In Enron Broadband Services, L.P. v. Travelers Casualty and Surety Company of America (In re Enron) 2006 WL 2456203 (Bankr.S.D.N.Y. August 25, 2006), the bankruptcy court for the Southern District of New York held that communications between an attorney and a corporate client’s employees, for the purpose of obtaining legal advice, are privileged.  However, the privilege is stripped away when the communications are made in furtherance of contemplated or ongoing criminal or fraudulent activity.

In Travelers Casualty, Global Crossing Bandwidth, Inc. ("Global Crossing") agreed to provide broadband capacity to Enron Broadband Services, L.P. ("EBS") pursuant to a Capacity Service Agreement ("CSA") in exchange for prepayment of the entire contract price.  Global Crossing furnished a surety bond, issued by Travelers Casualty and Surety Company of America ("Travelers"), for the prepayment amount, in the event Global Crossing did not perform under the contract.  Several months later, Travelers terminated the bond.  After EBS filed bankruptcy, it filed an adversary proceeding to compel payment on the bond.  Travelers alleged that on the same day as the CSA was entered into, EBS sold bandwidth capacity to Global Crossing through a company called Reliant Energy Services, Inc.  Travelers alleged that the two transactions taken together constituted a loan, and it was unaware of these facts at the time it issued the bond.  Thus, Travelers asserted that it was fraudulently induced to issue a bond in connection with a loan, which is prohibited in New York under the "Appleton Rule".

During the depositions of two former employees, EBS asserted that the attorney-client privilege prevented testimony from the former employees regarding their communications with EBS’s in-house legal counsel.  Travelers filed a motion to compel, requesting that the court overrule the privilege objection and compel the testimony.

EBS sued Travelers under federal law (Bankruptcy Code § 542) and state law (breach of contract).  Consequently, the court held that federal law of privilege applied.  Citing the Supreme Court in Commodity Futures Trading Comm’n v. Weintraub, 471 U.S. 343, 348 (1985), the court stated that, under federal law, "'[c]ommunications made between an attorney and a corporate client’s employees are privileged so long as they are made to attorneys (or their representatives) for the purpose of securing legal advice and concern matters within the scope of the employees’ corporate duties.’"  Despite the general rule, the court held that the crime-fraud exception will strip the privilege from attorney-client communications when:  (1) there is a reasonable basis to "suspect the perpetration or attempted perpetration of a crime or fraud", and (2) the communications are in furtherance of this crime or fraud.

As to the first prong, the court found prima facie evidence that, at the time of the communications, EBS was planning a fraudulent scheme when seeking advice from counsel.  EBS knew that the underlying transaction was a loan and not a sale.  It also knew that the Appleton Rule prevents the issuance of a bond to guaranty payment of a loan.  Despite this knowledge, EBS failed to reveal the true nature of the transaction to Travelers.  As to the second prong, the court held that an attorney-client communication need only reasonably relate to the subject matter of the crime or fraud for the crime-fraud exception to apply.  Evidence proved that the deponents had discussions with in-house counsel regarding the underlying transaction and New York’s Appleton Rule.  In sum, the court concluded that communications between EBS’s former employees and in-house legal counsel regarding the CSA, the same-day sale of broadband width to Global Crossing, and the bond issued in connection to this transaction were not privileged by reason of the crime-fraud exception.

Author:  Theresa W. Bangert