*1 Plaintiff Securities and Exchange Commission (the “SEC”) has filed two separate motions for sanctions, against defendants Hung Wai Shern (“Shern”), Rui Ling Leung (“Leung”), CKB168 Holdings Ltd., WIN168 Biz Solutions Ltd., CKB168 Ltd., CKB168 Biz Solutions Inc., and Cyber Kids Best Education Ltd. (together, the “Foreign Defendants”), under Rule 37 of the Federal Rules of Civil Procedure. See Motion for Sanctions (Nov. 7, 2014) (“11/7/14 Motion”), Electronic Case Filing Docket Entry (“DE”) # 193; Motion for Sanctions (Dec. 3, 2014) (“12/3/14 Motion”), DE # 201. The earlier of the two motions, which addresses Shern and Leung's failure to appear at their court-ordered depositions, seeks an order precluding Shern and Leung “from offering their testimony, affidavit, or declaration in connection with a dispositive motion or trial.” See 11/7/14 Motion at 1. The SEC's second motion, complaining of the Foreign Defendants' failure to produce most of their corporate records, requests an adverse inference jury instruction “that the unproduced evidence would have supported the SEC's allegations that the corporate defendants had no plan and made no preparations to go public, and the corporate defendants relied on sales to investors for virtually all of their revenues.” 12/3/14 Motion at 1. For the reasons discussed below, this Court recommends that the SEC's two motions for sanctions be granted.

BACKGROUND

According to the SEC's allegations, the Foreign Defendants are part of a multi-national pyramid scheme, of which Shern and Leung are the primary architects and beneficiaries. See 11/7/14 Motion at 3. Over the past several months, the Court has been inundated with discovery disputes involving the Foreign Defendants, who have made a series of unsuccessful attempts to evade their discovery obligations. The relevant history of those disputes is summarized below.[1]

I. Shern and Leung's Depositions

On July 2, 2014, the SEC first noticed the depositions of Shern and Leung, to be held in New York from September 23 to September 26, 2014. See 11/7/14 Motion at 1. At the request of counsel for Shern and Leung, the SEC delayed those depositions to the week of November 3, 2014, and arranged for them to obtain a letter of safe passage from the United States Attorney's Office for the Central District of California, which was also investigating the alleged scheme. See id.; Letter (Sept. 9, 2014) (“9/9/14 Letter”) at 1, DE # 164. Shern and Leung then applied to the Court on multiple occasions, asking to stay their depositions for a variety of reasons, all of which the Court rejected. See Memorandum and Order (“10/9/14 Order”), DE # 179 (rejecting due process challenge concerning parallel federal criminal investigation); Order (Oct. 16, 2014) (“10/16/14 Order”), DE # 181 (declining to excuse Leung from attending deposition absent further information regarding, inter alia, Leung's attempts to obtain a visa and permission from Hong Kong authorities to travel to the United States); Order (Oct. 28, 2014) (“10/18/14 Order”), DE # 188.

*2 On October 28, 2014, the Court warned Shern and Leung that the failure to attend their depositions, and/or the Court's settlement conference on October 30 and 31, 2014, would constitute violations of court orders and might subject them to sanctions, “including but not limited to entry of default or a preclusion order.” 10/28/14 Order at 3. The Court rejected Leung's contention that she was unable to attend a deposition in New York because she had not obtained a visa and doing so might take longer than 60 days. Id. at 2. The Court likewise rebuffed Leung's claim that her scheduled interview with the Hong Kong Securities and Futures Commission (“HKSFC”) on October 22, 2014 prevented her from thereafter attending her deposition. Id. at 1–2. As for Shern, he offered no excuse for his planned non-appearance at his deposition and the Court's settlement conference, apart from a vague reference to “events in Hong Kong and potential exposure.” See id. at 2. Despite the Court's various orders, Shern and Leung did not appear for the settlement conference or for their depositions.

Shern and Leung now assert that they “were advised by their counsel in Hong Kong not to leave Hong Kong without the express permission of the HKSFC, which in Ms. Leung's case was not granted.” Response in Opposition (Nov. 17, 2014) (“11/17/14 Response”) at 1, DE # 194. In an unsworn letter from counsel of record in this civil action, Shern and Leung deny that they acted in bad faith, claiming that “they had intended to appear in New York for depositions,” id. at 4, and that “their decision to remain in Hong Kong was reasonable and understandable,” id. at 2. To test these assertions, on December 18, 2014, the Court directed Shern and Leung to submit sworn statements substantiating their contentions. See Memorandum and Order (Dec. 18, 2014), DE # 207. By letter dated December 22, 2014, counsel for Shern and Leung informed the Court that, “based on the advice from their counsel in Hong Kong, [the] Foreign Defendants decline to submit the sworn statements requested by the Court.” Letter (Dec. 22, 2014) (“12/22/14 Letter”), DE # 208.

