What Corporation Information Do Shareholders Have the Right to Inspect?
Neither the common law nor the inspection statute limits the scope of corporate documents to which a shareholder has information rights, except to require that the request for inspection be made in good faith and for a "proper purpose." In exercising inspection rights, a shareholder is required to state his purpose for the inspection in writing. If the purpose is proper then the scope of the shareholder's information rights extends to every corporate record that is relevant to that purpose.
The Shareholder's "Proper Purpose" Requirement
What Constitutes a Proper Purpose to Excercise Shareholder Information Rights to Inspect Corporate Books and Records?
Generally, a proper purpose is one that is reasonably related to the protection of stockholder’s interest as a shareholder (including protection of the corporation’s interests that affect the shareholder indirectly); conversely an improper purpose is one that seeks to injure the corporation or the shareholders. “[A] proper purpose is one that bears upon the protection of the shareholder’s interest and that of other shareholders in the corporation.”
Technically, the statutory requirement to state a proper purpose does not require the shareholder to state every purpose that he has, that the purpose identified is the only purpose, or that he does not have an improper purpose. However, if the purpose stated is not proper, then the corporation will have an easy time resisting any effort to enforce the shareholder’s inspection rights. Therefore, care should be taken to state purposes in the demand that are recognized as proper. The following are generally recognized to be proper purposes in all circumstances:
- Ascertain Value of Shares
Probably the most common reason for a shareholder’s wanting to inspect corporate records is to determine the financial performance of the company and other information that bears ultimately on the value of the shareholder’s ownership interest. Courts have held that the stated purpose of “ascertaining the value of his shares” is a “clearly proper and legitimate” purpose for inspection.
- Investigate Wrongdoing by Management
Under the common law, both shareholder litigation against the corporation or its directors, and shareholder investigation of improper corporate management are deemed proper purposes. In Chavco Investment Company, Inc. v. Pybus, the court held that the stated purpose “[of] determin[ing] whether the rental on a building, the principal asset of the corporation, was a reasonable rental or whether the rental was so unreasonably low as to result in corporate waste,” and “examining expenditures, determining whether there was excessive compensation being paid to officers and directors, whether corporate funds were used for personal purposes, and whether there was corporate mismanagement . . . . were clearly proper and legitimate reasons for wanting to inspect the books of the corporation.”
In addition, the Delaware Supreme Court expressly held that in the context of a shareholder derivative action, “it is a proper purpose . . . to inspect books and records that would aid the plaintiff in pleading demand futility” even if the inspection suit was filed during the derivative action, so long as the court granted leave to amend. Nonetheless, courts encourage plaintiffs to seek inspection of corporate records first because of “the additional burden that a post-complaint books and records action may place on a defendant-corporation . . . .”
- Communication with Other Shareholders
Inspection of shareholder lists for the purpose of obtaining the names and addresses of other stockholders to inform them of grievances or concerns is per se a proper purpose. Because the right to communicate with other shareholders regarding matters of common interest is central to corporate democracy, the law looks more favorably upon shareholder requests for the stock register than for other company records. As one Texas court has noted:
We can see no good reason why a stockholder in a corporation who is dissatisfied with the internal management of the corporate affairs should not have the right to call to the attention of his fellow stockholders conditions in the corporate management with which he is dissatisfied and in good faith regards as prejudicial to the best interest of the corporation and its stockholders. In our opinion, stockholders have such right.
Another court described the shareholder’s list as a corporate record possessing “a sacred character . . . which shareholders may inspect as a matter of right.”
Inspection of corporation information showing the identity and contact information of shareholders will be bridled only upon a showing by the corporation that the shareholder’s purpose is improper. However, the Delaware Supreme Court has held that the stated purpose of communicating with other shareholders was not sufficient if the nature of intended communication not disclosed. Other courts have recognized similar limits on the right to shareholder lists. In Retail Property Investors, Inc. v. Skeens,the request for the shareholders list was not allowed for purpose of contacting other shareholders regarding possible lawsuit against corporation. In Shabshelowitz v. Fall River Gas Co., the Massachusetts Supreme Court held that a shareholder’s request to inspect and copy the stock ledger for the purpose of contacting other shareholders and soliciting the purchase of their shares was not proper.
