What is "Discovery"?

After the initial stages of filing a lawsuit, the pleading stage, is complete, the parties will have an opportunity to obtain information to each other regarding factual and legal basis for their respective claims and defenses.  This is known as the discovery phase of litigation.  

What is the discovery phase?

During the discovery phase, each party has an opportunity to use the various discovery “tools” to obtain information regarding the other party’s claims or defenses.  The most common discovery tools are:

“Rule 26” Disclosures

In federal court, the parties are required to exchange “Rule 26” disclosures with one another.  These disclosures require that each party provide basic information on what discoverable information it possesses.  For example, “Rule 26” disclosures require that a party identify individuals that may have knowledge regarding the facts of a case and requires parties to identify relevant documents in their possession.  The purpose of the “Rule 26” disclosures is to streamline the discovery process for all parties involved.

There is no state court equivalent for “Rule 26” disclosures.  Instead, parties typically utilize other discovery tools to obtain the same information. 

Requests for Production of Documents and Things

A request for production of documents and things is precisely what the name implies.  Such a request is made in writing to an opposing party which must respond in the time period provided under the rules.  Requests for production now typically include request for electronic records, such as e-mails, text messages and information from social media.

Interrogatories

Interrogatories are written questions which are directed from one party to another.  The receiving party is required to respond with written answers within the period of time provided under the rules. Typically, counsel is heavily involved in providing the responses to interrogatories and rarely yields “smoking gun” information. 

Depositions

Depositions are the center piece of the discovery process and involve a real time interchange between individuals and counsel.  During a deposition, counsel asks a series of questions and the deponent provides a series of answers.

Depositions typically takes place in a law firm conference room but are sometimes held at a court house or other location.  The interchange between counsel and deponent is recorded verbatim by a stenographer who produces a written transcript that can be used at trial or in the context of a motion.

Because of the preparation time required to conduct a deposition or defend a client who is being deposed, a deposition is typically the most expensive discovery tool available.  Moreover, stenographers charge by the page and their rates range from four to ten dollars per page depending on the speed in which the transcript is needed.

Notwithstanding the costs, a deposition is often the most effective discovery tool as it requires the deponent to provide information without the softening effect of counsel.  The deposition also allows a preview of how a witness may behave at trial.

Subpoenas

A subpoena is a device used to compel information from individuals or entities that are not parties to litigation.  A subpoena is used in combination with some other discovery tool.  For example, you may send a subpoena to a third party in order to compel them to produce documents or appear for a deposition.

How long does the discovery phase last?

The length of the discovery phase depends primarily on the jurisdiction and venue where the case is being litigated.  The discovery phase in federal court is typically much shorter than in state court.  The discovery phase in federal court is typically less than one year. 

The discovery phase in state court can be extremely long as judges in state court do not set deadlines for propounding discovery.   Many parties use delays in discovery as a tactic to exhaust the opposing party.

Although state courts typically have long discovery phases, the Court of common pleas in Philadelphia has a sophisticated case management system that significantly reduces that time. The discovery phase of the majority of cases in Philadelphia is completed in less than eighteen months.

What will I need to disclose in discovery?

Although the specific documents and information that you will need to produce depend heavily on the particular circumstances of your case, the scope of discovery is generally quite broad.  A party may obtain discovery regarding any matter, that it not privileged, which is relevant to the subject matter in the pending litigation.  Moreover, even irrelevant information is subject to disclosure if the information appears reasonably calculated to lead to the discovery of “appears reasonably calculated to lead to the discovery of [admissible] evidence.”

Emergency Relief and Preliminary Injunctions

Some matters may require emergency action by a Court to prevent immediate harm. This is generally sought in the form of an injunction.   

What is a preliminary injunction?

A preliminary injunction is a court order to do or not do something issued at the outset of litigation to prevent irreparable harm.  It can take a number of forms and courts have broad discretion as to their scope.  A party that violates a preliminary injunction may be subject to contempt of court and subject to the criminal and civil penalties that go along with it.

