PRIVILEGED AND CONFIDENTIAL ATTORNEY-CLIENT PRIVILEGE / ATTORNEY WORK PRODUCT

PRIVILEGED AND CONFIDENTIAL ATTORNEY-CLIENT PRIVILEGE / ATTORNEY WORK PRODUCT
MEMORANDUM
September 15, 2023
FROM: Howard Quinn, Responsible Partner, and Liam Donahue, Lead Associate Calderwood & Harkness LLP 200 South Biscayne Boulevard, Suite 4400 Miami, FL 33131
TO: Audit Committee of the Board of Directors of Verimark Hospitality Group Inc. Diane Kowalski (Chair) Reginald Faulkner Sandra Yeung
RE: SEC Voluntary-Production Strategy and Privilege Considerations — SEC Division of Enforcement Preliminary Inquiry, File No. HO-14237
MATTER NO.: 1021-00008
I. Executive Summary
The purpose of this memorandum is to advise the Audit Committee of the Board of Directors of Verimark Hospitality Group Inc. ("VHG" or the "Company") on the strategic and legal considerations surrounding a voluntary production of non-privileged investigation materials to the Staff of the U.S. Securities and Exchange Commission ("SEC") Division of Enforcement in connection with its recently opened preliminary inquiry, designated as File No. HO-14237 (the "Preliminary Inquiry"). This memorandum is intended to be discussed at the Audit Committee's next executive session, and all recommendations contained herein are subject to the Committee's approval and authorization.
As the Audit Committee is aware, the SEC opened the Preliminary Inquiry following VHG's August 14, 2023 filing of a Current Report on Form 8-K under Item 4.02 (Non-Reliance on Previously Issued Financial Statements). That disclosure, coordinated with VHG's outside securities counsel, Westlake Burris & Holt LLP, announced the Audit Committee's conclusion — reached in consultation with management and VHG's independent registered public accounting firm, Hargrove, Steen & Aldrich LLP ("HSA") — that VHG's previously issued financial statements for the third and fourth quarters of fiscal year 2022 and the first quarter of fiscal year 2023 should no longer be relied upon due to material misstatements principally related to premature revenue recognition at Verimark Coastal Resorts LLC ("VCR"), a wholly owned Florida subsidiary of VHG.
Calderwood & Harkness's internal investigation, opened on July 24, 2023, at the Audit Committee's direction, is ongoing. To date, we have conducted initial witness interviews, including an interview of HSA lead engagement partner William Gentry on August 15, 2023, Chief Financial Officer Thomas Rhett Griffith on August 22, 2023, and Chief Executive Officer Margaret "Meg" Calder on August 29, 2023. We have collected approximately 1.2 million documents from eight of the eleven identified custodians, and we have commenced forensic accounting analysis through Crestline Forensic Advisory LLC (engagement number CFA-VHG-2023-0089), which was retained under the Kovel doctrine as an agent of counsel. Electronic discovery hosting and processing services are being managed by Triton discovery Solutions Inc.
The central question before the Audit Committee is whether VHG should pursue a cooperative, voluntary-production approach — proactively providing non-privileged factual materials to the SEC Staff in advance of any formal compulsory process — or instead adopt a more limited, responsive posture in which VHG produces materials only in response to formal subpoenas or other compulsory demands, should they issue.
After careful analysis, Calderwood & Harkness recommends that the Audit Committee authorize a phased voluntary production of non-privileged factual materials to the SEC Division of Enforcement Staff. This approach should be coordinated with VHG's outside securities counsel, Westlake Burris & Holt LLP (lead partner Irene Castellanos), to ensure consistency in the Company's SEC engagement strategy across both the Division of Enforcement and the Division of Corporation Finance. At the same time, the Company must maintain robust protections over all attorney-client communications and attorney work product generated in connection with Calderwood & Harkness's investigation.
This memorandum also addresses necessary coordination with VHG General Counsel Patricia Navarro, the impact of voluntary production on the ongoing internal investigation, D&O insurance considerations, and the current state of the selective-waiver doctrine in the Eleventh Circuit — a factor of particular importance given the possibility of future private securities litigation. We outline a recommended timeline for production, together with specific action items for the Audit Committee's consideration.
II. Background
A. The Internal Investigation
On July 17, 2023, the Audit Committee of VHG's Board of Directors retained Calderwood & Harkness LLP to conduct an independent internal investigation into financial-reporting irregularities at VCR. The engagement letter, executed by Audit Committee Chair Diane Kowalski on behalf of the Committee, establishes that Calderwood & Harkness reports solely to the Audit Committee in connection with this engagement and that the attorney-client privilege belongs to VHG, acting through the Audit Committee. The Audit Committee's decision to retain independent outside counsel followed the identification by HSA of a potential material weakness in VCR's internal controls over financial reporting, as discussed in Section II.B below.
The investigation was formally opened on July 24, 2023, on which date Calderwood & Harkness issued a company-wide document-preservation notice directing all VHG employees and officers to preserve documents potentially relevant to the investigation. Supplemental targeted preservation notices were issued to identified custodians at VCR, including division-level officers, finance personnel, and administrative support staff with access to relevant financial systems.
The investigation encompasses two primary workstreams:
Workstream 1 — Premature Revenue Recognition. The first and principal workstream concerns the premature recognition of timeshare-interest deposits as completed-sale revenue at VCR properties, including the Coral Dune Resort & Residences (14200 Emerald Coast Parkway, Destin, FL 32541) and the Palmetto Bluff Club (3950 Longboat Key Drive, Sarasota, FL 34228). Preliminary evidence indicates that VCR recorded timeshare-interest deposits as completed-sale revenue before the expiration of applicable rescission periods, in potential violation of Accounting Standards Codification Topic 606 ("ASC 606"), which governs revenue from contracts with customers, and Florida Statute § 721.10, which provides purchasers of timeshare interests a mandatory ten-day rescission period following execution of a purchase contract. Under ASC 606, revenue from the sale of a timeshare interest should not be recognized until the contract is no longer subject to cancellation — that is, until the rescission period has expired without the purchaser having exercised the right to cancel. By recording deposits as completed-sale revenue before expiration of the rescission window, VCR materially overstated its reported revenue across multiple reporting periods.
