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I told you so: "Opportunistic Proposals by Union Shareholders"

New paper posted to SSRN supports what I've been saying for years about shareholder activism by union pension funds:

Effective corporate governance requires mechanisms that allow shareholders to influence corporate decisions. This paper investigates the use of shareholder proposals, an increasingly prominent governance mechanism, by labor unions. Activist union pension funds are subject to cross-pressures: they wish to increase fund returns to help beneficiaries but also to aid current union workers. We show theoretically that shareholder proposals can be used as bargaining chips in contract negotiations. Empirically, we use variation in the expiration of collective bargaining agreements to identify exogenous changes in the value of making proposals. We find that during contract negotiation years, unions increase the number of proposals they make by about one-quarter (and by about two-thirds during contentious negotiations), and change the subject of proposals to focus on matters personally costly to managers. We do not find similar changes in proposal behavior by nonunion shareholders. Opportunistic union proposals are also associated with better wage agreements for the union. The evidence suggests that some union proposals are intended to influence collective bargaining outcomes rather than maximize shareholder value, and that increasing proposal rights will not necessarily help shareholders at large if some shareholders use those rights to advance their private interests.

Matsusaka, John G. and Ozbas, Oguzhan and Yi, Irene, Opportunistic Proposals by Union Shareholders (September 26, 2015). Available at SSRN: http://ssrn.com/abstract=2666064

Fixing Section 13(d)

David Katz has some good ideas for bringing the Section 13(d) disclosure system into the modern age.

Fixing Section 13(d)

David Katz has some good ideas for bringing the Section 13(d) disclosure system into the modern age.

Delaware still hates precommitments

From Clare O’Brien and Rory O’Halloran, partners at Shearman & Sterling LLP:

The terms of public company merger agreements typically require the target’s board of directors to recommend that its stockholders either vote in favor of the proposed merger or tender their shares into the tender offer or exchange offer, as applicable, and contain limitations on the target board’s ability to subsequently withdraw or qualify its recommendation. The merger agreement will, however, typically have exceptions, referred to as “fiduciary outs,” that permit the board to change its recommendation in certain circumstances. Although market practice, as well as Delaware case law, supports the view that some restrictions on a target board’s ability to change its recommendation are consistent with directors’ discharge of their fiduciary duties—including the board’s disclosure obligations under Delaware’s duty of candor—the scope of those permissible restrictions will depend on the particular terms (and other relevant facts and circumstances) of each transaction. Market practice in this regard has also evolved over the last several years, particularly with respect to the introduction, and then increasing use, of a so-called “intervening event” (discussed below) as a trigger for a board’s ability to change its recommendation. ...

Target companies are continuing to agree to restrictions on the ability of their board to change its recommendation. Upon review of the terms of 81 public merger agreements governed by Delaware law signed from July 1, 2014 to July 21, 2015, and valued at over $1 billion[9], 59 (or 73%) of the transactions limited the ability for a board to change its recommendation to circumstances in which the target receives a superior proposal or in which an intervening event occurs, and another four (or 5%) of the transactions limited the ability for a board to change its recommendation only to circumstances in which the target receives a superior proposal. Only 17 (or 21%) of the transactions provided for a broad fiduciary out that may be exercised upon a determination by a target board that not changing its recommendation would be inconsistent with its fiduciary duties. For one transaction involving an all-stock combination of two affiliated parties, the merger agreement provided for no fiduciary out. In light of these findings, it appears that target companies and their advisors typically allow some restrictions on a board’s ability to change its recommendation.

As mentioned above, Delaware courts have not directly addressed the extent to which restrictions agreed between parties to a merger agreement that limit a target board’s ability to change its recommendation are inconsistent with directors’ fiduciary duties. However, there is some commentary in the public domain that may be instructive. For example, at a 2009 panel discussion at the Tulane Corporate Law Institute at which restrictions on a target board’s ability to change its recommendation were discussed, Leo Strine (now Chief Justice of the Delaware Supreme Court, but then-Vice Chancellor of the Delaware Court of Chancery) was reported in the media to be “openly skeptical” of whether certain restrictions would be consistent with Delaware law. [10]

