Academic journal article Journal of Corporation Law

Bracketed Flexibility: Standards of Performance Level the Playing Field

Academic journal article Journal of Corporation Law

Bracketed Flexibility: Standards of Performance Level the Playing Field

Article excerpt

I. INTRODUCTION

Standards of performance such as good faith and fiduciary duty make bargaining possible. Because standards of performance level the playing field, they enable the more vulnerable party to express its preferences and thus to bargain. The standards have this effect because they are both flexible and precise.

Unfortunately, the standards of performance are under siege in the United States and in Europe. While some of the strongest criticism of the standards concerns their vagueness, their flexibility allows parties to negotiate meaningfully and thus to express their preferences. Consequently, far from being sources of distortion, the standards give a voice to those who otherwise would not be heard. To use a political analogy, the standards enable, in the commercial realm, the democratic voice championed by Amartya Sen. 1 This is an affirmative reason to have standards of performance.

Although there is general agreement that the standards are flexible, the claim that they are precise is counterintuitive. While there is general acceptance of a floor-that is, of a minimum standard-the common complaint about the standards' vagueness presupposes the lack of a clear ceiling. In fact, actual behavior supported by law reveals that the standards of performance have an identifiable floor and a self-executing ceiling. By continuing the existence of a floor and a ceiling, I show that the standards are precise within a prescribed range; indeed, further specification would merely destroy the flexibility.

The flexibility of the standards provides the subtlety; their precision provides the predictability. Despite the current challenge to the standards, United States law still supports them, and because the standards' flexibility and precision make bargaining possible, business law should continue that support.

II. STANDARDS OF PERFORMANCE ARE FLEXIBLE AND DESIGNED To LEVEL THE PLAYING FIELD

Standards of performance are flexible and designed to level the playing field. They play a larger, more important role than merely to reduce agency costs, the role often used to justify good faith or fiduciary duty.2 Standards of performance often make the bargain possible.

A. Leveling the Playing Field

Starting with an analogy to pollution, assume a downstream landowner who values clean water more than the upstream polluter values the right to pollute. Assume further that the downstream owner does not have the money to pay the upstream polluter to clean its effluents. In this context, the downstream owner is powerless. Regulation can level the playing field so that the downstream owner-before regulation, the weaker party-has the power to negotiate meaningfully. The downstream owner then can obtain the clean water that this owner values more than the polluter values the permission to pollute.3 Standards of performance similarly operate to level the playing field in the context of contracts and of business organizations. They do so by correcting for unequal power and for conflicts of interest.

In order for the standards to level the field effectively, the greater the conflict and inequity of power, the higher must be the applicable standard. The four examples below, two from contract law and two from unincorporated business entity law, reflect this direct relationship between the standards of performance on the one hand, and power and conflict on the other.4

Before beginning our discussion of contract law, note that contract law is relevant to unincorporated businesses in part because contracts play a significant role in the formation of organizations, and in part because of decades of "nexus of contract" analogies.5 In an arm's length transaction governed by contract law-that is, on a level playing field--each party is assumed capable of self-defense. In that context, any behavior to a standard higher than opportunism conforms to contract law good faith and is appropriate. …

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