of limitations; 2) the complaint pled fraud with sufficient particularity; and 3) the complaint stated a claimfor relief. The court also granted plaintiffs’ motion for class certification.

7. Victor v. Thomas F. White & Co., 1990 U.S. Dist. LEXIS 19803, 1990 WL 15011 (N.D. Cal. 1990). Plaintiffs alleged thatdefendant lawyers failed to properly draft bond agreements, failed to disclose material facts in offering materials, and drafted anddisseminated offering materials containing material misrepresentations and omissions. The complaint purported to state claimsfor violations of the federal securities act, RICO, and California statutory and common law. The court dismissed all claims, findingplaintiffs had failed to properly plead facts that would state a claim for any of their asserted causes of action.

8. Abell v. Potomac Ins. Co., 858 F. 2d 1104 (5th Cir. 1988), vacated on other grounds, 492 U.S. 914 (1989). This case involveda class action brought by the holders of bonds issued by a home for the mentally disturbed against, among others, the home’sdeveloper and the law firm that represented the underwriters in the bond issue. The law firm had prepared the bond offering,assumed strict due diligence duties, and reviewed the final offering statement. Plaintiffs alleged that in so doing, the law firmfailed to adequately investigate the bond transaction and to disclose materials facts in the offering statement, which wrongfulconduct constituted a violation of federal securities laws, fraud, racketeering and numerous violations of state law. After trial, thejury awarded plaintiffs more than $12 million. The Fifth Circuit reversed the judgment against the law firm holding, inter alia: (1)the law firm was not a "seller" for purposes of the federal Securities Act of 1933 or the Louisiana Blue Sky Law; (2) plaintiffsfailed to prove reliance on the law firm’s legal opinion for purposes of Rule 10b-5; (3) the law firm could not be liable for breachof duty or other claims with respect to non-clients; (4) the law firm was not vicariously liable because it owed no duty ofdisclosure to the bondholders; and (5) the law firm was not liable for aiding and abetting because plaintiffs had not proven therequisite scienter, i.e. clear proof of intent to violate the securities laws.

9. Haberman v. Washington Public Power Supply System, 109 Wash. 2d. 107, 744 P.2d 1032 (1987), appeal dismissed, 488 U.S.805 (1988). In 1982 the Washington Public Power Supply System (WPPSS) defaulted on $2.25 billion in revenue bonds issued tofinance the construction of two nuclear power plants. Certain purchasers of the bonds sued, among others, the WPPSS and thelaw firms who had rendered legal services to the WPPSS. The trial court dismissed the complaint for failure to state a claim. TheWashington Supreme Court reversed on several issues, holding plaintiffs had stated claims for violation of the state securities act,negligent misrepresentation and fraud. In so doing, the court held that the WPPSS lawyers could be liable to the purchasers ofthe bonds for negligent misrepresentation or fraud because neither privity nor a fiduciary relationship was necessary for liability.The court further held that the plaintiffs’ claims against the lawyers were not actionable under the state’s consumer protectionact.

10. Mirotznick v. Sensney, Davis & McCormick and Aetna Casualty & Surety v. Sensney Davis & McCormick, 658 F. Supp. 932(W.D. Wash. 1986). These two cases also relate to WPPSS. They involve claims brought by bond purchasers against the local lawfirms that issued opinion letters to participating utilities stating that the participants’ agreement between the utilities and thesystem was valid and enforceable. The opinion letters were provided to bond and special counsel who then issued their ownopinion letters, which were contained in the official bond statements. The court held the relationship between the plaintiffs andthe defendant law firms was too tenuous to satisfy the flexible duty test of Rule 10b-5.

11. Security Bank & Trust Co. v. Fabricating, Inc., 673 S.W. 2d 860 (Tenn. 1983), cert. denied, 105 S. Ct. 515, 469 U.S. 1038(1984). In this malpractice suit against bond counsel, the Tennessee Supreme Court held that the statute of limitations formalpractice did not begin to run until the injury to the bondholders occurred, which was when the bonds defaulted.

