Tuesday, July 3, 2018
Bernard Sharfman has posted Dual Class Share Voting versus the “Empty Voting” of Mutual Fund Advisors’ and it is an interesting read. He argues:
Dual class shares (shares with unequal voting rights) arise when the board of directors of a company decides to raise capital through the sale of newly issued shares, but wants one or more insiders, who may be giving up economic control through the issuance of the shares, to retain voting control in the company. Typically, this occurs in an initial public offering (IPO), but it can also occur before. In an IPO, a company will usually issue a class of common stock to the public that carries one vote per share (ordinary shares), while reserving a separate class, a super-voting class, that provide insiders with at least 10 votes per share. However, both types of shares will have equal rights to the cash flow of the company. The issuance of dual class shares may create a wide gap between voting and cash flow rights over time, especially if the insiders periodically sell a significant amount of their ordinary shares.
But this is the critical point. A dual class share structure cannot exist without the permission of those shareholders who are purchasing the ordinary shares at the price offered. The bargaining process that leads to the issuance of dual class shares is referred to as “private ordering.” . . . .
. . .
By contrast, the empty voting of mutual fund advisors is not a firm specific corporate governance arrangement that results from private ordering. It is the consequence of the industry practice of centralizing the voting of mutual funds into the hands of their advisor’s corporate governance department. As a result of this delegation of voting authority, mutual fund advisors have the voting power, but not the economic interest in the shares that they vote.
I am not evangelical about dual-class shares, but I do appreciate his point on private-ordering, which is similar (as I have noted before) to my take in many circumstances. His distinction between dual-class shares and empty voting for mutual fund advisors is a compelling one, and I recommend checking out the whole post.
Tuesday, June 12, 2018
Bernie Sharfman's paper, A Private Ordering Defense of a Company's Right to Use Dual Class Share Structures in IPOs, was just published, and I think he has a point. In fact, as I read his argument, I think it is consistent with arguments I have made about the difference between restrictions or unconventional terms or practices that exist at purchase versus such changes that are added after one becomes a member or shareholder. Here's the abstract:
The shareholder empowerment movement (movement) has renewed its effort to eliminate, restrict or at the very least discourage the use of dual class share structures in initial public offerings (IPOs). This renewed effort was triggered by the recent Snap Inc. IPO that utilized non-voting stock. Such advocacy, if successful, would not be trivial, as many of our most valuable and dynamic companies, including Alphabet (Google) and Facebook, have gone public by offering shares with unequal voting rights.
Unless there are significant sunset provisions, a dual class share structure allows insiders to maintain voting control over a company even when, over time, there is both an ebbing of superior leadership skills and a significant decline in the insiders’ ownership of the company’s common stock. Yet, investors are willing to take that risk even to the point of investing in dual class shares where the shares have no voting rights and barely any sunset provisions, such as in the recent Snap Inc. IPO. Why they are willing to do so is a result of the wealth maximizing efficiency that results from the private ordering of corporate governance arrangements and the understanding that agency costs are not the only costs of governance that need to be minimized.
In this essay, Zohar Goshen and Richard Squire’s newly proposed “principal-cost theory,” “each firm’s optimal governance structure minimizes the sum of principal costs, produced when investors exercise control, and agent costs, produced when managers exercise control,” is used to argue that the use of dual class shares in IPOs is a value enhancing result of private ordering, making the movement’s renewed advocacy unwarranted.
The recommended citation is Bernard S. Sharfman, A Private Ordering Defense of a Company's Right to Use Dual Class Share Structures in IPOs, 63 Vill. L. Rev. 1 (2018).
I find his argument compelling, as I lean toward allowing contracting parties to enter into agreements as they so choose. I find this especially compelling at start-up or the IPO stage. I might take a more skeptical view of changes made after start-up. That is, if dual-class shares are voted created after an IPO by the majority insiders, there is a stronger bait-and-switch argument. Even in that case, if the ability to create dual-class shares by majority vote was allowed by the charter/bylaws, it might be reasonable to allow such a change, but I also see a self-dealing argument to do such a thing post-IPO. At the outset, though, if insiders make clear that, to the extent that a dual-class share structure is self-dealing, the offer to potential purchasers is, essentially, "if you want in on this company, these are our terms." I can work with that.
This is consistent with my view of other types of disclosure. For example, in my post: Embracing Freedom of Contract in the LLC: Linking the Lack of Duty of Loyalty to a Duty of Disclosure, I discussed the ability to waive the duty of loyalty in Delaware LLCs:
At formation . . . those creating an LLC would be allowed to do whatever they want to set their fiduciary duties, up to and including eliminating the consequences for breaches of the duty of loyalty. This is part of the bargain, and any member who does not agree to the terms need not become a member. Any member who joins the LLC after formation is then on notice (perhaps even with an affirmative disclosure requirement) that the duty of loyalty has been modified or eliminated.
It was my view, and remains my view, that there some concerns about such changes after one becomes a member that warrant either restrictions or at least some level of clear disclosures of the possibility of such a change after the fact, though even in that case, perhaps self-dealing protections in the form of the obligations of good faith and fair dealing would be sufficient.
Similarly, in my 2010 post, Philanthropy as a Business Model: Comparing Ford to craigslist, I explained:
I see the problem for Henry Ford to say, in essence, that his shareholders should be happy with what they get and that workers and others are more his important to him than the shareholders. However, it would have been quite another thing for Ford to say, “I, along with my board, run this company the way I always have: with an eye toward long-term growth and stability. That means we reinvest many of our profits and take a cautious approach to dividends because the health of the company comes first. It is our belief that is in the best interest of Ford and of Ford’s shareholders.”
For Ford, there seemed to be something of a change in the business model (and how the business was operated with regard to dividends) once the Dodge Brothers started thinking about competing. All of a sudden, Ford became concerned about community first. For craigslist, at least with regard to the concept of serving the community, the company changed nothing. And, in fact, it seems apparent that craiglist’s view of community is one reason, if not the reason, it still has its “perch atop the pile.”
Thus, while it is true craigslist never needed to accept eBay’s money, eBay also knew exactly how craigslist was operated when they invested. If they wanted to ensure they could change that, it seems to me they should have made sure they bought a majority share.
