Tag: Delaware articles


Regulatory Competition and the Market for Corporate Law

Ofer Eldar is a doctoral candidate at the Yale School of Management. This post is based on an article authored by Mr. Eldar and Lorenzo Magnolfi, a doctoral candidate at Yale Economics Department. This post is part of the Delaware law series; links to other posts in the series are available here.

There is a longstanding debate in corporate law and governance over the merit of competition for corporate laws. “Race to the top” scholars point to the fact that Delaware, the state where most public firms are incorporated, has laws that are highly responsive to business and has been a laggard in enacting anti-takeover statutes. Proponents of the “race to the bottom” have shown that firms are more likely to incorporate in their home state when that state has adopted more anti-takeover statutes. More recently, they have highlighted the recent rise of firm incorporations in Nevada, following a 2001 Nevada law, which exempts managers from liability for breaching their fiduciary duties. Finally, skeptics of competition argue that it is impossible for states to compete with Delaware by simply replicating its laws, and that relatively few firms reincorporate from one state to another.

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Rural/Metro and Disclosure Settlements

Joel E. Friedlander is President of Friedlander & Gorris, P.A. This post relates to Mr. Friedlander’s recent article, How Rural/Metro Exposes the Systemic Problem of Disclosure Settlements. This post is part of the Delaware law series; links to other posts in the series are available here.

There is no aspect of merger and acquisitions litigation more pervasive or significant than the disclosure settlement. It is the mechanism by which stockholder claims are conclusively resolved for approximately half of all public company acquisitions greater than $100 million. [1] For that half of major acquisitions, the contracting parties and their directors, officers, affiliates, and advisors receive a court-approved global release of known and unknown claims relating to the merger in exchange for supplemental disclosures to stockholders prior to the stockholder vote. [2] The supplemental disclosures have no impact on stockholder approval of the merger. Nevertheless, in almost every such case, class counsel for the stockholder plaintiff receives a court-approved six-figure fee award for having conferred a benefit on the stockholder class.

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Corporate Law and The Limits of Private Ordering

James D. Cox is the Brainerd Currie Professor of Law of Duke Law School. The following post is based on an article forthcoming in the Washington University Law Review. This post is part of the Delaware law series; links to other posts in the series are available here. Related research from the Program on Corporate Governance includes Private Ordering and the Proxy Access Debate by Lucian Bebchuk and Scott Hirst (discussed on the Forum here).

Solomon-like, the Delaware legislature in 2015 split the baby by amending the Delaware General Corporation Law to authorize forum-selection bylaws and to prohibit charter or bylaw provisions that would shift to the plaintiff defense costs incurred in connection with shareholder suits that were not successfully concluded. The legislature acted after the Boilermakers Local 154 Retirement Fund. v. Chevron Corp ATP Tour, Inc. v. Deutscher Tennis Bund, broadly empowered the board vis-à-vis the shareholders through the board’s power to amend the bylaws. Repeatedly the analysis used by each court referenced the contractual relationship the shareholders had through the articles of incorporation and the bylaws with their corporation. The action of the Delaware legislation hardly puts the important question raised by each opinion to bed: are there limits on the board of directors to act through the bylaws to alter the rights shareholders customarily enjoy? Stated differently, can the board of directors’ authority to amend the bylaws extend to changing both the procedural and substantive relationship shareholders have with their corporation. In examining this question, the article, Corporate Law and The Limits of Private Ordering, develops two broad points: the shareholder’s relationship is more than just a contract and, even if the relationship was contractual, bedrock contract law does not support the results reached in Boilermakers and ATP Tour, Inc. In conclusion, the article also uncovers an issued overlooked in the debate over the relative prerogatives of shareholders and the board of directors, namely that bylaws proposed by the board of directors carry a strong presumption of propriety whereas those proposed by shareholders do not.

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Banker Loyalty in Mergers and Acquisitions

Andrew F. Tuch is Associate Professor of Law at Washington University School of Law. This post is based on an article authored by Dr. Tuch, and is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

As recent decisions of the Delaware Court of Chancery illustrate, investment banks can face conflicts of interest in their role as advisors on merger and acquisition (“M&A”) transactions. In a trilogy of recent decisions—Del Monte[1] El Paso [2] and Rural Metro [3]—the court signaled its concern, making clear that potentially disloyal investment banking conduct may lead to Revlon breaches by corporate directors and even expose bank advisors (“M&A advisors”) themselves to aiding and abetting liability. But the law is developing incrementally, and uncertainty remains as to the proper obligations of M&A advisors and the directors who retain them. For example, are M&A advisors in this context properly regarded as fiduciaries and thus obliged to act loyally toward their clients; gatekeepers, and thus expected to perform a guardian-like function for investors; or simply arm’s length counterparties with no other-regarding duties? [4] The Chancery Court in Rural Metro potentially muddied the waters by labelling M&A advisors as gatekeepers and—in an underappreciated part of its opinion—by also suggesting they act consistently with “established fiduciary norms.” [5]

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Deterring Frivolous Stockholder Suits Without Closing Doors to Legitimate Claims

The following post comes to us from Mark Lebovitch and Jeroen van Kwawegen of Bernstein Litowitz Berger & Grossmann LLP. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

The Delaware Supreme Court’s May 8, 2014 Opinion in ATP Tour, Inc. v. Deutscher Tennis Bund (“ATP”) marked a sudden and potentially transformative moment in the relationship among corporate boards, their stockholders, and the Delaware legal system. The article, Deterring Frivolous Stockholder Suits Without Closing Doors to Legitimate Claims, asserts that the “nuclear option” of allowing boards of public companies to employ fee-shifting bylaws against stockholders whose interests they are supposed to represent is poor policy and departs from well-established legal principles. Accordingly, the authors support the March 6, 2015 proposal from the Delaware Corporation Law Council to legislatively prohibit the use of fee-shifting provisions in the public company context. Rather than simply criticize ATP and support the legislative proposal, we propose a carefully tailored answer to frivolous litigation, which mitigates abuses, conforms to longstanding legal principles, and preserves the benefits of board accountability and meritorious stockholder litigation.