Workstream 2 — Fictitious Vendor Invoicing. The second workstream concerns an expense-reimbursement scheme involving fictitious vendor invoices submitted through shell entities. Preliminary evidence indicates that certain VCR personnel directed the creation of fictitious purchase orders and invoices through at least three shell entities — Gulf Standard Contracting LLC, Clearwater Design Collective Inc., and Suncoast Property Services LLC — to facilitate reimbursement of personal expenditures as legitimate business expenses. This scheme is estimated to have resulted in approximately $1.83 million in improper disbursements through 47 fictitious purchase orders over the relevant period.
On August 7, 2023, following an initial assessment of the evidence, three individuals were placed on administrative leave pending the conclusion of the investigation: VCR Division President Garrett W. Daskine, Vice President of Finance Nicole Prescott, and Controller Ryan Mateo Serrano (collectively, the "Subjects"). Each of the Subjects has retained separate legal counsel:
•  Garrett W. Daskine is represented by Merritt & Dunleavy LLP (James Corwin Merritt).
•  Nicole Prescott is represented by Langford Pace LLP (Candace O'Brien Langford).
•  Ryan Mateo Serrano is represented by Coletti & Ruiz PA (Marco A. Ruiz).
Calderwood & Harkness has communicated with each of the Subjects' respective counsel regarding scheduling of interviews and production of personal devices, where applicable.
Forensic accounting support for the investigation is being provided by Crestline Forensic Advisory LLC, led by Douglas Reinhardt and Priya Venkatesh. Crestline was retained by Calderwood & Harkness, at the direction of the Audit Committee, under the Kovel doctrine, pursuant to an engagement letter dated July 21, 2023. Under the Kovel framework, Crestline functions as an agent of counsel, and its work product — including its analyses, reports, and working papers — is protected by the attorney-client privilege and the work-product doctrine to the same extent as materials prepared by Calderwood & Harkness attorneys. Crestline's engagement letter (CFA-VHG-2023-0089) expressly provides for these privilege protections and directs Crestline to communicate its findings exclusively to Calderwood & Harkness and, at counsel's direction, to the Audit Committee.
Electronic discovery is being managed by Triton discovery Solutions Inc., which is hosting and processing collected documents on a secure, access-controlled review platform. Approximately 1.2 million documents have been collected from eight of the eleven identified custodians. Following de-duplication, de-NISTing (removal of system files and known software files using the National Institute of Standards and Technology's reference database), and initial culling, the review population has been reduced to approximately 347,000 documents. Document review is proceeding using a Technology Assisted Review ("TAR") 2.0 predictive-coding workflow, under which Calderwood & Harkness attorneys are training the predictive model through iterative coding of sample sets and validating model outputs through statistical sampling. Triton is functioning as an agent of counsel for privilege purposes.
B. HSA's Identification of the Material Weakness
On June 19, 2023, HSA lead engagement partner William "Bill" Gentry communicated to CFO Thomas Rhett Griffith and Audit Committee Chair Diane Kowalski that HSA had identified a potential material weakness in VCR's internal controls over financial reporting during HSA's interim review of VHG's financial statements for the first quarter of fiscal year 2023 (the quarter ending March 31, 2023). Specifically, HSA identified that approximately $9.8 million in timeshare-interest deposits at VCR properties had been recorded as completed-sale revenue in Q1 2023, notwithstanding that the applicable ten-day rescission periods under Florida Statute § 721.10 had not expired at the time of revenue recognition. HSA communicated to Mr. Griffith and Ms. Kowalski that this appeared to represent a departure from the requirements of ASC 606 and that the potential misstatement was of a magnitude that could be material to VHG's consolidated financial statements.
HSA's communication on June 19, 2023 prompted an initial management assessment, followed by escalation to the full Audit Committee. The Audit Committee convened an executive session on July 10, 2023, at which it received a preliminary briefing from Mr. Griffith and from HSA (Mr. Gentry participated telephonically). Following that executive session, the Audit Committee adopted a resolution to retain independent outside counsel to conduct an investigation into the identified revenue-recognition issues and any related financial-reporting irregularities. Calderwood & Harkness was retained on July 17, 2023, as noted above.
C. The Form 8-K Filing and SEC Inquiry
On August 14, 2023, VHG filed a Current Report on Form 8-K with the SEC under Item 4.02 (Non-Reliance on Previously Issued Financial Statements). The Form 8-K disclosed that the Audit Committee, in consultation with VHG management and HSA, had concluded that VHG's previously issued financial statements for the third and fourth quarters of fiscal year 2022 (the quarters ending September 30, 2022 and December 31, 2022, respectively) and the first quarter of fiscal year 2023 (the quarter ending March 31, 2023) should no longer be relied upon. The filing identified premature revenue recognition at VCR as the primary basis for the non-reliance determination. The Form 8-K was prepared and filed under the supervision of Westlake Burris & Holt LLP (Irene Castellanos), VHG's regular outside securities counsel, based at 600 Brickell Avenue, Suite 3100, Miami, FL 33131.
In September 2023, the SEC Division of Enforcement opened a preliminary inquiry into VHG's financial reporting, assigned File No. HO-14237. The Division of Enforcement Staff has not yet contacted VHG directly, and no formal order of investigation has been issued. No subpoenas, document requests, or testimony demands have been served on VHG or any of its officers, directors, or employees. The inquiry remains at the preliminary stage, which means that the SEC Staff does not yet have subpoena power with respect to this matter. To the extent the Staff determines that further investigation is warranted, it would need to obtain a formal order of investigation from the SEC Commissioners to obtain compulsory process.
As of the date of this memorandum, no referral to the U.S. Department of Justice ("DOJ") has been made in connection with this matter. However, it should be noted that referrals can occur at any time during an SEC investigation, and the Audit Committee should be prepared for the possibility that the DOJ may take an independent interest in the matter, particularly with respect to the fictitious vendor invoicing scheme (Workstream 2), which could implicate federal wire fraud and mail fraud statutes.
