Saturday, July 15, 2017
Could this be the beginning of the end for the event study in Section 10(b) class certification?
Yes, I’m probably overstating, but still, the Second Circuit’s opinion in In re Petrobras Securities, 2017 WL 2883874 (2d Cir. July 7, 2017), definitely takes a step in that direction.
As a recap, a private plaintiff alleging fraud claims under Section 10(b) of the Exchange Act must demonstrate that he or she “relied” on the defendant’s false statements. In Basic Inc. v. Levinson, 485 U. S. 224 (1988), the Supreme Court held that reliance could be demonstrated via the fraud on the market doctrine – namely, the presumption that in an open and developed market, any material, public misstatement is likely to have impacted the market price of the security. The fraud on the market doctrine is what allows Section 10(b) claims to be brought as class actions, since it eliminates the need for plaintiffs to demonstrate reliance on an individual basis. Since Basic, then, battle has been joined between plaintiffs and defendants regarding what counts as an “open and developed” market for class certification purposes.
In recent years, it has become de rigueur for plaintiffs to use an event study to establish the necessary market conditions. An event study is a statistical analysis comparing the change in a security’s price with an event, such as the release of new company-specific information.
The event study methodology, however, has come under heavy academic criticism, the thrust of which is that while it is a useful tool for studying markets generally, its utility is greatly diminished when deployed to examine a single company. See, e.g., Alon Brav & J.B. Heaton, Event Studies in Securities Litigation: Low Power, Confounding Effects, and Bias, 93 Wash. U. L. Rev. 583 (2015).
In Halliburton Co. v. Erica P. John Fund, Inc., 134 S. Ct. 2398 (2014), the Supreme Court held that the Basic presumption represents merely a “modest premise” that public information affects prices. Commenters (including your humble blogger) interpreted Halliburton to mean that courts should loosen their criteria for identifying an “open and developed” market for Basic purposes.
Judge Scheindlin was one of the first judges to take up Halliburton’s invitation. Acknowledging the criticism of event studies, she held that plaintiffs need not submit an event study to prove the existence of an open and developed market, so long as they submit other types of evidence.
In Petrobras, the Second Circuit appeared to follow her lead. Though the Second Circuit stopped just shy of holding class certification does not require an event study – the court claimed that the issue was not squarely presented – it did acknowledge the academic critiques of event studies, and (quoting its earlier caselaw) “explicitly declined to adopt any particular test for the market efficiency of stocks or bonds.” As the court put it, “Event studies offer the seductive promise of hard numbers and dispassionate truth, but methodological constraints limit their utility in the context of single-firm analyses.” The court also noted that the various factors that go into a finding of an open and developed market – analyst coverage, trading volume, and so forth – would be of little use if in fact event studies were required in all instances.
Petrobras could have an enormous impact on securities litigation. If event studies are not required, it may be easier for plaintiffs to win certification in cases involving securities other than exchange listed stocks – such as the notes at issue in Petrobras, as well as preferred stock, over the counter stocks, and so forth. Beyond that, event studies have been critical to proving damages and loss causation; if they are suddenly deemed unreliable, it may open the door to a much wider variety of evidence on these elements, as well.
Saturday, July 8, 2017
As most readers of this blog are likely aware, Hobby Lobby is in the news again.
Hobby Lobby is a privately-held corporation that runs a chain of arts and crafts stores. Its shareholders consist of members of the Green family, who also manage the corporation on a day to day basis. The Greens are religious Christians, and Hobby Lobby’s statement of purpose declares that the company will be run in accordance with biblical principles.
When Hobby Lobby last made the news, it had just won its case in the Supreme Court, Burwell v. Hobby Lobby Stores. The Greens argued, successfully, that the Affordable Care Act impermissibly burdened their religious beliefs by requiring that Hobby Lobby provide birth control coverage to its employees. The difficulty with this argument, from a corporate law perspective, is that it draws no distinction between burdens placed on Greens in their personal capacities, and burdens placed on the Hobby Lobby corporation itself. (The Supreme Court opinion did little to clarify the matter, which is why I use it in my class as part of my introduction to business law).
Now the company making headlines again, for smuggling ancient artifacts out of Iraq.
[More under the jump]
Saturday, July 1, 2017
On Monday, the Supreme Court decided Public Employees’ Retirement System v. ANZ Securities Inc. The case resolved a critical issue of class action administration that was left hanging after the Supreme Court dismissed an earlier-granted petition in a similar case (see my earlier posts on the subject).
In American Pipe & Construction Co. v. Utah, 414 U. S. 538 (1974), the Supreme Court held that the filing of a class action tolls the statute of limitations for all members of the putative class. That way, if individual members wish to opt out and pursue their claims individually, or if the class is not certified and they are forced to file their own complaints, they are free to do so without fear of a limitations period that may have expired years earlier. The rule has long been thought of as a practical necessity for the administration of class actions. After all, class actions change over time – claims are dropped, class definitions are narrowed, class counsel may pursue remedies and settlements that don’t satisfy all class members. If individual class members were not assured that they could file their own claims if any of these events occurred, they might be forced to file prophylactic complaints in advance, thus burdening the court with unnecessary filings.
Following American Pipe, a number of questions arose regarding its precise contours (when does the tolling period expire (Taylor v. UPS, Inc., 554 F.3d 510 (5th Cir. 2008); Smith v. Pennington, 352 F.3d 884, 893 (4th Cir. 2003)); which claims are tolled (Cullen v. Margiotta, 811 F.2d 698 (2d Cir. 1987)); whether subsequent class actions, as well as subsequent individual actions, are tolled (Yang v. Odom, 392 F.3d 97 (3d Cir. 2004))), but the basic contours remained reasonably certain.
Until recently. In a pair of cases, the Supreme Court drew sharp distinctions between statutes of limitations, which are intended to force a plaintiff to act promptly once his claim accrues, and statutes of repose, which are intended to assure the defendant of “peace” once a certain time has passed since the original harmful conduct. See CTS Corp. v. Waldburger, 134 S. Ct. 2175 (2014); Lampf, Pleva, Lipkind, Prupis & Petigrow v. Gilbertson, 501 U.S. 350 (1991). This raised the question: was it possible that American Pipe applied only to limitations periods, and not repose periods?
