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  • Paul Swegle

Ethics Issues for In-House Transaction Counsel

Updated: Sep 7, 2020


For many in-house counsel, working on transactions is the best part of the job - debt and equity financings, mergers and acquisitions, reorganizations, joint ventures and commercial transactions of every kind. In-house counsel often help negotiate, document and close key deals.


But where there’s action, there’s also risk. And those risks can survive well past closing. Fortunately, by minding a few key ethics obligations, in-house counsel can reduce and almost eliminate their potential disciplinary, malpractice and civil liability risks. Here are some things to keep in mind:


COMPETENCE


Meeting the obligation of competence under professional rules of conduct can be tricky in transactions given the range of potential issues – tax, intellectual property, securities law, contracts, regulatory and compliance, employment law, and so on.


In-house counsel should define their role in every transaction – sometimes by disclaiming some responsibilities. Not a tax expert? Punt the tax review to another clearly identified individual – the CFO, accountants, outside counsel or another expert.


To manage risk to yourself and the client, never assume responsibility in areas where you are unable or unlikely to meet the “prevailing standard of care.”


This sometimes means hiring unbudgeted outside counsel. Push for more resources if necessary. If problems arise, you’ll find little cover behind the excuse “I was watching the budget.”


When a company lacks critical experts, document the risks in writing for the client and clarify all limitations in the scope of your role regarding those issues. It’s best not to write too many CYA memos, but if the sky might fall absent additional resources, document that for the client.


IDENTIFY THE CLIENT


Every in-house counsel must be able to identify his or her client(s). Is it a single operating company? The parent company too? A foreign operating subsidiary? Are there other affiliates that look and act like clients? Establish in writing which entities you represent based on what makes sense in terms of efficiency, competency and conflicts.


Do the board members, senior officers, other employees and majority shareholders understand your role? Or might some harbor a “subjective belief” that they too are your clients?


Under Washington state case law, the existence of an attorney-client relationship “turns largely on the client’s subjective belief that it exists.” In re McGlothlen, 99 Wn.2d 515, 522, 663 P.2d 1330 (1983).


If you have doubts about how such uncertainties might haunt you, review RPC 1.13(f) and its comment 10, “Clarifying the Lawyer’s Role.” Then imagine being sued by a former officer for failing to properly represent him during a transaction by the organization.


Establish and communicate your role upfront. And never pass up appropriate opportunities to gently remind officers, directors, shareholders or fellow employees that your client is the organization, not them, and that you cannot provide them with any legal advice.


In-house counsel should also never say anything that sounds like legal advice to other employees – i.e., how they might fair in a given M&A deal, how their options might accelerate in a transaction or how a benefit or bonus plan might apply to them in a transaction. Whether or not such information constitutes legal advice, all that matters is whether it creates a “subjective belief” in its hearer.


Sometimes employees demand information regarding their rights under an official company document like a stock option plan, a retention bonus plan or even an employment agreement. You can confirm that they have the correct documents and you can direct them to someone else to answer their questions.


But if a constituent asks you for legal advice, the only advice you can generally give under legal ethics rules is that they should consult independent legal counsel.

CONFIDENTIALITY


In-house counsel spend much of their work life among colleagues and other “constituents.” Office banter can sometimes veer toward questions like “how’s the XYZ deal going?”


Washington state lawyers need to keep in mind comment 2 to RPC 1.13:


“… This does not mean, however, that constituents of an organizational client are the clients of the lawyer. The lawyer may not disclose to such constituents information relating to the representation except for disclosures explicitly or impliedly authorized by the organizational client in order to carry out the representation or as otherwise permitted by Rule 1.6.”


In-house counsel must quickly decide whether a requested disclosure is “explicitly or impliedly” authorized under ethics rules like RPC 1.6. In Washington,“information relating to the representation of a client” is construed broadly.


So if a colleague asks about a pending deal, unless he or she is a senior officer or participant in the deal, respectfully reply that you cannot discuss company legal matters and, if appropriate, suggest an officer he or she can talk to.