12. Bradford Sec. Processing Services, Inc. v. Plaza Bank & Trust, 653 P. 2d 188 (Okla. 1982). A pledgee who foreclosed onworthless industrial revenue bonds sued the lawyer who had prepared the bond opinion for negligence. The Oklahoma SupremeCourt held that the pledgee stated a cause of action against bond counsel for negligence, even though the pledgee was not aclient of the lawyer. The court reasoned that the lawyer knew his opinion would be relied on by purchasers, and the opinion wasin fact relied on by the pledgee.

13. Cronin v. Midwestern Dev. Auth., 619 F. 2d 856 (10th Cir. 1980). This was an appeal from two class actions brought bypurchasers of industrial revenue bonds issued by the Midwestern Oklahoma Development Authority. The actions namednumerous parties as defendants including the law firms that acted as bond counsel. The actions arose out of a broker’s fraudulentscheme to solicit former POWS to purchase high-risk industrial development bonds by falsely representing that the bonds weresafe and secure. The trial court granted summary judgment in favor of bond counsel, reasoning that it would not expand theduties of bond counsel to impose a duty on them to investigate the soundness of a bond issue. The Tenth Circuit reversed andremanded for further discovery, holding that under certain circumstances, the attorney for the bond issuer may owe a fiduciaryduty to the bond purchasers.

14. Woods v. Homes & Structures, Inc., 489 F. Supp. 1270 (D. Kan. 1980). This action arose out of the issuance and sale ofindustrial revenue bonds by the City of Pittsburgh, Kansas. Purchasers of the bonds filed a class action against numerousparticipants in the bond deal, including the bond counsel and the attorney for the issuer city. The court rejected the cityattorney’s argument that summary judgment should be entered in his favor because he never made any representations to thebond purchasers. The court stated that the nature and scope of the attorney’s fiduciary duty would have to be determined after afull trial. Similarly, the court denied bond counsel’s motion to dismiss and counsel for the issuer’s summary judgment motion.

15. City of Cleveland v. Cleveland Illuminating Co., 440 F. Supp. 193 (N.D. Ohio 1976), aff’d, 573 F. 2d 1310 (6th Cir. 1977),cert. denied, 435 U.S. 996 (1978). In this action, the City of Cleveland moved to disqualify the law firm representing thedefendant electric company in an antitrust case brought by the City against the electric company. The City argued that the firm


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defendant electric company in an antitrust case brought by the City against the electric company. The City argued that the firmhad a conflict of interest because it had served as bond counsel for the City on several prior occasions. The court denied theCity’s motion finding that the doctrines of both equitable estoppel and waiver barred the City from bringing the motion. The courtnoted that when the City retained the firm as bond counsel, it had full knowledge of the firm’s long standing generalrepresentation of the electric company and it clearly indicated its intention to waive any potential ethical objections. The courtalso ruled that the "adversity of representation" required for disqualification was missing. Similarly, the court concluded that the"substantial relationship" between the antitrust action and the law firm’s work for the City as bond counsel required fordisqualification was lacking. Finally, the court refused to presume that confidential information had been disclosed by the City tothe lawyer representing the electric company. The case contains interesting dicta regarding the role of bond counsel as a"scrivener" who drafts documents and questioning whether bond counsel should be subject to traditional conflict of interest rules.

Ethics Opinions

1. Iowa Supreme Court, Board of Ethics and Conduct, Formal Ethics Opinion 95-20 (February 22, 1996) (discussed in "Liabilitiesand Professional Responsibilities of Bond Lawyers—An Overview" at Part IV.C.).

2. Mississippi State Bar Ethics Committee, Opinion No. 210 (1993). A law firm that was retained by a municipality as bondcounsel on a general obligation bond issue could not simultaneously represent another party in annexation litigation against thesame municipality.

3. Oregon State Bar Association, Board of Governors, Formal Opinion 1991-37 (July 1991). The Board held that a lawyer couldnot represent the issuer and underwriter in the same transaction, even with consent. [Note: Oregon’s version of DR 5-105 of theABA Model Code is very different from the ABA prototype and most other states’ versions of it. The result may have beendifferent under the ABA version, and it is even more likely that the result would have been different in states having a version ofthe newer ABA Model Rules.]

