Bondholders and Corporate Governance
Morey W. McDaniel, 41(2): 413–60 (Feb. 1986)
Contrary to popular belief, indentures do not have numerous, detailed covenants to protect bondholders. Other legal and market constraints on stockholder gain at bondholder expense are ineffective. Therefore, directors should have fiduciary duties to protect bondholders as well as stockholders.
Delaware Supports Directors with a Three-Legged Stool of Limited Liability, Indemnification, and Insurance
E. Norman Veasey, Jesse A. Finkelstein, and C. Stephen Bigler, 42(2): 399–421 (Feb. 1987)
This Article discusses the July 1986 amendments to the Delaware General Corporation Law allowing corporations to limit or eliminate the personal monetary liability of directors in certain circumstances and to broaden indemnification rights for directors, officers, employees, and agents.
Directed Brokerage and "Soft Dollars" Under ERISA: New Concerns for Plan Fiduciaries
Donald J. Myers, 42(2): 553–73 (Feb. 1987)
Recent pronouncements by the Department of Labor and the SEC have once again focused the attention of the pension community on soft dollar and directed brokerage arrangements. The Article examines new concerns surrounding such arrangements in light of the fiduciary responsibility provisions of ERISA, emphasizing the duties of plan sponsors and money managers in monitoring investment and execution decisions and in directing brokerage transactions. The issues discussed in the Article should be of interest to any business lawyer whose clients sponsor employee benefit plans or are involved in the investment or trading of securities for such plans.
Duty of Loyalty: The Criticality of the Counselor's Role
E. Norman Veasey, 45(4): 2065–81 (Aug. 1990)
A corporate director's fiduciary responsibilities include a duty-of-care and a duty-of-loyalty component. Duty of loyalty is an elusive concept with many facets. This Article touches on a few applications of the duty and explores some of the diverse legal and practical issues that demonstrate the critical need for good counseling.
Corporate Reorganizations in the 1990s: Guiding Directors of Troubled Corporations Through Uncertain Territory
Lewis U. Davis, Jr., M. Bruce McCullough, Eleanor P. McNulty, and Ronald W. Schuler, 47(1): 1–32 (Nov. 1991)
This Article discusses the state of the law regarding the fiduciary duties of directors of financially troubled companies, the varying schools of thought as to whom such duties are owed, and the impact of fiduciary duty on the decisions that directors make to resolve the financial problems of such companies. The Article includes a discussion of various large bankruptcy reorganizations.
The Fiduciary Duties of Insurgent Boards
John M. Olson, 47(3): 1011–29 (May 1992)
Many recent corporate takeover attempts have employed the combination of a tender offer and a proxy contest. This Article analyzes the fiduciary duties of directors elected through the efforts of tender offerors and suggests that there may be problems in combining the two takeover methods.
Fiduciary Obligations of Directors of the Financially Troubled Company
Gregory V. Varallo and Jesse A. Finkelstein, 48(1): 239–55 (Nov. 1992)
Recent decisions of the Delaware Court of Chancery have examined the nature of the fiduciary duties owed to creditors of the insolvent (and nearly insolvent) Delaware corporation. These decisions may have opened the "flood gates" to a new variety of litigation. This Article traces the evolution of the so-called trust fund doctrine and concludes that the doctrine should be critically reevaluated in light of modern bankruptcy and insolvency statutes.
Fiduciary Duty and the Former Partner
Richard A. Booth, 48(1): 315–33 (Nov. 1992)
Law firms and accounting firms have become a target of regulators and other plaintiffs in litigation connected with the savings and loan crisis. As a matter of partnership law, all of the partners within a partnership, whether personally involved or not, may be held liable. Despite the lack of case law directly on point, there are convincing arguments that fiduciary duty comes to an end once the partner and partnership have agreed to a settlement with each other, particularly where the settlement offer has been disclosed to the former partner.
The Shareholder's Cause of Action for Oppression
Robert B. Thompson, 48(2): 699–745 (Feb. 1993)
This Article addresses the extent to which investors in close corporations can expect judicial relief from the usual corporate norms of entity permanence and centralized control. The author traces two lines of cases that have evolved in recent years: a shareholder's action for oppression under dissolution or related statutes and a shareholder's direct individual cause of action for a majority shareholder's breach of fiduciary duty in a close corporation. Although these doctrines overlap, they are not completely interchangeable. The author suggests they should be seen as two manifestations of a minority shareholder's cause of action for oppression.
Delaware Fiduciary Duty Law after QVC and Technicolor: A Unified Standard (and the End of Revlon Duties?)
Lawrence A. Cunningham and Charles M. Yablon, 49(4): 1593–1628 (Aug. 1994)
The authors argue that the Delaware Supreme Court's decisions in Paramount Communications, Inc. v. QVC Network , Inc., 637 A.2d 34 (Del. 1994), and Cede & Co. v. Technicolor, Inc ., 634 A.2d 345 (Del. 1993), reflect a movement in Delaware fiduciary law away from doctrinal fragmentation and toward a single, more unified standard of director conduct, imposing upon all corporate directors a single, highly general obligation of good faith and fair dealing based upon reasonably informed judgment. The logic of the decisions and this new unified standard imply that the so-called Revlon duty—an affirmative legal obligation to conduct a fair auction for the company and to sell it to the highest bidder—no longer exists under Delaware law. A new standard, requiring enhanced scrutiny to ensure that management actions achieve the best value reasonably available to shareholders, will apply to all management actions in takeover situations and other extraordinary transactions as well.
Stockholders, Stakeholders, and Bagholders (or How Investor Diversification Affects Fiduciary Duty)
Richard A. Booth, 53(2): 429–78 (Feb. 1998)
The most basic question in corporation law is: To whom does management owe its fiduciary duty, and what does that duty entail? The traditional wisdom is that management should serve the interests of the corporation and the stockholders who own it by maximizing stockholder wealth. A significant number of legal scholars argue, however, that management duty should be more broadly construed to include other constituencies ("stakeholders"), such as employees, creditors, customers, suppliers, and the community at large. The distinction makes a difference. The broader view of management duty means that management has more discretion and that stockholders will seldom have recourse if management fails to maximize profits. Nevertheless, many states have adopted so-called other constituency statutes permitting—and in some cases arguably requiring—management to consider such other interests. Ironically, management is the one constituency that identifies most with the fortunes of the corporation as an entity. A diversified stockholder can afford to win some and lose some. Management cannot. Management stands to lose the most if the corporation fails. Thus, management is not likely to pursue high-risk, high-return strategies, even in the absence of another constituency statute. After all, if such strategies lead to the ruin of the company, it is management that is left holding the bag.
The Line Item Veto and Unocal: Can a Bidder Qua Bidder Pursue Unocal Claims Against a Target Corporation's Board of Directors?
J. Travis Laster, 53(3): 767–97 (May 1998)
Although the issue of a potential acquiror's standing to raise a breach of fiduciary duty claim under Unocal Corp. v. Mesa Petroleum Co., 493 A.2d 946 (Del. 1985), and its progeny is frequently litigated, the fundamental question remains unresolved. Existing Delaware decisions rely on a problematic analytical framework and reach conflicting results. This Article attempts to answer the question by considering the nature and role of standing doctrine, reviewing the conflicting precedents, and discussing the conceptual problems with the competing results. The Article concludes by setting out the pragmatic solution that recent Delaware decisions have crafted sub silentio to permit potential acquirors to raise breach of fiduciary duty claims under certain circumstances.
Breaking Up Is Hard to Do: Avoiding the Solvency-Related Pitfalls in Spinoff Transactions
Richard M. Cieri, Lyle G. Ganske, and Heather Lennox, 54(2): 533–605 (Feb. 1999)
This Article examines several of the legal traps that may accompany a typical spinoff transaction. Specifically, it discusses the issues surrounding officers' and directors' fiduciary duties and the spinning corporation's solvency, the possibility for a veil-piercing analysis, and the potential unwinding of the transaction as a fraudulent conveyance or illegal dividend. Throughout, the Article offers practical suggestions for the practitioner advising a client in a spinoff situation.
