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Ann Lipton's Takes on the Tesla Shareholder Vote

Are a must read.

Preliminary Thoughts on the Outcome of the Tesla Annual Shareholder Meeting Part 1: The Reincorporation Vote

Tesla's much anticipated annual shareholder meeting is now in the books. The two headline issues both passed with strong support: The vote to ratify Elon Musk's 2018 pay package passed with 72% in favor (excluding the stock owned by Musk and his brother). The vote to reincorporate in Texas required a majority of the outstanding shares and received 63%. The Form 8-K filed today provides a detailed breakdown:

Let's take up the reincorporation issue first. VC Travis Laster's TripAdvisor decision is widely regarded as a template for how the courts would review any challenge to the reincorporation. In that case, VC Laster refused to grant an injunction against the transaction taking place:

"The standard legal remedy is money damages. It seems quite likely that the court can craft a monetary remedy in this case that would be adequate. The remedial challenge will be to quantify the extent of the harm, if any, that moving from Delaware to Nevada imposes on the unaffiliated stockholders." Palkon v. Maffei, 311 A.3d 255, 285 (Del. Ch. 2024), cert. denied, No. 2023-0449-JTL, 2024 WL 1211688 (Del. Ch. Mar. 21, 2024)

"A judgment against the defendants in that amount should provide the plaintiff with a fully adequate remedy. The court will retain jurisdiction over the individual defendants even after the conversion is complete. The court can enter a judgment against any of them who are held liable. The plaintiffs can use standard collection procedures to enforce the judgment. If that requires domesticating judgments in other jurisdictions and enforcing them there, then the plaintiffs can do that." Id. at 286.

"Injunctive relief is therefore off the table. The pendency of this litigation should not delay the conversions from closing." Id. at 287.

Could a plaintiff pursue a monetary claim for damages arising out of the reincorporation decision? In TripAdvisor, Laster concluded that the transaction involved a conflict of interest for the directors and controlling shareholders of the company and was therefore subject to the exacting entire fairness standard of review:

"Under Delaware law, a controller or other fiduciary obtains a non-ratable benefit when a transaction materially reduces or eliminates the fiduciary's risk of liability. Delaware decisions have applied that principle repeatedly to mergers.The parties posit that no Delaware decision has applied those principles to a reincorporation merger, but that is not so." Id. at 270.

The non-ratable benefit in this case was the substantial reduction in liability risk that the controlling shareholders and directors would get under Nevada's lax corporate law. Although the court did not make a final determination on that issue, it held that the plaintiffs had sufficiently established the existence of a non-ratable benefit for purposes of withstanding a motion to dismiss.

"When entire fairness is the standard of review, and when a plaintiff 'alleges facts making it reasonably conceivable that the transaction was not entirely fair to stockholders, the granting of a motion to dismiss is inappropriate, because the burden is on the defendants to develop facts demonstrating entire fairness.'

"The plaintiffs have pled facts supporting an inference that the conversions were not entirely fair. The plaintiffs have pled facts sufficient to call into question the substantive dimension of fairness, because the stockholders will not receive the substantial equivalent of what they had before. When the Company and Holdings were Delaware corporations, the unaffiliated stockholders enjoyed all of the litigation rights provided by Delaware law. After the conversion, the unaffiliated stockholders will possess only the litigation rights provided by Nevada law. For the reasons already discussed, those litigation rights are inferably less than what Delaware provides.

"The plaintiffs also have pled facts sufficient to call into question the procedural dimension of fairness. The goal of procedural fairness is to replicate arm's length bargaining. The defendants did not make any effort to replicate arm's length bargaining. Management proposed the conversions, the Board recommended them, and Holdings and Maffei [the controlling shareholders] approved them.” Id. at 280-81.

