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Martin Lipton's Grossly Unfair Attack of Shareholder Value Maximization's Proponents

After making his bones defending entrenched corporate managers from the discipline of the market for corporate control, Martin Lipton lately has been defending entrenched corporate managers from the discipline of the stock market. (Admittedly, I also believe in deferring in some cases to board decisions about takeovers and to insulating boards to some extent from shareholder activism, although I do so for policy rather than business motives.)

In his latest screed, Lipton once again peddles the same gross misrepresentation upon which he seems to dote:

Since the 1970s, when the work of Milton Friedman, Michael Jensen, and Frank Easterbrook took hold in business schools, activists and raiders in high-profile proxy fights and hostile takeovers on Wall Street have wrapped their arms around the shareholder-primacy narrative to advance their own short-termist objectives.  Far from shared scholarly interest, their objective was plain:  To justify cutting off directors’ reasoned judgment, in favor of maximizing short-term shareholder value, notwithstanding the attendant harm to the health of our corporate and economic landscape and even our national security.  

It's as if he thinks the 1980s Chicago School set out to trash the country. In doing so, he completely misrepresents the Chicago School argument. All of which brings to mind Alex Edmans observation that "criticisms of Friedman are based on serious misunderstandings about what he actually wrote, casting doubt on whether their authors actually read beyond the title." 

As Glenn Hubbard observed:

Somewhat unfairly, Friedman’s focus has been taken to mean “short-term value,” generating gains to benefit current shareholders at the expense of other stakeholders. But Friedman is best read as embracing maximizing shareholder value over the long run. ... There is another rub, and Friedman anticipated it: Even long-term shareholder-value maximization can’t address all problems faced by a firm. Some problems — climate change, for example — are arguably more complex than Friedman envisioned. In these cases, public policy changes are required.

Turning to Jensen, Lipton's misrepresentation of his position is even more egregious. Jensen himself wrote:

... we must give employees and managers a structure that will help them resist the temptation to maximize the short-term financial performance (usually profits, or sometimes even more silly, earnings per share) of the organization. Such short-term profit maximization is a sure way to destroy value. ...

Indeed, it is obvious that we cannot maximize the long-term market value of an organization if we ignore or mistreat any important constituency. 

Does that even remotely resemble Lipton's disingenuous misrepresentation?

In fact, as I discuss at length in my book, The Profit Motive: Defending Shareholder Value Maximization, Friedman, Jensen, and other proponents of shareholder value maximization (yours truly included) favor long-term perspectives. Yet Lipton consistently misrepresents their position.

In the second place, it is not the shareholder value maximization principle that threatens our economy but rather the half-baked stakeholderism Lipton expounds. Steven Kaplan observes:

Professor Friedman was and is right. A world in which businesses maximise shareholder value has been immensely productive and successful over the past 50 years. Accordingly, business should continue to maximise shareholder value as long as it stays within the rules of the game. Any other goal incentivises disorder, disinvestment, government interference and, ultimately, decline.

Thisis, of course, the basic point of the second half of my book The Profit Motive: Defending Shareholder Value Maximization, in the course of which I critique Lipton's prior arguments at length.

Exxon's Lawsuit Against Activist Shareholders Continues

Climate activist investment funds Arjuna Capital and Follow This filed shareholder proposals with Exxon. If included in the proxy statement and approved by the shareholders, the proposal would have asked Exxon to “go beyond current plans, further accelerating the pace of emission reductions in the medium-term for its greenhouse gas (GHG) emissions ... and to summarize new plans, targets, and timetables.” 

As Exxon pointed out:

• The proposal addresses substantially the same subject matter as the 2022 and 2023 proposals – both of which were overwhelmingly rejected by our shareholders.
• This proposal was designed to do one thing – put us out of business. That’s literally what the proponents said.
  • Arjuna Capital believes “Exxon should shrink.”
  • Follow This says its proposals are “Trojan Horse” proposals designed to wind down the company’s business in oil and natural gas.

Activist shareholders (the vast majority being progressives advancing progressive policy goals) have long used the shareholder proposal rule to publicize their causes and seek to change corporate behavior. Since Gary Gensler became SAEC Chairman, the SEC has made it ever easier for progressive activists to get their proposals on proxy statements.

When an issuer wishes to exclude a proposal fro its proxy statement, the usual move is to ask the SEC for permission to do so via a no action letter request. But Gensler's SEC is widely regarded as leaning heavily on the activist side.

So Exxon decided to bypass the usual process and sued the activists in federal court:

• The intent of our lawsuit is simple – we want clarity on a process that has become ripe for abuse. 
• The current process to get proxy proposals excluded is flawed.
• We believe activists with minimal or even no shares should not be permitted to re-submit proposals that do not grow long-term shareholder value.

A few days ago, the LA Times business columnist Michael Hiltzik--who is undoubtedly the country's most progressive anti-business columnist charged with covering business--published a rant against Exxon's suit. Hilzick accuses Exxon of being the "world’s biggest corporate bully" for having to tried to defend its shareholders against a pair of activists whose interests are totally opposed to those of other Exxon shareholders. After all, the proponents themselves admitted is intended to “shrink” the company – which would ultimately hurt shareholders.

However, the SEC became political first when it changed its policy to explicitly allow proposals dealing with issues of “broad social significance” onto corporate ballots. Since that change, an unprecedented number of proposals dealing with Democratic policy priorities, namely climate and DEI matters, have been voted on and overwhelmingly rejected by shareholders.

