A recent Delaware Court of Chancery opinion provides insights into nuances of DGCL Section 220 as it relates to the rights of stockholders to inspect corporate books and records, and deserves to be in included in the pantheon of Delaware decisions on this topic. It must be read by anyone seeking a complete understanding of Delaware law on Section 220. In Woods v. Sahara Enterprises, Inc., C.A. No. 2020-0153-JTL (Del. Ch. July 22, 2020), the court provided warmly welcomed clarity about important nuances of DGCL Section 220 with eminently quotable passages for practitioners who need to brief these issues. See generally  overview of takeaways from 15 years of highlighting Section 220 cases on these pages, and compare a recent Delaware Supreme Court decision featured on these pages about contract-based rights to inspect corporate books and records.

This short blog post will only provide several of those worthy passages in the format of bullet points, but this decision deserves a more comprehensive treatment which is the focus of a separate blog post on these pages.

Among the more noteworthy aspects of this notable decision are the following.

  • A consequential aspect of this jewel of a decision is the instruction by the court that there is no basis in Delaware law to require a stockholder demanding corporate records under Section 220 to explain why the stockholder wants to value her interest in the company–in order to satisfy the recognized proper purpose of valuation. See Slip op. at 11; and 14-15.
  • The court provided an extremely helpful list of many recognized “proper purposes” needed to be shown to satisfy Section 220. See Slip op. at 8-9.
  • The court also recited several examples of what showing is recognized as sufficient to satisfy the “credible basis requirement” to investigate mismanagement pursuant to Section 220. See Slip op. 18-19.
  • An always useful recitation of the basic elements of the fiduciary duty of directors of a Delaware corporation and the subsidiary components of the duty of loyalty and care, are also featured. See Slip op. at 20.
  • The court categorized the specific requests for documents in this case as follows: (i) formal board materials; (ii) informal board materials; and (iii) officer-level materials. Then the court expounds on the different focus applicable to each category.
  • Notably, after quoting the actual document requests, the court found that some of them were overly broad–but the court edited and narrowed some of the requests before concluding that the company was required to produce the court-narrowed scope of documents.

Bonus supplement: Prof. Bainbridge, a nationally prominent corporate law scholar, kindly links to the above post and provides learned commentary on this case and Section 220 jurisprudence generally. Readers should recognize the good professor, a friend of the blog, as the prolific author who scholarship is cited in Delaware Court opinions.

The Delaware Court of Chancery recently granted, in part, a stockholder’s request, after a trial without live testimony, for corporate books and records pursuant to DGCL Section 220, in a matter styled Paraflon Investments Ltd. v. Linkable Networks, Inc., C.A. No. 2017-0611-JRS (Del. Ch. April 3, 2020).

Readers of these pages over the last 15 years will recognize a familiar pattern in the procedural history of this Section 220 case, as did the Court. See footnote 1 and accompanying text. The company typically resists the request for records, suit is filed, and after trial the Court (sometimes) grants the requests in whole or in part.

Many of the hundred-plus highlights on this blog of Section 220 decisions reflect the reality that Section 220 is not a precise tool.

This pithy decision provides a succinct overview of the pre-trial statutory prerequisites, for example, to comply with the form and manner aspects of a demand, and the elements of a statutory claim that need to be established at trial by a preponderance of the evidence.

This opinion also discusses several nuances of this type of statutory claim that have been developed via case law over the last few decades but are not obvious from a reading of the statute. This type of statutory analysis should be compared with a purely contract-based demand for books and records in the LLC context.

A recently published Delaware Court of Chancery decision must be read by anyone who seeks to understand the latest iteration of Delaware law involving Section 220 of the Delaware General Corporation Law in connection with demands by stockholders for corporate books and records. Lebanon County Employees’ Retirement Fund v. AmerisourceBergen Corporation, No. 2019-0527-JTL (Del. Ch. Jan. 13, 2020), is the name of this seminal opinion that will be often-cited as one of the more consequential cases interpreting DGCL Section 220, in part due to the manner in which it performs a deep analysis of the fundamental principles that animate Section 220, as well as how it illuminates the prerequisites that must be satisfied–beyond what the statute explicitly states–in order for one to make a successful claim. It also serves as a reminder that 220 cases are not simple.

