US v Stein SDNY 6.27.06

UNITED STATES DISTRICT COURT
SOUTHERN DISTRICT OF NEW YORK
UNITED STATES OF AMERICA,

-against-

JEFFREY STEIN, et al.,

Defendants.

S1 05 Crim. 0888 (LAK)

OPINION

Appearances:

Table of Contents

LEWIS A. KAPLAN, District Judge.

The issue now before the Court arises at an intersection of three principles of American law.

The first principle is that everyone accused of a crime is entitled to a fundamentally fair trial.¹ This is a central meaning of the Due Process Clause of the Constitution

The second principle, a corollary of the first, is that everyone charged with a crime is entitled to the assistance of a lawyer.² A defendant with the financial means has the right to hire the best lawyers money can buy. A poor defendant is guaranteed competent counsel at government expense.³ This is at the heart of the Sixth Amendment.

The third principle is not so easily stated, not of constitutional dimension, and not so universal. But it too plays an important role in this case. It is simply this: an employer often must reimburse an employee for legal expenses when the employee is sued, or even charged with a crime, as a result of doing his or her job. Indeed, the employer often must advance legal expenses to an employee up front, although the employee sometimes must pay the employer back if the employee has been guilty of wrongdoing.

This third principle is not the stuff of television and movie drama. It does not remotely approach Miranda warnings in popular culture. But it is very much a part of American life. Persons in jobs big and small, private and public, rely on it every day. Bus drivers sued for accidents, cops sued for allegedly wrongful arrests, nurses named in malpractice cases, news reporters sued in libel cases, and corporate chieftains embroiled in securities litigation generally have similar rights to have their employers pay their legal expenses if they are sued as a result of their doing their jobs. This right is as much a part of the bargain between employer and employee as salary or wages.⁴

Most of the defendants in this case worked for KPMG, one of the worlds largest accounting firms. KPMG long has paid for the legal defense of its personnel, regardless of the cost and regardless of whether its personnel were charged with crimes. The defendants who formerly worked for KPMG say that it is obligated to do so here. KPMG, however, has refused.

If that were all there were to the dispute, it would be a private matter between KPMG and its former personnel. But it is not all there is. These defendants ⁵ (the "KPMG Defendants")claim that KPMG has refused to advance defense costs to which the defendants are entitled because the government pressured KPMG to cut them off. The government, they say, thus violated their rights and threatens their right to a fair trial.

Having heard testimony from KPMGs general counsel, some of its outside lawyers, and government prosecutors, the Court concludes that the KPMG Defendants are right. KPMG refused to pay because the government held the proverbial gun to its head. Had that pressure not been brought to bear, KPMG would have paid these defendants legal expenses.

Those who commit crimes regardless of whether they wear white or blue collars must be brought to justice. The government, however, has let its zeal get in the way of its judgment. It has violated the Constitution it is sworn to defend.

Facts

The Thompson Memorandum

In June 1999, then-U.S. Deputy Attorney General Eric Holder issued a document entitled Federal Prosecution of Corporations (the "Holder Memorandum") to provide "guidance as to what factors should generally inform a prosecutor in making the decision whether to charge a corporation in a given case."⁶ He took pains to make clear that the factors articulated in the memorandum were not "outcome-determinative" and that "[f]ederal prosecutors [we]re not required to reference these factors in a particular case, nor [we]re they required to document the weight they accorded specific factors in reaching their decision." Nevertheless, the language that plays a central role in the present controversy first was found in the Holder Memorandum.

The Holder Memorandum set forth some common sense considerations. Prosecutors, in deciding whether to indict a company, should pay attention to things like the nature and seriousness of the offense, the pervasiveness of wrongdoing within the entity, the companys efforts to remedy past misconduct, the adequacy of other remedies, and the like. It mentioned also:

"the corporations timely and voluntary disclosure of wrongdoing and its willingness to cooperate in the investigation of its agents, including, if necessary, the waiver of the corporate attorney-client and work product protection . . ."⁷

Section VI elaborated on what was meant by cooperation. The general principle was that "[i]n gauging the extent of the corporations cooperation, the prosecutor may consider the corporations willingness to identify the culprits within the corporation, including senior executives, to make witnesses available, to disclose the complete results of its internal investigation, and to waive attorney-client and work-product privileges."⁸ The memorandum then set out several paragraphs of commentary, the most relevant for present purposes being this:

"Another factor to be weighed by the prosecutor is whether the corporation appears to be protecting its culpable employees and agents. Thus, while cases will differ depending upon the circumstances, a corporations promise of support to culpable employees and agents, either through the advancing of attorneys fees, through retaining the employees without sanction for their misconduct, or through providing information to the employees about the governments investigation pursuant to a joint defense agreement, may be considered by the prosecutor in weighing the extent and value of a corporations cooperation."⁹

A footnote to the comment concerning the advancing of attorneys fees read: "Some states require corporations to pay the legal fees of officers under investigation prior to a formal determination of their guilt. Obviously, a corporations compliance with governing law should not be considered a failure to cooperate."¹⁰ Thus, the Holder Memorandum made clear that advancing of attorneys fees to personnel of a business entity under investigation, except where such advances were required by law, might be viewed by the government as protection of culpable individuals and might contribute to a government decision to indict the entity.

The Court, with the consent of the parties, takes judicial notice of the Holder Memorandum.

As noted, the Holder Memorandum was not binding. Federal prosecutors were free to take it into account, or not, as they saw fit. But the corporate scandals of the earlier part of this decade changed that.

In late 2001, Enron, Global Crossing, Tyco International, Adelphia Communications and ImClone, among other companies, found themselves in worlds of trouble, much of it apparently of their own making. Bankruptcies and criminal prosecutions followed including, notably, the indictment of Enrons auditors, Arthur Andersen LLP an indictment that resulted in the collapse of the firm, well before the case was tried.¹¹ And on July 9, 2002, the President issued Executive Order 13271, which established a Corporate Fraud Task Force (the "Task Force") headed by United States Deputy Attorney General Larry D. Thompson.

On January 20, 2003, Mr. Thompson issued a document entitled Principles of Federal Prosecution of Business Organizations (the "Thompson Memorandum") which, in many respects, was a modest revision of the Holder Memorandum. Indeed, the language concerning cooperation and advancing of legal fees by business entities was carried forward without change.

Unlike its predecessor, however, the Thompson Memorandum is binding on all federal prosecutors.¹² Thus, all United States Attorneys now are obliged to consider the advancing of legal fees by business entities, except such advances as are required by law, as at least possibly indicative of an attempt to protect culpable employees and as a factor weighing in favor of indictment of the entity.¹³

KPMG Gets Into Trouble and "Cleans House"

While all of this was going on, the Internal Revenue Service ("IRS") began investigating tax shelters, including a number that are subjects of the indictment in this case. In early 2002, it issued nine summonses to KPMG, which was less than fully compliant. Accordingly, on July 9, 2002, the government filed a petition in the United States District Court for the District of Columbia to enforce them.¹⁴

A few months later, the Permanent Subcommittee on Investigations of the Senate Committee on Governmental Affairs "began an investigation into the development, marketing and implementation of abusive tax shelters by accountants, lawyers, financial advisors, and bankers."¹⁵ This led to public hearings in November 2003 at which several senior KPMG partners or former partners three of them now defendants here testified.¹⁶

The firms reception at the hearing was not favorable. Senator Coleman, the subcommittee chair, for example, opened the hearing by saying that "the ethical standards of the legal and accounting profession have been pushed, prodded, bent and, in some cases, broken, for enormous monetary gain." ¹⁷ At another point, Senator Levin, the ranking minority member, in obvious exasperation at a KPMG witness, suggested that the witness "try an honest answer."¹⁸

Eugene OKelly, then KPMG chair,¹⁹ was concerned about the Senate hearing and the IRS proceedings.²⁰ He retained Skadden Arps Slate Meagher & Flom ("Skadden"), and particularly Robert S. Bennett, "to come up with a new cooperative approach." ²¹ One aspect of that new approach was a decision to "clean house" a determination to ask Jeffrey Stein, Richard Smith, and Jeffrey Eischeid, all senior KPMG partners who had testified before the Senate and all now defendants here to leave their positions as deputy chair and chief operating officer of the firm, vice chair tax services, and a partner in personal financial planning, respectively.²²

Given Mr. Steins senior position and his relationship with Mr. OKelly,²³ his departure was cushioned substantially, although many of the facts have come to light only recently. He "retired" from the firm with a $100,000 per month, three-year consulting agreement. He agreed to release the firm and all of its partners, principals, and employees from all claims.²⁴ He and KPMG agreed also that Mr. Stein would be represented, at KPMGs expense, in any suits brought against KPMG or its personnel and himself, by counsel acceptable to both him and the firm or, if joint representation were inappropriate or if Mr. Stein were the only party to a proceeding, by counsel reasonably acceptable to Stein.²⁵

Despite KPMGs effort to stave off trouble by "cleaning house," much damage already had been done. In the early part of 2004, the IRS made a criminal referral to the Department of Justice ("DOJ"), which in turn passed it on to the United States Attorneys Office for this district ("USAO").²⁶

KPMGs Policy on Payment of Legal Fees

KPMGs policy prior to this matter concerning the payment of legal fees of its partners and employees is clear. While KPMGs partnership agreement and by-laws are silent on the subject, the parties have stipulated as follows:

"1. Prior to February 2004, . . . it had been the longstanding voluntary practice of KPMG to advance and pay legal fees, without a preset cap or condition of cooperation with the government, for counsel for partners, principals, and employees of the firm in those situations where separate counsel was appropriate to represent the individual in any civil, criminal or regulatory proceeding involving activities arising within the scope of the individuals duties and responsibilities as a KPMG partner, principal, or employee.

