ProfessorBainbridge.com

Should we reward long-term stockholders better than short-termers?

Schumpeter looks at some options for "sustainable" capitalism, including ways of rewarding investors for being long-term holders.

What are the most over studied problems in corporate law?

Dave Hoffman recently posted on the question of whether corporate veil piercing is really the most frequently litigated issue in corporate law, to which I responded (civilly, mind you) by posing a question of my own. In response, Hoffman wrote:

I suppose I care, mildly, because it might be that attention better spent on other issues in corporate law, like someone's ... nontraditional ... theories of director primacy, has instead been diverted to veil piercing on the theory that piercing is more practically important than it is.  And because if if you search the web, you'll find dozens of companies puffing this exact claim to sell you their incorporation products and advice.  Or it might be that the question is worth asking simply for love of the game.

The love of the game answer is, of course, unresponsive because the same answer would justify paying attention to veil piercing.

Hoffman's other point, however, is both responsive and quite interesting. In effect, he's asking what corporate law topics get more attention from legal scholars then their real world importance merits and which topics get too little attention given their real world importance. And that's a question worth thinking about, because it implies that we corporate law scholars are collectively falling down on the job. Put another way, we're exhibiting classic herding behavior by collectively beating a few horses to death.

So what would go on my list of topics to which we devote too much attention? Please note, that I'm not necessarily saying these are unimportant topics. I'm just saying they get more attention than necessary. So here are some candidates, in no particular order. 

• Whether the corporation is a nexus of contracts
• Corporate philanthropy
• Corporate social responsibility
• Predicting what Rawls or Dworkin would say about anything remotely related to corporate law
• The Perlman v. Feldman suite of issues
• The utility of rational actor models in the law and economics of corporate governance
• Anything having to do with the Constitution and corporations
• Insider trading? (Very important, of course, but written to death)
• Executive compensation (ditto)
• Agency costs (ditto)
• Corporate takeovers (ditto, at least back in the day)
• The race to the bottom
• Fiduciary duty of directors in the vicinity of insolvency
• A federal law of corporations
• Corporate personhood

Mea culpa.

I'm opening comments on this post, for on topic non-anonymous suggestions only.

What's the most frequently litigated issue in corporate law?

A better question might be "who gives a sh*t?" but apparently someone does.

Coordinated plaintiffs' bar attack on Delaware exclusive jurisdiction provisions

Broc Romanek reports:

Here's news from Steven Haas of Hunton & Williams ...: In recent days, shareholders have filed several class action complaints in Delaware .... The litigation will require Delaware courts to review a bylaw that would increase Delaware's market share of corporate litigation. A ruling upholding these bylaws would likely cause numerous other corporations to adopt them. 

An exclusive forum provision typically provides as follows:

Unless the Corporation consents in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware shall be the sole and exclusive forum for (i) any derivative action or proceeding brought on behalf of the Corporation, (ii) any action asserting a claim of breach of a fiduciary duty owed by any director, officer or other employee of the Corporation to the Corporation or the Corporation's stockholders, (iii) any action asserting a claim arising pursuant to any provision of the Delaware General Corporation Law, or (iv) any action asserting a claim governed by the internal affairs doctrine. Any person or entity purchasing or otherwise acquiring any interest in shares of capital stock of the Corporation shall be deemed to have notice of and consented to the provisions of this Article __.

These provisions gained traction, particularly for IPO companies, ever since Vice Chancellor Laster suggested in a 2010 opinion that they would be enforceable (see In re Revlon S'holders Litig., 990 A.2d 940 (Del. Ch. 2010)). Claudia Allen of Neal Gerber recently updated her study detailing that, as of December 31st, 195 Delaware corporations have adopted or proposed exclusive forum charter or bylaw provisions. Although a California court refused to enforce Oracle's exclusive forum bylaw last year, this is the first time the issue has been squarely presented to the Delaware courts. Steven Davidoff (aka The Deal Professor) previously offered his thoughts on the issue.

Friend of PB.com Francis Pileggi also reports on the issue, explaining that:

These new suits challenge bylaws in several companies that require shareholder suits to be filed exclusively in the Delaware Court of Chancery.  If suits are filed elsewhere, the company threatens to sue those shareholders to recoup fees for breach of the bylaw provision. The challenge is based on the alleged violation of due process rights because there was no mutual consent by the shareholders. The suits were filed by the highly-regarded corporate litigator Michael Hanrahan of the Prickett Jones firm in Wilmington. Among the companies sued by shareholders challenging the exclusive forum bylaw provision, in separate lawsuits, are the following Delaware corporations: Navistar International Corp., AutoNation, Inc. Chevron Corp., SPX Corp., Superior Energy Services, Inc., Franklin Resources, Inc., Curtiss-Wright Corp., Danaher Corp., and Solutia Inc.

Thomson Reuter’s Alison Frankel wrote an excellent article about these cases that provides a very helpful overview and also has a link to the actual complaints.

