ECGI aw Working Paper Seri Working Paper No 50/2005 ale law school Center for Law, Economics and public policy Research Paper No 323 After the revolution in Corporate Law Roberta ron October 2005 This paper can be downloaded without charge from the Social Science Research Network Electronic Paper Collection at http://ssrn.com/abstract=824050
This paper can be downloaded without charge from the Social Science Research Network Electronic Paper Collection at: http://ssrn.com/abstract=824050 Center for Law, Economics and Public Policy Research Paper No. 323 ECGI Yale Law School Law Working Paper Series Working Paper No. 50/2005 After the Revolution in Corporate Law October 2005 Roberta Romano
uropean corpor ecg ernance institute After the Revolution in Corporate Law Law Working Paper N 50/2005 Roberta Romano October 2005 Yale law School. nber and ecgi o Roberta Romano 2005. All rights reserved. Short sections of text, not to exceed two paragraphs, may be quoted without explicit permission provided that full credit, including C notice, is given to the ource This paper can be downloaded without charge from http://ssrn.com/abstract=824050. www.ecgl.org/wp
Law Working Paper N°.50/2005 October 2005 Roberta Romano Yale Law School, NBER and ECGI © Roberta Romano 2005. All rights reserved. Short sections of text, not to exceed two paragraphs, may be quoted without explicit permission provided that full credit, including © notice, is given to the source. This paper can be downloaded without charge from: http://ssrn.com/abstract=824050. www.ecgi.org/wp After the Revolution in Corporate Law
european corporate governance institute ECGI Working Paper Series in Law After the Revolution in Corporate Law Working Paper N. 50/2005 October 2005 Roberta romano This paper is based on the Oscar M. Ruebhausen Inaugural Lecture given at Yale Law School on September 21, 2005 CRoberta Romano 2005. All rights reserved. Short sections of text, not to exceed two paragraphs, may be quoted without explicit permission provided that full credit, including C notice, is given to he source
ECGI Working Paper Series in Law Working Paper N°.50/2005 October 2005 Roberta Romano After the Revolution in Corporate Law This paper is based on the Oscar M. Ruebhausen Inaugural Lecture given at Yale Law School on September 21, 2005. ©Roberta Romano 2005. All rights reserved. Short sections of text, not to exceed two paragraphs, may be quoted without explicit permission provided that full credit, including © notice, is given to the source
abstract Corporate law is a field that underwent as thorough a revolution in the 1980s as can be imagined, in scholarship and practice, methodological and organizational, in which finance and the economic theory of the firm were used to inform the field. The timing of this revolution was not a fortuitous occurrence: it followed a revolution in corporate finance and the theory of the firm, and was mid-wived in a period of dynamic innovation in corporate transactions. The transformation in corporate law scholarship and practice accomplished by this revolution, has important implications for legal education in the 21t century. There is a need for greater integration of law school and management school curriculums, to ensure that law school graduates will obtain the technical proficiency necessary to be at the leading edge of corporate law practice and scholarship. In addition, the sea change in corporate law scholarship places law schools with larger faculties and associated with universities with strong finance groups at a competitive advantage in recruiting business law faculty and in maintaining a first rate business law program. Corporate law centers have emerged as an institutional device for smaller elite schools to adapt to this new environment Keywords: corporate law, legal education, corporate law centers JEL Classifications: K22. KoO Roberta romano Yale Law School P.O. Box 208215 New Haven, CT 06520-8215 United States phone:203-432-4965,fax:203-432-4871 e-mail: roberta. romano @yale. edu
Abstract Corporate law is a fi eld that underwent as thorough a revolution in the 1980s as can be imagined, in scholarship and practice, methodological and organizational, in which fi nance and the economic theory of the fi rm were used to inform the fi eld. The timing of this revolution was not a fortuitous occurrence: it followed a revolution in corporate fi nance and the theory of the fi rm, and was mid-wived in a period of dynamic innovation in corporate transactions. The transformation in corporate law scholarship and practice accomplished by this revolution, has important implications for legal education in the 21st century. There is a need for greater integration of law school and management school curriculums, to ensure that law school graduates will obtain the technical profi ciency necessary to be at the leading edge of corporate law practice and scholarship. In addition, the sea change in corporate law scholarship places law schools with larger faculties and associated with universities with strong fi nance groups at a competitive advantage in recruiting business law faculty and in maintaining a fi rst rate business law program. Corporate law centers have emerged as an institutional device for smaller elite schools to adapt to this new environment. Keywords: corporate law, legal education, corporate law centers JEL Classifications: K22, K00 Roberta Romano Yale Law School P.O. Box 208215 New Haven, CT 06520-8215 United States phone: 203-432-4965 , fax: 203-432-4871 e-mail: roberta.romano@yale.edu