D. Scope of Potential SEC Interest
The SEC's interest in VHG is likely to encompass the following areas, based on the nature and magnitude of the issues identified to date:
Revenue Overstatement. Preliminary estimates by Crestline Forensic Advisory LLC indicate that VCR's premature recognition of timeshare-interest deposits resulted in an aggregate revenue overstatement of approximately $26.4 million across four quarterly reporting periods:
These figures remain preliminary and are subject to confirmation and potential revision as Crestline's analysis continues. The increasing magnitude of the overstatement from Q3 2022 through Q1 2023 — peaking at $9.8 million in Q1 2023 — suggests an accelerating pattern that will be of particular interest to the SEC Staff.
For fiscal year 2022, the combined revenue overstatement across Q3 and Q4 was approximately $10.8 million ($4.7 million plus $6.1 million). At VHG's effective tax rate of 24.3%, the corresponding after-tax income overstatement was approximately $8.17 million. VHG reported consolidated net income of $142.3 million for fiscal year 2022; the after-tax income overstatement therefore represents approximately 5.74% of reported net income — a percentage that, while not enormous in absolute terms, exceeds the 5% threshold that is commonly (though not mechanistically) applied as one indicium of materiality in SEC practice.
For context, VCR's reported revenue for fiscal year 2022 was $438.7 million, representing approximately 23.46% of VHG's consolidated revenue of $1.87 billion. VCR is therefore a significant subsidiary and revenue contributor, and the SEC Staff is likely to view irregularities at VCR as material to VHG's consolidated financial position.
Expense-Reimbursement Irregularities. The fictitious vendor invoicing scheme (Workstream 2) involved an estimated $1.83 million in improper disbursements through 47 fictitious purchase orders directed to three shell entities: Gulf Standard Contracting LLC, Clearwater Design Collective Inc., and Suncoast Property Services LLC. While the dollar amount of the expense-reimbursement scheme is substantially smaller than the revenue-overstatement issue, it raises additional concerns about the integrity of VCR's internal controls and the conduct of individual officers and employees. The SEC Staff is likely to view the existence of the scheme as further evidence of a control environment breakdown and as a potential basis for individual enforcement actions against the Subjects.
SOX Implications. The revenue overstatement and expense irregularities have potential implications under the Sarbanes-Oxley Act of 2002, including Section 302 (which requires certifications by the CEO and CFO as to the accuracy and completeness of periodic reports and the effectiveness of disclosure controls) and Section 404 (which requires management's assessment of, and the auditor's attestation to, the effectiveness of internal controls over financial reporting). If the SEC Staff concludes that VHG's CEO or CFO certified financial statements that they knew or should have known were materially inaccurate, or that VHG's internal controls were ineffective and not properly disclosed, these provisions could serve as bases for enforcement action.
Market Context. VHG's market capitalization was approximately $3.4 billion as of July 2023, based on approximately 88.6 million shares of common stock outstanding. The Company's stock is listed on The Nasdaq Stock Market (ticker: VMRK). Significant institutional shareholders include Ashford Capital Management LP, which holds approximately 7.2% of outstanding shares (approximately 6.38 million shares), and Ridgepoint Institutional Partners LLC, which holds approximately 5.1% of outstanding shares (approximately 4.52 million shares). The presence of significant institutional holders increases the likelihood of private securities litigation and heightens the importance of the privilege and waiver considerations discussed in Section IV below.
III. Strategic Analysis: Voluntary Cooperation vs. Limited Response
The Audit Committee faces a strategic decision with respect to VHG's posture toward the SEC Preliminary Inquiry: whether to proactively provide non-privileged materials to the SEC Staff on a voluntary basis, or to adopt a more limited, responsive approach in which VHG produces materials only in response to formal compulsory process. This section analyzes the benefits and risks of each approach and sets forth Calderwood & Harkness's recommendation.
A. Benefits of Voluntary Production
There are several significant advantages to a voluntary-production strategy.
Demonstration of Good Faith. A voluntary production of non-privileged materials demonstrates corporate good faith and a commitment to transparency and accountability. The SEC Staff, at both the preliminary inquiry and formal investigation stages, takes note of a company's willingness to cooperate, and a cooperative posture can meaningfully influence the trajectory and ultimate resolution of an enforcement matter. By voluntarily producing materials, VHG signals that it takes the underlying issues seriously and is committed to assisting the Staff in its review.
Consistency with SEC Cooperation Framework. The SEC has repeatedly emphasized the importance of cooperation in enforcement matters. The Seaboard Report (Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934 and Commission Statement on the Relationship of Cooperation to Agency Enforcement Decisions, SEC Release No. 34-44969, October 23, 2001) identifies four broad categories of factors that the SEC considers in evaluating a company's cooperation: self-policing (the existence and effectiveness of internal controls and compliance programs), self-reporting (the promptness and completeness of disclosure to the SEC), remediation (the steps taken to correct the underlying issues and prevent recurrence), and cooperation (the quality and timeliness of a company's engagement with the SEC Staff during the investigation). VHG's conduct to date is already favorable under the first two factors. The Audit Committee's independent retention of outside counsel on July 17, 2023, and the prompt opening of an internal investigation on July 24, 2023, demonstrate strong self-policing. The filing of the Form 8-K on August 14, 2023 — before the SEC opened its Preliminary Inquiry — demonstrates self-reporting. A voluntary production of factual materials would strengthen VHG's position under the cooperation factor, completing a compelling narrative of a company that identified issues internally, disclosed them promptly, and worked constructively with the regulator.
Potential for Favorable Enforcement Outcomes. Cooperation credit can have a tangible impact on enforcement outcomes. In appropriate cases, the SEC has declined to bring enforcement actions against cooperating entities, entered into deferred prosecution agreements, or imposed reduced civil penalties in recognition of exceptional cooperation. While the availability and scope of cooperation credit depend on numerous factors — including the nature and seriousness of the underlying violations — a strong cooperation record substantially improves VHG's negotiating position in any resolution discussions. This is particularly important with respect to entity-level exposure; even if individual enforcement actions are brought against the Subjects, robust corporate cooperation could support a declination or reduced disposition with respect to VHG itself.
