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Tekni-Plex, Inc. v. Meyner & Landis, 89 N.Y.2D 123 (October 22, 1996).

CONFLICT OF INTEREST -- FORMER CLIENT -- ATTORNEY DISQUALIFICATION

COUNSEL FOR A CLOSELY HELD CORPORATION MAY NOT REPRESENT THE FORMER SOLE SHAREHOLDER IN A DISPUTE WITH THE BUYER OVER THE SELLER'S REPRESENTATIONS.

[SUMMARY] | [ISSUE & DISPOSITION] | [AUTHORITIES CITED] | [COMMENTARY]

SUMMARY

Tekni-Plex ("old Tekni-Plex") retained the law firm of Meyner and Landis ("M & L") to obtain an environmental compliance permit and execute a merger with TP Acquisition Corporation ("new Tekni-Plex"). At the time of the merger, M & L also represented the sole shareholder of old Tekni-Plex, Tom Y.C. Tang, in several personal matters. Following the merger, new Tekni-Plex alleged breach of representations and warranties against Tang concerning issues of environmental compliance. Tang retained M & L in the arbitration, and new Tekni-Plex opposed the representation on conflict of interest grounds. The trial court disqualified M & L from representing Tang and ordered M & L to turn over all files concerning its prior representation of old Tekni-Plex to new Tekni-Plex.

ISSUE & DISPOSITION

Issue

  1. Whether long-time counsel for the seller corporation and its sole shareholder may continue to represent the shareholder in a subsequent dispute with the buyer.
  2. Whether the attorney-client privilege as to pre-merger communications transfers to the buyer.

Disposition

  1. No. When buyer continues the pre-existing business operation the buyer displaces the seller corporation, and former shareholder; the buyer controls the attorney-client privilege in matters concerning the company's operation.
  2. Yes. The control of the privilege for all pre-merger communications transfers to the buyer.
Order modified, without costs, and, as so modified, affirmed.

AUTHORITIES CITED

Cases Cited by the Court

  • Commodity Futures Trading Comm'n v. Weintraub, 471 U.S. 343 (1985).
  • International Elecs. Corp. v. Flanzer, 527 F.2d 1288 (2d Cir. 1975).
  • Medcom Holding Co. v. Baxter Travenol Lab. Inc., 689 F. Supp. 841 (N.D. Ill. 1988).
  • Federal Deposit Ins. Corp. v. Amundson, 682 F. Supp. 981 (D. Minn. 1988).
  • Solow v. W.R. Grace & Co., 83 N.Y.2d 303 (N.Y. 1994).
  • Spectrum Sys. v. Chemical Bank, 78 N.Y.2d 371 (N.Y.1991).
  • S&S Hotel v. 777 S.H. Corp., 69 N.Y.2d 437 (N.Y.1987).
  • People v. Mitchell, 58 N.Y.2d 368 (N.Y. 1983).
  • Cardinale v. Golinello, 43 N.Y.2d 288 (N.Y. 1977).
  • Thomson United States Inc. v. Gosnell, 573 N.Y.S.2d 375 (N.Y. Sup. Ct. 1991), aff'd, 581 N.Y.S.2d 764 (N.Y. App. Div.), appeal dismissed mem., 80 N.Y.2d 893 (N.Y. 1992).

Other Sources Cited by the Court

RELATED SOURCES

  • Bass Public Ltd. Co. v. Promus Cos., No. 92 CIV. 0969 (SWK), 1994 WL 9680 (S.D.N.Y. Jan. 10, 1994).
  • Metro-Goldwyn-Mayer, Inc. v. Tracinda Corp., 43 Cal.Rptr. 2d 327 (1995).

COMMENTARY

State of the Law Before Tekni-Plex

In Solow v. W.R. Grace & Co., 83 N.Y.2d 303, 309 (N.Y. 1994), the Court of Appeals, in considering disqualification, looked to Disciplinary Rule 5-108. See generally N.Y. Comp. Codes R. & Regs. tit. 22, § 1200.27(a)(1) (1996) (codifying DR 5-108). The court found that the burden of proof rests with the party seeking disqualification. Solow, 83 N.Y.2d at 308. The court required that three prongs be met before it would find for disqualification: (1) the moving party must be a former client of the lawyer; (2) the present matter must be "substantially related" to the prior representation; and (3) the interests of the present client must be materially adverse to those of the former client. Id.

