A victim of a crime would never be expected to pay for the perpetrator’s lawyer to defend the case. But corporate law can be counterintuitive, and Goldman Sachs found itself on the wrong side of a court decision that found that the bank’s bylaws require it to advance the legal fees of a former employee who has been accused of stealing its computer code.
Sergey Aleynikov was a computer programmer at Goldman who planned to leave the firm for a new job in which he would help set up a competing high-speed trading system. Before resigning in 2009, he downloaded computer code to help put together the trading platform.
That was the start of a legal odyssey with more twists than those seen in most white-collar crime cases. Goldman complained to the government about Mr. Aleynikov’s conduct, leading the Justice Department to file theft and economic espionage charges. After Mr. Aleynikov was convicted and spent a year in prison, a federal appeals court overturned his conviction and dismissed the charges, finding that the federal statutes used in the case did not cover his actions.
A few months later, the New York district attorney charged Mr. Aleynikov with violating a state statute prohibiting the theft of secret scientific information. A judge rejected Mr. Aleynikov’s claim that the charges violated the protection against double jeopardy under New York law, and he is awaiting trial.
After the latest charges, Mr. Aleynikov filed a lawsuit against Goldman in Federal District Court in New Jersey, demanding that the bank pay his legal fees from fighting the federal charges and advance the costs of defending against the state case. In a decision issued last week, Judge Kevin McNulty found that Goldman had to pay for his lawyers in the current case. As DealBook reported, the decision means Goldman is on the hook for about $700,000 already incurred in defending the state charges, along with additional amounts that are piling up as the case heads to trial.
In addition, Goldman also has to pay Mr. Aleynikov’s legal costs for pursuing this claim against the firm — known as “fees on fees” — that may total more than $1 million.
The claim for legal fees stems from a provision in Goldman’s bylaws that requires it to advance the costs of defending a case for any “officer” of the firm. Advancement is a crucial protection for corporate employees because they often do not have the resources to pay the lawyers out of their own pocket on the hope that the company will reimburse them later, known as indemnification.
Goldman’s bylaws are hardly a model of clarity because they define an officer to “include in addition to any officer of such entity, any person serving in a similar capacity or as the manager of such entity.” For those who might have studied logic, this is known as a tautology because the bylaws essentially provide that an officer is someone who is an officer.
Mr. Aleynikov was a vice president at Goldman and contends this title made him an officer entitled to advancement of his legal fees. Goldman countered that — like much of Wall Street — it doles out the title without granting any real authority, so that “title inflation” did not mean it committed to advance legal fees to so many of its employees. Judge McNulty acknowledged the ubiquity of vice presidents on Wall Street but found that the financial industry’s “over-exuberance in bestowing the title” did not control the meaning of the term in the bylaws.
Mr. Aleynikov offered evidence that Goldman had paid the legal fees of 51 corporate employees over the last six years, including 15 vice presidents. Among those who received advancement of costs were Rajat Gupta, a former director accused of tipping confidential information to Raj Rajaratnam, and Fabrice Tourre, who was found liable for fraud in the sale of a collateralized debt obligation on the eve of the financial crisis. Indeed, in only one case did Goldman refuse a vice president’s request to advance the costs of defending a case.
The bank countered that it was not required to pay the costs but had discretion to choose those cases in which it would do so, apparently out of the goodness of its heart. Thus, Goldman argued, it was not bound to pay Mr. Aleynikov’s legal fees despite opting to pay for a number of others.
Judge McNulty found that Goldman was essentially trying to have it both ways. Its bylaws contain broad language that appears to make advancement mandatory, which gives some measure of assurance to its officers that the firm will support them in a time of need, but Goldman contends it actually had discretion to decide whether to advance money.
The problem with Goldman’s argument is that it never disclaimed its responsibility to advance the legal costs for the 51 other employees when it paid their legal expenses. To figure out whether Goldman is required to advance Mr. Aleynikov’s fees, Judge McNulty compared the broad language of the bylaws with the absence of evidence that the firm asserted any of its advance payments were merely discretionary when it made them.
The judge concluded that “Goldman’s statement that an act was discretionary might have been enough to make it so; now, not so much.” In construing the meaning of “officer,” the broad language in the bylaws was enough to reach a vice president like Mr. Aleynikov, which means Goldman must advance the costs of defending against charges that he stole from his former employer.
Judge McNulty acknowledged that “Goldman may understandably find this result galling,” but it consistently paid the legal costs of others who engaged in misconduct, so it could hardly complain about the outcome in this case. The question is whether the firm is upset enough with having to pay for Mr. Aleynikov’s lawyers that it will appeal the decision, with the attendant risk that it will incur even more expenses for fees on fees if it is unsuccessful in overturning the district court’s decision.
The decision in Mr. Aleynikov’s case will be heartening to defendants accused of misconduct while acting on behalf of corporate employers because most companies have broad provisions for advancement of legal costs. For example, two former JPMorgan Chase employees, Javier Martin-Artajo and Julien Grout, who face charges in the “London whale” trading that resulted in more than $6 billion in losses, can be expected to seek payment from the bank for lawyers to defend the criminal case.
Those costs can be quite steep, as Goldman has learned from other cases. Mr. Gupta’s legal defense reportedly cost more than $35 million, while Mr. Tourre’s defense in the case brought by the Securities and Exchange Commission required the firm to pay millions of dollars, a bill that is likely to increase as he pursues a new trial.
Advancing the legal expenses of a miscreant is certainly galling, but it is also a crucial feature of state corporate law that is intended to protect officers from having a company turn on them in a time of need. Employees may not have thought much about whether their company would cover these costs when taking a job. But with more aggressive government enforcement efforts, it is a valuable protection that might lead some applicants to think twice before accepting a position if a company could pick and choose whom it wanted to pay to defend.
The protection afforded to Mr. Aleynikov is likely to cause companies to take another look at their bylaws to figure out which employees fall under their commitment to pay for legal costs, which can easily run into the millions of dollars.