When a company declares bankruptcy, avoidance actions under Chapter 5 of the Bankruptcy Code (the Code) can assist in securing extra cash for the debtor's dwindling estate. When a debtor-in-possession does not pursue these claims, creditors' committees often seek the bankruptcy court's authorization to pursue them on behalf of the estate, through “derivative standing.” Once granted such authorization through a “standing order,” a creditors' committee is said to “stand in the debtor's shoes” because it has permission to litigate certain claims belonging to the debtor that arose before bankruptcy. A standing order typically specifies which claims and rights originally belonging to the debtor the committee may pursue in the litigation.

However, for parties whose cases advance to discovery, such a standing order may cause issues by leaving undecided the allocation of attorney-client privilege and work product protection between the debtor and committee. Inevitably, most if not all documents that the committee will use to make its case were created by the debtor before bankruptcy, and collected by the committee thereafter.

Despite its derivative standing, the committee is not protected by the debtor's privilege unless the committee and debtor previously entered into a common interest agreement. Although this question would be an issue of first impression in the Second Circuit, district courts have concluded that a creditors' committee and debtor do not share privilege or work product protection because their fiduciary duties do not overlap. As a result, any disclosure by the debtor to the committee constitutes a waiver.

The lead case holding that the debtor and committee's fiduciary duties do not overlap is In re SPM Mfg. There, the U.S. Court of Appeals for the First Circuit held that a creditors' committee has different legal interests than a debtor because it is not a fiduciary to the debtor's estate. In re SPM Mfg., 984 F.2d 1305, 1315 (1st Cir. 1993). This reasoning stems from language in the Code indicating that a trustee and debtor are separate from the parties that the committee “represent[s].” See id. Pursuant to §1103(c) of the Code, a committee's powers include:

1)         Consulting with the trustee or debtor-in-possession concerning the administration of the case;

2)         Investigating the debtor's acts …; and

5)         Performing such other services as are in the interest of those represented.

See 11 U.S.C. §1103(c) (emphasis added). In In re SPM Manufacturing, the court held that §1103(c)'s distinction between the debtor, trustee, and “those [that the Committee] represent[s]” indicates that the committee is a fiduciary for those it “represent[s],” not a fiduciary “for the debtor or the estate generally.” 984 F.2d at 1316. Because the committee represents a class of creditors, its fiduciary duty runs to them alone. Id. The committee and debtor may be friendly, but “[they] must necessarily be adversarial in a sense” because the committee's role is to aid and monitor the debtor to protect the creditors' own interests in getting paid. Id. at 1316-17. Such interests are distinct from the debtor's interest in maximizing the value of its estate. Id.; see also Westmoreland Human Opportunities v. Walsh, 246 F.3d 233, 256 (3d Cir. 2001); Pan Am v. Delta Air Lines, 175 B.R. 438, 514 (S.D.N.Y. 1994).

District courts in the Second and Third Circuits have held that because their interests diverge, the debtor and committee do not automatically share privilege. Official Committee of Asbestos Claimants of G–I Holding v. Heyman, 342 B.R 416, 423 (S.D.N.Y. 2006); In re Big M, No. 13-10233 DHS, 2013 WL 1681489, at *1 (Bankr. D.N.J. April 17, 2013). As the committee is a separate entity with its own legal interests, it does not share or control the debtor's privilege. In re Big M, 2013 WL 1681489, at *1 (finding that the committee “does not control or share the attorney-client privilege asserted by the Debtor and cannot waive a privilege it does not enjoy”); see also G–I Holding v. Heyman, 342 B.R at 423 (declining to compel production of debtor's documents because committee does not control debtor's privilege). This is so even when the debtor's documents would support the committee's claim(s) on behalf of the debtor, for the estate's benefit. In re Big M, 2013 WL 1681489, at *1; see also In re HH Liquidation, 571 B.R. 97, 102 (D. Del. 2017). In In re HH Liquidation, for example, the District of Delaware refused to compel a debtor to disclose privileged documents to the committee because doing so would interfere with “important and fundamental [privilege] rights” belonging to the debtor, even though the committee sought recovery from the debtor's insiders on behalf of the estate. See id. at 99. Similarly, the District Court for the Southern District of New York in Heyman held that the committee lacked authority to force the debtor to waive privilege, despite the fact that the committee's avoidance action would benefit the estate. See 342 B.R. at 423. As a result, the debtor's transmission of otherwise-protected communications or documents to the committee technically constitutes disclosure to a third party, i.e., a waiver.

