As Frank Reynolds of Thomson Reuters reports, the long-running effort of a stockholder to obtain additional documents from Wal-Mart in a Section 220 proceeding appears to have reached a conclusion, though it may still be the subject of second appeal. Frank Reynolds reports that the Court of Chancery ruled from the bench on May 7 that Wal-Mart should not be held in contempt and the plaintiff was not correct in asserting that Wal-Mart failed to comply with the Supreme Court opinion.

Prior posts on these pages have highlighted the Delaware Supreme Court decision ordering Wal-Mart to produce certain documents in response to a Section 220 demand, with exceptions applicable to the attorney-client privilege. Subsequently, the stockholder argued in the Court of Chancery that Wal-Mart did not comply with the ruling of the Supreme Court to the extent that the retailer did not produce all the documents that ruling required.

Delaware decisions have often instructed lawyers to use DGCL Section 220 as one of the “tools at hand” to acquire details and data about potential claims before filing a plenary lawsuit. The saga of the Wal-Mart proceedings involving Section 220, and other cases noted on these pages over the last ten years, support the observation that Section 220 can be a blunt instrument, more akin to a sledgehammer than a scalpel, and utilization of the instrument is often expensive and time-consuming as well as unsatisfying.

thOklahoma Firefighters’ Pension & Retirement System v. Citigroup, Inc., C.A. No. 9587-ML (VCN) (Del. Ch. Apr. 24, 2015).

This Delaware Court of Chancery opinion allowed an inspection of books and records pursuant to DGCL Section 220 in order to investigate mismanagement and possible breaches of fiduciary duty by the directors and officers of Citigroup in connection with allegations of fraud by its Mexican subsidiary.  The plaintiff also sought to investigate, in contemplation of derivative litigation, the disinterest of the board to determine whether pre-suit demand would be excused.  It is not surprising that such a demand would be granted in light of the many exhortations by the Delaware courts that Section 220 should be used prior to filing a plenary complaint asserting Caremark claims.

More noteworthy is a practical commentary on procedural points.  The initial demand pursuant to DGCL Section 220 was made on March 17, 2014.  A trial on the paper record was held in June 2014 before a Master in Chancery.  Exceptions to the prompt decision of the Master were submitted by Citigroup after which the parties briefed those exceptions and the Master promptly issued a Final Report and recommendation.  In October 2014, Citigroup filed its Notice of Exception to the Master’s Final Report.  The final arguments were submitted to the Court of Chancery in December and this decision followed.

The point is, that it took more than a year, through no fault of the court, to reach a final decision — and after all that effort, including the work of no less than seven attorneys (listed on the first page of the opinion) from three offices of an AmLaw 100 Law Firm opposing the demand, the winning plaintiff now enjoys the prize of having the right to receive documents that it hopes will support a claim in a plenary lawsuit.  So much for a statute that appears on its face to be simple to use and which provides for summary proceedings. The many cases highlighted on these pages on this topic suggest that Section 220 litigation is not always simple corporate litigation.

Fuchs Family Trust v. Parker Drilling Company, C.A. No. 9986-VCN (Del. Ch. March 4, 2015). This opinion of the Delaware Court of Chancery analyzes a stockholder demand pursuant to DGCL Section 220 seeking information concerning violations by the company of the Foreign Corrupt Practices Act (the “FCPA”).  The court rejected the stockholder request for documents in this post-trial opinion based on a paper record, which would reveal identities of those who allegedly violated the FCPA.

After explaining the nuances and prerequisites of a stockholder demand under Section 220, the court explained in a 20 page opinion with 57 footnotes why the stockholder was not entitled to any documents.  This is a highlight of the basis for the court’s decision.  The court explained that:

Even if a plaintiff demonstrates a proper purpose [under DGCL § 220], that plaintiff is not entitled to inspect all the documents that he or she believes are relevant or even likely to lead to information relevant to that purpose.  The scope of inspection . . . is limited to those documents that are necessary, essential and sufficient to the stockholder’s purpose.  A requesting stockholder bears the burden of proving that the books and records sought are essential to accomplish its purpose.  (footnotes omitted.)

The court held that the stockholder did not satisfy the foregoing prerequisite because it already had sufficient information to make a demand on the board to take further action against wrongdoers even if it did not know the identity of the wrongdoers.

This case is another example of how expensive and lacking in simplicity Section 220 cases can be.  In my view, unless a stockholder has a substantial amount of  money at stake, and is willing to spend a considerable amount of time and money to obtain those documents, Section 220 is not a cost effective way to obtain records from a company – – especially if that company is determined to make it as difficult and as expensive as possible for a stockholder to exercise her rights under Section 220.

