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Author: Jay Kesten


Corporate Political Speech, Rent-Seeking, and Political Extortion

Before I sign off, I’d like to thank Danielle et al. for their hospitality.  I’m very glad to have had this opportunity to share some of my thoughts, and to get some great feedback.  Let me finish up by offering an alternative rationale – grounded in public choice theory – for limited shareholder authority over corporate political spending.

Shareholder regulation of corporate political activity may not only decrease agency costs within the firm, it may improve overall societal welfare.  First, diversified shareholders might be able to constrain the costs of rent-seeking behavior that merely redistributes wealth between portfolio firms. Second, all shareholders may want to reduce the possibility of political extortion by removing from management the final say on certain kinds of political expenditures.  Allowing shareholders to regulate corporate political activity could limit these social welfare-decreasing activities, and channel corporate resources to more productive uses.  I sketch these arguments in more detail below. Read More


The Efficiency of Corporate Political Speech Bylaws

Nearly half a century ago, Albert Hirschman formalized two ways in which members of organizations could express their displeasure: exit and voice.  Exit is market-based expression, and is typically quiet, impersonal and cheap.  Voice, by contrast, is political expression — it is usually loud, messy, and expensive.  From an efficiency perspective, exit is thus generally favored as a matter of institutional design.

Corporate law largely track Hirschman’s theory.  Shareholders’ voice rights are, by default, quite constricted, and the business judgment rule imposes an important limitation on seeking judicial remedies.  In most cases, unhappy shareholders’ only practical method of expressing their discontent is to exit the firm by selling their shares.

But Hirschman warns that in certain circumstances, such as where the barriers to exit are sufficiently high, it is preferable to adjust institutional design to facilitate or strengthen members’ voice rights.  Corporate political activity presents exactly such a case, because the standard shareholder remedies – suing, voting for the board of directors, and selling their shares – are either unavailing or exceptionally costly.  I treat this range of options in more detail elsewhere, but below I will briefly describe these problems with a focus one key area in which corporate political activity differs markedly from other types of corporate action, and then turn to an important objection. Read More


The Agency Costs of Corporate Political Spending

In response to my last post, Stephen Bainbridge takes issue with my proposal and argues that corporate political spending should be a board prerogative because:

[t]he law in every state is clear that the business and affairs of the corporation are to be conducted by the board of directors and the managers to whom the board delegates authority. Corporate law in this regard is a system of director primacy, not shareholder primacy. Shareholders have no more right to decide where the corporat[ion] spends its lobbying dollars than they do to decide where the corporation builds plants or what products the corporation makes.

I generally agree both with his broad descriptive claim and its normative implication — indeed, in several earlier articles, I am on record as being quite skeptical of shareholder empowerment writ large.  However, corporate political activity – by which companies attempt to shape the distributional rules that govern our society – is quite different than deciding where to build a factory, what products to make, or even (to use another commonly-referenced example) corporate charitable contributions.  Thus, it’s worth considering whether there are normative justifications for treating it differently as a matter of corporate law.  I think there are at least three, which I’ll explain in turn starting with concerns about agency costs.

One normative goal of corporate law is to balance the benefits of centralized, expert management with the agency costs that arise inevitably from the separation of ownership and control that characterizes modern public companies.  Management must signal their expertise and trustworthiness to attract investors; once invested, shareholders must monitor their investments; and managers, whose interests may diverge from those of shareholders, may act in ways that fail to maximize shareholder welfare.  Corporate political activity implicates potentially substantial agency costs: both pecuniary and what I term “moral agency” costs. Read More


Shareholder Bylaws: Mechanics, Limitations and Pragmatic Benefits

Before looking directly at the normative benefits of shareholder-enacted bylaws regulating corporate political activity, it’s worth providing some background on the bylaw power itself.  Corporations are predominantly republican institutions. Shareholders elect the board annually, but once elected the board has broad authority to manage the business and affairs of the corporation. In fact, ordinarily, the board need not heed the desires of a majority of the shareholders.  Some special matters (such as certain mergers or sales of substantially all of the corporation’s assets) require shareholder approval, but even then the shareholders’ role is reactive; these transactions must be proposed and approved by the board.