Fact discovery closed on December 19, 2014; Shern and Leung at no time sought an extension of time to comply with their discovery obligations.

II. The Foreign Defendants' Corporate Records

The Court also directed the Foreign Defendants, on multiple occasions, to produce corporate records to the SEC. See Electronic Order (Aug. 8, 2014) (so-ordering the production schedule to which the Foreign Defendants had consented, which directed the Foreign Defendants to produce an initial wave of documents by September 5, 2014, with all other responsive documents to be produced by September 26, 2014); 10/9/14 Order at 20 (directing the Foreign Defendants to produce all responsive documents, on pain of sanctions, by October 16, 2014). On October 16, 2014, the Foreign Defendants produced approximately 15,000 pages of emails and email attachments from the personal email accounts of Shern and Leung. See 12/3/14 Motion at 2. A portion of those documents included “promotional literature, programming code, discussions about CKB's efforts to develop products, papers related to the SEC's lawsuit, and contracts with third parties.” Id. Although the documents disclosed included a modest quantity of emails between Shern and Leung's personal email accounts and their corporate entities' email accounts, documents obtained from a search of the corporate email accounts were not independently produced, nor were any other corporate records, including financial statements and other standard books and records. Id.

*3 The Foreign Defendants provided the SEC with a hard drive purportedly containing approximately 32 gigabytes of what they characterize as “back office data.” See Memorandum in Opposition (Dec. 12, 2014) (“12/12/14 Response”) at 1, DE # 206. The Foreign Defendants have declined to explain what they mean by “back office data,” stating only that what they produced is a “complete image of all information maintained on the corporate server.” 12/12/14 Response at 1. They do not dispute that the hard drive cannot be read or used in any manner, see 12/3/14 Motion at 2, or that the unreadable production includes “each investor's online account,” id. Instead, the Foreign Defendants claim that, like the SEC, they have been unable to access the information in any usable format. See 12/12/14 Response at 2. According to the Foreign Defendants, they had contracted with a third-party vendor in Malaysia “to create, host, and maintain their corporate records,” but, due to the Foreign Defendants' default on payments to the vendor, the vendor terminated its services and refused to provide any further assistance in accessing the documents in a usable format. Id. at 1–2.

Notably, the issue regarding the third-party vendor was first brought to the Court's attention during a telephonic proceeding on August 7, 2014; at that time, counsel for the Foreign Defendants stated that the vendor was insisting upon approximately $25,000 for its assistance and that the Foreign Defendants would have to petition the District Court for a modification of the preliminary injunction freezing their assets, so as to release funds for that purpose. The Foreign Defendants never filed such a petition.

In order to inform its determination regarding the propriety of sanctions, the Court directed the Foreign Defendants to provide additional information in sworn statements, including a description of the contents of the hard drive and the technological issues preventing access to the records contained on the drive; a timeline as to when payments to the vendor ceased and the vendor terminated its services; specifics concerning what efforts had been made to identify and produce corporate records; and when the Foreign Defendants first attempted to obtain a readable copy of the material on the hard drive. See 12/18/14 Order at 2. The Foreign Defendants, in perfunctory fashion, informed the Court that they “declined” to comply with the Court's directive, purportedly based on the advice of their Hong Kong counsel. See 12/22/14 Letter.

