Despite globalisation, corporate law provisions around the world diverge deeply.2 This underlies the significance of the applicable law question. Consider the above-mentioned lawsuit between the Australian and Chinese corporations. Should it be governed by Australian law (the place of the plaintiff’s residence), Chinese law (the place of the defendant’s residence), Brazilian law (the place of the contractual performance), or some other law?
The thesis of this article is that some of the contemporary rules on the question of applicable law to corporations have failed to acknowledge the developments that have occurred within both corporate law and applicable law doctrines. Following this, the article argues that some rules that presently determine the question of applicable law to corporations must be reconsidered.
The article is structured as follows. Part A outlines the major developments that have occurred over the last decades within the applicable law doctrine. Part B demonstrates that corporate law doctrine has experienced similar developments, and then examines the nature of contemporary corporate choice-of-law rules. Part C summarises the argument and the proposed changes.
Part A: The two central developments within the applicable law doctrine
The question of applicable law is referred to in legal jargon as the ‘choice-of-law’ question. The classical literature tells us that choice-of-law questions arise in factual situations that involve at least one so-called foreign element. Consider the above-mentioned contract between an Australian corporation and a Chinese corporation, signed in Indonesia with respect to a delivery of goods in Brazil. This situation involves a significant number of foreign elements: China (the residence of the defendant), Indonesia (the place of contract formation) and Brazil (the place of contract performance).
A review of the choice-of-law scholarly writings and judicial decisions around the world reveals two central developments within the choice-of-law doctrine over the last decades: (1) the advances of the so-called party autonomy principle; and (2) the dominance of a far less restrictive ‘foreign element’ requirement for the very classification of the subject. The ensuing paragraphs discuss each development in turn.
The advances of the party autonomy principle
According to the party autonomy principle, parties have an ability to determine between them the applicable law to adjudicate their rights and duties. Consider once again the above-mentioned contract with factual elements involving Australia, China, Indonesia and Brazil. According to the party autonomy principle, the parties can state in their contract which law potential disputes between them will be adjudicated by: for instance, English law. Indeed, the choice of an English law in this case appears to be completely unrelated to the parties and to the nature of their business transaction. The contemporary choice-of-law doctrine has shown unprecedented support for the ability of parties to choose the applicable law. Accordingly, today most jurisdictions would validate a choice-of-law clause that names a law which is completely unrelated to the parties and the nature of their interaction.3
The advance of the party autonomy principle around the world has been dramatic, fundamentally challenging the classical vision of the subject as a reflection of state sovereignty. According to this vision, the question of applicable law was linked to states’ interests to apply their laws over actions that took place in their territories. For instance, a contract signed in Germany should have been governed by a German law. A tort that occurred in New York should have been governed by the New York law.4 Stated in these terms, the states played a central role in the choice-of-law process.
However, the party autonomy principle has challenged the classical state-based conception of the subject. By allowing the litigating parties to move away from states’ interests and states’ authority, this principle has placed the normative underpinnings of the subject within such concepts as ‘autonomy’ and ‘choice’. Despite the potential interests of the states, the party autonomy principle grants the private parties the ability to exercise their autonomy with respect to the identity of the framework to adjudicate their rights and duties. In one case, the parties can choose a German law. In another, an English law. The choice and autonomy remains with the private parties.
It is hard to overstate the success of the party autonomy principle. Within decades, this principle has been incorporated within central choice-of-law provisions of various jurisdictions. The legal practice has met it with great excitement. The statistics suggest that currently around 90 per cent of international contracts incorporate some choice-of-law provision that sheds light on the identity of the applicable law.5 Furthermore, the success of the principle has not been limited to the area of contract law but has been extended to such legal categories as tort, the law of restitution and family law.6
A less restrictive vision of the foreign element requirement
A less restrictive vision of the so-called foreign element requirement represents the other dramatic development that has occurred over the last decades within the choice-of-law doctrine. This requirement relates to the very nature of the choice-of-law question. How should choice-of-law cases be distinguished from purely domestic cases? At what point should the choice-of-law analysis enter into the picture?
Both the traditional choice-of-law literature and judicial decisions have provided a fairly straightforward answer to this question: choice-of-law cases must involve some degree of ‘foreignness’ in their factual matrix. Some examples are when one of the parties is a foreigner; the place of contract performance is on foreign territory; or the plaintiff’s injury took place on foreign territory. A prerequisite to choice-of-law analysis, then, is that a single foreign element must be present in the factual basis of the case. Traditional and contemporary choice-of-law literature have insisted on this classification of the discipline.7 Choice-of-law cases cannot be so without the presence of a foreign element.
Modern choice-of-law legislation has followed a similar path. Consider the provisions of the European Rome I Regulation.8 While the regulation follows the contemporary tendency to incorporate the party autonomy principle as a primary vehicle for choice-of-law analysis,9 it imposes a significant limitation on the operational force of this principle: it cannot be applied in a purely domestic situation.10 In other words, some degree of ‘foreignness’ must be found within the factual matrix of the case to enable the parties to choose the applicable law.