Understanding Fiduciary Outs: The What and the Why of an Anomalous Concept
William T. Allen, 55(2): 653–60 (Feb. 2000)
This Essay is addressed to the corporate law specialist. It addresses in a basic way the purpose and rationale of fiduciary-out provisions in merger agreements. These provisions are challenging to understand in theory and in practice. The Essay suggests that, in important part, these provisions constitute a lawyerly recognition that courts are fallible human institutions and that, as a result, directors are at risk of courts misunderstanding the reasons why boards have acted as they have. Thus, these provisions protect target directors by affording them a last opportunity—not at the time of contracting but after relevant facts have been fully developed—to assess the risk that the court may mistakenly conclude that a term in a merger agreement violates the board's fiduciary duty.
Equity Ownership and the Duty of Care: Convergence, Revolution, or Evolution?
R. Franklin Balotti, Charles M. Elson, and J. Travis Laster, 55(2): 661–92 (Feb. 2000)
The fiduciary duty of care is one of the pillars of Delaware corporate law. Under the traditional corporate model, courts police the duty of care by examining the process directors followed in rendering a decision. This model has weaknesses, including the ease with which an adequate record may be constructed and the lack of any necessary connection between procedural rituals and optimal decisionmaking. A viable and compelling alternative would be for a court to consider whether the directors who made the decision also were substantial stockholders. If so, then the directors' enlightened self-interest should have operated to ensure that the decision reached was the best option available. Courts therefore could adopt a rebuttable presumption that directors who also are substantial stockholders have acted with due care. Three lines of authority are converging in support of such a presumption. Rather than a revolutionary change, such a presumption would represent an evolutionary development in the analysis of directors' fiduciary duties.
The Fiduciary Responsibilities of Investment Bankers in Change-of-Control Transactions: In re Daisy Systems Corp.
M. Breen Haire, 55(2): 883–916 (Feb. 2000)
In 1996, the Ninth Circuit handed down a ruling with far-reaching consequences for the investment banking community, wherein the court held that the existence of a fiduciary relationship between an investment bank and its client was an issue of fact inappropriate for summary judgment disposition. That decision, Bear Stearns & Co. v. Daisy Systems Corp. ( In re Daisy Systems Corp.), 97 F.3d 1171 (9th Cir. 1996), marked a significant departure from previous authority holding banker-client relationships to be merely contractual. This Article examines the mischief that the Daisy ruling could make. By conferring responsibility for fundamental corporate decisionmaking on investment bankers without providing corresponding doctrinal protections from liability (e.g., the business judgment rule), the court created an incentive for bankers to demand decisionmaking control, seriously undermining the authority of the board of directors. Moreover, the court's shift of enterprise failure risks to bankers creates costs in the form of increased fees and lost opportunities to undertake risky but profitable projects that shareholders would likely contract to avoid. The author concludes that the Daisy court created a liability regime for investment bankers that is justified neither as a matter of corporate governance nor as a shareholder protection device.
A Process-Based Model for Analyzing Deal Protection Measures
Gregory V. Varallo and Srinivas M. Raju, 55(4): 1609–47 (Aug. 2000)
Recent case law has led to debate regarding the appropriate standard of review for so-called deal protection measures (i.e., "no shop" clauses, stock options, termination fees and related provisions). In the authors' view, the debate is neither necessary nor productive. Because courts consistently have focused their analysis upon the process designed and executed by the board and its advisors in connection with negotiating and eventually agreeing to deal protection measures, this should also be the principal focus of lawyers called upon to advise directors concerning the discharge of their fiduciary duties in this regard. This Article contends that a process-centric model for reviewing deal protection measures not only explains the existing case law but should also be of great utility to corporate practitioners in advising directors in merger and acquisition transactions.
The Fiduciary Duties of Institutional Investors in Securities Litigation
Craig C. Martin & Matthew H. Metcalf, 56(4): 1381 (Aug. 2001)
The Private Securities Litigation Reform Act of 1995 was enacted to expand the role of institutional investors in securities litigation in the hopes that such involvement would serve to moderate what were widely perceived as abusive litigation practices in this area. However, these institutional investors must also observe their significant fiduciary obligations under the Employee Retirement Income Security Act. The Article discusses the redefined role of institutional investors in securities litigation in light of both of these pieces of legislation and examines some potential benefits and unique concerns that institutional investors must now consider when a securities fraud claim arises.
The Revictimization of Companies by the Stock Market Who Report Trade Secret Theft Under the Economic Espionage Act
Chris Carr and Larry Gorman, 57(1): 25 (Nov. 2001)
In 1996 Congress passed the Economic Espionage Act (EEA). One of the concerns surrounding the passage of the EEA was that publicly traded companies would be hesitant to report trade secret theft to the government for fear that doing so would adversely impact their stock prices. This article investigates whether that concern has merit. Using event study methodology, the authors found that the stock market does, in fact, negatively react to the reporting of trade secret theft under the EEA. Stated differently, these companies are "revictimized" by going public with their loss. Further, the authors found a strong statistical link between the value of the trade secret and subsequent decreases in stock value (i.e., the higher the value of the trade secret the greater the decrease in stock price). These findings have important implications regarding the efficacy of the EEA and future amendments. They also have important implications for corporate legal counsel, CEOs, managers, and shareholders.
The Lawyer as Director of a Client
The Committee on Lawyer Business Ethics of the ABA Section of Business Law , 57(1): 387 (Nov. 2001)
Should a Duty to the Corporation Be Imposed on Institutional Shareholders?
Roberta S. Karmel, 60(1): 1—21 (Nov. 2004)
The common law principle that directors owe a primary duty to their corporation and a secondary duty to the shareholders of that corporation has been gradually eroded by the federal securities laws so that directors are charged with owing duties to shareholders, with the corporation and other corporate constituents relegated to a lower status. Further, the shareholder primacy model has become the dominant model in scholarship theories with regard to the firm, although other models have been proposed and debated. Under the shareholder primacy model, shareholders are considered the "owners" of the corporation and therefore given rights at the expense of other corporation constituents. Although modern institutional investors do not behave like owners of corporate property, the shareholder primacy norm has been strengthened and reinforced by the Sarbanes-Oxley Act of 2002. Further, in the wake of recent corporate scandals, institutions have been demanding more rights, specifically more rights with respect to the nomination of corporate directors. In view of these demands, this article inquires as to whether large shareholders should obtain any such rights without also acquiring duties to the corporations in which they invest and to other shareholders.
Can a Board Say No When Shareholders Say Yes? Responding to Majority Vote Resolutions
Andrew R. Brownstein & Igor Kirman, 60(1): 23—77 (Nov. 2004)
The past 20 years have witnessed a significant increase in the number of shareholder proposals submitted to American public corporations and in the number of such proposals that have received majority support during shareholder meetings. While some companies have responded to majority vote resolutions by implementing the proposals or reaching settlement with the proponents, a significant number of companies have not adopted the changes suggested by these resolutions. The refusal of companies to adopt such suggested changes, even when doing so after careful consideration by the board of directors, has in turn led some activist shareholders to employ pressure tactics against such companies. After canvassing these changes, this article examines what companies and their directors should do in response to shareholder resolutions that obtain majority shareholder votes. The article concludes that directors retain the ultimate responsibility to act in what they believe to be the best interest of all shareholders, even if that means not adopting majority vote resolutions. At the same time, it also notes that the changed corporate governance climate makes it essential for companies and their directors to treat majority vote resolutions seriously and recommends possible enhanced procedures for considering and acting on such resolutions.
Fiduciary Duties of Directors of a Corporation in the Vicinity of Insolvency and After Initiation of a Bankruptcy Case
Myron M. Sheinfeld & Judy L. Harris, 60(1): 79—107 (Nov. 2004)
This article discusses the general fiduciary duties of directors of corporations and how those duties are altered when a corporation is in the zone or vicinity of insolvency and when the corporation is insolvent. The different tests for determining a corporation's insolvency are outlined. The article also analyzes the fiduciary duties of directors in a Chapter 11 bankruptcy case. In particular, the article discusses directors' duties in managing the bankruptcy estate, directors' responsibilities under Sarbanes-Oxley, and the exculpations of directors that are permitted in Chapter 11 plans of reorganization. The article provides directors with practical guidelines for properly exercising their fiduciary duties in Chapter 11.
