Client-Drafted Engagement Letters and Outside Counsel Policies: Ethical and Other Dilemmas

Business Woman Paperwork

A Quarterly Ethics Column

Institutional clients—corporations, large nonprofits, universities, and government entities—increasingly attempt to dictate the terms of the engagement through client-drafted engagement letters and outside counsel policies. Though labeled “policies,” “guidelines,” or “manuals,” they impose binding contractual obligations on outside counsel. They range from short manuals that list the client’s general expectations to detailed contracts that control virtually every aspect of the client–lawyer relationship.

Most provisions of outside counsel policies pose no ethical or other dilemmas for outside counsel, and many provisions require lawyers to adopt laudatory practices. But Colorado lawyers should not agree to comply with certain provisions, because the lawyer’s agreement to these terms would violate the Colorado Rules of Professional Conduct (Colo. RPC) or void the lawyer’s malpractice coverage. Lawyers should seek to modify those problematic provisions and should still approach others with caution.

Once apprised of unreasonable terms, institutional clients usually agree to modify them. This article outlines some of the more troublesome provisions. These issues are addressed in more detail in the February 2014 “Professional Conduct and Legal Ethics” article in “The Colorado Lawyer,” page 33.

Corporate Affiliates as Clients

Absent a contrary agreement, a lawyer who represents a corporation generally does not thereby represent the corporation’s parents, subsidiaries, or other corporate affiliates. See Colo. RPC 1.7, cmt. [34]. But outside counsel policies often define the client to include all affiliates. By agreeing to consider all affiliates as clients, a law firm might take on ethical duties to dozens or even hundreds of new clients.
A lawyer who takes on only one discrete matter for a corporate client can avoid this dilemma if the client will agree to modify the outside counsel policy so that only the directly represented corporate entity becomes a client. Otherwise, the lawyer will have to perform a conflict check for all affiliates. If the outside counsel policy does not list the affiliates, the lawyer must obtain a list for conflict screening purposes. If the corporate client merges or is acquired, the lawyer may incidentally take on even more clients. Outside counsel therefore should request that the corporate client inform counsel of the existence of any new affiliate.

Broad Definitions of Conflicts of Interest

Lawyers’ duties to avoid conflicts of interest are set forth in Colo. RPC 1.7 through 1.12. But outside counsel policies may go beyond the rules and define conflicts much more broadly. For example, under Colo. RPC 1.7, cmt. [6], “simultaneous representation in unrelated matters of clients whose interests are only economically adverse” does not ordinarily create a conflict of interest. But many outside counsel policies deem it to be a conflict for a firm to represent a competitor, even in unrelated matters. To comply with such provisions, law firms must obtain a list of entities that the potential client considers to be competitors and screen those names.

Other policies require outside counsel to disclose the identities of any competitors counsel represents. But Colo. RPC 1.6(a) prohibits a lawyer from making such a disclosure without the consent of the lawyer’s client. There is no exception in Rule 1.6 that allows a lawyer to disclose a client’s identity to another client. The lawyer would have to obtain the client’s informed consent to do so.

The rules recognize that a lawyer also has a conflict if a representation “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.” Colo. RPC 1.7(a)(2). But this prohibition does not extend to representations involving the mere possibility of future harm to a client. Id. cmt. [8]. Outside counsel policies may attempt to contractually expand this duty to potential conflicts, to the appearance of a conflict, or even to representations adverse to a client’s business interests or corporate values. Outside counsel would be well advised not to blithely accept such amorphous terms but instead to discuss them with the potential client. Again, to the extent these terms purport to require counsel to disclose information relating to the representation of other clients, counsel should remind the client of the prohibition imposed by Rule 1.6(a).

Advance Waivers

On the positive side of the conflict equation, some outside counsel policies grant prospective consent to conflicts of interest in specific types of future matters, typically transactional or low-stakes litigation matters. They provide welcome flexibility to outside counsel and save in-house counsel the time and effort needed to address multiple conflict waiver requests. Under the Colorado Rules, consents to specific future conflicts are generally enforceable. See Colo. RPC 1.7, cmt. [22].

Indemnification

Some outside counsel agreements require counsel to “indemnify and hold harmless” the client, its employees, and agents from claims, damages, liabilities, and losses based on, or arising out of, outside counsel’s performance or lack of performance under the agreement. The danger of this type of clause is that any indemnified loss or cost would not be covered by outside counsel’s malpractice insurance coverage.

Malpractice policies typically exclude coverage for contractual liabilities or cover them only if liability would have attached absent a contract. If a lawyer became obligated to pay a claim only because the lawyer agreed to indemnify a client, malpractice coverage would be excluded. Malpractice policies also contain clauses that require lawyers to cooperate with the insurer in defending a claim. If an indemnification clause creates an easier-to-prove contract claim, coverage might not be available due to lack of cooperation. Also, malpractice policies usually prohibit lawyers from impairing the insurer’s right of subrogation. If outside counsel agrees to hold harmless the client or others, then counsel may impair the insurer’s subrogation rights by agreeing that those parties will not be responsible for their share of any liability.

Lawyers should therefore check with their malpractice insurer before agreeing to any indemnification clause. If the clause could or would void malpractice coverage, they should insist that the clause be removed or modified.

“Most Favored Nations” Clauses

Almost all outside counsel policies contain billing and expense procedures and limitations, and most of these raise no ethics issues. But some contain a “most favored nations” clause that requires counsel to confirm that the billing rates and other terms counsel charges the institutional client are at least as favorable as those that counsel charges any other paying client.

The problem is that private practice lawyers offer clients a host of fee arrangements—hourly rates, flat fees, contingency fees, blended fees (e.g., a reduced hourly rate plus a “success fee”), and so on. Comparing the economic benefits of such arrangements with the terms offered to a particular institutional client is impracticable. The same can be said for expenses. Lawyers should either reject most favored nations clauses or propose alternative language to account for the varied fee and expense arrangements they offer their clients.

One-Lawyer Rule

Many policies provide that the corporate client will pay for only one lawyer’s time to participate in specified activities. These provisions raise potential ethical dilemmas concerning competence and truthfulness. Under Colo. RPC 1.1, Colorado lawyers must “provide competent representation to a client.” If one lawyer is insufficient to handle a task or event like a settlement conference, hearing, or trial, outside counsel should seek the client’s consent to have additional lawyers assist with the event.

If the client still forbids this, then the firm, having agreed to this contractual provision, would have no choice but to staff the matter adequately yet bill for only one lawyer’s participation. The firm plainly cannot have the second or third lawyers prepare false or vague time entries so that the firm is compensated for its participation, because this would involve serious breaches of Rules 4.1 and 8.4(c).

Ethical Rules and Standards

Finally, some outside counsel policies select the law or ethics rules of another state to govern the matter. They also may impose an uninsurable standard of care, such as the “highest standard” of care practiced by lawyers in a particular community. Colorado lawyers should insist the agreement be modified so that the Colorado Rules apply to Colorado-based matters and that they are subject to an insurable standard of care.

Outside counsel policies have become common features of private practice, but they can raise ethical and other dilemmas for outside counsel. Colorado lawyers ignore these provisions at their peril. Lawyers should scrutinize these polices and discuss troublesome aspects with their prospective client, their malpractice insurer, or an ethics expert.

 

By Stephen G. Masciocchi, a partner in the Denver office of Holland & Hart LLP and a member of the CBA Ethics Committee. He can be reached at smasciocchi@hollandhart.com.

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