Opinion
Civil Action No. 12914.
Date Submitted: April 27, 1993.
Date Decided: April 29, 1993
Thomas P. Preston, Esquire and John L. Olsen, Esquire of DUANE, MORRIS HECKSCHER, Wilmington, Delaware; Attorneys for Plaintiff.
Stephen E. Jenkins, Esquire, of ASHBY GEDDES, Wilmington, Delaware; OF COUNSEL: Merrick Scott Rayle, Esquire, of CRANE, RAYLE LENNEMANN, Santa Monica, California; Attorneys for Defendant.
MEMORANDUM OPINION
This is an action brought by Daniel C. Holdgreiwe, a director of Nostalgia Network, Inc., a Delaware corporation, ("Nostalgia"), to require Nostalgia to allow him to inspect its corporate books and records, pursuant to 8 Del. C. § 220(d). Plaintiff demanded access to the corporate books and records by sending a letter to Michael Marcovsky, Nostalgia's Chairman and Chief Executive Officer, on March 18, 1993. This demand was rejected by Nostalgia's counsel in a letter dated March 23, 1993. Plaintiff filed suit on March 26, 1993, and after expedited discovery, a trial was held on April 27, 1993. This is the court's decision after trial.
I.
This litigation is part of a broader dispute between the two companies that share control of Nostalgia, Gold 'N M Television ("GNM"), which owns 22% of Nostalgia's stock and Concept Communications, Inc., ("Concept"), which own 26%. GNM, which is wholly owned by Mr. Marcovsky, and Concept are parties to a Shareholders Agreement and a Vote Pooling Agreement through which GNM elects 5 of Nostalgia's 10 directors and Concept elects the other five. See Concept Communications, Inc. v. Gold 'N M Television, Inc., Del. Ch., C.A. 12816, Allen, C. (Apr. 28, 1993). Plaintiff is a nominee of Concept to the Nostalgia board.
GNM and Concept are now involved in a struggle for control of Nostalgia. A buy/sell agreement, which is an element of the Shareholders Agreement, has been triggered by GNM. GNM has triggered its right under the terms of the agreement to set a price for its stock ($3.00 per share) at which Concept must either sell all of its Nostalgia stock to GNM or buy all of GNM's shares.
Control of the Nostalgia's ten person board of directors has been equally divided between GNM and Concept since 1991 when GNM sold one half of its then 52% stake in Nostalgia to Concept. Marcovsky, however, remained in control of Nostalgia's management as CEO and Chairman. Under Marcovsky's management, Nostalgia has entered into contracts with affiliates of GNM and Concept, including Concept's affiliate, Atlantic Video, Inc. ("AVI"). Relations between Concept and GNM appear to have been amicable until, Concept's parent, Crown Communications, Inc., removed Mr. Jonathan Park as CEO of Concept and replaced him with Mr. Dong Moon Joo, in early October 1992. Mr. Joo also replaced Mr. Park as President of AVI and as a director of Nostalgia. Mr. Joo designated plaintiff Holdgreiwe for the Nostalgia board at this time.
One source of friction between the Concept nominees and GNM was the discovery in the Summer of 1992, of facts suggesting that Mr. Michael E. Kassan, a former Nostalgia director, of counsel to Nostalgia's law firm, and a friend of Marcovsky, had embezzled $1 million from Nostalgia. While Concept's nominees initially sought an investigation by the entire board of Mr. Kassan's alleged wrongdoing, Marcovsky successfully argued for the appointment of a special committee of the board consisting of two outside directors. To date the special committee has yet to issue a report of its findings with respect to the Kassan matter, although it has shared a report prepared by Nostalgia's regular counsel with the Nostalgia board.
While Concept and GNM each nominate five board members one nominee of each must be approved by the other and is required to have no financial interest in either GNM or Concept. The special committee members are William A. Jones, Esquire, Vice President, General Counsel Secretary of Metro-Goldwyn Mayer, Inc. and former-Ambassador Gerald Carmen.