"2. This practice was followed without regard to economic costs or considerations with respect to individuals or the firm.

"3. With the exception of the instant matter, KPMG is not aware of any current or former partner, principal or employee who has been indicted for conduct arising within the scope of the individuals duties and responsibilities as a KPMG partner, principal, or employee since [two partners] were indicted and convicted of violation of federal criminal law in 1974. Although KPMG has located no documents regarding payment of legal fees in that case, KPMG believes that it did pay pre- and post-indictment legal fees for the individuals in that case."

The Court infers and finds that KPMG in fact paid the pre- and post-indictment legal fees for the individuals in the 1974 criminal case. Moreover, the extent to which KPMG has gone is quite remarkable. In one recent situation involving KPMGs relationship with Xerox Corportion, it paid over $20 million to defend four partners in a criminal investigation and related civil litigation brought by the Securities and Exchange Commission.²⁷

The Initial Discussion between the USAO and Skadden

When the referral reached the USAO on February 5, 2004, it came under the supervision of Shirah Neiman, who was chief counsel to the United States Attorney, the USAOs liaison to the IRS, a participant in the drafting of the Holder Memorandum, and a very experienced prosecutor.²⁸ The USAO notified Skadden of the referral, and a meeting was scheduled for February 25, 2004.

In the meantime, on February 9, 2004, the USAO prepared "subject" letters letters advising the recipient that he or she "is a person whose conduct is within the scope of [a] grand jury's investigation"²⁹ to between 20 and 30 KPMG partners and employees, including all but five of the defendants in this case.³⁰

In preparation for the meeting, Ms. Neiman, Assistant United States Attorneys ("AUSA") Weddle and Okula, and other members of the prosecution team conferred. They decided to ask Skadden whether KPMG was paying the legal fees of individuals under investigation.³¹ Accordingly, the government prepared a document headed "Skadden Meeting Points" setting forth matters that the government intended to discuss at the meeting.³² The first page of the three-page list contained an item that read:

"! Is KPMG paying/going to pay the legal fees of employees? Current or former? What about taxpayers?

Who?

• Any agreements or other obligations to do so? What are they?"³³

The meeting was attended by Mr. Bennett, Ms. Neiman, and many others on both sides. Mr. Weddle began by telling Skadden that the government was there to hear what Skadden had to say and that it had a few questions. Mr. Bennett explained that Skadden had been hired in view of Mr. OKellys concern about the controversy with the IRS and the Senate hearings and that KPMG had decided to clean house and change the atmosphere at the firm. He reported that the firm had taken high-level personnel action already, that it would cooperate fully with the governments investigation, and that the object was to save KPMG, not to protect any individuals. In an obvious reference to the fate of Arthur Andersen, he said that an indictment of KPMG would result in the firm going out of business.³⁴

After a discussion of the structure of KPMG and of potential conflicts of interest, Mr. Weddle "got to the subject of legal fees and asked whether KPMG was obligated to pay fees and what their plans were." ³⁵ Mr. Bennett tested the waters to see whether KPMG could adhere to its practice of paying its employees³⁶ legal expenses when litigation loomed. He asked for governments view on the subject.³⁷ Ms. Neiman said that the government would take into account KPMGs legal obligations, if any, to advance legal expenses, but referred specifically to the Thompson Memorandum as a point that had to be considered.³⁸

At or about that point, Messrs. Bennett and Bialkin told the USAO that KPMGs "common practice" had been to pay legal fees. They added that the partnership agreement was vague and that Delaware law gave the company the right to do whatever it wished, but said that KPMG still was checking on its legal obligations. It would not, however, pay legal fees for employees who declined to cooperate with the government, or who took the Fifth Amendment, as long as it had discretion to take that position.³⁹

The conversation then shifted briefly to a discussion of the personnel changes that KPMG had made.⁴⁰ Mr. Bennett reported that Messrs. Stein, Eischeid, and Smith had been asked to leave, but explained that neither KPMG nor Skadden had done an internal investigation to determine who were "bad guys" or whether any crime had been committed.⁴¹ Almost immediately, Mr. Weddle reverted to the subject of attorneys fees, asking Mr. Bennett to determine KPMGs obligations in that regard.⁴² Ms. Neiman then said that "misconduct" should not or cannot "be rewarded" and referred to federal guidelines.⁴³

There is no dispute, and the Court finds, that this comment came immediately on the heels of a statement by Mr. Bennett relating to lawyers for KPMG partners.⁴⁴ There are disputes, however, about precisely what Ms. Neiman said about "guidelines" and what she meant by it.⁴⁵ The parties have focused in particular on whether Ms. Neiman intended her remark to be directed to the legal fee issue i.e., to be a statement to the effect that payment by KPMG of employee legal fees could be viewed as rewarding misconduct or to be directed instead at any severance arrangements between KPMG and Messrs. Stein, Eischeid, and Smith. Ms. Neiman testified that her intent was the latter.⁴⁶ But the Court finds it unnecessary to decide Ms. Neimans subjective purpose in making the remark because what is more important is how her comment was understood.

As Ms. Neimans remark came immediately after a statement concerning whether KPMG would be paying for lawyers for its personnel, it would have been quite natural to understand the comment as having been directed at payment of legal fees. And that is exactly what happened:

• The IRS agents handwritten notes, taken at the meeting, state:
  • "BB - [illegible] Skadden may recommend lawyers for this. Wants lawyers who understand cooperation is the best way to go in this type of case.
  • He feels it is in the best interests of KPMG for its people to get attorneys that will cooperate with Go[vt]. Want to save the firm.
• "Per SN
  • Fees under Federal Guideline
    Misconduct C/N Be rewarded.
  • JW - figure out firms obligations and [illegible]"⁴⁷
• The IRS agents typewritten memorandum, prepared from her notes, state:
  • "31. AUSA Weddle finally asked Mr. Bennett to find out what KPMGs obligations would be. Shirah Neiman further advised them that under the federal guidelines misconduct can not be rewarded."⁴⁸
• Skaddens Mr. Pilchen recorded:
  • "SP -No decisions made. No counsel have been recommended we have had discussions @ what the firm does in typical situations - but no final decisions made.
  • "SN - misconduct shdnt be rewarded."⁴⁹
• Not long afterward, Mr. Pilchen told a lawyer for a KPMG employee that the government had implied that it preferred that KPMG not pay employee legal fees.⁵⁰
• AUSA Okula testified:
  "Q In response to the topic of cooperation, isnt it a fact that Shirah Neiman goes back to the fees and says, well, remember, were looking at that under federal guidelines. Yes or no?
  "A Yes.
  "Q And that was about fees, wasnt it?
  "A Fees, yes, thats what it says.
  "Q It wasnt about terminating Eischeid or Stein or anybody else. It was about paying fees and cooperation. Correct?"
  A Correct."⁵¹

In sum, Ms. Neimans comment that "misconduct" cannot or should not "be rewarded" under "federal guidelines," whatever went through her mind when she said it, was understood by both KPMG and government representatives as a reminder that payment of legal fees by KPMG, beyond any that it might legally be obligated to pay, could well count against KPMG in the governments decision whether to indict the firm. And if there were any doubt that this was the message conveyed, the doubt quickly was dispelled by Mr. Weddle. As Mr. Pilchens notes recorded, he followed up Ms. Neimans comment by saying:

"JW if u have discretion re fees well look at that under a microscope."⁵² Thus, while the USAO did not say in so many words that it did not want KPMG to pay legal fees, no one at the meeting could have failed to draw that conclusion.⁵³

KPMG Gets the Message

Shortly after the February 25, 2004 meeting, Mr. Bennett got back to Mr. Weddle on the legal fee issue. He reported that KPMG did not think it had any binding legal obligation to pay legal fees,⁵⁴ but that "it would be a big problem" not to do so because the firm was a partnership. He said that KPMG was planning on putting a cap, or limit, on fees and conditioning their payment for any given partner or employee on that individual "cooperating fully with the company and the government."⁵⁵ Apparently satisfied with the governments response, KPMG began to implement the policy.

On March 4, 2004, Mr. Pilchen of Skadden spoke to Mr. Townsend, an attorney for defendant Carolyn Warley. He told Townsend that KPMG would pay his fees so long as Ms. Warley cooperated with the government. For example, he said, no fees would be paid if Ms. Warley invoked her privilege against self-incrimination under the Fifth Amendment.⁵⁶

On March 11, 2004, the Skadden team had a conference call with the USAO. Mr. Bennett assured the USAO that KPMG would be "as cooperative as possible" so that the office would not exercise its discretion to indict the firm. Mr. Weddle urged that KPMG tell its people that they should be "totally open" with the USAO, "even if that [meant admitting] criminal wrongdoing." He commented that this would give him good material for cross-examination,⁵⁷ a statement that strongly indicates that at least the lead line AUSA on the case expected, even at this stage, to prosecute individuals.

