ProfessorBainbridge.com

Liz Warren for Senate

I was fortunate enough to meet Elizabeth Warren when I visited harvard back in 2000-2001. She was super-friendly, obviously incredibly smart, and generally a good egg. Having said all that, however, her announcement of her plans to run for the US Senate inevitably brought to mind William F Buckley's famous quip that "I'd rather entrust the government of the United States to the first 400 people listed in the Boston telephone directory than to the faculty of Harvard University." Ditto. I'll be sending Scott Brown some more money.

Also, check out this post for links to Todd Zywicki's critique of Warren's scholarship and this post on whether Warren will be the Democrat's political savior.

Fiduciary duties to creditors

Bill Callison offers a short but sweet analysis of the state of Delaware law on the fiduciary duties corporate directors and officers owe creditors in insolvency or the vicinity thereof.

9-11

Charles Stross writes:

I'm going to turn the TV off on September 11th. And close all the web browser tabs I have open on news sites.

This isn't to belittle the events of ten years ago, or to show disrespect for the victims and their bereaved: rather, it's to avoid the narcissistic and indecent media feeding frenzy that battens onto popular sentiment and attempts to jerk every tear from the emotional aftermath of tragedy, the better to milk the advertising revenue stream.

I couldn't agree more.

Obama's Top Ten Gifts to America

Michael Boskin summarizes them in today's WSJ:

The Ethics of In-House Practice

My friend and UCLAW colleague Sung Hui Kim has posted an interesting paper on the ethical obligations of in-house legal counsel:

This book chapter examines the complex role that inside counsel (also known as in-house or corporate counsel) play in corporate America. Once viewed as the quality-of-life refuge from private practice, the in-house position is now recognized as “among the most complex and difficult of those functions performed by lawyers” (Hazard 1997, 1011). One reason why the position is so complex and difficult is the ambiguity and internal contradiction in inside counsel’s job description. On the one hand, inside counsel are intentionally carved into the corporate decision-making process to constrain managerial discretion and safeguard the company from legal trouble. Accordingly, inside counsel often have direct responsibility over compliance and are expected to intervene when significant legal risks are at stake. On the other hand, inside counsel are often regarded as mere “advisers” and thus remain subordinate to managerial prerogatives – even with respect to serious legal risks. On this view, inside counsel are expected to defer to business management at whose pleasure they serve. This latter view is consistent with the conventional skepticism about inside counsel’s willingness to check corporate misconduct (DeMott 2005, 967). This chapter explores how inside counsel negotiate these dueling job descriptions by developing an analytical framework based on Rule 1.13 of the American Bar Association’s Model Rules of Professional Conduct and reviewing the existing empirical literature on inside counsel to determine whether and to what degree inside counsel’s behavior conforms to the Model Rules.

Cite: Kim, Sung Hui, The Ethics of In-House Practice (August 29, 2011). LAWYERS IN PRACTICE: ETHICAL DECISIONMAKING IN CONTEXT, Lynn Mather, Leslie Levin, eds., University of Chicago Press, 2012; UCLA School of Law, Law-Econ Research Paper No. 11-12. Available at SSRN: http://ssrn.com/abstract=1919276

Proxy access dead ... for now

Broc Romanek reports that:

SEC Chair Mary Schapiro issued a statement that the SEC would neither seek a rehearing of the US Court of Appeals for the District of Columbia Circuit decision nor appeal the decision to the US Supreme Court. ...

... Schapiro reaffirmed her support for the proxy access concept - but she also pledged not to rewrite a proxy access rule anytime in the near future. While this means that "mandatory" proxy access is dead for now, the real story is that the SEC did allow the Rule 14a-8 amendments to go into effect (when the current stay expires next week), which means that the agency will allow access shareholder proposals ("absent further Commission action") for this proxy season. Private ordering, here we come - a nice boon for corporate lawyers. Here's the SEC's statement:

The Securities and Exchange Commission today confirmed that it is not seeking rehearing of the decision by the U.S. Court of Appeals in Washington, D.C. vacating a Commission rule, Rule 14a-11, which would have required companies to include shareholders' director nominees in company proxy materials in certain circumstances. Nor will the SEC seek Supreme Court review.

