Limited Liability Gets All the Love
Posted by Darian Ibrahim on March 3, 2007
Anything by Henry Hansmann is worth reading and then revisiting from time to time. Recently, I revisited Hansmann’s article with Reinier Kraakman The Essential Role of Organizational Law, 110 Yale L.J. 387 (2000), which contends that organizational law has a more important function than offering owners limited liability against firm debts – it shields firm assets from the owners’ individual creditors. This “affirmative asset partitioning,†which is the reverse of limited liability, “reduces the cost of credit for legal entities by reducing monitoring costs, protecting against premature liquidation of assets, and permitting efficient allocation of risk.â€
The article notes that this function of organizational law is underappreciated in comparison to limited liability. I think that’s right, at least in the classroom. My sense is that students leave a standard business associations course knowing something about limited liability (and veil piercing), but little about affirmative asset partitioning as its corollary. I am persuaded to teach these topics as sort of a one-two punch from now on. Another question to explore is whether affirmative asset partitioning would be attainable by contract in the absence of organizational law. The article argues no, and therefore organizational law is essentially property law rather than contract law. This could also lead to an interesting discussion…
On another note, I plan to spend the weekend working on my article on angel investing, so this will be my last post. Thanks to all of my wonderful hosts here at TOTM, as well as those who have commented on my posts – I’ve really enjoyed the past two weeks!
5 Responses to “Limited Liability Gets All the Love”
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Economic Articles » Blog Archive » Limited Liability Gets All the Love said
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Bill Sjostrom said
Thanks Darian. We’ve enjoyed having you!
Joshua Wright said
Thank you Darian.
Kate Litvak said
They now call it “investor shielding” and “entity shielding” (or “capital lock-in”), and I’ve always thought the case for entity shielding is overstated. I even wrote a paper about it!
Darian Ibrahim said
Thanks, Kate. I look forward to reading your article!