It does make it seem very cut and dry that any employee who has a single share is allowed to view not only the financials but also the cap table and shareholder list.
To be honest, if this is the case I'm very surprised that fund managers like T Rowe Price and Fidelity haven't been invoking it for as long as they've held shares to do their monthly marking of their private positions. I mean, doesn't it seem like they actually have a fiduciary duty to do this as it lets them most accurately value the holdings that they have?
If this is really the case then, unless the companies can force some sort of NDA on shareholders, then this opens the floodgates where any company that has vested shareholders, not just option holders, is going to have its books made public?
This seems like a positive thing for employees as each new round would be scrutinized looking for provisions in the new raise that could screw employee's ie ratchets or liquidation preferences.
DE info rights are not helpful to most employees. If the employees hold options, they do not have info rights (though they may have some disclosure rights once the company gets to a certain size). Once the employees exercise and receive stock, they still may be asked to waive info rights contractually as a condition of receiving the stock if that was part of the option agreement. That said, if the employee is a stockholder and has not waived info rights, the company probably will not be able to withhold the requested financial info...if that employee is willing to drop the money on lawyers to go to DE Chancery Court. It is a pyrrhic victory.
I have personally found it very frustrating to deal with venture-backed startups on behalf of departing employees. Typically the employees have to decide whether to exercise option grants within 90 days of termination, and the strike price might be a meaningful amount to someone who has just lost a job (whether voluntarily or not). Both for economic as well as tax reasons, we need insight into the value of the underlying stock. But companies are quite tight-lipped about it, and their lawyers often stonewall. They may also try to impose new contractual requirements on exercise that were not agreed to in the original option grant! I view this as the height of bad faith vis-a-vis former employees. But appears to be standard operating procedure for certain companies and law firms, who shall remain nameless...
> Once the employees exercise and receive stock, they still may be asked to waive info rights contractually as a condition of receiving the stock if that was part of the option agreement
Section 220 rights are statutory. You cannot waive them. If you own stock in a Delaware company, you are entitled to inspection rights.
Yes you can. See Korum v. Webasto, 769 A.2d 113 (2000). Such a waiver is a standard part of many forms such as those used by Orrick and Clerky, and I use it myself. Just has to be "expressed clearly".
Korum was a director of the company.[1] A director has duties to the company that an ordinary shareholder does not.
It's hard to see how a NDA could survive sale of the stock. If an employee sells some of their shares to another party, that party gets the right to examine the books, but isn't subject to the NDA.
Korum is cited by a line of cases in DE for the proposition that info rights are waivable as long as the waiver is expressed clearly. There may be an easier case to parse for people who are not used to analyzing caselaw, but there you go.
Because I have professional duties that prevent me from discussing specific matters! I have to wait a couple years and then complain in as general and non-attributed a manner as possible.
To be honest, if this is the case I'm very surprised that fund managers like T Rowe Price and Fidelity haven't been invoking it for as long as they've held shares to do their monthly marking of their private positions. I mean, doesn't it seem like they actually have a fiduciary duty to do this as it lets them most accurately value the holdings that they have?
They do invoke it, and they sign the non-disclosure agreement, and they don't talk about what they found. However since the valuation changes pretty slowly generally (only on new shares being issued, excluding those from vesting employees) and the fact that there are generally two classes of stock (preferred and common).
This argument appears to be about a fight between a person and their high school friend who was the CEO, who said one thing (in terms of ownership), but in fact did something else. A number of employment agreements these days include boiler plate text that says you wave your 220 rights when you join, but it isn't clear that that wavier survives your separation (parts of the agreement certainly do) and of course it isn't clear that Delaware law even allows you to waive those rights.
Personally I think Domo is not thinking straight here, settle with this person and move on. But personal egos may be involved and that can be an impediment to forward progress.
Yes and no right? Being able to inspect the financial books is a right that share holders of Delaware based corporations have. You can read the law above, collida linked it. It's really straight forward.
The questions here are two fold, disclosure limitation and rights waivers.