Reduction in Duration and Cost. By proactively satisfying the SEC Staff's information needs, a voluntary production may reduce the duration and intensity of the Preliminary Inquiry. If the Staff can obtain the factual materials it needs through voluntary cooperation, it may be less inclined to seek a formal order of investigation and issue subpoenas — a process that is substantially more expensive and disruptive to VHG's business operations and that would require production on the SEC's timeline rather than the Company's.
Shareholder Relations and Governance Credibility. VHG's institutional shareholder base, including Ashford Capital Management LP (7.2%) and Ridgepoint Institutional Partners LLC (5.1%), will be closely monitoring the Company's response to the SEC inquiry. A cooperative posture is consistent with strong corporate governance and may help maintain investor confidence during a difficult period. Conversely, news that VHG was refusing to cooperate with the SEC could trigger additional share-price declines and increase the risk and severity of private securities litigation.
B. Risks of Voluntary Production
A voluntary-production strategy also carries meaningful risks, which must be carefully managed.
Acceleration of SEC Scrutiny. A voluntary production may surface issues or documents that prompt the SEC Staff to accelerate its review or expand the scope of its inquiry. Materials that VHG produces voluntarily could lead the Staff to identify new areas of concern that it might not have identified — or identified as quickly — through its own independent investigation. In particular, if the production includes documents reflecting the fictitious vendor invoicing scheme (Workstream 2), the Staff could conclude that the matter warrants a formal order of investigation and the exercise of subpoena power, or could refer the matter to the DOJ for criminal investigation.
Potential Sharing with Other Government Agencies. Materials produced voluntarily to the SEC may be shared with other government agencies, including the DOJ, the Federal Bureau of Investigation, or state regulatory authorities. Although the SEC's internal policies and certain statutory provisions impose limitations on inter-agency sharing, the SEC retains discretion to refer matters and share information with other law enforcement authorities. A confidentiality agreement with the SEC Staff may limit but cannot eliminate this risk.
Risk of Inadvertent Privilege Disclosure. Any production of a significant volume of documents carries an inherent risk that privileged or work-product-protected materials will be inadvertently included. Even with robust review protocols, the risk is non-trivial in a population of hundreds of thousands of documents. An inadvertent disclosure to the SEC could, depending on the circumstances and governing law, result in a waiver of privilege over the disclosed document and potentially over other documents addressing the same subject matter.
Loss of Strategic Control. By voluntarily producing materials, VHG cedes some degree of control over the timing and sequence in which information flows to the regulator. In a purely responsive posture, VHG could respond to specific requests on a targeted basis, potentially controlling the narrative more effectively. A broad voluntary production may allow the SEC Staff to develop its own narrative of the facts in ways that are not aligned with VHG's interests.
Expectation of Ongoing Production. A voluntary production can set expectations for continuing cooperation. Once VHG begins producing materials voluntarily, the SEC Staff may expect ongoing and continuous production as additional documents are collected, reviewed, and identified. This could become burdensome during the active phase of the internal investigation, when resources are already strained, and could create tension between the investigation's fact-gathering needs and the Staff's desire for timely access to materials.
C. Risks of a Purely Responsive Posture
The alternative to voluntary production — a purely responsive posture in which VHG produces materials only in response to formal compulsory process — carries its own significant risks.
Negative Inference by SEC Staff. The SEC Staff may interpret a non-cooperative posture negatively, particularly given that VHG voluntarily filed the Form 8-K disclosing the non-reliance determination. A company that self-reports a potential violation but then declines to cooperate with the SEC's investigation of that very violation presents an inconsistent posture that the Staff is likely to view unfavorably. This could lead the Staff to seek a formal order of investigation earlier than it might otherwise have done, and could result in a more aggressive and adversarial investigative posture.
Increased Cost and Disruption from Formal Process. If the SEC obtains a formal order of investigation and issues subpoenas, VHG will be compelled to produce documents and make witnesses available for testimony on the SEC's schedule, rather than on a timetable negotiated cooperatively. Formal subpoena compliance is typically more costly and disruptive than voluntary production, involves shorter response deadlines, and affords less flexibility in production sequencing.
Forfeiture of Cooperation Credit. A purely responsive posture would forego the cooperation credit that could benefit VHG in any ultimate enforcement disposition. As discussed above, cooperation credit can be the difference between a civil penalty and a declination, or between a large penalty and a significantly reduced one. The Seaboard factors are applied on a sliding scale, and a failure to cooperate weighs against the entity in the SEC's enforcement calculus.
Inconsistency with 8-K Disclosure. As noted, VHG voluntarily disclosed the non-reliance determination via Form 8-K before the SEC opened its Preliminary Inquiry. A subsequent refusal to cooperate with the Staff's inquiry into the very matters disclosed in the 8-K would appear inconsistent and could undermine VHG's credibility with the Staff, the Commission, and, potentially, with a federal court in any subsequent enforcement proceeding.
D. Recommendation: Phased Voluntary Production
After weighing the foregoing considerations, Calderwood & Harkness recommends that the Audit Committee authorize a phased voluntary production of non-privileged factual materials to the SEC Division of Enforcement Staff. This approach is designed to maximize the cooperation benefits described above while managing the attendant risks through careful phasing, robust privilege review, and express privilege reservations. The recommended phases are as follows:
Phase 1 (Immediate). The initial production should include publicly available materials (SEC filings, press releases, and other publicly disclosed documents) together with non-privileged corporate records that have already been identified and collected in connection with the internal investigation. This category includes VCR financial records, timeshare sales records, purchase contracts, vendor invoices, corporate formation documents for VCR and the identified shell entities, and organizational charts. These are factual business records that do not implicate the attorney-client privilege or work-product doctrine and whose production poses minimal strategic risk. Phase 1 is designed to demonstrate VHG's cooperative intent and to satisfy the SEC Staff's immediate informational needs.
