For CdM: On Shareholder Value

[Grey Fox]

Fucking shareholders.

[The Minsky Moment]

  What is really going on here is that executives are not worrying so much about shareholder value as they are about the value of their own stock options and it is being dressed up as concern for mom and pop shareholder.

This is more to the point I think.  The issue here is compensation policy and incentive alignment.  I.e. a garden variety principal-agent problem.  "Shareholder value" is just rhetorical window dressing. 

[crazy canuck]

Thus shareholders - and only shareholders - can assert derivative claims against the directors for disloyalty or carelessness. 

Exactly so.  It is important to note for those who are not familiar with derivative claims that it is a claim of the company asserted by the shareholders.  ie the shareholders claim on behalf of the company that the company has been wronged.  If the duty was owed directly to the shareholders then there would be no need for them to bring a derivative action.  They could simply sue in their own name directly against the directors.  Not a small distinction as obtaining court approval to launch a derivative action is often quite expensive.  The other duties you mentioned are offshoots of this concept.

Derivative actions are a very good illustration of why the concept that directors owe fidiciary duties directly to shareholders is at best questionable.

The distinction is important but the conclusion doesn't really follow.  The touchstone to determining whether the corporation's interests are harmed is the impact on the shareholder interest.  Thus the Delaware courts commonly describe the duties as duties owed to both the coporation and the shareholders.

The impact on shareholder interest is just part of the test which is significant because if a true fidiciary duty was owed to the shareholders it would be the only part of the test.  Instead we have such concepts as the business judgment rule which means the court will not second guess the business judgment of the directors.  A concept which is foriegn to an analysis where a true fidiciary duty arises.  I think that is what the article was getting at.

[crazy canuck]

  What is really going on here is that executives are not worrying so much about shareholder value as they are about the value of their own stock options and it is being dressed up as concern for mom and pop shareholder.

This is more to the point I think.  The issue here is compensation policy and incentive alignment.  I.e. a garden variety principal-agent problem.  "Shareholder value" is just rhetorical window dressing.

We agree. 

[The Minsky Moment]

The impact on shareholder interest is just part of the test which is significant because if a true fidiciary duty was owed to the shareholders it would be the only part of the test.  Instead we have such concepts as the business judgment rule which means the court will not second guess the business judgment of the directors.  A concept which is foriegn to an analysis where a true fidiciary duty arises.  I think that is what the article was getting at.

The BJ rule has a different function.  It is a practicality that stems from the fact that corporations are managed by Boards but may have thousands or even millions of shareholders.  It would be impractical for every single shareholder to be able to tie the corp up in litigation second guessing every decision.  So a high threshhold must be set before a shareholder can get into court. 

If the OP were right then any interested party should be able to sue derivatively - an employee, a creditor, a customer, a state government, etc.  They all have legitimate interests in proper board conduct.  But that is not the case.

[crazy canuck]

The impact on shareholder interest is just part of the test which is significant because if a true fidiciary duty was owed to the shareholders it would be the only part of the test.  Instead we have such concepts as the business judgment rule which means the court will not second guess the business judgment of the directors.  A concept which is foriegn to an analysis where a true fidiciary duty arises.  I think that is what the article was getting at.

The BJ rule has a different function.  It is a practicality that stems from the fact that corporations are managed by Boards but may have thousands or even millions of shareholders.  It would be impractical for every single shareholder to be able to tie the corp up in litigation second guessing every decision.  So a high threshhold must be set before a shareholder can get into court. 

If the OP were right then any interested party should be able to sue derivatively - an employee, a creditor, a customer, a state government, etc.  They all have legitimate interests in proper board conduct.  But that is not the case.

I dont read the OP that way, but if that is what it is saying it is wrong.  But that does not take away from the point that fiduciary duties (as that phrase is understood in the common law) are not owed to shareholders.  Your first paragraph is an additional good point to disprove its existence.  If a fidiciary duty was owed to all shareholders it would indeed be entirely impractical.  That is why the business judgment rule exists. It is the opposite of the concept of fudiciary duty.

Think about it in the context of minority shareholder oppression remedies.  If those minority shareholders were owed fidiciary duties then they would not have to rely on statutory rights of action to seek a remedy.  Further, in the day to day functioning of a corporation how could a board of directors function if they owed a fidiciary duty to all shareholders (even the ones who dissent)?

All corporate statutes recognize the impossibility of this by creating a system whereby the majority (and in some cases a supermajority) hold sway and the minority are given very limited rights of action if they can pass a very high bar.  As I said before, that is entirely inconsistent with saying they are owed a fidiciary duty.

[The Minsky Moment]

Think about it in the context of minority shareholder oppression remedies.  If those minority shareholders were owed fidiciary duties then they would not have to rely on statutory rights of action to seek a remedy.  Further, in the day to day functioning of a corporation how could a board of directors function if they owed a fidiciary duty to all shareholders (even the ones who dissent)?