The first is the question "Can a corporation compel a shareholder to sign a non-disclosure in order for that share holder to exercise their rights under rule 220?"
As I mentioned I've never experienced anyone who has been part of a funding round (investing) balking at the idea of signing a non-disclosure which prevents them from disclosing the financial information to third parties. They person in the article is refusing to sign a non-disclosure. Which suggests they are considering disclosing that information to third parties (most likely other employees) and (I presume) management feels that would be detrimental to the business.
The second question, which doesn't seem to be part of this suit, but one that bears on it, is whether or not a corporation can compel an employee, who will become a future shareholder, from exercising their rule 220 rights by having them waive their future rights as part of their employment agreement. See the Chriscross sibling comment where it is asserted the 220 right is statutory and thus immune to waiver.
And what will probably be an interesting future question, since California is an at will work state, can a company fire an employee for invoking their rule 220 rights? Whether or not they sign a non-disclosure agreement? I'm guessing that they can (fire the employee) which would make it the last thing you got to request at a company.
this also calls into question the general practice of "forfeit right X to get benefit Y" that appears common
In cases where "benefit Y" is actually "right Y", then it raises the question of whether these agreements are valid.
I don't know if that's actually happening, but probabilistically would not be surprised if it were - just given the legal complexity involved in these documents.
IMO, this is an area of needed legislation. There are likely thousands of people working for 'unicorns' where the founders have already cashed out, but the employees will get nothing due to liquidation preferences.
Actually believe it or not, as some other commenters have said, Section 220 gives every shareholder the right to get all of the information they would need to estimate the value of their shares. This would definitely include financials and cap table. The reasons so few invoke (IMHO) their rights include:
--They don't know their rights
--Most employees want to stay on the good side of their company
--Companies can and usually do fight these requests making it costly (in time and sometimes legal fees) for the employee to get the information they need
--The request for information has to be done in a very specific way for it to work. For example, you may have to go "inspect" a physical copy of the company's records at the company rather than receiving anything electronically
>For example, you may have to go "inspect" a physical copy of the company's records at the company rather than receiving anything electronically
Last year, I learned that a similar law was invoked by college students to gain access to their application files kept by the University Registrar [1]. The student, upon making the information request, would go into the registrar office and "inspect a physical copy" of the file, just like you said.
[1] My alma mater wrote to me about this since a student I had interviewed as part of the application process had made this request, and my report was part of "his file".
If you are working for a company and they wont give you this information, leave and join one that will. If you are thinking of joining a company, ask for all the stock option information. Ask for the details of the funding rounds including liquidation preferences. If they don't give it to you, join another company that will. If no private companies will give you this information (though I know of many that do), join a publicly traded company.
Additionally what would more legislation do that the existing Delaware law doesn't? The fact that a lawsuit is being filed here is a good thing... a company isn't fulfilling its legal obligations and the courts will settle it.
The argument is that people routinely get abused and your equivalent of "be smarter or deal with the consequences, and if no one will give you basic transparency: TOO BAD this industry isn't for you, move on" is a rather brutal approach.
I'd prefer a state law for transparency, so if your SV start-up wants to play Wild West, they have to move to Texas or a similar state where it is a lot easier to abuse your employees legally.
You have no idea if people are being routinely "abused" or not. The original commenter's hypothetical is as follows (I've expanded a bit):
A likely extremely highly paid employee is working at a company where they aren't sure whether their stock options are valuable are not. It is extremely likely if they ask the company for information necessary to value those stock options, they would get it. Completely unrelated, founders of the business may or may not have sold stock during a previous round of funding.
How is this person a victim exactly? If an employee doesn't want any risk in their compensation, they should reject stock options in favor of salary. If they decide to take stock options there is always going to be risk, not only due to the information risk we are talking about but because the future is uncertain even to people with all the relevant information.
And FWIW, almost every startup is incorporated in Delaware which already has this law on the books.
