The Delaware Supreme Court recently affirmed Vice Chancellor Laster’s decision requiring the production of corporate books and records in an action some have characterized as expanding the scope of Section 220 actions. These decisions, however, largely affirm the long-standing statutory mandate that a requesting stockholder must state a “proper purpose” for inspection (not what the stockholder intends to do with the resulting records) and confirm that a stockholder investigating potential wrongdoing need not prove it has actionable claims in order to proceed.
Section 220 of the Delaware General Corporation Law entitles a stockholder to inspect corporate books and records if she satisfies certain procedural requirements and states “a proper purpose.” A proper purpose is one “reasonably related to such person’s interest as a stockholder.” Not surprisingly, this broad description covers “myriad” specific purposes (e.g., “investigation of corporate waste and investigation of possible mismanagement or self-dealing”). Where a stockholder wishes to investigate possible wrongdoing, he must show by a “preponderance of the evidence” (i.e., it is more likely than not) that there is a “credible basis to believe” wrongdoing has occurred that warrants investigation. The Supreme Court and Court of Chancery have repeatedly reminded stockholders to avail themselves of these “tools at hand” to inform potential claims, particularly derivative actions brought on the company’s behalf. Anecdotal evidence suggests that stockholders have listened and the number of Section 220 requests and contested matters has increased over the last few years. This is likely attributable at least in part to other developments in the law that arguably have raised the pleading bar for certain claims to survive a motion to dismiss, and, thus, plaintiffs have responded by seeking books and records in advance of some such motions.
The trial court concluded that plaintiffs had stated a proper purpose by seeking to “investigate possible breaches of fiduciary duty, mismanagement, and other violations of law” in connection with the company’s distribution of opioids. The Court emphasized that although the “credible basis” analysis is a case-specific and relatively lenient standard, a stockholder cannot obtain records “simply because [she] disagrees with a board decision.” In this case, the trial court concluded that plaintiffs met the standard, in part by relying upon the existence of several ongoing government investigations.
The defendant argued, however, that because the plaintiffs stated that they were seeking to investigate a possible Caremark claim (a type of claim discussed in more detail in other posts), the ultimate merits of that future lawsuit were relevant to the “proper purpose” analysis. Otherwise stated, the defendant asserted that (i) a stockholder must state in its demand what it intends to do with the responsive documents, and (ii) if that “what” is “potential litigation,” the stockholder must demonstrate that he has an actionable claim.
The trial court rejected each of these contentions. As to the former, Vice Chancellor Laster concluded that requiring a stockholder to state their intentions went “beyond what Section 220 and Delaware Supreme Court precedent require.” While a stockholder’s intentions might be relevant to the “proper purpose” analysis, they are not necessary to state a Section 220 demand. As to the latter, the Court held that because a demanding stockholder need not specify the future use of produced materials, and, thus, could use the materials it receives for purposes other than litigation, an actionability test did not apply. The Court further explained that any “actionable-wrongdoing requirement” would impose a burden beyond existing case law.
The Supreme Court unanimously agreed. It confirmed that a stockholder “need not identify the particular course of action the stockholder will take” if the information it receives confirms its “suspicion of wrongdoing.” The Court likewise rejected the defendant’s proposed actionability requirement. In so doing, it emphasized the differences between the “credible basis” standard, and the more onerous standard that must be satisfied to sustain a complaint alleging breaches of fiduciary duty. Though the Court acknowledged that “insurmountable” procedural issues might preclude inspection where a stockholder’s sole objective is nonstarter litigation, that hypothetical, case-specific exception did not modify the standard. The court also reminded that Section 220 proceedings “are intended to be ‘summary’” and thus agreed with the trial court that such a proceeding “is not the time for a merits assessment of plaintiffs’ potential claims.”
The AmerisourceBergen trial and Supreme Court decisions reinforce the traditional understanding that a Section 220 proceeding is “summary” in nature and a tool for stockholders to obtain specific records related to a specific proper purpose, identified with “rifled precision” so as to not unduly burden the corporation. The decisions also acknowledge the case-specific nature of the inquiry, and reiterate that the court may dismiss a claim and deny the stockholder’s demand where a stockholder lacks a proper purpose (e.g., is solely seeking to bring time-barred litigation, or circumvent a discovery stay elsewhere). Ironically, although these decisions emphasize that the limited nature of the statutory inspection right serves to allow directors to “manage the business of the corporation without undue interference from stockholders,” we expect these decisions will likely fuel even more inspection requests going forward.
This post is as of the posting date stated above. Sidley Austin LLP assumes no duty to update this post or post about any subsequent developments having a bearing on this post.