I understand some of the concern about dual-class shares and other mechanisms that facilitate insider control, but as long as the structure of the company is clear when the buyer is making the purchase decision, I'm okay with letting the market decide whether the structure is acceptable.
Tuesday, June 5, 2018
Earlier this week, Keith Paul Bishop observed on his blog, "Professor Joshua Fershee has been fighting the good fight on limited liability company nomenclature, but I fear that he is losing." I am not willing to concede that I am losing (yet), but I have to concede that I am winning less often than I'd hoped.
Bishop noted my "helpful checklist" from last week for those writing about LLCs, but he argues, "it may be time to give up the fight and bestow an entirely new name on LLCs that is less likely to be confused with corporations. I am still not ready to give up the fight, but it is an interesting thought, and there are some options.
One path I have proposed before that I think would help: Let Corps Be Corps: Follow-Up on Entity Tax Status. In that post, I suggested that the IRS should just stop using state-law entity designations, and thus stop having “corporate” tax treatment. I explained:
My proposal is not abolishing corporate tax . . . . Instead, the proposal is to have entities choose from options that are linked the Internal Revenue Code, and not to a particular entity. Thus, we would have (1) entity taxation, called C Tax, where an entity chooses to pay tax at the entity level, which would be typical C Corp taxation; (2) pass-through taxation, called K Tax, which is what we usually think of as partnership tax; and (3) we get rid of S corps, which can now be LLCs, anyway, which would allow an entity to choose S Tax.
Federal requirements to be eligible for the various tax status options would remain, but the entity type itself would cease to be a consideration. And we'd have to change our language to reflect that.
But maybe LLCs could be something else. A current problem is that "company" is a synonym for "corporation" in common usage. Thus, it is easy to see why a layperson would think a "limited liability company" is the same thing as a "limited liability corporation." Of course, there are lots of words that have a broad meaning in common parlance, but a narrower meaning in the legal sense, so it is not inherently problematic to expect lawyers to be able to draw such a distinction. (For example, as a 1L, we learn that assault does not include physical contact, but in general usage, there would be the assumption of contact.)
Still, what else could we use? To start, if a change were in the works, I think the "c" needs to go. Otherwise, the assumption will remain that the "c" means "corporation." Here's an initial list:
- LLA: Limited Liability Association
- LLB: Limited Liability Business
- LLE: Limited Liability Entity
- LLG: Limited Liability Group
- LLO: Limited Liability Operation
- LLV: Limited Liability Vehicle
It would not need to be, necessarily, something that says "limited liability" as long as that is conveyed. So perhaps:
- EOA: Entity Assets Only
- CLB: Capped Liability Business
- NIL: No Individual Liability
- LCI: Losses Capped (at) Investment
- ILL: Investment Limited Losses
- WYSIWYG: What You See Is What You Get
- AMY or TED: Just a name. You can assign a name to anything. We could name our entity AMY or TED. (I considered SUE, but that already has a legal meaning)
I remain committed to trying to educate people so we can keep the current regime and just get it right, but it is good to have options. I welcome alternative ideas or critiques of any of these.
Long live the LLC!
Friday, June 1, 2018
Greetings from Atlanta, Georgia, site of the Emory Transactional Law & Skills Conference. After only a few hours of presentations, I'm already inspired to make some changes in my new transactional lawyering class. I will write about some of the lessons learned next week. Today, I want to share some of Tina Stark's remarks from the conference dinner that ended moments ago. Although she initially teased the audience by stating that she would make "subversive" statements, nothing that she said would scandalize most law students or surprise practicing lawyers.
Her "radical" proposal entailed having transactional skills education be a part of every law student's curriculum. In support, she cited ABA Standard 301(a), which states:
OBJECTIVES OF PROGRAM OF LEGAL EDUCATION (a) A law school shall maintain a rigorous program of legal education that prepares its students, upon graduation, for admission to the bar and for effective, ethical, and responsible participation as members of the legal profession.
She argued that for the academy to meet this standard, schools must go beyond a narrow reading of ABA rules and provide every student with the foundation to practice transactional law, particularly because half of graduates will practice in that area even if they don't know it while they are in law school. She also referenced ABA Standard 302, which states in part:
LEARNING OUTCOMES A law school shall establish learning outcomes that shall, at a minimum, include competency in the following: (a) Knowledge and understanding of substantive and procedural law; (b) Legal analysis and reasoning, legal research, problem-solving, and written and oral communication in the legal context.
Stark correctly observed that notwithstanding the litigation focus in law school, lawyers write more than predictive memos and briefs. She emphasized that competency in oral and communication skills is particularly important for deal lawyers.
If she came even close to being "radical," (and I don't think she did), it's because she went beyond calling on more schools to offer, much less require drafting courses. Instead, she recommended that schools add at least one credit to the first year contracts course so that students can learn the structure of contracts and build a foundation for more advanced work. She likened law students failing to learn the parts of a contract to medical students studying anatomy without doing dissections.
She anticipated the argument that schools do not have enough time to add an extra credit to the basic contracts course by countering that another first year course could be moved to the second year. This would allow professors to spend the first part of the semester teaching 1Ls to read and analyze a contract so that they can understand business drivers when reading cases in contracts and property class.
Although some in the academy might resist the proposal, I believe that members of the bar and business community would applaud this move. If the long waiting list for my transactional lawyering course and similar ones around the country are any indication, law students would appreciate more balance in the curriculum as well.
Tuesday, May 22, 2018
I was browsing through some recent veil piercing cases (because that's how I roll), and I came across this gem:
[I]t is unclear that merely using a corporation to limit personal liability rises to the level of fraud required to pierce the corporate veil.
Indagro SA v. Nilva, No. 16-3226, 2018 WL 2068660, at *3 (3d Cir. May 3, 2018). Given that limited liability is one of the primary benefits of incorporation, I think it is at least implied that using a corporation to limit personal liability is not fraud at all.
Moreover, the corporation at issue was a New Jersey corporation, and the state law provides:
N.J. Stat. Ann. § 14A:5-30 (West). This is pretty unequivocal. I get that fraud may be one of the acts that could give rise to personal liability, but the use of an entity to limit personal liability, when that is a core facet of the entity, is some pretty serious attempted bootstrapping.