All corporate statutes recognize the impossibility of this by creating a system whereby the majority (and in some cases a supermajority) hold sway and the minority are given very limited rights of action if they can pass a very high bar.  As I said before, that is entirely inconsistent with saying they are owed a fidiciary duty.

Minority shareholders ARE owed fiduciary duties but it is the controlling shareholders that owe those duties, not directors.  Othwerwise there wouldn't be shareholder oppression cases.

I don't see why the fact that corporate voting is generally by majority rule is inconsistent with the concept that Directors owe duties to shareholders.  It is apples and oranges.

[The Minsky Moment]

●The capital gains tax could be recalibrated so that short-term trading profits are taxed the same as wages and salary, while gains from investments held for long periods are taxed more lightly than they are now, or not at all. A small transaction tax could also dampen enthusiasm for short-term trading.

The differential cap gains treatment already exists.
The merits of a transaction tax can be debated but seems to me have nothing to do with the corporate governance problems raised in the OP

●The Securities and Exchange Commission could adopt rules that discourage corporations from giving quarterly earnings projections or guidance, while accounting regulators could insist that corporate financial reports better reflect long-term costs and benefits and measure long-term value creation.

Not clear to me how this would be done.  I agree the general concept of downplaying quarterly targets is sound.

●States could make it easier for corporations to adopt governance rules that give long-term shareholders more power in selecting directors, approving mergers and takeovers and setting executive compensation.

Seems to me this gives more power to shareholders, not less, albeit in a discriminatory way.  Somehow I don't think the OP author has really thought out the implications of the proposal.

[crazy canuck]

Minority shareholders ARE owed fiduciary duties but it is the controlling shareholders that owe those duties, not directors.  Othwerwise there wouldn't be shareholder oppression cases.

Thats my point JR.  Its not the board of directors who owe those duties.  The relationship between shareholders is separate and apart from the duties the directors owe.  That is why corporations always have separate representation is shareholder conflicts.

edit:  and as I think about your statement it is not entirely accurate.  The duty of the majority is not to act oppressively.  Which is an entirely different concept from acting in the best interest of the minority.  The majority is permitted to act in its own best interest so long as it is not oppressive to the interests of the minority.

A good example is dividends.  It might very well be in the interests of the minority to pay or increase divident payments.  If the majority had a fidiciary duty then it would have to act in the minorities best interests.  But it doesnt have to pay those dividends of it doesnt want to.  Its only duty is to allow the minority to share in any dividend which is paid.

[The Minsky Moment]

Thats my point JR.  Its not the board of directors who owe those duties.  The relationship between shareholders is separate and apart from the duties the directors owe.   

We agree - apples and oranges.
That doesn't mean directors can't owe a different set of duties to shareholders as a group.

edit:  and as I think about your statement it is not entirely accurate.  The duty of the majority is not to act oppressively.  Which is an entirely different concept from acting in the best interest of the minority.  The majority is permitted to act in its own best interest so long as it is not oppressive to the interests of the minority.

I think we are arguing terminology now.  The Delaware courts (and the other states I am familiar with) use the label "fiduciary duty" in talking about these kinds of cases.  Same is true in the derivative context where the cases use the phrase fiduciary duties owed to shareholders.  One can quibble about whether this an appropriate use of the label but that is what the courts say.

[Malthus]

The leading Canadian case on this very issue is  BCE Inc. v. 1976 Debentureholders, [2008] S.C.J. No. 37 (S.C.C.). I did up a very small case commentary for publication on this case, as follows. The bottom line: in Canada, the fiduciary duty is to the "best interests of the corporation"; courts will defer to the judgment of directors as long as they have "regard" for the various interests they may affect with their decisions, which certainly includes the shareholders - but also includes others as well.

Facts

When assessing the merits of three takeover offers the BCE board of directors found the purchaser's offer to be in the best interest of BCE and BCE shareholders. All offers before the board involved a substantial increase in debt liability for Bell Canada, a subsidiary of BCE. The deal was huge. A premium of 40 per cent over market value was paid per share, with a total value of $52 billion. The deal also involved Bell Canada guaranteeing $30 billion of BCE's debt. This arrangement was approved by 97.93 percent of BCE shareholders.
However, this arrangement was opposed by a group holding debentures ("debentureholders") issued by Bell Canada.

Plaintiffs' Claim

The debentureholders sought relief under the oppression remedy. They alleged that the arrangement was not "fair and reasonable" and also opposed court approval of the arrangement, which they claimed was required under section 192 of the Canada Business Corporations Act, which requires court approval for a change to the corporate structure. The debentureholders were concerned that the trading value and investment grade status of their debentures would decline by approximately 20 percent if the offer from the Purchaser was approved by the court. In short, they were of the opinion that the deal created a conflict between their economic interests and those of the vast majority of shareholders.   