He includes links to many additional analyses of the issues.

Personally, I think these provisions should be upheld. Contracts routinely include exclusive jurisdicton provisions and they are routinely enforced. The corporation's organic documents (i.e., the articles of incorporation and bylaws) represent a contract between the corporation and its shareholders. Hence, like any other contract, an exclusive jurisdiction provision in those documents should be enforced by the courts.

As I wrote the last time this issue was in the news:

Keeping these cases in Delaware courts [via exclusive jurisdiction provisions] strikes me as preferable [to allowing plaintiff to select any forum it wants]. Expert judges. No juries. No home state bias in favor of one side or the other, since usually both sides will have their principal place of business elsewhere. Promotes consistency of outcomes. Delaware courts more rigorous than most in policing plaintiff lawyers bringing suits not in the best interests of the corporation or its shareholders as a whole.

There's a direct analogy here to mandatory arbitration provisions of the sort Carlyle Group was going to include in its articles (until it spinelessly changed its mind). As I wrote about them:

See Charles Nathan's post on the analogous issue of the enforceability of exclusive jurisdiction provisions:

In a recent decision, In re Revlon, Inc. Shareholders Litig., newly-appointed Vice Chancellor Laster suggested a solution. In dicta, he endorsed a Delaware entity’s right to mandate in its governance documents a chosen forum for the resolution of state law-based shareholder class actions, derivative suits and other intra-corporate disputes. Vice Chancellor Laster stated that “if boards of directors and stockholders believe that a particular forum would provide an efficient and value-promoting locus for dispute resolution, then corporations are free to respond with charter provisions selecting an exclusive forum for intra-entity disputes.” Presumably, the Vice Chancellor had Delaware in mind.

Nathan goes on to discuss the legal issues at some length. In any case, assuming Laster wasn't simply trying to build up business for Delaware courts, there's no immediately obvious policy reason why the same result would not apply to mandatory arbitration provisions.

And vice-versa.

California bill proposes to require political contribution data, but only from for profit corporations

It's important to remember that the controversial Citizens United decision struck down certain federal campaign finance restrictions on not just for profit corporations, but also unions and non-profits. Yet, while evisverating Citizens United has become a major goal of the political left, you rarely see the politics on display so obviously as in California Senator Noreen Evans's proposed bill that would (per Keith Bishop):

... require corporations to issue a report on planned political spending as well as expenditures for the previous fiscal year.  The report must include the following:

•  A description of the political activities.
• The name of the person, candidate, committee, or political party, or a description of the political cause, to which each contribution or expenditure was made.
•  The aggregate amount of the contribution or contributions and expenditure or expenditures for each candidate, ballot measure campaign, signature-gathering effort on behalf of a ballot measure, political party, or political action committee.
• If a contribution or expenditure was made in support of or in opposition to a candidate, the office sought by the candidate and the political party affiliation of the candidate.
•  If a contribution or expenditure was made for or against a ballot measure, a description of the ballot measure and a statement as to whether the contribution or expenditure was made in support of or in opposition to the ballot measure.

Predictably, the Democratic Senator's bill fails to impose any comparable requirement on unions or non-profits. Hmmm. I wonder why?

Study of Delaware Forum Selection in Charters and Bylaws

Corporate law attorney and expert Claudia Allen has publisjed the 2012 version of her annual study of exclusive jurisdiction provisions. She tells me that:

The number of companies analyzed has grown from 82 in April 2011 to 195 as of December 31, 2011.  While exclusive forum provisions are attractive to corporate America (as evidenced by the 27 S&P 500 constituents with such a provision), opposition has begun to appear in the form of policies from ISS, Glass Lewis and the Council of Institutional Investors, and non-binding shareholder proposals seeking the repeal of exclusive forum bylaws.

Her firm website reports that:

In response to concerns that the plaintiffs' bar is suing Delaware corporations "anywhere but Delaware," an increasingly large number of Delaware corporations (including Chevron, DIRECTV, Life Technologies and 24 other members of the S&P 500) have adopted charter or bylaw provisions requiring that derivative actions, fiduciary duty claims and other intra-corporate disputes be litigated exclusively in the Delaware Court of Chancery. These concerns are particularly acute in connection with the announcement of M&A transactions. Claudia H. Allen, chair of the Corporate Governance Practice Group, has published a January 2012 update of her Study of Delaware Forum Selection in Charters and Bylaws. TheStudy, which is based upon exclusive forum provisions adopted or proposed by 195 Delaware corporations, includes: a Trend Update, Key Findings and Recommendations, Charts illustrating Key Findings and a List of Companies Analyzed. The Study also discusses the 2012 policies adopted by ISS and Glass Lewis on forum selection and the first non-binding shareholder proposals seeking repeal of board-adopted forum selection provisions.

This is a tremendously useful resource. Download the study here.

