Delaware Supreme Court Addresses Electronic Discovery Issues and DGCL Section 225 Claims

In Genger v. TR Investors, LLC, No. 592, 2010 (Del. Supr., July 18, 2011), read opinion here, the Delaware Supreme Court addresses electronic discovery issues and contested elections for directors, in a 45-page opinion that warrants close examination by those engaged in business litigation. This short post will highlight a few “bullet points” until a more fulsome analysis can be provided. A few of the prior Court of Chancery opinions in this case were highlighted here.

Background

  • This appeal arises out of a contest for control of Trans-Resources, Inc. and proceedings under DGCL Section 225 to determine the valid membership on the board of directors.
  • The Court of Chancery imposed sanctions of $3.2 million and $750,000 for spoliation of evidence in violation of a status quo order prohibiting the destruction of certain electronically stored documents relating to the Section 225 case
  • Other issues were raised on appeal regarding the merits of the Section 225 issues.

Issues on Appeal

Three issues on appeal related to : (i) whether spoliation occurred and if so, whether the sanctions were too high; (ii) whether the trial court erred on the merits of the Section 225 decision; and (iii) whether the trial court had personal jurisdiction to adjudicate the beneficial ownership of parties not properly before the trial court.

Key Rulings

A.) Spoliation of ESI

  • The standard of appellate review for discovery sanctions is “abuse of discretion” and none was found here by the Delaware Supreme Court.
  • Every Delaware litigator must read the Supreme Court’s substantial discussion of “unallocated space” as those words are used in connection with a computer’s operating system, and how that interfaces with a duty to preserve ESI. See, e.g., footnotes 39 and 40 and accompanying text.
  • Perhaps to allay fears of those concerned about the scope of a general duty to “preserve unallocated space”, Delaware’s High Court explained that:

“We do not read the Court of Chancery’s Spoliation Opinion to hold that as a matter of routine document-retention procedures, a computer hard drive’s unallocated free space must always be preserved. The trial court rested its spoliation and contempt findings on more specific and narrow factual grounds—that Genger, despite knowing he had a duty to preserve documents, intentionally took affirmative actions to destroy several relevant documents on his work computer. These actions prevented the Trump Group from recovering those deleted documents for use in the Section 225…. “

  • The Court added that:

“Our affirmance should not be viewed as extending beyond the confines of this setting— i.e., where a party is found intentionally to have taken affirmative steps to destroy or conceal information to prevent its discovery at a time that party is under an affirmative obligation to preserve that information. It is noteworthy that there is no evidence or claim in this case, that the use of the SecureClean program fell within Trans-Resources’ ordinary and routine data retention and deletion procedures.”

  • The Court noted in footnote 49 that the result in this case may have been different if the challenged conduct, such as using the SecureClean wiping software, was part of the company’s routine data retention policy.

B.) Scope of DGCL Section 225 Proceedings

  • The Court discussed the purpose of a proceeding pursuant to DGCL Section 225 as one intended “to provide a quick method for review of the corporate election process to prevent a Delaware corporation from being immobilized by controversies about whether a given officer or director is properly holding office. A Section 225 proceeding is summary in character, and its scope is limited to determining those issues that pertain to the validity of actions to elect or remove a director.” (footnotes omitted.)
  • A Section 225 proceeding, the Court explained, is in the nature of an in rem proceeding, and not an in personam proceeding.
  • The Court of Chancery’s scope of adjudication in a Section 225 proceeding is limited to “determining the corporation’s de jure directors and officers.” Only in a plenary action in a court with in personam jurisdiction over any necessary parties can ultimate relief, such as rescission or money damages be awarded.
  • See footnotes 94 to 98 and accompanying text for a discussion of the difference between in rem and in personam, jurisdiction and the corresponding limitations on the court’s ability to adjudicate or grant relief.