Empirical Studies of Corporate Law and Governance: Some Steps Forward and Some Steps Not

Empirical Studies of Corporate Law and Governance: Some Steps Forward and Some Steps Not

Michael Klausner

February 07 2018

Empirical research on topics of corporate governance has grown tremendously in the past 30 years.  Much of this work has been done by economists in business schools and economics departments, some has been done by legal scholars.  It spans a wide range of topics—too wide to review in a single article. Some of this work has advanced our understanding of various corporate governance arrangements, but some has not. The failure to advance our understanding is, to some degree, due to the inherent difficulty in inferring causation in corporate governance, but it is also due to the failure of researchers to become steeped in the facts of how corporate governance works. As a result, fundamental misunderstandings have occurred and have spread through parts of the corporate governance literature.

This is a book chapter in the forthcoming Oxford Handbook of Corporate Law and Governance, published by Oxford University Press.  It reviews and evaluates three areas of empirical research on US corporate governance—state competition to produce corporate law, the impact of independent directors, and the effectiveness of takeover defenses. The chapter concludes that the most successful of these literatures is that on state competition.  This was the first topic that economics-oriented legal scholars debated, beginning in the 1970s.  They did so on the basis of theory alone for a decade, but as is often true in corporate governance, plausible theory pointed in opposite directions.  Since that time, however, an empirical literature has developed that has dramatically improved our understanding of how states interact (or don’t interact) to produce corporate law.

The chapter’s review of the empirical literature on independent boards concludes that this literature, largely moot in the US as a result of mandatory rules established in the 2000s, was plagued by inherent difficulties inferring causation. We can never be sure, for example, whether independent boards make corporations do certain things well, or whether firms that do well tend to adopt independent boards. Nonetheless the accumulation of imperfect analyses was suggestive that independent boards have certain positive impacts on management.

Finally, the chapter explains how the empirical literature on takeover defenses has been plagued by misunderstandings from its start in the 1980s.  These misunderstandings have been contagious and continue today. While there are certainly exceptions, much of this literature reflects a failure to understand how various defenses to hostile takeovers work.  As a result, the results of many articles are of no value. Common mistakes include failing to understand (a) how poison pills work, (ii) how the mere availability of poison pills renders nearly all other defenses redundant at best, (iii) how state antitakeover statutes work, and (iv) how counting up takeover defenses is not a valid way of measuring a firm’s insulation from the hostile takeover threat.  These misunderstandings are embedded today in the use of governance indices as a measure of corporate governance quality.