Monday, July 28, 2014
As many readers (and all of my friends) know, I am a bit of a sports fan. Having been a college athlete (field hockey, at Brown University, for trivia buffs), I focus most of my attention on college games. I even served on The University of Tennessee's Athletics Board for a few years. But my Dad and I used to watch professional football and baseball a lot together when I was a kid (still do, when we are in the same place at the right time), so I also maintain a casual interest in professional sports.
I also have an interest in fashion, especially women's fashion (maybe less well known, except by close friends). I have friends in the industry and find aspects of it truly fascinating. I even used to subscribe to Women's Wear Daily, the fashion industry trade rag. I am the faculty advisor to the College of Law's Fashion and Business (FAB) Law student organization.
This personal background is prelude to my interest in two current events stories that I see as parallels. I am trying to sort them through on a number of levels. Maybe you can help. Here are the top lines of each story.
- Last Thursday, the National Football League (NFL) suspended Baltimore Ravens running back Ray Rice for two games, fined him $58,000 dollars, and asked him to seek counseling after its investigation of an incident relating to a video in which Rice was depicted dragging his then-fiance, now wife, by her hair after punching her in the face (allegedly rendering her unconscious).
- The very same day, American Apparel (AA) announced a new slate of directors who will assume positions on the AA board in early August as a result of investor intervention and a boardroom blood bath following on lagging profits and continuing investigations of allegations of sexual misconduct (most of it, as I understand it, not new news) against AA's founder and former CEO and director, Dov Charney, whose management roles at the firm were suspended by the board back in June.
With news releases on the same day for both stories I couldn't help but notice the differences in the ways that the NFL and AA had treated these two allegations of VIP malfeasance. Although it may be unfair to compare the two sets of incidents (which are, in fact, different in many respects), both are cases involving governance issues surrounding allegations of embarrassing behavior involving public figures important to the respective entities. The Rice allegations are substantiated by video evidence and appear to be significantly more serious as a matter of potential illegal activity. If true, the publicized facts about the Rice case are the foundation for criminal domestic violence charges. The publicized facts relating to the allegations of sexual misconduct by Charney are not the subject of video evidence and may or may not involve criminal activity. Yet, the institutional, employment-related punishment of Rice by the NFL is but a slap on the hand, as numerous commentators already have pointed out (including here and here), and the institutional, employment-related punishment of Charney by AA relegates a firm's founder, who also served as a director and its chief executive officer, to the role of a consultant. The difference in governance reactions was, to me, striking.
One might point out that the risks to the respective governance bodies are different in these two cases. Among other things, based on the publicized facts, Rice's actions were wholly personal activities, and Charney's may have involved conduct in connection with his managerial activities. Also, Rice is one among many key players in the NFL, while Charney is a unique, even iconic, figure at AA. These differences likely play into the risk management assessments of the two entities.
But non-legal risks, including reputational effects, also should be considered in an institution's risk calculus. I find it sad and hard to swallow, but the NFL's actions may just be a signal (despite the current negative press) that the NFL's leadership has determined that its reputation and profits will not be significantly negatively impacted by Rice's alleged actions--while AA's leadership, especially when pressed by key investors, came to a contrary conclusion with respect to Charney's alleged actions. In this regard, I note with favor the recent comments, published by The Guardian, of my co-blogger Marcia Narine.
Perhaps applicable governance rules also play a role here. Leaving aside any governance actions that may occur at the team level (based on publicly available information, the Ravens team is owned and operated by a limited partnership), it seems important to note that the NFL is an unincorporated non-profit association and AA is a publicly traded Delaware corporation. Accordingly, the governance rules applicable to the NFL and AA come from different legal traditions and sources.
As I understand it (and I am no sports lawyer, so please correct me if I am wrong), each NFL team must agree to be bound by the terms and provisions of the NFL's Constitution and Bylaws. The NFL's authority to discipline league team players is exercised by the Commissioner (or, in certain circumstances, the NFL Executive Committee) and derives from the NFL's Constitution and Bylaws. Absent any provision articulating fiduciary duties in the Constitution and Bylaws, specific contracts or agency law would be the source of any fiduciary duties that the Commissioner and Executive Committee would have. Unless a particular contract governs the matter (and without an in-depth analysis), the NFL member teams (for which the NFL has been organized and is operated) are the likely primary beneficiaries of any agency-law-based fiduciary duties applicable in connection with the NFL's formal disciplinary actions. Unless I am missing something, the NFL teams are unlikely to assert a breach of fiduciary duty claim against the NFL Commissioner or Executive Committee based on the failure to stringently punish a key player on a league team. If anything, the teams may believe that they suffer more financial hardship when key players are ineligible to play than they do by fielding players who are sexually violent. That belief may be accurate, at least in the short term. But the long-term effects of these types of incidents on the NFL are harder to assess and benchmark. Perhaps it's time for consumers to rise up and speak, as they did when Michael Vick's dogfighting allegations surfaced back in 2007 . . . .
By contrast, AA's governance rules derive primarily from the General Corporation Law of the State of Delaware (as well as any relevant provisions in AA's certificate of incorporation and bylaws). The board of directors of AA owes fiduciary duties to AA that benefit AA's stockholders (and potentially others). On the corporate governance part of its website, AA states as follows: "American Apparel takes very seriously the responsibility to observe high standards of ethical conduct to protect the interests of the corporation, its shareholders, and its stakeholders. The officers and board of directors of American Apparel are dedicated to overseeing the operation of the business and affairs of the corporation to promote long-term shareholder value." Stockholders did complain about Charney's alleged indiscretions and engaged AA in serious conversations about the governance of the firm in that context (among others).
Neither the NFL nor AA comes out of these incidents with a real victory. Both entities face ongoing issues relating to these stories in the press and internally. If one had to pick a winner in this race to the bottom, however, it would have to be AA. For now, I score the match AA 1, NFL 0.
