ProfessorBainbridge.com

Sarbox or SOX?

One of my colleagues routinely refers to the Sarbanes-Oxley Act as "Sarbox." I use "SOX." Who's right? A Westlaw JLR search kicked up a mere 62 documents using Sarbox. SOX kicked up 1588 documents, although some of them might be referring to the baseball teams playing under one of the variants of that moniker. SOX & Sarbanes kicked up 522 documents. SOX /s Sarbanes got me 356. All told, in the legal literature, SOX seems to be running away with the game. (The ratio's 20 to 2 in favor of SOX in judicial opinions, BTW)

Outside Directors and Crisis Management

The W$J reports:

Independent board members typically provide oversight and monitoring of a company, while managers run operations. But when a crisis erupts, as at New Century, such directors increasingly are assuming a more hands-on role. Stronger governance standards adopted following corporate scandals -- and the prospect that directors could be held personally liable -- reinforce the trend. ... As a result, "the line between directors and managers is getting a little more blurry than what it has been," says David Larcker, a professor at Stanford University's Graduate School of Business.

Lots of useful anecdotal examples follow. None of this should come as a surprise to students of corporate governance, of course. As I explained in Why a Board? Group Decisionmaking in Corporate Governance, the board of directors is "a production team whose product consists of a unique combination of advice giving, on-going supervision, and crisis management." Hence, as Don Langevoort put it: "Absent some sort of crisis, outside members see their value largely in terms of constructive advice, giving insiders the benefit of an expert external perspective on the company’s uncertain world." In a crisis situation, however, the board must become more active. It must determine whether the crisis is the fault of senior management or the result of an exogenous shock. If the latter, the board must serve as a 24/7 monitoring and advising body to senior management. If the former, the board must depose incumbent senior management and move forward.

Copyright interests in lectures: Do student notes infringe?

Michael Froomkin and Bruce Boyden offer some interesting perspectives.

Frankel on Disney

Tamar Frankel has a new paper< /a> posted to SSRN that offers a provocative take on the Delaware supreme court's decision in the Walt Disney case:

In In re Walt Disney Co. Derivative Litigation the Delaware court exonerated the defendants for their handling of the Ovitz Affair, and yet condemned them. It is a classic example of how a court of law can make law without making law. By an obiter dictum, the Chancellor established the facts of the case and footnoted the sources much like a treatise or a casebook, recounted the general principles of the law, used strong words to describe the defendants' behavior, delved into the moral and business judgment of the defendants, and assisted the market in judging and enforcing its best practices. The Disney decision is a political masterpiece. (1) It pleases management because it sets a legal standard that is admittedly lower than the market "best practices" standard and issues a judgment for the defendants. As to the duty of care, the court elevates market morals above legal morals. (2) It pleases the Delaware Bar and perhaps members of other bars, as well as the shareholders' advocates, because it lowers the standard of demand requirement and opens the door to class actions. Hence it does not reduce the number of cases against management. (3) It discloses and documents aspects of internal management, including the personalities and behavior of the actors, thus inviting critics, public opinion and the media to supervise management and influence management's business judgment. It maintains the courts' "hands off" approach and low standard of negligence in evaluating the business judgment of management and board of directors. (4) It allows the courts to establish the facts and offer their opinion without serious threat of being overruled by higher courts or the legislature. (5) The decision shifts the burden of chastising management in cases such as Disney to the market and the media. All in 120 pages. The issue is whether this is a good way to go about resolving situations such as Disney. I conclude that it is. Unlike criminal cases, in which the Court of Public Opinion may prejudice the jury, the Court of Public Opinion is more suitable than the Court of Law to judge excesses by corporate directors and management so long as those do not amount to violations of trust and honesty (the duty of loyalty).

I like this piece a lot.

The Blackstone Group IPO

The W$J's Law Blog has the scoop on the Simpson Thatcher connection, while the Deals blog offers some speculation on Blackstone's profitability.

Drezner's Latest

Popular blogger Daniel Drezner's latest book, All Politics is Global, gets a very favorable review from the Economist:

If Mr Menon's book is too shrill and not analytical enough, Daniel Drezner's ?All Politics is Global? is too nuanced and academic for easy reading?but ultimately much more rewarding. Mr Drezner, an associate professor of international politics at Tufts University, focuses on the international institutions and accords that regulate trade. Such regulation, though seemingly arcane at first, in fact determines ?how to treat workers, how much to pollute, what can go into our food, what can be accessed on the internet,? and ?how much medicine will cost?.

