Business Law Prof Blog

Sotomayor on Business Cases

Business law academics, pouring over, Judge Sotomayor's cases business law, authored as a district court judge and as the writing judge for a Second Circuit panel of three judge, can find no discern able "leanings" or "theories" that would either favor or disfavor those who run businesses in the United States. 

I have commented that I was surprised on her high rate of reversal by the Supreme Court, most of which are in business related cases.  She has lost 3 of 5 appeals from the circuit court and lost her only appeal on a business related decision of a district court opinion.  Most agree that she will lose the Ricci case as well, which is pending, putting her at 5 of 7 reversals in cases taken by the Supreme Court.  This is high for an individual judge (even though the supreme court does reverse in 70 percent of all cases), parparticularly for a circuit judge not in the Ninth Circuit (which suffers, by far, the highest reversal rate) and particularly for a circuit judge in the Second Circuit (which does not not get reversed as much as other circuits).  Moreover, one of  her opinions that the Supreme Court affirmed was done so on alternative grounds with a backhand comment on her reasoning -- I would put it in the reversed category (that makes it 6 of 7).  Only one of the reversals was close (a 5-4 decision) and one was unanimous (8-0), a particularly tough reversal (the number of 8-0 reversals from the Court that are not from the Ninth Circuit is small, indeed). 

In any event, the reversal rate will not affect her confirmation, which will go smoothly.  More of interest is her new role on the court in business cases. Her is my take: The Supreme Court, after the retirement of Justice Powell and until the appointment of Justice Roberts, was woefully short on business expertise. The number of business cases accepted declined significantly and those who wrote the cases that were accepted did so with a remarkable lack of enthusiasm and, more critically, with a fundamental misunderstanding the effect of many of the opinions on market incentives and market planning produced by the opinions themselves.  This tin ear to the effect of an opinion on future business practice and structure was due to training, or the lackof it, in business culture and market structures.  When judges lack market based training and experience and lawyers argue that opinions will affect markets in negative ways, most judge turn literal and conservative and stay close to the rules (let agencies or legislatures establish the market based incentives). A few judges do not care for arguments that imply necessarily that a judge has limited economic expertise and, to help the little guy (or some other guy), just let it rip and damn the consequences (it looks good at the retirement dinner).   Does Judge Sotomayor show market training or market sensitivity (for history or economics) in her many decisions? No [Not a surprise: During her education she focused on federalism and civil rights questions (often relating to Puerto Rico); her pratice was as a governement criminal lawyer and, later, as an intellectual property enforcer; her talks and classes given as a judge are not related to business matters]. Will she be literal or let it rip?  So far, she has be literal in business cases (although sometime literally wrong), but put a Justice's robe on someone and things can change.

Sotomayor on Business Cases

I was reviewing Judge Sotomayor's record on business cases and the same word kept coming up, reversed.   There is little to be said of a consistent record learning one way or the other on the business cases except the high frequency of reversals by the Supreme Court whenever one of her cases goes up on appeal.  There is one case she wrote that I do not like at all and that is her opinion several years back giving the NYSE immunity from investor actions questioning the manipulative activities of NYSE floor brokers and specialists.  The NYSE has change enough to moot the opinion, but at the time it I found it poorly reasoned and of questionable policy to boot. 

The New SEC Rule on Shareholder Voting: Make it Discretionary

The new SEC rule on shareholder voting may be good policy for individual firms, but is it a good mandatory rule for all publicly traded firms.  No.  The better rule is one that asks all publicly traded firms to vote periodically on their shareholder voting procedure; do the shareholders want the SEC rule or not.

The Bond Rating of the United States

The rating companies have announced officially the first step of a bond rating downgrade for the United Kingdom.  Are we far behind?  There are rumors that the United States is next due to this years ridiculous budget deficit and increased national debt as a result.  This is a shock; CEOs get fired for this.

