Lucian Bebchuk is the James Barr Ames Professor of Law, Economics, and Finance, and Director of the Program on Corporate Governance, at Harvard Law School. This post is part of the Delaware law series; links to other posts in the series are available here.
A proposal to make broad and major changes to Delaware’s corporate law code, the DGCL, was made public last week. I understand that an effort will be made to enact the proposal, which is backed by the governor, by the end of this month. Prominent law firms have already commended the proposed legislation as “salutary” and “balancing.” As discussed below, however, this proposal raises serious concerns, and its adoption would have considerable detrimental effects on public company shareholders.
I plan to say more about the proposed legislation later on. In the meantime, however, I would like to flag several issues that discussions of the legislation should carefully consider.
1. Pushing the Delaware Courts Under the Bus?
The legislation overturns and replaces a substantial body of Delaware caselaw, including court decisions that have developed the doctrines governing conflicts by controlling shareholders, the “facts and circumstances” analysis of director independence, and the use of inspection rights to facilitate shareholder litigation. (For an account of the proposal and its background, see this recent post from Morris Nichols).
This approach deviates from Delaware’s traditional attitude toward the work of the state’s corporate law courts. Delaware officials have long taken pride in the role played by these courts and have put forward the caselaw developed by these courts as a major asset that favors Delaware incorporation. The Morris Nichols memo states that “[t]he crown jewel of the Delaware franchise is our court system and its jurisprudence” and that the “depth and breadth of judicial caselaw is a benefit to corporate planners.” Similarly, in describing the benefits of Delaware incorporation, the State of Delaware indicates on an official website that “[f]or many experienced lawyers throughout the world, the principal reasons to recommend organizing in Delaware are the Delaware courts and the body of case law developed by those courts” and that “[t]he quantity and quality of the Court of Chancery’s opinions confer a substantive advantage on Delaware business entities by providing them with a thorough and predictable body of interpretive case law.”
By contrast, passing the legislation would communicate a judgment by the Delaware legislature that (a) the Delaware courts have gotten their work wrong and developed inferior doctrines with respect to important subjects, and (b) the courts nonetheless applied these doctrines for a substantial period of time. Furthermore, enacting the proposal would also communicate the legislature’s judgment that corporate planners would be better off without the guidance and predictability provided by the body of caselaw developed on these important subjects.
Delaware players should recognize that the above attitude toward Delaware’s corporate law courts would have significant long-term costs to its ability to compete for incorporations. This is important to note because the proposal seems to be motivated by fears of an exodus by Delaware companies and a desire to induce such companies to retain their in-state incorporations. However, even from the perspective of Delaware’s interest in maintaining its leading position in the market for incorporations, in the long term, this legislation could backfire and operate to undermine Delaware’s position.
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