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. 

Highlights

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.

Attorneys’ Fees

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. 

Key Points

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.

Takeaways

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.

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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. 

Key Facts

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.

Highlights

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.

Date-Range

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.

Privilege Log

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,

Takeaways

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.

Some readers who have followed these pages over the last 18 years may be weary of reading about DGCL Section 220 court decisions regarding the nuanced right, subject to various prerequisites, of a stockholder to demand certain books and records. But bear with me for this short post.

Discovery in a Section 220 case is limited, consistent with its narrow focus and due to a Section 220 case being a “summary proceeding”. Discovery is especially restricted as it relates to requests for information directed to the company.

A recent order granting a motion for a protective order provides a helpful overview of the applicable standards, with citations to authority, of the restrictions on deposing a company representative and others. See Job v. jaris, Inc., C.A. No. 2022-0944-LWW, Order at 3 (Del. Ch. Feb. 13, 2023)(the lower case in the defendant company’s name is not a typo. The last page of the foregoing hyperlinked pdf has the court’s explanation attached to the last page of the form submitted by the movant.)

A recent Delaware Court of Chancery ruling in Wagner v. Tesla, Inc., C.A. No. 2021-1090-JTL, transcript ruling (Del. Ch. Jan. 19, 2022), has sharpened the “tools at hand” that the Delaware courts have long exhorted corporate litigators to use before filing a plenary lawsuit–namely, DGCL § 220, which is the basis for the right of stockholders to sue for corporate records.

Readers of these pages since the 2005 launch of this blog will be forgiven if they have grown weary of the multitude of Delaware decisions on DGCL § 220 highlighted on these pages, chronicling the often long-suffering stockholders who attempt to use the frequently blunt tools at hand.

But the recent Chancery ruling in Wagner v. Tesla, Inc. provides hope to those who would like § 220 to be a sharper tool for seeking corporate records than it sometimes seems to be.

There are four especially noteworthy takeaways in this gem of a transcript ruling, in the context of a decision on a motion to expedite:

  • A reminder that § 220 complaints should be given a trial date within 90 days of the complaint being filed. The court eschews dispositive motions and other procedural obstacles to a quick trial date.  A trial date in this case was provided in about 90 days or so from the filing of the complaint, despite protestations by the company, addressed below.

 

  • The court explained that it was a mistake for companies to defend § 220 cases on the merits of a potential underlying claim for several reasons, including that a stockholder does not need to demonstrate an “actionable claim”–but rather only needs to demonstrate a credible basis. See generally AmerisourceBergen Supreme Court decision highlighted on these pages.

 

  • Because a stockholder only needs to show a credible basis and does not need to prove that it has an actionable claim, if a company does not want to “air dirty laundry” then they should not defend § 220 cases by addressing the merits of a potential underlying claim that might be brought in a later plenary action. Likewise, it was no defense in this case to seeking a trial in 90 days that the company had a federal securities trial scheduled across the country during a similar time period because a § 220 case should not be viewed as having any material impact on a plenary trial on actionable claims.[1]

 

  • A defense that the court did not squarely address, but did not allow to be used as a bar to holding a prompt § 220 trial, was that the plaintiff in this case only held “fractional shares,” although the court did provide some dicta on that issue. See generally In re Camping World Holdings, Inc. Stockholder Derivative Litigation, C.A. No. 2019-0179 (consol.), memo op. (Del. Ch. Jan. 31, 2022)(An unrelated § 220 case also considering a motion to expedite, but deferring ruling on the argument that the plaintiff lacks standing because he only owned a fractional share of stock.)

[1] The court noted that at the time of the hearing on the motion to expedite in this case, Tesla had the largest market cap in the world and had capable lawyers to handle litigation of both cases with trials in close proximity to each other.

Supplement: A few hours after this post was written, I received in the mail a law review article that discussed the consequential Section 220 decision in Woods v. Sahara Enterprises, Inc., highlighted on these pages, and the author of that article kindly quoted from my blog post on that Sahara case. See Clifford R. Wood, Jr., Note, Knowing your Rights: Stockholder Demands to Inspect Corporate Books and Records Following Woods v. Sahara Enterprises, Inc., 46 Del. J. Corp L. 45, 52 (2021)The same article also cited to a law review article I co-wrote on Section 220. Id. at 46.

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.

Second supplement: A law review article that I received the hard copy of in February 2022, kindly quoted from the above blog post. See Clifford R. Wood, Jr., Note, Knowing your Rights: Stockholder Demands to Inspect Corporate Books and Records Following Woods v. Sahara Enterprises, Inc., 46 Del. J. Corp L. 45, 52. (2021). The same article also cited to a law review article I co-wrote on Section 220. Id. at 46.

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.

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.