What are the implications for Tesla? Two thoughts. First, Texas fiduciary duty law is less well developed than either Nevada or Delaware, but insofar as director liability is concerned it seems closer to Delaware than Nevada. So the litigation risk reduction may not be as great. OTOH, whether a controlling shareholder like Musk owes fiduciary duties either to the corporation or the minority shareholders seems unsettled, so that question would need to be resolved. I note that Ann Lipton thinks the question is more settled than I do:

Notwithstanding Tesla’s assertions to the contrary, I think it’s fair to say most spectators associated a move to Texas with a reduction in fiduciary litigation, or at least, successful litigation.  Partly, this is just a mood, i.e., the expectation that Texas judges presiding over cases involving Texas employer Elon Musk, under the watchful eye of Musk’s good friend Greg Abbott, are more likely to rule in Tesla’s favor.  But it’s also potentially built into Texas law, which may be interpreted as requiring plaintiffs to clear a higher bar for showing a lack of board independence.

Second, not all conflict of interest transactions result in liability. Under Delaware law, a conflicted control transaction can be cleansed if the controlling shareholder complies with the MFW conditions. Hence, as VC Laster explained:

"If a board proposed a similar conversion for a corporation without a stockholder controller, and if the fiduciaries fully disclosed the consequences of the change in legal regimes, including the effect on stockholder litigation rights, then the stockholders’ approval of the conversion would be dispositive, triggering an irrebuttable version of the business judgment rule. If directors proposed a similar conversion for a corporation with a stockholder controller, and if they properly conditioned the transaction on the twin MFW protections, then the dual approvals would be dispositive, again triggering an irrebuttable version of the business judgment rule." Id. at 262-63.

There are six MFW conditions, that boil down to (1) the decision was approved by a special committee of the board of directors comprised of independent board members, advised by independent legal and other advisors, and that is empowered to say no, and (2) whether the transaction was approved by a majority of the disinterested shareholders on a fully informed and uncoerced basis.

In TripAdvisor, the plaintiffs could only survive a motion to dismiss because the board had failed to comply with the MFW conditions: "The plaintiffs can only state a claim on which relief can be granted because (1) the corporation has a stockholder controller, and (2) the board did not implement any protective provisions."

In Tesla's case, the board appointed the requisite special committee.Sidley & Austin served as lead independent counsel to the committee. If you believe Sidley, the committee member was independent and devoted substantial amounts of time and effort to the decision. A key issue relating to this prong, however, is the fact that the special committee had a single member. Although a single member committee is permissible, there is Delaware case law holding that a multi-member committee is preferable. See, e.g., Gesoff v. IIC Industries, Inc., 902 A.2d 1130, 1146 (Del. Ch. 2006). There may also be questions about whether the committee member really had the power to say no, which is an essential MFW condition. Lastly, there may be a timing issue. MFW requires that the controller condition the transaction on the twin protections from the outset of the process. We might then ask when the process began and at what point did Elon condition the deal on the requisite protections.

As for the shareholder vote, the numbers satisfy the majority of the minority requirement. Given the considerable length of the disclosures in Tesla's proxy statement, it's hard to say the vote was an uniformed one. But, I think there's a plausible argument that the Tesla shareholders were coerced into approving the deal.

But the coercion issue arises again with the compensation vote, so let's turn to the compensation vote. See the next post.

Law Professors' Letter Opposing Amendment to DGCL 122(18)

Along with dozens of other top corporate law faculty, I signed a letter sent to the Delaware legislature opposing the proposed amendment to DGCL section 122(18). The amendment is designed to overturn VC Laster's recent decision in West Palm Beach Firefighters’ Pension Fund v. Moelis & Company.

I should stress that not everyone who signed the letter did so because they agree with Moelis. I would support a more carefully drafted legislative fix. But this proposal was drafted in a hurry and not very well. As the letter states:

The Proposal would do more than simply overturn Moelis. It would allow corporate boards to unilaterally contract away their powers without any shareholder input. It would also exempt such contracts from Section 115, thereby creating a separate class of internal corporate claims—including claims of breach of fiduciary duty—that could be arbitrated and decided under non-Delaware law. These would be the most consequential changes to Delaware corporate law of the 21st century, and they should not be made hastily—if at all.