The Southern District of New York in Bass Public Ltd. Co. v. Promus Cos., applied a "community of interests" theory in an action for disqualification No.92 CIV. 0969 (SWK), 1994 WL 9680 at *4 (S.D.N.Y. Jan. 10, 1994) . In Bass, the court denied the motion to disqualify when the law firm represented the seller and the pre-merger company against the buyer in the prior matter. In the second matter, the law firm represented the seller against the buyer. The greatest distinction between Bass and Tekni-Plex is that the Bass court did not merge the identity of the buyer with that of the purchased corporation.

The Bass court followed the Second Circuit's decision in International Elecs. Corp. v. Flanzer, 527 F.2d 1288 (2d Cir. 1975), a case distinguished by the New York Court of Appeals in Tekni-Plex. In Flanzer, as in Bass, jurisdiction rested on a federal question (i.e., securities law). It is important to note, as the Bass court did, that although the Second Circuit will "frequently look to the ABA Model Code or the N.Y. Code," when deciding cases based on professional conduct, "[t]here is no statutory duty, however, for [the court] to apply those codes, and disqualification remains in the [c]ourt's discretion." Bass, 1994 WL 9680 at *5 n.2.

Effect of Tekni-Plex on Current Law

In Tekni-Plex, the Court of Appeals applied the traditional three-prong conflict of interest test of DR5-108(a)(1) without considering the flexible "community of interests" analysis or inquiring into the loyalties or reasonable expectations of the interested parties. While Tekni-Plex affirmed the straightforward application of DR 5-108 for disqualification motions, the Court noted that "courts should avoid mechanical application of blanket rules." See Tekni-Plex at para. 20.

Under the first prong the court found that new Tekni-Plex was a former client of M & L. Although Tang and old Tekni-Plex structured the transaction as a sale of assets, the Court of Appeals found that "[a]s a practical matter," old Tekni-plex did not die. Id. at para. 28. Instead its business operations continued under new managers. The court then applied the dicta of the United States Supreme Court in Commodity Futures Trading Comm'n v. Weintraub and found that new Tekni-Plex possessed the right to assert the attorney-client privilege of old Tekni-Plex. Commodity Futures Trading Comm'n v. Weintraub, 471 U.S. at 352-53 ("[W]hen control of a corporation passes to new management, the authority to assert and waive the corporation's attorney-client privilege passes as well."). The Court of Appeals concluded that since new Tekni-Plex could invoke the privilege of old Tekni-Plex, new Tekni-Plex qualified as a "former client" of M & L.

The second prong of the test for disqualification was met because a substantial relationship existed between the current and former representations. M & L had assisted old Tekni-Plex on at least two matters that were substantially related to its current representation of Tang. M & L counseled old Tekni-Plex concerning environmental compliance and assisted the company in obtaining a permit for a machine whose compliance with environmental laws was in question.

The fact that the interests of M & L's present client, Tang, and M & L's former client, new Tekni-Plex, were adverse satisfied the third prong for disqualification. M & L's earlier representation of old Tekni-Plex provided M & L with access to confidential information conveyed by old Tekni-Plex concerning the environmental matters at issue in the suit between new Tekni-Plex and Tang. M & L's duty of confidentiality regarding these matters passed to new Tekni-Plex. Allowing M & L to represent Tang in the suit involving new Tekni-Plex would create the potential for the firm to use these confidences against new Tekni-Plex.

The court divided the confidential communications into two categories: (1) general business communications and (2) communications relating to merger negotiations. Id. at para. 41. When there is a continuation of the pre-merger business entity, the court will likely hold that the control of the attorney-client privilege passes to the new entity if the communications did not arise out of the disputed transaction. The post-merger entity will have the right to assert the attorney-client privilege to preclude the attorney from disclosing pre-merger general business communications. Id. at para. 42. However, communications arising out of the disputed transaction will not be protected by the attorney-client privilege. Id. at para. 45. The court will not allow the post-merger entity to assume the attorney-client privileges of one of the buyer's adversaries (old Tekni-Plex) while pursuing an action related to the transaction against another of the the buyer's adversaries (Tang).

Unanswered Questions

The court's opinion does not address the "community of interests" approach. Nonetheless, the court recognized that "the parties contemplated a unity of interest between old Tekni-Plex and Tang should a dispute arise between the buyer and seller regarding representations and warranties." See Tekni-Plex at para. 35. Whether the "community of interests" approach remains viable after Tekni-Plex is unclear.

