Proportionate Liability for Diversion of a Corporate Opportunity

Proportionate Liability for Diversion of a Corporate Opportunity

By: Leo K. Barnes Jr.*

*Mr. Barnes, a member of Barnes & Barnes, P.C. in Melville, practices commercial litigation in Melville and can be reached at LKB@BARNESPC.COM

Whoever coined the phrase “partners are only good for square dancing” must have been a defendant in a breach of fiduciary duty claim.  One can understand some of the cynicism, as the fiduciary duty imposed upon directors and officers has been described as a “stringent,” “undivided and undiluted loyalty,” an “inflexible rule of fidelity” (Birnbaum v Birnbaum, 73 N.Y.2d 461, 466 (1989)) which is enforced with “uncompromising rigidity” (Meinhard v Salmon, 249 N.Y. 458, 464 (1928)).

One aspect of the duty owed is an obligation not to “divert and exploit for [his or her] own benefit any opportunity that should be deemed an asset of the corporation” (Commodities Research Unit [Holdings] v Chemical Week Assoc., 174 A.D.2d 476, 477, 571 N.Y.S.2d 253 (1st Dep’t 1991); see Owen v Hamilton, 44 A.D.3d 452, 457 (n 3), 843 N.Y.S.2d 298 (1st Dep’t 2007); Pangia & Co., CPAs v Diker, 291 A.D.2d 539, 540, 741 N.Y.S.2d 242 (2nd Dep’t 2002).

Furthermore, directors and officers of corporations, in the performance of their duties, stand in a fiduciary relationship to their corporation []. As such, they owe the corporation their undivided loyalty and “may not assume and engage in the promotion of personal interests which are incompatible with the superior interests of their corporation”

Inasmuch as there may be a natural tendency to analyze the future without a partner, as with any relationship, an ounce of prevention is worth a pound of cure, and it is best to confirm that the prior relationship has been properly resolved before proceeding with the next venture.  Failure to do so may get very expensive.

For example, in A.G. Homes, LLC v Gerstein, 52 A.D.3d 546, 860 N.Y.S.2d 582 (2nd Dep’t 2008) Plaintiff and Defendant entered into a joint venture (AG Homes) for the purpose of purchasing real property, and AG Homes purchased 521 DeKalb Avenue in Brooklyn.  Plaintiff and AG Homes allege that in order to obtain more favorable financing, the deed to the property was transferred to the Defendant, who promised to re-convey the property to AG Homes. However, the plaintiffs allege that the defendant refused to re-convey the property after obtaining financing. The plaintiffs sought the imposition of a constructive trust on 521 DeKalb.

Defendant’s answer asserted a counterclaim to impose a constructive trust, to the extent of a 50% ownership interest, on another piece of property known as 513 DeKalb Avenue. The defendant alleged that plaintiff Azaria purchased that parcel without his knowledge after initially expressing a lack of interest in it.  The Second Department reversed that aspect of the Supreme Court Order which denied defendant’s motion for summary judgment on his counterclaim to impose a constructive trust on 513 DeKalb, observing:

Azaria and the defendant, as parties to the joint venture in AG Homes, owed each other a duty of undivided loyalty (see Meinhard v Salmon, 249 NY 458 [1928]). The defendant demonstrated that in May 2004 he and Azaria were approached by Sixto De Los Santos with an offer to purchase 513 DeKalb. The defendant wished to go through with the transaction, but Azaria was not interested because he did not believe it would be a good deal. Approximately one month later, on June 24, 2004, a contract of sale for 513 DeKalb was entered into between Victor Aloyo, as seller, and AG Homes and Sixto De Los Santos, as purchasers. On that very same day, Sixto De Los Santos assigned his rights under the contract of sale to Azaria for an agreed fee of $30,000, and AG Homes assigned its interest in the property to Azaria for $10. The assignments were made without the defendant’s knowledge and resulted in Azaria obtaining 100% of the property’s title.

The record demonstrates, prima facie, that at the time Azaria entered into the contract of sale for 513 DeKalb, he owed a fiduciary duty to the defendant and breached it by concealing his dealings and failing to disclose pertinent information to the defendant.

The Court rejected Azaria’s argument that no fiduciary duty was owed as a result of his claimed dissolution of the partnership because AG Homes was not properly dissolved and was still an operational entity at the time (noting that AG Homes had contracted to purchase 513 DeKalb and executed a written assignment of its interest in the property to Azaria in exchange for consideration of $10).

Accordingly, the Second Department observed Defendant was entitled to a constructive trust to the extent of a 50% ownership interest in 513 DeKalb subject to “expenses incurred by Azaria toward the purchase price of the property, losses potentially incurred by him since the purchase, the cost of the property’s maintenance and upkeep by him, and any other relevant deductions”.

More recently, the Second Department confirmed the potential for proportionate liability in a usurped opportunity equal to a prior vested interest in Volodarsky v Moonlight Ambulette Serv., Inc., 122 A.D.3d 619, 996 N.Y.S.2d 121 (2nd Dep’t 2014).  There, Plaintiff (who held a 29.5% interest in Defendant Moonlight Ambulette Services) commenced an action “alleging that the other owners of Moonlight wrongfully wound down the corporation and formed other corporations to conduct Moonlight’s business so as to deprive him of his ownership interest.” Plaintiff sought to impose a constructive trust on 29.5% of the shares of certain defendant corporations for the benefit of the plaintiff individually.   On appeal, the Second Department affirmed that aspect of Defendant’s cross motion seeking summary judgment dismissing the cause of action to impose a constructive trust on 29.5% of the shares of certain defendant corporations for the benefit of the plaintiff individually – the same percentage of interest that the Plaintiff possessed in the parties’ prior relationship.  See also Young v. Chiu, 49 A.D.3d 535, 853 N.Y.S.2d 575 (2nd Dep’t 2008):

Here, the defendant Cathy Chiu diverted a corporate opportunity in breach of her fiduciary duty as an officer of YNC Ltd., and CNY Ltd., by secretly establishing a competing entity and acquiring the property at issue in action No. 2, in which YNC Ltd., and CNY Ltd., had a “tangible expectancy” (Adirondack Capital Mgt., Inc. v Ruberti, Girvin & Ferlazzo, P.C., 43 AD3d 1211, 1215 [2007], lv denied 9 NY3d 817 [2008]; see American Baptist Churches of Metro. N.Y. v Galloway, 271 AD2d 92, 99 [2000]). Accordingly, the court properly directed the transfer of 50% of the property at issue in action No. 2 to the plaintiff, a 50% shareholder in both YNC Ltd., and CNY Ltd. [emphasis added].

When the music stops and the square dance is complete, a usurped corporate opportunity may result in an award, to the jilted partner, equal to his or her proportionate interest in the prior entity.

The Standard For, and New Guidelines to Govern, Securing Non-Party Discovery

By: Leo K. Barnes Jr.*

*Mr. Barnes, a member of Barnes & Barnes, P.C. in Melville,
practices commercial litigation and can be reached at lkb@barnespc.com

 

A recent decision from the Court of Appeals clarifying the standard to obtain non-party discovery, coupled with proposed new guidelines for obtaining electronically stored information (“ESI”) from non-parties in Commercial Division cases, provide the Commercial Division practitioner with an easier avenue to obtain non-party disclosure for matters pending within the Second Department, and offer concrete guidelines for securing ESI from non-parties.

 

Non-Party Discovery Does Not Require Counsel to Establish

That the Material Cannot Be Secured from Other Sources

In early April 2014, the Court of Appeals issued an opinion clarifying the standard for obtaining discovery from non-parties.   According to the decision in Kapon v. Koch, 2014 WL 1315590 (2014), Petitioner, the chief executive officer of wine retailer and auctioneer, commenced a special proceeding to quash deposition subpoenas served on them by a wine collector against a seller who allegedly sold the collector 149 bottles of counterfeit wine through the Petitioners’ auctions and private sales.  The Petitioners asserted that the subpoenas were defective, arguing that CPLR 3101(a) contained distinctions between the standard warranting disclosure from parties and nonparties.