COMMUNICATION


Timing expectations for commercial deals and financial transactions are usually ambitious. In-house counsel need to keep up and also keep up in their communications with key constituents.


The following excerpts from Washington's RPC 1.4, Communication mirror similar provisions in other state ethics rules and are critical mandates for transaction counsel:


“A lawyer shall… (2) reasonably consult with the client about the means by which the

client's objectives are to be accomplished; (3) keep the client reasonably informed about the status of the matter.…”


The most deadly sin is to delay communicating bad news. Promptly communicate the news and the best solution.


MULTI-JURISDICTIONAL PRACTICE ISSUES


Companies large enough to need in-house counsel are also usually “multi-jurisdictional,” extending across state lines with physical locations, governance structures, transactions and ongoing commercial relationships. Some questions to help frame the issues:


Is it unauthorized practice of law (UPL) to:


  • Maintain a regular call into another state to advise organizational constituents?

  • Attend negotiations or other meetings in another state about matters governed by the laws of that state?

  • Maintain a schedule of visiting company locations in multiple states to provide legal advice to constituents?

  • Advise client constituents about another state’s laws?

  • Receive calls about FDA rules and regulations from organizational clients located in many states?


For Washington state attorneys, the answers are mostly found in RPC 5.5 and ABA Model Rule 5.5. And an increasing number of states, including Washington, now have new “house counsel” admission options.


Temporary Practice Exemptions Under RPC 5.5 and Model Rule 5.5


RPC 5.5(a) prohibits violating the practice of law rules of any other jurisdiction and RPC 5.5(b) prohibits the unlicensed practice of law (UPL) in Washington. RPC 5.5(c) and (d) provide five temporary practice exemptions allowing out of state attorneys to legally perform certain types of work in Washington.


The most important of these for in-house transaction counsel is RPC 5.5(d). It’s almost a blank check to represent an organization’s constituents in Washington as long as that representation is (i) temporary and (ii) does not require pro hoc vice admission.


All of the activities described in the five questions above would seem permissible on a temporary basis under RPC 5.5(d), with the caveat that UPL rules don’t explicitly prohibit counseling a client about another state’s laws. The real question is whether the attorney can competently advise the client about the other state’s laws - a question that doesn’t always receive proper consideration.


Unfortunately, the word temporary is a major limitation within RPC 5.5(d) and Model Rule 5.5(d). It prohibits in-house counsel from establishing a part-time office in the jurisdiction. See comments 4 and 17 to RPC 5.5.


But what other work-related routines should be considered non-temporary?

RPC 5.5(d) and its comments do not resolve this ambiguity.


In-house counsel relying on RPC 5.5(d) or any other “temporary practice” exception should avoid establishing permanent offices and may want to also avoid overtly fixed work routines outside the home state.


In states without a variant of Model Rule 5.5(d), counsel must carefully review the other available temporary practice exemptions and see if their anticipated legal work can fit under one or more of them.


House Counsel Registration


Fortunately, many states are adopting non-temporary solutions that free in-house counsel to serve their multi-jurisdictional clients without these ambiguities - and to do so from a part-time office with family pictures and other personal touches.


In Washington, in-house counsel have two options: (i) Admission by Motion (whether in-house counsel or private practice) as a fully licensed attorney under APR 3(c) if the attorney has practiced 3 out of the last 5 years or (ii) a “limited house counsel license” under APR 8(f). Oregon has a similar program, Attorney Admission Rule 16.05.


The dues and MCLE requirements for “house counsel” admission are the same as for fully licensed attorneys and, unfortunately, not all house counsel admission rules are equally useful. California’s In-House Counsel Rule 9.6, for example, requires the attorney to be a California resident.


CONFLICTS OF INTEREST


In-house counsel working on transactions must recognize the trips and traps lurking in conflicts rules RPC 1.7 and RPC 1.8. Conflicts can arise (i) between clients, (ii) between clients and non-clients who “subjectively believe” they are clients, and (iii) between the attorney and the client.