Indiana Steps Up

The zany deal in the Chrysler bankruptcy finally has a serious opponent that willl be hard to for Obama to publicly belittle -- the three Indiana state pension funds (led by the state Treasurer Richard Mourdock).  They are carrying the water for the rest of the country.  In a statement that fortells the state's view of its prospects, however, Mourdock also announced publicly what many other will do privately -- a refusal to invest any funds in the debt of any bailout company or any company that may be bailed out.  As noted here many weeks ago -- the government will be the only financer now for many trouble companies -- just the opposite of what a healthy recovery needs.  Now is it up to the bankruptcy trustee -- I hope he steps up too. 

SEC Proposal on Board Nominations

The SEC is proposing a new rule on board nominations for large publicly-traded companies.  Shareholders, or groups of shareholders that control over 1% (3% for mid-sized companies and 5% for small) of the company's voting shares can nominate directors to corporate boards in the company's proxy materials.  The proposal, similar to the Schumer bill, was the inevitable result of a confluence of three events:  a rescission,  Democratic control of Congress and the Presidency, and the failure of Delaware courts to set up to the plate in Disney and other cases of fidiciary abuse.  The feds are going to reshape corporate governance in the United States.

Buchheit and Skeel on Bankruptcy in the NYTs

Burchheit and Skeet have proposed a "modified" bankruptcy proceeding for large financial institutions in today's NYTs.  The government will "guarantee" all trading obligations for 60 to 90 days to enable companies to "prepare" for a Chapter 11.  It is loony, of course.  First, the government's decisions (or decisions as it considers whether to "role" the guarantee") are discretionary, political (talk to the ethanol supporters), and volatile.  The uncertainty will incentivize delay by the private section until the government declares (and changes its mind and re declares and so on).  Second, how does such a "guarantee" work?  If I were the company I would default on everything (counter parties cannot claim default but the company itself could declare that it could not pay, take government money, as much as I could, and then work out a deal.  Without government controls, the companies would game the government -- which means we must put government officials on boards and such -- conservator ship.  Conservator ships are a much better mechanism that this proposal, even though they have many, many flaws as well (see the Fannie and Freddie).  Another set of aacademics with a government based solution that is inferior to the processes we already have in place.

Section 363 and other "quick" sales in bankruptcy

One of the clear lessons in the Lehman Bros bankruptcy is that quick sales are often bad sales.  In th Lehman Bros bankruptcy, the bankruptcy trustee, the government, and some panicked investors pushed Leman to sell it broker dealer unit to Barclays within days of the filing.  The result? Barclays stole the business.  Now the government is pushing for a quick sale of Chrysler to Fiat within days of the initial filing of a Chapter 11 proceeding.  Fiat will steal what it can.  The primary benefit of Chapter 11, if there is one at all, is a status quo freezing of the company's business for an orderly restructuring, one that goes through a series of "plan" and votes on "plans" by impaired creditors.  Once Chapter 11 is declared only, as noted in the Lionel case, "emergency" from "perishable assets" should force quick sales.

Sarbanes Oxley and the Constitution

The Supreme Court will take a case on the constitutionality of the 2002 Sarbanes Oxley Act.  The case features the auditor oversight mechanism put into the act, the PCAOB or Public Company Accounting Oversight Baord  The President does not pick the board members (the SEC does).  It is a technical point, since the President picks the SEC members and could fire them it they do not put PCAOB people in play the President wants.  The harm in the Act is in other sections, section 404 for example, among others, that were hastily passed, very costly and failed to do anything with the real problems in the market -- the ratings of subprime securities by ratings agencies, for example. 

More Negative Data for the Interpersonal Educational Crowd

See Brooks in todays NYT's discussing that, in essence, a focus on "interpersonal skills" is negatively correlated to success for CEOs.  Another blow to the "well rounded person" educational theorists.

