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Macey and Strine on "Citizens United as Bad Corporate Law": Post 2-What about the shell game?

In closing my prior post on Macey & Strine's new article on Citizens United, I asked "do Strine and Macey really want to deny [individuals] the opportunity to assert their religious liberty simply because they incorporated their business?"

I raise this concern because, if accepted, Macey and Strine's approach would allow the government to restart what Douglas Laycock called the shell game:

The threshold issue in Sebelius v. Hobby Lobby Stores and Conestoga Wood Specialties Corp. v. Sebelius is whether any plaintiff’s free exercise of religion is substantially burdened within the meaning of the Religious Freedom Restoration Act.

On that issue, the government’s argument is a shell game. Only the individuals have religious-liberty rights; only the corporations are regulated. And more: Even the individuals have no rights when they act or refuse to act as directors, officers, or managers of the corporation. Not only are the individuals separate persons from the corporation, but the individuals are divided into additional separate persons, depending on the capacity in which they act. This is formalism in the extreme.

Douglas Laycock, Symposium: Congress answered this question: Corporations are covered, SCOTUSblog (Feb. 19, 2014), http://www.scotusblog.com/2014/02/symposium-congress-answered-this-question-corporations-are-covered/.

The shell game thus eviscerates essential rights, as I noted in in my article, Using Reverse Veil Piercing to Vindicate the Free Exercise Rights of Incorporated Employers (March 6, 2013). The Green Bag, Vol. 16, No. 3, Spring 2013, available at SSRN: https://ssrn.com/abstract=2229414,

Conduct that is motivated by religious belief is accepted as one of the ways in which people exercise their religious freedom, however, even when the conduct occurs in a commercial setting. ... The values protected by the religious freedom clauses of the First Amendment “have been zealously protected, sometimes even at the expense of other interests of admittedly high social importance.” Accordingly, “no official, high or petty, can prescribe what shall be orthodox in politics, nationalism, religion, or other matters of opin- ion or force citizens to confess by word or act their faith therein.”

I would feel better about Macey & Strine's project if they explained just how their approach would ensure that people conducting their business as a corporation would still find those rights protected. Or perhaps explain why the shell game isn't a concern.

Macey and Strine on "Citizens United as Bad Corporate Law": Post 1-What about Close Corporations

I am reading with great interest Jonathan R. Macey and Leo E. Strine, Citizens United As Bad Corporate Law (August 16, 2018), https://ssrn.com/abstract=3233118. Herewith the absurdly long abstract:

In this Article we show that Citizens United v. FEC, arguably the most important First Amendment case of the new millennium, is predicated on a fundamental misconception about the nature of the corporation. Specifically, Citizens United v. FEC, which prohibited the government from restricting independent expenditures for corporate communications, and held that corporations enjoy the same free speech rights to engage in political spending as human citizens, is grounded on the erroneous theory that corporations are “associations of citizens” rather than what they actually are: independent legal entities distinct from those who own their stock. Our contribution to the literature on Citizens United is that the case is as much a case about corporate law, as it is about the First Amendment. The major disagreement among the justices in Citizens United is about the applicability of settled First Amendment protections to a particular juridical entity, the corporation. In Citizens United, Justice Kennedy, writing for the majority opines that Congress may not take into account the distinctions between corporations and human beings in regulating political speech, and that corporations must be permitted the same freedom to speak as human beings. In dissent, Justice Stevens fails directly to challenge Justice Kennedy’s existential conception of the corporation notwithstanding the fact that that it constitutes the core of the majority opinion. This Article fills that void. We reject the Citizens United majority’s conception of the corporation as an “associations of citizens” and reaffirm its status as an artificial, metaphysical, and legal construct that exists separate and apart from its investors. The Citizens United view of the corporation as an association of individuals is inconsistent with the established conception of the corporation as a juridical entity with limited liability.

This conception confuses the corporation with the general partnership form of business organization. In fact, the entire point of the incorporation process is to permit the creation of a legal entity that is not an association of individuals, but rather a discrete legal entity whose rights and obligations are distinct from those of it its creators, investors, managers, and other constituents. We base our argument that corporations are separate and distinct legal entities and that they are not “associations of citizens” as Citizens United asserts on three facts about the corporate form:

(1) the treatment of corporations as separate legal entities is what distinguishes corporations from general partnerships and sole proprietorships and what justifies the legal notion of “limited liability” and other central characteristics of the corporate form, such as the ability to contract and to sue and be sued;

(2) corporations do not have owners, they have investors who have contract-based, financial interests in the firms and limited management rights; and

(3) corporations are not fiction, but fact only because the law makes them real and distinct entities with a legal identity.

In Part I of this Article, we discuss the nature of the corporate form by describing its core attributes and explain that one must infer from the nature of the corporate form itself that the corporation is an entity, not an association of individuals. In Part II, we expand upon the analysis in Part I by examining certain settled legal characteristics that the Supreme Court has itself recognized to distinguish the corporation from other forms of business organization that can more plausibly be viewed as associations of individuals. We conclude Part II by noting a simple, empirical reality that cuts against Citizens United’s conception of the corporation as an “association of citizens”: stockholders are not owners of the corporation, but rather contract claimants. In Part III, we discuss the reality that in most other areas of its jurisprudence the Supreme Court embraces the traditional entity view of the corporation, and does not treat corporations as associations of citizens. Thus, Citizens United and its progeny are outliers, in tension with the Supreme Court’s decisional law in key areas like standing, tax law, criminal law, and other areas of constitutional law.

Our analysis shows that in the great bulk of its jurisprudence, the Supreme Court adheres to our view of the business corporation, which is that it is a distinct legal entity whose rights and obligations are subject to statutory constraint. In fact, by long tradition, starting under Chief Justice Marshall, corporations are the opposite of Lockean–Jeffersonian human beings endowed with inalienable rights that cannot be taken away by the government. By contrast, corporations have only those rights society gives them by statutory law, and any statutory law may take into account the unique nature of corporations in limiting their ability to act. We then point out in Part IV profound problems with Citizen United’s assertion that corporations are “associations of citizens.” Namely, that assertion comes without supporting legal authority and for good reason. Neither the law nor empirical fact supports the idea that stockholders are associated citizens, much less with any common political or social viewpoint. Part V then notes the stark difference in the Supreme Court’s approach when dealing with the free speech of labor unions. In the union context, the Supreme Court’s principal concern has been ensuring that no union member has his dues used for political speech without his express authorization, and has held that it is a First Amendment violation to use union dues for political speech.