How do we obtain a preliminary injunction?

A request for a preliminary injunction will only be granted to prevent immediate and irreparable harm to a party.  It is available when a party would be seriously harmed by waiting for the conclusion of litigation.  For example, a party seeking to stop a company from dumping toxic waste in a river, would be likely to receive a preliminary injunction ordering the company to stop discharging waste during the pendency of litigation.   If harm can be reversed by paying money, a preliminary injunction is not appropriate. 

Although the party seeking an injunction must show a probability of success that they will prevail on their claims, the purpose of a preliminary injunction is not to determine who will ultimately win.  It is meant to maintain the status quo during the pendency of litigation.

The party seeing an injunction is sometimes required to deposit money into the court or post a bond to cover any damage that may arise from the wrongful imposition of the injunction.

When can we get a preliminary injunction?

As the name suggests, a preliminary injunction can be obtained early in the litigation.  Depending upon the nature of the injunction, a motion for an injunction may be made simultaneously with the filing of the claim and the court will often hold a hearing within several days.  In some rare circumstances, a court may grant a preliminary injunction before the opposing party has any opportunity to respond.

Motions to Dismiss

During the course of litigation, you may have an opportunity to file a motion to dismiss.  You may also be forced to respond to such a motion from an opposing party.  

What is a motion to dismiss?

Preliminary objections and Rule 12-b motions ask the court to assume that everything in a pleading is true and that the party filing the pleading, nevertheless, has no legal basis for a claim.  Preliminary objections and a 12-b motions are very similar.  Preliminary objections are filed in Pennsylvania courts, whereas, “12b” motions are a feature of federal court procedure.   The term “Motion to Dismiss” is an informal way of describing either preliminary objections or a “12b” motion.

For example, if a plaintiff sued a defendant for telling plaintiff that he did not like the color of her shirt; the defendant would likely succeed on a preliminary objection or a “12b” motion.  Even if the court were to believe everything the plaintiff said—that defendant did not like the color of plaintiff’s shirt—there is no law that the defendant violated and plaintiff cannot recover.

Similarly, preliminary objections or a “12b” motion can be used to attack technical deficiencies in a pleading.   For example, if a plaintiff sues the defendant in an inappropriate venue, the defendant can challenge that venue using such a motion.

When do you file a motion to dismiss?

Preliminary objections or “12b” motions must be filed before answering a pleading.  In Pennsylvania courts, this means the preliminary objections must be filed within thirty days of service of pleading.  In federal court, a “12b” motion must be filed within 21 days of a pleading.  Objections that are not filed in time are waived.

Why would you file a motion to dismiss?

There are a number of reasons to file preliminary objections or “12b” motions.  Parties often file preliminary objections or “12b” motion to challenge technical deficiencies in a pleading, for example, venue or failure to attach exhibits.

Preliminary objections and “12b” motions can also be used to force an opposing party to clarify the basis of its claim.   Attorneys sometimes, whether as a tactical device or because of incompetence, inject or allow ambiguity and vagueness in their pleadings.  An opposing party may not wish to answer such a pleading as it may require them to disclose more information than they would otherwise or because it allows the filing party latitude to change or modify their claims later in the litigation.  

Preliminary objections and “12b” motions are used to dismiss frivolous claims.  Such motions can allow a party to avoid the need to answer frivolous allegations or conduct discovery. 

Preliminary objections and “12b” motions can be used to challenge novel legal theories.  It is not uncommon that a plaintiff seeks to recover from a defendant using a legal theory that has not been approved by an appellate court.  Preliminary objections and “12b” motions challenge the legal adequacy of such novel theories early in the litigation, thereby allowing the court to either approve a legal theory or reject it and allow the disappointed party to take an appeal. 

There are also dishonest reasons for filing a motion to dismiss.  Some attorneys and firms have a reputation for filing preliminary objections or “12b” motions as a tactical device aimed at delaying a proceeding, increasing their own billable hours and forcing their opponents to incur attorney’s fees to respond.  This practice is both unethical and a violation of the rules but it happens with some frequency, particularly in Pennsylvania courts. 

