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Schnatter v. Papa John’s and The Admissibility of Text Messages in a Section 220 Demand

By Drake Edward on Sunday, November 15th, 2020
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Section 220 of the Delaware General Corporation Law (DGCL) permits a shareholder to inspect a corporation’s books and records upon demand pursuant to their right to information.[1] This section is used as a tool to protect the information rights of the shareholder and to ensure that the directors are acting in the interest of the corporation.[2] “A stockholder seeking inspection of books and records must: (1) be a stockholder of record; (2) comply with the form and manner requirements when making the demand; and (3) state a proper purpose for the requested information.”[3]

While Section 220 is exclusive to Delaware corporations because it is under the Delaware General Corporate Law, Delaware is home to over 900,00 businesses and more than half of Fortune 500 companies are incorporated in Delaware.[4]Corporations have an affinity towards Delaware because of the efficiency and consistency of the DGCL statute as well as the judges of the Delaware courts who remain impartial and are experts in the field of corporate law.  In certain situations, some courts outside of Delaware will apply Delaware law because they are dealing with a complex corporate issue.[5] Lastly, some states model and interpret their own corporate law using Delaware’s law.[6]

Today, “books and records” is a convoluted term of art and courts have failed to properly define it in the context of shareholder demands.[7] This term is ambiguous because each corporation may have a different meaning of what constitutes a book or record and shareholders are suffering because they are not receiving access to information.[8] While the term “book” is a place where information is stored, the definition does not adapt to the impact of technology.[9] Traditionally, at common law, most courts have considered “books” to include lists of stockholders, a bank’s stock book, and the stock ledger of the corporation.[10] Board of Directors meeting minutes are subject to disclosure pursuant to a Section 220 demand.[11] In addition to minutes, shareholders often request production of financial records such as those reflecting to compensation paid to directors, and data relating to the corporation’s manufacturing, operating, product lines, and industry.[12] “Books” are becoming a thing of the past because most information can be read, stored, and disseminated electronically.[13]

Additionally, the term “record” is equally as confusing in today’s digital world.[14] In the context of record retention, “record” refers to “data or information that the company deems to be important enough (based on legal, regulatory, and business reasons) to be retained for a specific period of time.”[15] This is an ambiguous term because each business will define record according to the specific needs, goals, and objectives of an individual business.[16] Historically, through a variety of cases, courts have considered a “record” in the context of Section 220 demands to include financial records and reports that consist of more detailed items that would not be found in a regular company balance sheet.[17] The main issue with the “books and records” language of a shareholder demand is that it does not account for modern technology and the multitudes of electronic information that is transmitted within corporations, such as text messages.[18]

In January of 2019, a Delaware court became one of the first courts to address the issue of whether director text messages are admissible in a Section 220 proceeding.[19] The Schnatter v. Papa John’s case involved a demand where the Papa John’s Board of Directors asked John Schnatter to resign as director of the company and terminated two agreements the company had with him.[20] In response, he launched a Section 220 demand.[21] Schnatter sought seventeen categories of Papa John’s books and records for the purpose of discovering whether the board violated their fiduciary duties.[22] In certain categories, Schnatter requested access to text messages stored on the director’s personal devices.[23] The court allowed for the production of text messages and reasoned that “if the company’s other directors, CEO, and General Counsel used personal devices to communicate about changing the company’s relationship with Schnatter, they should expect to provide that information to the company.”[24] The court noted that like emails, text messages have the opportunity to provide probative information.[25]

Because it has been only recently that courts have begun to speak about allowing shareholders to demand emails in a section 220 demand, it is not surprising that only a single case has addressed the issue of text messages.[26] Communication is ever-changing.[27] Employees, corporate directors, and shareholders will continue to communicate using whatever platform they wish.[28] Just because it may be difficult for the court to review these communications and it may impose heavy expenses on companies to produce them, this does not make the information any less necessary.[29] Information is a fundamental right of a shareholder and if they cannot get access to information in more than one form, corporate malfeasance will run rampant and directors will not be held accountable.[30] Only time will tell when and if the Delaware jurisdiction will adopt a bright-line rule regarding text messages sought in a shareholder demand.

 

[1] In re Forest Laboratories, Inc. Derivative Litig., 450 F. Supp. 2d 379, 393 (S.D.N.Y. 2006). A “demand” must be written under oath and state the purpose for investigating the corporation’s books and records. 3B Vernon’s Okla. Forms 2d, Bus. Org § 12.06. If a shareholder is not a shareholder of record, their demand must also be written under oath and must be accompanied by documentary evidence of beneficial ownership of the stock.” Id.