 

After highlighting the legislative history concerning non-party discovery and tracing the interpreting common law, the Court of Appeals noted that a distinction existed in the manner that Courts interpreted non-party discovery standards.  For example, the First and Fourth Departments of the Appellate Division “adopted a ‘material and necessary’ standard, i.e., that the requested discovery is relevant to the prosecution or defense of an action.”  In contrast, and imposing a heightened burden upon one seeking non-party discovery in the Second and Third Departments, those Departments required the proponent “to meet the ‘material and necessary’ standard and more. Specifically, in those Departments, a motion to quash a subpoena will be granted if “the party issuing the subpoena has failed to show that the disclosure sought cannot be obtained from sources other than the nonparty, and properly denied when the party has shown that the evidence cannot be obtained from other sources.”

 

The Court of Appeals adopted the First and Third Department’s jurisprudence on this issue, rejecting the Second and Third Department’s interpretation that non-party discovery required a demonstration that the material sought cannot be obtained from other sources:

 

We conclude that the “material and necessary” standard adopted by the First and Fourth Departments is the appropriate one and is in keeping with this State’s policy of liberal discovery. The words “material and necessary” as used in section 3101 must “be interpreted liberally to require disclosure, upon request, of any facts bearing on the controversy which will assist preparation for trial by sharpening the issues and reducing delay and prolixity” (Allen v. Crowell–Collier Publishing Co., 21 N.Y.2d 403, 406 [1968] ). Section 3101(a)(4) imposes no requirement that the subpoenaing party demonstrate that it cannot obtain the requested disclosure from any other source. Thus, so long as the disclosure sought is relevant to the prosecution or defense of an action, it must be provided by the nonparty [underlining added].

 
New Guidelines for Securing ESI
From Non-Parties in Commercial Decision Cases

 

In that same vein, a few days after the Court of Appeals issued the Kapon opinion, the Commercial Division Advisory Council proposed a new Commercial Division Rule 34, providing draft guidelines to govern efforts to obtain ESI from non-parties. Of course, CPLR 3111 and CPLR 3122(d) each provide that a non-party’s reasonable production expenses shall be defrayed by the party seeking discovery. However, there is limited interpretation of the same.   These proposed guidelines resolve the issue and provide, inter alia, as follows:

  • A nonparty receiving a request for the discovery of ESI is encouraged to promptly issue a preservation notice/litigation hold concerning the requested ESI. Until the scope of the request has been determined by agreement or court order, the preservation notice/litigation hold should reasonably cover the requested ESI.
  • A party seeking ESI discovery from a nonparty should reasonably limit its discovery requests, taking into consideration the following proportionality factors: (1) the nature of the litigation; (2) the amount in controversy; (3) the expected importance of the requested ESI; (4) the availability of the ESI from another source, including a party; (4) the relative accessibility of the ESI; and (5) the expected burden and cost to the nonparty.
  • The requesting party and the nonparty should seek to resolve disputes through informal mechanisms and should initiate formal motion practice only as a last resort. The requesting party and the nonparty should meet and confer concerning the scope of the ESI discovery, the timing and form of production, ways to reduce the cost and burden of the ESI discovery (such as the use of advanced analytic software applications and other technologies that can screen for relevant and privileged ESI), and the requesting party’s defrayal of the non-party’s reasonable production expenses.

Most significantly, the final proposed guideline will serve to eliminate uncertainty concerning the scope of costs that the proponent will bear in order to obtain the non-party ESI.  Indeed, the scope of costs will provide the proponent with cause to pause in order to carefully evaluate the true value of the requested ESI in light of the fact that the proponent “shall defray” the non-party’s reasonable production expenses, which may include the following: (1) fees charged by outside counsel and e-discovery consultants; (2) the costs incurred in connection with the identification, preservation, collection, processing, hosting, use of advanced analytical software applications and other technologies, review for relevance and privilege, preparation of a privilege log (to the extent one is requested), and production; (3) the cost of disruption to the nonparty’s normal business operations to the extent such cost is quantifiable; and (4) other costs as may be identified by the nonparty.

These two developments concerning the standard for, and guidelines governing, efforts at obtaining non-party discovery provide the Commercial Division practitioner with a consistent statewide standard and corresponding certainty concerning the cost for obtaining ESI from a non-party.

 

The Scope of General Releases within Employee Separation Agreements

By: Leo K. Barnes Jr.*

*Mr. Barnes, a member of Barnes & Barnes, P.C. in Melville,

can be reached at LKB@BARNESPC.COM

 

Recently in WSP USA Corp. v. Marinello, 2013 WL 6704885 (S.D.N.Y. 2013), a  Southern District of New York decision analyzed whether a broad separation agreement and release executed upon an employee’s voluntary departure from his employment will bar claims made by the former employer.

According to the decision, plaintiff WSP USA Corp. (“WSP”) is an engineering consulting firm, and defendant John Marinello is a former employee who began employment with WSP in 2001, and worked in the company’s New York office through January 2013.  Unbeknownst to WSP, on or about November 29, 2012, defendant Marinello accepted an offer of employment from Syska Hennessy, a direct competitor of WSP, and signed a letter of employment with a January 31, 2013 start date.  It was alleged that Marinello did not give notice to WSP at the time he accepted the offer.

Thereafter, Marinello gave notice to WSP that his last day of work would be February 19th.  On February 28, 2013, the parties executed a Separation Agreement and General Release (the “Agreement”), which provided a payment of $26,500 to Marinello.  The Agreement contained specific provisions relating to protection of confidential information and separate releases by and between the parties.  With respect to confidential information, the Agreement provided that Marinello “will not directly or indirectly (without [WSP]’s prior written consent), use for himself or use for, or disclose to, any party other than [WSP], any Confidential Information.”  The Agreement further provided that to the extent Marinello is in possession of confidential information, he shall promptly deliver to WSP all items evidencing, representing, or otherwise relating to said confidential information.  The Agreement defined confidential information broadly and included “any data or information regarding the business of [WSP] that is not generally known to the public which has economic value, and which the company keeps confidential …”.  Separately, the Agreement included parallel general release provisions for both WSP and Marinello, that released “any and all claims, known and unknown … which the Company has or may have against [Marinello] as of the date of execution of the Agreement and General Release.”

Subsequently, WSP commenced an action against Marinello for breach of contract, misappropriation of trade secrets, defamation, conversion, and sought an accounting.  Specifically, the Complaint alleged numerous instances of alleged misconduct, including:

  • That upon Marinello’s voluntary departure from WSP, he appropriated and retained confidential company information in violation of the parties’ Agreement, and, upon information and belief, shared that information with his new employer;
  • That he failed to return valuable electronics equipment belonging to WSP (including two laptops, an iPad and three phones), and that he ignored requests to return the items; and
  • That on or about May 1, 2013, Marinello had opened a Twitter account using WSP’s name, and that he posted “libelous and disparaging” statements about the company.

Marinello moved to dismiss the Complaint in its entirety, pursuant to Rule 12(b)(6), arguing that a general release provision in the Agreement barred WSP’s claims.  Applying New York law, the Court held that the express language of the Agreement established that WSP released “any and all claims, known and unknown, asserted or unasserted” that WSP had or may have had as of the February 28, 2013 execution of the Agreement.  Thus, the release barred WSP not only from bringing claims that were in existence on February 28th, but also barred claims that had not yet been discovered.

The Court held that because WSP’s claims for breach of contract, misappropriation of trade secrets, and conversion did not arise until after the Agreement’s execution, those claims were not barred by the release.  However, the Court held that WSP’s claims for defamation and an accounting were barred by the release provision, and dismissed the same.

Concerning the breach of contract claim, the Court noted that although Marinello may have accessed the confidential information prior to execution of the Agreement, the Complaint alleged ongoing conduct that specifically violated the Agreement, namely that he retained WSP’s confidential information and shared it with his new employer.  Thus, the Court found that the Complaint sufficiently alleged a breach of contract claim.

For the same reasons, the Court found that the Complaint plausibly alleged that Marinello misappropriated trade secrets.  The Court noted that WSP’s claim is not premised merely on Marinello’s alleged improper access of company information during his employment at WSP, but also his subsequent ongoing misuse of this information. As such, WSP’s misappropriation claim was not barred by the Agreement’s release provision.  Concerning Plaintiff’s conversion claim based upon Marinello’s failure to return various electronics equipment, the Court noted that “a conversion does not occur until after a demand and refusal to return the property” where the original possession is lawful, and this plaintiff had no conversion claim until June 2013, when defendant allegedly refused plaintiff’s demand.  As such, the Court held that WSP’s arose after the execution of the Agreement and was not barred by the release provision.