Hedge Fund Haters: Read Joe Nocera Today in the NYTs

Joe Nocera, in today's NYT business section, interviews a hedge fund manager, Neil Barsky, who is hanging it up.  What a wonderful column. All critics of hedge funds should read this.  The interview makes several points:  hedge funds were not the cause of the current financial mess, hedge funds were and are a healty part of the financial system; hedge fund managers are -- well -- human and compassionate.  The column does show two common missteps, however, the canards that hedge fund managers made too much money and that hedge funds "drain" our best minds away from more socially useful pursuits.  The interview itself contradicts both propositions -- first, hedge fund managers were paid on real success not on phony measures of success (beating a market or industry index) and second- hedge fund managers, like Barsky, can change careers once they succeed (and do "good works").  In other words, the argument is for career focus -- when a manager focus on profits, when done, focus on social causes -- do not, do not mix the two in either capacity.  Most hedge funds managers are not managers for life (Icahn, excluded).  They make some money and change professional goals -- it is all good -- both parts, the making money and the change.  You cannot have one without the other perhaps. Great piece, Joe, one of your best. Makes me want to subsidize the NYTs.

You Gotta Love Business Schools: Irrelevance is Always a Problem

Business schools, in their MBA programs, have a mandatory course, and often two, in writing a "Business Plan."  In a business plan a group with an ideal and no money attempt to convince those with money and no ideas that the two of them should partner. Business schools talk about such plans incessantly -- They have business plan competitions (in house and nationally), that have clinics in which students write business plans for clients.  The trouble is, no one asked the venture capital funds if business plansare valuable. Now someone has. In a study of 1,000 requests for funds, Godlfarb and Gera, of the Robert H. Simith School of Business, found that the plans are -- well -- worthless. "Nobody reads them."  Business school business plan teachers have not given up -- now the argument is that the plans are good for those drafting them ("self-critical thinking" of some such garbage) although not those are targeted by them.  By the way, business plans are never written alone in business schools, they are written by teams, who take "teamwork" and "leadership" courses.  Students are taught how to work together and how to lead by "facilitating others" to work together.  Little mention of quality of the decision or ethics in such training. We have now discovered (?) that teamwork is often "niceness" and "civility" training and groups being nice can make entire organizations very stupid.  We have taught organizational stupidity.  Look at our banks' boards of directors (not to mention the boards of auto companies, insurance companies, real estate companies, etc. -- organization stupidity, all in conformity with teamwork and leadership training.  Making a decision in a team effectively is less important than whether a decision is a good one -- a little disagreement, openly and candidly expressed is healthy.  We need to teach students how to develop a thicker skin rather than to pander to those who have thin skins.  Teachers to often teach students what they want students to do (be nice so the world will be a better place) not what students need to do (make good tough decisions in a rough environment).

I am reminded of the students fifteen years or so ago that caused business school self searching -- students often did better in business by skipping an MBA program after an undergraduate degree.  That's when business schools starting teaching "teamwork."  Right problem; wrong solution.  A new student suggest that fewer graduates from a top ttwenty MBAprogarm than from a "state school" end up as CEOs.  This stuff hurts.  Then there is the recent attack on business school finance professors -- the guys who make the big money and are the stars (they are often among the ranks of the highest paid in any university faculty)-- for teaching formulaic equations and mathematical formulas that -- well -- do not work.  You gotta love business schools.

So you want to be a business person?  Take a course on how to read financials, take a course on tax, take a course of valuation theories of future income streams, all from a professor who pushes you hard and tests you individually, take courses on the classics (not taught by crits, that is another problem) and play intermural sports.

