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New and Continuing Challenges to California's Board Diversity Quota Laws

Keith Paul Bishop has the details:

Tomorrow, a trial is scheduled to begin in California Superior Court on the constitutionality of SB 826, California's female director quota law.  Crest v. Padilla (Cal. Super. Ct. Case No. 19STCV27561).   ...

In addition, there is a separate challenge to the law pending in the U.S. District Court for the Eastern District of California.  Meland v. Padilla (Case No. No. 2:19-cv-02288-JAM-AC). ...

Last week, the National Center for Public Policy Research filed a complaint in U.S. District Court challenging both SB 826 and AB 979.  The complaint has a single claim for relief based on the Fourteenth Amendment of the U.S. Constitution and 42 U.S.C. § 1983. 

I'll remind readers that I have taken the position that these laws are unconstitutional under the internal affairs doctrine, which is a penumbra formed by the emanations of the dormant Commerce Clause and the Full Faith and Credit Clause.

Will the SEC now allow shareholder proposals on abstract political, social, and economic questions?

The SEC's latest guidance on Rule 14a-8 (the shareholder proposal rule) abandoned an important limitation on the scope of permissible shareholder proposals:

Rule 14a-8(i)(7), the ordinary business exception, is one of the substantive bases for exclusion of a shareholder proposal in Rule 14a-8. It permits a company to exclude a proposal that “deals with a matter relating to the company’s ordinary business operations.” ...

... staff will no longer focus on determining the nexus between a policy issue and the company, but will instead focus on the social policy significance of the issue that is the subject of the shareholder proposal. In making this determination, the staff will consider whether the proposal raises issues with a broad societal impact, such that they transcend the ordinary business of the company.

It has been speculated that this announcement "represents a wholesale abandonment of any assessment of relevance of a proposal to a company’s business (as compared to relevance to society at large)." If so, it would represent an abandonment of longstanding rules, including "the “nexus” concept was embedded in the 1998 Release, as stated in Staff Legal Bulletin 14E (Oct. 27, 2009), at footnote 4 (citing the 1998 Release), and reaffirmed in Staff Legal Bulletin 14H (Oct. 22, 2015)."

I am reminded in this regard of a 1945 SEC opinion, which concluded that "the phrase “proper subject for action” to mean proposals which relate directly to the affairs of the particular corporation and concludes that proposals which deal with general political, social or economic matters are not, within the meaning of the rule, 'proper subjects for action by security holders.'" The Sec Today Released an Op. of Baldwin B. Bane, Release No. 735 (S.E.C. Release No. Jan. 3, 1945). Has the SEC now abandoned that position, such that "proposals which deal with general political, social or economic matters" unrelated tp the company's business will now be includable?

This makes no sense. As the 1945 release explained, the purpose of the shareholder proposal rule is "to place stockholders in a position to bring before their fellow stockholders matters of concern to them as stockholders in such corporation ...." The clear implication is that there must be some nexus between the proposal and the company's bison's activities:

... in 1945 the Commission issued a release containing an opinion of the Director of the Division of Corporation Finance that was rendered in response to a management request to omit shareholder resolutions which bore little or no relationship to the company's affairs; for example, these shareholder resolutions included proposals "that the anti-trust laws and the enforcement thereof be revised," and "that all Federal legislation hereafter enacted providing for workers and farmers to be represented should be made to apply equally to investors." The Commission's release endorsed the Director's conclusion that "proposals which deal with general political, social or economic matters are not, within the meaning of the rule, ‘proper subjects for action by security holders.'"

Med. Comm. for Human Rights v. Securities and Exch. Commn., 432 F.2d 659, 677 (D.C. Cir. 1970), vacated, 404 U.S. 403 (1972). Are shareholder proposals "that the anti-trust laws and the enforcement thereof be revised" now admissible? It seems possible:

“By repealing longstanding guidance about treatment of shareholders proposals, the SEC has stated its preference to turn board rooms and shareholder meetings into political debate societies on issues the SEC admits have no nexus to the actual business of the company,” Tom Quaadman, an executive vice president with the Chamber, said in a statement. “This will all come at the expense of companies' ability to focus on long-term performance, including the welfare of their employees, customers, and shareholders.”

Commissioners Criticize New SEC Staff Interpretation on Rules Governing Shareholder Proposals, WGL-ACCTALERT VOL 15 NO 213.

All of which strikes me as problematic. After all, shareholders have a “First Amendment interest in not being forced to be associated with political speech that they do not support." Lucian A. Bebchuk & Robert J. Jackson, Jr., Corporate Political Speech: Who Decides?, 124 Harv. L. Rev. 83, 113 (2010). If that's true about political speech by the corporate, as Bebchuk and Jackson claim, should it not be even more true with respect to political speech foisted upon the corporation by government fiat regardless of whether the speech has any meaningful relationship to the company's business?

Hearing on California's Board of Director Gender Quota Statute

Report from Cydney Posner of Cooley on the federal district court hearing on plaintiff's request for a preliminary injunction against enforcement of SB 826, which "requires that public companies (defined as corporations listed on major U.S. stock exchanges) that have principal executive offices located in California, no matter where they are incorporated, include specified minimum numbers of women on their boards of directors." 