In dismissing WSP’s defamation claim, the Court held that because the Complaint does not identify any statements that postdate the Agreement’s execution (Feb. 28th), plaintiff’s defamation claim is barred by the release.  Notwithstanding the release, the Court held that the majority of WSP’s defamation claim would be dismissed due to the failure to allege actionable statements of defamation.  Likewise, the Court dismissed Plaintiff’s claim for an accounting, because the Complaint set forth no allegations that established a fiduciary relationship between WSP and defendant Marinello.  Instead, the Court found that the Complaint merely alleged a typical employer-employee relationship.  Furthermore, the Court found that the Complaint did not contain allegations that could support a conclusion that WSP lacked adequate remedies at law.

In light of the WSP analysis, employers must carefully determine whether it is appropriate to include a broad release in an employee separation agreement while the employee remains obligated to protect the employer’s confidential info.

RECOVERING DOCUMENTED LEGAL FEES

*Mr. Barnes, a member of Barnes & Barnes, P.C., can be reached at lkb@barnespc.com

Almost without exception, a new client presented with litigation will inquire whether he or she may recover counsel fees incident to the litigation.  Assuming the client has a basis to pursue legal fees (whether in contract, statute or Court rule), it is counsel’s role to evaluate the viability of the claim.

It is black letter law that counsel fees incurred in pursuing litigation are a cost to be borne by a plaintiff and the recovery of counsel fees by a successful party is not permitted unless the same has been authorized by an agreement between the parties, statute or court rule.  A.G. Ship Maintenance Corp. v. Lezak, 69 N.Y.2d 1, 511 N.Y.S.2d 216 (1986).  The Court of Appeals has held that this “American Rule” of bearing one’s counsel fees promotes more equal access to the Courts.  Might Midgets, Inc. v. Centennial Ins. Co., 47 N.Y.2d 12, at 22, 416 N.Y.S.2d 559 (1979).

Assuming that the counsel fee claim is grounded in contract, counsel must keep in mind that the meaning of a written agreement is an issue of law to be determined by the Court, which must initially determine whether the subject terms are ambiguous. Assuming no ambiguity, the Court will interpret the agreement to give fair meaning to all the language in an effort to provide a practical interpretation of the writing.  Thus, “when interpreting a contract, the court should arrive at a construction which will give fair meaning to all of the language employed by the parties to reach a practical interpretation of the expressions of the parties so that their reasonable expectations will be realized.”  DOUBLE CHECK THIS CITE.  Fetner v. Fetner, 293 A.D.2d 645, 741 N.Y.S.2d 256 (2nd Dep’t 2002).

In view of the public policy obliging parties to bear the cost of counsel, a provision for recovery of fees must be construed strictly to avoid inferring duties that the parties did not intend to create.  Indeed, in the seminal Court of Appeals case on the subject, the Hooper Associates Court ruled that:

Inasmuch as a promise by one party to a contract to indemnify the other for attorney’s fees incurred in litigation between them is contrary to the well-understood rule that parties are responsible for their own attorney’s fees, the court should not infer a party’s intention to waive the benefit of the rule unless the intention to do so is unmistakably clear from the language of the promise

Hooper Assocs., Ltd. v. AGS Computers, Inc., 74 N.Y.2d 487, at 491, 549 N.Y.S.2d 365 (1989).

In light of the mandatory strict construction, a party’s request for attorney’s fees will generally be denied unless the claim at issue is explicitly encompassed by the contractual provision which authorizes the recovery of fees.  See, e.g., Severino v. Classic Collision, Inc., 280 A.D.2d 463, 719 N.Y.S.2d 902 (2nd Dep’t 2001); Popyork, LLC v. 80 Court Street Corp., 23 A.D.3d 538, 806 N.Y.S.2d 606 (2nd Dep’t 2005); Vacation Village Homeowners Ass’n Inc. Mordkofsky, 254 A.D.2d 650, 679 N.Y.S.2d 435 (3rd Dep’t 1998); Rio Energy International, Inc. v. J. Aron & Co., 244 A.D.2d 29, 664 N.Y.S.2d 306 (1st Dep’t 1997) (plaintiff’s claim for attorneys’ fees was properly rejected on the ground that under the “Non-Performance” clause of the subject contract, recovery of attorneys’ fees is limited to plaintiff’s exercise of the remedy of liquidation and set-off, a remedy not exercised by plaintiffs, who instead opted to sue for breach of contract); and Kleinberg v. Radian Group, Inc., 2003 WL 22420001 (rejecting claim for counsel fees because the claim did not fall squarely within the scope of the counsel fee provision).

The Infinity and Maroney Office Services Agreements provide identically as follows:

5.         Payments and Escalations

… Client agrees that any collection action taken by TIO to recover fees under this Agreement may be brought in the County of Nassau, New York.  In the event of a successful collection action by TIO, Client agrees to pay all reasonable and related attorneys fees and costs [emphasis added].  …

Similarly, plaintiff alleges at 10X that the R & R Membership Agreement provides:

Analysis of the Subject Provision and the Prevailing Rule of Law Mandates that No Counsel Fees are Recoverable

The subject counsel fee provisions clearly provide that fees may be awarded, if at all, only with respect to a claim for “fees” due pursuant to the three quoted agreements. The terms “Fee” is defined in the Eighth Edition of Black’s Law Dictionary as: “A charge for labor or services, esp. professional services.”  Plaintiff’s claims against our defendants are general business tort claims and breach of contract claims all of which are premised upon our defendants’ purported inappropriate hiring of Sawicki and Roschilla.  There is no claim for arrears for services rendered by plaintiff to the licensees during the term of the membership agreements.  Accordingly, since the foregoing case law requires that the counsel fee clauses be strictly construed, there is no way that the relied-upon provision can support a claim for counsel fees.  Indeed, the Court of Appeals has made clear that a party’s request for attorney’s fees will generally be denied unless the claim at issue is explicitly encompassed by the contractual provision which authorizes the recovery of fees.  There is nothing in the language or purpose of subject counsel fee provision to indicate that the parties intended to encompass within its purview plaintiff’s unforeseen business tort claims against its former licensees.

Had the plaintiff intended the disputed provision to permit reimbursement for counsel fees in the event of a business tort claim, as opposed to simply a “fee” collection action, it would have been simple enough to have stated as much.  But by limiting the scope of instances where plaintiff can recover its counsel fees, it cannot now piggyback the counsel fees incident to its business tort claims against the defendants upon a limited-in-scope provision related to “fee” for services provided by plaintiff to its de facto tenants.

In the final analysis, it is plaintiff who bears the heavy burden of persuading the Court to depart from the American Rule, and in light of the language relied upon by plaintiff, it simply cannot meet that burden.  See Flagstar Bank FSB v. Caribbean Mortgage Corp., 2007 WL 1449 (E.D.N.Y. 2007).  In Flagstar, a prevailing party was entitled to recover its counsel fees pursuant to the parties’ Settlement Stipulation.  The Flagstar Court ruled that defendants, by making “an improper request for further proceedings in [an] already-closed legal action, as opposed to instituting a new proceeding or forcing Flagstar to do so by standing on what it originally described as its rights under the Stipulation and thereby provoking an enforcement action” did not occasion any new legal action. Accordingly, the Eastern District Judge in Flagstar ruled that plaintiff was not entitled to recover its counsel fees from defendant in light of the limited scope of the subject provision which plaintiff relied upon to substantiate the counsel fee claim.  The Court admittedly could “not square the language of the settlement agreement’s fee-shifting provision, upon which [claimant] exclusively relies with the circumstances of this case.”

Theft of Trade Secrets and The Computer Fraud & Abuse Act

By: Leo K. Barnes Jr.*

*Mr. Barnes, a member of Barnes & Barnes, P.C. can be reached at LKB@BARNESPC.COM

Mr. Barnes gratefully acknowledges the assistance of Sprios Avramidis, a 3L at St. John’s Law School, in the preparation of this column.

