ProfessorBainbridge.com

Battling over Boilerplate in M&A Agreements

In one corner we have Choi, Stephen J. and Gulati, Gaurang Mitu and Scott, Robert E., The Black Hole Problem in Commercial Boilerplate (November 25, 2016). Available at SSRN: https://ssrn.com/abstract=2835681

Rote use of a standard form contract term can erode its meaning, a phenomenon made worse when the process of encrustation introduces various formulations of the term. The foregoing process, when it occurs, weakens the communicative properties of boilerplate terms, leading some terms to lose much, if not all, meaning. In theory, if a clause is completely emptied of meaning through this process it can create a contractual “black hole.” The more frequent and thus potentially more pervasive problem arises when, as the term loses meaning, random variations in language appear and persist, resulting in what we term a “grey hole.” The question that follows is what interpretive strategy courts should use when parties exploit these variations, persuading a court to adopt an interpretation of the grey hole term that (a) surprises the market that previously had disregarded the term and (b) results in an interpretation that the market disavows. Traditional doctrine holds that even if the court errs, parties have an incentive to revise the standard language to exclude the aberrant interpretation. But what if the assumptions about the costs and motivations to revise this type of boilerplate are wrong? We seek to gain purchase on this question with a study of the pari passu clause, a standard provision in sovereign debt contracts that almost no one seems to understand. This clause gained fame in 2011 because of a series of court decisions in New York arguably misinterpreting a particular variation of the clause. Even though the courts’ interpretation put at risk a multi-trillion dollar debt market, meaningful revisions to the language of the boilerplate term did not begin to appear until late 2014. Market forces, in other words, worked very slowly to remedy a major systemic problem, leading to considerable costs. We ask, therefore, whether courts might not do more to avoid the problem at the front end rather than depend on market forces to correct court error at the back end.

In the other corner we have Anderson, Robert and Manns, Jeffrey David, Boiling Down Boilerplate in M&A Agreements: A Response to Choi, Gulati, & Scott (January 1, 2019). Available at SSRN: https://ssrn.com/abstract=3327687

“Boilerplate” consists of standardized terms whose meaning is intended to be consistent from one transaction to the next, and these provisions are ubiquitous in contracts and related transactional documents. In their recent Duke Law Journal article Stephen Choi, Mitu Gulati, and Robert Scott have highlighted the potentially corrosive effect of the legal drafting process on boilerplate provisions. They show how incremental edits to boilerplate pari passu clauses for sovereign debt agreements have led to textual “black holes,” which potentially undercut the standardization purpose, wording, and substantive meaning of these boilerplate provisions. In this Article we offer preliminary evidence of a similar textual “black hole” phenomenon taking place in the mergers and acquisitions context.

We show that the mergers and acquisition context epitomizes the problem of unreflective copying of precedent provisions combined with ad hoc edits to individual clauses, which erode the textual integrity and meaning of boilerplate provisions. Each agreement is based on a prior deal precedent, and drafters frequently incorporate sections of the prior deal without sufficient scrutiny about the degree to which idiosyncratic novelties have been introduced in the precedent document that may be inapplicable to the new deal. At the same time, high levels of “editorial churning” take place in the process of transforming each precedent into the current acquisition agreement. The result is a problem of “drafting drift.” Boilerplate provisions live on from deal to deal, yet gradually shed their textual integrity and potentially lose their clear meaning as ad hoc edits are copied from deal to deal and new ad hoc edits are added at each stage.

We show how it is possible to identify the paragraphs of acquisition agreements which serve as boilerplate and to document both the degree and type of textual “drift” of these provisions over multiple generations. We construct “family trees” for boilerplate provisions by tracing the ancestors of each provision backwards in a linear way to each prior precedent. Then we reverse the process to show how ancestor provisions have progeny extending out in multiple directions which become increasingly dissimilar to their original ancestor and to each other over a few generations of acquisition agreements.