Phase 2 (Upon Completion of Key Witness Interviews). The second phase would encompass production of the broader set of non-privileged documents collected from the eight identified custodians, subject to completion of a thorough privilege review and the preparation of a detailed privilege log. Phase 2 should not proceed until key witness interviews have been completed, so that the fact-gathering process is not compromised by premature disclosure. As discussed in Section VIII below, producing documents related to a witness before that witness has been interviewed could allow the SEC Staff to share information with the witness or the witness's counsel, potentially tainting the interview and undermining the investigation.
Phase 3 (Upon Investigation Close). The third phase, to be undertaken only upon the close of the investigation and with express Audit Committee authorization, would involve the production of factual summaries and non-privileged analytical materials to the extent the Audit Committee determines that such production is in VHG's interest. Phase 3 would not include any materials that constitute attorney-client communications or attorney work product, including Crestline's reports and working papers.
At no point in any phase should privileged materials be produced. This includes attorney-client communications between Calderwood & Harkness and the Audit Committee, VHG officers, or VHG employees; work-product memoranda, interview notes, and analytical documents prepared by Calderwood & Harkness; and Crestline Forensic Advisory LLC's reports and working papers prepared under the Kovel arrangement. Each phase of the production should be preceded by express Audit Committee authorization, and each production should be accompanied by a cover letter containing robust privilege-reservation and no-waiver language, as discussed in Section IV.D below.
IV. Privilege Considerations
The privilege implications of a voluntary production to the SEC are among the most important considerations before the Audit Committee. This section addresses the applicable privilege doctrines, the current state of the selective-waiver doctrine in the relevant jurisdictions, and the practical measures that should be implemented to protect VHG's privileges throughout the production process.
A. Attorney-Client Privilege
The attorney-client privilege protects confidential communications between an attorney and a client made for the purpose of seeking or providing legal advice. In the corporate context, the privilege extends to communications between outside counsel and corporate officers and employees, provided that the communications are made for the purpose of obtaining legal advice and are kept confidential. See Upjohn Co. v. United States, 449 U.S. 383 (1981).
All communications between Calderwood & Harkness and the Audit Committee are protected by the attorney-client privilege. Similarly, communications between Calderwood & Harkness and VHG officers and employees — including the witness interviews conducted to date — are protected to the extent that they were made for the purpose of seeking or providing legal advice in connection with the investigation.
Consistent with established best practices, Calderwood & Harkness has administered Upjohn warnings (sometimes referred to as "corporate Miranda" warnings) to all witness interviewees. These warnings inform the witness that: (i) Calderwood & Harkness represents VHG (the entity), not the individual witness; (ii) the attorney-client privilege with respect to the interview belongs to VHG, not to the witness; (iii) VHG, acting through the Audit Committee, may elect to waive the privilege and disclose the substance of the interview to third parties, including the SEC, without the witness's consent; and (iv) the witness may retain personal counsel at his or her own expense. To date, 22 interviews of 18 unique witnesses have been conducted or are planned under these Upjohn protocols. (Several witnesses have been or will be interviewed in multiple sessions.)
The Audit Committee, as the body directing the investigation, is the holder of the attorney-client privilege for purposes of this engagement. The full Board of Directors, acting through the Audit Committee, retains ultimate authority over privilege waiver decisions. No individual officer or employee has standing to assert or waive VHG's privilege.
It is important to emphasize that the production of underlying factual documents — such as financial records, vendor invoices, purchase orders, corporate formation records, sales contracts, and similar business records — does not constitute a waiver of the attorney-client privilege over legal analysis or advice that may reference or discuss those same factual documents. The privilege protects the communication, not the underlying facts. A company does not waive its privilege over its lawyers' legal analysis simply by producing the factual documents that the lawyers analyzed.
B. Attorney Work Product Doctrine
The attorney work product doctrine, codified in Federal Rule of Civil Procedure 26(b)(3) and recognized in the regulatory investigation context, protects materials prepared by or at the direction of an attorney in anticipation of litigation or in preparation for trial. The doctrine provides two tiers of protection:
Fact Work Product. Factual compilations, chronologies, document indices, and similar materials prepared by counsel in anticipation of litigation are protected, but the protection may be overcome upon a showing of substantial need and an inability to obtain the substantial equivalent without undue hardship. See Hickman v. Taylor, 329 U.S. 495 (1947); Fed. R. Civ. P. 26(b)(3)(A).
Opinion Work Product. Materials reflecting an attorney's mental impressions, conclusions, opinions, and legal theories receive heightened protection and are essentially never discoverable, even upon a showing of substantial need. See Upjohn, 449 U.S. at 401; Fed. R. Civ. P. 26(b)(3)(B).
In the context of this investigation, the following categories of materials are protected work product:
•  Investigation memoranda prepared by Calderwood & Harkness, including memoranda summarizing witness interviews, analyzing documents, and setting forth legal conclusions and recommendations.
•  Interview notes and outlines prepared by Calderwood & Harkness attorneys in connection with witness interviews.
•  Analytical memoranda and internal strategy documents prepared by Calderwood & Harkness.
•  This memorandum and any similar advisory communications prepared by Calderwood & Harkness for the Audit Committee.
•  Crestline Forensic Advisory LLC's analysis, reports, working papers, and communications with Calderwood & Harkness, which are protected under the Kovel doctrine. The Kovel doctrine, derived from United States v. Kovel, 296 F.2d 918 (2d Cir. 1961), provides that communications between a client's attorney and a non-lawyer expert retained by the attorney to assist in the rendition of legal services are protected by the attorney-client privilege and the work-product doctrine, provided that the expert is functioning as an agent of counsel. Crestline was retained by Calderwood & Harkness at the direction of the Audit Committee, and its engagement letter (dated July 21, 2023) expressly provides that Crestline is retained as an agent of counsel, that its work is performed under the direction of Calderwood & Harkness attorneys, and that all communications between Crestline and Calderwood & Harkness are to be treated as privileged and confidential.
