Previously, I posted about Margaret Blair’s paper on concession theory, where she argued that the state played an integral role in the development of the corporate form, disputing those who argue that corporations could be somewhat replicated via private contracting. 

The latest entry in this genre is a new paper by Taisu Zhang and John Morley, The Modern State and the Rise of the Business Corporation.  They adopt a somewhat narrower definition of corporation to mean something like a large, publicly traded, limited liability entity, and argue that its rise is necessarily linked to the development of a state apparatus capable of recognizing and enforcing the rights of disparate investors, including the development of a uniform, professionalized court system.  They make their argument through a series of cross-cultural case studies, the most fascinating (and convincing) of which is 19^th and early 20^th century China.  According to the paper, at this time, China’s economy had grown to the point where it needed something like the corporate form, and corporations were in fact statutorily authorized, but China’s weak central state meant that there were few takers.  It wasn’t until the middle of the 20^th century that China had sufficiently rebuilt its national government to make the corporate form more attractive.

Anyway, if this kind of historical analysis is your thing, Zhang & Morley’s paper offers a unique new analysis.  Here is the abstract:

This article argues that the rise of the modern state was a necessary condition for the rise of the business corporation. A typical business corporation pools together a large number of strangers to share ownership of residual claims in a single enterprise with guarantees of asset partitioning. We show that this arrangement requires the support of a powerful state with the geographical reach, coercive force, administrative power, and legal capacity necessary to enforce the law uniformly among the corporation’s various owners. Other historical forms of rule enforcement—customary law or commercial networks like the Law Merchant—are theoretically able to support many forms of property rights and contractual relations, but not the business corporation. Strangers cannot cooperate on the scale and legal complexity of a typical corporation without a functionally modern state and legal apparatus to enforce the terms of their bargain. In contrast, social acquaintances operating within a closely-knit community could, in theory, enforce corporate charters without state assistance, but will generally not want to do so due to the institutional costs of asset partitioning in such communities.

We show that this hypothesis is consistent with the experiences of six historical societies: late Imperial China, the 19th century Ottoman Empire, the early United States, early modern England, the late medieval Italian city states, and ancient Rome. We focus especially on the experience of late Imperial China, which adopted a modern corporation statute in response to societal demand, but failed to see much growth in the use of the corporate form until the state developed the capacity and institutions necessary to uniformly enforce the new law. Our thesis complicates existing historical accounts of the rise of the corporation, which tend to emphasize the importance of economic factors over political and legal factors and view the state as a source of expropriation and threat rather than support. Our thesis has extensive implications for the way we understand corporations, private law, states, and the nature of modernity.

Dear BLPB Readers,

Great news!!! A Symposium on The Changing Faces of Business Law and Sustainability is being held this Friday and Saturday!!!  This Symposium is being hosted by the Business and Human Rights Initiative at the University of Connecticut, the Center for the Business of Sustainability, Smeal College of Business, Penn State University, the College of Business at Oregon State University, and the American Business Law Journal.  All are welcome!  I encourage interested readers to register and attend all or part of the event.  The Symposium schedule is here.  I’m grateful to be an invited participant and am really looking forward to the event and to discussing Derivatives and ESG!  Hope to (virtually) see many of you there!     

Dear BLPB Readers:

For those of you who missed Vice Chancellor Travis Laster’s stellar talk on “Big Law Ethics” this past Thursday or would like access to a recording of the talk, here is a link.   

I am so amused by this brief opinion in Manti Holdings v. The Carlyle Group.

The case is a continuation of Manti Holdings, LLC v. Authentix Acquisition Co.  There, as many of you know, the Delaware Supreme Court held that a shareholder agreement among sophisticated investors in a private company could waive appraisal rights associated with a merger.

Well, the same shareholders who sought appraisal are now instead suing for breach of fiduciary duty in connection with the merger, and the defendants argued that the same shareholder agreement not only waived appraisal rights, but also waived the right to sue for breach of fiduciary duty.  We know, of course, that you cannot waive fiduciary duties in corporate constitutive documents; the question for VC Glasscock was whether you can waive them in personally-negotiated shareholder agreements.  Glasscock held that he did not need to reach that question, because even if such waiver was possible, the agreement here was not clear about it. 

But his reasoning is what fascinates me.

