## Facts

- China MediaExpress Holdings, Inc. (CME) was a Delaware corporation whose shares traded on NASDAQ until trading was suspended and the shares were delisted.
- In early 2011, third-party reports (including short-seller and research reports) alleged CME’s reported operations and financial results were fraudulent.
- CME’s independent auditor resigned, stating it could no longer rely on management’s representations, calling for an independent investigation, and warning of potential adverse implications for prior financial reports.
- Three CME directors resigned shortly after the auditor’s resignation, citing concerns related to those events.
- CME’s audit committee retained outside counsel to conduct an internal investigation.
- A CME investor filed a federal securities action in the District of Delaware; discovery there was stayed under the PSLRA pending a motion to dismiss.
- A CME stockholder made a written DGCL § 220 demand seeking books and records (i) to investigate potential fraud and mismanagement and (ii) to evaluate director independence and good faith in responding to the potential misconduct.
- CME did not produce records, and the stockholder filed an action in the Delaware Court of Chancery to compel inspection; CME opposed on improper purpose and sought a stay based on PSLRA/SLUSA concerns.

## Issues

1. Whether the stockholder stated proper purposes under DGCL § 220 and proved a credible basis to suspect fraud or mismanagement and to question director independence and good faith.
2. What scope of books and records was “necessary and essential” to those purposes.
3. Whether the Court of Chancery should stay the § 220 action due to parallel federal securities litigation and the PSLRA discovery stay, or under SLUSA.

## Decision

- The court held the stockholder established proper purposes under DGCL § 220 to investigate potential fraud/mismanagement and to assess director independence and good faith.
- The court found a credible basis to suspect wrongdoing based on the totality of evidence, including the auditor resignation letter, director resignations, allegations in third-party reports, and NASDAQ’s suspension/delisting.
- The court ordered production of a limited, tailored set of books and records, focusing on board-level materials and items tied to the auditor issues and internal investigation, and denied overbroad categories.
- The court denied the corporation’s request to stay the § 220 action; the inspection could proceed despite the PSLRA discovery stay in the federal action and SLUSA did not require a stay.

## Legal Principles

- Under DGCL § 220, a stockholder must prove a proper purpose reasonably related to the stockholder’s interests.
- Investigating possible wrongdoing and evaluating director independence and good faith are proper purposes when supported by evidence.
- To investigate wrongdoing under § 220, the stockholder must show a “credible basis” to infer possible mismanagement or wrongdoing; it is the lowest evidentiary burden in Delaware law but requires some evidence beyond suspicion.
- Any inspection must be limited to books and records that are “necessary and essential” to accomplish the stated proper purposes; § 220 does not authorize open-ended discovery.
- Parallel federal securities litigation and the PSLRA discovery stay do not automatically bar or stay a Delaware § 220 action; SLUSA does not, by itself, mandate staying an individual books-and-records proceeding.

## Conclusion

The Court of Chancery enforced a stockholder’s DGCL § 220 inspection rights after finding a credible basis to suspect corporate wrongdoing and to question board conduct, limited production to records necessary and essential to those aims, and refused to stay the inspection merely because related federal securities litigation was subject to a PSLRA discovery stay.


Paul v. China MediaExpress Holdings, Inc., 2012 WL 28818 (Del. Ch. 2012)