Sieger v Zak

[*1] Sieger v Zak 2008 NY Slip Op 50418(U) [18 Misc 3d 1143(A)] Decided on February 21, 2008 Supreme Court, Nassau County Bucaria, J. Published by New York State Law Reporting Bureau pursuant to Judiciary Law § 431. This opinion is uncorrected and will not be published in the printed Official Reports.

Decided on February 21, 2008
Supreme Court, Nassau County

Stuart M. Sieger and David R. Spencer, Plaintiffs,

against

Louis Zak and Powersystems International, Inc., Defendants.



19978/05

Stephen A. Bucaria, J.

This motion, by plaintiffs, for an order to compel discovery is granted in part and denied in part.

This is an action for breach of fiduciary duty. In the 1970's, plaintiff David Spencer developed a strong working relationship with Louis Zak and they, along with plaintiff Sieger, also established a personal friendship, all while in the defense industry.

SIEGER, et al v ZAK, et alIndex no. 19978/05

In 1988, Sieger helped Zak obtain work with one of his clients, Euclid Equipment, Inc. When Euclid closed its operations in 1995, Zak was interested in purchasing the part of the business related to trailer-mounted electric generators. [*2]

On August 2, 1995, Sieger, Spencer, and Zak founded defendant PowerSystems International, Inc. to engage in the business of manufacturing specialized trailers. The trailers, which were equipped with electric generators and environmental control units, were sold primarily to the military to service command posts and mobile hospitals. At the time that the company was formed, Sieger and Spencer each contributed $25,000 and received 14.3% of the stock Two other investors, Jon Prusmack and Nicholas Kaufmann, together contributed another $25,000, and each received 7.2% of the stock. Since Zak was to be the principal manager of PowerSystem' s business, he received 57% of the stock in exchange for a $25,000 capital contribution.

On August 23, 1995, the five men executed a shareholders agreement. The agreement provided that the board of directors of the corporation would consist of not less than three nor more than five members. The agreement further provided that as long as the founders owned 40% of the voting power of the stock, all of their stock would be voted for Zak, Prusmack, and Spencer as directors of the corporation. Since PowerSystems was to be operated as a Subchapter S corporation, the agreement provided that the corporation would pay dividends to the shareholders in an amount sufficient to pay the income tax on their shares of the corporate income within 60 days of the close of the calendar quarter. Finally, the agreement provided that it would terminate after ten years, or earlier if there was a public offering of stock or by a vote of 2/3 of the shares.

PowerSystems' main customer was a defense contractor known as Deployable Hospital Systems, which was principally owned by Prusmack. Deployable entered into a "sole source agreement" with PowerSystems, obligating Deployable to obtain all of its trailer-mounted generators and environmental control units from that company. Prusmack acquired Kaufmann's interest in PowerSystems in 1998. During that year, it

was discovered that Prusmack was involved in a business in competition with PowerSystems, apparently supplying trailer-mounted equipment to Deployable. In settlement of PowerSystems' claims for breach of fiduciary duty, Prusmack transferred his stock back to the corporation. Thus, as of 1999, Sieger and Spencer each held a 16.7% interest in Power Systems, and Zak held 66.6% of the stock of the company. Sieger was elected to fill Prusmack's seat on the board of directors by the unanimous vote of the shareholders.

SIEGER, et al v ZAK, et alIndex no. 19978/05

While PowerSystems was in litigation with Prusmack, the company's sales declined because, as noted, Deployable had been its principal customer. In an effort to acquire new business, Zak developed a relationship with a woman known as Bea Maurer. [*3]Maurer was the owner of a company, Bea Maurer, Inc., which was located in Virginia and manufactured "lightweight, rapidly deployable shelters," or tents, for the military. PowerSystems' towable trailers provided Bea Maurer's tents with electric power and heating, ventilating, and air conditioning for command posts, mobile hospitals, billeting, and other applications. As Bea Maurer was successful in "integrating" PowerSystem trailers with its tents, its purchases from PowerSystems grew substantially during 2000 and 2001. In early 2002, Zak moved PowerSystems' plant and offices from Long Island to Virginia in order to facilitate business with Bea Maurer.

