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E-MailThis post is from Lynn A. Stout of UCLA School of Law.
Together with Iman Anabtawi, I have just issued a new article on SSRN entitled Fiduciary Duties for Activist Shareholders. The article is to be published in the Stanford Law Review, and a current draft is available here. The article was recently profiled in the Financial Times.
Fiduciary Duties for Activist Shareholders argues that corporate law seems to impose few or no fiduciary duties on minority shareholders in public corporations because historically, minority shareholders in public firms enjoyed little or no power or influence within the firm. The most important trend in corporate governance today, however, is the move toward “shareholder democracy.” Activist investors, especially hedge funds, are using their new power to pressure managers and directors into pursuing corporate transactions ranging from share repurchases, to special dividends, to the sale of assets or even the entire firm. In many cases these transactions benefit the activist while failing to benefit, or even harming, the firm and other shareholders.
Greater shareholder power should be coupled with greater shareholder responsibility. Fiduciary Duties for Activist Shareholders argues that the rules of fiduciary duty traditionally applied to officers and directors and, more rarely, to controlling shareholders, should be applied to activist minority investors as well. There is no reason to believe that newly-empowered activist shareholders are immune to the forces of greed and self-interest widely understood to tempt corporate officers and directors. Corporate law can and should adapt to this reality.
One Comment
Creating duties upon shareholders who are not ‘controlling’ but who actively assert their legal rights is a bad idea for several reasons:
1) such extension of fiduciary obligations will create a plethora of lawsuits from managements and boards seeking continued entrenchment at corporate shareholder’s expense); Truly deserving targets of change and activism will not have the independent boards to prevent wrongful use of the above.
2) The extension of fiduciary obligations as described will chill or be a deterrence to positive active ownership; Whether fiduciary lawsuits get dismissed will not be the point.- they will be filed at no personal cost to insiders but at a great cost to those shareholders needing/seeking to be active. Already today, legitimate, long-term large institutional owners choose to refrain from active ownership that trigger 13D filing obligations and issues. Again, truly deserving targets of change and activism will not have the independent boards to prevent wrongful use of the above.
3) The proposed creation of new liabilities that could attach to a shareholder if that shareholder finds it necessary to become active creates an incremental risk to shareholders that will raise the cost of all equity capital via reduced price multiples that will be priced into an investor’s buying decision for either the direct liability risk or the cost of purchasing insurance to deal with such a risk.
4) This proposal is a definitional morass that is as murky if not more so than the business judgement rule. For example,
a) when one defines minority that would have liability – how big a shareholder or is it fair to apply the rule to any size that called for an action that the Board approves?
b) “success” in obtaining implementation of action. – define “success”. More often than not the board approved action will be a compromised result.
c) “influence” action- How much did the activist really influence the Board’s decision, 10%, 50%, 80%?
A more divided shareholder base doesn’t increase success of minority activist “opportunism”. Increased shareholder apathy does not aid a minority activist. A majority is still needed to enact change and is more difficult to obtain. It is not just perception, but reality that minority shareholders have less power than directors. In only certain instances can shareholders force actions and only at the annual meeting or if allowed, a special meeting or by consent, and in all instances at least a majority and often a super-majority is required. The fact a majority is required for shareholder action is the check on the minority self-serving opportunistic behavior targeted by the paper’s authors. A majority will only be obtained with at least perceived mutuality of economic interest.
Further, any “activist agenda” item not requiring a shareholder vote ALWAYS still requires Board approval. The buck stops with the Board (and “control” shareholders) where fiduciary duty properly should rest.
The conflicts cited by the authors as support for this costly and dangerous extension of liability are rare and when they occur they are most efficiently and best addressed by disclosure. Transparency is a far more appropriate way to deal with these conflict than opening up a windfall to the legal profession of extending fiduciary duty.