The actions of the USAO, coupled with the Thompson Memorandum, had the desired effect. On the same date, Skaddens Mr. Rauh wrote to the USAO, enclosing among other things a form letter that Skadden was sending to counsel for the KPMG Defendants then employed by KPMG who had received subject letters from the government or otherwise appeared to be under suspicion.⁵⁸ The form letter stated that KPMG would pay an individuals legal fees and expenses, up to a maximum of $400,000, on the condition that the individual "cooperate with the government and . . . be prompt, complete, and truthful."⁵⁹ Importantly, however, it went even further. It made clear that "payment of . . . legal fees and expenses will cease immediately if . . . [the recipient] is charged by the government with criminal wrongdoing."⁶⁰ In addition, on March 12, 2004, Joseph Loonan, then KPMGs deputy general counsel, sent an advisory memorandum to a broader audience of KPMG personnel regarding potential contacts by the government.⁶¹ The memorandum urged full cooperation with the investigation. But it advised also that recipients had a right to be represented by counsel if they were contacted by the government, mentioned some advantages of consultation with counsel, and stated that KPMG had arranged for independent counsel for those who wished to consult them.⁶²

The USAO took no issue with KPMGs announcement that it would cut off payment of legal fees for anyone who was indicted and that it would condition the limited preindictment payments on cooperation with the government. The advisory memorandum, on the other hand, upset Mr. Weddle and Kevin Downing, another member of the prosecution team.⁶³ They immediately advised Skadden that it was "disappointed with [its] tone" and allegedly "one-sided presentation of potential issues" and demanded that KPMG send out a supplemental memorandum in a form they proposed.⁶⁴ The only significant point of difference between the memorandum that the government demanded and Mr. Loonans original memorandum was the language in the governments proposal italicized below:

"Employees are not required to use this counsel, or any counsel at all. Rather, employees are free to obtain their own counsel, or to meet with investigators without the assistance of counsel. It is entirely your choice."⁶⁵

In due course, KPMG capitulated to the USAO demand. It put out in "Q & A" format a document containing the following language:

"Do I have to be assisted by a lawyer?

"Answer: No. Although we believe that it is probably in your best interests to consult with a lawyer before speaking to government representatives, whether you do so is entirely your choice. As we said in the March 12 OGC [Office of General Counsel] memorandum, you may deal directly with government representatives without counsel. In any event, the Firm expects you to cooperate fully with the government representatives and provide complete and truthful information to them."⁶⁶

This exchange is revealing. No one suggests that either the original KPMG advice or the governments subsequent proposal misstated the law. The difference was one of emphasis. But it is entirely plain that the governments purpose in demanding the supplement was to increase the chances that KPMG employees would agree to interviews without consulting or being represented by counsel, whether provided by KPMG or otherwise.

The Government Presses Its Advantage

The KPMG lawyers met again with the USAO on March 29, 2004. In an effort to demonstrate that KPMG was cooperating, Skadden asked the government to notify it if any current or former KPMG employee refused to meet with prosecutors or otherwise failed to cooperate.⁶⁷

From that point forward, the government took full advantage. It repeatedly notified Skadden when KPMG personnel failed to comply with government demands.⁶⁸ In each case, Skadden promptly advised the attorney for the individual in question that the payment of legal fees would be terminated "[a]bsent an indication from the government within the next ten business days that your client no longer refuses to participate in an interview with the government."⁶⁹ In some cases, the individuals in question relented under pressure of the threats from KPMG and submitted to interviews with the government. In others, they did not, whereupon KPMG terminated their employment and cut off the payment of legal fees.⁷⁰

The Conclusion of the Investigation, KPMGs Stein Problem and the Deferred Prosecution Agreement

As the matter unfolded, meetings between KPMG and its counsel and the USAO continued, with KPMG seeking a resolution short of an indictment of the firm and the government pressing for admissions of extensive wrongdoing, a great deal of money, and changes in KPMGs business.

On August 4, 2004, the KPMG executives and lawyers met with Karen Seymour, then chief of the criminal division of the USAO, and other prosecutors. In the course of the meeting, Ms. Seymour said that the government had learned that KPMG had granted rich severance packages to certain executives and that this raised a "troubling issue under the Thompson Memo."⁷¹ Mr. Bennett deflected the issue, agreeing that severance packages were "high in one or two cases" but reiterating that KPMGs "expectation" was that legal fees of individuals would be paid only up to $400,000 and only on condition that recipients cooperated with the government.⁷² But the Stein severance agreement was not produced.

As time went by, KPMG came to view the Stein severance agreement as something of a ticking bomb. For one thing, KPMG had not adhered in Mr. Steins case to the $400,000 pre-indictment legal fee cap that it had adopted in response to government pressure. It passed that figure by late October 2004,⁷³ and so was at odds with its representation to the government.⁷⁴ For another, it had known since August 2004 that the USAO was unhappy that rich severance packages had been given to senior executives.⁷⁵

Notwithstanding this problem, KPMG repeatedly tried to convince the USAO not to indict the firm, touting its cooperation with the investigation and its limitation of attorneys fees for individuals. In meetings in March 2005 with David N. Kelley, then United States Attorney, however, this approach did not yield the desired result. Indeed, On March 2, 2005, Mr. Kelley interrupted Mr. Bennetts claim that the firm had cooperated by saying, "Let me put it this way. Ive seen a lot better from big companies." ⁷⁶ That meeting, in the words of KPMGs Mr. Loonan, was "not particularly encouraging,"⁷⁷ and a subsequent meeting in New York went no better.

With the scene about to shift to Washington and a last ditch effort to prevent an indictment by an appeal at the highest levels of the Justice Department, KPMGs objective was "to be able to say at the right time with the right audience, were in full compliance with the Thompson Guidelines."⁷⁸ It concluded that the Stein situation involved too great a risk. So on May 5, 2005, eight days before KPMG was to meet with U.S. Deputy Attorney General James Comey to plead its case, KPMG unilaterally terminated the consulting services portion of the severance agreement and cut off payment of Mr. Steins attorneys fees. ⁷⁹ It did so, as Mr. Loonan candidly admitted, "because [KPMG] thought it would help [the firm] with the government."⁸⁰

Having dealt, as best it could, with the Stein problem, KPMG turned to attempting to persuade Deputy Attorney General Comey not to indict the firm. The meeting took place on June 13, 2005. Once again, Mr. Bennett relied upon KPMGs cooperation with the government, in addition of course to other arguments. A Skadden memorandum of the meeting recounts some of his remarks as follows:

"In addition, it [KPMG] had done something never heard of before conditioned the payment of attorneys fees on full cooperation with the investigation. We said wed pressure although we didnt use that word our employees to cooperate. We told employees that attorney fees would not be paid unless they fully cooperated with the investigation. He noted that whenever an individual indicated he or she would not cooperate, Justin [Weddle] or Stan [Okula] would tell us, and KPMG took action. He went on to note that what played out was that current or former personnel who otherwise would not have cooperated did cooperate, and those who did not had their fees cut off and, in two instances, were separated from the firm. This process exhibited a level of cooperation that is rarely done.

* * *

"He noted that what was really precedent-setting about the case was the conditioning of payment of legal fees on cooperation."⁸¹

This time, KPMG was more successful.

The Deferred Prosecution Agreement and the Indictment in This Case

On August 29, 2005, KPMG and the government entered into a Deferred Prosecution Agreement ("DPA"). KPMG agreed, among other things, to waive indictment, to be charged in a one-count information, to admit extensive wrongdoing, to pay a $456 million fine, and to accept restrictions on its practice. The government agreed that it will seek dismissal of the information if KPMG complies with its obligations.⁸² In a nutshell, KPMG stands to avoid a criminal conviction if it lives up to its part of the bargain.

One additional aspect of the DPA is noteworthy in the present context. The DPA obliges KPMG to cooperate extensively with the government, both in general and in the governments prosecution of this indictment. It provides in part:

"7. KPMG acknowledges and understands that its cooperation with the criminal investigation by the Office [USAO] is an important and material factor underlying the Offices decision to enter into this Agreement, and, therefore, KPMG agrees to cooperate fully and actively with the Office, the IRS, and with any other agency of the government designated by the Office (Designated Agencies) regarding any matter relating to the Offices investigation about which KPMG has knowledge or information.

"8. KPMG agrees that its continuing cooperation with the Offices investigation shall include, but not be limited to, the following:

"(a) Completely and truthfully disclosing all information in its possession to the Office and the IRS about which the Office and the IRS may inquire, including but not limited to all information about activities of KPMG, present and former partners, employees, and agents of KPMG;

* * *

"(d) Assembling, organizing, and providing, in responsive and prompt fashion, and, upon request, expedited fashion, all documents, records, information, and other evidence in KPMGs possession, custody, or control as may be requested by the Office or the IRS;

"(e) Not asserting, in relation to the Office, any claim of privilege (including but not limited to the attorney-client privilege and the work product protection) as to any documents, records, information, or testimony requested by the Office related to its investigation . . . [; and]

"(f) Using its reasonable best efforts to make available its present and former partners and employees to provide information and/or testimony as requested by the Office and the IRS, including sworn testimony before a grand jury or in court proceedings, as well as interviews with law enforcement authorities . . .

