$1.888 Million Judgment Entered in Favor of Bankruptcy Trustee Based on Adverse Party’s Spoliation of Financial Records

In re Quintus Corp., 353 B.R. 77 (Bankr. D. Del. 2006) 

Avaya, Inc. purchased the assets of the debtors in bankruptcy, and agreed to assume certain of the debtors’ liabilities. Thereafter, the trustee filed an adversary complaint against Avaya asserting breach of contract and unjust enrichment for failure to pay certain liabilities under the parties’ asset purchase agreement (“the APA”). The trustee sought judgment against Avaya in the amount of $1,888,410.52 for the unpaid claims.

After discovery, both parties moved for summary judgment. In addition, the trustee sought summary judgment as a sanction for Avaya’s failure to produce documents in discovery. Specifically, the trustee argued that Avaya failed to produce certain financial records from which the trustee could establish the remaining unpaid liabilities that Avaya assumed. The trustee argued that Avaya had a contractual obligation to maintain those records for seven years, yet destroyed them within months of closing. The trustee contended that the destroyed documents were highly relevant because they went to the heart of the dispute: what liabilities were assumed and what assumed liabilities remained unpaid. The trustee asserted that he was highly prejudiced by the destruction of the documents, to the extent that the court did not agree that he was otherwise entitled to summary judgment on the legal bases asserted in his motion for partial summary judgment. As a result, the trustee argued that he was entitled to sanctions, including the entry of judgment in his favor on the complaint.

Avaya responded that there was no evidence that it intentionally destroyed the documents to suppress the truth. The destruction occurred before the trustee commenced the adversary proceeding (and before the trustee was even appointed). Thus, Avaya asserted that the court could not find that the destruction of documents was done in anticipation of litigation, which it claimed was a necessary element to sanction a party for document destruction. Further, Avaya argued that the trustee was not prejudiced.

Ruling on the motion, the court stated that it would consider: (1) the degree of fault of the party who altered or destroyed the evidence; (2) the degree of prejudice suffered by the opposing party; and (3) what degree of sanction is necessary to avoid substantial unfairness to the opposing party and to deter such conduct by others in the future.

The court concluded that the destruction of documents was not unintentional, since Avaya deliberately deleted the debtors’ electronic records in order to give itself more computer space. Thus, it found that the records “were not simply lost or accidentally destroyed.” It stated that Avaya’s conduct was further exacerbated by the fact that, at the time the records were destroyed, Avaya had a contractual duty to maintain them. Further, when it destroyed the debtors’ books and records, Avaya had not paid all the liabilities it had assumed. Therefore, the court concluded, it should have anticipated litigation over its failure to comply with the APA.

The court also determined that the trustee was prejudiced by Avaya’s failure to preserve and produce the financial records: “The destroyed evidence is not simply relevant to this case but goes to the heart of the Trustee’s suit: what claims were assumed by Avaya that remain unpaid. Further, Avaya did not merely alter the evidence, it destroyed it.” Thus, the court concluded that the most severe sanction of judgment against Avaya was warranted.

The court added that, even if it had not found that the most severe sanction was warranted by Avaya’s conduct, the result would have been the same:

If the Court applied the spoliation inference and inferred that the destroyed (or withheld) documents would be unfavorable to Avaya’s position, it must conclude that the Debtors’ books and records would include the claims of those creditors who have filed proofs of claim. Similarly, if the Court were to preclude Avaya from presenting any evidence that the Debtors’ books and records did not include those claims or included them in lesser amounts, the Court would have to conclude that the Debtors’ books and records were consistent with the creditors’ records as reflected in their proofs of claim. Thus, entry of judgment in favor of the Trustee is nothing more than what would result from the other available sanctions

Accordingly, the court ruled that judgment should be entered in favor of the trustee in the amount sought by the trustee – $1,888,410.52.

One Comment

  • Bankruptcy can be a friendly court presuming the rules are followed and there is no attempted manipulation. I’ve read about private equity companies buying assets and not disclosing their interests to the court before voting on plans. I don’t think they will get away with that for long. It’s nice to see the Court put its foot down in this matter.

Copyright © 2018, K&L Gates LLP. All Rights Reserved.