Casey Judge
BLAW 308
May 10, 2022
Ch. 44 Case Briefs
1. United Techs, Corp. v. Treppel
Issue: Does Treppel, a shareholder of United Techs, Corp. have the right to le a litigation to
inspect company documents and accounting records and to what extent?
Rule: The MBCA & Del. § 220(c) allows “shareholders an absolute right of inspection of the
number of shares owned, shareholders entitled to notice of meetings, shareholder lists, and
among other things such as the articles of incorporation, bylaws and accounting records
including nancial statements and corporate information older than 3 years so long as the
demand is in good faith and having a proper purpose”.
Application: United Technologies Corp. is a Delaware corporation. Lawrence Treppel, a United
Technologies shareholder, sent the company a litiga-tion demand letter, seeking to “investigate,
address, remedy, and commence proceedings against certain o cers and directors.” Treppel’s
claims arose out of a June 2012 investigation by the U.S. Department of Justice into violations
of federal law by United Technologies in exporting software to the Chinese government for use
in a military helicopter. However, the board rejected Treppel’s demand, stating that it had
determined that litigation was “not in the best interests of the Company”. The letter contained
only two paragraphs and did not provide any additional explanation for the board’s decision.
Treppel then sought to use his inspection rights under § 220 to “evaluate” the board’s decision
to reject his litigation demand. After several unsuccessful rounds of negotiation between the
parties, Treppel led a § 220 action in the Court of Chancery, seeking access to United
Technologies’s books and records without any usage restrictions. United Technologies
responded to Treppel’s claims in the Court of Chancery with two separate, but related,
arguments:
The rst is Treppel’s intention to use information from his inspection to le outside of
Delaware negated his proper purpose under § 200(b). 2. Alternatively, if Treppel’s purpose was
proper, the Court of Chancery should limit the use of information gained from a books and
records inspection to legal action in a Delaware court, using its authority under § 200(c) to
prescribe limitations or conditions in connection with granting the inspection. In its post-trial
bench opinion, the Court of Chancery ruled that United Technologies was not entitled to the
restriction it sought. The Court of Chancery determined that the limit “is not the type of
restriction that 220(c) seeks to impose”. The Court of Chancery also held that Treppel’s
purpose for inspecting United Technologies’s books and records (inquiring into the board’s
decision to deny his litigation demand) was proper. On appeal, United Technologies argues that
the Court of Chancery erred in limiting its own authority to impose the requested restric-tion,
and that the company is entitled to the restriction in this case.
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The MBCA allows “shareholders an absolute right of inspection of the number of shares
owned, shareholders entitled to notice of meetings, shareholder lists, and among other things
such as the articles of incorporation, bylaws and accounting records older than 3 years so long
as the demand is in good faith and having a proper purpose”. Proper purposes include
inspecting the books of account to determine the value of shares or the propriety of dividends.
On the other hand, learning business secrets and aiding a competitor are clearly improper
purposes. Shareholders also have the right to receive from the corporation information that is
important to their vot-ing and investing decisions. The MBCA requires a corporation to furnish
its shareholders nancial statements, including a balance sheet, an income statement, and a
statement of changes in shareholders’ equity. The Securities Exchange Act of 1934 also
requires publicly held companies to furnish such statements, as well as other information that
is important to shareholders’ voting and investing decisions. The Sarbanes–Oxley Act requires
the CEO and the CFO of public companies to certify that to their knowledge all nancial
information led with the SEC fairly presents the nancial condition of the company and does
not include untrue or misleading material statements.
The ability to limit the use of information gathered from an inspection—not just the
scope of the inspection itself—has long been recognized as within the Court of Chancery’s
discretion. “Delaware courts have repeatedly placed reasonable restrictions on shareholders’
inspection rights in the context of suit brought under 8 Del. C. § 220”. In some cases,
inspections have been denied entirely if the plainti ’s “proper purpose” for seeking books and
records could not be e ectuated. For example, a plainti would lack standing to sue if the
inspection warranted further legal action. Aware of the costs of inspections, which are
ultimately borne by stockholders, Delaware courts have been reluctant to grant § 220 relief
when there is other pending litigation against the corporation and discovery is thus the more
appropriate mechanism for obtaining relevant documents. In restricting a stockholder’s ability
to use corporate books and records in certain ways, Delaware case law has consistently
re ected the underlying principle that the stockholder's inspection right is a “quali ed” one.
