Summary
Symposium: Corporate Control Transactions
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Extract
The new federalism of the American corporate governance system: preliminary reflections of two residents of one small state.
At the beginning of a new century, the American system of corporate governance finds itself in tumult. Propelled by genuine outrage at abuses within companies like Enron, Worldcom, Tyco, Global Crossing, and Adelphia, and by fear of being held accountable for previous inaction, the federal government (through the Sarbanes-Oxley Act of 2002) (1) and the nation's two largest Stock Exchanges (2) (through committee reports that will, subject to Securities and Exchange Commission approval, generate new listing requirements) (3) have adopted important new initiatives designed to improve the integrity of corporate America--what we will call the 2002 Reforms.
Notably, the 2002 Reforms do not target only the core problems that gave rise to some of the more publicized scandals, but instead concentrate more generally on the manner in which public corporations should be governed. Indeed, one senses that it was easier for Congress and the Stock Exchanges to gain consensus on this broader corporate governance agenda than on measures that would (it can be argued) more specifically redress some of the incentives that gave rise to the past years' abuses. These include an obvious perception that fast-and-loose accounting and expenditure practices would not be easily detected nor prosecuted by federal and state governmental authorities, weak accounting principles that gave corporations leeway to engage in risky practices, and human greed tempted by perverse accounting and tax rules that encouraged questionable compensation arrangements. It is remarkable that neither Congress nor the Exchanges took action to rectify the perverse accounting incentives that now exist for executive and director compensation. (4) Currently, for example, a public corporation that desires to grant its executives restricted stock or stock options tied to genuine measures of performance must reflect a current balance sheet charge, but one that simply chooses to give its executives at-the-money options need not. (5) Likewise, the political branches of the federal government have hesitated to give the SEC all the resources it has sought to enforce the many existing laws that were arguably violated in the various scandals now under investigation. (6) Even some at the SEC have expressed reluctance to have the agency play a more full-bodied role in the regulation of the accounting industry. (7) With debate continuing about issues like these, Congress and the Exchanges chose instead to proceed more aggressively on other fronts. In particular, they adopted a wide array of corporate governance requirements that embody into law, in Congress's case, and into contract, in the case of the Exchanges, recommendations for good corporate governance that have been advocated for many years by commentators like Martin Lipton, Ira Millstein, former Delaware Chancellor William Allen, and Delaware Chief Justice E. Norman Veasey. (8) These distinguished commentators have long stressed the obligations of corporate directors to be vigilant in their oversight responsibilities and the integrity-assuring benefits of genuinely independent directors whose ability to choose and oversee top management impartially could not be questioned. In aid of their shared vision, these commentators articulated useful techniques (e.g., a majority of independent directors, the identification of a "lead" independent director, director oversight of legal compliance systems, and regular meetings of the independent directors outside of the presence of the management directors) that would facilitate effective monitoring by independent directors and that would limit room for abuse by insiders. The 2002 Reforms embrace their vision in a substantial manner. Taken together, the Sarbanes-Oxley Act and the proposed Stock Exchange Rules change an aspirational agenda for best corporate practices into a largely invariable model that must be followed by any listed company domiciled in the United States. (9) As members of a Delaware judiciary that has voiced strong support for many of the "best practices" that are now embodied in the 2002 Reforms, it would smack of hypocrisy for us to fail to acknowledge the substantial integrity-generating potential of these initiatives. In many respects, the 2002 Reforms reflect a recognition that useful practices that have been encouraged by the more tentative and contextually-specific teachings of the common law of corporations are sufficiently workable and valuable to merit system-wide implementation. Still, Delaware judges also anticipate being among the first governmental decision makers to confront real-world disputes influenced by the 2002 Reforms. These Reforms purport to mandate a wide range of actions by directors of Delaware corporations. Thus, it is unavoidable that the Delaware judges charged with adjudicating directorial compliance with legal and equitable duties will confront cases in which the mandates of the 2002 Reforms make their legal debut. ...See the full content of this document
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