Delaware Alternative Entities and the Implied Contractual Covenant of Good Faith and Fair Dealing Under Delaware Law
Paul M. Altman and Srinivas M. Raju, 60(4): 1469—1486 (August 2005)
The Delaware Alternative Entity Statutes (i.e., the Delaware Revised Uniform Limited Partnership Act and the Delaware Limited Liability Company Act) are based upon a policy of favoring freedom of contract. Consistent with this policy, the statutes have always permitted wide latitude to the parties to an alternative entity agreement to modify the fiduciary duties of persons controlling alternative entities. In 2002, the Delaware Supreme Court in Gotham Partners L.P. v. Hallwood Realty Partners, L.P. , 817 A.2d 160 (Del. 2002), noted that the Delaware Revised Uniform Limited Partnership Act does not state that fiduciary duties can be completely eliminated. The Gotham decision created uncertainty regarding the extent to which fiduciary duties could be modified. Recent amendments to the Alternative Entity Statutes clarified that the default fiduciary duties may be expanded, restricted or eliminated by provisions in a limited partnership agreement or limited liability company agreement, provided, however, that the implied contractual covenant of good faith and fair dealing may not be eliminated. Given that the implied contractual covenant of good faith and fair dealing is now a "floor" below which a partner's or member's duties cannot be contractually eliminated, the scope of the implied covenant is of great significance to the drafters of alternative entity agreements. This article discusses the parameters of implied contractual covenant of good faith and fair dealing and its anticipated application and impact in the alternative entity arena.
Empty Voting and Hidden (Morphable) Ownership: Taxonomy, Implications, and Reforms
Henry T. C. Hu and Bernard Black, 61(3):1011–1070 (May 2006)
Most American publicly held corporations have a one-share, one-vote structure, in which voting power is proportional to economic ownership. This structure gives shareholders economic incentives to exercise their voting power well and helps to legitimate managers' exercise of authority over property the managers do not own. Berle-Means' "separation of ownership and control" suggests that shareholders face large collective action problems in overseeing managers. Even so, mechanisms rooted in the shareholder vote, including proxy fights and takeover bids, constrain managers from straying too far from the goal of shareholder wealth maximization.
In the past few years, the derivatives revolution, hedge fund growth, and other capital market developments have come to threaten this familiar pattern throughout the world. Both outside investors and corporate insiders can now readily decouple economic ownership of shares from voting rights to those shares. This decoupling—which we call "the new vote buying"—is often hidden from public view and is largely untouched by current law and regulation. Hedge funds, sophisticated and largely unfettered by legal rules or conflicts of interest, have been especially aggressive in decoupling. Sometimes they hold more votes than economic ownership, a pattern we call "empty voting." That is, they may have substantial voting power while having limited, zero, or even negative economic ownership. In the extreme situation of negative economic ownership, the empty voter has an incentive to vote in ways that reduce the company's share price. Sometimes hedge funds hold more economic ownership than votes, though often with "morphable" voting rights—the de facto ability to acquire the votes if needed. We call this "hidden (morphable) ownership" because under current disclosure rules, the economic ownership and (de facto) voting ownership are often not disclosed. Corporate insiders, too, can use new vote buying techniques.
This article analyzes the new vote buying and its corporate governance implications. We propose a taxonomy of the new vote buying that unpacks its functional elements. We discuss the implications of decoupling for control contests and other forms of shareholder oversight, and the circumstances in which decoupling could be beneficial or harmful to corporate governance. We also propose a near-term disclosure-based response and sketch longer-term regulatory possibilities. Our disclosure proposal would simplify and partially integrate five existing, inconsistent share-ownership disclosure regimes, and is worth considering independent of its value with respect to decoupling. In the longer term, other responses may be needed; we briefly discuss possible strategies focused on voting rights, voting architecture, and supply and demand forces in the markets on which the new vote buying relies.
Civil Liability for Aiding and Abetting
Richard C. Mason, 61(3):1135—1182 (May 2006)
Civil liability for aiding and abetting provides a cause of action that has been asserted with increasing frequency in cases of commercial fraud, state securities actions, hostile takeovers, and, most recently, in cases of businesses alleged to be supportive of terrorist activities. The U.S. Supreme Court, in its 1994 decision in Central Bank of Denver, N.A. v. First Interstate Bank of Denver , ended decades of aiding and abetting liability in connection with federal securities actions. However, the doctrine since has flourished in suits arising from prominent commercial fraud cases, such as those concerning Enron Corporation and Parmalat, and even in federal securities cases some courts continue to impose relatively broad liability upon secondary actors. This article reviews Central Bank and its limitations, before turning to an analysis of the elements of civil liability for aiding and abetting fraud. The article then similarly identifies and analyzes the elements of liability for aiding and abetting breach of fiduciary duty, which predominantly concerns professionals, such as accountants and attorneys, that are alleged to have assisted wrongdoing by their principal. The analysis then examines aiding and abetting liability in the context of particular, frequently–occurring, factual matrices, including banking transactions, directors and officers, state securities actions, and terrorism. The article concludes by summarizing emerging principles evident from judicial decisions applying this very flexible and potent source of civil liability.
Independent Directors as Securities Monitors
Hillary A. Sale, 61(4):1375-1412 (August 2006)
This paper considers the role of independent directors of public companies as securities monitors. Rather than engaging in the debate about whether independent directors are good or bad, important or unimportant, the paper takes their existence and basic governance role as a given, focusing instead on what recent statements from Securities and Exchange Commission officials indicating an increased focus on independent directors and their role in preventing securities fraud. The paper notes that the SEC believes that independent directors are on the board to act, at least in part, as securities monitors. This securities monitor role is another aspect of the information-forcing-substance disclosure model that the SEC has used to achieve improved corporate governance. Although directors face heightened risk when they draft or sign disclosure documents, they also have an ongoing responsibility to be informed of developments within the company, ensure good processes for accurate disclosures, and make reasonable efforts to assure that disclosures are adequate. Independent directors with expertise should be involved in reviewing and, sometimes, drafting statements. All directors, however, should be fully aware of the company's press releases, public statements, and communications with security holders and sufficiently engaged and active to question and correct inadequate disclosures. In addition to defining the role of independent directors as securities monitors, the article reviews the liability independent directors might face under private causes of action and contrasts it with the SEC's enforcement powers and remedies. The article describes some of the SEC's prior statements that emphasize the role of independent directors as securities monitors and the importance of their providing both guidance and check and balance.
The Uncertain Efficacy of Executive Sessions Under the NYSE's Revised Listing Standards
Robert V. Hale II, 61(4):1413-1426 (August 2006)
This article briefly explores key issues relating to the use of non-management executive sessions under Section 303A.03 of the NYSE's revised listing standards, including the authority of the SEC to enforce such a requirement, the status of board actions taken at such meetings, and whether such sessions may result in altering the principal roles of the board and management. In this respect, the Disney derivative litigation affords an opportunity to consider the use of executive sessions in relation to these issues, as well as the business judgment rule. Moreover, Disney raises the question whether mandatory non-management executive sessions might have created a different outcome under the circumstances in the case. The article concludes with a discussion of some practical considerations for attorneys and corporate secretaries in complying with the requirement.
The Tensions, Stresses, and Professional Responsibilities of the Lawyer for the Corporation
E. Norman Veasey and Christine T. Di Guglielmo, 62(1): 1–36 (Nov. 2006)
The lawyer for the corporation—whether general counsel, subordinate in-house counsel, or outside counsel—faces tensions, stresses, and professional responsibilities that often differ from those of lawyers who represent individuals. The primary reality that must be faced is that this lawyer's client is—or should be—only the corporate entity.
This article is an attempt to highlight some of the issues that corporate counsel, directors, and managers should seek to recognize and understand. The various challenges faced by both in-house and outside lawyers representing corporations include the maintenance of professional independence, dealing with "up-the-ladder" reporting obligations, seeking to serve the client's best interests through persuasive counseling, the separation of legal and business advice, and dealing with internal investigations, to name a few.
Moreover, in the case of general counsel, special tensions arise because he or she has only one client (the general counsel's employer) and answers both to the CEO and to the board of directors. When these two "bosses" have potential differences or conflicts, the tensions placed on the general counsel may be palpable and difficult to manage consistently with the lawyer's ethical duties, advancement of corporate interests, and job security. Most general counsel are up to the task and do not take the difficulties of their challenges for granted. It is also important, in our view, that directors understand corporate counsel's roles and challenges, as well as the value that counsel brings to the board's responsibilities.