It sound like the plaintiff's going to lose on that request and probably on the merits, as the judge reportedly stated that:

I think that the plaintiff hasn’t demonstrated enough of a likelihood of success on the merits on his claim that this law is unconstitutional to warrant a preliminary injunction, to stop the law now. It goes to my question obviously loaded and somewhat biased about the balance of equities in the public interest of stopping this law now, particularly when it appears to be working so well and is accomplishing the primary goal of remedying discrimination.

“So in terms of a likelihood of success on the merits, I am leaning towards finding that the defendants are more likely to succeed on the merits, and that the law should be upheld.

As regular readers know, I believe SB 826 is unconstitutional under the penumbra created by the full faith and credit and dormant commerce clauses, which constitutionalize the internal affairs doctrine. That issue is not being litigated in this case, however.

California Board of Director Gender Quota Law Going to Trial

Keith Paul Bishop reports:

California Superior Court Judge Maureen Duffy-Lewis issued her ruling yesterday on the parties' respective motions for summary judgment in Crest v. Padilla (Cal. Super. Ct. Case No. 19STCV27561).  In this case, the plaintiffs are seeking a judgment declaring that any and all expenditures of taxpayer funds to enforce and carry out the provisions of California's female director quota law (SB 826) are illegal.   SB 826 is codified at Sections 301.3 and 2115.5 of the California Corporations Code.   The basis for the plaintiffs' claim is Art. I, Section 31 of the California Constitution which forbids the state from discriminating against, or granting preferential treatment to, any individual or group on the basis of race, sex, color, ethnicity, or national origin in the operation of public employment, public education, or public contracting.

Judge Duffy-Lewis denied both motions on the grounds that there are triable issues of material facts.  While the fundamental question presented by the case appears to be legal, the ruling notes that each side provided with their moving papers "substantial amounts of extrinsic evidence" and that each side disputed facts presented by the other. 

The Alliance for Fair Board Recruitment is also the lead plaintiff in a challenge to the California Board Quota Laws

In addition to suing over the NASDAQ board diversity listing standard, the Alliance for Fair Board Recruitment is also the lead plaintiff in a suit challenging the California board of director racial and gender quota laws. 

Unlike an earlier court challenges, this lawsuit takes on both SB 826 and AB 979.   These bills impose quotas as to the number of female directors (SB 826) and directors from underrepresented communities (AB 979) on the boards of directors of publicly held corporations having their principal executive offices in California. 

This new challenge differs from the others because it takes on both requirements and argues that both quota requirements are contrary to the "internal affairs doctrine".   The plaintiff asserts:

California's race and gender quota laws expressly apply "to the exclusion" of the laws of the state of incorporation.  Cal. Corp. Code §§ 2115.5(a), 2115.6(a).  In other words, these board laws assert that they override other states' laws governing corporations incorporated in their own states.  Therefore, California's "diversity" laws violate the internal affairs doctrine.

As regular readers know, I do not claim expertise to opine on the equal protection issues raised by these statutes, but I do believe that the statutes--as applied to companies incorporated outside of California--are unconstitutional under the internal affairs doctrine.

Nasdaq Board Diversity Quotas Challenged in Federal Court by the Alliance for Fair Board Recruitment

From their press release:

On August 9, 2021, the Alliance for Fair Board Recruitment (AFFBR), a nonprofit membership organization incorporated in the state of Texas, filed a Petition for Review in the United StatesCourt of Appeals for the Fifth Circuit seeking a review of the approval by the Securities and Exchange Commission (SEC) of the corporate board diversity quotas proposed by the Nasdaq stock exchange. ...

As AFFBR explained in a comment submitted to the SEC, Nasdaq's discriminate-or-explain rule also exceeds its role and the authority granted by federal securities law and also violates core Bill of Rights guarantees against compelled speech and discrimination based on sex and race by stereotyping all people of the same skin color or sex as being alike and interchangeable. Further, the rule will not deliver the promised benefits. As Harvard law professor Jesse Fried has explained, numerous studies have shown "that stock returns suffer when firms are pressured to hire new directors for diversity reasons."

NASDAQ offers a summary of the listing standard here. SEC Commissioners Lee and Crenshaw's statement in support of the standard is here. SEC Commissioner Peirce's statement in opposition to the standard is here.

Andrew Stuttaford comments here. In a comment on the original draft proposal, Stuttaford observed:

NASDAQ, a private institution, is, of course, entitled to set its own rules, just as (to quote the Journal) “banks and asset managers” are entitled to try to push their clients or portfolio companies to change their ways. Nevertheless, it is hard to miss the mission creep that is currently occurring across a wide range of institutions, some private, some parastatal (take a look at the effort centralbanks are increasingly making with regard to climate change) to impose different aspects of a “progressive” agenda on private companies without the bother of going through the usual democratic mechanisms.

In my view, this is a legitimate concern.

Asking corporate executives to take on governmental functions not only asks them to undertake tasks for which they are untrained and for which their enterprise is unsuited, it also subverts the basis of a liberal democracy. Government efforts to solve social problems are inherently limited by the checks and balances baked into the American political system. "Woke capitalism" bypasses those checks and balances by asking unelected executives to undertake solving social ills.

As Milton Friedman explained, back in 1970, liberals of that era argued that society was plagued by a host of ills that were "too urgent to wait on the slow course of political processes, that the exercise of social responsibility by businessmen is a quicker and surer way to solve pressing current problems.” Accordingly, Sixties-era liberals seized on using CSR as “a quicker and surer way to solve [these] pressing current problems.” 