Nevertheless, parties should note that some materials may be withheld if created pursuant to a common interest between the debtor and committee. The common interest doctrine is an exception to the rule that attorney-client privilege or work product protection is waived when otherwise-protected information is disclosed to a third party. Bank of Am., N.A. v. Terra Nova Ins. Co., Ltd., 211 F. Supp. 2d 493, 496 (S.D.N.Y. 2002). If the doctrine applies, communications or documents shared between clients and their attorney(s) in a matter of common interest are shielded against others. See id. Rather than providing complete protection for all exchanges, however, the doctrine requires that each communication or document meet a multi-step test. Denney v. Jenkens & Gilchrist, 362 F. Supp. 2d 407, 416 (S.D.N.Y. 2004). As the parties asserting the privilege, the committee or debtor have the burden to show that the exception applies. Id.

To meet this burden, the proponent must make several showings. First, each communication or document must qualify as attorney-client privileged or work product. HSH Nordbank AG New York Branch v. Swerdlow, 259 F.R.D. 64, 71 (S.D.N.Y. 2009). The proponent must also show that: (1) the parties asserting the exception share a common legal interest; and (2) the statements for which protection is sought were designed to further that interest. Gulf Islands Leasing v. Bombardier Capital, 215 F.R.D. 466, 471 (S.D.N.Y. 2003); In re Hypnotic Taxi, 566 B.R. 305, 314-15 (Bankr. E.D.N.Y. 2017). Moreover, the proponent must demonstrate agreement between the parties to pursue a joint effort, such that each communication was made in confidence and the client reasonably understood it to be so made. United States v. Weissman, 195 F.3d 96, 99 (2d Cir. 1999). This agreement need not be in writing, if it is clear there was “some meeting of the minds between the parties.” Denney, 362 F. Supp. 2d at 416.

To make these showings, the committee or debtor must demonstrate agreement to engage in a joint effort while maintaining confidentiality, and articulate how each withheld communication or document was designed to further that effort. The “key consideration” is that the common interest be identical, not similar, and legal, not solely commercial. N. River Ins. Co. v. Columbia Cas. Co., No. 90 CIV. 2518 (MJL), 1995 WL 5792, at *3 (S.D.N.Y. Jan. 5, 1995).  Additionally, each withheld communication or document must be made “in the course of” the parties' effort. Schaeffler v. United States, 806 F.3d 34, 40 (2d Cir. 2015). Thus, such materials will not qualify if circulated or created before the parties' agreement, or without the goal of obtaining legal advice. See id.; HSH Nordbank, 259 F.R.D. at 72.

A few courts have held that a creditors' committee and debtor have a common interest in a Chapter 11 adversary proceeding, because “to permit the committee to carry out [its] duties, the debtor must be able to provide information to the committee free of the risk that the committee may be forced to disgorge such information to adverse third parties.” See In re Mortg. & Realty Tr., 212 B.R. 649, 653-54 (Bankr. C.D. Cal. 1997); In re Kaiser Steel, 84 B.R. 202, 205 (Bankr. D. Colo. 1988). However, such protection will not extend to materials exchanged before the committee and debtor agreed to coordinate, that serve no legal interest, or that serve only one party's interests.

It should be noted that despite any common interest, the debtor's nonprivileged documents from before bankruptcy—which may provide information essential to understanding its financial condition—must be disclosed. This is because they could not have been created pursuant to a joint legal effort before the committee's existence. This is a crucial lesson for defense counsel using discovery to assess the committee's claims and prepare for summary judgment. Counsel should also remember that the above framework is situation specific, and privilege questions may also be resolved via other court order or plan confirmation.

Rena Andoh is a partner and Kate Ross is an associate in the New York office of Sheppard, Mullin, Richter & Hampton. They can be reached at [email protected] and [email protected], respectively.