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Court of Chancery Reaffirms Directors' Broad Books-and-Records Inspection Rights

Authors: James H. S. Levine and Douglas D. Herrmann

2/06/2019
Court of Chancery Reaffirms Directors' Broad Books-and-Records Inspection Rights

Reprinted with permission from the February 6, 2019 edition of the Delaware Business Court Insider. © 2019 ALM Media Properties, LLC. All rights reserved. Further duplication without permission is prohibited. (ALMReprints.com, 877.257.3382).

Section 220(d) of the Delaware General Corporation Law permits a director to inspect a company’s books and records for purposes reasonably related to the director’s position as a director. It is well-settled under Section 220 jurisprudence that a director’s right to access corporate books and records is broader than that of stockholders. A director who has a proper purpose for inspection (i.e., one that is reasonably related to his or her position as a director) has virtually unfettered access to the company’s books and records. In a recent ruling, Schnatter v. Papa John’s International, C.A. No. 2018-0542-AGB, Chancellor Andre G. Bouchard reaffirmed that longstanding rule and expounded on its application when the director may also have an additional, personal reason for seeking the books and records.

Background

John Schnatter, the founder of Papa John’s and the company’s longtime chairman and public spokesman, came under fire in 2017-2018 for his public criticism of the National Football League’s handling of player protests and a report that he had used a racial slur during a company training call. Following widespread coverage of the slur incident, Schnatter resigned as the company’s chairman and was not allowed to publicly appear on behalf of the company. The Papa John’s board also formed a special committee to evaluate the company’s relationships with Schnatter. After deliberating for approximately three hours, the special committee decided to terminate two agreements the company had with Schnatter.

Shortly after being informed of this decision, Schnatter submitted a demand to inspect 17 categories of the company’s books and records, including communications between or among directors and the company’s attorneys concerning Schnatter. The company largely rejected his demand, and Schnatter sued for access under Section 220(d). Schnatter subsequently filed a derivative complaint asserting fiduciary duty breaches by the company’s CEO and the special committee members, unrelated to his Section 220 demand.

The company asserted that Schnatter’s reason for making the demand was personal and improper, rather than his stated purpose—to investigate mismanagement of the company by the other members of the board. Following a one-day trial, the court asked the parties to meet and confer to explore a resolution of the books and records dispute, which resulted in a resolution concerning 13 of the 17 categories of documents sought in Schnatter’s demand. The parties were unable to resolve the dispute over the remaining four categories.

The Court’s Ruling

Bouchard largely granted Schnatter’s request for the remaining four categories of documents, stating, “A director who has a proper purpose … has virtually unfettered rights to inspect books and records.” The court noted that this broad right of access is necessary for directors—who are charged with fiduciary obligations to a corporation—to be able to fulfill their obligations and perform their duties.

The court rejected the company’s assertion that Schnatter’s interest in seeking the books and records was personal (and therefore improper), concluding that the company had failed to meet its burden of demonstrating that Schnatter’s true purpose was not reasonably related to his position as a director.

The court recognized that, although the documents sought concerned Schnatter, a personal motivation or interest does not override the broad policy in favor of granting directors access to books and records. Bouchard stated, “Although Schnatter’s interests as a director and as an individual often overlap because of the unique public role he has played at the company for many years, the company has failed in my opinion to meet its burden of showing that Schnatter’s actual purpose for making the demand is personal and thus not reasonably related to his position as a director.” Schnatter’s concerns about the company’s apparent intent to abruptly sever ties with him— its founder and longtime public face—were relevant concerns that any director would have about the company’s management and oversight.

But the court did conclude that the remaining four disputed categories of documents were overbroad relative to Schnatter’s stated purpose of investigating mismanagement because he sought, for example, communications “referring or relating” to Schnatter without further qualification. The court limited the scope of those categories to communications that “reflect any consideration of changing Schnatter’s relationship with the company, which would include assessments of his behavior or performance in his various roles at the company (e.g., as a director, officer, or spokesman), during the specified time period.” Thus, Schnatter was entitled to communications (including privileged communications) concerning specific discussions or efforts to remove him from his positions with the company, but not about him more generally.

Takeaways: The Presumption in Favor of Director Access Remains Strong

The court’s ruling reinforces existing Delaware law concerning directors’ rights of access to company books and records. But it also provides a roadmap for a director whose personal interests are inextricably intertwined with the interests of the company on how to obtain books and records concerning matters of personal import if the company changes or considers changing the director’s role.

Schnatter also provides a cautionary tale for companies that are considering opposing a director’s Section 220(d) demand. Because Delaware law recognizes a strong presumption in favor of providing directors access to company records, companies should be very cautious before denying a director’s demand and should anticipate litigation if they do deny the director access to books and records. Even when a director has a personal motivation, so long as he or she has a bona fide reason for seeking the books and records that is reasonably related to his or her position as a director, the director is likely to prevail, provided the documents sought are sufficiently tailored to the stated reason.

The material in this publication was created as of the date set forth above and is based on laws, court decisions, administrative rulings and congressional materials that existed at that time, and should not be construed as legal advice or legal opinions on specific facts. The information in this publication is not intended to create, and the transmission and receipt of it does not constitute, a lawyer-client relationship.

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