The Delaware Court of Chancery recently had occasion to describe the important norms that lawyers are expected to follow, and the minimum standards of attorney conduct imposed on both Delaware and non-Delaware counsel who enter their appearance in a matter before the Court. See Lendus, LLC v. Goede, C.A. 2018-0233-SG (Del. Ch. Dec. 10, 2018).

This case is noteworthy for a few reasons. In addition to the recitation of basic principles on which the practice of law is based, the decision provides citations to authority and quotable excerpts for use in a brief when issues of attorney conduct arise. The behavior involved in this case was egregious, and it serves as a reminder of the outer limits of conduct that will not be tolerated, for example during depositions and during other interactions among counsel and clients.

This case also serves as a reminder that in Delaware the trial courts do not view themselves–in the first instance–as enforcers of all the rules of professional conduct for lawyers–unless a violation interferes with the administration of justice in the litigation–though they may, as in this case, refer the matter to the Office of Disciplinary Counsel, which is an arm of the Delaware Supreme Court, or the analogous agency in other states when the conduct of an non-Delaware attorney is an issue.

The court begins the opinion by citing another case that exhorts attorneys to: “think twice, three times, four times, perhaps even more” before seeking sanctions against other attorneys for inappropriate conduct. Both parties in this case filed cross-motions for sanctions, but the court found only one of them to be warranted.

The court emphasizes in its introduction that it derives no pleasure in criticizing others because judges understand the “pressures and frustrations of practice.” The court also referred to members of the bench as not being above reproach, with the following phrase: “None of our own eyes being timber-free….” See page 2.

In sum, without dwelling on the embarrassing details, if an attorney’s conduct is truly egregious enough, this decision provides the authority and reasoning to address the problem, especially if that attorney is admitted pro hac vice.

Compare: Recent Chancery decision highlighted on these pages that explained why it was important for lawyers to follow the rules applicable to discovery, as well as abiding by related deadlines.

The Court of Chancery recently explained the public policy reasons for enforcing discovery rules and scheduling deadlines, as well as explaining the types of penalties available for failure to comply with discovery obligations or deadlines.

The key takeaways from the decision in Terramar Retail Centers, LLC v. Marion #2-Seaport Trust U/A/D June 21, 2002, C.A. No. 12875-VCL (Del. Ch. Dec. 4, 2018), include the following:

• The court explains the policy reasons for the need to enforce the rules of discovery and scheduling deadlines. See pages 19 to 20.
• The court describes the types of penalties that are available for the court to impose for a party’s failure to comply with discovery rules or deadlines. See pages 21 to 25. See generally, Rule 37(b)(2).
• The court explained that Delaware courts generally will strictly adhere to discovery deadlines. See footnote 48.

There are multiple Delaware decisions highlighted on these pages regarding the topic addressed in this decision. See, e.g., here and here.

One of the more common forms of commercial litigation continues to be disputes regarding earn-out formulas for post-closing payments due if certain milestones are met.  The Delaware Court of Chancery decision in Fortis Advisors LLC v. Stora Enso AB, C.A. No. 12291-VCS (Del. Ch. Aug. 10, 2018), involved a motion to dismiss earn-out claims. 

Background:

The amended complaint alleged that there were two post-closing payments due upon the achievement of designated milestones (the “Milestone Payments”).  The Milestone Payments were based on certain provisions in the merger agreement that called for various actions to be completed, and if they were completed, then substantial additional payments would be due to the seller.  Exhibits to the merger agreement provided the details and deadlines regarding the Milestone Payments.  The first Milestone Payment required a construction of a plant and the completion of the production of certain products.  The second Milestone Payment required the construction of a separate plant and the production of certain products at a specific price by a specific deadline.

The claim for breach of contract alleged that the buyer did not comply with the business plan that was a part of the Merger Agreement and that the actions required to be taken in order for the Milestone Payments to be due, were not performed.

Legal Analysis:

The usefulness of this decision is primarily based on the court’s analysis of the standard under Rule 12(b)(6) for a motion to dismiss, as opposed to its analysis of specific terms of the merger agreement that might be replicated in other merger agreements with earn-out provisions such that the court’s analysis of merger terms would be applicable in other cases.

Rather, the court explained that in a motion to dismiss, the movant can only prevail if its proffered interpretation of the merger agreement is the only reasonably interpretation.  In this case, however, the interpretations of the merger agreement by each of the parties were both reasonable, and therefore, as a procedural matter the court found that granting the motion to dismiss was inappropriate.

The court explained in detail why the interpretation of each of the parties was reasonable because of an ambiguity in the provisions of the agreements on which the motion to dismiss was based.  Because the court determined that additional discovery is needed and a fuller record would need to be examined at trial in order to determine the intent of the parties in connection with the terms in the merger agreement that were disputed, a determination prior to trial about whether or not there was a breach of the agreement regarding the Milestone Payments was premature.