The case gets it right, in the end, but still, I had to point this out. To imply that it could be fraud to use a corporation for the purpose of limiting personal liability, without anything more, is simply incorrect.
Tuesday, May 15, 2018
The Goldens contend that the trial court erred by denying their motion for summary judgment as to negligence claims asserted against them personally. They assert that corporate law insulates them from liability and that, while a member of an [sic] limited liability corporation may be liable for torts in which he individually participated, Ugo Mattera has pointed to no evidence that the Goldens specifically directed a particular negligent act or participated or cooperated therein. We agree with the Goldens that they were entitled to summary judgment on Ugo Mattera's negligence claim.An officer of a corporation who takes part in the commission of a tort by the corporation is personally liable therefor, and an officer of a corporation who takes no part in the commission of a tort committed by the corporation is not personally liable unless he specifically directed the particular act to be done or participated or cooperated therein.Jennings v. Smith, 226 Ga. App. 765, 766 (1), 487 S.E.2d 362 (1997) (citation omitted). Thus, if Baja Properties was negligent in constructing the house, an officer of the corporation could be held personally liable for the negligent construction if he specifically directed the manner in which the house was constructed or participated or cooperated in its negligent construction. See Cherry v. Ward, 204 Ga. App. 833, 834 (1) (a), 420 S.E.2d 763 (1992).
(a) A person who is a member, manager, agent, or employee of a limited liability company is not liable, solely by reason of being a member, manager, agent, or employee of the limited liability company, under a judgment, decree, or order of a court, or in any other manner, for a debt, obligation, or liability of the limited liability company, including liabilities and obligations of the limited liability company to any member or assignee, whether arising in contract, tort, or otherwise, or for the acts or omissions of any other member, manager, agent, or employee of the limited liability company, whether arising in contract, tort, or otherwise.
Monday, May 14, 2018
I always have loved the game of tag, and I love a challenge. More importantly, I love a conversation about business law . . . .
Last week, Steve Bainbridge posted a follow-on to posts written by Ann and me on the application of fiduciary duties to the private lives of corporate executives. As Steve typically does in his posts, he raises some nice points that carry forward this discussion. In a subsequent Tweet, Steve appears to invite further conversation from one or both of us by linking to his post and writing "Tag. You're it."
. . . to what extent should a board have Caremark duties to monitor a CEO's private life. Personally, I think Caremark is not limited to law compliance programs. A board presented with red flags relating to serious misconduct--especially misconduct in a sphere of life directly related to the corporation's business (think Weinstein)--has a duty to investigate. But, again, does that mean the board should hire private investigators to track the CEO 24/7?
I agree that a board's duty to monitor is not limited to compliance programs. Stone v. Ritter makes it plain that the duty to monitor arises from a director's obligation of good faith, situated within the duty of loyalty. Assuming no "intent to violate applicable positive law" or an intentionally failure to act in the face of a known duty to act (demonstrating a conscious disregard for his duties)," however, under Disney, a failure to monitor in this context likely would not rise to the level of bad faith unless the board "intentionally acts with a purpose other than that of advancing the best interests of the corporation"--which seems unlikely (although someone with more time and creativity than I have at the moment may be able to spin out some relevant facts). Of course, the Delaware Supreme Court could add to the Disney list of actions not in good faith . . . . But absent any of that, it is unlikely that a board of directors' failure to monitor an executive's private life will result in liability for a breach of the duty of loyalty.
Second, I want to pass on a further thought on the debate--one that is not my own. In an email message to me, co-blogger Stefan Padfield observed that corporate opportunity doctrine questions are fiduciary duty claims that extend into a fiduciary's private life--specifically, the fiduciary's usurpation of the opportunity for his or her private gain. He also noted that from there the leap is not as far as it may seem to conceptualizing other aspects of an executive's private conduct as being within the scope of his or her fiduciary duties to the corporation. This certainly provides more food for thought.
I want to thank Ann for stimulating all these ideas. Her original post raised a nice question--one that obviously provokes and has encouraged engagement in thoughtful conversation. While we have not yet resolved the issue, we have staked out some important ground that may be covered in extant or forthcoming cases. As Ann's and Steve's posts point out, there are a number of intriguing fact patterns at the intersection of executives' private lives and fiduciary duties that may force courts to wrestle some of this to the ground. I, for one, will be watching to see what happens.
Tuesday, May 8, 2018
If I have learned anything over the years, it is that I should not expect any court to be immune from messing up entities. Delaware, as a leader in business law and the chosen origin for so many entities, though, seems like a place that should be better than most with regard to understanding, distinguishing, and describing entities. Sometimes they get things rights, as I argued here, and other times they don't. A recent case is another place where they got something significant incorrect.
The case starts off okay:
Plaintiffs brought this action under federal diversity jurisdiction, 28 U.S.C. § 1332(a)(1), asserting that complete diversity of citizenship exists among the parties. In Defendants’ Motion to Dismiss, however, they argue that complete diversity of the parties is lacking. Federal jurisdiction under § 1332(a)(1) requires complete diversity of citizenship, meaning that “no plaintiff can be a citizen of the same state as any of the defendants.” Midlantic Nat. Bank v. Hansen, 48 F.3d 693, 696 (3d Cir. 1995); Exxon Mobil Corp. v. Allapattah Servs., Inc., 545 U.S. 546, 553 (2005).
A natural person is a citizen of “the state where he is domiciled,”1 and a corporation is a citizen of the state where it maintains its principal place of business, as well as the state where it is incorporated. Zambelli Fireworks Mfg. Co. v. Wood, 592 F.3d 412, 418 (3d Cir. 2010). For purposes of § 1332, the citizenship of a limited liability corporation2 (“LLC”) is determined “by the citizenship of each of its members.” Id. Plaintiff Cliffs Natural Resources Inc. is incorporated in Ohio, and Plaintiff CLF Pinnoak LLC is incorporated3 in Delaware and maintains its principal place of business in Ohio. Third Am. Compl. ¶¶ 3–4, ECF No. 162. In moving to dismiss this action for lack of jurisdiction, Defendants assert that Seneca Coal Resources, LLC, a Delaware corporation,4 includes members who are Ohio citizens, thus destroying complete diversity as required for § 1332.