First, the article argues that directors must not be permitted to use their corporate and fiduciary powers as a weapon to avoid accountability to the stockholders whose assets they manage. The authors detail the policy and legal problems with the concept of allowing directors to impose fee shifting bylaws, putting in question the relationship between stockholders and boards that forms the foundation of the modern public corporation. If ATP applies to public corporations, the Delaware Supreme Court, sub silentio, reversed several bedrock principles of Delaware corporate law and upset the balance of powers between stockholders and boards that has been in existence for decades.

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Correcting Corporate Benefit: Curing What Ails Shareholder Litigation

The following post comes to us from Sean J. Griffith, T.J. Maloney Chair in Business Law at Fordham University School of Law, and is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

Sometimes the remedy is worse than the disease. This, it seems, is the implicit view of the Delaware State Bar Association’s Corporation Law Council (the “Council”) with regard to fee-shifting in shareholder litigation. The Council’s second proposal on fee-shifting, circulated in early March 2015, [1] is much like their first, circulated in May 2014 in the wake of ATP Tour v. Deutscher Tennis Bund. [2] Both would prevent corporations from seeking to saddle shareholders with the cost of shareholder litigation by means of a fee-shifting provision, whether adopted in the charter or the bylaws.

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Limited Commitment and the Financial Value of Corporate Law

The following post comes to us from Martijn Cremers, Professor of Finance at the University of Notre Dame, and Simone Sepe of the College of Law at the University of Arizona. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

For at least 40 years, a large body of literature has debated the effects of state competition for corporate charters and the value of state corporate laws. The common assumption of these studies is that interstate competition affects the way state corporate laws respond to managerial moral hazard, i.e., the agency problem arising between shareholders and managers out of the separation of ownership from control (Jensen and Meckling, 1976). Nevertheless, scholars have been sharply divided about the importance of interstate competition, and particularly whether interstate competition fosters a “race to the top” that maximizes firm value (Winter, 1977; Easterbrook and Fischel, 1991; Romano, 1985, 1993) or a “race to the bottom” that pushes states to cater to managers at the expense of shareholders (Cary, 1974; Bebchuk, 1992; Bebchuk and Ferrell, 1999, 2001).

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Forum-Selection Bylaws Refracted Through an Agency Lens

The following post comes to us from Deborah A. DeMott, David F. Cavers Professor of Law at Duke University School of Law. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

Director-adopted bylaws that affect shareholders’ litigation rights have attracted both praise and controversy. Recent bylaws specify an exclusive judicial forum for litigation of corporate-governance claims, require that shareholder claims be arbitrated, and (most controversially) impose a one-way regime of fee shifting on shareholder litigants. To one degree or another, courts have legitimated each development, while commentators differ in their assessments. My paper, Forum-Selection Bylaws Refracted Through an Agency Lens, brings into clear focus issues so far blurred in the debate surrounding these types of bylaws.

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Delaware and the Transformation of Corporate Governance

Brian Cheffins is Professor of Corporate Law at the University of Cambridge. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

The corporate governance arrangements of U.S. public companies have been transformed over the past four decades. Independent directors now dominate boards (at least numerically), activism by shareholders has become more prevalent and executive pay has become more lucrative and more performance-oriented. The changes have been accompanied by a new nomenclature—the term “corporate governance” only came into general usage in the 1970s. How and why did this transformation of corporate governance come about? Delaware and the Transformation of Corporate Governance, which is based on the 2014 Francis G. Pileggi lecture, addresses these questions by assessing Delaware’s impact on key corporate governance trends.

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Does Corporate Governance Make Financial Reports Better or Just Better for Equity Investors?

The following post comes to us from Shai Levi of the Department of Accounting at Tel Aviv University, Benjamin Segal of the Department of Accounting at Fordham University and The Hebrew University, and Dan Segal of the Interdisciplinary Center (IDC) Herzliyah and Singapore Management University. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

Financial reports should provide useful information to both shareholders and creditors, according to U.S. accounting principles. However, directors of corporations have fiduciary duties only toward equity holders, and those fiduciary duties normally do not extend to the interests of creditors. In our paper, Does Corporate Governance Make Financial Reports Better or Just Better for Equity Investors?, which was recently made publicly available on SSRN, we examine whether this slant in corporate governance biases financial reports in favor of equity investors. We show that the likelihood that firms will manipulate their reporting to circumvent debt covenants is higher when directors owe fiduciary duties only to equity holders, rather than when they owe fiduciary duties also to creditors. Covenants limit the amount of new debt that the firm issues, for example, and by that reduce bankruptcy risk, and allow creditors to avoid bankruptcy costs, and to recover more from the borrowing firm in case it approaches insolvency. When managers manipulate financial reports to circumvent these debt covenants, they transfer wealth from creditors to shareholders. Our results suggest that when corporate governance is designed to protect only equity holders, firms’ financial reports serve equity holders’ interests at the expense of other stakeholders. We find that when the legal regime requires directors to consider creditors’ interests, firms are less likely to use structured transactions designed to skirt debt covenant limits, particularly if the board of directors of the firm is independent.

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