The new crowdfunding exemption in section 4(a)(6) of the Securities Act will, once the SEC adopts the rules required to implement it, allow ordinary investors to invest in unregistered securities offerings. Will those unsophisticated investors go down in flames or will they be able to make rational investment choices?
Some proponents of crowdfunding argue that crowdfunding benefits from the so-called “wisdom of the crowd": that the collective, consensus choice that results from crowdfunding is better than what any individual could do alone, and often as good as expert choices. A recent study seems to support that view.
Two business professors—Ethan R. Mollick at the Wharton School and Ramana Nanda at Harvard—looked at crowdfunding campaigns for theater projects. They submitted those projects to people with expertise in evaluating theater funding applications and compared the expert evaluations to the actual crowdfunding results.
Mollick and Nanda found a strong positive correlation between the projects funded by the crowd and those rated highly by the experts. In other words, crowds were more likely to fund the campaigns the experts preferred. In addition, projects funded by the crowd that were not rated highly by the experts did just as well as the projects chosen by the experts.
Of course, theater projects aren’t the same as securities, but this study should certainly be of interest to those following the securities crowdfunding debate. The full study (44 pages) is available here. If you don’t have time to read the full study, a summary is available here.
Sunday, July 27, 2014
An Updated Draft of “Corporate Social Responsibility & Concession Theory” and Some Further Thoughts on Hobby Lobby
I have posted an updated draft of my latest piece, “Corporate Social Responsibility & Concession Theory” (forthcoming __ Wm. & Mary Bus. L. Rev. __) on SSRN (here). Here is the abstract:
This Essay examines three related propositions: (1) Voluntary corporate social responsibility (CSR) fails to effectively advance the agenda of a meaningful segment of CSR proponents; (2) None of the three dominant corporate governance theories – director primacy, shareholder primacy, or team production theory – support mandatory CSR as a normative matter; and, (3) Corporate personality theory, specifically concession theory, can be a meaningful source of leverage in advancing mandatory CSR in the face of opposition from the three primary corporate governance theories. In examining these propositions, this Essay makes the additional claims that Citizens United: (A) supports the proposition that corporate personality theory matters; (B) undermines one of the key supports of the shareholder wealth maximization norm; and (C) highlights the political nature of this debate. Finally, I note that the Supreme Court’s recent Hobby Lobby decision does not undermine my CSR claims, contrary to the suggestions of some commentators.
I expect to have at least one more meaningful round of edits, so all comments are welcome and appreciated.
As to the last point of the abstract, let me explain why I don’t think Hobby Lobby has meaningfully expanded the ability of corporations to pursue socially responsible actions lacking in any colorable shareholder wealth justification, which, in light of the business judgment rule, is where I believe much of the interesting CSR action is taking place. I’ll first briefly go through my understanding of what the Court held in Hobby Lobby, and then see if anything new is added to our understanding of corporations’ ability to pursue CSR activities. My analysis proceeds roughly as follows:
1. Are corporations capable of exercising religion?
As a matter of statutory construction, determining whether corporations can exercise religion for purposes of the RFRA requires looking to the Dictionary Act, which includes corporations under the definition of "person" unless the context indicates otherwise. I agree with Justice Ginsburg that the context of exercising religion is one that properly excludes corporations. In addition, due to my view of the corporation as being fundamentally a creature of the state, I have Establishment Clause concerns about allowing the recipients of the state’s corporate subsidy to further religious ends via that grant. (I address some of the related unconstitutional conditions arguments here.) But in the end, the Court said corporations can exercise religion, so that’s likely the final word till a Justice retires.
2. Is the exercise of religion by corporations ultra vires?
Given that the Court has deemed corporations capable of exercising religion, the next question is whether they have been granted the power to do so by the state legislatures that created them. In other words, is the exercise of religion ultra vires? When Justice Alito says that “the laws … permit for-profit corporations to pursue ‘any lawful purpose’ or ‘act,’ including the pursuit of profit in conformity with the owners' religious principles,” I believe he is best understood as affirming that religious exercise, like charitable giving, is not ultra vires, nothing more.
3. Can corporations sacrifice shareholder wealth to further religious exercise?
So, corporations have the ability to exercise religion and it is not ultra vires for them to do so. None of that, however, should change the fact that if the religious exercise does not somehow advance shareholder wealth and any shareholder legitimately complains, then a viable waste or fiduciary duty claim has been asserted. Alito seems to recognize this point when he qualifies his conclusion about the viability of abandoning profit-maximization with: “So long as its owners agree ….” As Jay Brown put it (here), “this is a rule of unanimity…. it doesn't actually alter the board's legal duties.” In other words, I agree with my co-blogger Josh Fershee when he argues (here) that Hobby Lobby should not be read to create some new First Amendment defense for controlling shareholders or directors facing viable claims of waste of corporate assets or duty of loyalty violations.
Assuming all the foregoing is correct, I don’t see anything new in Hobby Lobby vis-à-vis a corporation’s ability to engage in CSR activities. Obviously, it doesn’t take much to satisfy the business judgment rule, but that’s not the issue. If there is any new ground here it should arguably create a defense where no rational business purpose is asserted (I don’t believe Hobby Lobby has redefined “business” for purposes of the waste doctrine). That’s precisely what makes benefit corporations special and necessary – they provide such a defense for corporations pursuing activities with a public benefit but open to the challenge that there is no concomitant shareholder wealth benefit. As Robert T. Esposito & Shawn Pelsinger put it (here), “the principal argument for social enterprise forms rests on the assumption that corporate law and its duty to maximize shareholder wealth could not accommodate for-profit, mission-driven entities.”
So, has Hobby Lobby somehow meaningfully shifted the playing field when it comes to CSR? I don’t think so.
Last year, when many law schools made no new hires, Alabama was one of the most active law schools on the market. Alabama hired a new dean and five new faculty members. It appears that Alabama is looking to hire again this year.
