Louisiana Municipal Police Employees Retirement System v. Morgan Stanley & Co., Inc., C.A. No. 5682-VCL (Del. Ch. Mar. 4, 2011) (Laster, V.C.)

In this memorandum opinion, Vice Chancellor Laster denied in part and granted in part a defendant’s motion to dismiss a books and records action commenced by a plaintiff stockholder under Section 220 of the General Corporation Law of the State of Delaware. The plaintiff stockholder sought to investigate whether the defendant’s board of directors wrongfully refused to initiate litigation against certain officers and directors arising out of the defendant’s involvement with auction rate securities. The Court refused to dismiss the complaint on the ground that the plaintiff stockholder did not have a proper purpose, but granted the motion in part to the extent that the plaintiff stockholder sought materials not reasonably necessary to investigate  whether the demand was wrongfully refused.  On August 24, 2009, Louisiana Municipal Police Employees Retirement System (“LAMPERS”) demanded that the Board of Directors (the “Board”) of Morgan Stanley & Co., Inc. (“Morgan Stanley”) take action to remedy misconduct allegedly committed by certain Morgan Stanley officers and directors with respect to Morgan Stanley’s participation in the auction rate securities market (the “Litigation Demand”). In a response sent eight months later (the “Demand Refusal Letter”), the Board refused to take any action in response to the Litigation Demand. The letter described in detail the process by which the Board came to its decision not to act, but failed to explain the reasoning behind it. LAMPERS responded to the Demand Refusal Letter by requesting that Morgan Stanley make certain books and records available for inspection and, after Morgan Stanley refused, LAMPERS filed a Section 220 complaint in the Delaware Court of Chancery. Morgan Stanley subsequently moved to dismiss the complaint on the grounds that LAMPERS failed to state a proper purpose and sought books and records outside the scope of its stated purpose. 

In deciding the motion, the Court first held that “[e]xploring whether a litigation demand was wrongfully refused is a proper purpose for using Section 220.” Citing Delaware precedent, it rejected Morgan Stanley’s argument that a stockholder who makes a demand concedes the independence or disinterestedness of the board for purposes of demand refusal. Moreover, upon observing that “[t]he question of whether a corporation should sue its directors and senior officers puts directors in a difficult position . . . ,” the Court reasoned that “[b]asic notions of accountability require that stockholders be able to use Section 220 to evaluate whether the demand-refusal decision was made in good faith, after a reasonable investigation, ‘or whether the Board had some different, ulterior motivation.’” As such, the Court concluded that a board cannot defeat a stockholder’s right to use Section 220 to investigate demand refusal by merely sending “a self-serving letter describing process sans content.” To rule otherwise would, in the Court’s estimation, render the right nugatory.

Having found LAMPERS’s purpose to be proper, the Court next considered the proper scope of inspection.  It recognized that “[a] stockholder’s inspection is limited to those books and records that are necessary to accomplish the stated purpose.” The Court held that LAMPERS stated a claim showing such necessary books and records to include “(i) the minutes of any meeting of the Board or the Audit Committee where the Litigation Demand was discussed or evaluated, (ii) [counsel’s] written report and presentation to the Audit Committee in connection with the firm’s recommendation to refuse the Litigation Demand, (iii) the Audit Committee’s report and presentation to the Board, and (iv) any documents and other records upon which the Board relied.” In addition, the Court held that LAMPERS stated a claim to obtain a report previously prepared by another law firm following an investigation conducted in 2007 and 2008 into Morgan Stanley’s involvement with auction rate securities, those portions of the record from that prior investigation considered by counsel for the Litigation Demand, and both firms’ engagement letters. 

To the extent LAMPERS sought other books and records, the Court found that LAMPERS failed to state a claim and granted the motion to dismiss. To obtain additional books and records, the stockholder must illustrate their necessity “by articulating in more specific and convincing fashion why the incremental information is reasonably required to evaluate the Board’s demand-refusal decision.” The Court noted, however, that LAMPERS remained “free to attempt such a showing by way of a future Section 220 demand, and in doing so LAMPERS may make arguments based on the materials it obtains through this action.”  For the foregoing reasons, the Court granted Morgan Stanley’s motion to dismiss in part and denied it in part.

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