We're talking about startups, aren't we? A group of companies who are notorious for paying well below market wages because the promise of stock is supposed to make up for it?
And who cares how "well paid" they are? How does that change things one bit? Here, tell me the exact dollar amount one can make where they can no longer complain about wrong treatment at work. And tell me why it's not ok to treat someone like that at one point, but pay them one dollar more, and suddenly it is ok.
"It is extremely likely if they ask the company for information necessary to value those stock options, they would get it."
Except the whole point is that the company isn't giving it to them.
"How is this person a victim exactly?"
Because they are not being treated fairly by the company.
"If an employee doesn't want any risk in their compensation, they should reject stock options in favor of salary."
That's not the situation at all, and you know it.
"If they decide to take stock options there is always going to be risk, not only due to the information risk we are talking about but because the future is uncertain even to people with all the relevant information."
Except right now you're advocating that the risk be artificially exacerbated due to not getting that information.
You are acting like the employee has no choice. If they choose to take a lower salary because of the allure of stock options, that is their choice. Nobody is forcing them to do this, and that employee can happily choose to work at one of the 99.9% of other companies that don't offer stock based compensation.
And again, there is already is a law in place requiring a company to give this information to shareholders -- the one the OP is talking about. I'm not defending the company that is breaking the law, I'm defending that the existing law is good enough. The fact that one company is breaking the law in one situation doesn't mean it is a widespread problem.
But I'll bite on the hypothetical. This is a widespread problem and people are being defrauded left and right. What should the new law say? What disclosure is required of the company, and to whom? The text of every funding round so the potential or current employee can investigate all the liquidation preferences (which are often incredibly complicated and company specific)? The full cap table so I know the equity amounts of every shareholder? The full details of any past share transactions and the associated prices? At what level of disclosure are people not getting abused anymore?
The reason is that the medicine might be worse than the cure. I don't like fraudulent accounting and securities fraud, so I'm glad we have the Sarbanes-Oxley law which helps to prevent it. However, SOX now makes being a public company more expensive and complicated, thus a lot of private companies decide they don't want to be public. This created new problems, for example billion dollar companies that choose to remain private.
I don't support companies being "shady". I wouldn't work for a company that didn't give me all the information I needed to evaluate any stock options. However, unless you are giving me a specific law or regulation that intends to fix the problem without creating many more, you don't know if the solution is any better than the status quo.
Part of the problem is that the instincts of treating employees poorly is so deeply ingrained that companies who think they are being transparent often aren't. EG: You ask them about the cap table and they give you a verbal, off the head, assertion about who is on it. They don't let you actually see it.
Ironically this is the case often when they are making an offer, too. They won't tell you the number of shares outstanding, but they offer you 100k shares, as if that's a lot. Is it a lot? Or is it a trivial amount? Are they so stupid they don't realize that without knowing the total number authorized or outstanding that we can't evaluate the offer? Or do they think we are that stupid?
And when you do ask the total outstanding, you often get, again, off the head, old or inaccurate information delivered in a way that implies you're being nosy.
I don't understand this argument. Why on earth are we allowing companies to operate in such a dishonest manner?
Not to mention that, usually when you try to get the information, its after you've already joined and already have some shares. Your suggestion is to just simply drop that, and walk away. How on earth is that a reasonable thing to suggest?
This issue has come up before with other companies.[1] The company trying to keep the financials secret lost. Stockholders have a clear right to see the financials and the ownership ("cap table") for valuation purposes.
Looks like the NDA question may have to be taken up here? -
> A Domo spokeswoman says the company had asked Mr. Biederman to sign a nondisclosure agreement before providing financial records, but that he refused to do so.
I don't see anywhere in subsection 220 (I haven't read the rest) that allows Domo to require this of Biederman.
> The Court may, in its discretion, prescribe any limitations or conditions with reference to the inspection, or award such other or further relief as the Court may deem just and proper.
Unless the court has told Biederman that he needs to sign that NDA, it doesn't seem that he has to and that Domo is still acting against subsection 220.