The University of Alabama School of Law is seeking applications from entry level or lateral candidates. They will accept applications from applicants in all subject areas, but have a particular interest in applicants that research and teach in one or more of the following areas:
business law (including enterprise, finance, and/or securities); administrative regulation (including the regulatory state and/or regulated industries or activities); intellectual property (specifically trademark and copyright); and criminal law (including substantive criminal law and/or criminal procedure).
(Emphasis added, for the benefit of our business law readers.)
More information is available here.
Saturday, July 26, 2014
One of the classic arguments against private securities liability – and in particular, Section 10(b) fraud-on-the-market liability, with its high potential damages – is that it overdeters issuers, thus stifling voluntary disclosures rather than encouraging them. This was in fact the theory behind the PSLRA’s safe harbor: the statute makes it particularly difficult for private plaintiffs to bring claims based on projections of future performance, in part because of Congress’s fear that expansive liability would dissuade issuers from making projections at all.
Two new empirical studies challenge this common wisdom.
The first, Private Litigation Costs and Voluntary Disclosure: Evidence from Foreign Cross-Listed Firms, by James P. Naughton et al., uses the Supreme Court’s decision in National Australia Bank v. Morrison as a natural experiment. That decision abruptly removed the specter of private Section 10(b) liability based on securities sold on a foreign exchange. The authors compare voluntary earnings guidance offered by firms whose securities are cross-listed in the US and abroad before and after Morrison to determine how the diminished threat of liability affects issuer behavior.
As it turns out, the authors found that earnings guidance decreased for those firms whose securities are cross-listed, as compared to counterparts whose securities are listed solely in the United States. The authors also found that the effect was stronger for firms whose home country had a weak regulatory structure – i.e., firms that did not expect that enforcement in their home country would fill the void left by Morrison. Finally, the authors found stronger effects for firms with a greater proportion of non-US listed shares – i.e., firms most affected by the Morrison decision.
The second study, Carrot or Stick? The Shift from Voluntary to Mandatory Disclosure of Risk Factors, by Karen K. Nelson and Adam C. Pritchard, analyzes “risk factor” disclosures. Under the PSLRA, issuers are insulated from liability for false projections of future performance if the projections are accompanied by sufficiently detailed “cautionary statements,” i.e., descriptions of the variables that could cause actual results to differ from the projections. In this study, the authors compared risk factor disclosures by firms with a high risk of litigation to firms with low litigation risk, and found that higher litigation risk was correlated with more detailed risk disclosures that were more frequently updated from year to year and were presented in more readable language. The effect was strongest prior to 2005, when risk disclosure was voluntary; after 2005, when the SEC made risk disclosure mandatory, the effect recedes, although higher risk firms continue to provide more risk factor disclosure. The authors also show that investors absorb this information: for higher risk firms, there is a correlation between risk factor disclosures and investors’ post-disclosure risk assessments.
These two studies together provide interesting evidence that firms react to the specter of private liability by increasing, rather than decreasing, disclosures. Moreover, the Nelson/Pritchard study in particular concludes that these increased disclosures are in fact meaningful to investors.
Friday, July 25, 2014
We welcome Eric Orts (Wharton) to the "blawgosphere." Professor Orts has begun blogging at Ortsian Thoughts and Theories. I have already added his blog to my favorites, and I am sure I will become a regular reader. His new book, Business Persons: A Legal Theory of the Firm should be in my mailbox soon, and I am looking forward to reading it as well. (H/T David Zaring at the Conglomerate).
This post started off as a comment to co-blogger Haskell Murray's post Modifying the Law Review Submission and Review Process, and is perhaps overkill, but at least a few of us, thanks in part to Steve Bradford's post, are finding the conversation fruitful, so here we go:
In response to my suspicion that widespread law review changes could impact promotion and tenure (P&T) processes, Haskell writes: "I am not sure why the expectations for P&T would have to change if law reviews instituted blind review. It seems that all blind review would do is make the selection process more fair."
Maybe he is right, but here's my thinking: I believe expectations for P&T would change because I believe that widespread blind review would increase the (already long) turnaround time for getting pieces accepted for publication. If I am right (an open question) that it would increase the review time, it would make it harder for some faculty to get their pieces accepted, which is often required for it to "count" in the review process. Perhaps this would be a good thing, but I would see it as a potentially significant change.
This could also impact higher ranked schools even more. That is, Haskell has noted, people visiting at higher-ranked schools often find that visiting submission to be their most successful submission. (I’ve never had a top-20 or even top-40 school with my name for a submission, so I can’t say for certain.) It is my sense that higher-ranked schools get a bump with law reviews, and that's not always (ever?) fair, but if that bias went away, it could make it even harder to get through the P&T process at those schools without some modifying my understanding of some assessment measures. This is where I agree with Steve Bradford that if schools are using law review rankings as a proxy for quality, they are shirking their duties, but I still think many schools (or at least some people in schools) do. Again, a change may lead to a good shift over all, but it would still be a shift.
I concede it’s possible that blind review could increase the quality of journals, but I think that would also need peer review to go along with it, which could, again, extend the reviewing timeframe. For the current system, I think one of the reasons we don’t have blind review is that the system is full of proxies. These proxies have perhaps been deemed desirable given that we have already ceded publication decisions to 2Ls and 3Ls, and open review gives those students more information. I do think it may be more desirable and more fair to use blind review, though I think there’s also more likely we’d be swapping one problem for another if we don't add more seasoned reviewers to the mix. In one of my earlier posts (linked in my recent one) other disciplines indicate peer review alone won't fix the problem, and I don't think just blind review will either.
I maintain that a faculty- and practitioner-assisted process (including blind reviews) would benefit law reviews and legal scholarship, but it means we’d all have to pitch in even more. (I support that, but it would need widespread buy in.) My sense is that law reviews are slowly responding to the concerns and that we will see a better process result. I think this whole discussion is a net positive, and I hope we’ll see more of an evolution. As I have noted in my other posts, though, because I see value in many parts of law reviews, I think the coming changes should be an evolution and not a revolution.