Just this year, in Janus v. American Federation of State, County, and Municipal Employees, Council 31 the Court went further and held that unions could not even collect fees for the costs due to the core costs of bargaining for higher wages from a workforce member who did not join the union. In McCain-Feingold, Congress embraced concerns like this and gave corporations the ability to engage in political speech by raising funds voluntarily from stockholders for this purpose. This means took into account the corporate law consensus that stockholders’ decision to invest in business corporations does not rationally involve any authorization for the corporation to use treasury funds for political speech, and that stockholders are of diverse political viewpoints and only have a shared interest in one thing, getting a good return on their investment. But, applying a starkly different viewpoint than it takes in cases like Abood and Janus, the Supreme Court struck down McCain-Feingold and trivialized the substantial leeway McCain-Feingold had given for corporations to speak. In analyzing this contradiction, we identify the market realities that make it even less plausible that 21st century American business corporations can be deemed “associations of citizens,” especially when most of their stock is owned by institutional investors, to whom American investors are in essence compelled to turn over their capital to save for college for their kids and retirement for themselves. And we conclude Part II by noting a simple, empirical realty that cuts against Citizens United’s conception of the corporation as an “association of citizens”: stockholders are not owners of the corporation, but rather contract claimants.

Finally, in Part VI we comment on the lack of any source for the Citizens United majority’s view that the corporation is an association of individuals. In particular, we observe that corporations are creatures of state law, not federal law. As the Court observed in CTS Corp. v. Dynamics Corp., “[s]tate regulation of corporate governance is regulation of entities whose very existence and attributes are a product of state law.” Therefore, determinations about the nature of the corporation, such as whether the corporation is a distinct juridical entity or an association of individuals, should be made by reference to state law, not federal law. To further this point, we survey those forms of entities that might be more plausibly considered associational in form than corporations, and note that in the main, most of them are trending strongly toward the entity conception. After doing so, we address those corporations most rationally considered to be vehicles for the shared viewed points of those who form them: non-profit corporations. As to them, we highlight two features that buttress our core point. To wit, most non-profit corporations are member corporations and do not even have stockholders. And as important, these corporations do not fund their speech using the entrusted capital of their members or stockholders. Rather, they speak using funds they raise specifically for that purpose from donors—exactly the method that Congress left open to corporations in McCain-Feingold and that the Citizens United majority said constituted a total ban on corporate speech. We conclude by noticing an irony. It was the legislative branch, not the judicial branch that is supposedly more learned in the law, that was the one that understood corporate law when addressing political speech. Congress considered the nature of corporations when enacting McCain-Feingold and took into account that corporations are not associations of citizens, but separate, state-created entities formed for reasons that cannot be rationally attributed to the shared political or philosophical views of their investors. As such, Congress allowed corporations broad freedom to engage in political speech, but only by using funds voluntarily contributed for this purpose by stockholders to a corporate-controlled political action committee (PAC). By this means, Congress left ample room for the corporation to act as a collective vehicle for stockholders who wished to affiliate for that purpose, but protected other stockholders from being forced to subsidize speech that the mere decision to invest cannot plausibly be thought to endorse. By contrast, the Supreme Court ignored, or misunderstood, the traditional corporate law concept of the corporation and thereby subjected millions of American investors to suffer the involuntary use of their entrusted capital for speech that has no rational connection to their decision to buy stock. That is bad corporate law making bad constitutional law.

When a deservedly distinguished Yale law professor and the Chief Justice of the Delaware Supreme Court speaks, we lesser mortals do well to tread lightly. Yet, I am moved to offer a few thoughts.

First, a quibble. Macey and Strine spend a great deal of time arguing that shareholders are heterogenous, that corporations are board-centric, that shareholders do not own the corporation, and so on and on. Their point, of course, is that "a corporation is a separate entity distinct from its shareholders." Virtually all of their arguments, however, apply almost exclusively to publicly held corporations. 

But what about the millions of close corporations? They are relegated to essentially a single footnote (151):

In some of its jurisprudence dealing with entities, the Supreme Court seems tempted to give greater credence to arguments by closely held business corporations arguing that they should be able to make claims to constitutional protection, such as in arguing that a corporation’s religious freedom has been impinged, than it would indulge from a public corporation. See Burwell v. Hobby Lobby Stores, Inc., 134 S. Ct. 2751 (2014) (holding that the Affordable Care Act contraception mandate, as applied to a closely held for-profit corporation, violated the Religious Freedom Restoration Act). Even corporate law scholars sympathetic to the notion that all corporations should be able to advance such claims view it as bad corporate law to use the number of stockholders as a dividing line for the exercise of rights. Brief for Corporate and Criminal Law Professors as Amici Curiae Supporting Petitioners, Burwell v. Hobby Lobby Stores, Inc., 134 S. Ct. 2751 (2014) (Nos. 13-354, 13-356), 2014 WL 333889. The reason for that is inarguable: corporate law itself makes no distinction on this ground and there is little basis to believe that the stockholders of more closely held businesses tend to be more united around a religious or other non-monetary purpose than those of public corporations. Their argument for the corporate exercise of rights is simple and different: they contend that corporate boards are elected and have broad discretion while in office to advance any lawful purpose, unless constrained by the charter from doing so. Lyman P.Q. Johnson and David K. Millon, Corporate Law After Hobby Lobby, 70 BUS. LAW. 1, 10 (2015) (“State corporate law does not require corporations to prioritize profits over competing considerations. This fact has ramifications that extend far beyond the particular activities—religious observance—at issue in the Hobby Lobby cases. All business corporations (and non-profits too, for that matter) must generate profit in order to survive. That is simply a fact of life. But corporate law confers on [boards] broad discretion to determine the extent to which they choose to temper the pursuit of profit by regard for other values.”). But see Stephen M. Bainbridge, A Critique of the Corporate Law Professors’ Amicus Brief in Hobby Lobby andConestoga Wood, 100 VA. L. REV. ONLINE 1, 4–5 (2014) (“The law thus has long recognized William Klein’s point that, despite the utility of the fiction of corporate legal personhood, it is critical to remember that treating the corporation as an entity separate from the people making it up bears no relation to economic reality.”). They do not conflate the corporation with its stockholders or view it as an association of them. Rather, these scholars just believe corporations, although distinct from their human constituents, should have all the rights of human beings, while recognizing that they do not have all of the obligations that come from being a human citizen.