Corporate law is a field that underwent as thorough a revolution in the 1980s as can be imagined, in scholarship and practice, methodological and organizational. The term revolution is invoked all too often in popular culture, but as this paper will suggest, it is entirely apt in this case. For the revolution in corporate law has been so thorough and profound that those studying in the field today would have difficulty recognizing what it was like 25 to 30 years ago. I was fortunate to have started out in law teaching in that turbulent transitional era for it was an exciting time to be in corporate law This revolution has produced one of the more, if not the most, interdisciplinary fields of law. One measure of the transformation of the field is that the submissions to the annual meetin of the american Law and Economics association which now number in the 100, s. are overwhelmingly dominated by corporate law scholars; they could fill up most of the program, were the Association not to limit the number of corporate- law-related sessions to encourage broader program coverage and participation. The integration of finance and economic theory into legal analysis is true not solely of corporate law scholarship but has been pervasive, extending to practice and judicial decisionmaking The first part of this paper sets out why the revolution experienced in corporate law in the 1980s was not a fortuitous occurrence: it followed a revolution in corporate finance and the theory of the firm, and was mid-wived in a period of dynamic innovation in corporate transactions. The paper will thereafter touch briefly on the course of the revolution, and he reached all aspects of corporate law - from practitioners to academics, to regulatory agencies and U.S. and State Supreme Court opinions. It concludes by discussing the implications of the sea change in corporate law scholarship and practice for legal education in the 21 century i believe that the developments that we have witnessed in the field over the past 20 years have important
1 Corporate law is a field that underwent as thorough a revolution in the 1980s as can be imagined, in scholarship and practice, methodological and organizational. The term revolution is invoked all too often in popular culture, but as this paper will suggest, it is entirely apt in this case. For the revolution in corporate law has been so thorough and profound that those studying in the field today would have difficulty recognizing what it was like 25 to 30 years ago. I was fortunate to have started out in law teaching in that turbulent, transitional era, for it was an exciting time to be in corporate law. This revolution has produced one of the more, if not the most, interdisciplinary fields of law. One measure of the transformation of the field is that the submissions to the annual meeting of the American Law and Economics Association, which now number in the 100's, are overwhelmingly dominated by corporate law scholars; they could fill up most of the program, were the Association not to limit the number of corporate-law-related sessions to encourage broader program coverage and participation. The integration of finance and economic theory into legal analysis is true not solely of corporate law scholarship but has been pervasive, extending to practice and judicial decisionmaking. The first part of this paper sets out why the revolution experienced in corporate law in the 1980s was not a fortuitous occurrence: it followed a revolution in corporate finance and the theory of the firm, and was mid-wived in a period of dynamic innovation in corporate transactions. The paper will thereafter touch briefly on the course of the revolution, and how it reached all aspects of corporate law - from practitioners to academics, to regulatory agencies and U.S. and State Supreme Court opinions. It concludes by discussing the implications of the sea change in corporate law scholarship and practice for legal education in the 21 century. I believe st that the developments that we have witnessed in the field over the past 20 years have important