Monday, May 7, 2018
I was fascinated by Ann Lipton's post on April 14. I started to type a comment, but it got too long. That's when I realized it was actually a responsive blog post.
Ann's post, which posits (among other things) that corporate chief executives might be required to comply with their fiduciary duties when they are acting in their capacity as private citizens, really made me think. I understand her concern. I do think it is different from the disclosure duty issues that I and others scope out in prior work. (Thanks for the shout-out on that, Ann.) Yet, I struggled to find a concise and effective response to Ann's post. Here is what I have come up with so far. It may be inadequate, but it's a start, at least.
Fiduciary duties are contextual. One can have fiduciary duties to more than one independent legal person at the same time, of course, proving this point. (Think of those overlapping directors, Arledge and Chitiea in Weinberger. They're a classic example!) What enables folks to know how to act in these situations is a proper identification of the circumstances in which the person is acting.
So, for example, an agent’s duty to a principal exists for actions taken within the scope of the agency relationship. The agency relationship is defined by the terms of the agreement between principal and agent as to the object of the agency. The principal controls the actions of the agent within those bounds based on that agreement.
Similarly, a director’s or officer's conduct is prescribed and proscribed within the four corners of the terms of their service to the corporation. They owe their duties to the corporation (and in Revlon-land or other direct-duty situations, also to the stockholders). The problem then becomes defining those terms of service. For directors, a quest for evidence of the parameters of their service should start with the statute and extend to any applicable provisions of the corporate charter, bylaws, and board policies and resolutions more generally. For officers, the statute typically doesn’t provide much content on the nature or extent of their services. The charter may not either. Typically, the bylaws and board policies and resolutions, as well as any employment or severance agreement (the validity of which is largely a matter outside the scope of corporate law), would define the scope of service of an officer.
I have trouble envisioning that the scope of service (and therefore, reach of fiduciary duties) for a typical director or officer would extend to, e.g., private ownership of other entities and decisions made in that capacity. Yet, even where there is no technical conflicting interest or breach of a duty of loyalty, there is a clear business interest in having corporate managers—especially highly visible ones—act in a manner that is consistent with corporate policy or values when they are not “on the job.” While voluntary corporate policy or private regulation may have a role in policing that kind of director or officer activity (through service qualifications or employment termination triggers, e.g.), I do not think it is or should be the job of corporate law—including fiduciary duty law—to take on that monitoring and enforcement role.
Nevertheless, I remain convinced that better (more accurate ad complete) disclosure of (at least) inherent conflicts of interest may be needed so investors and other stakeholders can evaluate the potential for undesirable conduct that may impact the nature or value of their investments in the firm. As Ann notes, significant privacy rights exist in this context, too. There's more work to be done here, imv.
Thanks for making me think, Ann. Perhaps you (or others) have a comment on this riposte? We shall see . . . .
Wednesday, May 2, 2018
II. UNDISPUTED FACTS.. . . . The facts, viewed in the light most favorable to the Plaintiffs, are as follows. Plaintiff Edgar Lopez is a New Mexico resident. Compl. at 1, ¶ 1. Lopez owns and operates Plaintiff IMA, LLC, a New Mexico limited liability corporation that formerly managed the Perry Corners Shopping Center. . . . Lopez is the managing partner and the only surviving voting member of Hunt Partners, LLC, a Nevada corporation that has its principal place of business in New Mexico. . . . . Hunt Partners wholly owns, as the “sole equity member,” another LLC called “Perry Corners Shopping Center, LLC,” a Delaware Corporation with its principal place of business in New Mexico, which, in turn, owns as its only asset the Perry Corners Shopping Center, which is located in Georgia.
Monday, April 30, 2018
My essay on the use of traditional for-profit corporations as a choice of entity for sustainable social enterprise firms was recently published in volume 86 of the UMKC Law Review. I spoke on this topic at The Bryan Cave/Edward A. Smith Symposium: The Green Economy held at the UMKC School of Law back in October. The essay is entitled "Let's Not Give Up on Traditional For-Profit Corporations for Sustainable Social Enterprise," and the SSRN abstract is included below:
The past ten years have witnessed the birth of (among other legal business forms) the low-profit limited liability company (commonly known as the L3C), the social purpose corporation, and the benefit corporation. The benefit corporation has become a legal form of entity in over 30 states. The significant number of state legislative adoptions of new social enterprise forms of entity indicates that policy makers believe these alternative forms of entity serve a purpose (whether legal or extra legal).
The rise of specialty forms of entity for social enterprise, however, calls into question, for many, the continuing role of the traditional for-profit corporation (for the sake of brevity and convenience, denominated “TFPC” in this essay) in social enterprises, including green economy ventures. This essay argues that TFPCs continue to be a viable—and in many cases desirable or advisable choice of entity for sustainable social enterprise firms. The arguments presented are founded in legal doctrine, theory, and policy and include both legal and practical elements.
Somehow, I managed to cite to four BLPB co-bloggers in this single essay: Josh, Haskell, Stefan, and Anne. Evidence of a business law Vulcan mind meld? You decide . . . .
Regardless, comments, as always, are welcomed as I continue to think and write about this area of law and practice.
April 30, 2018 in Anne Tucker, Business Associations, Corporate Governance, Corporations, Haskell Murray, Joan Heminway, Joshua P. Fershee, Social Enterprise, Stefan J. Padfield | Permalink | Comments (2)
Tuesday, April 24, 2018
As I am inclined to do with cases and statutes, I spent some time this week chasing down incorrect definitions of the LLC (correctly defined as a "limited liability company"). I did some perusing of the Code of my home state of West Virginia for incorrect uses of "limited liability corporation," where limited liability company was intended. As I expected, there are multiple errors. Take, for example:
§ 31D-11-1109. Conversion of a domestic corporation to a domestic limited liability company.
. . . .
(i) When a corporation has been converted to a limited liability corporation pursuant to this section, the limited liability company shall, . . . .
This part of the Code uses "limited liability company" correctly throughout this provision, except in this one spot. This should be cleaned up, but it appears to be an error related to repeated use of corporation and company in the same statute (as opposed to a misunderstanding of the concept).
