Preserving Privilege During a Merger or Acquisition
Privacy Plus+
Privacy, Technology and Perspective
Preserving Privilege During a Merger or Acquisition. This week, let’s consider the unique phenomenon of what happens to attorney-client privilege during a merger or acquisition.
Data as an Asset. The general rule is that all data is an asset of a company that owns it. If the company is sold, then ownership of the selling company’s data transfers to the buyer. However…
Control of Privileged Information is more nuanced: The Successor Test: The general rule is “when control of a corporation passes to new management, the authority to assert and waive the corporation's attorney-client privilege passes as well.” Commodity Futures Trading Comm'n v. Weintraub, 471 U.S. 343, 349 (1985); see also Bailey v. Vanscot Concrete Co., 894 S.W.2d 757, 759 (Tex. 1995) (“In a merger, the privileges, powers, rights, and duties of the corporation are transferred to the surviving corporation and are there continued and preserved." (emphasis added)). Asset Sales: The rule can vary depending on whether the transaction is considered the sale of equity and transfer of control or merely the sale of assets. See Mackenzie-Childs LLC v. Mackenzie-Childs, 262 F.R.D. 241, 248 (W.D.N.Y. 2009). "Where one corporation merely sells its assets to another, however, the privilege does not pass to the acquiring corporation unless (1) the asset transfer was also accompanied by a transfer of control of the business and (2) management of the acquiring corporation continues the business of the selling corporation." Id. But "a transfer of the [attorney-client] relationship can occur in situations involving the sale of less than all the organization's assets." Parus Holdings, Inc. v. Banner & Witcoff, Ltd., 585 F. Supp. 2d 995, 1002 (N.D. Ill. 2008).
Courts often look to the "practical consequences" of an asset sale rather than formalities of the transaction to determine whether the authority to assert or waive the attorney-client privilege transferred to the acquiring corporation.” Am. Intern. Specialty Lines Ins. Co. v. NWI-I, Inc., 240 F.R.D. 401, 403 (N.D. Ill. 2007); Tekni-Plex v. Meyner & Landis, 674 N.E.2d 663 (N.Y. 1996); Soverain Software LLC v. The Gap, Inc., 340 F. Supp. 2d 760, 762 (E.D. Tex. 2004). In Soverain, for example, although the transfer occurred through a purchase agreement covering some but not all of the business's assets, the court held that the acquiring company obtained the authority to control the sellers' privilege where the buyer purchased a particular software business, sold the acquired software as its principal business, retained the patents for the software, serviced customers who used the software and took steps to update a new version of the software. 340 F. Supp. 2d at 763-64.
Pre-Close Deal Communications as a Subset of Privileged Information. Now, let’s focus on the discrete issue of whether a buyer “purchases” (as part of the “assets” of the seller) the seller’s privilege claims associated with pre-close communications about the deal itself. In any M&A transaction, pre-close deal communications inevitably occur between the companies and their attorneys. The attorney-client privilege generally covers these pre-close deal communications. Will these communications become owned and controlled by the acquiring company?
In Delaware, the Court of Chancery has held that as a matter of law, all assets of a target company, including privileges over attorney-client communications, transfer to the buyer unless the seller takes affirmative action to prevent the transfer of privilege. See Great Hill Equity Partners IV, LP v. SIG Growth Equity Fund I, LLLP., 80 A. 3d 155 (Del. Ch. 2013). Applying this rule, the Court has explained that absent "an express carve out, the privilege over all pre-merger communications—including those relating to the negotiation of the merger itself—passed to the surviving corporation in the merger.” Id. at 162 (Emphasis added).
But in New York, the privilege regarding pre-merger communications between an attorney and their client related to a business/corporate merger does not entirely pass to the new or surviving company/buyer, but remains with the former shareholders of the prior company/seller. See Tekni-Plex, supra. In Tekni-Plex, "the agreement between the parties . . . contemplated that, in any dispute arising from the merger transaction, the rights of the acquired corporation . . . relating to the transaction would remain independent from and adverse to the rights of [the acquiring corporation]." 674 N.E.2d at 672. The court held that the new company could not assert the privilege for communications regarding the merger transaction itself but did so "[i]n light of the facts of this particular transaction and the structure of the underlying agreement." Id.
The Takeaway: Negotiate Deal Terms Addressing Both Privilege and Data Ownership. Before closing, a target company should consider the prospect that its privileged communications, particularly its pre-close deal communications related to diligence, deal terms, and negotiation, may eventually be transferred and disclosed to the buyer. The target company should negotiate an express carve out, so its managers retain privilege claims over all pre-close deal communications and ownership of the related data. The company should also address the mechanics of transferring or siloing that data. For example, the company could instruct its employees and deal lawyers to conspicuously label all privileged emails “Attorney-Client Communication: Project X.” Doing so should facilitate the identification and ultimate exportation of such data upon closing.
---
Hosch & Morris, PLLC is a boutique law firm dedicated to data privacy and protection, cybersecurity, the Internet and technology. Open the Future℠.