The Bizarre Law & Economics of 'Business Roundtable v. SEC'

Abstract

Corporations are legal entities designed to foster certain kinds of collective economic activity. The decisionmaking power within a corporation ultimately rests with a board of directors elected by shareholders. Shareholders, however, do not use anything like a conventional ballot in these elections; instead, they fill out a “proxy ballot,” delivered to them by the incumbent board. This proxy ballot lists only the incumbent board’s chosen nominees, very often the board members themselves. If a shareholder wants to run for director or propose another nominee for the board, she needs to provide all other shareholders with a separate proxy ballot — an expensive and complicated proposition. For over seventy years, the Securities & Exchange Commission has considered various means of wresting exclusive control of the proxy ballot from corporate boards. In 2010, pursuant to direct Congressional authorization, the agency finally succeeded, enacting Rule 14a-11. The rule should have given shareholders access to a corporation's proxy ballot for director nominations, thereby reducing the costs for shareholders and diminishing the longstanding barriers to a more robust corporate democracy. But within a year of the rule’s enactment, and to the surprise of almost every observer, the D.C. Circuit struck down the rule in Business Roundtable v. SEC as an arbitrary and capricious exercise of agency power. The court’s ruling relies upon perceived failings in the Commission’s economic analysis. But it is the court's economic analysis that is open to scrutiny and criticism. Over the past few decades, corporate law and economics scholarship has become adept at containing and eliding certain contradictions of its basic principles. The reasoning in Business Roundtable represents a facile reflection of these principles — a reflection that thereby magnifies the underlying flaws. As a result, the D.C. Circuit’s decision to strike down Rule 14a-11 rests on a false version of shareholder democracy, one that undermines the very market principles that it purports to advance. It ignores the benefits of true shareholder democracy and focuses instead on costs that are routine for any functioning electoral system. By drawing distorted conclusions from certain tropes of corporate law and economics scholarship, the court essentially codified a strange new set of requirements for administrative agencies like the Commission. We fear that, unless it is corrected over time, this bad law and economics will cow regulatory agencies, particularly the SEC, into adhering to a crabbed and inchoate vision of corporate governance. And we hope that substantive criticism of the opinion, such as that represented in this article, will demonstrate that the court’s errors need not be replicated by others.

Keywords: Business Roundtable, law and economics, proxy access, SEC, shareholder voting, corporate governance