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The Board of Directors and Shareholders Rights

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Corporations in the United States are incorporated under state law. Under these laws, the board of directors is responsible for managing the affairs of the company in the best interests of the shareholders—as interpreted by the courts of that state, of course. So, how should the board be selected, organized, and monitored by shareholders to ensure that their interests remain supreme? And to what extent can boards enhance or dilute the rights of shareholders through such strategies as changing the governance structures and the bylaws of the company?

Public shareholders, especially dispersed shareholders, need some institution or mechanism to monitor and evaluate managerial performance and to protect their ownership interests in the company. The board of directors has evolved to fulfill this function. The directors are elected by the shareholders and, under state law, are expected to demonstrate unyielding loyalty to the company's shareholders (the duty of loyalty) and exercise due diligence in making decisions (the duty of care). However, the extent to which directors have effectively done so is hotly disputed and open to interpretation, especially since the Enron bankruptcy.

There is a fairly widespread consensus that for most of the twentieth century, board membership was more like membership in an exclusive private club, with the board members being effectively appointed by and beholden to management. However, in the late 1980s and 1990s, changes took place in the roles and activism of boards. These changes can be traced to a constellation of events.

From the end of World War II until the early 1970s, the U.S. economy performed fairly well. U.S. multinationals dominated many markets, and, at least in the 1960s, many Europeans were fearful of American domination of their markets and cultures. These years marked the peak of managerial capitalism. But then came the Vietnam War, the OPEC oil embargo, and the stagflation of the 1970s. The U.S. economy was performing poorly in relative terms, especially compared to Japan. The stock of large U.S. corporations was selling for less than book value, suggesting that these companies were worth more dead than alive. Stock prices languished throughout the 1970s and into the 1980s, causing investors, especially institutional investors, to become increasingly disenchanted with corporate America's performance.
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Document Type: Research Article

Publication date: February 25, 2003

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