In short, I think the law review submission and review process could be improved by at least two modifications.
1. Blind Review.
Currently, law review editors see, and in fact require, not only the author’s name and employer, but also the author’s entire CV. This is quite unlike the article selection process in other disciplines where all identifying information is supposed to be stripped.
If blind-review were adopted by law reviews, Josh Fershee claimed that it might still be possible to find the identity of the author through self-citations. Authors, however, do not always cite themselves and even if they do, law review editors would have to read pretty carefully to figure out the idenity of the author. Currently, it is simply not possible for law review editors to read closely all article submitted, so stripping the author's name would, at the very least, require the editors to dig into each article. Also, Authors could be instructed to remove, during the review process, identifying phrases like “in previous work I argued…”
This call for blind review by a Harvard law student in 2009 cites the gender bias, nationality bias, and prestige bias that can result from a non-blind selection process. I believe a few of the elite law reviews have adopted blind review from outside experts (Stanford Law Review is one), but it is certainly not widespread among U.S. law reviews.
In the comments, Josh said he thought blind review could work for at least some law reviews, but that the “expectations for promotion and tenure, would have to change” if we altered the system. I am not sure why the expectations for P&T would have to change if law reviews instituted blind review. It seems that all blind review would do is make the selection process more fair.
2. Exclusive Submissions (or Submission Limits).
One of the problems with the law review submission and review process is that most decent law reviews get hundreds, if not thousands, of articles to review in each submission cycle. Even if the law review editors were able to overcome the biases mentioned above, they simply do not have time to give each article anything close to a thorough read. The editors have to eliminate blocks of articles on easily identified things such as the subject matter of the article, the catchy titles, and the prestige of the author’s school.
If law reviews required exclusive submissions, the editors would have time to give each article a hard read before extending an acceptance. Florida State and Pepperdine have done exactly this in adopting exclusive submission windows for certain slots in their journals. This seems like a sensible move and I think more law reviews should follow suit.
If the exclusive submission requirement is too dramatic of a shift, I suggest ExpressO limit each author to 10 journals (or some other reasonable number) per article, per submission cycle. This limit would cut down significantly on the reading load for law review editors and would allow them to do more thorough review of the article submitted.
I welcome any thoughts on these suggestions.
One of my younger brothers is a PHD Candidate in Literature at University of Alabama. One of my younger sisters majored in English at the University of Georgia and is working in the media industry. (Yes, I am a proud older brother, prone to brag about my siblings' many accomplishments).
Both siblings recently encouraged me to expand my summer reading beyond books about law. Due to the tall stack of legal books in my "need to read" pile, I usually don’t devote much time to "pleasure reading."
This summer, however, I am trying to read legal books and, at least some books, which have no noticeable connection to law. Rick Bragg’s All Over But the Shoutin’ falls into the latter category. I will let interested readers follow the link for a description of the book, but I only mention it here to say that Bragg writes beautifully. I finished the 329-page book in two, long, sittings.
Writer Pat Conroy said the following of the book and its author:
Rick Bragg writes like a man on fire. And All Over But the Shoutin' is a work of art. I thought of Melville, I thought of Faulkner. Because I love the English language, I knew I was reading one of the best books I've ever read.
My English-major sister recently used that phrase – “because I love the English language” – but in a different, law-related context. She told me that reading her employment contract made her cry, because she loves the English language. Presumably, the attorney managed to draft a contract that was painful to read.
Likewise, most of us in legal academia can slip into what Steve Bradford recently called “the usual turgid law-review prose.” Reading Bragg’s book has inspired me to strive for writing that is both clear and engaging.
Thursday, July 24, 2014
As many have celebrated or decried, Dodd-Frank turned four-years old this week. This is the law that Professor Stephen Bainbridge labeled "quack federal corporate governance round II" (round I was Sarbanes-Oxley, as labeled by Professor Roberta Romano). Some, like Professor Bainbridge, think the law has gone too far and has not only failed to meet its objectives but has actually caused more harm than good (see here, for example). Some think that the law has not gone far enough, or that the law as drafted will not prevent the next financial crisis (see here, for example). The Council on Foreign Relations discusses the law in an accessible manner with some good links here.
SEC Chair Mary Jo White has divided Dodd-Frank’s ninety-five mandates into eight categories. She released a statement last week touting the Volcker Rule, the new regulatory framework for municipal advisors, additional controls on broker-dealers that hold customer assets, reduced reliance on credit ratings, new rules for unregulated derivatives, additional executive compensation disclosures, and mechanisms to bar bad actors from securities offerings.
Notwithstanding all of these accomplishments, only a little over half of the law is actually in place. In fact, according to the monthly David Polk Dodd-Frank Progress Report:
As of July 18, 2014, a total of 280 Dodd-Frank rulemaking requirement deadlines have passed. Of these 280 passed deadlines, 127 (45.4%) have been missed and 153 (54.6%) have been met with finalized rules. In addition, 208 (52.3%) of the 398 total required rulemakings have been finalized, while 96 (24.1%) rulemaking requirements have not yet been proposed.
Many who were involved with the law’s passage or addressing the financial crisis bemoan the slow progress. The House Financial Services Committee wrote a 97-page report to call it a failure. So I have a few questions.
1) When Dodd-Frank turns five next year, how far behind will we still be, and will we have suffered another financial blip/setback/recession/crisis that supporters say could have been prevented by Dodd-Frank?
2) How will the results of the mid-term elections affect the funding of the agencies charged with implementing the law?
3) What will the SEC do to address the Dodd-Frank rules that have already been invalidated or rendered otherwise less effective after litigation from business groups such as §1502, Conflict Minerals Rule (see here for SEC response) or §1504, the Resource Extraction Rule (see here for court decision)?
4) Given the SEC's failure to appeal after the proxy access litigation and the success of the lawsuits mentioned above, will other Dodd-Frank mandates be vulnerable to legal challenge?