Exxon’s ask of the court is simple and uncontroversial: protect our public markets by affirming the rules governing the shareholder proposal process that’s meant to empower shareholder and company collaboration instead of creating a company-funded forum for activist grandstanding.

Exxon's suit has survived a motion to dismiss on mootness grounds:

U.S. District Judge Mark Pittman ruled that Exxon could continue its case against Arjuna Capital, citing jurisdiction to hear the case over a U.S.-based firm. However, he said it could not pursue its claim against Follow This as it is Netherlands-based and outside the court's jurisdiction.

Thilo Kuntz on "The Promise and Perils of Promoting ESG With Demand-Side Regulation"

Thilo Kuntz, chair in private, commercial, and corporate law and managing director of the Institute for Corporate Law at Heinrich-Heine-University in Düsseldorf, Germany, is currently a visiting scholar at UCLA School of Law. I am very much enjoying getting to know this learned and insightful colleague.

Kuntz has a book chapter “ESG Demand-Side Regulation – Governing the Shareholders,” forthcoming in Corporate Purpose, CSR and ESG: A Trans-Atlantic Perspective (Jens-Hinrich Binder, Klaus J. Hopt, Thilo Kuntz, eds., Oxford University Press 2024), which is available here.

Kuntz posted a summary of the chapter to the CLS Blue Sky Blog:

If a regulator (in the broadest sense of the word) wants companies to incorporate ESG-oriented decisions into their governance structures, the regulatory strategy must include the shareholders and investors. When stockholders have to abide by norms mirroring those of the corporate board, at least in theory, the incentives and investment aims of corporate directors and shareholders should align.

Many U.S, and European laws and legal frameworks involving ESG already reflect demand-side regulation. Notwithstanding their differences, what those laws have in common is their target: It is no longer the board of directors, the German Vorstand, the French conseil d’administration, or a similar body managing the affairs of the public corporation or company, but rather the shareholders and investors. After decades of focusing on directors’ duties to the corporation, stockholders, and society at large, this development is a major change. ...

Kuntz draws a distinction between direct and indirect demand-side regulation. "Whereas the first addresses shareholders and investors directly through ESG disclosure rules and requirements to commit to ESG, the second targets retail investors as a group and seeks to move them toward preferring ESG."

Kuntz then suggests limitations to both direct and indirect demand-side regulation. He concludes:

Many empirical studies show that even those opting for an ESG product often prefer financial gains once the investment is made. Consequently, the largest group of shareholders will still judge directors based on financial performance. Therefore, the effects of indirect demand-side regulation are rather limited, and it will probably not cure the incentive problem of supply-side regulation. The same is true regarding ESG proponents who may be willing to give up profit for non-monetary benefits. Having more shareholders expressing general ESG preferences does not help solve the conflicts within that group ....

I highly recommend checking out the paper.

 

Delaware VC Travis Laster Responds to Trump AG William Barr's Critique of Woke Delaware Corporate Law

In a WSJ op-ed last week former Trump AG William Barr (and attorney Jonathan Berry) argue that Delaware courts' "flirtation with ESG is jeopardizing its status as a preferred destination for corporate headquarters." I commented on that article in an earlier post. Over the weekend, Delaware Vice Chancellor Travis Laster also critiqued Barr's article.

I'm a fan of VC Laster's writing style, which has a certain flair. So I was amused by the zinger with which he opened:

There are many legal topics where AG Barr has vast knowledge and experience. On those subjects, his opinion should carry weight. His column demonstrates that Delaware law is not one of them.

Turning to Laster's substantive argument, he opens by saying that:

First, Delaware is not a stakeholder state. It has a board-centric model in which fiduciary duties run to the corporation for the ultimate benefit of the stockholders. That’s why Robert T. Miller, an Iowa law professor with impeccable conservative bona fides, recently authored an article titled Delaware Law Requires Directors to Manage the Corporation for the Benefit of its Stockholders and the Absurdity of Denying It. It's a good place to start.

As a point of personal privilege, I would prefer to characterize Delaware corporate law as a system of director primacy but I concede that director primacy is board-centric, so let's move on.

I would also note in passing that Robert Miller's article is a must read on this topic. As another matter of personal privilege, however, I would also suggest checking out my book The Profit Motive: Defending Shareholder Value Maximization, which has an extensive treatment of the state of Delaware law on this point.

Back to VC Laster, Barr had complained that:

... former Delaware Supreme Court Justice Tamika Montgomery-Reeves, who in 2021 declared that state law allows directors “to consider interests of broader constituents,” such as “stakeholders other than stockholders.” President Biden named her to the federal appellate bench in 2022.

Laster responds:

Judge Montgomery-Reeves was right when she said in 2021 that Delaware law allows directors “to consider interests of broader constituents,” such as “stakeholders other than stockholders.” ... But when the board makes its decision, the directors must believe in good faith that the path chosen will promote the value of the corporation for the long-term benefit of its stockholders.

A quibble: There are two sets of cases in which directors who consider non-shareholder interests in making decisions face a serious risk of liability. First, confessional cases; i.e., those in which the board of directors basically says "we're putting stakeholder interests ahead of those of shareholders and our shareholders can lump it." As I discuss in The Profit Motive, the classic confessional case was the Michigan Supreme Court's decision in Dodge v. Ford Motor Co., which was embraced sub silentio by the Delaware Chancery Court in eBay Domestic Holdings, Inc. v. Newmark. In effect, confessional cases are those in which the board has effectively admitted that they are acting in bad faith.

