While there are limits to a stockholder’s right to inspect books and records under Section 220 of the Delaware General Corporation Law or other sections allowing inspection—and corporations can negotiate the scope of inspection—there are also limits to how vigorously a corporation can resist a stockholder’s inspection demand, particularly when it does not present novel legal issues. Two recent fee-shifting decisions issued by Vice Chancellor Zurn provide a cautionary reminder of those limits, which were previously set out by the Court of Chancery in opinions such as Pettry v. Gilead Scis. Inc. (2020), Marilyn Abrams Living Trust v. Pope Invs. Inc. (2017), and McGowan v. Empress Entm’t (2000). The unmistakable message: if the right to inspection is clear, a defendant should think twice about a blanket opposition, unless the defendant does not mind paying the plaintiff’s legal fees in the end.
Key to both of these recent decisions was that they involved defendants who took litigation positions that the Court viewed as unsupportable.
In Seidman v. Blue Foundry Bancorp. (“Blue Foundry”), the plaintiff stockholder was concerned with the corporation’s intention to pay compensation to non-employee directors and senior management that the stockholder felt was excessive, based on the corporation’s financial performance (valued by the corporation at more than $500,000 per director). The stockholder also launched a “vote no” campaign, requesting that stockholders oppose the corporation’s compensation proposal, including because it lacked a performance standard. After stockholders approved the compensation proposal, the plaintiff sought to inspect compensation consultant reports and formal board materials, alleging both investigative and communicative purposes (i.e., that he wished to communicate with other stockholders to address the foregoing issues “through litigation, proxy contest or by other corrective measures”). The Court rejected the defendant corporation’s argument that, under the stockholder-ratification doctrine, the plaintiff was required to demonstrate an actionable claim, noting that AmerisourceBergen Corp. v. Lebanon Cnty. Emps. Retirement Fund (2020) requires only that a stockholder establish a “credible basis” from which the Court can infer wrongdoing or mismanagement, and that the stockholder need not demonstrate that the wrongdoing or mismanagement is actionable.
In Bruckel v. TAUC Holdings, LLC (“TAUC”), the plaintiff was a “Founder Member” and manager of the defendant LLC who sought inspection under Section 18-305 of the Delaware Limited Liability Company Act as well as the LLC Operating Agreement. The Court found that he had statutory and contractual rights to any material “reasonably related to his status as a manager” (with the “best proxy” being those materials that other managers were receiving) and that the plaintiff’s contractual rights did not even have a “proper purpose restriction.”
In both cases, the Court found that plaintiffs’ inspection rights had been improperly stymied by the defendants, which necessitated litigation. This might itself have been sufficient to shift fees under McGowan, which is cited in both opinions for the proposition that stonewalling a “clearly established” inspection right can amount to bad faith that warrants fee-shifting. In both cases, however, the Court pointed to egregious conduct by the defendants—including misstatements as well as stonewalling the plaintiffs’ discovery requests—that further justified shifting fees.
In Blue Foundry, the defendant corporation refused until the eve of trial to disclose whether responsive board materials even existed, and then only produced roughly 60 pages worth of material. The defendant also insisted on deposing the plaintiff in-person in Delaware, despite knowing that the plaintiff was located in Florida; it also insisted on calling the plaintiff for live testimony at trial, ignoring that books and records matters are most typically summary issues that can be decided on a paper record.
In TAUC, the defendant’s continued refusal to timely produce material to the manager-plaintiff first drew a contempt order, and then a court-appointed receiver to ensure compliance. And after the TAUC defendant started producing board materials, it only did so on a delayed basis, often rendering the material useless to the plaintiff. Email production was delayed even further. The defendant LLC also changed how it was advising its managers—always omitting one manager per meeting on a rotating basis—in an attempt to minimize the official management materials it might be required to produce to the plaintiff for inspection. The Court also faulted the defendant LLC’s privilege designations, noting that it had improperly redacted entire documents; had withheld image files, attachments, and calendar items for no apparent reason; and had inexplicably withheld documents that had been sent by, or shared with, the plaintiff. And the Court also noted that, “in what is supposed to be a summary proceeding, the docket is littered with letters, and the Court has had a trial, three subsequent hearings, and issued now five rulings.”
Finally, Vice Chancellor Zurn expressed concern that the defendants in both cases misrepresented the record in opposing fee shifting. In Blue Foundry, the opinion states the defendant “made four demonstrably false statements” about its actions during discovery. In TAUC, the opinion pointed to the defendant’s broken promises to comply with discovery orders and false assertion that the plaintiff never asked to inspect records on-site (he did).
In the end, inspection was ordered and fees were shifted. Both decisions reflect the Delaware Court of Chancery’s latest efforts to discourage what it sees as a “trend” of bad faith litigation strategies for frustrating inspection demands. Mere delay in the production of documents may not be enough to justify shifting fees, particularly where the company provides the documents, as another recent books-and-records decision held. But litigating plainly legitimate inspection requests, taking overbroad privilege positions, and misrepresenting the record to the Court may be seen as bad faith that comes with a price tag.
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