"9. KPMG agrees that its obligations to cooperate will continue even after the dismissal of the Information, and KPMG will continue to fulfill the cooperation obligations set forth in this Agreement in connection with any investigation, criminal prosecution or civil proceeding brought by the Office or by or against the IRS or the United States relating to or arising out of the conduct set forth in the Information and the Statement of Facts and relating in any way to the Offices investigation."⁸³

The cooperation provisions of the DPA thus require KPMG to comply with demands by the USAO in connection with this prosecution, with little or no regard to cost. If it does not comply, it will be open to the risk that the government will declare that KPMG breached the DPA and prosecute the criminal information to verdict. Anything the government regards as a failure to cooperate, in other words, almost certainly will result in the criminal conviction that KPMG has labored so mightily to avoid, as the admissions that KPMG now has made would foreclose a successful defense.

At about the same time, the government filed the initial indictment in this case. True to its word, KPMG cut off payments to the defendants of legal fees and expenses.

The Present Motion

The Governments Initial Response

On January 19, 2006, the KPMG Defendants moved to dismiss the indictment or for other relief on the ground that the government had interfered improperly with the advancement of attorneys fees by KPMG in violation of their constitutional and other rights.

The government filed its memorandum in opposition to this and other motions on March 3, 2006.⁸⁴ It represented:

"With respect to the facts[,] KPMG, which determined that it had no obligation under either Delaware partnership law or contract to advance legal fees at all, decided of its own volition that it would in fact advance such fees, but subject them to certain limitations. That KPMG, an entity that by its own admission engaged in a breathtaking tax fraud conspiracy with and through the defendants and others, may have made that decision as a matter of good partnership governance and in order to better position itself with prosecutors, does not detract from the fact that it was KPMGs decision alone. Tellingly, the defendants have not and indeed cannot point to any evidence supporting their spurious claims that the United States coerc[ed] or bull[ied] KPMG into making its decision to limit the advancement of fees."⁸⁵

The motion was heard on March 30, 2006. In the course of the argument, the government, for the first time, took the position that it had "no objection whatsoever to KPMG exercising its free and independent business judgment as to whether to advance defense costs . . . and that if it were to elect to do so the government would not in any way consider that in determining whether [KPMG] had complied with the DPA."⁸⁶ Nevertheless, the Court expressed concern about the impact of the Thompson Memorandum on KPMGs decision with respect to the payment of legal fees and ultimately invited the defendants to make a written submission as to the precise factual issue(s) as to which they sought an evidentiary hearing.⁸⁷

The government sought to avoid a hearing. It responded to the defendants submission with a declaration by Mr. Weddle and a letter brief. Mr. Weddles declaration stated in relevant part:

"2. On February 25, 2004, legal counsel for KPMG met with me and other representatives of the United States Attorneys Office for the first time in connection with this investigation. At this meeting, among other things:

* * *

"d. KPMGs lawyers stated that they were looking into the issue of their obligations to pay fees, and indicated that if it was within KPMGs discretion whether to pay fees, KPMG would not pay fees for individuals who do not cooperate.

"e. The Government did not instruct or request KPMG to implement that plan or to implement a contrary plan.

"3. * * * Once again, in this call [March 2, 2004], the Government did not tell KPMGs counsel that KPMGs decision to pay legal fees was improper, nor did we instruct or request KPMG to change its decision about paying fees, capping the payment of fees, or conditioning of fees on an employees or a partners cooperation."⁸⁸

The letter brief ⁸⁹ stated:

"The Government did not instruct or request KPMG to implement that plan [i.e., KPMGs plan to advance fees subject to a cap and a requirement of cooperation with the government] or to implement a contrary plan.

* * *

"Once again, the Government did not tell KPMG that its decision to pay legal fees was improper. Nor did the Government instruct or request KPMG to change its decision about paying fees, capping the payment of fees, or conditioning the payment of fees on an employees or a partners cooperation.

* * *

"In sum, during the course of its dealings with KPMG, the United States Attorneys Office did not instruct KPMG whether KPMG should pay legal fees, whether KPMG should cap the payment of legal fees, or whether KPMG should condition the payment of legal fees."⁹⁰

Prehearing Proceedings

On April 12, 2006, the Court ordered an evidentiary hearing and limited discovery on the motion and, particularly, on "whether the government, through the Thompson Memorandum or otherwise, affected KPMGs determination(s) with respect to the advancement of legal fees and other defense costs to present or former partners and employees with respect to the investigation and prosecution of this case and such subsidiary issues as relate thereto."⁹¹ The order granted the KPMG Defendants leave to serve a Rule 17(c) subpoena on KPMG for documents.

Without getting into unnecessary detail, it is fair to say that KPMGs participation from that point on was more extensive than simply responding to the subpoena. It sought to block or, at least, delay issuance of the subpoena while it tried to broker stipulations between defendants and the government in an effort to limit the scope of discovery from KPMG and testimony by its personnel.⁹² It sought and obtained, for its own convenience, a delay of the hearing.⁹³ And it obtained leave for its counsel appear not only for the purpose of responding to the subpoena "in this matter," but "for any purposes relating to this matter that the Court may so [sic] order."⁹⁴

The Hearing

The Court conducted an evidentiary hearing on May 8-10, 2006. Counsel for KPMG were present throughout. At the conclusion of argument by other counsel, the Court addressed counsel for KPMG: "You certainly have notice that a remedy is being sought against your client, and Im now making it clear in words of one syllable. You will have a chance to be heard if you want it."⁹⁵ It went on to emphasize that it would welcome any submission on behalf of KPMG and that KPMG could "make whatever reservation of rights [it wished] in submitting."⁹⁶

KPMG ultimately submitted a memorandum of law. It did not seek to offer any evidence, to question any witnesses, or to make any offer of proof.

Ultimate Factual Conclusions

Several broad conclusions follow from the foregoing.

First, the Thompson Memorandum caused KPMG to consider departing from its long-standing policy of paying legal fees and expenses of its personnel in all cases and investigations even before it first met with the USAO. As a direct result of the threat to the firm inherent in the Thompson Memorandum, it sought an indication from the USAO that payment of fees in accordance with its settled practice would not be held against it.

Second, the USAO did not give KPMG the comfort it sought. To the contrary, it deliberately, and consistent with DOJ policy, reinforced the threat inherent in the Thompson Memorandum. It placed the issue of payment of legal fees high on its agenda for its first meeting with KPMG counsel, which emphasized the prosecutors concern with the issue. Mr. Weddle raised the issue and then repeatedly focused on KPMGs "obligations," thus clearly implying consistent with the language of the Thompson Memorandum that compliance with legal obligations would be countenanced, but that anything more than compliance with demonstrable legal obligations could be held against the firm. Ms. Neimans statement, in response to a comment about payment of legal fees by KPMG, that misconduct should not be rewarded quite reasonably was understood in the same vein, whatever its intent. And Mr. Weddles colorful warning that the USAO would look at any discretionary payment of fees by KPMG "under a microscope" drove the point home.

Third, the government conducted itself in a manner that evidenced a desire to minimize the involvement of defense attorneys. This objective arguably is inherent, to some degree, in the Thompson Memorandum itself. But there is considerably more proof, specific to this case, here. The contretemps with KPMG over its Advisory Memorandum demonstrated the governments desire, wherever possible, to interview KPMG witnesses without their being represented by lawyers. The USAOs ready acceptance of KPMGs offer to cut off payment of legal fees for anyone who was indicted speaks for itself. It speaks even more eloquently when one considers that the USAO accepted KPMGs assurance that it had no legal obligation to pay legal fees, knowing that (1) KPMGs "common practice" had been to make such payments, (2) KPMG was extremely anxious to curry favor with the USAO by demonstrating how cooperative it could be, and (3) KPMG had an obvious conflict of interest with its present and former personnel on the question whether it had a legal obligation to pay fees. Had the government been less concerned with punishing those it deemed culpable right from the outset, it would not have accepted KPMGs word on this point.

Fourth, KPMGs decision to cut off all payments of legal fees and expenses to anyone who was indicted and to limit and to condition such payments prior to indictment upon cooperation with the government was the direct consequence of the pressure applied by the Thompson Memorandum and the USAO. Absent the Thompson Memorandum and the actions of the USAO, KPMG would have paid the legal fees and expenses of all of its partners and employees both prior to and after indictment, without regard to cost.⁹⁷

Discussion

I. The Relationship Between KPMG and its Personnel With Respect to Advancement of Legal Fees and Defense Costs

A. Indemnification and Advancement Generally

The issue of employer payment of legal expenses incurred by their employees as a result of doing their jobs arises in a context that dates back many years.

In the nineteenth century, Justice Story stated what already was an established proposition: "if an agent has, without his own default, incurred losses or damages in the course of transacting the business of his agency, or in following the instructions of his principal, he will be entitled to full compensation therefor" from the employer.⁹⁸ The modern common law rule is the same. And it extends to payment of expenses incurred by an employee or other agent in defending a lawsuit on a claim with respect to which the employee is entitled to indemnity.⁹⁹

The success of the corporation as a business form brought growing pains. Lawsuits against corporate directors became ever more common. By the early part of the last century, the situation had become what one commentator described as "open season on directors."¹⁰⁰ The question whether directors who successfully defended such suits were entitled to be reimbursed for the expenses of defending such suits despite the fact that they often were not employees began to arise.