Enter ANZ. In the wake of Lehman’s bankruptcy, certain purchasers of Lehman bonds filed a class action lawsuit against the underwriters under Section 11 of the Securities Act. Section 11 contains a limitations period – providing that an “action” may be “brought within one year after the discovery of the untrue statement or the omission, or after such discovery should have been made by the exercise of reasonable diligence” – and a repose period, prohibiting any “such action” if “brought … more than three years” after the offering. 15 U.S.C. §77m. In the case of ANZ, after the filing, the action lay dormant for years. One class member, CalPERS – frustrated by the delay – filed its own action, which was eventually consolidated into the main action. When a settlement was proposed, CalPERS chose to opt out to pursue its claims individually, but its complaint was dismissed on the grounds that the CalPERS complaint had been filed after the expiration of the repose period.
The Supreme Court agreed. Writing for a 5-4 Court, Justice Kennedy concluded that courts have no power to toll repose periods; therefore, even after the class action complaint was filed, the repose period continued to run. Three years after the offering, then, no individuals could file their own complaints, regardless of their concerns about the conduct of the class action.
Although the logic of the opinion would seem to apply to all statutes of repose, Justice Kennedy clearly tried to keep his options open. He emphasized that some repose periods might be drafted in a manner that suggests courts have greater equitable power; presumably, then, there’s room to make an argument that American Pipe tolling could apply to some repose periods under particular statutes – though, most have assumed, not ones related to securities claims (i.e., not the 5-year repose period applicable to claims under Section 10(b)).
Writing in dissent, Justice Ginsburg argued that by filing the class action complaint, the original plaintiffs commenced the action for all members of the asserted class, and that the statute of repose was therefore satisfied for all of them, regardless of whether they chose to litigate individually.
(For more description of the case, see this post at The D&O Diary.)
There are a couple of things about this decision that leap out at me.
Most obviously, this is a wildly impractical opinion that undermines the utility of American Pipe. Three years is nothing in securities litigation time; assume there’s some delay before a complaint gets filed, then there’s maybe 3 months or more before the lead plaintiff is selected, then possibly 60 days before an amended complaint is filed, another 60 days before the motion to dismiss is filed – you’re looking at potentially more than a year before the case even makes it past the motion to dismiss. Class members simply will not have enough information before the 3-year repose period expires to make an intelligent decision about whether to opt out (either because they’re unsatisfied with the lead counsel’s performance, or because they’re unsatisfied with a settlement, or because class certification is denied). That means their only option is a “protective” filing, opting out in advance, just to preserve their rights. Justice Kennedy pooh-poohed the possibility, pointing out that investors have not filed protective complaints en masse so far, but that’s because the state of the law was uncertain and holdings refusing to toll were relatively new. Courts can now expect to be flooded with protective filings by absent institutional class members who feel they must opt out in order to fulfill their fiduciary duties to their funds. See, e.g., David Freeman Engstrom & Jonah B. Gelbach, American Pipe Tolling, Statutes of Repose, and Protective Filings: An Empirical Study, 69 Stan. L. Rev. Online 92 (2017).
Moreover, any investors who fail to opt out are now trapped if they are unhappy with the conduct of litigation. They could object, presumably, but there’s a really wide space between what an individual member might believe is in their own interest, and lead counsel performance that’s so deficient as to warrant replacement. A critical mechanism for disciplining class counsel - often accused of selling out classes for easy attorneys fees - will be lost.
By the way, when a case is settled and notice is sent to class members, must it warn them that opting out is no longer an option due to expiration of the repose period?
I also wonder what this ruling will do to the Rule 23 inquiry itself. In determining whether a class should be certified, courts must evaluate whether a class action is “superior” to individual actions. If the repose period has expired, does that mean the class action is always superior, regardless of what other defects there are in class cohesion?
Additionally, what happens if the court wants to create subclasses with new representatives, or if the current class representative is inadequate and a new one must be substituted? Often, these administrative matters are accomplished by motions to intervene – but American Pipe itself suggests that intervention by an absent class member counts as a new complaint, permissible after the expiration of the limitations period only with tolling. What about lead plaintiff selection under the PSLRA - can that happen after the repose period expires? (These are basically questions I raised when the Court first granted cert, by the way).
But aside from this parade of horribles, here’s what leaps out at me on a gut level:
The rule adopted by the majority has really nothing to recommend it practically; indeed, the defendants’ brief offers virtually no policy reasons to support their argument. The plaintiffs, of course, argued that there was simply no injustice here: all of the purposes of a statute of repose are fulfilled when the class action complaint is filed. At that time, the defendants know of the claims against them, and the identities of the plaintiffs; it hardly matters, for repose purposes, that particular class members might later choose to litigate individually.
The Court disagreed. It held that even though defendants may formally be placed on notice of the class claims, there is a practical difference between litigating a class action, and litigating individual actions as follow-ons; that difference, said the Court, increases the defendants’ burdens and potentially their liability.
Which is indisputably true. But recall the cases involving class-action waivers in the context of arbitration agreements. Frequently, plaintiffs argue that such waivers make it impossible, as a practical matter, for them to bring their substantive claims, and therefore the waivers act as a de facto – and prohibited – waiver of certain federal rights. See, e.g., Am. Express Co. v. Italian Colors Rest., 133 S. Ct. 2304 (2013); Gilmer v. Interstate/Johnson Lane Corp., 500 U.S. 20 (1991). Yet in that context, the Court has been obtrusively unsympathetic; the class action device, the Court has held, is merely a procedural mechanism for aggregating claims, and there is no dicially-cognizable difference between claims brought individually and claims brought as a class.
Obviously, these are different situations, but it seems to me that the Court is somewhat inconsistent about when it will recognize the practical realities of how the class action form affects the underlying claim, and when it will not. And the Court is far more sympathetic to practical complaints that originate from the defense side than from the plaintiffs’ side.
Saturday, June 24, 2017
The second season premiere of Queen Sugar, a television adaptation of Natalie Baszile’s novel, aired earlier this week, and if you’re the kind of person who likes to catch pop cultural depictions of business issues, this is a nice sleeper to add to your viewing list. It airs on Oprah Winfrey’s OWN network, and was created by Selma director Ava DuVernay. (Interestingly, in a departure from most Hollywood productions, every episode is directed by a woman.)
Queen Sugar is about three black siblings who inherit their father’s ailing sugarcane farm in Louisiana (I admit, there’s a bit of provincialism to my fondness for this show – it takes place just outside of New Orleans), and struggle to turn it into a viable business.