Yours truly quoted on Carlyle's IPO

Miles Weiss has a very thorough and careful article on Carlyle's planned IPO, which includes provisions limiting fiduciary duties of the controlling persons, mandating arbitration of investor claims, and so on. He quoted a number of prominent lawyers and law makers opposed to what Carlyle's doing, but he also quoted yours truly at some length:

The U.S. Supreme Court held in the late 1980s that brokerages could require arbitration of customer disputes. The justices have never ruled on whether public companies can extend the concept to shareholders, said Stephen Bainbridge, a corporate and securities law professor at the UCLA School of Law in Los Angeles. That could change should Carlyle meet opposition from the SEC and respond by suing the agency, Bainbridge said.

The high court would be “almost certain” to strike down SEC policy if Carlyle were to push the issue, Bainbridge said. “Carlyle is admittedly taking an extremely aggressive position, but it’s a position I believe is fully consistent” with U.S. and Delaware law, he said.

Carlyle’s structure as a limited partnership, rather than a corporation, is critical to the legality of its arbitration provision, Bainbridge said. That’s because Delaware, the state in which most companies are incorporated, gives partnerships more leeway than corporations to restrict their fiduciary duties to shareholders.

Many closely held firms that manage hedge and buyout funds are also structured as limited partnerships, meaning they too could go public with mandatory-arbitration clauses if Carlyle succeeds, Bainbridge said. Technology and industrial firms that are set up as corporations might consider converting into limited partnerships, weighing the huge tax liabilities they would incur, the UCLA professor said.

“If Carlyle can get away with this, you are going to have a bunch of CEOs telling their tax accountants, ‘Price out what it would cost me’” to convert from a corporation to a partnership, Bainbridge said in a telephone interview.

Convert was a poorly chosen word, of course. You'd have to do it via a merger. Anyway, it's a great article. Go read the whole thing.

"Insider" Trading by the Representative Plaintiff in Shareholder Litigation

If a plaintiff's class action or derivative lawyer tells the representative shareholder material nonpublic information about the status of the litigation, on the basis of which the shareholder then trades in the issuer's stock, there's doubtless some sort of state law violation. As Peter Ladig reports, the Delaware Chancery Court's newly issued guidelines for practicing before it make clear that "litigants who engage in this type of behavior should expect to be subject to "intensive scrutiny" and face a host of possible penalties." (See also Francis Pileggi's summary of the case.)

Ladig further reports that a recent Delaware case imposed sanctions in just such a case:

... in Steinhardt v. Howard-Anderson, ... the court ordered the plaintiffs it had found to have traded while in possession of confidential, nonpublic information to (i) self-report to the Securities Exchange Commission; (ii) disclose their improper trading in any future application to serve as lead plaintiff; and (iii) disgorge any profits made from the trades. The court then dismissed the trading plaintiffs from the case with prejudice and barred them from receiving any recovery from the litigation.

Query, however, whether the trading representative shareholder violated the federal insider trading prohibition. The Supreme Court has consistently made clear that insider trading liability is premised on breach of a duty to disclose rising out of a fiduciary relationship. 

Outside the traditional categories of Rule 10b-5 defendants—insiders, constructive insiders, and their tippees—things become quite complicated. As the Second Circuit observed in United States v. Chestman:

[F]iduciary duties are circumscribed with some clarity in the context of shareholder relations but lack definition in other contexts. Tethered to the field of shareholder relations, fiduciary obligations arise within a narrow, principled sphere. The existence of fiduciary duties in other common law settings, however, is anything but clear. Our Rule 10b-5 precedents . . ., moreover, provide little guidance with respect to the question of fiduciary breach, because they involved egregious fiduciary breaches arising solely in the context of employer/employee associations.[1]

In Chestman, the question was whether the relationship between spouses was fiduciary in nature. In answering that question, the court laid out a general framework for dealing with nontraditional relationships. First, unilaterally entrusting someone with confidential information does not by itself create a fiduciary relationship.[2] This is true even if the disclosure is accompanied by an admonition such as “don’t tell.” Second, familial relationships are not fiduciary in nature without some additional element.

Turning to factors that could justify finding a fiduciary relationship on these facts, the court first identified a list of “inherently fiduciary” associations. "Counted among these hornbook fiduciary relations are those existing between attorney and client, executor and heir, guardian and ward, principal and agent, trustee and trust beneficiary, and senior corporate official and shareholder."

Once one moves beyond this class of “hornbook” fiduciary relationships, the requisite relationship exists solely where one party acts on the other’s behalf and “great trust and confidence” exists between the parties:

A fiduciary relationship involves discretionary authority and dependency: One person depends on another—the fiduciary—to serve his interests. In relying on a fiduciary to act for his benefit, the beneficiary of the relation may entrust the fiduciary with custody over property of one sort or another. Because the fiduciary obtains access to this property to serve the ends of the fiduciary relationship, he becomes duty-bound not to appropriate the property for his own use.