An NDA seems reasonable in this case. The article did state that Biederman objected to some of the stipulations which asked him to give up some of his shareholder rights. I suspect the lawyers will make some more money off this and then a more reasonable NDA will be signed.
Without knowledge of the law in this specific case, it still feels like there are reasonable grounds that a private, not-publicly-traded company should be allowed to keep its financials private.
Though of course, any such NDA should be revealed ahead of time, including the precise language of the NDA, so that investors (and yes, employees who receive equity in lieu of cash are investors) make a fully informed decision.
Sure they can keep their financials private by requiring a signed NDA before distributing shares. But if they're asking for an NDA after granting shares then it's too late. What incentive would the shareholder have to sign away certain rights in order to gain access to financial records to which he is already entitled? In order for an agreement to be valid and legally enforceable it generally has to provide some specific benefit to both sides.
...any such NDA should be revealed ahead of time, including the precise language of the NDA...
Is this a common thing with NDAs? ISTM it's rare that during the hiring process one would receive a folder containing all the NDAs one might potentially be asked to sign while working at a firm. One might receive an "initial" NDA, to sign before starting, but every time there is an ownership change one can expect a new round of NDAs, because apparently NDA terms are a rapidly-evolving area of contract law.
Requiring a new NDA as a condition (but not prom is) of continued employment is one thing; requiring it as a condition of exercising a statutory right is another.
But as part owner of the company through stock, the former employee is free to disclose whatever they like, unless specifically contracted to do otherwise, aren't they?
Don't want all your private company secrets legally broadcast to the public? Be careful who you grant shares of ownership to. Can't trust your employees? Guess you have to find something besides ownership to incentivize them with.
Sure, of COURSE asking him to sign an NDA is reasonable. But when he chooses NOT to sign it (for whatever reason, it doesn't matter why) what then?
The law in DE states that he has a right to see the data anyway if he has a valid reason, and "valuing my shares for tax reasons" is a valid reason. So NDA or not, the company needs to show him the numbers.
Assuming (purely for the sake of argument) that a case might be made for some form of NDA, it seems that the law does not permit the company to avoid its responsibility on the grounds that no NDA has been signed.
I think we'd need to see the wording for that NDA to understand why he refused. For example, many NDAs use wording along the lines of "must not disclose or USE..". It would be hard to agree not to "use" the information being disclosed in this case. There could have been other unacceptable conditions attached beyond the basic requirement to refrain from public disclosure.
He should refuse any NDA he doesn't get anything in exchange for. if the startup is already required to give him the financials then he's not getting anything "more" so would he agree to give up his rights?
> To be honest, if this is the case I'm very surprised that fund managers like T Rowe Price and Fidelity haven't been invoking it for as long as they've held shares to do their monthly marking of their private positions. I mean, doesn't it seem like they actually have a fiduciary duty to do this as it lets them most accurately value the holdings that they have?
T. Rowe Price and Fidelity only trade in publicly traded securities.
The amount of information available in publicly filed SEC documents, under normal circumstances, dwarfs what you have access to as a result of your shareholder rights under the Delaware BCL.
Totally tangential question but is there any resource you know of that provides a layman's "explain like I'm 5" explanation of this Delaware BCL?
A privately owned company (in which I bought my shares of when I left) was purchased via an asset sale and us common stock shareholders got zilch. I am trying to learn if I have any legal standing...
"was purchased via an asset sale and us common stock shareholders got zilch"
Just based on this (I am not a lawyer or giving financial advice), I'd guess that you can have legal standing to your share, which is probably $0. Investors often have preferred shares, and since it was an asset sale, it doesn't sound like things went well. The shares you bought were holding your place at the very back of the line, and the money ran out long before you. Your shares are probably literally worth $0. Consult a tax attorney or CPA to figure out if you can write off some losses on taxes, maybe?
Preferred shareholders are first in line. The assets got sold, they got a fraction of their investment returned (if anything...) with nothing left for the common. I had this happen to me, as well. It's, by far, the most likely outcome, so don't be surprised you didn't win the startup lottery.
