The Business Roundtable Volte Face And The Bainbridge Hypothetical

The Business Roundtable attracted considerable attention recently when it renounced fealty to the interests of stakeholders rather than shareholders.  The problem of stakeholderism is brilliantly illustrated by the eponymous Bainbridge Hypothetical:

"[S]uppose that the board of directors is considering closing an obsolete plant. The closing would harm the plant's workers and the local community.  However, the closing would benefit shareholders, creditors, and employees at a more modern plant to which the work previously performed at the old plant would be transferred.  Moreover, the closing would benefit communities around the modern plant.  Assume that the latter groups cannot gain except at the former groups' expense. By what standard should the board make the decision?  Shareholder wealth maximization provides a clear answer to this otherwise difficult situation--close the plant.  The alternative to following the shareholder wealth maximization norm would, on the other hand, force directors to struggle with indeterminate balancing standards. In turn, such standards would deprive directors of the critical ability to determine ex ante whether their behavior comports with the law's demands, thereby raising the transaction costs of corporate governance."

Stephen M. Bainbridge, Director Primacy: The Means and Ends of Corporate Governance, 97 Nw. U.L. Rev. 547, 581 (2003) (footnote omitted).  

In a forthcoming paper, Professor Bainbridge provides an answer to how directors will operate under the indeterminate standards of stakeholderism:

"Consider how the Bainbridge Hypothetical is likely to play out in a world in which shareholder wealth maximization is not the norm.  We can expect the decision to come out whichever way the board and management’s self-interest cuts.  If the board’s and managers’ self-interest is consistent with keeping the plant open, they will decide to keep it open and justify their decision by pointing to the impact of a closing on stakeholders such as the plant's workers and the local community.  In contrast, if directors' and managers’ interests would be best served by closing the plant, they likely will decide to close it and point to concern for the firm's shareholders, creditors, and other benefited constituencies."  (footnotes omitted)

Professor Bainbridge's paper is available here.  He is, of course, correct and explains why so-called "other constituency" statutes were originally conceived as anti-takeover legislation.