Monday, July 8, 2019
Federico Panisi, Ross P. Buckley and Douglas W. Arner have posted Blockchain and Public Companies: A Revolution in Share Ownership Transparency, Proxy-Voting and Corporate Governance? on SSRN with the following abstract:
Under the traditional paradigm, the shareholder was the one in whose name company shares were registered. However, for public companies in the US, this system became highly inefficient by the 1960s due to high numbers of transactions. As a result, shares began to be “immobilized” at central securities depositories (“CSD”s) and held through the Indirect Holding System (“IHS”), with share transactions settled through “book entries,” first in the US and then in other major markets. Although market liquidity benefited, the system broke the direct relationship between companies and shareholders, introducing also a discrepancy between “recorded shareholders” and “beneficial shareholders.” Communication solutions were developed to bridge this discrepancy and allow “beneficial shareholders” to cast their votes through proxies. However, they currently rely on highly intermediated “pass-it-along” architectures, which cause several inefficiencies, the costs of which are borne by the shareholders themselves and raise questions in the context of collateralization. By increasing share “ownership transparency,” blockchain has the capacity to streamline the entire share ownership architecture. Indeed, blockchain could enable the tracking of share ownership through the complete settlement cycle, enhancing the “shareholder democracy” of listed companies, and benefiting their corporate governance and the market in their shares. However, blockchain also brings risks, including those related to greater ownership transparency. Consequently, a management system for the digital identity of share transactions is necessary to foster the benefits of such blockchain-based voting architectures, while reducing the risks.
Friday, July 5, 2019
Jeff Schwartz has posted De Facto Shareholder Primacy on SSRN with the following abstract:
For generations, scholars have debated the purpose of corporations. Should they maximize shareholder value or balance shareholder interests against the corporation’s broader social and economic impact? A longstanding and fundamental premise of this debate is that, ultimately, it is up to corporations to decide. But this understanding is obsolete. Securities law robs corporations of this choice. Once corporations go public, the securities laws effectively require that they maximize share price at the expense of all other goals. This Article is the first to identify the profound impact that the securities laws have on the purpose of public firms — a phenomenon that it calls “de facto shareholder primacy.”
The Article makes three primary contributions to the literature. First, it provides a rich and layered account of de facto shareholder primacy. The phenomenon is not the result of considered legislation and regulatory decision. Rather, hedge-fund activists leverage the transparency that the securities laws afford to identify, and force companies to adopt, strategies that increase share prices. Their activities cast a shadow over the public market. Because firms must maximize share prices or face costly, disruptive, and protracted battles with activist hedge funds, they preemptively focus solely on stock values. The activists’ novel and opportunistic use of the securities laws has transformed the regulatory apparatus into a powerful lever of shareholder primacy. Second, this Article shows how this distortion of the regulations causes harm. The activities of activists bring the laws into conflict with principles of federalism and private ordering, which hurts entrepreneurs, investors, and equity markets. Finally, to address these concerns, the Article recommends a small change to the securities laws that would end hedge-fund activism and thereby disentangle the securities laws from corporate purpose.
James J. Park has posted Do The Securities Laws Promote Short-Termism? on SSRN with the following abstract:
Since 1970, the Securities & Exchange Commission (SEC) has required public companies to file disclosures reporting their quarterly financial performance. This mandatory quarterly reporting system has recently been criticized as incentivizing corporations to deliver short-term results rather than developing sustainable, long-term strategies. This Article examines the origins of quarterly reporting to assess whether the SEC should reduce the frequency of periodic reports. It concludes that much of the pressure on public companies to deliver short-term results came as the market increasingly focused on projections issued by research analysts. This finding suggests that rather than reducing periodic disclosure, increasing company disclosure relating to projections would be a more effective reform. The issue of quarterly reporting highlights the contrast between securities and corporate law. The tendency of securities law to favor transacting investors only has a modest impact on public companies because corporate law gives managers discretion to balance short-term and long-term interests. Strong securities law can be checked by weak corporate law.