implications for the shape of legal education. Corporate Law Before the revolution In the 1960s, corporate law was an ossified, stagnant field. Dean Bayless Manning aptly summed up the situation in 1962 as follows: Corporation law, as a field of intellectual effort, is dead in the United States. We have nothing left but our great empty corporation statutes towering skyscrapers of rusted girders, internally welded together and containing nothing but wind. Most state corporation codes at the time were relics of the turn of the previous century; Delaware was to modernize its code in 1967. and the first revision of the model business Corporation Act was completed in 1969. The state of corporate law scholarship was not much different from that of corporation statutes We can trace the intellectual origin of what would become the new paradigm for orporate law to a pioneering article on mergers published only a few years after Mannings comment in 1965 by henry manne. The article coined the term "the market for corporate control, " challenging the conventional view of mergers as anticompetitive by contending that control changes in mergers played an efficiency-enhancing role replacing poorly performing managers and that the takeover mechanism was preferable because it avoided managements transactional veto, which was required by merger statutes. But that article appeared in the Journal of Political Economy(a leading economics journal) and not in a law review, and Bayless Manning, The Shareholders'Appraisal Remedy: An Essay for Frank Coker, 72 Yale. L J. 223, 245 n. 37(1962). William Carney also summarizes the state of the field as having reached an intellectual dead-end in a tribute to Henry Manne, in William Carney, The Legacy of the "Market for Corporate Control"and the Origins of the Theory of the Firm, 50 Case Western Res.L.Rev.215,221-225(1999 Henry G. Manne, Mergers and the Market for Corporate Control, 73 J. Pol. Econ. 110 (1965)
Bayless Manning, The Shareholders’ Appraisal Remedy: An Essay for Frank Coker, 72 1 Yale. L. J. 223, 245 n.37 (1962). William Carney also summarizes the state of the field as having reached an intellectual dead-end in a tribute to Henry Manne, in William Carney, The Legacy of the “Market for Corporate Control” and the Origins of the Theory of the Firm, 50 Case Western Res. L. Rev. 215, 221-225 (1999). Henry G. Manne, Mergers and the Market for Corporate Control, 73 J. Pol. Econ. 110 2 (1965). 2 implications for the shape of legal education. Corporate Law Before the Revolution In the 1960s, corporate law was an ossified, stagnant field. Dean Bayless Manning aptly summed up the situation in 1962 as follows: “Corporation law, as a field of intellectual effort, is dead in the United States... We have nothing left but our great empty corporation statutes - towering skyscrapers of rusted girders, internally welded together and containing nothing but wind.” Most state corporation codes at the time were relics of the turn of the previous century; 1 Delaware was to modernize its code in 1967, and the first revision of the Model Business Corporation Act was completed in 1969. The state of corporate law scholarship was not much different from that of corporation statutes. We can trace the intellectual origin of what would become the new paradigm for corporate law to a pioneering article on mergers published only a few years after Manning’s comment in 1965 by Henry Manne. The article coined the term “the market for corporate 2 control,” challenging the conventional view of mergers as anticompetitive by contending that control changes in mergers played an efficiency-enhancing role replacing poorly performing managers and that the takeover mechanism was preferable because it avoided management’s transactional veto, which was required by merger statutes. But that article appeared in the Journal of Political Economy (a leading economics journal) and not in a law review, and
Mannes important contribution went largely unrecognized in corporate law scholarship for close to two decades Manne' s contributions to corporate law were numerous, as he produced a series of highly original articles covering shareholder voting and litigation, among other governance topics While these articles were published in law reviews, paralleling the reception of his mergers article, none of his ideas had significant influence on the legal literature until years later. Moreover, when Manne's writings did catch the attention of legal academics of his day it worked to his detriment. His provocative work advocating the efficacy of insider trading as a form of managerial compensation was no doubt one reason why manne was never to receive an appointment on one of the leading law school faculties, as many of his contemporaries thought that to advocate such a position he had to have been "ethically challenged. " Although this must be one of the most egregious appointment oversights of a generation, and a sad commentary on the law schools of the time, standing as a cautionary tale against intellectual