More recently, in In re NYSE Euronext Shareholders Litigation, then-Chancellor Strine of the Delaware Court of Chancery, in a bench ruling following oral argument, declined to issue a preliminary injunction on a stockholder vote to approve the proposed merger between NYSE Euronext (“NYSE Euronext”) and IntercontinentalExchange, Inc. (“ICE”). While noting that the definition of “superior proposal” in the merger agreement would have excluded a hypothetical alternate transaction proposal from a bidder who sought to acquire discrete businesses of NYSE Euronext, then-Chancellor Strine stated that he shared the plaintiffs’ skepticism that “contractual promises to lie in the future have any real commercial utility.” [11]

The problem I have with Strine's analysis is that the so-called "lie" is an artifact of Delaware's consistent hostility towards the use of precommitment devices. I wrote about this some years ago in Dead Hand and No Hand Pills: Precommitment Strategies in Corporate Law (October 30, 2002), available at SSRN: http://ssrn.com/abstract=347089, in which I argued that:

Corporations frequently make use of precommitment strategies. Examples include such widely used devices as negative pledge covenants and change of control clauses in bond indentures, fair price shark repellents, no shop and other exclusivity provisions in merger agreements, mandatory indemnification bylaws, and so on. This paper argues that poison pills also can be understood as a form of precommitment, by which the board of directors commits to a policy intended either to negotiate a high acquisition price or to maintain the corporation's independence. 

In Quickturn Design Sys., Inc. v. Mentor Graphics Corp., the Delaware supreme court invalidated a no hand poison pill on grounds that a board of directors lacks authority to adopt such devices. In doing so, the court misinterpreted relevant Delaware law. It unjustifiably called into question the validity of a host of corporate precommitment strategies. Finally, and perhaps most troublingly, it called into question the central tenet of Delaware corporate law; namely, the plenary authority of the board of directors. 

This article argues that the Delaware supreme court's decision was wrong both as a doctrinal and a policy matter. There simply is no firebreak between the sorts of board self-disablement deemed invalid by Quickturn and the host of other precommitment strategies routinely used by corporate boards of directors. The Delaware supreme court's conclusion that the former are invalid for lack of statutory authority thus threatens to invalidate all of the latter. The article concludes by arguing that the Delaware supreme court should have analyzed the no hand pill under standard fiduciary duty principles rather than creating a new prophylactic ban on precommitment strategies.

The idea that boards have continuing fiduciary duties that preclude them from entering into a binding precommitment has been the source of much bad law and, as a result, much unnecessary transactional gimcrackery.

Paul Atkins on the campaign to force corporate political campaign contribution disclosure

In yesterday's WSJ, former SEC Commissioner Paul Atkins argued against the proposals being made by many to force corporations to disclose political contributions:

The article “CFO Journal: A Stubborn Political Divide” (Business & Tech., Sept. 15) grossly overstates the amount businesses donate to candidates and political groups. Any personal contribution that identifies an employer is considered a business contribution. In fact, individual contributions make up well over half of the alleged “business” contributions that were reported.

The article states that for 10 years, “shareholders” have submitted proposals to Charles Schwab requesting more information related to its public-policy expenditures. Let’s be clear. Ordinary investors aren’t filing these resolutions. The New York City Pension Funds, which are solely controlled by a partisan political official, have filed shareholder proposals at Schwab for the past nine years in a row. Unsurprisingly, actual shareholders focused on their return on investment think otherwise, and every time have overwhelmingly rejected these proposals by more than a 3-to-1 margin, which is consistent with the average level of opposition to such shareholder proposals related to public-policy advocacy.

Public companies need to recognize that this movement isn’t about transparency and good governance but is instead an effort by political activists to silence the business community.

Château Meyney (Saint-Estèphe) 1986

1986 is an important year for me, because it was the year I got married. Chateau Meyney is an important wine for me, because it was one of the first really good Bordeaux I could afford back in the 1980s. We drank a lot of it in the late 80s and through out the 1990s. When I set up my cellar in LA almost 20 years ago, I stocked it with a number of my favorite Meyney vintages (and 1986s in general) bought at auction.

As this weekend is our 29th anniversary, I decided to open the last bottle of '86 Meyney in my cellar.

This bottle showed significant ullage, being at the high shoulder level, and the cork was deeply stained. Fortunately, however, the wine was still in excellent shape. I decanted it off a moderate amount of dense sediment about 40 minutes before dinner (rack of lamb with a blue cheese/panko crust, mushroom risotto, and salad). Still a very respectable ruby color, but with some brick at the rim. Big bouquet of cedar, leather, tobacco, plums, and prunes. On the palate, it was smooth and silky. The flavor associations it called to mind included an old humidor, leather, prunes, and cedar.