Wulf A. Kaal and Samuel Evans have posted Blockchain-Based Securities Offerings on SSRN with the following abstract:
Blockchain technology has the potential to supplement the existing infrastructure for securities offerings. After examining the shortcomings of historical attempts, the article analyses the redeeming features of blockchain-based securities offerings including lower overall cost structure, substantially reduced settlement cycle, counter-party risk and systemic risk reduction, enhanced transparency, among others. The authors examine the tradeoffs between opportunities and risks of blockchain-based securities offerings.
David H. Solomon and Eugene F. Soltes have posted Is 'Not Guilty' the Same as 'Innocent'? Evidence from SEC Financial Fraud Investigations on SSRN with the following abstract:
The Securities and Exchange Commission (SEC) routinely investigates firms for financial fraud, but investors only learn about regulators’ concerns if managers voluntarily disclose news of the investigation, or regulators sanction the firm. We investigate the effects of disclosing investigations using confidential records on all opened investigations, regardless of outcome. Markets exhibit some ability to identify which investigations will eventually lead to sanctions. Nonetheless, even when no charges are ultimately brought, firms that voluntarily disclose an investigation have significant negative returns, underperforming non-sanctioned firms that stayed silent by 12.7% for a year after the investigation begins. Consistent with limited investor attention, disclosing in a more prominent manner is associated with worse returns. CEOs who disclose an investigation are also 14% more likely to experience turnover. Our results are consistent with transparency about bad news being punished, rather than rewarded, by financial and labor markets.
Wednesday, July 3, 2019
Bernard S. Sharfman has posted Enhancing the Value of Shareholder Voting Recommendations on SSRN with the following abstract:
This writing addresses a fundamental issue in corporate governance. If institutional investors such as investment advisers to mutual funds have a fiduciary duty to vote the shares of stock that they owned on behalf of their investors, then how do we practically achieve informing them on how to vote their proxies without requiring each institutional investor to read massive amounts of information on the hundreds or thousands of companies they have invested in for the thousands, tens of thousands, or even hundreds of thousands of votes they are confronted with each year?
A critical step in resolving this issue is maximizing the ability of institutional investors to avail themselves of voting recommendations that are made on an informed basis and with the expectation that they will lead to shareholder wealth maximization. One way to achieve this maximization is to make sure that the voting recommendations provided by proxy advisors are truly informed ones. This leads to the recommendation that the proxy advisor should be held to the standard of an information trader. Another way is for the SEC to recognize the value of board recommendations and explicitly state that their use will allow investment advisers to meet their fiduciary duties when voting their proxies.
Eric C. Chaffee has posted The Heavy Burden of Thin Regulation: Lessons Learned from the SEC’s Regulation of Cryptocurrencies on SSRN with the following abstract:
The Trump administration has taken a strong stance against regulation. This includes not only ratcheting down the level of regulation and enforcement in general, but it also entails a strong dislike of the absolute number of regulations in existence. For example, within two weeks of taking office, President Trump issued his Executive Order on Reducing Regulation and Controlling Regulatory Costs, which provides in part: “Unless prohibited by law, whenever an executive department or agency... publicly proposes for notice and comment or otherwise promulgates a new regulation, it shall identify at least two existing regulations to be repealed.” In a certain regard, this policy of reducing the absolute number of regulations is laudable. The administrative state and the regulation associated with it have expanded massively since the first half of last century. A reduced volume of regulation means that lawyers and society at large can be better versed in their legal obligations and potentially be less encumbered in their activities. With that said, “thin regulation,” as it will be termed, does have its downsides, including potential gaps in regulation, improper regulatory coverage, due process issues relating to notice, legitimacy concerns, and increased risk of market collapse relating to the regulated subject matter.
To understand the problems with thin regulation, the best place to begin is with an emerging issue and to explore how President Trump’s policy of thin regulation interfaces with it. To that end, the recent advent of cryptocurrencies offers an excellent case study of the dangers of thin regulation. Although the United States Securities and Exchange Commission (SEC) has undertaken efforts to act in this area, the gaps that exist illustrate the problems with thin regulation. Essentially, the SEC has tried to force cryptocurrencies into an existing regulatory structure that does not sufficiently mitigate the dangers that cryptocurrencies create. This essay explores the problems created by the lack of cohesive regulation in this area and demonstrates that the value of a thin regulatory approach is outweighed by the value of a well-reasoned, narrowly tailored approach — which I will term “bespoke regulation.”