narrowmindedness, ironically it provided a major benefit to legal scholarship and the profession. Manne became a highly successful academic entrepreneur, introducing generations of lawyers and judges to economics and economists to law through the law and economics institutes he administered at several institutions, concluding with the deanship of george mason university's law school. He was also honored by the american Law and Economics Association, along with Guido Calabresi, Ronald Coase and richard Posner, with a lifetime membership as a founder of the economic analysis of law For Mannes description of his experience see Henry G. Manne, How Law and Economics Was Marketed in a Hostile World: A Very Personal History, in Francesco Parisi Charles K. Rowley, eds, The Origins of Law and Economics: Essays by the Founding Fathers 309, 311-12(Northampton, MA: Edward Elgar, 2005)
For Manne’s description of his experience see Henry G. Manne, How Law and 3 Economics Was Marketed in a Hostile World: A Very Personal History, in Francesco Parisi & Charles K. Rowley, eds., The Origins of Law and Economics: Essays by the Founding Fathers 309, 311-12 (Northampton, MA: Edward Elgar, 2005). 3 Manne’s important contribution went largely unrecognized in corporate law scholarship for close to two decades. Manne’s contributions to corporate law were numerous, as he produced a series of highly original articles covering shareholder voting and litigation, among other governance topics. While these articles were published in law reviews, paralleling the reception of his mergers article, none of his ideas had significant influence on the legal literature until years later. Moreover, when Manne’s writings did catch the attention of legal academics of his day it worked to his detriment. His provocative work advocating the efficacy of insider trading as a form of managerial compensation was no doubt one reason why Manne was never to receive an appointment on one of the leading law school faculties, as many of his contemporaries thought that to advocate such a position he had to have been “ethically challenged.” Although this must 3 be one of the most egregious appointment oversights of a generation, and a sad commentary on the law schools of the time, standing as a cautionary tale against intellectual narrowmindedness, ironically it provided a major benefit to legal scholarship and the profession. Manne became a highly successful academic entrepreneur, introducing generations of lawyers and judges to economics and economists to law, through the law and economics institutes he administered at several institutions, concluding with the deanship of George Mason University’s law school. He was also honored by the American Law and Economics Association, along with Guido Calabresi, Ronald Coase and Richard Posner, with a lifetime membership as a founder of the economic analysis of law
To return to my theme of the revolution in corporate law, as I've already noted, there was nearly a 20-year lag in the acknowledgment of the significance of Manne' s contributions, and this was not fortuitous. The perspective of legal scholars on corporate law in the 1960s and 70s differed dramatically from our contemporary understanding: as Judge Ralph Winter has described it, corporate law back in those days was treated as a"species of consumer protection law, based on the perception that managers ran corporations with the objective, under the aegis of state corporate law, of exploiting shareholders, and that neither the states nor markets could be trusted to constrain managers or otherwise protect investors In line with this view, 80 law professors(which would appear to have been the decisive majority of corporate law specialists signed a petition in 1976 advocating Congress adoption of a national corporation law to preempt the states. But a year later, that view was challenged by Winter, in a 1977 article, which identified fundamental analytical flaws in the conventional understanding, embodied in the law professors petition, of state law as arace for the bottom"that facilitated managers' exploitation of shareholders. The article contended that managers would not select legal regimes that systematically disadvantaged investors because that would raise their cost of capital compared to competitors located in regimes more favorable to investors, and consequently diminish their career prospects(they risked being fired as their firms would eventually go bankrupt or be acquired given the higher capital cost). Paralleling Henry Manne's article on mergers, Winters (Washington, D. C. AEI Press, 1993). See also Carney, supra note 2 can Corporate Law ix 4 Winter, Foreword to Roberta romano. The Genius of amer 5 Ralph K. Winter, State Law, Shareholder Protection, and the Theory of the Corporation 6J.Leg.Stud.251(1977)
