Protecting Privileges in Fraud Examinations

True or false: An attorney hires a fraud examiner to investigate the facts necessary for the attorney to give legal advice to a client – thus, the fraud examiner has legally protected confidential communications with the attorney but not with the client. Not sure of the answer? Then this article is for you. (The answer is false.) 

Electronic Data Systems (EDS) learned a hard lesson when it investigated an employee on suspicion of expense account fraud. An investigation revealed the employee had stolen thousands of dollars from EDS.¹ During an interview, the employee said she had learned many of her fraud techniques from another employee, Frederick Steingraber. EDS’s in-house counsel then retained outside counsel and investigators to perform an independent analysis and write a report. Ultimately, Steingraber was terminated and EDS filed a lawsuit against him seeking to recover the amounts misappropriated.

During the lawsuit, Steingraber demanded EDS provide him with the investigation report as well as the investigator’s interview notes and memoranda. EDS argued these documents were privileged. The court disagreed and ordered the documents be given to Steingraber because it found the primary purpose of the investigation was to make a business decision about whether fraud had occurred and, if it had, whether to terminate Steingraber.² Because the main purpose of the investigation wasn’t related to litigation, the court said the documents weren’t privileged and had to be handed over to Steingraber. Handing over the report and documents provided Steingraber with crucial information about EDS’s investigation strategy, results, and witness statements.

Could EDS’s counsel and investigators have handled their investigation differently and, thus, have shielded their findings from disclosure? Yes, and in two important ways: first, if they had made it clear at the outset that the goal of the investigation was to provide legal advice about potential claims against Steingraber, the investigation materials might have been privileged. And secondly, if the investigation truly was for a business purpose, EDS’s counsel and investigators could have decided not to put their impressions, conclusions, and opinions in writing.

The legal right, or privilege, to maintain the confidentiality of investigation materials is a critical component of a fraud examination. Attorneys aren’t the only ones concerned with protecting a client’s privileges; fraud examiners also need to safeguard these privileges because their actions during fraud examinations can have a pivotal impact on whether their findings can be kept confidential. From the manner in which fraud examiners document employee interviews to the contents of their investigation reports, fraud examiners will find the landscape is riddled with pitfalls for the unwary. If privileges aren’t protected properly, a client might be forced to produce sensitive information for government investigators, private plaintiffs in lawsuits, or even to the alleged wrongdoer.

Knowing the subtleties of what makes information privileged can guide a fraud examiner in planning and conducting an investigation. This article provides an overview of the various privileges and doctrines that protect a client’s confidentiality.

ATTORNEY-CLIENT PRIVILEGE 

The attorney-client privilege protects communications between an attorney and a client that are made for the purpose of enabling the attorney to render legal advice. Note that this privilege applies only to “communications,” but it encompasses any form of communication, whether oral or written. For the privilege to apply, the communication must be between a client and an attorney, made for the purpose of rendering legal advice and made with the intent that the communication be confidential. The communication itself doesn’t have to involve rendering legal advice, but it must relate to the representation and be more than ministerial – that is, a communication discussing facts will be privileged, but one merely scheduling a meeting likely won’t be. The purpose of the attorney-client privilege is to encourage clients to engage in a full and frank dialogue with their attorneys so they might obtain adequate legal advice.

Beware of third parties. The mere presence of a third party to the communication can destroy the privilege. This can occur if a third party attends a meeting with the client (in person or on the telephone), is copied on an e-mail, or overhears a conversation. For example, if a client and an attorney are alone discussing a legal matter on an elevator, the privilege vanishes the moment another person steps onto the elevator. Similarly, if an e-mail between a client and an attorney is forwarded to a third party, even if by mistake, the privilege will be lost. The key to privilege is that the communication stays confidential.

Certain relationships are privileged. This doesn’t mean, however, that the presence of those working with the client or its counsel threatens the attorney-client privilege. For example, a fraud examiner who’s working under the direct supervision of an attorney is covered by the attorney-client privilege if the services “are of a necessary aid to the rendering of effective legal services to the client.”³ In other words, if a fraud examiner is working for an attorney to investigate facts that are necessary for the attorney to give legal advice, then communications between the client and the fraud examiner, and communications between the attorney and the fraud examiner, are privileged. The attorney can be either a client’s in-house counsel or outside counsel, but he or she must be involved in offering legal advice, not business advice.