Second, although Laster doesn't mention it, Delaware law is clear that there is one set of circumstances in which Delaware courts forbid directors from taking stakeholder interests into account. As I explain in The Profit Motive (at p. 60):

In the course of the [Revlon] opinion, the Delaware Supreme Court [held that] once the board enters Revlon-land [i.e., enters into a transaction that will result in a change of control], any “concern for non-stockholder interests is inappropriate.” In other words, getting the best possible deal for the shareholders—regardless of the potential impact on other corporate constituencies—must be the board’s sole focus.

Back to VC Laster. who minimizes concerns about Caremark:

All Caremark requires is that directors make a good faith judgment regarding an information system to make them aware of potential threats to the corporation, then respond in good faith to information about threats.

Here I must part ways with the Vice Chancellor, albeit with respect. As I have said many times, albeit to no avail, Caremark was wrong from the outset and its progeny have mostly made things worse. In particular, note VC Laster's reference to "threats to the corporation." Therein lies the nub of the problem: What kinds of threats? Although VC Laster suggests that Caremark is most relevant to decisions about law compliance, he acknowledges that "directors could breach their duties if they knowingly fail to respond to other types of risks," while positing that "it would be a much tougher case." As I explain in my article, Don’t Compound the Caremark Mistake by Extending it to ESG Oversight:

Although Caremark has been applied almost exclusively with respect to law and accounting compliance, the original Caremark decision contemplated applying the oversight duty to the corporation’s “business performance.” Accordingly, there is no doctrinal reason that Caremark claims should not lie in cases in which the corporation suffered losses, not due to a failure to comply with applicable laws, but rather due to lax risk management.

The question thus arises as to whether Caremark should be extended to board failures to exercise oversight with respect to environmental, social, and governance (ESG) factors. Obviously, where existing legislation or regulations impose compliance obligations in ESG-related areas, such as human resources, the environment, or worker safety, Caremark already applies. As such, boards must “ensure that compliance and monitoring systems are in place” to oversee corporate compliance with those laws.

Many ESG issues are not yet the subject to legal requirements, however. The question addressed in this Article is whether the board’s Caremark obligations should be extended to encompass oversight of corporate performance with such issues. In other words, should the board face potential liability not just for failing to ensure that the company has adequate reporting and monitoring systems in place to ensure compliance with ESG-related legal requirements, but also to monitor ESG risks in areas where corporate compliance would be voluntary or aspirational.

Admittedly, I have indulged in a fun bit of hyperbole by repeatedly comparing Caremark to The Chicken Heart, which was an episode of Arch Oboler's 1930s radio show Lights Out. The risk that Caremark will continue to expand into areas like ESG compliance, however, still strikes me as a very valid concern.

Having said that, however, I must note that Chancellor McCormick is not alarmed by recent developments suggesting that Caremark cases are becoming more frequent and easier to win. I also note Larry Cunningham's comments about a panel discussion on which he and Chancellor McCormick participated, which he thinks suggests concerns are the growth of Caremark are overstated. Larry concludes that "The real danger today is from Washington not Wilmington," a point with which I am fully in accord.

In sum, I agree with VC Laster's first two points. As for Barr's concern that "Caremark [is] a vector for “social-responsibility topics,” I tend to come down more on AG Barr's side. As I explained in my article, Don’t Compound the Caremark Mistake by Extending it to ESG Oversight , Caremark has the potential to convert aspirational goals into legal mandates. As such, extending Caremark to the ESG context would effectively create a legal mandate that directors try to balance profit against environmental and social issues. As such, it would work an important change in Delaware’s law of corporate purpose.

Former Trump AG William Barr thinks Delaware's Caremark Doctrine is a Serious Policy Error That's Going to Erode Delaware's Dominance. He's half right.

Former Trump Attorney General William Barr (and attorney Jonathan Berry) are now trying to save Delaware from itself. From the WSJ:

Delaware is falling in line with other blue states in embracing ESG, which rejects shareholder value as corporate law’s lodestar. Meanwhile, red states are developing potentially attractive alternatives. …

The watchword is Delaware’s Caremark doctrine, which makes executives liable for failures in risk management. Once reserved for outright corporate crime, this notable exception to Delaware’s signature deference to executives has demonstrated expansive potential. Two former Delaware Supreme Court justices have stated that, under the doctrine, ESG issues should become more than optional social-responsibility topics. They should be “risks” that boards are required to oversee. The influential former Delaware Supreme Court Chief Justice Leo Strine has coauthored several papers—including one titled “Caremark and ESG: Perfect Together”—addressing how the doctrine invites companies to undertake ESG initiatives.

… Delaware’s weakness presents an opportunity for red states that oppose ESG. This year Texas elected to set up its own designated business court. Georgia, Utah and Wyoming recently did the same.

At this point, I pause to ask readers unfamiliar with Caremark to skip over to an earlier post: After Boeing, Caremark is no longer "the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment". It will provide necessary background on Caremark's growth.  I also refer the reader to my post summarizing my recent writing on corporate purpose, ESG, corporate social responsibility, and stakeholder theory.

I want to come at this issue from three perspectives. First, will the Delaware courts expand Caremark to encompass ESG issues? I confess to a certain amount of concern on this score; so much so that I wrote a law review article, Don’t Compound the Caremark Mistake by Extending it to ESG Oversight, arguing that Caremark should not be extended to board failures to exercise oversight with respect to environmental, social, and governance (ESG) factors. What follows briefly summarizes the main arguments in that article.