The West Virginia Code has adopted the use of "limited liability corporation" in place of "limited liability company" in a couple definitions provisions, too, which could be a little more problematic.
In the Motor Fuel Excise Tax portion of the Code, we have this, § 11-14C-2. Definitions:
(66) "Person" means an individual, firm, cooperative, association, corporation, limited liability corporation, estate, guardian, executor, administrator, trust, business trust, syndicate, partnership, limited partnership, copartnership, organization, limited liability partnership, joint venture, receiver and trustee in bankruptcy. "Person" also means a club, society or other group or combination acting as a unit, a public body including, but not limited to, this state and any other state and an agency, commissioner, institution, political subdivision or instrumentality of this state or any other state and, also, an officer, employee or member of any of the foregoing who, as an officer, employee or member, is under a duty to perform or is responsible for the performance of an act prescribed by the provisions of this article.
Literally, anyway, LLCs are not defined as persons in this Code section. I am confident that the intent here is quite clear, even if the execution is flawed, but still, this exhaustive list leaves out the West Virginia limited liability company created in WV Code § 31B, the Uniform Limited Liability Company Act.
A similar error occurs in Code Chapter 16, Public Health. Code § 16-2D-2 provides:
(29) “Person” means an individual, trust, estate, partnership, limited liability corporation, committee, corporation, governing body, association and other organizations such as joint-stock companies and insurance companies, a state or a political subdivision or instrumentality thereof or any legal entity recognized by the state.
Here, at least, the catch-all "any legal entity" does include LLCs, but LLCs are still not listed specifically.
This definition language is being repeated in draft legislation, as well, so the error is spreading. See, e.g., House Bill 2873, Budget and Spending Transparency Act ("(c) "Entity" or "recipients" means any corporation, association, union, limited liability corporation, limited liability partnership, legal business entity including nonprofit organizations, grantee, contractor or any county, municipal or other local government entity . . ..")
I am planning to spend some time this summer sending proposed fixes to some key legislators to see if we can get this corrected. Though I concede this is a small fix, it is also an easy fix, and I see no reason not to get it right. Maybe if I do the legwork, it can get done.
Monday, April 23, 2018
Call for Papers for the
Section on Business Associations Program on
Contractual Governance: the Role of Private Ordering
at the 2019 Association of American Law Schools Annual Meeting
The AALS Section on Business Associations is pleased to announce a Call for Papers from which up to two additional presenters will be selected for the section’s program to be held during the AALS 2019 Annual Meeting in New Orleans on Contractual Governance: the Role of Private Ordering. The program will explore the use of contracts to define and modify the governance structure of business entities, whether through corporate charters and bylaws, LLC operating agreements, or other private equity agreements. From venture capital preferred stock provisions, to shareholder involvement in approval procedures, to forum selection and arbitration, is the contract king in establishing the corporate governance contours of firms? In addition to paper presenters, the program will feature prominent panelists, including SEC Commissioner Hester Peirce and Professor Jill E. Fisch of the University of Pennsylvania Law School.
Our Section is proud to partner with the following co-sponsoring sections: Agency, Partnership, LLC's and Unincorporated Associations; Contracts; Securities Regulation; and Transactional Law & Skills.
Please submit an abstract or draft of an unpublished paper to Anne Tucker, firstname.lastname@example.org on or before August 1, 2018. Please remove the author’s name and identifying information from the submission. Please include the author’s name and contact information in the submission email.
Papers will be selected after review by members of the Executive Committee of the Section. Authors of selected papers will be notified by August 25, 2018. The Call for Papers presenters will be responsible for paying their registration fee, hotel, and travel expenses.
Any inquiries about the Call for Papers should be submitted to: Anne Tucker, Georgia State University College of Law, email@example.com or (404) 413.9179.
[Editorial note: As some may recall, the BLPB hosted a micro-symposium on aspects of this issue in the limited liability company context in anticipation of a program held at the 2016 AALS annual meeting. The initial post for that micro-symposium is here, and the wrap-up post is here. This area--especially as writ broadly in this proposal--remains a fascinating topic for study and commentary.]
April 23, 2018 in Anne Tucker, Business Associations, Call for Papers, Conferences, Contracts, Corporate Finance, Corporate Governance, Corporations, Joan Heminway, LLCs, Nonprofits, Partnership | Permalink | Comments (0)
Saturday, April 21, 2018
Last week, I blogged blogged about lawsuits against chocolate makers alleging unfair and deceptive trade practices for failure to disclose that the companies may have used child slaves to harvest their products. Today, I want to discuss steps that the Business Law Section of the American Bar Association is taking to provide more transparency in supply chain practices.
In 2014, the ABA House of Delegates adopted Model Principles on Labor Trafficking and Child Labor developed by over 50 judges, in-house counsel, outside counsel, academics, and NGOs. The Model Principles address the UN Guiding Principles on Business and Human Rights and other hard and soft law regimes. At last week’s ABA Business Law Spring Meeting, academics David Snyder and Jennifer Martin presented on human rights issues in supply chains alongside practicing lawyers and in-house executives. Many of them (and several others) had formed a Working Group to Draft Human Rights Protections in Supply Contracts. The Group aims to provide contract clauses that are “legally effective” and “operationally likely.”
As a former Deputy GC for a supply chain management company, I can attest that the ABA’s focus is timely as companies answer questions from customers, regulators, shareholders, and other stakeholders. Human rights issues play out in dozens of regulations, including, but not limited to: the Foreign Corrupt Practices Act, Trafficking Victims Protection Act, Dodd-Frank Conflict Minerals Act, California Transparency in Supply Chains Act, the UK Modern Slavery Act, the Trade Facilitation and Trade Enforcement Act, and the updated Federal Acquisition Regulations. Australia and at least seven EU countries are currently working on their own regulations. Savvy lawyers have use the Alien Tort Statute, RICO, negligence, and false advertising allegations to state claims, with varying success.
The following statistics may provide some context. Thanks to e. Christopher Johnson, Jr., CEO of the Center for Justice, Rights, and Dignity.
