Ten Tips for Handling Sensitive Investigations

The Enron, Tyco and WorldCom scandals have greatly heightened the fiduciary duties of directors and officers and the scrutiny paid to them. The spotlight on corporations and their managers is likely to shine brightly for years to come. This article offers ten practical tips for handling sensitive investigations in an era where shareholders, prosecutors, regulators and courts are likely to scrutinize the response of organizations to inevitable episodes of suspected corporate misconduct.

1. Consider whether an outside law firm with little or no relationship to the company will better serve the objectives of an independent investigation.

In matters potentially implicating senior corporate executives, the Board of Directors or Audit Committee should consider whether counsel conducting investigations should be from a law firm that the company regularly uses as outside counsel or that derives a material amount of revenues from the company. For example, in the Enron case, the firm had collected more than $100 million in legal fees from Enron, and its partners had provided legal advice in the transactions it later investigated. Issues of independence and self-interest clouded the credibility of the law firm's internal investigation.

If there is a serious question whether the outside law firm or the investigation counsel in that law firm will have the necessary objectivity and independence, the better course is to retain an experienced law firm with minimal or no historic relationship to the company or management.

2. Carefully define the scope of the investigation at the outset.

The client (the corporation, the Board of Directors or Audit Committee) and investigating counsel must take great care to define the scope of the investigation at the outset of the engagement. If the scope is drawn too narrowly, stakeholders and government authorities will dismiss the purpose, objectivity and use of the report, or later criticize any failure to review possible misconduct that was outside the narrowly drawn scope. If drawn too broadly, an investigation can be aimless and continue indefinitely with no meaningful benefit to the client. The client mandate should be reduced to writing and allow for expanding or redefining the investigation if unforeseen issues arise.

3. Promptly take steps to secure all relevant documents.

Many corporate internal investigations arise at a point when a government inquiry or investigation is known, imminent or probable. The Sarbanes-Oxley Act of 2002 (the Act) broadened the reach of obstruction of justice statutes. See 18 U.S.C. ' 1519 (2002). To ensure that the corporation and its employees are not investigated or prosecuted for obstruction of justice, counsel in an investigation should take prompt steps to secure and preserve relevant original documents. In transnational investigations, counsel should carefully consider whether the transfer of documents from their original location will provide jurisdiction over documents that would not otherwise exist. Documents kept out of the jurisdiction must still be preserved since the inferences that would be drawn from spoliation are invariably disastrous.

4. Make clear to employees that investigating counsel do NOT represent them.

Many employees mistakenly believe that interviewing counsel represent their interests during investigation interviews. Counsel must give Upjohn warnings to officers and employees, making clear the nature and purpose of the investigation, whom counsel represents (ie, the corporation and not the officer or employee), the privileged nature of the interview, and who retains the privilege (ie, the corporation). Otherwise, there is a clear risk of litigation over use, waiver and admissibility of interview statements. Memoranda of interviews should reflect the Upjohn preamble that investigating counsel have provided to interviewees.

5. Ensure that investigating counsel avoid or at least minimize public statements about the internal investigation.

Investigating counsel conduct internal investigations in order to provide confidential legal advice to clients. If counsel or the client makes public statements about the investigation, courts may conclude that it was motivated by business necessities and public relations and is not privileged. See In re Kidder Peabody Securities Litigation, 168 F.R.D. 459, 465-455 (S.D.N.Y. 1996).

6. Keep in mind that a written report will in many cases be appropriate.

Whether a company is best served by a written or oral report will turn on the facts of each situation. See Webb, Tarun and Molo, Corporate Internal Investigations, ' 11.03 (Law Journal Seminars Press 2003).

In the Sarbanes-Oxley era, stakeholders and government agencies may view an oral report with skepticism in the wake of serious allegations of corporate misconduct. A written report better assures that the company, the board of directors and relevant committees will undertake a full review of the issues, understand the prescribed legal advice, and implement recommended remedial action.

7. Assume any written report may ultimately be released to the public.

Counsel must take all steps to protect the privileged nature of a report, the underlying interviews, other factual investigation and legal research. Still, counsel should assume that in the current prosecutorial, regulatory and shareholder climate, any written report will be released at some point to government agencies or parties other than the client. The “Federal Prosecution of Business Organizations” policy (Department of Justice: January 20, 2003) states that one of the nine factors in reaching a decision as to the proper treatment of a corporate target is the corporation's timely and voluntary disclosure of wrongdoing and its willingness to cooperate in the investigation of its officers and employees, including, if necessary, the waiver of corporate attorney-client and work product protection. The Commentary to this important policy provides that certain factors may be weighted more or less than others depending upon law enforcement priorities. Prosecutors and regulators have been increasingly aggressive in seeking written reports of corporate investigations, and counsel should anticipate this possibility while conducting an investigation and preparing a written report.