DISCUSSION

Pursuant to Rule 37 of the Federal Rules of Civil Procedure, courts enjoy broad discretion in deciding whether and how to fashion sanctions for violations of a party's discovery obligations. See Design Strategy, Inc. v. Davis, 469 F.3d 284, 294 (2d. Cir.2006). Rule 37 provides for a range of possible sanctions for discovery derelictions.[2] In determining what particular sanctions may be appropriate under the Rule, courts consider factors such as “(1) the willfulness of acts underlying noncompliance; (2) the efficacy of lesser sanctions; (3) the duration of noncompliance; and (4) whether the noncompliant party was on notice that it faced possible sanctions.” Sentry Ins. A Mut. Co. v. Brand Mgmt., 295 F.R.D. 1, 5 (E.D.N.Y.2013) (citing Agiwal v. Mid Island Mortg. Corp., 555 F.3d 298, 302–03 (2d Cir.2009)); accord SEC v. Setteducate, 419 F.App'x 23, 24 (2d Cir.2011). Where the sanction sought is a severe one, such as preclusion, courts regularly examine several additional factors, including the importance of the precluded evidence, the explanation for the failure to comply, and the prejudice suffered by the opposing party. See Softel, Inc. v. Dragon Med. & Scientific Commc'ns, Inc., 118 F.3d 955, 961 (2d Cir.1997). The goal in imposing Rule 37 sanctions is, “insofar as possible ... [to] restor[e] the prejudiced party to the same position [it] would have been in absent the wrongful [withholding] of evidence by the opposing party.” Linde v. Arab Bank, PLC, 269 F.R.D. 186, 195 (E.D.N.Y.2010) (quoting Kronisch v. United States, 150 F.3d 112, 126 (2d Cir.1998)), appeal dismissed,706 F.3d 92 (2d Cir.2013).

I. Shern and Leung's Failure to Appear at Their Depositions

*4 The SEC seeks to preclude Shern and Leung from offering their own testimony or sworn statements in connection with a dispositive motion or trial. See 11/7/14 Motion at 1. Preclusion is a “harsh remedy” that “should be imposed only in rare situations.” Izzo v. ING Life Ins. & Annuity Co., 235 F.R.D. 177, 186 (E.D.N.Y.2005)(quoting Update Art, Inc. v. Modiin Publ'g, Ltd., 843 F.2d 67, 71 (2d Cir.1988)). While a finding of bad faith is not required to justify preclusion of evidence under Rule 37, a court may consider bad faith in its analysis under the Rule. See Design Strategy, 469 F.3d at 296. This Court has considered all of the relevant factors in determining whether to impose sanctions and what sanctions to impose.

A. Shern and Leung's Conduct was Willful and in Bad Faith

A party's conduct is considered willful when done in knowing contravention of clear court orders, where noncompliance is within the party's control. Urbont v. Sony Music Entm't, No. 11 CIV. 4516 NRB, 2014 WL 6433347, at *2 (S.D.N.Y. Nov.6, 2014); see also Handwerker v. AT & T Corp., 211 F.R.D. 203, 209 (S.D.N.Y.2002)(“[A] party's persistent refusal to comply with a discovery order presents sufficient evidence of willfulness, bad faith or fault.”).

Shern and Leung's decision not to appear for their depositions on November 3, 2014 was done in knowing violation of this Court's orders. In an October 16, 2014 letter, Leung offered two justifications for excusing her from having to appear for deposition. See 10/16/14 Letter. One reason was that she could not obtain a visa within 60 days. Id. at 1.[3] However, Leung's deposition had first been noticed more than three months before it was ultimately scheduled to take place. The fact that Leung offers no proof that she ever attempted to obtain a visa to travel to the United States is compelling indicia of her bad faith, see generally 10/28/14 Order at 2, and belies her claim that she and Shern “had intended to appear in New York for their depositions,” 11/17/14 Response at 4.

The other explanation proffered by Leung in seeking dispensation from appearing at her deposition was that, according to her Hong Kong counsel, she might be subject to criminal penalties for non-cooperation in the event she failed to attend her interview with the HKSFC, which was then scheduled to commence on October 22, 2014 and possibly to continue for additional unscheduled days thereafter. See 10/16/14 Letter. But Leung apparently never requested permission from the HKSFC to travel to the United States after her interview concluded. See10/28/14 Order at 2. And her co-defendant, Shern, offered no plausible explanation for his non-appearance.

The Court therefore rejected the excuses offered by Shern and Leung and informed them that their failure to appear at their depositions would constitute a violation of a court order. See id . at 1. Shern and Leung nonetheless failed to appear and made no effort to reschedule the in-person deposition for a later date, so as to avoid any arguable scheduling conflict with the HKSFC's October 22, 2014 interview of Leung.