4. New York State Bar Association Committee on Professional Ethics, Opinion 580 (1987). A lawyer who represented clientsappearing before a municipality’s zoning and planning board, clients in tax proceedings against the municipality, and clients inpersonal injury actions against the municipality could not simultaneously become special bond counsel for the municipality. Thelawyer could, however, serve as bond counsel for the municipality’s industrial development agency even though, at the sametime, he represented private clients in proceedings against the parent municipality. The New York Bar Committee on ProfessionalEthics reasoned that the industrial development agency was a distinct corporate entity from the parent municipality, andtherefore no conflict of interest was created by the simultaneous representation. The Committee concluded that dicta in City ofCleveland v. Cleveland Illuminating Co., 440 F. Supp. 193 (N.D. Ohio 1976), aff’d, 573 F. 2d 1310 (6th Cir. 1977), cert. denied,435 U.S. 996 (1978), described at No. 12 in the list of decisions in this Appendix E referring to bond counsel as a "scrivener[who] drafts instruments" did not exempt bond counsel from the general rules of conflict of interest.

5. ABA Informal Decision 534 (1962). The issue before the ABA Ethics Committee here was whether it was unethical for bondcounsel to pay a forwarding fee (typically one third of his total fee) to the local solicitor who was responsible for recommendingbond counsel. Not surprisingly, the Ethics Committee held that the "automatic payment" of a forwarder’s fee to the local solicitorviolated the Canons of Ethics then in effect. The Committee went on to distinguish the situation where the local solicitorperformed services in connection with the issue that would justify sharing the fee and had the consent of his client after fulldisclosure. Under those circumstances, the Committee stated, a division of fees commensurate with the services performedwould be permissible. While this opinion was rendered under the old Cannons of Legal Ethics, the result would probably be thesame under current rules.

6. ABA Formal Opinion 71 (1932). In this early opinion, the ABA Ethics Committee held that it would be unethical for a lawyerwho did legal work in connection with a municipal bond issue to thereafter challenge the validity of those bonds either on behalfof the city commission for whom he worked or on behalf of a taxpayer.

APPENDIX F

Litigating Matters Arising from Your Firm’s Transaction Work

by Brian J. Redding

[To be published in the September 1997 ALAS Loss Prevention Journal.]

A new species of conflict of interest problem is appearing in ALAS claims. The problem is one that many lawyers, (even very goodlawyers) tend to overlook when beginning a litigation representation. The situation is a common one. Your firm has donetransactional work for a client. Someone suffers economic harm as a result of matters related to the transaction and sues theclient. The client asks your firm to represent them in the transaction. This common occurrence can’t be a problem, can it?Unfortunately, the answer is that sometimes it can create potential problems and often creates conflict issues that require reviewand resolution. Failure to deal with these issues can create hindsight-based malpractice claims.

What is the Problem?

The problem is that, depending on circumstances, it is possible that the conduct of the litigation may generate situations wherethe law firm’s interest may differ from the client’s interest. If so, a conflict under Rule 1.7(b) of the ABA Model Rules ofProfessional Conduct, or D.R. 5-101(A) of the Model Code of Professional Responsibility, may exist. There are two factors thatneed to be assessed in analyzing these matters. First, is there a nonfrivolous claim that the litigation claim arose, in whole or inpart, because of deficient legal work by the firm’s transactional lawyers? Second, are there strategically diverse ways in whichthe case might be litigated, and, if so, is there a possibility that the law firm’s tactical decisions could (at least theoretically) beinfluenced by its own economic interest? That is, is there a possibility that the law firm could skew the defense so as to minimizethe likelihood that its transactional partner’s conduct might be found to be a cause of the client’s loss.


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Does every case arising out of a law firm’s transactional work create a conflict requiring disclosure of the "conflict issue" to theclient, and consent by the client? We believe not. However, some do. Indeed if the conflict is very serious, the conflict may benonconsentable. How do you tell?