It is evident that the contemporary phenomena of cross-border commerce, international tourism and above all the Internet have transformed the frequency the foreign element’s presence. While this requirement has remained essential to the very classification of the subject, the lessons of reality have led to a dramatic increase in cases that involve some degree of ‘foreignness’. As one of the choice-of-law commentators has stated: ‘Almost all cases in the world have links to more than one state.11 From this perspective, the vast majority of contemporary litigation has become choice-of-law litigation. And, the instances of this litigation will only grow.
These observations suggest that over recent decades the choice-of-law doctrine has moved in two interrelated directions: towards internationalisation (under the relaxation of the ‘foreign element’ requirement) and away from the states’ grasp and interests (under the advances of the party autonomy principle). Interestingly, as the next part shows, the corporate law doctrine appears to have moved in related directions.
Part B: Corporations and corporate choice-of-law rules
The advances of the personhood vision of corporation and internationalisation
Historically, corporations were perceived as artificial entities, completely affiliated with the state and the state’s activities. The state executed full control over corporations. At the time of their historical origination, corporations were large entities that operated as a long arm of the state and were engaged in state-funded public projects, such as road and infrastructure building.12
The state-controlled vision of the corporation has not ceased with the development of the modern corporation as the primary vehicle for business-oriented activity. The states’ hold over corporations has remained strong. The predominant conception of the 19th century viewed corporations as purely artificial entities, owing their existence to the state and state public institutions. A corporation’s existence was attributed to the willingness of the state to grant it. And operation of a corporation was limited to those activities that the state had explicitly granted.13
However, at some point in the history of corporations, a significant development has occurred. Rather than viewing corporations as artificial entities that are fully affiliated with the state, an alternative conception of corporations has emerged — that of corporate personality. By effectively drawing a parallel between private individuals and corporations, the common law courts have been, perhaps, the first to follow this conception of corporations. Similarly to private individuals, corporations have signed contracts and been sued in torts. And they have received constitutional protections available to private individuals, such as due process and the equal protection clauses of the US Fourteenth Amendment.14
Similar to the developments within the choice-of-law doctrine, the ‘personhood’ move within the corporate law doctrine suggests that corporations have left the grasp of the state-oriented conception of the subject.
Without delving into the conceptual justification of the courts’ decisions, corporations have been essentially been equalised to private individuals. The key common law decisions had applied the ordinary common law doctrines of contracts and torts to corporations in a similar manner to that of private individuals. The personhood conception of corporations has become dominant. Similar to the developments within the choice-of-law doctrine, the ‘personhood’ move within the corporate law doctrine suggests that corporations have left the grasp of the state-oriented conception of the subject.
Interestingly, the ‘internationalisation’ move described for the choice-of-law doctrine above can be seen in the corporate arena as well. By their nature, as business-oriented entities, modern corporations tend to be transnational and to conduct their business in a wide range of locations.15 Within this reality of corporate activity, the chances of delineating some degree of ‘foreignness’ seems to be higher in litigation involving a corporation than in litigation involving private individuals.
Furthermore, even before this contemporary cross-border commercial activity, the corporate context seems to be unique as it frequently involves a discrepancy between the place of a corporation’s incorporation and its other affairs. The US corporate arena is a paradigmatic example of this phenomenon. As studies attest,16 while the bulk of American corporations incorporate in the US state of Delaware, the actual place of their business and headquarters are in other states.
Corporate choice-of-law rules
Where does all this lead us? How do these observations about the transformations within both the choice-of-law and corporate law doctrines affect the identity of the corporate choice-of-law rules? In this respect, it would appear that the literature and judicial decisions have drawn a principal division between two types of corporate affairs: external and internal.17 The external affairs of a corporation address the relationship between the corporation and actors external to it: other corporations and business organisations, and private individuals. Thus, a corporation can sign a contract with another corporation, or be sued in tort by a private individual. The dispute between an Australian and a Chinese corporation mentioned in the introduction is an instance of external corporate affairs.
What law governs the disputes involving the external affairs of corporations? It would appear that the corporate choice-of-law doctrine has followed the conceptual developments within the choice-of-law and corporate contexts. A review of the choice-of-law decisions and literature suggests that these have equalised the choice-of-law rules applicable to private individuals to that of corporations. Within a broad range of various legal categories, such as contracts, torts and unjust enrichment, the same choice-of-law rules apply indiscriminately to private individuals and corporations.18 The same point is true with respect to the party autonomy principle. Without much hesitation, the revolution of the party autonomy principle has been extended to corporations.19 Thus, similarly to private individuals, corporations can decide which law will govern any future disputes. And most jurisdictions respect that provision.