In the Fall of 1992, plaintiff, in his capacity as a board member, received reports that Mr. Marcovsky had allegedly received improper payments from Nostalgia. Mr. Gary Winnick, the Chairman of Tiger Communications, Inc., a four percent shareholder of Nostalgia, sent a letter to the Nostalgia board alleging that Marcovsky had improperly received funds from Nostalgia. Winnick threatened to file a derivative lawsuit if the board failed to act. After these charges were made, the Concept-nominated directors of Nostalgia attempted to call a board meeting, but were unsuccessful as none of the GNM nominated board members attended the meeting and a quorum therefore could not be obtained.
In December 1992 Concept initiated suit in this court claiming that a transaction between GNM and another corporation, Allied Cellular Systems, Inc., constitutes a transfer of beneficial ownership of Nostalgia shares thus triggering its rights of first refusal under the Shareholders Agreement.
On March 2, 1993, GNM invoked its rights under the buy/sell provision of the Shareholders Agreement. On March 10, 1993, a meeting by GNM of the Nostalgia board was held at which Holdgreiwe requested access to certain documents which he believed to be relevant to the allegations against Mr. Marcovsky. Marcovsky agreed to provide the documents but has yet to do so.
On March 18, 1993, Holdgreiwe sent a letter to Marcovsky demanding that, in his capacity of director of the company, he be allowed to inspect the company's books and record. The purpose that can be distilled from that letter was an investigation into the company's finances especially because of the planned filing of a S.E.C. Form 10-K. Holdgreiwe testified that he had grounds (identified in testimony) to worry that the proposed filing was not correct. The demand letter stated that Holdgreiwe sought documents:
With regard to the conduct of the Company's affairs by the Company's management and with regard to disclosures to be included in Federal securities filings to be made by the Company including the Form 10-K to be filed by the Company for its fiscal year ended December 31, 1992 and a proxy statement with respect to the 1993 annual meeting of stockholders.
(Px. 18). Nostalgia rejected Holdgreiwe's demand stating that it was not required to comply because: (1) Holdgreiwe intended to use the inspection to obtain information to assist Concept in ongoing litigation with GNM concerning the Shareholders Agreement; (2) Holdgreiwe was seeking to circumvent limits on Nostalgia's disclosure obligations concerning the buy/sell agreement; and (3) Holdgreiwe was seeking information from Nostalgia regarding a contract for studio services between it and AVI. See Px. 24. Nostalgia claimed that Holdgreiwe does not have a purpose for the requested inspection which is reasonably related to his position as a director.
On April 5, 1993, Concept demanded substantially the same information as a stockholder, in order to allow Concept to value its stock to decide whether to be a buyer or seller under the buy/sell agreement. See Px. 19. This letter was signed by Holdgreiwe in his capacity as Vice President of Concept. Nostalgia has agreed to provide information relevant to this valuation, but continues to resist Holdgreiwe's demand.
should not be permitted to exercise his rights or that such exercise should be conditional. (emphasis added)
These rights of inspection are not absolute, however. If the corporation bears its burden of proving that the director does not have a proper purpose for the requested inspection, inspection will be denied. In State ex. rel. Farber v. Seiberling Rubber Co., Del. Super., 168 A.2d 310 (1961), for example, the court noted that:
a director's right to inspect corporate books . . . may be termed an absolute right only so long as his purpose is not in derogation to the interest of the Corporation. However, if it can be established that his motives are improper, or that they are in derogation to the interest of the corporation, then his right to inspect ceases to exist.Id. at 312. See also Carpenter v. Texas Air Corp., Del. Ch., C.A. 7976, Hartnett, V.C. (Apr. 18, 1985).
In the present case, it is undisputed that Holdgreiwe is a director, that he has demanded inspection and that the demand has been refused. Therefore, the sole issue remaining to be resolved is the question whether Nostalgia has succeeded in bearing its burden of showing that Holdgreiwe's primary purpose for seeking this inspection is improper, i.e., any purpose not related to his position as a director. For the reasons that follow, I am required to conclude that Nostalgia has not done so.
