Conflicts, the efficaciousness of Chinese walls, and auditor independence are not issues limited to Arthur Andersen. They pertain to professional service firms generally. Central to the future success of major full-service law firms is how the frequently opposing demands of law-as-a-profession and law-as-a-business are to be reconciled. And, as if matters were not difficult enough, the Supreme Court of Canada in its recent decision in R. v. Neil, dramatically upped the ante.
Neil is not written in the professional patois of lawyers. It has a hardheaded directness about it. The November 2002 decision stands for the simple, but controversial proposition that a business conflict is now a legal conflict. If this is how Neil is interpreted and applied, then it may profoundly change how the business of law-everything from client development strategies to conflict checking systems is conducted.
Absent informed consent, lawyers will no longer have the luxury of letting their own business considerations determine whether they can accept retainers against current clients. This applies even where no confidential information is involved and even where the matters in issue are unrelated. In fact, they won't even have the luxury of deciding whether to accept retainers that directly affect their current clients adversely.
But first, one has to determine, in the words of the S.C.C., what "directly affects" means and who "current clients" are. Does "directly affects" include situations where acting for a competitor in a proposed merger will affect a current client's market position adversely? And is a "current client" one for whom the firm acts regularly on relatively minor matters or has acted for once on a recent large transaction? Is a current client one whose file has not been closed simply because the account has not been paid? Or because a trivial matter remained outstanding? Or because the firm's file-closing system lags behind events?
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The fact that lawyers will have to deal with these issues post-Enron obviously heightens their importance. Regulators, investors and courts are scrutinizing the activities of all players in the business world-from corporate executives to accountants to investment bankers to lawyers-to ferret out conflicts of interest, real or imagined. The new corporate touchstone is transparency. And ironically, in the U.S. part of the Securities and Exchange Commission's (SEC) remedial initiative as set out in the proposed rules under the Sarbanes-Oxley Act, is to make whistleblowers out of lawyers who detect (or suspect) wrongdoing on the part of clients. While it is not clear whether Canadian regulators will adopt these rules or whether Canadian lawyers will be exempted, the fact remains that the SEC, arguably the most powerful regulator in the business world, proposes to circumscribe the duty of loyalty even as the court moves to re-emphasize its importance.
"The business and legal systems are out of whack," says David Nitkin of EthicScan Canada, a Toronto-based ethics and corporate social responsibility consultancy. Much of the confusion stems from Justice Ian Binnie's pronouncement in Neil that lawyers owe a duty of loyalty, as distinct from and in addition to a duty of confidentiality, to current clients.
Naysayers regarding the judgment's impact are quick to point out that the duty of loyalty is nothing new. It was first enunciated by Henry Brougham, later Lord Chancellor, in defending Queen Caroline on a charge of adultery brought by her husband, King George IV. Justice Binnie observes, somewhat laconically, that the principle "is with us still." Be that as it may, it was big news in some quarters. Both the National Post and The Globe and Mail treated the decision as nothing less than revolutionary in its impact on law firm practices and legal markets.
While it may have been a slow news day at both the Post and the Globe, Neil is important. In fact, it is very important. To be sure, the duty of loyalty has been around for a long time, but this is the first time Canada's highest court has addressed its parameters. And it is also the first time the S.C.C. has made it clear that the duty of loyalty precludes lawyers from acting against interests of current clients even in unrelated matters. "Neil didn't change the law, but it has dealt with the wide range of views in the Canadian legal community about the scope of the duty of loyalty," says John B. Laskin of Torys LLP in Toronto, where he chairs the conflicts committee.
The real measure of Neil's impact may lie in the fact that Justice Binnie chose to say anything at all about conflicts at major firms, departing from the general practice of not going beyond what was necessary for the resolution of the case before the court, and indeed doing so on behalf of a united five-judge panel. "It may very well be that today's business environment, and the preoccupation with conflicts, encouraged the Supreme Court to seek an opportunity to deal with the conflicts issue in a broad way," says Simon Chester, a partner at McMillan Binch LLP in Toronto and chair of the firm's conflicts committee.
Of course Neil is distinguishable. It was a criminal case and an unusual one at that. But could it be that the distrust that plagues the financial markets has influenced the judgment of the Supreme Court of Canada?