Friedman rejected this line of argument as fundamentally anti-democratic:

What it amounts to is an assertion that those who favor the taxes and expenditures in question have failed to persua de a majority of their fellow citizens to be of like mind and that they are seeking to attain by undemocratic procedures what they cannot attain by democratic procedures. In a free society, it is hard for “good” people to do “good,” but that is a small price to pay for making it hard for “evil” people to do “evil,” especially since one man's good is another's evil.

Why was the challenge to the Nasdaq diversity rule Filed in the federal court of appeals instead of a district court? Keith Paul Bishop examines the question. https://t.co/5c2OO3v813

— Steve Bainbridge (@PrawfBainbridge) August 20, 2021

To promote Board Diversity States are Rampantly Ignoring the Internal Affairs Doctrine

A guest post on Kevin LaCroix's D&O Diary site reports on the status of board diversity legislation at the state level. Money quote:

While California and Washington are currently the only states with mandatory diversity requirements, nearly all of the bills introduced in state legislatures in 2021 have followed that approach – including Connecticut, Hawaii, Massachusetts, Michigan, New Jersey, and Oregon. Illinois and Maryland require only disclosure of boardroom demographics, but do not mandate any level of board diversity. Colorado and Pennsylvania have non-binding diversity requirements, urging companies to act on their own; Ohio has introduced similar legislation.

Some striking points:

• Maryland's mandatory disclosure statute applies to both for-profit and not-for-profit entities. 
• New York's mandatory disclosure bill applies to both public AND privately held companies authorized to do business in the state.
  • If adopted, Ohio's non-binding resolution urging board diversity also applies to both public and privately held corporations that are "doing business" in the state.
• 9 of the 11 statutes apply not just to companies incorporated in the adopting state but also to companies headquartered in the state
  • As noted, New York applies to any corporation--whether incorporated in New York or not--authorized to do business in the state
  • As noted, Ohio's applies to all companies "doing business" in Ohio, whether incorporated there or not.

All 11 have thus tossed the internal affairs doctrine out the window. As regular readers know, I believe that the internal affairs doctrine is both sound public policy and a constitutional requirement. As such, my view is that all of these statutes are constitutionally suspect.

As always, the wisdom and constitutionality of such statutes if limited to companies incorporated in the adopting state is a matter as to which I have no opinion.

Ninth Circuit holds shareholder has standing to challenge California board diversity quota law

Bloomberg reports:

An OSI Systems Inc. shareholder has standing to challenge a California law requiring public corporations headquartered in the state to have a minimum number of women on their boards of directors, the Ninth Circuit ruled Monday.

California Senate Bill 826 “requires or encourages” individual shareholders of public companies to vote for female board members, the U.S. Court of Appeals for the Ninth Circuit said. As an individual shareholder of California-based OSI, Creighton Meland has standing to argue that the law requires him to discriminate on the basis of sex in violation of the 14th Amendment, the court said.

The full text of the opinion is here. The summary explains:

Plaintiff alleged that Senate Bill 826 (SB 826) requires shareholders to discriminate on the basis of sex when exercising their corporate voting rights, in violation of the Fourteenth Amendment. The panel held that plaintiff plausibly alleged that SB 826 requires or encourages him to discriminate based on sex. Plaintiff therefore adequately alleged an injury in fact, the only Article III standing element at issue, and thus had Article III standing to challenge SB 826.

The opinion summarizes the relevant legal rule as follows:

... we have long held that “[a] person required by the government to discriminate by ethnicity or sex against others has standing to challenge the validity of the requirement, even though the government does not discriminate against him.” Monterey Mech., 125 F.3d at 707. ...

We have subsequently relied on Monterey Mechanical’s determination that a person required or encouraged to discriminate on the basis of a protected class, “even if the beneficiaries [of the discrimination] are members of groups whose fortunes we would like to advance,” id. at 708, has suffered a direct personal injury sufficient to confer standing.

California objected that the bill affects only corporations; not shareholders. But the 9th Circuit rejected that argument:

Here, corporate shareholders are an object of SB 826. As a general rule, shareholders are responsible for electing directors at their annual meetings. E.g., Cal. Corp. Code §§ 301(a), 600(b). OSI is no exception. Thus, the only way a person can be elected to OSI’s board is if a plurality of shareholders vote in favor of the nominee at an annual shareholder meeting. OSI itself has no authority to elect its own board members. For SB 826 to hasten the achievement of gender parity—or indeed, for SB 826 to have any effect at all—it must therefore compel shareholders to act. Accordingly, the California Legislature necessarily intended for SB 826 to require (or at least encourage) shareholders to vote in a manner that would achieve this goal.

California also argued that shareholders will not be forced to vote for female directors, but the 9th Circuit rejected that argument as well:

A reasonable shareholder deciding how to vote could not assume that other shareholders would vote to elect the requisite number of female board members. Therefore, each shareholder would understand that a failure to vote for a female would contribute to the risk of putting the corporation in violation of state law and exposing it to sanctions. At a minimum, therefore, SB 826 would encourage a reasonable shareholder to vote in a way that would support corporate compliance with legal requirements. Indeed, the California Legislature must have concluded that SB 826 would have such an effect on individual shareholders; otherwise, if each individual shareholder felt free to vote for a male board member, SB 826 could not achieve its goal of reaching gender parity. ...

