Shareholder Inspection Rights In Delaware
An earlier post covered the inspection rights of shareholders of California corporations. Here, I cover the rights provided in Delaware, the state where most businesses are incorporated. Briefly, stockholder inspection rights exist under the common law and by state statute, and give stockholders certain rights to access to the books and records of the company in which they hold stock.
What Are Stockholders Entitled To?
In Delaware, stockholders’ inspection rights are outlined in Section 220 of the Delaware General Corporation Law. It provides that any stockholder who makes a request in writing and under oath has the right “to inspect for any proper purpose, and to make copies and extracts from: the corporation’s stock ledger, a list of its stockholders, and its other books and records.” The stockholder can conduct the inspection and make copies at the company’s business during normal operating hours.
The statute doesn’t elaborate on the types of documents that can be requested beyond those three categories. Generally, courts have interpreted the stock ledger and list of stockholders to include “ancillary stocklist information” that is in the possession of the corporation or can be easily obtained. An example might be daily transfer sheets or lists that identify brokerage houses that hold shares.
With respect to the books and records category, courts have interpreted this to include documents, contracts and other papers relating to the corporation’s business affairs. In a recent high-profile case involving Yahoo, the Delaware Chancery Court interpreted Section 220 to include electronic records. Even though the statute doesn’t explicitly mention “electronically stored information,” the court in Amalgamated Bank v. Yahoo! Inc. said inspection rights aren’t limited to paper records. Noting that over 90 percent of business documents are stored electronically, the court said limiting Section 220 to physical documents would cause the section to “become obsolete or ineffective.” It is worth mentioning that the Delaware Supreme Court has stayed the court’s order pending Yahoo’s appeal.
Importantly, while a stockholder must own shares of the corporation when its inspection request is made, the documents that can be inspected do not have to be limited to the period of time for which the stockholder held shares. Rather, the scope of documents to which the stockholder is entitled is determined by the purpose of the investigation.
When can the Corporation Refuse?
Stockholders do not have unlimited access to corporate documents, and while there is some deference given to inspection requests, companies can challenge a request on various grounds. The most commonly cited reason to deny inspection is that it was not made with a “proper purpose.”
Under the statute, a proper purpose means a “purpose reasonably related to such person's interest as a stockholder.” The burden is on the stockholder to provide a reason for the request and state what it intends to do with the information. Requests that are vague or adverse to the interests of the corporation can be challenged.
Stockholder lists and corporate books and records of a subsidiary corporation are also expressly limited by the statute. Section 220 provides that the parent company must have control of the records, or could obtain them through exercise of control. It also does not allow inspection of a subsidiary’s records if it would breach an agreement between the corporation and a person not affiliated with the company, of if the subsidiary would have the right to deny the corporation access to its books.
Stockholder inspection requests might also be successfully challenged if they do not adhere to the technical requirements of the statute. An example would be if the request is not made in writing. In addition, corporations might be able to defend against a request that seeks confidential documents, or documents that contain proprietary or confidential information like trade secrets or attorney-client communications.
Courts have discretion to limit the scope of a stockholder’s inspection request, and some have cautioned that such requests must be “circumscribed with rifled precision.” In Khanna v. Covad Communications Group, Inc., for instance, a stockholder asked for, among other things, all communications between itself and the company. The court said the scope of the request was “overly broad” and the stockholder had not shown any necessity.
Corporations cannot limit stockholder inspection rights with its bylaws or corporate charter, and once a corporation receives an inspection request, it has five days to respond. It is important for companies to understand the applicable laws, or risk potential litigation. If a company receives a stockholder request for information/inspection that it does not wish to comply with, it should seek qualified legal counsel before responding.