The Chaos of Smith
24 Pages Posted: 2 Oct 2007 Last revised: 8 Nov 2009
Smith v. Van Gorkom led to the death of the duty of care for directors of public corporations in the United States. Nothing in Smith justifies this "drastic" change in American corporate law. On the contrary, once Smith is viewed in accordance with the narrative proffered in this article, it fails to explain the death of the duty of care, since the case did not change the law or the risks facing directors. This suggests that the death of the duty of care following in the wake of Smith was not the product of a highly interventionist court, which required legislative constraint, as many commentators suggest. Moreover, combined with increased laxity in constraints on management of public corporations with respect to other issues of corporate governance, such as the PSLRA, Smith's legacy left us with a most radical outcome: the onset of CEO primacy in the American public corporation.
Excessive laxity in legal constraints has now resulted in excessive CEO power. It also resulted in political reaction: the Sarbanes-Oxley Act of 2002. Unfortunately, the end result of political overreaction may not be beneficial. The Sarbanes-Oxley Act greatly increased the cost of accessing the public capital markets upon all issuers without improving the quality of corporate governance. The system has shifted from wild indulgence to wild over-regulation. This fact suggests that the underlying legal structure of our corporate governance system results in standards and laws that are difficult to predict and are untethered to any policy analysis. The system seems best explained by Chaos Theory.
Keywords: Corporate Governance
JEL Classification: G30
Suggested Citation: Suggested Citation