Beginning in 2002, PowerSystems' profits increased significantly. The company showed gross profit of $1.2 million in 2002 and $2.3 million in 2003. After the first quarter of 2004, it appeared that PowerSystems' profit would increase even more dramatically that year. As profits increased, plaintiffs urged Zak to make distributions to reimburse them for their tax liability as provided in the shareholder agreement. However, Zak delayed in effecting the distributions, claiming that cash was needed for working capital. In early 2004, plaintiffs broached with Zak the idea of selling the entire company in order to liquidate their investment. However, Zak was not receptive to plaintiffs' proposal.

On February 23, 2004, Zak sent plaintiffs an email stating that Bea Maurer was interested in purchasing their stock. Zak stated that sales to Maurer's company represented about 50% of PowerSystems' business and implied that rejecting her overtures might jeopardize the business relationship. In response, Spencer sent Zak an email noting that "historically" Maurer had "grossly undervalued the company." Spencer also observed that because Maurer had sometimes not paid PowerSystems promptly, it

seemed unlikely that she had sufficient cash to buy out the minority shareholders.Nonetheless, Spencer inquired as to how much Maurer was offering for plaintiffs' interest.

On February 25, 2004, Zak emailed plaintiffs, stressing both Bea Maurer's profitability and PowerSystems' dependence upon that company. Zak noted that sales to Bea Maurer represented 50% of PowerSystems' total sales and 75% of its sales of generator-trailers. Additionally, most of PowerSystems' new customers were "referrals" from Bea Maurer or "sales through" that company. While PowerSystems had been using

SIEGER, et al v ZAK, et alIndex no. 19978/05

Bea Maurer as a "sales organization," Zak did not want to appear in "competition" with her company. Although PowerSystems had been "doubling" its sales, Zak believed that [*4]Bea Maurer was growing even faster and had greater profit margins. Thus, Zak was confident that Bea Maurer had sufficient cash for a buyout even though it was a "slow payer." Zak surmised that Bea Maurer wanted a stake in PowerSystems to "protect their interest or be in a position to own it all in the future" because there were "many advantages" to "combining the companies." Zak stated that he thought Maurer might pay as much as $1.5 million each for their stock and requested that plaintiffs consider selling their stock to her. In response, Sieger sent Zak an email stating that plaintiffs would consider a price of $9 million ($4.5 million each) for their shares.

On February 26, 2004, Zak sent plaintiffs an email stating that he had spoken with Bea Maurer the night before and had told her that plaintiffs would be interested in selling their stock to her. Zak stated that Maurer had asked for their email addresses and phone numbers and she would be contacting them through "an intermediary." Although plaintiffs assert that Zak also told Maurer that they would be willing to accept a price of $3 million, there is no indication in Zak's email that he had quoted a price to her. In any event, plaintiffs were never contacted by anyone about selling their interest in the company to Maurer.

On March 21, 2004, Zak met with a business consultant, John Magee, who offered to make recommendations to PowerSystems' board of directors concerning, among other things, the current and "future value" of the company. Magee was to be paid $200 per hour for these services, with an initial retainer of $10,000. On March 22, Magee and PowerSystems entered into a confidentiality agreement whereby Magee agreed to keep confidential pricing, customer and supplier lists, "operating data," and other information obtained in the course of providing consulting services to the company. On March 25, Magee prepared an "engagement letter," which formally outlined the services which he

intended to perform for PowerSystems. In the engagement letter, Magee undertook, among other goals, to develop a strategy and time line for "monetizing the shareholders' investment" in PowerSystems. However, the first task which Magee proposed to undertake in order to accomplish this goal was to "analyze the shareholder agreement."

The following day, Magee sent Zak an email, characterizing the shareholder agreement as "an interesting read." Magee inquired as to Zak's current ownership percentage and opined that "Life gets a lot easier if you actually own 2/3 of the stock, because, if you do, then you can modify the agreement as you see fit." Magee also

SIEGER, et al v ZAK, et alIndex no. 19978/05

inquired as to whether there was a "service agreement" between Zak and PowerSystems. [*5]Zak observed that a service agreement might "impose restrictions or duties that go beyond the standard level of fiduciary duty (to the other shareholders) that is imposed on you by law."

