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Weighing in on a breach of contract suit in Connecticut, the 2nd U.S. Circuit Court of Appeals has reaffirmed the broad discretion of federal courts to impose discovery sanctions. The appellate court said federal judges might impose sanctions, including an adverse inference jury instruction, when a party fails to produce evidence not only through bad faith or gross negligence, but also through ordinary negligence. The unanimous ruling, written by Judge Jos� A. Cabranes and handed down late last month, ordered a federal judge in Connecticut to reconsider a motion for an adverse inference instruction made by a lending company that came out on the losing end of a contract dispute. Before it filed for bankruptcy in May 1999, DeGeorge Financial Corp. made construction loans to homeowners. Some of those loans were purchased by Residential Funding Corporation, a division of General Motors Acceptance Corp. Residential contended that DeGeorge used money meant for loans in a failed attempt to expand its business, causing the company to collapse and leaving Residential to pay the loans. Residential sued in January 1999 and DeGeorge soon countersued, claiming that Residential had agreed to purchase $1 billion in loans but reneged, causing DeGeorge to falter. Two years later, a jury reached a verdict in favor of Residential for $96.4 million. DeGeorge appealed, contending that it should receive a new trial because federal Judge Janet Bond Arterton of the District of Connecticut failed to impose an adverse inference instruction when Residential failed to produce e-mails in a timely fashion. Arterton found Residential perhaps had exhibited “purposeful sluggishness,” but said DeGeorge did not establish that Residential had acted with bad faith or gross negligence. The judge also said DeGeorge failed to establish that the missing e-mails, which were converted from back-up tapes by DeGeorge during trial, would help the company’s position. But the 2nd Circuit held in Residential Funding Corporation v. DeGeorge Financial Corp., 01-9282, that Judge Arterton had applied the wrong standard. The panel said that a party seeking an adverse instruction must show that its opponent had an obligation to produce the evidence, that the opponent had a “culpable state of mind,” and that the missing evidence was relevant. Residential did not contest the first point, leaving Arterton to consider the second two conditions. INTENT NOT NECESSARY The 2nd Circuit found that Arterton considered only whether Residential acted with bad faith or gross negligence, even though the 2nd Circuit ruled in Byrnie v. Town of Cromwell, 243 F.3d 93 (2001), that the “culpable state of mind” factor could be satisfied without intent. “The sanction of an adverse inference may be appropriate in some cases involving the negligent destruction of evidence because each party should bear the risk of its own negligence,” Judge Cabranes wrote for the court. Citing Kronisch v. United States, 150 F.3d 112 (2d Cir. 1998), Cabranes added that courts must take care to not hold a party to too strict a standard of proof regarding the relevance of missing evidence, since to do so would “subvert” the purposes of adverse inference. The court ordered Arterton to consider a new motion for discovery sanctions by DeGeorge. “Upon consideration of any such motion, the District Court should vacate the judgment and order a new trial if DeGeorge establishes that [Residential] acted with a sufficiently culpable state of mind � and that DeGeorge was prejudiced by the failure to produce the e-mails,” Judge Cabranes wrote. He added, “It appears to us that, in the press of deciding this motion in the midst of trial, the District Court overlooked some evidence that could support a finding that [Residential] acted in bad faith or was grossly negligent.” The judge noted that Residential alleged it spent months trying to recover e-mails from backup tapes without success, but DeGeorge was able to recover the messages in four days once it received the tapes from Residential. Jonathan Ross of Susman Godfrey in Houston was lead counsel for DeGeorge. Jeffrey A. Hall of Bartlit Beck Herman Palenchar & Scott in Chicago was lead counsel for Residential. Residential was also represented by Joshua W. Cohen of Cummings & Lockwood in Stamford, Conn.

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