Tuesday, October 11, 2016

The Primacy Of Director's Duty To Stockholder Welfare

The good Professor includes an extra-credit question at the end of his post.
From Professor Bainbridge, Oct. 5:

William Galston could not be more wrong; he could try but he would not be successful
In today's WSJ, William Galston once again argues that shareholder wealth maximization is (a) not the law and (b) bad social policy. He has made this argument before and he was wrong then and he's still wrong:
[American businessmen] are all in the grip of the same misunderstanding, that their business begins and ends with maximizing shareholder value.
They may believe that this is a statutory requirement or a fiduciary duty. If so, they are mistaken. It is Milton Friedman’s theory. “There is one and only one social responsibility of business,” he wrote in “Capitalism and Freedom,” “to use its resources and engage in activities designed to increase its profits.” 
But as Cornell University law professor Lynn Stout points out, corporate law imposes no enforceable legal duty to maximize either profits or share prices. As a policy argument, Friedman’s thesis flunks key empirical tests. And it is not politically sustainable. This is the clear meaning of the 2016 presidential election.
Gallstone has become one of Stout's leading acolytes in the popular press, but constantly repeating a thesis doesn't make it right.
I have repeatedly argued that (a) shareholder wealth maximization is the law and (b) is good social policy:
Director Primacy: The Means and Ends of Corporate Governance (February 2002). Available at SSRN: http://ssrn.com/abstract=300860
In Defense of the Shareholder Wealth Maximization Norm. Washington & Lee Law Review, Vol. 50, 1993. Available at SSRN: http://ssrn.com/abstract=303780
The Bishops and the Corporate Stakeholder Debate (April 2002). Villanova Journal of Law and Investment Management. Available at SSRN: http://ssrn.com/abstract=308604
But don't just take my word for it. What's the most important state in corporate law? Delaware, you say? Congratulations, you are correct.
And who would be the most important jurist in the state of Delaware? The Chief Justice of the Delaware Supreme Court, you say? Correct again. You are on a roll.
So let's see what Chief Justice Leo Strine has to say about the subject:
Despite attempts to muddy the doctrinal waters, a clear-eyed look at the law of corporations in Delaware reveals that, within the limits of their discretion, directors must make stockholder welfare their sole end, and that other interests may be taken into consideration only as a means of promoting stockholder welfare.
Honorable Leo E. Strine, Jr., The Dangers of Denial: The Need for A Clear-Eyed Understanding of the Power and Accountability Structure Established by the Delaware General Corporation Law, 50 Wake Forest L. Rev. 761 (2015).
What part of "sole end" do folks like Stout and Galston fail to understand?
Strine continues:

[T]he finest corporate law judge of his era--and arguably the finest overall trial judge of his era--Chancellor William T. Allen ... dilated on the two major traditions in American corporate law. In that essay, Chancellor Allen gave his own reading of Dodge v. Ford Motor Co., where the Michigan Supreme Court observed that “[a] business corporation is organized and carried on primarily for the profit of the stockholders. The powers of the directors are to be employed for that end.” He explained:
Dodge v. Ford . . . reflects as pure an example as exists of the property conception of the corporation. In this conception, the corporation is seen as it is in its nineteenth century roots, as essentially a sort of limited liability partnership. The rights of creditors, employees and others are strictly limited to statutory, contractual, and common law rights. Once the directors have satisfied those legal obligations, they have fully satisfied all claims of these “constituencies.” This property view of the nature of corporations, and of the duties owed by directors, equates the duty of directors with the duty to maximize profits of the firm for the benefit of shareholders.
In another article reflecting on his judicial career, Chancellor Allen indicated that he understood Delaware law as requiring directors, when they are not subject to the duty to maximize current stock value as in Revlon, to maximize the value for (hypothetical) stockholders who have entrusted their capital to the firm indefinitely.

Chancellor Allen was not alone in interpreting Revlon as a larger statement about Delaware law. Notably, Chancellor Allen's distinguished successor, William B. Chandler III, dealt with a case redolent of Dodge v. Ford, in that a founder who controlled a corporation confessed that he was taking action to advance an end that was not that of stockholder welfare. eBay Domestic Holdings, Inc. v. Newmark is an odd case. But the part that is relevant for present purposes is relatively simple. Craig Newmark, the founder of craigslist, the online classifieds firm, said that he was not focused on “monetizing” its site because that was best for the stockholders in the long run. Rather, he contended that he was more concerned with the community of consumers of craigslist's services than with stockholder welfare. Because Newmark admitted that he was favoring the interests of another constituency over the stockholders--and not considering that constituency as an instrument to the ultimate end of stockholder welfare-- Chancellor Chandler held that Newmark and James Buckmaster, who together owned a majority of craigslist's shares and dominated the craigslist board, had breached their fiduciary duties. In so finding, Chancellor Chandler stated:
Jim and Craig did prove that they personally believe craigslist should not be about the business of stockholder wealth maximization, now or in the future. As an abstract matter, there is nothing inappropriate about an organization seeking to aid local, national, and global communities by providing a website for online classifieds that is largely devoid of monetized elements. Indeed, I personally appreciate and admire Jim's and Craig's desire to be of service to communities. The corporate form in which craigslist operates, however, is not an appropriate vehicle for purely philanthropic ends, at least not when there are other stockholders interested in realizing a return on their investment....

Also at Professor Bainbridge:
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