*5 In response to the SEC's pending motion for sanctions, counsel for Shern and Leung for the first time contend that because both are subjects of an investigation by the HKSFC, Hong Kong counsel has advised them not to leave Hong Kong without the express permission of the HKSFC. See 11/17/14 Response at 1. Shern and Leung have, however, offered no evidence that Hong Kong counsel provided this advice.[4]

Nor do they proffer any proof that Leung ever sought permission from the HKSFC to travel to the United States; in fact, the Court concludes that she did not, since the record establishes that such permission would have been granted. See (Sealed) Exhibit 2 to Motion for Leave to File Letter in Reply (Nov. 21, 2014) (“Sealed Exhibit”), DE # 195–2. Even assuming arguendo that Leung's Hong Kong barrister inquired of the HKSFC whether its October 22nd interview of Leung could be postponed, see Notice (Oct. 22, 2014) at 1, DE # 184, the Foreign Defendants appear to have ignored the Court's proposal that they seek permission for Leung to travel to the United States afterthe interview. See 10/16/14 Order at 2. Shern's reliance on the supposed advice of Hong Kong counsel is similarly unavailing; Shern does not purport to have made any request whatsoever of the HKSFC, but merely asserts that there is “no indication that a similar request on [his] behalf would not also be rejected,” 11/17/14 Response at 1 n. 2–an assertion likewise refuted by the record.

Furthermore, Shern and Leung defied this Court's directive to submit sworn statements detailing the efforts made by them or on their behalf to overcome the alleged obstacles to their attendance at their depositions. See 12/18/14 Order at 2; 12/22/14 Letter. That Shern and Leung refused to submit sworn statements demonstrating any efforts made to enable them to attend their depositions further suggests that their failure to comply with the Court's order was part of a deliberate strategy of non-cooperation with this civil lawsuit. See generally SEC v. Razmilovic, 738 F.3d 14, 26–27 (2d Cir.2013).

In light of Shern and Leung's repeated violations of court orders and nearly nonexistent efforts to make themselves available for their court-ordered depositions, the Court finds that their failure to appear was willful and deliberate.[5]

B. Lesser Sanctions are Not Appropriate

Preclusion, though harsh, is plainly not the harshest sanction authorized under Rule 37, which expressly contemplates the imposition of sanctions of a dispositive nature for discovery violations. Seesupra p. 6 n. 2; see also Razmilovic, 738 F.3d 14 (affirming imposition of default judgment as discovery sanction for refusal to appear for court-ordered deposition). In the circumstances presented here, a preclusion order best minimizes the prejudice caused by Shern and Leung's failure to appear for their depositions, and Shern and Leung have not proposed any lesser sanction that they contend would be more appropriate. Considering that an asset freeze is already in place, monetary sanctions would obviously not be an effective sanction. Shern and Leung's persistent pattern of ignoring the Court's orders suggests than any lesser sanction would be similarly ignored. See Razmilovic, 738 F.3d at 27(defendant's “adamance in the face of the court's warning of possible sanctions,” including default judgment, “clearly supported an inference ... that no lesser sanction would be effective to induce Razmilovic to appear in New York for his deposition.”); Setteducate, 419 F.App'x at 25 (“[T]he record demonstrates that a lesser sanction would have been ineffective in light of [defendant's] repeated and unwavering refusal to attend his deposition.”).

C. The Duration of Shern and Leung's Noncompliance Favors Preclusion

*6 Shern and Leung's efforts to avoid appearing for their depositions date back to at least September 2014; even as each of their excuses was rebuffed by the Court, they took no steps whatsoever to make themselves available in the United States for their depositions. Although they now assert that the SEC had initially been willing to consider a videoconference deposition, see 11/17/14 Response at 3, they knew by at least early September 2014 that the SEC was insisting upon in-person depositions, to be completed by the week of November 3, 2014, see9/9/14 Letter at 1–2. Shern and Leung nonetheless continued to seek ways to avoid appearing at all for their depositions, and did not apply to the Court for authorization to appear via videoconference. Significantly, even after they failed to appear on the scheduled dates, Shern and Leung did not ask to reschedule their depositions, nor did they request an extension of time to complete fact discovery. Simply put, the Foreign Defendants' “offer” to have their depositions taken by videoconference is too little too late, and does not cure their noncompliance.

D. Shern and Leung were on Notice that Their Conduct Might Result in Preclusion

This Court explicitly warned Shern and Leung that their failure to appear at their depositions could result in sanctions, including entry of a default judgment or preclusion order. See 10/28/14 Order at 3. Shern and Leung nonetheless opted not to appear. This factor thus supports the imposition of a preclusion order.