Because the spousal relationship at issue in Chestman did not involve either discretionary authority or dependency of this sort, it was not fiduciary in character.

According to Ladig, the Delaware Chancery Court characterized the relationship between the representative shareholder and the class s/he represents as a fiduciary one:

"Trading by plaintiff-fiduciaries on the basis of information obtained through discovery undermines the integrity of the representative litigation process. Consequently, it is unacceptable for a plaintiff-fiduciary to trade on the basis of nonpublic information obtained through litigation."

In theory, I suppose the representative plaintiff has discretionary authority over the litigation. Also, in theory, I suppose that the other shareholders depend the representative shareholder to serve their interests. In theory, it's therefore hard to quibble with Vice Chancellor Lasker's statement that:

When a stockholder of a Delaware corporation files suit as a representative plaintiff for a class of similarly situated stockholders, the plaintiff voluntarily assumes the role of fiduciary for the class. See Emerald P'rs v. Berlin, 564 A.2d 670, 673 (Del. Ch.1989); Youngman v. Tahmoush, 457 A.2d 376, 379 (Del. Ch.1983). As a fiduciary, the representative plaintiff “owes to those whose cause he advocates a duty of the finest loyalty.” Barbieri v. Swing–N–Slide Corp., 1996 WL 255907, at *5 (Del. Ch. May 7, 1996) (internal quotation marks omitted). [2012 WL 29340 at *8]

In practice, however, the real party in interest in shareholder litigation is the class counsel. It is the class counsell who really runs the show and upon whomn the class members really depend. In practice, the representative shareholder is simply the name on the lawsuit's title. See Bell Atlantic Corp. v. Bolger
2 F.3d 1304, 1309 n.8 (3d Cir 1993):

See Ralph K. Winter, Paying Lawyers, Empowering Prosecutors, and Protecting Managers: Raising the Cost of Capital in America, 42 Duke L.J. 945, 948 (1993) (in derivative actions, “plaintiffs are generally figureheads”); Jonathan R. Macey & Geoffrey P. Miller, The Plaintiffs' Attorney's Role in Class Action and Derivative Litigation: Economic Analysis and Recommendations for Reform, 58 U.Chi.L.Rev. 1, 3 (1991) (plaintiffs' class and derivative action attorneys “subject to only minimal monitoring by their ostensible ‘clients' who are either dispersed and disorganized (in the case of class litigation) or under the control of hostile forces (in the case of derivative litigation).”); Geoffrey P. Miller, Some Agency Problems in Settlement, 16 J.Legal Stud. 189, 190 (1987) (“the interests of plaintiff and attorney are never perfectly aligned”); John C. Coffee Jr., Understanding The Plaintiff's Attorney: The Implications of Economic Theory for Private Enforcement of Law Through Class and Derivative Actions, 86 Col.L.Rev. 669, 677-78 (1986) (in derivative and class actions client “generally has only a nominal stake in the outcome of litigation” and cannot closely monitor and control plaintiff's attorney's conduct); Daniel R. Fischel & Michael Bradley, The Role of Liability Rules and the Derivative Suit in Corporate Law: A Theoretical and Empirical Analysis, 71 Corn.L.Rev. 261, 271 & n. 26 (1986) (“real party in interest is the attorney”); Deborah L. Rhode, Class Conflicts in Class Actions, 34 Stan.L.Rev. 1183, 1203 (1982) (“as a practical matter, once a class is certified, named plaintiffs generally are neither highly motivated nor well situated to monitor the congruence between counsel's conduct and class preferences”) ....

Which suggests that the representative shareholder's discretionary authority may not rise to the level Chestman requires or that the other shareholders' dependency on the representative plaintiff rises to that level either.

I'm not saying that representative plainitffs ought to be allowed to trade on the basis of nonpublic information about the lawsuit. I'm just saying we don't need to make a federal case out of it. Before we do so there ought to be a meaningful showing under the Chestman standard, rather than just a label casually slapped on the relationship without a realistic examination of the relationship as it exists in the real world.

---

[1] 947 F.2d 551, 567 (2d Cir. 1991) (citations omitted), cert. denied 503 U.S. 1004 (1992).

[2] Repeated disclosures of business secrets, however, could substitute for a factual finding of dependence and influence and, accordingly, sustain a finding that a fiduciary relationship existed in the case at bar. Chestman, 947 F.2d at 569. 

Del CJ Steele on Board Authority versus Shareholder Empowerment

Shareholder Empowerment vs. Board Authority

Is Carlyle even less shareholder friendly than the Green Bay Packers? Is that a bad thing?

Although the Green Bay Packers have been called the worst stock in America from a shareholder perspective, it looks like the Carlyle Group is going to take a run at the title. Steven Davidoff reports that:

It is quite possible that the Carlyle Group, the private equity firm that is preparing to go public, is proposing the most shareholder-unfriendly corporate governance structure in modern history.