5) Will the whistleblower provision that provides 10-30% of any recovery over $1 million to qualified persons prevent the next Bernie Madoff scandal? I met with the SEC, members of Congress and testified about some of my concerns about that provision before entering academia, and I hope to be proved wrong.
Let's wait and see. I look forward to seeing how much Dodd-Frank has grown up this time next year.
As I explore the future of Berkshire Hathaway in my forthcoming book Berkshire Beyond Buffett: The Enduring Value of Values, one topic I address for Berkshire post Buffett is whether the company should remain public or be taken private.
After all, once Bufffett is gone, you might expect activist shareholders to urge liberalizing its dividend policy (hasn't paid a dividend in fifty years), divest weaker subsidiaries (it has never sold a subsidiary in forty years), and break-up the diverse conglomerate (engages in hundreds of different lines of business).
Venture entrepreneurs and seasoned executives alike often weigh the pros and cons of a U.S. company being privately held or publicly listed. That goes for start-ups trying to decide to make an initial public offering as it does for listed companies trying to decide whether to go private.
Everyone considers the transaction costs of such a switch high because IPOs and going private transactions are complicated, requiring paying accountants, appraisers, lawyers and other professionals. They are also time-consuming.
So setting aside transaction costs, let’s highlight the usual pros and cons, to do an IPO or stay public:
● access to capital
● liquidity for shareholders
● a currency (stock) to pay managers or make acquisitions
● cache from the sign of business maturity or stature
● the public arena invites the threat of hostile takeovers via proxy battles or tender offers
● rigid governance requirements, especially board size, independence and oversight
● Wall Street analyst attention that drives focus on short-term results, not long-term prosperity
● required disclosure, posing direct administrative costs and potential indirect costs as to competitive matters
● exposure to securities lawsuits by disgruntled stockholders
Although disclosure may be a “con” to a company, from a social perspective, watchdogs value the transparency, especially as to matters of stewardship and corporate social responsibility of larger institutions.
Assuming such a list is roughly complete, how should you evaluate the situation for Berkshire Hathaway? Stipulate that it had good reasons for public company status in its early days, the 1970s and 1980s, even the 1990s. Is it still worth it today?
As to the usual advantages of being a U.S. public company, most are inapplicable to Berkshire or less valuable compared to other public companies:
● Berkshire is a net supplier of capital, generating oceans of it from 60+ insurance and non-insurance operations and investments in marketable securities
● if Berkshire needed or desired external capital, its decentralized structure would pinpoint the particular subsidiary of interest which could directly offer public debt to supply it, as its Mid-American Energy subsidiary does
● Berkshire shareholders, as a group and by self-selection, are long-term holders, the company boasting below-average share turnover, reducing the value of liquidity for existing holders and remitting the typical market liquidity value to aspiring shareholders
● Berkshire never uses its stock to compensate anyone
● Berkshire rarely uses its stock in acquisitions, strongly preferring cash to the associated dilutive effects, and limiting use to a component of consideration paid in very large acquisitions where it is valued such as for tax advantages (the $44 billion acquisition of BNSF rail is a good example)
● Berkshire does not need any cache from a public market listing (though it may have valued slightly being added to the S&P 500 in 2010 to replace BNSF after acquiring it)
As for cons, the threat of a hostile takeover effort at Berkshire is remote, either so long as Buffett (or The Gates Foundation succeeding him) remain controlling shareholder(s) or a concentrated group of Buffett-Berkshire traditionalists command majority voting power. (Built-in deterrence includes Berkshire’s ownership of large regulated subsidiaries in the fields of energy, insurance and rail.)
But other cons are more acute in Berkshire’s case than at most companies:
● part of its historic success is due to a board in place for several decades, a small, close-knit group of insiders, family members and friends, a structure made illegal by the Sarbanes-Oxley Act of 2002 which imposed rigid governance requirements on public company boards
●one of Berkshire’s most valuable traits is its long-term horizon (50 years by mandate of corporate headquarters), accepting quarterly and annual earnings swings that competitors avoid at the expense of long term value
Finally, even the watchdogs don’t get the usual payoff in disclosure quality, because so much of what happens at any subsidiary (even if highly material to any given one) is simply immaterial in the Berkshire context.
Among pros of a public listing that are peculiar to Berkshire: hundreds of thousands of shareholders available to attend Berkshire’s famous annual meeting, which would be reduced to fewer than 300 after a going private transaction.
But if such are the only reasons for a magnificent company such as Berkshire to stay public—stock for the occasional deal and a flock of holders—one moral is the need to reexamine our faith in rigid governance requirements and our allergies to earnings volatility.
Wednesday, July 23, 2014
As someone who teaches and researches both business law and energy law, I often focus on the overlap of the two areas, which I find to be significant. One of my most recent projects has been to write a new casebook, Energy Law: A Context and Practice Casebook, which will be available for courses taught this fall. I wrote a detailed description of the book in a guest post at the Energy Law Professor blog, but here I wanted to highlight the business aspects of the book.
The second chapter of my book is titled The Business of Energy Law. That chapter begins with some key vocabulary, and I then provide students with a client issue to frame the reading for the chapter. The issue:
Your firm has just taken on a new client who is a large shareholder in many companies. She is particularly concerned about her holdings in Energex, Inc., a publicly traded energy company. Energex was founded in 1977 by a oil and gas man from Louisiana who is still the CEO and a member of the board of directors. The client is concerned that the CEO is taking opportunities for himself that she thinks belong to Energex. As you read the following sections, consider: (1) What are the potential conflicts of interest the CEO might have? (2) Is it a conflict of interest if the activity is permitted under the CEO’s employment contract? (3) What kind of documents might be publicly available for review and where would you find them? (4) If it goes to litigation, what other information might you seek? From whom?
The first part of the chapter covers Business Organizations and Employment Law as Energy Law, including derivative suit and executive compensation contracts. The chapter also has the following sections: Antitrust as Energy Law, Mergers and Acquisitions, and Entity Structure and Fiduciary Duties.
