#10839 - Introduction To Corporate Social Responsibility - Business Associations 1

Mary Stokes, Company and Legal Theory

Purpose: Stokes examines the way in which the company centralizes the authority to manage the capital it aggregates from investors into managers – in particular looking at the problem of legitimizing the concentration of corporate managerial power second, to look at how the law’s attempt to justify that power has failed

1. The separation of public and private ownership is premised on two constraints – the dilution of property ownership into the hands of many and the constraint of a perfectly competitive market of individuals engaged in profit maximization (these function similarly to the Rule of Law in legitimizing and constraining public power)

2. These assumptions are divorced from reality (because

   1. The assumption of perfect competition is broken in praxis – most industries are monopolistic/oligopolistic

   2. Profit maximization ignores the agency problem in business

   3. The market model is dulled by the fact that the market of exchange transactions is replaced by hierarchical organization with the company

3. [There has been twofold response from the law through competition law to regulate these external market factors and company law focussed on the separation of ownership and management]

4. [A number of corporate models after the failure of the traditional model have been used to justify the conferral of power on management – the fiction/concession theory, the contractual theory, the organic company ; (the last of which incorporates contractarian theory and is robust to discretion in management)]

5. There are two primary means of justifying conferral of power on management in terms of restraints (which both do not provide sufficient justification

   1. Internal division of power such that managers must exercise powers in the interest of shareholders who they are at the mercy of – but the reality is that this is only possible where each shareholder has a substantial stake; else there is no incentive to keep checks on management

   2. Fiduciary duties which:

      1. Confer sufficient discretion on management to exercise their power in the shareholders best interests – but this is inherently flawed because directors have considerable discretion in defining just what these interests are

      2. Ensure directors act only in the ambit of their special expertise – but there is no satisfactory way to draw the line between decisions based on special expertise and personal ends (e.g. directors taking defensive action in relation to takeover bids

      3. Further, such duties depend on shareholders taking actions against breaches of duty – this is not always the case due to dilution of ownership and limited incentive

6. Thus both the market model and the two legal models fail to impose any real constraints on managers

7. Furthermore, the approach hitherto taken via these two means is inherently flawed:

   1. Empirical evidence suggests markets do not inherently operate to constrain corporate managers

   2. The idea of imposing rules to make markets operate as they should is implausible – markets are too massive and discursive and any such rule would reflect a judgment call as how the free market would function

   3. Structural internal division of power does this no good either as managers are never truly constrained to profit maximization

8. Accordingly, traditional legitimization of corporate managerial power must reject traditional strategies of company law for legitimating this power

   1. It ought to be replaced with a corporatist vision which rivals the significance of the state, obliterates the distinction between the public and private sphere and pursues goals other than profit maximization (to include not only the interests of direct stakeholders like creditors and employees but also the public at large)

   2. Such a trend is already evident in ideas of corporate social responsibility and managers adopting a vision beyond profit maximizaiton

      1. But powerful objections can be made to this – companies can also misconceive the idea of the public interest (Medical Committee for HR v SEC – supplying napalm during the Vietnam War at the cost of profit maximization)

Stephen M Bainbridge, Director Primnacy

Summary: Bainbridge looks at the director primacy model and argues that shareholders lack information and incentives to make sound decisions – it is both cheaper and efficient to give directors powers. He begins his essay by noting that the body of the board is sui generis and that though their goal is maximizing shareholder wealth it is they who decide how to do so.

All organizations need a system of efficient decision making [makes the distinction between consensus and authority] – a scheme of consensus is used when each member has comparable information and interests, as there will be no collective action problems – DM preferences can be aggregated without cost. Authority is used when members have different interests and are...