The Ravenswood Investment Company, L.P. v. Winmill & Co. Incorporated,
C.A. No. 7048-VCN (Del. Ch. Dec. 31, 2014). This Chancery ruling limited the number of years that documents produced pursuant to DGCL Section 220 would need to be kept confidential. In addition, the court rejected the request that the receiving party indemnify the company for any violation of law committed by the receiving party which related to the use of the documents produced.

This decision did not cite to the Delaware Supreme Court’s Treppel decision of a few days earlier, highlighted on these pages, in which the high court allowed a forum selection requirement to be imposed as a pre-condition of producing records under Section 220. Prior Chancery decisions in this case were highlighted on these pages.

This is yet another example of how Section 220 cases, despite the apparent simplicity of the statute, can become protracted and expensive endeavors. Section 220 actions often prove to be neither for the faint-hearted nor for those with meager financial stamina.

United Technologies Corp. v. Treppel,  Del. Supr., No. 127, 2014 (Dec. 23, 2014). This Delaware Supreme Court decision reversed a Chancery decision on the issue of whether a company could insist as a prerequisite, prior to producing documents pursuant to DGCL Section 220, that any suits arising from the documents be filed only in a court within the State of Delaware. This is one of several reversals of the Court of Chancery in recent weeks by Delaware’s high court. Such reversals were a rarity in the past, but perhaps with the new Chief Justice, a former Chancellor of the Court of Chancery, as well as a majority of new justices now constituting the Delaware Supreme Court (compared to this time last year), we may continue to see more reversals than in the past?

The high court’s reasoning behind this latest reversal is that DGCL Section 220 gives the Court of Chancery authority to impose conditions on the production of books and records, and thus concluded that it was error for the trial court to hold that it lacked the authority to impose the requested forum restrictions. The Supreme Court remanded so that Chancery could consider whether, in its discretion, it should impose the requested restrictions based on the facts of this particular case.

An added bonus is the court’s discussion of the fact that it found relevant that the company adopted a forum selection bylaw after this Section 220 suit was filed, and the court rejected the argument that the bylaw was not binding because it was adopted after the plaintiff bought his stock. See footnotes 39 to 41 and accompanying text.

Wolst v. Monster Beverage Corp., C.A. No. 9154-VCN (Del. Ch. Oct. 3, 2014), this post-trial Chancery ruling is a another example of why a demand for books and records based on DGCL Section 220 is often an unpredictable exercise, and not inexpensive. In this decision, the Court rejected a Section 220 demand in light of the purpose for the demand relating to actions taken about seven years ago–well beyond the typical three year statute of limitations for derivative breach of fiduciary duty claims. Several highlights of this decision are noteworthy for purposes of corporate litigation:

  • The court refused to extend to derivative claims the general rule that a class action tolls the statute of limitations for the putative members of the class pursuing direct claims. See Am. Pipe & Constr. Co. v. Utah, 414 U.S. 538 (1974); Dubroff v. Wren Hldgs., LLC, 2011 WL 5137175 (Del. Ch. Oct. 28, 2011).
  • Although the Court of Chancery is not bound by statutes of limitations, and a demand may be allowed if there were other potential claims that were not time-barred, the purpose of the demand was to investigate matters that occurred seven years ago, which the court determined would be barred by laches.

Oklahoma Firefighters Pension & Retirement System v. Citigroup Inc., No. 9587, final report issued (Del. Ch. Sept. 30, 2014). This decision by a Master in Chancery is of importance to the extent it is the first trial court decision to apply the recent Delaware Supreme Court’s Wal-Mart decision, highlighted on these pages, in connection with the types of data a shareholder can demand from a corporate board whose foreign subsidiary is credibly accused of wrongdoing, pursuant to DGCL Section 220. This ruling is subject to de novo review by the Court of Chancery. The money quote from the decision follows:

Having established a proper purpose for its inspection, Plaintiff bears the additional burden of showing that the books and records it seeks are “necessary and essential” to the stated purpose. The Delaware Supreme Court [in the Wal-Mart case] recently explained:

Documents are “necessary and essential” pursuant to a Section 220 demand if they address the “crux of the shareholder’s purpose” and if that information “is unavailable from another source.” Whether documents are necessary and essential “is fact specific and will necessarily depend on the context in which the shareholder‟s inspection demand arises.”40

To reiterate, I recommended in my draft report that the Court order Citigroup to produce for inspection (1) board and committee minutes and materials provided to the board or committees, (2) meeting preparation materials as defined above, and (3) policies and procedures, but only to the extent those books and records related to the following topics: (a) the Banamex fraud, (b) the BSA/AML matters at Banamex USA, (c) Citigroup‟s fraud detection and prevention efforts, and (d) Citigroup‟s BSA/AML compliance.