Nova, an investigative journalist specializing in the racial disparities of the Louisiana criminal justice system, has difficulty reconciling her political commitments and her romantic life. Ralph Angel, the little brother, was recently released from prison, and his efforts to raise his young son are hobbled by lingering legal limitations and what he perceives as his ongoing infantilization at the hands of his older sisters and his aunt.
Charley, the show’s main focus, is a business woman, and only a half-sibling, who has spent most of her time among the wealthy and powerful (white) Los Angeles elite. (In a telling detail, Charley is noticeably lighter-skinned than her brother and sister). Charley’s career until now has been devoted to managing her husband, a successful basketball star. When the marriage ends – due to a sexual assault scandal – Charley is forced to confront the reality that as a black woman, unmoored from her famous husband, her business savvy and experience carries far less weight. Charley’s arrogance can be counterproductive, but her anger and frustration at her diminished social status (not unlike the frustration Ralph Angel experiences) are channeled into ambition for the farm.
Thus, Queen Sugar is a family drama that revolves around the difficulties of running a small business, intersected with issues of race, class, and gender. As the siblings navigate their interfamily tensions, they must simultaneously contend with various setbacks, including their own farming inexperience, their dwindling financial resources, and an ongoing feud with the wealthy white Landry family, which controls the local sugar mill and uses its monopoly power to squeeze black farmers.
Queen Sugar’s story unfolds at a leisurely, measured pace that might not be for everyone, and the performances can veer into the stagey. Nonetheless, it tells a compelling David-and-Goliath story of small business owners versus the larger industry, featuring realistically flawed characters who are devoted to each other as family and united in purpose, but who can’t fully put their differences aside.
Wednesday, June 21, 2017
Yesterday, during a conversation with a law student about whether corporate social responsibility is a mere marketing ploy to fool consumers, the student described her conflict with using Uber. She didn’t like what she had read in the news about Uber’s workplace culture issues, sex harassment allegations, legal battles with its drivers, and leadership vacuum. The student, who is studying for the bar, probably didn’t even know that the company had even more PR nightmares just over the past ten days--- the termination of twenty employees after a harassment investigation; the departure of a number of executives including the CEO’s right hand man; the CEO’s “indefinite” leave of absence to “mourn his mother” following a scathing investigative report by former Attorney General Eric Holder; and the resignation of a board member who made a sexist remark during a board meeting (ironically) about sexism at Uber. She clearly hadn’t read Ann Lipton’s excellent post on Uber on June 17th.
Around 1:00 am EST, the company announced that the CEO had resigned after five of the largest investors in the $70 billion company issued a memo entitled “Moving Uber Forward.” The memo was not available as of the time of this writing. According to the New York Times:
The investors included one of Uber’s biggest shareholders, the venture capital firm Benchmark, which has one of its partners, Bill Gurley, on Uber’s board. The investors made their demand for Mr. Kalanick to step down in a letter delivered to the chief executive while he was in Chicago, said the people with knowledge of the situation.
… the investors wrote to Mr. Kalanick that he must immediately leave and that the company needed a change in leadership. Mr. Kalanick, 40, consulted with at least one Uber board member, and after long discussions with some of the investors, he agreed to step down. He will remain on Uber’s board of directors.
This has shades of the American Apparel controversy with ousted CEO Dov Charney that I have blogged about in the past. Charney also perpetuated a "bro culture" that seemed unseemly for a CEO, but isn't all that uncommon among young founders. The main difference here is that the investors, not the Board, made the decision to fire the CEO. As Ann noted in her post this weekend, there is a lot to unpack here. I’m not teaching Business Associations in the Fall, but I hope that many of you will find a way to use this as a case study on corporate governance, particularly Kalanick’s continuation as a board member. That could be awkward, to put it mildly. I plan to discuss it in my Corporate Compliance and Social Responsibility course later today. As I have told the students and written in the past, I am skeptical of consumers and their ability to change corporate culture. Sometimes, as in the case of Uber, it comes down to the investors holding the power of the purse.
Saturday, June 17, 2017
More Uber miscellany this week:
Last week, I posted about Uber and publicness – namely, that Uber is a private company that nonetheless is conducting itself as though it has public obligations. Of course, right after I posted things got exponentially more interesting: Uber’s board met in a marathon session to discuss the results of an internal investigation of its corporate culture, resulting in the dismissal of the CEO’s right-hand man and the CEO/founder/powerful shareholder taking an indefinite leave of absence, Uber publicly announced the recommendations generated as a result of the internal investigation, and an Uber director resigned after making a sexist comment at the employee meeting intended to address workplace sexism.
There’s an awful lot to unpack here: Uber, the legendarily valuable startup, is now operating without a CEO, CFO, or COO (Twitter joke: “I guess this is the closest it’s ever been to a self-driving car company”); the recommendations, which are telling in what they don’t tell (alcohol and controlled substances should not be consumed during business hours, yikes!); the fact that all of this was sparked by a blog post by an ex-employee detailing her sexual harassment and – amazingly enough – she was believed (one Forbes writer even recommended her for a Pulitzer); sexism that cannot be contained for the length of one employee meeting; the fact that Uber apparently is hemorrhaging talent and can’t hire more –
But mostly, just to reiterate the point I made last week, to me the truly extraordinary thing is that all of this is happening at a private company - and one that still provides an exceptionally popular service. Nonetheless, Uber felt obligated to publicize the results of an internal investigation regarding its corporate culture, and regularly updates the news media on its governance structure. Ordinarily, the whole point of staying private, roughly speaking, is to avoid this level of public scrutiny. Yet as companies stay private longer – and attract more and more capital, often from “public” investors (large mutual funds, pension funds, etc) – apparently, they are feeling the obligations of publicness. Or Uber is; we’ll see how much of a precedent it sets.
The other issue I wanted to discuss concerns this article in the New York Times, describing Uber’s, umm, unusual employee buyback plan. Uber has begun offering to buy back certain employee shares, because – in the absence of an IPO – employees have no other way to cash out. As I understand it from the article, for some employees, Uber requires that if the employees sell any portion of his/her shares back to the company, the employee must also agree to sign over the voting rights of all of his/her remaining shares to Travis Kalanick (the CEO/founder) personally.
Now, with all appropriate disclaimers about how I haven’t read the employee agreements, and I’m relying solely on one news article that lacks specifics, I say – huh?
