ProfessorBainbridge.com

Empirical studies of private equity

Steven Davidoff gives a fast review of the key studies.

Obama supports STOCK Act

Politico:

“Send me a bill that bans insider trading by members of Congress and I will sign it tomorrow,” President Barack Obama said Tuesday night, to applause.

OTOH, so what? Did anybody think he'd veto it? OTOH, give him credit for being on the right side of the issue while GOP Congressional old bulls like Eric Cantor likely still hope to kill it.

"Hauerwasian Christian Legal Theory" by Skeel

A typically insightful essay by David Skeel:

This Essay, which was written for a Law and Contemporary Problems symposium on Stanley Hauerwas, tries to develop an account of public engagement in Hauerwas’ theology. The Essay distinguishes between two kinds of public engagement, “prophetic” and “participatory.” Christian engagement is prophetic when it criticizes or condemns the state, often by urging the state to honor or alter its true principles. In participatory engagement, by contrast, the church intervenes more directly in the political process, as when it works with lawmakers or mobilizes grass roots action. Prophetic engagement is often one-off; participatory engagement is more sustained. Because they worry intensely about the integrity of the church, Hauerwasians are more comfortable with prophetic engagement than the participatory alternative, a tendency the Essay calls the “prophetic temptation.” Hauerwasians also struggle to explain what can or should participatory engagement look like.

After first comparing Hauerwas’s understanding of Jesus’s Sermon on the Mount with that of his two twentieth century predecessors, Walter Rauschenbusch and Reinhold Neibuhr, the Essay turns to Hauerwasian public engagement and the prophetic temptation. The Essay then considers the implications of Hauerwas’s theology for three very different social issues, the Civil Rights Movement, abortion, and debt and bankruptcy.

Time to delete section 3 of article II of the constitution

Article II. Section 3 of the US Constitution requires that the President "shall from time to time give to the Congress Information of the State of the Union, and recommend to their Consideration such Measures as he shall judge necessary and expedient ...." Let's repeal it.

The State of the Union address has become an exercise in political theater. The President gets to give a political speech using the Supreme Court, Joint Chiefs, and his political opponents in Congress as stage props. The big question of the evening usually is whether the latter can keep their temper when the President takes them task, as this one is especially wont to do.

The political theater aspect is emphasized by the thought administrations put into issues like who gets to sit next to the First Lady in the Gallery. This year it is (drum roll here) Warren Buffett's secretary.

His secretary? Yes, really. 

Bold prediction: Obama will use her as a prop for taxing the 1% more heavily. After all, as Politico reminds us:

"Warren Buffett's secretary shouldn't pay a higher tax rate than Warren Buffett," President Obama said in September, when he unveiled his American Jobs Act proposal. It's a trope that Buffett himself has repeated, as he has campaigned for higher taxes on investment income.

In an election year, the SOTU is especially galling for those of who do not support the incumbent POTUS, because it amounts to millions of dollars worth of free advertising for the POTUS' reelection campaign.

It's theater. But not very good theater. Time for it to die.

Buy a personally signed copy of Bainbridge on Insider Trading

Ever want a short introduction to insider trading signed by the author (namely, yours truly)? If so, I'm selling 20 of them on eBay. Other eBay sellers charging up to $20. I'm selling it at $4.99 plus S&H.

Join me at UCLA as a Milken Teaching Fellow

I've been asked to post this announcement. I might add that the fellows get the additional benefit (?) of working with yours truly:

Introduction

• The Lowell Milken Institute for Business Law and Policy at UCLA School of Law is now accepting applications for the Lowell Milken Institute Law Teaching Fellowship.
• This fellowship is a full-time, year-round, one or two academic-year position (approximately July 2012 through June 2013 or June 2014).  The position involves law teaching, legal and policy research and writing, preparing to go on the law teaching market, and assisting with organizing projects such as conferences and workshops, and teaching.  No degree will be offered as part of the Fellowship program.

 

Eligibility

• Fellowship candidates must hold a JD degree from an ABA accredited law school and be committed to a career of law teaching and scholarship in the field of  business law and policy.  Applicants should have demonstrated an outstanding aptitude for independent legal research, preferably through research and/or writing as a law student or through exceptional legal experience after law school. Law Teaching Fellowship candidates must have strong academic records that will make them highly competitive for law teaching jobs.

 Fellowship Requirements

The Fellowship program is year-round, over one or two academic years, during which time the Fellow will:

• complete at least one substantial scholarly publication and present the publication as a work-in-progress to the UCLA School of Law faculty;
• teach at least one class per academic year of the appointment;
• work closely with a faculty mentor in order to observe and participate in teaching, as well as to complete a publishable scholarly piece;
• assist the Institute’s Executive Director with other projects relating to the Institute’s work, including organizing conferences and other events,  research, publications, public education and outreach efforts;
• permit the Institute to publish any article(s) resulting from the Fellowship—as long as such publication will not interfere with the Fellow’s ability to publish such articles in a law journal; and
• acknowledge the Institute’s assistance in any published work that is facilitated by the Fellowship.

