Delaware v California and selection of regulation: JUUL Labs, Inc. v Grove

A previous article, Choice of Law / Forum, and Right to Justice Waiver: California Court Finds Alumni Can’t Do The Last One.[1] examined William West’s decision against Access Control Related Enterprises, LLC, in which a California court ruled that a California citizen could not be required to bring a lawsuit against a Delaware LLC in the Delaware Chancery Court because the forum does not provide for legal proceedings . In a later amendment to the California-Delaware litigation, the Delaware Chancery Court at JUUL Labs, Inc. v. Grove ruled that Delaware law, regardless of California law, governed the opposite of inspection of the books and records of a Delaware corporation.[2]

Daniel Grove was a shareholder and employee of JUUL Labs, Inc. This company is organized in Delaware but has its main office in San Francisco. Grove asked for JUUL’s books and records to be inspected under Section 1601 of the California Corporations Code, stating that if he did not receive the books and records requested, he would bring legal action in California to enforce inspection under California law. The California Corporations Code in Section 1601 (a) is intended to apply not only to California incorporated companies, but also to “foreign companies that keep such records in this state or have their principal place of business in that state”. In response, JUUL filed the lawsuit in the Delaware Chancery Court, seeking, among other things, a statement that it is Delaware, not California, law that governs Grove’s rights to inspect JUUL’s books and records. Further relief was sought in the form of an injunction against Grove to prevent him from circumventing certain contractual restrictions on his ability to inspect books and records. Grove then filed a lawsuit with the California Supreme Court on behalf of the County of San Francisco for relief under Section 1601 of the California Corporations Code. That lawsuit, Grove versus Adam Bowen,[3] was stopped by the California court.

After the Chancery Court cleared arguments that Grove had contractually waived, it turned to the (frankly, more interesting) question of home affairs doctrine. This analysis began with a quote from the United States Supreme Court decision, Edgar v MITE Corp., namely:

The doctrine on internal affairs is a principle of conflict of laws that recognizes that only one state should be empowered to regulate the internal affairs of a company – matters including, in particular, the relationship between or between the company and its current officers, directors and shareholders concern – because otherwise a company could be faced with conflicting requirements.[4]

From there, the court cited a number of Delaware decisions that the Internal Affairs Doctrine protects rights arising from the Due Process Clause, Full Faith and Credit Clause, and Commerce Clause.[5] All of this may be well and good, but to this point the question still arises as to what exactly are actions and activities that constitute “internal affairs”. It was to this question that the court next turned its attention. For the Delaware Chancery Court, this was not a close question. Rather, “control rights for shareholders are a central concern of internal company matters.”[6] Let us turn to the analysis previously discussed in Salzberg v. Sciavacucchi,[7] The court reviewed this decision and found that access to books and records is a core internal issue.

The Chancery Court then compared Section 1600 of the California Corporations Code, which provides access to the list of shareholders, to Section 220 of the Delaware General Corporation Law (DGCL) and found that California’s statutes are broader than Delaware’s. Likewise, the comparison of California Corporations Code Section 1602, which governs the inspection rights of directors, with DGCL Section 220 (d) was made, whereby a different finding was made that the rights under California law are broader than under Delaware law. Right in the end:

In general, the California inspection regime is not radically different from the Delaware regime, but neither is it the same. California’s precious balance of competing interests between shareholders and the company is different from Delaware’s.[8]

The JUUL court drew a line in the sand and wrote:

Under the constitutional principles set out by the United States Supreme Court and under the precedent of the Delaware Supreme Court, the rights of stockholders’ inspection are a matter of internal affairs. Grove’s rights as a shareholder are governed by Delaware law, not California law. Grove is therefore unable to request an inspection below [California Corporate Code] Section 1601.[9]

JUUL’s amended and amended Articles of Incorporation contain an exclusive jurisdiction clause that “the Delaware Federal Chancellery must be the sole and exclusive forum for every shareholder (including a beneficial owner). . . (iv) any lawsuit bringing any claim against the Company, its directors, officers, employees or shareholders that is subject to Home Affairs Doctrine. “On this basis and with reference to Boilermakers Local 145 Ret. Fund against Chevron Corp.,[10] It was determined that records could only be viewed at the Delaware Chancery Court.[11]

So there you have it; Unsurprisingly, the Delaware Chancery Court ruled that the right to access company books and records is part of the company’s “internal affairs” and is therefore subject to organizational jurisdiction, and that a provision in The Articles of Incorporation that exclusively has jurisdiction over internal affairs disputes in the Delaware Chancery Court is also enforced. The issue that the JUUL court failed to resolve was whether contractual waivers of the right to view books and records will be enforced when properly presented to the court.[12] But even this decision should be made within the framework of the internal affairs doctrine.

The Delaware courts will continue to use their broad interpretation of “internal affairs” as long as the exclusive jurisdiction rules for certificates and bylaws are enforced by the Delaware courts.[13] and there is no reason to think the opposite, we could end up in a situation where companies naturally contain (i) exclusive jurisdiction clauses that specifically include inspection of books and records and (ii) waiver of the right to examine, whether according to DGCL § 220, according to the law of another jurisdiction or according to common law. Ergo: “It would mean 220 inspection rights could leave a working dead letter.”[14] The question then arises as to whether the courts of California or any other state disagree that (a) the courts of Delaware have exclusive jurisdiction, or (b) that inspection rights are subject to waiver, creating a real conflict over which law to choose.

Another interesting interface for a possible elimination of inspection rights is for the standards to take a derivative action. Currently, Delaware is setting a high threshold for filing a derivative action and warns plaintiffs not to exercise DGCL Section 220 inspection rights in order to represent the potential case with the necessary degree of specificity. If shareholders’ scrutiny rights have been restricted or eliminated by private appointment, will the extended standards for filing an inferred lawsuit necessarily be reduced?[16]

[1] Business Law Today (Sept. 2020).

[2] 238 A.3d 904 (Del. Ch. 2020).

[3] California Supreme Court, CGC20582059.

[4] 457 US 624, 645 (1982) (with reference to Restatement (Second) of Conflict of Laws, § 302 cmt. B. (1971)).

[5] 238 A.3d at 914.

[6] 238 A.3d at 915.

[7] 227 A.3d 102 (Del. 2020).

[8] 238 A.3d at 917.

[9] 238 A.3d at 918.

[10] 73 A.3d 934, 963 (Del. Ch. 2013).

[11] 238 A.3d at 919.

[12] 238 A.3d at 919-20.

[13] See Salzberg versus Sciabacucci, 227 A.3d 102 (2020); See also Gabriel K. Gillett, Michael F. Linden, and Howard S. Suskin, Delaware Supreme Court.

[14] See Professor Ann Lipton (Tulane Law) in a post on the Business Law Prof Blog on August 15, 2020 entitled The United States of Delaware.

[15] See AmerisourceBergen Corporation v Lebanon County Employees’ Retirement Fund, 243 A.3d 417 (Del. 2020) for information necessary to meet specification requirements in derivative litigation. “); I would. Collective case in note 33.

[16] While this is not the place for a full investigation, there is a significant political question as to whether restrictions on access to books and records should be allowed, particularly in tightly managed businesses. While it is necessary to offset the need for the company or other legal entity to operate under the direction of its management, the elimination of access to books and records allows these trustees the benefit of working without supervision. See also, Thomas E. Rutledge, Who Will Watch the Observers ?: Derivation Actions in Nonprofits, 103 Kentucky Law Journal Online 31 (2015). The danger is obvious.

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