Uber is using corporate resources to allocate additional votes to the founder personally? Which – presumably – he can then use to vote to advance his personal interests? After all, outside of specific fiduciary duties for controllers, shareholders are free to cast their votes for their own idiosyncratic reasons; for example, Kalanick could vote against a merger proposal merely because he wanted to keep control, even if the proposal would be in the best interests of Uber shareholders generally.
It's not like I expect to see any fiduciary duty lawsuits - for one thing, the amounts involved may be minimal, and I assume Uber has somewhat close relationships with its stockholders - but it's fairly textbook that corporate resources cannot be used to buy more power for the personal use of the controllers. The fact that this was (apparently) permitted seems to be another data point suggesting that Uber has deep governance issues it needs to address.
Saturday, June 10, 2017
Matt Levine at Bloomberg continually expresses his view that private markets are the new public markets. What he means by that is, given the availability of private capital (due to SEC rules and concentrations of private pools of capital in a relatively small number of hands), companies that need capital to expand can access the private markets; they only go for the public markets when private investors are ready to cash out.
Well, as the Case of Uber makes clear, “publicness” can exist in private markets, too.
“Publicness,” a concept first developed by Hillary Sale, refers to the general social obligations a corporation is perceived to have toward the public in terms of transparency and regularity of operations. Companies that conduct themselves poorly may find themselves pressured to reform by consumers, investors, and regulators, in part because they are viewed as having public obligations almost akin to those of governments. Prof. Sale explores, for example, the case of JP Morgan Chase and the London Whale scandal.
Uber is a private company, but as its various recent troubles demonstrate (and demonstrate and demonstrate and...),it is increasingly viewed through the lens of publicness – and is responding as though it recognizes, and hopes to meet, those obligations.
In other words, the public views Uber as having certain duties in terms of ethics and propriety of operations, and Uber is attempting to fulfill those duties. Uber is a private company that nonetheless has the responsibilities associated with publicness.
In that regard, it is interesting to compare to Mylan, a public company that seems to feel no pressure of “publicness.” As a recent NYT article makes clear, Mylan has apparently adopted a business model of performing contrition in the face of public approbation, but failing to take any concrete steps to reform its operations. It will respond to legal obligations (somewhat), but not moral ones. It’s also picking a very public fight with ISS (and thus, potentially, investors) over ISS’s refusal to allow Mylan to review a draft copy of its recommendations to shareholders, which I assume is a conscious effort to buttress proposed GOP regulation of proxy advisors. (Side note: How much does the GOP want to advertise that Mylan, in particular, agrees with its proposed regulation)?
In other words, Uber – a private company – at least seems to recognize that it has public obligations, while Mylan – a public company – does not. What accounts for the difference? Is it that Mylan faces less competition due to the value of its intellectual property? Uber feels more vulnerable to shareholder demands due to operational losses that require raising new capital?
This is ultimately a question of corporate theory, and as private becomes the new public (and as the federal government retreats from a regulatory role), it will become increasingly important.
Saturday, June 3, 2017
And the Lord God took the shareholder, and put him into the garden of Eden to dress it and to keep it.
I watched with interest the battle at Exxon over a shareholder proposal requesting that the company provide more detailed disclosures about the risks posed by the Paris climate accord. Last year, the same proposal won 38.1% of the vote; this year, prior to the vote at Exxon, shareholders at Occidental Petroleum approved a similar proposal. Moreover, Blackrock and State Street have recently declared that they want to see more corporate disclosures about the impact of climate change.
As a result, things at Exxon were unusually heated. Reportedly, Exxon was lobbying shareholders in advance of the vote. The matter presumably was particularly sensitive because Exxon is being investigated by the NY and Mass AGs regarding the accuracy of its climate change disclosures to investors.
As this was going on, of course, it became increasingly clear that Trump was planning to withdraw the United States from the Paris accord. Now, it’s not obvious what immediate impact that withdrawal has on companies like Exxon – after all, most other countries remain committed, and Exxon does business internationally. Still, it raised the question: Would shareholders decide the matter was less important, now that the US had essentially declared a more hands-off approach to climate change? Or would shareholders view the matter as potentially more important, to fill the void left by regulators?
And we got an answer, sort of: 62.3% of shareholder votes bucked Exxon management and favored the proposal, a dramatic increase from last year. We don’t know, of course, what influence Trump had on that vote, but it does suggest shareholders did not view the issue purely in (United States) regulatory terms; instead, they view climate change as a real risk to Exxon regardless of the (US) regulatory impact, and also believe their role includes monitoring that risk.
The Trump administration has made clear that it intends to take a more hands-off approach to regulation in a variety of areas; it will be interesting to see how shareholders view their role going forward (and okay, yeah, this is something I discuss in my paper, Reviving Reliance. /plug).
Of course, another wrinkle concerns the Republican proposal to severely restrict shareholders’ ability to place proposals on the corporate proxy, reportedly scheduled for a House vote on June 8 (though its prospects in the Senate are uncertain). Shareholders can’t pressure management if they can’t communicate with them. And large shareholders like Blackrock can of course continue to have private negotiations with management, but I rather suspect that, at least to some extent, these asset managers respond to their own shareholder and customer demands for socially responsible governance. (Witness State Street’s brilliant marketing stunt. As money pours into index funds, State Street has very visibly distinguished itself from the pack.) Point is, without shareholder proposals, there is no public record of funds' positions on these issues, and that lever of pressure is eliminated.
Saturday, May 27, 2017
And now, there’s the fake news thing:
As a video circulated that appeared to partially absolve President Donald Trump in the administration’s Russian meddling scandal on trading floors on Thursday, stocks surged for the first time in days on the apparent breaking news.
The video, it turns out, was actually two weeks old, misleadingly edited with the intention of falsely accusing former FBI director James Comey of perjury—and was initially aired by conspiracy website InfoWars on Thursday around noon.
Trump wasn’t cleared. In fact, since the video had been around since May 3rd, nothing had changed at all. But by the time traders found out, the dollar index had spiked anyway.
The fallout of the story is leaving analysts wondering how to absorb information in a market that is suddenly waiting on bated breath for the latest rumors to come out of the White House—even when those rumors are intentionally misleading or untrue.
In other words, the news can be fake, but the rally it creates in the stock market is very real.
[Adam] Button, [the chief currency analyst at ForexLive] said that InfoWars isn’t a site that “anyone on Wall Street usually really believes,” but people may change their reading habits after Thursday’s surge.
