“You want to see my what?!” might be management’s first reaction to a request from a non-managing co-owner to inspect the financial or organizational records of a closely-held business. Management may also question why the records are being requested, perhaps wondering if the non-managing co-owner making the request is either calling into question management’s decision-making or if that co-owner is seeking to use internal information for some improper purpose. Therefore, management may be reluctant to comply with such a request. While this reaction is not uncommon, it is rarely supported by Georgia law.
Closely-held businesses, by definition, are owned by a small group of individuals or entities. Often, one or a few of these owners manage the day-to-day operations of the business while the other owners take a more hands-off role. A natural tension exists in these situations between the right of the more passive investor owner to keep informed regarding the status of his investment and the interests of the business (and often its management) in maintaining the confidentiality of its activities and inner workings. Unless these tensions are timely and properly addressed, acrimonious disputes can develop between co-owners over access to the books and records of the business, particularly where there are suspicions or allegations of mismanagement among the co-owners.
Georgia law strikes a balance between the competing interests of co-owners by generally affording those with an ownership interest in a business entity a right to inspect its books and records for legitimate purposes while also allowing the business to impose reasonable limits on how that information may be used. Typically, this means an owner has the right to know what is going on in the business, but may be precluded from using that information for a competitive venture.
Generally, a business entity (through its management) maintains certain records and must make them available to the owners upon a reasonable request. These business records can be divided into the following three categories:
- Organizational records. Organizational records are those that reveal the type of legal entity that the business is as well as the identity and voting rights of its owners and management. By-laws, articles of incorporation or organization, operating agreements, shareholder agreements, and partnership agreements generally fall into this category as would meeting minutes, resolutions, and any amendments to operating agreements or by-laws.
- Transactional records. Transactional records are those which relate to the entity’s business activities and relationships with third parties. This might include the entity’s office space lease, its vendor and customer contracts, and titles to real property or to equipment.
- Financial records. Financial and accounting records are those which reflect the financial affairs of the entity, including tax returns, balance sheets, profit and loss statements, bank statements, and other documents demonstrating the financial condition of the business.
The extent of the owners’ rights of inspection and the amount of information the entity is obligated to disclose can vary depending on whether the entity is a corporation, a limited liability company (LLC), a general partnership, or a limited partnership. The right of inspection can also vary if the owners have previously agreed upon access rights or limitations.
A. Entity-Specific Rules for Document Retention and Access Rights
Corporations – A Georgia corporation is required to maintain at its principal place of business copies of its articles of incorporation, by-laws (and any relevant amendments to those), corporate resolutions, shareholder meeting minutes, a list of the names and business addresses for its current officers and directors, as well as correspondence from the corporation to the shareholders. In addition, a corporation is required to maintain its financial statements for the previous three (3) years.
A shareholder has a right to inspect and copy these organizational records after giving the corporation five (5) days written notice. Importantly, the corporation’s by-laws or articles of incorporation may not limit the rights of a shareholder owning more than two (2%) percent of the outstanding shares in the company from exercising these inspection rights.
In order to obtain access to additional records, such as the corporation’s accounting records, the shareholder list, and excerpts from the minutes of any board of directors meeting, the shareholder must articulate a proper purpose that is reasonably relevant to his or her legitimate interest as a shareholder.
The right to inspect these records is qualified and not absolute. That is, the shareholder is not given unfettered access to any corporate records simply by virtue of having an ownership interest in the corporation. Rather, the shareholder must articulate a proper purpose for his or her request. Essentially, the broader the shareholder’s request and the greater access sought, the more particular the shareholder must be in identifying the purpose for the request.
LLC’s – As with corporations, Georgia law imposes a set of default rules as to what documents an LLC must maintain and make available to its members upon reasonable request. These default rules are, in one sense, more expansive, yet in another sense, more restrictive than the rules governing corporations.
By default, a member of an LLC is permitted access to all records of the company upon reasonable written demand, regardless of whether the member owns one percent or ninety-nine percent of the entity. However, the members of an LLC are permitted to impose reasonable limits on the information access rights of certain members, and the Georgia courts will typically enforce that agreement.
Similar to corporations, Georgia law imposes an obligation on an LLC to maintain at its principal place of business a list of the names and addresses of each member and manager; records establishing the relative voting rights of the members; copies of the company’s articles of incorporation and operating agreement; the company’s local, state, and federal income tax returns; as well as its financial statements for the previous three (3) years. This rule may be modified with the unanimous consent of the LLC’s members.