Chairman Mary L. Schapiro issued the following statement:

"I firmly believe that providing a meaningful opportunity for shareholders to exercise their right to nominate directors at their companies is in the best interest of investors and our markets. It is a process that helps make boards more accountable for the risks undertaken by the companies they manage. I remain committed to finding a way to make it easier for shareholders to nominate candidates to corporate boards.

At the same time, I want to be sure that we carefully consider and learn from the Court's objections as we determine the best path forward. I have asked the staff to continue reviewing the decision as well as the comments that we previously received from interested parties."

# # #

Last year, when the Commission adopted Rule 14a-11, it also adopted amendments to Rule 14a-8, the shareholder proposal rule. Under those amendments, eligible shareholders are permitted to require companies to include shareholder proposals regarding proxy access procedures in company proxy materials. Through this procedure, shareholders and companies have the opportunity to establish proxy access standards on a company-by-company basis -- rather than a specified standard like that contained in Rule 14a-11.

Although the amendments to Rule 14a-8 were not challenged in the litigation, the Commission voluntarily stayed the effective date of those amendments at the time it stayed the effective date of Rule 14a-11. The Commission's stay order provides that the stay of the effective date of the amendments to Rule 14a-8 and related rules will expire without further Commission action when the court's decision is finalized, which is expected to be September 13. Accordingly, absent further Commission action, Rule 14a-8 will go into effect and a notice of the effective date of the amendments will be published.

At least for now, we end up where I thought we should have ended up all along; namely, no mandatory rule but instead a system that allows for private ordering. I expect we'll see a slew of shareholder proposals on proxy access in the next proxy season.

Crowdfunding and the Federal Securities Laws

A very interesting paper from Steve Bradford:

Crowdfunding - the use of the Internet to raise money through small contributions from a large number of investors - may cause a revolution in small-business financing. Through crowdfunding, smaller entrepreneurs, who traditionally have had great difficulty obtaining capital, have access to anyone in the world with a computer, Internet access, and spare cash to invest. Crowdfunding sites such as Kiva, Kickstarter, and IndieGoGo have proliferated and the amount of money raised through crowdfunding has grown to billions of dollars in just a few years.

Crowdfunding poses two issues under federal securities law. First, some, but not all, crowdfunding involves selling securities, triggering the registration requirements of the Securities Act of 1933. Registration is prohibitively expensive for the small offerings that crowdfunding facilitates, and none of the current exemptions from registration fit the crowdfunding model. Second, the web sites that facilitate crowdfunding may be treated as brokers or investment advisers under the ambiguous standards applied by the SEC.

I consider the costs and benefits of crowdfunding and propose an exemption that would free crowdfunding from the regulatory requirements, but not the antifraud provisions, of the federal securities laws. Securities offerings of $250,000 or less would be exempted if (1) each investor invests no more than $250 or $500 a year and (2) the offering is made on an Internet crowdfunding site that meets the exemption’s requirements. Exempted offerings would be required to include a funding target and could not close until that target was met. Until then, investors would be free to withdraw.

To qualify for the exemption, crowdfunding sites must (1) be open to the general public; (2) provide public communication portals for investors and potential investors; (3) require investors to fulfill a simple education requirement before participating; (4) prohibit certain conflicts of interest; (5) not offer investment advice or recommendations; and (6) notify the SEC that they are hosting crowdfunding offerings. Sites that meet these requirements would not be treated as brokers or investment advisers.

Cite: Bradford, C. Steven, Crowdfunding and the Federal Securities Laws (August, 24 2011). Available at SSRN: http://ssrn.com/abstract=1916184

A student's (unintended?) case against the Socratic method

I lecture. It used to be my dirty little secret, but now it's out in the open. Why? I suck at the Socratic method (too cherubic I guess). It leaves the other 130 students in my class unengaged. Students in big (100+) upper year class courses often aren't sufficiently well prepared to do it justice. Socratic method doesn't teach anything about being a lawyer, at least the kind of transactional lawyer I was in practice. If students can't think critically by the time they get to me in the second or third year of law school, they're beyond my ability to help them. And so on.

