Business Law Prof Blog

Chapman Symposium After Action Review

I just got back from the Chapman Law Review Symposium: From Wall Street to Main Street: The Future of Financial Regulation (videos of all the talks are in the process of being put up on the law school's home page).  A few quick comments: (1) I thought the event was exceptional from beginning to end and the entire Chapman School of Law should be proud--I doubt anyone left there with anything but the most positive impression; (2) California has sunshine, Cleveland has grey skies; California has warm breezes, Cleveland has snow ... no, I'm not bitter; and, (3) the overall view of Dodd-Frank was extremely negative.  At the very end of the last panel one of the students in the audience even asked something along the lines of: "Given all the negativity, would we be better off without Dodd-Frank?"  I think the response that was given was the correct one:  The negativity is not so much a function of there not being anything to praise in Dodd-Frank.  Rather, the negativity is a function of a seemingly pervasive sense (at least at this symposium) that Dodd-Frank represents more than anything a missed opportunity to deal with, among other things, the problems of the "Washington Consensus."

SJP

SEC Changes to Accredited Investor Miss the Point

As required by Dodd-Frank, the SEC today voted to proposed rules that would bring the definition of "accredited investor" into compliance with the Dodd-Frank Wall Street Reform and Consumer Protection Act.  As explained in the proposed rule (pdf here) Dodd-Frank section 413(a) required that the definitions of “accredited investor” in the SEC's rules "to exclude the value of a person’s primary residence for purposes of determining whether the person qualifies as an 'accredited investor' on the basis of having a net worth in excess of $1 million."  

The rule now provides:

Any natural person whose individual net worth, or joint net worth with that person’s spouse, at the time of purchase, exceeds $1,000,000, excluding the value of the primary residence of such natural person, calculated by subtracting from the estimated fair market value of the property the amount of debt secured by the property, up to the estimated fair market value of the property. 

Thus, in excluding the value of the primary residence, the calculation will net out any mortgage.  The SEC explains that under the old rules, an investor with a conventional calculation of net worth of $2 million with a $1.2 million primary residence (FMV) and a mortgage loan of $800,000, the investor’s net worth under the new accredited investor standard would be $1.6 million.  Before Section 413(a), the net worth would have been the $2 million.  The SEC thus reasons that, under the old rule, the "primary residence would have contributed a net amount of $400,000 to the investor’s net worth for purposes of the accredited investor net worth standard—the value of the primary residence ($1.2 million) less the mortgage loan ($800,000).  Under the proposed rule, exclusion of the value of the primary residence would reduce the investor’s net worth by the same amount of $400,000.   

Okay, but this has a potentially perverse effect. Here's my math:

Old Rule:

$1,600,000 Other Assets

$1,200,000 House

($800,000) home mortgage

$2,000,000 net worth

Proposed Rule:

$1,600,000 Other Assets

$1,200,000 House

($800,000) home mortgage

($400,000) value added by home

$1,600,000 net worth

This seems fine, but it also sends a message that I think conflicts with the intent of Section 413(a):  take on more debt to raise your net worth.  How?  

Under the proposed rule, the same investor can raise his or her net worth for accredited investor purposes by taking out a larger loan on the home.  

Proposed Rule, Bigger Loan:

$2,000,000 Other Assets ($1.6 million + the $400,000 cash from taking an additional mortgage)

$1,200,000 House

($1,200,000) home mortgage

$2,000,000 net worth

Okay, perhaps someone can't get a 100% loan today (certainly it's not as easy), but you can see the point. In my view, Dodd-Frank was intended to take the primary home out of the equation.  Under this rule, you do that to a point,  but if someone owns their home outright, they can take a loan on it, add that cash to their assets and raise their net worth. Perhaps better stated, the investor is encouraged to maintain debt for purposes of investment, even if it isn't quite this easy.  