Corporate bylaws are functionally the sole exception to this general governance framework. The bylaws, as one of a corporation’s constitutional documents, are contractually binding on shareholders, management, and the board.  In most states, shareholders have the right to propose, amend, or repeal the corporation’s bylaws.  Moreover, shareholders can do so unilaterally.  Thus the bylaws provide shareholders with a limited form of direct democracy (albeit one vote per share, not per shareholder) within the corporation.

The scope of this power is, however, uncertain. In Delaware – a key corporate law jurisdiction – the statute is notoriously unhelpful, and case-law has not conclusively resolved this open question. The weight of academic and judicial commentary suggests that there is a finite set of bylaws that can be enacted legally by shareholders, though some recent cases call into question the extent that such bylaws can restrict managerial decision-making authority.  In any event, the validity of  bylaws regulating corporate political activity has not yet been decided by any court.  In an earlier paper, I presented a case for the legality of such bylaws.  There are also several pragmatic benefits to empowering shareholders in this fashion. Read More


The Supreme Court’s Theory of Corporate Political Activity

In an earlier post, I outlined an argument that – despite having attracted a fair amount of criticism – the Supreme Court’s vision of corporate political activity may have substantial normative merit from a corporate governance perspective.  In this post, I’ll describe that vision in two related parts.  First, whose expressive rights are being vindicated when corporations engage in political activity?  And second, what internal governance structures should regulate how and when corporations speak?

The first question raises a tricky issue at the intersection of constitutional law and corporate theory.  Corporations are legal fictions, albeit exceedingly useful ones.  They are not self-aware, they have no conscience, and they cannot act or speak except through human beings. Yet, the law has long treated corporations as legal “persons” for most purposes, including eligibility for many (though not all) constitutional protections. This treatment poses a metaphysical question: just what sort of “person” is a corporation?  To answer this question, the Supreme Court has historically relied on several theories of the corporation: the grant (or concession) theory, the aggregation theory, and the real entity theory.  Briefly, the grant theory views the corporation as purely a creature of the state, having only the rights and protections provided by statute, and thus broadly vulnerable to government regulation. The aggregation theory looks past the corporate form to the individual members or shareholders exercising their freedom of associating for some legitimate business, and concludes that corporations must thus have whatever powers and privileges necessary to vindicate the rights of those underlying constituents. The real entity theory posits that corporations exist independently of their constituents or the statutes authorizing them, and are thus a distinct entity entitled to all (or at least most) of the rights of natural persons. The Supreme Court’s corporate jurisprudence has, infamously, cycled repeatedly and inconsistently through each of these theories, often employing multiple theories in the same case.

In contrast to this general indecisiveness, though, the Court’s corporate political speech cases fairly clearly adopt a version of the aggregate view.  I treat the language from the cases in more detail in this paper, but the core idea – which flows from the early cases concerning corporations’ right to lobby, through Bellotti and more recently Citizens United - is that First Amendment speech rights inure to human beings.  Thus, when corporations speak they do so on behalf of the human constituents acting collectively through the corporate form.  As Justice Scalia explains in his Citizens United concurrence: “[t]he authorized spokesman of a corporation is a human being, who speaks on behalf of the human beings who have formed that association.”