It starts with the fact that Carlyle is providing its soon-to-be public shareholders with no power over the company. Carlyle shareholders will have no ability to elect directors. Instead, Carlyle intends for the company to be controlled by its management ....

Carlyle has eliminated the fiduciary duties applicable to most corporate directors. Instead, shareholders’ rights will be governed by Carlyle’s partnership agreement, which provides that the board can act in its sole discretion without good faith. If a conflict of interest arises between the shareholders and Carlyle, the managing general partner can obtain approval from a conflicts committee that will be conclusive. The conflicts committee will comprise the independent directors who are appointed by Carlyle. ...

Carlyle is requiring that public shareholders arbitrate all claims against the company. The arbitration must be confidential, meaning no one would ever even know about it unless it was required to be disclosed by another law. Class-action lawsuits are specifically barred.

Technically, of course, Carlyle is a limited partnership not a corporation. According to Carlyle's draft registration statement, Carlyle is going public as a Delaware limited partnership. As i discuss below, Delaware law allows a limited partnership agreement to limit--even eviscerate--fiduciary duties and litigation rights even if the partnership is publicly held. As a legal matter, the analogy to the corporate law rights of shareholders thus is inapt.

Setting aside the issues relating to litigation rights and mandatory arbitration, I'm not especially bothered by the governance provisions of Carlyle's set up. The de jure restrictions on Carlyle investors are analogous to the de facto limits on the powers of outside investors in a company that has a dual class capital structure. Indeed, a perceptive commenter at Davidoff's NY Times blog wrote that:

How is the Carlyle proposal significantly different from the arrangement at the NY Times, which leaves control of the company in the hands of the Sulzberger family even though they no longer own a majority of the stock? 

It's not, IMHO.

As I explained in a blog post commenting on Manchester United's decision to go public with a structure in which the insiders retained control by holding a class of stock having greater voting rights than the class of stock sold to outsiders:

I wrote about dual class stock in my article The Short Life and Resurrection of SEC Rule 19c-4, in which I explained that dual class stock structures established in an IPO (as is the case here) pose few concerns:

Public investors who do not want lesser voting rights stock simply will not buy it. Those who are willing to purchase it presumably will be compensated by a lower per share price than full voting rights stock would command and/or by a higher dividend rate. In any event, assuming full disclosure, they become shareholders knowing that they will have lower voting rights than the insiders and having accepted as adequate whatever trade-off the firm offered in recompense.

Man U public investors will buy their shares knowing that the Glazers are in charge and will remain so by virtue of the dual class stock structure. They will know or should know that dual class stock presents a serious agency cost problem because incumbents who cannot be voted out of office are almost impossible to discipline. Public Man U investors thus implicitly will have accepted whatever trade-offs the deal entailed as appropriate compensation for that risk.

Put another way, the market will price the risk posed by dual class stock, providing investors who buy the lesser voting rights stock with a discount from the price they would have had to pay if they had had full voting rights. Those who buy the stock thus are paying the right price and are fully protected.

I don't see why the same analysis would not apply here.

But what about the mandatory arbitration provision? It's been a while since I taught Securities Regulation, but my recollection is that the SEC takes the position that shareholder rights under the securities laws cannot be subject to mandatory arbitration. Jennifer Johnson and Edward Brunet sharply criticized proposals to change that rule in their article Arbitration of Shareholder Claims: Why Change is Not Always a Measure of Progress:

Two Blue Ribbon business advisory panels have recently proposed arbitration to remedy the problems endemic to shareholder class action litigation. Critics have long assailed shareholder litigation as harmful to firms without conferring a corresponding benefit upon shareholders or the public. Contemporary criticism has focused on the circularity of the remedy in shareholder suits and the charge that even the potential for shareholder litigation harms the competitive edge of the U.S. financial markets. We contend that even accepting these criticisms at face value, arbitration is not the solution. The lure of arbitration as a panacea to cure the ills of litigation is based upon myths concerning modern arbitral realities. First, arbitrators apply substantive and undefined principles of fairness and equity rather than legal rules. Such decisions, once made, are virtually insulated from judicial review. While historically such a system constituted an efficient dispute resolution system between homogenous members of trade groups, modern consumer arbitration rarely takes place between those with any common understanding of applicable norms other than the law. Second, there is a hidden societal cost to moving to an arbitration system to redress securities law claims. Experience teaches us that mandatory arbitration causes the law to atrophy. This trend would be exacerbated in shareholder litigation, which is often based upon implied causes of action, that by their nature depend upon transparent judicial interpretation. Third, modern arbitration will not cure the ills of class action litigation. Arbitration today is no longer particularly quick or efficient in that it has incorporated many of the procedural appendages such as discovery that are common in litigation. However, the procedural protections against the most vexatious lawsuits against corporations would not operate in the world of arbitration. This danger would be intensified if class action arbitrations were allowed. This essay will critique the proposals calling for arbitration of shareholder claims and conclude that arbitration is not an attractive alternative to litigation.