The Issue of "True Purpose"
The problem arises when the corporation believes that the purpose stated is not the true purpose or that there is another purpose that is improper. “And it is very easy for controlling shareholders to view any request to inspect with suspicion that easily could lead to the rejection of a request on the ground that a claimed ‘proper purpose’ was in fact ‘improper.’” The issue of what is the true purpose and whether that purpose is improper must be resolved through the courts once the corporation refuses to allow inspection. That issue will be dealt with in a separate article on the enforcement of inspection rights.
Corporation Information Subject to Shareholder Inspection
Some categories of corporation information are less problematic than others. Shareholders always have information rights to the following:
- Shareholder Lists
A qualified shareholder enjoys a near-absolute right to inspect a corporation’s “stock ledger” or “list of stockholders.”
- Organizational documents, minutes and share transfer records
The basic governance documents are always available to shareholders, including the certificate of formation and amendments (which can also be obtained from the Texas Secretary of State), bylaws, resolutions, minutes of meetings, and share transfer records.
- Financial Statements
The inspection statute specifically states that "books and records of account" must be made available to shareholders. These include basic financial statements. In fact, annual financial statements must be provided to a shareholder upon written request--no purpose need be stated, and the corporation must mail the financial records no the shareholder, not require him to inspect them at the corporate office.
- Subsidiaries’ Records
A shareholder of a corporation has the right to inspect the books and records of all subsidiaries of that corporation.
The phrase “books and records of account” is not defined, but there is no support in the case law or commentary for limiting the right of inspection to financial records alone. “Books and records of account” should include all documentary or electronic information in the possession of the corporation. “The property of a corporation, in the last analysis is that of the stockholder, and when one seeks an inspection of its books, records or property, he is in reality but seeking an inspection of his own and that this should be accorded fully, freely and at all times when such inspection will not unreasonably inconvenience others who have a like interest in and rights to the property and that the attempt unreasonably to hamper such inspection by officers, managers or others is an unjust exercise of power and one which courts should not sanction.”
Courts in other jurisdictions have consistently favored a broad application of the scope of inspection rights. In Otis-Hidden Co. v. Sheirich, a minority shareholder was permitted to inspect correspondence involving internal affairs of the corporation that passed between its nonresident president, who was the majority shareholder, and its active manager. The court held that the common law right of inspection included all documents, contracts, and papers relating to the business affairs of the corporation. Similarly, in Cain v. Merck & Co., Inc., the court held that the term “minutes” in the New Jersey inspection statute referred to minutes of the proceedings of shareholders, the board, and the executive committee, and not simply the shareholder-meeting minutes as the defendant-corporation contended. However, in Master Mortgage Corporation v. Craven, the court considered the scope of a shareholder’s right of inspection under both common law and the Georgia statute, holding that the catch-all clause, “all other corporate books, records, and files pertaining in any way to business or the financial status of the corporation at any time since the inception of the corporation” was too broad and not encompassed within either the common law or statutory rights of inspection, in the absence of a showing or relevancy by the shareholder.
Limitations on Shareholder Rights to Corporation Information
- Proprietary, Confidential, Trade Secret Documents
Most private corporations view all of their internal documents, particularly financial records, as proprietary and are reluctant to share them with shareholders not actively involved in the business. While these concerns can be (and frequently are) overblown, corporations do have some very legitimate concerns about disclosure of information provided to shareholders. There are also frequent concerns about the public release of sensitive, nonpublic information or the breaching of duties of confidentiality to clients of the corporation. While these concerns are real and legitimate, it can generally be said that a shareholder who acts in good faith and for a proper purpose may inspect even those documents that the corporation wishes to keep secret.
There is no blanket trade secret or confidentiality privilege as to shareholder inspection. Nonetheless, courts have acknowledged “that the need to protect certain confidential information from dissemination to others may exist even when a statutory right to inspection by the shareholder is invoked.” The Fort Worth Court of Appeals struck the proper balance between a shareholder’s right of inspection and the corporation’s interest in protecting proprietary information in Professional Microfilming, Inc. v. Houston. There, the court upheld a discovery order requiring production of customer and supplier lists and pricing and discount information to a plaintiff who was employed by the corporation’s chief competitor on the grounds that the plaintiff was a shareholder and would be entitled to inspect those documents under the inspection statute for the proper purpose of determining the validity of his derivative claims against the directors for mismanagement, excessive compensation, and misappropriation. However, the court imposed a protective order that prohibited dissemination of any information in the documents to third parties, and required pre-inspection review of the documents by the trial court.
