Summary of Business Records Allowed Into Evidence In Ponzi Scheme Claw-back Hearing – 11th Cir.

The interplay between Federal Rules of Evidence 1006 (summaries) and 803(6)(business records) is examined by the 11th Circuit Court of Appeals in In re International Management Associates, LLC, 2015 WL 1245503 (C.A.11 Ga.), a case where a trustee was able to admit a summary of bulky business records into evidence and avoid a $200K transfer from the debtor and Ponzi scheme operator (IMA) to the investor defendants.

(A Ponzi scheme typically involves a business entity that doesn’t really operate any legitimate business and that uses the principal investments of newer investors to pay older investors.  In reality though, the investors are being paid their own principal or that of other investors.)

The defendants in the IMA case received over $600K in payouts from IMA over a several-year period.  IMA’s trustee sought to avoid (recover) the most recent $200K payment to the defendants.

At the hearing, the trustee offered summaries of the debtor’s business records in evidence to support the avoidance claim.  The bankruptcy court allowed the summaries into evidence and entered judgment for the trustee.  The Georgia district court affirmed and the defendants appealed to the 11th Circuit on the basis that the summaries should have been excluded since the underlying records weren’t authenticated or offered into evidence at the hearing.

Held: affirmed

Q: Why?

A: Federal Rule of Evidence 1006 allows a “summary, chart or calculation” to be used in evidence to prove the content of voluminous writing (or photographs or recordings) that can’t be conveniently reviewed by the court.

The main qualification is that the actual records underlying the summary must be made available to the opponent for copying and examination.  The summary evidence proponent doesn’t have to offer the underlying documents into evidence but he must establish that those documents would have been admissible in evidence if he did offer them.  FRE 1006.

To make the requisite showing for admissibility under Rule 1006, the person offering the summary must establish that the underlying documents are authentic and meet the requirements for admissibility as business records under FRE 803(6) – the business records rule.

The authenticity burden is light.  All the proponent must show is that the documents are what they appear to be and he can do this through the testimony of a witness who is knowledgeable about the documents.

To meet the business record admissibility test under FRE 803(6), the offering party must show (1) that the record was made at or near the time by – or from information transmitted by someone with knowledge; and (2) the record was kept in the course of a regularly conducted activity, and (3) making the record was a regular practice of a given business.  FRE 803(6)(A)-(C).

A qualified witness to testify on business records is one who can explain the system of record keeping utilized by a business.  He does not have to have firsthand knowledge or be the author of the records, though. As long as the movant establishes enough circumstantial evidence to show the documents are trustworthy, the record can be admitted in evidence.

Here, the court found that the trustee’s evidence summary was supported by trustworthy business records.  While the trustee didn’t author or maintain IMA’s records in the first instance, he engaged in thorough examination and investigation into the records’ preparation and storage and interviewed multiple witnesses who played integral roles in the creation of the underlying records.  The trustee also cross-referenced IMA’s records with those of various financial institutions that did business with IMA.

Considered cumulatively, this was enough circumstantial evidence for the court’s avoidance judgment for the trustee.

Take-aways:

– Summaries of business records are admissible where the underlying documents are voluminous and are themselves admissible as business records under FRE 803(6);

– A witness testifying as to business records doesn’t have to be the creator of a given record.  It’s enough that the witness is familiar with a company’s process utilized to create and store the records in question;

– the more meticulous a third party’s (like a trustee or receiver) efforts are to verify the accuracy of business records, the more likely that third party can defeat a hearsay objection at trial or hearing.

 

Lost Profits and the ‘New Business Rule’ – A Case Snapshot

The Northern District of Illinois recently denied a foreign truck parts supplier’s claim for lost profits in a contract dispute involving an Illinois-based global truck manufacturer.  In doing so, the court expansively applied the “new business rule” to the plaintiff despite its forty-year history in the automotive parts industry.

In Clutch v. Navistar, 2015 WL 1299281 (N.D.Ill. 2015), the plaintiff parts supplier sued the manufacturing giant for breaching an agreement to help plaintiff unload a multi-million dollar surplus of clutches that plaintiff made for the defendant under a cancelled supply contract.  The plaintiff alleged that defendant didn’t adhere to its promise to help plaintiff market the unsold clutches.

The court granted summary judgment for the defendant since the plaintiff failed to prove damages under Illinois contract law.

The reasons:

An Illinois breach of contract plaintiff must show (1) the existence of a contract, (2) performance by the plaintiff, (3) breach by the defendant and (4) resulting damages.

Damages don’t have to be shown with laser-like precision.  Instead, a plaintiff must show a “reasonable basis for computing” the damages and must show lost sales damages to a “reasonable degree of certainty.”  Otherwise, a plaintiff’s recovery is limited to nominal damages (typically, $1).

Lost sales damages generally require expert testimony since those damages usually require “specialized knowledge” derived from detailed financial and marketing analyses.  If a plaintiff offers “lay” lost profits damages testimony (“I would have earned $1 million in sales if the defendant didn’t breach the contract”) without any sufficient foundation for that testimony, the testimony can be excluded under Federal Rule of Evidence 701.