Probably just past peak, so I won't be buying more, but this last bottle made me happy.

Grade: 89

Prior notes in 2013 and 2011.

Delaware Chancery Court makes life hard for case book authors (and lawyers)

Francis Pileggi points out something that, as a case book author, has been bugging me for a while; namely, the massive bloat in Delaware Chancery Court opinions:

Over the last three weeks or so, the Delaware Court of Chancery has issued three opinions of over 100 pages each in as many weeks, with one of those three being over 200 pages in length. Prolific would be a fair word to use, among others, to describe such prodigious output.

Bloated would be an even fairer word to use. In our case book, we make a determined effort to keep cases below 10 pages--in our experience, students just don't read 30-40 page assignments each day (I know I didn't back in my day--which is why we often end up looking outside Delaware. Chopping a 100+ page opinion down to 10 is really hard even when you have a great editor like Ramseyer on your side.

But even if we don't use these massive opinions, we still have to read them to keep up on our professional reading. And that must be even worse for practicing lawyers who need to maximize their billable hours.

So here's a plea for brevity.

More on Riverbed and M&A disclosure-only settlements

Francis Pileggi has links and analysis, concluding that:

The court in this case was hesitant to approve the fee request that it ultimately allowed in this case but did so based in part on the reliance by the parties on the past practice of the Court of Chancery in which settlements were approved and fees were awarded when the parties negotiated a remedy in good faith that was limited to mere disclosures only.  Because the settlement was consummated on that basis with a reasonable expectation that the court would approve terms as it had done in the past, the court reluctantly approved it but also provided a warning for future litigants that there were two major problems that would be subject to further scrutiny in the future that might make it more difficult to obtain court approval in the future in these types of cases.

SEC Commissioner Gallagher advocates massive change to the shareholder proposal process

The Washington Legal Foundation has published a new article co-authored by SEC Commissioner Daniel Gallagher. It proposes "an idea last raised in the late 1990s:"

... devolve shareholder proposals back to the states, which traditionally and appropriately have been allotted authority over corporate governance matters. The state in which a company is incorporated would have the latitude to decide under what circumstances to permit shareholder proposals, and would adjudicate any questions about whether a proposal must be included. The SEC staff’s role could be limited to determining whether the proposal and any supporting or opposing statements authorized by state law contain any material misstatements or omissions.

Let's do it.

Why do bubble laws suck?

Larry Ribstein coined the phrase. Roberta Romano has written about the question, while inventing the term "quack corporate governance." And, of course, my book Corporate Governance after the Financial Crisis argues at length that Sarbanes-Oxley and Dodd-Frank were bubble laws that imposed burdensome and senseless new rules.

Now Paul Mahoney offers a complementary theory of bubble laws:

Critics argue that the statute imposes disproportionately large compliance costs on small community banks, institutionalizes “too big to fail,” and drives up the cost of banking services to consumers. Comparing Dodd-Frank to past securities reforms, particularly those of the New Deal, shows that these three problems are related and are nearly inevitable features of post-crisis legislation. ...

Every major financial reform in U.S. history was enacted in the aftermath of a substantial decline in equity prices. Each, in other words, was crafted during a time of public anger that politicians hoped to deflect from themselves to Wall Street. The congressional authors always compose a narrative of the stock market crash that blames unscrupulous financial intermediaries or public companies and insufficient regulation of the markets. Just as inevitably, proponents studiously avoid any suggestion that their own prior regulatory innovations had unintended consequences that contributed to the crash. Meanwhile, firms in the regulated industry concentrate on determining who the winners and losers may be under a new regulatory regime, so they can make sure they end up on the winning side.

This routine ensures that the primary losers from financial reform are investors and small, regulated firms. Costly new rules simultaneously serve the ends of Congress and the major financial institutions. They allow Congress to argue that it filled the regulatory gaps that it claims caused the crisis. Large firms can spread the new costs over a large number of transactions, giving them a structural advantage over their smaller and previously nimbler competitors. All firms will seek to pass on to their customers as many of the regulatory costs as possible.

