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Unpublished Paper
Cost-Benefit Analysis of the Business Judgment Rule: A Critique In Light of the Financial Meltdown
ExpressO (2010)
  • Todd M Aman
In 2008, the United States – indeed the whole world – suffered a devastating financial meltdown. We know now that a significant cause of the meltdown was that, in the face of numerous red flags, the managers of several venerable financial firms decided to take tremendous risks in the subprime mortgage market, and the directors of these firms did little or nothing to stop them. However, despite their actions, these managers and directors face little or no risk of personal liability because they are shielded by the business judgment rule and other liability reducing mechanisms, such as director exculpation statutes. Given the magnitude of the recent financial meltdown, this article calls for a reexamination of the arguments for and against shielding corporate managers and directors from virtually all personal liability. After providing background on the business judgment rule and director exculpation statutes, this article recasts the prominent arguments for and against the business judgment rule as cost-benefit arguments. On one hand, most pro-business judgment rule arguments focus on the benefits of shielding directors from liability risk, namely enhancing shareholder wealth. On the other hand, most critiques of the business judgment rule endeavor to show that the costs of shielding directors from liability risk are greater than generally thought. Instead of entering this debate, this article rejects the cost-benefit framework altogether. Drawing upon arguments developed by critical legal scholars, the article claims that cost-benefit analysis is indeterminate. Because cost-benefit analysis is indeterminate, it is impossible to determine whether the costs of increasing directors’ liability risk outweigh the benefits. Cost-benefit analysis just as readily can lead to the conclusion that the benefits outweigh the costs. Therefore, due to their reliance on cost-benefit analysis, the pro-business judgment rule arguments fail to justify the rule.
  • business judgment rule,
  • corporations,
  • directors,
  • cost-benefit analysis,
  • fiduciary,
  • critical legal studies,
  • law and economics,
  • externalities
Publication Date
August 26, 2010
Citation Information
Todd M Aman. "Cost-Benefit Analysis of the Business Judgment Rule: A Critique In Light of the Financial Meltdown" ExpressO (2010)
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