As Lawrence Cunningham has argued, however, the US Supreme Court increasingly "administers a self-declared national policy favoring arbitration." The conflict between those precedents and the SEC's longstanding policy of refusing to allow a registration statement to become effective if the issuer seeks to compel mandatory arbitration of shareholder claims will be brought to a head by Carlyle. If the SEC refuses to let Carlyle's registration statement become effective, presumably Carlyle will seek some form of judicial review. But how would/ should such a claim come out? Let's defer that for a minute.

A separate question is whether state courts would enforce a mandatory arbitration provision insofar as state law-based claims involving such matters as breach of fiduciary duty are concerned. As noted, Carlyle's draft registration statement specifies that Carlyle is going public as a Delaware limited partnership. In an unpublished opinion, Aris Multi-Strategy Fund, LP v. Southridge Partners, LP, 2010 WL 2173839 (Del. Ch. 2010), former Chancellor Chandler enforced a mandatory arbitration clause in a limited partnership agreement and stated that:

... permitting limited partners to contractually agree to arbitrate their statutory rights-rather than assert those rights in court-is consistent with the manner in which Delaware has treated this issue in other contexts. In the corporate context, for example, parties can agree to submit advancement actions under 8 Del. C. § 145 to arbitration, notwithstanding the Court of Chancery's exclusive jurisdiction over section 145 actions.FN4 And in the limited liability company context, parties can agree to submit derivative actions against company management under 6 Del. C. § 18-110(a) and related statutes to arbitration, notwithstanding the Court of Chancery's jurisdiction over such matters.

Does Carlyle being publicly held change that result? I doubt it. In another unpublished opinion, Gerber v. Enterprise Products Holdings, LLC, 2012 WL 34442 (Del. Ch. 2012), VC Noble wrote that:

Our General Assembly, however, has determined that, with a very limited exception, a limited partnership agreement may eliminate the duties that any person may owe to the limited partnership or the holders of the partnership's LP units. See 6 Del. C. § 17–1101(d). That means that a limited partnership agreement may, with the imprimatur of Delaware law, permit self-dealing transactions between a limited partnership and its controller with almost no oversight by this Court. This raises the issue of just what protection Delaware law affords the public investors of limited partnerships that take full advantage of 6 Del. C. § 17–1101(d). If the protection provided by Delaware law is scant, then the LP units of these partnerships might trade at a discount or another governmental entity might step in and provide more protection to the public investors in these partnerships. Those issues, however, are not ones that this Court need or should address. The General Assembly has decided that this Court has only a limited role in protecting the investors of publicly traded limited partnerships that take full advantage of 6 Del. C. § 17–1101(d), and that is a role this Court must accept.

See also Miller v. Am. Real Estate Partners, L.P., 2001 WL 1045643, at *8 (Del. Ch. Sept. 6, 2001) (citing Sonet v. Timber Co., L.P., 772 A.2d 319, 322 (Del. Ch.1998)) (“But just as investors must use due care, so must the drafter of a partnership agreement who wishes to supplant the operation of traditional fiduciary duties. In view of the great freedom afforded to such drafters and the reality that most publicly traded limited partnerships are governed by agreements drafted exclusively by the original general partner, it is fair to expect that restrictions on fiduciary duties be set forth clearly and unambiguously.”).

If you can limit fiduciary duties by contract in the case of a public limited partnership, why wouldn't a mandatory arbitration clause be enforceable as well? And, if you can do that with respect to state law claims, why shouldn't you be able to do it with respect to federal claims?

In sum, FREEDOM OF CONTRACT + SUPREME COURT POLICY FAVORING ARBITRATION + MARKET WILL PRICE TERMS = the SEC policy is wrong. Mandatory arbitration clauses ought to be enforced as to both state and federal claims.

But what if Carlyle were a corporation? This post is already too long. So the short answer is: I think the result should be the same. And I bet Delaware will move in that direction. See Charles Nathan's post on the analogous issue of the enforceability of exclusive jurisdiction provisions:

In a recent decision, In re Revlon, Inc. Shareholders Litig., newly-appointed Vice Chancellor Laster suggested a solution. In dicta, he endorsed a Delaware entity’s right to mandate in its governance documents a chosen forum for the resolution of state law-based shareholder class actions, derivative suits and other intra-corporate disputes. Vice Chancellor Laster stated that “if boards of directors and stockholders believe that a particular forum would provide an efficient and value-promoting locus for dispute resolution, then corporations are free to respond with charter provisions selecting an exclusive forum for intra-entity disputes.” Presumably, the Vice Chancellor had Delaware in mind.

Nathan goes on to discuss the legal issues at some length. In any case, assuming Laster wasn't simply trying to build up business for Delaware courts, there's no immediately obvious policy reason why the same result would not apply to mandatory arbitration provisions.