Over the years, as I have taught my Energy Law Survey course and Business Organizations (as I do again this fall), I found that I can help make sense of things for students in each class when I borrow examples from the other class. My book helps make the connection concrete, and I hope it will help students understand more of the "why "to go along with the "what." As I often tell (preach to?) students, understanding business organizations is critical to all aspects of practice, regadless of where you intend to focus, whether it's energy law, environmental law, criminal law, or even family law.
This fall should be fun. For me, at least.
Steven Davidoff Solomon, a professor of law at the University of California, Berkeley, has an interesting article on antitrust in the DealBook today: Changing Old Antitrust Thinking for a New Gilded Age. Professor Solomon argues that a new wave of mergers in the tech and telecommunications industries mirror the consolidation wave of the Gilded Age a century ago which lead to our current antitrust laws. These mergers leave competition in tact, albeit among a few huge companies, and therefore facially meet the competition requirements under antitrust law. He argues that "[t]his calculus, however, excludes the political and other power that a concentrated industry can wield with government and regulators." Citing to industry-based nonprofits and the ability to participate in political spending in a post-Citizens United world, professor Solomon concludes that antitrust may become a question of power, not just competition.
"[R]ight now there is simply no real government ability to review the industry consolidation that is occurring today in which industries become dominated by a handful of major players. Yet it is becoming increasingly apparent that size and industry concentration affect American society even if competition still exists."
I think that this is an interesting lens through which to view, and teach, current market trends in mergers and acquisitions and related questions of antitrust law.
Tuesday, July 22, 2014
Steve Bradford yesterday posted a thoughtful (as is usual for his posts) critique of law reviews. I had drafted a comment, but Steve suggested that I should post links to my prior posts separately, so here goes, along with (what has turned out to be a lot of) additional commentary.
I think Steve has some valid (and compelling) points. As I have written before, though, I can’t go as far as he does. I won’t rehash all that I have written before on this subject, but one of my earlier posts, Some Thoughts for Law Review Editors and Law Review Authors covers a lot of that ground. Please click below to read more:
The Wharton School at University of Pennsylvania has posted a legal studies and business ethics professor opening. As you may suspect, Wharton has an extremely strong legal studies faculty. More information from the announcement is quoted below.
The Wharton School at the University of Pennsylvania invites applications for tenured and tenure-track positions in its Department of Legal Studies and Business Ethics. The Department has eighteen full-time faculty who teach a wide variety of business-oriented courses in law and ethics in the undergraduate, MBA, and Ph.D. programs and whose research is regularly published in leading journals. The Wharton School has one of the largest and best-published business school faculties in the world. In addition, the school has a global reach and perspective, as well as an interdisciplinary approach to business issues (embracing ten academic departments and over twenty research centers).
Applicants must have either a Ph.D., J.D., or both, from an accredited institution (an expected completion date no later than July 1, 2016 is acceptable) and a demonstrated commitment to scholarship in business ethics, business law, or a combination of the two fields. Specific areas of potential focus for hiring include corporate governance, normative ethics related to business, social impact/sustainability, securities regulation, and health law/bioethics. The appointment is expected to begin July 1, 2015.
Please submit electronically your letter of introduction, c.v., and one selected article or writing sample in PDF format via the following website by November 1, 2014: APPLY. Some decisions for interviews will be made before the deadline, so candidates are encouraged to apply early.
The University of Pennsylvania is an equal opportunity employer. Minorities, women, individuals with disabilities, protected veterans are encouraged to apply.
Steve Bainbridge has an interesting response to yesterday's post on law reviews, linking to a number of other interesting posts he has written. Definitely worth reading. (He agrees with me, so he must be correct.)
A number of you commented on my post yesterday. I will get those posted sometime today. Sorry for the delay. My wife and I got back home this morning at 2:30 a.m. from a wonderful vacation trip to San Diego. (Yesterday's post was scheduled in advance; we have a firm no-work rule during vacations.)
You may think of Warren Buffett as a savvy stock picker but his greater accomplishment is in configuring an exceptionally strong corporation that defies widespread conceptions of effective corproate governance.
Since early in his career, Buffett adopted what he calls the double-barreled approach to capital allocation, meaning both stock picking and business buying. He gained prominence primarily as an investor in stocks, championing a contrarian investment philosophy.
Attracting three generations of devoted followers to a school of thought called “value investing,” he doubted the market’s efficiency and deftly exploited it. Buffett bought stocks of good companies at a fair price, assembling a concentrated portfolio of large stakes in a small number of firms. Today, nearly three-fourths of Berkshire’s stock portfolio consists of just seven stocks.
But late in his career, beginning around 2000, Buffett shot more often through the other half of his double-barreled approach: buying 100 percent of companies run by trusted managers given great autonomy. True, Berkshire early on bought all the stock of companies such as Buffalo News and See’s Candies. But, through the 1990s, the first barrel dominated, with Berkshire consisting 80 percent of stocks and 20 percent owned companies. That mix gradually reversed and recently flipped, making subsidiary ownership the defining characteristic of today’s Berkshire.
Owning primarily subsidiaries rather than merely stocks gives Berkshire a different shape compared to its previous character as the holding company of a famed investor. After all, even for a buy-and-hold investor, stocks come and go. Berkshire has sold the stocks of many once-fine companies, including Freddie Mac, McDonald’s, and The Walt Disney Company.
In contrast, aside from a few Berkshire subsidiaries that it acquired from the Buffett Partnership in the 1970s, Berkshire has never sold a subsidiary and vows to retain them through thick and thin. Despite their variety, moreover, Berkshire companies are remarkably similar when it comes to corporate culture, which is the central discovery I document and elaborate in my upcoming book, Berkshire Beyond Buffett: The Enduring Value of Values.