“People were asking me today, ‘Is Infowars a site I have to start reading now?’ And I said, ‘The answer is yes,’’ said Button.
“You’re not trading on what’s true and what’s false. You’re trading on what the average voter believes is true. It’s a propaganda war.”
The markets chose a particularly inauspicious day to use InfoWars source material to determine what’s happening. Less than 24 hours before the rally, InfoWars host and founder Alex Jones was forced to apologize to and retract articles about Chobani as part of a settlement. …
It’s the second time in two months Jones was forced to apologize and pull down content for claims made on InfoWars. In March, Jones read out a written apology on his show to James Alefantis, whom InfoWars had falsely suggested was running a child sex ring tied to Hillary Clinton’s campaign out of the basement of a pizza shop. Content that had included those allegations were pulled down.
“The idea of trading on propaganda—it’s a strange feeling,” said Button. “Politics is a distraction for the most part, but it’s not anymore. This is taking over.”
Still, would Button recommend reading InfoWars just in case it’s a predictor of how the market might react to bombshell political news—even if it isn’t true?
“I want to say, ‘Yeah, read it now,’” he said. “But the rest of me says, ‘Don’t read that garbage.’”
We have seriously entered Keynesian beauty contest territory; traders don’t care what’s real anymore - all that matters is what other people think is real, at least for a brief period of time.
Saturday, May 13, 2017
Joshua Fershee started a conversation about incompetent male leaders, so in keeping with that theme, here are a couple of other interesting data points.
First, a new study shows that male loan officers are more willing to lend money to other men – especially men they bond with. (Bloomberg story here; paper here). That doesn’t work out so well for the banks; these loans are more likely to default. Women loan officers do not suffer from the same bias.
The critical point, for me, is that these biases exist even though they are unprofitable (in short term thinking, anyway; they may be very profitable for men as a group, long term). It’s an obvious point but it bears repeating: prejudice resists evidence. The market cannot cure problems that prejudice bars it from perceiving.
As for why women do not, in these studies, suffer from the same bias (or do not suffer to the same degree), it's not that women are especially rational as compared to men; it's simply that, to quote the immortal philosopher, Douglas Adams:
It is difficult to be sat on all day, every day, by some other creature, without forming an opinion about them. On the other hand, it is perfectly possible to sit all day, every day, on top of another creature and not have the slightest thought about them whatsoever.
Saturday, May 6, 2017
If you’re like me, you’ve been absolutely riveted by the disaster that was Fyrefest. For anyone who somehow missed the news, the basic recap is that a destination music festival – sold as a luxury getaway in the Bahamas featuring sandy beaches, rock stars, five-star accommodations, and gourmet meals turned out to be, well –
Instead of luxury villas, guests found soggy tents, port-o-potties, and a bank of lockers (without locks). They had to hunt for their luggage in a large shipping container – with flashlights. And so forth.
There have been a number of news articles attempting to deconstruct how things went so horribly wrong, but the focus of my particular interest is – incompetence or fraud? There are already two class action lawsuits pending, so we’ll have more information soon enough, but reports so far indicate a rather stunning willful-blindness on the part of the promoter – 25-year-old Billy McFarland – coupled with the somewhat-contradictory fact that he’s still around, apologizing to disappointed ticketbuyers, and generally not, you know, running off to a country with no U.S. extradition treaty.
[More under the jump]
Saturday, April 29, 2017
The internet is a wonderful thing; this week, it has brought us two powerful new tools related to business law.
First, the Center for Political Accountability has aggregated the political spending disclosures of public companies in a handy, searchable website. Granted, it's a limited tool: it only includes companies in the S&P 500 (or that were in the S&P 500 as of 2015) - and unfortunately the descriptions on the site are less than clear on this point. To that extent, then, it is useful as a sample of corporate behavior, but not as useful for specific shareholder or consumer action. In that vein, I view it as something of a pilot project, demonstrating the theoretical power of the internet to harness these kinds of disclosures. There are already apps that make it easier for consumers to express their political preferences – Boycott Trump and Buycott.com, for example. This new site is another weapon – or potentially one – in the arsenal.
Marcia has expressed doubt that these kinds of campaigns work, and certainly there’s the countermobilization problem – a campaign on one side the political aisle may motivate those on the other side – but my own view is more in the behavioral vein: if you make it easier to do, it’s more likely people will do it. So, yes, there are a lot of reasons why consumers or shareholders might not vote via their dollars, but at each point where you make it easier for them to express political preferences with their spending/investing decisions, the number who do so will increase, and at some point you may see a consistent impact.
Second, we have the white collar crime heat map, which presents a zip-by-zip breakdown of areas where white collar crime proliferates. I was horrified to discover the extent of my daily jeopardy in the years in which I worked in midtown Manhattan; I feel much safer now that I live in New Orleans.
More seriously, the site is not a new joke, but it remains a relevant one: namely, as a comment on what we as a society accept as racial/class/cultural markers of criminality, even as white collar crime remains – numerically speaking – a far greater problem than street crime.
For more analysis of this problem, I leave you with Jessica Williams of The Daily Show:
Saturday, April 22, 2017
I’m sure we’ve all been riveted by the colorful activist campaign led by Elliott Management Corp challenging the board of directors at Arconic Inc. In some tellings, it’s a classic battle over whether companies should focus on immediate returns to shareholders (and whether activist pressure encourages short-term thinking), or whether companies should invest in innovation and research in hopes of a longer-term payoff.
This week, Elliott’s challenge netted it a scalp in the form of the forced resignation of the CEO, Klaus Kleinfeld, for sending a personal letter to the head of Elliott Management that vaguely threatened to reveal some apparently scandalous behavior undertaken during the 2006 World Cup. While denying that any such behavior occurred, Elliot Management demanded Kleinfeld’s ouster, and the Arconic Board complied.
But the battle rages on. Earlier this month, Arconic announced that if investors voted to seat Elliott’s board nominees, it could trigger the change-of-control provisions in Arconic’s deferred compensation and retirement plans, thus forcing Arconic to make a $500 million pay out.
Which just prompted this Section 14 lawsuit by an Arconic investor, accusing Arconic of manufacturing “fake news” because there is, in fact, no risk of a change of control. At which point, I mourn the missed opportunity for a “wolf” reference.