•  Triton discovery Solutions Inc.'s hosting, processing, and review-support services are similarly covered by the agency-of-counsel framework. Triton is performing its services at the direction of Calderwood & Harkness, and its access to privileged and work-product-protected materials does not constitute a waiver.
The distinction between fact work product and opinion work product has practical significance for the phased production strategy. Even if VHG were to produce certain factual compilations in connection with Phase 3 (a decision that would require careful consideration and Audit Committee authorization), opinion work product — including Calderwood & Harkness's legal analysis, conclusions, and strategic assessments — should never be produced.
C. Selective Waiver Doctrine
One of the most significant risks associated with a voluntary production to the SEC is the potential that the production will be treated as a waiver of privilege not only as to the SEC but as to all other parties — including private plaintiffs in securities class actions or derivative suits. This risk is governed by the selective-waiver doctrine, the status of which varies across federal circuits.
The selective-waiver doctrine, as articulated by the Eighth Circuit in Diversified Industries, Inc. v. Meredith, 572 F.2d 596 (8th Cir. 1977) (en banc), holds that a company's voluntary production of privileged materials to a government agency does not waive the privilege as to other parties. Under this approach, a company could produce privileged materials to the SEC without fear that private plaintiffs could later compel production of the same materials on the ground that the privilege had been waived.
However, the Diversified Industries approach has been rejected or not adopted by the majority of federal circuits. In particular, the Eleventh Circuit — which governs VHG's Florida headquarters — has not adopted the selective-waiver doctrine. Several other circuits have expressly rejected it, including the D.C. Circuit (In re Sealed Case, 676 F.2d 793 (D.C. Cir. 1982)), the Third Circuit (Westinghouse Elec. Corp. v. Republic of the Philippines, 951 F.2d 1414 (3d Cir. 1991)), and the Sixth Circuit (In re Columbia/Crowne Albany Partners LLC Billing Practices Litigation, 293 F.3d 289 (6th Cir. 2002)). In these jurisdictions, a voluntary production of privileged materials to the SEC is treated as a waiver of the privilege, potentially on a subject-matter basis, as to all other parties.
Federal Rule of Evidence 502, enacted in 2008, addresses certain aspects of privilege waiver but does not resolve the selective-waiver issue. Rule 502(a) provides that a disclosure of privileged material does not constitute a subject-matter waiver unless the waiver was intentional and fairness requires that it extend to related undisclosed communications. Rule 502(b) provides protection against inadvertent disclosure under specified conditions. However, Rule 502 does not create a selective-waiver right for intentional productions to government agencies. The Advisory Committee Notes to Rule 502 expressly state that the rule "does not provide a basis for a court to enable parties to agree to a selective waiver of the privilege" in the government-investigation context.
In the litigation context, a court order under Rule 502(d) can provide that disclosure of privileged materials in connection with federal litigation does not constitute a waiver in any other federal or state proceeding. However, this protection is available only in the context of litigation — it is entered as a court order in a pending case. In the present context, where there is no pending litigation but rather a regulatory investigation, a Rule 502(d) order is not available. A confidentiality agreement with the SEC Staff (sometimes informally referred to as a "502(d)-type agreement") may provide some contractual protection but does not carry the force of a court order and may not be binding on third parties.
The practical upshot of this analysis is clear: because the selective-waiver doctrine is not recognized in the Eleventh Circuit, VHG must not voluntarily produce any materials that are protected by the attorney-client privilege or the work-product doctrine. If VHG were to produce privileged materials to the SEC, private plaintiffs in any future securities class action or derivative suit could argue that VHG waived the privilege over those materials — and potentially over all related privileged communications — by making the voluntary production. This is why our recommended phased production strategy is limited exclusively to non-privileged factual materials.
D. Practical Privilege-Protection Measures
Given the foregoing analysis, Calderwood & Harkness recommends that the following practical measures be implemented to protect VHG's privileges throughout the production process:
Privilege Log. Calderwood & Harkness is maintaining a detailed privilege log identifying all documents withheld from production on the basis of attorney-client privilege or work-product protection. As of the most recent review cycle, 4,218 documents have been logged. The privilege log is being prepared by Associate Steven Hollander and Senior Associate Liam Donahue and will be finalized prior to any production to the SEC Staff. The log will identify, for each withheld document, the date, author, recipients, general subject matter, and the specific privilege basis for withholding.
Two-Tier Review Process. All documents identified for potential production to the SEC will be subject to a two-tier review process. The first tier consists of document-by-document review by trained reviewers on Triton's hosted platform, applying Calderwood & Harkness's privilege criteria (which have been memorialized in a detailed review protocol and coding manual). The second tier consists of a quality-control review by Calderwood & Harkness attorneys, who will personally review any document flagged as potentially privileged during first-level review, as well as a random sample of documents coded as non-privileged, before any production is made. No documents will be produced to the SEC Staff without completion of this two-tier process.
Confidentiality Agreement. Calderwood & Harkness recommends that, prior to any production, VHG request that the SEC Division of Enforcement Staff enter into a written confidentiality agreement governing the use and disclosure of voluntarily produced materials. The agreement should provide, at a minimum, that the SEC Staff will treat the produced materials as confidential, will not disclose them to third parties (including other government agencies) without VHG's consent or a court order, and will return or destroy the materials upon the conclusion of the inquiry. While such an agreement does not constitute a complete protection against waiver arguments by third parties, it provides a contractual basis for resisting disclosure and may be persuasive to a court evaluating waiver issues.
Protective Order in Private Litigation. If private securities litigation materializes — whether in the form of a class action or derivative suit — VHG should promptly seek a protective order or confidentiality stipulation providing that any materials produced to the SEC on a voluntary basis are not thereby made available to private litigants. While the effectiveness of such an order will depend on the presiding court's view of the selective-waiver doctrine, seeking such protection is a prudent prophylactic measure.