Proponents of the Proposal argue that the Moelis decision struck down a common practice of Delaware corporations and that the Proposal merely restores the status quo ante. Not so. The contract in Moelis was far from typical, especially for public corporations, and the Moelis decision only held that certain of its provisions contravened the board-centric model of governance codified in Section 141(a). Those provisions could only be adopted in the corporate charter, and thus only after a majority of shareholders—who invested in reliance on Section 141(a)—gave their approval.

Pasta with Duck Ragu and Orin Swift 8 Years in the Desert

• 1 ounce dried porcini mushrooms
• 2 duck leg confit
• 2 oz guanciale, diced
• ¼ cup finely diced carrot
• 1 shallot, minced
• 3 cloves garlic, thinly sliced
• 1 tablespoon tomato paste
• ¼ cup red wine
• ½ tablespoon soy sauce
• 1 teaspoon Worcestershire sauce
• ½ teaspoon Better than Bouillon chicken base
• Kosher salt
• Black pepper, freshly ground
• A couple of grinds of nutmeg
• ¼ cup crème fraiche
• Chives, snipped into short pieces
• Pecorino cheese, freshly grated
• 5 oz dried pasta

Bring one cup of water to a boil. Add mushrooms and let soak off heat for 30 minutes. Remove mushrooms, rinse thoroughly, and dice. Set aside. Gently pour soaking liquid off the grit that will have collected on the bottom, while straining the water through a very fine mesh strainer. Set aside.

Remove the skin from the duck legs and discard. Remove the meat from the legs and discard the bones. Shred the meat and set aside.

Heat a large skillet over medium heat. Add guanciale to skillet and sauté until browned and crispy, which will take 6-9 minutes. Using a slotted spoon, remove guanciale to a paper towel0lined plate to drain. Leave fat behind in skillet.

Add carrots to skillet and sauté 2 minutes. Add shallots to skillet and sauté for 1 minute. Add garlic and sauté for 1 minutes. Do not let burn! Add tomato paste and cook 1 minute. Add mushrooms and duck to skillet. Sauté for 2 - 3 minutes, until warmed.

Deglaze the skillet with the red wine. Bring to a boil and reduce to a low simmer. Allow the wine to reduce by half. Add 1/2 cup of the soaking liquid. Add bouillon base and stir until dissolved. Add soy and Worcestershire sauces. Add nutmeg, salt, and pepper to taste.

The ragu does not need to braise long as the duck meat is already cooked. Ten to fifteen minutes should be plenty. Add a bit of water if the sauce gets too thick.

When ready, remove skillet from heat, add the crème fraiche, and stir to mix well.

Meanwhile, bring 4 quarts of water to a boil in a large pot. When it comes to the boil add 1 tablespoon kosher salt. Cook the pasta to al dente and drain. Do not rinse.

Plate the pasta. Top with sauce. Top with chives, black pepper, and cheese to taste.

I’ve used both pappardelle and bucatini with success. One of these days I want to try it with gnocchi.

We drank an Orin Swift Eight Years in the Desert (California) 2022, which was a great match. This wine is a blend of Zinfandel, Petite Sirah, Syrah. It's a deep, dark, almost brooding purple-black. Yet, despite its youth, it offered a robust bouquet of raspberry, blueberry, plum, and Indian spices. On the palate, the tannins are already round and soft. Red and black berries, spice, cedar, vanilla. Bright acidity. Very food friendly. Highly recommended. 

ExxonMobil shareholders crush climate activist shareholder efforts to make company go green

Exxon faced a revolt by ESG-oriented shareholder activists at its most recent annual shareholder meeting. As the meeting turned out, however, it was a clean sweep for Exxon. Despite activist opposition to reelecting two board members--chief executive Darren Woods and lead independent director Jay Hooley--all 12 of Exxon's board members were reelected. All directors got at least 87% of the vote.

