On August 7, 2019, the Supreme Court of Delaware issued an opinion making clear that no presumption exists under Delaware law that the corporate books and records a stockholder inspects pursuant to 8 Del. C. 220 will be entitled to confidentiality restrictions. That said, the Supreme Court also made clear that the Court of Chancery remains fully empowered to condition statutory inspections of corporate books and records on the entry of a reasonable confidentiality order, and expressed its expectation that “the targets of Section 220 demands will often be able to demonstrate that some degree of confidentiality is warranted where they are asked to produce nonpublic information” for inspection.
In Tiger v. Boast Apparel, Inc. (a/k/a BAI Capital Holdings, Inc.), No. 23, 2019 (Aug. 7, 2019), the Supreme Court affirmed the Court of Chancery’s entry of a confidentiality order governing an inspection of books and records pursuant to Section 220 of the DGCL as being within the “range of reasonableness” for such restrictions. It disagreed, however, with the trial court’s “formulation of the principles governing confidentiality in the Section 220 inspection context . . . .”
First, as noted above, the Supreme Court rejected the notion that the books and records of a corporation subject to a statutory inspection demand were entitled to a presumption of confidentiality. This clarification by the Supreme Court countered what it found to be a recent trend in Court of Chancery decisions applying such a presumption that appeared based–either directly or indirectly–on an insecure foundation of earlier case law and/or reference to a widely-regarded treatise on Delaware corporate law. The Supreme Court reiterated that the Court of Chancery retained the discretion to determine whether confidentiality restrictions are appropriate in a given case, and in exercising that discretion, “must assess and compare the benefits and harms when determining the initial degree and duration of confidentiality.”
Second, the Supreme Court held that when addressing the duration of confidentiality restrictions, “an indefinite period of confidentiality protection should be the exception and not the rule,” and that a stockholder need not demonstrate “exigent circumstances” in order for the court to grant such restrictions for a time period shorter than indefinite confidentiality.
As the Supreme Court notes in a footnote, this opinion is not unlike another recent ruling of the Court in which it “rejected the notion that jurisdictional use restrictions were a ‘norm’ in Section 220 production agreements.” The takeaway from this recent Section 220 jurisprudence is that stockholders and corporations retain wide latitude in negotiating the terms of a statutory inspection, and should the Court of Chancery become involved, it retains broad discretion in imposing reasonable restrictions and conditions on such a statutory inspection.
When employees leave their employment and take with them their former employer’s confidential information, the ensuing litigation often contains a claim against the former employee for violations of the Computer Fraud and Abuse Act (the “CFAA”). This was so in the recent decision by the Court of Chancery in the case AlixPartners, LLP, et al. v. Benichou, C.A. No. 2018-0600-KSJM (May 10, 2019). In a matter of first impression for the state courts of Delaware, the Court of Chancery was asked to interpret and apply the CFAA’s provision creating liability for any person who “intentionally accesses a computer without authorization, or exceeds authorized access, and thereby obtains . . . information form any protected computer.”
In this case, the complaint alleges that the former employee downloaded company confidential information to a personal hard drive on two occasions–once before his resignation and a second time after he was given a notice of his dismissal and was no longer performing work for the employer. At issue were the terms “without authorization” and “exceeds authorized access” of the CFAA, and how they might apply to this factual scenario.
In ruling, the Court of Chancery discussed in detail the split in authority on the application of those terms into a “broad” approach and a “narrow” approach. Under the more broad interpretation, courts have found that conduct might violate the CFAA where a person has accessed “a computer or information in violation of one’s use obligations,” which will often involve an examination of the person’s intent or use of such information. The Court, however, applied principles of statutory construction and adopted the more narrow approach to the application of this provision of the CFAA. Under that interpretation, the Court held that the terms “without authorization” and “exceeds authorized access” apply “only when an individual accesses a computer or information on that computer without permission. The statute does not impose liability for misusing information to which the individual had authorized access.”
Given this ruling, the Court dismissed the CFAA claims against the former employee related to first instance of downloading of files (when he was authorized to access the files), but allowed the claims related to the second instance–after he was allegedly no longer authorized to access the company’s computer system–to proceed.
Ultimately, while the Court ruled that claims under the CFAA may not be available to address situations where persons who are technically authorized to access computers or information have nonetheless misused that information, that misuse of data may still very well violate certain contractual duties of use and non-disclosure or other state law causes of action (for instance, under an applicable Uniform Trade Secrets Act).