Like Mr Menon, Mr Drezner believes that what really matter are the domestic preferences of powerful governments: ?States make the rules.? This directly contradicts Thomas Friedman's flat-world notion that globalisation has emasculated the state. Mr Friedman's ideas?such as that capitalists worldwide now form an ?electronic herd? that tramples down borders?are, according to Mr Drezner, ?simple, pithy and wrong?. As evidence, Mr Drezner provides case studies ranging from internet protocols to anti-retroviral drugs. He shows that ?great powers cajole and coerce those who disagree with them into accepting the same rulebook.?

Unlike Mr Menon, however, Mr Drezner does not call for the end of such international accords. Rather, he finds that the challenges of the future will be increasingly transnational. As globalisation intensifies, the rewards for co-ordination will increase as well. To achieve success, it is essential not to eliminate international institutions but rather to understand their utility. They are at heart a means for great nations to exert their will in concert. The key to their success lies in convincing the leading governments of the gains from acting in co-operation, rather than isolation, in a volatile but interconnected world?a message that surely applies well beyond the esoteric world of trade regulations.

Kudos.

Note to Law Review Editors: It's StePHen, Dammit!

Prompted by something I discovered in writing the previous post, I just ran a search for Steven /2 Bainbridge in Westlaw's JLR database. In 33 law review articles, my name was misspelled in that fashion. (In three more, BTW, my last name was spelled Brainbridge!) I freely admit to being a lousy speller, so I don't blame the authors (well, not much, anyway), but that's precisely why law review editors are supposed to do cite checks. They're supposed to double check to make sure us authors got things like name spelling correct! As one law review explains:

Techciting, the substantive and technical analysis of text and citations, is crucial to maintaining a quality law review.  Techciting safeguards the integrity of our journal by ensuring that everything printed is correct and accurate.  It involves a painstaking check of every written word and every cited source.

BTW, kudos to the Journal of Corporation Law, which leads the way with three misspellings.

Lambert on Winans on Insider Trading as Theft

Thom Lambert has an interesting post on former insider trader R Foster Winan's op-ed on insider trading. Money quote:

I’m sympathetic to Winans’ basic point that we should reconceive of insider trading as an offense based on theft, not fraud. The gravamen of an insider trading offense is trading on information that doesn’t belong to you, and the only reason the courts have concocted this crazy fraud-based liability scheme (which Saikrishna Prakash has aptly described as dysfunctional) is because the securities laws ban fraud and not theft of information.

I've been saying this for years. See, e.g., Insider Trading Regulation: The Path Dependent Choice between Property Rights and Securities Fraud:

This article argues that the colloquial understanding of path dependence offers a heuristically powerful metaphor for grappling with the problem of regulating insider trading. The metaphor focuses attention on the proper issues-how did the law arrive at its present form, what paths are available for the future, which of those paths are feasible, and what costs would be entailed in choosing one of the various feasible alternatives over the others. A pragmatic answer to those questions begins with the recognition that insider trading is more closely akin to the class of problems dealt with by state corporate law than that dealt with by federal securities law. The article argues the law has gone too far down the federal regulatory path to turn back, however. Settled expectations and interests of both the regulators and the regulated, institutional competence, the status quo bias, and comparative advantages all argue for preserving the prohibition as a species of federal common law. The article therefore proposes a legal regime that is sensitive to the competing policy and doctrinal concerns that pervade this area of the law, while also taking into account the path dependent nature of the present prohibition.

The article then turns to an analysis of the Supreme Court's recent decision in United States v. O'Hagan, 117 S. Ct. 2199 (1998), arguing that the court failed to grapple with the very serious doctrinal and policy issues presented to it. In developing that argument, the article also contends that O'Hagan sheds light on interpretation of Supreme Court opinions in technical statutory areas. Because the justices are subject to bounded rationality, and their incentive system does not reward developing institutional expertise in such areas, the court is generally not competent to address such issues. As a result, the court appears to defer to specialists in the field. Although deference to expert opinion is a rational response to the conditions under which the justices must operate, such deference may lead the court astray when the experts to whom they defer are also parties to an adversary proceeding before the court, as was the case in O'Hagan. Although further research will be necessary to fully develop this theory of Supreme Court decision making, the present analysis is highly suggestive and, in conjunction with the path dependence metaphor, provides an important aid for understanding the Supreme Court's insider jurisprudence.