(The plaintiff's argument, by the way, is that a set of directors appointed earlier at Elliott’s urging do not count as part of a new controlling group, and therefore Elliott’s latest nominees constitute only a minority of the board. The case is City of Atlanta Firefighters’ Pension Fund v. Arconic et al., No. 1:17-cv-02840 (S.D.N.Y.).)
Joking aside, courts have recently looked askance at dead hand proxy puts, even if they do have shareholder value-enhancing effects in the context of loan agreements and bond offerings. The Arconic situation is a bit more unusual, however, because the obligations are to company employees rather than lenders, and I don’t know whether the same economic effects exist in that context. The fact that the trust at issue was established for “a select group of management and/or highly compensated employees and former employees” raises the specter – in future cases if not this one – of a new twist on the old golden-parachute-as-takeover-defense. I am curious to see what courts make of it.
Tuesday, April 18, 2017
Please join me in celebrating the one-year blogiversary of the Surly Subgroup! The Surly Subgroup is a tax blog with several contributing tax professors, including my colleague, Shu-Yi Oei (soon to be ex-colleague, sadly, as she will soon be leaving Tulane for Boston College). If you're interested in tax issues with 'tude, you should check it out!
Saturday, April 15, 2017
So I was looking over Snap’s S-1, and I discovered this:
Our amended and restated certificate of incorporation provides that the Court of Chancery of the State of Delaware is the exclusive forum for:
- any derivative action or proceeding brought on our behalf;
- any action asserting a breach of fiduciary duty;
- any action asserting a claim against us arising under the Delaware General Corporation Law, our amended and restated certificate of incorporation, or our amended and restated bylaws; and
- any action asserting a claim against us that is governed by the internal-affairs doctrine.
Our amended and restated certificate of incorporation further provides that the federal district courts of the United States of America will be the exclusive forum for resolving any complaint asserting a cause of action arising under the Securities Act.
The first provisions are a fairly unremarkable (these days) set of forum selection clauses, but in that last point, Snap has gone a step further by attempting to control the forum of federal claims in addition to state claims. In so doing, Snap is obliquely referring to the ongoing dispute about whether SLUSA requires that Section 11 class actions be litigated in federal court, or whether, instead, class actions under Section 11 may be maintained in state court. The Supreme Court is considering whether to rule on this issue, but Snap has apparently decided to belt-and-suspender it.
I don’t know if this is a common provision in IPO documents these days, but I do hope that if the enforceability of the provision is ever litigated, courts will not blindly assume that such provisions are “contractual” and therefore as binding as any other forum selection provision in an ordinary contract between transacting parties.
I’ve written quite a bit about whether charters and bylaws are contractual, and the enforceability of forum selection provisions. See Manufactured Consent: The Problem of Arbitration Clauses in Corporate Charters and Bylaws, 104 Geo. L.J. 583 (2016); Limiting Litigation Through Corporate Governance Documents, in Research Handbook on Representative Shareholder Litigation (Sean Griffith et al., eds., forthcoming 2017). One of the arguments I've repeatedly made is that courts should not simply assume that charters and bylaws may dictate terms about federal claims as they have about state law internal affairs claims.
Charters and bylaws are not like ordinary contracts; instead, the state of incorporation determines the permissible provisions, the procedures by which they can be amended, the fiduciary duties of managers when invoking these provisions, and the rights and powers of shareholders to influence their content. (For example, states decide whether the clause must appear in the charter, whether shareholders must vote, and whether and under what conditions management may waive these provisions). States are not positioned to make the appropriate policy determinations when the matter involves a federal, rather than state, regulatory scheme.
Indeed, it is not obvious that Delaware even authorizes the charter provision that Snap has adopted. In 2015, Delaware amended its law to authorize corporations to adopt charter and bylaw provisions that select Delaware as a forum for internal affairs claims. See DGCL § 115. As I have argued previously, that statute (and related Delaware caselaw) should be interpreted to mean that only internal affairs claims, and not other kinds of claims, may be governed by charters and bylaws. But even if the statute is interpreted to allow corporations broad freedom to dictate the terms on which plaintiffs may bring federal securities claims, as some have suggested, see John C. Coffee, Update on “Loser Pays” Fee Shifting; Stephen M. Bainbridge, Fee-Shifting: Delaware’s Self-Inflicted Wound, 40 Del. J. Corp. L. 851 (2016), the broader point is that there is no reason that Delaware should be deciding these important matters of federal policy.
To be sure, one might argue that this is no different than ordinary contracts – state law, too, determines the rules that govern ordinary contracts, and yet these contracts may contain enforceable forum selection provisions regarding federal rights.
But that is not quite the same. We may assume that Congress generally intended to import into federal law certain state law standards regarding contracts and corporate law, but that presumption may be overcome depending on the particular state law in question. See generally Kamen v. Kemper Financial Services, 500 U.S. 90 (1991). It is not obvious that Congress intended that state corporate law – including idiosyncratic approaches to shareholder powers within the corporation – would govern forum selection for federal claims, especially since state law did not even grant corporations these powers until 2013. See Boilermakers Local 154 Ret. Fund v. Chevron Corp., 73 A.3d 934 (Del. Ch. 2013).
But more fundamentally, as I have explained in the context of arbitration, within the corporate structure, shareholders and directors are not on equal footing. Shareholder power is sharply limited by legal ground rules that vest directors with broad discretion to take action on behalf of the corporation as they see fit. The justification for this power differential is that corporate directors are better positioned to make decisions on behalf of the corporation, and that shareholders are too uninformed, selfish, or heterogeneous to be trusted with the power to determine the corporation’s fate. Such an approach is at odds with the general concept of “contract,” which is predicated on the assumption that each party is capable of bargaining for his or her self interest, and that welfare across parties is maximized when the parties are permitted to bind themselves to arrangements they believe best for themselves. Unlike in contract, within the corporation, shareholders are not treated as autonomous arm's length bargainers. See also Jill E. Fisch, Governance by Contract: The Implications for Corporate Bylaws (California Law Review, forthcoming).
So, bringing this back to Snap’s articles of incorporation, if courts or the SEC decide that – for reasons of federal policy – it is best for companies and their shareholders that corporations be permitted to select a federal forum for federal securities claims in their charters/bylaws, that’s one thing, and on that point I remain agnostic. But what they should not do is assume that Snap’s charter is a “contract” that binds the shareholders to a federal forum, in the same manner as a forum selection clause in an ordinary contract between transacting parties.
Wednesday, April 5, 2017
No, not that conference, although I suppose that one's nice too.