A few years ago we highlighted on this blog an opinion where the Court of Chancery’s analysis turned, in part, on its impression of the quality of the corporate minutes at issue. As we also noted in that post, the drafting of corporate minutes is an art rather than a science.
While counsel to Delaware corporations may debate the level of detail that should be included in minutes of meetings of the board of directors or committees of the board, the Court of Chancery has recently noted that for the minutes to be deemed an accurate portrayal of the conduct of such meetings, there must be evidence that they were created, reviewed and approved roughly contemporaneously with the meeting. In FrontFour Capital Group LLC, et al. v. Taube, et al., C.A. No. 2019-0100-KSJM, at p. 25, n. 98 (March 11, 2019), the Vice Chancellor did not view the minutes of the meetings of a Special Committee reviewing a transaction “as contemporaneous evidence or give them presumptive weight” where there was evidence that the minutes were not finalized until months after the meetings occurred and after litigation was filed.
As this opinion makes clear, when judicial officers are asked to review minutes as a contemporaneous memorialization of the actions taken at meetings of boards of directors, they will look to see whether the minutes were, indeed, created contemporaneously with the actions–when memories are fresh and likely unclouded by later events. Therefore, it remains a worthwhile practice for boards (or their committees) to ensure that their minutes are drafted, reviewed and approved by the next meeting of the body.
In the case KT4 Partners LLC v. Palantir Technologies, Inc., No. 281, 2018 (Jan. 29, 2019), the Supreme Court of Delaware provided additional guidance as to two issues that can arise in disputes over statutory inspections of books and records demanded by stockholders. First, the court clarified when the scope of an inspection being demanded might include email communications of officers and directors of the corporation. Second, the court addressed the fact-specific inquiry involved in determining whether a forum-use restriction would be placed on the stockholder’s future use of the fruits of an inspection in litigation.
On the issue of whether email communications are properly within the scope of a statutory inspection under Section 220 of the DGCL, the Supreme Court reiterated that the analysis depends on the facts and circumstances present, but that the bar remains fairly high for a stockholder to show that such documents are necessary for the purpose they have articulated in their demand for inspection. Here, the Supreme Court also took the opportunity to put a finer point on the legal standard stockholders, corporations, and the trial court should apply to determine the proper scope of an inspection of books and records. While at various times the decisions of the courts have used the terms “necessary” or “essential” or “sufficient,” in this opinion the Supreme Court holds that the scope of documents subject to inspection are those “that are essential and sufficient to the stockholder’s stated purpose,” that is, “the court must give the petitioner everything that is essential, but stop at what is sufficient” (internal quotations omitted). The Supreme Court went on to find that in this case, the Court of Chancery should have permitted the inspection of electronic communications because the company did not have other, more formal board-level documents to memorialize the actions that were the target of the inspection. As the court concluded: “Ultimately, if a company observes traditional formalities, such as documenting its actions through board minutes, resolutions and official letters, it will likely be able to satisfy a Sec. 220 petitioner’s needs solely by producing those books and records. But if a company instead decides to conduct formal corporate business largely through informal electronic communications, it cannot use its own choice of medium to keep shareholders in the dark about the substantive information to which Sec. 220 entitles them.”
The Supreme Court also addressed when it is appropriate for a stockholder’s use of the information from a statutory inspection be limited to the potential for bringing litigation in a specific jurisdiction–often Delaware as the state of incorporation. The court reiterated that (a) “the Court of Chancery must be cautious about limiting the jurisdiction in which a petitioner can use in litigation the books and records it receives from a Sec. 220 action,” and (b) the circumstances when such restrictions are appropriate “must be justified by case-specific factors” (internal quotations omitted). The most important of those case-specific factors continues to be whether the subject corporation’s bylaws or charter contains a forum-selection clause limiting litigation by stockholders addressing the internal affairs of the corporation to the courts of Delaware.
The Court of Chancery recently affirmed the long-standing principle that directors of Delaware corporations are vested with “virtually unfettered rights to inspect books and records” of the company they serve. Schnatter v. Papa John’s Int’l., Inc. C.A. No. 2018-0542-AGB (Jan. 15, 2019). The Chancellor went on to reiterate that a director of a Delaware corporation that makes a demand to inspect the books and records of the corporation pursuant to Sec. 220 of the Delaware General Corporation Law should generally have “access at least equal to that of the remainder of the board.”
