Directors’ Right to Access Privileged Communication

James Langston, and Mark McDonald are partners and Christopher Austin is senior counsel at Cleary Gottlieb Steen & Hamilton LLP. This post is based on a Cleary memorandum by Mr. Langston, Mr. McDonald, Mr. Austin, Rahul Mukhi and Elizabeth Carlson. This post is part of the Delaware law series; links to other posts in the series are available here.

A recent decision of the Delaware Court of Chancery in the ongoing WeWork/SoftBank litigation addressed a previously unresolved question: can management withhold its communications with company counsel from members of the board of directors on the basis that such communications are privileged? Building on past Delaware decisions concerning directors’ rights to communications with company counsel, including in the CBS case we previously discussed here, the court clarified that directors are always entitled to communications between management and company counsel unless there is a formal board process to wall off such directors (such as the formation of a special committee) or other actions at the board level demonstrating “manifest adversity” between the company and those directors. See In re WeWork Litigation, C.A. No. 0258-AGB (Del. Ch. August 21, 2020). In other words, management cannot unilaterally decide to withhold its communications with company counsel from the board (or specified directors management deems to have a conflict).

Background

This case concerns a series of transactions involving The We Company (“WeWork”) and SoftBank and its affiliate (collectively referred to here as “SoftBank”) that resulted in SoftBank acquiring effective control of WeWork from Adam Neumann, one of the company’s founders. As part of the transactions, SoftBank also agreed to commence a tender offer to acquire additional WeWork shares from existing stockholders. Due to control of the company shifting from Neumann to SoftBank, a Special Committee of WeWork’s board of directors was empaneled and negotiated the transactions with SoftBank and Neumann. In April of this year, however, Softbank terminated the tender offer, claiming that certain closing conditions were incapable of being satisfied. Shortly thereafter, the Special Committee brought an action on behalf of WeWork against SoftBank for breach of contract and breach of fiduciary duty. Neumann separately commenced litigation against SoftBank based on similar allegations.

In response, on April 17, 2020, SoftBank sent a letter to the WeWork board asserting that the Special Committee lacked the authority to pursue litigation on behalf of the company and that its members’ desire to tender a significant portion of their WeWork shares in the offer created a conflict of interest that should disable the Special Committee from continuing the litigation. Three days later, the Special Committee responded with its own letter to the WeWork board, denying that it faced a conflict of interest and alleging that every other member of the WeWork board was conflicted. At the time, the board of directors consisted of four SoftBank designees, including the company’s Chief Executive Officer, the two Special Committee members, and two other directors. On April 29, 2020, the Board voted 6-2 to appoint two temporary board members (the “New Committee”) who would investigate the “scope of the Special Committee’s authority and the pending litigation.” [1]

Following a search process authorized by a majority of the board and led by WeWork management, two candidates were identified and appointed to the New Committee on May 29, 2020. Once appointed, the New Committee engaged its own counsel and investigated the issues raised by the competing letters of SoftBank and the Special Committee. On July 28, 2020, the New Committee delivered a report to the Board finding that the Special Committee lacked authority to bring and maintain the lawsuit on the company’s behalf and directing that the lawsuit be discontinued. WeWork accordingly filed a motion for leave to dismiss the action without prejudice.

In connection with its opposition to that motion, the Special Committee sought discovery of communications between company management, in-house counsel, and outside counsel regarding the formation of the New Committee in order to “test the bona fides of the New Committee process” that the Special Committee alleged SoftBank “put in motion.” [2]

As we previously explained in connection with the CBS litigation, Delaware law is clear that directors of a corporation have an “essentially unfettered” right to access legal advice rendered to the company or the board, with few exceptions: [3]

  • One exception arises when a special committee is appointed and retains separate legal counsel in connection with its work. [4] The CBS case confirmed that communications between the special committee and its counsel (and with company counsel to the extent it was assisting special committee counsel) were shielded from discovery by directors affiliated with the controlling stockholder, but only to the extent they related to matters within the scope of the special committee’s authority. Consistent with the CBS decision, the WeWork Special Committee did not seek communications between the New Committee and its counsel.
  • A second exception (the “manifest adversity” exception) is available where “sufficient adversity” exists between different board members such that the directors whose interests may be adverse to the company “could no longer have a reasonable expectation that they were clients of [the company’s] counsel.” [5] WeWork management sought to rely on this exception to deny the Special Committee access to management communications with company counsel prior to (but regarding) the formation of the New Committee.

The Court’s Decision

The court determined that the manifest adversity exception was not available and therefore concluded that the Special Committee was entitled to the communications it had requested.

The court’s decision was based on the fundamental principle that the management of the business and affairs of a Delaware corporation is vested in the board of directors (and not management). The court noted in particular that in prior cases in which the “manifest adversity” exception was recognized, the privilege was asserted by the board of directors (or a committee thereof acting within the scope of its authority) and not unilaterally by management of the company. The court acknowledged the concern that a ruling compelling management to divulge privileged communications regarding the formation of the New Committee could deter management from seeking legal advice in future cases for fear that those communications would be disclosed to potentially conflicted board members. Nonetheless, the court determined that “these concerns must give way to the ultimate authority of the board of directors.” [6]

Takeaways

  • This decision reaffirms that directors enjoy essentially “unfettered access” to privileged communications involving company counsel unless one of the narrowly defined exceptions exists.
  • Communications between a special committee and its counsel (and company counsel to the extent within the scope of the special committee’s authority) will remain privileged and not available to the conflicted directors.
  • In order to rely on the “manifest adversity” exception prior to formation (or in the absence) of a special committee, the exception must be asserted by (or at the direction of) the board. Management communications with company counsel can be withheld from a director if, but only if, the board first makes it clear to the excluded director that the corporation’s interests are adverse to the excluded director’s interest (and such communications relate to the adverse matter). Management cannot make that determination by itself—regardless of how strongly it believes that the director’s interests are adverse to the company’s.
  • If management believes that all members of the board may be conflicted, that view should be communicated to the full board and the board should determine how to proceed. Management should assume that its communications with any counsel that management may consult prior to referral to the board will be available to all members of the board.

Endnotes

1See In re WeWork Litigation, C.A. No. 0258-AGB, at 7.(go back)

2See id. at 21.(go back)

3Kalisman v. Friedman, 2013 WL 1668205, at *3-4 (Del. Ch.).(go back)

4Id. at *4-5.(go back)

5Id. at *5.(go back)

6See In re WeWork Litigation, C.A. No. 0258-AGB, at 20.(go back)

Trackbacks are closed, but you can post a comment.

Post a Comment

Your email is never published nor shared. Required fields are marked *

*
*

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <s> <strike> <strong>