E. Shern and Leung's Conduct Was Not Substantially Justified or Harmless

Citing the factors outlined by the Second Circuit in Softel, 118 F.3d at 961, Shern and Leung argue that preclusion is unwarranted, because their failure to comply with their discovery obligations was “substantially justified” and “harmless,” see 11/17/14 Response at 4; see also U.S Bank Nat'l Ass'n v. PHL Variable Ins. Co., Nos. 12 Civ. 6811(CM)(JCF), 13 Civ. 1580(CM)(JCF), 2013 WL 5495542, at *2, *4–7 (S.D.N.Y. Oct. 3, 2013) (declining to preclude evidence where party's failure to disclose required information was substantially justified and harmless, and where the violation was cured).

As justification for their decision not to appear at their depositions, Shern and Leung cite the “high stakes” they would have faced in Hong Kong had they complied with this Court's orders, 11/17/14 Response at 2, specifically, criminal penalties for failure to cooperate with the HKSFC investigation, See id. at 4. This argument is factually and legally unfounded. First, Shern and Leung provide no actual support that such penalties would have followed, and the record suggests that this purported justification was merely one in a series of feeble excuses to evade their discovery obligations in this case. See, e.g., Sealed Exhibit. In any event, even assuming arguendo that their refusal to appear for their court-ordered depositions was based on a legitimate understanding of Hong Kong law, it is well-established that foreign law provides no excuse for failing to comply with U.S. discovery obligations. See Linde v. Arab Bank, PLC, 706 F.3d 92, 109 (2d Cir.2013) (“[T]he operation of foreign law does not deprive an American court of the power to order a party subject to its jurisdiction to produce evidence even though the act of production may violate that law”) (quoting Société Nationale Industrielle Aérospatiale v. U.S. Dist. Court, 482 U.S. 522, 544 n. 29, 107 S.Ct. 2542, 96 L.Ed.2d 461 (1987)).

*7 The Linde case is particularly instructive. There the Second Circuit upheld the imposition of sanctions on the defendant for failing to produce documents despite the defendant's claim that doing so would violate foreign bank secrecy laws. 706 F.3d at 98. In determining whether discovery sanctions were appropriate in that case, the district court had looked to the factors contained in Section 442 of the Restatement (Third) of The Foreign Relations Law of the United States (the “Restatement”), including the importance of the requested information, the degree of specificity of the request, whether the information originated in the United States, the availability of alternative means of securing the information, and the extent to which noncompliance with the request would undermine the interests of the United States, or compliance with the request would undermine important interests of the state where the information is located. See Restatement (Third) of Foreign Relations § 442(1)(c); see also Linde, 269 F.R.D. at 193, 196.

In this case, the Restatement factors-especially the final factor-weigh in favor of sanctioning Shern and Leung for failing to appear for their depositions. Indeed, in contrast to Linde, this is not a suit with a private plaintiff; rather, it is a federal agency that is seeking the information. See Linde, 269 F.R.D. at 199 (noting that disclosure requests from governmental authorities “are thought to embody a ‘strong’ national interest”). Furthermore, Shern and Leung proffer no evidence that governmental interests in Hong Kong would have been undermined by their appearance here; to the contrary, the SEC has proffered evidence that the Hong Kong authorities did not impede Shern and Leung's appearance at their depositions. See Sealed Exhibit. Notably, in Linde, sanctions were imposed even though the defendant had unsuccessfully petitioned the relevant foreign authorities in writing, seeking permission to disclose the required information. See 706 F.3d at 99. Here, Shern and Leung have made no such requests and, as discussed, it appears likely that a relevant request would not have been denied. While Shern and Leung may have made the calculation that whatever risks they might face in a civil suit in the United States were outweighed by concerns of criminal punishment in Hong Kong, they must live with the consequences of that choice. “A party who flouts [discovery] orders does so at his peril.” Update Art, 843 F.2d at 73.

With respect to the importance of the withheld testimony, and the resulting prejudice to the SEC, Shern and Leung argue that the SEC has not substantiated the significance of their deposition testimony, apart from “the conclusory statement” that Shern and Leung are the primary architects and beneficiaries of the alleged pyramid scheme. 11/17/14 Response at 2. However, over the course of this litigation, the SEC has proffered substantial evidence to support its characterization of Shern and Leung's central role in a massive pyramid scheme.[6] Moreover, the Foreign Defendants' effort to downplay the role of Shern and Leung in the alleged scheme cannot be squared with their response to the SEC's notice for deposition of the corporate Foreign Defendants under Rule 30(b)(6) of the Federal Rules of Civil Procedure, wherein they claimed that Shern and Leung are “[t]he only corporate representatives with the requisite knowledge to be designated as 30(b)(6) witnesses....” Letter Motion for Protective Order (Nov. 24, 2014) (“11/24/14 Letter”) at 1, DE # 197.

