432. Mark J. Roe, Delaware's Competition, 08/2003; forthcoming in Harvard Law Review, Vol. 117.
Abstract: One of corporate law's enduring issues has been the extent to which state-to-state competitive pressures on Delaware make for a race to the top or the bottom. States, or at least some of them, are said to compete with their corporate law to get corporate tax revenue and ancillary benefits. Delaware has "won" that race, as most large American firms incorporate there. Here I argue that this long-standing debate is misconceived. Delaware's chief competitive pressure comes not from other states but from the federal government. When the issue is big, the federal government takes the issue or threatens to do so, or Delaware players are aware that if they offend the federal authorities, those authorities could take the issue over. Even if Delaware were oblivious to the federal authorities, those authorities can, and do, overturn Delaware law. That which persists in Delaware is that which the federal authorities tolerate. This reconception a) explains corporate law developments and data that neither the race-to-the-top nor the race-to-the-bottom theory have explained well, b) fits several developments in takeover law, going private transactions, and the rhetoric of corporate governance in Delaware, and c) can be detected in corporate law-making in Washington and Wilmington from the "origins" of Delaware's dominance in the early 20th century right up through the passage in the summer of 2002 of the Sarbanes-Oxley corporate governance law in reaction to the corporate governance failures in Enron and WorldCom.
This analysis upsets the long-standing theory of state corporate law competition as a strong race (whether to the top or to the bottom). We cannot tell whether Delaware, if it raced to the top, did so because of the looming federal "threat" or because of state competition. Nor can we tell whether Delaware, if it raced to the bottom, did so because of state competition or because Congress, subject to wider national political pressures than is Delaware, would have taken the issue away had Delaware acted differently. That which persists in Delaware is that which the Federal players approved, or tolerated. And much that is important Delaware never even gets to act upon, as federal authorities can decide without waiting for the states to gear up. This is not to say that what happens at the state level is minor, but that the results are ambiguous in terms of the race debate. If Delaware law is usually efficient, then the federal vertical element could correspond to the strengths of other organizational structures (like separating proposals from ratification in decision-making, or of the checks and balances in the M-form corporation). If Delaware law is usually inefficient, we do not know whether the states, if free to compete without the possibility of a federal "veto", would have raced toward efficiency. Too many of the truly important decisions, the ones affecting capital costs-the mechanism driving the race-to-the-top theory-Delaware and the states do not get to make. And Delaware actors know federal authorities could take away those decisions that remain if they seriously damaged the national economy or riled powerful national interests. When we put this heavy "vertical," federal-state competition structure atop the horizontal state competition theory in corporate law, the state race debate-one that stretched across the 20th century from Brandeis to Cary and beyond-collapses, and is rendered empirically and theoretically indeterminate.