When Berkshire consisted mostly of the stock portfolio of a famed stock picker, you could expect that, once that investor departed, the portfolio would naturally be unwound and the company dissolved. Now, however, with Berkshire made of companies not stocks, its life expectancy stretches out in multiple decades, not mere years. It certainly goes beyond the stock picker who founded it. That's not an accident either, as the dominant cultural motif at Berkshire and its subsidiaries is a sense of permanence--the longest possible time horizon imaginable.
Monday, July 21, 2014
A couple of weeks ago, I posted a review of an article on mutual fund fee litigation. In my post, I apologized for reviewing the article “late.”
I thought about the use of the word “late” after I posted. The article has been available on SSRN, the Social Science Research Network, since March, but it has not yet been published in a law review. But, in the world of blogs and instant access to everything, waiting until publication in print truly is late.
Most legal articles are now posted on SSRN as soon as they are finished, and I, like many other law professors, don’t wait until publication to read articles in my areas of interest. I pull those articles straight off SSRN. SSRN helpfully provides subject-specific emails with abstracts and links to newly posted articles.
My first crowdfunding article had hundreds of downloads before it appeared in print. It came out in a law review at almost the same time the final crowdfunding bill passed Congress; if I had not posted it on SSRN, it would have had no chance to affect the debate. (I’m not sure it had much effect anyway. The drafters of the final bill may have heard some of the notes of my composition, but they certainly missed the melody.)
So, in a world where articles are publicly available and read long before they appear in law reviews, what exactly is the value of law reviews? Most of their content is stale by the time it’s published.
Law reviews as filters
Law reviews certainly don’t do much to filter “unworthy” publications. Law reviews have proliferated to the point that almost anything can be published in a law review somewhere.
Law reviews as signals of quality
The law review in which an article appears may signal the article’s quality; if so, that signal usually comes too late. By the time an article appears in print, I and many others have already decided whether to read it. And reading an article’s abstract and introduction usually provides a much better sense of its quality than the journal name attached to it. Faculty members and expert practitioners are much better judges of the quality of articles in our fields than a student editor without significant expertise in the area. I know this is heresy, but even Harvard and Yale sometimes publish crap.
Law review placement also shouldn’t be used as a quality signal in evaluating untenured faculty members. Tenured faculty members who cede judgments of quality to second and third year law students, even the law review editors at prestigious law schools, aren’t doing their job.
Law reviews as editors
Law reviews provide editing, but, in my experience, that editing is as likely to reduce the quality of an article as to improve it. I can think of several instances where student editing made my article marginally better—including one brilliant addition to a footnote in a humorous article I wrote. (Thank you, Northwestern Law Review editors.) But I can also think of several edits inserted at the last minute without my approval that made articles significantly worse. I can’t think of a single instance where student editing kept me from making a serious substantive mistake.
Law reviews and accessibility
Once articles are published in law reviews, they’re available on Westlaw and Lexis, and thus more broadly accessible. But there’s no reason why availability needs to be tied to law review publication. If law reviews didn’t exist, Westlaw and Lexis would find a way to tie into the SSRN system. Or the free, publicly available SSRN system might eventually supplant Westlaw and Lexis, at least for law review articles.
Law review as an educational experience
I have been focusing on the needs of authors and readers. But what about the student editors? Don’t law reviews provide them with a valuable educational experience?
I see little value in educating students in the fine minutiae of Bluebook citation form, and most actual editing is done by students with little or no professional instruction or supervision. Advanced courses in writing, editing, and legal research could provide better instruction more efficiently.
So I repeat—what’s the value of law reviews?
As I promised on Friday, I am posting a question and answer segment with Larry Cunningham, author of the forthcoming book: Berkshire Beyond Buffett: The Enduring Value of Values. Larry will be guest blogging with us this week to talk more about the interesting findings he shares in the book and their implications for business and the research, teaching, and practice of business law.
Q: Why did you write this book and what did you find?
A: Widespread praise for Warren Buffett has become paradoxical: Buffett set out to build a permanent institution at Berkshire Hathaway and yet even great admirers, such as Steven Davidoff, doubt that the company can survive without him. I found that viewpoint intriguing since companies who are identified with iconic founders often have trouble after a succession, as Tom Lin has written. I wanted to investigate how the situation will look for Berkshire after Buffett leaves the scene, collapse and breakup or prosperity coupled with continued expansion? What I found was a culture so distinctive and strong, that the company’s future is bright well beyond Buffett.
Q: How did you reach that conclusion? What was your research method?
A: I focused on Berkshire’s fifty operating subsidiaries, which define the company today, representing 80 percent of its value. Incidentally, that is a flip from decades passed, when 80 percent of Berkshire’s value resided in minority stock investments. I began with Buffett’s historical statements about those subsidiaries and Berkshire’s corporate culture, research that in some ways dates to the 1997 Cardozo Law Review symposium I hosted on Buffett’s shareholder letters, which developed into my book, The Essays of Warren Buffett: Lessons for Corporate America. Still, for this project, focusing on the subsidiaries, I gathered and studied specific information about each—biographies, autobiographies, research reports, encyclopedic entries, press releases, public filings. Then, with Buffett’s permission, I surveyed all current Berkshire subsidiary chief executives and interviewed many, along with former managers and large shareholders of subsidiaries. In addition, I surveyed a large number of Berkshire shareholders to gain additional insight and to make sure I was asking the right questions.
Q: What culture did you find, what common traits do the subsidiaries share?
A: That’s the striking discovery. As I profiled each subsidiary, a pattern emerged in which the same traits began to appear repeatedly, nine altogether, including budget-consciousness, earnestness, kinship, entrepreneurship, autonomy, and a sense of permanence. Not every subsidiary had all nine, but many did, and the vast majority manifested at least five or six of the nine. A portrait of Berkshire culture crystalized, one that is distinctive and durable. And that culture, I argue in the book, will allow the company to thrive even after Buffett’s departure.