For example, suppose someone has a $800K in non-primary-home assets, and a $1.2 million home with no mortgage.  This person has a conventional net worth of $2 million, but cannot meet the $1 million net worth calculation under the proposed rule.  If the same person takes out $400K in a mortgage, that money can be added to their non-home assets.  The new net worth is $1.2 million because the $800K goes to non-home assets and the SEC nets out the rest.  In fact, the SEC notes in the proposed rule that "The North American Securities Administrators Association (“NASAA”) has recommended that we not permit the exclusion of debt secured by a primary residence from the calculation of net worth if proceeds of the debt are used to invest in securities."  At a minimum, I think NASAA is right. 

The change in Dodd-Frank may be wrong but that's not the issue.  The SEC's proposed rule does not satisfy what I think was the point of the legislation. Thus, it may be the better rule, but it's not the right rule.  

--JPF

 

 

Best Business Movies?

The recent announcement of the Academy Award nominations has me thinking about movies—in particular, movies about business or business law.

Several lists of the best business movies are available online.  Business Pundit has one here. Forbes has one here.  And MSNBC has one here.

Some of the movies on these lists aren’t really what I would consider business movies.  For example, Clerks and It’s a Wonderful Life are both on the Business Pundit list.  I think Clerks is hilarious and It’s a Wonderful Life is one of my all-time favorite movies, but their focus isn’t really business, and certainly not the law of business.  All three lists also include at least one of the Godfather movies.  Again, great movies, but not what we usually think of as business--no business I ever represented, at least.

Business Pundit’s top move is The Godfather and Forbes’ top move is Citizen Kane. MSNBC just lists their top ten chronologically. 

My favorite, perhaps because I teach Securities Regulation and Mergers and Acquisitions, is Wall Street—the original 1987 movie, not last year’s lousy Money Never Sleeps sequel. [Great performances by Martin Sheen and Michael Douglas--and Oliver Stone somehow manages to keep his personal views out of the picture until the somewhat contrived bad-guy-gets-it-in-the-end conclusion. 

And, of course, who can forget Gordon Gekko’s immortal “Greed is Good” speech:  "The point is, ladies and gentleman, that greed, for lack of a better word, is good. Greed is right, greed works. Greed clarifies, cuts through, and captures the essence of the evolutionary spirit. Greed, in all of its forms; greed for life, for money, for love, knowledge has marked the upward surge of mankind. And greed, you mark my words, will not only save Teldar Paper, but that other malfunctioning corporation called the USA."

So what are your favorite business law movies and why?

-Steve Bradford

Financial Crisis Inquiry Commission Issues Report

Relevant links can be found on the FCIC's website.  Here is the conclusion:

[T]his crisis was avoidable—the result of human actions, inactions, and misjudgments. Warnings were ignored. “The greatest tragedy would be to accept the refrain that no one could have seen this coming and thus nothing could have been done. If we accept this notion, it will happen again.”

Prof. Bainbridge responds here.

SJP

700+ Million Reasons to Comply with the Clean Air Act

The U.S. Environmental Protection Agency today announced a settlement with Hovensa LLC to resolve public health concerns and Clean Air Act violations at Hovensa's St. Croix, U.S. Virgin Islands, petroleum refinery.  The settlement provides for a $5.375 million civil fine and an agreement to spend more than $700 million in "new pollution controls."  

Hovensa LLC is jointly owned by Hess Corporation and Petróleos de Venezuela, S.A..  As a publicly traded company, I can't help but wonder if Hess (ticker: HES) might want to exercise a little more oversight of its joint venture LLC. After all, before this settlement was announced, Hovensa, at least on paper, was already a loser.  According to Hess's most recent 10-Q, Hovensa LLC lost $83 million for the three months ended September 30, 2010, and $174 million for the nine months ended the same date.  

Then again, that may have all been by design.  Regardless, I suspect this EPA thing would not have been part of any such plan.

