ProfessorBainbridge.com

Q&A on Corporate Governance After the Financial Crisis Part 3: "You argue against the conventional wisdom that problems of corporate governance led to the financial crisis of 2008. Why?"

The latest issue of the UCLA Lawyer magazine has a series of Q&As with yours truly about my book Corporate Governance after the Financial Crisis. I'm reprinting the Q&As in this series of blog posts. As the article intro explains, the book argues "that federalizing corporate governance impinges on state sovereignty, hobbles corporate efficiency and shortchanges both investors and the American taxpayer .... Professor Bainbridge offers an incisive analysis of the landscape-altering Sarbanes-Oxley and Dodd-Frank acts, responses to the near-cataclysmic economic downturns of the last decade," which "advances a critical dialogue about the limits of crisis-driven public policy."

Q: You argue against the conventional wisdom that problems of corporate governance led to the financial crisis of 2008. Why? 

A: There is little evidence that poor corporate governance practices contributed to either the economic turmoil of the last decade in general or the declining competitiveness of U.S. capital markets. In the wake of the tech stock bubble, Bengt Holmstrom and Steven Kaplan published a comprehensive review of U.S. corporate governance that concluded the U.S. corporate governance regime was “well above average” in the global picture. Even when the fallout from the bubble was taken into account, returns on the U.S. stock market equaled or exceeded those of its global competitors during five time periods going back as far as 1982. Likewise, U.S. productivity exceeded that of its major Western competitors. In general, the trend with respect to major corporate governance practices had been toward enhanced management efficiency and accountability. Pay for performance compensation schemes, takeovers, restructurings, increased reliance on independent directors and improved board of director processes all tended to more effectively align management and shareholder interests.

As far as the economic crisis following the bursting of the housing bubble, “[a] striking aspect of the stock market meltdown of 2008 is that it occurred despite the strengthening of U.S. corporate governance over the past few decades and a reorientation toward the promotion of shareholder value.” A recent report commissioned by the New York Stock Exchange reached the same conclusion, finding that “the current corporate governance system generally works well.”

Elson on the pernicious role of the peer group methodology in setting executive compensation

My old friend and law school classmate Charles Elson is here today and tomorrow at UCLAW to present his research on the pernicious effects that the peer group methodlogy has in executive compensation. The paper, Executive Superstars, Peer Groups and Over-­Compensation: Cause, Effect and Solution, explains that:

In setting the pay of their CEO, boards invariably reference the pay of the executives at other enterprises in similar industries and of similar size and complexity. For this, compensation consultants are retained to construct a “peer group” of such companies and survey the pay practices which are prevalent. Then, in what is described as “competitive benchmarking”, compensation levels are generally targeted to either the 50th, 75th, or 90th percentile. This process is alleged to provide an effective gauge of the “market wage” which is necessary for executive retention. 

The article got a nice write up by Gretchen Morgenstern in the NY Times, who explains that:

New research by Charles M. Elson, director of the John L. Weinberg Center for Corporate Governance at the University of Delaware, and Craig K. Ferrere, one of its Edgar S. Woolard fellows, begins by attacking this conventional wisdom. Mr. Elson and Mr. Ferrere conclude, contrary to the prevailing line, that chief executives can’t readily transfer their skills from one company to another. In other words, the argument that C.E.O.’s will leave if they aren’t compensated well, perhaps even lavishly, is bogus. Using the peer-group benchmark only pushes pay up and up.

“It’s a false paradox,” Mr. Elson said in an interview last week. “The peer group is based on the theory of transferability of talent. But we found that C.E.O. skills are very firm-specific. C.E.O.’s don’t move very often, but when they do, they’re flops.”

Broc Romanek comments that:

This new study makes it clear that peer grouping with minimal board discretion is a seriously flawed methodology even when the peer groups are fairly constructed. The authors note their study is the first to document that peer group benchmarking has accidentally become the de facto standard even though it never was designed to determine CEO compensation. 

The fact that most CEOs aren't transferable is something that we have been saying for a long time (eg. this blog). And we also have been warning compensation committees that if they rely heavily on peer groups - and don't use alternative benchmarking techniques like internal pay equity instead - they can be in trouble in court since so many have warned that pay has skyrocketed over the past two decades due to peer group benchmarking. In other words, it arguably isn't reasonable to rely on peer group surveys any more (here's my latest rant on this topic). Will boards and their advisors finally wake up on this issue? They should before the lawsuits come - because then it will be too late...

An executive summary of the paper is available here. I think this is a tremendously important development and a major contribution to the debate.

A smart law review editor would be calling Elson today to accept the article. It's going to be widely cited and discussed for a long time.