In Caremark and its progeny, Delaware courts mandated that company boards establish effective legal compliance systems. Originally, Caremark was largely focused on legal and accounting compliance, but it also considered overseeing a company's overall business performance. Thus, Caremark-related claims could potentially arise not only from legal non-compliance but also from inadequate risk management.

Several experts have suggested that Caremark's scope should include board oversight failures in environmental, social, and governance (ESG) matters. Prominent legal figures, including former Delaware Chief Justice Norman Veasey and former Justice Randy Holland, have suggested that board responsibilities should cover monitoring programs in areas like ESG. SEC Commissioner Allison Herren Lee also argues that directors’ fiduciary duties encompass ESG risk oversight.

Caremark is already applicable in areas where ESG-related compliance is legally required, such as human resources, environmental protection, and worker safety. However, many ESG issues are not legally mandated yet. The debate, as discussed in my article, centers on whether Caremark duties should also cover voluntary or aspirational ESG performance oversight.

Extending Caremark in this way would be highly problematic. First, the original Caremark ruling was a serious error whose premise rested on the case’s procedural uniqueness and the resulting leeway it gave Chancellor Allen to misinterpret (deliberately) Delaware Supreme Court precedents. Second, subsequent decisions have altered the foundational fiduciary duty from care to loyalty, leading to an unwarranted expansion of Caremark liability. Although actual liability risk remains low, the perceived risk might prompt directors to take excessive measures.

Furthermore, applying Caremark to ESG matters risks distorting Delaware's established corporate purpose laws by pushing director duties into areas of social responsibility not directly tied to corporate profits. This extension might inadvertently encourage companies to adopt socially responsible practices not mandated by political processes, effectively blurring the lines between corporate and governmental roles.

In sum, the combined issues – the original Caremark decision's flaws, the shift in fiduciary duty from care to loyalty, and its potential extension to non-mandatory areas – could undermine the protections provided by the business judgment rule. Expanding Caremark to ESG matters threatens Delaware's board-centric corporate governance model and could lead to a scenario where adherence to externally set “best practices” becomes the primary defense against loyalty duty lawsuits.

In sum, I share Barr and Berry’s concern that Delaware courts are expanding Caremark far beyond its original boundaries and that doing so is a serious policy error.

Second, I note in passing Carr and Berry’s comment on my friend former Delaware Supreme Court Chief Justice Leo Strine. It is true that Strine’s recent scholarship has been pro-ESG (or, as he renamed it, EESG by adding Employees to the list). Yet, one of the many reasons I respect Strine is his ability to draw a sharp difference between what he thinks the law ought to be and what he knows the law is. In a 2015 article, Strine more broadly addressed claims by Stout and numerous progressive corporate law scholars “that directors may subordinate what they believe is best for stockholder welfare to other interests, such as those of the company’s workers or society generally.” In assessing that claim, the Chief Justice minced no words; to the contrary, he hurled multiple verbal grenades into the debate:

• “These well-meaning commentators, of course, ignore certain structural features of corporation law . . ..”
• “Indeed, these commentators essentially argue that Delaware judges do not understand the very law they are applying, and the Delaware General Assembly does not understand the law it has created.”
• “It is not only hollow but also injurious to social welfare to declare that directors can and should do the right thing by promoting interests other than stockholder interests.”

Perhaps most damningly, however Strine essentially accused the commentators – whom he called out by name in lengthy string cites – of misrepresenting the law, arguing that they “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.” It is about as damning a dismissal of academic arguments as one encounters.

Third, where I part ways with Barr and Berry is in their theory that the Caremark error will lead to Delaware losing incorporations to red states (or, for that matter, any state). So many states have tried to knock Delaware off its throne. None have succeeded.

I explored the reasons for Delaware’s success in Why the North Dakota Publicly Traded Corporations Act Will Fail. In that short essay, I commented on the North Dakota Publicly Traded Corporations Act. North Dakota hoped that the Act will empower it to compete with Delaware in the market for corporate charters. In my view, North Dakota was doomed to failure. If state chartering competition is a race to the bottom, managers will prefer Delaware to North Dakota because the former facilitates the extraction of private rents. If state competition is a race to the top, investors will prefer the director primacy approach taken by Delaware to the shareholder primacy one adopted by North Dakota. Either way, North Dakota was bound to lose. And it has.

Obviously, Delaware makes mistakes. But for the most part Delaware manages to retain pride of place. On major reason is that Delaware's legislature acts quickly to adopt developments in other states that prove successful. "The Delaware legislature pays close attention to keeping the GCL [i.e., the Delaware General Corporation Law]up-to-date and efficient. It has a longstanding relationship with the Corporate Law Section of the Delaware Bar Association, which frequently recommends, reviews, and drafts revisions to the GCL. William F. Griffin, The Delaware Alternative, CLHBU MA-CLE 10-1 (2015).

As Wilmington attorney Black noted, … Delaware's system is not easily emulated. “There are elements unique to Delaware that would be very hard to replicate, particularly in big states,” he says. Delaware benefits from having a unique combination of an enabling corporation statute, a legislature that keeps the statute up to date and that has developed a long and trusting relationship with the corporate bar, and judges who come from among the best and brightest attorneys in the state, he says. “

Donald F. Parsons Jr. & Joseph R. Slights III, The History of Delaware's Business Courts: Their Rise to Preeminence, 17 Bus. L. Today 21, 25 (March/April 2008).

In sum, if a state starts to make gains, the Delaware legislature will just copy that state’s approach--probably with improvements--and remain dominant by virtue of the unique combination of identified by Parsons and Slights.

