Uber-ized corporate law: toward a 21st century corporate governance for crowdfunding and app-based investor communications.

• Author: Verrett, J.W.

This Article begins with a thought experiment about how corporate governance of small public companies trading on new platforms--like crowdfunding portals (or alternatively, "crowdfunding exchanges")--might be expected to evolve to make corporate governance easier and more flexible for users. New opportunities could involve increased use of default rules whereby shareholders or owners defer direct participation in governance (in line with the Bainbridge director primacy argument), subject to default participation rules developed on crowdfunding platform apps (in a multitude of ways, including through open source methods). (1) They could also include more shareholder empowering regimes. In examining the heterogeneous corporate governance needs that crowdfunded firms are likely to have, this Article will link contributions from the New Institutional Economics, or "Theory of the Firm" Literature, to corporate entity formation to provide a flavor for the range of "outside the box" innovations that may be possible in a new and more competitive corporate chartering race free from the federal overlay.

Of all the claims made in this Article, the strongest is that increased use of arbitration--rather than litigation--to resolve shareholder claims against company defendants will be a necessary element to reinvigorated charter competition for crowdfunded firms. The SEC currently prohibits full use of arbitration of shareholder claims against companies. This Article argues that since antifraud actions under the Securities Exchange Act of 1934 and state corporate governance claims are now largely interchangeable, the SEC's intransigence on arbitration, in spite of federal case law favoring arbitration generally, must be addressed to make state law arbitration a viable alternative means of adjudication for states that compete with Delaware as sources of business entity law.

1. PRELUDE: A WINDOW INTO THE 21ST CENTURY WORLD OF CORPORATE GOVERNANCE II. CROWDFUNDING: AN EVENT WINDOW TO RENEW CORPORATE FEDERALISM A. What is Crowdfunding? B. The Economics of Crowdfunding Demonstrate that Crowdfunding Will Require a Level of Flexibility that Current Federal Preemption Would Not Facilitate 1. Expected Demand for Arbitration 2. Expected Demand for Non-Traditional Governance Structures 3. Expected Demand for Novel Shareholder Participation for Some Crowdfunded Firms, Particularly Public Hybrid Firms with Constraints (Enduring or Limited) on the Profit Maximization Objective 4. Expected Demand to Facilitate Adaptive Funding Methods 5. Expected Demand to Facilitate Their Organic Growth 6. Expected Demand for Unique Dissolution Procedures C. One Perspective on Uberization: An Interest Group Story Suggesting Crowdfunding Can Make Corporate Federalism Stick D. A Second Perspective on Uberization: App-Based Interaction Changes the Information Cost. Conventional Wisdom of the Collective Action Story of Corporate Law E. Analogue to Crowdfunding?: The U.S. Over-the-Counter Pink Sheets Market F. Analogue to Crowdfunding: The London AIM Market III. THE STATE OF CORPORATE FEDERALISM A. When The Federal Overlay Is Rolled Back, Innovation Sprouts: The Case of Publicly Traded Master Limited Partnerships IV. ARBITRATION OF DISPUTES BETWEEN SHAREHOLDERS AND BOARDS, AND A CODE ADAPTED FOR THAT PURPOSE, TO COMPETE WITH DELAWARE A. Arbitration is Key to Challenging Delaware B. Does Ribstein's Uncorporation Thesis Fill the Gap in Demand? C. The Federal Government and Delaware Both Discourage Arbitration for Public Company Shareholders D. Arbitration Will Require a Novel Code Design, and (Initially) an Advisory Opinion Mechanism E. Blending the Economics of Crowdfunding Firms with a New Corporate Law System Free of the Federal Overlay V. CONCLUSION I. PRELUDE: A WINDOW INTO THE 21ST CENTURY WORLD OF CORPORATE GOVERNANCE

   Imagine downloading a "crowdfund app" (2) and selecting a few dozen companies for purchase of shares costing roughly $100 each. When you set up your crowdfund app, you are prompted with a series of questions with choices. One might read: "Do you wish to (1) receive updates about company elections and participate in shareholder votes for the board; (2) select a default of voting for the management recommended slate of nominees in all elections; or (3) vote for management nominees unless a list of material negative events recommended by Crowdfund Inc. has occurred?" You may be notified with other messages: "You may change your voting defaults under the settings tab at any time," and possibly, "Do you want to be reprompted with this question any time you purchase new shares through Crowdfund App?"