In the mail: Research Handbook on Executive Pay

Today's post brought a copy of Research Handbook on Executive Pay, edited by two outstanding legal scholars Randall Thomas and Jennifer Hill.

Research on executive compensation has exploded in recent years, and this volume of specially commissioned essays brings the reader up-to-date on all of the latest developments in the field. Leading corporate governance scholars from a range of countries set out their views on four main areas of executive compensation: the history and theory of executive compensation, the structure of executive pay, corporate governance and executive compensation, and international perspectives on executive pay.

The authors analyze the two dominant theoretical approaches - managerial power theory and optimal contracting theory - and examine their impact on executive pay levels and the practices of concentrated and dispersed share ownership in corporations. The effectiveness of government regulation of executive pay and international executive pay practices in Australia, the US, Europe, China, India and Japan are also discussed.

On a quick scan, many of the articles look quite useful. Todd Henderson's chapter on insider trading and executive compensation looks typically excellent. I'm already deep into Kevin Murphy's chapter on the politics of pay and his expertise and clarity make it a great read. In sum, this looks like an essential addition to the library of toilers in the compensaton vineyard.

Q&A on Corporate Governance After the Financial Crisis Part 2: "Why are the corporate governance provisions of federal financial reform laws like Sarbanes-Oxley and Dodd-Frank so misguided?"

The latest issue of the UCLA Lawyer magazine has a series of Q&As with yours truly about my book Corporate Governance after the Financial Crisis. I'm reprinting the Q&As in this series of blog posts. As the article intro explains, the book argues "that federalizing corporate governance impinges on state sovereignty, hobbles corporate efficiency and shortchanges both investors and the American taxpayer .... Professor Bainbridge offers an incisive analysis of the landscape-altering Sarbanes-Oxley and Dodd-Frank acts, responses to the near-cataclysmic economic downturns of the last decade," which "advances a critical dialogue about the limits of crisis-driven public policy."

Q: Why are the corporate governance provisions of federal financial reform laws like Sarbanes-Oxley and Dodd-Frank so misguided?

A: In ordinary times, Washington typically has more important issues on its plate than corporate governance. After a financial bubble bursts, however, investors burnt by losses from the breaking of the bubble and outraged by evidence of misconduct by corporate insiders and financial bigwigs create populist pressure for new regulation. Accordingly, it is in the post-bubble environment, when scandals and economic reversals are in the headlines, that Congress typically acts. Because such periods typically involve an upswing in populist anger and accompanying intense public pressure for action, they offer windows of opportunity for well- positioned policy entrepreneurs to market their preferred solutions when there is little time for reflective deliberation. As a result, you end up with laws meeting criteria for quack corporate governance laws. Indeed, according to our colleague Stuart Banner’s wonderful book, Anglo-American Securities Regulation: Cultural and Political Roots, 1690-1860 (1998), the same pattern of boom, bust and regulation can be seen far back into the nineteenth century.

I make the Directorship corporate governance 100 list for the third time

The National Association of Corporate Directors today announced that:

Each year, NACD Directorship identifies the most influential people in the boardroom community, including directors and officers, as well as corporate governance experts, journalists, regulators, academics and counselors. Reviving economic growth remains a priority for policy makers and directors alike. Therefore, our programs strive to offer a balance between those who do actual board work and those who influence how that work is done. Click here to learn more about each honor.

This list is not intended to encapsulate all the career accomplishments of the D100 but rather to highlight at least one noteworthy position. More complete bios will appear in the November/December 2012 issue of NACD Directorship.

In the category Governance Professionals and Institutions, we find:

Stephen Bainbridge
William D. Warren Distinguished Professor of Law
UCLA School of Law

I was also named to the list in 2008 and 2011.

It is an honor to be included among such leading corporate governance figures. 

Q&A on Corporate Governance After the Financial Crisis Part 1: "How do you define 'quack' corporate governance laws or regulations?"

The latest issue of the UCLA Lawyer magazine has a series of Q&As with yours truly about my book Corporate Governance after the Financial Crisis. I'll reprint the Q&As in this series of blog posts.

In his new book, Corporate Governance after the Financial Crisis (Oxford University Press, 2012), William D. Warren Distinguished Professor of Law Stephen Bainbridge proves expert at turning conventional wisdom on its head. His argument—that federalizing corporate governance impinges on state sovereignty, hobbles corporate efficiency and shortchanges both investors and the American taxpayer—advances a critical dialogue about the limits of crisis- driven public policy. Professor Bainbridge offers an incisive analysis of the landscape-altering Sarbanes-Oxley and Dodd-Frank acts, responses to the near-cataclysmic economic downturns of the last decade. By crystallizing the connection between federal intervention and bad public policy, he makes a strong case for the need for smart corporate governance reform.

