Lawrence A. Cunningham reviews the arguments over Delaware’s recently signed Senate Bill 21, which changes the balance of power in corporate governance law, and discusses what developments may come next.
Corporate America recently witnessed the ongoing evolution of corporate law in Delaware when the state updated its corporate code. Introduced on February 17 and enacted on March 25, Senate Bill 21 narrows the scope of company information that shareholders can inspect and insulates certain transactions from judicial scrutiny. Legal challenges are being made alleging that these new rules, by potentially encroaching on the judicial branch’s powers, contravene Delaware’s Constitution, which grants its Court of Chancery broad equitable authority.
While it is debatable whether the law’s changes are sweeping, they sparked a passionate debate among participants, who view the risks differently. Proponents argue that increased litigation in recent years, and resulting uncertainty for transaction planning, threatens Delaware’s corporate law leadership. Notably, Elon Musk recently moved his corporations from Delaware to Texas and Nevada after a series of disputes with the Delaware judiciary over his purchase of Twitter and a Tesla compensation package.
In contrast, critics contend that influential figures—from Bill Ackman to Mark Zuckerberg and including Musk—are pushing their own interests at the expense of Delaware’s reputation for protecting shareholders. The Council of Institutional Investors, an influential coalition including large asset managers, spoke out against the bill, some members cautioning that the bill itself threatens Delaware’s corporate law leadership.
Political aspects of the debate
As debate unfolded, political tensions rose. Proponents appealed to Delaware voters and legislators by emphasizing the substantial revenue generated by attracting businesses to incorporate in Delaware, underscoring the law’s importance for the state’s economic future. They said the bill was essential to prevent a flood of corporations from following Musk to reorganize elsewhere.
Opponents, on the other hand, argued that powerful interests behind the law could disadvantage Delaware residents. Many asset managers who run massive index funds said they would reconsider investing in Delaware corporations due to concerns about investor protection under the law. Critics even sponsored billboards, flyers, and lawn signs denouncing the law, labeling it the “billionaire’s bill” and featuring images of Elon Musk holding a chainsaw.
Another sensitive issue is comity—respectful coexistence among the branches of government—as the law responded to and circumscribed the discretion of Delaware’s highly respected corporate law judges. Legislative responses to judicial rulings can be demoralizing, after all.
Critics of the law also challenged the process of its creation, noting that the bill did not originate with the state’s special council of corporate lawyers, as is typical. Instead, the governor led the initiative, enlisting experts to draft the bill quickly due to perceived time pressure from the upcoming proxy season, when companies might propose reincorporating in another state.
The General Assembly acted on the bill within six weeks, with input from a group of corporate lawyers but bypassing the lengthier deliberations of the special council. Supporters praised the governor’s leadership and the expedited process, while critics argued that this deviation and perceived opacity undermined Delaware’s traditional approach of thorough review and consensus.
The law’s key provisions
The heart of the law contains two distinct provisions.
Books and Records Litigation
The first addresses the scope of requests filed by shareholders seeking access to a company’s books and records. This can help shareholders, including activists, seeking to promote accountability. However, in recent years, there has been rising demand and amplified rights in this area. This has created uncertainty that frustrates many companies, especially those having to turn over emails and text messages along with traditional financial books and meeting records.
The new law seeks to curtail these requests and legal challenges, offering relief to corporations. While this topic may not be weighty enough to prompt companies to reincorporate elsewhere, it could influence advisors when deciding where to incorporate in the future. It will be important to observe litigation trends, activism levels, and shifts in Delaware incorporations moving forward.
Controlling Shareholder Transactions
The second part of the law focuses on how Delaware courts treat transactions involving controlling shareholders, responding to a specific Delaware Supreme Court ruling from last year. Under the ruling, transactions involving “controlling” shareholders were subject to close judicial review unless approved by both disinterested, fully informed directors and disinterested, fully informed shareholders. Participants in such transactions faced scrutiny at each step, as well as uncertainty—determining whether a person exerted “control,” whether a director was truly disinterested, and whether shareholders were fully informed.
The law introduces a clearer path by defining control with a specific ownership threshold, creating a presumption of director disinterest in line with stock exchange rules, and providing a “safe harbor” for certain transactions if approved by either the director or shareholder route—no need for both. These significant changes are characterized in opposing ways in the debate: proponents stress that this enables corporate planners to design such transactions with the potential to limit the liability of controlling shareholders while critics counter that this removes virtually all protections minority shareholders have against overreach by controlling shareholders.
Beyond that divergence, there are two further factors. First, controlling shareholders remain subject to some constraints under the statute, and Delaware courts retain equitable powers to intervene in cases of misconduct that shock the judicial conscience. Second, minority shareholders who feel they need more protection are not obligated to invest in controlled companies or others who may benefit from the law. Such investors, both individual and institutional, will have to weigh the costs of including such companies in their portfolios against the benefits of diversification.