Key Takeaways from this 63-Page Opinion:

Although this decision deserves a careful reading in its entirety, and warrants a lengthy analysis, I will merely provide in this short blog post selected bullet points highlighting what this writer views as the most noteworthy aspects that make this decision must-reading for those interested in the latest developments in this area of corporate litigation:

       Proper Purpose Requirement:

  • After providing a justification for why enumerated prior Chancery decisions would not be followed to the extent they added prerequisites to Section 220 that have not been recognized by the Delaware Supreme Court, the Vice Chancellor refused to superimpose on the statute as part of the “proper purpose” requirement, an explanation for what will be done with the documents that are received.
  • That is, this Chancery decision confirmed that in order to satisfy the proper purpose requirement under Section 220, it is not necessary to explain what a stockholder will do once he receives the documents after a Section 220 demand. See Slip op. at 25-29. See also footnote 13.
  • The Court recited the doctrinal underpinnings that animate Section 220, as well as the competing interests between the corporation and the stockholder.
  • This opinion provides an eminently quotable list of the many previously recognized “proper purposes” that satisfy the requirements of Section 220. See page 14. (This alone is a reason that this ruling should have a prominent place in the toolbox of every corporate litigation practitioner.)

       Credible Basis Requirement:

  • This decision also illuminates the meaning of the “credible basis” requirement, which allows the court to infer a sufficient reason for a stockholder to seek records in order to pursue an investigation for certain potential claims. See page 16. See also pages 30-40 (explaining the credible basis standard in the context of an investigation into types of wrongdoing).
  • The Vice Chancellor expressly rejected the defense that “they-only-want-to-sue” as a reason for not producing documents requested–that could be used for other reasons.

       Scope of Documents for Production–including Emails:

  • The Court describes the scope and conditions and details for the production of documents that were ordered to be produced. The Court also ordered a Rule 30(b)(6) deposition to determine “what types of documents exist and who has them.”
  • Citing for support to prior Section 220 decisions (after distinguishing others), this opinion requires the production of emails among board members, even if those emails are on a non-corporate email account. See, e.g., Palantir decision.
  • Both the Court of Chancery and the Delaware Supreme Court in prior decisions on Section 220 have quoted from a law review article that Francis Pileggi co-authored, here and here, on the topic of electronically-stored information (ESI) that should be produced pursuant to a Section 220 demand.

This post juxtaposes two recent decisions from the Delaware Court of Chancery addressing a perennial favorite of Delaware corporate litigation: Stockholder demands for records under DGCL Section 220.

Although the Section 220 demand was successful in the matter of Donnelly v. Keryx Biopharmaceuticals, Inc., C.A. No. 2018-0892-SG (Del. Ch. Oct. 24, 2019), by contrast:

Section 220 demands were denied in post-trial opinions in the matter of Southeastern Pennsylvania Transportation Authority v. Facebook, Inc., C.A. No. 2019-0228-JRS (Del. Ch. Oct. 29, 2019), and High River Limited Partnership v. Occidental Petroleum Corporation, C.A. No.  2019-0403-JRS (Del. Ch. Nov. 14, 2019).

The Donnelly case, is an example of a successful 220 demand based on the court’s finding of:

(1)       A credible basis to investigate claims of breach of the duty of loyalty; and,

(2)       The rejection of the argument that, contrary to the 2017 Chancery decision in Wilkinson v. A. Schulman, Inc. (highlighted on these pages here), the plaintiff in this matter was a mere proxy for plaintiff’s counsel who was a driving force behind the Section 220 demand, as was the case in Schulman.  The Schulman case was distinguished on its facts.

(3)       The Donnelly decision also provides an excellent overview of the necessary elements, and their “sub-parts”, that must be satisfied to prevail in a Section 220 claim. See Slip op. at 8.

