Uneasy Footing in Corporate Law: the Scope of Shareholder Inspection Demands

• Publication year: 2018
• Author: Christian Graham, Esq.

Uneasy Footing in Corporate Law: The Scope of Shareholder Inspection Demands

Christian Graham, Esq.

Christian Graham has extensive experience in business litigation and transactions, and has successfully represented national companies in connection with many major projects. He is also an author and speaker on business law topics. He may be reached at cgraham@grahamesq. com

Shareholders have both common law and statutory rights to demand inspection of corporate property. Yet the scope of the rights remains surprisingly open to interpretation under existing California law. The California Supreme Court itself has expressly acknowledged the lack of definition of key terms that would otherwise define important boundaries,¹ but thus far has declined to fill in the blanks.

As a result, corporations both foreign and domestic² may harbor legitimate concerns regarding the obligation to respond to shareholder inspection demands, as the demands can and often do seem overbroad. Liability to third parties or even other shareholders for breach of confidentiality obligations may arise if corporations permit an overly broad inspection to go forward. However, liability may also arise if corporations refuse to permit an inspection and the refusal is deemed by a court of law to have been without justification.³

This article discusses the basis and scope of the right of inspection as it currently sits under the relevant California authorities. Areas of concern are addressed, as well as practical suggestions and one potential proactive approach that may possibly resolve present ambiguities until such time as authorities provide further guidance.

The Common Law Shareholder Right of Inspection

The common law shareholder right of inspection was acknowledged by the supreme court in Hobbs v. Tom Reed Gold Mining Co.⁴ The plaintiff in the case, a stockholder in a gold mining corporation, heard that there had recently been discovered a new body of ore in the corporation's mine, and sought to inspect the mine, inter alia, "so as to be advised of the value of his stock."⁵ When the corporation refused, he filed a complaint for writ of mandate.

In reversing judgment for the defense the Hobbs court stated:

[i]t is settled that at common law a stockholder has the right to inspect the books of the corporation. The reasoning on which this rule is founded is that a stockholder has an interest in the assets and business of the corporation, and that such inspection may be necessary or proper for the protection of his interest or for his information as to the condition of the corporation and the value of his interest therein. There is not a feature of this reasoning that does not apply with equal force to the claim of a right to examine the property of the corporation[.]⁶

Notably, the ruling was based in part on the fact that the Hobbs court believed the books of the corporation would afford the plaintiff insufficient information, because the condition and value of mining property is easily concealed.⁷ From this we may presume that the question of whether the inspection is reasonably necessary is a factor to be taken into consideration. But regrettably the Hobbs court and the courts that have followed have neglected to expound on this or other factors.

Even more regrettably, courts have neglected to define the phrase "books of the corporation." Considering the vast span of documents, electronic data, and other information potentially within corporate possession at any given time, the phrase is hopelessly vague. The scope of the common law right of inspection is therefore to this day very much subject to debate.

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The Statutory Shareholder Right of Inspection

The statutory shareholder right of inspection is found in California Corporations Code section 1601, which states in relevant part that "[t]he accounting books and records and minutes of proceedings of the shareholders and the board and committees of the board . . . shall be open to inspection upon the written demand on the corporation of any shareholder[.]"

The statute makes no reference to the inspection of other corporate property, so it appears narrower in...