Over the last 18 years that I have maintained this blog, I have published highlights on these pages, and elsewhere, of about 190 or so Delaware decisions involving stockholder demands under DGCL Section 220 for books and records, as well as the analogue in the LLC context. Nowadays, I only highlight those I find to be especially noteworthy. A case that meets that standard is Seidman v. Blue Foundry Bancorp, C.A. No. 2022-1155-MTZ (Del. Ch. July 7, 2023), in which the Court “regretfully” shifted fees for “glaringly egregious litigation conduct in defending against a books and records request.”
This is a “doubleheader” blog post. I will also highlight a second decision (by the same VC) also issued this month that addressed sanctions for failure to comply with post-trial obligations to produce a company’s books and records in the LLC context, as well as errant litigation conduct.
This short blog post assumes the reader is familiar with the basic principles applicable to these types of summary proceedings.
The complaint in the Seidman case was filed on December 14, 2022, and the trial was scheduled for Feb. 22, 2023. (Notably, complaints in summary proceedings such as these need not be long, compared to complaints I have filed in plenary cases which were 100-pages long–not including voluminous exhibits.)
The demand in this case included requests for formal board materials and compensation consulting reports for the purpose of investigating mismanagement and communicating with fellow stockholders. Defendants initially refused to produce a single document. Moreover, the company refused to confirm or deny what, if any, formal board materials existed.
Errant Litigation Conduct
The court observed that the defendant offered no real reason for demanding a deposition in-person in Delaware, in light of the plaintiff being in Florida at the time, especially when the defendant initially did not press an improper purpose defense.
Despite his confirmation that he was not a member of the purported group, the company continued to claim that the plaintiff was a member of the “Jewish mafia.” The plaintiff was offended by the ethnic slur.
The company notified the plaintiff too late for the plaintiff to take discovery on the affirmative defense that plaintiff’s stated purpose was not his actual purpose, despite the plaintiff being entitled to take discovery on that issue—on which the company bears the burden. See Woods Tr. of Avery L. Woods Tr. v. Sahara Enters., Inc., 2038 A.3d 879, 891 (Del. Ch. 2020).
Two days before trial, the parties submitted a Proposed Final Order and Judgment pursuant to which the company produced 60-pages of documents including the compensation consulting reports that were the focus of the initial demand.
This decision, from page 14 to 24, discusses the request for attorneys’ fees of over $220,000 for the time period ending two-days before trial. Included in the court’s analysis was the fact that the company was inappropriately defending the case on the merits of a future plenary action, despite Delaware law being clear that a books and records proceeding is not the time for a merits assessment of potential claims.
Rather, under settled Delaware law, a stockholder “who demonstrates a credible basis from which the court can infer wrongdoing or mismanagement need not demonstrate that the wrongdoing or mismanagement is actionable.” See Slip op. at 19 (quoting AmerisourceBergen Corp. v. Lebanon Cnty. Emps’. Retirement Fund, 243 A.3d 417, 437 (Del. 2020)). The court also observed that it was improper to refuse to state what exact formal board materials existed. Id. at n.78.
The court highlighted the categories of the company’s litigation conduct that the court found glaringly egregious: (i) The plaintiff was forced to file suit to “secure a clearly defined and established right” to inspect the company’s books and records; (ii) “Unnecessarily prolonged or delayed litigation” by refusing to produce any documents; (iii) “Increased the litigation’s cost” by, among other things, insisting in bad faith on an in-person deposition leading to motion practice; (iv) “Completely changed its legal argument” in a way which would prevent plaintiff from taking discovery to which he was entitled; and (v) Multiple misrepresentations to the court. Id. at 21-22.
Although somewhat egregious facts often are not easily applicable to more routine cases, this case serves as a cautionary tale for companies that are less cooperative than the courts require in responding to stockholder demands for books and records.