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The facts were as follows. David Lloyd Neil and Helen Lambert were paralegals who worked together in Edmonton. Neil regularly consulted Pops Venkatraman, a lawyer, about issues arising in his files and referred matters to Venkatraman's law firm. In October 1994, the police charged Neil with a variety of offences related to different transactions. The two charges that were the subject of the proceedings before the S.C.C. related to an alleged scheme to defraud Canada Trust and to fabrication of court documents in a divorce action.
On the Canada Trust matter, the Venkatraman firm represented both Neil and Lambert. Gregory Lazin, who acted for Lambert, and two other members of the Venkatraman firm interviewed Neil in custody. The sole purpose of Lazin's attendance was to collect information that would assist the "cut-throat defence" he intended to mount for Lambert, in which he would paint Neil as a manipulative criminal and his client as an innocent dupe. Lazin also offered Lambert as a witness against Neil providing that the Crown drop the charges against her.
Further, Lazin took on a divorce matter in which it was alleged that Neil had falsified various documents. Lazin, seeking to enhance the allegations of dishonesty upon which he intended to rely in defence of Lambert, steered his client to the police officer who was investigating the charges against Neil. Neil sought a stay on both charges, alleging that the firm was in conflict of interest in representing him.
Against this background-light-years from Bay Street-Justice Binnie examined the scope of the duty of loyalty. This duty, he noted, was rooted in a number of objectives-beginning with the need for effective representation-all of which were aimed at protecting the integrity of the legal system.
In MacDonald Estate v. Martin, the leading case on the duty of confidentiality, Justice John Sopinka had cited "reasonable mobility in the legal profession" as one of the objectives of that duty. But Justice Ian Binnie emphasized that the profession's interest in mobility was circumscribed by the duty of loyalty as well as the duty of confidentiality. In doing so, he took Neil from its unique facts and placed it squarely on the doorsteps of Canada's major law firms:
In an era of national firms and a rising turnover of lawyers, especially at the less senior levels, the imposition of exaggerated and unnecessary client loyalty demands, spread across many offices and lawyers who in fact have no knowledge whatsoever of the client or its particular affairs, may promote form at the expense of substance, and tactical advantage instead of legitimate protection. Lawyers are the servants of the system, however, and to the extent their mobility is inhibited by sensible and necessary rules imposed for client protection, it is a price paid for professionalism. Business development strategies have to adapt to legal principles rather than the other way around. Yet it is important to link the duty of loyalty to the policies it is intended to further. An unnecessary expansion of the duty may be as inimical to the proper functioning of the legal system as would its attenuation. The issue always is to determine what rules are sensible and necessary and how best to achieve an appropriate balance among the competing interests. [Emphasis added by author of this article.]
This seems fair, evenhanded, and properly appreciative of the realities of the business of law and the close-knit character of Canada's corporate community. So why all the brouhaha? Simply put, because Justice Binnie's enunciation of the rule is far-reaching, and comes on the heels of a sweeping dismissal of the dilemmas it creates for the country's legal powerhouses:
The general prohibition [against acting contrary to the interests of a current client] is undoubtedly a major inconvenience to large law partnerships and especially to national firms with their proliferating offices in major centres across Canada. Conflict searches in the firm's records may belatedly turn up files in another office a lawyer may not have been aware of. Indeed, he or she may not even be acquainted with the partner on the other side of the country who is in charge of the file. Conflict search procedures are often inefficient. Nevertheless it is the firm not just the individual lawyer, that owes a fiduciary duty to its clients, and a bright line is required. The bright line is provided by the general rule that a lawyer may not represent one client whose interests are directly adverse to the immediate interests of another current client-even if the two mandates are unrelated-unless both clients consent after receiving full disclosure (and preferably independent legal advice), and the lawyer reasonably believes that he or she is able to represent each client without adversely affecting the other. [Emphasis added by author of this article.]
This statement elevates the notion that "business development strategies must adapt to legal principles" into a rule of law liberated from considerations surrounding the existence or non-existence of confidential information and an assessment of the extent to which breach of that confidentiality might affect the client. The duty of loyalty, states Justice Binnie, is "a much broader principle of avoidance of conflicts of interest." Just how broad the scope of the rule is emerges when Justice Binnie makes it clear that the linkage giving rise to Lazin's offending conduct as is related to the divorce case was "strategic". In other words, strategic considerations are interests that can be "directly adverse to the immediate interests" of an existing client.