Directors of a company make a prima facie case for a statutory inspection of books and records where they show that: (a) they are a director, (b) they have demanded an inspection, and (c) the demanded inspection has been refused. Upon that showing, the company will then bear the burden of proving that the director making the demand for inspection was for an improper purpose–that is, the director’s “motives are improper, or that they are in derogation of the interest of the corporation. . . .”
The Delaware courts have been asked several times in the last few years to interpret contracting parties’ intent when they have relegated certain disputes to “an expert not an arbitrator” as a form of alternative dispute resolution. On January 29, 2019, the Court of Chancery issued the latest opinion on this topic in Ray Beyond Corp. v. Trimaran Fund Mgt., LLC, C.A. No. 2018-0497-KSJM., and reiterated that such language will be construed as limiting the ADR professional’s jurisdiction to deciding “factual disputes within the decision maker’s expertise.”
In this case, the decision maker was to be an independent accountant, and thus, the court found that the clause at issue was to delegate factual disputes regarding calculation disputes to that “expert” but that legal disputes were reserved for the courts to decide as judicial officers.
The takeaway from these decisions continues to be a lesson in “words matter.” If contracting parties wish certain disputes that might arise be decided by someone other than through litigation in courts, they should carefully spell out the authority of the persons resolving those disputes. “Experts” will likely be relegated to deciding factual matters within their expertise, while “arbitrators” will likely be found to exercise judicial-like functions.
By: Oderah C. Nwaeze & Mackenzie M. Wrobel
Once a complaint has been filed, defendants have a finite period of time to decide what to do next. Among the list of options are: (a) ignore it (the U.S. is overly litigious anyways); (b) answer the allegations; (c) move to dismiss; or (d) cower in fear and settle immediately. More often than not, defendants choose option (c).
The reality of moving to dismiss, however, is that the moving party often lacks a credible basis for dismissing the entire complaint. As a result, defendants frequently file a partial motion to dismiss on the day that a responsive pleading is due under the court’s rules (or some other date that the parties have agreed to file and serve a response). In circumstances where a plaintiff has filed a partial motion to dismiss, the parties usually — without formal agreement — focus their efforts on the partial motion, ignoring the fact that as of the deadline to file a responsive pleading, the defendant has not answered those allegations that are beyond the scope of the partial motion to dismiss. According to a recent decision from the Delaware Court of Chancery, that approach is a mistake. While the rules of civil procedure excuse a defendant from answering allegations that are subject to a partial motion to dismiss, nothing in the rules shields the defendant from failing to answer those allegations unrelated to the motion to dismiss in a timely manner.
Continue reading You Better Answer Me! What to Do When Facing a Partial Motion to Dismiss
By: Oderah C. Nwaeze & Mackenzie M. Wrobel
In almost every lawsuit, as part of the discovery process, the parties will exchange information relevant to the claims and defenses at issue. Discovery, however, is rarely as easy or collaborative as it should be. To the contrary, parties routinely will refuse to produce materials responsive to well-tailored discovery requests without offering anything more than rote, unspecific responses to explain their tenuous positions. In most cases, the objecting party ultimately will produce the requested documents, but only after forcing its opponent to waste time and money exchanging correspondence and participating in meet and confers. Recognizing this unnecessary strain on resources, Delaware courts have spent the better part of a decade waging a not-so-quiet war on boilerplate objections.
Leading the charge on that front are jurists from the Delaware Court of Chancery, who refuse to allow parties to withhold discovery based on the limited details found in formulaic objections. See Transcript of Motion to Compel Argument, Lake Treasure Hldgs. Ltd. v. Foundry Hill GP, C.A. No. 6546-VCL (Sept. 11, 2012) (“Lake Tr. at __”); Transcript of Motion to Compel Argument, Glidepath, Ltd., et al. v. Beumer Corp. et al., C.A. No. 12220-VCL (Del. Ch. Oct. 6, 2016) (“Glidepath Tr. at __”). The Court has emphasized that the point of discovery responses is for the objecting party to detail for its adversary “what [it is] planning not to do” and why. Lake Tr. at 22. Otherwise, parties will waste time and money engaging in letter writing campaigns in order to flesh out objections that should have been described in the “first response.” Lake Tr. at 22; see also Hammer v. Howard Medical, Inc., 2017 WL 1167550 (Del. Super. Feb. 14, 2017) (Stokes, J.) (granting a motion for sanctions, fees, costs against an objecting party for the continued use of general “irrelevant” or “not applicable” objections to interrogatories despite the requesting party’s efforts to seek clarification through correspondence and motion practice).