I genuinely struggle with this paragraph, but I take it that their core point is captured by the statement that "there is little basis to believe that the stockholders of more closely held businesses tend to be more united around a religious or other non-monetary purpose than those of public corporations."

Says who?

Other courts have disagreed. Consider, for example, Tyndale House Publishers, Inc. v . Sebelius, 2012 WL 5817323 at *2 (D .D .C. 2012), in which the Court wrote that:

Tyndale is a closely-held corporation owned by four entities united by their Christian faith, each of which plays a distinct role in achieving shared, religious objectives. Christian principles, prayer, and activities are pervasive at Tyndale, and the company’s ownership structure is designed to en- sure that it never strays from its faith-oriented mission. . . . Tyndale’s religious objection to providing insurance cover age for certain contraceptives reflects the beliefs of Tyn- dale’s owners. Nor is there any dispute that Tyndale’s primary owner, the Foundation, can “exercise religion” in its own right, given that it is a non-profit religious organization . . . . Accordingly, because Tyndale does “not present any free exercise rights of its own different from or greater than its owners’ rights,” it has “standing to assert the free exercise rights of its owners.”

I also take issue with the empirical claim. See, e.g., Frederick H. Alexander, Lawrence A. Hamermesh, Frank R. Martin, Norman M. & Monhait, M&A Under Delaware's Public Benefit Corporation Statute: A Hypothetical Tour, 4 Harv. Bus. L. Rev. 255, 279 (2014) (pointing out that benefit corporations are often "closely held by a cohesive group of like-minded stockholders with similar preferences").

Finally, in my article, Using Reverse Veil Piercing to Vindicate the Free Exercise Rights of Incorporated Employers (March 6, 2013). The Green Bag, Vol. 16, No. 3, Spring 2013, available at SSRN: https://ssrn.com/abstract=2229414, I offer a test designed to find out precisely whether the stockholders of a closely held businesses are "united around a religious or other non-monetary purpose." If they are, do Strine and Macey really want to deny them the opportunity to assert their religious liberty simply because they incorporated their business?

If corporations are not people, then what are they?

I answered the titular question on Quora as follows:

“‘A corporation is a legal person just as much as an individual,’ said the Court in Sheffield, etc., Bldg. Society, 22 Q. B. D. 476. And in Society v. Abbott, 2 Beav. 567, Lord Langdale, M. R., held that, as in this case, great confusion arises by failure to distinguish the body corporate from the individuals who constitute, ‘not the corporation, but all the members of the corporation.’” Jackson v. Hooper, 75 A. 568, 571 (N.J. 1910).

“What is a legal person is for the law, including, of course, the Constitution, to say, which simply means that upon according legal personality to a thing the law affords it the rights and privileges of a legal person ….” Byrn v. New York City Health & Hosps. Corp., 286 N.E.2d 887, 889 (N.Y. 1972).

“To speak of a corporation as ‘a legal person’ is a convenient figure of speech used to describe the corporation as a legal unit, a separate concern with a capacity, like a person's, to hold property and make contracts, to sue and be sued, and to continue to exist notwithstanding changes of its shareholders or members.” ECR Properties, LLC v. Camden County Dev., LLC, 998 F. Supp. 2d 1295, 1311 (M.D. Ala. 2014).

Should the law regard corporations as a “person”? Why or why not?

The titular question was brought to my attention on Quora, which elicited this response from yours truly:

The idea that a corporation is a legal person with constitutional rights is, of course, a controversial one. Some commentators argue that it's bad policy. In my view, however, it is a well-settled principle of US constitutional law and justifiably so.

On the one hand, the courts have never empowered corporations with "privileges of citizenship." The second clause of the 14th Amendment - the so-called Privileges and Immunities - states that: "No State shall make or enforce any law which shall abridge the privileges or immunities of citizens of the United States." But it is settled that the Privileges and Immunities Clause does not protect corporations, because corporations are not deemed citizens for purposes of the 14th Amendment. Western and Southern Life Ins. Co. v. State Bd. of Equalization of California, 451 U.S. 648, 656 (1981). Conversely, however, "It is well established that a corporation is a 'person' within the meaning of the Fourteenth Amendment." Metropolitan Life Ins. Co. v. Ward, 470 U.S. 869, 881 (1985).

The common law had long recognized the legal personality of corporate bodies. See Book I, Chapter 18 of Blackstone, Commentaries on the Laws of England (1765-1769). But what of the Constitution?

The key case for constitutional law purposes is Santa Clara County v. Southern Pacific Railroad, 118 U.S. 394 (1886). Curiously, if one carefully reads Justice Harlan's decision in that case, one will find neither a clear statement nor a citation of authority concerning whether corporations are "persons." That point, instead, is made in the syllabus by the Reporter, who related that at oral argument the Chief Justice had stated that:

The court does not wish to hear argument on the question whether the provision in the Fourteenth Amendment to the Constitution, which forbids a State to deny to any person within its jurisdiction the equal protection of the laws, applies to these corporations. We are all of the opinion that it does.

Despite it's somewhat odd parentage, the principle is sound.

The legislative history of the Fourteenth Amendment suggests that Congress substituted the word ''person'' for the word ''citizen'' precisely so that the provisions so affected would protect not just natural persons but also legal persons, such as corporations, from oppressive legislation. We see this view further confirmed Roscoe Conkling's recounting of the relevant legislative history in Conkling's arguments in San Mateo County v. Southern Pac. R.R., 116 U.S. 138 (1885). Conkling had been a member of the Joint Congressional Committee that drafted the 14th amendment and in Southern Pacific argued to the Justices that it had been the intent of Congress for the word "person" to include "legal" persons (corporations) as well as "natural" persons within the protective scope of the due process and equal protection clauses of the amendment. The Court accepted Conkling's argument.