--JPF

 

Davidoff, Morrison, and Wilhelm on Investment Banking

Steven M. Davidoff, Alan D. Morrison, and William J. Wilhelm Jr. have posted Computerization and the Abacus: Reputation, Trust, and Fiduciary Duties in Investment Banking on SSRN with the following abstract:

On April 16, 2010 the Securities and Exchange Commission (SEC) filed a civil complaint against Goldman Sachs in the U.S. District Court for the Southern District of New York. The complaint alleged that Goldman violated the anti-fraud provisions of the federal securities laws, in connection with a 2007 synthetic collateralized debt obligation (CDO) transaction, ABACUS 2007-AC1 SPV (ABACUS). Goldman agreed a $500 million settlement with the SEC on July 15, 2010. We analyze the ABACUS transaction and the SEC's complaint against Goldman Sachs in the context of recent technological changes within the investment banking market. Investment banking was historically a relationship-based business, sustained by reputationally intermediated tacit contracts. Recent advances in information technology and financial economics have codified many formerly tacit elements of investment banking. As a result, some investment banking deals are now transacted at arm's length, and rely more upon formal contracts; we argue that, for this type of deal, there is a stronger case for legal rules regulating the investment bank-counterparty relationship. However, some deals continue to be arbitrated by tacit rules and norms and, for these deals, legal rules are less appropriate, because it is very hard for a third party to ascertain tacit understandings made in the context of a long-lived relationship. An attempt to introduce legal rules into reputationally intermediated relationships may even impair the counterparties' ability to arrive at informal arrangements, and so to trade. The supervision of deals like ABACUS should therefore reflect the extent to which they are transactional or relational; we argue that in neither case is there justification for the application of legal rules or the gap-filling standard of fiduciary duties.

-ECC

It is with heavy pen...

...that I write my last Post tonight.  I wish to thank my co-editors Josh, Stefan and Eric for a great, insightful year.  My various teaching and writing responsibilities simply don't afford the time necessary for me to continue as an editor with the Blog, as much fun as it has been.

And what a year we've seen.  The attempt by Congress to fix the regulatory mosaic via Dodd-Frank.  Yet another SEC crusade against insider trading (this one with wiretaps!).  Countries being "downgraded" by credit rating agencies; a state sued for faulty disclosure.  "Investments" stretching to include dubious foreign baseball academies and more traditional wagers on life insurance proceeds.  The Wall Street Journal opining that the recession is over, with various economic indexes screaming that it's not.

Looking back on 2010, I hope in future days I recall it most as the great awakening on financial health.  People are scouring their mortgage statements for details, economists are juxtaposing remedies from different eras, and students are beginning to suspect that a number of supervisory failures can be tied to SEC clout and funding.         

We've learned to survive with minimal interest on our savings accounts, and without stock dividends.  We've patiently watched the stock market slowly creep back, and we've idealistically hoped for a steady rise in employment.  Overall, we've remained admirably calm for a nation with so many home mortgages still set to default.  

But we've also seen alarming numbers of people on the left and right delegate their judgment to TV personalities.  And that's why complacency remains our number one enemy.

So I sign off by saying do not go quietly into the news tonight.  Continue to debate the efficacy of government regulations, the accuracy of employment statistics, the value of net capital limitations, the reason why the big things don't seem to change.  Write posts and comments and blogs and sound off wherever possible to keep rational, civil debate alive.  For far more daunting than adjustable rate mortgages and CDOs is the specter that those who actually read the fine print will become indifferent.  As a reminder, we've got Basel III, mandatory arbitration, executive compensation, proprietary trading and extra-territorial application of fraud prohibitions all teed up for consideration.  With a President now tuned to global competitiveness, it may be more important than ever that academia explore novel, worldwide initiatives to prevent man from his own entrepreneurial carelessness or internecine greed.  There may be no simple solution to any of the suddenly pressing legal-economic problems confronting us, but let the future say that at least our decisions were adequately informed and robustly discussed.

In three words, "Blog On America," and I think we'll be alright.

