The role of aspiration in corporate fiduciary duties.

• Author: Velasco, Julian
• Position: Introduction through II. Why the Divergence? p. 519-553

ABSTRACT

Corporate law is characterized by a pervasive divergence between standards of conduct and standards of review. Courts often opine on the relatively demanding standard of conduct, but their judgments must be based on the more forgiving standard of review. Commentators defend this state of affairs by insisting that it provides guidance to directors without imposing ruinous liability. However, the dichotomy can lead many, especially those who focus on the bottom line, to call into question the meaningfulness of standards of conduct. Of particular concern is the increasing popularity, in legal and scholarly circles, of the notion that fiduciary duty standards of conduct are aspirational and unenforceable. This theory, which I will call the "aspirational view," is misguided. The use of the term "aspirational" is especially problematic. Whatever else "aspirational" may mean, it does not mean obligatory or mandatory. Whether by design or only by effect, the aspirational view has the potential to undermine fiduciary duties significantly. In this Article, I will argue that fiduciary duty standards of conduct are in fact duties--fully binding on actors even when they are not enforced. I will also argue that the unenforced duty is a meaningful concept because people obey the law for many different reasons, and not simply out of fear of punishment.

TABLE OF CONTENTS INTRODUCTION I. THE ASPIRATIONAL VIEW A. Legal Scholarship B. The Disney Case C. Judges Writing Extrajudicially II. WHY THE DIVERGENCE? A. Acoustic Separation B. Room for Error III. BIFURCATION OR TRIPARTITION? A. Bifurcation B. Tripartition IV. STANDARDS OF CONDUCT ARE NOT MERELY ASPIRATIONAL A. Are Standards of Conduct Aspirational? B. The Viability of the Unenforced Requirement C. Is There Enforcement After All? CONCLUSION INTRODUCTION

A peculiar characteristic of corporate law is the divergence of standards of conduct and standards of review. (1) Standards of conduct are rules of behavior that tell actors what is expected of them. Standards of review, on the other hand, are rules of decision that tell judges how to adjudicate cases. In many areas of law, the two types of standards coincide. For example, in tort law, the standard of conduct is ordinary care, and the standard of review is negligence, which is generally defined as the lack of ordinary care. Intuitively, it makes sense for actors to be judged by the standards with which they are expected to comply. However, the two types of standards need not align. In corporate law, they do not.

Corporate law is characterized by a pervasive divergence between standards of conduct and standards of review. For example, with respect to the duty of care, directors are expected to act with ordinary care, but judges will review their actions not for negligence, but for gross negligence. (2) Likewise, with respect to the duty of loyalty, directors are expected to act without conflicts of interests, but judges will review their actions for fairness, and only if there is a financial conflict of interest that rises to the level of self-dealing. (3) It is similar for the duty of good faith: directors are expected to honestly pursue the interests of the corporation and its shareholders, but judges will review their actions for intentional misconduct. (4) The wisdom of this divergence may be debatable, but its existence is not.

Courts often will speak of fiduciary duties in lofty terms but generally do not follow up with enforcement action. Ultimately, claims of breach of fiduciary duty rarely lead to liability for directors. This is a predictable consequence of the divergence. Courts often opine on the relatively demanding standard of conduct, but their judgments must be based on the more forgiving standard of review. Commentators defend this state of affairs by insisting that it provides guidance to directors without imposing ruinous liability. (5) However, the dichotomy can lead many, especially those who focus on the bottom line, to call into question the meaningfulness of standards of conduct.