The debate over capture, conflicts and stakes
Debate surrounding the law was marked by accusations of interest group capture on both sides. Proponents argue that its critics promote the interests of the plaintiff’s bar, who stand to benefit from litigation fees. Critics, in turn, argue that the bill’s supporters are unduly influenced by corporate interests, citing Meta’s involvement in kickstarting the legislative process.
A related point of contention involves the backgrounds of the individuals who drafted the law. Critics argue that some of the drafters work for private firms whose clients benefit from the law’s provisions. While concerns about potential conflicts are worthy of consideration, it is important to note that these individuals are widely regarded as experts in Delaware’s corporate law. The group included esteemed former Delaware judges and a distinguished Delaware Law School professor.
Supporters contend that the drafters’ experience and expertise are essential for ensuring Delaware’s corporate law remains robust and effective. These differing perspectives reflect the broader dynamics of “capture,” where each side accuses the other of undue influence. Recognizing that such conflicts are inherent in the democratic process is crucial—and that even rival vested viewpoints can contribute to a balanced and effective legal framework.
In the end, the state’s elected leadership overwhelmingly approved the bill, with a vote of 52 to 7 in Delaware’s General Assembly. Despite this broad approval, critics continued their challenge, arguing that the process was rushed and that hearings were unfair to them and witnesses they presented.
Outside observers might be taken aback by the fervor of the debate. Compared to more prominent issues like abortion, climate change or gun rights, the stakes might appear relatively modest. These changes primarily pit one side’s economic interests against the other’s, rather than involving life-and-death issues. Nonetheless, these changes are significant and could have lasting implications.
Legal and financial implications of the new law
While the new law reduces certain shareholder protections, it also presents potential legal and financial benefits. Litigation is not cheap—ranging from $50,000 for the simplest of cases to $1 million or more for high stakes corporate cases. Not all shareholders are eager to devote such resources to lengthy and expensive legal battles. By reducing related risks, the law could allow companies to focus more on growth, innovation, and strategic development, which could ultimately benefit shareholders as a whole.
The role of litigation in corporate governance is a matter of ongoing debate. Critics argue that litigation serves as an important check on corporate power, ensuring that shareholder rights are upheld and that managers are accountable. Proponents of the law, on the other hand, counter that reducing unnecessary litigation fosters a more efficient corporate environment, where resources are directed toward business advancement rather than prolonged legal disputes.
Delaware has historically occupied a middle ground in this debate, with the state’s corporate law framework often trying to strike a balance between protecting shareholder interests and enabling businesses to function effectively. Supporters of the law argue that it sustains this tension and that the previous regime went too far in the name of protecting shareholders, while opponents contend that it abandons the balance that has been the hallmark of Delaware law.
These philosophical debates proceed considering how competing jurisdictions address corporate law issues. States like Texas and Nevada vie to challenge Delaware’s dominance in corporate chartering, often advertising a pro-management climate. The federal government occasionally preempts corporate law in certain areas, such as oversight of auditing and executive compensation, sometimes stressing a pro-shareholder orientation. Related threats warrant attention as Delaware engages in the dynamic field of corporate governance, steering the balance between shareholder legal claims and corporate flexibility.
Looking ahead
Debate is expected to persist, particularly given the constitutional challenges surrounding the separation of powers. Should a court determine that the legislation violates the state’s Constitution, proponents would face a crucial decision: whether to convene a constitutional convention to amend the foundational document.
Alternatively, a group of professors proposed allowing companies to choose between adhering to pre-law judicial opinions or opting into the new law. While such an “opt-in” approach is common and appealing in corporate law, it may not resolve the constitutional challenge. If the law infringes on the Delaware courts’ constitutional powers, a company’s decision to opt in would likely do so as well.
Amending the Constitution would require a supermajority vote from the General Assembly across two successive legislative sessions, keeping the issue in the political spotlight for some time. Meanwhile, corporate America will be watching.
Author Disclosure: Lawrence Cunningham reports no conflicts of interest concerning the subject of this article. The Center he directs at the University of Delaware is a neutral forum supported primarily by an endowment that is supplemented by donations from a broad range of professionals, including those with opposing views on the topics discussed in this article. He has served as an expert witness in Delaware and other courts on behalf of both plaintiffs and defendants. Mr. Cunningham is currently a director on the boards of two public companies, neither incorporated in Delaware, and holds a significant portion of his wealth in a few individual companies, including one incorporated in Delaware.
Articles represent the opinions of their writers, not necessarily those of the University of Chicago, the Booth School of Business, or its faculty.
