Allocating the Roles for Contracts and Judges in the Closely Held Firm

53 Pages Posted: 4 Nov 2010 Last revised: 12 Sep 2011

Date Written: November 3, 2010

Abstract

Participants in a closely-held firm are in a different position than investors in a public entity because of the illiquidity of the investment and the more intimate and multi-faceted relationship among the owners of the enterprise. Yet the law’s approach to business firms is usually dominated by the publicly held firm. In thinking about the different needs of the closely held business, a common response has been to look to contracting among the parties, particularly as to internal governance. This has been a dominant theme in the development of the Limited Liability Company (LLC) in the last two decades. It was also the central focus in close corporation law in the 1950s and 1960s when reformers successfully sought statutory changes to permit greater contracting within close corporations.

This article focuses on the period in between, when legislatures and judges recognized the limits of contracting within the closely held firm and permitted a judge to cabin the usual permanence of the corporate form, either via a statute providing for involuntary dissolution for the majority’s oppression or a common law claim based on breach of fiduciary duty. Both developments were based on legislative and judicial recognition of what is described here as the predicament of minority investors in an intimate, illiquid enterprise governed by centralized control, majority-rule and entity permanence after there has been a falling out among the parties. The LLCs of the 21st century turn out to have the same illiquidityfrom the lack of a market and the same permanence from usual entity norms, such that minority investors face a similar predicament with similar limits to contracting that inspired the development of statutes and common law limitations on permanence in the closely held corportion.

Keywords: contracts, fiduciary duty, close corporations, Limited Liability Companies (LLCs)

JEL Classification: K00, K10, K12, K20, K22

Suggested Citation

Thompson, Robert B., Allocating the Roles for Contracts and Judges in the Closely Held Firm (November 3, 2010). Georgetown Law and Economics Research Paper No. 10-21, Georgetown Public Law Research Paper No. 10-66, Available at SSRN: https://ssrn.com/abstract=1702294

Robert B. Thompson (Contact Author)

Georgetown University Law Center ( email )

600 New Jersey Avenue, NW
Washington, DC 20001
United States
(202) 661-6591 (Phone)

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