Multiple Representation Conflicts


Regarding potential conflicts between organizational clients that both want the attorney to represent them in a transaction, a key question will be whether the clients’ interests are “antagonistic” or “fundamentally aligned.” See comments 28 and 29 to RPC 1.7.


In general, affiliated clients are more likely to be aligned where one owns the other outright or they are under common ownership. Conflicts between such entities are more likely to be “consentable.”


Trickier conflicts issues arise between affiliates where there is not 100% ownership alignment. As comment 29 to Washington's RPC 1.7 says, “… In some situations, the risk of failure is so great that multiple representation is plainly impossible.”


Where antagonism is possible, the risks must be acceptable; where it’s already present, representation is unwise. If clients with a consentable conflict want to go ahead, all risks must be clearly detailed in a thoughtful written consent.


Conflicts Arising from Mistaken “Subjective Belief”


As we’ve been reminded, the existence of an attorney-client relationship can be based on subjective belief. When held by an organization’s officer, director, employee or shareholder who’s had a falling out with the organization, this can end badly. Perils include loss of employment due to forced withdrawal, malpractice claims, civil liability and professional discipline.


Personal Interest Conflicts


Under Washington's RPC 1.7(a), a “material limitation” conflict exists where there is “a significant risk that the representation of one or more clients will be materially limited by the lawyer's responsibilities to another client, a former client or a third person or by a personal interest of the lawyer.”


And Washington's RPC 1.8(a) contains this prohibition: “A lawyer shall not enter into a business transaction with a client or knowingly acquire an ownership, possessory, security or other pecuniary interest adverse to a client unless.…” RPC 1.8(a) goes on to require that the terms of such a transaction be “fair and reasonable,” that the client must be advised of the desirability of seeking independent counsel and that there be informed consent in writing.


When an organizational client asks its in-house counsel to draft a stock option plan, compensation plan, retention bonus plan or other document that will benefit the attorney, the restrictions and requirements of ethics rules like Washington's RPC 1.7 and 1.8 must be considered.


More often than not, an ethics rule like RPC 1.7 is probably the governing rule for issues relating to compensation plans and the key question is usually whether the in-house lawyer can provide the representation “competently” to the client, notwithstanding the lawyer’s personal financial interest in the transaction.


If financial resources are not an issue, it’s best to punt compensation-related projects to outside counsel. Regarding conflicts under Washington's RPC 1.8, comment 4 notes that “The fact that the client was independently represented in the transaction is relevant in determining whether the agreement was fair and reasonable to the client as paragraph (a)(1) further requires.”


If resources are tight and the client wants you to do the work, the client must agree to the conflict in a written consent fully disclosing all risks, including that counsel may draft the plan for her own benefit and to the client’s disadvantage.

Counsel can also reduce their risk by requiring the CEO or another officer to fully outline all material terms before drafting begins.


Lastly, there is little authoritative literature on taking an equity stake in a client, whether through stock options or otherwise. A good article on the subject for Washington attorneys is “Investing in Your Client’s Business,” by Dale B. Ramerman, from the August 1987 issue of the Washington Bar News. Feel free to request it via email at pswegle@gmail.com


DEALING WITH THIRD PARTIES


Several ethics issues relating to third parties commonly arise during transactions: (i) communications with persons known to be represented, (ii) dealing with unrepresented persons, and (iii) truthfulness in statements to third parties.


Persons Known to Be Represented


In-house counsel must be vigilant about not inadvertently communicating with any party known to be represented by counsel unless that party’s counsel is present. Under Washington's RPC 4.2, only opposing counsel can waive this requirement - not even a party’s CEO.


Constituents often invite in-house counsel to attend teleconferences and other meetings without realizing or remembering that the other lawyer must also be present. Scan every invite for the issue and flag it quickly.


More challenging still are unexpected contacts from third parties. Quick thinking is required to immediately cut off improper communications initiated by a party known to be represented – whether by email, telephone, in person or otherwise.