Is Delaware Cracking Down on Pay?

Do the recent cases in which Delaware Chancellor William Chandler beat up on firms that had engaged in spring-loaded and back-dated options send a signal that Delaware is cracking down on executive compensation? Probably not. After all, Disney remains the law, and largely precludes judicial review of the amount of pay. As Francis Pileggi points out, however, at least one more recent case suggests that Delaware courts can address executive pay even without directly addressing the merits of pay decisions:

In Valeant Pharmaceuticals International v. Jerney, (Del. Ch., March 1, 2007), 2007 WL 704935,  read opinion here, the Delaware Chancery Court required a former president  and director to disgorge a $3 million dollar bonus. This opinion answers the question that some have posed as to whether or not the Delaware courts would address claims of allegedly excessive compensation. The topic of executive compensation has been extensively discussed recently in the popular press and the trade press. For example,  Professor Ribstein discusses the topic here, and Professor Bainbridge has a post here about his recent testimony before Congress on the issue [PB: To be clear, I posted about Steve Kaplan's testimony]. Also, here is a post on the ISS Corporate Governance Blog with a link to a paper prepared by Institutional Shareholder Services on the topic of executive compensation.

Essential to an understanding of this case is the procedural context which required the former director and president to prove the entire fairness of the decision of the board which resulted in a bonus being paid to him in the amount of $3 million. He did not successfully carry that burden. It is not the amount, ipso facto, that was a problem, but the context in which the amount was given that was the focus of this case.

Do go read the whole thing for a careful analysis of the case.

Klausner on Corporate Contractarianism

Stanford law professor Michael Klausner has written a very provocative articl e on the so-called nexus of contracts theory of the corporation:

This article analyzes the extent to which contractarian analysis of corporate law has stood up to a generation of scholarship in law and economics - particularly empirical scholarship. It concludes that while the contractarian theory remains a useful starting point, more recent research demonstrates that as a description of reality or a basis for policy prescription, the theory falls short. Two phenomena reflect shortcomings in the contractarian theory. First, corporate contracts exhibit a high degree of uniformity - in Delaware incorporation and in the adoption of default rules. Second, customization and innovation in corporate governance have occurred in noncontractual form - that is, without legally binding commitments to maintain them. The positive implication is that there are apparently impediments to the creation of legally binding governance commitments. Those impediments may undermine the contractarian link between contract and social optimality. The normative implication is that the minimalist view of corporate law - that everything can be left to customized contracting - is questionable. A menu approach to the design of corporate law may be more effective than either the default rule structure that the contractarian theory prescribes or an approach of mandatory regulation.

Study of Majority Voting in Election of Directors

Claudia Allen's study of majority voting for boards of directors is available he re. Very interesting stuff.

Abstract: As the 2007 proxy season gets underway, majority voting in director elections has been transformed from a controversial activist- driven governance practice adopted by a small number of public companies, to a mainstream governance standard. As indicated in the February 2007 edition of Study of Majority Voting in Director Elections, prepared by Claudia H. Allen, partner and chair of the Corporate Governance Practice Group of Neal, Gerber & Eisenberg LLP, over 52% of the companies in the S&P 500 have adopted a majority vote policy, bylaw and/or charter provision, compared to under 20% of the companies in that index when the Study was initially published one year ago. Moreover, the February 2007 edition demonstrates that companies are increasingly adopting true majority vote bylaws, and in some cases, charter provisions, in contrast to one year ago, when companies were generally adopting Pfizer-style majority vote policies. Among the 371 companies analyzed in the updated Study are AT&T, Bank of America, CIGNA, Comerica, CVS, Deere & Company, Exelon, First Data, General Mills, Genworth Financial, Goldman Sachs, Goodrich, Halliburton, Humana, International Paper, Lehman Brothers, Lexmark, Marathon Oil, McDonald's, McGraw-Hill, McKesson, NiSource, Northrop Grumman, Novell, Qwest, Spectra Energy, St. Paul Travelers, Terex, WellPoint, Whirlpool and Yahoo!