We attempt to address questions of how to establish and fulfill counsel's obligation to be independent, when to advise the corporate actors to seek outside counsel, when to go up the ladder and to summon up the courage to do the right thing. Although we have tried to survey as much of the practical learning and the literature as is reasonable for an article, we believe we have only scratched the surface.
Freezeout Doctrine: Going Private at the Intersection of the Market and the Law
Faith Stevelman, 62(3): 775–912 (May 2007)
Delaware's fiduciary doctrine governing going private transactions by controlling shareholders is presently in disarray. Controllers generally select between single step cash-out mergers and tender offers followed by short-form mergers to do these freezeouts, and they are subject to very different equitable standards depending on the format selected by the controller. Furthermore, the courts' longstanding commitment to applying strict scrutiny in the adjudication of freezeouts is in tension with the popular disfavor towards private class-action litigation. This disarray threatens minorities' interests in freezeouts and capital market values more generally. This Article reviews the foundations of freezeout doctrine and proposes that the Entire Fairness doctrine should apply as the standard of review in all freezeouts unless prior to accepting the controller's offer the target company's independent directors conducted an auction or market check to ascertain if better offers were available.
Having the Fiduciary Duty Talk: Model Advice for Corporate Officers (and Other Senior Agents)
Lyman Johnson, 63(1): 147–162 (November 2007)
Countless legal materials address the fiduciary duties of corporate directors. These include extensive decisional law, numerous institutes and continuing legal education seminars, several treatises and casebooks, and the well–known Corporate Director's Guidebook, recently released in its fifth edition. By contrast, legal materials on the fiduciary duties of corporate officers—key actors and agents in any company—are quite sparse. Case law is meager and undeveloped, with even such a baseline issue as the applicability of the business judgment rule lacking resolution. Treatises, institutes, and other legal materials frequently lump officer fiduciary duties with those of directors or treat them as an afterthought or, in many instances, overlook the subject altogether. There is no preeminent, standard reference serving as the "Corporate Officer's Guidebook."
This Article seeks to begin rectifying this glaring gap in legal literature and professional practice. Fiduciary duties as a vital component of an effective corporate governance system work on an ex ante basis—i.e., officers must be advised of such duties beforehand if such duties are to influence conduct. This Article describes the sources of legal material for deriving a succinct exposition of officer fiduciary duties and then provides suggested "model" fiduciary duty advice for lawyers to use in counseling corporate officers and other senior managers.
How Many Masters Can a Director Serve? A Look at the Tensions Facing Constituency Directors
E. Norman Veasey and Christine T. Di Guglielmo, 63(3): 761–776 (May 2008)
As business trends change and capital markets evolve, directors may face factual situations that raise new questions about the contours of directors' fiduciary duties. One increasingly common situation that presents tensions for a growing number of directors is the allegiances by individuals elected to the board by, and who may seemingly "represent," particular constituencies of the public corporation. Such "constituency directors" or "representative directors" may include, for example, directors designated by creditors, venture capitalists, labor unions, controlling or other substantial stockholders, or preferred stockholders; directors elected by a particular class of stockholders; or directors placed on the board by or at the behest of other constituencies.
We raise several questions. When a particular constituency causes one or more directors to be elected to the board, to whom or to what is that director loyal or beholden? The corporation? All the stockholders? If "yes" as to the corporation and all the stockholders, may the director give some "priority" to the views of the constituency that caused him or her to be placed on the board? Since the board must act collectively and the majority might not favor the outcome desired by the particular constituency, are these questions largely academic?
In this Article, we suggest that the existing standards of liability for breach of fiduciary duty should not change in order to account for changing circumstances. The existing standards of conduct and liability incorporate the necessary flexibility to balance the potentially competing duties of constituency directors with protection of the interests of various corporate constituencies. And if the fiduciary duty standards in corporation law are not sufficiently flexible to accommodate particular circumstances, constituents may wish to invest in an alternative entity (such as a limited liability company) governed by other law that will accommodate their needs. Or perhaps the investor may be able to effect a legally authorized change in the certificate of incorporation of the corporation to permit it to be governed more to the investor's liking.
Corporate Governance of Troubled Companies and the Role of Restructuring Counsel
D.J. (Jan) Baker, John Wm. (Jack) Butler, Jr., and Mark A. McDermott, 63(3): 855–880 (May 2008)
Officers and directors of a troubled corporate enterprise can expect to face a host of complex decisions as they attempt to restructure the corporation's affairs. These decisions may be made more difficult because officers' and directors' fiduciary duties extend to all stakeholders, including creditors, when the corporation is in the zone of insolvency. The role of corporate restructuring counsel is critical in this uncertain environment. This Article provides a comprehensive overview of recent court decisions and statutory changes relating to the fiduciary duties of officers and directors of troubled companies. It also provides practical applications of these principles to common situations that directors and officers face as they attempt to guide a troubled business toward a successful restructuring.
Consumer Arbitration: If the FAA "Ain't Broke," Don't Fix It
Alan S. Kaplinsky and Mark J. Levin, 63(3): 907–920 (May 2008)
During 2007, Congress showed significant interest in mandatory pre–dispute consumer arbitration agreements. Some in Congress focused on whether to prohibit them altogether. This Article argues that such legislation is unnecessary because the current system of consumer arbitration works well and needs no fix. The authors review case law and empirical studies showing that the current system of checks and balances in the area of consumer arbitration law is sufficiently protective of consumers' rights. These protections emanate from: (1) the Federal Arbitration Act ("FAA") itself, (2) the careful drafting of arbitration agreements, (3) the use of third–party arbitration administrators, and (4) the rigorous enforcement of the FAA by state and federal courts.
Void or Voidable?—Curing Defects in Stock Issuances Under Delaware Law
C. Stephen Bigler and Seth Barrett Tillman, 63(4): 1109-1152 (August 2008)
It is not unusual for a Delaware corporation's stock records to have omissions or procedural defects raising questions as to the valid authorization of some of the outstanding stock. Confronted with such irregularities, most corporate lawyers would likely attempt to cure the defect through board and, if necessary, stockholder ratification. However, in a number of leading cases, the Delaware Supreme Court has treated the statutory formalities for the issuance of stock as substantive prerequisites to the validity of the stock being issued, and the court has determined that failure to comply with such formalities renders the stock in question void, i.e., not curable by ratification. Unfortunately, the decisions issued by the Delaware courts have not afforded the necessary certainty to allow practitioners to decide whether a particular defect in stock issuance is a substantive defect that renders stock void or a mere technical defect that renders stock voidable. This Article analyzes the cases giving rise to this lack of clarity and proposes that the Delaware courts apply the policy underlying Article 8 of the Delaware Uniform Commercial Code to validate stock in the hands of innocent purchasers for value in determining whether stock is void or voidable.
Litigating in LLCs
Larry E. Ribstein, 64(3): 739-756 (May 2009)
One of the most important issues involving limited liability companies is the appropriate way to characterize and handle disputes among members. Courts and legislatures borrowed the derivative suit remedy from corporations and limited partnerships and applied it to LLCs without adequately considering whether this application was appropriate. In fact, this remedy is not suited to the typical business associations for which LLC statutes are designed--that is, closely held firms in which members generally participate directly in management. In this setting, the derivative remedy creates costs and complications that are unnecessary because more appropriate remedies are available, including member-authorized suits on behalf of the entity, direct suits by the injured parties, and contractual arbitration. Accordingly, the derivative suit should not be a default remedy for LLCs. More generally, this analysis provides an example of the potential risks of borrowing LLC rules from other types of business associations.
Gheewalla and the Director's Dilemma
Sabin Willett, 64(4): 1087–1104 (August 2009)
Did North American Catholic Education Programming Foundation, Inc. v. Gheewalla change anything? The Delaware Supreme Court ruled in 2007 that corporate directors owe no direct fiduciary duty to creditors in insolvency, but the bar seems to have met the case with a collective shrug, concluding that the preservation of a creditor's right to pursue derivatively on behalf of a distressed corporation a claim for breach of fiduciary duty leaves intact the "fiduciary duty to the corporate enterprise" theory that informed pre-Gheewalla advice.
This Article posits that this general view is wrong. In the vicinity of insolvency, two oft-cited principles—that a board should strive to maximize enterprise value, and that it should protect the shareholders—sometimes are in conflict. In a period where insolvency deepens, a discounted sale may maximize enterprise value, even as it cuts off a less likely, but real prospect of an equity-preserving restructure.