California’s argument that SB 826 does not require a shareholder to discriminate, because the law does not impose monetary sanctions directly on shareholders, also fails. A law may require or encourage action whether or not it imposes a monetary sanction for noncompliance.

All of this is way outside my wheelhouse, of course. My own view remains limited to the issue of whether the law is constitutional under the internal affairs doctrine. As regular readers will recall, I believe the law is not constitutional thereunder. 

Keith Paul Bishop comments:

Although I agree with the Court of Appeal's conclusion, the opinion begins with an erroneous description of the law, stating that SB 826 "requires all corporations headquartered in California to have a minimum number of females on their boards of directors".  The law applies only to "publicly held domestic or foreign corporations", not all corporations. 

Kevin LaCroix has a very detailed review of the case and issues. He points out that:

The appellate court’s action has implications both for the board gender diversity statute and the more recently adopted board racial diversity statute, which has also been challenged in court. ...

The appellate court’s ruling that Meland has standing means only that the lawsuit now goes back to the district court for further proceedings. The appellate court’s ruling does not mean Meland’s claims are meritorious, or that the statute is unconstitutional. ...

A complete review of the picture surrounding the legal challenges to SB 826 also requires a discussion of the separate state court challenge to the California board gender diversity statute.

Go read the whole thing.

Using Insider Reverse Veil Piercing to Vindicate the Free Exercise Rights of Close Corporation Shareholders

Kent Greenfield and Daniel Rubens want courts to invoke the legal fiction of corporate personhood to frustrate the free exercise rights of close corporation shareholders (although they frame the issue somewhat differently):

Corporations increasingly assert the right to discriminate, based either on free speech claims, religious freedom claims, or statutory claims arising from the Religious Freedom Restoration Act. Such claims have been considered by the Supreme Court in Hobby Lobby (RFRA) and Masterpiece Cakeshop (First Amendment), and in both cases the Court held in favor of the business.

In neither case, however, did the Court address a fundamental flaw with the arguments of the company asserting the speech and religion claims: that the claims depend on the rejection of corporate personhood. The putative religious and speech claims arose not from the beliefs of the companies but of their dominant shareholders. But corporate “personhood” means the interests of the firm are distinct from those of the shareholders. Allowing companies to assert the beliefs of shareholders as their own contradicts established doctrine and risks corporate manipulation of regulations designed to be generally applicable.

Greenfield, Kent and Rubens, Daniel, Corporate Personhood and the Putative First Amendment Right to Discriminate (April 29, 2021). Forthcoming in the Research Handbook on Corporate Purpose and Personhood (Elizabeth Pollman & Robert B. Thompson, eds.,Edward Elgar Publishing),  https://ssrn.com/abstract=3836962

As long time readers know, I am not a far of either veil piercing or reverse veil piercing in its role as a corporate law doctrine. To the contrary, I have urged its abolition as a corporate law doctrine.

But the fact that a doctrine is not fit for one purpose does not mean that the doctrine may not be fit for another purpose.

I believe that insider reverse veil piercing makes sense as a constitutional law doctrine. Indeed, in this context insider reverse veil piercing is the only doctrinal way of deciding when a corporation's shareholders may assert their free exercise rights when the state infringes on those rights by regulating their corporation.

I was prompted to examine this issue by a colloquy between U.S. District Court Judge Reggie Walton and Department of Justice lawyer Benjamin Berwick in Tyndale House Publishers, Inc. v. Sebelius, which was one of the cases that led up to the Holly Lobby decision:

Berwick argued that employers who chose to incorporate their business are precluded from raising First Amendment free exercise of religion-based objections to regulations affecting their business. In response, Judge Walton posed the following hypothetical:

[M]y wife has a medical practice. She has a corporation, but she’s the sole owner and sole stock owner. If she had strongly-held religious belief and she made that known that she operated her medical practice from that perspective, could she be required to pay for these types of items if she felt that that was causing her to violate her religious beliefs?

Berwick replied that the corporation and its shareholders are separate legal persons. The judge thereupon summarized his understanding of the government’s position as being that his wife would “have to go as an individual proprietor with no corporation protection in order to assert her religious right.” Berwick did not contest that characterization.

I find Berwick (and the government's) position on this issue nonsensical. According to Berwick, a sole proprietor could raise a valid free-exercise-based challenge to the mandate, but otherwise identically situated businesspersons who had incorporated their company lose the ability to do so. Talk about elevating form over substance, which often makes sense in a transactional setting but makes no sense when fundamental rights are at issue. Remember we dealing here with a right the Founders expressly embedded in the very first amendment to the Constitution.

Insider reverse veil piercing is the only doctrinal option that allows courts to make the sort of fine distinctions that are at issue here. As I explain 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,  https://ssrn.com/abstract=2229414. In it, I assert that:

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.

I proposed a three-pronged version of RVP that should be adopted in the mandate cases:

Is there such substantial identity of the shareholder(s)’s religious beliefs and the manner in which the corporation is operated and the purposes to which it is devoted that the corporation is effectively the shareholder’s alter ego?