See generally my essay Reflections on Twenty Years of Law Teaching: Remarks at the Rutter Award Ceremony (April 2008).

Hence, I was very interested in a post by Christopher Judge, a third year law student, who takes on what he calls "opinion discourse" in the law school classroom:

Although anti-intellectual to do so, your average student does the math when thinking about the investment they make in law school without job security, calculating the cost of each moment of class time.  For example, at Syracuse University College of Law, a member of the class of 2012 will pay $43,250 in tuition for the 2011-12 year.  At this rate, each hour of a semester-long, three-credit class costs about $133.07; each minute, $2.28; each second, $0.036.  However, I am convinced that the economic value of student opinion is merely an afterthought concocted by students in order to justify, rather than explain, resentment of student opinion during class.  It might be argued that disdain for the opinion of fellow law students during class is related to the legal community’s above average level of narcissism; however I argue that the answer is that law students simply do not perceive opinion discourse during class as having significant intellectual value. 

There are several reasons why law students do not find significant intellectual value in opinion discourse during class.  First, law students work extremely hard on their homework.  Perhaps it has something to do with the fundamentally focused nature of reading the text book contrasting with the free-flowing and seemingly infinite nature of opinion discourse, but after spending between two to four hours of our personal time preparing for each class, tired law students want to give validation to their sacrifice by reviewing specifically what they read and then promptly go home to their loved ones (or television sets). 

Second, opinion discourse is perceived as unlikely to appear on the final exam.  Even if the final exam does include a policy oriented question on the exact topic that is discussed, the opinion expressed during class is usually available in the assigned reading or could be thought of while writing the final exam essay.

Third, very few law students see themselves in a position to actually shape most, if not all, areas of the law.  Even if the law student could remember a particular class conversation beyond several months of the final exam, most law students see themselves as researchers or litigants, being either neutral or told which position to advocate.   The simple truth is that most students just want to pass the bar and find a job; not yet ready to appreciate a future role in shaping the law. 

The fourth, and final, reason is that law students have recognized that opinion in law classes is abused by a number of groups.  One of these groups are “law school gunners,” those law students who insist on raising their hand at every opportunity.  Regardless of suggestions to ignore gunners, the reality is that, as irritation caused by gunners increases, students lose focus on the substance of the course and opinion discourse.

Unprepared students comprise another group that abuses opinion discourse.  If a student did not do the reading for the class, a well-known strategy to avoid getting called on (and possibly embarrassed) later is to volunteer for the questions that either call for opinion or do not require actual knowledge of the homework.  Thus, opinion discourse is often associated with comments that do not require actual knowledge (of the reading).

Although a well-known education tool, opinion discourse has also been abused by professors who are not prepared to lecture for the full class time.  Without a willingness to narrowly tailor questions that call for discourse or the ability to maintain an appropriate level of control over the conversation, opinion based conversation leads to tangential comments and stories, i.e., information that could not possibly be on the final exam.

I realize that Judge is not, strictly speaking, talking about Kingsfieldian Socratic method teaching. He's talking about open-ended questions like "what do you think about the case?"

After 20-odd years of watching law teachers in action, however, I have come to believe that the vast majority of what passes for Socratic-style teaching is really what I call soft Socratic, which is basically just glorified opinion discourse. As I explain in my Reflections essay:

[When I was a student], most of my professors used what I’ve come to call the soft Socratic style. Instead of cold calling students, they used panels of students who were on call for a few days per semester. Instead of grilling a specific student at length, each student would be tossed a few questions and then the professor moved on to the next. Students were never told that they had given a wrong answer, let alone told to go and call their mothers as they would never become a lawyer. At most, the professor gently guided the student towards the proper conclusion.

In my early years [in teaching] at Illinois, I frequently sat in on classes taught by colleagues who were said to be great Socratic teachers. Oddly, however, in most of those classes, Socrates did almost all of the talking. Just as at Virginia, the dominant pedagogic style was soft Socratic. In preparing for this lecture, for example, I went back and dug out an evaluation I wrote of one of my Illinois colleagues:

His style is very soft Socratic. He tosses an occasional question out there and waits for answers. If nobody responds, he answers the question himself.