In (very) loose association with that other conference, Tulane hosted a corporate academic conference, made possible by the generous donation of one of our alums, Gordon Gamm, and his wife Grace.
The academic conference, which took place on Saturday, April 1 immediately following the Tulane Corporate Law Institute, was great fun, and allowed me to reconnect with old friends and make some new ones. It was structured on the theme of Navigating Federalism in Corporate and Securities Law, and featured presentations by 11 corporate and securities scholars (including me!).
Discussion ranged from how to encourage retail shareholders to exercise their corporate voting rights to whether to redesign the internal affairs doctrine to controlling corporate political spending to issues of SEC regulatory capture and the intensity of its enforcement efforts to - of course - how, and even whether, we should distinguish corporate law from securities law. Most of the papers were in draft form and are not yet publicly available, but a few are up, including Ed Rock's and Daniel Rubenfeld's Defusing the Antitrust Threat to Institutional Involvement in Corporate Governance, Robert Jackson's, Robert Bishop's, and Joshua's Mitts's Activist Directors and Information Leakage, J.W. Verret's Uber-Ized Corporate Law, and my own Reviving Reliance.
It was genuinely a lively and productive day, capped with a (naturally - this is New Orleans) mouthwatering dinner at Emeril's Delmonico.
I am so grateful to everyone for making it such a special event. And fingers crossed, we'll be able to host a similar conference next year, also timed to follow the Corporate Law Institute. With any luck, it can become a regular annual event.
The full program is here.
Saturday, April 1, 2017
The big news in securities litigation this week is that the Supreme Court has agreed to resolve the circuit split over whether a failure to disclose required information can function as a misleading omission for purposes of Section 10(b).
I've blogged about this split before; basically, my take is that courts are wary of omissions liability not simply because they distrust securities litigation in general, but because they are concerned about further blurring the line between fraud claims and claims for mismanagement.
Which, fortuitously, happens to be the subject of my new article, forthcoming in the Fordham Law Review and just posted to SSRN. I argue that courts are using issues like puffery, loss causation/damages, and omissions liability to draw distinctions between fraud claims and mismanagement claims and - further - to sketch out a (relatively narrow) view of the proper role of shareholders within the corporate governance structure. I hastily amended the piece before posting to account for the cert grant; my quick prediction is that if the Supreme Court does permit omitted information to serve as the basis of a Section 10(b) claim, lower courts - concerned about this fraud/mismanagement line - will find themselves narrowing the scope of what counts as a required disclosure in the first place, which will then impact not only private plaintiffs, but potentially also government enforcement efforts.
Saturday, March 25, 2017
This semester, I’m teaching a seminar on the financial crisis. And because my specialty is corporate and securities law, not property, I brought in a ringer – in the form of Chris Odinet of Southern University Law Center – to talk to my class about the Mortgage Electronic Registration System (MERS) and foreclosures. MERS is a private organization that mortgage bankers have used to track mortgage assignments in the age of securitization, but after the housing bubble burst, it wreaked havoc in the foreclosure process because of sloppy recordkeeping and its inconsistency with the traditional manner in which interests in land have been recorded. See generally Christopher Lewis Peterson, Two Faces: Demystifying the Mortgage Electronic Registration System's Land Title Theory, 53 Wm. & Mary L. Rev. 111 (2011).
As Chris Odinet described it to my class, MERS was formed when several financial institutions (including, as it turns out, the Mortgage Bankers Association, Fannie Mae, Freddie Mac, the Government National Mortgage Association, the Federal Housing Administration, and the Department of Veterans Affairs) decided that publicly recording mortgage assignments in county property offices was too expensive and cumbersome. Instead, these institutions decided to form a shell corporation that would “own” all mortgage interests. Then, instead of formally transferring mortgages from one financial institution to another, MERS would electronically track transfers of ownership. That way, expensive and anachronistic paper recording systems could be bypassed, and mortgages could be quickly transferred to meet the needs of the age of securitization.
It occurred to me that this is exactly what occurred with stock ownership. Stock transfers, too, used to be conducted via paper endorsements, which created a literal paper crisis in the 1960s. See In re Appraisal of Dell. In response, Congress and the SEC adopted a system of “share immobilization,” namely, that almost all stock today is actually owned by a company called DTC. DTC is owned by broker dealers, and DTC electronically tracks which shares are allocated to which brokerage. Those brokerages, in turn, allocate the shares among their clients.
After class, I looked into the history, and it turns out I wasn’t wrong to draw the comparison: MERS was actually explicitly modeled on DTC. See Phyllis K. Slesinger & Daniel McLaughlin, Mortgage Electronic Registration System, 31 Idaho L. Rev. 805 (1995). But – and I suppose hindsight is 20/20 – it’s easy to see why the stock transfer system could not simply be wholesale transferred to mortgages, which is precisely why MERS has created so many headaches.
For starters, the share immobilization system was mandated by Congress, to deal with a federally-regulated system of stock ownership. As a result, the regulatory system adapted to the change, and federal rules were created to allow a “look-through” to the beneficial owner of the security instead of focusing on the formal record holder. See, e.g., 17 C.F.R. § 240.14a-13. Nothing like that happened with MERS, because it was created without the imprimatur of any legislative or regulatory body. As a result, there are no formal procedures that permit a look past MERS to the beneficial owner of the mortgage, which is part of the reason why MERS’s legal status has been so uncertain.
Relatedly, MERS often includes only the name of the servicer in its system, and does not require its members to record transfers between mortgagees (although, Chris tells me, MERS recently has tried to improve its practices in this regard). As a result, MERS records simply do not contain information about who actually owns the mortgage, and these private transfers create opportunities for confusion and mischief. By contrast, stock transfers are heavily regulated, and settlement is required by SEC rule – within 3 days (soon to become 2).
Beyond these regulatory points, mortgage ownership is simply more complex than stock ownership. A stock transfer is a personal property transfer. There is a relatively minimal ongoing relationship with the issuing corporation – more on that below – but for the most part, it’s just property being transferred from A to B.
Mortgages, however, involve transfers between lenders, who must carry on complex and financially significant relationships with borrowers and servicers. Payments from the borrower must be made and applied to the loan; two-way lines of communication must be maintained; in extreme cases, foreclosures must be managed. On top of that, arcane rules govern the distinction between the mortgage itself and the note that represent the debt. It is precisely in these areas that MERS has broken down.