In the modern world, computers have revolutionized the way business is conducted, but such technological innovation inevitably led to novel methods of conducting crime and civil torts.  In 1986, to protect the public from such crime, Congress enacted The Computer Fraud and Abuse Act (“CFAA”).[1] Originally, the statute made punishable, under federal law, various acts aimed at certain “protected computers.”[2] In 1994, Congress amended the CFAA and made available a civil remedy.[3] In recent years, prosecutors and employers alike have used the CFAA to pursue employees who steal trade secrets.[4]

Although the CFAA is primarily a criminal statute, it does allow for very narrow civil liability as provided by section 1030(g). To establish civil liability, first, a plaintiff must show that the defendant committed an act prohibited by section 1030, which includes “intentionally access[ing] a computer without authorization or exceed[ing] authorized access, and thereby obtains . . . information from any protected computer.”[5] In addition to one of those acts, a plaintiff must also fulfill one of the of the factors in section 1030(c)(4)(A)(i)(I)-(V), including: (1) losses exceeding $5,000; (2) modification or impairment of a medical examination, diagnosis, treatment or care; (3) physical injury to any person; (4) a threat to public health or safety; and (5) damage affecting a computer used by or for an entity of the United States Government in furtherance of the administration of justice, national defense, or national security.  In addition to those requirements, damages or loss must be shown depending on which subsection was violated.[6]  For example, to successfully establish a claim based on section 1030(a)(2) and factor 1030(c)(4)(A)(i)(I), a plaintiff must show that defendant

“(1) intentionally accessed a computer, (2) without authorization or exceeding authorized access, and that he (3) thereby obtained information (4) from any protected computer (if the conduct involved an interstate or foreign communication), and that (5) there was loss to one or more persons during any one-year period aggregating at least $5,000 in value.”[7]

While the statute, at first glance, seems to primarily prohibit external hacking into a computer to steal information, prosecutors and civil plaintiffs have used the CFAA to pursue employees when an employee has authorized access to a computer, but uses such authorized access for an impermissible purpose, such as stealing trade secrets.[8]  These cases usually focus on whether the CFAA is triggered when an employee violates his employer’s computer use policy. Recently, in U.S. v. Nosal, the Ninth Circuit held that using a computer with authorized access for an impermissible purpose does not give rise to liability under the CFAA.[9]

The Narrow View of Liability

In U.S. v. Nosal, Defendant, David Nosal, was employed by Korn/Ferry, an executive search firm. Nosal later quit Korn/Ferry to start his own executive search firm, and he convinced Korn/Ferry employees to supply him customer information from Korn/Ferry’s confidential database. Although Korn/Ferry had a policy that forbid disclosing confidential information, the employees still supplied Nosal with the information. Nosal was charged with aiding and abetting others in exceeding authorized use.

The Ninth Circuit, sitting en banc, held that Nosal did not violate the CFAA because “the CFAA does not extend to violations of use restrictions.” The court based its conclusion on the text and legislative history of the CFAA. It found that the purpose of the CFAA is to “is to punish hacking—the circumvention of technological access barriers—not misappropriation of trade secrets.” Therefore, it concluded that “‘exceeds authorized access’ in the CFAA is limited to violations of restrictions on access to information, and not restrictions on its use.” Then, according to the Nosal Court (and contrary to a more broad interpretation espoused by other courts), the focus is on whether the employee had access to the information used, not that the purpose for which the information was used. Furthermore, the majority held that interpreting the CFAA broadly would create liabilities not intended by Congress. For instance, if an employee, authorized to use a computer, uses that computer to check Facebook, in violation of his employer’s policy, that employee could, in theory, be criminally liable under the CFAA because the employee exceeded his authorized access by violating his employer’s policy.

Although the narrow interpretation provided by the Ninth Circuit was met with criticism as being too lenient, the Fourth Circuit explicitly adopted the Ninth’s Circuit narrow interpretation.[10] In WEC Carolina Energy Solutions LLC v. Miller, Defendant, Mike Miller, was employed by Plaintiff, WEC Carolina Energy Solutions LLC. In April 2010, he resigned from his position and, twenty days later, gave a presentation on behalf of WEC’s competitor to a potential customer.[11] During this presentation, Miller used WEC proprietary information, which he acquired while working for WEC.

The Fourth Circuit held that Miller did not violate the CFAA because, agreeing with the Nosal Court: “the CFAA fails to provide a remedy for misappropriation of trade secrets or violation of a use policy where authorization has not been rescinded.”[12] The Court primarily based its finding on the plain meaning of the statute. It found a person accesses a computer “‘without authorization’ … when he gains admission to a computer without approval,” and that he “exceeds authorized access when he has approval to access a computer, but uses his access to obtain or alter information that falls outside the bounds of his approved access” Based on these meanings, the Court found that “neither of these definitions extends to the improper use of information validly accessed.” Simply, the court rejected “an interpretation of the CFAA that imposes liability on employees who violate a use policy, choosing instead to limit such liability to individuals who access computers without authorization or who obtain or alter information beyond the bounds of their authorized access.”[13]

The Broad View of Liability

Although the narrow interpretation is more favorable towards employees, the majority of the Circuits, as pointed out by the Nosal dissent, have adopted a broad interpretation. Specifically, the First, Fifth, Seventh, and Eleventh Circuits have embraced a broad interpretation. In those circuits, the court is more likely to focus on what purpose the information was accessed for, not whether the person accessing the information had the sufficient authorized access. Therefore, in those circuits, the theft of trade secrets by an employee authorized to access the trade secrets may trigger CFAA liability.

In EF Cultural Travel BV v. Explorica, Inc., defendant Phillip Gormley, vice president of Explorica had a confidentiality agreement with his former employer, plaintiff EF Cultural Travel BV.[14]  To gain an advantage over the competition, Gormley created a scraper program using proprietary information of Plaintiffs, which was not easily obtainable by outsiders. The scraper program utilized this proprietary information to scan Plaintiffs website to create a database of prices of tours offered by Plaintiff in previous years. Using this database, defendants were able to undercut Plaintiff’s prices.

The First Circuit held that using this proprietary information, in violation of Gormley’s confidentiality agreement, was a violation of the CFAA because Gormley exceeded his authorized access. By violating the confidentiality agreement, Gormley had exceeded the authorization that Plaintiff gave him. Defendants further argued that the information was not proprietary because any outsider could gather the information given enough time. The court did not accept this argument because defendant’s use of the proprietary information amounted to abuse that went beyond any authorized use of Plaintiff’s website.

In United States v. John., Defendant, Dimetriace Eva–Lavon John, was employed as an account manager at Citigroup.[15] In this position, Defendant had access to the computer system and the customer account information contained within. With this access, she supplied her brother with information relating to numerous corporate accounts. This information enabled her brother to fraudulently charge the accounts.

The Fifth Circuit held that Defendant violated the CFAA because she exceeded authorized use given to her by Citigroup. The court found that “when an employee knows that the purpose for which she is accessing information in a computer is both in violation of an employer’s policies and is part of an illegal scheme, it would be ‘proper’ to conclude that such conduct ‘exceeds authorized access.’” Furthermore, the court found that “an employer may ‘authorize’ employees to utilize computers for any lawful purpose but not for unlawful purposes and only in furtherance of the employer’s business.” Any use going against such a policy would be exceeding authorized access.

In International Airport Centers, L.L.C. v. Citrin, Defendant, Citrin, was employed by plaintiffs-affiliated companies to record data on potential real estate transactions.[16]  They lent him a laptop to aid him in this job. After collecting data, Citrin decided to quit his job and become self-employed. Before returning the laptop to plaintiffs, he copied all the real estate data from the computer and irreversibly erased the data from the laptop.[17]

The Seventh Circuit used agency law to find that Citrin violated the CFAA. Citrin’s authority to access the laptop arose from his relationship (employment) with plaintiffs. This relationship ended when he violated the duty of loyalty by failing to disclose his adverse interests. Accordingly, the Court found that Citrin had no authority to access the computer “because the only basis of his authority had been that relationship” and the relationship ended when he violated the duty of loyalty.

In United States v. Rodriguez, Defendant, Rodriguez, was employed by the Social Security Administration.[18] As part of his duties, Rodriguez has access to the social security database, which contains sensitive information such as social security numbers, annual incomes, date of births, addresses, etc. Rodriguez was aware of a policy that prohibited obtaining information from the database for a non-business use. Contrary to this policy, Rodriguez used the database for non-criminal purposes such as satisfying his curiosity about relatives and to send letters, flowers, and other goods to females.

The Eleventh Circuit held that Rodriguez violated the CFAA because he exceeded authorized access by not following established business policy. The Administration’s policy stated that the database may only be used for business purposes, but Rodriguez admittedly used the database for personal purposes. The court held that, since Rodriguez went against this policy, he exceeded the authorized access. Rodriguez also tried to argue that he did not exceed authorized access because his use of the information was not criminal as required by John in the Fifth Circuit. The court was not persuaded by this argument because it stated that the CFAA does not focus on how the information is used, but, instead, it focuses on how the information is obtained.

