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Director versus Shareholder Primacy in New Zealand Company Law as Compared to U.S.A. Corporate Law


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Any model of corporate governance must answer two basic sets of questions: (1) Who decides? In other words, when push comes to shove, who has ultimate control? (2) Whose interests prevail? When the ultimate decision maker is presented with a zero sum game, in which it must prefer the interests of one constituency class over those of all others, whose interests prevail?

On the means question, prior scholarship has almost uniformly favored either shareholder primacy or managerialism. On the ends question, prior scholarship has tended to favor either shareholder primacy or various stakeholder theories. In contrast, this author has proposed a “director primacy” model in which the board of directors is the ultimate decision maker but is required to evaluate decisions using shareholder wealth maximization as the governing normative rule.

Shareholder primacy is widely assumed to be a defining characteristic of New Zealand company law. In assessing that assumption, it is essential to distinguish between the means and ends of corporate governance. As to the latter, New Zealand law does establish shareholder wealth maximization as the corporate objective. As to the former, despite assigning managerial authority to the board of directors, New Zealand company law gives shareholders significant control rights.

Comparing New Zealand company law to the considerably more board-centric regime of U.S. corporate law raises a critical policy issue. If the separation of ownership and control mandated by the latter has significant efficiency advantages, as this article has argued, why has New Zealand opted for a more shareholder-centric model? The most plausible explanation focuses on domain issues, which suggest that there are a small number of New Zealand firms for which director primacy would be optimal. The unitary nature of the New Zealand government may also be a factor, because the competitive federalism inherent in the U.S. system of government promotes a race to the top in which efficient corporate law rules are favored.

Published in: Law, Business, Economy & Finance
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Director versus Shareholder Primacy in New Zealand Company Law as Compared to U.S.A. Corporate Law