Part two of this “doubleheader” blog post discusses another cautionary tale: the recent Chancery decision in Bruckel v. TAUC Holdings, LLC, C.A. No. 2021-0579-MTZ (Del. Ch. July 17, 2023). This opinion deals with contempt sanctions for failure to comply with a post-trial order for production of books and records. This case is another example of how difficult it is sometimes for a plaintiff to achieve, even after trial, the production of books and records.
This case involves the demand by a manager pursuant to Section 18-305 of the LLC Act, as well as a contractual right pursuant to the operating agreement.
The court issued multiple prior decisions in this case, cited in the opinion, that provide additional background details.
The defenses asserted by the company included an alleged lack of a proper purpose, and that the stated purpose was not the primary purpose, and that demand was deficient under 6 Del. C. Section 18-305(e). The court noted that the contractual rights under the operating agreement did not require a proper purpose.
Reasons for Fee-Shifting
The court summarized its reasons for fee-shifting to include the following: the company resisted through and after trial, by: (1) withholding books and records to which the manager had unfettered rights; (2) failing to identify whether formal board materials exist; (3) altering the way the board functions in an attempt to duck the company’s production obligations; (4) manufacturing weeks-long delays in conveying books and records; (5) over-designating documents and communications as privileged.
This decision includes guidance that goes beyond books and records cases and includes reminders of well-settled Delaware law regarding obligations for the preparation of privilege logs and redaction logs.
Also notable is that the court required production of documents through the present, as an ongoing obligation, not limited to documents dated as of the trial.
In connection with forcing compliance, the court appointed a receiver from among three Delaware lawyers proposed by the parties.
The scope of the opinion was intended to address the contempt of the company and any further sanctions; whether the defendant waived privilege; and whether the defendant met its burden to show cause as to why fees should not be shifted.
The court reviewed the standards for imposing sanctions due to the violation of a court order. See Slip op. at 16.
The court noted that it was “remarkable” that the defendant took the position that it did not owe documents dated after the trial, and that this position ignored the plaintiff’s statutory inspection rights as a manager and the contractual inspection rights based on the operating agreement.
Exception to Board Member’s Full Access
In this 44-page decision, the court also reviewed the standard to determine whether the exception when a board member is “adverse” applied such that it would entitle a company to withhold from a director or a manager unfettered access to the books and records that a manager or a director would normally be entitled to obtain–especially to the extent that they are provided to other board members. Slip op. at 25. It did not.
The court reviewed the obligations of a party preparing a privilege log, which include a prohibition on withholding entire documents that are only partially privileged. Id. at 26. The court also explained that attachments to otherwise privileged documents need to be separately analyzed and described to justify their privilege.
The court found that not disclosing board materials was “at the heart of this case” and defendants did not explain why a member of the board was adverse to the extent that the minutes of a board meeting should not be produced in their entirety.
The court applied the standard for shifting fees in these types of cases as recited in the Gilead case, which was highlighted previously on this blog. See also AmerisourceBergen case highlighted on these pages as another cautionary tale.
As an example of an improperly asserted defenses, the court repeatedly explained that the plaintiff had contractual rights under the operating agreement that did not require that it establish a proper purpose, especially in light of a manager having essentially unfettered statutory rights and, in this case, “unbounded contractual rights” to books and records. See Slip op. at 36-37 and footnote 164.
Reasonableness of Fees The court observed that the plaintiff was requesting approximately $219,000 in fees and expenses–incurred merely for bringing the contempt motion. The court requested that the plaintiffs’ counsel supplement the request for fees by including billing statements. The court also determined that it would consider the request for fees pertaining to the contempt motion as part of its consideration of the request for fees shifted for the entire action,
The parties and their counsel should expect close scrutiny by the Court of Chancery, in all aspects of the litigation, both pre-trial and post-trial, to ensure that the procedural and substantive obligations of the parties and their counsel are being complied with in good faith, especially in what is categorized as a summary proceeding.