Scott Hirst and Kobi Kastiel have posted Corporate Governance by Index Exclusion on SSRN with the following abstract:
Investors have long been unhappy with certain governance arrangements adopted by companies undertaking initial public offerings, such as dual-class voting structures. Traditional sources of corporate governance rules—the Securities and Exchange Commission, state law, and exchange listing rules—do not constrain these arrangements. As a result, investors have turned to a new source of governance rules: index providers.
This Article provides a comprehensive analysis of index exclusion rules and their likely effects on insiders’ decision-making. We show that efforts to portray index providers as the new sheriffs of the U.S. capital markets are overstated. Index providers face complex and conflicting interests, which make them reluctant regulators, at best. We put forward an analysis of insider incentives in light of index exclusions and apply it to one of the most important applications of index exclusion rules to date, the recent decision by index providers to exclude from their indexes certain companies with dual-class share structures. We conclude that the efficacy of index exclusions in preventing disfavored arrangements such as dual-class structures is likely to be limited, but not zero.
Index exclusions are a corporate governance experiment, one that has important lessons. We examine these lessons, and the way forward for corporate governance. These lessons are all the more important because of the central place of index funds, and therefore index providers, in our capital markets.
Benjamin Nickerson has posted The Underlying Underwriter: An Analysis of the Spotify Direct Listing on SSRN with the following abstract:
In April 2018, music streaming giant Spotify disrupted the traditional initial public offering model and became a publicly traded company through a novel process known as a direct listing. Eschewing standard Wall Street practice, Spotify did not raise new money through the offering and instead simply made its existing shares available for purchase by the public. Spotify worked throughout 2017 and 2018 alongside legal counsel and investment banks and in communication with the Securities and Exchange Commission to facilitate the unorthodox approach. Major technology companies are now adopting a similar approach.
In recognition of these developments, this Comment has two aims: to shed light on the statutory contours of a direct listing and to contribute to the legal understanding of underwriter liability. As this financial innovation unfolds, an important question remains: Who is liable as an “underwriter” in a direct listing for purposes of liability under Section 11 of the Securities Act? This Comment argues that the investment banks Spotify retained as financial advisors qualify as statutory underwriters notwithstanding language in the registration statement to the contrary. By walking through the precise statutory elements of a direct listing and by calling attention to latent liabilities in the process, this Comment seeks to set forth a path for future technology unicorns to follow the Spotify playlist.
Matthew D. Cain, Jill E. Fisch, Steven Davidoff Solomon and Randall S. Thomas have posted Mootness Fees on SSRN with the following abstract:
We examine the latest development in merger litigation: the mootness fee. Utilizing a hand-collected sample of 2,320 unique deals from 2003-2018, we find that Delaware’s crackdown on merger litigation substantially altered the merger litigation landscape. Although merger litigation rates remain high, and in 2018 83% of deals experienced litigation, plaintiffs’ lawyers have fled Delaware. In 2018 only 5% of completed deals experienced merger litigation in Delaware compared to 50%-60% in prior years. These cases have migrated to federal court where in 2018 92% of deals with litigation experienced a filing. We find that at least 65% of these federal filings resulted in voluntary dismissal of the case after a supplemental disclosure coupled with the payment of a mootness fee to plaintiffs’ attorneys.
These mootness dismissals, in most cases, occur without an adversarial process, meaningful judicial oversight or an evaluation of whether the complaint even states a colorable claim. Many of these supplemental disclosures provide little or no value to plaintiff shareholders. We argue that these payments are a form of blackmail antithetical to the spirit and principles of civil procedure and that they perpetuate litigation that imposes substantial costs on the judicial system and public companies.
The article proposes that courts address these concerns by requiring transparency of mootness fees and overseeing the circumstances in which such fees are paid. We argue that the Federal Rules of Civil Procedure should be amended to require disclosure and judicial approval of the payment of a mootness fee when a proposed class action is voluntarily dismissed. We further argue that courts should only approve the payment of such a fee when the supplemental disclosures that moot the litigation are “clearly material.”