- there are 21 million victims of human trafficking
- Human trafficking provides $150 billion in profit
- Women and girls are 55% of the victims, and children 17 and under are 26%
To help companies mitigate their supply chain risks, the Business Law and UC Article 1 and Article 2 Committees have drafted more specific model clauses to incorporate human rights provisions in certain contracts. The Committees are also establishing an information exchange with NGOs and developing a Toolkit for Canadian lawyers.
One of the most practical features of the Group’s work is Schedule P, the warranties and remedies to protect human rights in the supply chain. The Working Group’s Report provides guidance on how to use the clauses as well as potential limitations. It’s a long read but I recommend that you look at the report and consider whether the model clauses and Schedule P, an appendix to supplier agreements, will help in the fight to combat human trafficking and forced labor.
Tuesday, April 17, 2018
LLCs Are Not Corporations & You Can't Have A Parent-Subsidiary Relationship When There is Only One Entity
Oh boy. A 2010 case just came through on my "limited liability corporation" WESTLAW alert (that I get every day). This one is a mess. Recall that LLCs are limited liability companies, which are a separate entity from partnership and corporations, despite often having some similar characteristics to each of those.
CBOE, along with the six other exchanges, has an interest in OPRA but OPRA was not incorporated as a separate legal entity until January 1, 2010, when it incorporated as a limited liability corporation. Id. (describing the restructuring of OPRA following its incorporation). At the time this lawsuit was filed, however, there remains a question as to whether there were any formalities in place to separate OPRA from CBOE operations. In short, the parties dispute whether, at the time the suit was filed, OPRA operated independently or was operated jointly with CBOE.
*2 To this end, Realtime asserts that the lack of any corporate governance at OPRA [an LLC], such as Articles of Association or a partnership agreement, renders OPRA “simply a label with no formal business structure.” RESPONSE at 2, 4 (citing SEC RELEASE at 2) (“OPRA was not organized as an association pursuant to Articles of Association or as any other form of organization. Instead, OPRA simply served as the name used to describe a committee of registered national securities exchanges.”).
CBOE fails to identify grounds for institutional independence from OPRA at the time this suit was filed, and Realtime presents sufficient evidence to impute OPRA's contacts [for obtaining personal jurisdiction] to CBOE.
*5 In applying the Texas long arm statute, courts in this Circuit have followed the rule established by the Supreme Court in 1925 that “so long as a parent and subsidiary maintain separate and distinct corporate entities, the presence of one in a forum state may not be attributed to the other.” Hargrave v. Fibreboard Corp., 710 F.2d 1154, 1159 (5th Cir. 1983) (citing Cannon Manufacturing Co. v. Cudahy Packing Co., 267 U.S. 333 (1925)). In this case, however, at the time the lawsuit was filed there were no clear legal boundaries to affirmatively identify a parent-subsidiary or sister-sister corporate relationship. . . . It is undisputed that prior to January 1, 2010, OPRA did not seek the protections of incorporation, RESPONSE, EXH. 13, OPRA LLC AGREEMENT (Doc. No. 238-14), and based on the current record, Realtime has put on more than a minimal showing that OPRA was under the managerial and day-to-day control of CBOE. See, e.g., Oncology Therapeutics Network v. Virginia Hematology Oncology PLLC, No. C 05-3033-WDB, 2006 WL 334532 (Feb. 10, 2006 N.D. Cal.) (noting, in the context assessing whether two related entities formed a single enterprise, that “At this juncture, plaintiff merely has to allege a colorable claim. Plaintiff does not have to prove the claim.”). Therefore, the strict separateness required under Cannon need not be applied here because OPRA did not seek protections to formally divide its dealings from that of its counterpart CBOE.
Instead, these facts make it appropriate to apply the single business enterprise doctrine. The single business enterprise doctrine applies when two or more business entities act as one. Nichols, 151 F. Supp.2d at 781–82 (citing Beneficial Personnel Serv. of Texas v. Rey, 927 S.W.2d 157, 165 (Tex. App.- El Paso 1996, pet. granted, judgm't vacated w.r.m., 938 S.W.2d 717 (Tex. 1997)). Under the doctrine, when corporations are not operated as separate entities, but integrate their resources to achieve a common business purpose, “each corporation may be held liable for debts incurred during the pursuit of the common business purpose.”Western Oil & Gas J.V., Inc., v. Griffiths, No. 300-cv-2770N, 2002 WL 32319043, at *5 (N.D. Tex. Oct. 28, 2002) (internal citations omitted). Being a part of a single business enterprise imposes partnership-style liability. Id. The facts presented here demonstrate that OPRA and CBOE operate as a single business entity, at least for the threshold inquiry of establishing jurisdiction.
Traditionally, courts have applied this doctrine when two corporations are acting as one. However, despite OPRA not having a defined corporate status at the time this suit was filed, there is demonstrable proof that CBOE was controlling OPRA's “business operations and affairs,” permitting the two entities to be fused for jurisdictional purposes.
include: (1) the agent having the power to act on behalf of the principal with respect to third parties; (2) the agent doing something at the behest of the principal and for his benefit; and (3) the principal having the right to control the conduct of the agent).
Fasciana v. Elec. Data Sys. Corp., 829 A.2d 160, 169 n.130 (Del. Ch. 2003) (citing J.E. Rhoads & Sons, Inc. v. Ammeraal, Inc., 1988 WL 32012, at *4 (Del. Super. Mar. 30, 1988)).
Friday, April 13, 2018
Greetings from the ABA Business Law Meeting in sunny Orlando, Florida. Today, I attended an excellent program on Protecting Human Rights in Supply Chains; Moving from Policy to Action. I plan to blog more about the meeting next week, highlighting the work surrounding draft human rights clauses for supplier contracts. The project was spearheaded by David Snyder of American University and corporate lawyer Susan Maslow. In this post, I want to address one of the topics Susan Maslow discussed-- the recent spate of lawsuits brought by consumers who allege unfair trade practices based on what companies say (or don’t say) about their human rights records.
I’ve blogged (incessantly for the past five years) and written longer articles about the various ESG disclosure regimes. I’ve argued that in theory, disclosure is a good thing. But without meaningful financial penalties from regulators for violations, many corporations won’t do anything more than the bare minimum for human rights, even with the threat of (often short-lived) consumer boycotts. Further, most consumers suffer from disclosure overload or don’t understand or remember what they read.