First, analyze the possibility that legally deficient transactional work contributed materially to the lawsuit. Second, analyzewhether there are potentially divergent legal strategies for handling the litigation so that the potential exists for the firm’s owninterests to interfere with the legal judgment of the litigators handling the matter. If any claim of transactional malpractice wouldbe wholly frivolous, or if there does not appear to be any way the litigator’s judgment could possibly be affected, there probablyis not even a duty to raise the conflict issue. If, on the other hand, some claim could be raised that the transactional lawyer’swork was deficient and variable strategic decisions are likely to exist, disclosure of the issues should be made to the client, and awaiver obtained. At some point along the spectrum from the claim of malpractice being frivolous to the claim being a slam-dunkmalpractice claim the serious but consentable conflict turns into a nonconsentable conflict. Where you cross the line is sometimesdifficult to assess.

The Lawyer as Witness Problem

One problem that must always be addressed in litigation arising out of a firm’s transactional work is the lawyer as witnessproblem. In Model Code states, DR5-102(A) generally prohibits the entire firm from participating at trial if a lawyer "learns or it isobvious that he or a lawyer in his firm ought to be called as a witness on behalf of his client." In Model Rules states the blanketprohibition applies only to the lawyer-witness, and not to other lawyers in her firm. See Model Rule 3.7(b). Be careful, however.While Rule 3.7(b) removes the Model Code’s automatic disqualification of the whole firm, this provision is limited. It specificallyallows another lawyer from the lawyer-witnesses firm to serve "unless precluded from doing so by Rule 1.7 or 1.9." Thus, wherea conflict between the firm’s position and the client’s is sufficiently serious, Rule 1.7 may require the firm to withdraw. What kindof conflict might require that result? Suppose the lawyer-witness will contradict the client’s president on a key evidentiary point,potentially exposing the client to punitive damages if the lawyer-witness is believed. That is a situation that normally wouldcreate a serious conflict for the trial lawyer. Even when the possible conflict is not so serious, it may require disclosure andconsent. In very close consentability cases, it may be desirable for the client to have consent counsel.

Suggestions for Dealing with Potential "Prior Work" Conflicts

What is the best way to deal with "prior work" conflicts? We have several suggestions for you.

a. When the issue arises, consult your firm’s Loss Prevention Partner, or a member of the firm’s ethics committee. We believethat the analysis of whether a conflict exists, and, if so, whether the conflict is consentable, is better done by a neutral person(used to doing conflict analysis) than by the lawyers working on the matter.

b. If consent is required, full disclosure should be made. Again, the loss prevention partner should approve the form of thedisclosure letter.

c. As with all ethics committee or loss prevention matters, if the Loss Prevention Partner or ethics committee memberrecommends disclosure and consent, require that all firm lawyers follow that advice, or appeal to the ethics committee, ormanagement committee.

d. If there is a serious question on consentability, suggest that the client consult separate counsel ("consent counsel"). Consentcounsel may, and often should, be in-house counsel. The legal test for consentability in many jurisdictions is whether neutrallawyer would advise the client to consent. Obviously, evidence that a neutral lawyer did advise the firm to consent is solidevidence supporting consentability.

Following these suggestions is no guarantee that you’ll avoid "prior work" conflict claims. They will, however, deter some claimsand will make others easier to defend.

Conclusion

ALAS has had several "prior work" claims asserted against Member Firms in recent years. One such claim resulted in a significantrecent settlement. Such claims, like most other types of malpractice or breach of fiduciary obligation claims against lawyers, arelikely to increase in future years. Dealing actively with potential problems of this type, by involving the firm’s Loss PreventionPartner or ethics committee in the conflict assessment and resolution process, is the best way to avoid trouble. As always, if,ALAS loss prevention counsel can help, don’t hesitate to call us.

APPENDIX G

Bibliography

[Reprinted from the 1997 Loss Prevention Manual]

In addition to this Manual, and the ALAS Loss Prevention Journal, we recommend the following periodicals, treatises and otherauthorities on the subjects of legal ethics and professional liability.