Fiat's Sweet Deal

The details of the Fiat deal are leaking out in the Chrysler bankruptcy.  Such a deal. Fiat gets 20% of Chrysler for a promise, no cash, to give technology.  Fiat then gets another 5% if Chrysler builds a Fiat motor.  No word on whetherer it has to be in a Chrysler or on what a Fiat motor is (is a head assembly enough). Easy enough.  Fiat then gets another 5% if Chrysler builds a green car, a 40 mph car, with Fiat technology.  No word on whether the car is any good or whether it must sell.  Easy enough. Fiat already has the technology in diesel cars, cars that will not sell in the United States.  Build a few a year, get another 5%.  Finally Fiat gets another 5% and and option for 16%, if Chrysler sells $1.5 million cars abroad.  Simple enough, rebadge a Fiat a Chrysler, finish building it (with just adding a door do?) in the United States and ship it to established markets abroad.  Just like that, Fiat gets 51% of Chrysler without paying Chrysler shareholders or bondholders a dime.  Moreover, the "partnership" of Fiat and Chrysler is governed by a board of three Fiat nominees and three Chrysler nominees from the beginning -- Fiat has 50% control of Chrysler from the get go even with only 20% of the stock.  This deal is ridiculous and shows that the United States government, desperate to give unsecured creditors, union workers pension claims, priority over secured creditors, banks, would agree to about any partnership. It will not work, of course.  Fiat wants to sell Fiats build in Italy in the United States, using Chrylser dealers. It will fudge and interpret the agreement to do so.  Moreover, Chrylser's big problem has been quality control and Fiat's big problem in selling cars in the past in the United States is -- quality control.  Finally, Italy has labor unions too and they will fight the United States unions for production wages.  In the end, Fiat will split, keep some dealership, and the "partnership" will close some plants and sell a few, in a forced sale, to GM, another entity asking for government cash.

A Fundamental Change in Governing Philosophy

Many of the changes in government stem from one very fundamental philosophic change.  The leaders of the federal government, from the President on down, believe that the market's power to self-correct is weak (or illusory) and that government is the "only" (to quote Obama's first press conference) answer.  This explains the bailouts, Schumer's bill on corporate governance, the new Assistant Attorney General's speech on antitrust enforcement, and the list goes on.  The change is mistated.  It ought to be that "the markets ability to self-correct is inferior generally to the government's ability to correct and/or self-correct".  Stated in this way, the philosphy falls in on itself. The new administration is going to inflict some long run damage on our economic system.  

The Schumer Corporate Governance Bill: Effect on Delaware Courts?

Senator Schumer will introduce next week and new bill, The Shareholder Rights Act of 2009, that will federalize the corporate structure of our publicly traded companies.  It is a slap to Delaware -- both the courts and legislature.  I do not know if the bill will pass; it might.  This debate has a long, long pedigree.  Even if the bill does not pass, it will undoubtabily affect the future of Delaware jurisprudence and SEC rule making.  Delaware will lose its privileged position as the home of corporate governance law in the United States.  Delaware will have to find a new niche.  It has already begun to developed it.  Delaware courtsare establishing a case law on the strict interpretation of contract language and encourage parties to elect Delaware as the forum of choice for interpretation and litigation of large scale business contracts.  Why is Schumer doing this?  He carries the water for the NYSE in New York and his bill will reduce the power of the exchange to set listing requirements that give it an edge in the market for company listings.  Is he acknowledging that the NYSE listing requirements are a burden not a benefit and that the NYSE will not change them??      

Hartmax Bankruptcy: A Right to Not Lose a Job?

The New York Times, on page one of the the Business Section today, has a story on the Hartmax bankruptcy.  Workers, in league with politicians are attempting to use public pressure on the companies major lender, Wells Fargo bank, to keep the company factory in Illinois open.  There are worker meetings and demonstrations attacking Wells Fargo and politicians are talking tough with the press ("I will be there [Wells Fargo] worst nightmare.").  What has Wells Fargo done??  The business makes high end mens' suits in the United States.  The trademarks are valuable but the revenue of the business is way off given economic conditions.  The obvious choice is to sell the trademarks to another company that can manufacture the suits less expensively -- probably with foreign labor.  The company has lost 30 million dollars the last two years and has defaulted on a 115 million dollar debt to Wells Fargo.  Wells Fargo 1) "reduced" its outstanding credit line 2) forcing bankruptcy and 3) is shopping the company.  What do workers and politicians want?? 1) A more robust credit line or 2), if necessary, a sale to a company that will guarantee to keep the losing facility open.   How do you demand 1) with a straight face, asking a bank to put more money in a losing company?  The answer: Wells Fargo has government bailout money and should pass some of that largess on to Hartmax.  This is the cancer of government bailout decisions.  How do you demand a sale to a company that will keep the company open, if Wells Fargo will lose money relative to a decision to liquidate the company and sell the brands?.   Same answer, Wells Fargo should pass on some of the government bailout money it has received.  Workers and politicians are demanding that a private bank invest in a losing venture on their behalf because their jobs are at stake.  The expectation that the bank should respond to this pressure reflects a basic misunderstanding of the core mechanisms of our economy.  Do we now have new enforceable right, the right not to lose a job due to economic conditions? 