Even before being formally retained, Magee began speaking with investment bankers about selling PowerSystems and placing a value on the company. On March 26, 2004, Magee was informed by Scott Upton, the managing director of ICG Capital partners, that PowerSystems was worth at least five times its historical pre-tax earnings. Plaintiffs assert that a multiple of five times earnings would have resulted in a price well in excess of $3 million for their combined interests. Although Magee forwarded this information to Zak, it was not shared with the plaintiffs.

In a letter to Zak dated April 6, 2004, Upton discussed two different strategies for liquidating Zak's investment and that of the other shareholders. Upton proposed either 1) an "outright sale," or 2) divesting 70% of the stock in 2004 and the balance three to five years later. Upton stated that the second alternative would allow a "second bite of the apple" at more favorable terms for "you and your other shareholders (if applicable)."

Meanwhile, on April 6, 2004, Zak met with Bea Maurer and discussed with her a possible merger of PowerSystems and Maurer' s company. According to plaintiffs, Maurer proposed offering Bea Maurer stock to the PowerSystems shareholders in exchange for all of their shares. The ratio of Bea Maurer to PowerSystems stock, or "valuation formula," was to be based on the projected future earnings of each company. While Bea Maurer may have been more profitable to that point, plaintiffs assert that valuing the companies based upon projected future earnings would have resulted in their obtaining a "favorable ownership position in the merged entity."

At the April 6 meeting, Maurer also informed Zak that she had rejected an offer to buy Bea Maurer, Inc. for $25 million and that she would not accept anything less than $75 million for her company. Plaintiffs claim that the information as to the offer for Bea Maurer would have been highly significant to them. According to plaintiffs, a company which acquired Bea Maurer might then have sought to acquire PowerSystems because the businesses were so "complementary." Alternatively, if Bea Maurer acquired PowerSystems first, the combined company might then have been sold at a favorable price to a third party. Plaintiffs claim that under either scenario, information as to the value of Bea Maurer stock would have been helpful to them to evaluate their stock in

SIEGER, et al v ZAK, et alIndex no. 19978/05 [*6]

PowerSystems. Plaintiffs were informed of the merger discussions shortly after the April 6 meeting. However, plaintiffs were not told about the proposed valuation formula, the offer to purchase Bea Maurer, or Maurer' s opinion as to the value of her own company.

On April 7, 2004, Magee contacted plaintiffs for the first time and advised them not to try to sell their stock on their own. Magee requested that plaintiffs allow him to conduct the negotiations for the sale of the company. Believing that Magee was working in the interest of all of the shareholders, Sieger spoke frankly with him. In particular, Sieger expressed his concern that PowerSystems was a "one trick pony," meaning that the business was dependent upon Zak's continued employment.

On April 9, 2004, Magee prepared a "confidential memorandum," soliciting proposals from investment bankers for either a sale or "recapitalization" of PowerSystems. Magee discussed the profitability of Bea Maurer and PowerSystems and alluded to the relationship between the two companies and the possibility of a merger. In the memorandum, Magee stated that the minority shareholders were interested in liquidating their interests because of concerns that the company was "overly dependent on a narrow product line, the management skills of the CEO, and the continued good graces [and] marketing skills of [Bea Maurer]." Magee also stated that because the majority shareholder had "historically" been unwilling to sell, the minority shareholders were willing to accept $3 million for their interests. Magee concluded by stating that "a two step process," i.e. buying out the minority shareholders before marketing the company, might be "more appropriate than a one step process." Magee's confidential memorandum was not disclosed to plaintiffs.

On April 15, 2004, Magee sent an email to Zak stating that he was about to call Scott Upton to "explain" to him that the minority shareholders felt the board needed to see several proposals, but they "do not intend to hijack the process of taking [PowerSystems]

to market in an orderly manner." Magee also promised to tell Upton that "[W]e approached a potential investor to take out the minority shareholders, but that contact does not appear to be the one that will bear fruit."

On April 19, 2004, Sieger sent Zak an email requesting a board meeting to discuss operations, distributions to shareholders, efforts to sell the company, and other matters. At around that time, Zak received a draft "Valuation Overview" from an investment banking firm known as McColl Partners. Judging by recent mergers and acquisitions, McColl concluded that PowerSystems had an "implied valuation range" of $8-9 million if

SIEGER, et al v ZAK, et alIndex no. 19978/05

the company was valued based upon its actual earnings in 2003. However, McColl concluded that the company had an implied valuation range of $35 to 40 million if valued based upon an estimated gross profit of $7.2 million in 2004. This valuation report was not shared with plaintiffs.