For example, in Spectrum Systems Int’l Corp. v Chemical Bank, outside counsel and investigators conducted an investigation for Chemical Bank concerning possible fraud by certain employees and vendors.⁴ They wrote a report for the bank’s management detailing the facts, the possible claims, and the estimated damages. A fraud examiner interviewed the president of Spectrum, a vendor, and prepared a memorandum for the bank’s outside counsel. When litigation began against Spectrum it requested a copy of the report and related documents. Chemical Bank argued they were protected as attorney-client communications. The court agreed with Chemical Bank and held they were covered by the attorney-client privilege because they were communicated to Chemical Bank during the course of an investigation that was primarily legal in nature.⁵  

The fraud examiner’s role. From the outset of an investigation, a fraud examiner should consider ways in which the attorney-client privilege can be protected. For instance, it’s preferable for the fraud examiner to be retained directly by counsel, not by the client (though the client can be responsible for payment of fees and expenses). This arrangement can be set forth in an engagement letter from the fraud examiner to the attorney, and it should result in the fraud examiner being hired as an agent or expert working under the supervision of the attorney. In an engagement letter it’s also helpful for the fraud examiner to include language, if appropriate, that clarifies that the investigation is related to legal advice. For example, the letter could define the engagement as “providing investigative and forensic services under the supervision and at the direction of counsel in order to render legal advice to [client].”

Although reciting the nature of an engagement doesn’t determine legally that the attorney-client privilege applies, it’s evidence that might be used to support the privilege if necessary. To be safe, the fraud examiner should communicate findings and conclusions directly to the attorney or to the client and the attorney. Any written communications between the fraud examiner and either the client or counsel should be marked as “Privileged and Confidential: Attorney-Client Privilege.” These steps will ensure that attributes of a privileged exchange are present.

Who are you working for? It’s critical for the fraud examiner to distinguish an engagement in which he or she is retained by counsel from one in which he or she is hired by (or is an employee of) a client. When hired by a client without the involvement of an attorney, the attorney-client privilege won’t protect communications between the client and the fraud examiner. In such instances, the fraud examiner must know that communications with the client are vulnerable to disclosure in litigation or a government investigation. Accordingly, depending upon the client’s needs, it might be advisable to communicate sensitive information, conclusions, and opinions orally rather than in writing. Oral information still isn’t privileged, but it prevents others from obtaining documents that might reveal strategic information advantageous to an adversary.

WORK PRODUCT DOCTRINE 

The work product doctrine is another basis to protect the confidentiality of investigation materials. This doctrine (technically it’s not a privilege) was formally recognized by the U.S. Supreme Court in 1947; it protects the confidentiality of an attorney’s conclusions, opinions, impressions, and legal theories.⁶ The purpose is to prevent an adversary benefiting from seeing an attorney’s work product. “Work product” is broadly construed to include oral and written information in any form, including correspondence, notes, memoranda, and even an itemized invoice from an attorney. If an attorney’s thoughts, conclusions and opinions can be derived from any document, it’s protected work product. Work product can be vital for a fraud examiner to review during an investigation, because it might include counsel’s memoranda of witness interviews that the examiner didn’t attend, discussion of communications with the government and/or outside auditors, or counsel’s analysis of documents.

This doctrine, however, doesn’t apply merely because an attorney’s conclusions and opinions are involved. The determining factor is that litigation must have been anticipated at the time the work product was created. A lawsuit doesn’t have to be filed, or even threatened, but there must have been some reasonable belief that litigation could arise from the situation. There have been a number of court cases concerning when litigation is anticipated, and the outcome largely depends upon the individual case facts. The general rule is that the work product had to have been created because of the prospect of litigation – the doctrine won’t apply to documents that are prepared in the ordinary course of business or that were created irrespective of litigation.⁷  

Examples of when the work product doctrine applies include:
• the initiation of an investigation by a federal agency, such as the SEC;⁸
• an internal investigation initiated after a vendor has filed suit alleging improper deductions and credits;⁹
• an internal investigation of allegations of a hostile work environment;¹⁰ and
• an internal investigation conducted by a director of human resources after the company has received notice of a discrimination charge.¹¹ 