This Article argues that "duty to the enterprise" theory is incoherent and ignores the reality of business valuation, which is that all prospects are uncertain. The necessary consequence of Gheewalla, construed in light of other relevant authorities, is that where any business strategy may generate a return for equity holders, the board must favor that strategy and reject alternatives, even if in the board's business judgment the strategy is unlikely to succeed, and alternatives, on a risk-adjusted basis, would maximize the enterprise value.
Are Corporate Officers Advised About Fiduciary Duties?
Lyman Johnson and Dennis Garvis, 64(4): 1105–1128 (August 2009)
This Article reports the results of an empirical study of whether and how in-house corporate counsel advise corporate officers about fiduciary duties. The fiduciary duties of officers long have been neglected by courts, scholars, and lawyers, even though executives play a central role in corporate success and failure. The study's findings, organized by type of company (public or private), size, and attorney position, show several interesting patterns in advice-giving practices. For example, fewer than half of all respondents provided advice to officers below the senior-most rank. The results raise the possibility that, unlike directors who may overestimate their liability exposure, certain shortcomings in giving advice to officers may cause them to underestimate personal liability exposure and engage in more risky behavior than is desirable for the company itself. The Article also offers recommendations for improved practices in advising officers about their duties.
Report of the Task Force of the ABA Section of Business Law Corporate Governance Committee on Delineation of Governance Roles & Responsibilities
Task Force of the ABA Section of Business Law Corporate Governance Committee on Delineation of Governance Roles & Responsibilities, 65(1): 107–152 (November 2009)
Reforming the Regulation of Broker-Dealers and Investment Advisers
Arthur B. Laby, 65(2): 395–440 (February 2010)
A key component of financial regulatory reform is harmonizing the law governing broker-dealers and investment advisers. Historically, brokers charged commissions and were regulated under the Securities Exchange Act of 1934. Advisers charged asset-based fees and were subject to the Investment Advisers Act of 1940, which contains a special exclusion for brokers. In recent years, brokers have changed their compensation structure and many now market themselves as advisers, raising questions about whether they should be treated as such. The Obama Administration's 2009 white paper on regulatory reform and draft legislation call for a fiduciary duty to be imposed on brokers that provide advice. This Article explores the debate over regulating brokers and advisers, and makes four key claims. First, changes in brokers' compensation and marketing methods vitiate application of the broker-dealer exclusion and should subject brokers to the Advisers Act. Second, changes in the nature of brokerage, spurred by changes in technology, make the broker-dealer exclusion unsustainable and Congress should repeal it. The third claim is that imposing fiduciary duties on brokers is incompatible with their historical roles as dealers and underwriters. To resolve this tension, this Article suggests a compromise that enhances brokers' duties but does not hobble their ability to perform their traditional functions. Finally, regulating brokers as advisers would overburden the U.S. Securities and Exchange Commission. This Article offers alternatives to alleviate the strain.
Is Delaware's Antitakeover Statute Unconstitutional? Evidence from 1988–2008
Guhan Subramanian, Steven Herscovici, and Brian Barbetta, 65(3): 685–752 (May 2010)
Delaware's antitakeover statute, codified in Section 203 of the Delaware corporate code, is by far the most important antitakeover statute in the United States. When it was enacted in 1988, three bidders challenged its constitutionality under the Commerce Clause and the Supremacy Clause of the U.S. Constitution. All three federal district court decisions upheld the constitutionality of Section 203 at the time, relying on evidence indicating that Section 203 gave bidders a "meaningful opportunity for success," but leaving open the possibility that future evidence might change this constitutional conclusion. This Article presents the first systematic empirical evidence since 1988 on whether Section 203 gives bidders a meaningful opportunity for success. The question has become more important in recent years because Section 203's substantive bite has increased, as Exelon's recent hostile bid for NRG illustrates. Using a new sample of all hostile takeover bids against Delaware targets that were announced between 1988 and 2008 and were subject to Section 203 (n=60), we find that no hostile bidder in the past nineteen years has been able to avoid the restrictions imposed by Section 203 by going from less than 15% to more than 85% in its tender offer. At the very least, this finding indicates that the empirical proposition that the federal courts relied upon to uphold Section 203's constitutionality is no longer valid. While it remains possible that courts would nevertheless uphold Section 203's constitutionality on different grounds, the evidence would seem to suggest that the constitutionality of Section 203 is up for grabs. This Article offers specific changes to the Delaware statute that would preempt the constitutional challenge. If instead Section 203 were to fall on constitutional grounds, as Delaware's prior antitakeover statute did in 1987, it would also have implications for similar antitakeover statutes in thirty-two other U.S. states, which along with Delaware collectively cover 92% of all U.S. corporations
A Timely Look at DGCL Section 203
Eileen T. Nugent, 65(3): 753–760 (May 2010)
After Twenty–Two Years, Section 203 of the Delaware General Corporation Law Continues to Give Hostile Bidders a Meaningful Opportunity for Success
A. Gilchrist Sparks, III and Helen Bowers, 65(3): 761–770 (May 2010)
A Practical Response to a Hypothetical Analysis of Section 203's Constitutionality
Stephen P. Lamb and Jeffrey M. Gorris , 65(3): 771–778 (May 2010)
A Practical Response to a Hypothetical Analysis of Section 203's Constitutionality
Stephen P. Lamb and Jeffrey M. Gorris , 65(3): 771–778 (May 2010)
A Trip Down Memory Lane: Reflections on Section 203 and Subramanian, Herscovici, and Barbetta
Gregg A. Jarrell, 65(3): 779–788 (May 2010)
Preemption as Micromanagement
Larry Ribstein, 65(3): 789–798 (May 2010)
Is Delaware's Antitakeover Statute Unconstitutional? Further Analysis and a Reply to Symposium Participants
Guhan Subramanian, Steven Herscovici, and Brian Barbetta, 65(3): 799–808 (May 2010)
Reinterpreting Section 141(e) of Delaware's General Corporation Law: Why Interested Directors Should Be "Fully Protected" in Relying on Expert Advice
Thomas A. Uebler, 65(4): 1023–1054 (August 2010)
Directors of Delaware corporations often rely on lawyers, economists, investment bankers, professors, and many other experts in order to exercise their managerial power consistently with their fiduciary duties. Such reliance is encouraged by section 141(e) of the General Corporation Law of the State of Delaware, which states in part that directors "shall . . . be fully protected" in reasonably relying in good faith on expert advice. Section 141(e) should provide all directors of Delaware corporations a defense to liability if, in their capacity as directors, they reasonably relied in good faith on expert advice but nevertheless produced a transaction that is found to be unfair to the corporation or its stockholders, as long as the unfair aspect of the transaction arose from the expert advice. The Delaware Court of Chancery, however, has limited the full protection of section 141(e) by confining it to disinterested directors in duty of care cases. That limitation, which is not expressed in the statute, unfairly punishes interested directors who act with an honesty of purpose and reasonably rely in good faith on expert advice because it requires them to serve as guarantors of potentially flawed expert advice. This Article concludes that Delaware courts should reconsider the application and effect of section 141(e) and allow directors, regardless of their interest in a challenged transaction, to assert section 141(e) as a defense to liability in duty of care and duty of loyalty cases if they reasonably relied in good faith on expert advice.
The Uniform Statutory Trust Entity Act: A Review
Thomas E. Rutledge and Ellisa O. Habbart, 65(4): 1055–1104 (August 2010)
The Uniform Statutory Trust Entity Act, the most recent product of the National Conference of Commissioners on Uniform State Laws in the area of business entity legislation, is intended to render uniform the statutory (i.e., "business") trust across the various states. Currently, business trust legislation is widely disparate across the various states, and many of the existing statutes are at best skeletal. This Act has the objective of rendering the business trust more effective as a form of organization by addressing many issues that are typically seen in other business entity laws, while at the same time seeking to minimize both unexpected and, in certain places, undesirable results otherwise dictated by applicable trust law. This Article both reviews the workings of this new uniform act and identifies issues and deficiencies therein.