[2] William Meade Fletcher, FLETCHER CYCLOPEDIA OF THE LAW OF CORPORATIONS § 2213 (2012).

[3] In re Forest Laboratories, Inc. Derivative Litig., 450 F. Supp. 2d 379 at 393.

[4] IpVenture, Inc. v. Acer, Inc., 879 F. Supp. 2d 426, 436 (Del. 2012). In addition to housing over half of the Fortune 500 companies, over 50% of all United States publicly traded companies are incorporated in Delaware. Id.

[5] See In re Bear Stearns Litig., 870 N.Y.S.2d 709, 727, (N.Y. Sup. 2008) (applying Delaware law to an interpretation of the business judgment rule in New York).

[6] Connolly v. Agostino’s Ristorante, Inc., 775 So. 2d 387, 387 (Fla. Dist. Ct. App. 2000) (stating that Florida courts rely upon Delaware’s corporate law to interpret Florida corporate law because the Florida corporate statues are modeled after Delaware’s corporate statutes).

[7] See Francis G.X. Pileggi, Kevin F. Brady, & Jill Agro, Inspecting Corporate “Books and Records” in A Digital World: The Role of Electronically Stored Information, 37 Del. J. Corp. L. 163, 177 (2012) (arguing that if the courts do not amend the statute to resolve the mere language of “books and records,” section 220 will essentially become obsolete).

[8] Id.

[9] Id. at 165.

[10] Id.

[11] Beam v. Stewart845 A.2d 1040, 1056 (Del. 2004).

[12] See, e.g., Marathon Partners, L.P. v. M & F Worldwide Corp., 2004 WL 1728604, at *2–*3 (Del. Ch. July 30, 2004) (demanding a copy of books and records that pertain to the company’s stock ledger); Ostrow v. Bonney Forge Corp., 1994 WL 114807, at *5 n. 9 (Del. Ch. Apr. 6, 1994) (seeking production of all financial records and the valuation of all shareholder shares in order to determine whether there was mismanagement, breach of fiduciary duties, or a waste of corporate assets).

[13] See Zubulake v. UBS Warburg LLC, 217 F.R.D. 309, 311 (S.D.N.Y. 2003) (recognizing the large amount of electronic information that corporations produce, but also the importance of preserving and disclosing that information when necessary).

[14] Pileggi, supra note 7 at 165.

[15] Id. at 166.

[16] Id. The term “document” is also closely connected with the term “record”. For example, the Federal Rules of Civil Procedure have historically used “document” to reflect data or information stored in a particular format while a “record” can be much broader and include electronically stored information such as system metadata. Fed. R. Civ. P.26(b)(2)(B), 34(b)(1).

[17] Debra T. Landis, Annotation, What Corporate Documents are Subject to Shareholder’s Right to Inspection, 88 A.L.R.3d 663 (1978).

[18] Charles R. Ragan et al., The Sedona Conference, The Sedona Guidelines: Best Practice Guidelines & Commentary For Managing Information & Records In The Electronic Age, vi (2005).

[19] Schnatter v. Papa John’s International, Inc, 2019 WL 194634 (Del. Ch. Jan. 15, 2019).

[20] Id. at *1.

[21] Id.

[22] Id. at *5.

[23] Id. at *15.

[24] Id. at *16. In holding that text messages were to be produced in a section 220 demand, the court used reasoning from another Delaware opinion which held that a shareholder was allowed to inspect emails and other documents on the director’s personal device because the director owes an obligation to the company “to share information with the company when the company needs it.” Indiana Electrical Workers Pension Trust Fund IBEW v. Wal-Mart Stores, Inc., C.A. No. 7779-CS, 81, 97 (Del. Ch. May 20, 2013).

[25] Schnatter, 2019 WL 194634 at *16.

[26] Id.

[27] Michael Blanchard, When Must E-Mails Be Produced In DGCL Section 220 Books And Records Actions?, ABA (Aug. 20, 2019), www.americanbar.org/groups/business_law/publications/blt/2019/09/dgcl-section-220/. Technological advances make various forms of communication convenient and more efficient to use. Id.

[28] Id.

[29] Schnatter, 2019 WL 194634 at *16.

[30] Fletcher, supra note 2.

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