Delaware’s Retreat: Exploring Developing Fissures and Tectonic Shifts in Delaware Corporate Law

James D. Cox is the Brainerd Currie Professor of Law of Duke Law School and Randall S. Thomas is John S. Beasley II Chair in Law and Business at Vanderbilt Law School. This post is based on their recent paper and is part of the Delaware law series; links to other posts in the series are available here.

The 1980s is appropriately considered the Golden Age of Delaware corporate law. Within that era, the Delaware courts won international attention by not just erecting the legal pillars that frame today’s corporate governance discourse but by interjecting a fresh perspective on the rights of owners and the prerogatives of managers. Four decisions stand out within a melodious chorus of great decisions of that era—Revlon , Inc. v. MacAndrews & Forbes Holding, Inc., Weinberger v. UOP, Inc., Unocal Corp. v. Mesa Petroleum Co., and Blasius Industries, Inc. v. Atlas Corporation. We refer collectively to the decisions as the Golden Quartet and show they each had the same life cycle: first, fundamentally changing Delaware’s judicial review of important recurring questions that both delineate the obligations of managers and defining the owner-manager relationship, only to be later eviscerated with the alacrity with which they first appeared.

It is of course the nature of the common law for doctrine to be honed through subsequent decisions and such honing did initially occur in the life of each of these decisions. But it is less common for the doctrine to be abandoned or so seriously qualified as occurred with the Golden Quartet. Multiple forces in the world of corporate governance have affected directors’ and officers’ roles in the modern corporation and hence the Golden Quartet’s force. Chief among such forces are the growing prevalence of the independent director, the increased concentration of the shareholder ownership stakes, and the development of hedge fund activism, to name a few. These are easy explanations and are explanations the Delaware Supreme Court has recognized for stepping back from the earlier-established doctrines. While not disagreeing that each of these forces exists and recast the focus of the doctrine, after close analysis of the rise and fall of the Golden Quartet, we set forth some additional reasons for Delaware’s retreat from each component of the Golden Quartet.

One particularly critical development has been the recent explosion of disclosure-related deal litigation: in the past few years more than 95% of publicly disclosed mergers have attracted shareholder litigation in a wide variety of venues. Faced with this avalanche of cases, Delaware has struggled to find ways to reduce the flood to a trickle. In a fit of radical innovation, forum selection bylaws designed to funnel these cases back to the Delaware courts have been developed with strong initial judicial support that ultimately culminated in broad legislative authority. Once the mechanics for adopting those unilaterally board-approved bylaws were in place, the Delaware Chancery Court announced in In re Trulia that it would no longer approve disclosure-only settlements without a strong showing by the plaintiff of plainly material nondisclosures or omissions. The flood of disclosure-only cases quickly dropped to more manageable levels, although there was some evidence of a flight to the federal courts.

But even as these important roadblocks to shareholder deal litigation were being erected, the Delaware courts have persisted in temporizing in important ways the scope of the golden quarter of cases that so defined the 1980s. Even though they still shape all manner of corporate discourse, this paper shows that they have been hollowed by the recent jurisprudence of the Delaware Supreme Court.

Should we applaud these changes or wring our hands in despair? While some commentators have applauded these judicial moves, arguing that private enforcement of these fiduciary duties has run amok, others have pointed out that these cutbacks will weaken shareholder monitoring of corporate management and potentially increase the incidence of director misconduct.

In this paper, we seek to take a middle road. We acknowledge that the Delaware courts are weakening judicial and shareholder oversight of directors’ and officers’ fiduciary duties. However, we reason that due to doctrinal considerations overlooked in each of the Golden Quartet Delaware’s retreat was perhaps inevitable, but not entirely due to a policy shift favoring managers over shareholders. That is, each of the members of the Golden Quartet has undergone its own correction or restraint due to underexplored considerations when they were decided. Nonetheless, this corrective course has been facilitated by the growing presence of institutional activism and those shareholders’ use of Institutional Shareholder Services as a third party voting advisor service. The hand of governance has thereby replaced the lash of the Golden Quartet. Shareholder monitoring can occur in a variety of ways, and the current vitality of hedge fund activism—some would say excessively so—may provide a good justification for weakening the mechanisms for investor monitoring via litigation. We are not, however, sanguine with this state of the Delaware law. Should Delaware move to restrict hedge fund activism, we would seek to revisit the need for stronger shareholder litigation in order to insure adequate shareholder monitoring.

The complete paper is available here.

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