Our study shows that incremental changes in boilerplate from one generation to the next foster rapid “speciation” of the terms. Small additions and deletions from boilerplate text lead to significant cumulative effects over multiple generations. We demonstrate that this textual “drift” takes place both within individual boilerplate lineages, but also even more broadly for boilerplate provisions that have a common ancestor precedent, yet evolve separately along different lineages of precedents. Like the Big Bang, the heterogeneity of boilerplate text appears to increase in all directions, which supports an “expanding universe” theory for boilerplate that undermines the textual integrity and the meaning of boilerplate terms. While we will expand on the quantitative and qualitative analysis of the evolution of boilerplate in a future work, the preliminary evidence presented in this paper reinforces the case for the textual “black hole” theory.

Todd Henderson on Lawyer CEOs

My friend and sometime coauthor Todd Henderson coauthored a very interesting article on Lawyer CEOs, which I am embarrassed to say has been up on SSRN since February but which I have just now read. As is always true of Todd's work, it rewards reading:

Abstract: We examine the value of CEOs with specialized professional skills by focusing on CEOs with law degrees and their effect on corporate litigation. We find that lawyer CEOs are associated with both lower litigation frequency and less severe litigation. This relation is observed for most of nine types of common corporate litigation. This reduction in litigation is achieved, in part, through a decrease in activities that can lead to litigation, such as earnings management, and an increase in legal oversight by directors with legal expertise. Moreover, CEOs with legal training are associated with higher value in firms with high litigation risk and growth firms.

Henderson, M. Todd and Hutton, Irena and Jiang, Danling and Pierson, Matthew, Lawyer CEOs (February 21, 2017). Available at SSRN: https://ssrn.com/abstract=2923136

Todd also scored (last month) a Harvard Business Review version of the paper, which is shorter and punchier for those who like short and punchy.

Occupational licensing

Occasionally the LA Times stumbles into truth. A case in point is an op-ed they published today on occupational licensing:

Over the past several decades, occupational licensing laws in California – and across the country – have grown dramatically. In the 1950s about 5% of occupations were licensed nationwide. Today, roughly 25% of occupations require a state license, many for poor and middle-income professions, according to a recent White House study.

The Golden State’s occupational licensing laws are stricter than most. In fact, the Institute for Justice ranks California as “the second-most broadly and onerously licensed state.” California is one of seven states to license tree trimmers, one of 10 to license landscape workers, one of two to license still machine setters, one of two to license funeral attendants, and one of nine to license farm labor contractors. ...

On average, Californians seeking an occupational license will pay $300 in fees, lose 549 days to training requirements and have to take an exam. That’s just the average. Some of the burdens are far more cumbersome. For instance, a tree trimmer must complete 1,460 hours of training, pass two exams, and pay $851 in fees; a mobile home installer must also complete 1,460 hours, compared to the national average of 245; and a pharmacy technician must complete 730 hours in addition to meeting educational requirements, a bar that’s only as high in three other states. 

This not just burdens business and impedes job formation, but it contributes substantially to California's high recidivism rate:

Whatever the state’s intentions, however, its onerous licensing laws have the effect of keeping ex-convicts out of licensed occupations. After years behind bars, they don’t have the savings needed to enroll in training programs, much less pay licensing fees. To become a licensed security alarm installer, for instance, an individual must complete 933 hours of training, which can easily cost upwards of $1,200. Many of the training programs, moreover, require a high school degree, which two in five inmates nationwide never obtained, according to a 2003 U.S. Department of Justice study.

To stay out of prison, ex-convicts need a way to provide for themselves legally. With so many barriers to employment, it’s no wonder that states with abundant licensing laws experience a higher recidivism rate.

Analysis of data from the Institute for Justice, the Pew Center on the States and the National Employment Law Project reveals that states with the most burdensome licensing laws saw an average 9% increase in recidivism from 1997 to 2007. On the other hand, the states that had the lowest licensing burdens and no provisions excluding ex-convicts saw an average decline in recidivism by nearly 2.5%. 

On the other end of the law business spectrum, Gillian Hadfield muses on the way occupational licensing for lawyers raises the cost of hiring lawyers and increases the number of people who lack competent representation:

The rules that prohibit the “corporate practice of law” or any “fee-sharing” (otherwise known as profit- and revenue-sharing) with anyone who is not a lawyer–like investors or business managers or software engineers.  A small-scale practice–which is where we find the lawyers who provide services to individuals and small businesses–is hugely inefficient.  Lawyers don’t benefit from that inefficient scale.  But clients pay for it–and mostly, can’t pay for it and so can’t access services.

