Contextual and Theoretical Issues
Theories of corporate law
 What role does (and should) the law play?
 What about non-legal mechanisms?
Historical development
• ISSUE: accntability easy in small enterprises  problem of collective ownership, accountability,
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perpetual succession and authority
1300s: notion of corp start.
SOLE: Church/parish create cardinal/bishop person (individual office) separate from members, vested
with powers, survives even as bishops come/go.
AGGREGATE: townships/burrows  separate entity. Mayors come and go.
SPECIALISED townships/burrows: eg. blacksmith townships
GUILDS: ppl skilled in these areas  specialist traders under centralized corp (member, but traded
individually)
ROYAL CHARTER/PERMISSION: guilds req Queen or Parl to give them Charter/Permission 
monopoly control over particular trade.
Overseas transport + trade expand  Charters created for particular trading zones.
CORPORATE CHARTERS: able to contract and take advantage of monopoly  public.
PRIVATE CHARTERS became more popular.
• Ppl frustrated there weren’t MORE Corp Charters.
• Result in black markets
BUBBLE ACT:
• Limit no of investors in private corp
• Outlawed private corps  can’t set up new ones. Enhance existing monopoly rights.
• Ppl set up partnerships/trusts with 1000s members.
1844 JOINT STOCK CO ACT: no adequate legal regulation, ppl invested and lost  gen incorporation
o No need for Charter anymore
o Set up minimum standards of investor protections
1855: LIMITED LIABILITY: protect investors – introduced lim liab as common feature of incorp.
Changes in Business
Clark’s 4 stages of capitalism:
1. Entrepreneur: ppl setting up small business. Investing/managing money = same.
2. Business manager: separation of owners (own capital) and managers (manage capital).
 Issue: agency costs – how to align interests of owners/managers together??
• Portfolio manager: the intermediary who decides how capital is distributed.
• Savings manager: investment adviser.
• Investment and wealth transfers from individuals to the collective-or does it?
Theories of the Corporation
• Concession and fiction theories
• Incorporation  gov privileges – why shouldn’t gov regulate then?
• Corp are not real, only given substance by law - nothing special about group activities
• Supports gov regulation – if corp created by gov, then reg by gov too.
• Gov regulators: didn’t exist until 1960s.
o ASIC, ACCC, ATO, APRA
o ASIC –
 Admin: register corp and collects transfers
 Substantive regulatory function
 Can intervene in any corp case/issue.
• Realist/Aggregate/Natural entity theories
• Corp are real aggregations of individuals (whole is greater than sum of parts) choosing to come
together
• Law merely recognizes/facilitates what already exists (eg birth certificates)
• Should be regulated by private contract law
• Economic theories
• Corp are not real, merely nexus of contracts (private law) - draft detailed contract re corporation
Theories of Corporate Law
Managerialist
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Coase - ‘theory of the firm’:
o Issue: what is a firm?  apply to corp.
o Firm arises when using external markets costs > internal.
o Thus: cheaper to build a hierarchy.
Berle and Means - separation of ownership and control
o Issue: who owns public corps?
o Modern corps have dispersed shareholders.
o Ownership and control is separate.
Chandler - rise of professional managers, mega firms
o Issue: where does manager’s accountability come from? (strong managers, weak owners –
dispersed shareholders)
o If fail at managing – threat of hostile takeover (1960s)  accountability ensured by capital
market.
VIEW: Law should make managers accountable
Contractarian
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Building on Coase, Berle and Means
o Firm is an internal market – cheaper as functions are internalized.
CORPORATION = nexus (place) of contracts + private prop rights with common purpose of
promoting firm:
o Contracts are mutual dealings (not just legal contracts) – rel, obligations, negotiations
SHAREHOLDERS:
o Residual risk bearers – not fixed claimants (eg. lenders, tax, employees)
o Thus  incentive to monitor corp (voting rights)
o Shareholders are residual risk bearer and therefore have incentive to monitor (voting rights)
NON SHAREHOLDERS: protect themselves thru contracts
o ISSUE: have to make managers accountable to shareholders.
Jensen and Meckling
o Agency costs arise where outside equity (labour) used
o Shirking and rent seeking behaviour
o The market(s) will reduce value to account for agency costs
VIEW: Law should facilitate contracting by reducing transaction costs (eg setting default rules)
o Criticism: assumes that shareholders all have same interests.
o Criticism: how to assess if manager is acting in shareholders’ interest?
Communitarian
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Corps affect society (eg. involuntary tort creditors)
o Rejects shareholder primacy:
 Non-shareholders can’t bargain for suff protection
 Corp need to balance all stakeholders, not just shareholder benefit
 Take into account non-economic factors eg. leg expectations for mutual trust/support
VIEW: Corporate law not for shareholder primacy but rather has a protective and redistributive
function
o Criticism: too many stakeholders.
o Criticism: how to determine if directors breached duty?
Feminist
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Argues against centralised, hierarchical power structure of corporations  should look at how
stakeholders relate to each other
Argues against profit seeking individuals  should look at community, shared responsibility
Argues for greater emphasis on impact of corporations on society and families
Law should recognise legitimate expectations of trust, support and responsibility of stakeholders
o Criticism: like Communitarian  too airy fairy?
Team Production Model
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Corporations pose problems of retaining firm specific investments
How to minimise shirking and rent seeking so as to keep team together
Appoint independent mediating authority (board of directors - the mediating hierarchy)
Directors role to balance stakeholder interests –
o Unrealistic to think managers only thinking of profit
o Ensure stakeholders all get equal interests (negotiate interests)
o Move from hierarchy to horizontal
VIEW: Corporate law should protect mediating hierarchs to promote team value (i.e. not just
shareholders)