The Enforceability and Effectiveness of Typical Shareholders Agreement Provisions
Corporation Law Committee of the Association of the Bar of the City of New York, 65(4): 1153–1204 (August 2010)
Restoring the Balance of Power in Corporate Management: Enforcing an Officer's Duty of Obedience
Megan Wischmeier Shaner, 66(1): 27–60 (November 2010)
The issue of corporate officers' fiduciary duties has been a neglected area of Delaware law for over seventy years. This is surprising given the power and authority that these individuals wield over a corporation's business and affairs. The transgressions that took place at large public corporations such as Enron and WorldCom serve as reminders, even after all these years, of how officer misconduct can dramatically affect a corporation's fortunes. Following the scandals that occurred in corporate America in the beginning of the twenty–first century, as well as those that emerged in the recent financial crisis, there has been a renewed focus in certain quarters on rethinking the officer–centric model of corporate management that has come to exist.
Viewed as an effective means of achieving good corporate governance, much of the discussions surrounding increasing officer accountability pertain to the appropriate model for officer fiduciary duties and the standard of liability for such duties. This article discusses the application to officers of the duty of obedience that exists in agency law and asserts that emphasizing this duty of officers would be an effective step toward restoring the proper balance of power in corporate management. Based on the concept that certain persons are not only subject to the authority and direction of others in an organization's hierarchy, but have an affirmative duty to implement those directions, the duty of obedience exemplifies the relationship between directors and officers contemplated by corporate statutes and case law. Accordingly, this article asserts that focusing on enforcing the fiduciary duty of obedience would advance efforts to distinguish more clearly the governance responsibilities of officers from those of directors as well as increase officer accountability.
Resolving LLC Member Disputes in Connecticut, Massachusetts, Pennsylvania, Wisconsin, and the Other States Which Enacted the Prototype LLC Act
James R. Burkhard, 67(2): 405 - 434 (February 2012)
Ten states have modeled their LLC statute on the Prototype Act, prepared by a committee of the ABA Business Law Section. The Prototype Act includes unique provisions governing how LLC member disputes should be settled B intending to eliminate the need for derivative suits. The article explains the procedures, discusses interpretations of the statutory sections, and pays substantial attention to the problems which have arisen in these states when courts have applied these Prototype provisions. By analyzing the existing Prototype provisions, the article provides guidance to lawyers (and courts) litigating LLC member disputes, and recommends how states can improve their existing statutes by adopting recently proposed amendments to the Prototype Act drafted by a committee of the Business Law Section.
The Best of Both Worlds: A Fact-Based Analysis of the Legal Obligations of Investment Advisers and Broker-Dealers and a Framework for Enhanced Investor Protection
James S. Wrona, 68(1): 1 - 56 (November 2012)
A crucial debate on financial regulatory reform, affecting virtually every investor in the United States, is now taking place. The debate centers on the standards of care required of financial professionals when they provide investment advice. Two separate and markedly different regulatory regimes apply to these financial professionals: one for investment advisers and one for broker-dealers. This article discusses recent congressional initiatives related to advisers and broker-dealers, reviews existing obligations when advisers and broker-dealers provide advice to customers, and identifies regulatory gaps that need to be bridged. The level of regulatory oversight that both models receive also is explored. Finally, the article offers a framework to ensure robust investor protection and, as part of that framework, recommends that policymakers impose additional obligations on both broker-dealers and advisers to achieve truly universal standards of conduct that are in investors' best interests.
General Counsel Buffeted by Compliance Demands and Client Pressures May Face Personal Peril
E. Norman Veasey and Christine T. Di Guglielmo,68(1): 57 - 80 (November 2012)
In the "New Reality" of the world of corporate general counsel, the challenges and tensions thrust upon one holding that office have intensified exponentially. Not only does the general counsel uniquely straddle the world of business and law in giving advice to the management and directors of her client (the corporation) but also she may find herself personally in the crosshairs of regulators, prosecutors, and litigants. So, as the rhetoric and real pressures increase to target the general counsel, she must have and use the skills, balance, independence, and courage to be simultaneously the persuasive counselor for her corporate client while being attuned to the need for self-preservation. The lessons from the past targeting of general counsel and other in-house lawyers are ominous. But the quintessential general counsel, acting as both persuasive counselor and a leader in setting the corporation's ethical tone, will do the right thing and thus be prepared to deal with these challenges and tensions.
The Brouhaha Over Intra-Corporate Forum Selection Provisions: A Legal, Economic, and Political Analysis
Joseph A. Grundfest and Kristen Savelle; 68(2): 325-410 (February 2013)
Three hundred publicly traded entities have adopted intra-corporate forum selection (“ICFS”) provisions either in their charters or as bylaw amendments, often without prior stockholder approval. These provisions have been adopted in response to a sharp increase in intra-corporate litigation outside the state of incorporation. The academic literature suggests that this increase is animated by economic incentives of the plaintiffs’ bar that can be inimical to stockholder interests. ICFS provisions are an effective private ordering mechanism for addressing this trend in a manner that responsibly protects stockholder rights.
Standing at the Singularity of the Effective Time: Reconfiguring Delaware’s Law of Standing Following Mergers and Acquisitions
S. Michael Sirkin; 69(2): 429-474 (February 2014)
This article examines the doctrine of standing as applied to mergers and acquisitions of Delaware corporations with pending derivative claims. Finding the existing framework of overlapping rules and exceptions both structurally and doctrinally unsound, this article proposes a novel reconfiguration under which Delaware courts would follow three black-letter rules: (1) stockholders of the target should have standing to sue target directors to challenge a merger directly on the basis that the board failed to achieve adequate value for derivative claims; (2) a merger should eliminate target stockholders’ derivative standing; and (3) stockholders xi of the acquiror as of the time a merger is announced should be deemed contemporaneous owners of claims acquired in the merger for purposes of derivative standing. Following these rules would restore order to the Delaware law of standing in the merger context and would advance the important public policies served by stockholder litigation in the Delaware courts.
LLC Agreement Forms
LLCs, Partnerships and Unincorporated Entities Committee, ABA Business Law Section, 69(3): 743-798 (May 2014)
Fiduciary Society Unleashed: The Road Ahead for the Financial Sector
Edward J. Waitzer and Douglas Sarro, 69(4): 1081-1116 (August 2014)
Informational asymmetries, misaligned incentives and artificially elongated chains of intermediation have created a disconnect between the financial sector and the “real economy” that is detrimental to the public interest. Courts and regulators are increasingly intervening to break the cycle. We argue that fiduciary law offers a conceptual framework both for understanding and responding to this trend, and that the financial sector, rather than waiting for this trend to develop and reacting to new rules in a piecemeal way, should be proactive and try to shape the way in which this trend develops. We describe some elements of what such an approach might look like, and consider how regulators and political institutions can encourage financial institutions to adopt this approach, and in so doing support a broader transition to a more sustainable economy.
The Evolving Role of Special Committees in M&A Transactions: Seeking Business Judgment Rule Protection in the Context of Controlling Shareholder Transactions and Other Corporate Transactions Involving Conflicts of Interest
Scott V. Simpson and Katherine Brody, 69(4): 1117-1146 (August 2014)
Special committees of independent, disinterested directors have been widely used by corporate boards to address conflicts of interests and reinforce directors’ satisfaction of their fiduciary duties in corporate transactions since the wave of increased M&A activity in the 1980’s. In 1988, The Business Lawyer published an article titled The Emerging Role of the Special Committee by one of this article’s co-authors, examining the emerging use of special committees of independent directors in transactions involving conflicts of interest. At that time, the Delaware courts had already begun to embrace the emergent and innovative mechanism for addressing corporate conflicts. Now, after over thirty years of scrutiny by the Delaware courts, it is clear that the special committee is a judicially recognized (and encouraged) way to address director conflicts of interest and mitigate litigation risk. This article will examine the role of the special committee in the context of conflict of interest transactions, with a particular focus on transactions involving a change of control or a controlling stockholder, from a U.S. perspective (in particular, under the laws of the State of Delaware), and will briefly consider international applications of the concepts discussed. To this end, this article will examine recent case law developments and compare the special committee processes at the heart of two high-profile Delaware decisions, and, finally, provide guidance to corporate practitioners on the successful implementation of a special committee process.