New York Fodder

Counsel at home here in the Second Circuit have authority on both sides of aisle to aid arguments for, and against, liability pursuant to the CFAA.[19] There is Second Circuit authority for the proposition that mere misuse does not state a claim under the CFAA, because a person does not “exceed[ ] authorized access” or act “without authorization” when he misuses information to which he otherwise has access.[20] Interestingly, the First Department in MSCI v. Jacob followed the narrow interpretation of Nosal, and held that the “CFAA does not encompass [defendant’s] misappropriation of information that he lawfully accessed while working for plaintiffs or misuse of work computers in violation of their computer policies.”[21]

Counsel confronted with a potential CFAA claim with regards to a theft of trade secret claim must first determine whether the local jurisdiction has adopted a narrow or broad view of liability pursuant to the CFAA. If the jurisdiction follows a narrow interpretation, one critical question is whether the employee actually had authorization to use and access the information, not what purpose the information was used for.  On the other hand, if the jurisdiction follows a broad interpretation, the employee has less protection and any breach of a computer use policy may lead to CFAA liability.

 


[1] Computer Fraud and Abuse Act, 18 U.S.C. § 1030 (2012).

[2] See Matthew Andris, Comment, The Computer Fraud and Abuse Act: Reassessing the Damage Requirement, 27 John Marshall of Computer & Information Law 279,  283 (2009).

[3] Andris, supra n. 2, at 285.

[4] See infra n. 14.

[5] § 1030 (g), (a)(2)(C)

[6] See, e.g., 1013(c)(4)(A)(i)(I).

[7] LVRC Holdings LLC v. Brekka, 581 F.3d 1127, 1132 (9th Cir. 2009).

[8] See United States v. John, 597 F.3d 263 (5th Cir. 2010); United States v. Rodriguez, 628 F.3d 1258 (11th Cir.2010); Int’l. Airport Ctrs., L.L.C. v. Citrin, 440 F.3d 418 (7th Cir. 2006); EF Cultural Travel BV v. Explorica, Inc., 274 F.3d 577 (1st Cir. 2001); WEC Carolina Energy Solutions LLC v. Miller, 687 F.3d 199 (4th Cir. 2012); United States v. Nosal, 676 F.3d 854 (9th Cir. 2012)(en banc); MSCI Inc. v. Jacob, 946 N.Y.S.2d 565 (1st Dep’t. 2012); JBCHoldings NY, LLC v. Pakter, 2013 WL 1149061 (S.D.N.Y. 2013).

[9] United States v. Nosal, 676 F.3d 854, 863-64 (9th Cir. 2012)(en banc).

[10] WEC Carolina Energy Solutions LLC v. Miller, 687 F.3d 199, 203 (4th Cir. 2012)

[11] Id.

[12] Id. at 203.

[13] Id. at 207.

[14] EF Cultural, 274 F.3d at 579.

[15] United States v. John, 597 F.3d 263, 269 (5th Cir. 2010).

[16] Int’l. Airport Ctrs., L.L.C. v. Citrin, 440 F.3d 418, 419 (7th Cir. 2006).

[17] Id. When data is normally deleted, the data is still recoverable using special software.. Instead of normally deleting the files, Citrin used a special secure-eraser program that makes erased data irrecoverable. Id.

[18] United States v. Rodriguez, 628 F.3d 1258, 1260 (11th Cir.2010).

[19] Compare United States v. Aleynikov, 737 F. Supp. 2d 173, 191-94 (S.D.N.Y. 2010) (narrow interpretation), Univ. Sports Publ’ns Co. v. Playmakers Media Co., 725 F. Supp. 2d 378, 383-84 (S.D.N.Y. 2010) (narrow interpretation) with Mktg. Tech. Solutions, Inc. v. Medizine LLC, No. 09 Civ. 8122(LLM), 2010 WL 2034404, at *7 (S.D.N.Y. May 18, 2010) (broad interpretation), Register.com, Inc. v. Verio, Inc., 126 F.Supp.2d 238, 253 (S.D.N.Y.2000) (broad interpretation).

[20] See Nexans Wire S.A. v. Sark-USA, Inc., 166 Fed. App’x 559, 563 (2d Cir. 2006)(affirming the district court’s reading of CFAA provision to exclude losses incurred as a result of plaintiffs misappropriation of proprietary information).

[21] MSCI Inc. v. Jacob, 96 A.D.3d 637, 946 N.Y.S.2d 575, 575 (1st Dep’t. 2012).

Finally! Depositions of Expert Witnesses in Commercial Division Cases

By: Leo K. Barnes Jr.*

*Mr. Barnes, a member of Barnes & Barnes, P.C. in Melville, can be reached at LKB@BARNESPC.COM

In the September 2012 column, we reviewed Chief Judge Jonathan Lippman’s Task Force Report and Recommendations for the Commercial Division which included certain proposed procedural reforms to the Commercial Division Rules, the most notable being an amendment of the expert disclosure process to mirror expert disclosure in the Federal Courts.

On September 23, 2013, Chief Administrative Judge A. Gail Prudenti amended Rule 13 of the Rules of Practice for the Commercial Division,[1] effective immediately, by adding a new section (c) providing for enhanced expert disclosure in Commercial Division cases.

New Rule 13(c) provides that no later than thirty days prior to the completion of fact discovery, the parties shall confer on a schedule for expert disclosure (if any party intends to introduce expert testimony at trial).  Rule 13(c) provides that all expert disclosure “shall be completed no later than four months after the completion of fact discovery.”  However, if a party objects to this procedure or timetable, the parties shall request a conference to discuss the objection with the court.

The schedule for expert disclosure includes the ordinary identification of experts and exchange of information concerning the expert’s proposed testimony as per CPLR 3101(d), but now expressly provides for depositions of testifying experts.  Further, the new Rule 13(c) requires that expert disclosure be accompanied by a written report (unless otherwise stipulated or Ordered by the court) that is prepared and signed by the witness if:  (1) the witness is retained or specially employed to provide expert testimony in the case; or (2) the witness is a party’s employee whose duties regularly involve giving expert testimony.  Rule 13(c) mandates that the expert’s written report must contain the following:

(a)                a complete statement of all opinions the witness will express and the basis and the reasons for them;

(b)               the data or other information considered by the witness in forming the opinion(s);

(c)                any exhibits that will be used to summarize or support the opinion(s);

(d)               the witness’s qualifications, including a list of all publications authored in the previous 10 years;

(e)                a list of all other cases at which the witness testified as an expert at trial or by deposition during the previous four years; and

(f)                a statement of the compensation to be paid to the witness for the study and testimony in the case.

 

According to the new rules, the note of issue and certificate of readiness may not be filed until the completion of expert disclosure. Rule 13(c) also addresses late expert disclosure and expressly states that “Expert disclosure provided after these dates without good cause will be precluded from use at trial.”  The alteration of Rule 13(c) provides a bright line timeframe to determine whether expert disclosure is timely, a welcome reprieve from the varying decisions that have historically addressed the topic of preclusion of expert testimony.  For example, although the Second Department decision of Construction by Singletree Inc. v. Lowe, 55 A.D.3d 861, 866 N.Y.S.2d 702 (2nd Dep’t 2008) stood for a bright-line rule on preclusion of an expert affidavit for untimely expert disclosure, the later decision in Rivers v. Birnbaum, 102 A.D.3d 26, 953 N.Y.S.2d 232 (2nd Dep’t 2012) rejected a bright-line rule, stating that a trial court still maintains discretion to refuse to consider a proposed expert opinion when a disclosure is inexplicably not served prior to the filing of the Note of Issue/Certificate of Readiness.  Specifically, Rivers held that:

the fact that the disclosure of an expert pursuant to CPLR 3101(d)(1)(i) takes place after the filing of the note of issue and certificate of readiness does not, by itself, render the disclosure untimely. Rather, the fact that pretrial disclosure of an expert pursuant to CPLR 3101(d)(1)(i) has been made after the filing of the note of issue and certificate of readiness is but one factor in determining whether disclosure is untimely.

The addition of Rule 13(c) should help to limit some of the uncertainty, and provide a point of reference for counsel that abide by the governing rules.