---JSC, 1/25/11     

David Skeel on the Dodd-Frank Act

I just finished reading David Skeel’s new book on the Dodd-Frank Act, The New Financial Deal: Understanding the Dodd-Frank Act and Its (Unintended) Consequences.  Skeel’s book is a very good introduction to the major provisions of the Dodd-Frank Act, including its regulation of major financial institutions and the new requirements relating to derivative clearinghouses and exchange trading of derivatives.  He has less to say about the corporate governance aspects of Dodd-Frank, but those provisions are, after all, a very minor part of the Act.  The discussion is straightforward and not laden with legal jargon, so this book is not only great for lawyers, but also for intelligent lay people wanting to know more about the Dodd-Frank edifice.

Skeel argues that Dodd-Frank, with its partnership between large financial institutions and government regulators, is a massive exercise in corporatism.  U.S. government corporatism didn’t begin in 2008, of course.  The recent government bailouts and government control of business corporations like GM continues a long-term trend that includes massive subsidies to ethanol and even the longstanding mortgage interest deduction. 

Recently, both liberals and conservatives have been criticizing corporatist polices.  This is an issue on which Tea Party conservatives and liberal populists could naturally coalesce, but I doubt it’s going to happen.  It’s hard to make common ground when you’re questioning each other’s character.

Skeel also argues that the discretion Dodd-Frank gives government regulators to intervene in business on an essentially ad hoc basis seriously undermines the rule of law.  Skeel and other worried about this issue cannot be comforted by developments in recent days at the Financial Stability Oversight Council.   Under the Council’s proposed rules, intervention depends on a determination that “the nature, scope, size, scale, concentration, interconnectedness, or mix of activities of the firm, could pose a threat to the financial stability of the United States.”  In other words, we’ll know it when we see it.  The Wall Street Journal recently ran an opinion piece on the ad hoc nature of federal intervention.  [This may be behind the WSJ's firewall, so a subscription may be required.]

Whether or not you agree with Skeel’s argument, the book is worth reading, and it’s only about 200 pages—less than a tenth of the size of the Act itself.

Steve Bradford

Midwest Corporate Law Scholars Conference -- June 15 at OSU

The Midwest Corporate Law Scholars Conference (MCLSC) meeting will be Wednesday, June 15th, at The Ohio State University Michael E. Moritz College of Law in Columbus, Ohio. This is the second annual meeting of the MCLSC, and we are opening up the meeting to all corporate law scholars.  Presentations will start in the morning and end late afternoon. There will be an on-campus lunch and breakfast, as well as an informal off-campus dinner Wednesday night following the end of the conference. We welcome all on-topic paper submissions and will attempt to provide the opportunity for all submitted papers to be presented.  Junior scholars are particularly encouraged to submit papers, and we will attempt to assign a commentator for each junior paper presented. 

To submit a presentation, email Profess Eric C. Chaffee at eric.chaffee@notes.udayton.edu with an abstract or paper by March 15, 2011. Please title the email “MCLSC Submission – {Name}”. If you would like to attend, but not present a paper email Professor Chaffee with an email entitled “MCLSC Attendance”.  Please specify in your email whether you are willing to serve as a commentator. A conference schedule will be circulated in May.

Conference Organizers

Barbara Black

Eric C. Chaffee

Steven M. Davidoff

-ECC

FCPA Cases Still Going Strong

The SEC today released another complaint alleging violations of the Foreign Corrupt Practices Act (FCPA), this time alleging that a former CEO of Innospec participated in a bribery scheme seeking to get and maintain business by paying Iraqi government officials. (pdf here) 

It seems like there have been a lot of FCPA cases this year, which apparently continues a trend noted at the Harvard Law School Forum on Corporate Governance and Financial Regulation last May ("Although enforcement of the Foreign Corrupt Practices Act ('FCPA') has been trending upward for several years, the first quarter of 2010 saw unprecedented developments in the enforcement of the statute.") 

Today's release follows recent SEC filings of FCPA charges against Alcatel-Lucent, S.A., and Pride International, Inc., and six other oil services companies.   

