Former stockholder lacks standing in books-and-records action filed after merger

In Swift v. Houston Wire & Cable Co., C.A. No. 2021-0525-LWW (Del. Ch. Dec. 3, 2021), the Delaware Court of Chancery recently held that a stockholder lacked standing to initiate a Section 220 books-and-records action once the merger became “effective” under the merger agreement and the stockholder’s shares were canceled, even though the merger had not yet “closed” under the terms of the merger agreement when the action was filed.

Case background

The plaintiff (Plaintiff) in Todd Swift v. Houston Wire & Cable Co., C.A. No. 2021-0525-LWW (Del. Ch. Dec. 3, 2021) was a former stockholder of Houston Wire & Cable Company (Houston Wire).

On March 24, 2021, Houston Wire entered into a merger agreement with Omni Cable, LLC (Omni) and OCDFH Acquisition Sub (Acquisition Sub). The merger agreement provided that Acquisition Sub would merge with and into Houston Wire, with Houston Wire surviving as a wholly owned subsidiary of Omni, in an all-cash transaction valued at $91 million. The merger agreement specifically provided that the merger would become “effective” when the certificate of merger was filed with the Delaware Secretary of State. At the effective time, each issued and outstanding share of Houston Wire common stock would be canceled and converted into the right to receive merger consideration of $5.30 in cash. The merger agreement also provided that the “closing” of the merger would occur no earlier than the day following the effective date.

On June 7, 2021, Plaintiff served a books-and-records demand on Houston Wire, demanding certain books and records relating to the merger under Section 220 of the Delaware General Corporation Law (the Demand). Houston Wire responded to the Demand on June 14, 2021 and offered to meet and confer with Plaintiff regarding the Demand.

On June 15, 2021, more than 60 percent of Houston Wire stockholders voted in favor of the merger, and Houston Wire filed a certificate of merger with the Delaware Secretary of State at 12.19 p.m. ET that same day. On June 15, 2021, at 3.55 p.m., Plaintiff filed a complaint to compel inspection of books and records under Section 220. On August 31, 2021, Houston Wire moved to dismiss the complaint for lack of standing.

The Court of Chancery’s decision

In its motion to dismiss, Houston Wire argued that (i) Plaintiff ceased to be a stockholder of Houston Wire at the moment the merger certificate was filed, and (ii) Plaintiff did not have standing to file the lawsuit under Section 220 without being a stockholder. Plaintiff advocated that the “closing” of the merger – which would have been 9 a.m. CT on June 16, 2021 – should be the relevant event for purposes of standing. The Court of Chancery agreed with Houston Wire and granted its motion to dismiss.

The Court noted that stockholders of Delaware corporations enjoy a qualified right to inspect a corporation’s books and records under Section 220. Section 220(a) defines a “stockholder” as “a holder of record of stock in a stock corporation, or a person who is the beneficial owner of shares of such stock held either in a voting trust or by a nominee on behalf of such person.”

Section 220(c) mandates that:

Where the stockholder seeks to inspect the corporation’s books and records, other than its stock ledger or list of stockholders, such stockholder shall first establish that:

(1) Such stockholder is a stockholder;

(2) Such stockholder has complied with this section respecting the form and manner of making demand for inspection of such documents; and

(3) The inspection such stockholder seeks is for a proper purpose.

The Court explained that Section 220 unambiguously requires a plaintiff to be a current stockholder at the time of the books-and-records demand and continue to be a stockholder at the time the litigation is initiated. However, the Court noted that stockholders can maintain standing if they lose their stock through a merger while their Section 220 litigation is pending, but they must be stockholders when that litigation is filed.

The Court found that Plaintiff “ceased to own stock” in Houston Wire when the certificate of merger was filed and, therefore, lacked standing when the complaint was filed later the same day. The Court explained that it did not matter that the Houston Wire “shares” continued to trade on Nasdaq in the hours following the effective time of the merger because the cancellation of the shares meant that the “instruments being traded represented only the right to receive the Merger Consideration.” Although the Court recognized that its decision may be a “harsh result,” the Court highlighted that strict adherence to the requirements of Section 220 is mandated.

Key takeaways

• A stockholder seeking to inspect a Delaware corporation’s books and records under Section 220 must have first made a demand at a time when they were a stockholder and must continue to be a stockholder when they initiate a Section 220 lawsuit.
• Stockholders of Delaware corporations can maintain standing if they lose their stock through a merger while their Section 220 litigation is pending, but they must be stockholders when that litigation is filed.
• The Court’s decision in Swift shows the importance of stockholders acting promptly following a merger announcement when seeking to inspect the corporation’s books and records and paying close attention to any defined effective time under a merger agreement when determining when their shares will be canceled.
• The Court’s decision in Swift also demonstrates that stockholders can lose standing to bring a books-and-records action even before the “closing” of the merger, if the merger agreement specifies an “effective” time that is different from the closing date.