Shareholder Activist Bebchuk Profiled in W$J

The W$J profiles five figures in the shareholder activism movement, including Harvard law professor Lucian Bebchuk:

Harvard Law School Professor Lucian Bebchuk is one of the intellectual engines of the pay-restraint movement, producing studies arguing that weak boards are paying executives without regard to company performance.

Mr. Frank has cited Mr. Bebchuk's research showing executives claiming a growing share of corporate profits. SEC Commissioner Roel Campos says Mr. Bebchuk's pension research was "very influential" in crafting the new disclosure rules.

In 2000, Mr. Bebchuk, who holds doctorates in both law and economics, began working on compensation issues, using as a base his previous work on boards' lack of accountability during takeovers. In 2004, he co-wrote a book, "Pay Without Performance," which criticized boards for offering CEOs sizable pay deals.

"I view the problem of executive pay as being partly the product of excessive insulation of boards from shareholders, and the weakness of shareholder rights," says the Polish-born, Israeli- raised academic, whose gold-rimmed glasses perch halfway down his nose.

Mr. Bebchuk, 51, is playing a pivotal role in promoting a tactic for curbing compensation: revising corporate bylaws, the rules that govern companies' internal affairs. Last year, he submitted amendments at two companies, including Home Depot, that would have required more disclosure about pensions. Each received more than 40% of votes cast, a significant tally, albeit a losing one. This year, he proposed bylaws at four companies to require that CEO compensation packages be approved by at least two-thirds of independent directors.

Home Depot's board adopted his proposal Jan. 4, two days after CEO Robert Nardelli resigned amid complaints about his pay. A spokesman calls the change "a reasonable extension" of Home Depot's prior policy.

Some corporate advisers aren't sold. Theodore Mervis, a partner at Wachtell, Lipton, Rosen & Katz in New York, calls Mr. Bebchuk "the Elvis Presley of executive compensation," a reference to the academic's fondness for the media spotlight. Bylaw amendments "create legal gobbledygook without understanding the underlying issue," Mr. Mervis contends.

To be sure, Lucian's a very smart guy, who has been deservedly influential in the shareholder activism movement, but it's worth remembering that many of his positions are strongly contested by judges, lawyers, and other academics.

To take but a few examples, Lucian's views on competitive federalism have been criticized by yours truly in The Creeping Federalization of Corporate Law, as well as by Steven Choi and Andrew Guzman, Jonathan Macey, and Robert a Romano. Lynn Stout and I have criticized Bebchuk's arguments for shareholder primacy in takeovers, as has student commentator Kevin Turner. Leo Strine and I criticized Bebchuk's proposals for shareholder empowerment, as has Martin Lipton and Mark Gordon. Core, Guay, and Thomas criticized Bebchuk's work on executive compensation, as have Jeff Gordon and I.

Executive Pay Hearings

Steve Kaplan reports:

Chairman Barney Frank and the House Committee on Financial Services held hearings last week on CEO pay.  Lucian Bebchuk, Nell Minow and I were among those who testified.  My testimony is available here.  The testimony argues and presents evidence that the typical CEO is not overpaid.

Two points are worth emphasizing.  First, the top 25 hedge fund managers earned more in 2004 than all 500 S&P 500 CEOs combined.  The same was true in 2005.  Second, when pay is measured by the amount of money CEOs actually receive (which includes exercised options), the typical CEO is highly paid for performance.

Reminder: here's my take on proposals for a shareholder advisory vote on executive pay.

WaPo on Insider Trading

In a snarky Washington Post story on business support for deregulation, which makes little effort to conceal reporter Carrie Johnson's pro-regulation bias, we read this little gem:

... the Securities and Exchange Commission announced that it is hunting for evidence of rampant insider trading that cheats average investors.

One minor problem. Insider trading doesn't injure investors.

Majority Voting for Directors

Lisa Fairfax has an interesting post on the trend towards majority voting in the election of corporate directors. "I get the sense that many practitioners believe (or maybe hope) that a majority vote system will not have much impact, but some recent developments may ensure that shareholders do have some greater power in such a regime, if only at the margins." Check out her reasons to see if you agree.