As Larry Ribstein argues, this development made policy sense:

... corporations are people – the owners and others the corporation represents in litigation. These people have speech rights, rights not to be discriminated against, and so forth. I’ve written on this ...:

The Constitutional Conception of the Corporation, 4 Supreme Court Economic Review 95 (1995); Corporate Political Speech, 49 Wash. & Lee L. Rev. 109 (1992) and in my book with Henry Butler, The Constitution and the Corporation (1995) ....

So the African-American owners of this SBA-certified minority-owned contractor shouldn't lose their civil rights because they chose to do business in the corporate form. They might be required to sue as a corporation, as in this case, because that’s a convenient way to handle litigation, but that doesn’t determine their individual rights.

But courts also should recognize that, by the same principle, people shouldn't lose their speech rights just because they exercise these rights though the corporation in which they have invested.

Illinois proposal to mandate gender and racial diversity on corporate boards gathers steam

Bloomberg reports:

Lawmakers in Illinois have advanced a bill that would require public companies headquartered in the state to place at least one female and one African-American director on their boards of directors.

H.B. 3394, which passed the Illinois House on March 29 by a vote of 61-27, amends the state’s Business Corporation Act and imposes various reporting duties on public companies. It also creates a compliance deadline of Dec. 31, 2020. The Office of the Secretary of State can impose penalties on companies for violations.

The bill underscores some policy-makers and diversity advocates’ heightened attempts to remake U.S. corporate boards through specific legal requirements. It could have an impact on some of the biggest corporate names on the S&P 500. Major public companies headquartered in the state include Walgreens Boots Alliance Inc., Boeing Co., Archer Daniels Midland Co., Caterpillar Inc., Allstate Corp., United Continental Holdings Inc. and McDonald’s Corp.

I am highly dubious of the constitutionality of these statutes to the extent they purport to apply to companies incorporated in other states. See my WLF post California Corporate-Board Quota Law Unlikely to Survive a Constitutional Challenge. I'm also dubious of these statutes on the merits. The initial empirical study of the California statute found that:

On September 30, 2018, California became the first U.S. state to introduce a mandatory board gender quota for all firms headquartered in California. We find that the introduction of the quota is associated with significantly negative announcement returns for these firms. Consistent with the quota imposing frictions, the effect is larger for firms requiring more female directors to comply with the quota and for firms with poor corporate governance. We also document negative spillover effects to non-Californian firms. They are larger for firms operating in industries in which Californian firms lack more female directors, suggesting that valuable female directors may migrate from non-Californian to Californian firms. We also document negative spillover effects for firms headquartered in states that are more likely to follow California’s lead. These are firms headquartered in states dominated by the Democratic Party and states which followed California’s lead in legalizing cannabis consumption and raising minimum wages exceeding the federal rate. Finally, we show that, already as of month-end December 2018, female representation on the boards of Californian firms increased. Newly appointed female directors are younger, less experienced, and less independent than incumbent and leaving directors.

von Meyerinck, Felix and Niessen-Ruenzi, Alexandra and Schmid, Markus and Davidoff Solomon, Steven, As California Goes, So Goes the Nation? The Impact of Board Gender Quotas on Firm Performance and the Director Labor Market (February 22, 2019). Available at SSRN: https://ssrn.com/abstract=3303798 or http://dx.doi.org/10.2139/ssrn.3303798

I'm also puzzled by the decision to limit quotas to African-Americans. What about other under-represented minorities? I'm not enough of a constitutional lawyer to know if that will affect judicial review of the statute under the Equal Protection Clause, but I'm guessing it won't help.

A couple of comments on Kent Greenfield's amicus brief in Washington vs. Arlene's Flowers and Ingersoll vs. Arlene's Flowers

Kent Greenfield has posted an amicus brief he submitted in pending religious freedom litigation in the State of Washington: Brief for Professor Kent Greenfield As Amicus Curiae in Support of Respondents, State of Washington vs. Arlene's Flowers and Ingersoll vs. Arlene's Flowers. 

This amicus curiae brief addresses a fundamental state-law premise of Appellants’ constitutional claims that has gone largely unexplored in the prior briefing: whether Arlene’s Flowers, a Washington for-profit corporation, may obtain an exemption from generally applicable laws based on the religious beliefs of a shareholder, Mrs. Stutzman. Citing the U.S. Supreme Court’s decisions in Burwell v. Hobby Lobby Stores and Masterpiece Cakeshop, Ltd. v. Colorado Civil Rights Commission, Appellants assert that “Arlene’s free-exercise rights are synonymous with Mrs. Stutzman’s.” Those two cases, however, had nothing to do with Washington corporate law and took no stance on the authority of Washington corporations to raise constitutional claims of their shareholders. The assertion that Mrs. Stutzman’s rights are synonymous with the corporation depends on Washington state law and runs counter to the foundational Washington corporate law principle, expressed in Grayson v. Nordic Constr. Co., that “[a] corporation exists as an organization distinct from the personality of its shareholders.”

This amicus curiae brief addresses the significance of corporate separateness to Washington’s law of corporations and explains how Appellants’ arguments rest on a conflation of those distinctions. This Court’s consideration of the constitutional claims in this case will be aided by a full understanding of these important, antecedent aspects of Washington law.

A couple of thoughts. First, although Greenfield does a commendably thorough job of analyzing what Washington state courts say about veil piercing, I'm not convinced Washington courts practice what they preach. The empirical evidence suggests that courts applying Washington state corporate law in fact pierce the corporate veil with not inconsiderable regularity. Bob Thompson's famous 1991 study found that Washington courts pierced in 44.44% of the cases (table six on p. 1051). Importantly, the national pricing rate was 40.18% (table one on p. 1048). And over 30 states had lower piecing rates than Washington (table 6 on p. 1051). To be sure, there were only 27 Washington cases in his database, which makes drawing firm statistical conclusions difficult, but 44% is still 44%. And Washington was still above the national rate and there were still a lot of states with lower piercing rates.