Continue reading Delaware’s War Against the “Boilerplate [Objection] Plague” Goes National
By: Oderah C. Nwaeze & Mackenzie M. Wrobel
Although Delaware has not expressly adopted the remedy of reverse piercing of a corporate veil, the United States Court of Appeals for the Fourth Circuit believes that Delaware LLCs may be deemed the alter ego of their sole or controlling equity-holder and held jointly liable for that individual’s (or entity’s) liabilities. Indeed, in Sky Cable, LLC v. DIRECTV, Inc., 886 F.3d 375 (4th Cir. 2018), the Court of Appeals applied reverse veil-piercing to conclude that the LLCs at issue were properly co-debtors to a $2.3 million judgment against the LLCs’ sole member, Randy Coley.
At the trial level, the Western District of Virginia entered a $2.3 million judgment for DirecTV, after finding that Mr. Coley was liable for a fraud scheme involving the unauthorized transmission of DIRECTV’s programming. See Sky Cable, LLC, 886 F.3d at 377. When DIRECTV could not enforce the judgment against Mr. Coley, DIRECTV moved the district court to pierce the corporate veil of three of Mr. Coley’s LLCs, arguing that the LLCs were Mr. Coley’s alter egos. Id. The district court agreed and granted DIRECTV’s motion. Id. Among the reasons for that holding was that: (1) the LLCs were controlled solely by Mr. Coley; (2) Mr. Coley failed to observe corporate formalities and maintain proper accounting records; and (3) Mr. Coley engaged in significant commingling of assets between the LLCs and his personal finances. Id. at 390. Continue reading Does Delaware law support reverse veil-piercing? The Fourth Circuit says: YES!
On November 28, 2016, the Supreme Court of Delaware confirmed what had become a common thread in several previous decisions by the Court of Chancery–that a Delaware entity cannot avoid expansive advancement rights it has granted to its officers and directors by arguing that they had fraudulently induced the company to grant those rights. In Trascent Mgm’t Consulting, LLC v. Bouri, No. 126, 2016 (Del. Supr.), the Supreme Court held that such a challenge to an officer’s right to advancement of fees and expenses for litigation was more properly heard during later proceedings to determine whether the officer was ultimately entitled to a right to indemnification upon the close of the underlying proceedings.
Trascent had hired Mr. Bouri as an officer and manager of the LLC with responsibility for the human resources, IT, and finance functions. Mr. Bouri was employed pursuant to an employment agreement, which among other things, granted him broad rights to advancement of any fees and expenses he incurred in certain types of proceedings. Trascent and Mr. Bouri parted ways, and Trascent sued Mr. Bouri for, among other things, breaches of his employment agreement. Pointing to the terms of that employment agreement, Mr. Bouri sought advancement of his fees and expenses for defending against his former employer’s claims. Trascent, however, argued that the same agreement upon which its claims were founded was induced by fraud, and therefore, Mr. Bouri’s claims for advancement should be denied.
The Court of Chancery rejected this defense, and the Supreme Court (with Chief Justice Strine writing for the court) affirmed that ruling. As the Supreme Court noted: “[A]llowing Trascent to avoid its contractual duty to make immediate advancement payments by making a belated fraudulent inducement claim would impede the efficiency of the summary mechanism provided by 8 Del. C. 145(k) and impair the public policies served by contractual advancement provisions made in reliance upon that provision of the DGCL as well as the Limited Liability Company Act,” and therefore “the Court of Chancery properly refused to delay enforcing the plain language of the contract.”
The Supreme Court, in a footnote, also noted that the reasoning and public policy supporting this ruling was equally applicable to agreements to arbitrate disputes–another area where the Court found these fraudulent inducement arguments to reflect “unproductive gamesmanship.” The court warned that parties should make such arguments to the arbitrator in the first instance and not a court in trying to avoid the contractual choice of venue for dispute resolution.