By contrast, the decision in SEPTA v. Facebook, Inc., linked above, added to the long list of examples highlighted on these pages over the past 15 years that, at least in this author’s view, support the observation that Section 220 is a “blunt instrument at best” that requires substantial financial stamina and wherewithal to “go the distance” through trial and potential appeals. This SEPTA case is one of many cases that also support the observation that the results of a Section 220 demand, even when a post-trial ruling requires the production of documents, are often unsatisfying and do not provide an enticing ROI.

In the High River case, after describing Delaware law as “murky” at best, regarding whether the desire to communicate with other stockholders is a proper purpose under Section 220 in all circumstances, the Court of Chancery explained in a 22-page post-trial opinion why this was “not the right case” to announce a bright line rule endorsing such a purpose.

Adding to the voluminous case law interpreting DGCL Section 220 that has been highlighted over the last 14 years on these pages, the recent Delaware Court of Chancery decision in Kosinski v. GGP Inc., C.A. No. 2018-0540-KSJM (Del. Ch. Aug. 28, 2019), is notable for its useful and thorough recitation of the basic requirements of a Section 220 demand and the clarity of reasoning on which it relies to reject the typical defenses presented at trial “on a paper record.”

Introductory Note:

These short highlights presume that the reader is familiar with the basic prerequisites for a successful Section 220 demand and typical challenges to a Section 220 demand. This opinion is worthwhile reading, even for veterans of Section 220 battles, due to its lucid recitation of not only the basics, but also the nuances that most Section 220 litigation centers on. Hundreds of Section 220 decisions have been featured on these pages, so at this point I only highlight those rulings on Section 220 that, in my view, offer something more than the average fare.

Brief Overview of the Case:

A Section 220 demand was made in this case to investigate possible wrongdoing in connection with a merger. The company argued that the plaintiff was not entitled to inspect books because: (1) the stated purposes for the inspection were not those of the actual plaintiff/stockholder; and (2) the company argued that the stockholder lacked a credible basis for investigating possible wrongdoing.The most useful way to highlight the memorable passages from this pithy opinion would be to provide bullet points that would allow readers to determine if they would find it helpful to read the whole opinion.

Basics of § 220:

  • The court explained that under DGCL Section 220 a stockholder is entitled to inspect the books and records of a company if she demonstrates by a preponderance of the evidence that: (1) she is a stockholder of the company; (2) she has made a written demand on the company that complies with the statutory requirements; and (3) she has a proper purpose for making the demand. Once a stockholder meets those 3 requirements, she also must establish another prerequisite: (4) to establish that each category of the books and records requested is essential and sufficient to the stated purpose.
  • In addition to those 4 requirements, there are additional nuances that must be addressed.

Nuances:

  • The nuances that must be addressed to successfully repel defenses to a Section 220 demand include a rebuttal to a frequent defense by a company that the stated purpose, which might be a well-recognized proper purpose, is “not the actual purpose for the demand.”
  • The court distinguished the recent decision in Wilkinson v. A. Schulman Inc., 2017 WL5289553, at * 2 (Del. Ch. Nov. 13, 2017), highlighted on these pages, because the facts of the instant case established that the stockholder himself was the actual motivating force behind the demand and he was not merely serving as a puppet for his lawyers.

Special Observation:

  • A welcome and refreshing acknowledgement from the court in this case was provided in a footnote where the court observed that Section 220 jurisprudence in Delaware is both complex and sprawling. See footnote 67.

Proper Purposes – More Nuances:

