N.C. Business Court Strengthens a Company’s Ability to Assert Attorney-Client Privilege in Disputes With Officers and Directors

By Mike Mitchell and Hope Garber

With its origins in the 16th century, the attorney-client privilege is one of the oldest doctrines in our common law tradition. Even so, new issues do arise, like in the North Carolina Business Court case Hosie v. 8 Rivers Capital, LLC, which recently presented two unresolved privilege issues under North Carolina law: (1) the choice of law for privilege issues and (2) who controls the privilege over corporate communications in a dispute between a company and its officers or directors.

On the first issue, the court held that privilege is a procedural issue governed by the law where the lawsuit is filed, thereby providing predictability to litigants on what law will apply. On the second issue, the court held that the company controls the privilege, protecting privileged corporate communications from directors or officers who become adverse to the company in litigation.

Hosie involved a dispute between a limited liability company and its former CEO, who was also a manager. During the discovery process, the former CEO sought corporate communications regarding actions he took while employed. The company withheld several documents as privileged. All of the withheld documents were created during the former CEO’s tenure as a manager of the company, and the vast majority were created during his tenure as CEO—indeed, he personally sent or received almost half of the withheld communications.

In determining whether the documents were properly withheld, the court first had to decide which state’s law governed the privilege analysis. The former CEO argued that Delaware law applied because the company was organized there, the operating agreement had a Delaware choice-of-law clause, and the “internal affairs doctrine” provides that only one state should have authority over a company’s internal affairs. The court rejected each of these arguments, holding that privilege is a collateral issue that falls outside the scope of a contractual choice-of-law clause and that, at least in this case, it “did not relate to the types of issues involving corporate governance to which courts have traditionally applied the internal affairs doctrine.” Rather, privilege is a procedural issue for which the law of the place of the litigation—North Carolina—provides the governing rule.

After deciding that North Carolina law applied, the court then had to decide what North Carolina law was (or should be) on the privilege issue. The former CEO, unsurprisingly, argued that North Carolina should adopt Delaware’s “joint-client approach.” Under the joint-client approach, a company and its individual officers and directors are treated as joint clients with respect to privileged material created during each individual’s tenure and the company therefore cannot withhold such material in a subsequent dispute. The majority of jurisdictions, however, follow the “entity-is-the-client approach,” under which the company alone controls the privilege and the officers and directors are not entitled to the privileged material, even if they were personally involved in its creation during their tenure. The court adopted the entity-is-the-client approach, reasoning that it is more consistent with the reality that a company has no choice but to communicate through its officers and directors who should not be able to take advantage of their roles as agents once they are adverse to the company.

The court also rejected the former CEO’s alternative argument to apply the “fiduciary exception,” which bars fiduciaries from withholding privileged materials from their beneficiaries. As the court explained, North Carolina does not recognize the fiduciary exception and courts that do recognize it have not applied it to cases like this one.

While the court held that North Carolina law authorized the company’s assertion of the privilege, that did not end the inquiry. The question remained whether the company had waived its privilege over any of the communications. The court found that the company selectively disclosed privileged documents that were useful to its case, while withholding others that undermined its position. To remedy the unfairness that resulted from the use of the privilege as both a sword and a shield, the court treated the privilege as having been waived for all the communications on the subject matter of the selectively disclosed documents. This “subject-matter waiver” required the company to produce nearly half of the documents that it initially sought to withhold.

The court’s order in Hosie strengthens a corporate client’s ability to assert the attorney-client privilege in disputes with its officers and directors, but the waiver analysis is a reminder that the attorney-client privilege has its limits and cannot be used selectively in litigation.

If you have any questions about the attorney-client privilege in the context of corporate communications, please contact a member of the Litigation practice group or your regular Smith Anderson attorney.