What happens if we win or lose a motion to dismiss?

Since preliminary objections and “12b” motions test the sufficiency of a pleading, a court is generally required to give a party the opportunity to correct these pleadings.  Thus, if preliminary objections are filed against you and you do not prevail, the court will generally allow an opportunity to amend the pleading.  A party can file an additional motion to dismiss to amended pleadings.

There may be instances where a party cannot “correct” their pleading.  For example, if the plaintiff is advancing a novel theory of law there is no way to add additional facts to a complaint that would validate that theory.  In such instance, the court’s order sustaining preliminary objections or granting a “12b” motion has the effect of dismissing one or more of a party’s claims.  If the order disposes of all claims in the litigation, the disappointed party is put out of court and has a right to appeal. 

If a court overrules preliminary objections or denies a “12b” motion, the party that filed it is required to answer to the pleading they objected to.  For example, if a party files a motion to dismiss to a complaint and the motion is denied, the party will be required to answer the complaint.

Motions for Summary Judgment

During the course of litigation, you may have the opportunity to file a motion for summary judgment.  You may also be forced to respond to a motion for summary judgment filed by another party.   

What is a motion for summary judgment?

To understand a motion for summary judgment, you must first understand the purpose of a trial.  A trial is meant to resolve factual disputes.  During a trial, the fact finder (either a jury or a judge sitting as a fact finder) has an opportunity to review testimony and evidence and weigh its credibility to decipher the truth.  For example, in a case where driver A strikes driver B in an intersection, whether the traffic light was green or red when driver A entered the intersection is factual issue.  If there is a dispute as to whether the light was red or green, a trial is required to resolve that dispute.  At the trial, driver A might testify that he believed that the light was green when he entered the intersection whereas driver B may testify that the light was red.  The fact finder would be required to evaluate the credibility of each witness and make a factual determination as to who is telling the truth. 

If there are no factual disputes in a particular matter, there is no reason to have a trial.  The purpose of a motion for summary judgment is to avoid unnecessary trials in matters where there are no factual disputes.  A motion for summary judgment presents evidence that was gathered in discovery to show that no factual disputes exist and asks the court to apply the law to the undisputed facts. 

Any party may file a motion for summary judgment. 

When is a motion for summary judgment filed?

Under the rules, motions for summary judgment can be filed at any time after the pleadings stage.  As a practical matter however, a motion for summary judgment is typically filed after the discovery phase has concluded and before the trial begins.  Many courts, for example the Court of Common Pleas in Philadelphia and federal court, set strict deadlines in which to file a motion for summary judgment.

What is involved in preparing or responding for a motion for summary judgment?

A motion for summary judgment is generally one of the most elaborate and time consuming motions to prepare.  Each fact set forth in the motion must be supported by evidence obtained during the discovery process.  Each item of discovery cited in the motion must be attached as an exhibit.

A motion for summary judgment or a response to one also contains an argument section that asks the judge to apply the law to the facts in a particular way.  Depending on the complexity or the novelty of a particular claim, this section is often quite detailed.  

What happens if I win or lose a motion for summary judgment?

If plaintiff files a motion for summary judgment and succeeds, the court will issue a judgment against the defendant and there will be no need to proceed to trial.  If a plaintiff files and loses, the matter will proceed to trial.

If defendant files a motion for summary judgment and succeeds, plaintiff’s claims are dismissed and plaintiff is put out of court.  If the same defendant loses, the case will proceed to trial.

These outcomes are sometimes more complicated when a party moves for partial summary judgment.   In a motion for partial summary judgment a party asks the court to grant summary judgment only on a particular issue or claim.  Even if the court grants a motion for partial summary judgment, a matter may still proceed to trial in order to resolve factual disputes associated with other claims. 

Avoid Common Pricing Structure Mistakes When Selling Your Business

 

Negotiating a purchase price for a business is more complicated than haggling for a new car. Most business sales have at least some portion of the price paid after closing.  This raises two questions for the seller - How much am I owed and can I collect it?  We see several common mistakes that business owners make when answering these questions.