At least one early decision favored reimbursement, commonly called indemnification. ¹⁰¹ In the 1930s, however, courts in Ohio and New York came to the opposite conclusion.¹⁰² These decisions gave rise to a "not unnatural cry for legislation."¹⁰³ Taking the view that "[i]ndemnification encourages corporate service by capable individuals by protecting their personal financial resources from depletion [as a result of] . . . litigation that results by reason of that service,"¹⁰⁴ legislatures all over the country responded.

Today, all states have statutes addressing the indemnification of corporate directors, officers, employees, and other agents.¹⁰⁵ Many have adopted also statutes providing for indemnification of members and employees of partnerships as well as of members, officers, and agents of newer forms of business organization such as limited partnerships and limited liability companies.¹⁰⁶ Still others also protect employees with statutes relating specifically to the employment relationship.¹⁰⁷

These statutes take different forms. Some require indemnification. Some permit indemnification where the corporation or other business entity elects to provide it.¹⁰⁸ A few provide the exclusive vehicle for indemnification while most permit indemnification as a matter of contract or otherwise as well as pursuant to statute.¹⁰⁹ Many provide for indemnification, at least in some circumstances, for the cost of defending employment-related criminal charges.¹¹⁰ All or virtually all, however, share an additional characteristic. As the Delaware Supreme Court recently put it, "the right to indemnification cannot be established . . . until after the defense to legal proceedings has been successful on the merits or otherwise."¹¹¹

This has been viewed as a problem. Persons who are sued can be subjected to "the personal out-of-pocket financial burden of paying the significant ongoing expenses inevitably involved with investigations and legal proceedings."¹¹² In consequence, many states authorize business entities to advance defense costs to their personnel, subject to the recipients obligation to repay the money in the event it ultimately is determined that they are not entitled to indemnity.¹¹³ This has been described as "an especially important corollary to indemnification as an inducement for attracting capable individuals into corporate service." ¹¹⁴ Advancement "fills the gap . . . so the [entity] may shoulder . . . interim costs," and its value "is that it is granted or denied while the underlying action is pending."¹¹⁵ As Judge Haight has written, it protects the "ability [of the employee] to mount . . . a defense . . . by safeguarding his ability to meet his expenses at the time they arise, and to secure counsel on the basis of such an assurance."¹¹⁶

Against this background, we turn to KPMGs relationship with the KPMG Defendants.

B. KPMG

The statute that governs KPMG gives it the authority "to indemnify and hold harmless any partner or other person from and against any and all claims and demands whatsoever."¹¹⁷ This includes the authority to advance defense costs prior to final judgment. ¹¹⁸ KPMG had an unbroken track record of paying the legal expenses of its partners and employees incurred as a result of their jobs, without regard to cost. All of the KPMG Defendants therefore had, at a minimum, every reason to expect that KPMG would pay their legal expenses in connection with the governments investigation and, if they were indicted, defending against any charges that arose out of their employment by KPMG. Indeed, it appears quite possible that all had contractual and other legal rights to indemnification and advancement of defense costs,¹¹⁹ although the Court declines to decide that in this ruling.

II. The Government Violated the Fifth and Sixth Amendments by Causing KPMG to Cut Off Payment of Legal Fees and Other Defense Costs Upon Indictment

A. The Right to Fairness in the Criminal Process

1. Nature of the Right

"No general respect for, nor adherence to, the law as a whole can well be expected without judicial recognition of the paramount need for prompt, eminently fair and sober criminal law procedures. The methods we employ in the enforcement of our criminal law have aptly been called the measures by which the quality of our civilization may be judged."¹²⁰

The Supreme Court long has protected a defendants right to fairness in the criminal process. It has grounded this protection primarily in the Due Process Clause¹²¹ as well as more specific provisions of the Bill of Rights, including the Confrontation and Assistance of Counsel v. Wells, 538 U.S. 440, 446 (2003); Hishon v. King & Spalding, 467 U.S. 69, 80 n.2 (1984) (Powell, J., concurring).

Clauses of the Sixth Amendment.¹²² Whatever the textual source, however, the Court consistently has held that criminal defendants are entitled to be treated fairly throughout the process. In everyday language, they are entitled to a fair shake.

This concern for the fairness of criminal proceedings runs throughout many of the Courts decisions regarding fair trials and access to the courts. For example, in Powell v. Alabama,¹²³ in which the Court first held that a defendant in a capital case has the right to the aid of counsel, it reasoned that if a tribunal were "arbitrarily to refuse to hear a party by counsel[,] it reasonably may not be doubted that such a refusal would be a denial of a hearing, and, therefore, of due process in the constitutional sense."¹²⁴ In other words, without counsel for the defense, a capital prosecution is presumptively unfair and therefore violates due process. The implied converse is that due process requires fair proceedings.

One aspect of the required fairness protects the autonomy of the criminal defendant. It rests on the common-sense truth that, at the end of the day, it is the defendant "who suffers the consequences if the defense fails."¹²⁵ So proper respect for the individual prevents the government from interfering with the manner in which the individual wishes to present a defense."¹²⁶ The underlying theme is that the government may not both prosecute a defendant and then seek to influence the manner in which he or she defends the case.

A defendants right to control the manner and substance of the defense has several aspects. The defendant has the right to represent him- or herself,¹²⁷ even if such a decision objectively may appear to be unwise.¹²⁸ A defendant is guaranteed also "the right to be represented by an otherwise qualified attorney whom that defendant can afford to hire"¹²⁹ in other words, to use his or her own assets to defend the case, free of government regulation. Nor may the government interfere at will with a defendants choice of counsel, as the Constitution "protect[s] . . . the defendants free choice independent of concern for the objective fairness of the proceedings."¹³⁰ Similarly, a defendant is generally free, within the procedural constraints that govern trials generally, to adduce evidence without unjustified restrictions¹³¹ and may choose which witnesses to present or cross-examine.¹³² In short, fairness in criminal proceedings requires that the defendant be firmly in the drivers seat, and that the prosecution not be a backseat driver.¹³³

The constitutional requirement of fairness in criminal proceedings not only prevents the prosecution from interfering actively with the defense, but also from passively hampering the defendants efforts. As the Court put it in California v. Trombetta,¹³⁴

"Under the Due Process Clause . . . , criminal prosecutions must comport with prevailing notions of fundamental fairness. We have long interpreted this standard of fairness to require that criminal defendants be afforded a meaningful opportunity to present a complete defense. To safeguard that right, the Court has developed what might loosely be called the area of constitutionally guaranteed access to evidence. Taken together, this group of constitutional privileges delivers exculpatory evidence into the hands of the accused, thereby protecting the innocent from erroneous conviction and ensuring the integrity of our criminal justice system."¹³⁵

Hence, the prosecution may not conceal exculpatory evidence or plea agreements with key government witnesses. ¹³⁶ In some instances, it may be required to disclose the identity of its undercover informants in possession of evidence critical to the defense.¹³⁷

Prosecutors are required also by the Due Process Clause to conduct themselves fairly. They may not delay intentionally indictments to prejudice defendants.¹³⁸ They may not obstruct defendants access to a potential witness unless that is necessary to protect the witnesss safety.¹³⁹ Nor may they knowingly offer perjured or false evidence.¹⁴⁰ Entrapment by prosecutors and law enforcement officers is proscribed by the Due Process Clause.¹⁴¹ While prosecutors appropriately are given great latitude in the arguments they make to juries, they cross into unconstitutional territory when they "infect[] the trial with unfairness."¹⁴²

Finally, the requirement of fairness in criminal proceedings applies to the structure and conduct of the entire criminal justice system. For example, the Court held that Dr. Sam Sheppards due process rights were violated when the trial court failed to protect him from the firestorm of prejudicial publicity surrounding his trial.¹⁴³ It has recognized also the right to trial before an unbiased tribunal. In Ward v. Village of Monroeville,¹⁴⁴ for example, it held that a defendant was denied due process when he was tried for traffic offenses before the village mayor, who was responsible for village finances and whose court provided a substantial portion of village funds through fines, forfeitures, costs, and fees. Similarly, in Tumey v. Ohio,¹⁴⁵ the Court reversed a conviction because the judge was paid from fines levied in his court and therefore received payment only upon conviction. The Court said that such a system "deprives a defendant . . . of due process of law to subject his liberty or property to the judgment of a court, the judge of which has a direct, personal, substantial pecuniary interest in reaching a conclusion against him in his case."¹⁴⁶

The Courts jurisprudence thus makes clear that defendants have the right, under the Due Process Clause, to fundamental fairness throughout the criminal process.

2. The Right to Fairness in the Criminal Process Is a Fundamental Liberty Interest Entitled to Substantive Due Process Protection Where, As Here, the Government Coerces a Third Party to Withhold Funds Lawfully Available to a Criminal Defendant

The Due Process Clause has been interpreted to provide not only procedural protection for deprivations of life, liberty, and property, but also substantive protection for fundamental rights those that are so essential to individual liberty that they cannot be infringed by the government unless the infringement is narrowly tailored to serve a compelling state interest.¹⁴⁷

"Only fundamental rights and liberties which are deeply rooted in this Nations history and tradition and implicit in the concept of ordered liberty qualify for such protection."¹⁴⁸ The right to fairness in criminal proceedings has not been explicitly so characterized by the Court.¹⁴⁹ The question here, then, is whether and to what extent it properly is regarded as fundamental for purposes of requiring strict scrutiny of alleged impingements. A number of guides point the way.