That’s the irony:  Lots of lawyers are actually willing to provide their legal help to the market in exchange for an average of about $35 an hour.  That deal could be struck with the millions of people who need some legal help and who could pay that price (but not $200 an hour) if the rules let lawyers work for and with the non-lawyer professionals and investors who can get us to the scale and technology needed to generate large-scale access.

Pileggi on ABA Model Rule of Professional Conduct 8.4(g): Being politically incorrect is now unethical

Friend of the blog Francis Pileggi has a column on the new ABA Model Rule of Professional Conduct 8.4(g):

It is a violation of the new Rule 8.4(g) to engage in discrimination based on “race, sex, religion, national origin, ethnicity, disability, age, sexual orientation, gender identity, marital status, or socioeconomic status in conduct related to the practice of law.” Discrimination includes “verbal” conduct that “manifests bias.” ...

Francis than goes on to cite a number of concerns that have been raised about the potential for the rule to infringe on free speech.

Is Hillary Clinton Embarrassed By Her Corporate Law Past? Surely not. Corporate Lawyers are the Salt of the Earth!

The WSJ reports:

The future presidential contender worked for 15 years as a corporate litigator at the Rose Law Firm in Arkansas’s capital, longer than any other position in or out of government. Her portrait still hangs in the firm’s downtown offices.

Yet that chapter in her life has been all but excised from the official Hillary Clinton story. She hardly ever mentions it on the campaign trail. Her husband skipped past it when telling of her life story at the Democratic National Convention. Until August, it wasn’t even mentioned on her campaign’s official biography....

In her 2003 book, Mrs. Clinton writes only briefly about her work at Rose. She highlights a couple of cases, including her first jury trial, where she defended a canning company sued by a man who found the rear end of a rat in his pork and beans. He claimed he couldn’t kiss his fiancée because every time he thought about the situation he would spit.

Mrs. Clinton argued the man hadn’t suffered any real damages and because the rodent part had been sterilized it would be considered edible in parts of the world. She said the plaintiff won “only nominal damages.” Mrs. Clinton didn’t identify the name of the man or the company involved. ...

[Heh.]

The bulk of her cases involved defending large corporations, a Wall Street Journal review of court records suggests. ...

“We hated seeing her on the other side of the table,” says Wade Rathke, founder of Acorn, who was friends with her husband at the time. “We had never been confronted with the reality of her as a corporate lawyer. But there she was and there we were. We didn’t win this one.”

So why doesn't Ms Clinton celebrate her past? After all, being a corporate lawyer is an honorable and highly socially beneficial career. As I wrote in Reflections on Twenty Years of Law Teaching:

Legal education pervasively sends law students the message that corporate lawyering is a less moral and socially desirable career path than so-called “public interest” lawyering. The corporate world is viewed as essentially corrupting and alienating, while true self-actualization is possible only in a Legal Aid office.

Our students get these messages not only in law school, of course, but also in the media. Films like “A Civil Action” or “Erin Brockovich” illustrate the general ill repute in which corporations—and corporate lawyers—are held, at least here in Hollywood.

In my teaching, I have chosen to unabashedly embrace a competing view. I tell my students about Nicholas Murray Butler, president of Columbia University and winner of the Nobel Peace Prize, who wrote that: “The limited liability corporation is the greatest single discovery of modern times. Even steam and electricity are less important than the limited liability company.”

I tell them about journalists John Micklethwait and Adrian Wooldridge, whose magnificent history, The Company, contends that the corporation is “the basis of the prosperity of the West and the best hope for the future of the rest of the world.”

There is no doubt that the corporation is now the key economic institution in Western nations. In the United States, for example, the corporation is the predominant form of business organization by every measure except sheer number of firms. According to recent census data, although corporations account for only about one fifth of all business organizations, they bring in almost 90% of all business receipts.