 

Using Earn Outs Incorrectly.  

 

An "earn out" is a pricing structure where some or all of the purchase price is contingent upon the business hitting certain performance goals after closing.  A properly used earn out typically overcomes two roadblocks to reaching an agreement on purchase price.  Many disagreements over purchase price arise from disagreement over probability of certain outcomes.  For example, a seller may assert that the business is worth 10 million dollars because it will sell 50 widgets next year.  Buyer may say the business is worth only 8 million because it does believe the business will sell 50 widgets.  An earn out can bridge this gap by making the 2 million dollar difference in purchase price contingent on the business selling 50 widgets.

 

An earn out may also allow the seller to capture value from the acumen or resources of the acquirer.  If a target company has struggled because of lack of capital, market presence or other factors, acquisition by a larger company may increase profitability.  A earn out may allow a seller to capture this upside by providing an additional upside contingent on the business hitting performance metrics that exceed past performance.

 

There are a number of risks associated with an earn out for a seller.  It is often difficult to track whether a business has met its performance goals, particularly when the target business is integrated into an existing operating business.  "Creative accounting," in particular, overhead allocation, can make it appear as if a business is not performing or hitting its marks.  Detailed provisions addressing the purchaser's accounting practices help to reduce risk but such provision are fertile for disagreement and post-closing litigation  

 

Not Knowing Your Purchaser.  

 

If you are "taking back paper" - slang for accepting a promissory note in the place of a cash at closing - in a transaction, you are acting as a bank for your purchaser.  Just like a bank, a well-advised seller should conduct due diligence on the potential buyer to evaluate its ability to make good on its promise to pay.  This includes reviewing the purchaser's financial statements, cash flow, other debts and ability to obtain money from other sources.  A more generalized inquiry into the purchaser's business track record is also important.  How long has the purchaser been in business?  Has the purchaser ever declared bankruptcy or does it have judgment against it?  Is the purchaser highly leveraged?

 

Not Acting Like A Bank.  

 

A bank does not lend money without the borrower putting up collateral to back up its promise to pay; you shouldn't either.  The prudent seller treats the buyer as a bank would.  Without adequate collateral, a seller may have a successful lawsuit against a judgment-proof entity or individual.

 

Of course, not all collateral is created equal.  Clients who want to get the price they negotiated for their businesses like to see letters of credit, mortgages on real property and personal guarantees from the owners (and their spouses) of corporate buyers.  Relying solely unsecured promissory notes from recently formed entities or a security interest in the assets of the business just sold is a recipe for disaster. 

 

No transaction is without risk but thoughtful negotiation and good advice can help to minimize the chances of turning a happy time into a sore subject.

Better Options for Day Traders

The day trading business continues to grow.  As individuals who engage in day trading begin to realize that it can be a career rather than a rewarding hobby, they often begin to consider ways in which they can make the business more profitable.

 

The average individual who invests in the stock market is, from an IRS perspective, an “investor.”  There are strict limits on investors’ ability to deduct losses and the investment expenses they incur.  Since these individuals are merely investing rather than operating a business, they are limited in their ability to deduct losses against taxable income.  Further, investment-related expenses cannot be deducted against income unless those expenses are very high – in excess of 2% of the taxpayer’s adjusted gross income.  Even then, deductions for the expenses relating to the investments may be limited after calculating the taxpayers’ alternative minimum tax (AMT).

“Traders in securities,” on the other hand, have the opportunity to deduct greater amounts of losses and the expenses relating to trading.  The IRS sets a high bar for someone trying to qualify as a trader.  Traders engage primarily in frequent, speculative trading activity, seeking to profit from short-term price fluctuations in the securities traded rather than from dividends, interest or capital appreciation.  Their trading activities must be substantial and carried on continuously and regularly.  In short, a trader devotes a significant amount of time to trading activities and the activities should further the trader’s livelihood.