Court Ruling

The Supreme Court found that there was no oppression, and that the arrangement should be approved under s. 192. In so doing it overturned the Quebec court of Appeal, which had previously ruled that the requirements for court approval under s. 192 had not been met on the basis that the debentureholder's "reasonable expectations" had not been met (and so declined to discuss oppression). 

Of greatest significance in this case was the findings on oppression. The Court held that directors may consider the interests of various stakeholders in their business judgments but, in this case, the directors had no choice but to craft, in the best interests of the corporation, a deal that could affect some stakeholders more severely than others. Under the business judgment rule, the courts should defer to decisions made by directors in cases such as these.

The case demonstrates the Court's approach to conflicts of interest between stakeholders. The Court held that, when conflicting interests arise, it falls to the directors to resolve them in accordance with their fiduciary duty to act in the "best interests of the corporation".  Significantly, this term was taken as including a ability to look to the interests of various sorts of stakeholders—not just the economic best interests of shareholders, but employees, creditors, consumers, governments and the environment. However, at the end of the day, the directors must make hard business choices and those choices could be expected to harm some interests more than others. While the debentureholders could reasonably expect the directors to take their interests into account when making their business decision, they could not reasonably expect the directors to make their decision in such a manner as to favor their interests.

In this case, the evidence demonstrated that the directors were alive to the concerns of the debentureholders. The directors therefore fulfilled their duty, which was to consider their interests. Commercial reality indicated that the debentureholders were entitled to no more. If the debentureholders wished greater protection, they should have bargained for it in advance.

[OttoVonBismarck]

1)  The problem is with the very goal of maximizing shareholder value.  Something else should be the goal, shareholder value is just a number on a stock ticker.

I think that it needs to be the goal, so I don't see this as a problem. Defining shareholder value is problematic in that some people define it in a way I would say is bad for long term investors in the company and good for speculative profiteers.

2)  The problem is that what is considered "shareholder value" is just a short term profit-taking, and investors are too stupid to price in the long-term damage appropriately.

I agree with this 100%, if you compare the United States to other OECD countries the way our corporations are run are very often ruinous to long term investors. There are some exceptions, but it is one reason I might favor more pressure to create new types of ownership models where outside shareholders are entitled to significant voting rights and the profits, but then there are special classes of ownership for employees and etc that guarantee them some level of voting power and etc. It's not so much an employee rights push ala German companies, but just the belief I have that companies with employee ownership/control of at least some board seats would be more likely to work to the long term interests of the company (which should also be to the long term interests of the shareholders.) Long term investor's interests won't always align with those of employees but I think a good stable, long term investment generally grows employment and compensation over time. Some moribund companies need employment cuts, obviously, and then I would prefer a company be structured so that can happen and employees can't block it.

3)  Maximizing shareholder value is not the only purpose, since corporation as an entity was entrusted with limited liability in exchange for some measure of social responsibility.

I do agree corporations have some social responsibility, but I don't feel it is significant enough it should be a major part of their day-to-day functions. Generally industrial companies or energy companies should probably do some work for renewable/green energy as a public good, health care companies should work to provide some sort of charity care etc. Companies should do stuff like that, but it is always (and should always) be a second tier responsibility not a first tier one.

[The Minsky Moment]

Malthus - debentures usually refers to some form of debt.  Were the plaintiffs in the case shareholders at all?  The summary indicates they might not be.

I believe that a US court would resolve the matter similarly - if anything more quickly as it is pretty well settled that debtholders can't bring fiduciary duty claims outside of the zone of insolvency.  Their protection is their debt covenants.

[Malthus]

Malthus - debentures usually refers to some form of debt.  Were the plaintiffs in the case shareholders at all?  The summary indicates they might not be.

I believe that a US court would resolve the matter similarly - if anything more quickly as it is pretty well settled that debtholders can't bring fiduciary duty claims outside of the zone of insolvency.  Their protection is their debt covenants.

Nope, not shareholders at all. The issue was the rights of non-shareholders to bring claims in the context of the business judgment rule. For this discussion, the significance is the issue of to whom the directors owe fiduciary duties - which was stated to be to the "best interests of the corporation" itself, as opposed to any particular group of stakeholders. Shareholders, under this scheme, are simply the most significant stakeholders, but are not themselves owed the duty. Part of the "best interests" analysis requires directors to at least turn their minds towards the interests of debentureholders, but if the best interests of the corporation as a whole outweigh the damage done to people like the debentureholders (not covered by contractual or other duties), it is simply too bad for them.

In the words of Yeats, a director must be found to have "... balanced all, brought all to mind ..." - that is, all the various interests that may be impacted; but having done that, and made a "reasonable" decision, he or she has done all the law demands ...

[DGuller]

Dick the Butcher was a wise man.