Massey Prize for Research in Law, Innovation, and Capital Markets Symposium—Foreword
70(2): 319-320 (Spring 2015)
Financial Innovation and Governance Mechanisms: The Evolution of Decoupling and Transparency
Henry T. C. Hu; 70(2): 347-406 (Spring 2015)
Financial innovation has fundamental implications for the key substantive and information-based mechanisms of corporate governance. “Decoupling” undermines classic understandings of the allocation of voting rights among shareholders (via, e.g., “empty voting”), the control rights of debtholders (via, e.g., “empty crediting” and “hidden interests”/ “hidden non-interests”), and of takeover practices (via, e.g., “morphable ownership” to avoid section 13(d) disclosure and to avoid triggering certain poison pills). Stock-based compensation, the monitoring of managerial performance, the market for corporate control, and other governance mechanisms dependent on a robust informational predicate and market efficiency are undermined by the transparency challenges posed by financial innovation. The basic approach to information that the SEC has always used—the “descriptive mode,” which relies on “intermediary depictions” of objective reality—is manifestly insufficient to capture highly complex objective realities, such as the realities of major banks heavily involved with derivatives. Ironically, the primary governmental response to such transparency challenges—a new system for public disclosure that became effective in 2013, the first since the establishment of the SEC—also creates difficulties. This new parallel public disclosure system, developed by bank regulators and applicable to major financial institutions, is not directed primarily at the familiar transparency ends of investor protection and market efficiency.
As starting points, this Article offers brief overviews of: (1) the analytical framework developed in 2006−2008 for “decoupling” and its calls for reform; and (2) the analytical framework developed in 2012−2014 reconceptualizing “information” in terms of three “modes” and addressing the two parallel disclosure universes.
As to decoupling, the Article proceeds to analyze some key post- 2008 developments (including the status of efforts at reform) and the road ahead. A detailed analysis is offered as to the landmark December 2012 TELUS opinion in the Supreme Court of British Columbia, involving perhaps the most complicated public example of decoupling to date. The Article discusses recent actions on the part of the Delaware judiciary and legislature, the European Union, and bankruptcy courts—and the pressing need for more action by the SEC. At the time the debt decoupling research was introduced, available evidence as to the phenomenon’s significance was limited. This Article helps address that gap.
As to information, the Article begins by outlining the calls for reform associated with the 2012−2014 analytical framework. With revolutionary advances in computer- and web-related technologies, regulators need no longer rely almost exclusively on the descriptive mode rooted in intermediary depictions. Regulators must also begin to systematically deploy the “transfer mode” rooted in “pure information” and the “hybrid mode” rooted in “moderately pure information.” The Article then shows some of the key ways that the new analytical framework can contribute to the SEC’s comprehensive and long-needed new initiative to address “disclosure effectiveness,” including in “depiction-difficult” contexts completely unrelated to financial innovation (e.g., pension disclosures and high technology companies). The Article concludes with a concise version of the analytical framework’s thesis that the new morphology of public information—consisting of two parallel regulatory universes with divergent ends and means—is unsustainable in the long run and involve certain matters that need statutory resolution. However, certain steps involving coordination among the SEC, the Federal Reserve, and others can be taken in the interim.
Financial Advisor Engagement Letters: Post-Rural/Metro Thoughts and Observations
Eric S. Klinger-Wilensky and Nathan P. Emeritz, 71(1): 53-86 (Winter 2015/2016)
The liability of RBC in last year’s In re Rural/Metro decision was derivative of several breaches of fiduciary duty by the Rural/Metro directors, including those directors’ failing “to provide active and direct oversight of RBC.” In discussing that failure, the Court of Chancery stated that a “part of providing active and direct oversight is acting reasonably to learn about actual and potential conflicts faced by directors, management and their advisors.” In the year since Rural/Metro, there has been an ongoing discussion—in scholarly and trade journals, courtrooms and the marketplace—regarding how, if at all, the process of vetting potential financial advisor conflicts should evolve. In this article, we set out our belief that financial advisor engagement letters are an efficient (although admittedly not the only) tool to vet potential conflicts of a financial advisor. We then discuss four contractual provisions that, we believe, are helpful in providing the active and direct oversight that was found lacking in Rural/Metro.
Anti-Primacy: Sharing Power in American Corporations
Robert B. Thompson, 71(2): 381-426 (Spring 2016)
Prominent theories of corporate governance frequently adopt primacy as an organizing theme. Shareholder primacy is the oldest and most used of this genre. Director primacy has grown dramatically, presenting in at least two distinct versions. A variety of alternatives have followed—primacy for CEOs, employees, creditors. All of these theories cannot be right. This article asserts that none of them are. The alternative developed here is one of shared power among the three actors named in corporations statutes with judges tasked to keep all players in the game. The debunking part of the article demonstrates how the suggested parties lack legal or economic characteristics necessary for primacy. The prescriptive part of the article suggests that we can better understand the multiple uses of primacy if we recognize that law is not prescribing first principles for governance of firms, but rather providing a structure that works given the economic and business environment in place for modern corporations where separation of function and efficiencies of managers provide the starting point. Thus, the familiar statutory language putting all power in the board must be read against the reality of the discontinuous nature of board (and shareholder) involvement in governance. Corporate governance documents of the largest American corporations, as discussed in the article, are consistent with this reality, assigning management to officers and using verbs like oversee, review, and counsel as the director functions. The last part examines dispute resolution and the role of judges in such a world, with a particular focus on the shareholder/director boundary. At this boundary there are two distinct judicial roles, the traditional role focusing on use of fiduciary duty to check conflict and other director incapacity and the less-recognized role of protecting shareholder self-help. In this more modern context shareholders, because of market and economic developments, are able to effectively participate in governance in a way that was not practical three decades ago, when the key Delaware legal doctrines were taking root. What is particularly interesting here is how courts, commentators, and institutional investors act in a way that is consistent with a shared approach to power, as opposed to the primacy of any of the theories initially suggested.
Securing Our Nation’s Economic Future: A Sensible, Nonpartisan Agenda to Increase Long-Term Investment and Job Creation in the United States
Leo E. Strine, Jr., 71(4): 1081-1112 (Fall 2016)
These days it has become fashionable to talk about whether the incentive system for the governance of American corporations optimally encourages long-term investment, sustainable policies, and therefore creates the most long-term economic and social benefit for American workers and investors. Many have come to the conclusion that the answer to that question is no. As these commentators note, the investment horizon of the ultimate source of most equity capital—human beings who must give their money to institutional investors to save for retirement and college for their kids—is long. That horizon is much more aligned with what it takes to run a real business than that of the direct stockholders, who are money managers and are under strong pressure to deliver immediate returns at all times. Americans want corporations that are focused on sustainable wealth and job creation. But there is too little talk accompanied by a specific policy agenda to address that incentive system.
This Article proposes a genuine, realistic agenda that would better promote a sustainable, long-term commitment to economic growth in the United States. This agenda should not divide Americans along party lines. Indeed, most of the elements have substantial bipartisan support. Nor does this agenda involve freeing corporate managers from accountability to investors for delivering profitable returns. Rather, it makes all those who represent human investors more accountable, but for delivering on what most counts for ordinary investors, which is the creation of durable wealth by socially responsible means.
The fundamental elements of this strategy to promote long-term American competitiveness include: (i) tax policy that discourages counterproductive behavior and encourages investment and work; (ii) investment policies to revitalize our infrastructure, address climate change, create jobs, and close our deficit; (iii) reforming the incentives of and enhancing the fiduciary accountability of institutional investors; (iv) reducing the focus on quarterly earnings estimates and improving the quality of information provided to investors; and (v) an American commitment to an international level playing field to reduce incentives to offshore jobs, erode the social safety net, and pollute the planet.
The Legality of Opportunistically Timing Public Company Disclosures in the Context of SEC Rule 10b5-1
Allan Horwich, 71(4): 1113-1150 (Fall 2016)
Commentators have discovered that executives who engage in securities transactions purportedly under the shield of a Rule 10b5-1 Plan, so that their trades do not constitute unlawful insider trading, achieve abnormal returns. There is speculation that these returns may be achieved by influencing the timing of corporate disclosures, so that, for example, bad news is withheld at the corporate level until after a Plan sale occurs.
This Article concludes that so long as this delay in disclosure does not violate an SEC mandated disclosure requirement, Rule 10b-5 is not violated, and the SEC could not expand Rule 10b-5 to reach disclosure timing of this type. The Article also addresses the application of the common law to disclosure timing. The use of corporate information to time corporate disclosure for a personal benefit, to achieve a more favorable outcome in personal securities trading pursuant to a Plan, may be a breach of duty under the corporate common law of some states, including Delaware, applying established principles of the common law of insider trading. It is unlikely, if not impossible, however, that state regulatory authorities could or would pursue such conduct.