How strong is the government’s interest in ensuring that the corporation’s employees get the mandated insurance coverage?

Would reverse piercing this corporation’s veil advance significant public policies?

I elaborated that a court would balance a number of factors:

• Veil piercing is a close corporation doctrine.  In this context, in particular, a public corporation with many shareholders holding diverse views is a poor candidate for RVP-I. In contrast, a closely held corporation – even if quite large by metrics such as assets or employees – with a small number of shareholders holding common religious beliefs is a good candidate. 
• Do the corporation’s articles of incorporation include a statement of purpose referencing religious beliefs and goals? 
• Is the ownership structure of the corporation designed to ensure continuity of its religious purposes even after the original founders have retired or died? 
• Are the directors and officers of the corporation obliged to share the founders’ religious beliefs? If so, are they required to document that fact, such as by signing a statement of faith? 
• Are religious practices such as devotions, prayer, scripture reading, or worship services routinely made a part of corporate meetings? 
• Are such practices made available to employees?
• Is some substantial portion of the corporation’s profits donated to religious charities or otherwise used to advance the founders’ religious beliefs? The biblical concept of a tithe springs to mind here as a possible metric.

The more of these factors that a court finds to be present, the more willing the court should be to treat the corporation as the shareholder’s alter ego.

In Hobby Lobby, no less than 44 corporate law professors--including Greenfield--thought it necessary to file an amicus brief 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. My argument apparently so scared the 44 professors that their brief expressly tackled my argument, asserting that my “argument fundamentally misunderstands the reverse piercing remedy.”

In fact, it was the 44 professors' brief that was replete with errors, overstated claims, or red herrings, and misdirection. I took on the brief in  A Critique of the Corporate Law Professors’ Amicus Brief in Hobby Lobbyand Conestoga Wood (February 21, 2014). 100 Virginia Law Review Online 1 (2014),  https://ssrn.com/abstract=2399638

My article ticked off a lot of problems with the brief, as the table of contents will suggest:

II. The Brief Overstates the Corporation’s Separateness From Its Owners

III. The Corporation’s Separate Existence Does not Always Protect Shareholders from Liability for Corporate Debts

IV. The Brief’s Attack on Reverse Veil Piercing is Overstated and Inaccurate

A. The Brief Misrepresents Hobby Lobby’s and Conestoga Wood’s Argument 

B. The Law Does Not “Strongly Oppose” Reverse Veil Piercing

C. The Brief’s Sleight of Hand Should Not Obscure the Important Policy Issues at Stake

D. The Supreme Court Should Invoke RVP-I to Prevent the Government from Continuing its “Shell Game”

E. Applying RVP-I in the Contraception Mandate Cases Would not be “Disruptive to Business”

1. Protecting the Minority Shareholders’ Interests is Straightforward 

2. The Brief’s Misleading Use of Cede & Co. v. Technicolor, Inc.

F. RVP is not Outcome Determinative 

G. Even Assuming RVP-I Would Give Hobby Lobby and Conestoga Wood a “Competitive Advantage,” They Would not be Alone 

H. RVP-I Will Not Lead to “Disruptive Proxy Contests” 

At bottom, however, my core objection goes to a point Douglas Laycock made that echoed Judge Walton's point:

Laycock observes that:

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.47

By advancing the same sort of extreme formalism, the Brief provides academic cover for the government's shell game.

In Barium Steel Corp. v. Wiley,the Pennsylvania Supreme Court allowed a RVP-I claim so as to prevent just such a shell game. In that case, the court allowed the plaintiff shareholder (itself a corporation) to pierce the veil in reverse to recover damages suffered by a later-created subsidiary due to a breach of warranty, on the grounds that absent RVP, the defendants would never be liable for their breach due to lack of privity with the sub and the fact that the sub was not an intended third-party beneficiary.The Supreme Court likewise should use RVP-I in this case to prevent just such a shell game.

As I have argued elsewhere, the corporation is not a real entity and to argue the contrary is “transcendental nonsense." The legal fiction of corporate personhood should not stand in the way of free exercise of religious belief by shareholders of a closely held incorporated business.

For more on veil piercing, see:

Would SEC Mandated ESG Disclosure Violate the First Amendment?

Liz Dunshee reports:

That was fast. Only a couple of weeks ago, Acting SEC Chair Allison Herren Lee gave a speech and issued a corresponding request for public comment on 15 aspects of climate change disclosure. Hunton Andrews Kurth’s Scott Kimpel alerted us that West Virginia’s Attorney General promptly responded with this letter to threaten a First Amendment lawsuit if the SEC adopts rules that require ESG disclosure.

The letter says the “strict scrutiny” framework applies to speech “compelled” by the government – and concludes that the SEC disclosure rules wouldn’t pass muster. The AG rests that conclusion on the theory that ESG info isn’t financially material and is merely meeting investor “demand.” Here’s an excerpt:

Strict scrutiny is the highest First Amendment standard and imposes three requirements. First, the regulation must advance a compelling government interest; second, it must be directly and substantially related to advancing that end; third, it must use the least restrictive means. See United States v. Playboy Entertainment Group, Inc., 529 U.S. 803, 813 (2000). This is a high bar for the government, and it is the “rare case[]” in which a regulation “withstands strict scrutiny.” Williams-Yulee v. Florida Bar, 575 U.S. 433, 444 (2015).

