Delaware Court Of Chancery Rejects Stockholder Demand For Corporation To Supplement Its Section 220 Production With Searches And Production Of Email
On August 25, 2023, Magistrate Bonnie W. David of the Delaware Chancery Court issued a post-trial report denying stockholder requests for supplemental productions of emails from Zendesk, Inc. (the “Company”) pursuant to a books and records demand. In re Zendesk, Inc. Section 220 Litig., C.A. No. 2023-0454-BWD (Del. Ch. Aug. 25, 2023). Plaintiffs served the demands pursuant to 8 Del. C. § 220 seeking to investigate possible wrongdoing in connection with the Company’s entry into a merger (the “Transaction”). The Company voluntarily produced “Formal Board Materials,” including board minutes, presentations, and other board-level documents in response. Plaintiffs, however, asserted that there were “gaps” and “inconsistencies” that purportedly necessitated searches and production of email. The Court found that plaintiffs “have not met their burden to prove that [the requested] electronic communications … are essential to accomplishing the proper purposes stated in their [d]emands.”
The Company allegedly received an unsolicited acquisition proposal from a consortium of private equity firms (the “Consortium”) in February 2022 for a price between $127 and $132 per share. The board rejected that offer, concluding that it “significantly undervalued” the Company. During the following months, an activist investment firm called for replacement of the board and its management or a sale of the Company. The activist investment firm threatened a proxy contest and litigation related to the Company’s annual meeting. The board entered into settlement discussions with the activist and the terms of a draft settlement agreement contemplated the resignation of the CEO and several board members. In June 2022, however, the Consortium submitted a new proposal to acquire the Company for $77.50. Around the same time, management reduced the Company’s long-range forecasts. The board approved the sale to the Consortium—i.e., the Transaction.
In response to the books and records demands, the Company produced board minutes and other formal board-level documents concerning the Transaction; the activist; bid process letters and written offers; director questionnaires; advisor engagement letters; reports from proxy advisory services; copies of financial projections and forecasts; and NDAs with potential acquirers. But plaintiffs also sought searches and productions of email from several custodians.
The Court held that plaintiffs had demonstrated a “proper purpose” for books and records in seeking to investigate “potential wrongdoing in connection with the Transaction.” The Court explained that plaintiffs were required to “present some evidence to suggest a credible basis” that wrongdoing “may have occurred” and that the “credible basis standard imposes the lowest possible burden of proof.” Plaintiffs alleged that management “may have favored a sale to protect their positions … or … to protect their reputations.” The Court found that the “facts in the aggregate establish a credible basis to investigate.”
Nevertheless, the Court held that plaintiffs failed to establish that the electronic communications they sought were essential to accomplishing their purported purpose. The Court noted that the “scope of inspection” is “fact-specific” and that the court has “broad discretion,” but the stockholder “bears the burden of proving that each category of books and records is essential” and is not entitled to more than what is “sufficient.” The Court highlighted that “Formal Board Materials are the starting point—and typically the ending point—for a sufficient inspection.”
The Court found that the board “honored corporate formalities in the process leading to the Transaction” and that the Company’s production of Formal Board Materials was sufficient to serve the purpose of plaintiffs’ purported investigation. The Court ordered the supplemental production of a limited set of additional financial information, but rejected plaintiffs’ demands for email searches and productions. As the Court explained, “[w]hile incremental details could be helpful to flesh out [p]laintiffs’ theories, that does not support [p]laintiffs’ request for comprehensive, discovery-style email production through a books and records action.”