On April 30, 2004, Magee received an email from Bradley Matsik, an investment banker with Jefferies Quarterdeck. Matsik's initial estimate was that it would be "possible to complete a transaction that values the Company at $25-40 million prior to the end of 2004." Shortly thereafter, Zak received Matsik's valuation range from Magee but did not share it with plaintiffs.

In May 2004, Zak received from Matsik a "Preliminary Valuation," estimating that the "enterprise value" of PowerSystems was $35-40 million. Matsik's estimate was based on "multiples of financial performance," which were derived from the market values of publicly traded companies, although "direct comparables" to PowerSystems had been "difficult to find." Matsik arrived at his estimate by applying the multiple to a 2004 projected gross profit of $8.4 million. The court notes that Matsik's projected 2004 earnings figure was even greater than the one which McColl had utilized.

On May 6, 2004, Matsik wrote directly to Zak concerning a potential acquisition of the company. Matsik recommended that prior to initiating negotiations with a buyer, PowerSystems should take steps to retain "key employees," enter some type of exclusive dealing arrangement with its "largest customer," and hire a comptroller. Matsik also stated that it would be "advantageous, but not absolutely necessary" to have "concluded a transaction with the minority shareholders" prior to marketing the company. Finally, to assure prospective buyers of the "sustainable, long-term growth rate for the business," Jeffries Quarterdeck would have to prepare "detailed financial models." Matsik opined

that if most of these conditions were met, "a transaction valuing the Company in the range of $32 to 40 million would be achievable." This letter was also concealed from plaintiffs.

In early June 2004, plaintiffs requested Zak to inform them as to his discussions with investment bankers concerning a possible sale of the company. On June 7, 2004, Magee wrote to plaintiffs in response to their request. Magee stated that McColl Partners had estimated a valuation range of $8-10 million based on 2003 earnings. Magee mentioned that McColl thought the valuation range could be "substantially higher," but only if PowerSystems were able to "replicate the first quarter results for the rest of the

[*7]SIEGER, et al v ZAK, et alIndex no. 19978/05

year and address the other issues/questions that make it very difficult to value and sell" the company. Magee further claimed that "McColl advised that even if they could find a buyer now, the company would not, in their opinion, sell for more than $10 million."

Magee stated that Jeffries Quarterdeck had "expressed an interest in beginning a process to market the sale of the entire company" after PowerSystems had 1) negotiated a "supply agreement" with Bea Maurer, 2) performed an audit for 2003 and the first half of 2004 and "augmented the finance function," 3) concluded a transaction to purchase the minority shares, 4) implemented employment agreements for key employees, and 5) developed "detailed financial models" plotting the long term growth rate for the company. In the letter, Magee made no mention of Matsik's estimate of the "enterprise value" of the company.

On July 31, 2004, Zak entered into a written "stock purchase agreement" with plaintiffs. In essence, the agreement provided that Zak would pay $1.5 million to each of the plaintiffs for their stock. Additionally, Zak was to pay $200,000 to each of the plaintiffs, upon the sale of any of his shares for an amount greater than the amount necessary to repay the loan which he had obtained to purchase plaintiffs' interest, or upon the occurrence of certain other "liquidating events".

In the agreement, Zak represented that in the past year there had been no "substantive discussions related to a possible sale transaction," except for i) discussions with Bea Maurer, and ii) discussions with investment bankers "in connection with the purchaser's attempt to raise capital...specifically to fund the purchase contemplated by this agreement." The representation and warranty section did however make reference to Magee's June 7 letter and include it as a representation of the purchaser.

The agreement further provided that sellers agreed to indemnify and hold the

purchaser harmless from any and all damage arising from a breach by the seller of any representation or warranty or failure of the seller to perform any term of the agreement. Finally, the agreement provided that the purchaser and the sellers released each other from any and all claims except with respect to the stock purchase agreement. In the release section, the sellers acknowledged that the value of the company might be substantially greater than $10.2 million, which was "the basis for the determination of the purchase price" for their shares. Magee's invoices indicate that at this point PowerSystems had paid him almost $60,000 for services which he had rendered to the company.