In Reed v. Town of Gilbert, the Court held that strict scrutiny applies to the type of content ­based speech regulation at issue here. 576 U.S. 155, 159 (2015). According to Justice Breyer, the holding in Reed “inevitably involve[s]” the “governmental regulation of securities.” Id. at 177. In NIFLA v. Becerra, the Court again applied strict scrutiny in a case dealing directly with compelled speech. 138 S. Ct. 2361, 2365-66 (2018). And most recently in an opinion by Justice Kavanaugh, the Court reaffirmed the same standard. Barr v. Am. Ass ‘n of Political Consultants, Inc., 140 S. Ct. 2335, 2346 (2020) ( citing Reed for its holding that “content-based laws are subject to strict scrutiny”). Concurring in part and dissenting in part in that case, Justice Breyer again remarked that this affects “the regulation of securities sales” because, “the regulatory spheres in which the Securities and Exchange Commission … operate[s]” is “defined by content.” Barr at 2360.

First Amendment strict scrutiny is an unmistakable roadblock for your proposal because merely meeting a “demand” for company statements is not a compelling government interest. And while protecting investors from fraud and deceptive practices in the issuance and trading of public securities will likely be held to be a compelling government interest, it is highly unlikely courts will find requiring statements of the kind you propose to directly and substantially serve that end. Moreover, the Commission would be hard-pressed to demonstrate that mandating companies to issue statements regarding environmental, social, and governance matters which are not material to future financial performance constitutes the least-restrictive means for investors to obtain such information. Private competition for customers and investors already leads companies to issue statements on a wide variety of matters of public interest without government compulsion.

It would be preferable for you and the Commission to recognize now that the First Amendment stands in the way of the plans you outlined. If not, these issues will be raised during rulemakings that proceed down this path.

It’s not too surprising to see a threat like this, given the fact that everything these days has become so politically charged. And remember, a First Amendment challenge was successful against the conflict minerals rule.

Supreme Court tosses case challenging Delaware's judicial balance requirement for lack of standing, as I anticipated, but Justice Sotomayor's concurrence poses a couple of interesting questions

Regular readers will recall that I did a Supreme Court preview of Carney v. Adams, the case challenging the Delaware requirements that the membership of its courts be balanced between the two major political parties:

Delaware’s state constitution imposes two unique requirements on the state judiciary that differentiates its courts from those of all other states. Under the bare majority rule, no more than half of the total number of the members of the state Supreme and Superior courts and the Chancery Court can be from the same political party (50 percent plus one if there is an odd number of judges). Under the major party rule, those judges must be from a “major” political party.

James R. Adams is a Delaware lawyer who has been frustrated in his search for a Delaware judicial position because he is a political independent. Adams sued Delaware Governor Carney in federal court seeking to have the Delaware provisions declared unconstitutional. Delaware argued that Adams lacked standing and, in the alternative, that the judicial-selection provisions fell within the policymaker exception to the First Amendment’s ban on conditioning state government positions on membership in a specific political party. The district court ruled for Adams on both grounds.

On appeal, the Third Circuit held that Adams had sufficiently pled Article III standing. As to the merits, the Third Circuit addressed solely the major party rule. The court nevertheless struck down both it and the bare majority rule on grounds that the latter was not severable from the former.

Delaware successfully sought a writ of certiorari from the SCOTUS. I predicted that, if the Court reached the Marits, that Delaware should and would win. However, I also noted that:

In granting the state’s petition, however, the Supreme Court required the parties to also address the question of Adams’ standing.

The Supreme Court’s request for briefing on the standing issue suggests that the Court may be zeroing in on two key weaknesses in Adams’ case. First, Adams had been a registered Democrat until February 2017. While registered as a Democrat, Adams had once applied for a position on the state’s Family Court, as to which the major party rule does not apply, but had never applied for a position on any of the three courts to which that rule does apply. Second, since re-registering as an independent in 2017, Adams had considered applying for a Superior Court vacancy and a Supreme Court vacancy, but had not in fact done so. The Third Circuit found that Adams had nevertheless suffered the requisite injury on fact because it would have been futile for him—as an independent—to have done so. The Third Circuit also rejected Delaware’s argument that prudential considerations mitigated against recognizing Adams as having standing. Accordingly, it seems plausible that the Justices who voted to grant the petition may be teeing this cases up as an opportunity to clarify standing rules.

I was right. As Amy Howe explains over at SCOTUSblog:

The Supreme Court on Thursday tossed out a challenge to a Delaware constitutional provision requiring that appointments to the state’s major courts reflect a political balance. The justices unanimously agreed that John Adams, the Delaware lawyer contesting the requirement, lacks a legal right to sue, known as standing, because he did not show that he was “able and ready” to apply for a judgeship on one of the Delaware courts. ...

In a 12-page opinion by Justice Stephen Breyer, the justices agreed unanimously that Adams had not shown the kind of concrete and specific injury that he needed to challenge Delaware’s party-balance requirements. Emphasizing that the dispute before the court was a “highly fact-specific” one, Breyer wrote that Adams would need to show that he was “‘able and ready’ to apply for a judgeship in the reasonably foreseeable future” – which he could not do. Simply arguing that he would apply, without any references to past applications or efforts to determine when a vacancy might open up, is not enough, Breyer reasoned. Taken in context, Breyer posited, Adams’ argument seems to suggest only “an abstract, generalized grievance, not an actual desire to become a judge.” Moreover, allowing Adams’ lawsuit to go forward based only on his “few words of general intent” would “significantly weaken the longstanding legal doctrine preventing this Court from providing advisory opinions.”