Winter, Foreword to Roberta Romano, The Genius of American Corporate Law ix 4 (Washington, D.C.: AEI Press, 1993). See also Carney, supra note 2. Ralph K. Winter, State Law, Shareholder Protection, and the Theory of the Corporation, 5 6 J. Leg. Stud. 251 (1977). 4 To return to my theme of the revolution in corporate law, as I’ve already noted, there was nearly a 20-year lag in the acknowledgment of the significance of Manne’s contributions, and this was not fortuitous. The perspective of legal scholars on corporate law in the 1960s and 70s differed dramatically from our contemporary understanding: as Judge Ralph Winter has described it, corporate law back in those days was treated as a “species of consumer protection law,” based on the perception that managers ran corporations with the objective, under the aegis of state corporate law, of exploiting shareholders, and that neither the states nor markets could be trusted to constrain managers or otherwise protect investors. In line with this view, 80 law 4 professors (which would appear to have been the decisive majority of corporate law specialists) signed a petition in 1976 advocating Congress’ adoption of a national corporation law to preempt the states. But a year later, that view was challenged by Winter, in a 1977 article, which identified fundamental analytical flaws in the conventional understanding, embodied in the law professors’ petition, of state law as a ‘race for the bottom” that facilitated managers’ exploitation of shareholders. The article contended that managers would not select legal regimes that 5 systematically disadvantaged investors because that would raise their cost of capital compared to competitors located in regimes more favorable to investors, and consequently diminish their career prospects (they risked being fired as their firms would eventually go bankrupt or be acquired given the higher capital cost). Paralleling Henry Manne’s article on mergers, Winter’s
conomic analysis of the production of state corporate law went against the grain of the consensus understanding and Winter's article was therefore also largely ignored by the academy Winter and manne were truly voices in the wilderness and their analyses were widely regarded as"unsound "by their contemporaries. Today, decades later, their approach is mainstream corporate law, and serves as a starting point of present-day analyses of both advocates and critics of mergers and acquisitions and of state corporate law This transformation of the discourse is part and parcel of a revolution that effected a paradigm shift in how we understand corporations, business transactions, and the legal rules governing them, that took place in the decades following Manne's and Winters publications Manne and winter were not any less skillful analysts or policy advocates than the generation of ars that followed. Rather, the methodology that would have enabled Manne and winter to compel their contemporaries to confront (if not accept)their analyses by enabling them to demonstrate that their hypotheses regarding how managers behaved and how acquisitions and the market for control worked to discipline managers were correct, was not in place when those articles were written. It was only just being developed and therefore it was only some time later when their hypotheses could be tested and their insights fully appreciated; the impetus for their contemporaries to update their prior beliefs concerning regulation was lacking. Furthermore, the new transactions that underscored the intellectual vacuousness of the then dominant doctrinal paradigm did not yet exist. That is when the revolution, to which I will now turn, took hold The revolution There are three distinct strands to the story of the transformation of corporate law in the latter half of the 20 century. An important milestone in the making of the revolution in corporate law was the pioneering casebook on Corporate Finance, by Victor Brudney and
5 economic analysis of the production of state corporate law went against the grain of the consensus understanding and Winter’s article was therefore also largely ignored by the academy. Winter and Manne were truly voices in the wilderness and their analyses were widely regarded as “unsound” by their contemporaries. Today, decades later, their approach is mainstream corporate law, and serves as a starting point of present-day analyses of both advocates and critics of mergers and acquisitions and of state corporate law. This transformation of the discourse is part and parcel of a revolution that effected a paradigm shift in how we understand corporations, business transactions, and the legal rules governing them, that took place in the decades following Manne’s and Winter’s publications. Manne and Winter were not any less skillful analysts or policy advocates than the generation of scholars that followed. Rather, the methodology that would have enabled Manne and Winter to compel their contemporaries to