The fraud examiner’s work product. This last example illustrates an important aspect that’s particularly applicable to fraud examiners. The doctrine makes no distinction between materials prepared by attorneys and materials prepared by non-attorneys who are assisting attorneys. A fraud examiner’s work product, prepared under the supervision or at the direction of counsel, is protected. As the U.S. Supreme Court wrote, “attorneys often must rely on the assistance of investigators and other agents in the compilation of material in preparation for trial. It is therefore necessary that the [work product] doctrine protect materials prepared by agents for the attorney as well as those prepared by the attorney … .”¹² Similar to attorney-client privilege, the confidentiality of a fraud examiner’s work product turns on whether he or she is assisting attorneys.

What’s protected, what isn’t. Factual information and financial data aren’t work product, but an analysis or other evaluation of such data by fraud examiners can be work product if impressions, conclusions, and opinions can be derived from the manner in which the data are analyzed. For instance, in an investigation of an expense account fraud, the underlying journal entries and source documents aren’t privileged. However, if a fraud examiner analyzes this information and detects anomalies or patterns, the resulting work product (that is, a spreadsheet) would be privileged because it reflects strategies to detect the fraud and possibly conclusions about its existence.

Arming the fraud examiner. Fraud examiners should be aware of steps that will make it easier for clients to invoke work product protection to ensure confidentiality. Interview notes and memoranda containing the substance of an interview should clearly indicate the document includes the author’s thoughts, impressions, and conclusions. Any thoughts, impressions, or conclusions contained in interview notes or memoranda shouldn’t be segregated into a discrete section that would make it easy to delete and hand over the remainder of the document if ordered to do so. The better practice is to disburse thoughts and conclusions throughout the document so that the entire document is protected. The following is an example of language that can preface an interview memorandum:

This is a summary of the information conveyed during the interview. This summary is not a verbatim or chronological record of the statements made during the interview. Instead, it reflects the impressions and opinions of [counsel and/or investigators] formed as part of our representation of [client]. This memorandum is protected by the attorney-client privilege and/or the work product doctrine.

Similarly, with regard to other forms of work product, the language “Privileged and Confidential: Work Product” should be included in a header or footer.

Avoid recordings. A primary reason why it’s advisable not to record, even with the witness’ consent, an investigation interview by video, audio, or stenograph is to protect the work product. A word-for-word recording of an interview doesn’t reflect the attorney’s or the fraud examiner’s impressions, opinions, or conclusions. Instead, it’s essentially a nonprivileged witness statement (unless the interview can be classified as attorney-client communication). While it can be argued that the questions themselves could reveal the impressions or opinions of the questioner, it will be an uphill battle to protect the recording if it’s requested by the government or by a private plaintiff. There certainly are times in which a recording of an interview is appropriate, but not if the client has an interest in protecting the confidentiality of the interview.

WAIVERS, UNINTENTIONAL OR OTHERWISE 

All evidentiary privileges, regardless of the kind, belong to the client. That is, it’s the client’s privilege, and only the client has the power to enforce a privilege. Other than a few limited exceptions, such as when disclosure is necessary to prevent a crime or injury, an attorney or fraud examiner cannot disclose privileged information without the client’s consent.

The key to protecting a privilege is ensuring there’s no waiver. A waiver of a privilege can occur voluntarily if, for instance, a client wants to cooperate with the government by sharing investigation materials. However, a privilege generally can’t be selectively waived, which means that a client can’t select to voluntary waive a privilege and share materials with the government but not share them with private litigants in a lawsuit.

A waiver also can occur inadvertently. If an e-mail from an attorney to a client is copied accidentally to a third party, the attorney-client privilege might have been waived. One can imagine how often this occurs with the speed at which e-mails are sent. Inadvertent waivers also happen when documents are produced in an investigation or litigation and privileged materials are unintentionally included. Large-scale production of electronic information is common and it’s always a challenge to remove everything that’s privileged.

