Directors and officers of privately held companies sometimes complain about the cost of generating and third party review of company financial statements. The Delaware Chancery Court recently announced that privately held corporations have no actual affirmative duty to stockholders to provide them with company financial reporting materials in the absence of a request for stockholder action.1 Before directors and officers celebrate, the Chancery Court also arguably provided Delaware stockholders a roadmap for obtaining financial reporting information it suspects is being deliberately withheld by management.
In this case, a former SEC reporting company delisted in 2004 had not disclosed financial information to stockholders since 2010. In 2013, a minority stockholder filed a statutory books and records request2 seeking historical and current financial statements and breach of fiduciary duties claims against company directors. The Chancery Court severed the two actions and deferred ruling on the latter pending resolution of the former.3 The company stalled in providing the requested information, requiring the Court to rule in 2014 that disclosures in response to a books and records request could not be conditioned on either a stockholder’s agreement not to trade company stock after disclosure4 or a stockholder’s agreement to indemnify the company against losses for violations of federal and state securities law claims that may arise from the disclosure.5 The company ultimately disclosed the requested information under a mutually agreed confidentiality agreement.
With the books and records matter resolved, the Chancery Court turned to the breach of fiduciary duties claims. It observed that Delaware corporate law does not require a company to provide stockholders with financial reporting information in the absence of a request for stockholder action and that failing to do so alone cannot sustain a breach of fiduciary duty claim. Nonetheless, it ruled that those claims would survive as direct claims based on new allegations that the company directors –who were family members and controlling stockholders– decided to forego the preparation of company financial statements in part to specifically frustrate the stockholder’s books and records request and to otherwise keep the stockholder in the dark about the company’s finances.6
Now, it would appear that closely held Delaware companies –especially family-owned and operated businesses— that historically have not provided financial statement information to stockholders on a regular basis are on notice of the practical need to do so. A patient and creative minority stockholder need only assert a books and records request in tandem with a breach of fiduciary duties action premised in part on a failure to provide the information sought in the books and records request. While the expense of generating financial statements is not insubstantial, the costs attending the protracted litigation history in this case were surely greater in comparison. The takeaway is when stockholders say, “Show me the money” and demand private company financial statements, Delaware directors now have additional motivation to do so. Because Delaware corporate law permits a company to require such disclosures be made to stockholders on a confidential basis, private companies should feel comfortable honoring such requests. As this case shows, denials of such requests may be more trouble than they are worth.