  • The court defined a proper purpose as one that “reasonably relates to the stockholder’s interest as a stockholder.” See footnotes 72 and accompanying text. The stockholder has the burden of proof to demonstrate that proper purpose by a preponderance of the evidence.
  • The court explained that although it is a proper purpose to investigate mismanagement, in order to prevail on that basis, a stockholder must “present some evidence that establishes a credible basis from which the Court of Chancery could infer there were legitimate issues of possible waste, mismanagement or wrongdoing that warrant further investigation.” See footnote 75.
  • The court explained that the credible basis standard is the lowest possible burden of proof and requires a plaintiff to demonstrate “only some evidence of possible mismanagement or wrongdoing to warrant further investigation.” See footnote 77.
  • The court explained that the “threshold may be satisfied by a credible showing, through documents, logic, testimony or otherwise, that there are legitimate issues of wrongdoing.” See footnote 79.
  • An important observation by the court in this decision was in connection with the interface between a failure of a company in connection with a merger to satisfy the trigger for the business judgment standard of review announced in Kahn v. M & F Worldwide Corp., 88 A.3d 635 (Del. 2014)(hereinafter MFW). Namely,  the court noted that its decision in the instant case “merely concludes that the absence of MFW procedural protections might contribute to a credible basis.”
  • That basis for the court’s finding, of a credible basis is an important contribution to Section 220 jurisprudence.
  • The court also noted that a recognized proper purpose under Section 220 is to investigate questions of director disinterestedness and independence, such as uncovering cronyism in the process of nominating directors. See footnotes 113 to 114 and accompanying text.
  • The court also recognized the well-established case law that regards valuation of one’s shares as a proper purpose for the inspection of books and records. See footnote 118.

The Delaware Supreme Court recently announced a decision of great importance for stockholder demands under Section 220 of the Delaware General Corporation Law. In Tiger v. Boast Apparel, Inc., No. 23, 2019 (Del. Supr. Aug. 7, 2019), the Delaware Supreme Court ruled that:

(i) although inspection of records demanded by stockholders pursuant to Section 220 is typically conditioned on a confidentiality order, or stipulation or agreement, such inspections are “not subject to a presumption of confidentiality”;

(ii) when the court, in the exercise of its discretion, enters a confidentiality order, an indefinite period of confidentiality protection should be the exception and not the rule; and

(iii) a party demanding books and records need not show exigent circumstances for a court to grant something less than indefinite confidentiality, under Section 220.

Regular readers familiar with the voluminous highlights on these pages of Section 220 cases over the last 14 years, are aware that despite the relative simplicity of the statute, pursuing rights under Section 220 requires stamina and patience and financial wherewithal.

Procedural Background:

This case involved an initial demand in December 2014 for books and records pursuant to Section 220. The primary dispute related to the scope and duration of a confidentiality agreement that the company required.  A second demand under Section 220 was sent in February of 2017, and again the parties could not reach an agreement over the terms of a confidentiality agreement.  In October 2017, a complaint was filed in the Court of Chancery demanding access to books and records based on a demand amended in May 2017.  The primary dispute between the parties continued to be the scope of the confidentiality obligations imposed by the company on its production.  Although the stockholder also requested non-confidential records, the company demurred.

A Master in Chancery submitted a report in July 2018 recommending indefinite confidentiality until such time as the stockholder filed a suit based on the inspection, after which confidentiality would be controlled by the applicable court rules. This appeal followed the finality of the Master’s Report.

Highlights and Key Takeaways of Court’s Ruling:

  • Although the court disagreed with the reasoning of the Court of Chancery, it affirmed the decision because even though the Supreme Court would have employed different reasoning, there was no abuse of discretion or reversible error with the result.
  • The Supreme Court clarified that there is no presumption of confidentiality in productions of data pursuant to Section 220. Slip op. at 11.
  • Although a corporation need not show specific harm that would result from disclosure before receiving confidentiality treatment in a Section 220 case, Delaware’s High Court explained that: “One cannot conclude reflexively that the need for confidentiality is readily apparent.” Id. at 12.
  • “Given that there is no presumption of confidentiality at all, a fortiori, there is certainly no presumption of indefinite confidentiality…. Id.
  • The Court ruled that: (i) An indefinite period of confidentiality protection should be the exception and not the rule; (ii) A party demanding Section 220 books and records need not show exigent circumstances for a court to grant something less than indefinite confidentiality. Id. at 13.
  • Although the Supreme Court disagreed with Chancery’s grant of indefinite confidentiality restrictions until a suit was filed, the stockholder did not make an adequate showing of reversible error.

In sum, this decision can be added to the extensive list of examples of Section 220 cases that have been lengthy and expensive for the stockholder to pursue to a final adjudication in the court of last resort in Delaware. Although the Delaware case law is well-established that stockholders should employ Section 220 before filing a plenary complaint, that effort–in the end–is not always satisfying.