All of this would be unfortunate but bearable if the new regulations generated benefits in excess of their costs. But that is unlikely with post-crisis legislation. The objective is to show the public that Congress is doing something and time is short. Congress knows relatively little about the details of market practices and so relies on the financial industry for information. The largest firms have skilled lobbyists and contacts with legislative staff. They argue, often successfully, that their ways of doing business are “best practices” and their competitors’ practices are shoddy or unfair. The process almost guarantees that the legislation will harm competition and therefore investors.

I think Mahoney's take is consistent with the story that Ribstein, Romano, and I told. Perhaps I should welcome him to the "Tea Party caucus" of corporate law.

Ann Lipton on Page v Page

Ann Lipton has a great analysis of the backstory of a classic partnership law chestnut. 

More on M&A class actions in Delaware

"Delaware ruling signals tougher line on 'merger tax' class actions" https://t.co/4o1wdXfpVV

— Francis Pileggi, Esq (@fpileggi) September 19, 2015

Delaware court raising standards for class actions against mergers http://t.co/yIhytt8ygp (via @ijournal) #corpgov

— NACD (@NACD) September 22, 2015

Sean Griffith wins while losing on disclosure-only settlements, but will Delaware lose?

Kudos to Sean Griffith for his campaign to object to disclosure-only settlements of mergers and acquisitions litigation, which typically benefit only the lawyers on both sides. Although Sean lost this round, the court's opinion bodes well for a future crackdown on abusive M&A lawsuits and these lousy settlements. Alison Frankel has the details:

On Thursday, Vice Chancellor Sam Glasscock issued a written opinion reluctantly approving a settlement in which a class of Riverbed Technologies shareholders challenging Thoma Bravo’s $3.6 billion acquisition of the company granted broad litigation releases in exchange for meager disclosures in proxy materials. As you may recall, Fordham law professor Sean Griffith had formally objected to the settlement, arguing that the additional disclosures didn’t benefit shareholders. Plaintiffs’ lawyers led by Block & Leviton defended the disclosures and asserted that Griffith didn’t have standing because he bought Riverbed shares after the deal was announced, specifically so he could object to a prospective disclosure-only settlement.

Glasscock ruled Griffith did have standing, a boon for the law professor’s announced campaign to object to similar settlements in M&A cases. The judge also agreed the disclosures obtained by plaintiffs’ lawyers weren’t worth much to Riverbed shareholders. He decided to approve the settlement – albeit cutting the deal’s fees for plaintiffs’ lawyers – mostly because when the agreement was negotiated, both sides had a reasonable expectation, based on Delaware precedent, that it would be approved. ...

But the vice chancellor said that shouldn’t be anyone’s expectation going forward. His written opinion is the culmination of a summer of discontent for Chancery Court judges evaluating disclosure-only M&A settlements.

As Frankel further explains:

Chancellor Andre Bouchard, in a series of hearings, confirmed that Chancery Court is going to give “more scrutiny on some of the give and the get of these things.”

After musing from the bench about his “concern that a lot of the stuff that has been occurring historically is very fluffy,” and warning that “everybody would be well-advised to make sure you have got something real before you package one of these up and bring it in to the court" ....

On Wednesday, the chancellor finally declined to approval a settlement, instead asking lawyers for both shareholders and defendants in In re Trulia Stockholder Litigation for additional briefing on the standard for evaluating the materiality of the disclosures plaintiffs’ lawyers obtained and on the scope of the releases they agreed to. “We’re talking about the underbelly of settlements,” Bouchard said. “It’s easy to go back to ‘it’s standard,’ and I’m not faulting you for that … But then again, when I started practicing, very few people sued on every deal, and we never dealt with the kind of volume of this stuff that we see nowadays. And it just can’t be that this is socially useful.”

Fordham professor and Riverbed objector Griffith said the Riverbed written opinion crystallized the message Chancery judges have been sending from the bench all summer: The days of reflexive approval for disclosure-only settlements (and accompanying lawyers’ fees of several hundred thousand dollars) are over. “Once they clear the pipeline, they are going to do something different going forward,” Griffith said.

The Economist says "The golden age of the Western corporation may be coming to an end"

Not so very long ago two of The Economist's greatest writers -- John Micklethwait and Adrian Wooldridge -- were calling the corporation "the basis of the prosperity of the west and the best hope for the future of the rest of the world." Of course, not so long ago, The Economist was a reliable defender of free markets and classical liberalism. But things have changed.

