A fierce competition is underway in the United States, not between companies, but among state judicial systems. Texas recently enacted significant changes to its corporation law, aiming to attract both large and small businesses, as well as shareholders with controlling interests. This move intensifies the rivalry with Nevada and challenges the long-standing dominance of Delaware as the preferred US domicile for corporations.

“Business decisions are to be made by the elected officers and shareholders, not by unelected judges,” stated Texas governor Greg Abbott when signing the bill.

Nevada has long sought to attract companies with corporate laws favoring board directors over minority shareholders, drawing in several large, frequently enough founder-led, corporations. However, some companies have hesitated, fearing shareholder backlash or a negative impact on their share valuations.

The landscape has shifted in recent years. Tesla, such as, reincorporated in Texas after its corporate governance faced criticism in Delaware, where a judge nullified a $55bn stock grant to elon Musk.

Many companies now believe that shareholders will not penalize them for limiting investor rights. According to Ben Edwards, a law professor at the university of Nevada, 12 public companies are seeking to leave Delaware this proxy voting season. Of these, 10 are moving to Nevada, while only two are heading to Texas. Governor Abbott and the Texas business community are persistent to alter this trend.

Delaware’s Corporate Law and Recent Changes

Delaware’s corporate law is generally company-friendly, but it places a higher burden of proof on directors in companies with large stockholders to demonstrate that transactions are fair to minority stockholders. Tesla’s issues with Musk’s compensation arose when a Delaware court deemed the directors responsible for setting the CEO’s pay to be too closely tied to him.

“CII believes companies should not reincorporate to jurisdictions where corporate governance structures are less robust than their current jurisdiction of incorporation.”

In contrast, Nevada’s corporate law offers directors near-immunity from liability for self-dealing, where controlling investors take actions that benefit them at the expense of minority investors.

Texas’s new law eliminates heightened scrutiny in conflicted transactions, stipulating that board decisions can only be challenged if a shareholder proves fraud, intentional misconduct, or a knowing violation of the law. Additionally,it makes accessing text messages and emails,often crucial in shareholder lawsuits,nearly impractical. Texas companies can also mandate that lawsuits be filed only by shareholders owning at least 3 per cent of the company’s stock-for Tesla, that would require a $30bn position.

Delaware has responded by amending its laws to curb shareholder litigation, fearing an erosion of its dominance. The law firm Skadden, which has a large Delaware office, issued a memo reassuring companies that the risk of costly litigation in the state has been reduced. A sitting judge on the Delaware Court of Chancery even joined Skadden lawyers in a podcast to reinforce this message.

According to Ann Lipton,a law professor at Tulane University in new Orleans,”Delaware amended its law to make shareholder lawsuits nearly impossible but did so in a convoluted way to maintain plausible deniability – turns out it’s all too confusing for corp execs who figure,why not just go to Nevada or Texas where it’s pretty straightforward?”

The Debate Over Shareholder Accountability

Shareholder lawsuits serve as a crucial mechanism for policing companies and setting corporate governance standards. Accountability to shareholders has long been considered essential for maximizing enterprise valuation. The Council of Institutional Investors (CII), an advocacy group representing large mutual funds, has voiced concerns about the “race to the bottom.” “CII believes companies should not reincorporate to jurisdictions where corporate governance structures are less robust than their current jurisdiction of incorporation,” it says.

However, companies defecting from Delaware seem unconcerned about potential investor backlash. There has been little sign of it, even from BlackRock, which has criticized Governor Abbott for policies perceived as hostile to the oil and gas industry. BlackRock, typically a top-three shareholder in most listed companies and vocal on corporate governance, declined to comment on the new Texas law but invested in a new stock exchange in the state last year.