Skip to main content

For decades, corporate law played a pivotal role in regulating corporations across the United States. Consequently, Delaware, the leading state of incorporation, and its courts played a central part in corporate law and governance. However, through analysis of the legal and economic developments we show that this is no longer the case. The transformation of American equity markets from retail to institutional ownership has relocated control over corporations from courts to markets and has led to the death of corporate law. As a result, Delaware courts today play a much less influential role in corporate disputes.

Until recently, Delaware courts engaged in a high level of judicial involvement with corporate disputes. For instance, in a series of landmark decisions beginning in the 1980s, Delaware courts played a pivotal role in regulating hostile takeovers. Delaware Supreme Court held that board-adopted defenses against hostile takeovers are legal, thereby allowing boards to unilaterally adopt “poison pills” and then “just-say-no” to hostile takeovers, notwithstanding shareholders’ desires. Effectively courts had the power to dictate the allocation of control rights between boards and shareholders.

All of this, however, has changed. While boards are free under Delaware jurisprudence to adopt a poison pill to fend off hostile takeovers, directors are hesitant to do so, fearing shareholders’ reaction. As a result, in more than half of all contemporary hostile bids, a poison pill is never implemented, even after the hostile bid launched. Similarly, although the Delaware courts permit boards to use a poison pill together with a staggered board, shareholder activists have managed nonetheless to dismantle most staggered boards. Sidestepping the courts, shareholder activists engaged in an extremely successful campaign, leading ultimately to an 80 percent drop in staggered boards among S&P 500 companies.

Moreover, the use of hedge fund activism has become a routine method for shareholders to wield control rights outside of courts. Activist hedge funds will procure a relatively small stake in a company, issue a “white paper” detailing criticisms of the company’s management, and then campaign for other shareholders to vote against management in a proxy fight. To avoid the fiasco of a public proxy dispute, and despite the Delaware courts’ approval of anti-activist poison pills, companies often settle with activists behind the scenes, for example, by allowing the activist to appoint individuals of its choosing to the company’s board. Activists can thus sidestep judicial oversight altogether by taking advantage of the pressure generated by their threat of a proxy fight, rendering corporate law entirely irrelevant.  

What brought about the death of corporate law? We show that the relative magnitude of shareholder competence and court competence is a crucial determinant of whether the parties will prefer judicial intervention as opposed to the use of voting rights. When shareholders have relatively low competence (as with retail investors) they are more likely to rely on a court for dispute resolution. By contrast, when shareholders have relatively high competence (as with institutional investors), they are more likely to resolve these issues on their own through the use of voting rights.

As increased institutional ownership and complementary market mechanisms (such as hedge fund activism and proxy advisers) bolster the competence of U.S. investors, judicial dispute resolution becomes a less desirable option. And as companies have grown accustomed to the ability of institutional investors to discipline management outside of the courtroom, companies have come to care more about their investors’ business opinions than about the Delaware courts’ judicial opinions. Over time, this dynamic has made corporate law marginal and has eroded the significance of the Delaware courts.

More News

Scroll to Top