Accordingly, the Court of Chancery has a wide discretion to shape the breadth and use
of inspections under § 220 to protect the legitimate interests of Delaware corporations. Nothing
in the text of § 220 itself or in any Delaware case law that interprets the section limits the Court
of Chancery’s authority to restrict the use of material from an inspection when those interests
are threatened, and thus, in this case, the Court erred when it concluded that it lacked the
statutory authority to impose its own preclusive limitation. However, it should be noted that
caution is still needed because use restrictions under § 220(c) have traditionally been tied to
case-speci c factors. For example, if a petitioner les for books and records and has a good
faith purpose to investigate possible wrongdoing, and there has been no prior litigation, then
the Court of Chancery might conclude that there is no reason to impose a use restriction of the
kind United Technologies seeks here. In that situation, the Court of Chancery can consider in
its discretion whether a forum use restriction is warranted, because the possible complications
the restriction injects into the § 220 litigation may not be justi ed by any substantial interests of
the respondent corporation. Further, the absence of pre-existing litigation would be relevant
because the company and its stockholders would not have su ered the costs of defending
duplicative litigation.
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Conclusion: The Supreme Court of Delaware concluded that the Court of Chancery erred
when it mentioned that it lacked the statutory authority to impose its own preclusive limitations
on the use of material gained from an inspection when corporate interests could be threatened.
Under § 220, the Court of Chancery has wide discretion to shape the breadth and use of
inspections to protect the legitimate interests of Delaware companies. As such, The Supreme
Court reversed judgment in favor of United Techs. Corp. and remanded in part.
2. Dodge v. Ford Motor Co.
Issue: Was the Dodge brothers, who were common shareholders in Ford Motor Co. entitled to
receive dividends from the business or not?
Rule: Under the MBCA, “Directors of a corporation, and they alone, have the power to declare
a dividend of the earnings of the corporation, and to determine its amount unless it is clearly
made to appear that they are guilty of fraud or misappropriation of corporate funds, or they
refuse to declare a dividend when the corporation has a surplus of net pro ts which it can,
without detriment to the business, divide among its stockholders under good faith that they are
bound to exercise towards the shareholders”.
Application: In 1916, brothers John and Horace Dodge owned 10 percent of the common
shares of the Ford Motor Company. Henry Ford owned 58 percent of the outstanding common
shares and controlled the corporation and its board of directors. Starting in 1911, the
corporation paid a regular annual dividend of $1.2 million, which was 60 percent of its capital
stock of $2 million but only about 1 percent of its total equity of $114 million. In addition, from
1911 to 1915, the corporation paid special dividends totaling $41 million. The policy of the
corporation was to reduce the selling price of its cars each year. In June 1915, the board and
o cers agreed to increase production by constructing new plants for $10 million, acquiring
land for $3 million, and erecting an $11 million smelter. To nance the planned expansion, the
board decided not to reduce the selling price of cars beginning in August 1915 and to
accumulate a large surplus. A year later, the board reduced the selling price of cars by $80 per
car.
The corporation was able to produce 600,000 cars annually, all of which, and more,
could have been sold for $440 instead of the new $360 price, a forgone revenue of $48 million.
At the same time, the corporation announced a new dividend policy of paying no special
dividend. Instead, it would reinvest all earnings except the regular dividend of $1.2 million.
Henry Ford announced his justi cation for the new dividend policy in a press release: “My
ambition is to employ still more men, to spread the bene ts of this industrial system to the
greatest possible number, to help them build up their lives and their homes”. The corporation
had a $112 million surplus, expected pro ts of $60 million, total liabilities of $18 million, $52.5
million in cash on hand, and municipal bonds worth $1.3 million.The Dodge brothers sued the
corporation and the directors to force them to declare a special dividend. The trial court
ordered the board to declare a dividend of $19.3 million. Ford Motor Company appealed. The
MBCA imposes two limits: (1) the solvency test and (2) the balance sheet test”.
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Under the Solvency test, “A dividend may not make a corporation insolvent; that is,
unable to pay its debts as they come due in the usual course of business”. This means that a
corporation may pay a dividend to the extent it has excess solvency, in regards to liquidity that
it does not need to pay its currently maturing obligations. This requirement protects creditors,
who are concerned primarily with the corporation’s ability to pay debts as they mature. Under
the Balance sheet test, “The corporation’s assets must be su cient to cover its liabilities and
the liquidation preference of shareholders having a priority in liquidation over the shareholders
receiving a dividend”. This means that a corporation may pay a dividend to the extent it has
excess assets, meaning assets that are not needed to cover its liabilities and the liquidation
preferences of shareholders having a priority in liquidation over the shareholders receiving the
dividends. This requirement protects not only creditors but also preferred shareholders. It
prevents a corporation from paying to common shareholders a dividend that will impair the
liquidation rights of preferred shareholders.
