U.S. v. Adlman

• Decision Date: 13 February 1998
• Docket Number: No. 236,D,236
• Citation: 134 F.3d 1194
• Parties: -820, 98-1 USTC P 50,230, 39 Fed.R.Serv.3d 1189 UNITED STATES of America, Petitioner-Appellee, v. Monroe ADLMAN, as Officer and Representative of Sequa Corporation, Respondent-Appellant. ocket 96-6095.
• Court: U.S. Court of Appeals — Second Circuit

Page 1194

134 F.3d 1194

81 A.F.T.R.2d 98-820, 98-1 USTC P 50,230,

39 Fed.R.Serv.3d 1189

UNITED STATES of America, Petitioner-Appellee, v. Monroe ADLMAN, as Officer and Representative of Sequa Corporation, Respondent-Appellant.

No. 236, Docket 96-6095.

United States Court of Appeals Second Circuit.

Argued Oct. 3, 1996.

Decided Feb. 13, 1998.

John J. Tigue, Jr., New York City, (Linda A. Lacewell, Morvillo, Abramowitz, Grand, Iason & Silberberg, P.C., New York City, Bryan C. Skarlatos, Kostelanetz & Fink, New York City), for Respondent-Appellant.

William J. Hoffman, Assistant United States Attorney, (Mary Jo White, United States Attorney for the Southern District of New York, Steven M. Haber, Assistant United States Attorney, New York City, of Counsel), for Petitioner-Appellee.

Before KEARSE, LEVAL, and CABRANES, Circuit Judges.

LEVAL, Circuit Judge:

This appeal concerns the proper interpretation of Federal Rule of Civil Procedure 26(b)(3) ("the Rule"), which grants limited protection against discovery to documents and materials prepared "in anticipation of litigation." ¹ Specifically, we must address whether a study prepared for an attorney assessing the likely result of an expected litigation is ineligible for protection under the Rule if the primary or ultimate purpose of making the study was to assess the desirability of a business transaction, which, if undertaken, would give rise to the litigation. We hold that a document created because of anticipated litigation, which tends to reveal mental impressions, conclusions, opinions or theories concerning the litigation, does not lose work-product protection merely because it is intended to assist in the making of a business decision influenced by the likely outcome of the anticipated litigation. Where a document was created because of anticipated litigation, and would not have been prepared in substantially similar form but for the prospect of that litigation, it falls within Rule 26(b)(3).

The district court ruled that the document sought by the IRS in this case did not fall within the scope of Rule 26(b)(3) and ordered its production. Because we cannot determine whether the district court used the correct standard in reaching its decision, we vacate the judgment and remand for reconsideration.

Background

Sequa Corporation is an aerospace manufacturer with annual revenues of nearly $2 billion. Prior to 1989, Atlantic Research Corporation ("ARC") and Chromalloy Gas Turbine Corporation ("Chromalloy") were wholly-owned Sequa subsidiaries. Appellant Monroe Adlman is an attorney and Vice President for Taxes at Sequa.

In the spring of 1989, Sequa contemplated merging Chromalloy and ARC. The contemplated merger was expected to produce an enormous loss and tax refund, which Adlman expected would be challenged by the IRS and would result in litigation. Adlman asked Paul Sheahen, an accountant and lawyer at Arthur Andersen & Co. ("Arthur Andersen"), to evaluate the tax implications of the proposed restructuring. Sheahen did so and set forth his study in a memorandum (the "Memorandum"). He submitted the Memorandum in draft form to Adlman in August 1989. After further consultation, on September 5, 1989, Sheahen sent Adlman the final version. The Memorandum was a 58-page detailed legal analysis of likely IRS challenges to the reorganization and the resulting tax refund claim; it contained discussion of statutory provisions, IRS regulations, legislative history, and prior judicial and IRS rulings relevant to the claim. It proposed possible legal theories or strategies for Sequa to adopt in response, recommended preferred methods of structuring the transaction, and made predictions about the likely outcome of litigation.

Sequa decided to go ahead with the restructuring, which was completed in December 1989 in essentially the form recommended by Arthur Andersen. Sequa sold 93% of its stock in ARC to Chromalloy for $167.4 million, and the remaining 7% to Bankers Trust for $12.6 million. The reorganization resulted in a $289 million loss. Sequa claimed the loss on its 1989 return and carried it back to offset 1986 capital gains, thereby generating a claim for a refund of $35 million.

In an ensuing audit of Sequa's 1986-1989 tax returns, the IRS requested a number of documents concerning the restructuring transaction. Sequa acknowledged the existence of the Memorandum, but cited work-product privilege as grounds for declining to produce it. ² On September 23, 1993, the IRS served a summons on Adlman for production of the Memorandum.