ESG activists also put several proposals on the proxy statement. One requested that executive pay to emission reductions. Three requested reports by the board on, respectively, gender and racial pay gaps, the future of Exxon's plastic business, and the social impact of energy transition. All four lost.

Exxon CEO Woods reportedly stated that:

“Today, our investors sent a powerful message that rules and value-creation matter… we expect the activist crowd will try and claim victory on today’s vote, but common sense should tell you otherwise in light of the large margin of the loss."

I was particularly interested in this meeting, as I recently had an op-ed appear in the OC Register and its sister papers, CalPERS Continues to Play Politics Despite Poor Performance, attacking CalPERS announced it intended to support the ESG proposals. 

Exxon’s recent track record suggests that it is focused on short and long term returns for their shareholders. In fact, Exxon earned a record profit $7.6 billion in 2022 and also posted strong performance in 2023, allowing the company to pay their investors nearly $15 billion in dividends in 2023 alone.

Unfortunately, California’s public workers are not as lucky as those invested directly in Exxon. CalPERS regularly succumbs to political pressure and has consistently bad performance. From mid-2022 to mid-2023, a report from the Pacific Legal Institute noted that CalPERS only achieved a 5.8 percent return on their investments versus the 17.6 percent return earned by investors in the S&P 500. This poor performance followed what CalPER’s investment chief dubbed as a “lost decade” for failing to invest in private equity and trailing peer pension funds in almost every asset class.

Delaware Vice Chancellor Laster returns to the Moelis fray in Wagner v. BRP Group, Inc.

In West Palm Beach Firefighters' Pension Fund v. Moelis & Co.,[1] Vice Chancellor Travis Laster invalidated provisions of a stockholder agreement between Moelis & Company and Ken Moelis. Moelis & Co. is a publicly traded investment bank.[2] Ken Moelis is the firm’s founder, CEO, and Chairman of the Board.[3] Prior to Moelis & Co.;s IPO, Moelis and three affiliates entered into a stockholder agreement with the company, pursuant to which Moelis and his affiliates were granted extensive governance rights, which allegedly divested control from the Company's board.[4] The agreement was fully disclosed before the Company's 2014 IPO.[5]

In the opinion, the Vice Chancellor strongly reaffirmed the board centric nature of Delaware corporate law, which remains the rule even when the company has a controlling a shareholder.[6] After a lengthy review of Delaware case law on the distinction between invalid restrictions on board authority from valid contractual provisions impacting the board’s authority,[7] the Vice Chancellor concluded that the pre-approval rights, certain board composition provisions, and committee composition provisions fell on the invalid side of the line.[8] Although the Vice Chancellor acknowledged that agreements of the sort at issue in the case at bar had become common market practice, he emphasized that the statute controls when the two conflict.[9] Despite that seemingly self-evident truism, the decision generated substantial blowback from the practicing bar.[10] In particular, despite the opinion’s considerable length, it left practitioners frustrated by what they saw as considerable uncertainty as to how to apply the decision in the future.[11] This uncertainty had real world consequences, because it cast into doubt the validity of thousands of existing contracts[12] and “caused confusion about how such agreements should be prepared moving forward.”[13]

Three months later Vice Chancellor Laster returned to the fray in Wagner v BRP Group, Inc.,[14] in which a similar contract was at issue.[15] In Wagner, the Vice Chancellor described Moelis as having adopted a two pronged test. First, to determine whether the agreement implicates the boards authority under DGCL § 141(a), the court must evaluate “whether the challenged provision constitutes part of the corporation's internal governance arrangement. If not, then the inquiry ends.”[16] Second, the court must determine whether the arrangements “have the effect of removing from directors in a very substantial way their duty to use their own best judgment on management matters” or “tend[ ] to limit in a substantial way the freedom of director decisions on matters of management policy ....”[17]