Corporate Governance Panel Question: What is the relationship between defining the corporation’s purpose and establishing principles of corporate governance?

Question

What is the relationship between defining the corporation’s purpose and establishing principles of corporate governance? U.S. society is in the middle of a debate over the proper purpose of the corporation. Do we need to settle that debate in order to decide what is good governance?

On this point, recently the NACD did a survey of which practices directors expect to see more of and less of in the years ahead.  40% of respondents say that in the future it will be less acceptable to focus on shareholders at the expense of other stakeholders. About 62% said that boards will widen their definition of success to include the societal impact of operations.

Answer

There’s a lot going on in this question. It’s really about half a dozen questions rolled into one.

I will start by asking whether the ends of corporate governance can be separated from the means of corporate governance. Put another way, why is board centric governance a feature of shareholder capitalism? Would it also be a feature of stakeholder capitalism? I think (emphasis on the word think) the answer is yes.

But even if a board of directors would exist in corporate system premised on stakeholder capitalism, what would be the role of the board in such a system? At present,  in our system of shareholder capitalism, the board’s role is primarily monitoring. Its service and managerial roles are of minor importance. Would that change in a stakeholder capitalist system? Margaret Blair and Lynn Stout argue the board should function as mediating hierarchs, which would seem to imply an emphasis on managerial decision making.

By the way, as for the NACD survey, it is a fundamental tenet of my book The Profit Motive: Defending Shareholder Value Maximization that what directors and CEOs say is of far less importance than what they do. Most boardroom and C-suite ESG talk is greenwashing.

Julian Velasco's "A Catholic Defense of Corporate Law and Practice"

As regular readers know, exploring the implications of Catholic social teaching for corporate law and governance is one of my principals areas of interest. I just read a wonderful contribution to that literature by Notre Dame Law Professor Julian Velsco. Here's the abstract:

In this essay, I provide a defense of corporate law and of pursuing a career therein from the perspective of Catholic teaching. I argue that Catholicism is not incompatible with the pursuit of wealth as such, but rather insists upon the appropriate use of wealth. I also argue that it is appropriate for corporate actors to pursue the interests of shareholders, provided that they do not break the law or otherwise sin in doing so. I also explain why I found transaction practice personally fulfilling.

Velasco, Julian, A Catholic Defense of Corporate Law and Practice (August 25, 2023). 38 Notre Dame J.L. Ethics & Pub. Pol’y ___ (Forthcoming), Available at SSRN: https://ssrn.com/abstract=4552281 

I was very flattered by footnote 114:

As for the actual benefits that flow from the use of the corporate form, I point the reader to the works of Michael Novak and Stephen Bainbridge in particular. See, e.g., MICHAEL NOVAK, TOWARD A THEOLOGY OF THE CORPORATION (AEI Press, rev. ed. 1990); Stephen M. Bainbridge, Community and Statism: A Conservative Contractarian Critique of Progressive Corporate Law Scholarship, 82 CORNELL L. REV. 856, 898-99 (1997); Stephen M. Bainbridge, In Defense of the Shareholder Wealth Maximization Norm: A Reply to Professor Green, 50 WASH. & LEE L. REV. 1423, 1446 (1994) (“That rule [i.e., the shareholder wealth maximization norm] has helped produce an economy that is dominated by public corporations, which in turn has produced the highest standard of living of any society in the history of the world.”). They have argued that the corporate form is not only morally acceptable, but positively beneficial. According to them, it has led to unprecedented levels of prosperity and the alleviation of incredible amounts of suffering. Their arguments, which I find generally persuasive, should help to destigmatize corporations and corporate law.

But I would strongly recommend readuing the paper even if he had left out that part. 

A new The Profit Motive video

Shareholder Wealth Maximization and Securities Fraud

My friend and UCLA colleague James Park has posted a very interesting new article, Shareholder Wealth Maximization and Securities Fraud (September 27, 2023). DePaul Law Review, Vol. 72, No. 10, 2023, UCLA School of Law, Law-Econ Research Paper No. 23-07, Available at SSRN: https://ssrn.com/abstract=4586004:

Government enforcers are often criticized for failing to identify and prosecute individual executives responsible for corporate misconduct.

N.B.: I used to be of the critics. But Jim's article is very persuasive.

This essay contends that the failure to prosecute individuals can be partly explained by the difficulty of disentangling individual and corporate incentives for wrongful corporate acts. For example, in securities fraud cases, it can be difficult to determine whether corporate managers issued a materially misleading disclosure to further shareholder wealth or to enrich themselves. It is more difficult to justify prosecuting individuals in the absence of a clear agency costs story.

Recommended reading.

Marc Benioff embraces The Profit Motive

In my book, The Profit Motive, I predicted that a lot of social justice warrior CEOs were really just greenwashing and that, when push comes to shove, they will put profits and shareholder value first. Salesforce CEO Marc Benioff now stands as a prime example that I was right.

2/ In The Profit Motive, I pointed out that Benioff's actions have not always matched his rhetoric. But it now seems as though even his rhetoric is changing.