III.
Defendant argues that Holdgreiwe has failed to articulate any purpose reasonably related to his position as a director for the inspection he seeks and that the real reasons for his request are the improper goals of: (1) providing valuation information to Concept for use in connection with its decision on whether to buy or sell under the buy/sell agreement; and (2) aiding Atlantic Video (AVI) in its dispute regarding contracts it has with Nostalgia.
In its letter rejecting Holdgreiwe's demand for inspection, Nostalgia also claimed that Holdgreiwe's demand was part of an effort to aid Concept in litigation with GNM, however, Nostalgia has not made such a claim in this ensuing litigation.
In both his demand letter and his testimony at trial, Holdgreiwe stated that his purpose in requesting an inspection of Nostalgia's records is to obtain information concerning the question whether Nostalgia's management, particularly Mr. Marcovsky, had mismanaged the company by misappropriating its funds. This is a proper purpose for which a director may request an inspection of the corporate books and records. E.g., Nodana Petro. Corp. v. State ex. rel. Brennan, Del. Supr., 123 A.2d 243 (1956). One of a director's primary duties is to take steps to protect corporate assets from dissipation through misconduct.
Holdgreiwe has reason to suspect that Marcovsky may have engaged in some wrongdoing. The alleged Kassan embezzlement and the allegations of Tiger Communications, are plainly sufficient to cause a prudent director to desire to look more closely at the records of Nostalgia. In addition, Mr. Marcovsky is a co-defendant with Mr. Kassan in a lawsuit filed on January 22, 1993 against them alleging illegalities in their management of other companies under their control. (Px. 26). In sum, there is ample evidence that Holdgreiwe has a bona fide need to inspect the corporate records in order to ensure that Mr. Marcovsky has not engaged in any mismanagement of Nostalgia.
It has generally been thought that once a director has established a proper purpose for the inspection of corporate records, any other motive or improper secondary purpose is irrelevant. See CMM Group. Inc. v. Carroll, Del. Supr., 453 A.2d 788, 792 (1982); General Time Corp. v. Talley Indus., Inc., Del. Supr., 240 A.2d 755 (1968); Skouras v. Admiralty Enterprises, Inc., Del. Ch., 386 A.2d 674, 678 (1982). Defendant does not argue, however, that Holdgreiwe has improper secondary purposes for requesting inspection, but instead claims that Holdgreiwe's claim that he is conducting an investigation is a mere pretext and that his primary purposes are to improperly aid Concept and AVI in taking action hostile to Nostalgia and its interests. This claim is unproven.
Defendant argues that since the independent special committee of Nostalgia's board is already investigating management's activities, Holdgreiwe has no need to inspect the corporate records as part of his own investigation.
According to the draft minutes of the March 3, 1993 meeting of the Concept-nominated directors of the Nostalgia board, at the meeting Ambassador Carmen made clear his dissatisfaction with the course of the investigation. The minutes report that Carmen stated that Nostalgia's regular counsel had prepared a biased report on management's behavior that he considered unsatisfactory. The minutes also state that the Special Committee had attempted to hire the law firm of Milbank, Tweed, Hadley McCloy, but that management had not provided the funds for the required $25,000 retainer and that Marcovsky had declined to be interviewed by the committee, citing scheduling difficulties. In short the Special Committee's investigation, as of early March, was not proceeding well and therefore the board and Holdgreiwe had every reason to desire to supplement its efforts with an inspection of the corporate books and records of their own. (Px. 17).
Defendant also points to deposition testimony, in which Holdgreiwe states that he never asked the company's auditors to perform a fraud audit, as evidence that plaintiff is not truly interested in such an investigation. (Holdgreiwe Dep. at 93-94). In his testimony Holdgreiwe made clear that he lacks confidence in the company's auditors and believes they have been retained because of their flexibility in valuing certain assets of Nostalgia. (Holdgreiwe Dep. at 67-68). Holdgreiwe stated that he believes the auditors' flexibility "indicates . . . an inclination to accord with the desires of management that does not give me confidence in their ability to ferret out wrongdoing." (Holdgreiwe Dep. at 68). Thus Holdgreiwe's failure to seek the assistance of Nostalgia's auditors in an investigation is an indication of his belief that their participation would not be helpful; not evidence that he has no interest in pursuing such an inquiry.
