The right of a stockholder of a Delaware corporation to inspect the books and records of the company is codified in Section 220 of the Delaware General Corporation Law. In recent years, and for a number of reasons, stockholders have been exercising this inspection right in ever increasing numbers (I have four clients addressing demands to inspect books and records as I write). A recent decision of the Court of Chancery (Juul Labs, Inc. v. Grove, C.A. No. 2020-0005-JTL) is worth highlighting–less for the substantive law related to Section 220 inspections of books and records and more its discussion of certain “gatekeeping” matters related to litigation to enforce these stockholder inspection rights.
The noteworthy holdings and outcomes in the Juul Labs decision are the following:
Because Juul Labs is a Delaware corporation, and a demand by a stockholder to inspect the books and records of a corporation are a matter of internal affairs for that entity, the stockholder could not use a similar California statute (even though Juul’s principal place of business is in California) as a basis upon which to demand the inspection of books and records;
A stockholder of a Delaware corporation must look solely to 8 Del. C. Sec. 220 for its statutory rights to inspect the books and records of a Delaware corporation in which they own shares; and
The court left open the question whether a stockholder of a Delaware corporation can contractually waive the statutory rights to inspection of books and records granted by Section 220.
Thus, while it is clear that Delaware corporations and their legal advisors can take greater comfort that disputes over stockholder access to corporate books and records can and will be heard in Delaware, the broader question of whether Delaware corporations can affirmatively contract with their stockholders to limit or obviate such inspection rights remains to be answered.
The minutes of corporate board meetings are, candidly, too often treated as an afterthought. This can lead to the official records being deemed not much of a record at all when later reviewed. Indeed, a reviewing court might even draw certain inferences based on what it finds, or does not find, in the minutes. I have discussed in this blog several times (here and here) certain nuances that go into the craft that is drafting a set of board minutes that properly memorialize the directors’ fealty to their roles as fiduciaries.
A recent opinion from the Court of Chancery demonstrates why, even at the time of setting the agenda for a board meeting, the corporate secretary should be cognizant of how that meeting will be memorialized in the corporate books and records. In an April 27, 2020, Memorandum Opinion in Hughes v. Hu, et al., C.A. No. 2019-0112-JTL, the Vice Chancellor drew certain plaintiff-friendly, pleadings-stage inferences in ruling on a motion to dismiss based on what was–and more importantly, what was not–included in the corporate board minutes regarding the topics in dispute (this Blog addressed the substantive matters in dispute here).
Critical to the court’s analysis was that prior to filing his complaint, the stockholder plaintiff had exercised his rights under Section 220 of the Delaware General Corporation Law to examine the books and records of the company. While the company had produced for inspection some books and records, the company stipulated that “any remaining materials requested by Plaintiff either do not exist or had been withheld on privilege grounds.” Thus, the court held that “if the Company failed to produce a document that it would reasonably be expected to possess if a particular event had occurred, then the plaintiff is entitled to a reasonable inference that the event did not occur.”
The court used that holding as the basis for drawing a number of inferences in the plaintiff’s favor based on what was not included in or with the corporate minutes. For instance, in multiple instances where the corporate minutes referred to a document or presentation that the directors purportedly reviewed, but where no copy of such document was produced for inspection with the minutes in the Section 220 proceedings, the court inferred that such materials did not exist, and therefore were not reviewed by the directors in carrying out their duties.
Moreover, the court also drew substantive inferences in plaintiff’s favor of the anticipated contents of documents referenced in the minutes but not appended to or presented with the such minutes. For instance, a set of minutes stated that the Audit Committee approved a “Policy of Related-Party Transactions Relating to JV Shareholder,” but no such policy had been presented with the corporate books and records for inspection by the stockholder. Thus, the court held: “It is reasonable to infer at the pleading stage that the policy did not place meaningful restrictions on management.”
Finally, it is worth noting that the court also highlighted in multiple places throughout the opinion the overall landscape presented by the corporate books and records. Specifically, the court noted relatively long gaps between meetings of the audit committee, the types of tasks the directors were purportedly undertaking at such meetings, and the actual length of the meetings themselves. For example, the court held it was “reasonable to infer that with the Audit Committee having not met for almost a year, there was no possible way that the Audit Committee could have fulfilled all of the responsibilities it was given under the Audit Committee Charter during a fifty-minute meeting.”
This opinion sheds light on the potential issues that might arise where corporate secretaries (or their counsel) have allowed the task of recording minutes of board meetings to become a mere footnote in the process of keeping accurate and meaningful corporate books and records. Based on this opinion, corporate record-keepers might:
In setting the agenda, give thought to how the meeting is going to flow with an eye to what the written minutes will ultimately record for history. That is, consider the order in which topics are discussed, the relative nature and materiality of each discussion topic, and the time reasonably necessary for the directors to effectively educate themselves about that matter, discuss it, and take action. The minutes should then reflect and record this flow of information, debate, consideration, and action by the directors.
Consider what documents or presentations will be provided to the directors for review and discussion and whether such materials should be provided to the directors in advance of the meeting.
Give thought to what materials–if any–will be appended to minutes in the official books and records of the company.
Drafting minutes that properly record the material events in the life of a board of directors is an art more than a science, but like the classical orders of ancient art and architecture, the gloss from judicial decisions of the courts can define characteristics of minutes that bring that art to life in ways that unmistakably portrays director behavior fully complying with fiduciary norms.
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.
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. . . .”