— Steve Bainbridge (@PrawfBainbridge) September 2, 2023

4/ Benioff is also taking an increasingly hard line on the deteriorating conditions in San Francisco. https://t.co/usHPAPk130

— Steve Bainbridge (@PrawfBainbridge) September 2, 2023

6/ But it is the rhetorical shift that is most striking. The WSJ Benioff told an earnings call: "I am quite addicted to the bottom line as well.” This from a guy who used to say "I need to embrace all of my stakeholders, not just all of my shareholders." https://t.co/wFFIHOD4HD

— Steve Bainbridge (@PrawfBainbridge) September 2, 2023

Martin Lipton's still peddling the bogus "New Paradigm"

Over on the Harvard Corporate Governance Forum, Martin Lipton and some of his Wachtell acolytes blithely brush off the rise of anti-woke capitalism investors and politicians and the growing resistance to ESG. Instead, he clings to the so-called "New Paradigm," which purports to offer "a  pragmatic and balanced approach to preserving open market capitalism, while also creating economic prosperity that will benefit all, not just a few," by embracing stakeholder capitalism. 

I'm deeply skeptical about all of this nonsense. I don't think Lipton is a woke capitalist. To the contrary, he's embraced ESG as the latest way of marketing his services to corporate managers. As I explain in my book, The Profit Motive: Defending Shareholder Value Maximization:

Martin Lipton rose to fame by defending Imperial CEOs from the raiders.  Lipton’s invention of what he called the shareholder rights plan—better known as the poison pill—was a major reason the brief hostile takeover era fizzled out by the early 1990s. . . .

Martin Lipton has morphed from anti-takeover warrior into a vigorous advocate of what he calls “the New Paradigm,” which “conceives of corporate governance as a collaboration among corporations, shareholders and other stakeholders working together to achieve long-term value ….” . . .

But it is difficult to take Lipton’s arguments at face value.

When you look closely at The New Paradigm it quickly becomes apparent that Lipton is still in the business of defending corporate managers. The only difference is that the corporate raiders of the 1980s have been replaced by hedge fund activists. Accordingly, one suspects that Lipton’s goal is not to empower his CEO clients to be more prosocial, but to use stakeholder capitalism as a lever for restoring the CEO’s former imperial powers.  Those suspicions find confirmation in Bebchuk’s study of deals negotiated during the COVID-19 pandemic. Lipton’s law firm, Wachtell, Lipton, Rosen & Katz, represented target companies in 15% of the studied deals. Despite Lipton’s frequent pronouncements about the need to embrace stakeholder capitalism, none of the Wachtell Lipton deals contained any contractual protections for labor, customers, creditors, or the environment.

Hypocrisy?

Guest Post from Jeffrey Lipshaw: Who owns the corporation?

[My friend and occasional sparring partner Jeff Lipshaw sends along a reaction to my post on “who owns the corporation?”]

Typical of most Quora questions, that one is slightly inane, because whether the shareholders "own" the corporation is at least worthy of a thoughtful response like yours, but before you explain to somebody that the CEO doesn't own it, you might need to disabuse them first of a couple Q-Anon theories on the deep state.

So I agree with your legal analysis of "ownership" of the corporation.  I agree, for example, that nobody other than a shareholder (not the union, not the government, not customers) has legal standing to complain about whether a board decision is in the best interest of the corporation.

Nevertheless, you ought to include a disclaimer when you say, "the corporation is an aggregation of people bound together by a complex web of contractual relationships."  In other words, "the web of contracts" concept is meaningful if you are looking at it through a legal lens.  And the legal lens itself imports what a sociologist might call a Gesellschaft view - a modern institution built on ownership rights embodied in law (per Ferdinand Tönnies, in contrast to the tribe or community Gemeinschaft).

Humor me with an analogy.  Who owns Detroit?  Residents?  Taxpayers?  Voters?  Is a city a thing? Ownership is as illusive a concept there as with the corporation.  One way of looking at the city is as an aggregation of people bound together by a complex web of constitutional, statutory, regulatory, and contractual relationships.  That is a pretty limited view.  There are myriad sociological, historical, political, psychological, anthropological relationships and norms that also have some explanation oomph in characterizing a city.  See, e.g., Susan Silbey on snow day placeholders.  I agree that most of them don't matter if, for example, the question is whether you are a resident for the purpose of the city income tax.

To hit closer to (your) home, who owns the Roman Catholic Church?  I actually litigated something like that years ago regarding some church property in Detroit.  Assume the deed to the church property says, “any transfer of this property to one not a true believer in the holy Roman Catholic catechism is void ab initio.” There is a schism in the congregation. The trustees sell the property to Group A.  Group B sues to void the transfer on the grounds that the members of Group A do not satisfy the condition.  The constitutional law principle is that the court will only look at legal title, and will not enforce a provision that would require it to decide a religious question.  So law will give a result, but is that really the right answer in light of all the norms that govern that community?

The same applies to a corporation, which I'd suggest is more than the sum of its legal contracts in the same way that a corporate acquisition is far more than the contracts that document it. (I speak from some personal experience. The lawyers think that they are running things because the funds don’t transfer or the certificate of merger doesn’t get filed until all the conditions of the contract get satisfied, but trust me when I say that the business unit and functional leaders responsible for deriving the synergies don’t see it that way. The documents are the metaphor skeleton of the transaction, but the business consists of organs, muscle, and tissue not reflected there.)  

I concede you didn’t take it that far, but I think the “web of contracts” approach makes easier for you to justify the shareholder wealth maximization principle, something about which we have had a nice debate.  The utilitarian approach only measures a certain kind of welfare in a certain kind of way and thus itself bespeaks the answer.  It’s not a given that it has to be that way:  compare European codetermined corporate governance. It’s fair to argue that the SWMP is normatively the way to go, but if you argue it purely from law and economics premises, you should be forthright about the implicit assumptions you’ve made.  And the corporation as “web of contracts” invokes those assumptions.