Peter Oh's 2010 study found an almost identical piercing rate by courts applying Washington law at 44.93% (table 6 at p. 116). His study did suggest that Washington law was slightly more reticent about veil piercing than the national norm, as 25 states had a piercing rate of 50% or higher (p.114). Overall, state courts pierced 48.89% of the time (table 5 at p.112), which puts Washington law slightly below the norm.

Even so, however, the bottom line would seem to be that courts applying Washington state law are not as reluctant to pierce as their rhetoric claims.

Second, it is certainly true that I am not a fan of the veil piercing doctrine. Oh's claim that "Stephen Bainbridge ... despises veil-piercing" (p.96) puts it a tad more strongly than I might, but it's not an unfair comment.

Having said that, however, I continue to think that courts would do well to adopt the doctrine of reverse veil piercing as a tool for deciding when a corporation may assert constitutional religious freedom claims on behalf of its shareholders. To put it crudely, veil piercing stinks, but it stinks less than the other options.

in my article, Using Reverse Veil Piercing to Vindicate the Free Exercise Rights of Incorporated Employers, which was published in The Green Bag, Vol. 16, No. 3, Spring 2013, and is available at SSRN: https://ssrn.com/abstract=2229414, I argued that:

Reverse veil piercing (RVP) is a corporate law doctrine pursuant to which a court disregards the corporation’s separate legal personality, allowing the shareholder to claim benefits otherwise available only to individuals. The thesis of this article is that RVP provides the correct analytical framework for vindicating certain constitutional rights.

Assume that sole proprietors with religious objections to abortion or contraception are protected by the free exercise clause of the First Amendment and the Religious Freedom Restoration Act (RFRA) from being obliged to comply with the government mandate that employers provide employees with health care plans that cover sterilizations, contraceptives and abortion-inducing drugs. Further assume that incorporated employers are not so protected. This article analyzes whether the shareholders of such employers can invoke RVP so as to vindicate their rights.

At least one court has recognized the potential for using RVP in the mandate cases, opining that these cases “pose difficult questions of first impression, including whether it is “possible to ‘pierce the veil’ and disregard the corporate form in this context.” The court further opined that that question, among others, merited “more deliberate investigation.” This article undertakes precisely that investigation.

Invoking RVP in the mandate cases would not be outcome determinative. Instead, it would simply provide a coherent doctrinal framework for determining whether the corporation is so intertwined with the religious beliefs of its shareholders that the corporation should be allowed standing to bring the case. Whatever demerits RVP may have, it provides a better solution than the courts’ current practice of deciding the issue by mere fiat.

In my subsequent article, A Critique of the Corporate Law Professors’ Amicus Brief in Hobby Lobby and Conestoga Wood, 100 Virginia Law Review Online 1 (2014), available at SSRN: https://ssrn.com/abstract=2399638, I took on 44 corporate and criminal law professors (including Greenfield), arguing that:

The Patient Protection and Affordable Care Act (ACA) effected numerous changes in the legal regime governing health care and health insurance. Among the ACA’s more controversial provisions is the so-called contraceptive mandate, which requires employer-provided health care insurance plans to provide coverage of all FDA approved contraceptive methods.

On March 25, 2014, the Supreme Court will hear oral argument in the Hobby Lobby and Conestoga Wood cases, in which the shareholders of two for-profit family-owned corporations argue that requiring them to comply with the contraception mandate violates the Religious Freedom Restoration Act.

Forty-four law corporate law professors filed an amicus brief in these cases, arguing that the essence of a corporation is its “separateness” from its shareholders and that, on the facts of these cases, there is no reason to disregard the separateness between shareholders and the corporations they control. The Brief is replete with errors, overstated claims, or red herrings, and misdirection.

Contrary to the Brief’s arguments, basic corporate law principles strongly support the position of Hobby Lobby and Conestoga Wood. In particular, the doctrine known as reverse veil piercing provides a clear and practical vehicle for disregarding the legal separateness of those corporations from their shareholders and thus granting those shareholders standing to assert their free exercise rights.

In it, by the by, I passed along what I thought was a particularly keen observation by a prominent practitioner:

Corporate law expert Keith Paul Bishop conducted a thought provoking analysis of the Brief by substituting “social responsibility” for “religious” in some of the Brief’s most breathless passages. He notes that, if the transfer of stockholder religious beliefs to the corporation would be ‘overwhelming,’ why wouldn’t the same be true of beliefs regarding climate change, the environment, or other beliefs animating the corporate social responsibility movement?” Keith Paul Bishop, 44 Law Professors Make A Case Against Corporate Social Responsibility, California Corporate & Securities Law Blog (Feb. 10, 2014), http://calcorporatelaw.com/2014/02/44-law-professors- make-a-case-against-corporate-social-responsibility/. He concludes that, “[i]f corporations can’t have religious beliefs, then it follows that they can’t believe in climate change, sustainable investment or any other beliefs embraced by the corporate social responsibility movement.” Id.

Indeed.

Note that I am emphatically not taking a position on how the pending cases should come out. I have not grappled with, among other things, the procedural posture of the cases. Greenfield may well be correct in his arguments about the factual specifics of those issues. indeed, given that he's a careful scholar, I assume he is.

Given that courts applying Washington law pierce almost half the time, however, to the extent veil piercing is at issue in these cases perhaps the Washington courts should consider reverse veil piercing as a way of solving the basic legal problem.

Cato sues SEC over gag settlements

Alison Frankel reports:

Adding to mounting conservative criticism of a Securities and Exchange Commission rule that prohibits people who settle with the commission from thereafter denying the government’s allegations, the libertarian Cato Institute sued the SEC Wednesday in federal court in Washington, D.C., alleging that the SEC’s "gag rule" is unconstitutional.

“The government uses its extraordinary leverage in civil litigation to extract from settling defendants a promise to never tell their side of the story, no matter how outrageous the government’s conduct may have been and no matter how strong the public’s interest may be in knowing how the government conducts itself in high-stakes civil litigation,” the Cato suit said. “This civil-rights lawsuit seeks to end the federal government’s decades-long use of gag orders in violation of the First Amendment to the United States Constitution.”

