Delaware Beware: Should VC and PE Lawyers Reevaluate Incorporation Strategies for Tech Firms?

When Elon Musk recently challenged the wisdom of incorporating in Delaware, it ignited a debate that resonated far beyond his own companies. His comments, following the Delaware Court of Chancery's decision in Tornetta v. Musk—which invalidated his unprecedented $55.8 billion compensation package—have led many to wonder: Are we witnessing a pivotal shift in corporate governance and the competitive landscape among states?

I have personally received numerous calls from corporate lawyers across the United States, all asking the same question: Should lawyers representing venture capital (VC) and private equity (PE) firms—who often default to recommending Delaware for incorporation—now reconsider this standard advice?

Delaware has long been the go-to jurisdiction for corporate incorporation in the U.S., not only for publicly traded companies but also, as my latest research, Incorporating Unicorns: An Empirical Analysis, reveals, for large privately held firms or “unicorns.” Yet, could recent legal developments and political debates suggest that Delaware’s dominance is no longer as unassailable as it once was? And for unicorns—privately held companies valued at over $1 billion—might this newfound uncertainty prompt a rethinking of corporate governance and state competition strategies?

The Unique Position of Unicorns in Delaware

Recent empirical data from my research reveals that a staggering 97% of unicorns are incorporated in Delaware, a concentration far higher than any other business category. This overwhelming preference gives Delaware a unique and powerful role in shaping corporate governance for these market-moving entities. For comparison, while 79% of public companies and 67% of early-stage venture-backed firms choose Delaware, only 2% of small private enterprises incorporate there. This discrepancy raises intriguing questions: Why are unicorns so uniquely attracted to Delaware? And should that attraction remain unquestioned?

Unlike smaller firms, unicorns are large enough to have a significant public impact but remain in the private domain, often resisting traditional exit strategies like an initial public offering (IPO). This distinct characteristic means that unicorns present a unique set of challenges and considerations for corporate governance and regulatory oversight. As these firms continue to grow and evolve, Delaware's role as their preferred incorporation venue will only increase in importance. However, some critics are questioning whether recent legal and political developments are prompting a reconsideration of whether Delaware is the best choice for these entities.

Delaware’s Evolving Legal and Political Landscape

In my new article, Delaware Beware, I delve into the factors that have long contributed to Delaware’s appeal as the premier jurisdiction for corporate incorporation. Its reputation has been built on business-friendly laws, the specialized Court of Chancery, and a stable legal infrastructure that provides predictability and consistency. However, the recent controversy around the Delaware Court of Chancery's recent decision in West Palm Beach Firefighters’ Pension Fund v. Moelis & Co. has been deemed controversial in corporate law circles. The Moelis decision has been interpreted by some as an indication of Delaware’s growing willingness to scrutinize corporate governance practices more closely, a shift that some see as moving away from its traditionally management-friendly stance.

In a significant development for the startup ecosystem, Delaware Governor John Carney recently signed into law a new measure that permits shareholder rights in venture-backed startups to be redefined by private “secretive” contracts. This legislation arrives at a pivotal moment, as corporate governance rapidly evolves and calls for a renewed focus on shareholder protections.

These recent developments suggest a growing debate over whether Delaware’s dominance as the preferred jurisdiction for corporate incorporation is as secure as it once seemed. As states like Nevada and Texas position themselves as competitive alternatives, it raises the question: Will Delaware's traditional strengths continue to outweigh the mounting pressures from both regulatory changes and competitive state policies?

While the proponent of the new law emphasized transparency and accountability, critics argue it could lead to increased requirements for startups to provide more detailed disclosures to shareholders. Many of these agreements may be kept secret from non-party shareholders, such as institutional investors, private equity funds and others. Delaware’s legislative action signals its intent to maintain its leading role in corporate law while adapting to the needs of modern businesses. However, there are concerns that rushed changes might undermine the state's stability and competitive edge.

While supporters believe that fiduciary duties will continue to take precedence over contractual terms, critics caution that this could overlook significant risks. Furthermore, existing Delaware precedent would seem to contradict this belief. In its 2010 case Nemec v. Shrader, the Delaware Supreme Court held that “any fiduciary claims arising out of the same facts that underlie . . . contract obligations would be foreclosed as superfluous.” If shareholders lack transparency and are unable to challenge breaches of fiduciary duties hidden under non-disclosed agreements, their rights could be rendered ineffective.

Moreover, opponents—including many leading corporate law scholars—argue that the new law represents a hasty response that bypasses the proper judicial review process. They worry that it allows companies to change governance structures and board powers without shareholder consent or oversight and creates a separate category of internal corporate claims that could be litigated under non-Delaware law.

What’s Next?

While recent moves by states like Nevada and Texas to attract corporations signal a growing ambition to challenge Delaware's dominance, I remain skeptical that they are ready to truly compete on the same level. Delaware's unique combination of a well-established legal framework, the specialized Court of Chancery, and decades of consistent case law provides a depth of experience and predictability that these newer contenders currently lack.

In addition to the stability provided by the judiciary and substantive law of Delaware, the sophistication and interconnected network of practitioners within the Delaware bar is what makes Delaware difficult to replicate for other states. Even if states like Nevada and Texas can establish a body of case law from a legal framework of a similar scale and scope to Delaware, overseen by judges of the same quality as Delaware, the institutional knowledge and interpersonal relationships that those practicing this law and in front of these courts takes decades to establish. Until Nevada and Texas can offer similar stability and legal sophistication, they are unlikely to displace Delaware as the preferred jurisdiction for corporate incorporation, especially for venture-backed startups and complex corporate structures.

In an era where corporate power dynamics are constantly shifting, Delaware's latest legislative move represents a bold stance for the startup ecosystem. As legal professionals, we must closely examine and navigate these changes to ensure we support the growth and success of innovative enterprises while safeguarding the principles of transparency and accountability that underpin good corporate governance.