Editor: Elsewhere in this issue, concern is expressed about the competitiveness of U.S. capital markets. One of the reasons cited for the avoidance of our capital markets is the existing regulatory framework at a federal level. Delaware continues to attract corporations to the state. What lessons does Delaware's experience teach?
Steele: The obvious comparison which reflects favorably on Delaware is the fact that we have specialized people on the courts who are familiar with commercial and corporate legal issues. That gives us an advantage in that we have, particularly in the Court of Chancery, a well developed body of case law going back over 100 years that is consistently and frequently fine tuned with principled doctrine in mind. In that sense, our approach is analogous to the principle-based regulation approach of the UK's Financial Services Authority. Judges do the fact finding and application of the law and produce written opinions that serve as guideposts to litigants in particular cases, corporate advisors in the boardroom, and to boards and management.
Secondly, in Delaware the emphasis has always been on efficiency. There is a consciousness that people who are involved in commercial and corporate litigation need to move their money. They need to know where it can be placed profitably. Therefore we have a rule that suggests that judges in the absence of extraordinary circumstances should produce a written opinion within 90 days of submission. The parties control the length of litigation to some degree although we emphasize strong case management. The parties have some options in the amount of discovery they take although that too is highly structured. Our judges have the ability at the motion to dismiss stage to dispose of unmeritorious cases promptly and at the summary judgment stage to dismiss cases on the basis of limited discovery that has crystallized the issues. For cases that go to trial, once the case is over the judge is required to submit an opinion within 90 days. Apart from post-trial briefing that the parties may request, 90 days is the norm after the evidence is in.
I believe that by Judicial fact-finding and by avoiding delays in disposition, Delaware holds a competitive advantage. There may be in some jurisdictions around the country some concerns about litigation practice, either the cost or length of time or unpredictable results because of juror fact finding. That is not the case in Delaware. It serves as a message to businesses that Delaware is a jurisdiction where you can achieve efficiencies in litigation. Our Court of Chancery has the jurisdiction to mediate disputes submitted to it by parties in the public sector without any extraordinary fees to pay a professional mediator, even if the court does not have jurisdiction over those disputes under any Delaware statute.
Editor: What benefits would a company coming to the U.S. have if it reincorporates as a Delaware corporation?
Steele: News Corporation is a major international company that moved from its home country and chartered in Delaware. First, one of the advantages is that as a Delaware corporation it gets the benefits of Delaware's general corporation law, which is an enabling statute that provides the option of selecting from a menu of alternatives for structuring the internal governance of the corporation. The Delaware legislature and the corporate laws committee of the Delaware Bar are aggressive in keeping that statute up to date. People often observe that it is the model for the ABA's Model Business Corporation Act.
Second, you get the efficiencies from the Secretary of State's office allowing one to access any paperwork within an hour or two of a request. The Secretary of State's office is open 24 hours a day, 7 days a week. It prides itself in getting information promptly to those that seek it.
Finally and arguably, most importantly you get a court system that creates a level playing field, a balanced environment where there is neither a shareholder nor management or board of directors' bias. You get the opportunity to benefit from a substantial body of written case law as well as a general corporation law that has been refined over time and continues to be refined on a case by case basis. There is less uncertainty in outcomes - there is no room for an erratic or unpredictable outcome. If you are dissatisfied with the result and you have a solid basis for an appeal, you can appeal to a Supreme Court that includes three former Vice Chancellors, a former Superior Court judge and an experienced practitioner who has been on the court for more than 20 years. That kind of combination of certainty, predictability, and efficiency draws corporations to this state.
Editor: If a Delaware corporation is sued in an out of state court in a case dealing with the rights and responsibilities of directors, is Delaware law applicable in such situations?
Steele: Yes, given our huge body of precedent, any jurisdiction can draw on our body of corporate law that is embodied in written opinions that represent consideration by skilled Delaware judges of both the law and the facts in a wealth of cases that explain in various contexts how Delaware law applies. Because the facts as well as the law are determined by judges, Delaware corporate law is not skewed by random jury decisions. We do not expect that every piece of litigation involving a Delaware corporation where Delaware law is applied needs to be brought in our state. Many plaintiffs choose other forums for a variety of reasons. Those jurisdictions have access to our case law on which they can draw to apply Delaware law appropriately.
Editor: There are concerns with respect to intrusions by the federal government and prosecutors into Delaware corporate law. How troubling is that?
Steele: Since the 1930s it is well accepted that the federal government has a role in fraud on the market cases and in disclosure. To the extent that there is enforcement by the SEC or a local U.S. Attorney's Office, there is nothing new about it. It does not intrude in the state "lane" in any appreciable respect because fraud and disclosure have always been in the federal "lane." Where the intrusion is occurring in a way that is troubling to those of us who believe in a common law contextual approach to problems is primarily under three Sections of Sarbanes-Oxley - 301, 307, and 402. Moreover, we are generally concerned about the tendency throughout Sarbanes-Oxley to open the door to enforcement actions which may result in interpretations of common law principles that create in effect new law without judicial consideration of the influence that the interpretation might have on the current understanding of the law as interpreted by our courts.