He started today’s session by picking up the thread of a discussion from yesterday. After reviewing the material by lecture, he started the new material As before, he relied on volunteers. He got some participation, but it wasn’t particularly interactive. Students made a comment, he made a comment, and went on.

I thus respectfully suggest that Judge's critique of opinion discourse in fact applies to the vast bulk of law school teaching. Personally, I think students get more value out of a well-crafted lecture that takes them beyond the reading than soft Socratic questioning.

What happens when you get down to the last partner?

Larry Ribstein addresses the problem of what happens when a partnership gets down to its last member:

The basic problem is that the partnership statutes define a partnership as two or more persons, but don’t specify whether withdrawal of the penultimate partner triggers dissolution of the entity or, instead, a buyout plus continuation by the sole remaining partner.

In my view the answer is clear.

In a two-member partnership, the firm necessarily dissolves and is not continued on dissociation of one of the members because the remaining firm would not have the requisite two members to be a partnership.

Bromberg & Ribstein, §7.03(c), n. 13a. Although you can’t get that from the statute, it is a necessary implication of the definition of partnership.

Larry then elaborates at some length.

Happy Capitalism Day

Milton Friedman discusses labor unions:

My loophole on life

A former colleague of mine back when I taught at Illinois once described being a law professor as a "loophole on life." Apparently, he was right:

Most high-paying jobs require significantly more hours on the job than the average American puts in. 24/7 Wall St. has identified nine jobs that pay well above the national median income, while requiring less working hours than average. ...

2. Law Teachers, Post-secondary
> Hours worked/year: 1,608
> Median hourly earnings: $82.85
> No. employed: 14,620
> Hours worked/week: 40.3
> Median annual income: $94,260
> Top annual income: $145,990

While the entire list could have just been comprised of different types of college professors, we listed only the highest-paying position. Law professors have a median income approaching $100,000, and have a top range of nearly $150,000. Becoming a law professor only requires a law degree, although many today also have a Master of Laws and even a PhD. The time spent seems well worth it. Besides the generous salary, they enjoy unique benefits, “including access to campus facilities, tuition waivers for dependents, housing and travel allowances, and paid leave for sabbaticals,” according to the BLS. Between these sabbaticals and the summer vacation, most professors work nearly 400 hours less than the average U.S. employee.

On the one hand, speaking only for myself, I spend my summers and sabbaticals doing research and writing scholarship, which is part of my job description. On the other hand, Wall St 24/7's estimate of the top pay range is way too low.

All told, however, I do love my job.

Here's the rest of the list:

Early gatekeepers

I found this paper, Early Evolution of Corporate Control and Auditing: The British East India Company (1600-1643 CE), by Dorota Dobija, to be  very interesting history of the way markets evolved to respond to the separation of ownership and control long before anybody had ever heard of Berle & Means:

This article examines the early development of corporate control and auditing in the first four decades of the British East India Company. While, in the United States, mandatory auditing of public companies is commonly traced back to the reforms that followed the Great Depression, the origin of modern auditing as an essential tool of control in business corporations, this article argues, most likely occurred four centuries earlier with the emergence of the first joint-stock companies. Separation of ownership from control in those organizations provided an impetus for the rise of auditing and auditors. This paper focuses on the role of control and auditing in effective corporate governance.

Parallels exist between the meaning of auditing in the early East India Company and auditing in today’s corporations. In the first stage of its development (1600–1643), auditing in the East India Company was characterized by ex ante verification of transactions before money could be disbursed from its coffers. However, the increasing number, size and complexity of transactions soon rendered the ex ante approach unwieldy, and led to ex post verification of financial transactions that were used to prepare the financial statements. This paper traces the evolution of auditing over the first forty-three years of the company, and ends with a discussion of some parallels and implications for modern auditing and control.

Strict liability clawbacks

Kevin LaCroix reports on the SEC's latest use of Sarbanes-Oxley Section 304 to clawback compensation from a CEO who was not charged with personal wrongdoing in connection with securities fraud issues at his company:

... the SEC reached a settlement with the former CFO of Beazer Homes to return more than $1.4 million in bonus compensation he earned during a period when the company was committing accounting fraud. As is contemplated under Section 304, the former CFO, James O’Leary, was obligated to return the bonus compensation even though he was himself not charged with any wrongdoing in connection with the accounting fraud. The SEC’s August 30, 2011 press release about the settlement can be found here. ...