Apropos of which, in the latest issue of the Economist, the usually reliable Schumpeter column (is Wooldridge still writing it?) opines that:

The golden age of the Western corporation ... was the product of two benign developments: the globalisation of markets and, as a result, the reduction of costs. The global labour force has expanded by some 1.2 billion since 1980, with the new workers largely coming from emerging economies. Corporate-tax rates across the OECD, a club of mostly rich countries, have fallen by as much as half in that period. And the price of most commodities is down in real terms.

Now a more difficult era is beginning. More than twice as many multinationals are operating today as in 1990, making or more competition. Margins are being squeezed and the volatility of profits is growing. The average variance in returns to capital for North American firms is more than 60% higher today than it was in 1965-1980.

If The Economist had said the Western corporation is in trouble because of over-regulation, I would have agreed. But that's not what they're saying (admittedly, it's a little hard to figure out what is the precise thesis of the article). They seem to be saying that the Western corporation as an institutional form is in decline.

If so, I have problems with that claim. First, as noted, the Economist fails to differentiate between public and private corporations. To be sure, the article notes that "in America the number of firms listed on stock exchanges has fallen from 8,025 in 1996 to about half that number now." But only a tiny fraction of those firms entirely ceased to exist. Many were acquired by other firms, which hardly suggests an institution in decline. Many more went dark, which, again, is hardly indicative of a failed institutional form. Indeed, many of those formerly public corporations are doing well. So Western corporations--writ large--are hardly in decline.

Second, and related, while The Economist opines that "With luck, the tale of the relative decline of the Western corporation will also be a tale of the reinvention of capitalism as new forms of companies arise to seize opportunities from the old," it overlooks the fact that that is already happening as private equity firms continue to rise in importance. Critically, however, most private equity portfolio companies are--you will have guessed--Western corporations. So not a demise, not an end of an epoch, just a change from public to private ownership.

Third, The Economist could have said more about the reasons for the purported decline. The going dark phenomenon, as I have demonstrated elsewhere, is not due to any institutional failings on the part of the corporate form but is mainly due to the rapidly rising regulatory burdens the US and other Western governments have been placing on their public companies. So if The Economist is right about public corporations being in decline, we could get a huge jump on reversing that phenomenon by slashing the regulatory burdens created by quack laws like Sarbanes-Oxley and Dodd-Frank.

Finally, The Economist tells us that Western corporations are facing "the rise of emerging-market competitors. The share of Fortune 500 companies based in emerging markets has increased from 5% in 1980-2000 to 26% today. These firms are expanding globally in much the same way as their predecessors from Japan and South Korea did before them." How many of these competitors are corporations based on the Western model, one wonders? In any case, we've heard this story before. Go back to the 1980s, for example. Remember Japan Inc.? Remember how the Japanese were going to end up owning everything? Remember "The Japan that Can Say No?" Western corporations saw off that challenge. Given the trouble China is already having, plus their demographic problems, there's no reason to think Western corporations cannot meet this challenge.

I don't know if the estimable Adrian Wooldridge wrote this column, but if so I'd like to see him address at more length the disparity between the pessimism and lack of clarity of this column and the optimism and clarity of The Company: A Short History of a Revolutionary Idea.

The sorry state of intellectual "diversity" in USA law schools

Nicholas Rosenkrantz:

Elite law faculties are overwhelmingly liberal. Jim Lindgren has proven the point empirically. I will just add my impressions from Georgetown Law School to reinforce the point. We are a faculty of 120, and, to my knowledge, the number of professors who are openly conservative, or libertarian, or Republican or, in any sense, to the right of the American center, is three—three out of 120. There are more conservatives on the nine-member United States Supreme Court than there are on this 120-member faculty. Moreover, the ideological median of the other 117 seems to lie not just left of center, but closer to the left edge of the Democratic Party.  Many are further left than that. 

These numbers are stark, but they are not unusual; this ratio actually seems fairly typical of most elite law schools.

It's certainly true here at UCLA, where our numbers--never large--are shrinking. (When I say "our," does it surprise any of my readers that I lean right of center?) Back to Professor Rosenkranz:

This lop-sidedness would be a shame in any academic department. But it is a particularly ironic sort of shame at a law school. After all, it is a fundamental axiom of American law that the best way to get to truth is through the clash of zealous advocates on both sides. All of these law professors have, in theory, dedicated their lives to the study of this axiomatically adversarial system. And yet, at most of these schools, on most of the important is- sues of the day, one side of the debate is dramatically underrepresented, or not represented at all. 

Please go read the whole thing.