Breyer cautioned that the Supreme Court was not deciding whether a statement of intent, without more, might be enough to provide a legal right to sue in another case. “But we are satisfied,” he concluded, “that Adams’ words alone are not enough here when placed in the context of this particular record.”

Interestingly, Howe notes that "Justice Sonia Sotomayor filed a brief concurring opinion in which" she previewed her views of the merits in case the case or a similar one gets back to the Court:

First, she noted, “there are potentially material differences” between the “major party” provision and the “bare majority” provision: the latter is a fairly common requirement that applies to many public bodies, while the former is “far rarer” and “arguably impose[s] a greater burden on” First Amendment rights. Second, she continued, those differences suggest that the best course of action for federal courts considering similar questions in the future might be to ask the state’s highest court for a ruling on whether the “bare majority” provision can survive even if the “major party” provision is deemed unconstitutional.

I'm not an expert on Supreme Court procedure, but it seems odd that she would preview the merits in case tossed for lack of standing. Likewise, I am not a scholar of severability but I wonder whether the constitutionality of the statutes under federal law would turn on a state court's view of whether they are severable. 

Over on Twitter, Ann Lipton opines:

severability is a question of statutory interp - what did the legislature intend. in this case, delaware's.

— Ann Lipton (@AnnMLipton) December 10, 2020

Press accounts of the Supreme Court's oral argument in Carney v. Adams, re Delaware's political balance requirement

Long time readers may recall that I wrote a WLF backgrounder on Carney v. Adams, a case challenging Delaware's requirement of a politically balanced judiciary:

Delaware’s state constitution imposes two unique requirements on the state judiciary that differentiates its courts from those of all other states. Under the bare majority rule, no more than half of the total number of the members of the state Supreme and Superior courts and the Chancery Court can be from the same political party (50 percent plus one if there is an odd number of judges). Under the major party rule, those judges must be from a “major” political party.

James R. Adams is a Delaware lawyer who has been frustrated in his search for a Delaware judicial position because he is a political independent. Adams sued Delaware Governor Carney in federal court seeking to have the Delaware provisions declared unconstitutional. Delaware argued that Adams lacked standing and, in the alternative, that the judicial-selection provisions fell within the policymaker exception to the First Amendment’s ban on conditioning state government positions on membership in a specific political party. The district court ruled for Adams on both grounds.

On appeal, the Third Circuit held that Adams had sufficiently pled Article III standing. As to the merits, the Third Circuit addressed solely the major party rule. The court nevertheless struck down both it and the bare majority rule on grounds that the latter was not severable from the former.

I argued that the Supreme Court should reverse.

The Supreme Court heard oral argument in the case yesterday. 

Bloomberg reports that:

The U.S. Supreme Court seemed likely to reinstate Delaware rules requiring a politically balanced state judiciary, which the state argues are responsible for the “First” state’s outsized role in American corporate law.

... the majority of justices during oral argument Oct. 5 signaled they didn’t seem to think the rules unconstitutionally prohibited Independent and third parties from judicial service on Delaware state courts.

Amy Howe at SCOTUSblog reports that the Court may not reach the merits. Delaware counsel argued that Adams lacked standing, but several justices pushed back strongly on that issue. 

... the justices seemed even more concerned about the broader effect that a ruling for Adams might have on other governments around the country. Alito asked Finger whether it would be any different if a governor indicated that he would never appoint someone from the opposing political party as a judge; Finger responded that it would not. Although Finger stressed that a ruling for his client would “not necessarily” have any effect on other partisan-balance rules elsewhere, it is not clear whether the justices shared his view.

Delaware Business Times is something of an outlier, speculating that law is in trouble:

In the first case of their 2020-21 term, the U.S. Supreme Court justices wasted no time needling counsel representing the state of Delaware in a case that could change the decades-old rules under which the state’s top judges are appointed.

The case, Carney v. Adams, will be closely watched by corporate America, as it impacts courts where litigation is heard for more than a million incorporated businesses, impacting shareholders, executives and more. At question is whether a state can dictate that judges be selected from major political parties and whether it can legally divide judgeships amid parties.

Are shareholder inspection rights subject to the internal affairs doctrine?

I have long understood (and taught) that shareholder inspection rights are a rare exception to the internal affairs doctrine. In our casebook, for example, we include Crane Co. v. Anaconda Co., 346 N.E.2d 507 (N.Y. 1976), in which the court applied New York law to determine whether a shareholder (that was incorporated in Illinois) was eligible to examine the stockholder list of a company incorporated in Montana. Plaintiff relied on NY BCL sec. 1315, which permits NY courts to order inspection of books and records of companies incorporated in other states.

In Juul Labs, Inc. v. Grove, CV 2020-0005-JTL, 2020 WL 4691916 (Del. Ch. Aug. 13, 2020), however, the Delaware Chancery Court held that "[s]tockholder inspection rights are a core matter of internal corporate affairs."