Corporate Lawyers as Gatekeepers--Download Corrected and Post Bumped

If you followed my day in the life post, you know I spent much of it working on an essay for the UCLA School of Law's faculty law journal. At the end of the day, I turned in the essay and also sent it off to SSRN. It's now been posted and is available for downloading here. The abstract follows:

Abstract: Corporate lawyers traditionally viewed themselves — and were viewed by the managers who hired them — as advocates, confidents, and advisors, not as gatekeepers like auditors. 

In fact, however, lawyers often play a reputational intermediary role not dissimilar to that of an auditor. A very high profile general counsel or law firm partner, for example, can give a client in trouble the benefit of the lawyer’s reputation for probity and upstanding ethics.

Usually, of course, counsel play a more behind the scenes role, but it is still a gatekeeping role. Specifically, transactional counsel and in-house lawyers are well positioned to intervene by blocking the effectiveness of a defective registration statement or prevent the consummation of a transaction, to cite but two examples. In many recent financial crises, however, lawyers all too often failed to be effective gatekeepers. In the Sarbanes-Oxley Act of 2002 (SOX), Congress directed the Securities and Exchange Commission to adopt rules of ethics governing lawyers who appear or practice before the Commission. 

As adopted, the post-SOX rules give lawyers what purports to be a very “simple” up-the-ladder reporting obligation. As one proponent explained counsel’s duty: “You report the violation [to top managemkent]. If the violation isn’t addressed properly, then you go to the board of directors].”

Despite SOX’s many strictures in this and other areas, however, a new and even more devastating financial crisis came in 2008 when the subprime mortgage market’s troubles nearly brought the entire banking system to its knees. Once again, questions are being asked about the role lawyers played in this crisis. A reassessment of SOX’s legal ethics rules thus is in order.

This essay is adapted with permission from the author’s book Corporate Governance After the Financial Crisis (Oxford University Press 2012). The first decade of the new millennium was bookended by two major economic crises. The bursting of the dotcom bubble and the extended bear market of 2000 to 2002 prompted Congress to pass the Sarbanes-Oxley Act, which was directed at core aspects of corporate governance. At the end of the decade came the bursting of the housing bubble, followed by a severe credit crunch, and the worst economic downturn in decades. In response, Congress passed the Dodd-Frank Act, which changed vast swathes of financial regulation. Among these changes were a number of significant corporate governance reforms. 

Corporate Governance After the Financial Crisis asks two questions about these changes. First, are they a good idea that will improve corporate governance? Second, what do they tell us about the relative merits of the federal government and the states as sources of corporate governance regulation? Traditionally, corporate law was the province of the states. Today, however, the federal government is increasingly engaged in corporate governance regulation. The changes examined in this work provide a series of case studies in which to explore the question of whether federalization will lead to better outcomes. The author analyzes these changes in the context of corporate governance, executive compensation, corporate fraud and disclosure, shareholder activism, corporate democracy, and declining US capital market competitiveness.

Keywords: , corporate counsel, gatekeeper, legal ethics, professional responsibility, Sarbanes-Oxley

JEL Classifications: K22

Update: Apparently the download wasn't working. It is now. So you can download the article  here.  Or, better yet, just buy the whole book!

Pileggi on noteworthy Delaware cases from 2011

Among the many public services rendered by Francis Pileggi's blogging  is his annual roundup of important Delaware cases. It's a must read for me, as a check to make sure I haven't missed anything. Inevitably, there will be some case(s) that slipped past me during the year but about which I am glad to now know.

I just read Pileggi's 2011 post. How did I miss Openlane?

"M&A-Related Litigation Has Replaced Stock Drop Suits as Plaintiffs' Securities Lawyers' Lawsuit of Choice"

Kevin LaCroix reports that:

In her article entitled “Securities Class Action Lawsuits in State Court” (here), Lewis & Clark Law School ProfessorJennifer Johnson examines a database of class actions filed in state court between 1996 and 2010. Her analysis shows that as a result of several Congressional enactments in recent years – particularly SLUSA and CAFA – the prevalence of many types of state court securities class action filings has declined. However, the number of state court class action lawsuit filings involving M&A transactions has been “skyrocketing” and now even outnumber federal securities class action lawsuit filings.

Indeed given that the database of state court filings on which Professor Johnson relied almost certainly understates the number of state court filings, it is probable that the number by which the state court M&A-filings exceeds the number of federal court filings is even greater than her analysis shows.

After describing the phenomenon at some length, LaCroix turns to an insightful analysis of the policy issues posed by these developments. recommended reading.

Glen Alden Coal and Farris v. Glen Alden Corp.

I've recently started collecting stock certificates and the like of companies that were involved with sufficiently famous corporate law cases to make it into the casebook that I co-edit with Bill Klein and Mark Ramseyer. Here, for example, is a stock certificate for Glen Alden Coal, the predecessor to the Glen Alden Corporation that featured in Farris v. Glen Alden Corp.