Back in November, the WSJ opined that:

One of the strongest rules in free-speech law is that the government may not engage in “prior restraint” of speech except in extreme circumstances. Yet the Securities and Exchange Commission does so routinely. Under a rule adopted in 1972, the SEC demands that parties entering into settlements with the commission be silenced about the prosecution forever. If they question the merits of the case against them, the SEC reserves the authority to reopen it. ...

The SEC’s gag rule is a symptom of a broader problem: Administrative agency power tends to expand beyond its lawful scope. This is why the Founders were so obsessively concerned that the three branches of government operate publicly subject to carefully constructed checks and balances.

In October, the New Civil Liberties Alliance filed a petition asking the SEC "to amend its rule restricting speech that is set forth in 17 C.F.R. § 202.5(e) (“The Gag Rule”). ... The Rule is unconstitutional, without legal authority, and further is ill-conceived policy."

Scott Shackford has a blog post at Reason discussing the issue.

But would they have standing?

Investors should sue California over its corporate gender quotas right now https://t.co/c7IFW8Owwg via @LibertyUnyieldi I'm not a standing expert, but would be interested in those who are analyzing the argument.

— Professor Bainbridge (@ProfBainbridge) October 7, 2018

California SB 826--The Board Gender Quota Bill--Should Be Unconstitutional Under the Commerce Clause

Professor Bainbridge: California Corporate-Board Quota Law Unlikely to Survive a Constitutional Challenge https://t.co/0NTY2uNty6

— Professor Bainbridge (@ProfBainbridge) October 2, 2018

Francis Pileggi on Brett Kavanaugh on Delaware Corporate Law

Here

Can California Require Delaware Corporations to Comply with California's New Board of Director Gender Diversity Mandate? No.

Kim Krawiec reports:

Thanks to California, corporate board diversity or, more specifically, gender diversity, is in the news again. SB 826 which, according to news reports, Gov. Jerry Brown is expected to sign, passed the state Senate in a 23-9 vote and the Assembly in a 41-26 vote. The statute would require “publicly held domestic or foreign corporation[s] whose principal executive offices, according to the corporation’s SEC 10-K form, are located in California” to have a minimum of one female director on its board by the end of 2019. By the end of 2021, those numbers would increase for corporations with five directors, who would need to have a minimum of two female board members, and for corporations with six or more directors, who would need to have at least three female board members.

Kim goes on to review the policy arguments pro and con. Kevin Paul Bishop has a somewhat more detailed description of the bill.

In this post, I consider whether California can do this as a constitutional matter. 

Opponents of the legislation are mainly focusing on equal protection arguments, claiming that neither the U.S. nor the California constitutions prohibit the sort of quotas contemplated by the bill. I think there’s another issue raised by the statute, however.

Virtually all U.S. corporations are formed (“incorporated”) under the laws of a single state by filing articles of incorporation with the appropriate state official.[1]The state in which the articles of incorporation are filed is known as the “state of incorporation.” Selecting a state of incorporation has important consequences, because of the so-called “internal affairs doctrine”—a conflicts of law rule holding that corporate governance matters are controlled by the law of the state of incorporation.

Suppose, for example, that Acme, Inc., is incorporated in Delaware, but all of Acme’s assets are located in Illinois. All of Acme’s shareholders, directors, and employees reside in Illinois. Acme’s sole place of business is located in Illinois. An Acme shareholder brings suit against the board of directors, alleging that its members violated their fiduciary duty of care. The law suit is filed in an Illinois court. Despite all these Illinois ties, the Illinois court usually nevertheless will apply Delaware law.[2]

The internal affairs doctrine developed on the premise that, in order to prevent corporations from being subjected to inconsistent legal standards, the authority to regulate a corporation's internal affairs should not rest with multiple jurisdictions. … By providing certainty and predictability, the internal affairs doctrine protects the justified expectations of the parties with interests in the corporation.[3]

The internal affairs doctrine takes on particular transactional significance when considered in conjunction with the constitutional restrictions on a state’s ability to exclude foreign corporations. With rare exceptions, states have always allowed foreign and pseudo-foreign corporations to do business within their borders. As early as 1839, for example, the U.S. Supreme Court held that federal courts should presume a state would recognize foreign corporations in the absence of an express statement to the contrary by the legislature.[4]A subsequent Supreme Court decision implied that states could not exclude foreign corporations from doing business within the state provided that the business constituted interstate commerce under the Commerce Clause of the U.S. Constitution.[5]These decisions effectively created a common market for corporate charters. If Illinois, for example, adopts a restrictive corporation law, its businesses are free to incorporate in a less restrictive state, such as Delaware, while continuing to conduct business within Illinois.

Virtually all U.S. jurisdictions follow the internal affairs doctrine, even if the corporation in question has virtually no ties to the state of incorporation other than the mere fact of incorporation. A few states make a more general exception to the internal affairs doctrine for so-called pseudo-foreign corporations. A foreign corporation is one incorporated either by a state or nation other than the state in question. A pseudo-foreign corporation that has most of its ties to the state in question rather than to the state of incorporation. Many Delaware corporations are pseudo-foreign corporations. They are incorporated in Delaware, but most of their operations are located in one or more other states. In most states, there is no significant legal difference between a foreign and a pseudo-foreign corporation, and the internal affairs doctrine will be applied to invoke the law of the state of the incorporation with respect to both. California and New York are the principal exceptions to this rule. Both states purport to apply parts of their corporate laws to pseudo-foreign corporations formed in other states but having substantial contacts with California or New York.[6]SB 826 is the latest salvo in this struggle.

In 2005, the Delaware supreme court held that the general California statute was unconstitutional under the Due Process and Commerce Clauses of the U.S. Constitution.[7]

The internal affairs doctrine is not, however, only a conflicts of law principle. Pursuant to the Fourteenth Amendment Due Process Clause, directors and officers of corporations “have a significant right ... to know what law will be applied to their actions” and “[s]tockholders ... have a right to know by what standards of accountability they may hold those managing the corporation's business and affairs.” Under the Commerce Clause, a state “has no interest in regulating the internal affairs of foreign corporations.” Therefore, this Court has held that an “application of the internal affairs doctrine is mandated by constitutional principles, except in the ‘rarest situations,’ ” e.g., when “the law of the state of incorporation is inconsistent with a national policy on foreign or interstate commerce.”[8]

Ultimately, of course, the U.S. Supreme Court will have to decide the issue.