As to the second question, the Court gives a firm but vague response: shareholders, acting through the procedures of corporate democracy, decide whether and how their corporations should engage in public debate.  Yet, it’s not exactly clear what the Court means by “corporate democracy.”  As a matter of corporate law, that concept is not self-defining; the proper allocation of decision-making power between managers and shareholders is one of the central, unresolved debates in modern corporate law.  One can, however, glean three key principles from the Court’s decisions.  First, the decision-making process is necessarily majoritarian. Some shareholders may dissent from the decision, but their remedy (if any) lays elsewhere.  Second, the process must actually vindicate shareholders’ concerns.  The Court concluded that shareholders need no legal protections external to corporate law because any “abuse[s]” – referring to managerial decisions that do not accord with the majority’s desires – can be “corrected by shareholders” through this process.  Finally, the Court seems to contemplate something broader than merely the representative democracy of electing the board.  As Justice Powell notes in Bellotti, shareholders should be able to privately order their preferences as to corporate political activity by “insist[ing] on protective provisions” in the corporation’s constitutional documents, which would bind managerial authority ex ante.

Some claim that the combination of these criteria simply illustrates the Court’s misunderstanding of modern corporate law.  Shareholder control rights within public firms are largely illusory.  Even a majority of shareholders cannot insist on corporate action outside of certain limited circumstances, and the directorial election process usually leaves much to be desired in terms of disciplining management.

I argue, though, that there is a ready-made governance structure that conforms with this framework: allow shareholders to enact intra-corporate bylaws regulating corporate political activity, which (in most jurisdictions) they can do unilaterally by majority vote.  In the next post, I’ll explain the mechanics of this approach, describe potential limitations arising from current jurisprudence concerning the scope of the shareholder bylaw power, and discuss pragmatic benefits to this form of private ordering.


Defending Citizens United?

My thanks to Danielle and her co-bloggers for inviting me to share some of my thoughts.  This is my first foray into blogging, and I’m thrilled to join you for awhile.  I’d like to start by discussing a current project, which examines the internal governance of corporate political activity.  Comments, suggestions and critiques are most welcome.

Corporate political activity has long been an exceptionally contentious matter of public policy.  It also raises a hard and important question of corporate law:  assuming corporations can and will engage in political activity, who decides when they will speak and what they will say?  In several cases, the Supreme Court has provided a relatively clear, albeit under-developed, answer:  “[u]ltimately, shareholders may decide, through the procedures of corporate democracy, whether their corporation should engage in debate on public issues.”  (First Nat’l Bank of Boston v. Bellotti, cited with approval in Citizens United v. FEC).

This corporate law aspect of the decision has attracted substantial criticism alongside widespread calls for major reforms to corporate and securities laws.  Some argue that the Supreme Court misunderstands the reality of modern corporate law, insofar as shareholders have little practical ability to constrain managerial conduct.  Others question why political decisions should be made by either shareholders or managers, rather than some broader group of corporate stakeholders.  A third group claims that political activity is just another corporate decision protected by the business judgment rule.  Thus, empowering shareholders in this regard would improperly encroach on the board’s plenary decision-making authority.

Yet, despite these concerns, there may be pragmatic and normative merit to the Supreme Court’s approach.  In a current paper – “Democratizing Corporate Political Activity” – I present a case for shareholder regulation of corporate political activity through their power to enact bylaws.  I’ll describe the argument in more detail in subsequent posts, but, briefly, I present three normative justifications for this governance structure.  First, it may mitigate the unusual and potentially substantial agency costs arising from manager-directed corporate political activity.  Second, it may increase social welfare by: (i) reducing deadweight losses and transaction costs associated with rent-seeking; and (ii) making corporations less vulnerable to political extortion.  Third, if corporate speech can shape our society’s distributional rules, corporate law should not interpose an additional representative filter in the democratic process.  That is, we should not assume that investors – merely by purchasing stock in a public company, often through an intermediary such as a mutual fund – grant managers the unilateral authority to engage in political activity on their behalf.

With that said, I should be clear upfront that there are important challenges and objections to each of these arguments.  I will describe the main concerns as I proceed.

The next post will lay out the Supreme Court’s vision of corporate political activity, and explain why the shareholder bylaw power best fits the Court’s description of shareholder democracy in this context.