The disclosure issue has now reached the courts. In 2015, a law firm filed cases in California under unfair competition and false advertising laws against the Hershey Company, Mars, and Nestle. The firm likely chose those causes of action because there’s no private right of action under the California Transparency in Supply Chain Act. The suits claimed, among other things that:
- in violation of California law, Hershey’s, Mars and Nestle failed to disclose that their suppliers in the Ivory Coast relied on child laborers and profitted from the child labor that supplies the chocolate sold to American consumers,
- the children subjected to the forced labor are victims of hazardous work involving dangerous tools, transport of heavy loads and exposure to toxic substances, and,
- “sometimes extremely poor people sell their own children into slavery for as little as $30. Children that are sometimes not even 10 years old carry huge sacks that are so big that they cause them serious physical harm. Much of the world’s chocolate is quite literally brought to us by the back-breaking labor of child slaves.”
Plaintiffs lost those cases because the court found that these companies had no legal duty to disclose on their labels that African child slaves might have been involved in manufacturing their cocoa. Had the plaintiffs won, I imagine that the First Amendment argument that prevailed in the Dodd-Frank conflicts minerals litigation would have played a prominent role in the appeal.
Fast forward a few years and the same law firm has now filed a similar class action lawsuit against Hershey in Massachusetts. This claim alleges unjust enrichment in violation of the state’s consumer protection law. According to plaintiffs, “much of the world’s chocolate is quite literally brought to us by the back-breaking labor of children, in many cases under conditions of slavery.” Moreover, they claim, “Hershey’s material omissions and failure to disclose at the point of sale [are] all the more appalling considering that Hershey’s Corporate Social Responsibility Report state[s] that ‘Hershey has zero tolerance for the worst forms of child labor in its supply chain.’ But Hershey does not live up to its own ideals.”
Hershey, like many companies, produces a CSR report showcasing its efforts and progress in accordance with the Global Reporting initiative, the gold standard for CSR. Companies like Hershey also report on their CSR initiatives in good faith with the knowledge that their statements are generally not legally binding, at least not in the United States. I’ll be following this case closely. If the court grants class certification, this could have a chilling effect on what companies say in their CSR reports, and that would be a shame.
Tuesday, April 10, 2018
Last week, the Neel Corporate Governance Center at UT Knoxville hosted one of UT Knoxville's alums, Ron Ford, as a featured speaker. He gave a great talk on boards of directors, from his unique vantage point--that of a CFO. In the course of his remarks, he mentioned a public company corporate gpvernance policy that I had not earlier heard of: a CEO limit or prohibition on outside board service (other than local, small nonprofit board service). A 2017 study found that:
Only 22% of S&P 500 boards set a specific limit in their corporate governance guidelines on the CEO’s outside board service; 65% of those boards limit CEOs to two outside boards, and 32% set the limit at one outside board. One board does not allow the company CEO to serve on any outside corporate boards, and two boards allow their CEO to serve on three outside corporate boards.
This may be why I had not heard about governance policies limiting board service; it seems these policies may be relatively uncommon. I know from experience that CEOs do serve on outside boards and often consider that service an important way to learn valuable things that can be implemented at the firm that enjoys them.
What is the ostensible purpose of a policy restricting the outside board service of a firm's CEO? Perhaps it is obvious. It seems that most firms imposing this kind of restriction on CEOs desire to prevent the CEO from spending significant time on his or her service as a board member of another firm to the detriment of the firm by which he or she is employed as chief executive. An online article succinctly captures the capacity for distraction.
. . . CEOs must weigh . . . the potential disadvantage of having to navigate a crisis. David Larcker, a professor at Stanford Law School and senior faculty at the university’s corporate governance center, says that while most CEOs would say that serving on an outside board is highly valuable, everything changes if either company comes up against a big challenge.
“Where it gets really complicated for a sitting CEO is if something happens,” Larcker says. “You’re a takeover target. You have a big restatement. You’re replacing a CEO. That’s harder to predict and takes up a lot of time.”
Are there CEOs who have experienced this kind of distraction? Yes. A Forbes contributor offers a well-known example in an article entitled "All Operating Executives Should Never Serve On Any Outside Boards":
A good poster child of outside board distractions was Meg Whitman in her final 2 years at the helm of eBay (EBAY). During this time, she joined the boards of Proctor & Gamble and DreamWorks Animation. EBay flew Meg around to Cincinnati and LA board meetings on their private jet. EBay's stock sank. Meg bought Skype. It didn't help.
The same article also calls out two Yahoo! CEOs as further examples. And there are others. See also, e.g., here.
Friday, April 6, 2018
Within the next few weeks, the Supreme Court will decide a trio of cases about class action waivers, which I wrote about here. The Court will decide whether these waivers in mandatory arbitration agreements violate the National Labor Relations Act (which also applies in the nonunion context) or are permissible under the Federal Arbitration Act.
I wonder if the Supreme Court clerks helping to draft the Court's opinion(s) are reading today's report by the Economic Policy Institute about the growing use of mandatory arbitration. The author of the report reviewed survey responses from 627 private sector employers with 50 employees or more. The report explained that over fifty-six percent of private sector, nonunion employees or sixty million Americans must go to arbitration to address their workplace rights. Sixty-five percent of employers with more than one thousand employees use arbitration provisions. One-third of employers that require mandatory arbitration include the kind of class action waivers that the Court is looking at now. Significantly, women, low-wage workers, and African-Americans are more likely to work for employers that require arbitration. Businesses in Texas, North Carolina, and California (a pro-worker state) are especially fond of the provisions. In most of the highly populated states, over forty percent of the employers have mandatory arbitration policies.