The corporation also has proven to be a powerful engine for focusing the efforts of individuals to maintain economic liberty. Because tyranny is far more likely to come from the public sector than the private, those who for selfish reasons strive to maintain both a democratic capitalist society and, of particular relevance to the present argument, a substantial sphere of economic liberty therein serve the public interest. Put another way, private property and freedom of contract were “indispensable if private business corporations were to come into existence.” In turn, by providing centers of power separate from government, corporations give “liberty economic substance over and against the state.” ...

The rise of the corporate form thus has “improved the living standards of millions of ordinary people, putting the luxuries of the rich within the reach of the man in the street.” The rising prosperity made possible by the tremendous new wealth created by industrial corporations was a major factor in destroying arbitrary class distinctions, enhancing personal and social mobility. Many of the wealthiest businessmen of the latter half of the 19th Century and the 20th Century began their careers as laborers rather than as scions of coupon-clipping plutocrats.

And so I put it to my students this way: You want to help make society a better place? You want to eliminate poverty? Become a corporate lawyer. Help businesses grow, so that they can create jobs and provide goods and services that make people’s lives better.

The goal isn’t just to make my students feel better about themselves. I firmly believe that too many of our students, when they get out in practice, may be more willing to act in ways that are ethically gray—to act as facilitators rather than gatekeepers—if they’ve been told repeatedly that they’ve already “sold out.” If more legal academics were to celebrate the pro-social aspects of corporate practice, perhaps our students would be better gatekeepers once they get out in practice.

It might help even more if a certain presidential candidate were to celebrate the pro-social aspects of her career as a corporate lawyer.

Corporate law is public interest law

There's been a lot of griping at Harvard Law School recently about political correctness, multiculturalism, and the usual left-liberal causes. Now Harvard Magazine notes that some are trying to extend the activist heat to Harvard's status as a giant of corporate lawyer training:

There’s an inherent tension in HLS’s role as an institution devoted to advancing justice and public welfare, and its role as an elite professional school. Much as undergraduates from institutions like Harvard flock to high-paying business jobs, HLS graduates are drawn in vast numbers to corporate-interest law firms, almost exclusively representing wealthy clients. Of HLS’s class of 2015, more than 60 percent took jobs at private firms or in business. The vast majority of them work at firms of more than 500 lawyers in New York, Washington, San Francisco, and Boston. The class of 2015 had a median starting salary of $160,000, the standard offer for first-year associates—higher than the $130,000 median starting salary for Harvard Business School graduates. 

Ralph Nader, LL.B. ’58, a long-time critic of HLS’s pipeline to corporate law, argues that last year’s activism missed an opportunity to question the prominence of corporate law or ask questions about students’ debt to society after graduation. Asked about how well HLS is meeting its stated mission of advancing justice and the well-being of society, Nader seemed surprised by the question: “Well, largely they’re training corporate lawyers,” he says plainly. Early last fall, he gave a talk on campus in which he asked, “What is the purpose of the Harvard Law School?” and urged students to allow their moral and civic conscience, and not the hiring demands of corporate firms, to answer that question. “Harvard Law,” he said then, “is not an institution that provokes any kind of consternation or fear among the power structure.” 

The school’s administration points out that it offers a wealth of resources for public interest—and indeed students interested in public service have at their disposal a full office devoted to public-interest advising; generous loan forgiveness; and funding for legal-aid work after graduation. But between the well-established path to corporate law and the demands of a just society, HLS takes no position on where its graduates ought to work, and struggles to articulate a role for itself in a broader justice system. Career options are framed as a matter of personal choice or market demand rather than public need, reflected in the recruiting structure that accommodates corporate law. How pervasive should corporate law be at a top law school? What do Harvard graduates owe to the public? These are questions Harvard hasn’t answered—but the controversies of the last year, and the ones sure to come, suggest that perhaps it needs to. 

If the leadership of HLS have a spine (dubious) they'll answer such complaints with a resounding defense of corporate law as public interest law.

I addressed this point in my essay Reflections on Twenty Years of Law Teaching: Remarks at the Rutter Award Ceremony (April 2008), which is available at http://ssrn.com/abstract=1122577. In it, I wrote that:

Legal education pervasively sends law students the message that corporate lawyering is a less moral and socially desirable career path than so-called “public interest” lawyering. The corporate world is viewed as essentially corrupting and alienating, while true self-actualization is possible only in a Legal Aid office.