--JPF 

 

The SEC Broker/Investment Adviser Fiduciary Duty Study

Over the weekend, the SEC released its Study on Investment Advisers and Broker-Dealers. This is one of many studies required by the Dodd-Frank Act, in this case by section 913 of the Act.

The Staff recommends that the SEC adopt a uniform fiduciary standard for brokers, dealers, and investment advisers.  Under that standard, “all brokers, dealers, and investment advisers, when providing personalized investment advice about securities to retail customers (and such other customers as the Commission may by rule provide), shall . . . act in the best interest of the customer without regard to the financial or other interest of the broker, dealer, or investment adviser providing the advice.”  That fiduciary duty, the staff suggests, should be “no less stringent” than the fiduciary duty advisers currently owe under Section 206 of the Advisers Act.

The study raises a number of issues.  An obvious one is when, exactly is a broker, dealer, or investment adviser “providing personalized investment advice.”  The Study indicates that rulemaking or interpretive guidance will be needed to answer this question.  But the SEC won’t be writing on a blank slate.  Under the Supreme Court’s decision in Lowe v. SEC, 472 U.S. 181 (1985), personalized investment advice is a component of the definition of “investment adviser" under the Investment Advisers Act.

Another issue is how precisely a dealer, which is by definition buying or selling for itself, can act without regard to the dealer’s financial interest.  When selling, for example, must the dealer sell at its cost?  Or would disclosure of the dealer’s interest suffice?  (The Study has a lot to say about disclosure of conflicts of interest.)

Commissioners Kathleen Casey and Troy Paredes, the two Republican appointees on the Commission, released a statement that essentially disclaims the Study:  “ . . . we oppose the Study's release to Congress as drafted. We do not believe the Study fulfills the statutory mandate of Section 913 of the Dodd-Frank Act to evaluate the ‘effectiveness of existing legal or regulatory standards of care’ applicable to broker-dealers and investment advisers.”  They also point out, as the Study’s own title page makes clear, that studies such as this one express the views “of the Staff of the Commission and not necessarily those of the Commission as a whole or of individual Commissioners.”

It will be interesting to see how long it takes the SEC to come out with proposed rules, which, I assume, is the inevitable result of this Study.  We can probably count on at least two votes against any uniform fiduciary duty rule.  Stay tuned.  In the meantime, the Study is well worth reading.

Steve Bradford

An Introduction

I want to thank Professors Chaffee, Colesanti, Fershee, and Padfield for giving me the opportunity to guest blog here on the Business Law Prof Blog.  I follow the blog regularly and enjoy reading their posts.  In my time here, I will do my best to maintain the standard they have set.

A bit about myself: I’m a professor at the University of Nebraska College of Law, where I teach Business Associations, Securities Regulation, Accounting for Lawyers, Mergers and Acquisitions, and a course with the long-winded title, Securities Brokers, Mutual Funds, and Investment Advisers.  (If you can think of a pithier title, let me know.)  My scholarship focuses on securities law issues, but I’m also interested in the uses of technology in legal education.  Along that line, I have authored 14 computer-assisted legal instruction (CALI) lessons and have developed a digital statutory supplement for securities courses (or for anyone else who wants to use it), DIGITAL SECURITIES LAW: STATUTES AND REGULATIONS.  I also have a strong interest in legal humor, although I will try not to inflict that on anyone reading this blog.

If, for some odd reason, you want to know more, try here.

Enough about me.  On to the blogging.

-Steve Bradford

Welcome Guest Blogger Steve Bradford

We are pleased to welcome Prof. C. Steven Bradford, Earl Dunlap Distinguished Professor of Law at the University of Nebraska College of Law, to the BLPB for a month of guest blogging.  I'll leave the more detailed introductory bio to Steve, but I think it's fair to say that anyone who subtitles their webpage "The Best Securities Law Professor in Lincoln, Nebraska" is likely to have a few interesting things to say.  I'm really looking forward to reading his posts, and thank Steve for accepting our invitation.

SJP