Stuff and Nonsense about Suing Woke Corporate Directors

From the website of an outfit called "The Association of Mature American Citizens" (it came up on the RCP news aggregator):

In early June, Elon Musk wrote on Twitter that it “won’t be long before there are class-action lawsuits by shareholders against the company and board of directors for destruction of shareholder value,” referencing the rise of corporate wokeism and so-called “environmental, social, and governance,” or ESG policies.

The prospect held out by Musk is one that, according to former Assistant Secretary of State and experienced litigator and congressional counsel Robert Charles, could indicate a coming flurry of lawsuits against individual board members and directors for breaching their fiduciary duty to shareholders. In an interview with AMAC Newsline, Charles said that the recent spate of boycotts against woke corporations such as Anheuser-Busch and Target are not enough on their own, and litigation should also be on the table.

Shareholders should “pierce the corporate veil,” Charles said, by taking aim at members of the corporate boards themselves—arguing that in some cases, board members should be held personally liable for violating their legal obligation to act in the best financial interests of their shareholders.

Let's start with the idea that piercing the corporate veil is somehow relevant to the fiduciary duties of directors (woke or otherwise). It isn't. Not even a little bit.

As Todd Henderson and I explained in our book Limited Liability: A Legal and Economic Analysis, piercing the corporate veil is an equitable doctrine pursuant to which creditors of the corporation may under some circumstances disregard the corporation's separate legal personality in order to hold the corporation's shareholders personally liable. The general rule, of course, is that shareholders have limited liability. If a corporation cannot pay its debts, the creditors cannot go to the shareholders and collect the debt out of the shareholders' personal assets. If the shareholders have used the corporation as their alter ego and respecting the limited liability rule would promote fraud or injustice, the creditors cqn pierce the vail to reach the shareholders' personal assets. Note, by the way, that in addition to being doctrinally irrelevant the empirical studies discussed in our book make clear that no one has ever pierced the corporate veil to hold public corporation shareholders liable.

Second, as I discuss in my book The Profit Motive: Defending Shareholder Value Maximization, while it is true that directors have a fiduciary obligation to maximize shareholder value it is also true that the law generally gives directors great discretion in how they pursue that goal. And that brings us to the business judgment rule, the central doctrine of corporate law and which makes no appearance in the column.

Let us therefore turn to one of my favorite corporate law cases: Shlensky v. Wrigley. 

Shlensky, a minority shareholder in the Chicago Cubs, challenged the decision by Wrigley, the majority shareholder, not to install lights at Wrigley Field. Shlensky claimed the Cubs were persistent money losers, which he attributed to poor home attendance, which in turn he attributed to the board’s refusal to install lights and play night baseball. According to Shlensky, Wrigley was indifferent to the effect of his continued intransigence on the team’s finances. Instead, Shlensky argued, Wrigley was motivated by his beliefs that baseball was a day-time sport and that night baseball might have a deteriorating effect on the neighborhood surrounding Wrigley Field.

Despite Shlensky’s apparently uncontested evidence that Wrigley was more concerned with interests other than those of the shareholders, the court did not even allow him to get up to bat. Instead, the court presumed that Wrigley’s decision was in the firm’s best interests. Indeed, the court basically invented reasons why a director might have made an honest decision against night baseball. The court opined, for example, “the effect on the surrounding neighborhood might well be considered by a director.” Again, the court said: “the long run interest” of the firm “might demand” protection of the neighborhood. Accordingly, Shlensky’s case was dismissed for failure to state a claim upon which relief could be granted.

So imagine a woke director who is accused of putting her personal political preferences ahead of shareholder value maximization. She will invoke the business judgment rule. She could defend her decision by arguing that business "have profit maximizing reasons for aligning themselves with woke coastal millennials, who are at the core of the supposedly most desirable marketing demographic." But she won't need to do so. The court will defer to the board's decision under the business judgment rule, absent evidence that a majority of the board (not an individual director) acted out of a conflict of interest.

Charles apparently thinks one could find such evidence:

Charles stressed that there are limits to a company’s freedom, comparing a company’s duty to its shareholders to a game of bowling.

“You can’t have a director bowl in the opposite direction or keep guttering the ball if the goal is to hit the pins. And so the bottom line here is if these directors—or any one of them—is vocal in board meeting minutes about the fact that they want to divert money to their personal political agenda, and this is not really being articulated to the investors, then I think you could make the [legal] argument that there’s been a breach of trust—that there’s been a breach of fiduciary duty.”'

I've been a corporate lawyer, consultant, and academic since 1986. In those 37-odd years, I have never seen a director so dumb as to put such a statement in the board minutes (or a corporate counsel so dumb as to include such a statement in the minutes). Remember that the minutes are not a word-by-word transcript of the meeting. They are carefully edited documents prepared in the knowledge that they could well be the subject of future litigation.

Also, notice Charles says you only need "any one of" the directors to make such a statement. As noted above, however, to rebut the business judgment rule you need to show that a majority of the board engaged in self-dealing, fraud, or some similar misconduct. See, e.g., Krasner v. Moffett, 826 A.2d 277, 287 (Del. 2003) ("when the majority of a board of directors is the ultimate decisionmaker and a majority of the board is interested in the transaction the presumption of the business judgment rule is rebutted").

In any case, even assuming that the tainted minutes exist and that they reflect the majority of the board laughing hysterically while spending money on woke causes their shareholders oppose, how does Charles think one would get one's hand on these tainted minutes? In Delaware (the home of most corporations that matter), you'd need to do a Section 220 books and records inspection. And our shareholder would thus bump up against the recent Disney decision.