The court's finding that new Tekni-Plex qualified as a "former client" virtually compelled the conclusion that new Tekni-Plex's interests were adverse to Tang's. Although new Tekni-Plex's interests were adverse to Tang's, old Tekni-Plex's interests never conflicted with those of Tang. As Tang's attorney, M & L would have been called upon to defend interests identical to those of old Tekni-Plex and Tang. Yet under the court's analysis, M & L's loyalty shifted from old Tekni-Plex and Tang to new Tekni-Plex.

Traditionally, attorney disqualification motions applied when an attorney switched sides by concluding representation of one party and then beginning representation of the other side. The Tekni-Plex court applied the traditional analysis although the client switched sides while the attorney continued to represent the same community of interests. When M & L represented old Tekni-Plex and Tang before the merger, M & L advocated the position that old Tekni-Plex complied with environmental laws. If M & L continued to represent Tang, M & L would not change its stance on this environmental issue. But if M & L were called upon to represent new Tekni-Plex, then M & L would be expected to change its stance on these environmental issues and advocate that old Tekni-Plex did not comply with environmental laws.

The Court of Appeals expressly declined to address the exception to the attorney-client privilege for co-clients who subsequently become adversaries. Tekni-Plex, at para. 12 (noting that the record does not support Tang's status as client on environmental compliance matters). If Tang had established himself as a co-client of old Tekni-Plex, the court likely would have resolved all privilege issues in favor of Tang and M & L. The joint representation exception to the attorney-client privilege prevents a lawyer from continuing to represent any co-client (new Tekni-Plex or Tang) once common representation can no longer be impartial and without improper effect on the responsibilities the lawyer has to all of the clients. See generally N.Y. Comp. Codes R. & Regs. tit. 22, § 1200.24(b) (1996) (codifying DR5-105(B)&(C)).

Survey of the Law in Other Jurisdictions

The California Court of Appeals in Metro-Goldwyn-Mayer, Inc. v. Tracinda Corp., 43 Cal.Rptr. 2d 327 (1995), demanded attorney disqualification under a more attenuated set of facts. At issue was Christensen White's representation of MGM and two of several shareholders, Kerkorian and Tracinda, in a merger and a subsequent bankruptcy. The bankruptcy proceeding was aborted when the bank funding the merger, Credit Lyonnais Bank Nederland N.V. (CLBN), pledged additional funds for MGM's operations. CLBN then filed a lawsuit against shareholders, including Kerkorian and Tracinda, for various counts of fraud and negligent misrepresentation. Kerkorian and Tracinda then hired Christensen White to represent them in the CLBN action. The court viewed the issue as a problem of simultaneous representation of clients with potentially adverse interests. Id. at 330. MGM argued Christensen White owed it a duty of loyalty because of a "long dormant class action brought by certain shareholders of MGM prior to the 1990 merger." Id. at 331. But the court resolved that the duty of loyalty Christensen White owed MGM was "an outgrowth of what is arguably the most significant corporate transaction MGM has been involved in to date, the merger." Id. at 331. The court declared that a corporate attorney's first duty is to the corporation. The court noted that when "a change in control occurs or is threatened . . . , members [of the bar] must rely on case law.Metro-Goldwyn-Mayer, Inc. v. Tracinda Corp., 43 Cal. Rptr. 2d at 333. California case law makes it clear that "[e]ven where counsel for a closely held corporation treats the interests of the majority shareholders and the corporation interchangeably, it is the attorney-client relationship with the corporation that is paramount for purposes of upholding the attorney-client privilege . . .." Id., 43 Cal. Rptr. 2d at 333 (quoting Hoiles v. Superior Court, 204 Cal. Rptr. 111 (1984). The court found the fact that the adversary that Christensen White faced was not MGM but CLBN to be a "distinction without a difference." Id. at 334. The proscription exists whenever counsel's employment is adverse to the client or former client and "can exist even though a prior client is not a party to the litigation." Id. at 334.

Special thanks to Charles W. Wolfram, Professor of Law, Cornell Law School, for his assistance in the preparation of this commentary.

Prepared By:

  • Richard J. Colosimo, '97
  • Rene M. Devlin, '97
  • Christopher M. Dube, '98
  • Denise A. Johnson, '98
  • Kelly M. Mann, '98
  • Rafael E. Morell, '98
  • Anne R. Myers, '97
  • Jason A. Shrensky, '98