In light of the Court v. Ash, Sante Fe and Business Roundtable cases, one wonders how far the SEC is going under the authority they believe they have in expanding their role beyond fraud on the market and disclosure cases. They and the DOJ are moving into the actual board room and run the risk of overriding principles that have been established under the common law of fiduciary duty for many years and that are still being refined by the courts with each case that develops on the presentation of a new fact situation. We in Delaware believe the common law method for resolving these issues to be preferable to prescriptive legislation that bright lines a one-size-fits-all mode.
In Section 301, Congress in a roundabout way requires the SEC to incorporate regulation in stock exchange rules for the purposes of establishing requirements for audit committee membership and defining "independence" - two matters that had traditionally been assumed to be "internal" governance standards interpreted under state law. It is interesting to see in what a convoluted and complicated way the feds approach this. They do this by listing separate prescriptive reasons that purport to define a lack of independence. Under the common law when approaching issues from the fiduciary duty perspective, a person's "independence" can be distilled simply into whether they can make an objective decision as a director - whether they are interested financially themselves or whether they are under someone else's control. It seems to us wedded to the common law that this is a more flexible and much better prism for scrutiny of directors' conduct than establishing lists of things that do and do not pass muster across the board regardless of context.
Another troublesome aspect of Sarbanes-Oxley is the regulation of attorneys under section 307. It has always been within the state's domain to regulate attorneys. Remarkably, Congress provided for and the SEC has assumed regulatory authority over attorneys' conduct on the theory that they have to report up the organization violations of federal law, state law and breaches of state fiduciary duty law. Quite apart from the wisdom of broadly defining "practice before the SEC" in order to bring attorneys' scrutiny within their disciplinary authority, a potential conflict exists between what the feds may consider to be a breach of fiduciary duty and how the states might interpret an alleged breach on a case by case basis. Rather than resolving issues that make it easier for corporations to act with certainty, that is going to create significant uncertainty. We do not know whether the SEC will follow the state law interpretation or not. That could be the real problem going forward.
Section 402 is the prohibition of corporate loans to corporate officers and directors. Delaware has always permitted those loans within the scope of an appropriate exercise of fiduciary duty. Congress's prohibition outright is a micromanaging decision by the Federal Government at the Congressional level that is somewhat perplexing. One wonders whether the extent to which the unintended consequences of that move to micromanage the boardroom are known or even of concern to Congress.
The above provisions of Sarbanes-Oxley are clear intrusions into what have been state waters in the past. We need to stay in our lane and they need to stay in theirs. Yet we see other legislation being proposed that would stray into our lane. A bill is before the Senate that would govern the extent to which states must disclose the names of investors in state chartered businesses. That would put an enormous strain on the secretary of states' offices around the country. Absent a widespread problem and with a substantial body of anti-fraud legislation in place, one wonders why that is under consideration regardless of cost. The House has a bill before it to have shareholders vote on executive compensation. This legislation conflicts directly with the ABA Model Act and the DGCL in that boards, subject to their fiduciary duties, not shareholders, manage the corporation
One way we have tried to address federal intrusion into our lane is that our legislature is considering a second leg of a constitutional amendment that would allow the SEC to seek an advisory opinion from the Delaware Supreme Court whenever an issue of Delaware state law arises under the enforcement and regulatory authority of the SEC. Presumably, that would give the SEC an outlet to come to us under circumstances where the law may not be as clear as they would like and to ask the Supreme Court of Delaware for an advisory opinion on what fiduciary duty may be owed under specific circumstances. I expect that amendment to pass this month. The SEC will then have the option to ask us for an opinion on Delaware law when and if they wish to have it.
Editor: Do you feel that the philosophy of the "business judgment rule" is being attacked?
Steele: As our Chancellor has observed, statutes at the federal level are blunt instruments. The decisional law of Delaware, while based on a flexible enabling statute, is more finely tuned. There is no question that it erodes the business judgment rule when you micromanage the internal governance of a corporation and restrict a board's ability to innovate and to take risks. There has never been a question in my mind that the decisional law approach protects shareholder rights in a way that encourages shareholder confidence. Case law guidelines are developed on an incremental basis on the basis of specific fact situations while at the same time reaching a balance by encouraging broad action and innovation by corporate officers and directors who are protected by the business judgment rule. They are able to take responsible risks to build shareholder wealth and to advance the corporation. There has never been an institution like the corporation for building wealth, providing jobs, innovating products and rendering services. The extent to which government chills that entrepreneurial spirit outside of the fraud and disclosure lane by trying to micromanage each corporation in the same way regardless of the culture of the business seems totally counterproductive.
Editor: What safeguards exist in Delaware to prevent excessive jury verdicts?
Steele: One of the advantages of Delaware is that the Court of Chancery cannot award punitive damages. In both our Superior Court and Court of Chancery, any award of damages has to be reasonably related to the harm that was suffered. Our Superior Court judges carefully scrutinize jury awards with that standard in mind. When a general fund is created, current or future shareholders will pay for that fund. That is something that Delaware scrutinizes carefully because a settlement in non-jury class actions or derivative suits cannot go into effect until a member of the Court of Chancery has approved it. One of their focuses is who pays the ultimate "bill." They look at the source of the funds and consider the relationship of current future shareholders to the fund. Fundamentally, whenever damages may be awarded, they are subject to a "rule of reason" - not left to speculation.
Published May 1, 2007.