These SOX Section 304 clawback actions against Beazer Homes CEO and CFO follow prior Section 304 clawback actions in which the SEC has sought reimbursement of compensation paid to corporate officials they had earned during periods in which their companies had made financial misstatements, as I discussed in an earlier post. As was the case in the actions against Beazer’s CFO and CEO, in the prior actions the officials involved were not alleged to have been involved in or aware of the financial misreporting. At least one court (refer here) has affirmed the SEC’s authority to pursue the compensation clawback under these circumstances, under SOX Section 304.

LaCroix seems uncertain of section 304's merits:

Though statutorily authorized, the implementation of a forfeiture without culpability or fault raises troubling questions, including even basic questions of fairness. On the other hand, it might also fairly be asked whether the CEO or CFO ought to be able to retain benefits accumulated at a time when the investing public was being misled, by financial statements that the CEO and CFO certified, about the company’s financial condition. As an SEC official was quoted as saying in the press release about the SEC’s settlement with O’Leary, “Section 304 of the Sarbanes-Oxley Act encourages senior management to take affirmative steps to prevent fraudulent accounting schemes from occurring on their watch.”

I'm likewise of two minds on this issue. On the one hand, as I've argued here before: During the 1990s, restating financials became commonplace. Some firms were notorious for taking incredibly aggressive accounting positions. When they were called out for it, they simply restated their financials and claimed the SEC and/or private claim was moot.

As illustrated by other provisions of SOX, such as the CEO and CFO certification rules, Congress concluded that too many CEOs and CFOs had simply turned a blind eye to misconduct by subordinates. A claw-back rule that essentially imposes strict liability on CEOs and CFOs for subordinate misconduct arguably provides a powerful incentive for CEOs and CFOs to ensure that the company's internal controls work.

A related argument is that much corporate financial statement shenanigans during the 1990s appears to have been motivated by efforts to maximize the value of top manager's stock options and other forms of equity and incentive compensation. Or, at least, so Congress concluded. It's precisely those forms of compensation that section 304 targets. The CEO and CFO, one might argue, should not be allowed to benefit from misconduct by subordinates, whether or not the CEO or CFO was aware of the misconduct. Any other rule would perpetuate the incentive to turn a blind eye.

On the other hand, I am troubled by the fairness issues LaCroix notes. I'm also concerned that a strict liability approach to section 304 would tend to encourage CEOs and CFOs to resist restating flawed financial statements and/or to game the timing of their compensation and stock transactions relative to any such restatements.

We also now know that section 304 prompted companies to increase "non-forfeitable, fixed-salary compensation and decreased incentive compensation, thereby providing insurance to managers for increased risk." Sanjai Bhagat & Roberta Romano, Reforming Executive Compensation: Focusing and Committing to the Long-Term, 26 Yale J. Reg. 359, 366 (2009).

The merits of section 304's strict liability approach thus remain highly debatable.

Beaulieu Vineyard Georges de Latour Private Reserve Cabernet Sauvignon (Napa Valle) 1991

The last bottle of a half case purchased at the winery in, if memory serves, 2000 and cellared in temperature and humidity controlled conditions ever since. The bottle was in excellent condition, with no significant ullage and no signs of cork seepage. A substantial amount of heavy sediment mandated careful decanting. At first, there was a slightly funky odor, which blew off after about 45 minutes in the decanter. The bouquet eventually resolved into rich, ripe currant and prune aromas. On the palate, there were lots of mature Cabernet markers, such as pencil shavings, dried dark fruits, and leather. Fully mature. I doubt whether it would have rewarded much in the way of extra cellaring, but it was delicious tonight. Grade: A-/A

Chateau Pichon-Longueville Baron (Pauillac) 1998

A rich ruby in color, the wine required careful decanting as it had thrown a considerable amount of sediment. A pleasant bouquet of dark fruits, cedar, and tobacco. On the palate, the entry was a bit thin, but the finish was of respectable length. Black currants, cedar, prunes, and plums were the principal flavor associations. Grade: B+