Production Cover Letters. Each production to the SEC Staff should be accompanied by a cover letter that: (i) identifies the production as voluntary; (ii) expressly states that the production does not constitute a waiver of any applicable privilege or protection, including the attorney-client privilege and the work-product doctrine; (iii) reserves all rights with respect to any documents inadvertently produced; and (iv) references the confidentiality agreement between VHG and the SEC Staff. The cover letter should be labeled "VOLUNTARY — NO WAIVER OF PRIVILEGE" and should include robust reservation-of-rights language.
Segregation of Privileged Materials. Within Calderwood & Harkness's document management and production workflows, and within Triton's hosted review platform, all attorney-client communications and work product must be segregated from underlying factual documents. Privileged materials should be housed in a separate, access-restricted workspace on the review platform, and production sets should be drawn exclusively from the non-privileged document population. This physical and electronic segregation reduces the risk of inadvertent inclusion of privileged materials in a production set.
V. Coordination with Westlake Burris & Holt LLP
Westlake Burris & Holt LLP (lead partner Irene Castellanos) is VHG's regular outside securities counsel and has been advising the Company on SEC disclosure obligations since the Form 8-K filing on August 14, 2023. Westlake Burris also advises VHG on its ongoing periodic reporting obligations, including the preparation of the pending amended Form 10-K for fiscal year 2022 and the pending amended Forms 10-Q for the first and second quarters of fiscal year 2023.
Calderwood & Harkness recommends that all communications with the SEC Staff in connection with File No. HO-14237 be jointly managed by Calderwood & Harkness (as investigation counsel) and Westlake Burris (as disclosure and securities counsel). This dual-counsel approach serves several important purposes:
Consistency of Message. VHG's engagement with the SEC will involve both the Division of Enforcement (which is conducting the Preliminary Inquiry) and, potentially, the Division of Corporation Finance (which may have questions or comments regarding VHG's restatement filings). It is essential that VHG's communications with both Divisions be consistent and that information provided to one Division does not conflict with or undermine positions taken with the other. Joint management by Calderwood & Harkness and Westlake Burris ensures a unified and coordinated approach.
Avoidance of Inadvertent Disclosure. If VHG's investigation counsel and securities counsel are communicating with the SEC independently and without coordination, there is an increased risk that one counsel will inadvertently disclose information or take a position that is prejudicial to VHG's interests. Joint management eliminates this risk.
Division of Responsibility. Calderwood & Harkness should take the lead on all interactions with the Division of Enforcement, including the voluntary production, any negotiations regarding the scope of the inquiry, and any eventual Wells process (if the matter progresses to that stage). Westlake Burris should take the lead on any restatement-related inquiries from the Division of Corporation Finance, including comment letters and review of the amended periodic filings. Both firms should be involved in any interaction that touches on both enforcement and disclosure matters.
Irene Castellanos should be included in all Audit Committee updates relating to the SEC inquiry and the voluntary-production strategy, so that she can advise on the disclosure implications of production decisions and ensure that VHG's public filings remain consistent with the information being provided to the SEC Staff.
VHG's pending amended Form 10-K for fiscal year 2022 and amended Forms 10-Q for the first and second quarters of fiscal year 2023 are anticipated to be filed upon completion of the internal investigation and the restatement process. The preparation of these filings should be coordinated among Westlake Burris, VHG management (particularly CFO Griffith), and HSA (Mr. Gentry). It is possible that the SEC Staff will seek to preview VHG's restatement figures before the amended filings are submitted, and VHG should be prepared for such a request. Any decision to share restatement figures with the Staff in advance of filing should be made in consultation with both outside counsel and with Audit Committee authorization.
VI. Coordination with VHG Management and General Counsel
VHG General Counsel Patricia Navarro plays an important role in the Company's legal operations and will necessarily be involved in the implementation of any voluntary-production strategy. Ms. Navarro should be informed of the Audit Committee's decisions regarding the production strategy to the extent necessary for operational implementation — for example, coordinating access to corporate records, facilitating communications with VHG information-technology personnel regarding document collection, and managing internal communications to relevant business units.
However, it is essential that the Audit Committee retain independent decision-making authority over the scope, timing, and content of any production to the SEC Staff. The Audit Committee, acting through independent outside counsel, is best positioned to make these decisions free from potential conflicts that may arise from management's involvement in the matters under investigation. While there is no indication at this time that Ms. Navarro is personally implicated in the issues under investigation, the investigation touches on the conduct of senior VHG executives, including the CEO and CFO, and the Audit Committee's independence is best preserved by maintaining clear lines of authority over the production process.
CFO Thomas Rhett Griffith and CEO Margaret "Meg" Calder should be consulted regarding the operational impact of document production on VHG's business operations. For example, production of certain financial records may require coordination with VHG's finance and accounting departments, and the timing of production should take into account any operational constraints. However, Mr. Griffith and Ms. Calder should not control production decisions, given that the investigation encompasses their respective certifications under SOX Section 302 and, more broadly, the adequacy of VHG's internal controls under their supervision.
The SOX Sections 302 and 404 implications of the voluntary production require careful consideration. Any voluntary production should be structured so as not to undermine the certification process for VHG's future periodic filings. In particular, information produced to the SEC Staff should not create the basis for an argument that VHG's CEO or CFO were aware of additional material issues that were not reflected in their certifications. This risk is mitigated by the fact that the recommended production is limited to non-privileged factual materials — it does not include legal analysis or conclusions that could be attributed to management.
VII. D&O Insurance Considerations
VHG maintains a directors' and officers' liability insurance program that is relevant to the SEC Preliminary Inquiry and any related proceedings. The current program includes the following coverages:
Primary D&O Policy. Issued by North Atlantic Indemnity Corp., Policy No. NAI-DOL-2023-004891, with a policy period of January 1, 2023 through December 31, 2023. The policy provides coverage of $25 million per claim and $50 million in the aggregate for the policy period. The policy includes Side A coverage (for individual directors and officers when the Company does not indemnify), Side B coverage (reimbursement to the Company for indemnification payments made to directors and officers), and Side C coverage (entity coverage for securities claims against the Company).