There is no requirement that traders operate as sole proprietors.  They can form business entities that may offer greater liability protection, provide salaries for themselves and other employees and take advantage of retirement planning opportunities.  Depending on the state where you reside, there may be additional advantages to establishing a business entity in a different state.  Coupling these benefits with the abilities to deduct greater amounts of losses and expenses can result in significant advantages for traders.

Navigating the tax and corporate rules that govern this area can be challenging but they rewards can be substantial.  It is advisable to seek guidance from experienced attorneys and tax professionals who can assist you with determining whether you can qualify as a trader and the appropriate way in which to establish your business venture.   

A “Playbook” for Difficult Negotiations

We routinely advise and prepare clients who are entering difficult or complicated negotiations.  Entering an important negotiation or one with an unfamiliar subject matter can be stressful.  We remind our clients that good negotiators are not born good negotiators; even the worst negotiators can improve with a few simple strategies.  Here are ten we have used successfully throughout the years.

1. Understand your Objectives – It is important to know your own bottom line.  Spend the time to do the financial analysis and talk to the stakeholders within your organization to see what they need to get from the agreement.  It can be easy to lose sight of these objections in the midst of negotiation.  Writing these goals down for your own reference can help to keep you focused.
2. Determine Whether the Negotiations are Recurring – The recognition that you will deal with your counterparty again, either in another negotiation or in the context of an ongoing working relationship, is important.  While this does not mean that you should soften your position, you should avoid a “last-dollar” mentality.  If you “win” too big in a deal, it may make ongoing relationships and future negotiations more difficult.
3. Look for Objective Standards – Attempt to find objective measures of value outside of the negotiation.  Ask yourself how a disinterested third-party might assess risks and assign value.  You might be able to gather objective values by talking to third-party suppliers or purchasers, market data or researching. 
4. Examine Your Starting Point – An extremely high or extremely low offer may offend the other side or may cause them to believe you are not serious.  Keep in mind that counterparty may be more inclined to walk away from negotiations early – before they have invested substantial time and money in the negotiation – if they feel your starting point is unreasonable.
5. Don’t Lie – Lying in negotiations has little chance of improving your position and has serious risks.  Maintaining your credibility is critical in negotiations; once lost, it is difficult to reclaim.  Trying to keep lies straight is mentally taxing and distracting.
6. Negotiation is Key – Some back and forth is desirable.  If an offer is accepted early and negotiations are settled very quickly, it may lead to questions about the success of the outcome.  Many people need negotiation to make them feel as if they have received a fair price.  Do not start a negotiation with your bottom line.  Allow the process to give the other side confidence they have found your bottom line.  On the other hand, avoid offers that increase your previous proposal by a miniscule amount.  They are a waste of everyone’s time.  Proposals should be substantial enough that it makes an impact on the opposing parties’ response.
7. Avoid Bidding Against Yourself – Never let the opposing party force you to bid against your proposal.  “Bidding against yourself” means changing your proposal before the other has even responded to it.  Negotiating against yourself only ends up changing your offer with no concessions from the other side.  Statements such as, “I have no authority to offer this but would you take $X dollars (which is lower than your last offer)” should not cause you to lower your number.  Make sure the opposing party offers a real proposal before you respond with a real proposal.
8. Explain your reasoning – Explaining your reasoning can help to enlist the other side in helping to reach your goals.  It can lead to a “win/win.”  It can also provide a viable impersonal focus for discussions.
9. Get Comfortable with “No” – Naturally, individuals want to say “yes” – it is socialized and hardwired into us.  Although saying “no” can be uncomfortable, it is liberating and gets easier over time.  Your ability to quickly and definitively say “no” depends on how well you know your own position.
10. Don’t Split the Difference – It is normal when a negotiation is coming to a close for someone to suggest splitting the gap between the two offers in order to settle the deal.  This is unwise since it reveals to the other side that you are willing to settle on a number between the current proposals.  A skilled negotiator will then try to move you from that amount, leaving you with less than half of the difference.