[*8]SIEGER, et al v ZAK, et alIndex no. 19978/05

Plaintiffs allege that in March 2005, Bea Maurer was purchased by Hunter Defense Technologies for $85 million. Hunter Defense is a developer of a wide range of military and homeland security products. According to plaintiffs, both PowerSystems and Bea Maurer had done business with Hunter Manufacturing Company, a division of Hunter Defense Technologies, for a number of years. Plaintiffs further allege that in October 2005, Zak sold PowerSystems to Hunter Technologies for over $28 million dollars in cash and total consideration worth over $40 million.

Plaintiffs commenced this action on December 14, 2005. Plaintiffs assert claims against Zak for breach of fiduciary duty, fraud, constructive fraud, and breach of the stock purchase agreement. Plaintiffs also assert claims for fraud and constructive fraud against PowerSystems.Defendants are counterclaiming for breach of contract on the theory that plaintiffs breached the agreement by seeking additional compensation. Defendants also counterclaim for contractual indemnity under the stock purchase agreement. Finally, defendants counterclaim for breach of fiduciary duty on the theory that plaintiffs failed to disclose to Zak "information in their possession regarding the potential future value" of Power Systems.

Plaintiffs move to compel production of communications between Magee and various attorneys concerning the purchase of plaintiff's stock and the eventual sale of PowerSystems. Included within plaintiffs' request are communications between Magee and Nick Conte and Bill Watson, attorneys with the Virginia law firm of Woods Rogers, which represented Zak and PowerSystems in connection with the stock purchase agreement. Among the documents requested are drafts, comments, and edits concerning the stock purchase agreement, including drafts of Magee's June 7 letter concerning discussions with investment bankers as to the value of the company.

Plaintiffs seek communications which were made both before and after the

execution of the stock purchase agreement, including certain communications which were made after the present action was commenced. Shortly after the action was commenced, plaintiffs served subpoenas duces tecum upon Magee and Maurer by mailing the subpoenas to Magee in North Carolina and Maura in Virginia. Upon receipt of his subpoena, Magee sought legal advice concerning his obligation to comply with it from Trey Blalock and Calvin W. Fowler, attorneys with the Virginia law firm of Williams Mullen. Williams Mullen began representing Zak and PowerSystems when the company was sold to Hunter Technologies and is co-counsel for defendants in the present case.

[*9]SIEGER, et al v ZAK, et alIndex no. 19978/05

Maurer also sought advice concerning the subpoena from Williams Mullen. The firm has represented Maurer since 2001 and represented her in connection with the sale of her company to Hunter Technologies.

Defendants object to production of the various communications on the grounds of attorney-client privilege. Defendants assert that Magee is covered by PowerSystems' attorney-client privilege because he was acting as an agent of the corporation. Certain of the communications from Williams Mullen to Zak and Magee were also addressed to Bea Maurer. Defendants assert that those communications are also covered by Maurer' s attorney-client privilege.

Plaintiffs also seek documents relating to an arbitration between Zak and Hunter Technologies. Plaintiffs assert that such documents are relevant to the value of PowerSystems and thus to the issue of damages in the present action. Defendants object to the production of those documents, except for a confidential settlement agreement which disposed of the arbitration.

The attorney-client privilege protects confidential communications between a lawyer and client relating to legal advice sought by the client(CPLR § 4503; In re Nassau County Grand Jury Subpoena, 4 NY3d 665, 678, 2005). The person who asserts the privilege has the burden of proving these elements(Id). The privilege is a creature of statute and exists "to ensure that one seeking legal advice will be able to confide fully and freely in his attorney, secure in the knowledge that his confidences will not later be exposed to public view to his embarrassment or legal detriment"(Priest v. Hennessy, 51 NY2d 62, 67-68, 1980). Thus, "no attorney-client privilege arises unless an attorney-client relationship has been established"(Id at 68). A claim of privilege does not arise simply because an attorney characterizes someone as his client(Id at 70). The attorney must set forth "independent facts" to demonstrate the existence of "an underlying

attorney-client relationship(Id). Although typically arising in the context of a client's communications to an attorney, the privilege extends as well to communications from attorney to client (Spectrum Systems v. Chemical Bank, 78 NY2d 371, 377, 1991).

