Assessing a Franchisor's Obligations to Preserve Electronically Stored Information

Voom filed a motion for sanctions for spoliation of evidence. In granting Voom's motion, the trial court relied on a widely cited New York federal court decision which held that once a party “reasonably anticipates litigation” it must issue a litigation hold to preserve relevant documentation, including ESI. See Zubulake v. UBS Warburg LLC, 220 FRD 212, 218 (S.D.N.Y. 2003). The Voom court held that EchoStar should have “reasonably anticipated” litigation on June 20, 2007, when it sent the letter threatening termination. The court also noted further failures by EchoStar in protecting against the spoliation of evidence, including: 1) failing to suspend the automatic deletion of e-mails until four months after the lawsuit was filed; and 2) allowing employees, without guidance or supervision from counsel, to delete e-mails that they concluded were not responsive or relevant to the litigation.

EchoStar argued on appeal that the parties were engaged in discussions to reach an amicable business solution and, therefore, there was no “reasonable anticipation” of litigation at the time the letter was sent in June 2007. EchoStar encouraged the court to adopt a standard that did not require a litigation hold to be issued until litigation was pending or until there was notice of a specific claim. In rejecting this position, the court noted that EchoStar's argument “ignores the reality of how business relationships disintegrate.” The court stated that pre-litigation settlement discussions cannot eliminate the duty to preserve relevant documentation or allow a party to freely shred documents or purge e-mails simply because no litigation is actually pending. Voom's motion was ultimately granted and confirmed on appeal, and EchoStar was sanctioned through a negative or adverse inference at trial.

The Potential Impact on Franchising

The potential impact of the Voom decision on the franchise world could be significant. The nature of the franchising concept suggests that most, if not all, franchisors will at some point send a termination or a notice-of-breach letter to a franchisee. Such letters may put franchisees on notice of a breach of the terms of the franchise agreement; request that the franchisee cease and desist certain behavior; provide a notice of default which must be cured; or simply be a notice of immediate termination. Each such letter has the potential to lead to litigation with the franchisee.

Based on the language in Voom, a court might hold that the day any such letter is sent the franchisor must issue a company-wide “litigation hold” as to that franchisee and suspend the automatic deletion of e-mails relating to that franchisee. It would appear that a franchisor can no longer wait until litigation is commenced or even wait until the termination is finalized before it issues a litigation hold. In Voom, testimony and evidence were offered that EchoStar knew that Voom would commence litigation if the agreement was terminated. In addition, EchoStar had some prior history in other litigation regarding spoliation of evidence. If those facts did not exist or there was evidence of prior history that the letters of the type sent by EchoStar rarely resulted in litigation, perhaps the court would have reached a different result. However, the Voom decision, at a minimum, presents a potential risk to any franchisor who decides not to issue a litigation hold the day it sends a notice threatening termination.

Depending on the size of the franchise system and the number of notices of default or notices of termination that are sent, issuing a litigation hold each time a notice is sent could be a mammoth (and expensive) task. The costs of suspending the automatic deletion of e-mails in connection with multiple franchisees in a large franchise system are potentially staggering. However, the failure to take such steps could be even more damaging in the event of potential litigation, including monetary and/or other sanctions.

The lingering question is how far will the courts go in determining when there is a “reasonable anticipation of litigation.” The Voom court stated that a party should reasonably anticipate litigation when it “is on notice of a credible probability that it will become involved in litigation.” If a representative of a franchisor merely speaks to a franchisee about a breach or default of the franchise agreement, does that trigger a requirement of a litigation hold? If a franchisor conducts monthly, quarterly or annual performance reviews of a franchisee, and the review shows a below-average score, does that trigger a requirement of a litigation hold? Arguably, if a low performance review has historically led to litigation between the franchisee and franchisor, an argument could be made that based on the historical performance the franchisor has notice of a credible probability that it will be involved in litigation with that franchisee and, therefore, must immediately issue a litigation hold.

Conclusion

While rapidly developing and changing technology in terms of electronic communications and document development has greatly increased the speed and efficiency at which businesses can communicate internally and externally, that technology has also increased the demands placed on businesses for storage and retention of ESI. If the Voom decision is any guidance, the litigation demands on the preservation of ESI will continue to increase.

Jay W. Schlosser is a partner in the Minneapolis office of Briggs and Morgan, P.A. He is a member of the firm's Franchise, Antitrust and Distribution Practice Group and provides counseling and litigation services to various franchise, manufacturing and distribution entities. Schlosser can be reached via e-mail at [email protected] or via telephone at 612-977-8539.

Earlier this year, a decision was issued by a state court in New York that further expanded the obligations and requirements imposed on parties in connection with protecting against the spoliation of evidence ' specifically the deletion of electronically stored information (“ESI”). Voom HD Holdings, LLC v. EchoStar Satellite L.L.C. , 93 A.D.3d 33 (N.Y. Sup. Ct., 2012). While technically not a franchise case, the facts of the Voom case are very similar to a typical franchisor/franchisee dispute and, thus, the decision could significantly affect how franchisors operate. If broadly applied, the decision in Voom arguably could require a franchisor to initiate a litigation hold to preserve relevant documentation, including ESI, as soon as it starts down the path of possibly terminating a franchisee.

