On March 21, 2007, the Fourth District Court of Appeal in Florida reversed a $1.58 billion judgment in favor of financier Ronald Perelman, and remanded with instructions to enter judgment for Morgan Stanley & Co., Inc. (Morgan Stanley). The judgment had been entered pursuant to a jury verdict awarding compensatory damages of $604 million and punitive damages of $850 million. Because the court found that the plaintiff had not presented proof at trial on the correct measure of damages for fraud, the appellate court did not discuss the most closely-watched issue in the case, i.e., whether, in this age of electronic discovery, the trial court had improperly entered a partial default against Morgan Stanley as a sanction for its repeated discovery abuse.
Background
This case arose from a merger wherein Coleman (Parent) Holdings, Inc. (CPH) exchanged its stock for cash and for shares of Sunbeam, Inc. stock. Three days after the merger, Sunbeam’s stock price plunged amid reports that its sales were falling and the company had artificially inflated the value of its stock. CPH sued Sunbeam’s financial advisor, Morgan Stanley, alleging that the firm knew about the accounting fraud, and had aided, abetted and conspired with Sunbeam to commit a fraud.
In order to establish that Morgan Stanley had knowledge of Sunbeam’s fraud, CPH requested all of Morgan Stanley's emails about the Sunbeam deal. Morgan Stanley produced few emails, however, because it had overwritten its emails after only twelve months, violating an SEC regulation that they be preserved for two years. The court then entered an Agreed Order requiring Morgan Stanley to search its oldest full backup tape and to produce all non-privileged responsive emails, provide a privilege log, and certify compliance. Morgan Stanley initially produced 1,300 pages of documents and certified compliance. It then discovered 1,423 backup tapes but did not withdraw its certification. Worse still, Morgan Stanley waited six months before it informed the court that it had found the additional emails. Morgan Stanley then produced another 8,000 pages of documents.
After CPH moved for an adverse jury instruction, Morgan Stanley revealed that it had discovered still more tapes. The lack of candor of Morgan Stanley and its counsel “frustrated the Court and opposing counsel’s ability to be fully and timely informed.” The court found that Morgan Stanley had acted “knowingly, deliberately, and in bad faith” and had “severely hindered CPH’s ability to proceed.” Morgan Stanley “has deliberately and contumaciously violated numerous discovery orders,” wrote the trial judge. “The judicial system cannot function this way.” The trial court gave Morgan Stanley the “death penalty” by granting a partial default judgment against the company. The judge read a statement of facts derived from CPH’s amended complaint to the jury and instructed the jury to consider those facts as established, although the jury was permitted to draw its own inferences from the facts. The court also instructed the jury that Morgan Stanley’s discovery abuses were relevant to the jury’s consideration of punitive damages.
The Court’s Holding
The appellate court noted that CPH’s expert witness had measured damages based solely on the “zero” value of the stock years after the merger and, in contrast to his testimony in other cases, had given no consideration to the value of the stock at the time of the merger. The court therefore found, in a 2 to 1 decision, that CPH had failed to meet its burden of proving the actual, “fraud-free” value of the Sunbeam stock on the date of the merger. The court held that the trial court should have granted Morgan Stanley’s motion for directed verdict because CPH had not presented proof of the correct measure of damages at trial. The court rejected CPH’s argument that it should be given a new trial to prove damages. The court held that CPH could not complain about rulings that it had urged the court to make in accordance with its own incorrect theory of damages.
Because the court concluded that Morgan Stanley was entitled to a directed verdict and reversal of the compensatory damages award, it reversed the punitive damages award as well. The court concluded that a punitive damages award could not stand where, as here, the alleged fraud had not yielded any legally cognizable damage. In his lengthy dissent, Judge Farmer opined that CPH’s theory of compensatory damages was acceptable, and that part of the judgment should have been affirmed. As for punitive damages, however, he would have reversed and remanded on the issue of entitlement, and, if necessary, the amount. According to Judge Farmer,
The moral condemnation is the censure of a civil society expressed collectively by its representative members on a jury. It is not the individual reaction of a single judge --- not even when the judge is imposing sanctions for discovery violations by directing the jury to take certain facts as proven. The facts creating an entitlement to punitive damages are not something that a trial judge can impose on a jury as a presumption. Unavoidably, it is the jury who must find and express that oral condemnation.
Impact of Decision
The electronic discovery issue may still be reached upon a motion for rehearing or further appeal to the Florida Supreme Court. In any event, the appellate court’s reversal does not diminish the cautionary tale about e-discovery inherent in the trial court proceeding. Policies and procedures for the retention of electronic/digital data, as well as for documents, must be developed, implemented, and monitored. These procedures should ensure that records are maintained in accord with federal and state laws and regulations, and can be produced as necessary in lawsuits and other proceedings.