Partnerships – Partners in a general partnership have broad, but relatively vague, obligations to share with each other all information concerning the partnership. These records are to be kept at the partnership’s principal place of business, unless otherwise agreed by all partners. In addition to the duty to maintain and share records, partners are additionally required to share with each other “to the extent the circumstances render it just and reasonable, true and full information of all things affecting the partners.”
Limited Partnerships – The general or managing partner in a limited partnership (LP) has the duty to maintain a current list of each partner’s name and address, a copy of the LP’s current certificate of limited partnership and related amendments, copies of the LP’s federal, state, and local tax returns as well as its annual financial statements for the past four years. Additionally, it must maintain any and all written partnership agreements and documents which identify the property or cash contributed, or to be contributed, by each partner and on what terms the contributions were, or are, to be made.
B. Resolving Disputes over Access to Business Records
For both legal and practical reasons, the co-owners and management would do well to work together to provide reasonable access to the company’s books while also maintaining the confidentiality of proprietary business information. Oftentimes, however, discord among the co-owners on other issues relating to the business can morph into a dispute over access to the books and records.
When co-owners cannot achieve some workable parameters, and an owner’s request for records is denied, Georgia law authorizes that owner to file a lawsuit to compel access to the records sought. In a lawsuit of this nature, the Court will typically make the following inquiries:
- Establishing Ownership. Often, the first question the Court will seek the answer to is or was whether the individual seeking access is actually an owner. If the business and/or the owner have kept good records, this can be a perfunctory inquiry. Too often, however, investors and entities fail to properly document their relationships and ownership interests, complicating what should be a simple inquiry.
- Reasonableness of Request. After the owner’s status is confirmed, the Court must then determine whether the owner’s inspection request is proper. This will depend on what type of entity is involved and whether the owners have a prior written agreement.
Corporations: The Court must determine whether the request is being made for a “proper purpose” that is “reasonably relevant to his legitimate interest as a shareholder”. Facts or circumstances which tend to establish the reasonableness of a request can include whether the shareholder owns a favored class of shares, if there is evidence of mismanagement, whether the shareholder has previously been unable to obtain corporate records, and whether there has been a dramatic deterioration in the financial status of the corporation or in the value of the corporation’s shares.
If the Court finds the shareholder’s request reasonable, and the corporation’s refusal to produce records unreasonable, it has the power not only to compel the production of the records, but also to require the corporation to pay the shareholder’s attorneys’ fees incurred in bringing suit. In an effort to balance the interests of the corporation with this disclosure, the Court may also impose reasonable restrictions on the shareholder’s use or distribution of the corporate records, as the circumstances may warrant.
LLC’s: The rules governing the production of records by an LLC to a member are similar to those for a corporation, except that an LLC member need not articulate a “proper purpose” for inspecting the records. That said, a company may impose reasonable limits on how the member can use the records.
If there is an operating agreement for the LLC that either expands or restricts its members’ inspection rights, the Court will likely resolve the lawsuit by enforcing the terms of the operating agreement.
Partnerships: As shown previously, Georgia law does not specify exactly what types of partnership records must be maintained. Nor does it provide a specific statutory mechanism for compelling the production of such records. However, this does not leave partners without a remedy. If a partner is thwarted in his or her efforts to secure access to the records of the partnership, that partner can file suit against the partnership, or against the partner maintaining the records, for breach of fiduciary duty and/or breach of contract. Unlike the law applicable to corporations, there is no statute that contemplates an award of attorneys’ fees in connection with a suit to compel records from a partnership. Therefore, an award of such fees is unlikely, absent some other compelling reason for the Court to award them.
As a practical matter, owners should ensure that their ownership interest is properly documented at the outset and exercise their rights to review and inspect the books and records of the business on a regular basis to monitor the status of their investment. It is not advisable to wait until relationships among co-owners turn sour to start taking an interest in how the business is being managed. Also, it is important for entities not only to maintain the books and records of the business in an organized way, but to make them available upon request. If both owners and entities can cooperate in this effort, each can avoid the significant costs, in the form of legal fees or in the disruption of business, associated with a lawsuit to compel the production of such records.