8. Understand that a report should be written for multiple audiences.

Given the likelihood that a written report may ultimately reach the public, counsel should draft it with great care and with all potential audiences in mind. Stakeholders of a corporation include shareholders, employees, lenders, customers, vendors, the communities where the company operates and conducts business. Stakeholders are likely to be contacted by the media, so journalists are also an important potential audience. Potential government audiences include law enforcement authorities such as the Department of Justice, U.S. Attorney offices, FBI, and state attorneys general; regulatory agencies such as the SEC; and legislative bodies including Senate and House committees. Other important potential audiences are self-regulatory organizations (SROs) and federal, state and municipal licensing authorities.

9. Investigating counsel must be ever-mindful of process when representing a Board of Directors, Audit Committee or Special Committee.

Under the business judgment rule, reviewing courts focus largely on the manner in which a director performs his or her duties — not the correctness or wisdom of the decision. Likewise, prosecutors and regulators such as the SEC will examine the process under which an investigation was conducted. Sarbanes-Oxley expressly encourages corporate officers to seek and rely on expert advice from outside counsel and others. If counsel and the client do not thoroughly examine the facts, review the issues and consider and implement remedial actions, the investigation may not earn the company any credit and, in fact, can harm the interests of the corporation and its shareholders.

Counsel must therefore be mindful of process in representing the client. You should explain the nature of the investigation, the likely course of the investigation, the potential legal risks, disciplinary options and remedial actions available to the company. To protect the corporation, there should be a clear record of the process and care with which the directors have reviewed and addressed the matters at issue.

10. Counsel and client must follow through on recommendations to remedy problems at hand and prevent recurrence of the problem(s) that led to the investigation.

It is rare that an investigation of corporate misconduct or misfeasance will not lead to formal or informal recommendations to the Board of Directors, Audit Committee or a special committee. Once a crisis subsides, the client often becomes occupied with other business and fails to ensure that recommendations have been implemented to minimize the reoccurrence of similar problems.

If new corporate misconduct later comes to light, prosecutors and regulators will likely review the company's response to prior incidents when they make charging or enforcement decisions. New directors and officers will in most instances be held responsible for familiarizing themselves with past governance problems and ensuring that management has in fact implemented recommendations.

The Enron, Tyco and WorldCom scandals have greatly heightened the fiduciary duties of directors and officers and the scrutiny paid to them. The spotlight on corporations and their managers is likely to shine brightly for years to come. This article offers ten practical tips for handling sensitive investigations in an era where shareholders, prosecutors, regulators and courts are likely to scrutinize the response of organizations to inevitable episodes of suspected corporate misconduct.

1. Consider whether an outside law firm with little or no relationship to the company will better serve the objectives of an independent investigation.

In matters potentially implicating senior corporate executives, the Board of Directors or Audit Committee should consider whether counsel conducting investigations should be from a law firm that the company regularly uses as outside counsel or that derives a material amount of revenues from the company. For example, in the Enron case, the firm had collected more than $100 million in legal fees from Enron, and its partners had provided legal advice in the transactions it later investigated. Issues of independence and self-interest clouded the credibility of the law firm's internal investigation.

If there is a serious question whether the outside law firm or the investigation counsel in that law firm will have the necessary objectivity and independence, the better course is to retain an experienced law firm with minimal or no historic relationship to the company or management.

2. Carefully define the scope of the investigation at the outset.

The client (the corporation, the Board of Directors or Audit Committee) and investigating counsel must take great care to define the scope of the investigation at the outset of the engagement. If the scope is drawn too narrowly, stakeholders and government authorities will dismiss the purpose, objectivity and use of the report, or later criticize any failure to review possible misconduct that was outside the narrowly drawn scope. If drawn too broadly, an investigation can be aimless and continue indefinitely with no meaningful benefit to the client. The client mandate should be reduced to writing and allow for expanding or redefining the investigation if unforeseen issues arise.

3. Promptly take steps to secure all relevant documents.

Many corporate internal investigations arise at a point when a government inquiry or investigation is known, imminent or probable. The Sarbanes-Oxley Act of 2002 (the Act) broadened the reach of obstruction of justice statutes. See 18 U.S.C. ' 1519 (2002). To ensure that the corporation and its employees are not investigated or prosecuted for obstruction of justice, counsel in an investigation should take prompt steps to secure and preserve relevant original documents. In transnational investigations, counsel should carefully consider whether the transfer of documents from their original location will provide jurisdiction over documents that would not otherwise exist. Documents kept out of the jurisdiction must still be preserved since the inferences that would be drawn from spoliation are invariably disastrous.