It is a well-recognized principle of law that the directors of a corporation, and they
alone, have the power to declare a dividend of the earnings of the corporation, and to
determine its amount. Courts will not interfere in the management of the directors unless it is
clearly made to appear that they are guilty of fraud or misappropriation of the corporate funds,
or they refuse to declare a dividend when the corporation has a surplus of net pro ts which it
can, without detriment to the business, divide among its stockholders, and when a refusal to
do so would amount to such an abuse of discretion as would constitute a fraud, or breach of
that good faith that they are bound to exercise towards the shareholders. The testimony of Mr.
Ford convinced the court that he had to some extent the attitude towards shareholders of one
who has dispensed and distributed to them large gains and that they should be content to take
what he chose to give them. His testimony creates the impression that he thinks the Ford
Motor Company has made too much money, has had too large pro ts, and that, although large
pro ts might be still earned, a sharing of them with the public, by reducing the price of the
output of the company, ought to be undertaken. There is no doubt that certain sentiments,
philanthropic and altruistic in nature, creditable to Mr. Ford, had a large in uence in determining
the policy to be pursued by the Ford Motor Company.
There should be no confusion of the duties that Mr. Ford believed that he and the
shareholders owed to the general public and the duties that in law he and his co-directors owe
to protesting, minority shareholders. A business corporation is organized and carried on
primarily for the pro t of the shareholders. The powers of the directors are to be employed for
that end. The Court, however, is not persuaded that they should interfere with the proposed
expansion of the Ford Motor Company. In view of the fact that the selling price of products
may be increased at any time, the ultimate results of the larger business cannot be certainly
estimated. The judges are not business experts and It is recognized that plans must often be
made for a long future, for expected competition, for a continuing as well as an immediately
pro table venture. The Court is not satis ed that the alleged motives of the directors, in so far
as they are re ected in the conduct of the business, menace the interests of shareholders.
Assuming the general plan and policy of expansion were for the best ultimate interest of the
company and therefore of its shareholders, what does it amount to in justi cation of a refusal to
declare and pay a special dividend? The Ford Motor Company was able to estimate with
certainty what its income and pro t would be down the line. It could sell more cars than it
could make. The pro t upon each car depended upon the selling price. That being xed, the
yearly income and pro t was determinable, and, within slight variations, was accurate and
certain to happen.
There was appropriated for the smelter $11 million, assuming that the plans required an
expenditure sooner or later of $10 million for duplication of the plant, and for land $3million,
which would come to a total of $24 million. The company was a cash business. If the total cost
of proposed expenditures had been withdrawn in cash from the cash surplus on hand August
1, 1916, there would have remained $30 million in cash reserves. The directors of Ford Motor
Company say, and it is true, that a considerable cash balance must be at all times carried by
such a concern. But there was a large daily, weekly, monthly receipt of cash. The output was
practically continuous and was continuously turned into cash every few days. Moreover, the
contemplated expenditures were not to be immediately made and the large sum that was
appropriated for the smelter plant was payable over a considerable period of time.
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Conclusion: The directors of Ford Motor Company mentioned that the company must carry a
considerable cash balance at all times due to reasons of concern mentioned above, but there
was a large daily, weekly and monthly receipt of cash and the output was practically
continuous because within a few days it would be converted to cash. Moreover, the
contemplated expenditures were not to be made immediately and the debt payments made for
3. Zapata Corp. v. Maldonado
Issue: Was the board of directors of Zapato Corp. within its right to dismiss the derivative suit
brought forth by Maldonado, a Zapato shareholder?
Rule: Under the MBCA, “When a majority of directors are not independent, whether or not an
SLC is used, the corporation has the burden of proving that the Zapata test and [business
judgment rule] have been met through acting in good faith and reasonable investigation by the
directors making the decision to dismiss the action and a determination by those directors that
the best interests of the corporation are served by dismissal”.
Application: The Supreme Court of Delaware found that the trial court’s determination that a
shareholder, once demand is made and refused, possesses an independent, individual right to
continue a derivative suit for breaches of duciary duty over objection by the corporation, as an
absolute rule, is erroneous. Derivative suits enforce corporate rights, and any recovery
obtained goes to the corporation. The Court sees no inherent reason why a derivative suit
should automatically place in the hands of the litigating shareholders sole control of the
corporate right throughout the litigation. Such an in exible rule would recognize the interest of
one person or group to the exclusion of all others within the corporate entity. In an attempt to
ensure the application of the business judgment rule in demand refusal and demand futility
situations, interested directors have tried to isolate themselves from the decision whether to
sue by creating a special committee of the board, called a shareholder or special litigation
committee whose purpose is to decide whether to sue or not.