As in acting for competitors in the same industry? "Neil leaves open the argument that it is impermissible for me to act for a competitor of a client whom another member of my firm represents in circumstances where my representation has the potential to harm the economic or business interests of my partner's client," says Gavin MacKenzie of Heenan Blaikie LLP in Toronto. MacKenzie, whose views with respect to legal ethics matters carry considerable weight, goes on to emphasize, "the language that Binnie uses in this regard is both peculiar and very strong." So much, it seems, for the idea that Neil's primary impact will be on criminal cases.
"There's a lot of talk among corporate lawyers about Neil being an egregious criminal case and that the things that Binnie said regarding normal commercial files were obiter," says Garth Girvan, a partner at McCarthy Tétrault LLP in Toronto, Binnie's firm before his appointment. "But everyone who knows Binnie and reads Neil also knows that he's a man who said what he meant and meant what he said."
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The key question is not whether Neil impacts on the legal market that represents the business community. The issue is how it impacts. An easier question to ask than to answer.
"The trouble I have with Neil's bright line test is that it does not analyze in detail what sort of loyalty is invoked with what sort of representation, which means we're looking at a couple of shakedown years until the Court of Appeal starts drawing the appropriate distinctions and refining Neil, or until the professional associations and law societies provide some guidelines," states Simon Chester. "Meanwhile, there will be a lot of difficult questions. How much loyalty are you supposed to have, for example, if all you do is extra-provincial securities filing or trademark registration or other types of agency work? What if you're a chartered bank or a corporation like General Electric who uses hordes of firms? Does every one of them have a Neil obligation not to act against the interests of a current client? If they do, we'll be dealing with a wholly different legal market."
A legal market that may well see drastic changes is how major firms approach their litigation departments. "I expect that more and more litigation departments will narrow their focus to acting for firm clients," says John Campion, a senior litigator and chairman of Fasken Martineau DuMoulin LLP in Toronto. If Neil has the impact, which a number of observers believe it will, then litigators with major full-service firms will naturally bridle at the constraints placed on their practices. Heavy-weight litigation boutiques such as Lenczner Slaght Royce Smith Griffin in Toronto and Harper Grey Easton in Vancouver may become the norm, not the exception.
"Senior litigators in the large firms are becoming increasingly frustrated because business conflicts, even more than legal conflicts, are limiting their practices," says Bryan Baynham, Q.C., of Harper Grey Easton. "Now that the Supreme Court has made the business conflict a legal conflict, that situation is bound to get worse."
Baynham believes that the litigation presence of national firms will decrease as a result of Neil. "Take McCarthy Tétrault, for example. They are still an excellent litigation firm, but they do not have the dominating litigation presence they used to have, and that's partly because there are a lot of cases they can't take on because of the potential conflicts with their corporate client base."
Chris Paliare, a partner in the Toronto litigation boutique of Paliare Roland Rosenberg Rothstein LLP, a recent breakaway from Gowling Lafleur Henderson LLP, experienced that very situation. "Because Gowlings acted for several banks, we couldn't take any position in any litigation that might conflict with the interests of any bank even if we weren't acting against a bank," Paliare says. "In fact, we couldn't act against any financial institution or even their securities divisions. Now that Neil has given legal effect to what was formerly a business decision, there will be a lot more work for separate litigation counsel."
And that doesn't even take into account work and contacts generated by Justice Binnie's suggestion that independent legal advice is a preferable feature of informed consent. Further, the likelihood of conflicts work being referred back and forth between the major national firms, politely put, is minimal. As somewhat bluntly noted by Baynham, "the national firms are not inclined to send business to other firms. Why would you give clients the exposure to direct competitors?"
Simon Chester also believes that Neil presents "huge opportunities" for litigation boutiques. "There have already been cases, such as the Olympia & York insolvency, where there weren't enough qualified counsel to go around, even in Toronto. Consequently, many firms, with the full knowledge of the judges and clients, took on multiple representations. But that kind of situation will have to be approached more carefully in light of Neil, especially because Chinese walls don't provide any protection so far as the duty of loyalty is concerned."
Adding to the misery of the major full-service firms is the acute sensitivity to conflicts engendered by Enron and other similar recent debacles. Goldman Sachs, for example, has already announced that it will bar the use of Chinese walls by its law firms in an attempt to defuse investor concern over potential conflicts. "Goldman has made it clear that they want their lawyers to be fully loyal and they will not tolerate multiple representation and feeding of Goldman's competitors," states Chester.
But in a market that features law firm merger upon law firm merger, practice focus on particular industries, and an environment in which conflict issues are forever emerging, what is a law firm to do to make sure that it stays onside with both Neil and the post-Enron business atmosphere? "Whatever lawyers do, Neil indicates that they must be very, very careful," says Donald Jack, a senior litigator at McDonald & Hayden LLP in Toronto.
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American law firms have long dealt with the issues raised by Neil by having their retainers set out clear limitations on their duty of loyalty. "But that's not so easy to do when you're working on a delicate matter like a merger," says Garth Girvan of McCarthy Tétrault. And whether such a retainer will in all cases satisfy Justice Binnie's requirement of informed consent is another matter entirely. It goes without saying, from a practical standpoint, that it can sometimes be awkward if not impossible to obtain informed consent without breaching duties of confidentiality to other clients.
What is clear is that law firms will have to be more rigorous in their client intake procedures. "That means figuring out who your clients are, what your role is, and having a retainer in place that limits your duty of loyalty," states Chester. "In general, we need to become more exact in defining our task and its implications. You don't want a $500 extra-provincial filing to invoke duties to every affiliate and associate of the client and take you out of contention for major retainers." To that end, Gavin MacKenzie emphasizes the need for a "very complete" conflict search system: "law firms should ensure that all parties to transactions and lawsuits are listed in the conflict database, and just as importantly, updated when new parties become involved."
That's easier said than done for the new national firms who have not completely integrated their client matter databases post-merger, a daunting task at the best of times. "Law firms will have to think carefully about expediting their conflict search on a national basis, because clients don't want to wait the 24 or 36 hours it can take to determine whether a conflict exists," says Chester.
But, however diligent law firms are in their intake procedures, their efforts can be frustrated by inattentive file-closing procedures. "Law firms are notorious for not closing files, and pretty soon you're going to see a rush on firms across the country closing their stale files and putting proper procedures for doing so expeditiously in place," says Chester.
The need for a clear demarcation point is especially important for corporate transaction-oriented firms. "Without a dividing line, clients may think the duty of loyalty still exists when, from the firm's perspective, the matter might have terminated long ago," says John Laskin at Torys. It is interesting to note that Laskin believes end of retainer letters will achieve the significance heretofore reserved for retainers themselves.
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Still, there's the hint of a silver lining in all this. "On the whole, there's going to be a need for more firms around the table representing independent directors and audit committees and maybe even the CEO," says John Campion. The sensitivity to conflicts may also bolster client loyalty. "Loyalty is a two-way street," says Chester. "It may be that clients are going to say-as Dupont has done to great advantage-that they benefit from having a stable of focused law firms whom they respect and understand and who understand and respect them."
And then there's always the possibility of feeding on the misery of the accountants. The SEC's recent move to ban accounting firms from selling tax strategies to auditing clients may present a unique opportunity for tax lawyers long engaged in an undeclared turf war with accountants regarding the provision of these high-end services. We are talking very serious dollars. The Wall Street Journal, recently reported that tax and legal services comprise approximately a third of total revenue for the largest accounting firms. "The whole area of tax advice that is not strictly audit-related is under a cloud for accountants," says Girvan. "We've never ceded this ground to them and these developments may make it easier for us to recruit good people and expand our business."
Brave words and glimpses of silver linings aside, for the major full-service firms R. v. Neil is much like the curate's egg, an expression popularized in Great Britain in the late 19th century by a cartoon in Punch, the satirical humorous weekly paper. The cartoon shows a nervous young curate at his bishop's breakfast table. Asked by his lordship whether the egg is to his liking, he is terrified to say that it is bad and stammers out that "parts of it are excellent!"
At the end of the day the best take on R. v. Neil is probably that provided by Garth Girvan at McCarthys. As noted earlier, in speaking of his former partner, Girvan made it very clear that, "everyone who knows Binnie and reads Neil also knows that he is a man who said what he meant and meant what he said."
Julius Melnitzer is a Toronto-based legal affairs writer.