Rule 13(c) is a huge opportunity for Commercial Division practitioners, and is the latest effort to streamline practice there, akin to practice in Federal Court.  By mandating the service of expert reports, coupled with the opportunity to depose an expert witness prior to the filing of the Note of Issue, the new Rule will effectively mandate an earlier evaluation of the strengths and weaknesses of claims which, ideally, will correspond with an earlier resolution of cases.

 

 

 



[1] Rule 13 of section 202.70(g) of the Uniform Civil Rules for the Supreme Court and the County Court.

Facts Sufficient to Obtain Summary Judgment On a Veil Piercing Claim

By: Leo K. Barnes Jr.*

*Mr. Barnes, a member of Barnes & Barnes, P.C. in Melville, can be reached at LKB@BARNESPC.COM

            Whether during law school studying New York practice and procedure, or as a first year associate tasked with drafting opposition to a summary judgment motion, aspiring or practicing lawyers learn the oft-recited summary judgment standard – that the same is a drastic remedy and reserved for those rare instances when there is no genuine issue of fact sufficient to warrant a trial.

 

Equally challenging is a Plaintiff’s effort to hold a business owner personally liable for a corporate debt.  The law permits incorporation of a business for the very purpose of escaping personal liability.  Bartle v. Homeowners Co-op., 309 N.Y. 103 (1955).  Generally, the owners of a corporation are not personally liable for the corporation’s debts, as it is a separate legal entity existing independently of its owners or shareholders.  Morris v. New York State Dept. of Taxation & Fin., 82 N.Y.2d 135, 140 (1993). However, in certain circumstances, New York courts will apply the doctrine of piercing the corporate veil, an exception to the general rule, to impose personal liability on the owners for the corporate debt.  Id., at 140-141.

 

The party seeking to pierce the corporate veil must show that the owners, through their domination, abused the privilege of doing business in the corporate form to perpetrate a wrong or injustice against that party such that a court in equity will intervene and that such domination was used to commit a fraud or wrong against the plaintiff which resulted in plaintiff’s injury.  See, Morris, 82 N.Y.2d at 141-142.  Alternatively, “the corporate veil will be pierced to achieve equity, even absent fraud, ‘[w]hen a corporation has been so dominated by an individual or another corporation and its separate entity so ignored that it primarily transacts the dominator’s business instead of its own and can be called the other’s alter ego.’”  See Island Seafood Co. v. Golub Corp., 303 A.D.2d 892, 893 (3rd Dep’t 2003), quoting Austin Powder Co. v. McCullough, 216 A.D.2d 825, 827 (3rd Dep’t 1995).

 

But the burden of establishing that piercing is warranted is a tall one as veil piercing is a “highly disfavored” remedy (see Triemer v. Bobsan Corp., 70 F.Supp.2d 375, 377 (S.D.N.Y.1999) dismissing veil-piercing claim and noting that “disregard of the corporate form is highly disfavored under New York law”).  Indeed, the Second Department regularly affirms trial Court dismissals when Plaintiffs fail to meet the “heavy” burden required to establish piercing.   Carp v. Dunn, 53 A.D. 467 (2nd Dep’t 2008).

In this light, mindful that summary judgment is a “drastic” remedy and that piercing the corporate veil is a “highly disfavored” remedy, those instances where a Plaintiff successfully pierces the corporate veil on summary judgment are exceedingly rare.  But a Petitioner succeeded in doing so last month in Richmond County.   In Agai v. Diontech Consulting, Inc., 40 Misc. 3d 1229(A) (Richmond County Sup. Ct. 2013), the petitioner Jacob Agai moved for summary judgment against all respondents, including Stylianos Antoniou and Sokrates Antoniou (the Antoniou brothers), seeking to pierce the corporate veil of Diontech Consulting Inc. in order to enforce a judgment rendered against Diontech upon the shareholders personally.  The Antoniou brothers opposed the motion.

 

The Court granted petitioner’s motion and held that “[t]he weight of evidence supports plaintiff’s claim that Diontech was a sham entity which never kept accurate records or minutes of meetings, did not observe any traditional corporate formalities, and diverted funds for the principals’ own personal gains.”  Id., at 3.  In reaching that conclusion, the court first relied on the damning deposition testimony that the Antoniou brothers failed to adhere to any corporate formalities.  Specifically, the court noted:

 

  • both bothers testified that they were unaware of any books or records concerning the operation of the corporation;
  • neither brother could produce any documents of the corporation’s separate existence (i.e. board meeting minutes, pay stubs, or bank statements);
  • there was evidence that the brothers used corporate accounts for personal expenses, commingled corporate and personal assets, and maintained the corporation as a sham entity for the purpose of avoiding creditors and legal liability;
  • Sokrates Antoniou testified he was never given a formal title in the corporation, nor did he ever carry out any of the official duties of a corporate officer, despite the fact that he was listed as the President and Stylianos as the Secretary of the corporation on a business credit application;
  • both brothers testified that they had no knowledge as to what became of any of corporate assets including computers, office furniture, and company vehicles, despite receiving compensation for their work in settling company affairs;
  • their accountant testified that he refused to prepare corporate tax returns due to the corporation’s failure to provide appropriate paperwork or to account for certain unspecified disbursements; and
  • their accountant further testified from his review of the bank records, the respondents routinely took significant amounts of money from the bank account but failed to pay it back to the corporation.

 

In addition, the court found that the evidence made clear that Diontech was used to unlawfully avoid creditors and to injure the plaintiff personally.  Specifically, the court noted that:

 

  • throughout the course of working with the plaintiff, the three principals of Diontech repeatedly used payments made by the plaintiff and materials purchased for plaintiff’s projects for other jobs which they were involved in at the time; and
  • both Antoniou brothers continued receiving payments from a supposedly insolvent Diontech despite the fact that other laborers and subcontractors remained unpaid.

 

Simply, the evidence was so overwhelming that the court pierced despite viewing the evidence in the light most favorable to the Antoniou brothers and affording them the benefit of all reasonable inferences.   It is a valuable lesson for both sides of a caption.

 

 

 

 

7 Ways To Keep Your Case Moving In NY Commercial Court

By Pete Brush

Law360, New York (July 12, 2013, 7:09 PM ET) — The New York Supreme Court’s Commercial Division, set up nearly two decades ago to handle corporate contract, fraud and similar disputes, is creaking under the weight of a growing caseload as Empire State businesses increasingly view it as the place to hash out their money squabbles.

The state’s current and former ranking judges are concerned the burden is growing too unwieldy. Officials have worked to add judges and otherwise streamline the system, but those efforts have been offset by judicial budget cuts, meaning the backlog doesn’t appear to be going away any time soon.

Nevertheless, there are steps attorneys can take to keep their case moving quickly and in the right direction when it comes time to navigate New York’s premier business court.

Don’t Waste the Judge’s Time

This is perhaps true of any court, said Sullivan & Cromwell LLP litigation partner Robert J. Giuffra Jr., but in the Commercial Division — where 27 justices across the state are said to be handling hundreds of complex cases at once and arebeing prodded to resolve them quickly — time is a particularly acute concern.

“The judges in the Commercial Division have a large caseload. And they are experienced. They see a lot of cases and they often repeat many of the same issues. You don’t have to assume they don’t have experience in these concepts,” Giuffra said. “You should avoid long, nuanced digression.”

The court’s rules lay out strict schedules for everything from conferencing deadlines to disclosure schedules, Wollmuth Maher & Deutsch LLP complex litigation partner Vincent Chang said. They even make a point of warning counsel to “be on time for all scheduled appearances” and not to show up cold.

“Other state courts tend to be less rigorous than the Commercial Division,” Chang said. “There are some judges who are kind of harsh when it comes to these kinds of things.”

Bring a Bulletproof Statement of Material Facts

Unlike other New York courts, the Commercial Division asks counsel to provide a statement of material facts at the summary judgment stage. Not all of the court’s 27 Commercial Division judges admit to relying heavily on that statement, lawyers in the know say, but it nevertheless is mandatory.

Quibbling over basic facts is a surefire way to draw unwanted attention, according to Gusrae Kaplan Nusbaum PLLC commercial litigator Brian D. Graifman.

“A good practitioner will make these statements so that they cannot really be contested,” Graifman said. “When we do them we try to make them uncontested. We see other practitioners advocating in them and gumming up the works. The statements are supposed to be black and white.”