Because the attorney-client privilege constitutes an "obstacle to the truth-finding process," its invocation should be "cautiously observed to ensure that its application is consistent with its purpose"(Priest v. Hennessy, supra, 51 NY2d at 68). Not all communications to an attorney are privileged. Whether the privilege applies will depend

[*10]SIEGER, et al v ZAK, et alIndex no. 19978/05

on the circumstances of each case(Id at 68-69). "[E]ven where the technical requirements of the privilege are satisfied, it may, nonetheless, yield in a proper case, where strong public policy requires disclosure"(Id at 69).

Where the client's communications may have been in furtherance of a fraudulent scheme, an alleged breach of fiduciary duty, or an accusation of some other wrongful conduct, the attorney-client privilege may not be invoked (Sup't of Ins. v. Chase Manhattan Bank, 43 AD3d 514, 516, 3rd Dept., 2007). The party seeking to overcome the privilege has the burden of showing that the crime-fraud exception applies by establishing probable cause to believe that a fraud or crime has been committed, and that the communications in question were in furtherance of the fraudulent or criminal scheme (Nowlin v. New York, 1 AD3d 172, 1st Dept., 2003). To determine whether a communication from an attorney, responding to a client's inquiry, is in furtherance of a fraudulent scheme, the court must consider the client's intent (United States v. Jacobs, 117 F.3d 82, 88, 2d Cir., 1997). If the client has set upon a fraudulent course before consulting the attorney, communications from the attorney may further the client's purpose, even though the attorney does not share the client' s fraudulent intent(Id).

Whether a particular communication is privileged will most often require an in camera review (Spectrum Systems v. Chemical Bank, supra, 78 NY2d at 378). However, an in camera review may not be necessary where the privilege log sets forth the timing and subject matter of the communications and extrinsic evidence establishes the client's fraudulent intent.

Defendants argue, however, that the court should apply Virginia law as to the attorney-client privilege because Virginia has the paramount interest in the issue. "The first step in any case presenting a potential choice of law issue is to determine whether there is an actual conflict between the laws of the jurisdictions involved" (Allstate Ins. Co. v. Stolarz, 81 NY2d 219, 223, 1993).

In Virginia, "The protection which the law affords to communications between attorney and client has reference to those which are legitimately and properly within the scope of lawful employment and does not extend to communications made in contemplation of a crime, or perpetration of a fraud" (Virginia State Bar v. Gunter, 212 Va. 278, 287, 1971). "If the client does not frankly and freely reveal his object and intention as well as facts, there is no professional confidence and therefore no privilege"(Id). "The rule of privilege is defensive, and not offensive. If the

[*11]SIEGER, et al v ZAK, et alIndex no. 19978/05

communication between attorney and client relates to unlawful or fraudulent accomplishment, higher public policy, and the duty of an attorney to society as a whole, abrogates the privilege"(Id).

New York and Virginia may differ as to the threshold showing required for an in camera review (See, Peterson v. Fairfax Hospital Systems, 32 Va. Cir. 294, 296, Fairfax Co. 1993). Nevertheless, scrutiny of New York and Virginia law reveals that there is no conflict as to the scope of the attorney-client privilege or the crime-fraud exception. Thus, there is no occasion for the court to determine whether New York or Virginia has the paramount interest in either issue. Nonetheless, as the Court of Appeals has stated, "Whether a particular communication or document is entitled to the cloak of privilege is a complex question that requires a balancing of values and policy choices" (Codey v. Capital Cities, 82 NY2d 521 530, 1993). Therefore, "evidentiary questions such as privilege are best resolved in the Stateand in the proceeding in which the evidence is to be used"(Id). The court notes that while the attorneys involved in the communications were licensed in Virginia, there is no issue as to their discipline in the present proceeding. Accordingly, the court will apply New York's law of attorney-client privilege to the communications at issue in this case.

A corporation's attorney-client privilege includes communications with low- and mid-level employees, as well as those in the "control group" (Niesig v. Team I, 76 NY2d 363, 371, 1990). "Middle-leveland indeed lower-level employees can, by actions within the scope of their employment, embroil the corporation in serious legal difficulties, and it is only natural that these employees would have the relevant information needed by corporate counsel if he is adequately to advise the client with respect to actual or potential difficulties" (Upjohn Co. v. United States, 449 U.S. 383, 391, 1981). The corporation's attorney-client privilege applies as well to communications with independent contractors or "consultants," if the consultant has "a significant relationship to the corporation and the corporation's involvement in the transaction that is the subject of the legal services" (In re Bieter Co., 16 F.3d 929, 937, 8th Cir., 1994). Magee clearly had a significant

relationship with PowerSystems by virtue of his engagement letter. Furthermore, Magee had a significant relationship to PowerSystems' involvement with the stock purchase agreement, regardless of whether he was working on behalf of the corporation or simply on behalf of the majority shareholder. Since communications between Magee and PowerSystems' attorneys were covered by the attorney-client privilege, the court will proceed to consider whether the crime-fraud exception applies.