Professor Bainbridge, who joined the UCLA Law faculty in 1997 and has been named one of the 100 most influential people in the field of corporate governance, is a renowned teacher and scholar whose expertise includes the law and economics of public corporations.

Q: How do you define “quack” corporate governance laws or regulations?

A: Unwise federal laws or SEC rules that meet these criteria: (1) The law was supported by a powerful interest group coalition, which used a financial crisis such as the post-Lehman Bros. credit crunch in 2007-2008 to achieve longstanding policy goals essentially unrelated to the causes or consequences of the financial crisis. (2) The new law or rule lacks strong empirical or theoretical justification. To the contrary, there are theoretical and empirical reasons to believe that each is bad public policy. (3) The new law or rule erodes the system of competitive federalism that is the unique genius of American corporate law by displacing state regulation with federal law. 

Still more on counting citations

The debate continues over at Brian Leiter's blog. Personally, I stand by my prior position that the superior counting methodology is the one that results in the highest ranking for, well, me.

Decoding law professor book reviews

Pierre Schlag has an amusing post on the subtext of many (most?) book reviews by law professors.

"Bainbridge, though a partisan law and economics scholar, is an unusually clear and well-organized writer"

Robert Illig opines (in 61 J. Legal Educ. 585, 617-18):

Much of the scholarly debate over the regulation of large businesses falls under the rubric of “corporate governance.” Beginning with Adolf Berle and Gardiner Means's classic 1933 account of The Modern Corporation and Private Property, this field has focused primarily on agency costs. These are the inefficiencies that result when a principal--in this case, a shareholder, partner or other equity investor--engages an agent or manager to do his or her bidding. Because the interests of the agent inevitably differ from those of the principal, losses arise from the agent's predictably divergent behavior. The goal of corporate governance reform is to minimize those losses.

Conservative law professor Stephen Bainbridge describes the origins and development of this field in The New Corporate Governance in Theory and Practice. Bainbridge, though a partisan law and economics scholar, is an unusually clear and well-organized writer. As a result, so long as you are able to judge the ideological overlay within the confines of your own prejudices, you will find this volume to be a thorough and understandable introduction to the field.

I hab a code in by dose

What Tom said....

A few months ago my beloved lab Biscuit somehow got a hold of some rat poison and almost died. For awhile, it looked like she surely would. I started to go through the realization, fortunately premature, that I was going to lose her. It was pretty awful. People immediately think, yes, but it's not as bad as losing a human loved one, and that's true. But you also come to realize, for better or worse, that you love your dog a lot more than you love all but a few people and losing that dog is going to leave a large dog-shaped hole in your heart. It leaves you facing a bitter truth at the very heart of life, that to love is eventually to endure loss. Perhaps part of the reason we love dogs so much is that they have nothing to say in response to that, and don't need to say anything.

via rightcoast.typepad.com

Eloquently put.

Controversy erupts among competing law professor citation studies

Brian Leiter blogs that Phillips & Yoo Citation Study Has Some Serious Problems and relates comments from Gregory Sisk on Citation Studies.

I prefer studies in which I come in 4th to those in which I come in 10th, but I freely concede that YMMV.

News Corp shareholder litigation: Why make a federal case out of it?

The always on top of things Alison Frankel reports that:

On Tuesday, U.S. District Judge Paul Gardephe refused to stay a consolidated derivative case claiming that the directors of News Corp breached their duty to shareholders in the phone-hacking scandal -- even though a nearly identical case in Delaware Chancery Court is so much further along that Vice Chancellor John Noble heard arguments on the board's motion to dismiss on Wednesday. Gardephe's justification for allowing the New York federal case to proceed was that, in addition to their breach-of-duty claims under Delaware law, shareholders also asserted federal securities claims under the Exchange Act of 1934. "Because federal courts have exclusive jurisdiction over (those) claims," the judge wrote, "they will not be resolved in the Delaware action. Staying this action in favor of the Delaware action is therefore improper."

Gardephe shrugged off arguments by the board's lawyers at Skadden, Arps, Slate, Meagher & Flom that the New York plaintiffs had tacked on the Exchange Act allegations simply to distinguish their case from the Delaware suit, which predated the New York litigation. According to the judge, the threshold issue under the U.S. Supreme Court's 1976 ruling in Colorado River Water Conservation District v. U.S. was whether the New York and Delaware cases were parallel. He concluded they were not, because the Delaware case didn't include a federal cause of action. So even though the New York case involves Delaware law questions about whether shareholders can establish the futility of demanding action from the News Corp board, Gardephe said, the Exchange Act claim cannot be resolved by the Delaware court.

