The Cost of Non-Compliance: Financial Implications of Inadequate Legal Holds

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In today’s litigious business climate, the specter of legal disputes looms large, and the effective management of legal holds has become a critical component of corporate compliance across organizations and industries.

A legal hold, also known as a litigation hold, is a directive issued by counsel for custodians to preserve all forms of relevant information when a company anticipates or is involved in legal proceedings. The failure to implement a given legal hold correctly can lead to serious financial consequences, so it’s critical for businesses to understand the stakes involved. This blog post delves into the financial implications of an inadequate legal hold process and underscores the importance of compliance.

Understanding Legal Holds

Before assessing the costs associated with non-compliance, it is essential to understand what a defensible legal hold process entails. When litigation is reasonably anticipated or has already commenced, the legal hold process serves as a formal notification to retain all documents, electronic data, and other evidence that may pertain to the case. This preservation duty is not just a best practice; it’s a legal requirement that, if ignored, can result in court sanctions and other penalties.

The duty to preserve relevant information is not solely for items in use but also for those that may be slated for disposition. In the digital age, this extends beyond paper files to include emails, databases, instant messages, and any electronically stored information (ESI) that could be relevant to the dispute.

Substantial eDiscovery Sanctions are Possible

In the landmark cases of Klipsch Group Inc. v ePRO E-Commerce, the Second Circuit upheld the imposition of a $2.7 million eDiscovery sanction against the defendant for willful spoliation of evidence, despite the damages in dispute being just $20,000.  The sanction aimed to compensate Klipsch for the expenses incurred due to the defendant’s failure to comply with discovery obligations, including not implementing a proper legal hold, concealing 40,000 sales documents, and allowing the deletion of files and emails. The court maintained that the sanction was proportional to the costs imposed on Klipsch, emphasizing that compliance with discovery requirements is mandatory and non-negotiable.

Financial Risks of Inadequate Legal Holds

The financial risks of inadequate legal holds are numerous, and they can significantly impact a company’s bottom line. Here are several ways that non-compliance can prove costly:

  1. Court-Imposed Sanctions: As the Klipsch court noted, the bench does not take kindly to the “spoliation” of evidence, which is the destruction or alteration of relevant information. If a court finds that a party has failed to preserve evidence due to an inadequate legal hold, it can (and often does) issue sanctions. These penalties vary from monetary fines, which can reach millions of dollars, to more severe punishments like adverse inference rulings, where the court assumes that the lost evidence was unfavorable to the non-compliant party.
  2. Compromised Legal Positions: Inadequate legal holds can weaken a company’s position in litigation. Without access to all the relevant information, a company may be unable to defend itself effectively, leading to unfavorable settlements or judgments that could have been avoided with proper evidence management. The cost of such outcomes can be staggering, not just in terms of immediate financial payouts, but also in long-term reputational damage and increased corporate insurance premiums.
  3. Investigation and Remediation Costs: Discovering that relevant information has been lost or destroyed often triggers the need for a thorough investigation to determine the extent of the information loss and attempted reconstruction or remediation. The costs for forensic analysis and data recovery can be exorbitant, and there’s no guarantee that the lost information can be fully retrieved, potentially exacerbating the problem.
  4. Increased Legal Fees: When legal holds are not properly managed, legal teams must spend additional time and resources to navigate the fallout. This can lead to increased legal fees as attorneys work to mitigate the damage, respond to motions about spoliation, or negotiate with opposing counsel and the court.
  5. Loss of Business Opportunities: Companies embroiled in legal controversies due to inadequate legal holds may find themselves facing not just immediate financial losses, but also a decline in business opportunities. Partners, investors, and clients are often wary of associating with organizations that have a track record of legal mismanagement, leading to lost deals and partnerships.

Best Procedures for Legal Hold Compliance

To avoid the financial pitfalls of non-compliance, companies should adopt the following procedures for defensible legal hold compliance:

  1. Track Custodian Acknowledgement: A system that records when custodians receive and acknowledge hold notices is critical for compliance and may be required for court proceedings.
  2. Create and Send Custodian Questionnaires: Sending out questionnaires can help assess the scope of information custodians have and determine the relevance of their data to the legal hold.
  3. Create and Customize Email Notification Templates: Legal teams should have the ability to craft tailored communications for different custodians and cases, ensuring clarity and adherence to specific case requirements.
  4. Automate Custodian Notifications and Trigger Reminders: Automation helps in managing notifications efficiently, reducing the risk of human error and ensuring timely reminders for pending legal hold notifications.
  5. Attach Important Documents to Hold Notices: Providing custodians with direct access to relevant documents or policies can improve understanding and compliance with the legal hold process.
  6. Implement a Custodian Master List for Identifying Legal Hold Groups: A master list allows legal teams to efficiently manage groups of custodians, streamline communications, and ensure that no relevant parties are overlooked.
  7. Connect to Your HR System: Integration with HR systems ensures that any changes in employee status are reflected in real-time, maintaining the accuracy of custodian lists and compliance with ongoing legal holds.


In the quest to stay on the right side of the law, it is imperative that organizations establish robust legal hold practices. By incorporating a comprehensive legal hold toolkit that allows for the customization of notifications, automation of reminders, and efficient tracking of acknowledgements, organizations can ensure a higher standard of defensibility. The creation and distribution of custodian questionnaires and the ability to attach critical documents to hold notices also enhances the thoroughness of the legal hold process. These procedures not only streamline the management of legal holds but also help safeguard the organization against potential legal risks associated with litigation or investigations. By investing in a well-structured legal hold system, organizations demonstrate their commitment to legal compliance and mitigate the risk of costly sanctions or reputational damage that may result from mishandling critical evidence.

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