A recent Delaware Court of Chancery opinion clarified a few key Section 220 prerequisites that are not otherwise explicit in the statute. The decision styled In re Facebook, Inc., Section 220 Litigation, Cons. C.A. No. 2018-0661-JRS (Del. Ch. rev. May 31, 2019), is notable for the following refinements of well-worn Section 220 requirements for a successful books and records demand.  For example:

  • The court explained the familiar requirement that in order to establish the proper purpose of  investigating mismanagement, or in this case to investigate a failure to satisfy Caremark duties, the stockholder seeking books and records must present a “credible basis” for the claims against fiduciaries.
  • That standard is the “lowest burden of proof known in our law and asks a fundamentally different question than would be asked at a trial on the merits: has the stockholder presented ‘some evidence’ to support an inference of wrongdoing that would justify allowing the stockholder to inspect . . .” books and records. See Slip op. at 4.
  • The court also noted that in a Section 220 proceeding, hearsay evidence may be considered if it is sufficiently reliable. See footnote 10 for supporting authority. The court relied in this case on an heavy dose of newspaper articles and other news media reports.
  • The court allowed for the electronic communications of board members to be produced with some limitations in scope. See Slip op. 51 to 55.

Postscript: Regular readers are familiar with a theme in my comments on the multitude of Section 220 decisions highlighted on these pages over the last 14 years: that Section 220 cases are not for the faint of heart. I have described Section 220 as a blunt instrument, often untimely and expensive–through no fault of the courts. This 56-page post-trial decision, based on a paper record, was submitted for decision to the court on March 7, 2019. The complaint was filed on September 6, 2018.

Among the multitude of court decisions on DGCL Section 220 highlighted on these pages, a rare bird is the shifting of fees by the court based on the bad-faith exception to the American Rule. In a rare instance that should not be considered anything other than unusual, the Court of Chancery recently granted, in a transcript ruling, fee shifting in a books and records action in which the court found that there was no justification for the refusal to provide LLC managers with requested books and records, and that the defendant LLC acted in bad faith by withholding those company records. See Crestview-Oxbow Acquisition, LLC, et al. v. Oxbow Carbon, LLC, C.A. No. 2018-0654-JTL, transcript (Del. Ch. Jan. 15, 2019; filed Jan. 31, 2019).

 

A recent post-trial decision from the Delaware Court of Chancery denied a claim for corporate books and records based on DGCL § 220 after finding that there was no credible basis for wrongdoing to support the stated investigative purpose for the demand. Hoeller v. Tempur Sealy International, Inc., C.A. No. 2018-0336-JRS (Del. Ch. Feb. 12, 2019).  Section 220 cases are among the most common forms of Delaware corporate litigation. (In terms of the number of recent Delaware cases highlighted on this blog, it might only be outnumbered by forum selection clause cases.)

Commentary:

About 100 or more Delaware court decisions on Section 220 have been highlighted on these pages over the last 14 years. Regular readers will recall many commentaries about Section 220 that include this lawyer’s respectful skepticism, or lack of enthusiasm, for Section 220 as a tool to obtain information as part of one’s preparation for a plenary complaint.  To the extent that Section 220 is a tool, the decision highlighted in this post supports the view that in some cases Section 220 may be more akin to a sledgehammer than a scalpel, to the extent that Section 220 can often be expensive and time consuming and unsatisfying as a means of obtaining information from a corporation by a stockholder.

For busy readers, the most noteworthy aspects of this 39-page decision can be explained through the use of bullet points to highlight the court’s comprehensive and well-reasoned review of the facts and law involved in an unsuccessful Section 220 claim.

Brief Background:

This case involved a demand for corporate books and records in connection with the termination of a long-term corporate customer relationship which accounted for over 20% of the sales of the defendant company. This important relationship was the subject of alleged misrepresentations that were allegedly more optimistic about the future of the relationship than was warranted.  Although some documents were produced in response to a pre-suit Section 220 demand, the complaint in this case was filed when additional documents demanded were not provided.