Know the Role of the Law Secretary

Commercial division judges are leaning more heavily then ever on their law secretaries — experienced lawyers in their own right — to manage discovery disputes, said Davis Polk & Wardwell LLP litigation partner Benjamin S. Kaminetzky.

“Given the crushing dockets that they face, the Commercial Division judges often give them more ability and leeway to resolve these issues,” he said.

More often than not, the discovery-related agreements hashed out in such meetings will become the basis for the court’s order, Kaminetzky said.

“These aren’t law clerks right out of law school,” he said. “The judges feel more and more comfortable with having these people hear discovery disputes.”

Have Your E-Discovery Ducks in a Row

Once a business reasonably anticipates litigation, it has the obligation to ensure the preservation of relevant documents, said commercial litigator Leo K. Barnes Jr. of Barnes & Barnes PC, adding that the Commercial Division mandates that lawyers walking into a conference come in having already mastered the ins and outs of their client’s system.

“Accordingly, it is imperative that counsel immediately consult with a client’s information technology personnel in an effort to identify, preserve and secure all sources of electronically stored information,” Barnes said. “The working knowledge of a party’s technology system coupled with the preservation of relevant [information] are absolute prerequisites to successful representation in the Commercial Division.”

Kaminetzky echoed that sentiment, saying lawyers “should be prepared to discuss electronic discovery issues in more detail.”

Referees Don’t Enter the Game for Free

Federal courts, while also feeling the money pinch, nevertheless have magistrate judges waiting in the wings to guide warring lawyers through all kinds of disputes. Not so in New York’s Commercial Division, Chang noted.

“That’s a really big difference between the federal courts and the Commercial Division. In federal court you’ve got the magistrate judges — and they’re free,” he said.

In the Commercial Division, busy judges are not going to spend long periods of time refereeing protracted fights over evidence, which puts a premium on knowing whether, in a contentious case, the litigants might be willing to fund the hiring of a special master, lawyers say.

“If you can agree with your adversary on someone that you both like, that’s probably a worthwhile expenditure,” Chang said. “If you have a special master imposed on you — that may be less effective.”

Use Interlocutory Appeals Wisely

Lawyers should be cognizant of the cost to clients both in terms of time and money of appeals, which can easily be taken in New York prior to final disposition of a case, in what amounts to another major difference between Empire State and federal court.

Without limits on how appeals can be brought, more well-funded litigants often are tempted to use them more liberally, a tactic that can put pressure on adversaries with less money to settle as an alternative to “ping-ponging” between the trial and appellate courts.

New York’s mid-level appellate courts tend to rule fairly quickly and many lawyers believe the reversal rate is high compared to federal court. Even so, some lawyers caution, the appellate process can be abused in Commercial Division cases.

“I wouldn’t do it unless you have a good issue,” Giuffra said. “You’ve got to have a good dispositive legal issue.”

If the issue is right, however, an appellate-level detour can yield long-term expediency for a client, Chang said.

“An appeal can increase the cost to your client,” Chang said. “On the other hand, it can provide necessary guidance and potentially reduce those costs in the long run.”

Don’t Try to Game the Money Threshold

Not including punitive damages, interest and other costs, the money at stake in New York City must exceed $150,000 in order for the Commercial Division to take a case. That number drops to $100,000 in Westchester and Nassau counties and drops further in other areas.

But, with a proposal afoot to jack up the threshold to $500,000 in New York County — and with the aforementioned heavy caseloads — lawyers say Commercial Division judges are becoming more cognizant of the dollars before they agree to take a case.

Many commercial litigators deal exclusively with far greater sums, but experts say practitioners trying to get before wizened Commercial Division judges should be careful about trying to game the dollar threshold to bring in a case that might not belong.

“Commercial division judges are becoming more careful,” Chang said. “They’re questioning whether or not there’s enough money to meet the Commercial Division limit. This is anecdotal but it appears they are doing that to a greater extent than they used to.”

–Editing by John Quinn and Katherine Rautenberg.
All Content © 2003-2013, Portfolio Media, Inc.

Litigation Holds and Preservation of ESI in Light of VOOM HD Holdings, LLC

By: Leo K. Barnes Jr.*

*Mr. Barnes, a member of Barnes & Barnes, P.C. in Melville, can be reached at LKB@BARNESPC.COM

 

In commercial litigation cases, issuing a litigation hold to preserve electronically stored information (ESI) is paramount once a party reasonably anticipates that litigation may ensue, which may be well before litigation actually commences.  In the electronic discovery context, the First Department’s decision in Voom HD Holdings, LLC v. EchoStar Satellite, LLC, 93 A.D.3d. 33, 939 N.Y.S.2d 321 (1st Dept. 2012), recently adopted the federal standard for preservation of electronically stored information as promulgated in Zubulake v. UBS Warburg LLC, 220 F.R.D. 212 (S.D.N.Y. 2003).

 

In Voom, plaintiff VOOM HD Holdings, LLC moved for discovery sanctions against defendant EchoStar Satellite, LLC (“EchoStar”) for the spoliation of electronic e-mail evidence, where a litigation hold of the automatic deletion of employee e-mails was not instituted until one year after EchoStar was on notice of anticipated litigation between the parties.

 

At the outset, the Court noted that:

 

This case requires us to determine the scope of a party’s duties in the electronic discovery context, and the appropriate sanction for failure to preserve electronically stored information (ESI). We hold that in deciding these questions, the motion court properly invoked the standard for preservation set forth in Zubulake v UBS Warburg LLC (220 FRD 212 [SD NY 2003]; Pension Comm. of Univ. of Montreal Pension Plan v Banc of Am. Sec., 685 F Supp 2d 456, 473 [SD NY 2010]), which has been widely adopted by federal and state courts. In Zubulake, the federal district court stated, “Once a party reasonably anticipates litigation, it must suspend its routine document retention/destruction policy and put in place a ‘litigation hold’ to ensure the preservation of relevant documents” (Zubulake, 220 FRD at 218). The Zubulake standard is harmonious with New York precedent in the traditional discovery context, and provides litigants with sufficient certainty as to the nature of their obligations in the electronic discovery context and when those obligations are triggered.

 

According to the decision, EchoStar not only failed to preserve electronic data upon reasonable anticipation of litigation, but it also wholly failed to prevent the purging of e-mails by its employees during the four-month period after commencement of the action.  The Voom Court explained:

 

A party seeking sanctions based on the spoliation of evidence must demonstrate: (1) that the party with control over the evidence had an obligation to preserve it at the time it was destroyed; (2) that the records were destroyed with a “culpable state of mind”; and finally, (3) that the destroyed evidence was relevant to the party’s claim or defense such that the trier of fact could find that the evidence would support that claim or defense. A “culpable state of mind” for purposes of a spoliation sanction includes ordinary negligence. In evaluating a party’s state of mind, Zubulake and its progeny provide guidance. Failures which support a finding of gross negligence, when the duty to preserve electronic data has been triggered, include: (1) the failure to issue a written litigation hold, when appropriate; (2) the failure to identify all of the key players and to ensure that their electronic and other records are preserved; and (3) the failure to cease the deletion of e-mail. The intentional or willful destruction of evidence is sufficient to presume relevance, as is destruction that is the result of gross negligence.  (Id., at 45).

 

The Voom Court also explained when a duty to initiate a litigation hold accrues and what the hold must entail:

 

Once a party reasonably anticipates litigation, it must, at a minimum, institute an appropriate litigation hold to prevent the routine destruction of electronic data.  Regardless of its nature, a hold must direct appropriate employees to preserve all relevant records, electronic or otherwise, and create a mechanism for collecting the preserved records so they might be searched by someone other than the employee. The hold should, with as much specificity as possible, describe the ESI at issue, direct that routine destruction policies such as auto-delete functions and rewriting over e-mails cease, and describe the consequences for failure to so preserve electronically stored evidence. In certain circumstances, like those here, where a party is a large company, it is insufficient, in implementing such a litigation hold, to vest total discretion in the employee to search and select what the employee deems relevant without the guidance and supervision of counsel.  (Id., at 41-42).

 

The Voom Court ultimately found that EchoStar’s conduct was “gross negligence at the very least” (Id., at 41) and that EchoStar’s reliance on its employees to preserve evidence “does not meet the standard for a litigation hold.” (Id., at 44).  As such, the Court held that an adverse inference was an appropriate sanction for EchoStar’s bad faith, or at least gross negligence in not implementing “litigation hold” to prevent routine destruction of relevant information once it could reasonably anticipate litigation.