By 1958, although Glen Alden was still "engaged principally in the mining of anthracite coal," it had expanded into the "manufacture of air conditioning units and fire-fighting equipment." In the transaction challenged in the case, Glen Alden combined with "List, a Delaware holding company owning interests in motion picture theaters, textile companies and real estate, and to a lesser extent, in oil and gas operations, warehouses and aluminum piston manufacturing." As a result, the Pennsyvania court explained, "Instead of continuing primarily as a coal mining company, Glen Alden would be transformed ... into a diversified holding company whose interests would range from motion picture theaters to textile companies."

The legal issue in the case is whether the combination of List and Glen Alden--structured as a puchase by Glen Alden of List's assets--was a so-called de facto merger.

I also use the case, however, as an opportunity to talk about the craze in the post-WW II period for conglomerates. I've never understood the logic of combining "motion picture theaters, textile companies and real estate, and ... oil and gas operations, warehouses and aluminum piston manufacturing," not to mention coal mining, under one corporate roof. Ultimately, of course, setting aside GE, the conglomerate mania proved to be a disastrous economic failure. Much of the so-called "merger mania" of the 1980s in fact consisted of bust-up takeovers breaking up these conglomerate dinosaurs.

Delaware approves $285 Million in Plaintiffs' Lawyers’ Fees

Last year there was some talk that Delaware was losing cases. Specifically, a paper by John Armour, Bernard Black and Brian Cheffins claimed that:

... over the past decade the proportion of corporate suits involving Delaware public companies filed in Delaware has dropped markedly and that Delaware courts now hear only a minority, perhaps a small minority, of the cases involving such firms. Because Delaware is losing its cases, it is in danger of losing its status as the dominant locus for corporate law for U.S. public companies. However, it will be difficult for Delaware courts to execute a successful rearguard action to recapture "market share".

I couldn't help but hearken back to that discussion today when I read the WSJ law Blog's post about Delaware Chancellor Leo Strine's decision approving legal fees in the Grupo Mexico litigation:

In the lawsuit, shareholders of Southern Copper alleged the company overpaid in its 2005 acquisition of Minera Mexico for $3.75 billion in stock. Both were controlled by Grupo Mexico.

Leo Strine, the chief judge of the Chancery Court, agreed and in October ordered Grupo to repay southern $1.9 billion. Strine’s approval today of the $285 million in fees means that Kessler, Topaz, Meltzer & Check of Radnor, Pa., and Prickett, Jones & Elliott, of Wilmington, Del., will get paid about $35,000 per hour of work on the case, according to Reuters.

The firms had requested $428.2 million in fees. The defense attorneys argued for fees of less than $14 million.

The award ranks among the largest in securities litigation, and according to Reuters is believed to be the largest ever by the Chancery Court, which is a high-traffic area for commercial litigation.

I'm confident Strine ruled on the merits, but I'm also confident there are a lot of folks in Delaware who are happily expecting this decision to encourage plaintiffs to come back to Delaware. As Jonathan Macey and Geoffrey Miller have explained:

The members of the Delaware Supreme Court are drawn predominantly from firms that represent corporations registered in Delaware. The bar and the judiciary are tied together through an intricate web of personal and professional contacts. Unlike Professor Cary, we do not suppose that Delaware judges consciously formulate legal rules designed to increase revenues for their former colleagues. We doubt that they have such cynical motives. Yet, it is unsurprising that Delaware judges believe strongly in the efficacy of the Delaware legal system or that such judges often agree with the legislature that firms will be better off if Delaware corporate lawyers play an active role in their affairs. In other words, in Delaware well-intentioned judges can be expected to devise legal rules requiring that Delaware lawyers be consulted when important decisions are to be made. Moreover, if Delaware judges believe that the state judicial system well serves Delaware corporations, they will be more likely to approve rules that stimulate litigation in the Delaware courts.  

To put it another way, Francis Pileggi noted of this case that "Someone got an early Christmas gift." But maybe it was the Delaware bench and bar that did so too.

Update: Alison Frankel discusses the case and the fee calculation at some length, before noting that:

Strine's ruling comes with a very particular context. Delaware, according to some recent academic research, has been losing cases to other venues because plaintiffs' lawyers perceive the Chancery Court as an unfriendly jurisdiction. Strine lashed out at ... lawyers who file cases against Delaware corporations outside of Delaware of engaging in "forum shopping of the rankest kind." He particularly called out Stuart Grant of Grant & Eisenhofer, who criticized the Chancery Court despite receiving his own handsome fees. "Delaware is open for business," Strine said at the November conference, repeating one of his favorite catchphrases.

Monday's hearing on the Southern Peru fee request made it clear that the chancellor wants a certain kind of (legal) business to remain in Delaware. .... If lawyers are willing to litigate big cases through discovery and trial, he suggested, Delaware will make sure they're well compensated for their efforts.