Frank Reynolds of Thomson Reuters provides an article with an insightful overview about the case.

Quantum Technology Partners IV, L.P. v. Ploom, Inc., C.A. No. 9054-ML (Del. Ch. May 14, 2014).

Why This Ruling is Noteworthy: This post-trial Master’s Final Report deserves careful reading by those who need to understand the nuances of either making a demand for books and records or defending such a demand based on DGCL Section 220. This 45-page decision includes one of the better and more complete explanations of: (i) the prerequisites that must be satisfied in order to obtain books and records pursuant to Section 220; (ii) the many nuances and shades and facets of potential defenses that a company can employ to make a stockholder’s exercise of Section 220 rights a very expensive experience; (iii) the categories of documents that the court may require to be produced in connection with a stated purpose to value shares in a closely held company; and (iv) the terms of a confidentiality agreement that production of documents will be subject to — including a description of what documents may be labeled merely “confidential” as compared to those documents that may bear the more restrictive designation of “highly confidential”. See discussion beginning at page 33.

Also notable is the discussion at page 32 about the Court retaining jurisdiction for a year so that a new Section 220 demand (and new lawsuit) would not need to be initiated in the event that the stockholder merely requested updated financials and related documents. Updated data are especially helpful for the valuation of fast-growing start-up companies as were involved here.

Although a Master’s Report may be modified upon review by a Vice Chancellor or Chancellor, the 135 footnotes in this decision provide a wealth of prior Delaware opinions that may be relied on for the various arguments and rebuttals that make Section 220 cases more complicated than may be apparent based on an initial reading of the statute.  Included in the copious citations, for example, is a prior Chancery decision that served as a reference point for the deciding the terms of a confidentiality order pursuant to which documents were produced.

The Court also expressed frustration with the parties for not making a more productive effort to resolve or clarify certain minor issues, such as whether the documents should be produced within 5 days or 10 days of the court’s final order. The Master’s Report begins with the observation that if the company reached a settlement before trial, then it likely would have produced fewer documents than what the Court ultimately determined to be required under Section 220.

Wal-Mart Stores, Inc. v. Indiana Electrical Workers, Del. Supr., No. 614, 2013.

A pending appeal before the Delaware Supreme Court addresses a claim under DGCL Section 220 for books and records of Wal-Mart in connection with allegations regarding misdeeds in their Mexican subsidiary.  While he was the Chancellor, the current Delaware Chief Justice made a preliminary ruling requiring the disclosure by Wal-Mart of some of its books and records.  The Delaware Supreme Court will decide if Wal-Mart is required to release the files of senior executives to determine in part what the board knew or did not know about the alleged impropriates in their Mexican subsidiary.  Michael Scher of the FCPA blog has written a helpful article about the case.  See link to his April 21, 2014 post.

Caspian Select Credit Master Fund Ltd. v. Key Plastics Corp., C.A. No. 8624-vcn (Del. Ch. Feb. 24, 2014).

Practical Insights on Decision: This Chancery opinion is one of many examples highlighted on these pages over the last 9 years or so, of the not infrequent inefficiency and unsatisfying nature of an action based on DGCL Section 220 in which a shareholder seeks books and records of a corporation. In this instance, the defendant company made the shareholder incur the substantial time and expense of going to trial based on what I would regard as a tactic by the company to make it as expensive and time-consuming as possible to obtain the books and records sought to value the shares of the company, notwithstanding the truism that valuation has been well-established as a proper purpose for a demand under Section 220.

The company’s defense, that only a lawyer could assert with a straight face, was that the stated proper purpose was merely a pretense for another unstated, improper purpose. It took the considerable expense of discovery and a trial for the court to conclude that the stated purpose of valuation was the “actual, real”, primary purpose, and any secondary purposes would not defeat the Section 220 claim. In an instance of the “pot calling the kettle black”, the defendant claimed, unsuccessfully, that the “real” purpose of the plaintiff was to use litigation as an expensive tactic to force a purchase of the plaintiff’s shares.

Bottom line: After the expense of a trial, even though the plaintiff stockholder won, the plaintiff now has the unfulfilling task (and continuing expense) of haggling with the defendant company about what documents the company claims to have that comply with the court’s ruling to produce the requested books and records.

Concluding Comment: DGCL Section 220 as a basis to demand books and records of a company (despite the apparent simplicity of the statute and the courts’ frequent exhortation to use Section 220 before filing a plenary action), is a tool that is neither suitable for the fainthearted nor for those who lack the financial stamina to deal with recalcitrant companies. Stated another way, unless there is substantial money at stake in terms of the value of one’s shares, if a company is determined to wage a war of financial attrition, Section 220 is not an economically rational option for most non-institutional or non-substantial shareholders to exercise.