Employers overwhelmingly win in arbitration, and the report proves that the proliferation of these provisions has significantly reduced the number of employment law claims filed. According to the author:
The number of claims being filed in employment arbitration has increased in recent years. In an earlier study, Colvin and Gough (2015) found an average of 940 mandatory employment arbitration cases per year being filed between 2003 and 2013 with the American Arbitration Association (AAA), the nation’s largest employment arbitration service provider. By 2016, the annual number of employment arbitration case filings with the AAA had increased to 2,879 (Estlund 2018). Other research indicates that about 50 percent of mandatory employment arbitration cases are administered by the AAA (Stone and Colvin 2015). This means that there are still only about 5,758 mandatory employment arbitration cases filed per year nationally. Given the finding that 60.1 million American workers are now subject to these procedures, this means that only 1 in 10,400 employees subject to these procedures actually files a claim under them each year. Professor Cynthia Estlund of New York University Law School has compared these claim filing rates to employment case filing rates in the federal and state courts. She estimates that if employees covered by mandatory arbitration were filing claims at the same rate as in court, there would be between 206,000 and 468,000 claims filed annually, i.e., 35 to 80 times the rate we currently observe (Estlund 2018). These findings indicate that employers adopting mandatory employment arbitration have been successful in coming up with a mechanism that effectively reduces their chance of being subject to any liability for employment law violations to very low levels.
This data makes the Court's upcoming ruling even more critical for American workers- many of whom remain unaware that they are even subject to these provisions.
Tuesday, April 3, 2018
Keith Paul Bishop, at the California Corporate and Securities Blog, provides an example of a court that actually pays attention to entity type. As he says, "it is nice to see that some judges do recognize that LLCs are not corporations." It sure is. In the case he cites, D.R. Mason Constr. Co. v. GBOD, LLC, 2018 U.S. Dist. LEXIS 41236, the court gets a lot right:
[A]lthough Plaintiff's Complaint does separately mention the term "shareholder," [*13] the Court will not draw the inference that this term means Plaintiff was promised traditional "stock." This inference would not be reasonable in these circumstances because Plaintiff alleges in its Complaint that Defendant GBOD is a limited liability company, not a corporation. (Compl. ¶ 3.) Under California law, LLCs distribute "membership interests," not shares of stock. See Cal. Corp. Code § 17704.07. Consequently, Plaintiff's pleading indicates the financial instrument at issue is not traditional stock. Moreover, courts tasked with deciding whether LLC membership interests constitute a security under the Exchange Act generally evaluate whether such interests are "investment contracts," not "stocks."
It is nice to see a court that acknowledges the different entity types and frustrating that this is not the norm. As Bishop explains:
Obviously, this case does not stand for the proposition that a membership interest never meets the definition of a "security" under the Exchange Act. Nor does the case deal with the issue of whether a membership interest constitutes a security under state law. It does demonstrate that some courts recognize the fact that LLCs are not corporations.
So, I sincerely hope people don't read to much into this. But I will acknowledge that some courts are getting it right. And thank Bishop for helping further the cause.
Friday, March 30, 2018
Corporate Boycotts, A Change of Heart from CEOs, and H & M's Diversity Initiative- A Roundup of The Week's News Stories
Within the past 24 hours, I've seen at least three news article that led me to reflect on my past blog posts. Rather than write a full post on each article, I've decided to note some observations.
The Tweet That Launched A Boycott (And Maybe a Buycott)
I've been skeptical in the past about whether boycotts work. Perhaps times are changing. This week, Parkland shooting survivor David Hogg tweeted that advertisers on Laura Ingraham's cable show should pull out after she tweeted, "David Hogg Rejected By Four Colleges To Which He Applied and whines about it. (Dinged by UCLA with a 4.1 GPA...totally predictable given acceptance rates.) https://www.dailywire.com/news/28770/gun-rights-provocateur-david-hogg-rejected-four-joseph-curl …" On March 28th, the 17-year old activist responded with "Soooo
@IngrahamAngle what are your biggest advertisers ... Asking for a friend. #BoycottIngramAdverts." He then provided a list of her top twelve sponsors.
As of 8:00 p.m. tonight, the following companies dumped the Fox show, eleven after the talk show host had apologized, stating “On reflection, in the spirit of Holy Week, I apologize for any upset or hurt my tweet caused him or any of the brave victims of Parkland... For the record, I believe my show was the first to feature David immediately after that horrific shooting and even noted how ‘poised’ he was given the tragedy ... As always, he’s welcome to return to the show anytime for a productive discussion.”
The companies that have pulled their advertising include Nutrish, Office Depot, Jenny Craig, Hulu, TripAdvisor, Expedia, Wayfair, Stitch Fix, Nestlé, Johnson & Johnson, Jos A Bank, Miracle Ear, Liberty Mutual and Principal. But will they ever return to the show after the attention moves to something else? Will the sponsors face a "buycott," where Ingraham's fans boycott the boycotters or increase their support of the advertisers that Hogg specifically named but have chosen to stay with Ingraham? Time will tell.
Silicon Valley CEOs Warm to President Trump
Last year, I posted about various CEOs choosing to distance themselves from President Trump by resigning from advisory councils because they disagreed with his actions or positions on everything from immigration to his reaction to the events in Charlottesville. Today, the New York Times reported that some of the same CEOs that bemoaned Trump's election and/or publicly condemned him have now had a change of heart. Apparently, they have more common ground than they thought on areas of tax reform, infrastructure, and looser regulation. I look forward to seeing whether any of these companies or CEOs refrain from criticizing him in the future or, more tellingly, whether they choose to use PAC money or personal funds to support his re-election.
H & M Asks One of Its Lawyers To Lead Diversity Initiative
H & M has lots of problems from underperforming designs (billions in unsold clothes) to continued fallout from its "coolest monkey in the jungle" hoodie. As you may recall, in January, a number of consumers, public figures, and other called for a boycott of the company after a young black boy advertised a green hoodie with the word "monkey." H & M even had to close its store in South Africa. The fast fashion company has now turned to one of its in-house lawyers to lead a 4-person team to focus on diversity and inclusiveness. The lawyer will report directly to the CEO in Stockholm. Notably, the board is all white. Should the board diversify as well? It's hard to say. While I support diversity in the executive ranks and the boardroom, there is no evidence that the monkey hoodie led to the 62% drop in operating profit in Q1. Instead, experts note that consumers just didn't like the selections, even at steep discounts. Further, the average H & M customer probably has no idea about this new diversity initiative and even if the customer knew, it'sdoubtful that would change buying habits. Even so, I applaud H & M for taking concrete steps. The company already produces a compelling Sustainability Report. I look forward to seeing if the company can return to profitabiity while keeping its commitment to diversity.