Of particular concern is the increasing popularity, in legal and scholarly circles, of the notion that fiduciary duty standards of conduct are aspirational and unenforceable. This theory, which I will call the "aspirational view," is misguided. The use of the term "aspirational" is especially problematic. "Aspiration" is generally defined as "[a] strong desire for high achievement" (6) or "[a] fervent hope, wish, or goal"; (7) synonyms include "ambition," "hope," "dream," and "ideal." (8) Perhaps the term is intended to elevate fiduciary duties by appealing to grand moral ideals. Its actual effect, however, is to debase fiduciary duties by rendering them optional and perhaps even unachievable. After all, whatever else "aspirational" may mean, it does not mean obligatory or mandatory. That standards of conduct are sometimes described not only as unenforced but unenforceable only reinforces this impression. I believe that the growing popularity of the aspirational view presents a dangerous development that ought to be arrested. Whether by design or only by effect, it has the potential to undermine fiduciary duties. To the extent that fiduciary duties are not enforced by courts, they depend upon voluntary compliance. Presumably, greater compliance can be expected for mandatory rules than for optional ones. (9) Thus, moving fiduciary duties from the former category into the latter likely would have negative consequences: if directors come to believe that standards of conduct are aspirational rather than mandatory, and therefore optional, they can be expected to reduce compliance over time.

In this Article, I will argue that the aspirational view is misguided and that fiduciary duty standards of conduct are duties--fully binding on actors even when they are not enforced. My argument will proceed as follows. In Part I, I will provide examples of the aspirational view in both judicial opinions and corporate law scholarship. In Part II, I will explore the justification for the divergence between standards of conduct and standards of review in corporate law. I will explore two theories: the acoustic separation theory, and what I call the room-for-error theory. Although the acoustic separation theory might support the aspirational view, it is deeply problematic and has not been adopted by the courts. The room-for-error theory is a more solid justification for the divergence and is the theory on which the courts and most scholars rely. This theory provides greater support for the mandatory view of fiduciary duties.

In Part III, I will argue that this divergence does not result in a bifurcation of fiduciary duties, as is commonly believed, but rather a tripartite division. First, standards of review create a minimum threshold for liability: conduct that is sufficiently egregious will lead to liability whereas less offensive conduct will not. Second, standards of conduct create a separate threshold: they distinguish between conduct that is required by law and conduct that is not. In other words, standards of conduct include behavior that is required by law but not legally enforced. Third, beyond standards of conduct, there is behavior that is praiseworthy and ought to be encouraged, but which the law does not specifically require. This, I will argue, is the realm of aspiration. Best practices are a possible example: generally, fiduciaries ought to consider following best practices, but they are not necessarily required to do so. Thus, fiduciary duties are not bifurcated between standards that are enforced and those that are merely aspirational. Rather, there is a third category, which is often overlooked, that comprises standards that are required but not enforced.

In Part IV, I will defend this tripartite division and the mandatory view of fiduciary duties. First, I will argue that fiduciary duty standards of conduct are not inherently aspirational and unenforceable. Although courts, at times, describe fiduciary duties in lofty terms, they generally articulate standards of conduct that are quite mundane and perfectly enforceable. Second, I will defend the concept of the unenforced duty--which is, essentially, the heart of the standard of conduct. I will argue that it is a meaningful concept because people obey the law for many different reasons, and not simply out of fear of punishment. Finally, I will propose the view that fiduciary duties are not unenforced after all, but only imperfectly enforced--a fate shared by all laws.

As I hope to demonstrate, the fundamental flaw of the aspirational view is that it conflates unenforced duties with aspirational ideals. According to the aspirational view, a fiduciary's duty of care is merely to avoid gross negligence; to avoid negligence is merely aspirational. This is much too little to expect and demand of directors. Fiduciaries are supposed to be held to a higher standard because of their position of trust, but under this view, they are actually held to a much lower standard than the average person. Strangers generally owe each other a duty to avoid negligence, yet such conduct is considered aspirational for directors. This cannot be correct. For good reasons, we may not hold directors accountable for failure to meet the standard of conduct. However, we cannot pretend that the standard of review satisfies the role of the standard of conduct and that the standard of conduct is merely aspirational.

1. THE ASPIRATIONAL VIEW

   The divergence between standards of conduct and standards of review in corporate law raises an important question: what are we to make of standards of conduct? Standards of review are fairly straightforward: they are the law as enforced. But standards of conduct are not enforced. This can lead one to question what they represent.

   There are two obvious, competing theories. The first I shall call the "mandatory view." It maintains that standards of conduct...