As for the initial inquiry, the Vice Chancellor identified seven considerations to be weighed.[18] He concluded that the agreement at issue “closely resembles the stockholder agreement at issue in the Moelis Merits decision, and it provides another prototype of an agreement that falls into that category.”[19] Although practitioners may take some solace in having a second example of an invalid contract, it may be doubted whether a seven factor, highly fact specific test will provide much in the way of new certainty.[20]

As for the second factor, the Vice Chancellor concluded that the agreements substantially limited the board’s authority and were thus invalid.[21] Among other problems, the agreement required the CEO’s prior written approval of a proposal before the board could act on it. Explaining that such a provision put the cart before the horse, the Vice Chancellor observed that the agreement put “the Board in the same position as a management team that proposes options for a board to review and approve.”[22] Quoting your truly, the Vice Chancellor observed that the “power to review is the power to decide.”[23] By giving the CEO the power to review, the agreement gave him the power to decide, which is a power the statute reserved to the board.[24]

The decision strikes me as sound on the merits. Speaking as an ex-transactional lawyer, however, I would like to have seen brighter lines than the opinion offers. Speaking as a case book author, I'd like to see a much shorter opinion. It's very very hard to whittle modern Chancery decisions down into a manageable length.

In Moelis, the Vice Chancellor practically invited the Delaware legislature to decide whether the statute should be amended so as to allow the pre-Moelis market practice to continue.[25] In fact, the Delaware bar has proposed legislation that, among other things, would reverse Moelis. Tulane law professor Ann Lipton has been commenting frequently on that legislation:

What is the value of the corporate charter, a reprise

What is the value of the corporate form?

The Delaware contretemps continues

What is the Value of the Corporate Charter?

In the most recent post (the first listed above), Lipton (correctly IMHO) observes that:

... these proposed DGCL changes have very far reaching social consequences that simply have not been explored by Delaware lawmakers, let alone The Rest of Society.

I should also note that our friend who runs the invaluable The Chancery Daily has also been covering the legislative maneuvers with great insight. Here's a collection of Chancery Daily links.

Somewhat more controversially, VC Laster has been blogging about them on LinkedIn:

The Unintended Beneficiaries Of Section 122(18)

Round 5

Although I've heard grumblings from various sources that the Vice Chancellor should not be essentially blogging on legal issues, I don't have a problem with it as a general matter. In a disclaimer to the first posted listed above, VC Laster states:

I offer the comments in this post in my personal capacity. Canon 4 of the Delaware Judges’ Code of Judicial Conduct permits a judge to engage in “activities to improve the law, the legal system, and the administration of justice.” That canon says that “[a] judge may speak, write, lecture, teach, and participate in other activities concerning the law, the legal system, and the administration of justice (including projects directed to the drafting of legislation).” By writing this post, I am attempting to “write” on an issue concerning “the law, the legal system, and the administration of justice.” If someone had scheduled a CLE about the market practice amendments, I would have said the same things there.

That strikes me as correct. There is a long tradition of Delaware jurists engaging with the bar by writing law review articles, speaking at conferences, and so on. (After all, what else is there to do in Wilmington? I ask with love, of course.) Blogging on LinkedIn doesn't strike me as differing in kind from those more traditional venues. 

 

 

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.

The Trans-Atlantic Origin of Private Equity

British corporate law scholar Marc Moore has published a very interesting article on the trans-Atlantic origin of private equity, which he has summarized for the CLS Blue Sky Blog. Money quote:

Anglo-American private equity has a much longer, richer, and more complex history (or, if you like, pre-history) than is typically attributed to it. As such, modern manifestations of private equity from the 1970s onwards are not nearly as unusual in the broader context of historical investment practices as is commonly believed. Accordingly, there is much to be gained from viewing the modern private equity sector against the much longer, richer, and more contextually path-dependent backdrop that I set out in my paper. Moreover, the added value to students and scholars of private equity from taking such a long (and broad) view of their subject matter is especially pertinent in the contemporary context, as the private equity sector’s rapidly increasing bureaucratic scale and functional complexity present evolving new challenges for practitioners, policymakers, and external analysts alike.

Recommended reading.

Criticizing CalPERS for siding with shareholder activists rather than Exxon

The OC Register published my op-ed "CalPERS continues to play politics despite poor performance,"criticizing CalPERS for siding with shareholder activists versus Exxon.https://t.co/f4wVu3OEZJ

— Steve Bainbridge (@PrawfBainbridge) May 27, 2024

Why is Exxon suing climate change activist shareholders?

In response to my post Exxon's Lawsuit Against Activist Shareholders Continues, a friend and fellow corporate law academic sent along an interesting comment:

You think ExxonMobil's attempts to limit what kinds of proposals shareholders can put in management's proxy are good.  But are they as good for Exxon as the cost TO Exxon? That is, would a purely profit-maximizing ExxonMobil pursue the case? Presumably they would pay all the cost while only reaping a small portion of the benefit...

In response, I wrote that:

I am reminded of a couple of cases from my case book. Hoddeson v. Koos Bros., 47 N.J.Super. 224, 135 A.2d 702 (App.Div.1957). Koos Bros. went to trial over a $168.50 dispute. And then fought the case on appeal. The casebook then poses the question: “This is one of several cases in this text in which parties vigorously litigated disputes involving seemingly trivial amounts. Why on earth would Koos Bros. have gone to such lengths and expense?”

See also National Biscuit Company v. Stroud, 249 N.C. 467, 106 S.E.2d 692 (1959). National litigated a $171.04 bill all the way up to the North Carolina Supreme Court.

In 1954, according to a study by the Department of Commerce, the average income of lawyers in the United States was $10,220, more than twice as much as the average family income of the time. Slightly more than a quarter of these lawyers made less than $5,000 a year, and 18 percent earned $15,000 a year or more. The majority, almost two-thirds, earned between $5,000 and $10,000 yearly. So the fee likely exceeded the amount in dispute. So it seems to make no economic sense. So why did they do it? Granted, they may desire to set a precedent that benefits them, but most of the benefit would go to other businesses. As such, they bear all the costs of setting the precedent and reap only a small portion of the benefits. We puzzle some about that it in class, usually unsatisfactorily.

It seems to me not implausible that corporate executives are not always rational actors functioning on strict cost-benefit analyses. Perhaps Exxon management is simply fed up with climate activists trying to shut down their business. After all, they have had to put up with the Little Engine hedge fund fight and annual climate-related shareholder proposals.

Alternatively, the economics of the decision may be analogous to that of hedge fund activism. If a hedge fund succeeds in compelling a target company to make changes that raise the stock price, most of the gains flow to other shareholders who are freeriding on the activist. Yet, the activist makes enough money to justify the expense. Maybe Exxon thinks the costs to it of the shareholder proposal regime—including opportunity and reputational ones—justify setting a precedent.

Or maybe Exxon management thinks there will be non-pecuniary benefits to winning, such as the gratitude of public company CEOs everywhere.

Could corporate power statutes provide a way to end run Citizens United?

I was recently asked an interesting question: A corporation historically had only those powers that were specifically granted it by the legislature.  If the corporation took actions that it lacked power to undertake, those actions were deemed ultra vites and thus void.

Today, the ultra vires doctrine is mostly a dead letter. One of the reasons is that during the antebellum period states began abandoning any effort to regulate the substantive conduct of corporations through the incorporation process. In particular, MBCA § 3.02 says that every corporation shall have “the same powers as an individual to do all things necessary or convenient to carry out its business and affairs.” including a list of specified powers. I note by way of digression that this grant of power is subject to the qualification that the corporation possesses such power unless the articles of incorporation provide otherwise. Presumably, a corporation that wished to do so could include a provision in its articles of incorporation disavowing the power to make political contributions. This option provides little help for anti-Citizens United activists, however, because adopting an amendment to the articles to so provide requires approval by the board of directors and a vote of the shareholders. If the board does not approve the proposed amendment there is no way to get it before the shareholders and, of course, if the board did approve you would still need to persuade the shareholders to also do so.