confront (if not accept) their analyses by enabling them to demonstrate that their hypotheses regarding how managers behaved and how acquisitions and the market for control worked to discipline managers were correct, was not in place when those articles were written. It was only just being developed and therefore it was only some time later when their hypotheses could be tested and their insights fully appreciated; the impetus for their contemporaries to update their prior beliefs concerning regulation was lacking. Furthermore, the new transactions that underscored the intellectual vacuousness of the then dominant doctrinal paradigm did not yet exist. That is when the revolution, to which I will now turn, took hold. The Revolution There are three distinct strands to the story of the transformation of corporate law in the latter half of the 20 century. An important milestone in the making of the revolution in th corporate law was the pioneering casebook on Corporate Finance, by Victor Brudney and
Marvin Chirelstein. Their casebook was pathbreaking for it introduced a new methodolo modern finance into the business law curriculum Chirelstein had been dragooned by Dean Eugene Rostow into teaching what was then called Business Units II when he arrived at Yale Law School in 1965 from Rutgers, where he and brudney had been colleagues. What was there to do with a course that consisted"entirely of case-annotations for commonly used bond indentures and other boiler-plate documents, " and was"the most boring and insignificant course ever offered anywhere at any time in any language(as Chirelstein put it)? Well, the 1960,s were a fervent period in the theoretical development of finance, which had previously been an unexciting, descriptive field involving financial ratio analysis and rules of thumb. Finance had been as dead a field as Manning 's depiction of corporate law, but no longer. Reading the Journal of Finance in those days was certainly more intellectually stimulating than reading the dreary provisions in bond indentures, and Chirelstein thought that was just the thing to spice up Business Unit IT's stolid cases that were the source of those indenture provisions That is, there was a veritable intellectual revolution bubbling up in finance in the 1960s and that left an impression on Brudney and Chirelstein. They were intrigued by the notions of random walk, and efficient markets, buzzing around in the air at the time, and what impact these concepts would have on the liability and property rules relating to corporate law. They put these ideas together into a casebook that was published in 1972. The casebook could not, however, have appeared much earlier because of the relative infancy of the tools of modern finance. A brief chronology of the theoretical breakthroughs in finance conveys the point 6 Victor Brudney Marvin A. Chirelstein, Cases and Materials on Corporate Finance (Mineola, NY: Foundation Press, 1972)
Victor Brudney & Marvin A. Chirelstein, Cases and Materials on Corporate Finance 6 (Mineola, NY: Foundation Press, 1972). 6 Marvin Chirelstein. Their casebook was pathbreaking for it introduced a new methodology, 6 modern finance, into the business law curriculum. Chirelstein had been dragooned by Dean Eugene Rostow into teaching what was then called Business Units II when he arrived at Yale Law School in 1965 from Rutgers, where he and Brudney had been colleagues. What was there to do with a course that consisted “entirely of case-annotations for commonly used bond indentures and other boiler-plate documents,” and was “the most boring and insignificant course ever offered anywhere at any time in any language”(as Chirelstein put it)? Well, the 1960's were a fervent period in the theoretical development of finance, which had previously been an unexciting, descriptive field involving financial ratio analysis and rules of thumb. Finance had been as dead a field as Manning’s depiction of corporate law, but no longer. Reading the Journal of Finance in those days was certainly more intellectually stimulating than reading the dreary provisions in bond indentures, and Chirelstein thought that was just the thing to spice up Business Unit II’s stolid cases that were the source of those indenture provisions. That is, there was a veritable intellectual revolution bubbling up in finance in the 1960s and that left an impression on Brudney and Chirelstein. They were intrigued by the notions of random walk, and efficient markets, buzzing around in the air at the time, and what impact these concepts would have on the liability and property rules relating to corporate law. They put these ideas together into a casebook that was published in 1972. The casebook could not, however, have appeared much earlier because of the relative infancy of the tools of modern finance. A brief chronology of the theoretical breakthroughs in finance conveys the point:
