John Armour

How can we ensure corporations play by the “rules of the game”—that is, laws encouraging firms to avoid socially harmful conduct? Corporate compliance programs play a central role in society’s current response. Prosecutors give firms incentives—through discounts to penalties—to implement compliance programs that guide and monitor employees’ behavior. However, focusing on the incentives of firms overlooks the perspective of managers, who decide how much firms invest in compliance. We show that stock-based pay, ubiquitous for corporate executives, creates systematic incentives to short-change compliance. Compliance is a long-term investment for firms, whereas managers’ time horizon is truncated to the date they expect to liquidate stock. Moreover, investors find it hard to value compliance programs because firms routinely disclose little or nothing about their compliance activities. We show that stock-compensated managers prefer not to disclose compliance because such disclosure can reveal private information about a firm’s propensity to misconduct. As a result, both managers and markets are likely myopic about compliance. How can this problem be resolved for the benefit of society and shareholders? Boards of directors are supposed to act as monitors to control managerial agency costs. We show that the increasing use of stock-based compensation for directors, justified as a means of encouraging more vigorous oversight of business decisions, also has a corrosive effect on boards’ monitoring incentives for compliance. Directors in theory face liability for compliance oversight failures, but only if so egregious as to amount to bad faith. We argue that this standard of liability, established in an era before ubiquitous stock-based compensation for both managers and directors, has now become too lax. We propose more assertive directors’ liability for compliance failures, limited in quantum to a proportionate clawback of stock-based pay. This would add power to the alignment of directors’ interests with those of shareholders—directors would stand to lose more than just a decrease in the value of their stock in the event of a compliance failure—but limiting liability in this way would avoid pushing boards to overinvest in compliance. We outline ways in which this proposal could be implemented either by shareholder proposals or judicial innovation.

What role do corporate boards play in compliance? Compliance programs are internal enforcement programs, whereby firms train, monitor and discipline employees with respect to applicable laws and regulation. Corporate enforcement and compliance failures could not be more high-profile, and have placed boards in the position of responding to systemic problems. Both case law on boards’ fiduciary duties and guidance from prosecutors suggest that the board should have a continuing role in overseeing compliance activity. Yet very little is actually known about the role of boards in compliance. This paper offers the first empirical account of public companies’ engagement with compliance at the board level, drawing on director-level data from BoardEx and data on federal organizational prosecutions from the Duke University and University of Virginia Corporate Prosecution Registry. We find that, despite a standard account that compliance has boomed, few boards actually adopt compliance committees. Less than five per cent of U.S. public companies have done so, although the proportion has grown steadily over time. We use our data to explore why boards establish compliance committees. Our results suggest that there is room for more constructive engagement with compliance by many boards. We conclude by recommending ways in which board compliance might be facilitated or encouraged: reconsidering norms about board size and independence, enhancing accountability of directors to regulators, and tightening state law fiduciary duties regarding oversight.

What are the implications of artificial intelligence (AI) for corporate law? In this essay, we consider the trajectory of AI’s evolution, analyze the effects of its application on business practice, and investigate the impact of these developments for corporate law. Overall, we claim that the increasing use of AI in corporations implies a shift from viewing the enterprise as primarily private and facilitative, towards a more public, and regulatory, conception of the law governing corporate activity. Today’s AI is dominated by machine learning applications which assist and augment human decision-making. These raise multiple challenges for business organization, the management of which we collectively term “data governance.” The impact of today’s AI on corporate law is coming to be felt along two margins. First, we expect a reduction across many standard dimensions of internal agency and coordination costs. Second, the oversight challenges—and liability risks—at the top of the firm will rise significantly. Tomorrow’s AI may permit humans to be replaced even at the apex of corporate decision-making. This is likely to happen first in what we call “self-driving subsidiaries” performing very limited corporate functions. Replacing humans on corporate boards with machines implies a fundamental shift in focus: from controlling internal costs to the design of appropriate strategies for controlling “algorithmic failure,” that is, unlawful acts by an algorithm with potentially severe negative effects (physical or financial harm) on external third parties. We discuss corporate goal-setting, which in the medium term is likely to become the center of gravity for debate on AI and corporate law. This will only intensify as technical progress moves toward the possibility of fully self-driving corporations. We outline potential regulatory strategies for their control. The potential for regulatory competition weakens lawmakers’ ability to respond, and so even though the self-driving corporation is not yet a reality, we believe the regulatory issues deserve attention well before tomorrow’s AI becomes today’s.

Anwendungen der Knstlichen Intelligenz (KI) werden das Gesellschaftsrecht im Allgemeinen und die Corporate Governance (CG) im Besonderen stark beeinflussen: Am Horizont steht die „selbstfahrende Kapitalgesellschaft“. Wir unternehmen es, einen konzeptionellen Rahmen fur dieUntersuchung von CG-Fragestellungen bei KI-Anwendungen zu entwickeln. Agenturprobleme in Kapitalgesellschaften verlieren an Bedeutung: Algorithmen optimieren eine vorgegebene Zielfunktion. In den Vordergrund rucken Fragen der Zielbestimmung von Kapitalgesellschaften. Wir beschaftigen uns zunachst mit dem Stand der derzeitigen technischen Moglichkeiten. Er wird von Anwendungen im Bereich des Maschinellen Lernens (ML) gepragt. Sodann untersuchen wir die Implikationen der Data Governance fur CG-Fragestellungen, insbesondere hinsichtlich Qualifikation und Verantwortlichkeit von Unternehmensleitern. Anschließend beschaftigen wir uns mit der Zukunft der Kapitalgesellschaft beisteigender KI-Funktionalitat. Hier geht es um die „selbstfahrende tochtergesellschaft“ im Konzern sowie das Zentralproblem der Kalibrierung der Unternehmensziele. Regulatorische Implikationen sehen wir in einem von Regulierungswettbewerb gekennzeichneten Umfeld vor allem in der ex ante-Prufung unternehmenssteuernder Algorithmen sowie in einer strikten Haftung kombiniert mit einer (Haft-)Pflichtversicherung entsprechend gesteuerter Kapitalgesellschaften. Alternativ ist eine unbeschrankte pro rata-Haftung der Anteilseigner gegenuber Deliktsglaubigern in Betracht zu ziehen.

‘Crowdfunding’ is a burgeoning phenomenon. Its still‐evolving status is reflected in diversity of contracting practices: for example, ‘equity’ crowdfunders invest in shares, whereas ‘reward’ crowdfunders get advance units of product. These practices occupy a hinterland between existing regimes of securities law and consumer contract law. Consumer protection law in the UK (but not the US) imposes mandatory terms that impede risk‐sharing in reward crowdfunding, whereas US (but not UK) securities law mandates expensive disclosures that hinder equity crowdfunding. This article suggests that while crowdfunding poses real risks for funders, the classical regulatory techniques of securities and consumer law provide an ineffective response. Yet, a review of rapidly‐developing market mechanisms suggests they may provide meaningful protection for funders. An initially permissive regulatory approach, open to learning from market developments yet with a credible threat of intervention should markets fail to protect consumers, is justified.

According to a common narrative, the failure of banks in the financial crisis reflected poor corporate governance practices, as well as inadequate prudential regulatory safeguards. Yet it turns out that the ‘best’ governance practices according to ordinary standards were the ones that did worst during the financial crisis. In the period leading up to the financial crisis, it was believed that regulation would cause banks to internalize the costs of their activities, meaning that what maximized bank shareholders’ returns would also be in the interests of society. Consequently, large banks used the same governance tools as non-financial companies to minimize shareholder-management agency costs, namely independent boards, shareholder rights, the shareholder primacy norm, the threat of takeovers, and equity-based executive compensation. Unfortunately, such tools had the adverse effect of encouraging bank managers to take excessive risks. Consequently a significant rethink about the way in which banks are governed is required.

Crowdinvesting--raising many small contributions of capital from individual funders via specialized online platforms--is a burgeoning phenomenon. This Chapter first highlights the perils to which individual investors are exposed when they access these platforms. Next, it describes the legal regime in two sample jurisdictions, the US with its tradition of high-fixed-cost, disclosure-intensive securities laws that had to be tweaked to make equity crowdfunding viable, and the UK, which has early on provided for a nimble set of rules for the same. Finally, the Chapter offers some thoughts on the merits of introducing a lighter regime for equity crowdfunding.

This chapter explores how globalization has affected the operation of securities markets and the challenges this poses for their regulation. We review the current state of the law and practice of international securities transactions and services, with a view to identifying issues where further research may usefully inform the future design of U.S. securities regulation. In so doing, we offer a framework for understanding cross-border issues in securities regulation policymaking and consider some of the most salient phenomena debated by legal scholars and financial economists, and addressed by policymakers, in recent decades. We also zoom in, by way of contrast, on some issues on which other countries have taken a notably different regulatory approach from the U.S. Our focus, in keeping with the general orientation of the New Special Study (‘NSS’), is on equity markets.