DGCL § 122 sets out an extensive list of powers that corporations automatically possess by operation of law. In addition, DGCL § 121 provides that "every corporation, its officers, directors and stockholders shall possess and may exercise all the powers and privileges granted by this chapter or by any other law or by its certificate of incorporation, together with any powers incidental thereto, so far as such powers and privileges are necessary or convenient to the conduct, promotion or attainment of the business or purposes set forth in its certificate of incorporation." 

I discuss the issue of corporate powers and the ultra vires doctrine in more detail in my book Corporate Law (Concepts and Insights).

Let us suppose that the MBCA or the DGCL were amended so as to provide that corporations have no power to make political contributions. Would that fly? As a matter of corporate law, I assume so. In many states, many state statutes qualify the broad grants of power conferred by statutes like MBCA § 3.02 by including express limitations on the powers corporations may exercise. DGCL sec. 125, for example, provides that corporations have no “power to confer academic or honorary degrees unless the certificate of incorporation or an amendment thereof shall so provide and unless the certificate of incorporation or an amendment thereof prior to its being filed in the office of the Secretary of State shall have endorsed thereon the approval of the Department of Education of this State.” DGCL sec. 126 provides that no business corporation organized under the DGCL “shall possess the power of issuing bills, notes, or other evidences of debt for circulation as money, or the power of carrying on the business of receiving deposits of money.”

But would it be constitutional? Here we run into the perennial problem that the Supreme Court lacks a coherent theory of the corporation. Its opinions reflect little if any understanding of how corporate law and governance work, how various provisions interact, and the theoretical foundations that underlie corporate law and governance.

In my view, the unconstitutional conditions doctrine would come into play. Yes, corporations are creatures of state law and there is case law positing that incorporation is not a right but rather a privilege granted by the state. But "the modern 'unconstitutional conditions' doctrine holds that the government 'may not deny a benefit to a person on a basis that infringes his constitutionally protected ... freedom of speech' even if he has no entitlement to that benefit." Bd. of Cnty. Com'rs, Wabaunsee Cnty., Kan. v. Umbehr, 518 U.S. 668, 674 (1996). The same is true of other constitutional rights.

Notice, by the way, that we have been discussing so far a state amendment denying corporations the power to make political contributions. But what about independent expenditures? What about a proposal that said corporations may not speak on political issues. Setting aside the practical issues of how you constitutionally carve out an exception for corporations like the New York Times, such a proposal would even more explicitly raise speech issues and thus the unconstitutional condition issue.

In Am. Tradition Partn., Inc. v. Bullock, 567 U.S. 516 (2012), a one paragraph per curiam opinion, a 5-4 majority held that a Montana state statute providing that a “corporation may not make ... an expenditure in connection with a candidate or a political committee that supports or opposes a candidate or a political party” was unconstitutional. "The question presented in this case is whether the holding of Citizens United applies to the Montana state law. There can be no serious doubt that it does." 

Bullock would seem dispositive. After all, as the Supreme Court observed in Citizens United:

Either as support for its antidistortion rationale or as a further argument, the Austin majority undertook to distinguish wealthy individuals from corporations on the ground that “[s]tate law grants corporations special advantages—such as limited liability, perpetual life, and favorable treatment of the accumulation and distribution of assets.” This does not suffice, however, to allow laws prohibiting speech. “It is rudimentary that the State cannot exact as the price of those special advantages the forfeiture of First Amendment rights.”

Director Primacy is not Managerialist

According to Wikipedia:

Director primacy is a theory of the firm that was introduced by Bainbridge in an article in Northwestern University Law Review in 2003 (Vol 97 No 2). He argues that traditional firm theory is based on a false premise that the board's authority derives from the owners. He argues that while the board is appointed by the owners, the nature of the appointment is one in which the power to be exercised is not under the control of the appointing members. Once appointed then, directors are almost unfettered in their exercise of their powers. However, they are subject to overarching fiduciary responsibility which aligns their required actions with a shareholder wealth maximization principle.