4. Make clear to employees that investigating counsel do NOT represent them.

Many employees mistakenly believe that interviewing counsel represent their interests during investigation interviews. Counsel must give Upjohn warnings to officers and employees, making clear the nature and purpose of the investigation, whom counsel represents (ie, the corporation and not the officer or employee), the privileged nature of the interview, and who retains the privilege (ie, the corporation). Otherwise, there is a clear risk of litigation over use, waiver and admissibility of interview statements. Memoranda of interviews should reflect the Upjohn preamble that investigating counsel have provided to interviewees.

5. Ensure that investigating counsel avoid or at least minimize public statements about the internal investigation.

Investigating counsel conduct internal investigations in order to provide confidential legal advice to clients. If counsel or the client makes public statements about the investigation, courts may conclude that it was motivated by business necessities and public relations and is not privileged. See In re Kidder Peabody Securities Litigation, 168 F.R.D. 459, 465-455 (S.D.N.Y. 1996).

6. Keep in mind that a written report will in many cases be appropriate.

Whether a company is best served by a written or oral report will turn on the facts of each situation. See Webb, Tarun and Molo, Corporate Internal Investigations, ' 11.03 (Law Journal Seminars Press 2003).

In the Sarbanes-Oxley era, stakeholders and government agencies may view an oral report with skepticism in the wake of serious allegations of corporate misconduct. A written report better assures that the company, the board of directors and relevant committees will undertake a full review of the issues, understand the prescribed legal advice, and implement recommended remedial action.

7. Assume any written report may ultimately be released to the public.

Counsel must take all steps to protect the privileged nature of a report, the underlying interviews, other factual investigation and legal research. Still, counsel should assume that in the current prosecutorial, regulatory and shareholder climate, any written report will be released at some point to government agencies or parties other than the client. The “Federal Prosecution of Business Organizations” policy (Department of Justice: January 20, 2003) states that one of the nine factors in reaching a decision as to the proper treatment of a corporate target is the corporation's timely and voluntary disclosure of wrongdoing and its willingness to cooperate in the investigation of its officers and employees, including, if necessary, the waiver of corporate attorney-client and work product protection. The Commentary to this important policy provides that certain factors may be weighted more or less than others depending upon law enforcement priorities. Prosecutors and regulators have been increasingly aggressive in seeking written reports of corporate investigations, and counsel should anticipate this possibility while conducting an investigation and preparing a written report.

8. Understand that a report should be written for multiple audiences.

Given the likelihood that a written report may ultimately reach the public, counsel should draft it with great care and with all potential audiences in mind. Stakeholders of a corporation include shareholders, employees, lenders, customers, vendors, the communities where the company operates and conducts business. Stakeholders are likely to be contacted by the media, so journalists are also an important potential audience. Potential government audiences include law enforcement authorities such as the Department of Justice, U.S. Attorney offices, FBI, and state attorneys general; regulatory agencies such as the SEC; and legislative bodies including Senate and House committees. Other important potential audiences are self-regulatory organizations (SROs) and federal, state and municipal licensing authorities.

9. Investigating counsel must be ever-mindful of process when representing a Board of Directors, Audit Committee or Special Committee.

Under the business judgment rule, reviewing courts focus largely on the manner in which a director performs his or her duties — not the correctness or wisdom of the decision. Likewise, prosecutors and regulators such as the SEC will examine the process under which an investigation was conducted. Sarbanes-Oxley expressly encourages corporate officers to seek and rely on expert advice from outside counsel and others. If counsel and the client do not thoroughly examine the facts, review the issues and consider and implement remedial actions, the investigation may not earn the company any credit and, in fact, can harm the interests of the corporation and its shareholders.

Counsel must therefore be mindful of process in representing the client. You should explain the nature of the investigation, the likely course of the investigation, the potential legal risks, disciplinary options and remedial actions available to the company. To protect the corporation, there should be a clear record of the process and care with which the directors have reviewed and addressed the matters at issue.

10. Counsel and client must follow through on recommendations to remedy problems at hand and prevent recurrence of the problem(s) that led to the investigation.

It is rare that an investigation of corporate misconduct or misfeasance will not lead to formal or informal recommendations to the Board of Directors, Audit Committee or a special committee. Once a crisis subsides, the client often becomes occupied with other business and fails to ensure that recommendations have been implemented to minimize the reoccurrence of similar problems.

If new corporate misconduct later comes to light, prosecutors and regulators will likely review the company's response to prior incidents when they make charging or enforcement decisions. New directors and officers will in most instances be held responsible for familiarizing themselves with past governance problems and ensuring that management has in fact implemented recommendations.