I get that the Exchange Act is a subject of exclusive federal jurisdiction. And I confess that what I know about civil procedure amounts to about 5 pages on derivative suits in my 400 page corporate law treatise. But I don't understand why the existence of a federal claim allows the NY plaintiffs to proceed with their pendent state law claims in the face of a further along Delaware case making the same claims. Any proceduralists out there want to edify us on why this makes sense (or doesn't)?

Delaware Developments

The indispensable Francis Pileggi, friend of the blog, Delaware lawyer, and blogger on all things Delaware corporate and commercial law, sent along a list of his commentary on important recent Delaware cases. It's bound to be of interest to the corporate law folks who hang out here.

Supreme Court Upholds $2 Billion Judgment and $300 Million Fee Award
http://www.delawarelitigation.com/2012/08/articles/delaware-supreme-court-updates/supreme-ct-op-on-southern-peru/


LP Member Protected from Self-Interested Transaction by Terms of LP
Agreement
http://www.delawarelitigation.com/2012/09/articles/chancery-court-updates/encore/


Court Defines Good Faith as a Contract Standard Among Partners
http://www.delawarelitigation.com/2012/08/articles/chancery-court-updates/chancery-defines-good-faith-for-purposes-of-contract-law/


Court Clarifies Duties of Majority Shareholder When Company is For Sale
http://www.delawarelitigation.com/2012/08/articles/chancery-court-updates/the-borders-of/


Expert Report Prepared for Board Need Not Be Produced
http://www.delawarelitigation.com/2012/08/articles/chancery-court-updates/court-grants-motion-to-compel-personal-financial-information/


Election of Directors by Written Consent Upheld
http://www.delawarelitigation.com/2012/08/articles/chancery-court-updates/court-validates-action-by-written-consent-to-elect-new-board/


Non-Unanimous Written Consents Not Sufficient to Challenge Director
Election
http://www.delawarelitigation.com/2012/08/articles/chancery-court-updates/chancery-allows-challenge-to-director-election-to-proceed/


Statutory Appraisal of Minority Shares in Merger Context
http://www.delawarelitigation.com/2012/07/articles/chancery-court-updates/orchard-2/


Attorneys' Fees Imposed on Party Requesting Imposition of Fees on Opposing
Party
http://www.delawarelitigation.com/2012/07/articles/chancery-court-updates/chancery-imposes-attorneys-fees-on-party-who-requested-fees-against-opposing-party/


A guide that we prepared with practice tips for non-Delaware lawyers that
use "local counsel" in Delaware is available at the following link:
http://www.delawarelitigation.com/2012/07/articles/commentary/delaware-practice-and-procedure-for-non-delaware-lawyers/


Two prior "partial year summaries" of key cases that we compiled earlier
this year are available at the following two links:
http://www.delawarelitigation.com/2012/07/articles/chancery-court-updates/review-of-recent-corporate-and-commercial-decisions/

and
http://www.delawarelitigation.com/2012/04/articles/annual-review-of-cases/key-delaware-corporate-and-commercial-decisions-in-first-4-months-of-2012-2/

The Volokh Conspiracy » Why Punishing Blasphemous Speech That Triggers Murderous Reactions Would Likely Lead to More Deaths

In recent days, I’ve heard various people calling for punishing the maker of Innocence of Muslims, and more broadly for suppressing such speech. During the Terry Jones planned Koran-burning controversy, I heard similar calls. Such expression leads to the deaths of people, including Americans. It worsens our relations with important foreign countries. It’s intended to stir up trouble. And it’s hardly high art, or thoughtful political arguments. It’s not like it’s Satanic Verses, or even South Park or Life of Brian. Why not shut it down, and punish those who engage in it (of course, while keeping Satanic Verses and the like protected)?

I think there are many reasons to resist such calls, but in this post I want to focus on one: I think such suppression would likely lead to more riots and more deaths, not less. Here’s why.

Behavior that gets rewarded, gets repeated. (Relatedly, “once you have paid him the Dane-geld, you never get rid of the Dane.”) Say that the murders in Libya lead us to pass a law banning some kinds of speech that Muslims find offensive or blasphemous, or reinterpreting our First Amendment rules to make it possible to punish such speech under some existing law.

What then will extremist Muslims see? They killed several Americans (maybe itself a plus from their view). In exchange, they’ve gotten America to submit to their will. And on top of that, they’ve gotten back at blasphemers, and deter future blasphemy. A triple victory.

via www.volokh.com