Defendant claims that Holdgreiwe falsely stated that he had an interest in reviewing the company's books and records to assure himself that Nostalgia's 10-K was correct before signing it as a director. Defendant argues that since the demand was issued only two days prior to the filing deadline for the 10-K this claimed reason must be a pretext. I cannot agree with this reasoning. The deadline has come and gone, and although the 10-K was filed, it was filed without the signatures of Mr. Holdgreiwe and the other Concept nominated members of the Nostalgia board. Plaintiff apparently had no intention of sifting through the corporate records in a mere two days because such haste was not required.
Defendant's suggestion that Holdgreiwe falsely claimed that his purpose arose in part from the 10-K filing is not supported by the record evidence. The record shows that Holdgreiwe's need for information regarding the 10-K filing arose from a concern that management wrongdoing had occurred and that management was seeking to conceal it by obtaining board approval of false S.E.C. filings. Holdgreiwe adequately explained this at his deposition; stating that the purpose of the demand was "[t]o discover whether and how much Mr. Marcovsky was taking from the Company," and that his "concerns with regard to the 10-K had to do with the fact that it didn't accurately reflect the financial transactions because Mr. Marcovsky's diversions were being covered up." (Holdgreiwe Dep. at 147).
Defendant's final contention is that Holdgreiwe seeks the inspection in an effort to aid Atlantic Video in its contract dispute with Nostalgia by putting pressure on Nostalgia's management. (Def. Br. at 18). This allegation has scant support on the record. There is a dispute between Nostalgia and AVI related to Nostalgia's efforts to renegotiate a major studio services contract with AVI. (See Dx. 19, 20). AVI claims that Nostalgia has breached the contract by failing to pay its monthly fees for studio services. (Dx. 19). It is unclear how Holdgreiwe's demand for inspection could have materially increased the pressure on Nostalgia's management, as AVI had apparently already threatened to terminate the contract and cause Nostalgia to go "off the air," if it failed to meet AVI's demand for payment. (See Dx. 20). The record simply cannot support the conclusion that Holdgreiwe's demand had the primary purpose of pressuring Nostalgia on behalf of AVI.
In Helmsman Management Services, Inc. v. AS Consultants, Inc., Del. Ch., 525 A.2d 160 (1987) Helmsman, a minority stockholder, was permitted access to the books and records of AS despite the existence of a major contract dispute between the parties. The court found that, although the stockholder was seeking to advance its interests both as a creditor and a stockholder of AS, it was still entitled to inspect AS's books and records since, "the critical inquiry is whether the stockholder related purpose predominates over the ulterior purpose" and the stockholder related purpose did in fact predominate. Id. at 166-67.
In the present case, I find the allegation that Holdgreiwe has an ulterior purpose relating to AVI in seeking inspection of the corporate records to be unproven.
IV.
Defendant has failed to meet its burden of showing that Holdgreiwe's demand was made for an improper purpose, not reasonably related to his position as a director. Therefore, defendant will be ordered to allow Mr. Holdgreiwe to inspect its corporate books and records, promptly.
This inspection, however, will be subject to appropriate limitations requested by defendant and designed to minimize the risk that any information obtained by Holdgreiwe through his inspection will not be misused by either Concept, or more significantly by AVI in its negotiations with Nostalgia. See CM M Group, 453 A.2d at 793-94.
It may be important that Nostalgia's financial information not be disclosed to AVI as Nostalgia is presently negotiating for modifications in its contract with AVI and may seek accommodation from AVI based on a claimed inability to pay the amounts provided for in the present contract.