The discovery is suggested by the book’s subtitle: The Enduring Value of Values. “Value of values” refers to how the traits that bind Berkshire’s subsidiaries all share a common feature: all are intangible virtues that managers transform into economic gain. The most general manifestation of the “value of values” occurs in business acquisitions when the exchange of economic values measured using traditional standards leaves a wide gap—a price higher or lower than economic value.
A salient example from Berkshire’s history concerns Bill Child, patriarch of his family home furnishings company, RC Willey. He sold the company to Berkshire for $175 million, declining rival offers as high as $200 million. Why? Because his family valued the managerial autonomy and sense of permanence that define Berkshire culture.
The book contains more than one hundred examples of myriad ways that Berkshire subsidiaries translate intangible qualities into economic value, whether in research & development, customer service, employee compensation and benefits, corporate finance, or internal policies and practices.
Q: What makes the value of values enduring?
A: By reaping returns on capital from intangible virtues, Berkshire practices a philosophy of capitalism that does well by doing good, is sensitive but unsentimental, lofty yet pragmatic, and public-spirited but profitable. This attitude is neither altruistic nor moralistic, but practical, economic, and long-term. It’s a way of doing business that matches today’s zeitgeist, with its sense of stewardship and fair play, and also has a timeless horizon, as business leaders from Robert Mondavi to John Mackey of Whole Foods champion variations on these themes.
Q: What is the audience for the book?
A: Everyone involved in shaping American business: managers, entrepreneurs, owners, shareholders, directors, policymakers, scholars of corporate stewardship—and business lawyers and business law professors, of course. It’s a broad audience because Berkshire’s approach is distinctive but not inimitable and valuable yet underappreciated.
Q: What surprises did you find?
A: Many, mostly concerning the various subsidiaries, but several rising to the level of Buffett and Berkshire. As a recent headline in USA Today put it, “New Book Rewrites Buffett Legacy in Three Ways.” The book explains why Buffett’s place in American history is even more significant than currently assumed. Besides being a “legendary investor,” as he is often identified by journalists, Buffett has built a formidable corporation, demonstrated unsung managerial prowess, and chartered a course for American capitalism that widens the meaning of “value investing.”
While everyone knows that Buffett owes a lot to Ben Graham, his investments teacher at Columbia Business School, this book also makes clear his debt on the management side to Tom Murphy, the legendary corporate icon and head of ABC who is now a Berkshire director. When I asked Buffett who should write the foreword to this book, he instantly suggested Tom, and I’m grateful that Tom accepted the invitation—his foreword alone is worth the price of the book!
Q: Care to give us a thumbnail sketch of the book’s outline?
A: Sure. The opening chapters cover Berkshire’s origins and foundations, with surprises even for those most familiar with this terrain, including rich connections between Berkshire’s early acquisitions and the conglomerate today. While Berkshire appears vast, diverse, and sprawling, this synthesis of corporate culture shows instead a close-knit organization linked by discrete values.
The middle chapters, the heart of the book, take a series of deep dives into fifty Berkshire subsidiaries to illuminate each of the traits and how they give Berkshire its identity and destiny. I was delighted that, when circulating the manuscript for comment among Berkshire devotees, even the most avid readers found new facts, fresh insights, and a whole new way of thinking not only about Berkshire but about Buffett.
The closing chapters reflect on what Berkshire’s corporate culture means for Buffett’s legacy. They explore the elaborate succession plan at Berkshire, which most people misunderstand, and identify challenges Berkshire will face. I also draw specific lessons for investors, managers, and entrepreneurs who can benefit from Berkshire’s distinctive approach—lessons that business lawyers and policymakers will want to learn as well.
Q: Can Berkshire Beyond Buffett be assigned for any university classes?
A: Yes, and I think it will be a good companion to The Essays of Warren Buffett, which has been adopted at many law and business schools for courses on corporate governance, investments (portfolio management), and mergers & acquisitions. This book would suit those courses as well as courses in business ethics and corporate social responsibility. I am planning a seminar next spring in which these two books will be on the reading list, along with other contemporary books offering fresh examinations of venerable themes, such as Eric Orts’ Business Persons; Lynn Stout’s Shareholder Value Myth; or Curtis Milhaupt & Katharine Pistor’s Law & Capitalism.
Q: Berkshire Beyond Buffett appears to be full of lessons and important principles. Which do you propose to explore for us during the coming week?
A: I’m looking forward to sharing insights on topics such as corporate governance, corporate purpose, and succession planning. Among the book’s many lessons, these will likely be of greatest interest to readers of the Business Law Prof Blog, and I thank you for the opportunity to introduce the book and these themes here this week.
Q: Thanks so much, Larry. Those certainly are all topics that interest me (and infuse my ongoing scholarship and teaching). I look forward to your posts this week.
A: You're welcome. I am grateful for the opportunity to share what I have learned.
Sunday, July 20, 2014
All of us here at the Business Law Prof Blog join all those inside and outside the legal blogging community who are today mourning the loss of Dan Markel. Our thoughts and prayers go out to all the loved ones he left behind.
From PrawfsBlawg (here):
We Have Lost Our Beloved Friend, Dan Markel
We write this together, all of us, as a community. Our friend Dan Markel has been taken from us, suddenly and terribly. His law school, the Florida State University College of Law, will issue an announcement in due time. We do not have all the details, but our understanding is that Dan was shot and killed. Painful as it is to say that, and as little as we know, the early news reports left enough room for speculation that it seemed necessary to say that much. The terrible, senseless nature of his loss makes it all the harder to bear.
All of us here on Prawfsblawg live in different places and come from different backgrounds. What we have in common, with many others, is Dan. His network of friends and loved ones--and he had a great deal of love for all his many friends, as we did and do for him--is enormous. His boundless energy was at the center of this community; it made it run, it gave it life. We are stunned and bereaved by his loss, and our thoughts go to his two little boys, who were precious to him, and to his family. Many, many people loved him and are grieving today. Baruch dayan emet.