If remedial action is needed to discourage, and effectively preclude, disclosure timing, it should be in the nature of SEC mandated disclosures of information regarding Rule 10b5-1 Plans, something the SEC proposed more than ten years ago and then abandoned without explanation, and the exclusion of those who engage in disclosure timing from the benefits of Rule 10b5-1 by amending that rule itself.
The Case Against Fiduciary Entity Veil Piercing
Mohsen Manesh; 72(1): 61-100 (Winter 2016/2017)
The doctrine of USACafes holds that whenever a business entity (a “fiduciary entity”) exercises control over and, therefore, stands in a fiduciary position to another business entity (the “beneficiary entity”), those persons exercising control, whether directly or indirectly, over the fiduciary entity (the “controller(s)”) owe a fiduciary duty to the beneficiary entity and its owners. Focusing on control as the defining element, courts have applied this far-reaching doctrine across all statutory business forms—including corporations, limited partnerships, and limited liability companies—and through successive tiers of parent-subsidiary entity structure to assign liability to the individuals who ultimately exercise control over an entity. In this respect, USACafes enables what two prominent business law jurists have aptly described as “a particularly odd pattern of routine veil piercing.”
This article argues that USACafes is a needless doctrine that stands in conflict with other, more fundamental precepts of law and equity. Accordingly, when presented with the opportunity, the courts of Delaware and other jurisdictions should reject its holding. Instead, the law ought to respect the fiduciary entity for what it is: a legal person separate and apart from its owners and controllers. If the limited liability veil of a fiduciary entity is to be pierced, then it should be under the more rigorous legal standard that courts have traditionally applied in veil-piercing cases.
Public Company Virtual-Only Annual Meetings
Lisa A. Fontenot, 73(1): 35-52 (Winter 2017/2018)
Public companies traditionally hold annual shareholder meetings using a formal in-person format. Some companies have more recently supplemented the meeting with audio or video streaming and are now adding an electronic component to a physical meeting to allow for remote participation, commonly referred to as a “hybrid meeting.” A relatively small but fast-growing number of companies are holding their annual shareholder meetings on an electronic-only basis with no physical meeting, known as a “virtual-only meeting.” This article discusses the legal landscape for virtual-only meetings, briefly reviews the history of the practice, and explores the controversy they present with certain institutional investors and activists. Its objective is to provide an initial roadmap of legal and practical considerations for companies considering virtualonly shareholders meetings.
Reconsidering Stockholder Primacy in an Era of Corporate Purpose
David J. Berger, 74(3) 659-676 (Summer 2019)
Ideology matters. Since the 1980s stockholder primacy has been the dominant ideology shaping corporate law. As a result, case law, director conduct, and our understanding of “best governance practices” have all been viewed under a single prism: how do these rules impact stockholder value? Even the recent debate over corporate purpose has largely been limited to stockholders, directors, and (of course) academics. Excluded from the debate are the vast majority of the population that owns little or no stock, as well as other corporate stakeholders such as employees and communities. This article considers how the discussion of corporate purpose is limited by stockholder primacy, and how a true debate over corporate purpose may require a reconsideration of the dominant ideology over stockholder purpose.
The Shifting Sands of Conflict of Interest Standards: The Duty of Loyalty Meets the Real World with Questions of Process and Fairness
Stuart R. Cohn, 74(4): 1077-1104 (Fall 2019)
Standards governing the validity of conflict-of-interest transactions by corporate directors or others in dominant positions have significantly evolved from the early days of strict judicial condemnation to the current statutory provisions. These provisions place great faith in and emphasis on the judgment of disinterested directors or shareholders. This evolution has not been consistent among states, given that substantial variations exist regarding both statutory provisions and judicial interpretations. To illustrate the variations, this article examines and compares the Delaware and Model Business Corporation Act standards. The variations reflect the concerns that arise when a director’s fiduciary duty of loyalty conflicts with the realities and demands of the commercial world. This article examines the evolution of conflict-of-interest standards and existing variations in light of two fundamental issues: (i) whether the combination of statutory and fiduciary standards obligates directors to obtain advance approval of conflict transactions and (ii) the capacity of shareholders to challenge conflict transactions on the grounds of fairness to the corporation, even after board or shareholder approval. The article concludes that statutory and fiduciary standards obligate directors to obtain advance approval of conflict transactions and provides recommendations for addressing these two issues in a manner consistent with statutory provisions and fiduciary standards.
Confronting the Problem of Fraud on the Board
Joel Edan Friedlander; 75(1): 1441-1494 (Winter 2019-2020)
Recent precedents make it difficult to challenge transactions approved by a board of directors and a stockholder majority. When should such cases be filed, proceed beyond the pleading stage, and prevail? My answer is that judicial intervention should remedy and detertortious misconduct that corrupts board decision-making (i.e., misconduct that the Delaware Supreme Court has called “illicit manipulation of a board’s deliberative processes” or “fraud upon the board”). Commission of fraud on the board is an omnipresent temptation for self-interested controllers, activist stockholders, officers, financial advisors, and their legal counsel. Fraud can be used to put a company in play, steer a sale process toward a favored bidder, suppress the sale price to a controller, or make a favored bid look more attractive.
Interview with Marty Lipton
Jessica C. Pearlman; 75(2): 1709-1724 (Spring 2020)
In September of 2019, after wrapping up meetings of the Mergers and Acquisitions (“M&A”) Committee of the Business Law Section of the American Bar Association (“ABA”), I took the train from Washington, D.C. to New York City to meet with Marty Lipton—the well-known founder of Wachtell, Lipton, Rosen & Katz—in a conference room at his firm. It was perfect timing to have this conversation with Mr. Lipton, given recent developments relating to corporate views on the constituencies corporations may take into account in their decision-making.
Loss Causation and the Materialization of Risk Doctrine in Securities Fraud Class Actions
Richard A. Booth; 75(2): 1791-1814 (Spring 2020)
In the context of a claim for securities fraud under SEC Rule 10b-5, most federal circuit courts have ruled or recognized that loss causation can be proven by an event that demonstrates an earlier statement by a defendant company to be false. In other words, corrective disclosure need not take the form of speech. Rather, a statement can be shown to be false by the materialization of a risk that was concealed by the company, and investors can be compensated for any losses they suffer as a result. Although this doctrine is well established, its ultimate effect is to overcompensate investors, thus encouraging excessive securities litigation and chilling voluntary disclosure.
Dodge v. Ford Motor Co. at 100: The Enduring Legacy of Corporate Law’s Most Controversial Case
Michael J. Vargas, 75(3): 2103-2122 (Summer 2020)
This article examines Dodge v. Ford on its 100th anniversary. In Dodge v. Ford, the Michigan Supreme Court held that a business corporation is organized for the profit of its shareholders, and the directors must operate it in service to that end. Despite the fact that Dodge v. Ford is rarely cited in judicial opinions, the case continues to spark controversy in legal scholarship. There is little justification for this scholarly attention because the factual basis is little more than a caricature of Henry Ford, and subsequent developments in corporate law have all but eviscerated the precedential value of the case. Rather, the legacy of Dodge v. Ford may simply be that it serves as a convenient talisman, standing for the one sentence anyone actually cares about and rolled out with each new battle in the war between shareholder profit maximization and corporate social responsibility.
The Paradox of Delaware’s “Tools at Hand” Doctrine: An Empirical Investigation
James D. Cox, Kenneth J. Martin, and Randall S. Thomas 75(3): 2123-2172 (Summer 2020)
Much has been written on the subject of abusive shareholder litigation. The last decade has witnessed at first an increase and then a dramatic spike in such suits, primarily suits filed in connection with mergers and acquisitions. Delaware courts are known for not just their deep experience in corporate lawsuits but as being doctrinal innovators. One such innovation occurred in Rales v. Blasband, 634 A.2d 927 (Del. 1993), establishing the “tools at hand” doctrine, whereby, before considering whether to grant a motion to dismiss, the court admonishes the shareholder to resort to inspection rights accorded by the Delaware General Corporation Law so as to gather facts necessary for the complaint to survive the pretrial motion.