District Of Delaware Finds Successful Section 220 Action Tolled Claims For Alleged Mismanagement
On September 4, 2018, Judge Leonard P. Stark of the United States District Court for District of Delaware ruled that a shareholder’s separate Section 220 action for books and records tolled claims against the managing shareholder. Norman v. Elkin, C.A. No. 06-005-LPS (D. Del. Sept. 4, 2018). Plaintiff, the only minority shareholder of U.S. Mobilecomm, Inc. (“USM”), brought various contract, fraud, and breach of fiduciary duty claims against USM’s majority shareholder—who managed the affairs of the company—in connection with the sale of company assets and the subsequent distributions of the proceeds. Explaining that there is “no hard and fast rule” under Delaware law for determining whether a Section 220 action tolls a statute of limitations, the Court considered various factors and held that plaintiff met its burden to demonstrate that tolling should apply. In particular, the Court highlighted that the Section 220 action sought to investigate possible mismanagement related to the asset sales and distributions of proceeds and the claims subsequently advanced “were related to that information.”
Plaintiff and defendant founded USM in the early 1990s for the purpose of acquiring and selling licenses to radio bandwidth. At the time, they entered into an oral agreement to make contributions to capitalize the company, with plaintiff contributing 25% of the capital and defendant contributing 75%. After the company acquired certain licenses in 1991 and 1992, plaintiff’s day-to-day involvement in the company ended and defendant continued to manage the company’s affairs. Thereafter, without informing plaintiff, defendant allegedly continued to make certain contributions to the company pursuant to an agreement with the company to treat such contributions as loans. The company sold its licenses between 1999 and 2001 and allegedly used the proceeds to repay defendant’s loans in 2001 and 2002. In November 2004, plaintiff filed a Section 220 action to investigate possible self-dealing by defendant. The Delaware Court of Chancery granted the Section 220 request in October 2005. Plaintiff filed this suit alleging various breach of contract, fraud, and breach of fiduciary duty claims in December 2005. Following a series of dismissals, jury trials, decisions to vacate jury verdicts, and appeal, the case was remanded to Judge Stark to determine whether plaintiff’s claims were timely.
Although the Court found most of the claims had been time-barred before the Section 220 action was filed, the Court concluded that it tolled certain breach of contract claims, which had accrued the latest. In this regard, the Court emphasized that there was a “clear connection” between the mismanagement claims that were ultimately brought and the potential mismanagement that the Section 220 action was intended to investigate. Other factors that the Court found to favor Section 220 tolling were (i) the fact that the Section 220 action was successful, (ii) the absence of evidence of bad faith, such as that the Section 220 action was litigated to “stall” and delay the assertion of claims, and (iii) the appearance that the Section 220 action was undertaken in good faith after defendant repeatedly refused to provide the requested information. The Court also noted that neither the lack of fraudulent concealment by defendant nor plaintiff’s ability to bring claims without the information gleaned in the Section 220 action “on its own, dictates that tolling is inappropriate.”