In Tiny Delaware, Major Corporations Find a Refuge Away From Home
Don’t look for the corporate charter of Boise Cascade Corp. in Boise, Idaho, where it has its headquarters. Along with the charters of hundreds of America’s major corporations, it rests, instead, in an office in Dover, Del.
Texaco, founded in Texas and headquartered in White Plains, N.Y., is a Delaware corporation. So is First Chicago Corp., a leading Chicago bank company. Ford, General Motors, and Chrysler may be inextricably associated with Detroit, but they are all Delaware corporations.
Throughout American industrial history it has been up to individual states to regulate such corporate matters as the size and structure of boards of directors and the rights of shareholders in dealing with managements.
Which state grants a company’s charter obviously has little to do with the physical location of a company’s headquarters or even its principal plants. Incorporation is largely a paper maneuver. The governing factor has been which state offers management the greatest flexibility at the smallest relative cost, and for most of this century the answer has been Delaware.
Half of the Standard & Poor’s index of the 500 largest public corporations now have Delaware charters. Of companies listed in the S&P; 500, four reincorporated in Delaware in 1984 and seven in the last 18 months.
In return for the administrative service that it provides, the state receives a windfall in revenue. State-chartered companies pay an annual franchise tax keyed to the number of their authorized shares of stock, up to a maximum of $110,000. The franchise tax provides 15% to 20% of the state’s annual budget, which now stands at about $650 million.
Of these companies only one truly world-class corporation is native to the state. In no other place is the size of a state and the relative power of its principal corporate citizen such an uneven match as tiny Delaware and the huge Du Pont Co., which has left an imprint on the state’s economy as deep as its founding family’s domination of the state’s politics.
Du Pont was founded in Delaware at the turn of the 19th Century, and the state has more or less reflected a corporate perspective ever since. Its bar is probably second to none in its sophistication in corporate matters, its state judges are considered superior to many federal judges in their grasp of business questions, and its legislature yields to none in its willingness to keep the state’s corporation law responsive to developments in corporate affairs.
“It has the most developed corporate law in the country, supported by a remarkably highly skilled judiciary,” says Stuart L. Shapiro, a New York corporate lawyer who grew up in Delaware as the son of Irving S. Shapiro, the former chairman of Du Pont and now a prominent corporate lawyer in Wilmington.
Delaware’s corporation law gives particularly broad latitude to boards of directors. This is important because it allows directors extraordinary freedom to implement a host of defenses against hostile takeover raids. Furthermore, the Delaware bar is swift to respond to new developments.
Last week, for example, the bar association began considering measures to strengthen the corporation law’s provisions on directors’ personal financial liability--a burning issue today. As courts have expanded boards’ responsibility to act fairly and reasonably, insurance protection for outside directors (those not employed by the company as executives) has become almost impossible to obtain.
The proposed amendments will allow shareholders to place a ceiling on their directors’ personal financial exposure in lawsuits by shareholders and other parties. Assuming the bar association approves the changes, they will be introduced in the state legislature in June, says one prominent Wilmington corporate attorney. If customary practice prevails, they will then pass easily.
Another attraction for corporations is the absence of an anti-business mind-set in the state’s judiciary.
“None of the state’s other advantages would apply if businessmen thought the judges were anti-business,” says Irving Shapiro. “It would be less than candid not to say that businessmen think the Delaware judges are not enemies of businessmen and their activities. They’re believers in the free enterprise system.”
The state courts have lent their imprimatur to some of the most far-reaching defensive maneuvers cooked up to fight the hostile takeovers of the 1980s. It was a Delaware judge who approved Unocal’s scheme to defeat a hostile assault by T. Boone Pickens Jr., the oil company raider, by excluding Pickens’ shares from a massive company stock repurchase. That gave Unocal the unprecedented right to treat one shareholder differently from all others.