This is a critical holding, because the internal affairs doctrine has important constitutional implications:

“[T]he internal affairs doctrine raises important Constitutional concerns—namely, under the Fourteenth Amendment Due Process Clause, the Full Faith and Credit Clause, and the Commerce Clause.” Salzberg v. Sciabacucchi, 227 A.3d 102, 136 (Del. 2020). The Due Process Clause of the Fourteenth Amendment is implicated by the need for directors and officers “to know what law will be applied to their actions” and by the stockholders' “right to know by what standards of accountability they may hold those managing the corporation's business and affairs.” McDermott Inc. v. Lewis, 531 A.2d 206, 216–17 (Del. 1987). The Full Faith and Credit Clause “commands application of the internal affairs doctrine except in the rarecircumstance where national policy is outweighed by a significant interest of the forum state in the corporation and its shareholders.” Id. at 218 (emphasis in original) (footnote omitted). Under the Commerce Clause, a non-chartering state “ ‘has no interest in regulating the internal affairs of foreign corporations.’ ” Id. at 217. ...

The statute at issue in Juul was a California law substantially similar to New York's section 1315. As the court explained:

California is not alone in granting rights to access the books and records of foreign corporations that do business in the state. If other states could define the terms by which stockholders can inspect books and records, then a Delaware corporation could be subjected to different provisions and standards in jurisdictions around the country. Under constitutional principles outlined by the Supreme Court of the United States and under Delaware Supreme Court precedent, stockholder inspection rights are a matter of internal affairs. Grove's rights as a stockholder are governed by Delaware law, not by California law.

If widely accepted, Juul’s application of the internal affairs doctrine to shareholder inspection rights thus calls into question the constitutional validity of statutes like those of New York and California that attempt to treat shareholder inspection rights as being an exception to the internal affairs doctrine.

Juul stands in opposition to prior law that treats access to stockholder lists as a well-established exception to the internal affairs doctrine as a matter of both corporate law and conflicts of law. The Restatement (Second) of Conflict of Laws, for example, provides:

The right of a shareholder to inspect the books of a corporation poses special problems. This is an issue which can practicably be determined differently in different states. This is also an issue which, if decided differently in different states, will not seriously undermine the policy favoring uniform treatment for all shareholders of a corporation. For these reasons, a court will apply to a foreign corporation doing substantial business in the state a local statute providing for the inspection of books by a shareholder if in the court’s opinion the statute embodies an important policy.

Restatement (Second) of Conflict of Laws § 304, comment d (1971). See also Annot., 19 A.L.R.3d 869, 889-91 (1968) (noting that states have traditionally exercised authority to require disclosure of stockholder lists of foreign corporations doing business within their borders).

Although the Juul court did not directly speak to the Restatement commentary, it did address the argument that having multiple states regulating shareholder inspection rights of the same corporation would not be problematic:

An important public policy served by the internal affairs doctrine is to ensure the uniform treatment of directors, officers, and stockholders across jurisdictions. “Uniform treatment of directors, officers and shareholders is an important objective which can only be attained by having the rights and liabilities of those persons with respect to the corporation governed by a single law.” Restatement (Second) of Conflict of Laws § 302, cmt. e. “A State has an interest in promoting stable relationships among parties involved in the corporations it charters, as well as in ensuring that investors in such corporations have an effective voice in corporate affairs.” CTS Corp., 481 U.S. at 91, 107 S.Ct. 1637. Having the law of the state of incorporation govern a corporation's internal affairs “prevent[s] corporations from being subjected to inconsistent legal standards” and “provide[s] certainty and predictability,” thus “protect[ing] the justified expectations of the parties with interests in the corporation.” VantagePoint, 871 A.2d at 1112–13.

...

California's balancing of the competing interests between stockholders and the corporation differs from Delaware's. And California is not alone in granting rights to access the books and records of foreign corporations that do business in the state. If other states could define the terms by which stockholders can inspect books and records, then a Delaware corporation could be subjected to different provisions and standards in jurisdictions around the country.

Update: Our friend Francis Pileggi has an excellent post discussing the case, including treatment of its analysis of the exclusive forum clause.

The prospect of an Amy Comey Barrett nomination to the Supreme Court has unhinged both right- and-left wing anti-Catholic bigots

I think we can reasonably debate such things as:

• Is the Supreme Court too powerful in US life?
• Is it hypocritical for the GOP to nominate someone now after blocking Merrick Garland?
• Is it hypocritical for the Democrats to invoke Garland as a precedent for doing nothing now?
• Does the nominee (if there is one) have the proper legal skills and judicial temperament?

But what I will not put up with is the sort of modern Know-Nothingism being spewed over on Twitter and in some corners of the media at the mere possibility that Amy Comey Barrett might be the nominee. It's proving once again that anti-Catholicism is the last acceptable prejudice.

This good and decent person is being branded a "Catholic fascist," a harbinger of The Handmaid's Tale becoming real, "the Catholic version of Dolores Umbridge," and even worse. Much worse.

It's not just the left. Ann Coulter moronically asks: ""Would her ... idiosyncratic view of the vast deference Catholics owe the pope on political issues...lead to the ongoing influx of immigrants who overwhelmingly vote for pro-choice candidates?"

More indirect precedent for the proposition that California's Female Board Member Quota law is unconstitutional

Keith Paul Bishop has the details.