[*12]SIEGER, et al v ZAK, et alIndex no. 19978/05

Because the power to manage the affairs of a corporation is vested in the directors and majority shareholders, they are cast in the fiduciary role of guardians of the corporate welfare (Alpert v. 28 Williams St. Corp., 63 NY2d 557, 568, 1984). Where a majority shareholder engages in a "freeze-out merger," to encourage minority shareholders to accept cash for their stock, the majority shareholder must follow "a course of fair dealing toward minority holders" and they must be "offered a fair price" for their shares(Id at 569).Similarly, in negotiating with minority shareholders to buy out their interests, a majority stockholder is under a fiduciary duty to deal fairly with the minority holders and offer them a fair price.

From the documentary evidence submitted, the court concludes that there is probable cause to believe that Zak breached his duty of fair dealing by withholding critical information from plaintiffs concerning the value of their PowerSystems stock. Despite the fact that PowerSystems' success may have been due solely to Zak's entrepreneurial efforts, he was under a fiduciary duty to share with plaintiffs all reliable data at his disposal concerning the value of the company.

The court further concludes that the stock purchase agreement itself was materially misleading in that it led plaintiffs to believe that while PowerSystems might be worth substantially more than $10.2 million, there was no evidence to believe that such was the case. Because Magee's June 7 letter to plaintiffs was incorporated into the stock purchase agreement, the court further concludes that there is probable cause to believe that Magee knowingly assisted Zak in committing a fraud and breach of trust(Restat Torts 2d § 874[c]). Indeed, it appears that the purpose of incorporating Magee's letter into the agreement was to mislead the plaintiffs as to the value of the company.

Accordingly, the court concludes that there is probable cause to believe that all of the communications relating to the stock purchase agreement, and which took place prior to its execution, were in furtherance of a scheme to defraud the plaintiffs. Thus, plaintiffs' motion to compel is granted as to all communications which took place

through July 31, 2004, with the following exceptions: Plaintiffs ' motion to compel is denied as to Mageepriv 75, which relates to an extraneous matter. (The acronym Mageepriv is utilized to describe the privilege log). An in camera review is ordered as to Mageepriv 94, 101, 102, 110, 130, 232, 239, 458, 510, and 513 because it cannot be determined from the privilege log whether these communications were in furtherance of the fraudulent scheme. The court now turns to those communications which occurred subsequent to the stock purchase agreement.

[*13]SIEGER, et al v ZAK, et alIndex no. 19978/05

Mageepriv 246 is an email from Magee to Zak and Zak's attorney, Nick Conte, forwarding an email from Magee to Jeffries Quarterdeck. The email to the investment banker did not become a confidential communication merely because it was incorporated into a communication to Zak's attorney (Upjohn Co. v. United States, supra, 449 U.S. at 395-96). Moreover, because the communication to the investment banker shortly after acquiring plaintiffs' interest appears to have been in preparation for reaping the benefits of the fraudulent scheme. Since the attorney-client privilege does not exempt Mageepriv 246 from disclosure, plaintiffs' motion to compel is granted as to that communication.

Mageepriv 282 is an email from Magee to Nick Conte, inquiring about the status of the closing binder pertaining to the purchase of plaintiffs' stock. The email was sent on September 16, 2004. Since it cannot be determined from the privilege log whether Mageepriv 282 was in furtherance of the fraudulent scheme, an in camera review is ordered as to that communication.

Plaintiffs' motion to compel is denied as to the other communications made after the execution of the stock purchase agreement, except as to the communications contained in the "Third Privilege Log," Mageepriv 522-537. Those communications relate to the subpoenas which were served on Magee and Maurer by the plaintiffs. The court concludes that there is probable cause to believe that communications among Zak, Magee and their attorneys concerning the subpoenas either furthered the fraudulent scheme or sought to avoid its detection. Since Zak and Magee's attorney-client privilege does not exempt Mageepriv 522-525 and Mageepriv 532-537 from disclosure, plaintiffs' motion to compel is granted as to those communications.