Auto Bailout Woes

The government's role in the auto bailouts has been a total mess.  Consider Chrysler first:   First creditors and union reps refused to budge in the negotiations until thegovernment declared, whichh drove the negotiations into Chapter 11.  The creditors and union reps were banking on the governments political stake in the outcome, not its economic stake.   The administration was on record with a series of pro-worker statements; it could not let the auto makers "fail."  Second, when the government got tough it did so by threatening to bring nasty public pressure on the creditors.  Creditors that were already on the government dole with TARP money caved immediately; hedge funds held out a bit longer - took incredible public heat - and eventually caved as well.  The hedge funds, by the way, are the players the government needs to get into it public/private partnership program and its TALF program for either to succeed.  So the government ended up ripping players it needs to play in the future for the success of its programs.  Third, the winners were the unions (who are ending up with control of the companies in trust funds) and Fiat.   Fiat has quality control problems, Chrysler's bid problem, has failed twice in the United States, is losing money itself, and really only wants Chrysler dealers to sell new Fiat cars.  Fourth, the bailout of Chrysler has hurt Ford who must still pay 100 percent of its debts because it is trying to make a go of it without government money and outside of Chapter 11.  The bailout has hurt the one company that should be rewarded.  What a terrible mess. 

Stress is Over On Stress Tests

For months the markets have suffered the uncertainty of the results of the government stress tests.  Information has been leaked, by the government and by the banks themselves, about the tests and the potential results.  We all saw the results delayed in announcement, reflecting the likelihood of tense behind the scene negotiations. The uncertainty of the final report created a market overhang of uncertainty.  The uncertainty is over -- the markets can now price the results.  Looking back there is much to comment on:  First, and foremost, In theory our government disclosure regulatory pphilosophy should have made the tests redundant and unnecessary --  the existence of the tests themselves is a critique of current disclosure standards  or vice versa.  Second, the test is milk toast easy given current economic conditions.  Third, and most important perhaps, the cure -- turning preferred stock into common-- is no cure.  The cure does not raise a dime; preferred is equity -- some of it much like common (with voting rights and conversion rights anyway) -- and it stands behind all the debt.  The only disadvantage of preferred is contractual -- failure to pay dividends can trigger some default on debt covenants -- and contracts can be renegotiated.  Fourth, the conversion of preferred to equity will give the government ownership control of several of the banks -- a sort of defacto nationalization.  It looks like the government backed into the positions but it may have been the goal all along. 

No-one Will Now Lend to Auto Companies

Obama's villification of auto company lenders, the two hedge funds that held out for better terms, pretty much seals the deal -- the government is going to be the only auto company lender.  Why lend to auto companies when the President can fix the terms of repayment and call you out if you disagree?  Not anyone with money and common sense.

Souter Announces Retirement

Justice Souter's primary business decisions was Virginia Bankshares, a rambling mess of an opinion on Rule 10b-5 and mergers written early in his tenure.  Justice Scalia felt the need to summarize the holding of opinion in the opening three sentences of a concurring opinion because Souter's rendition was so confusing..  Souter will be defended by his clerks, whose major creditential is his selection of them to be clerks, and few others.  He will not be missed,  Republicans will view his retirement as his final act of disloyalty -- he could have retired last year and given Bush a pick. Democratics will view his retirement as time to finally get another "real liberal" on the court.  He was selected after a few months on an appellate court because he had no track record and was known to a few connected New Hampshire conservatives, few of whom now exist and who thought he was one of them -- he was not.  He came to be grouped with the "liberal wing" of the Court. [Some say is was a personality clash with Scalia.] He lives an isolated, monk-like life. He was a poor writer and a muddled thinker who was "work[person]like" in his court habits.  One of another of many, many non-notables on the Court, which itself is a virture of sorts.