Courts in other jurisdictions have generally held that shareholders acting in good faith and for a proper purpose are entitled even to confidential information. In State ex rel. G.M. Gustafson Co. v. Crookston Trust Co., the Minnesota Supreme Court held that the shareholders of a bank had the common law right of inspection of the banks records, notwithstanding the bank’s objection that the shareholder would have access to information regarding depositors’ business that the bank had an obligation to keep confidential. Furthermore, the mere fact that a shareholder is a competitor, without more, does not defeat the shareholder’s right of inspection.
Obviously, corporations have no obligation to allow inspection of sensitive or confidential records if the inspection is not germane to the shareholder’s legitimate interests and proper purpose. In News-Journal v. State ex rel. Gore, the Florida Supreme Court held that a shareholder “is entitled to any information affecting the financial status of the corporation but he is not entitled to be placed in possession of its trade secrets and confidential communications unless they affect the financial status or the value of his stock in some way.” It is important to remember that shareholders may lawfully compete with their corporation; therefore, conceivably, highly sensitive competitive information might be made available to a competitor through the ruse of a shareholder inspection. Courts enforcing inspection rights courts are sensitive to the possibility that a shareholder may have an improper purpose in seeking confidential records. The danger, however, must be real. Courts have universally rejected the argument that the common law right of inspection must be limited merely because the shareholder might make improper use of the information. “Many legal rights may be the subjects of abuse, but cannot be denied for that reason. . . . The possibility of the abuse of a legal right affords no ground for its denial.”
- Preliminary or Interim Records of Account
Although not yet addressed by Texas courts, some courts in other jurisdictions have restricted the right of inspection by holding that corporations are not required to permit inspection of draft or tentative documents such as preliminary interim financial statements.
- Attorney–Client Privilege
An attorney representing a corporate client does not owe any duty directly to the shareholders. Therefore, shareholders are outside the privilege between the corporation and its attorneys, and the right of inspection does not extend to documents subject to the attorney–client privilege. In Burton v. Cravey, the Houston First Court of Appeals suggested in dicta that the attorney–client privilege must be balanced against the right of inspection. The Texas Supreme Court specifically disapproved of this dicta in Huie v. DeShazo, in the course of holding that a trustee has an attorney–client privilege even against the beneficiary of the trust:
[T]o the extent that the court held that the owners’ statutory right of inspection somehow trumped the privilege for confidential attorney-client communications, we disapprove of its holding, for the reasons previously discussed. We also disapprove of the court’s dicta that the trial court could, in its discretion, decline to apply the attorney-client privilege even if all the elements of Rule 503 were met.
However, the Texas Supreme Court also held that corporate records do not become shielded from inspection by the attorney–client privilege merely because they are in the possession of the corporation’s attorney.
- Work product
Although not addressed yet by Texas courts, the rule excluding attorney–client privileged documents from shareholder inspection should also apply to the work product of the corporation’s attorney and consulting experts.
- Fifth Amendment
Corporations are not entitled to refuse shareholder inspection on Fifth Amendment grounds.
- Documents Not Otherwise Discoverable in Litigation
Lawyers representing corporations sometimes object to a requested inspection on bases drawn from the rules of civil procedure, such as that the description of the documents in vague or ambiguous, or that the request is overly broad and unduly burdensome, or is irrelevant to the subject matter of the ongoing dispute with the shareholder. These types of objections are completely inappropriate in the context of a shareholder’s exercise of inspection rights. The substantive rights to inspect corporate documents and the procedures for demanding an inspection are completely independent from the discovery rules in civil litigation. In Burton v. Cravey, the court held that objections under the rules of discovery do not apply to a request for inspection, so that a corporation may not complain that a demand is “overly broad, unduly burdensome, and requires the production of irrelevant information.” Likewise, restrictions and procedural requirements on a shareholder’s right of inspection do not apply to or affect a shareholder’s discovery requests in ongoing litigation, and a shareholder who is in litigation with the corporation is free to use either or both methods of discovery. A shareholder engaged in litigation with the corporation may very well be entitled to inspect corporate records that would otherwise not be discoverable in
the lawsuit. Conversely, a shareholder may be able to obtain some records in discovery that he would not otherwise be entitled to inspect, that the fact that a document might be “discoverable” in litigation does not establish a shareholder’s right to inspect it. Nevertheless, some courts have restricted a shareholder’s right of inspection when the shareholder was actively engaged in litigation against the corporation and the court viewed the inspection demand as nothing more than “back-door discovery.”