 

In this light, counsel must advise clients that a duty to preserve electronically stored information may arise prior to the commencement of litigation, and to send a litigation hold letter as soon as litigation is anticipated, in order to avoid such discovery sanctions as an adverse inference or even a striking of the pleadings.

Carson Optical: Lessons to Avoid the Dismissal of Duplicative & Factually Insufficient Causes of Action

By: Leo K. Barnes Jr.*

*Mr. Barnes, a member of Barnes & Barnes, P.C. in Melville, can be reached at LKB@BARNESPC.COM

 

This month we review the recent decision by Eastern District Magistrate Judge Arlene R. Lindsay addressing unfair competition and tortious interference with prospective business relations claims incident to a dispute involving design patents and marketing materials.

 

In Carson Optical, Inc. v. Prym Consumer USA, Inc., CV-11-3677 (ARL), 2013 WL 1209041 (E.D.N.Y. 2013), plaintiffs Carson Optical, Inc. (“Carson Optical”), a corporation that markets and sells optical products, and Leading Extreme Optimist Industries, Ltd. (“Leading”), an overseas company that manufactures optical products, filed suit against defendants Prym Consumer USA, Inc. (“Prym”), a manufacturer of magnification products, and Jo–Ann Stores, Inc. (“Jo–Ann Stores”), a retailer of Prym’s products, alleging claims for (i) patent infringement, (ii) trade dress infringement under the Lanham Act, and (iii) state law claims for unfair competition and tortious interference with prospective business relations in connection with four of Carson Optical’s design patents.  All of the claims related to magnifiers that were sold by Prym to Jo–Ann Stores, and then sold at retail by Jo–Ann Stores.

 

The Complaint alleges that Prym secured a manufacturer to copy and reproduce Carson Optical’s products, and Jo–Ann Stores conspired with Prym to accomplish this goal.  In addition, Plaintiffs asserted that Prym copied portions of Carson Optical’s written marketing materials for one of Carson Optical’s products.  Specifically, Plaintiffs alleged that Prym engaged in the conduct constituting common law unfair competition and tortious interference with prospective business relations premised upon: copying and reproducing Carson Optical’s products; providing knock-offs of Carson Optical’s products to Jo–Ann Stores; securing Jo–Ann Stores as a customer by importing, offering for sale, and selling products that infringe Plaintiffs’ intellectual property rights; copying portions of Carson Optical’s written marketing materials; systematically infringing Carson Optical’s intellectual property rights (including one of Carson Optical’s patents) and thereby unfairly competing with Carson Optical; and displacing Carson Optical as a supplier to Jo–Ann Stores by illegally copying Carson Optical’s products.

 

After the action was commenced, Defendants subsequently sought dismissal, inter alia, of Plaintiffs’ common law tort claims for unfair competition and tortious interference with prospective business relations, arguing that Plaintiffs’ state law claims were legally insufficient and likewise preempted by federal patent law.

 

Recall that as a general matter, an unfair competition claim must be premised upon the “misappropriation of a commercial advantage which belonged exclusively to” the plaintiff.  See LoPresti v. Massachusetts Mut. Life Ins. Co., 30 A.D.3d 474, 476, 820 N.Y.S.2d 275 (2nd Dep’t 2006). The misappropriation, however, must concern a specified trade secret (or other proprietary information).  Indeed, in Atari, Inc. v. Games, Inc., 2005 WL 447503 (S.D.N.Y. 2005), Southern District Judge Rakoff observed:

Under New York law, “the gravamen of a claim of unfair competition is the bad faith misappropriation of a commercial advantage belonging to another by infringement or dilution of a trademark or trade name or by exploitation of proprietary information or trade secrets.” Eagle Comtronics, Inc. v. Pico Prods., Inc., 256 A.D.2d 1202, 1203 (N.Y.App.Div.1998). Therefore, the party bringing the claim must own a trademark, trade name, trade secret or other proprietary information to misappropriate.

 

The Carson Court analyzed the unfair competition claim, and concluded that the tortious conduct proffered in support of the unfair competition claim was premised upon: (i) patent infringement; (ii) that Defendants copying of an unpatented product; and (iii) trade dress infringement.  The Court addressed each in turn.

 

With respect to Plaintiffs’ allegation that Defendants engaged in unfair competition by copying and reproducing Carson Optical’s patented products, the Court held that Plaintiffs’ allegations were insufficient to establish the bad faith element for a cognizable claim for unfair competition under New York law.  Notably, the Court held that Plaintiffs’ factual allegations that Jo–Ann stores unfairly competed by “refusing to continue its longtime supplier relationship with Carson [Optical]” and “pretending to fairly evaluate Carson [Optical] as a supplier with no intention of continuing its business relationship,” failed because retailer Jo–Ann Stores did not unfairly compete by declining to do business with wholesaler Carson Optical because Jo-Ann Stores had no contractual obligation to do so.

 

In addition, relying upon the Supreme Court’s Bell Atlantic Corp. v. Twombly, 550 U.S. 544, at 570 (2007) (a Complaint must set forth sufficient factual detail which demonstrates that the allegation is plausible on its face), the Carson Court found that the bare assertions that Prym intended to interfere with Carson Optical’s prospective business relationship with Jo–Ann by dishonest, unfair, and improper means and that Prym engaged in a plan to displace Carson as a supplier to Jo–Ann by unfair means, were conclusory and failed to identify specifically the alleged wrongful conduct undertaken by Defendants, thereby warranting dismissal pursuant to Twombly.

 

Concerning Plaintiffs’ claim of unfair competition based on the allegation that Defendants copied an unpatented product, the Court held that the copying of a product not protected by federal copyright is not actionable and cannot serve as a basis for a cognizable claim under state law.  Next, in addressing Plaintiffs’ unfair competition claim that Defendants infringed upon the trade dress of one of Plaintiffs’ products, the Court held that “plaintiffs’ conclusory allegation that defendants sold ‘knock-off products,’ without proffering any facts to make that conclusion plausible, is insufficient to establish the bad faith requirement for a cognizable claim.”

 

The Court next addressed Plaintiffs’ claim sounding in tortious interference with prospective business advantage, which requires that Plaintiff allege “(1) there is a business relationship between the plaintiff and a third party; (2) the defendant, knowing of that relationship, intentionally interferes with it; (3) the defendant acts with the sole purpose of harming plaintiff, or, failing that level of malice, uses dishonest, unfair, or improper means; and (4) the relationship is injured.” Goldhirsh Grp., Inc. v. Alpert, 107 F.3d 105, 108–09 (2dCir. 1997).  With respect to the third prong of the cause of action, while a plaintiff is required to show the defendant’s interference with business relations existing between the plaintiff and a third party were performed either: (i) with the sole purpose of harming the plaintiff; or (ii) by means that are dishonest, unfair or in any other way improper (Catskill Dev., L.L.C. v. Park Place Entm’t Corp., 547 F.3d 115, 132 (2d Cir. 2008)), if the defendant’s interference is intended, at least in part, to advance its own competing interests, the claim will fail unless the defendant utilizes dishonest, unfair, or improper means to do so.  PPX Enters. v. Audiofidelity Enters., 818 F.2d 266, 269 (2d Cir. 1987), abrogated on other grounds by Hannex Corp. v. GMI, Inc., 140 F.3d 194, 206 (2d Cir.1998); see also, Hammerhead Enterprises Inc. v. Brezenoff, 551 F.Supp. 1360, 1369-1370 (S.D.N.Y. 1982).

 

Judge Lindsay, in addressing Plaintiffs’ claim for tortious interference with prospective business relations, which was based upon the same factual allegations as Plaintiffs’ unfair competition claim, held that the claim likewise failed because no allegations were set forth that Defendants’ conduct was motivated solely by malice or to inflict injury beyond the prospect of economic gain.  In addition, Plaintiffs did not plead conduct in violation of state law that was separate from their federal patent law claim.  Thus, the Court found that Plaintiffs’ unfair competition and tortious interference with prospective business relations claims failed due to the absence of additional tortious conduct separate and apart from the federal patent law cause of action, and granted Defendants’ motion for partial judgment on the pleadings.

 

Carson Optical is another reminder that an attorney must invest significant time and effort, side by side with the client, in order to achieve maximum factual information in order to ensure that claims are not dismissed as duplicative or because the Complaint fails to contain sufficient facts that support each element in the cause of action.