A recent decision of the Delaware Court of Chancery provides a cautionary tale for corporate and commercial litigation practitioners about the importance of complying with contractual notice deadlines. In PR Acquisitions, LLC v. Midland Funding LLC, C.A. No 2017-0465-TMR (Del. Ch. April 30, 2018), the court barred a claim made for funds held in escrow because the applicable agreement required notice to be sent to the seller, but instead notice was mistakenly sent to the escrow agent. Although actual notice by phone was given to the seller prior to the deadline, the court explained why that did not satisfy the manner of notice required by the deadline provided for in the agreement.

Brief Factual Background

The basis for the dispute between the parties was the sale of consumer debt accounts. The purchase and escrow agreements for the transaction required that claims for funds held in escrow based, for example, on allegations of breach of representations and warranties, be sent to an address for the seller provided in the agreement. The seller’s liability for those claims was limited to the $6 million held in escrow. The court found that no written request or documentation of a claim was sent to the seller by the deadline. The court described how the buyer’s general counsel gave the notice letter to his assistant, but according to the opinion, the letter was only sent to the escrow agent and not the seller directly as required by the agreement. Despite this “clerical error”, the seller was notified by phone of the claim by the deadline.

Court’s Analysis

The court rejected the buyer’s argument that actual notice to the seller by phone should suffice as substantial compliance with the deadline. Nor was the court persuaded by the argument that the agreement did not require “strict compliance” with the notice provision.

Strict Compliance Required for Notice Provisions for Contract Claims

Notably, the court supported its holding in large part by distinguishing several cases that the buyer relied on for its failed argument that “actual notice” should suffice as “substantial compliance” with a contractual notice provision.  The cases that the court distinguishes are cited at footnotes 71, 75, 79, and 88, and accompanying text. None of those cases that the buyer relied on allowed for substantial compliance when the agreement specified a particular method of delivery to a specific party by a fixed deadline–as a condition for claims to an escrow fund. The buyer offered “no reason other than its own error for its failure to comply with the notice provision in the escrow agreement.” Thus, the court granted summary judgment to the seller and barred the claims.

Liability Limited to Escrow Funds

The court also dismissed claims of fraud that would have circumvented the buyer’s claim that the seller’s limitation of liability should not be confined to the funds held in escrow. The buyer’s argument on this point was based on the decision in Abry Partners V, L.P. v. F & W Acquisitions LLC, 891 A.2d 1032, 1050 (Del. Ch. 2006). The court explained that Abry did not help the buyer in this case. The Abry opinion, authored by the current Chief Justice of Delaware when he was a Vice Chancellor, announced that the “public policy of Delaware prohibits a seller from insulating itself from the possibility that the sale would be rescinded if the buyer can show either: 1) that the seller knew that the Company’s contractual representations and warranties were false; or 2) that the seller itself lied to the buyer about a contractual representation and warranty.” 891 A.2d at 1064.

In order to make the showing explained in Abry, the buyer must “prove that the seller acted with an illicit state of mind, in the sense the seller knew that the representation was false and communicated it to the buyer. The buyer may not escape the contractual limitations on liability by attempting to show that the seller acted in a reckless, grossly negligent, or negligent manner.” Id. This statement of the law needs to be contrasted with the limitations of liability in an agreement that, if carefully drafted, will be enforced in Delaware to limit liability of the parties for representations and warranties to only that which is explicitly stated in the agreements between the parties.

The Delaware Court of Chancery recently issued a decision that should be required reading for any lawyer that practices before it, whether they be Delaware counsel or non-Delaware counsel admitted pro hac vice, and whether they engage in corporate and commercial litigation or other types of cases before the court.  In the matter styled: In re Examworks Group, Inc. Stockholder Appraisal Litigation, Cons. C.A. No. 12688-VCL (Del. Ch. Feb. 21, 2018), the court explained in a heavily footnoted and scholarly analysis how serious the court regards scheduling orders, pretrial deadlines, discovery obligations, and the importance of properly-prepared and timely-submitted privilege logs.

For the last 13 or so years that this blog has highlighted key decisions from the Delaware Court of Chancery, the purpose has been to provide noteworthy excerpts from important decisions that are of practical application to lawyers who toil in the vineyards of the Delaware courts.

I have intentionally avoided using names of counsel involved in this case, and have focused on the “nuggets” of the court’s ruling that a busy litigator would need to know. I provide bullet points of the most noteworthy statements of law and the principles emphasized in this decision that should be memorized by any practitioner in the Court of Chancery who seeks to avoid the types of penalties that were imposed in this case for the failure to meet deadlines and the failure to fulfill various discovery obligations.