*8 Shern and Leung also argue that their failure to appear at their depositions was “harmless,” because they supposedly remained willing to appear for depositions by videoconference. 11/17/14 Response at 4; but cf. 11/7/14 Motion at 2 n. 2. While the prejudice to the SEC is one factor to consider among many, it is not a prerequisite to the imposition of even the much harsher sanction of default judgment. See S. New England Tel. Co. v. Global NAPs, Inc., 624 F.3d 123, 148 (2d Cir.2010). Furthermore, a videoconference is a poor substitute for confronting a deponent in person and thus would be prejudicial to the SEC.

Shern and Leung's reliance on the Third Circuit's decision in SEC v. Graystone Nash, Inc., 25 F.3d 187 (3d Cir.1994), is misplaced. There the court reversed an order of preclusion that was far broader in scope than the one sought by the SEC in this case, and remanded for further consideration of a more measured remedial order. See25 F.3d at 18889. The preclusion order in that case-which was prompted not by violations of court orders but by the defendants' invocation of their Fifth Amendment privilege at deposition-was “a complete bar to presenting any evidence, from any source,” and thus “in all practical effect amount[ed] to the entry of an adverse judgment....” Id.at 191; See id. at 193 (ruling that the “severe remedy of barring defendants from presenting any evidence from third parties was even less necessary”). Here, in contrast, the remedy sought is narrowly tailored to cure the evidentiary imbalance created by Shern and Leung's refusal to appear at all for their court-ordered depositions: preclusion of testimony or sworn statements from the two non-appearing defendant witnesses. Moreover, in reversing the resulting judgment in Graystone, where the defendants' only “offense” was their reliance on their constitutional privilege against self-incrimination, the Third Circuit made clear that a “defendant's obstructionary conduct throughout the litigation” might well have an impact on “the court's ultimate choice of remedies.” Id. at 192. In this case, Shern and Leung's obstructionary conduct warrants the limited preclusion order sought by the SEC.

For the above reasons, the Court finds that the relevant factors weigh in favor of preclusion and recommends that Shern and Leung be precluded from providing their testimony in any form in connection with a dispositive motion or at trial.

II. Corporate Records

The SEC additionally seeks an adverse inference instruction against the Foreign Defendants based upon their alleged “spoliation” of relevant evidence, specifically, their corporate “back office data.” 12/3/14 Motion at 2. Spoliation is “the destruction or significant alteration of evidence, or the failure to preserve property for another's use as evidence in pending or reasonably foreseeable litigation.” Byrnie v. Town of Cromwell, 243 F.3d 93, 107 (2d Cir.2001) (quoting West v. Goodyear Tire & Rubber Co., 167 F.3d 776, 779 (2d Cir.1999)). “In order to establish that sanctions for spoliation are warranted, the moving party must establish: (1) that the non-movant had an obligation to preserve the evidence; (2) that the non-movant acted culpably in destroying the evidence[;] and (3) that the evidence would have been relevant to the moving party's case, in that a reasonable fact finder could conclude that the evidence would have been favorable to the moving party.” Mastercard Int'l, Inc. v. Moulton, No. 03 Civ. 3613, 2004 WL 1393992, at *3 (S.D.N.Y. June 22, 2004) (citing Residential Funding Corp. v. DeGe orge Funding Corp., 306 F.3d 99, 107 (2d Cir.2002)).[7] This Court has therefore considered each of those factors in concluding that an adverse inference sanction should be imposed on the Foreign Defendants for their failure to preserve a readable copy of the corporate back office data.

