When a private or public company receives a Section 220 books and records request, it’s is a clear “get ready” signal for breach of fiduciary duty litigation.
If you’re not familiar with this type of request, you’re not alone. Many experienced board members haven’t encountered them—but that is changing.
This is because the Delaware courts have made it clear that they don’t want to see derivative suits filed in their courts without the plaintiffs’ first gathering information that would be readily available if the plaintiffs were first to inspect a company’s books and records.
Section 220 of Delaware General Corporation Law gives stockholders the right to examine corporate documents such as board books and board minutes—and in some cases even emails and notes when a stockholder is investigating potential wrongdoing by directors or officers.
Responding to the requests in a negotiated fashion can be costly. Legal bills of $250,000 to $1 million are not uncommon. If negotiating with the plaintiff about the scope of the request fails and the request ends up in litigation, the costs can reach tens of millions of dollars all too quickly.
The Yahoo Case: A Landmark Opinion Regarding Section 220
The Yahoo case (Amalgamated Bank v. Yahoo! Inc.) in February 2016 clarified the court’s view of Section 220 books and records requests in a comprehensive 74-page opinion.
This particular case involved a stockholder’s request to inspect the records of Yahoo including messages from Yahoo CEO Marissa Mayer’s personal emails. The company initially rejected the request, saying it was beyond the scope of a Section 220 books and records request.
However, the court disagreed (from the opinion):
… Yahoo is wrong that inspection rights are limited to paper records. Stockholder inspection rights in Delaware date from the turn of the twentieth century, when the courts recognized them under the common law … In that era and for a long time afterwards, courts logically focused on paper documents, but times have changed … Today, over 90% of business documents are stored electronically … Limiting “books and records” to physical documents “could cause Section 220 to become obsolete or ineffective.”
This was the first opinion on Section 220 in which the court clearly interpreted Section 220 to include the production of electronically stored information (ESI.) The case demonstrated that directors and officer’s personal emails are fair game as part of these requests.
The court did, however, impose a useful condition on the record inspection in Yahoo. The court imposed an “incorporation condition,” which meant that the plaintiffs had to agree that all the documents inspected will be incorporated into any subsequent derivative complaint.
The incorporation condition allows the court to look at the entirety of the record for context and ensure nothing has been taken out of context. This was good news for Yahoo (and future defendants) because it constrains plaintiffs from “cherry picking” documents and ignoring important facts that would be supportive of the defendants in the dispute.
While any company may have one or two unfortunate emails or other communications in its books and records, it’s likely that well-run companies will also have numerous documents that demonstrate directors’ good faith effort to execute on their fiduciary duties.
The Cost of Section 220 Requests
Experienced litigators who practice in the field of D&O litigation are very familiar with Section 220 requests. In most cases, these experienced litigators will be able to come to resolution on a Section 220 request for well under a million dollars.
This includes fully negotiating the plaintiff’s request, cutting it back from its original (likely very broad) ask, and producing the documents in short order.
While any amount of money spent on what feels like a fishing expedition is frustrating, Section 220 matters are generally far less expensive than regular litigation.
However, we have seen some circumstances involving both public and private companies where the negotiations failed and companies ended up in Section 220 litigation.
Section 220 litigation, unfortunately, is as expensive as any other type of D&O-related litigation, which means you can get to tens of millions of dollars quickly. So who pays?
While a Section 220 request is often a precursor for breach of fiduciary duty litigation, the good news is that Section 220 requests are themselves a corporate expense, so there shouldn’t be any individual liability on directors and officers to pay.
D&O insurance for most public and private companies will often afford a limited amount of coverage to respond to Section 220 requests. A well-brokered good D&O insurance policy is likely to have a sublimit, meaning first-dollar coverage, but full limits will not be available.
For example, the sublimit of a $5 million policy might be something like $250,000 for books and records requests. In some cases, a company may be able to stack sublimits from different layers of insurance.
If a Section 220 request turns into litigation, however, it’s usually treated as a securities claim under a D&O policy. This means, subject to the self-insured retention, the full policy limit would be available (minus any sublimit amounts already spent.)
How much coverage do you need for this type of litigation? We haven’t seen these cases be more expensive than a general securities class action suit. However, we have seen a few outliers who have spent closer to the $15 million to $20 million range in this type of litigation.
In all cases, the best plan of action is to have a plan. Getting up to speed on this litigation trend is a great first step.