Shared work product and common interests. Unlike the attorney-client privilege, privileged work product can be shared with certain third parties with common interests if the disclosure doesn’t enable an adversary to gain access to the information.¹³ For instance, information can be shared with co-defendants in litigation without creating a waiver if their interests are aligned. Courts have held that information a company shares with its external auditors is protected by the work product doctrine, for instance, in an analysis of pending and threatened litigation in order to establish reserves.¹⁴ The common interests between the parties, however, must be “ ‘so parallel and nonadverse that, at least with respect to the transaction involved, they may be regarded as acting as joint venturers.’ ”¹⁵  

Nonparallel interests work against a company. Court decisions in several states involving McKesson Corporation held that disclosure of investigation materials to the SEC constituted a waiver of the work product protection because the SEC was an actual or potential adversary.¹⁶ Even though McKesson had sought to cooperate with the SEC to investigate possible securities fraud, their respective interests weren’t sufficiently aligned because the SEC was investigating McKesson. Moreover, the SEC’s goal was to impose liability on any wrongdoers, which could be McKesson itself. These cases also are noteworthy because McKesson had entered into a confidentiality agreement with the SEC, which one court held didn’t prevent a waiver because the agreement gave the SEC the ability to share the documents with others if it was in furtherance of the SEC’s duties.¹⁷  

Fraud examiners can take steps to help prevent an inadvertent waiver of a privilege. Communications should be kept within the inner circle of the client, its counsel, and the investigators who are retained by the counsel. Keep in mind that vendors a fraud examiner uses, such as a computer forensics firm, might not fall within this inner circle. When a fraud examiner shares his or her findings, opinions, and conclusions directly with the client, it’s preferable the counsel be present (even if only on the phone). Keep copies of documents to a minimum and share them only with the investigative team and essential members of management. Limit copies of documents by numbering them and marking them “Do Not Duplicate.” Label all privileged information, especially electronic information “Confidential and Privileged,” so that it can be easily identified. Conduct word searches to locate and remove privileged materials from large electronic productions. Segregate privileged electronic information into distinct computer files or folders to effectively safeguard this information.

Above all, understand legal privileges that apply in investigations, so that as a fraud examiner you can play an essential role in protecting a client’s privileges and preserve the confidentiality of certain investigation materials.

Scott P. Hilsen, J.D., M.B.A., CFE, is a partner with Alston & Bird LLP in Atlanta, Ga., focusing on securities class actions, shareholder derivative actions, corporate investigations, and commercial litigation. 

References 

1  Electronic Data Systems v Steingraber, No. 4:02 CV 225, 2003 WL21653414 (E.D. Tex. July 9, 2003)
2  Ibid at *5.
3  United States v Cote, 456 F.2d 142, 144 (8th Cir. 1972).
4  78 N.Y.2d 371, 581 N.E.2d 1055 (1991).
5  Ibid at 1061.
6  Hickman v Taylor, 329 U.S. 495 (1947).
7  See United States v Adlman, 134 F.3d 1194, 1202 (2d Cir. 1998); Mount Vernon Fire Ins. Co. v Try 3 Bldg. Servs, 1998 U.S. Dist. Lexis 16183 (S.D.N.Y. Oct. 14, 1998).
8  Scurto v Commonwealth Edison Co., 1999 U.S. Dist. Lexis 513, at *6 (N.D. Ill. Jan. 11, 1999).
9  International Design Concepts Inc. v Saks Inc., No. 05 Civ. 4754 (PKC),(S.D.N.Y. 2006)(Memorandum and Order).
10 EEOC v Lutheran Social Servc., 186 F.3d 959 (D.C. Cir. 1999).
11 Kayata v Foote, Cone & Belding Worldwide L.L.C., 2000 U.S. District Lexis 5314 (S.D.N.Y. April 26, 2000).
12 United States v Nobles, 422 U.S. 225, 238-39 (1975).
13 McKesson HBOC Inc. v Adler, 254 Ga. App. 500, 503, 562, S.E.2d 809 (2002).
14 Lawrence E. Jaffe Pension Plan v Household Intern. Inc., 237 F.R.D. 176 (N.D. Ill. 2006).
15 Saito v McKesson HBOC Inc., 2002 WL31657622 (Del. Ch. Oct. 15, 2002).
16 McKesson Corp. v Green, No. S04G1228, 2005 WL 516865 (Ga. March 7, 2005); McKesson HBOC Inc. v Superior Court, 115 Cal. App. 4th 1229, 9 Cal. Rptr. 3d 812 (2004); cf Saito, supra note 16.
17 McKesson Corp., supra note 17 at *2.

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