Side A DIC Policy. Issued by Ironbridge Specialty Insurance Ltd., with a limit of $15 million. This is a difference-in-conditions ("DIC") policy that provides coverage to individual directors and officers in situations where the primary D&O policy does not respond — for example, in the event of the Company's bankruptcy or a coverage dispute under the primary policy. Side A DIC coverage is generally considered the most protective form of D&O insurance for individual insureds.
The following considerations are relevant to the Audit Committee's voluntary-production strategy:
Favorable Carrier Perception. Voluntary cooperation with the SEC may be viewed favorably by D&O insurance carriers as a mitigation measure that demonstrates responsible corporate governance and may reduce the Company's ultimate exposure. Carriers generally prefer that insureds take proactive steps to manage and mitigate potential claims, rather than adopting an adversarial posture that could increase the cost and duration of regulatory proceedings.
Timely Notice. VHG should provide timely notice to North Atlantic Indemnity Corp. and Ironbridge Specialty Insurance Ltd. of the SEC Preliminary Inquiry as a potential claim or circumstance that may give rise to a claim under the respective policies. Most D&O policies require notice "as soon as practicable" after the insured becomes aware of a potential claim or circumstance, and failure to provide timely notice could result in a denial of coverage. Calderwood & Harkness recommends that written notice be provided to both carriers immediately.
Avoidance of Overcoooperation Arguments. The voluntary-production strategy should be structured to avoid any argument by D&O carriers that VHG waived available defenses or expanded its exposure through excessive or unnecessary cooperation with the SEC. While this risk is relatively low — courts generally do not penalize insureds for cooperating with government investigators — VHG should ensure that its production is measured and strategic, rather than overbroad. The phased approach recommended in this memorandum is designed, in part, to address this concern.
Coverage Counsel. Calderwood & Harkness recommends that the Audit Committee consult with insurance coverage counsel — if separate from VHG's existing legal advisors — regarding the notice obligations, coverage implications, and any other policy-related issues arising from the SEC Preliminary Inquiry. Specialized coverage counsel can provide guidance on the specific terms and conditions of VHG's D&O policies and can assist in managing the carrier relationship throughout the pendency of the matter.
VIII. Impact on Ongoing Investigation
The internal investigation is in an active phase, and the timing and sequencing of any voluntary production must be carefully calibrated to avoid compromising the investigation's fact-gathering process. Several considerations are relevant.
Witness Interview Sequencing. The investigation is currently in its active witness-interview phase. Initial interviews of the three Subjects — Garrett W. Daskine, Nicole Prescott, and Ryan Mateo Serrano — are scheduled for September 27, October 4, and October 11, 2023, respectively, or have recently been conducted. Additional interviews of non-subject witnesses are ongoing. It is critical that no documents related to a particular witness be produced to the SEC Staff before that witness has been interviewed by Calderwood & Harkness. If documents are produced before an interview, the SEC Staff may share information derived from those documents with the witness or the witness's counsel (particularly if the witness is also cooperating with the SEC), which could taint the interview, allow the witness to tailor testimony, and undermine the integrity of the investigation. The phased production timeline is designed to address this concern: Phase 2, which encompasses the broader custodial document production, is timed to follow the completion of key witness interviews.
Protection of Interview Materials. Calderwood & Harkness recommends that no production of interview-related materials — including interview memoranda, interview notes, interview outlines, and any summaries of witness testimony — be made at any point. These materials constitute core attorney work product reflecting the mental impressions, conclusions, and litigation strategies of Calderwood & Harkness attorneys, and they are entitled to the highest level of work-product protection. Production of these materials would also risk providing the SEC Staff with a roadmap of the investigation's analytical framework and conclusions, which could prejudice VHG's position in any enforcement proceeding.
Ongoing Forensic Analysis. Crestline Forensic Advisory LLC's forensic accounting analysis is ongoing, and the quantification of the revenue overstatement ($26.4 million aggregate across Q3 2022 through Q2 2023) and expense irregularities ($1.83 million) remains preliminary and subject to refinement. Production of Crestline's reports, working papers, draft analyses, or communications with Calderwood & Harkness should be avoided entirely to preserve the Kovel protections discussed in Section IV.B. The SEC Staff may conduct its own forensic analysis based on the underlying financial records produced in Phase 1 and Phase 2, but it should not have access to Crestline's privileged analysis. Producing Crestline's materials would not only waive the work-product protection over those specific documents but could also be argued to constitute a subject-matter waiver extending to related privileged communications between Crestline and Calderwood & Harkness.
Parallel Track Management. The investigation and the voluntary-production process should be managed as parallel but distinct tracks. Calderwood & Harkness will maintain separate internal workflows for the investigation and the SEC production to ensure that production decisions do not inadvertently affect the investigation's analytical process or vice versa. Regular coordination between the investigation team and the production team will be maintained to flag any potential conflicts or sequencing issues.
IX. Recommended Timeline and Action Items
Based on the foregoing analysis, Calderwood & Harkness recommends the following timeline and action items:
1.  Immediate (Week of September 18, 2023). Present this memorandum to the Audit Committee for discussion at its next executive session. Seek the Audit Committee's authorization to pursue the phased voluntary-production strategy outlined herein. Confer with Irene Castellanos at Westlake Burris & Holt LLP to align on the SEC engagement strategy, confirm the division of responsibilities between the two firms, and coordinate on the initial outreach to the SEC Division of Enforcement Staff.
2.  By September 29, 2023. Draft and negotiate a confidentiality agreement with the SEC Division of Enforcement Staff governing the use, handling, and disclosure of materials voluntarily produced by VHG. Prepare the Phase 1 production set, consisting of publicly available materials (SEC filings, press releases, and other publicly disclosed documents) and non-privileged corporate and financial records already identified in the investigation (VCR financial records, timeshare sales records, vendor invoices, purchase orders, corporate formation records for VCR and identified shell entities, and organizational charts). Complete a privilege review of Phase 1 materials.
3.  By October 15, 2023. Complete the Phase 1 production to the SEC Division of Enforcement Staff. Accompany the production with a cover letter including express privilege-reservation language, a reference to the confidentiality agreement, and a statement that the production is voluntary and does not constitute a waiver of any