In my view, however, the Sureme Court will come down on Delaware’s side.

… application of local internal affairs law (here California's section 2115) to a foreign corporation (here Delaware) is “apt to produce inequalities, intolerable confusion, and uncertainty, and intrude into the domain of other states that have a superior claim to regulate the same subject matter....” Professor DeMott's review of the differences and conflicts between the Delaware and California corporate statutes with regard to internal affairs, illustrates why it is imperative that only the law of the state of incorporation regulate the relationships among a corporation and its officers, directors, and shareholders. To require a factual determination to decide which of two conflicting state laws governs the internal affairs of a corporation at any point in time, completely contravenes the importance of stability within inter-corporate relationships that the United States Supreme Court recognized in CTS.[9]

Unlike 2115, SB 826 tries to finesse that holding by limiting its application to quasi-foreign corporations “whose principal executive offices, according to the corporation’s SEC 10-K form.” I doubt whether that is sufficient, however. Let’s start with general principles. The Court has emphasized that “state regulation of corporate governance is regulation of entities whose very existence and attributes are a product of state law,”[10]from which the Court extrapolated the proposition that “it . . . is an accepted part of the business landscape in this country for States to create corporations, to prescribe their powers, and to define the rights that are acquired by purchasing their shares.” In keeping with that principle, the Court emphasized that state law governs the rights and duties of corporate directors: “As we have said in the past, the first place one must look to determine the powers of corporate directors is in the relevant State’s corporation law. . . . ‘Corporations are creatures of state law’ . . . and it is state law which is the font of corporate directors’ powers.”[11]Granted, none of these cases are directly on point, but taken together they suggest the Court will recognize the constitutional status of the internal affairs doctrine.

Now let’s drill down a bit. As Jack Jacobs (former Delaware Vice Chancellor and Supreme Court Justice) has noted, a problem with the California and New York statutes is that they “have extraterritorial reach because they legislatively overrule the internal affairs doctrine and impose their own, often different, internal governance requirements upon foreign corporations having a specified level of contact with the forum state.”[12]In Edgar v. Mite, a plurality of the Supreme Court held said that an Illinois statute violated the commerce clause of the U.S. Constitution because, inter alia, of the statute’s “sweeping extraterritorial effect.”[13]“The limits on a State's power to enact substantive legislation are similar to the limits on the jurisdiction of state courts. In either case, ‘any attempt “directly” to assert extraterritorial jurisdiction over persons or property would offend sister States and exceed the inherent limits of the State's power.’”[14]

SB 826 has similar extraterritorial effect. Imagine a Delaware corporation with operations in many countries around the world, as well as numerous U.S. states. While its principal executive offices are located in California, only about 3% of the company’s operations are located in California. A sizeable majority of the company’s board of directors are domiciles of other states (and even other countries). The board routinely holds conference calls linking directors at locations around the globe. The board’s regular meetings take place in various locations throughout the United States.

The Southern Agrarians' Opposition to Corporate Personhood

You could hardly call the Southern Agrarians leftists. Yet, as I recently learned while researching a project on populism and corporate governance, the Southern Agrarians shared with modern left-wing Occupy-style populists a disdain for the idea of corporate personhood. For example, in an essay entitled The Foundations of Democracy, Frank Owsley complained that the Supreme Court had erected the 5th and 14th Amendments "into bulwarks of human freedom, but into impregnable fortresses of corporate wealth."

The usual arguments in favor of corporate personhood apply, of course. One might also note that the New Deal, during which Owsley was writing, proved that corporations were, shall we say, pregnable. 

Anyway, I toss this out there for the benefit of anybody who wants to do a project of how both right of center and left of center populists both get corporate personhood wrong.

"What Do Judges Maximize?"

At Law & Liberty poll sci professor James Rogers tackles the titular question, pointing out:

Simple, or naïve, attitudinalism posits Supreme Court justices vote their policy preferences in each specific case they decide. Yet if justices indeed pursue policy outcomes in their decisions, the belief that justices vote their policy preferences in each specific case makes no sense. Justices who seek to maximize achievement of their substantive policy preferences in their judicial decisions will not necessarily vote for the substantive outcome they prefer in a particular case.

Here’s why.

In recent years the U.S. Supreme Court hears about 80 cases per term. The actual legal decision in these few cases binds only the specific parties to the dispute. While some cases are more significant than others, that’s still not necessarily a huge amount of political influence relative to the influence the precedent will have on scores, or even hundreds, of related cases that are not heard by the Supreme Court. Even thinking of actual cases ignores the policy impact Supreme Court precedents can have: Precedent influences not only actual cases, but affects behavior that never rises to the level of litigation. Competent legal counsel can advise clients in light of the precedent to behave in a way that leaves them without risk of litigation.

This broader policy impact of precedent can swamp the policy impact of resolving a legal dispute between the two litigants in a case actually before the Court.

As longtime readers may recall, Mitu Gulati and I did on this issue a while back. See Stephen M. Bainbridge & G. Mitu Gulati, How Do Judges Maximize? (The Same Way Everybody Else Does—Boundedly): Rules of Thumb in Securities Fraud Opinions, 51 Emory L.J. 83 (2002).

Our work suggests that Rogers' account of judicial incentives is incomplete because he makes two moves common to the debate over how judges decide cases. First, he focuses on the Supreme Court, despite the fact that that court decides an infinitesimally small amount of American law. In addition, he focuses on Supreme Court cases that have partisan policy implications, which make up an even smaller fraction of judicial work. In a typical Supreme Court term, "approximately 80 percent of votes are in support of the majority opinion, and only about 20 percent of cases are determined narrowly. The 5–4 cases that get national attention are in fact somewhat anomalous." A small sample of anomalous cases is not going to tell us much about how judges in general maximize. (And notice that Roger's post is titled :How Judges Maximize" not "How Supreme Court Justices maximize in the small percentage of their cases that have closely divided partisan policy implications." There is at least the suggestion that his analysis had broad application.)