In Simeone v. Walt Disney Co., 2022-1120-LWW, 2023 WL 4208481, at *1 (Del. Ch. June 27, 2023), a longtime Disney shareholder agreed to act as a nominal plaintiff so that some conservative activist lawyers could sue Disney's board of directors for opposing Florida's House Bill 1557, titled the “Parental Rights in Education” bill. Plaintiff's theory was that "that officers and directors of Disney may have breached their fiduciary duties to the Company and its stockholders by, inter alia, failing to appreciate the known risk that the Company's political stance would have on its financial position and the value of Disney stock.” (Sound familiar?)

Because (1) any lawsuit doubtless would have been derivative in nature, (2) the complainant in a derivative suit must allege facts with particularity, and (3) ine does not get pre-filing discovery in these cases, the plaintiff would have had to gather the requisite facts using what the Delaware courts call "the tools at hand." In other words, a shareholder request under DGCL 220 to inspect Disney's books and records. Which is what the plaintiff did.

(By the way, notice that I haven't even gotten into the problems that would be created for Charles' lawsuit by virtue of the suit being derivative in nature. It introduces a whole slew of procedural obstacles.)

The court began by observing that:

Delaware law vests directors with significant discretion to guide corporate strategy—including on social and political issues. Given the diversity of viewpoints held by directors, management, stockholders, and other stakeholders, corporate speech on external policy matters brings both risks and opportunities. The board is empowered to weigh these competing considerations and decide whether it is in the corporation's best interest to act (or not act).

This mattered because a Section 220 demand must state a proper purpose for inspecting the books and records. Shareholders are not allowed to paw through corporate files at will. They must get a judicial order and in order to do so they must demonstrate that they have a proper purpose for asking for the records in question, The court explained that:

The plaintiff's demand identifies four purposes; all center around the same desire to investigate wrongdoing. The second and fourth purposes—to determine whether Disney's opposition to HB 1557 was harmful to the company and to “explore possible remedial measures”—are derivative of and dependent upon whether there was mismanagement in the first place. ...

The plaintiff's theory is that Disney's “decision to express public opposition” to HB 1557 despite “the [G]overnor's warning” amounts to a possible breach of fiduciary duty by the Board and certain Disney officers.

But the problem was that:

The plaintiff is not describing potential wrongdoing. He is critiquing a business decision. “A stockholder cannot obtain books and records simply because the stockholder disagrees with a board decision, even if the decision turned out poorly in hindsight.” ...

At bottom, the plaintiff disagrees with Disney's opposition to HB 1557. He has every right to do so. But “disagreement with [a] business judgment” is not “evidence of wrongdoing” warranting a Section 220 inspection.Such an inspection would not be reasonably related to the plaintiff's interests as a Disney stockholder; it would intrude upon the “rights of directors to manage the business of the corporation without undue interference.”

Long time readers will recall that I've been accused of being a RINO as far back as the Gang of 14 filibuster deal. Maybe so. But this not about politics. It is about law. And the law is that suits claiming woke directors breached their fiduciary duties by their decisions about how the corporation behaves in the political arena are non-starters.

High "social" scores on ESG measures are "positively correlated with the likelihood of corporate scandals"

If you believe the ESG hype, high scores on ESG metrics indicates high levels of corporate social responsibility. There has been a lot of work discrediting that proposition (much of which is discussed in my book The Profit Motive). And now there is more evidence:

In this paper, we study the impact of environmental, social and governance (ESG) ratings on the likelihood of subsequent corporate scandals. We find that the ‘S’ score (social responsibility) has a predictive power on scandals, while the overall ESG ratings has not. This finding holds for all our specifications. The underlying question that we want to address with this paper is whether the ratings reflect firms’ real efforts to act responsibly towards the society, or whether it constitutes deception. Our work contributes to the ongoing ‘aggregate confusion’ discussion amongst ESG scholars, showing that there is little informational content in an aggregate score (as it measures very diverse dimensions). Contrary to our expectation, the ‘S’ score is positively correlated with the likelihood of corporate scandals, suggesting that the ‘S’ score does not live up to measuring a company’s social responsibility, including the ‘commitment to being a good corporate citizen’ (Refinitiv, 2022). Our analysis is based on a hand-collected matched sample of 113 global corporate scandals.

Kjaer, Christina and Kirchmaier, Tom, Deceived by ‘S’: Corporate Scandals and ESG (April 25, 2023). Available at SSRN: https://ssrn.com/abstract=4428468 or http://dx.doi.org/10.2139/ssrn.4428468

Companies aren't talking as much about ESG, DEI, and their other woke efforts

I have a sneaking suspicion that corporate support for woke initiatives is a mile wide and and an inch deep. That suspicion gets some confirmation from a report in today's WSJ:

Companies’ mentions of green and social initiatives during earnings calls have fallen off sharply in recent quarters, reversing a more boastful approach taken over the past few years amid intensifying pressure from some investors and conservative activists.  ...

Executives at U.S.-listed companies mentioned “environmental, social and governance,” “ESG,” “diversity, equity and inclusion,” “DEI” or “sustainability” on 575 earnings calls from April 1 to June 5, down 31% from the same period last year, according to data from financial-research platform AlphaSense. That is the largest such year-over-year decline and the fifth consecutive quarter of year-over-year drops, following a pickup in these discussions and corporate social efforts in the wake of the police killing of George Floyd in May 2020. 

Of course, it's possible that companies are continuing to pursue ESG and DEI agendas, while not advertising it.