Mageepriv 526-531 are emails which were sent from Trey Blalock, an attorney with Williams Mullen, not only to Zak and Magee, but also to Bea Maurer. Since Bea Maurer was also a client of Williams Mullen, her own attorney-client privilege may

protect the communications from disclosure.

Disclosure of confidential information to a third party may constitute a waiver of the attorney-client privilege, if the attorney is authorized by the client to make the disclosure (People v. Cassas, 84 NY2d 718, 724, 1995). Although Zak and Magee were clients of Williams Mullen in their own right, they were "third parties" with respect to Blalock's attorney-client relationship with Maura. However, aside from the fact that

[*14]SIEGER, et al v ZAK, et alIndex no. 19978/05

there are six separate communications spanning a 3-day period, there is no evidence that Maurer authorized Blalock to make this disclosure. Thus, plaintiffs have not established that Maura's attorney-client privilege has been waived.

As Bea Maurer was not under a fiduciary duty toward the plaintiffs, she had no obligation to deal fairly with plaintiffs or disclose to them information concerning the value of PowerSystems. While Bea Maurer may have been aware of Zak's efforts to defraud the minority shareholders, there is no probable cause to believe that she aided Zak and Magee in their scheme. Thus, the fraud upon plaintiffs is not grounds to overcome Maurer 's attorney-client privilege.

Nevertheless, a strong public policy may yet require the disclosure of Maurer's communications with her attorney. Whether communications from Blalock to Zak and Maurer concerning the subpoenas are protected will depend upon the nature of the underlying business relationship between Bea Maurer, Inc. and PowerSystems. Because of the rapid increase in PowerSystems' profitability after its association with Bea Maurer, an inference arises that Maura's company may have been involved in fraudulent procurement (See, Rumsfeld v. General Dynamics Corp., 365 F.3d 1380, 1387, Fed. Cir., 2004 [noting the "staggering amount of procurement fraud by defense contractors"]. Since Maurer would have set upon such a course before consulting Williams Mullen about the subpoena, Blalock's communications may unwittingly have furthered, or avoided detection of, a fraudulent scheme. Accordingly, plaintiffs' motion to compel is denied as to Mageepriv 526-531 with leave to renew upon a showing that a strong public policy requires disclosure.

Defendants assert that the arbitration between Zak and Hunter Technologies involved a dispute as to the estimated before tax earnings of PowerSystems' for fiscal years ending June 30, 2006 and June 30, 2007. Plaintiffs do not explain how the arbitration is relevant to the value of PowerSystems at the time they sold their interests. However, since Hunter Technologies acquired not only PowerSystems, but also Bea

Maurer Inc. as well, the arbitration may contain evidence relevant to fraudulent procurement. Thus, plaintiffs' motion to compel production of documents concerning the arbitration is similarly denied with leave to renew upon a showing that a strong public policy requires disclosure. Upon renewing their motion to compel with respect to the arbitration, plaintiffs may also renew as to Mageepriv 332 and 404 which relate to "Hunter valuation."

[*15]SIEGER, et al v ZAK, et alIndex no. 19978/05

The court notes that an action for breach of fiduciary duty by a minority shareholder is equitable in nature (Alpert v. 28 Williams St. Corp., supra 63 NY2d at 568). When equitable relief is sought, "moral considerations of fundamental importance require that the litigant come into court with clean hands'"(Thompson v. 76 Corp., 37 AD3d 450, 453, 2nd Dept., 2007). If plaintiffs had knowledge of fraudulent procurement, as defendants perhaps suggest in their third counterclaim, plaintiffs may be barred from any recovery. While defendants have resisted discovery with respect to documents which may indicate fraud on the part of Bea Maurer, Maurer's interests may have impacted upon defense counsel's representation (See 22 NYCRR § 1200.24). Accordingly, defendants are also granted leave to seek discovery with respect to any communications covered by Maurer 's attorney-client privilege upon a proper showing.

This shall constitute the decision and order of the court.

DatedFebruary 21, 2008J.S.C.