Second, Rogers implicitly invokes the two basic modes of judicial decision making, which we identified as the Herculean model in which the judge has full information and full knowledge and, generally speaking, gets it right; and (b) the Wannabe model, in which the judge seeks to be Herculean, but errs because he or she is mortal. Two sub-variants of each model depend on what the scholar in question believes that judges seek to maximize: social welfare or personal policy preferences.

Gulati and I pointed out that these accounts fail to account for the fact that judges are agents with incentives to shirk in a variety of ways. We began "by assuming a nonexpert federal judge faced with an overwhelming caseload and limited time and resources with which to decide those cases. We add[ed] the assumption that most judges do not find securities law interesting. From these institutional characteristics, we infer[ed] an explanation for the development and popularity of the heuristics premised on limited cognitive capabilities, resource constraints, and a judicial desire to move cases off the docket in an acceptable fashion."

Instead of leaving [determinations of materiality and intent] for trial, as we show herein, judges are using substantive heuristics to dispose of securities cases at the motion to dismiss stage. In contrast to prior commentary, however, we argue this result reflects not a pro-defendant bias but rather institutional constraints that give judges incentives to eliminate securities cases from their dockets with minimal effort.

Second, our focus on substantive heuristics highlights a previously unobserved link between institutional constraints and the evolution of substantive doctrine. When judges invoke procedural heuristics that enable them to avoid tackling a substantive issue, there is no effect on the evolution of substantive law (except that no law is created). When judges invoke substantive heuristics, however, the use of such heuristics channels and even dominates the on-going evolutionary processes of the (quasi-common) law of securities regulation. As we demonstrate, for example, the development of substantive securities law heuristics has dramatically affected the evolution of the law on both materiality and scienter. At the same time, however, other issues, such as the scope of different duties to disclose, are largely ignored (except perhaps to say why they were not deserving of attention).

Importantly, this is true even at the Supreme Court level.

There is general agreement that the Supreme Court has not done a very good job in the securities area, especially in recent years. Scholars operating in a wide range of paradigms have criticized the court’s recent securities opinions.  Supreme Court securities law decisions typically lack a broad, consistent understanding of the relevant public policy considerations. Worse yet, they frequently lack such basics as doctrinal coherence and fidelity to prior opinions.

Why doesn’t the Supreme Court do a better job in securities cases? Our model offers an answer. When deciding securities cases, the Court is faced with hard, dry, and highly technical issues. Supreme Court justices and their clerks arrive on the court with little expertise in securities law. One reasonably assumes that neither the justices nor their clerks have much interest developing substantial institutional expertise in this area after they arrive. (Former Justice Powell being the exception that proves these rules.) Accordingly, it would be surprising if the Court’s securities opinions exhibited anything remotely resembling expert craftsmanship.

Under such conditions, we would expect the justices to take securities cases rarely, typically when there is a serious circuit split, which is in fact what we observe.  When obliged to take a securities issue, the Court will seek to minimize the amount of effort required to render a decision. This observation is not intended pejoratively. To the contrary, in terms of our model, the justices are acting rationally. …

Bounded rationality implies that Supreme Court justices (and their clerks) have a limited ability to master legal information, including the myriad complexities of doctrine and policy in the host of areas annually presented to the court. Specialization is a rational response to bounded rationality—the expert in a field makes the most of his limited capacity to absorb and master information by limiting the amount of information that must be processed by limiting the breadth of the field in which he develops expertise. Supreme Court justices will therefore need to specialize, just as experts in other fields must do. Specializing in securities law would not be rational. The psychic rewards of being a justice—present day celebrity and historical fame—are associated with decisions on great constitutional issues, not the minutiae of securities regulation.

The debate over judicial incentives is important. The overemphasis on 5-4 Supreme Court decisions in that debate, however, means that the vast majority of both the academic and public debate--including the colloquy between Rogers and McGinnis--grossly distorts the real picture of how (and what) judges maximize.

WLF: "Supreme Court to Hear Arguments in Case Involving SEC’s Alleged Improper Appointment of ALJs"

I received an email from the Washington legal Foundation re an important upcoming case:

“If the SEC’s constitutional violations have no consequence because the agency may simply ratify all acts taken by its improperly appointed agents, then there will be very little incentive to comply with the Appointments Clause in the future.”

—Richard Samp, WLF Chief Counsel

 

WASHINGTON, DC—The U.S. Supreme Court will hear oral arguments this coming Monday, April 23, at 10 a.m., in Lucia v. SEC, a case that will decide whether the Securities and Exchange Commission violated the U.S. Constitution’s Appointments Clause by the manner in which it appointed Administrative Law Judges (ALJs) to conduct trials of SEC enforcement actions. WLF Chief Counsel Richard Samp, who co-authored WLF’s brief in the case and will attend the arguments, will be available Monday afternoon to discuss what the oral arguments may have revealed about likely outcomes.

 

The Appointments Clause specifies procedures for appointing “Officers” of the United States. The SEC did not comply with those procedures in appointing ALJs, claiming that ALJs are not “Officers.” If the Supreme Court rules that ALJs are, in fact, “Officers,” the validity of many of the trials recently conducted by the SEC’s ALJ (i.e., all cases in which appeals from SEC enforcement orders are still pending) will be called into question.

 

WLF’s brief urged the Court to rule both that the SEC appointed its ALJs in an unconstitutional manner and that defendants (including Petitioner Raymond Lucia) whose enforcement proceedings were tried before an improperly appointed ALJ are entitled to a new trial. The United States argues that even if the Court rules that the ALJ appointments were unconstitutional, the SEC should be permitted to retroactively “ratify” all the proceedings conducted by those ALJs. 

California censorship takes another hit

From WLF Legal Pulse:

Occasionally, but not nearly often enough, courts reintroduce California’s censors to the First Amendment, as the U.S. Court of Appeals for the Ninth Circuit did last year in striking down San Francisco’s warning-label mandate for “sugary” drinks. On February 20, a Northern District of California judge handed the state its latest speech-regulation defeat, striking down a law designed to limit information that entertainment database company IMDb.com could publish (IMDb.com Inc. v. Becerra).

Go read whole thing.