Apart from the obvious necessity for having the ethics code(s) of the relevant jurisdiction(s) within arm’s reach, it is essentialthat the firm’s Loss Prevention Partner or Ethics Committee or the comparable person or body have access to and reviewregularly the ABA/BNA Lawyers’ Manual (No. 3 below) and either the (i) Annotated Code (No. 4 below) or (ii) Annotated ModelRules and the Hazard-Hodes Handbook (Nos. 5 and 6 below) depending upon which set of ethics rules is in effect in the state inquestion.

Ethics


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1. A Model Rules of Professional Conduct (1983). As of February 1997, some version of the ABA Model Rules ofProfessional Conduct has been adopted in the District of Columbia and the following 39 states: Alabama, Alaska,Arizona, Arkansas, Colorado, Connecticut, Delaware, Florida, Hawaii, Idaho, Illinois, Indiana, Kansas, Kentucky,Louisiana, Maryland, Michigan, Minnesota, Mississippi, Missouri, Montana, Nevada, New Hampshire, New Jersey,New Mexico, North Carolina, North Dakota, Oklahoma, Oregon, Pennsylvania, Rhode Island, South Carolina, SouthDakota, Texas, Utah, Washington, West Virginia, Wisconsin and Wyoming. (Proposals to adopt new rules based onthe Model Rules are presently pending in Massachusetts, North Carolina and Virginia.)

2. A Model Code of Professional Responsibility (1969). As of February 1997, some version of the ABA Model Code ofProfessional Responsibility remains in effect in the following 10 states: Georgia, Iowa, Maine, Massachusetts,Nebraska, New York, Ohio, Tennessee, Vermont and Virginia. (The 51st jurisdiction, California, historically has had,and continues to have, its own sui generis ethics code.)

3. ABA/BNA Lawyers’ Manual on Professional Conduct; Bureau of National Affairs, 1231 25th Street, N.W.,Washington, D.C. 20037, (202) 452-4200; supplements biweekly.

4. Annotated Code of Professional Responsibility (1979), American Bar Foundation, 750 North Lake Shore Drive,Chicago, Illinois 60611.

5. Annotated Model Rules of Professional Conduct (3d ed. 1996), American Bar Association, 750 North Lake ShoreDrive, Chicago, Illinois 60611.

6. The Law of Lawyering: A Handbook on the Model Rules of Professional Conduct (2d ed. 1990), authored by ProfessorsGeoffrey C. Hazard, Jr., of the University of Pennsylvania Law School and W. William Hodes of Indiana University School ofLaw–Indianapolis; Aspen Law & Business (formerly Prentice Hall Law & Business, Inc.), a division of Aspen Publishers, Inc., 7201McKinney Circle, Frederick, Maryland 21701, (800) 447-1717; supplements annually. A unique, sophisticated, plain Englishanalysis of the Model Rules.

7. The Georgetown Journal of Legal Ethics, 600 New Jersey Ave., N.W., Washington, D.C. 20001, (202) 662-9522; publishedquarterly. This is the only law school journal devoted exclusively to legal ethics, and it is excellent.

8. Modern Legal Ethics (1986), authored by Professor Charles W. Wolfram of Cornell Law School; West Group, 620 OppermanDrive, Eagan, Minnesota 55123, (800) 328-9352. (Professor Wolfram is preparing a second edition scheduled for publication in1998.)

9. National Reporter on Legal Ethics and Professional Responsibility, University Publications of America, 4520 East-West Highway,Suite 800, Bethesda, Maryland 20814-3319, (301) 657-3200. Collects all states’ ethics rules, ethics committee opinions andcourt opinions on ethics issues. Quite comprehensive, but rules are often several years out of date and many states’ rules do notshow date of last amendment.

10. Risks of Violation of Rules of Professional Responsibility by Reason of the Increased Disparity Among the States, 45 Bus. Law.1229 (1990).