Our students get these messages not only in law school, of course, but also in the media. Films like “A Civil Action” or “Erin Brockovich” illustrate the general ill repute in which corporations—and corporate lawyers—are held, at least here in Hollywood.

In my teaching, I have chosen to unabashedly embrace a competing view. I tell my students about Nicholas Murray Butler, president of Columbia University and winner of the Nobel Peace Prize, who wrote that: “The limited liability corporation is the greatest single discovery of modern times. Even steam and electricity are less important than the limited liability company.”

I tell them about journalists John Micklethwait and Adrian Wooldridge, whose magnificent history, The Company, contends that the corporation is “the basis of the prosperity of the West and the best hope for the future of the rest of the world.” ...

And so I put it to my students this way: You want to help make society a better place? You want to eliminate poverty? Become a corporate lawyer. Help businesses grow, so that they can create jobs and provide goods and services that make people’s lives better.

The ABA joins the PC speech police: It's time to fight back

Sigh:

It is official. The American Bar Association says it is professional misconduct to discriminate against or harass opposing counsel, or anyone else for that matter, in the course of practicing law.

The ethics rule now forbids comments or actions that single out someone on the basis of race, religion, sex, disability and other factors. Nearly two dozen state bars and the District of Columbia bar have similar rules. But there has been no national prohibition of such behavior, which, many female lawyers complain, results in too many “honeys,” “darlings” and other sexist remarks and gestures toward them while they are trying to practice their profession.

You know what else is official? The ABA just reconfirmed its status as a left-liberal special interest group that no longer represents the interests of all lawyers but only those that belong to the PC crowd.

And we let these yahoos act as a gatekeeper on judicial appointments?

My friend and colleague Eugene Volokh comments:

This also goes beyond existing hostile-work-environment harassment law under Title VII and similar state statutes. That law itself has potential First Amendment problems, as I’ve argued and as some courts have recognized (though others have disagreed); see, for instance, the recent “Don’t Tread on Me” controversy. But in most states, it doesn’t include sexual orientation, gender identity, marital status or socioeconomic status. It also generally doesn’t cover social activities at which co-workers aren’t present; but under the proposed rule, even a solo practitioner could face discipline because something that he said at a law-related function offended someone employed by some other law firm.

Hostile-work-environment harassment law is also often defended (though in my view that defense is inadequate) on the grounds that it’s limited to speech that is so “severe or pervasive” that it creates an “offensive work environment.” This proposed rule conspicuously omits any such limitation. Though the provision that “anti-harassment . . . case law may guide application of paragraph (g)” might be seen as implicitly incorporating a “severe or pervasive” requirement, that’s not at all clear: That provision says only that the anti-harassment case law “may guide” the interpretation of the rule, and in any event the language of paragraph (g) seems to cover any “harmful verbal . . . conduct,” including isolated statements.

Many people pointed out possible problems with this proposed rule — yet the ABA adopted it with only minor changes that do nothing to limit the rule’s effect on speech. My inference is that the ABA wants to do exactly what the text calls for: limit lawyers’ expression of viewpoints that it disapproves of. I’ll blog again shortly on other aspects of the proposal (such as the remarkable implications of banning discrimination based on “socioeconomic status”); but here I just wanted to focus on the new ABA speech code, and why state courts and state bars should resist the pressure to adopt it.

David French comments:

Legal conservatives will either conform or resist. They should resist. Earlier this week, the American Bar Association amended its Model Rules of Professional Conduct to include a speech code — the exact kind of speech code that’s been struck down repeatedly on campuses. Keen to address the crisis of female lawyers occasionally being addressed as “honey” or “darling” (at least that’s how the New York Times addressed the alleged need for the rules), the ABA endorsed sweeping speech rules that, if adopted by state bar associations, will apply not just to courtroom conduct but also to participation in any “bar association, business or social activities in connection with the practice of law.” The new rule prohibits “harmful verbal or physical conduct that manifests bias or prejudice toward others” and defines harassment as “derogatory or demeaning verbal or physical conduct.” At the same time, the rule claims that it doesn’t apply to “legitimate” advice or advocacy. It’s good to know that the ABA is now in the business of determining when my legal arguments are “legitimate.”

