Corporations, government, Hobby Lobby, and socially responsible investing, part 1

There are about 50 million corporate governance issues in the news right now. It’s too much for one blog post! So there will be three. First, the Hobby Lobby decision and corporate structure. Second, the quasi-public nature of professional sports. And third, what investors should consider about socially responsible investing.

First: Hobby Lobby and corporate structure.

I’m not a lawyer, although I did teach business law in China! But the core of corporate finance starts with understanding the nature of the firm. A corporation is an independent entity. It has the same rights and responsibilities as a natural person. It has freedom of speech, the right to a fair trial, rights of habeas corpus. It cannot be compelled to quarter soldiers. Mitt Romney wasn’t saying anything new when he said that “corporations are people, my friend“. That has been enshrined in American law for a long time.

As an independent entity, a corporation – not its owners – can be sued directly. The owners are not personally liable for the corporation’s behavior. They can lose the value of their investment in the firm, but no more. Their personal assets (house, car, pension, other investments, etc.) cannot be touched. Furthermore, shares in a corporation can be transferred to new owners with no effect on the corporation itself. It continues, independent of its owners.

This is important. Without it, the risk of starting a business would be so great that  no one would do it. When someone starts a company, the entrepreneur is risking a livelihood along with the amount invested, but no more. Without a known worst-case scenario, there would be no new business formation.

Corporations are normally taxed independently of the owners as well. Sometimes, this creates a tax advantage (although not always; much depends on the state.) Many individuals choose to incorporate their business in order to convert their profits from salary to dividends; salary is subject to Social Security taxes, but dividends are not.

Finally, corporations are governed by a board of directors who are supposed to represent the best interests of the shareholders. In recent years, the courts have followed Milton Friedman’s dictate that the sole purpose of the corporation is to maximize shareholders’ economic value. Period. This is a controversial position, to be sure, but it has been the basis for decisions about fiduciary responsibility over the last several decades. Every business school student learns about it; most of the debates about Friedman’s dictum are about short-term value versus long-term value, not about whether a corporation has a different purpose.

In Burwell vs. Hobby Lobby, the owners of the Hobby Lobby craft stores argued that they should not have to include contraception methods that the owners found to be morally objectionable. Despite a rich trove of statute and common law finding that corporations are separate legal entities, that their owners have limited liability, and that they have no purpose other than maximizing economic value, the Supreme Court said that “Corporations, “separate and apart from” the human beings who own, run, and are employed by them, cannot do anything at all.”

Yes, that’s true, for all practical purposes. But the law is  not always practical. The corporate personhood fiction was created to serve certain specific purposes. If it can easily be waived when it is convenient for the owners, what’s to stop it from being waived when it is inconvenient for them?

If I were a tort lawyer, I’d be very excited right now. If owners can transfer their moral accountability onto the corporation, why shouldn’t those wronged by the corporation be able to draw on the moral (and financial) accountability of the owners? Burwell vs. Hobby Lobby  has poked a few holes in the corporate veil, and that may end up having serious effects on new business formation.

Next: sports teams that don’t like competition.