Assuming the facts as true, the shareholder might also have a claim for retaliation against the company, specifically:
1. Pursuant to DE law shareholder requested the books be opened to value his shares;
2. His request was not just unlawfully denied, but company in writing explained, by law shareholder was not entitled to the requested documentation;
3. Then "a few days later" the company fired the shareholder in his capacity as employee.
Could be a great claim for retaliation, though not the federal title 7 type, but the DE state equivalent.[1] Note the citation includes whistle blower claims, which is similar/associated with retaliation claims but they are separate. Basically the DE retaliation claim is triggered by the employer taking action contrary to DE public policy (i.e. Being fired for trying to exercise a right as a shareholder)
"Mr. Biederman holds 64,166 Domo shares that would be worth $540,919 at the $8.43-per-share price where Domo sold stock to investors last year."
Is there any reason to believe that these are the same series of shares? Isn't it more likely that the investors bought preferred shares that are worth a lot more than the common shares that he probably has?
They almost certainly aren't the same series of shares, but that in and of itself isn't a reason to expect them to be worth less. Usually preferred shares have additional rights (e.g., preferred share holders will get returned their original cost or some guaranteed return before common shareholders get any returns).
Some have features that get them some incremental value over time (e.g., a 10% return paid through additional ownership over time), but this would differ wildly depending on funding round, investor, etc.
If the business keeps growing and the whole equity cap table is "in the money," his shares could probably be close to this estimated value.
Caveat: you can go totally nuts with complicated share structures, so this could not at all be the case for Domo.
which is exactly the reason he should be allowed to see the full details of the cap table to see what makes those shares more valuable than his and estimate his stocks value based on that info plus other financial info. It is exactly why this law exists because otherwise it is impossible for someone to value their shares and when you own shares that include a right to first refusal clause it makes it nearly impossible to shop the shares around on the private market
Actually, the preferred rights almost certainly make them more valuable than employee common stock, and probably significantly more valuable. Do we know what the 409a valuation is?
This brings up a good question. Companies have to price their options to employees at the "market value". They often make the exercise price the same as the preferred share sale price. Yet the options are for common shares.
How can a company know what these options or shares are worth when they aren't preferred-- because there is no market events for them?
The common shares are priced through a 409a valuation, generally done by a CPA. And, actually, the common exercise price is almost NEVER the same as the preferred shares. In some cases, it is 90% lower.
Exactly. We went through the 409A process for the first time a couple of years back and the valuation firm will typically take the preferred price (assuming there's been no secondary sales of common) and then apply discounts for lack of liquidity etc which gets you anywhere from 70-90% lower than the cost of preferred. The valuation firm usually comes in conservative and then you negotiate the FMV down. Assuming you haven't raised any more money, subsequent 409As are a lot quicker with a pretty light touch from the valuation firm.
You're correct, at a liquidity event the value of common and preferred shares could converge. A term called "participating preferred shares" would mean that they don't. But most capital structures I have seen are such that earlier in the story (pre liquidity event), the values of the two shares are drastically different.
So if one exercises even just one of their stock options would they have full access to the cap table for a standard Delaware C-corp anytime they want to value their shares?
http://delcode.delaware.gov/title8/c001/sc07/#220
It does make it seem very cut and dry that any employee who has a single share is allowed to view not only the financials but also the cap table and shareholder list.
To be honest, if this is the case I'm very surprised that fund managers like T Rowe Price and Fidelity haven't been invoking it for as long as they've held shares to do their monthly marking of their private positions. I mean, doesn't it seem like they actually have a fiduciary duty to do this as it lets them most accurately value the holdings that they have?
If this is really the case then, unless the companies can force some sort of NDA on shareholders, then this opens the floodgates where any company that has vested shareholders, not just option holders, is going to have its books made public?
This seems like a positive thing for employees as each new round would be scrutinized looking for provisions in the new raise that could screw employee's ie ratchets or liquidation preferences.