11. Symposium, Ethics and the Multijurisdictional Practice of Law, 36 S. Tex. L. Rev. 657 (1995). The papers from a February1995 conference are collected in the November 1995 issue of the South Texas Law Review, the most comprehensive treatment todate of the ethics issues presented in multijurisdiction practice. Copies are no longer available from the Review, but may beordered from Hein and Company, 1285 Main Street, Buffalo, New York 14209, (800) 828-7571.

The Restatement

12. The American Law Institute Restatement of the Law Governing Lawyers (See Tab III.D.):

A. Tentative Draft No. 1 (superseded; no longer relevant).

B. Tentative Draft No. 2 (4/7/89); Chapter 5. Client Confidential Information.

C. Tentative Draft No. 3 (4/10/90); Chapter 5. Confidential Client Information, and Chapter 8. Conflicts of Interest.

D. Tentative Draft No. 4 (4/10/91); Chapter 8. Conflicts of Interest, and Chapter 3. Client and Lawyer: The Financial andProperty Relationship.

E. Tentative Draft No. 5 (3/16/92); Chapter 5. Confidential Client Information, and Chapter 2. The Client-Lawyer Relationship.

F. Tentative Draft No. 6 (3/22/93); Chapter 5. Confidential Client Information, Topic 3. Lawyer Work Product Immunity.

G. Tentative Draft No. 7 (4/7/94); Chapter 4. Lawyer Civil Liability.

H. Proposed Final Draft No. 1 (3/29/96) of Chapters 2, 3, 5, and 8. Proposed Final Draft No. 1 has essentially supersededTentative Drafts No. 2 through 6.

I. Tentative Draft No. 8 (March 21, 1997); Chapter 4. Lawyers Civil Liability, Chapter 6. Lawyers in the Adversary System, andChapter 7. Lawyers as Counselors.

Note: Copies of all of the foregoing Tentative Drafts and Proposed Final Draft No. 1 are available at nominal cost from CustomerService Department, The American Law Institute, 4025 Chestnut Street, Philadelphia, Pennsylvania 19104-3099, (800)253 6397


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253-6397.

Law Firms

13. Hillman on Lawyer Mobility: The Law and Ethics of Partner Withdrawals and Law Firm Breakups, by Robert W. Hillman;originally published by Little Brown & Company. As of February 1997 this publication was available from Aspen Publishers, Inc.,7201 McKinney Circle, Frederick, Maryland 21701, (800) 447-1717. This book, which appears to be the only comprehensivetreatise on this subject, received a laudatory review by Dean Harry J. Haynsworth in the November 1994 edition of The BusinessLawyer.

14. The Law of Law Firms (1994), written by Jacob A. Stein of the District of Columbia and Maryland Bars; available for $165from West Group, 620 Opperman Drive, Eagan, Minnesota 55123, (800) 328-9352. This 522-page volume attempts to cover theentire range of the law relating to law firm practice, from formation to dissolution, including discussions of professional liabilityand the risks of law firm disqualification. Because of its breadth, the book does not provide a comprehensive treatment of theseissues. As the only work of its kind, however, the book is a useful primer on various law firm matters.

15. Law Partnership: Its Rights and Responsibilities (1996), by George H. Cain, American Bar Association, 750 North Lake ShoreDrive, Chicago, Illinois 60611. This book offers a guide to the meaning and consequences of partnership and includes practicaladvice on such matters as the drafting of a partnership agreement, the relationship between partners and associates, and themanagement and dissolution of a law firm partnership.

Professional Liability

16. Lawyers’ Liability Review; published by VersusLaw, Inc., 2613 151st Place N.E., Redmond, Washington 98052 (206)462-7714, (800) 444-7714; published monthly.

17. Professional Liability Reporter; published monthly for $375 per year available from West Group, 620 Opperman Drive, Eagan,Minnesota 55123, (800) 328-9352.

Documents

Liabilities & Professional Responsibilities of Bond Lawyers....The "shot across the bow" for bond lawyers as to the liability potential of their practice was settlement of the WPPSS