A. The Foreign Defendants Had an Obligation to Preserve the Back Office Data

*9 The Foreign Defendants concede, as they must, that courts in this Circuit have repeatedly held that “once a party reasonably anticipates litigation,” it has an obligation to put in place a “hold” to ensure the preservation of potentially relevant documents. See, e.g., Yu Chen v. LW Rest., Inc., No. 10 CV 200(ARR), 2011 WL 3420433, at *9 (E.D.N.Y. Aug.3, 2011); 12/12/14 Response at 2. The Foreign Defendants claim that they are unable to produce readable documents because their vendor has not been paid for “several months”[8] and is therefore no longer providing the Foreign Defendants with access to the information. See 12/12/14 Response at 3. But the Foreign Defendants have been aware of this litigation for more than “several months”; the complaint was filed on October 9, 2013, and predecessor counsel filed a notice of appearance on their behalf on October 22, 2013. See Notice of Appearance (Oct. 22, 2013), DE # 31. It was their obligation to take “all necessary steps to guarantee that relevant data was both preserved and produced,” Yu Chen, 2011 WL 3420433, at *11 (quotation marks and citation omitted), and their obligation to preserve the relevant data on their corporate server thus began well before the vendor stopped providing services.

B. The Foreign Defendants Acted with a Culpable State of Mind

To support the imposition of spoliation sanctions, the Court must find that the Foreign Defendants acted with a “culpable state of mind.” Residential Funding, 306 F.3d. at 107. The spoliation need not be knowing, so long as it was negligent. See Yu Chen, 2011 WL 3420433, at *11; Rabenstein v. Sealift, Inc., 18 F.Supp.3d 343, 362 (E.D.N.Y.2014) (“A culpable state of mind ‘must, at a minimum, constitute simple negligence.’ ”) (quoting Dataflow, Inc. v. Peerless Ins. Co., No. 11–CV–1127, 2013 WL 6992130, at *6 (N.D.N.Y. June 6, 2013)).

The record reflects that the culpability of the Foreign Defendants in failing to preserve the back office data far exceeded mere negligence. The record is barren of any evidence that they took any steps whatsoever, either at or after the commencement of the litigation, to preserve a readable copy of corporate documents on the corporate server. Nor did they ever seek a modification of the asset freeze to enable them to make payments to the third-party vendor and thereby regain access to the server. When the Court directed the Foreign Defendants to describe their efforts to identify and produce corporate records, see 12/18/14 Order, the Foreign Defendants “declined” to comply with that order and provided no information regarding any efforts made to meet their obligation to preserve the evidence, see 12/22/14 Letter.

Courts have found defendants to be grossly negligent where, as here, they failed to take any steps to preserve relevant records. See Yu Chen, 2011 WL 3420433, at *12 (“It is abundantly clear that the defendants in this action did not take any, let alone all necessary steps to guarantee that the disk drive was maintained.... This utter failure to establish any form of litigation hold at the outset of litigation ... is grossly negligent.”) (citing Chan v. Triple 8 Palace, Inc., No. 03CIV6048(GEL)(JCF), 2005 WL 1925579, at *7 (S.D.N.Y. Aug. 11, 2005)); see also Regulatory Fundamentals Grp. LLC v. Governance Risk Mgmt. Compliance, LLC, No. 13 Civ. 2493(KBF), 2014 WL 3844796, at *4, *7, *10 (S.D.N.Y. Aug.5, 2014) (court finds that defendant, who claimed inability to pay monthly charges for email hosting services, and thereby attempted to shift blame to vendor, had terminated email account in order to prevent plaintiff from accessing emails). Given the Foreign Defendants' refusal to provide any information regarding their efforts to preserve evidence, the Court declines to credit the unsworn, qualified assertions of counsel for the Foreign Defendants in suggesting that his clients acted in good faith. See 12/12/14 Response at 2 (“To our knowledge, all of the corporate defendants are defunct.... In short, the Foreign Defendants, we are informed, have exhausted their ability to obtain or produce any additional documents.” (emphasis added)). Counsel's representations, without more, provide no comfort that the Foreign Defendants did, in fact, make good faith efforts to comply with their discovery obligations. The Court therefore finds that the Foreign Defendants were, at a minimum, grossly negligent in failing to preserve their corporate records in readable form, and thus acted with a sufficiently culpable state of mind to support spoliation sanctions.

C. The Spoliated Evidence is Relevant to the SEC's Claims

*10 The third factor to consider in deter mining whether to impose spoliation sanctions is whether the unavailable evidence is “relevant” to the moving party's claims or defenses, meaning that a reasonable trier of fact could infer that the destroyed or otherwise undisclosed evidence would have been of the nature alleged by the party affected by its nonproduction. See Residential Funding, 306 F.3d at 109. Where, as here, the spoliating party has been grossly negligent, many courts have presumed that the undisclosed evidence would have been favorable to the party seeking sanctions. See Yu Chen, 2011 WL 3420433, at *14 (collecting cases).