For a concise summary of director primacy, see my 2011 blog post Director primacy in 5 minutes worth of bullet points.

Bill Bratton is a fellow corporate law scholar and one for whom I have great admiration. But I must quibble with something he wrote recently:

For most of the twentieth century there had prevailed a managerialist model of corporate governance that endorsed the delegation of substantial discretion to managers. But, at the century's close, the absolutist view represented a minority perspective.⁴⁶⁸

⁴⁶⁸ Steve Bainbridge was the leading proponent. See, e.g., Stephen M. Bainbridge, Director Primacy: The Means and Ends of Corporate Governance, 97 Nw. U. L. Rev. 547 (2003); Stephen M. Bainbridge, Director Primacy in Corporate Takeovers: Preliminary Reflections, 55 Stan. L. Rev. 866 (2002).

William W. Bratton, A History of Corporate Law Federalism in the Twentieth Century, 47 Seattle U.L. Rev. 781, 859 (2024).

In fact, I have always tried very hard to distinguish director primacy from managerialism. Director primacy is not intended to explain or defend "delegation of substantial discretion to managers." It is intended to explain and defend delegation of substantial discretion to directors.

In my view, that distinction is critical. As I explain at some length, "Director primacy should not be confused with what might be termed contractarian managerialism.'” Stephen M. Bainbridge, Director Primacy: The Means and Ends of Corporate Governance, 97 Nw. U.L. Rev. 547, 561 (2003). (The argument extends to page 563.)

I critiqued classic accounts of corporate governance because they failed "to distinguish between directors and officers. They thus ignored significant attributes of the board of directors that deserve special attention." Id. at 561. And I concluded that:

In situations of overt conflict between the board and top management, the board's authority prevails as a matter of law, if not always in practice. In sum, because the formal structure of corporation law mandates that management is subordinate to the board of directors and because board capture no longer has as much real-world relevance as it once did, director primacy proves superior to managerialism from both normative and positive perspectives.

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.

Duck Fat Roasted Baby Carrots

• 8 ounces baby carrots
• 1 ½ tablespoons duck fat, melted
• ¼ teaspoon sweet paprika
• ¾ teaspoon dried thyme
• ½ teaspoon kosher salt
• ¼ teaspoon black pepper
• 1 tablespoon honey, briefly warmed in microwave so it is runny

Preheat oven to 425 degrees.

Mix duck fat with thyme, paprika, salt, and pepper in a bowl large enough to hold the carrots.

I like the Earth Exotics baby carrots, which come pre-peeled, are just the right length, and actually look like carrots.

Add the carrots to the bowl with the duck fat mixture and toss until well coated. Put carrots on a baking sheet covered with a Silpat silicon baking mat (makes serving and cleanup much easier).

Bake carrots for 25 minutes or until they pierce easily with a parking knife. Using a small pastry brush, brush carrots with honey. Serve.

Smith-Madrone Riesling (Napa Valley; Spring Mountain District) 2019

Long time readers will recall my affection for Napa Valley's Smith-Madrone wine. It's a 34 acre vineyard perched on a steep slope high atop Spring Mountain on the western side of Napa Valley, with beautiful views. It's run by great people who make excellent wines that they price very fairly with high quality per dollar.

We drank the 2019 Estate Riesling with some moderately spicy Thai food, for which it made a great match. Unlike some vintages, the 2019 did not exhibit the trademark Riesling whiff of petrol (which can be a good thing). Instead, its lovely yellow-gold body offered up a complex bouquet of citrus, peach, pear, almonds, and honey. On the palate, it suggests Meyer lemon, papaya, peach, and a note of flint. This wine still has a lot of youthful vitality. Unlike most California white wines, this one will age well. Past experience with vintages that were allowed to mature suggests it will develop into a mature wine with lots of character. 

Highly recommended.