Few Americans would recognize 1209 North Orange Street in Wilmington, Delaware, as a site of American power rivaling the White House or Capitol Hill. But thousands of American businesses—including giants such as Wal-Mart, Coca-Cola, and General Motors—claim North Orange Street as their registered address for the purpose of securing a Delaware corporate charter. All but a handful of these companies have no real connection to the state. But no matter. Delaware provides corporate foundational papers to all comers, and earns as much as a quarter of its state budget from the ensuing fees. Though Delaware has a population of less than one-third of 1 percent of the nation, more than half of Fortune 500 businesses claim a filing cabinet in Wilmington as home.
So what, you say?
The corporate law of Delaware governs the internal affairs of companies chartered there, regardless of where the companies actually operate. Wal-Mart may look like an Arkansas company, Coca-Cola a Georgia company, and General Motors a Michigan company. But Delaware law governs the obligations of management and of the company toward society. It’s been this way for more than a century, since the state started enticing companies to incorporate there with promises of broader corporate powers and looser regulations. Delaware now adjudicates whether executives violate fiduciary duties when voting themselves extravagant perquisites or spending money on favorite political candidates. Delaware regulates when shareholders are liable for corporate debts. Delaware decides whether the fiduciary duties of directors run to shareholders alone or to other stakeholders.
These rules matter. The corporate mantra of “shareholder value” has been blamed for everything from the global financial crisis and the BP oil spill to heartless dependence on sweatshops in Bangladesh. And what is the source of “shareholder value” as a corporate obligation? Delaware.
Scholars disagree on whether the state’s rules provide more protection for shareholders or managers. But one thing is absolutely clear: Delaware corporate law cares not at all about employees, communities, customers, or other stakeholders, except insofar as shareholders also gain. If there is a conflict, shareholders must win. The chief justice of Delaware’s highest court recently said just that, warning that executives who take care of an “interest other than stockholder wealth” breach their fiduciary duties.
Gouging customers for shareholder gain? Fine. Using child labor overseas for shareholder gain? Go for it.
This legal rule is mistaken on its own terms, but doubly problematic because of the antidemocratic nature of Delaware’s dominance. Delaware has every reason to externalize the costs of its legal rules on other states and on stakeholders in those states. Those negatively affected have no recourse. A corporation headquartered in New York, with all of its facilities, employees, customers, and shareholders in New York, is beyond New York’s reach when it comes to matters of corporate governance. The company can take advantage of all that New York offers but is insulated when it comes to its corporate governance. That’s because, the company says, it really lives in Wilmington.
Power without accountability has no democratic legitimacy. If companies could choose which state’s environmental, employment, or anti-discrimination law applied to them, we’d be outraged. We should be similarly outraged about Delaware’s dominance in corporate law.
Two fixes are available, and both are straightforward.
Delaware’s dominance comes about mostly through deference by other states. Most states declare in their own law that a corporation’s organization and internal affairs are governed by the laws of its chartering jurisdiction, which usually means Delaware. This need not continue. States could assert the right to govern corporations that have their principal place of business within their borders. (That was long the rule in Europe, though it’s currently under attack by companies that want to import the U.S. rule there.) Certainly a state where a company is headquartered has a greater claim on governing that company than Delaware. There may be disagreements with some companies as to which state’s law should control. But that is a commonplace kind of legal dispute—it’s called “conflict of laws”—and courts can make those judgments fairly quickly. But one thing’s for sure: Delaware is unlikely to win an argument that a shell address gives it more democratic pedigree than a state where a company is headquartered or where it employs thousands of people.
The second fix is more ambitious: Stop using state law to govern the organization and structure of the most powerful economic institutions in the world. Other countries govern corporations at the national level, and we should too. At the national level we can subject corporate law to the constraints of democratic pluralism, making sure the costs of corporate behavior are not externalized to those shut out of the democratic process. Corporations of a sufficient size to affect national interests should be chartered at the national level.
Only then we can have a national debate about shareholder value, stakeholder rights, corporate political expenditures, and the like, in a setting where all our voices matter. Now, in Delaware, our voices matter not at all.