...

If my state board of professional responsibility adopts these new rules, then I’m clearly in trouble. Just in the past year I’ve engaged in the following kinds of speech that many people, including fellow lawyers, find biased or derogatory. I have argued that men cannot become women. Many would claim I’m “biased” against the transgendered and engaged in derogatory speech every time I scorn the notion of a woman with a penis or the idea of a pregnant man. I have argued that the right to same-sex marriage is not protected by the Constitution, and I do not believe that any same-sex union is legitimate in the eyes of God. In other words, it’s not truly a marriage. Once again many of my legal colleagues would consider me “biased” and “derogatory” — this time against gays and lesbians.

But as with many speech codes, actual enforcement isn’t the point. It’s about the fear of enforcement — the chilling effect. It’s about creating the impression that certain ideas are completely out of bounds — specifically, any idea or expression that offends favored victim groups. The application to “social activities” is particularly disturbing. Are dinner conversations at bar association events now within the jurisdiction of the thought police? Lawyers live in fear of ethical complaints. A mere allegation can ruin a career, and defending yourself from ethics boards can be painful and expensive even if your law practice remains intact. The safest course is always silence. The safest course is compliance. After all, you don’t want to be one of those people — the bigots and the haters.

The ABA is beyond reform. It's time for conservatives to quit it, instead of allowing their fees to fund this sort of stupidity, and to become active in their state bars. After all, the ABA's word is not law--only state ethics rules are. Fight the power.

Judge Richard Posner speaks ill of the dead and social media disapproves

Posner v. Scalia – The Final Round “I regard the posthumous encomia for Scalia as absurd” https://t.co/SIJlR3yYO3

— Josh Blackman (@JoshMBlackman) June 25, 2016

Wasn't even most offensive thing he said. Worse: "I see absolutely no value to a judge studying the Constitution" https://t.co/1tU9uwMQgH

— Evan Bernick (@evanbernick) June 25, 2016

Thank you @JoshMBlackman for your decency. Abusing the dead, from a position of safety - a new low. https://t.co/siGj5IWgZ6

— Adrian Vermeule (@avermeule) June 25, 2016

"From the malice of [Posner] the grave was no hiding place, and the house of mourning no sanctuary" -- TB Macaulay. https://t.co/xRptjl7Etj

— Adrian Vermeule (@avermeule) June 25, 2016

The only thing that gives Posner *any* power over his fellow citizens is the old document he says judges shouldn't spend seconds studying

— Evan Bernick (@evanbernick) June 25, 2016

I regard pre-mortem paeans to Richard Posner as absurd. https://t.co/jlwoVnAcqy

— Professor Bainbridge (@ProfBainbridge) June 25, 2016

Pileggi on Delaware personal jurisdiction over corporate officers and directors

I didn't care much for Civil procedure in law school and, obviously, I don't blog about it much. But since some readers may, I pass along a link to our friend Francis Pileggi's article for Directorship on Hazout v. Tsang, which broadened the scope of personal jurisdiction in Delaware courts over officers and directors of Delaware corporations. Here's what seems to be the money quote, but do go read the whole thing:

Delaware courts have historically interpreted Section 3114 to only impose personal jurisdiction on directors and officers of a Dela­ware corporation when claims against them were made for breach of fiduciary duty or other related violations of the Delaware General Cor­poration Law. Thus, this decision is notable because it expands the interpretation of the statute to allow directors and officers of Delaware corpo­rations to be subject to the jurisdiction of Delaware courts when they are merely a necessary party (e.g., a person whose interests are impacted by the outcome of a lawsuit) or a proper party (some­one who merely has a legal interest in a lawsuit), even if there are no claims for breach of fiduciary duty.

Funding mass tort litigation

Interesting article by Alison Frankel on the growing phenomenon.

Will social justice warrior CEOs attract the attention of the plaintiff's bar?