To begin with, many of the Supreme Courts criminal due process decisions described above can be understood in modern terms most readily in the substantive due process and strict scrutiny framework. The requirement of an unbiased tribunal, for example, is not found in the explicit language of the Constitution. It rests instead on the proposition that a fair tribunal is "implicit in the concept of ordered liberty."¹⁵⁰ The states legitimate interest in, for example, saving money by having the same person both run a towns finances and levy traffic fines is insufficient to justify infringing upon the right to a fair trial. Thus, the Supreme Courts repeated recognition of the constitutional mandate of fairness in criminal proceedings strongly suggests that this right is "fundamental" for substantive due process purposes, at least in some circumstances. Indeed, it would be difficult to conclude otherwise. Our concern with protection of the individual against the unfair use of the great power of the government is "deeply rooted in this Nations history and tradition."¹⁵¹ "[N]either liberty nor justice would exist" if fairness to criminal defendants were sacrificed.¹⁵² Indeed, as one court put it, "What can be more basic to the scheme of constitutional rights precious to us all than the right to fairness throughout the proceedings in a criminal case?"¹⁵³

These considerations have led the Second Circuit¹⁵⁴ and several other courts (often in dicta),¹⁵⁵ as well as respected commentators,¹⁵⁶ to conclude that the right to fairness in criminal proceedings is a fundamental liberty interest subject to substantive due process protection. But it is not necessary or, in this Courts view, appropriate, to go that far in order to decide this case. It is a venerable maxim of constitutional construction that courts should decide no more than is necessary.¹⁵⁷ And the only question now before the Court is whether a criminal defendant has a right to obtain and use in order to prepare a defense resources lawfully available to him or her, free of knowing or reckless government interference.¹⁵⁸ Given all that has been said above, this Court concludes that such a right is basic to our concepts of justice and fair play. It is fundamental.¹⁵⁹

3. The Governments Actions Violated the Substantive Due Process Right to Fairness in the Criminal Process

a. The Effect on the KPMG Defendants

The Thompson Memorandum and the USAO pressure on KPMG to deny or cut off defendants attorneys fees necessarily impinge upon the KPMG Defendants ability to defend themselves.

This is by no means a garden-variety criminal case. It has been described as the largest tax fraud case in United States history. The government thus far has produced in discovery, in electronic or paper form, at least 5 million to 6 million pages of documents plus transcripts of 335 depositions and 195 income tax returns.¹⁶⁰ The briefs on pretrial motions passed the 1,000-page mark some time ago. ¹⁶¹ The government expects its case in chief to last three months, while defendants expect theirs to be lengthy as well. ¹⁶² To prepare for and try a case of such length requires substantial resources.¹⁶³ Yet the government has interfered with the ability of the KPMG

Defendants to obtain resources they otherwise would have had. Unless remedied, this interference almost certainly will affect what these defendants can afford to permit their counsel to do. This would impact the defendants ability to present the defense they wish to present by limiting the means lawfully available to them. The Thompson Memorandum and the USAOs actions therefore are subject to strict scrutiny.

b. The Thompson Memorandum and the USAOs Actions Fail the Strict Scrutiny Test

To survive strict scrutiny, government action must be narrowly tailored to achieve a compelling government interest.¹⁶⁴

The portion of the Thompson Memorandum at issue here the language that states that payment of legal fees for employees and former employees may be viewed as protection of culpable employees and thus cut in favor of indicting the entity purportedly serves three goals. First, it is intended to facilitate just charging decisions concerning business entities by focusing on a consideration pertinent to gauging their degrees of cooperation. Second, it seeks to strengthen the governments ability to investigate and prosecute corporate crime by encouraging companies to pressure their employees to aid the government recall Mr. Weddles urging KPMG to tell its people to be "totally open" with the USAO, "even if that [meant admitting] criminal wrongdoing." Finally, it seeks to punish those whom prosecutors deem culpable it attempts to justify depriving employees of corporate aid by characterizing it as "protecting . . . culpable employees and agents."

The final justification may be disposed of quickly. The job of prosecutors is to make the governments best case to a jury and to let the jury decide guilt or innocence. Punishment is imposed by judges subject to statute. The imposition of economic punishment by prosecutors, before anyone has been found guilty of anything, is not a legitimate governmental interest it is an abuse of power. The governments other points, however, are far more substantial.

Any governments interest in investigating and fairly prosecuting crime is compelling. The consequences for civilization of another governments failure to accomplish that basic end are on view on the evening news every day.

In order properly to accomplish that task, the government must have the ability to make just charging decisions and to prevent obstruction of its investigations. Hence, no one disputes the proposition that a willingness to cooperate with the government is an appropriate consideration in deciding whether to charge an entity. Nor does anyone suggest that an entitys obstruction of a government investigation what the government has called "circling the wagons"¹⁶⁵ should be ignored in a charging decision. Many remember the Watergate case, in which the legal fees of individuals who broke into the offices of the Democratic National Committee were paid, along with other "hush money," to buy the silence of the burglars and to protect higher-ups.¹⁶⁶ Corporate equivalents no doubt occur. But the devil, as always, is in the details.

The first difficulty is that the Thompson Memorandum does not say that payment of legal fees may cut in favor of indictment only if it is used as a means to obstruct an investigation.

Indeed, the text strongly suggests that advancement of defenses costs weighs against an organization independent of whether there is any "circling of the wagons."¹⁶⁷

The USAO, possibly concerned with the breadth of the Thompson Memorandum, seeks to deal with this by asserting that, in practice, it considers the payment of legal fees as a negative factor only when payments are used to impede.¹⁶⁸ Perhaps so. But whatever the government may do in the privacy of U.S. Attorneys offices and in the DOJs Criminal Division is not what defense lawyers see. They see the Thompson Memorandum. Few if any competent defense lawyers would advise a corporate client at risk of indictment that it should feel free to advance legal fees to individuals in the face of the language of the Thompson Memorandum itself. It would be irresponsible to take the chance that prosecutors might view it as "protecting . . . culpable employees and agents." As KPMGs new chief legal officer, former U.S. District Judge Sven Erik Holmes, testified, he thought it indispensable (as would any defense lawyer) "to be able to say at the right time with the right audience, were in full compliance with the Thompson Memorandum."¹⁶⁹

The bottom line is plain enough. If the government means to take the payment of legal fees into account in making charging decisions only where the payments are part of an

obstruction scheme and thereby narrowly tailor its means to its ends it would be easy enough to say so. But that is not what the Thompson Memorandum says.

The concerns do not end here. The argument that payment of legal fees to employees and former employees is relevant to gauging the extent of a companys cooperation also is problematic. There is no necessary inconsistency between an entity cooperating with the government and, at the same time, paying defense costs of individual employees and former employees. An entity may pay out of a judgment that extending this benefit will aid it in keeping and hiring competent and honest employees. It may pay in recognition that an employee caught up in an investigation, or even charged with a crime, because the employee did his or her job for the company has at least some claim to assistance, even in the absence of a legal right. In either case, however, a company may pay at the same time that it does its best to bare its corporate soul, stands at the governments beck and call to provide information and witnesses, and does a myriad of other things to aid the government and clean the corporate house. So it simply cannot be said that payment of legal fees for the benefit of employees and former employees necessarily or even usually is indicative of an unwillingness to cooperate fully. This is especially unlikely after employees have been indicted and fired, as is the situation here.

For these reasons, this aspect of the Thompson Memorandum is not narrowly tailored to achieve a compelling objective. It discourages and, as a practical matter, often prevents companies from providing employees and former employees with the financial means to exercise their constitutional rights to defend themselves. It does so in the face of state indemnification statutes that expressly permit businesses entities to provide those means because the states have determined that legitimate public interests may be served. It does so even where companies obstruct nothing and, to the contrary, do everything within their power to make a clean breast of the facts to the government and to take responsibility for any offenses they may have committed. It therefore burdens excessively the constitutional rights of the individuals whose ability to defend themselves it impairs and, accordingly, fails strict scrutiny. The legal fee advancement provision violates the Due Process Clause.¹⁷⁰

c. The Actions of the USAO

The actions of the USAO in this case compounded the problem that the Thompson Memorandum created.

The Thompson Memorandum says that the payment of legal fees (beyond any legal obligation) may be held against a business entity if the government views the payments as protection of "culpable employees" or as evidence of a lack of full and complete cooperation. The USAO took advantage of that uncertainty by emphasizing the threat.

Within days of receiving the criminal referral on February 5, 2004, the USAO put the payment of employee legal fees near the top of the governments agenda for the very first meeting with KPMGs lawyers. On February 25, 2004, Mr. Bennett reported that KPMG had cleaned house and pledged full cooperation with the government. But Mr. Weddle immediately raised the legal fee issue. When Mr. Bennett sought to elicit the USAOs view on that subject, the response was a reference to the Thompson Memorandum. This was followed later in the meeting by Ms. Neimans statement, on the heels of a reference to payment of employee legal expenses, that misconduct should not be rewarded and Mr. Weddles threat that the government would look at the payment of legal fees that KPMG was not legally obliged to pay "under a microscope." And it did all this despite the fact that it does not claim that KPMG obstructed its investigation, least of all by using the payment of legal fees to prevent employees or former employees from talking to the government or telling it the truth.