When Adlman declined to comply, the IRS instituted an action in the United States District Court for the Southern District of New York to enforce the subpoena. Adlman defended on the grounds that the Memorandum was protected by both the attorney-client and work-product privileges. The district court (Knapp, J.) in its first decision rejected Adlman's claim that the Memorandum was protected by attorney-client privilege, finding that Adlman had not consulted Arthur Andersen in order to obtain assistance in furnishing legal advice to Sequa. United States v. Adlman, M-18-304, 1994 WL 191869, at * 2 (S.D.N.Y. May 16, 1994). It rejected Adlman's claim of work-product privilege because the Memorandum was prepared for litigation based on actions or events that had not yet occurred at the time of its creation. Id. at * 3. The court granted the IRS's petition to enforce the summons.

On appeal, we affirmed denial of Adlman's claim of attorney-client privilege. United States v. Adlman, 68 F.3d 1495 (2d Cir.1995). We vacated the district court's enforcement order, however, because the district court had evaluated Adlman's claim of work-product privilege under the wrong standard. Although the non-occurrence of events giving rise to litigation prior to preparation of the documents is a factor to be considered, we explained, it does not necessarily preclude application of work-product privilege. See id. at 1501. For example, where a party faces the choice of whether to engage in a particular course of conduct virtually certain to result in litigation and prepares documents analyzing whether to engage in the conduct based on its assessment of the likely result of the anticipated litigation, we concluded that the preparatory documents should receive protection under Rule 26(b)(3). Id. We therefore remanded for reconsideration whether the Memorandum was protected work product. Id.

On remand, Adlman argued that the Memorandum was protected by Rule 26(b)(3) because it included legal opinions prepared in reasonable anticipation of litigation. Litigation was virtually certain to result from the reorganization and Sequa's consequent claim of tax losses. Sequa's tax returns had been surveyed or audited annually for at least 30 years. In addition, the size of the capital loss to be generated by the proposed restructuring would result in a refund so large that the Commissioner of Internal Revenue would be required by federal law to submit a report to the Joint Congressional Committee on Taxation. See 26 U.S.C.A. § 6405(a). Finally, Sequa's tax treatment of the restructuring was based on an interpretation of the tax code without a case or IRS ruling directly on point. In light of the circumstances of the transaction, Adlman asserted there was "no doubt that Sequa would end up in litigation with the IRS." Sequa's accountant at Arthur Andersen concurred, opining that "any corporate tax executive would have realistically predicted that this capital loss would be disputed by the IRS" because of the "unprecedented and creative nature of the reorganization, the fact that Sequa was continually under close scrutiny by the IRS and the size of the refund resulting from the capital loss."

The district court again rejected the claim of work-product privilege, concluding that the Memorandum was not prepared in anticipation of litigation. M-18-304, 1996 WL 84502, at * 1 (S.D.N.Y. Feb. 27, 1996). Adlman appeals.

Discussion

The work-product doctrine, codified for the federal courts in Fed.R.Civ.P. 26(b)(3), is intended to preserve a zone of privacy in which a lawyer can prepare and develop legal theories and strategy "with an eye toward litigation," free from unnecessary intrusion by his adversaries. Hickman v. Taylor, 329 U.S. 495, 510-11, 67 S.Ct. 385, 393-94, 91 L.Ed. 451 (1947). Analysis of one's case "in anticipation of litigation" is a classic example of work product, see NLRB v. Sears, Roebuck & Co., 421 U.S. 132, 154, 95 S.Ct. 1504, 1518, 44 L.Ed.2d 29 (1975), and receives heightened protection under Fed.R.Civ.P. 26(b)(3).

This case involves a question of first impression in this circuit: whether Rule 26(b)(3) is inapplicable to a litigation analysis prepared by a party or its representative in order to inform a business decision which turns on the party's assessment of the likely outcome of litigation expected to result from the transaction. Answering that question requires that we determine the proper interpretation of Rule 26(b)(3)'s requirement that documents be prepared "in anticipation of litigation" in order to qualify for work-product protection.

I.

In Hickman v. Taylor, 329 U.S. 495, 67 S.Ct. 385, 91 L.Ed. 451 (1947), the Supreme Court held that notes taken by the defendant's attorney during interviews with witnesses to the event that eventually gave rise to the lawsuit in the case were not discoverable by the plaintiff. 329 U.S. at 510, 67 S.Ct. at 393. As the Court explained,

In performing his various duties, ... it is essential that a lawyer work with a certain degree of privacy, free from unnecessary intrusion by opposing parties and their counsel. Proper preparation of a client's case demands that he ... prepare his legal theories and plan his strategy without undue and needless interference.

Id. at 510-11, 67 S.Ct. at 393.

Were the attorney's work accessible to an adversary, the Hickman court cautioned, "much of what is now put down in...