Delaware's Future

I am increasingly convinced that the future of corporate governance is not the system of competitive federalism--i.e., state competition for charters--that has made US corporate law so successful. Instead, I am afraid it will be a struggle to keep the federal government from steadily encroaching on corporate governance to the point that we might as well adopt a federal corporations law.

JW Verret has done yeoman service in Congressional testimony trying to defend state regulation of corporate governance, so his ruminations on the Senate financial reform bill and the prospects for the upcoming conference between House and Senate are worth considering.

JW starts by reminding us that those of us on the side of the angels did win one victory:

Though Senator Carper wasn’t able, in the end, to get the proxy access provisions out of the Dodd Bill, which I think were the most troubling, we did eliminate another of Senator Schumer’s ideas. (The corporate governance provisions of the Dodd bill were taken from Sen. Schumer’s “Shareholder Bill of Rights.”) The initial draft of the Dodd Bill included a restriction prohibiting any publicly traded company from having a staggered board. I suspect we have the good work of Senator Carper and Congressman Castle’s offices to thank for their continued work against that provision. The option to have a staggered board is part of the Delaware brand’s advantage. Nearly 80% of Boards and their shareholders used to embrace the staggered election approach, since then some (but not most) companies’ shareholders have pushed, and been successful, in changing to annual elections under existing rules, a development which Delaware’s freedom-of-contract philosophy embraces. Now roughly 50% of publicly traded firms have staggered boards. I should add…this, like most corporate governance changes, is not exclusively a Delaware issue…as Delaware is home to only 50% of publicly traded companies and 60% of the Fortune 500.

When I testified in the Senate against the corporate governance provisions of this bill, I remember when Senator Corker quipped: “We’re a staggered body. The folks in the other house aren’t staggered, and we’ve all seen the crazy ideas they often send our way.” I also appreciated Senator Johanns of Nebraska when he observed, after one of my defenses of Delaware in testimony (quickly becoming my night gig) “When I was Governor of Nebraska, I tried to take on Delaware. And you know what I found out? That was going to be pretty hard, because Delaware sure was doing something right.” (See Bainbridge on the misguided efforts of the upper midwest to challenge Delaware).

He then goes on to suggest that Delaware lawyers now need to turn their attention to thinking up "structural defenses could viably protect against hostile proxy fights while at once surviving: (i) Delaware law’s strictures under Blasius, Chesapeake, Amylin, and other opinions vigorously protecting the shareholder franchise and shareholder rights, (ii) Exchange listing requirements, and (iii) SEC proxy rules." He does so because he believes that:

The new battleground will be defenses to proxy fights. We’ve already seen this issue discussed briefly, though not fully adjudicated, in the Amlyin case, which reviewed a contractual provision in debt covenants, the so-called “proxy put” that would accelerate debt upon the election of hostile directors not approved by the Board’s nominating committee. Gordon Smith weighed in here and Francis Pileggi discussed the case here.

Though Vice Chancellor Lamb did not expressly rule the provision violated Delaware law, in dicta he came fairly close. He noted that the provision seemed like it could prevent any contested elections, which would present a public policy dilemma. I wonder if he would have felt the same if, long before the actual proxy fight, the shareholders approved of the proxy put covenants?

Back in the early 1990s, I wrote an article on Redirecting State Takeover Laws at Proxy Contests, 1992 Wisconsin Law Review 1071, in which I predicted that proxy contests would become more important and that as a result states would extend their anti-takeover laws to them. I then reviewed the constitutional obstacles to states doing so, concluding that some state regulation would be permissible. It might be worth updating that analysis assuming the Dodd bill passes. In the meanwhile, I'll get the article up to SSRN ASAP.

Update: The article has been posted and is further discussed here.