   Periodically, you may receive updates on your app. You check the app a few months later and find an update which states: "A bidder has made an offer of $120 for your share in Techmarket Inc., and will cease purchases when he has acquired 90% of the shares. If the bidder is successful in acquiring 90% of the outstanding shares, your interest may be frozen out and you may be required to accept an offer that may be lower than the tender offer. If so, you may also submit a request for appraisal at that time (see here for more about the appraisal process). The most recent closing price for one share is $110. Do you wish to accept?"

   You select "no." A few days later, you receive another update: "The bidder has acquired a 90% stake in Techmarket Inc. and has invoked the freezeout statute. You may either accept the freezeout price of $110, or choose to join an arbitrated appraisal process. Pursuant to arbitrated appraisal, over a 24-hour period an independent accountant will determine whether to award you the freezeout price, or to award you an amount either higher or lower than the freezeout price. If you select arbitrated appraisal, and you wish to register your preference for the arbitrator (which includes an algorithmic weighting incorporating preferences submitted by both the controlling shareholder and frozen-out shareholders), a list of eligible arbitrators can be found at the link below accompanied by user ratings of those arbitrator candidates." Periodically, you check your crowdfund app to track the status of your investments; you examine updates about other pending litigation and elections in companies in which you are invested, selecting from menus if you choose to participate.

   You may later open the crowdfund app to find an update stating: "Techmarket Inc.'s annual election is taking place in 30 days. You may access the proxy statement filed with the SEC at the following link. Your default settings are to vote with management unless the company has issued a restatement of its finances because of a significant prior fraud or error discovered in its quarterly reporting. The company has issued such a restatement in the last year. Please vote for a maximum of 12 candidates from the nominees provided by the Board of Directors or those nominated by shareholders with a greater than 5% stake in the company, who are allowed to nominate candidates pursuant to the company's corporate charter, included in the list below."

   The app might also prompt: "You have subscribed to voting recommendations from Corporate Governance Analytics Inc. That crowdfunding portal analysis provider recommends you vote for eight candidates from management and four candidates recommended by shareholders listed below. To follow that recommendation, click this button." Or, alternatively, if you do not have time or inclination to participate in that way, those decisions could all be made for you according to default actions you select per stock, or for all stocks, in your settings tab. These defaults provided to aid your decision-making on the app-based platform could be developed via an open source method, in which corporate governance professionals--like corporate lawyers--design the defaults and thereby attempt to augment their professional reputations.

2. CROWDFUNDING: AN EVENT WINDOW TO RENEW CORPORATE FEDERALISM

   Investors and entrepreneurs will soon face corporate governance challenges as crowdfunded companies--traded on small crowdfunding portal exchanges--soon go online pursuant to a recent SEC rule. (3) Corporate governance entity forms created for large public firms may not be best for this novel, ultra small scale public firm. Similarly, existing off-the-rack LLC options intended primarily for private firms may not exactly fit (particularly Delaware's model). Moreover, powerful interest groups controlling corporate innovation in the leading state of entity formation may have conflicts that limit innovation sufficient to meet required needs. in any event, a federal overlay that selectively preempts corporate governance, and could preempt it further in unexpected ways, further limits incentives of states active in chartering competition to further innovate.

   This Article argues that unless a complete rethinking of the federal overlay in corporate governance is undertaken, investors and entrepreneurs may miss their "Uber moment" in business entity formation competition as crowdfunding portals go online in coming years. Imagine if the Romans were prohibited from recognizing the separate entity formation that facilitated the creation of the aqueducts, or if the 19th century incorporation model (where state legislatures were required to pass a new bill to create every new business entity) was still in effect as the nation's economy entered the 20th century. That is the precipice on which business entity law currently sits.

   In part, the new crowdfunding platforms are interesting for the simple fact that they open up the possibility for a new experiment in corporate governance. It may be the case that crowdfunding firms have unique dynamics very different from the type of firms currently traded on public platforms, and this Article will explore why that may be the case. But even if they are similar, crowdfunding nevertheless opens up an opportunity to apply...