Furthermore, a review of the judicial decisions suggests that the corporate context well-received the other related development of the choice-of-law doctrine — internationalisation and the subsequent relaxation in the ‘foreign element’ requirement. Consider, for example, the exclusion of the party autonomy principle from the purely domestic context, mentioned in the previous section.20 The case law has followed this relaxation tendency in light of the cross-border nature of corporations and the frequent discrepancy between the place of incorporation and other corporate activities. Accordingly, it has been acknowledged that a very low threshold of ‘foreignness’ would be sufficient to meet the requirements of the party autonomy principle and to classify a given situation as including a ‘foreign element’ within its factual matrix.21
Unfortunately, the smooth adoption of the ‘personhood’ and ‘internationalist’ moves does not seem to continue to the area of the so-called ‘internal affairs’ of corporations. In contrast to corporate external affairs, these deal with disputes within the corporation itself: litigation between the corporate actors (shareholders, directors and executives) themselves, and between them and the corporation. The derivative claim of a New York shareholder against a German director mentioned in the introduction is an instance of corporate internal affairs.
The literature and the case law have sharply delineated between the external and internal affairs of corporations.22 It has been argued that the latter represent a distinctive form of interaction and should be governed exclusively by the choice-of-law rule of the place of incorporation.23 The place of incorporation rule closely follows the traditional vision of the corporation as subject to the state’s control. Representing the state’s authority over the place of the corporation’s creation, this rule crystallises the state-oriented vision of corporation. The supporters of this rule have justified it in precisely these terms.24 In addition, it has been argued that this choice-of-law rule leads to predictability, as it provides a clear pre-determinative answer to the question of applicable law to corporate internal affairs—the law of the place of incorporation.25
However, one can challenge the insistence of the contemporary literature and judicial decisions on the traditional place of incorporation rule. Originating within the classical conception of the corporation, it represents a vision of the corporation as intimately related to state activity and state control over the corporation. Changes have occurred however within both corporate law and choice-of-law doctrines. The personhood conception of corporations has prevailed in the corporate context, and the party autonomy principle has made its advances in the choice-of-law context.
Furthermore, the call for reconsideration of the place of incorporation choice-of-law rule is not solely based on conceptual grounds but aims to address the serious practical deficiencies that this rule entails. Today, if an Australian corporation wants its internal affairs to be governed by, say, a sophisticated and well-developed Delaware law, it must incorporate or re-incorporate in the US state of Delaware.26 This ‘choice’ of Delaware law comes with a price however. It would mean, for example, an additional taxation burden on the corporation. Furthermore, due to the nature of contemporary jurisdictional rules, it would be possible to sue this corporation in the state of Delaware, which would impose a significant financial burden on the corporation.27 In other words, the contemporary exclusive choice-of-law rule of the place of incorporation is not just conceptually defective but also problematic as a matter of practicality.
What should come instead of the place of incorporation rule? One can argue that corporations should simply be allowed to state the identity of the applicable law to govern their internal affairs in the foundational corporate document that sets the relationship within the corporate governance — the articles of incorporation. In contrast to the current regime where the corporation needs to incorporate or re-incorporate in a certain place in order to exercise its choice of the applicable law, this suggestion would enable such choice fairly easily, without the burden of the incorporation move.
It can be argued that the suggested corporate autonomy to determine the identity of the applicable law reflects the conceptual developments that have occurred within the corporate and choice-of-law doctrines. Similar to the changes that have occurred within the context of the private individual, there is no reason not to enable corporations to choose the applicable framework to adjudicate a dispute within the corporation.
Compared to the traditional place of incorporation rule, this ‘corporate autonomy’ would not just mean conceptual coherency, it would also address the contemporary practical difficulties that the place of incorporation rule involves. There is no reason to expose a corporation to further taxation requirements and the burden of litigation in a jurisdiction unrelated to it just because the corporation wishes to choose the applicable law. The place of incorporation rule is simply not practical and not efficient to govern corporate internal affairs. Furthermore, given the contemporary accessibility of the articles of association to corporate actors, the suggested incorporation of corporate autonomy meets (in addition to the state sovereignty justification) the other justifications for the place of incorporation rule — that of predictability and accessibility.
This article has examined the applicable law to corporations. It has tackled the parallel developments that have occurred within both corporate law and choice-of-law doctrines. It has argued that one can delineate two transformative shifts within both doctrines: internationalisation and party autonomy/personification. It then examined the nature and structure of the contemporary corporate choice-of-law rules. Within the area of corporate external affairs, the findings revealed that the choice-of-law rules have followed the developments within the corporate and choice-of-law contexts. However, in the area of corporate internal affairs, the findings were disappointing: the traditional place of incorporation rule has remained loyal to the state-based vision of corporations and choice-of-law rules. A suggestion to replace this rule was made to reflect our contemporary vision of the subjects and to address the practical deficiencies that the traditional rule entails.