The facts in the case are relatively straightforward. Voom HD Holdings, LLC and EchoStar Satellite L.L.C. entered into an affiliation agreement in 2005 pursuant to which EchoStar agreed to distribute Voom's television programming. In 2007, EchoStar determined that Voom had failed to comply with certain financial commitments required by the agreement and/or had failed to meet programming content obligations. In June 2007, EchoStar sent two letters to Voom advising Voom of EchoStar's intent to exercise its audit rights and expressing EchoStar's belief that it was entitled to terminate the agreement because Voom had failed to live up to its obligations under the agreement. Internal communications showed that EchoStar representatives believed that it was likely that Voom would commence litigation if the agreement was terminated. On Jan. 30, 2008, EchoStar formally terminated the agreement. Voom filed its lawsuit the next day.

EchoStar implemented a litigation hold after Voom filed the lawsuit. However, the litigation hold did not suspend the automatic deletion of e-mails. Pursuant to EchoStar's automatic deletion system, e-mails were deleted and permanently purged after seven days. EchoStar suspended the automatic deletion of e-mails in June 2008, four months after the lawsuit was filed and almost a year after
EchoStar had sent its initial letter threatening termination.

Voom filed a motion for sanctions for spoliation of evidence. In granting Voom's motion, the trial court relied on a widely cited New York federal court decision which held that once a party “reasonably anticipates litigation” it must issue a litigation hold to preserve relevant documentation, including ESI. See Zubulake v. UBS Warburg LLC , 220 FRD 212, 218 (S.D.N.Y. 2003). The Voom court held that EchoStar should have “reasonably anticipated” litigation on June 20, 2007, when it sent the letter threatening termination. The court also noted further failures by EchoStar in protecting against the spoliation of evidence, including: 1) failing to suspend the automatic deletion of e-mails until four months after the lawsuit was filed; and 2) allowing employees, without guidance or supervision from counsel, to delete e-mails that they concluded were not responsive or relevant to the litigation.

EchoStar argued on appeal that the parties were engaged in discussions to reach an amicable business solution and, therefore, there was no “reasonable anticipation” of litigation at the time the letter was sent in June 2007. EchoStar encouraged the court to adopt a standard that did not require a litigation hold to be issued until litigation was pending or until there was notice of a specific claim. In rejecting this position, the court noted that EchoStar's argument “ignores the reality of how business relationships disintegrate.” The court stated that pre-litigation settlement discussions cannot eliminate the duty to preserve relevant documentation or allow a party to freely shred documents or purge e-mails simply because no litigation is actually pending. Voom's motion was ultimately granted and confirmed on appeal, and EchoStar was sanctioned through a negative or adverse inference at trial.

The Potential Impact on Franchising

The potential impact of the Voom decision on the franchise world could be significant. The nature of the franchising concept suggests that most, if not all, franchisors will at some point send a termination or a notice-of-breach letter to a franchisee. Such letters may put franchisees on notice of a breach of the terms of the franchise agreement; request that the franchisee cease and desist certain behavior; provide a notice of default which must be cured; or simply be a notice of immediate termination. Each such letter has the potential to lead to litigation with the franchisee.

Based on the language in Voom, a court might hold that the day any such letter is sent the franchisor must issue a company-wide “litigation hold” as to that franchisee and suspend the automatic deletion of e-mails relating to that franchisee. It would appear that a franchisor can no longer wait until litigation is commenced or even wait until the termination is finalized before it issues a litigation hold. In Voom, testimony and evidence were offered that EchoStar knew that Voom would commence litigation if the agreement was terminated. In addition, EchoStar had some prior history in other litigation regarding spoliation of evidence. If those facts did not exist or there was evidence of prior history that the letters of the type sent by EchoStar rarely resulted in litigation, perhaps the court would have reached a different result. However, the Voom decision, at a minimum, presents a potential risk to any franchisor who decides not to issue a litigation hold the day it sends a notice threatening termination.

Depending on the size of the franchise system and the number of notices of default or notices of termination that are sent, issuing a litigation hold each time a notice is sent could be a mammoth (and expensive) task. The costs of suspending the automatic deletion of e-mails in connection with multiple franchisees in a large franchise system are potentially staggering. However, the failure to take such steps could be even more damaging in the event of potential litigation, including monetary and/or other sanctions.

The lingering question is how far will the courts go in determining when there is a “reasonable anticipation of litigation.” The Voom court stated that a party should reasonably anticipate litigation when it “is on notice of a credible probability that it will become involved in litigation.” If a representative of a franchisor merely speaks to a franchisee about a breach or default of the franchise agreement, does that trigger a requirement of a litigation hold? If a franchisor conducts monthly, quarterly or annual performance reviews of a franchisee, and the review shows a below-average score, does that trigger a requirement of a litigation hold? Arguably, if a low performance review has historically led to litigation between the franchisee and franchisor, an argument could be made that based on the historical performance the franchisor has notice of a credible probability that it will be involved in litigation with that franchisee and, therefore, must immediately issue a litigation hold.

Conclusion

While rapidly developing and changing technology in terms of electronic communications and document development has greatly increased the speed and efficiency at which businesses can communicate internally and externally, that technology has also increased the demands placed on businesses for storage and retention of ESI. If the Voom decision is any guidance, the litigation demands on the preservation of ESI will continue to increase.

Jay W. Schlosser is a partner in the Minneapolis office of Briggs and Morgan, P.A. He is a member of the firm's Franchise, Antitrust and Distribution Practice Group and provides counseling and litigation services to various franchise, manufacturing and distribution entities. Schlosser can be reached via e-mail at [email protected] or via telephone at 612-977-8539.