Friday, January 12, 2007

Opportunism or Justice?

There are three Starbucks just about equidistant from Porter Square in Cambridge, and my real estate agent went to the first two before finally finding me at the third this morning.  And that gave me time to mull about two articles I had just read in the New York Times business section, not apparently related, but which started me thinking about the relationship of law, opportunism, and justice.

Bear with me a moment here to set the stage.  The first article was a retrospective on the most Nardellirecent executive pay flap:  Robert Nardelli's (right) severance pay.  The particular angle here was the employment contract, or as Patrick McGurn of Institutional Shareholder Services, referred to it, "the smoking gun."  (I am being facetious, so I should provide the whole quote.  "'Time and time again, the smoking gun of any major compensation problem is in the form of a contract that was executed at an earlier date,' said Patrick McGurn of Institutional Shareholder Services, a proxy advisory firm.  'It was at the heart of Home Depot.  People never imagine when they ink these contracts that it could go wrong.'"  Well, notwithstanding the Disney case, a group of shareholders down in Georgia are seeking to enjoin The Home Depot from paying Nardelli the severance.  DISCLAIMER:  I only have second hand accounts of that case.)

The second article, seemingly unrelated, was about the punitive damages verdict in the Hurricane Katrina-related insurance coverage case in the U.S. District Court in Biloxi, Mississippi.  There, the Katrina plaintiffs' home had been knocked off its foundation and torn apart by high winds, which itself would have been a covered loss under the State Farm policy.  But then the storm surge from the Gulf scattered the debris.  State Farm argued that this meant the house was destroyed by a flood, and nullified the wind damage coverage.  The judge agreed that the policy did not cover flood damage, but held it was State Farm's burden to prove how much was wind-caused, and how much was water-caused.

For how I see these cases as raising similar issues, go below the fold.

The standard explanation for the institution of contract law in the law and economics literature is the efficiency created by contract.  If I own a widget that I value at $100 and you value at $200, it increases social welfare if I transfer it to you.  There is $100 of consumer surplus sitting there untapped.  (Welfare economics doesn't care about the price at which I sell to you - that is just a question of the allocation of the consumer surplus between you and me.)   But if you and I sign a contract to sell the widget at $150, and Joe comes along and offers to pay me $200, and I tell you to buzz off, I'm selling to Joe, you might be less inclined to enter into transactions by which we unlock consumer surplus (note this is an instance of rule-utilitarianism rather than act-utilitarianism, because as long as Joe also values the widget at $200 we are no better or worse off in the single instance).  The term for "buzz off, I'm selling to Joe" is opportunism.

The concept of opportunism makes perfect sense when we are talking about the performance or non-performance of simple contracts for standard or fungible commodities (the first year contracts problems involving the sale of wheat), but is quickly subsumed in many real life cases by issues of interpretation.  When the case turns on interpretation, and each side has an argument, the other side is opportunistic, and we are merely seeking justice.

In these two cases, who is opportunistic and who is seeking justice?  The Delaware Supreme Court in Disney finally had to absolve Sanford Litvack of liability to the shareholders for declining to be an opportunist (he and Michael Eisner concluded there was no basis on which Disney could contest Michael Ovitz's severance package).  But if you are an outraged shareholder, is filing an ex post lawsuit, and cobbling up an argument why Ovitz or Nardelli shouldn't get paid, an exercise in opportunism or the pursuit of justice?  When State Farm tries to get out of paying Katrina claims by contending that it was the flood that did it, and it never insured against flood damage, is it an opportunist?  Are the plaintiffs and their lawyers seeking justice?  Or are the defendants in both cases entitled to look upon them as mere opportunists?

I went back to Larry Solum's Legal Theory Lexicon from this past weekend (January 7, 2007), and conclude from that brief synopsis this is a hard question.  Distributive justice?  Corrective justice?  Procedural justice?  Political justice?  Both cases seem to me to invoke notions of distributive justice that are well-removed from the positive law.  In the executive pay case, even McGurn seems to be acknowledging that a contract is a contract once it's signed; the "smoking gun" was ever entering into it in the first place.  If paying Nardelli so much so shocks the conscience, why stop at the niceties of fiduciary obligation to halt it or ameliorate the effect of paying it?  So what if there is a contract?  Why not hold that it offends our notions of distributive justice?   Is it respect for the amoral but positive law that stops us? 

Maybe there's something to be learned from the State Farm case.  The judge held that the policy clearly didn't cover flood damage, but placed the burden on State Farm to show that the loss was caused by the water and the wind (that's effectively finding for the plaintiffs because the burden will be everything here, as there is nothing left of the scraps of the destroyed house).  If you are making a claim, isn't it ordinarily your burden to show not only the contractual duty of the defendant, but also that the breach of that duty caused the loss?  It seems to me this reflects some kind of political or distributive justice (i.e. a political decision about who should bear the loss) rather than an attempt to determine which of the parties is being opportunistic.

I sense far more hesitation in seizing Nardelli's contract expectation than in seizing State Farm's.  But I can't quite figure out why that would be.

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