Defendant has requested that Mr. Holdgreiwe be required to sign a confidentiality agreement prohibiting him from disclosing any information from Nostalgia's books and records and from trading on this information. Nostalgia also seeks to prohibit any person employed by AVI or any direct or indirect parent or affiliate of AVI, from participating in the inspection. Nostalgia proposes to extend this prohibition to Mr. Joo and Mr. Christopher Cates, both of whom are members of Nostalgia's board of director and senior managers of AVI. Finally, defendant asks that the inspection not be permitted to interfere with operations of the Special Committee of Nostalgia's board.
Holdgreiwe has disclosed Nostalgia's financial information to AVI in the past, although I can make no statement about the materiality of such disclosure. (Holdgreiwe Dep. 46). In all events, his obligation not to do so should be apparent. But conditioning Holdgreiwe's right to inspect Nostalgia's corporate books and records on his entry into an agreement binding him not to disclose any of the information he obtains to any third parties, including AVI and Concept, seems to me to add little. He is already under an obligation to maintain the confidences of Nostalgia; to use its confidential information only to inform discussion among directors and action by the board or a committee. Disclosure of such information to AVI is a violation of duty whether or not an undertaking is entered. Thus, such an undertaking seems unnecessary. The single prior incident of disclosure is not of such a character as to warrant other extraordinary steps by the court. Mr. Joo and Mr. Christopher Cates, who are members of Nostalgia's board are under similar constraints. That Joo is CEO of AVI creates a problem of the type that are foreseeable whenever director-interested transactions are entered into. These difficulties cannot be solved by holding him unable to inspect Nostalgia's books or to learn from fellow directors what is in them. Nevertheless it is apparent that he should proceed only with competent legal advice.
Defendant alleges that Mr. Joo has difficulty discerning when he is acting in his role as President of AVI and when he is acting as a director of Nostalgia. This allegation is based upon one comment by Mr. Holdgreiwe in his deposition in which he stated his opinion of Mr. Joo's understanding of his various official roles, in the context of explaining one particular occasion in which Mr. Joo asked Mr. Holdgreiwe for advice. (Holdgreiwe Dep. at 93). It is therefore without adequate evidentiary support.
The difficult situation presented by the conflicting interests held by Joo and Cates is a result of agreements into which the parties have willingly entered. The court cannot, in the absence of evidence that Joo and Cates are breaching their fiduciary duties to Nostalgia, strip them of their rights as directors to full information concerning Nostalgia's affairs. Mr. Holdgreiwe will not be permitted to use in his inspection any professionals, (accountants, lawyers or other advisors) who have been employed by Concept or any affiliate for any purpose other than this inspection of documents. The employment of such professionals by Holdgreiwe would create an unnecessary risk of exposure of corporate information to individuals with interests adverse to Nostalgia. See Henshaw, 252 A.2d at 130.
Finally, the scope of Mr. Holdgreiwe's inspection will not be materially limited. In Skoglund v. Ormand Indus., Inc., Del. Ch., 372 A.2d 204 (1976) it was held that where management wrongdoing was being investigated, the scope of the inspection could not be subjected to restrictions imposed by management. The court stated:
If the plaintiffs are otherwise entitled to inspection of the corporate books . . . for the purpose of ascertaining the possible existence of corporate mismanagement . . . then their right should not be limited to those transactions . . . which have . . . aroused their suspicions. Rather it should extend to the corporate minutes and financial records in general . . . [P]articularly in such a situation as this, the right should not be limited by the decision of present management that plaintiffs may inspect some records for this purpose, but not others.Id. at 211. If Mr. Holdgreiwe's inspection of Nostalgia's records is to effectuate its purpose of enabling him to determine whether management wrongdoing has occurred, his access to Nostalgia's records must necessarily be broad and unrestricted. Therefore, plaintiff's demand, which requests detailed financial data, stock transfer books, tax information, intra-corporate communications, correspondence regarding potential investment in Nostalgia by third parties, press releases, and communications and filings with securities regulators, will be honored fully and completely.
Plaintiff is requested to prepare an appropriate form of order after consultation with defense counsel.