  1. 1. May 27, 2014 Director Versus Shareholder Primacy in New Zealand Company Law as Compared to U.S.A. Corporate Law Stephen Bainbridge UCLA School of Law
  2. 2. The Means and Ends of Corporate Governance Stakeholders Corporate Objective Shareholders ShareholdersControlDirectors Shareholder Primacy Team Production Communitarians ?
  3. 3. The Means and Ends of Corporate Governance Stakeholders Corporate Objective Shareholders ShareholdersControlDirectors Shareholder Primacy Team Production Communitarians ? “A new theory of the firm has emerged that appears more complete than its predecessors: Professor Stephen M. Bainbridge’s model of director primacy.” Seth W. Ashby, 2005 U. ILL. L. REV. 521, 533
  4. 4. Part I How Do Shareholder Primacy and Director Primacy Differ?
  5. 5.  “Allen is one of the most respected jurists on corporate governance. When he writes, lawyers listen.” • James Lyons, Conflicting Interests, Forbes, Mar. 30, 1992, at 48  “It is the obligation for directors to attempt, within the law, to maximize the long-run interests of the corporation’s stockholders.” • Katz v. Oak Indus., Inc. (Del. Ch. 1989)  “The theory of our corporation law confers power upon directors as the agents of the shareholders; it does not create Platonic masters.” • Blasius Industries, Inc. v. Atlas Corp. (Del. Ch. 1988) The Shareholder Primacy Model
  6. 6.  “The business and affairs of every corporation organized under this chapter shall be managed by or under the direction of a board of directors” DGCL 141(a) • The board’s powers are “original and undelegated” - Manson v. Curtis, 119 N.E. 559, 562 (N.Y. 1918) – Shareholders have “the regular opportunity to elect the members of the board, but during the directors’ terms, the board has the power, informed by each director’s decisions in the exercise of his or her fiduciary duties, to direct and oversee the pursuit of the board’s vision of what is best for the corporation.” (ABA 2010) – Shareholder control rights limited – Voting rights limited to review of a few fundamental decisions – Proxy system and 13(d) restrictions on shareholder voting and communication – Derivative litigation burdened by procedural barriers and BJR – Market for corporate control hampered by combination of poison pill and classified boards The director primacy model
  7. 7. The ABA Committee on Corporate Laws (2010)Hollinger Inc. v. Hollinger Intern., Inc. (Del.Ch.2004) Klaassen v. Allegro Development Corporation (Del. Ch. 2013) Kevin L. Turner, 57 ALA. L. REV. 907 Larry Ribstein, 1 BERKELEY BUS. L.J. 183In re CNX Gas Corp. S'holders Litig. (Del.Ch.2010) Cases and Commentators “[D]irector primacy remains the centerpiece of Delaware law, even when a controlling stockholder is present.” Noting “the bedrock statutory principle of director primacy established by Section 141(a) of the DGCL.” “It is through … centralized management that stockholder wealth is largely created.” “Corporate governance is best characterized as based on ‘director primacy.’” “Delaware jurisprudence favors director primacy in terms of the definitive decision-making power …” Reaffirmed MBCA policy of vesting “the power to direct and oversee the management of the corporation in the board of directors, rather than in the shareholders.”
  8. 8. Kamin v. American Express (N.Y. Sup. Ct. 1976) “The directors’ room rather than the courtroom is the appropriate forum for thrashing out purely business questions which will have an impact on profits, market prices, competitive situations, or tax advantages.” Bayer v. Beran (N.Y. Sup. Ct. 1944) “To encourage freedom of action on the part of directors, or to put it another way, to discourage interference with the exercise of their free and independent judgment, there has grown up what is known as the business judgment rule.” Marx v. Axers (N.Y. 1996). “By their very nature, shareholder derivative actions infringe upon the managerial discretion of corporate boards. . . . Consequently, we have historically been reluctant to permit shareholder derivative suits, noting that the power of courts to direct the management of a corporation’s affairs should be exercised with restraint” Smith v. Van Gorkom (Del. 1985). “The business judgment rule is the offspring of the fundamental … that the business and affairs of a Delaware corporation are managed by or under its board of directors. ... The business judgment rule exists to protect and promote the full and free exercise of the managerial power granted to Delaware directors.” Illustration: The Business Judgment Rule
  9. 9. Part II Is Director Primacy Descriptive? Comparing New Zealand and US Law
  10. 10. USA New Zealand  Dodge v. Ford Motor Co. (Mich. 1919): • “A business corporation is organized and carried on primarily for the profit of the stockholders. The powers of the directors are to be employed for that end. The discretion of directors is to be exercised in the choice of means to attain that end, and does not extend to a change in the end itself, to the reduction of profits, or to the nondistribution of profits among stockholders in order to devote them to other purposes.”  Companies Act § 131 provides that “a director of a company, when exercising powers or performing duties, must act in good faith and in what the director believes to be the best interests of the company.” • Peter Watts (2012): “While there is no duty on directors to maximize profit, there is also nothing to prevent them doing so.” • P.M. Vasudev (2012): “The company statute in New Zealand retains more or less the traditional principle of shareholder primacy.” The Corporate Objective
  11. 11. NZ USA Allows shareholders to give “themselves the right to select the company’s CEO” (Watts 2012) CEO selection a board prerogative. (MBCA § 8.40) Comparing New Zealand Company Law to U.S. Corporate Law
  12. 12. NZ USA Allows shareholders to remove “from directorial control the majority, if not all parts, of business decision making” (Watts 2012) Limits on board managerial power allowed in closely held corporations buy only by unanimous shareholder agreement. (MBCA § 8.01) Comparing New Zealand Company Law to U.S. Corporate Law
  13. 13. NZ USA Requires shareholder approval of “major transactions.” (§ 129) Shareholder approval only of fundamental transactions (e.g., mergers or sales of substantially all assets). Comparing New Zealand Company Law to U.S. Corporate Law
  14. 14. NZ USA  Shareholders with > 5% of voting power can call a special meeting. (§ 121)  Shareholders can petition court to order special meeting. (§ 123)  Shareholders with > 10% of voting power can call a special meeting. (MBCA § 7.02) • Threshold can be raised to 25% • Delaware allows elimination of shareholder right to call a special meeting.  Court can only order special meeting if annual meeting has not been held within 15 months of last meeting. (MBCA § 7.03) Comparing New Zealand Company Law to U.S. Corporate Law
  15. 15. NZ USA If constitution of company so provides, shareholders can pass binding resolutions relating to management of company. (§ 109)  Shareholder resolutions on ordinary business matters can be excluded from proxy statement. (SEC Rule 14a-8) • Shareholder resolutions infringing on substantive managerial power improper. CA v. AFSCME (Del. 2010) Comparing New Zealand Company Law to U.S. Corporate Law
  16. 16. NZ USA  Takeovers Code Rule 38(1): “If a code company has received a takeover notice or has reason to believe that a bona fide offer is imminent, the directors of the company must not take or permit any action, in relation to the affairs of the code company, that could effectively result in— (a) an offer being frustrated; or (b) the holders of equity securities of the code company being denied an opportunity to decide on the merits of an offer.  Unitrin, Inc. v. American General Corp. (Del. 1995): “When a corporation is not for sale, the board of directors is the defender of the metaphorical medieval corporate bastion and the protector of the corporation's shareholders. The fact that a defensive action must not be coercive or preclusive does not prevent a board from responding defensively before a bidder is at the corporate bastion's gate.” Comparing New Zealand Company Law to U.S. Corporate Law
  17. 17. Part III The Normative Case for Director Primacy
  18. 18. Kenneth Arrow • The Limits of Organization (1974) Michael Dooley • Two Models of Corporate Governance, 47 Bus. Law. 461 (1992) Director primacy • Authority versus accountability • The case for authority Key waypoints
  19. 19. Consensus Authority Arrow’s models  Collective decision making • E.g., partnerships  Central decision making body • E.g., public corporation
  20. 20. “Cheaper and more efficient to transmit all the pieces of information to a central place” that makes “the collective choice and transmit it rather than retransmit all the information on which the decision is based” Asymmetric information Divergent interests Collective action problems When to opt for authority
  21. 21. Arrow: • Accountability mechanisms “must be capable of correcting errors but should not be such as to destroy the genuine values of authority” • “If every decision of A is to be reviewed by B, then all we have really is a shift in the locus of authority from A to B” • Constraints on shareholder powers both with respect to voting and litigation follow. But what about agency costs?
  22. 22. Part IV Choosing Sides
  23. 23. The domain of director primacy is principally public corporations The domain of director primacy is defined by separation of ownership and control Assume shareholder primacy is “alive and well” in New Zealand company law (Watts 2012): The domain of director primacy New Zealand only has about 150 listed companies (i.e., public corporations). • 95% of listed companies are small or medium-sized enterprises. New Zealand companies characterized by concentrated ownership: • “Majority control companies increased from 7% in 1974 to 22.1% in 1981, and management control companies decreased from 48.8% to 30.4% over the same period.” (Fox et al. 2012) ‒ Contemporaneous with adoption of Companies Act 1993
  24. 24. Assume shareholder primacy is “alive and well” in New Zealand company law (Watts 2012): The role of competitive federalism
  25. 25. Assume shareholder primacy is “alive and well” in New Zealand company law (Watts 2012): The role of competitive federalism
  26. 26. Choosing Director Primacy, if: Many large public corporations Dispersed shareholders Shareholder Primacy, if: Few large public corporations Concentrated shareholders