Third parties sometimes do this innocently and sometimes they do it because they hate their own attorney. Either way, any attempt to exploit the contact by undercutting the attorney-client relationship, seeking confidential information or otherwise gaining advantage would be an egregious ethics violation and could provoke the vengeful ire of opposing counsel.


Unrepresented Persons


Contacts with unrepresented persons can also occur frequently. Many small companies simply lack the resources to hire outside counsel for every project. Ethics rules like RPC 4.3 are intended to protect unsophisticated non-lawyers from overreaching.


When interacting with unrepresented persons, first confirm the absence of counsel and then gently remind the third party that, as counsel for your organization, you do not and cannot represent them or provide them with legal advice, and that they should consider consulting with independent legal counsel. Repeat if confusion persists.


Truthfulness in Statements to Others


Lastly, when negotiating, counsel must know their truth and candor obligations under ethics rules like Washington's RPCs 4.1 and 8.4.


RPC 4.1, Truthfulness in Statements to Others:


“In the course of representing a client a lawyer shall not knowingly: (a) make a false statement of material fact or law to a third person; or (b) fail to disclose a material fact to a third person when disclosure is necessary to avoid assisting a criminal or fraudulent act by a client, unless disclosure is prohibited by Rule 1.6.”

All 3 of RPC 4.1’s comments are recommended reading for Washington attorneys, but 1 and 2 are important enough and brief enough to warrant full reproduction here (underlining added):


Misrepresentation


[1] A lawyer is required to be truthful when dealing with others on a

client's behalf, but generally has no affirmative duty to inform an

opposing party of relevant facts. A misrepresentation can occur if the

lawyer incorporates or affirms a statement of another person that the

lawyer knows is false. Misrepresentations can also occur by partially true

but misleading statements or omissions that are the equivalent of

affirmative false statements. For dishonest conduct that does not amount to

a false statement or for misrepresentations by a lawyer other than in the

course of representing a client, see Rule 8.4.

Statements of Fact


[2] This Rule refers to statements of fact. Whether a particular

statement should be regarded as one of fact can depend on the

circumstances. Under generally accepted conventions in negotiation, certain

types of statements ordinarily are not taken as statements of material

fact. Estimates of price or value placed on the subject of a transaction

and a party's intentions as to an acceptable settlement of a claim are

ordinarily in this category, and so is the existence of an undisclosed

principal except where nondisclosure of the principal would constitute

fraud. Lawyers should be mindful of their obligations under applicable law

to avoid criminal and tortious misrepresentation.


And under Washington's RPC 8.4, Misconduct, counsel must not “… engage in conduct involving dishonesty, fraud, deceit or misrepresentation….” If Washington in-house counsel observes RPC 4.1 and avoids most criminal offenses, this catchall shouldn’t be an issue.


The takeaways: (i) negotiation puffing is fine, but never lie about statements of fact; (ii) there is no obligation to raise issues or concerns that have not been asked about; (iii) avoid half-truths or omissions of material information that would bear on the truthfulness of statements made; and (iv) avoid adopting or affirming statements of liars. And remember that any disclosures to third parties must always be consistent with counsel’s confidentiality obligations under rules like RPC 1.6.


Correcting or disclaiming a constituent’s potentially false statements is trickiest during face-to-face negotiations. Sometimes constituents talk too much, sometimes well beyond when an issue is won. In doing so, they might make ill-advised statements intended to make the other party feel better.


It is awkward to correct a colleague, and even worse to correct a boss, but sometimes it has to be done. One option is to have the colleague correct the error himself after a break. Another option may be to correct the error later in a deal document.

Conclusion


In closing, if you mind your ethics fundamentals, the other risks should take care of themselves. So, as an opposing lawyer signed off recently in a demand letter, “Please govern yourself accordingly.”


Paul Swegle has served as general counsel to numerous tech companies and advises a dozen others as outside counsel. He has completed $12+ billion of financings and M&A deals, including growing and selling startups to public companies ING, Capital One, Nortek, and Abbott.

Paul has authored two authoritative and practical business law books, available for preview and purchase here:


"Contract Drafting and Negotiation"

&

"Startup Law and Fundraising"


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