JW Verret reports on the AALS Business Associations Section panel, where he defended Delaware Chancelor Chandler's decision in Citigroup and, more generally, Delaware corporate law.
First, the AALS panel’s view seems to encourage judicial activism on the part of the Delaware Court of Chancery to ignore the Delaware General Corporation Law. Even more surprisingly, they begin from a clearly hindsight-biased view of Citigroup’s risks. The tenor of the discussion was in the order of “well, clearly, Citigroup’s board made bad decisions, because they lost lots of money.” This is precisely the sort of thinking that the DGCL, in particular Section 102(b)7, is designed to avoid. Hindsight bias built into corporation law would cripple the ability of boards to invest resources in risky propositions, because boards would fear ex ante the potential liability of good faith but uncertain investments that subsequently lost money.
And if you don’t think the AALS panel’s view on Citigroup’s investments is overwhelmingly colored by hindsight bias, consider remarks by Chairman Ben Bernanke, who in 2006 said that the housing market “will most likely experience a gradual cooling rather than a sharp slowdown” and who in 2007 noted that “the impact of subprime loans on the broader economy and financial markets are likely to be contained.” Readers should certainly not take my quotes of Bernanke as a critique of him. Though I personally feel the Fed is overly lax in monetary policy these days, that’s another issue. My point is that one of the smartest, most informed, and least conflicted financial regulators felt in 2006 and 2007, at the height of the events of the Citigroup case, that subprime was a relatively riskless bet. As such, I take severe issue with the “conventional wisdom” at the AALS that the Citigroup case was a slam dunk against Chancellor Chandler’s decision.
Let’s also not forget that the Delaware Court of Chancery decided to permit the waste claim to survive at that stage in the litigation, and it survives to this day. I realize that waste claims rarely result in ultimate judgment against the defendants, but then again most all claims in civil court rarely result in ultimate judgment against the defendants. If Delaware was such a rigged game in favor of defendants, as the AALS panel seemed to suggest, why would Chancellor Chandler have permitted the waste claim to survive, knowing it would give the plaintiffs continued leverage to demand some form of award in settlement negotiations?
I will close with two general critiques of Delaware’s critics that applies both to some of the recent commentators at the AALS panel and also to the anti-Delaware vein of scholarship generally. Don’t get me wrong… I won’t argue that Delaware is perfect, but I will take issue with a lack of sophistication in much of the criticism. My first point is that the anti-Delaware crowd lumps the various institutions of Delaware together as though it were a single entity. This could not be more inaccurate. In the interest of brevity in this blog post, I will only note 10 relevant institutional players in Delaware, although to respond justly I should dedicate a summer to an article that atomizes the players in more depth. There are significant conflicts of interest among the Delaware Court of Chancery, the Delaware Supreme Court, the Delaware litigation defendant’s bar, the Delaware litigation plaintiff’s bar, the Delaware deal advisory bar, the out of state (particularly NY) deal advisory bar, the Delaware Committee on Corporate Laws, the Delaware Legislature, the Delaware Governor’s office, and the Delaware Secretary of State (responsible for incorporating entities).
My second broad critique of the anti-Delaware crowd is that they seem to ignore that if Delaware were such an anti-shareholder jurisdiction, we would expect to see a share price discount for Delaware publicly traded entities against shares in other companies. As such, we should also expect to see new IPOs featuring non-Delaware corporations in the hopes of obtaining a premium. We see neither. In fact, 70% of all IPOs in 2005 were Delaware corporations. Furthermore, the only empirical evidence on point is in precisely the opposite direction… empirical evidence suggests that Delaware firms trade at a substantial premium to other firms ....
As regular readers know, I think Chandler got Citigroup exactly right. See my article Caremark and Enterprise Risk Management.