Innovation and its main output, technology, are changing the way we work, socialise, vote, and live. New technologies have improved our lives and made firms more productive, overall raising living standards across the world. Thanks to progress in information technology, the rate of change is accelerating. Disruption and disequilibrium are the new normal. In this essay, prepared as a chapter for the first phase of the British Academy ‘The Future of the Corporation’ initiative, we reflect upon the role that corporate, competition, and tax law can play both to facilitate innovation and simultaneously assuage emergent societal risks arising from new technologies. We consider means of enhancing investment in research and development (‘R&D’) and optimising corporate organisation. But we also reflect on the risks associated with innovation, such as the use of technology to exploit consumers, manipulate markets, or distort, unwittingly or not, the political process. Finally, we consider the way in which the environment for business law reform is subject to new political risks following the challenge to the liberal order from populism and the rising power of dominant technology companies.

The UK’s recent vote for Brexit has sparked a fierce debate over the implications for the rights of EU citizens living in the UK and UK citizens living in the rest of the EU. So far, however, there has been relatively little discussion of the implications of Brexit for legal persons – that is, corporate citizens of the EU, which may also be profoundly affected by consequent changes. The ECJ’s 1999 decision in Centros made clear that the freedom of establishment protects the entitlement of corporate persons formed in one EU Member State to carry on their business in another Member State. Since then, many entrepreneurs in continental European countries have chosen to form companies in the UK, while still carrying on their business in their home country. What will the consequences of Brexit be for such companies?

Brexit is on its way. By mid 2019, the UK will no longer be a member of the European Union and its new relationship with the EU will be have taken shape. Getting to that point will involve complex negotiations untangling legal, economic and political issues. This volume brings together leading commentators to examine three crucial questions on the risk, the negotiating framework and the process.

The financial crisis of 2007-9 revealed serious failings in the regulation of financial institutions and markets, and prompted a fundamental reconsideration of the design of financial regulation. As the financial system has become ever-more complex and interconnected, the pace of evolution continues to accelerate. It is now clear that regulation must focus on the financial system as a whole, but this poses significant challenges for regulators. Principles of Financial Regulation describes how to address those challenges. Examining the subject from a holistic and multidisciplinary perspective, Principles of Financial Regulation considers the underlying policies and the objectives of regulation by drawing on economics, finance, and law methodologies. The volume examines regulation in a purposive and dynamic way by framing the book in terms of what the financial system does, rather than what financial regulation is. By analysing specific regulatory measures, the book provides readers to the opportunity to assess regulatory choices on specific policy issues and encourages critical reflection on the design of regulation.

The manner in which hostile takeovers have historically been executed has just begun to receive serious academic attention. Similarly, while the literature on the accuracy and determinants of share prices is voluminous, there has been little systematic historical analysis of when and how modern standards of share price efficiency took shape. This Article addresses both subjects in depth to ascertain the extent to which developments in the market for corporate control may have been associated with, or facilitated by, developments in stock market efficiency. We identify potential linkages between hostile control transactions and stock market pricing and explore these linkages empirically with a new hand-collected dataset of control contests occurring between 1900 and 1965. We show that, while the evolution of acquiror tactics in control contests was plausibly linked in some circumstances to changes affecting the manner in which shares were priced, other factors have to be taken into account to explain how the market for corporate control developed over this period.

The financial crisis has demonstrated serious flaws in the corporate governance of systemically important financial firms. In particular, the norm that managers should seek to maximize shareholder value, as measured by the stock price, proves to be a faulty guide for managerial action in systemically important firms. This is not only because the failure of such firms will have spillovers that defy the cost-internalization of the tort system, but also because these spillovers will harm their own majoritarian shareholders. The interests of diversified shareholders fundamentally diverge from the interests of managers and other controllers because the failure of a systemically important financial firm will produce losses throughout a diversified portfolio, not just own-firm losses. Among the consequences: the business judgment rule protection that makes sense for officers and directors of a non-financial firm leads to excessive risk-taking in a systemically important financial firm. To encourage appropriate modification of incentives, we propose officer and director liability rules as a complement to (and substitute for) the prescriptive rules that have emerged from the financial crisis.