• The court begins its analysis with the doctrinal underpinning and the public policy rationale for the importance of candor and fair dealing during the discovery process in order to reduce the element of surprise at trial and to insure that a trial decision is the result of a disinterested search for truth from all available evidence.
• The court reminded parties that scheduling orders are “not merely guidelines but have the same full force and effect as any other court order.” See footnote 39.
• The court bluntly underscored the rule that a “party that disregards the provisions in a scheduling order that govern discovery is engaging in discovery abuse.”
• The court remonstrated that: “Discovery abuse has no place in Delaware courts, and the protection of litigants, the public and the bar demands nothing less than Delaware trial courts be diligent and promptly and effectively take corrective action to secure the just, speedy and inexpensive determination of every proceeding before them.” See footnote 41.
• Importantly, the court interpreted Court of Chancery Rule 37(b)(2), based on Delaware Supreme Court decisions, as generally requiring the mandatory award of fees for discovery abuses unless the failure to comply with discovery obligations was “substantially justified.” See Slip Op. at 15-17.
• One of the several problems that the court addressed was that the production of documents came many weeks after the discovery deadline, and well after the depositions were taken. The court noted that the offending party neither requested an extension of the deadline from the court nor sought an extension by agreement with the other parties in the case.
• The court rejected with emphasis the argument that because the receiving party did not “nag” or press for the compliance with the discovery deadline, that there should be no penalty for non-compliance. The court refused to allow the offending party to “shift the obligation for compliance” to the other party.

Two Levels of Consequences for Missed Discovery Deadlines:

• The court described the first level of consequence for misconduct involved as including the actual prejudice that resulted from the belated production of documents that the company could have used in discovery for depositions and with their experts.
• The second level of prejudice involves the “degradation of the litigation process.” The court explained that in order for the litigation system to function, the parties must follow the rules.
• The court’s reasoning on this point deserves a block quote:

“If participants suspect that others are not following the rules, then the process deteriorates. People who follow the rules feel like chumps when others seem to be cutting corners or breaking rules and getting ahead. People who otherwise might not think of pushing limits become more aggressive if they think everyone else is doing it. It is this broader, systemic interest that the Delaware Supreme Court seems to have had in mind when stressing the courts must address discovery abuse not only to protect litigants, but also to protect the public and the bar.” See footnote 57.

• The foregoing rationale is one of the best articulations of the need for the courts to enforce discovery obligations so that those who don’t follow the rules gain some advantage, and those who do follow the rules feel, in the words of the court, “like chumps.”

Penalties Imposed

• The penalty that the court imposed for the substantially tardy production of documents was that the offending party that missed the production deadline was required to produce their witnesses again for deposition and pay for the cost of the depositions, or as the court described it, “bear all expenses associated with their late production of documents and the remedy imposed by this decision.” The court listed in an extended description the types of additional efforts that would be included in the fees that the offending party would be responsible for.

Privilege Logs:

• Although many prior Chancery decisions have described in detail the importance of privilege logs and the specific components required to be included in privilege logs, as well as the penalty of waiver if the contents of the privilege logs are not sufficient, this opinion provides an additional reminder for those who might not have gotten the message in prior decisions.

For example, the court emphasized that:

• Producing a timely privilege log is part of a party’s obligation when asserting privilege. The privilege logs must be produced by the same deadline as the date for documents to be produced.
• The burden of establishing privilege rests on the party asserting it. See footnote 61.
• The court emphasized that: “An insufficiently supported claim of privilege can result in waiver.” See footnote 63 for cases supporting that well-established statement of Delaware law. Those cited cases also describe the detailed contents that a privilege log must include in order to avoid waiver.
• The court explained that: “Just as you can’t hit what you can’t see, you can’t challenge what the other side has hasn’t described.” That is, the privilege log must provide sufficient information to enable the adversary to “assess the privilege claim an decide whether to mount a challenge.”
• The court reiterated Delaware law that: “Producing a privilege log after the discovery cutoff prevents the opposing party from evaluating the log, making timely challenges, and using the resulting documents in discovery. Producing a post-cutoff log has the same effect as not producing a log, which is the same thing as not providing any support for a claim of privilege. Improperly asserting a claim of privilege is no claim of privilege at all.” See footnote 57 (cases collected).

Conclusion:

• In sum, the court gave the party who did not receive the documents on time leave to conduct supplemental depositions to explore any materials produced after the depositions were taken, or as a result of the penalties imposed by this decision. The court imposed on the offending party the cost of the supplemental depositions of its own representatives, as well as the additional costs of additional efforts incurred as a result of the late production, as more specifically described in the opinion.
• This opinion should be required reading for anyone who practices before the Delaware Court of Chancery, especially out of state counsel who are admitted pro hac vice, in order to “bring home” the importance that the court places on timely compliance with discovery deadlines and discovery obligations, as well as the severe and costly penalties that the court will impose, on a mandatory basis, if those discovery deadlines and obligations are not complied with properly.

POSTSCRIPT: Several years ago, a Delaware Supreme Court opinion was highlighted on these pages, addressing a related issue of what penalties are appropriate for missing pretrial deadlines. See Christian v. Counseling Resource Associates, Inc., Del. Supr., No.  460, 2011 (Jan. 2, 2013) (revised March 26, 2013).