Validated ‘Poison Pill’
In another case, the Delaware Supreme Court gave corporate boards their most potent anti-takeover weapon by validating the “poison pill” of Household International Co. Household’s “pill” provided for a new issue of stock in the event an unwanted suitor purchased a large block of shares; as it inundated the market, the new stock would dilute the hostile buyer’s holdings and make completion of a Household takeover unattractively expensive. Following the Household ruling last year, scores of companies installed poison pills in their own bylaws.
If rulings like these have given the Delaware bench the image of being pro-management, there are many others that corporate lawyers argue enhance the standing of shareholders.
A state court gave the management of Revlon a nasty jar last year when it tossed out Revlon’s scheme to fight off a takeover bid from Pantry Pride by giving other bidders an option to buy its most valuable assets at a lower price. Once the Revlon board decided to sell the company, the court ruled, it had to consider all bidders equally.
The state Supreme Court is also responsible for one of the most important rulings on the responsibility of directors. In a case involving Trans-Union Corp., the court last year ruled that directors had violated their fiduciary responsibility to shareholders by considering a takeover offer for only two hours, and without the benefit of outside counsel, before accepting it.
The court ruled that the directors were personally liable to shareholders for the difference between the buyout price and Trans-Union’s full value. (The case was finally settled this year for more than $20 million.) Securities lawyers say the court ruling is an important qualification of the “business judgment” doctrine, which gives directors the benefit of the doubt when questions are raised about the wisdom of their business decisions.
Regardless of how the court tips in battles between shareholders and management, corporate lawyers say it is reliably conservative. “Delaware law is modern, flexible and predictable--and it’s the last thing that’s most important,” says Bruce Stargett, a Wilmington lawyer. “Business people like to make decisions knowing what the consequences are.”
History-minded Delaware lawyers trace the state’s pre-eminence in corporate law back to 1910, when the reform administration of New Jersey Gov. Woodrow Wilson put an end to that state’s standing as the location of choice for corporate homesteading.
New Jersey had been one of the first states to modernize its incorporation law, ending the customary rule that only a state legislature could grant a corporate charter. New Jersey allowed companies to charter themselves, assuming they met the state’s minimum standards, and reaped the windfall of corporate franchise taxes that followed.
“Then Wilson clamped down, and New Jersey came to be seen as anti-business,” says E. Norman Veasey, a past president of the Delaware State Bar Assn. and former chairman of its committee on corporation law. With Delaware having revamped its own law in 1899, many companies simply fled over the border.
Delaware’s stature as an incorporation locale has seldom been challenged since. Business reformers, the most recent being Ralph Nader, occasionally propose federal incorporation statutes to iron out the differences among the 50 states and to impose greater regulation in general, but the states’ right to oversee the establishment of fundamental corporate structures has prevailed.
As takeover panic provokes more companies to flee to Delaware, however, more states have moved to liberalize their own rules. Last year New York state, the physical home of many leading corporations, amended its law to give managements greater leeway in fending off hostile suitors. (The changes were inspired by Ted Turner’s assault on CBS, a New York corporation.) Virginia, Pennsylvania, Nevada and Florida have also liberalized their rules.
California Efforts
Efforts to liberalize California’s incorporation law are moving slowly, although several major California corporations have reincorporated in Delaware for anti-takeover purposes. These include Times Mirror Co., publisher of The Times, this year; Atlantic Richfield Co. in 1985, and Carter Hawley Hale, owner of the Broadway, Neiman-Marcus and other department stores, in 1984.
California loses no revenue from these paper relocations, say officials in the state secretary of state’s office; it taxes companies on the portion of their income earned within the state regardless of their charter.
One bill designed to hamper hostile takeovers of California corporations languished in committee in the state Legislature this year and appears to be dead. The state bar association expects to propose a measure allowing companies with state charters to stagger the terms of their directors--a maneuver permitted in Delaware that prevents even major shareholders from seizing control of the board in a single year--but the bill will not be introduced until 1987 at the earliest.
Delaware lawyers seem unperturbed at other states’ efforts to match Delaware’s law. “None of them have the long history of administrative and judicial experience we have in this state,” Irving Shapiro says.
