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Delaware Court Of Chancery Finds A Circumstantial Connection To Negative Corporate Developments Insufficient To Trigger Inspection Rights Under Section 220
03/05/2019
On February 12, 2019, Vice Chancellor Joseph R. Slights III of the Delaware Court of Chancery denied a books and records demand of a mattress company’s (the “Company”) stockholder in connection with the termination of the Company’s contract with its largest customer and related litigation. Hoeller v. Tempur Sealy Int’l Inc., C.A. No. 2018-0336-JRS (Del. Ch. Feb. 12, 2019). Plaintiff sought the records pursuant to Delaware General Corporation Law Section 220, 8 Del. C. § 220, purportedly to investigate breaches of fiduciary duty by the board. Attempting to articulate his justification, plaintiff relied on what the Court referred to as a “where there’s smoke there’s fire syllogism” in plaintiff’s contention that such a significant customer does not “just leave” in the absence of board culpability. Rejecting the request, the Court held that a “smoke then fire circumstantial connection” does not provide the “credible basis” to suspect wrongdoing that is required to entitle a stockholder to inspect a corporation’s books and records.
More specifically, plaintiff proposed to investigate possible mismanagement in connection with the loss of the customer relationship and related breaches of contract allegedly committed by the Company. But the Court explained that when a stockholder’s purpose is “premised on the board’s possible breach of its duty of oversight (i.e., a Caremark claim),” the stockholder must provide “some evidence” supporting an inference that the board “utterly failed to implement a reporting system or ignored red flags.” Here, the Court found that plaintiff “failed to proffer even a scintilla of evidence to support a credible basis that a Caremark claim may exist.” The Court explained that “a poorly formulated or executed negotiation strategy, without more, does not a gross negligence claim make.” The Court added that the “credible basis standard would be turned on its head if a stockholder was afforded inspection rights every time a company in which he owned stock lost a major customer or was sued for breach of contract.”
Plaintiff also proposed to investigate allegedly false and misleading statements made by the CEO about the positive prospects for the customer relationship while the terms of its continuation were under negotiation. The Court explained that a breach of fiduciary duty claim for false disclosure cannot be maintained in a case where neither stockholder action nor approval is solicited, unless the stockholder demonstrates that the fiduciary “knowingly disseminated false information.” Here, the Court found “no evidence that would even hint” that the CEO made deliberately false and misleading statements when “he expressed his view” that the two parties “would successfully work through” their issues. Moreover, the Court held that the mere temporal connection between the expression of optimism and the termination of the customer relationship three months later did not present a credible basis for the requested records.
On February 12, 2019, Vice Chancellor Joseph R. Slights III of the Delaware Court of Chancery denied a books and records demand of a mattress company’s (the “Company”) stockholder in connection with the termination of the Company’s contract with its largest customer and related litigation. Hoeller v. Tempur Sealy Int’l Inc., C.A. No. 2018-0336-JRS (Del. Ch. Feb. 12, 2019). Plaintiff sought the records pursuant to Delaware General Corporation Law Section 220, 8 Del. C. § 220, purportedly to investigate breaches of fiduciary duty by the board. Attempting to articulate his justification, plaintiff relied on what the Court referred to as a “where there’s smoke there’s fire syllogism” in plaintiff’s contention that such a significant customer does not “just leave” in the absence of board culpability. Rejecting the request, the Court held that a “smoke then fire circumstantial connection” does not provide the “credible basis” to suspect wrongdoing that is required to entitle a stockholder to inspect a corporation’s books and records.
More specifically, plaintiff proposed to investigate possible mismanagement in connection with the loss of the customer relationship and related breaches of contract allegedly committed by the Company. But the Court explained that when a stockholder’s purpose is “premised on the board’s possible breach of its duty of oversight (i.e., a Caremark claim),” the stockholder must provide “some evidence” supporting an inference that the board “utterly failed to implement a reporting system or ignored red flags.” Here, the Court found that plaintiff “failed to proffer even a scintilla of evidence to support a credible basis that a Caremark claim may exist.” The Court explained that “a poorly formulated or executed negotiation strategy, without more, does not a gross negligence claim make.” The Court added that the “credible basis standard would be turned on its head if a stockholder was afforded inspection rights every time a company in which he owned stock lost a major customer or was sued for breach of contract.”
Plaintiff also proposed to investigate allegedly false and misleading statements made by the CEO about the positive prospects for the customer relationship while the terms of its continuation were under negotiation. The Court explained that a breach of fiduciary duty claim for false disclosure cannot be maintained in a case where neither stockholder action nor approval is solicited, unless the stockholder demonstrates that the fiduciary “knowingly disseminated false information.” Here, the Court found “no evidence that would even hint” that the CEO made deliberately false and misleading statements when “he expressed his view” that the two parties “would successfully work through” their issues. Moreover, the Court held that the mere temporal connection between the expression of optimism and the termination of the customer relationship three months later did not present a credible basis for the requested records.