A well-formed SLC should consist of directors who are not defendants in the derivative
suit, are not interested in the challenged action, are independent of the defendant directors,
and, if possible, were not directors at the time the alleged wrong occurred. As a result, the
business judgment rule, therefore, is available to insulate from court review a board’s decision
not to bring a suit because it is within ordinary business practice. However, it would not protect
directors from a derivative suit alleging that all or a majority of the directors have a con ict of
interest in the challenged transaction, such as in a suit alleging that the directors breached a
duciary duty by issuing shares to themselves at below-market prices or committed a crime. In
such a situation, the shareholder may sue the directors despite the board’s refusal.
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When, if at all, should an authorized board committee be permitted to cause litigation,
properly initiated by a derivative stockholder in his own right, to be dismissed? The problem is
relatively simple. If, on the one hand, corporations can consistently wrest bona de derivative
actions away from well-meaning derivative plainti s through the use of the committee
mechanism, the derivative suit will lose much, if not all, of its e ectiveness as an intracorporate means of policing the board of directors. However, if corporations are unable to rid
themselves of meritless or harmful litigation and strike suits, the derivative action, created to
bene t the corporation, will produce the opposite, unintended result. It thus appears desirable
to us to nd a balancing point where bona de shareholder power to bring corporate causes of
action cannot be unfairly trampled on by the board of directors, but the corporation can rid
itself of detrimental litigation. The Court is not satis ed that acceptance of the business
judgment rationale at this stage of derivative litigation is a proper balancing point and must be
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the smelter plant were to be paid over a considerable period of time. So, it would appear that,
accepting and approving the plan of the directors, it was their duty to distribute on and near
the 1st of August 1916, a very large sum of money to stockholders. The Court’s judgment
a rmed in favor of the Dodge brothers.
The question that naturally arises is whether empathy might or might not have played a
role in this situation. And the further question arises whether inquiry as to independence, good
faith and reasonable investigation is a su cient safeguard against abuse, perhaps
subconscious abuse. As a result, the Court must decide between those cases that yield to the
independent business judgment of a board committee and this case as determined below,
which would yield to unbridled shareholder control. The nal substantive judgment whether a
particular lawsuit should be maintained requires a balance of many factors: ethical,
commercial, promotional, public relations, employee relations, scal, as well as legal. It’s
recognized that there could be dangers of judicial overreaching but the alternatives in this case
seem to be outweighed by the fresh view of a judicial outsider. After an objective and thorough
investigation was made of a derivative suit, an independent committee may cause its
corporation to le a motion to dismiss the derivative suit. The Court should apply a two-step
test if the corporation and or committee wishes to follow through with the motion to dismiss.
First, the Court should inquire into the independence and good faith of the committee and the
bases supporting its conclusions.
The corporation should have the burden of proving independence, good faith, and
reasonable investigation, rather than presuming independence, good faith, and
reasonableness. If the Court determines either that the committee is not independent or has
not shown reasonable bases for its conclusions, or if the Court is not satis ed for other reasons
relating to the process, including but not limited to the good faith of the committee, the Court
shall deny the corporation’s motion to dismiss the derivative suit. The second step provides the
essential key in striking the balance between legitimate corporate claims as expressed in a
derivative stockholder suit and a corporation’s best interests as expressed by an independent
investigating committee. The Court should determine, applying its own independent business
judgment, whether the motion should be granted.
The second step is intended to thwart instances where corporate actions meet the
criteria of step one, but the result does not appear to satisfy its spirit, or where corporate
actions would simply prematurely terminate a stockholder grievance deserving of further
consideration in the corporation’s interest. The Court therefore must carefully consider and
weigh all of its options when determining how compelling the corporate interest in dismissal is
when faced with a non-frivolous lawsuit. The Court should, when appropriate, give special
consideration to matters of law and public policy in addition to the corporation’s best interests.
The second step as expressed above shares some of the same spirit and philosophy that was
mentioned during the Trial Court “Under our system of law, courts and not litigants should
decide the merits of litigation”.
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Conclusion: The Delaware Supreme Court found that the board of directors acted in the best
interest of the corporation by dismissing the stockholder’s derivative suit since a reasonable
investigation was conducted and the directors did act in good faith and did not breach their
duciary duty to the corporation. As such, the Supreme Court’s judgment was reversed in favor
of Zapata and was remanded to the trial court.
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mindful that directors are passing judgment on fellow directors in the same corporation and
fellow directors, in this instance, who designated them to serve both as directors and
committee members.