Explaining Delaware's Dominance: Firm Heterogeneity and Demand for Legal Flexibility

This paper investigates why Delaware became the dominant jurisdiction for U.S. public firms. We argue that Delaware’s advantage lies in its combination of flexible, judge-made standards, an expert judiciary, and a responsive legislature. We develop a model of incorporation choice by heterogeneous firms in which uncertainty over the appropriate balance between managerial discretion and shareholder authority makes adaptable standards valuable. The model predicts greater demand for Delaware when takeover activity makes that balance more context-dependent and when institutional ownership raises demand for shareholder protection. Consistent with these predictions, institutional ownership is strongly associated with choosing Delaware when firms go public, while takeover exposure predicts reincorporation into Delaware. Model-based counterfactuals indicate that institutional ownership and acquisitions account for Delaware’s rise in market share from 1980 to 2010. Our analysis highlights common-law flexibility as an important link between legal institutions and financial development.