 

Fellowship Benefits

The unique features of this Fellowship include opportunities to:

• develop expertise in business law and public policy;
• work with a faculty mentor;
• develop expertise in business law teaching;
• complete a published piece of research before entering the law teaching market;
• obtain faculty recommendations and support for law teaching jobs;
• participate in the rich mixture of scholarly symposia, invited lectures, and conferences of the Lowell Milken Institute for Business Law and Policy; and
• participate in UCLA School of Law’s rich interdisciplinary scholarly symposia, lectures, and conferences.

 

Application Material and Deadlines

To apply for the 2012-2013 Lowell Milken Institute Law Teaching Fellowship, please submit the following materials by March 1, 2012:

• A cover letter summarizing your qualifications for the fellowship;
• A current resume, including a list of published works;
• An official law school transcript;
• Contact information for three references, including at least one from a law school professor familiar with your scholarly potential;
• A detailed research proposal, no longer than five single-spaced pages in length; and
• A description of teaching interests (course abstract and plan for class or seminar preferred)

Interested candidates should submit materials as a single PDF or Word.doc file to [email protected].

Equal Opportunity Employer

The University of California is an affirmative action/equal opportunity employer, and seeks candidates committed to the highest standards of scholarship and professional activities and to a campus climate that supports equality and diversity.

 

Del CJ Steele on Board Authority versus Shareholder Empowerment

Shareholder Empowerment vs. Board Authority

Federal court bounces say on say lawsuit

Inventive plaintiff lawyers have been trying to use negative say on pay votes as a basis for extorting money from corporations basis for bringing suit to protect investors from excess executive pay. I've deplored this practice before, arguing that there's no federal cause of action and that the state causes of action are bogus (here and here).

Now, as Broc Romanek reports, a federal district court has bounced one of these law suits:

In a decision reaffirming directors' authority to determine executive compensation, the United States District Court for the District of Oregon has ruled that a suit against bank directors arising out of a negative "say on pay" vote should be dismissed. The court determined that plaintiffs failed to raise a reasonable doubt that the challenged compensation was a reasonable exercise of the board's business judgment. This is the first federal court decision to dismiss such an action, a number of which have been filed in state and federal courts across the country in the wake of the Dodd-Frank Act. Plumbers Local No. 137 Pension Fund v. Davis, Civ. No. 03:11-633-AC (Jan. 11, 2012).

... The court also held that the Dodd-Frank Act did not alter directors' fiduciary duties and that a negative "say on pay" vote alone does not suffice to rebut the business judgment protection for directors' compensation decisions. In so holding, the court expressly declined to follow a prior federal court decision which had denied a motion to dismiss in a "say on pay" action in the Southern District of Ohio, NECA-IBEW Pension Fund v. Cox, No. 11-451 (S.D. Ohio, Sept. 20, 2011).

I understand that sharks got to eat, but I still think that the right answer to these suits is not just to dismiss them on the pleadings but also to impose sanctions on the lawyers bringing them. They are utterly lacking in merit.

Are the feds overdoing insider trading prosecutions?

The WSJ today reports that:

The government has secured 56 guilty pleas or convictions out of 63 people charged with insider trading since late 2009.

Many of the cases brought in this latest anti-insider trading crusade have involved hedge fund traders and other market analysts, with a special focus on so-called expert networks. The Economist explained how these networks work and what impact the legal crusade is having:

Expert networks are matchmakers that link clients with experts. A hedge fund that trades pharmaceutical stocks, for example, might use an expert network to find a doctor who can explain how a new cancer drug works. The network would set up a phone call and pay the doctor handsomely.

Such networks have recently caught the eye of American regulators, who fret that investors may be using them to ferret out illegal inside information. ... [As a result,] some hedge funds are suspending their use of such networks, for fear of falling foul of the law. Others are making their traders jump through legal hoops before allowing them to speak to an expert. A few are abandoning networks altogether, and finding their own experts. 

I am not one of those who thinks insider trading out to be legalized. To the contrary, I have defended a prohibition of insider trading--if not the precise prohibition established by current law--as a necessary way of protecting corporate property rights in information. See Insider Trading Regulation: The Path Dependent Choice between Property Rights and Securities Fraud. Southern Methodist University Law Review, Vol. 52, Pp. 1589-1651, 1999. Available at SSRN: http://ssrn.com/abstract=208272.

The current emphasis on attacking hedge funds and expert networks, however, strikes me as having the potential to chill legitimate market analysis.

