Why incorporate in Delaware: the advantages of the legal system

2007-03-08 10:33:40

( Business )



Why incorporate in Delaware instead of in another state?

Because, it is argued, Delaware’s corporate laws favor the shareholder by enabling the companies to customize their contracts and thereby limiting their agency costs

On the other hand, it is argued that where your corporation is domiciled is irrelevant because state law isn’t related to the company’s performance and that the differences between the state laws can be overcome by customizing the company charter.

However the debate as to why incorporate in Delaware is significant because half of the U.S.A s public assets fall under its corporate laws.

The critical issue is:
Does Delaware corporate law improve or reduce the value of the company in terms of the flow of money to the shareholders?

i) If Delaware’s laws increase agency costs, permitting the extraction of rents it will reduce the value of the companies
ii) If Delaware’s laws reduce the costs it will improve the value of the companies.
iii) If corporate law is irrelevant, the decision to [incorporate Delaware] will be irrelevant towards the value of the companies.

A significant research has found compelling evidence about the effect of state law on the value of companies especially with regard to the choice as to why incorporate in Delaware.

The research found that:
Delaware companies have a higher worth than similar companies incorporated in other states; taking into consideration factors like: company size, industry growth opportunities, financial performance etc.

The answer to the question” why incorporate in Delaware?” (As have half the top firms in the U.S.A) lies, according to this study in the fact that Delaware law improves the value of the companies in terms of money paid to the shareholders.

Market forces cause states to provide and you to select, when deciding where to [incorporate your business], legal rules which are most advantageous to the shareholders.

Not only does the decision to [incorporate Delaware] increase value but it also adds value. If you [incorporate Delaware] you have a greater likelihood of receiving a takeover bid. This is a finding contrary to common criticism that the takeover law in Delaware protects managers.

Corporation laws in other states, which prevent takeover bids, have corporations with a much lower value in terms of our definition.

So we understand that Delaware law improves the value of companies by encouraging their sale.

The fact that if you [incorporate Delaware] your company is likely to have a higher value and is likely to be more saleable implies that corporate law is more important than previously thought.

The connection between law, value and takeover activity has been evident for many years. Even though in other states companies adopting customized charters can protect investors, these measures aren’t able to compete with the advantageous of the Delaware legal system.


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