The agreement required that shareholders “consent to and raise no objections against such transaction,” i.e., the merger, thus raising the question whether an action for fiduciary breach is the equivalent of not consenting, and raising an objection. 

Glasscock concluded it was not, in part because the agreement delineated the types of actions that would be deemed objections and nonconsents (such as voting against the deal, and seeking appraisal), and waiver of fiduciary duties was not on the list.  As he put it:

Had the drafters desired to eliminate fiduciary duties, they could have similarly enumerated such an explicit waiver. They did not. The Defendants attempt to sidestep this choice by arguing that Section 3(e) does not waive the fiduciary duties themselves, it just waives claims for fiduciary duty breaches regarding a Company Sale.  That, I admit, is a distinction too fine for my legal palate. A right without an enforcement mechanism is an empty right; without the Authentix stockholders’ ability to police fiduciary duty breaches, the fiduciary duties owed to them would be illusory.

I mean, I don’t disagree, but aren’t Delaware fiduciary duties literally built on the concept that the standard of conduct is different than the standard of review?  For example, in Frederick Hsu Living Trust v. ODN Holding Corporation, 2017 WL 1437308 (Del. Ch. Apr. 24, 2017), the court said:

When determining whether directors have breached their fiduciary duties, Delaware corporate law distinguishes between the standard of conduct and the standard of review.  The standard of conduct describes what directors are expected to do and is defined by the content of the duties of loyalty and care. The standard of review is the test that a court applies when evaluating whether directors have met the standard of conduct.

The distinction matters because the standard of review is more forgiving of directors than the standard of conduct, see Chen v. Howard-Anderson, 87 A.3d 648 (Del. Ch. 2014), which as a practical matter means that some actions by directors are fiduciary breaches without any remedy at all.

But Glasscock was not finished.  He then went on to say that “the language waives objections to the Sale itself; it does not waive objections to fiduciary duty breaches made in connection with the Sale.”

Which is completely logical!  And completely contrary to the entire Corwin line of cases, which treat a vote in favor of a transaction as the equivalent of a waiver of claims for fiduciary breach!  Which is exactly what scholars have been saying for years.  See, e.g., James D. Cox, Tomas J. Mondino, & Randall S. Thomas, Understanding the (Ir)relevance of Shareholder Votes on M&A Deals, 69 Duke L.J. 503 (2019).

In any event, I suppose none of that matters because despite claiming he would not do the thing, Glasscock then kind of went and did the thing.  See footnote 45:

Finding such waiver [of duty] effective is a proposition that would blur the line between LLCs and the corporate form and represent a departure from norms of corporate governance, I note, even under the limited circumstances here, described above.

So, you know.  Funny case.

Robert Miller has posted How Would Directors Make Business Decisions Under a Stakeholder Model? on SSRN (here).  The abstract:

Strong forms of the stakeholder model of corporate governance hold that, in making business decisions, directors should consider the interests of all corporate constituencies (employees, customers, suppliers, shareholders, etc.) in such a way that directors may sometimes decide to transfer value to a non-shareholder constituency even though doing so produces no net benefit for shareholders even in the long-term. This article makes four main points about the stakeholder model. First, although its advocates often speak as if the model placed all corporate constituencies on a par, in fact the model uniquely disadvantages shareholders: since the claims of other constituencies arise in contract or by law, directors have no power to invade these claims for the benefit of shareholders; hence, business decisions made under a stakeholder model will often transfer value from shareholders to other constituencies but never from other constituencies to shareholders. Second, although critics of the stakeholder model have long argued that the model provides no definite standard by which directors may decide what to do in particular cases, this greatly understates the point. In fact, the stakeholder model leaves business decisions radically indeterminate, for it includes no normative criteria by which any business decision could be judged to be any better or any worse than any other. Third, some normative criteria that can be added to the stakeholder model and might seem to solve this problem in fact fail to do so; this includes criteria based on Kaldor-Hicks efficiency, on hypothetical bargains among the corporate constituencies, or even on Delaware doctrines about allocating merger consideration among classes of shareholders. Finally, the article notes a surprising point of agreement between advocates of stakeholderism and its critics, viz., that decisions made under a stakeholder model would be essentially political in nature. That is, they will be based not on rational, normative considerations but on the varying abilities of different constituencies to pressure or lobby the directors—i.e., business decisions become essentially rent-seeking contests.