Wednesday, November 9, 2016
Contrary to widespread belief, corporate directors generally are not under a legal obligation to maximise profits for their shareholders. This is reflected in the acceptance in nearly all jurisdictions of some version of the business judgment rule, under which disinterested and informed directors have the discretion to act in what they believe to be in the best long term interests of the company as a separate entity, even if this does not entail seeking to maximise short-term shareholder value. Where directors pursue the latter goal, it is usually a product not of legal obligation, but of the pressures imposed on them by financial markets, activist shareholders, the threat of a hostile takeover and/or stock-based compensation schemes.
Bainbridge take a contrary position, citing Delaware Supreme Court Chief Justice Strine, who says, "a clear-eyed look at the law of corporations in Delaware reveals that, within the limits of their discretion, directors must make stockholder welfare their sole end, and that other interests may be taken into consideration only as a means of promoting stockholder welfare." Strine further notes that "advocates for corporate social responsibility pretend that directors do not have to make stockholder welfare the sole end of corporate governance, within the limits of their legal discretion."
I read these positions as consistent, though I think the scope of what is permissible is certainly implicitly different. I agree that Strine is right to say that "directors must make stockholder welfare their sole end." But I also agree that "disinterested and informed directors have the discretion to act in what they believe to be in the best long term interests of the company as a separate entity." My read of the business judgment rule (BJR) is that, absent fraud, illegality, or self-dealing, courts should abstain from reviewing director decisions, meaning that the directors decide what"stockholder welfare" means and what ends to use in pursuit of that end. That is, I think it's wrong to say "directors generally are not under a legal obligation to maximise profits for their shareholders," but I do think directors usually get to decide what it means to "maximise profits."
I am a firm believer in director primacy, and I believe directors should have a lot of latitude in their choices, subject to the BJR requirements. Thus, if a plaintiff can show self dealing (like maybe via giving to a "pet charity" described in A.P. Smith v. Barlow), then the BJR might be rebutted (if the gift is inconsistent with state law and/or constituency statutes). But otherwise, it's the board's call. Furthermore, where a company builds its brand and acts consistently with its prior actions, that might expand the scope of permissible behavior for a company (i.e., not be evidence of self-dealing). Thus, companies like Tom's Shoes and Ben and Jerry's should be able to continue to operate as they always have when they bring in new directors, because what might look like self-dealing in another context, is consistent with the business model.
eBay v. Newmark (pdf here) is often used to rebut that notion, but I still maintain that case is really about self-dealing -- the actions taken by Jim and Craig were impermissible not because they were working toward "purely philanthropic ends," but because they took actions that benefited themselves to the detriment of their minority shareholder, such as use of poison pills).
Anyway, I am still a believer in the BJR as abstention doctrine. Show me some fraud, illegality, or self-dealing or I'm leaving the board's decision alone.