Procedural History:

Although internal Chancery guidelines suggest a trial within about 90 days of a complaint, the trial in this case was held within a still comparatively prompt 6-months after the complaint was filed, in November 2018. This February 2019 post-trial decision provides for a relatively quick determination, however unsatisfying to the plaintiff, although prior Section 220 cases highlighted on these pages indicate that when Section 220 cases are appealed, and in some cases remanded, litigation involving Section 220 conceivably could last for several years.

Key Takeaways:

Some of the key legal principles that can be found in this post-trial opinion include the following well-known prerequisites for a Section 220 claim, and important nuances of those requirements, many of which are not expressly stated in the statute:

  • The prerequisite of a “proper purpose” for inspection is defined as one that is reasonably related to the interest to the plaintiff as a stockholder.
  • Although the desire to investigate mismanagement or wrongdoing is a recognized proper purpose, a stockholder must prove by a preponderance of the evidence that it has presented a “credible basis” from which the court can infer that the alleged wrongdoing occurred. Credible basis requires merely “some evidence” of wrongdoing–and not that wrongdoing actually occurred.
  • A stockholder must also state the reasons why he seeks to inspect books and records. That is, what the plaintiff will do with the information or the goal of the investigation. The court applies this requirement to avoid fishing expeditions. In the absence of evidence of a fiduciary duty breach, where a decision falls within the business judgment rule’s protection, the proper purpose requirement fails as there is no claim for a stockholder to pursue in that situation. (Also, for example, though valuation is a well-established Section 220 proper purpose, some cases have required an explanation about the reason a valuation is sought.)
  • Where the purpose of a stockholder is based on the possible breach of the duty of oversight, such as in a Caremark claim, a stockholder must provide “some evidence” from which the court may infer that the board “utterly failed to implement a recording system or ignored red flags.” Moreover, in that context, there must be evidence of non-exculpated corporate wrongdoing in order to survive a defense (in the event that a corporation has a Section 102(b)(7) provision).
  • In this case, there was an allegation that there were misrepresentations about the future of important customer relationships, but the court found that there was insufficient evidence to satisfy the “credible basis” requirement.
  • In addition, the court referred to prior cases in which the plaintiff could not explain the basis for the wrongdoing that was being investigated or the need for the documents that were requested. In those prior cases, the court found that it was the attorneys who were the driving force behind the litigation and not the plaintiff that was requesting the documents. Although the court suspected that to be applicable in this matter, the court did not deny the claim on that basis, but rather reasoned that: “the plaintiff has failed to proffer even a scintilla of evidence to support a credible basis that a claim may exist” under Caremark.
  • The court also reasoned that the fact that active negotiations failed to lead to a deal with a key customer does not support a Caremark claim, especially based on evidence that the board was apprised of, and at times involved in, the negotiations.
  • An important aspect of the court’s decision is the following rationale: “Disagreement with a business decision, in the absence of evidence from which the court may infer a possible breach of fiduciary duty, does not create a credible basis from which the court can infer mismanagement.” See Slip op. 26-27, n. 90.

A recent post-trial opinion from the Delaware Court of Chancery serves as another example to support the view that demands for books and records pursuant to DGCL Section 220 are not for the faint of heart.

In Wilkinson v. A. Schulman, Inc., C.A. 2017-0138-VCL (Del. Ch. Nov. 13, 2017), the Court denied a request for books and records in a decision supported by copious citations to precedent, based largely on the conclusion that even though the demand may have satisfied the requirement for a “proper purpose” on its face, in reality the true purpose was one crafted by counsel for the stockholder–but that the stockholder himself did not appear too familiar with. During the stockholder’s deposition, it was revealed that the stockholder was not conversant with the details of the demand, or its purpose–and that the stockholder served as a plaintiff in seven other lawsuits for the same law firm that pursued the instant case.

Takeaway: There are many other examples that we have highlighted on these pages over the past nearly 13 years, that demonstrate that Section 220 cases are often hotly litigated and it is not rare to incur the cost of a trial, as in this matter, and “come up dry” in terms of not proving the right to obtain documents from the corporation. Thus, the economics of a Section 220 demand favor those whose stake in a company makes it economically rational to pursue such a claim. See, e.g., Section 220 cases highlighted previously.