The Foreign Defendants describe the contents of the hard drive as including “a complete image of all information maintained on the corporate server.” 12/12/14 Response at 1. While asserting that that information includes “everything that exists,” id., they ignored the Court's order to provide a sworn statement containing specifics about the information contained on the drive, see 12/22/14 Letter. The SEC asserts, and the Foreign Defendants do not dispute, that the Foreign Defendants have failed to produce “1) corporate records, such as financial statements generated during the relevant period and other standard books and records; 2) investor communications from corporate email accounts; or, 3) ordinary day-to-day business communications or documents, such as documents concerning efforts to take the company public.” 12/3/14 Motion at 2. Thus, the clear inference is that all of these missing documents are contained on the spoliated hard drive.

The SEC asserts that the aforesaid missing information bears directly on the “key issues in this case,” including whether a pyramid scheme existed, what information was provided by the Foreign Defendants to investors, whether the corporate defendants relied on sales to investors for all of their revenues, and what efforts were undertaken to pursue an initial public offering (“IPO”) of CKB. See 12/3/14 Motion at 1, 3. The Foreign Defendants understandably do not dispute the relevance of the missing information. See generally 12/12/14 Response. Furthermore, in light of the SEC's evidence suggesting that the corporate Foreign Defendants had not planned to go public, see Staren Decl. ¶ 86; id. n. 54, and that virtually all of the corporate Foreign Defendants' revenue was derived from sales to investors, see id. ¶¶ 72–74, the SEC has produced “sufficient evidence that would tend to show that the lost documents would have been favorable to its case,” Yu Chen, 2011 WL 3420433, at *13 (citation and quotations omitted).[9] Accordingly, the Court concludes that the unproduced evidence is relevant and that a reasonable trier of the fact could conclude that the SEC was prejudiced by its unavailability. See Yu Chen, 2011 WL 3420433, at *14 (citing Barsoum v. N.Y.C. Hous. Auth., 202 F.R.D. 396, 400 (S.D.N.Y.2001)).

D. The Adverse Inference Instruction Requested by the SEC is an Appropriate Spoliation Sanction

*11 “The determination of an appropriate sanction for spoliation, if any, is confined to the sound discretion of the trial judge, ... and is assessed on a case-by-case basis.” Fujitsu Ltd. v. Federal Exp. Corp., 247 F.3d 423, 435 (2d Cir.2001) (citations omitted). Adverse inference instructions are the typical sanction imposed in cases of spoliation. Residential Funding, 306 F.3d at 106, 108. An adverse inference sanction is appropriate regardless of whether the spoliation was willfull or negligent, as “the risk that the evidence would have been detrimental rather than favorable should fall on the party responsible for its loss.” Id . (citing Turner v. Hudson Transit Lines, Inc., 142 F.R.D. 68, 75 (S.D.N.Y.1991)).

Here, the adverse inference instruction sought by the SEC is modest: that the undisclosed evidence would have supported the SEC's claims that (1) the corporate Foreign Defendants had not made any plan or preparations to go public, and (2) the corporate Foreign Defendants relied on sales to investors for “virtually all” of their revenues. Having been deprived of evidence from the Foreign Defendants as to whether there was a plan to go public, or whether any significant revenue was derived from a source other than sales to investors, the SEC has requested an adverse inference instruction that would appropriately remedy the prejudice caused by the Foreign Defendants' spoliation of evidence. The Court therefore recommends that the District Court instruct the jurors that, in assessing the evidence, they are entitled to draw the adverse inferences proposed by the SEC.[10]

CONCLUSION

For the foregoing reasons, the Court recommends that the SEC's two motions for sanctions (DE # 193, DE # 201) be granted.

Any objections to this Report and Recommendation must be filed with the Honorable Roslynn R. Mauskopf by January 26, 2015. Failure to file timely objections may waive the right to appeal the District Court's Order. See 28 U.S.C. § 636(b)(1); Fed.R.Civ.P. 72; Small v. Sec'y of Health & Human Servs., 892 F.2d 15, 16 (2d Cir.1989).

The Clerk is requested to docket this Report and Recommendation into the ECF system.

SO ORDERED.

Filed Jan. 7, 2015.