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.
Galston 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. Jim and Craig opted to form craigslist, Inc. as a for-profit Delaware corporation and voluntarily accepted millions of dollars from eBay as part of a transaction whereby eBay became a stockholder. Having chosen a for-profit corporate form, the craigslist directors are bound by the fiduciary duties and standards that accompany that form. Those standards include acting to promote the value of the corporation for the benefit of its stockholders. The “Inc.” after the company name has to mean at least that. Thus, I cannot accept as valid for the purposes of implementing the Rights Plan a corporate policy that specifically, clearly, and admittedly seeks not to maximize the economic value of a for-profit Delaware corporation for the benefit of its stockholders--no matter whether those stockholders are individuals of modest means or a corporate titan of online commerce.
As with Chancellor Allen's reading of Dodge v. Ford, scholars have taken issue with Chancellor Chandler's holding, indicating that he did not need to rule for the reasons he said he did, or did not in fact premise his ruling on the reasons he stated. I understand that there are forms of legal thought tied to deconstructionist linguistics and philosophy, such as critical legal studies, and that are premised on the idea that authors themselves can never understand what they intend to say or are in fact saying. For those of us who are more traditional, we tend to credit accomplished jurists such as Chancellor Chandler, Chancellor Allen, and Justice Moore with understanding most of what they write, especially when it is in a high-profile context and when they underscore their understanding of the importance of the subject matter they are addressing.
Of course, it is true that the business judgment rule provides directors with wide discretion, and thus enables directors to justify--by reference to long-run stockholder interests--a number of decisions that may in fact be motivated more by a concern for a charity the CEO cares about, the community in which the corporate headquarters is located, or once in a while, even the company's ordinary workers, rather than long-run stockholder wealth. But that does not alter the reality of what the law is. Dodge v. Ford and eBay are hornbook law because they make clear that if a fiduciary admits that he is treating an interest other than stockholder wealth as an end in itself, rather than an instrument to stockholder wealth, he is committing a breach of fiduciary duty. And these confession cases illustrate the very foundation for the business judgment rule itself.
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).
I don't know how he could make it any clearer. But just to drive the point home he specifically wrote that:
In current corporate law scholarship, there is a tendency among those who believe that corporations should be more socially responsible to avoid the more difficult and important task of advocating for externality regulation of corporations in a globalizing economy and encouraging institutional investors to exercise their power as stockholders responsibly. Instead, these advocates for corporate social responsibility pretend that directors do not have to make stockholder welfare the sole end of corporate governance, within the limits of their legal discretion, under the law of the most important American jurisdiction--Delaware.7
7See, e.g., LYNN STOUT, THE SHAREHOLDER VALUE MYTH: HOW PUTTING SHAREHOLDERS FIRST HARMS INVESTORS, CORPORATIONS, AND THE PUBLIC 30-31 (2012) (arguing that Revlon, Inc. v. MacAndrews & Forbes Holdings, Inc. is the “exception that proves the rule” and “it is only when a public corporation is about to stop being a public corporation that directors lose the protection of the business judgment rule and must embrace shareholder wealth as their only goal”); Margaret M. Blair & Lynn A. Stout, A Team Production Theory of Corporate Law, 85 VA. L. REV. 247, 308 (1999) (arguing that Unocal Corp. v. Mesa Petroleum Co. espouses the general rule in Delaware that directors are permitted to consider how a threat to the corporate entity would impact creditors, customers, employees, and even the general community); Christopher M. Bruner, Corporate Governance Reform in a Time of Crisis, 36 J. CORP. L. 309, 324 (2011) (citing Delaware cases for the proposition that “U.S. boards generally...have explicit latitude to consider the interests of other stakeholders, such as employees and creditors, in deciding how to respond to a hostile bid”); Einer Elhauge, Sacrificing Corporate Profits in the Public Interest, 80 N.Y.U. L. REV. 733, 763-69 (2005) (arguing that corporate managers have the discretion to sacrifice corporate profits in favor of the public interest under Delaware law); Lyman Johnson, Unsettledness in Delaware Corporate Law: Business Judgment Rule, Corporate Purpose, 38 DEL. J. CORP. L. 405, 432-33 (2013) (arguing that Delaware law is unsettled on the question of whether corporations are required to advance the long-term interests of stockholders); Lynn A. Stout, Why We Should Stop Teaching Dodge v. Ford, 3 VA. L. & BUS. REV. 163, 165, 169-71 (2008) (arguing that the Michigan Supreme Court's statement that “[a] business corporation is organized and carried on primarily for the profit of the stockholders” is not a legal requirement under Delaware law nor is it normatively desirable) ....
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).
"PRETEND."
As for Galston and Stout's policy claims, Strine makes an argument that I likewise made in the works cited above, namely that:
It is counterproductive to pretend that corporate directors--hardly the most representative slice of society--are effective and unbiased champions for workers, communities, the environment, and society generally, given that they are elected solely by stockholders.
It is more productive to take the legal rules and corporate power structure as it is, and to advance proposals that make sure that corporations operate in a way that encourages more responsible behavior and that maximizes long-term welfare, within the bounds of that structure.
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).
Extra credit: Identify the popular 1990s~ish TV show from which the title of this post was adapted without looking it up.