In the seminal Supreme Court case of Dirks v. SEC, Justice Lewis Powell explained that overly zealous enforcement of insider trading bans can have a highly detrimental effect on market efficiency:

Imposing a duty to disclose or abstain solely because a person knowingly receives material nonpublic information from an insider and trades on it could have an inhibiting influence on the role of market analysts, which the SEC itself recognizes is necessary to the preservation of a healthy market. [Footnote 17] It is commonplace for analysts to "ferret out and analyze information," 21 S.E.C. Docket at 1406, and this often is done by meeting with and questioning corporate officers and others who are insiders. And information that the analysts obtain normally may be the basis for judgments as to the market worth of a corporation's securities. The analyst's judgment in this respect is made available in market letters or otherwise to clients of the firm. It is the nature of this type of information, and indeed of the markets themselves, that such information cannot be made simultaneously available to all of the corporation's stockholders or the public generally.

[Footnote 17] The SEC expressly recognized that

"[t]he value to the entire market of [analysts'] efforts cannot be gainsaid; market efficiency in pricing is significantly enhanced by [their] initiatives to ferret out and analyze information, and thus the analyst's work redounds to the benefit of all investors."

21 S.E.C. Docket at 1406. ...

Notice that Powell expressly endorsed allowing market analysts to "meet[] with and question[] corporate officers and others who are insiders ...."

Facilitating such meetings is precisely what expert networks do. To be sure, that doesn't give the networks a license to facilitate tipping by insiders. But I still wonder whether the current crusade is overdoing it and thereby chilling legitimate market analysis. If so, the crusade may do more damage to market efficiency than any of the alleged insider trading activity.

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.

Has ISS Moved Into Advocacy?

Keith Bishop raises some very troubling questions about the role Institutional Shareholder Services is taking in the debate over political spending disclosure. Basically, ISS seems to be taking an activist position as an advocate.

"Why Is Creating Value Good, Profits Bad?"

Paul Hiseh discusses the titular question:

"Profit" is a dirty word. Profit-seeking businessmen are stock villains in Hollywood movies. "Occupy Wall Street" protestors demand, "People not profits" (whatever that means). Companies reporting healthy profits are automatically assumed to be exploiting customers and can only atone for this by "giving back" to their communities. "Making a profit" has an unsavory, morally suspect taint.

Yet simultaneously, Americans have a far more positive view of the concept of "creating value." The mainstream press lauds visionary businessmen who "create value," such as the late Steve Jobs of Apple. The business literature routinely emphasizes the importance of "creating value." So many organizations wish to be seen as "creating value" that it has become a business cliche, like "best practices" and "thinking outside the box."

But in a free society, "creating value" and "making a profit" are just two sides of the same coin.

He goes on to explain why in detail. Recommended reading.

Tweet of the Day

Comes from @evgenymorozov:

My advice: don't f*ck with Brian Leiter - he'll eat your brains out http://flpbd.it/3lb9

Always good advice.

The interactive third edition of Klein, Ramseyer & Bainbridge's case book on Agency, Partnership, and Limited Liability Entities

I just got the author's copies of the new edition of our agency case book and I think it looks great. There are a lot of new features, including several new cases:

• Rash v. Intermediate, Ltd.
• Davis v. Loftus
• Sandvick v. LaCrosse
• Nemec v. Shrader
• RNR Investments Ltd. Partnership v. Peoples First Community Bank
• Fisk Ventures, LLC v. Segal
• Gottsacker v. Monnier
• Racing Investment Fund 2000 LLC v. Clay Ward Agency, Inc.
• R&R Capital v. Buck & Doe Run Valley Farms.

The book also contains many points for discussion, hypotheticals, and executive summaries.

I think the most exciting feature, however, is that this is our first interactive case book. Working with Foundation Press, we have created a learning resource we believe is more in tune with the ways that law students think and learn today. As we know, students are familiar with online legal research resources and accustomed to electronic materials. Accordingly, an electronic version of Agency, Partnerships and Limited Liability Entities accompanies the print version to provide students with interactive study and research tools that include:

• Hyperlinks to westlaw.com that provide full text of cases, statutes, Restatements, and articles
• A searchable text function that allows users to highlight and annotate selected text
• Live links to related websites and other online material

Each book includes a keycode that provides access to the online version of the book for 12 months. Students interested in purchasing only the online version may do so at store.westlaw.com. This should help make the case book both more user friendly and, at least in its digital form, less expensive.

Does "responsible capitalism" mean shareholders should "behave like business owners rather than absentee landlords"?

Apparently yes, according to the coalition government in the UK:

The Deputy Prime Minister, the Rt. Hon Nick Clegg MP, delivered a speech in London today in which he reflected on "responsible capitalism" and argued that shareholders should "behave like business owners rather than absentee landlords": see here. 

I'd like to make Clegg reflect on my posts Will New Tools Help Small Shareholders Topple Giants and Shareholder Activism by Retail Investors. He'd learn two valuable things: (1) shareholders are not owners and (2) both sound social policy and rational shareholders themselves prefer that shareholders be passive investors rather than activists. Assuming, of course, that politicians are capable of learning.