Lost profits are especially hard to prove with new businesses that lack a financial track record with which to gauge estimated profits.  Under the new business rule, a new business or, like here, an established business selling new products, can’t recover lost profits.

In this case, the plaintiff’s procurement director testified via affidavit of the millions in lost profits damages and ancillary expenses.  The court found that the testimony lacked foundation.  The director never conducted a market analysis and failed to provide evidence that established a basis for his lost sales testimony.  As a result, the testimony was viewed as conclusory and stricken by the court.

The court also found that the new business rule defeated plaintiff’s damages.  While plaintiff had a decades-long history in making and selling truck clutches, the specific clutches that were the subject of the suit were a different kind than plaintiff usually makes and sold under a different brand name.  Because the plaintiff hadn’t previously supplied the clutches that were specific to the suit, the court viewed the plaintiff as new and found the plaintiff lacked a sufficient sales history for the clutches to support lost profits damages.

Finally, the court rejected the plaintiff’s claim for over $1M in expenses incurred including inventory, storage and insurance payments for the clutch surplus.  The court viewed these expenses more akin to “ordinary overhead” charges that would have been incurred in the ordinary course of plaintiff’s business.  Since overhead, by definition, is incurred regardless and not the result of a specific contract breach, the plaintiff was precluded from recovering the expense damages.  As a result, the plaintiff’s expenses weren’t imputed to the defendant.

Afterwords:

Even a well-established business can be considered “new” if the particular product or market is one the business hasn’t previously serviced

On summary judgment, the proverbial put up or shut up litigation moment, a respondent must do more than offer conclusory affidavit testimony.  Here, the plaintiff’s principal’s failure to conduct a market analysis for the clutch surplus was fatal to the plaintiff’s breach of contract suit.

Is The Refusal To Give Up Control of a Private LinkedIn Group A Trade Secret Violation? IL ND Weighs In

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When a former media company executive refused to turn over a private LinkedIn group’s contact information, the company responded with a multi-count lawsuit.

In CDM Media USA, Inc. v. Simms, 2015 WL 1399050 (N.D. Ill Mar. 25, 2015), the plaintiff company alleged that the LinkedIn group (the “Group”), which was geared towards high-level IT professionals and administered by the defendant, was company property.  The plaintiff also claimed the Group’s comments threads were competitively valuable trade secrets.

The plaintiff joined a common law misappropriation claim premised on the allegation that the defendant downloaded confidential company data on to his cell phone and refused to return it.

In partially granting the ex-employee’s motion to dismiss, the court considered whether social media content and contacts can qualify for trade secret protection under the Illinois Trade Secret Act.

The LinkedIn Private Group: A Trade Secret? Maybe

The court first considered whether the Group (which contained nearly 700 members) fit the definition of a trade secret under Illinois law.  An Illinois trade secret plaintiff must allege (1) the existence of a trade secret, (2) misappropriation of that trade secret, and (3) that the trade secret was used in the defendant’s business. The Illinois Trade Secrets Act (ITSA) defines “trade secret” to include, among other things, “list of actual or potential customers.” 765 ILCS 1065/2(d).

A key common law trade secrets factor is the time and expense incurred in developing a client base.  The more time and money spent, the better chance of showing a trade secret.

Here, the media company’s allegation that the Group was developed at significant expense over several years and was secret enough to give plaintiff a competitive advantage over rival B2B marketers was sufficient to state a trade secrets claim under the Act for purposes of a motion to dismiss.

The court found that “too little is known” about how the Group was set up, its contents and how it impacted the plaintiff’s business to definitively rule that the Group wasn’t a trade secret as a matter of law.

The Group Communications/Comments: Not A Trade Secret

The court rejected the plaintiff’s trade secrets claim based on the Group comments.  While the court allowed that in some cases a social media group’s communications might qualify as a trade secret, the plaintiff failed to pinpoint the specific Group content that was secret or that gave the plaintiff advantage over the competition.  Because the Group trade secrets allegations were too vanilla, that claim was dismissed.

Defendant’s Cell Phone Data: No Allegation of Use in Business

The plaintiff’s trade secrets claim premised on the allegation that the defendant swiped information from plaintiff’s private database and downloaded it to his cell phone also failed.  Trade secrets misappropriation requires an allegation that defendant actually used a trade secret in his business.  Here, the plaintiff failed to allege that defendant used any of the cell phone data in the course of his current employment.

Lastly, the court found the plaintiff’s “inevitable disclosure” allegations to sparse to be actionable.

Under the inevitable disclosure rule, a trade secrets claim will succeed if the plaintiff shows the defendant can’t function or operate in his new job without relying on the plaintiff’s trade secrets.  Here, the plaintiff failed to allege any facts to support his bare-bones assertion that defendant would inevitably disclose plaintiff’s trade secrets to defendant’s new employer.

Afterwords:

Post-worthy for its modeling of some creative lawyering: trade secrets law isn’t the typical legal theory of choice in a dispute over who owns a private social media account;

If a private social media group is secret enough to give an employer a competitive advantage and was developed over a lot of time and expense, the group can qualify as a trade secret;

Even under Federal notice pleading, a plaintiff must allege use in business to establish misappropriation and must give some specifics to support an inevitable disclosure theory.