The individual prosecutors in the USAO acted pursuant to the established policy of the DOJ as expressed in the Thompson Memorandum. They understood, however, that the threat inherent in the Thompson Memorandum, coupled with their own reinforcement of that threat, was likely to produce exactly the result that occurred KPMGs determination to cut off the payment of legal fees for any employees or former employees who were indicted and to limit and condition their payment during the investigative stage. Their actions cannot withstand strict scrutiny under the Due Process Clause because they too were not narrowly tailored to serving compelling governmental interests.

B. The Sixth Amendment Right to Counsel

1. The Nature and Scope of the Right to Counsel

Quite apart from the due process analysis, the KPMG Defendants argue that the Thompson Memorandum and its implementation by the government infringed their Sixth Amendment right to counsel. They are correct.

The Sixth Amendment provides that "[i]n all criminal prosecutions, the accused shall enjoy the right to . . . have the Assistance of Counsel for his defence."¹⁷¹ As already has been demonstrated, however, this guarantees more than the mere presence of a lawyer at a criminal trial. It protects, among other things, an individuals right to choose the lawyer or lawyers he or she desires¹⁷² and to use ones own funds to mount the defense that one wishes to present.¹⁷³ Moreover, a defendants exercise of his Sixth Amendment right to counsel is not to be feared or avoided by the government:

"No system worth preserving should have to fear that if an accused is permitted to consult with a lawyer, he will become aware of, and exercise those rights. If the exercise of constitutional rights will thwart the effectiveness of a system of law enforcement, there is something very wrong with that system."¹⁷⁴

The government nevertheless argues that the KPMG Defendants have no Sixth Amendment rights at stake here for two principal reasons.

a. Attachment of Sixth Amendment Rights

The government first argues that the Sixth Amendment right to counsel attaches only upon the initiation of a criminal proceeding. As the Thompson Memorandum was adopted and the USAO did its handiwork before the KPMG Defendants were indicted, it contends, there was no Sixth Amendment violation.

It is true, of course, that the Sixth Amendment right to counsel typically attaches at the initiation of adversarial proceedings at an arraignment, indictment, preliminary hearing, and so on.¹⁷⁵ But the analysis can not end there. The Thompson Memorandum on its face and the USAOs actions were parts of an effort to limit defendants access to funds for their defense. Even if this was not among the conscious motives, the Memorandum was adopted and the USAO acted in circumstances in which that result was known to be exceptionally likely. The fact that events were set in motion prior to indictment with the object of having, or with knowledge that they were likely to have, an unconstitutional effect upon indictment cannot save the government. This conduct, unless justified, violated the Sixth Amendment.¹⁷⁶

The government argues that this conclusion will open the door for future defendants to argue that all sorts of pre-indictment actions violate the Sixth Amendment and thus hamstring every investigation and prosecution. This is singularly unpersuasive. The government here acted with the purpose of minimizing these defendants access to resources necessary to mount their defenses or, at least, in reckless disregard that this would be the likely result of its actions. In these circumstances, it is not unfair to hold it accountable.

b. "Other Peoples Money"

The government next argues that the KPMG Defendants have no right, under the Sixth Amendment or otherwise, to spend "other peoples money" on expensive defense counsel. The rhetoric is appealing, but the characterization of the issue and therefore the conclusion are wrong.

The argument is based on Caplin & Drysdale, Chartered v. United States¹⁷⁷ and United States v. Monsanto,¹⁷⁸ which held that the Sixth Amendment does not creates a right for those in possession of property forfeitable to the United States to spend that money on their legal defense. That is hardly surprising the money belongs to the government. But that is not the issue here.

Caplin & Drysdale recognized that the Sixth Amendment does protect a defendants right to spend his own money on a defense.¹⁷⁹ Here, the KPMG Defendants had at least an expectation that their expenses in defending any claims or charges brought against them by reason of their employment by KPMG would be paid by the firm. The law protects such interests against unjustified and improper interference. ¹⁸⁰ Thus, both the expectation and any benefits that would have flowed from that expectation the legal fees at issue now were, in every material sense, their property, not that of a third party. The governments contention that the defendants seek to spend "other peoples money" is thus incorrect.

2. The Thompson Memorandum and the Governments Implementation Violated the KPMG Defendants Sixth Amendment Right to Counsel

The KPMG Defendants have established that the governments implementation of the Thompson Memorandum impinged on their Sixth Amendment rights to counsel and to present a complete defense. Interference with these rights is improper if the governments actions are "wrongfully motivated or without adequate justification." ¹⁸¹ The remaining question, then, is whether justification exists.

There is not much case law on the standard to be applied in making this determination. In comparable circumstances, federal courts often have looked to the common law of torts to "enrich the [federal] jurisprudence"¹⁸² and to provide "an appropriate starting point,"¹⁸³ always keeping in mind that we do so to inform our construction of the Constitution, not to apply state tort law.¹⁸⁴

The common law tort of interference with prospective economic advantage necessarily deals with the issue whether a private actor is justified in interfering in the economic relations of another. In assessing claims of justification in private settings, courts look to a series of factors including the relative importance of the interests served by the plaintiff and the defendant.¹⁸⁵ Making appropriate adjustments for the fact that this analysis involves the public sector, the dispositive question is whether the governments law enforcement interests in taking the specific actions in question sufficiently outweigh the interests of the KPMG Defendants in having the resources needed to defend as they think proper against these charges.

Our nation made a deliberate choice more than two centuries ago. We determined that a person charged with a crime has "the right in an adversary criminal trial to make a defense as we know it."¹⁸⁶ That choice rests on the premise that "partisan advocacy on both sides of a case will best promote the ultimate objective that the guilty be convicted and the innocent go free."¹⁸⁷

The Thompson Memorandum discourages and, as a practical matter, often prevents companies from providing employees and former employees with the financial means to exercise their constitutional rights to defend themselves. This is so even where companies obstruct nothing and, to the contrary, do everything within their power to make a clean breast of the facts to the

government and to take responsibility for any offenses they may have committed. It undermines the proper functioning of the adversary process that the Constitution adopted as the mode of determining guilt or innocence in criminal cases. The actions of prosecutors who implement it can make matters even worse, as occurred here.

The Court holds that the fact that advancement of legal fees occasionally might be part of an obstruction scheme or indicate a lack of full cooperation by a prospective defendant is insufficient to justify the governments interference with the right of individual criminal defendants to obtain resources lawfully available to them in order to defend themselves, regardless of the legal standard of scrutiny applied.

3. The KPMG Defendants Are Not Obliged to Establish Prejudice, Which in Any Case Would Be Presumed Here

The government argues the KPMG Defendants motion nevertheless should be denied because they have not shown prejudice under Strickland v. Washington,¹⁸⁸ which requires a defendant seeking to overturn his or her conviction based on ineffective assistance of counsel to show "a reasonable probability that, but for counsels unprofessional errors, the result of the proceeding would have been different."¹⁸⁹ But the government is mistaken.

This conclusion follows from United States v. Gonzalez-Lopez, ¹⁹⁰ a case involving a deprivation of the defendants right to counsel of his choice. The Court there held that Strickland did not require a showing of prejudice in such a case because:

"Deprivation of the right [to counsel of choice] is complete when the defendant is erroneously prevented from being represented by the lawyer he wants, regardless of the quality of the representation he received. To argue otherwise is to confuse the right to counsel of choice which is the right to a particular lawyer regardless of comparative effectiveness with the right to effective counsel which imposes a baseline requirement of competence on whatever lawyer is chosen or appointed."¹⁹¹

Here, the violation is analogous to that at issue in Gonzalez-Lopez. The government has interfered with the KPMG Defendants right to be represented as they choose, subject to the constraints imposed by the resources lawfully available to them. This violation, like a deprivation of the right to counsel of their choice, is complete irrespective of the quality of the representation they receive. Thus, Strickland has no bearing here.¹⁹²

This result is consistent with common sense. Improper government conduct has created a significant risk that the KPMG Defendants ability to present the defense they choose has been compromised. Corrective action now may well prevent that. There is, in consequence, a countervailing interest in not going blindly forward with a lengthy trial, which will consume vast judicial and party resources, without dealing with the issue. No one would set out to drive across a desert with half a tank of gas, knowing that one might run out before reaching the other side, without pausing first to fill up the tank. The prudent course is to avoid the problem at the outset not to take a chance on being stranded and then having to try to figure out what to do about it.

The approach to cases involving criminal defense counsel burdened by conflicts of interest supports this conclusion. A district court that learns before trial of a possible conflict of interest between a defense attorney and a client is obliged to protect the defendants Sixth Amendment right to unconflicted legal representation by immediately investigating the conflict and, if necessary, either obtaining a knowing or intelligent waiver from the defendant or disqualifying the conflicted attorney.¹⁹³ The rationale for doing so is simple. Prejudice is likely in conflict situations, and "such circumstances involve impairments of the Sixth Amendment right that are easy to identify and, for that reason and because the prosecution is directly responsible, easy for the government to prevent."¹⁹⁴ That rationale is fully applicable here.