Additionally, America has long had a commitment to creating public, transparent records of interests in real estate, including the chain of title; MERS destroyed that by creating an opaque system that fails to keep track of past transfers. Stock ownership, by contrast, has never been publicly accessible, and the only area where chain of title is relevant is Section 11 (which, incidentally, has also been undermined by DTC).
That said, even the DTC-share immobilization system has been plagued by recordkeeping and legal problems; it is simply that at the end of the day, these problems are far less devastating to the lives of individual people than are the problems with MERS.
For example, stock ownership does involve an ongoing relationship with the issuing corporation (though one far more attenuated than in the ongoing relationships between borrowers and lenders in a mortgage loan), and errors/gaps in recordkeeping can affect that relationship. Marcel Kahan and Edward Rock wrote about the “Hanging Chads of Corporate Voting,” detailing how voting procedures may be inadequate to keep up with share immobilization. Moreover, the DTC system – which operates at the federal level – has created uncertainty with respect to state-level recordkeeping systems. See In re Appraisal of Dell; Dole Case Illustrates Problems in Shareholder System.
But ultimately, a lost or miscounted shareholder vote, or even lost payments in a merger, are peanuts compared someone losing their home in a legally defective foreclosure, or simply the inability of a homeowner to develop a workout plan.
Perhaps fundamentally, then, the difference is about the power imbalances. The corporate issuer of stock - the constant at the center of shifting shareholder bases - ultimately is the one with control over resources; shareholders' rights and powers are fairly minimal. By contrast, the "issuer" of the mortgage note - the individual borrower who remains constant at the center of shifting lenders - is the most vulnerable player in the lending system, at the mercy of a rotating cast of sophisticated mortgagees and servicers. A trading scheme like DTC/share immobilization, designed to accommodate those with very little power vis a vis the obligor, is not one that will do justice when the power relationships are reversed.
Point being, there were a lot of red flags - that might have been evident earlier - in trying to privately model a mortgage transfer system on the federally-mandated system for transferring stock, but here we are. The banks weren't wrong about the problems with dealing with local recording systems in today's economy; but a true fix will require public mandates and coordination across all jurisdictions.
Saturday, March 18, 2017
One of the hottest topics in business news today is the Snap IPO.
It’s the biggest tech IPO in some time (although some smaller ones apparently will be close behind), the company has so far been losing money and its growth has slowed, and oh yeah – its public shares do not have any voting rights.
In some ways, the disenfranchisement of Snap’s shareholders is the natural culmination of the dual-class share structures that have been popular with tech companies for a while. But Snap is obviously taking things to extremes. With no votes, there are no proxy statements. Most of that information will be disclosed in Snap’s 10-K, but it also means there will be no say-on-pay votes and no shareholder proposals. Sure, these are – or tend to be – nonbinding anyway, but Snap has shut down the mechanism by which shareholders as a group initiate conversations with the companies in which they invest.
Some commenters call Snap a one-off; after all, even now, Snap’s shares have fallen well below their first day trading price, and analyst reaction has been less than enthusiastic. But Snap is still trading higher than its offering price (at least for now), and Snap’s founders made hundreds of millions just from the IPO itself, without sacrificing control of the company – plenty of incentive for new players to try to replicate Snap’s results. The matter has caused enough concern that the SEC has begun to examine it, though it’s unclear what – if anything – they expect to be able to do. (I mean, the SEC’s power to directly regulate voting rights is a bit limited, but theoretically listing standards for NYSE and NASDAQ could be modified.).
One of the most interesting developments, at least to me, is the effort by institutional investors to have Snap excluded from major indexes (with a parallel effort across the pond); otherwise, they’d be forced to buy Snap’s shares despite their objections to Snap’s structure, and Snap would get a bit of a boost in its stock price - along with a class of shareholders who cannot vote with their feet. I don’t know what the indexes are likely to do, but if they include Snap, will that open a space for alternative indexes that exclude no-vote shares – like Snap and perhaps Google Class C? I have to admit, that would be an elegant free market solution.
One other interesting aspect of the Snap IPO concerns the nature of its shareholders: millennials. Apparently, millennials have snapped up Snap shares, eager to invest in a company that plays such a role in their lives. Snap doesn’t love them quite as much, of course, but if you view investing as consumption rather than a way to profit, I suppose it’s no worse than any other recreational activity.
In fact, there’s a whole startup devoted to encouraging consumers to buy stock in their favorite companies – and the companies will pay your brokerage fees. (Joan posted earlier about a similar type of program at Domino's Pizza.) The theory is, stockholder-consumers are more loyal customers (and, I assume, more pliant voters), so it’s worth it to companies to cultivate a consumer shareholder base. It happened before, that retail investors helped management fend off attacks; I wonder if the next would-be Snap might consider a less draconian approach to shareholder voting, but a more aggressive approach to marketing shares to its user base.
Saturday, March 11, 2017
A couple of days ago, Marcia put out a call for business movie/TV recommendations. A perennial favorite on such lists is the 1983 classic, Trading Places. That movie is about two brothers who make a bet to see whether they can pluck a man off the street and - by providing him with the proper environment - turn him into a successful commodities trader. Its stature is such that a real-life statutory amendment, intended to plug the regulatory loophole exploited by the film's characters, is colloquially known as the "Eddie Murphy rule." The CFTC first exercised its authority under the new rule in 2015.
Well, apparently the movie was just as inspiring to business aficionados in 1983 as it remains today. After seeing the film, two prominent commodities traders of the era, Richard Dennis and William Eckhardt, decided to reenact the brothers' experiment. (Except, rather than kidnap a homeless criminal and then frame one of their own employees for dealing PCP, Dennis just took out an ad in the newspaper). Dennis selected people with a certain affinity for numbers and probability, but with no formal education in commodities, and trained them to trade. The experiment panned out: most of the participants (dubbed Turtles, for reasons that remain the subject of myth) not only generated extraordinary profits for Dennis and themselves, but eventually left for successful Wall Street careers.
The tale is recounted in the book The Complete Turtle Trader, and in this Bloomberg podcast. For the podcast hosts, the unbelievable part of the story is how the methods taught to the Turtles are apparently still in use today - and remain profitable, for anyone disciplined enough to stick to them. I'll add that I also find it kind of unbelievable that anyone decided to risk millions of their own dollars to reenact the events of Trading Places, but, to be fair, it is a very good movie.