Francis Pileggi noted on May 4:

Yesterday’s Wall Street Journal featured a front page article about an apparently increasing number of CEOs of public companies who use their companies’ resources, and wield their companies’ resources as a sword, to advocate in their official corporate capacities to advance their favorite social agendas–or to oppose legislation on social policies that they disfavor. ...

If a stockholder thought that a CEO of a public company was more focused on social activism than observing his or her duty to maintain a focus on maximizing shareholder wealth, one element of a claim would be the measure of damages. If a company is profitable “enough”, the CEO may “get a pass”. But the recent downward trajectory of the stock price of profitable companies like Apple, which recently lost about $73 billion in market value, and an unrelated petition of over one million people who are boycotting Target department stores due to their position on recent gender issues, may gain the attention of a different type of activist: plaintiffs’ lawyers who specialize in stockholder class actions.

The twist, of course, is that many trial lawyers are themselves social justice warriors.

The Economist on the Panama Papers II: Regulate the Lawyers? How?

A leader in the latest Economist contends that one lesson of the Panama Papers is the need to "regulate the law firms and other intermediaries that set up and husband offshore companies and trusts. They are supposed to know their clients, weeding out the dodgy ones. But too many are paid to act as buffers, offering an extra layer of protection against those who pry."

Regulate the lawyers? How? Implicit in the Economist's argument is the notion that lawyers function as gatekeepers. What does that mean you ask? As I have explained before:

A gatekeeper is someone—be it a person or entity—who, if they withhold their blessing, can prevent the corporation from effecting a desired transaction or from maintaining some desired status.

Often, a gatekeeper will be a reputational intermediary who provides certification services for investors. Auditors and rating agencies are good examples of this category. They have a lot of reputational capital. Indeed, it must be so, because their reputation is their stock in trade. Investors say “this must be a good investment, because it got a good rating from an agency I trust.”

In theory, they will not besmirch their reputation to benefit one client. Hence, they hold the gate between the corporation and the promised land of investor capital. Without the blessing conferred by the auditor’s letter or the rating agency’s evaluation, the corporation will have a more difficult time selling securities or remaining listed on a securities exchange.

Lawyers also are corporate gatekeepers, albeit of a different sort. To be sure, sometimes a very high profile general counsel or law firm partner might be able to give a client in trouble the benefit of the lawyer’s reputation for probity and upstanding ethics. Usually, however, we play a more behind the scenes role.

But while we may not function as reputational intermediaries, we too have a gatekeeping role. As counsel, we are well positioned to block the effectiveness of a defective registration statement or prevent the consummation of a transaction.

Most lawyers hate the idea that they should function as gatekeepers:

The relationship between lawyers and clients is often intensely personal. Former SEC Chairman Harvey Pitt went so far as to compare the lawyer-client relationship to that between priest and penitent in the confessional. Lawyers are zealously supposed to guard, defend and promote the interests of their clients. To do that, Pitt argued, clients must feel comfortable confiding in their lawyers. Efforts to turn lawyers from advocates into gatekeepers can infringe upon the willingness of clients to confide in their lawyers, and curtail their ability to receive the benefits that flow from an unfettered lawyer-client dialogue.

In my view, however, that argument pertains mainly to the lawyer representing a client in litigation. A lawyer acting in a transactional of advisory role faces a different dynamic with different incentives and concerns.

The mindset advocated by Chairman Pitt leads to fiascos like Enron:

I’ll quote Enron examiner Batson, who observed that Enron’s “attorneys saw their role in very narrow terms, as an implementer, not a counselor. That is, rather than conscientiously raising known issues for further analysis by a more senior officer or the Enron Board or refusing to participate in transactions that raised such issues, these lawyers seemed to focus only on how to address a narrow question or simply to implement a decision (or document a transaction).”

So I am fine with the idea that attorneys should function as internal gatekeepers. And if that's what the Economist wants to encourage, great.

But there is a huge difference between lawyers taking steps within a firm to discourage client misconduct and forcing the lawyer to publicly blow the whistle on a client. If the Economist wants lawyers to become whistle blowers who call in the SEC cops, that really would trash the lawyer-client relationship. It would throw centuries of respecting client confidentiality out the window. It would destroy lawyer-client trust. To be sure, there are some cases where incurring those costs is worthwhile: Where the lawyer knows that the client is about to commit a serious crime involving a substantial risk of serious harm to life, limb, or property.