Even if prejudice were relevant at this stage of the proceedings, however, the governments argument still would fail. Although Strickland generally requires convicted defendants to demonstrate that the result of the trial probably would have been different but for the ineffective assistance of counsel, this requirement does not apply where a violation resulted in a "structural defect[] in the constitution of the trial mechanism"¹⁹⁵ that "affected and contaminated the entire criminal proceeding."¹⁹⁶ In other words, there are two distinct types of constitutional errors: trial errors, which occur during the presentation of evidence at trial, and structural errors, which are overarching and permeate the entire proceeding.¹⁹⁷ As trial errors occur during the presentation of a case to the jury, they "may . . . be quantitatively assessed in the context of other evidence presented in order to determine whether" their commission "was harmless beyond a reasonable doubt." ¹⁹⁸ Structural errors, on the other hand, "defy analysis by harmless-error standards." ¹⁹⁹ They affect "[t]he entire conduct of the trial from beginning to end."²⁰⁰ Prejudice "is so likely that case-by-case inquiry into prejudice is not worth the cost."²⁰¹

Structural defects exist and prejudice must be presumed where a defendant is actively or constructively denied counsel at a critical stage of the trial or where defense counsel is burdened by an actual conflict of interest.²⁰² Structural errors "may be present [also] on some occasions when, although counsel is available to assist the accused during trial, the likelihood that any lawyer, even a fully competent one, could provide effective assistance is so small that a presumption of prejudice is appropriate without inquiry into the actual conduct of the trial."²⁰³ In Powell v. Alabama, for example, the trial court, on the day of the trial, appointed an attorney from a different state who professed himself to be unfamiliar with the facts of the case and the local procedure to represent defendants in a highly publicized capital case. The Supreme Court held that the likelihood that counsel could have performed as an effective advocate in those circumstances was so remote as to render the trial inherently unfair, obviating the requirement that the defendants affirmatively demonstrate prejudice.²⁰⁴

Although the circumstances here differ from those in Powell, the governments conduct threatens to contaminate this proceeding. Properly defending this case, in all its complexity, has required, and will continue to require, substantial financial resources. The government has spent years investigating the case, presumably reviewing millions of pages of documents²⁰⁵ and interviewing scores of witnesses if not more. The KPMG Defendants, however, have limited resources. Although each defendant is represented by retained counsel, the governments interference almost inevitably has affected at least some lawyer selections and, equally important, limited what the KPMG Defendants can pay their lawyers to do. At least most of them likely will be unable to afford to pay their attorneys to review all or even most of the documents the government has produced or, perhaps, to interview even a fraction of the witnesses the government has interviewed. They may not be able to afford tax experts to advise trial counsel and, if need be, answer those whom the government may present at trial.

In these circumstances, demonstrating prejudice after the fact would be all but impossible. In order to show that the trial outcome would have been different had a convicted defendant been able to afford better preparation before trial, the defendants counsel, after conviction, would have to do the work that the defendant could not afford to have done in the first place. If the defendant could not afford to have the work done in the first place, the defendant certainly could not afford to have it done after conviction. And relying upon the possibility of counsel appointed under the Criminal Justice Act to do so, should a convicted defendant have become indigent, simply would be unrealistic. In any case, assessing the impact of pretrial omissions and errors could require extensive evidentiary proceedings. In consequence, it is difficult to imagine circumstances in which an error more properly could be said to threaten to taint an entire proceeding.

This conclusion too is supported by Gonzalez-Lopez. Speaking of a deprivation of the right to counsel of choice, the Supreme Court wrote:

"We have little trouble concluding that erroneous deprivation of the right to counsel of choice, with consequences that are necessarily unquantifiable and indeterminate, unquestionably qualifies as "structural error." Different attorneys will pursue different strategies with regard to investigation and discovery, development of the theory of defense, selection of the jury, presentation of the witnesses, and style of witness examination and jury argument. And the choice of attorney will affect whether and on what terms the defendant cooperates with the prosecution, plea bargains, or decides instead to go to trial. In light of those myriad aspects of representation, the erroneous denial of counsel bears directly on the framework within which the trial proceeds, or indeed on whether it proceeds at all. It is impossible to know what different choices the rejected counsel would have made, and then to quantify the impact of those different choices on the outcome of the proceedings. Many counseled decisions, including those involving plea bargains and cooperation with the government, do not even concern the conduct of the trial at all. Harmless-error analysis in such a context would be a speculative inquiry into what might have occurred in an alternate universe."²⁰⁶

The same reasoning applies here. Virtually everything the defendants do in this case may be influenced by the extent of the resources available to them. There simply would be no way  to know, after the fact, whether the outcome had been influenced by limitations improperly placed upon the availability of resources.

Further, the governments interference in the KPMG Defendants ability to mount a defense "creates an appearance of impropriety that diminishes faith in the fairness of the criminal justice system in general."²⁰⁷ This injury to the criminal justice system is not dependent on whether or not the KPMG Defendants ultimately are convicted or more to the point whether they would have been convicted even if the government had not interfered with their constitutional right to counsel.

Accordingly, there is no need for a particularized showing of prejudice here. While a defendant does not have a constitutional right to the most expensive lawyer or to unlimited defense funds, government interference with those resources that a defendant does have or legally may obtain fundamentally alters the structure of the adversary process. As the late Judge Wyzanski explained, although "a criminal trial is not a game in which the participants are expected to enter the ring with a near match in skills, neither is it a sacrifice of unarmed prisoners to gladiators."²⁰⁸

The considerations that support a presumption of prejudice the governments responsibility for the problem and the ease with which the trial court can detect and remedy that problem prior to trial both are present here. The government is responsible for the infringement of the KPMG Defendants rights. The problem has been detected, and it probably is susceptible of cure before trial. Were the Court to refrain from seeking to remedy the problem now, it would abdicate its responsibility to safeguard defendants constitutional rights.

III. It is Premature to Consider the Governments Actions With Respect to Payment of Legal Expenses Incurred Before Indictment

The KPMG Defendants argue also that the governments actions with respect to advancement of legal fees interfered with their rights prior to indictment. But the preindictment interference must be evaluated in a very different context.

To begin with, the legal analysis differs. The Sixth Amendment attaches only upon indictment. Actions by the government that affected only the payment of legal fees and defense costs for services rendered prior to the indictment therefore do not implicate the Sixth Amendment. Any relief must be grounded in the Due Process Clause alone.

Second, the impact of the governments actions was quite different. KPMG paid attorneys fees prior to indictment for all of the KPMG Defendants on condition that the employees cooperate with the government. There is no suggestion that any defendant reached the $400,000 cap save Mr. Stein, and KPMG ignored the $400,000 ceiling in his case until very late in the day. In consequence, there is no reason to suppose that the ability of any of the KPMG Defendants to undertake activities designed to ward off an indictment was impaired by the governments actions save in one respect at least some of the KPMG Defendants made proffers to the government that they conceivably would not have made had they not induced to do so by the threat of having payment of their legal fees cut off. These proffers are of significance only if they may be used at trial, either on the governments case in chief or, perhaps more importantly, to cross examine a defendant who testifies on the defense case. This has an important consequence.

The Supreme Court has made clear that remedies for constitutional violations "should be tailored to the injury suffered . . . and should not unnecessarily infringe on competing interests," including the interest in the administration of criminal justice.²⁰⁹ Its "approach has thus been to identify and then neutralize the taint by tailoring relief appropriate in the circumstances to assure the defendant the effective assistance of counsel and a fair trial." ²¹⁰ Hence, if the governments pressure on KPMG ultimately resulted in improperly coerced statements, the matter may be fully redressed by suppression of the statements.

The question whether the statements should be suppressed is before the Court on another motion by the KPMG Defendants that has not yet been fully briefed. Accordingly, it would be premature to address it here.

IV. The Remedy

The next question concerns the appropriate remedy for the violation of the KPMG Defendants constitutional rights. Defendants ask the Court to dismiss the indictment or to order payment of their legal fees either by the government or by KPMG. The government argues that any relief should be limited to requiring KPMG to consider anew whether it wishes to advance expenses to the defendants, now free of the threat of government retaliation by virtue of the governments recent statement that it does not object to KPMG doing as it pleases.

The Court rejects the governments alternative. The governments belated statement that KPMG may do as it wishes without government retribution is not sufficient to put the KPMG Defendants in the position they would have enjoyed had the government not interfered with the advancement of defense costs in the first place. It ignores altogether the Courts finding that KPMG would have advanced defense costs absent the governments interference. It ignores KPMGs possible interest in not being seen to reverse course and thus as admitting that it caved in to government pressure in this respect at the expense of individual members and employees of the firm. It ignores also the fact that circumstances have changed dramatically since KPMG, under government pressure, decided in 2004 to cut off anyone who was indicted. KPMG has yielded to the governments demand that the firm pay a fine of $456 million. The individual defendants have been indicted on charges the full scope of which may not previously have been foreseeable to KPMG. Thus, the defense costs that KPMG is being asked to advance perhaps are larger than might earlier have been foreseeable. The resources available to pay them have been reduced. Accordingly, the Court is not persuaded that the damage the government has done can be remedied by now leaving KPMG to do as it pleases. So the Court moves on to the appropriate remedies for the governments actions.

As discusse