In general, however, the idea that we should broadly promote a role for lawyers as external gatekeepers strikes me as a very bad idea.

"Big Oil Is Not Big Tobacco: Why The Witch Hunt Against Exxon Is Absurd"

Forbes:

The attorney general of New York, Eric Schneiderman has commenced an investigation of Exxon MobilXOM +0.00%. He seeks to find out what the oil giant knew about the possible risks of carbon-induced climate change and when. Schneiderman’s office on Thursday served a subpoena to Exxon, demanding years of internal documents on global warming issues. The impetus for Schneiderman’s investigation appears to be recent revelations that Exxon, as far back as the 1970s, had funded studies concluding that global warming could result from carbon emissions — but that Exxon had failed to publicly disclose those risks to shareholders.

But let’s get real. See this for what it is — a witch hunt against a big company with deep pockets that the anti-carbon lobby wants to fleece to support their pet renewable energy projects.

Go read the whole thing.

Inventing 41K clients = An Indicted Plaintiff Lawyer

Given how pervasive abuses by plaintiff lawyers are and how rarely they are really punished, it was heartening to read Alison Frankel's account of how one of the lawyers pillaging BP is staring at a federal indictment for inventing clients.

Has the sun set on disclosure only settlements?

Our friend Francis Pileggi  reports that:

In a recent bench ruling, the Delaware Court of Chancery refused to approve a proposed class action settlement in which the benefit to the class was “disclosures only”, and the court dismissed the case as to the named plaintiff. The court was also critical of the broad release that was proposed. This case was filed in connection with Hewlett-Packard’s $2.7 billion acquisition of Aruba Networks. The case is styled In Re Aruba Networks, Inc. Stockholder Litigation, Cons. C.A. No. 10765-VCL (Del. Ch. Oct. 9, 2015)(Transcript). My gratitude is owed to Kyle Wagner Compton, the editor of the unparalleled scholarly publication called The Chancery Daily, for alerting me to the transcript, as well as for the TCD’s exemplary coverage of all things relating to the Court of Chancery.

The Aruba decision has already been explained in such extensive detail by Kevin LaCroix on his blog called The D&O Diary, that I encourage readers to review his treatment of the case at the foregoing link.

We concur with his recommendation of The D&O Diary's excellent analysis:

Stating his belief that the merger objection litigation dynamic represents a “systemic” problem that has resulted in a “misshapen legal system,” Delaware Chancery Court Vice Chancellor Travis Laster rejected the proposed disclosure-only settlement of litigation that had been filed objecting to Hewlett-Packard’s $2.7 billion acquisition of Aruba Networks. In an October 9, 2015 settlement hearing in the case, Laster cited the “inadequacy of the representation” of plaintiffs’ counsel for the shareholder class as the basis for his rejection of the settlement, as well as for the outright dismissal of the case. Liz Hoffman’s October 10, 2015 Wall Street Journal article about Laster’s ruling can be found here.

As I said at the time following Glasscock’s rulings in the Riverbed Technology case, it would only be a matter of time before a judge at the Delaware Court of Chancery rejected a settlement on the basis that the value the plaintiff shareholders’ received in a disclosure only settlement was insufficient to support the breadth of the release that the defendants received in exchange. That is exactly what happened in connection with the proposed settlement of the H-P/Aruba Networks merger objection lawsuit.

Apparently there was a very typical Laster moment in the ruling (should we start referring to Lasterisms?):

Laster also acknowledged in the hearing that because his concerns about these kinds of settlements are well known, that parties  have started dismissing the merger objection cases pending in his court in order to enter settlements in other jurisdictions where perhaps there might not be as many questions asked. (He noted parenthetically that it was fine with him if the parties took these kinds of cases to other courts; he observed that “I actually don’t like dealing with junky things, and I would prefer to devote judicial resources to real litigation, not pseudo-litigation.”)

Do go read the whole thing.