ProfessorBainbridge.com

Another blemish on St Warren's halo

Tom Smith:

Which would Warren Buffet's secretary prefer -- being made the national poster girl for tax victimhood or being paid more than a measley $60K a year for being personal assistant to one of the richest guys in the world?

Tom offers his guess answer in the rest of the post.

Annoying Restaurant Practices

Zagat lists what they view as the 10 most annoying things restaurants do. Over at their site, they offer their own commentary. here, I add what I think of them:

"1. Dogs in Cafes/Outdoor Restaurants." Predictably, this one doesn't bother me at all. To the contrary, I like it.

"2. Tables Ridiculously Close Together." Why is it that restaurants with lousy acoustics are especially fond of this one?

"3. Overzealous Wine Pouring. If there’s one thing we definitely don’t need help with, it’s pouring our own alcohol." Damned straight. I bought it. It's my bottle. Servers should keep their hands off it.

"4. Designer Ice" Who cares?

"5. Enormous Wine Glasses" I'd rather have a glass that is too big than too small. One trend that seems to be over is for high priced Italian places to use tumblers instead of real wine glasses. My $100 bottle of super-Tuscan wine belongs in a Riedel glass, not a water tumbler.

"6. Ketchup Snobbery" Who cares?

"7. Sparkling, Flat or Filtered Tap?" Filtered tap is better for the environment and, for my money, tastes better.

"8. Unisex Restrooms." Lousy idea.

"9. Excessive Punctuation/Lower-Case Letters in Restaurant Names, Menu Items Wh.at is up wi.th all the pe.ri.ods?" it's annoying, but it's better than the 1980s fad for adding extra "e's", as in "Ye Olde Taverne."

"10. Wood-Infused Food" Unless it's smoked BBQ, wood is not an ingredient.

The Changing World of Shareholder Litigation

Kevin LaCroix has a great post on how the plaintiff's securities/corporate bar is changing in the post-Milberg Weiss era. A must read for corporate law jocks.

STOCK Act to come up for cloture vote?

I heard from Senate sources that the STOCK Act to ban Congressional insider trading will come up for a cloture vote next week. This is great news. As regular readers know, I'm a strong advocate of the bill in general and, in particular, of the version that was passed out of the Senate Committee on Homeland Security and Governmental Affairs. Coupled with the fact that President Obama asked Congress in his State of the Union address Tuesday to pass this legislation and send it to his desk for signature, a positive Senate vote might light a sufficient fire under Eric Cantor to get the bill moving in the House. We might actually finally win this thing.

Speaking of Cantor, I'm still trying to get a Twitter campaign going to send the message to Eric Cantor that it's time for Congress to ban insider trading by its members by passing the Senate version of the STOCK Act. If you want to help, tweet the hash tag #PassTheSenateSTOCKAct to both his accounts:  @EricCantor @GOPLeader

For prior PB.com coverage, go to the archive. 

For extended analysis, see my article Insider Trading Inside the Beltway, which argues that:

A 2004 study of the results of stock trading by United States Senators during the 1990s found that that Senators on average beat the market by 12% a year. In sharp contrast, U.S. households on average underperformed the market by 1.4% a year and even corporate insiders on average beat the market by only about 6% a year during that period. A reasonable inference is that some Senators had access to – and were using – material nonpublic information about the companies in whose stock they trade. 

Under current law, it is unlikely that Members of Congress can be held liable for insider trading. The proposed Stop Trading on Congressional Knowledge Act addresses that problem by instructing the Securities and Exchange Commission to adopt rules intended to prohibit such trading.

This article analyzes present law to determine whether Members of Congress, Congressional employees, and other federal government employees can be held liable for trading on the basis of material nonpublic information. It argues that there is no public policy rationale for permitting such trading and that doing so creates perverse legislative incentives and opens the door to corruption. The article explains that the Speech or Debate Clause of the U.S. Constitution is no barrier to legislative and regulatory restrictions on Congressional insider trading. Finally, the article critiques the current version of the STOCK Act, proposing several improvements.

Also, don't forget that you can buy a personally signed copy of my book on insider trading at  eBay. Other eBay sellers charging up to $20. I'm selling it at $4.99 plus S&H

Yours truly quoted on Carlyle's IPO

Miles Weiss has a very thorough and careful article on Carlyle's planned IPO, which includes provisions limiting fiduciary duties of the controlling persons, mandating arbitration of investor claims, and so on. He quoted a number of prominent lawyers and law makers opposed to what Carlyle's doing, but he also quoted yours truly at some length:

The U.S. Supreme Court held in the late 1980s that brokerages could require arbitration of customer disputes. The justices have never ruled on whether public companies can extend the concept to shareholders, said Stephen Bainbridge, a corporate and securities law professor at the UCLA School of Law in Los Angeles. That could change should Carlyle meet opposition from the SEC and respond by suing the agency, Bainbridge said.

The high court would be “almost certain” to strike down SEC policy if Carlyle were to push the issue, Bainbridge said. “Carlyle is admittedly taking an extremely aggressive position, but it’s a position I believe is fully consistent” with U.S. and Delaware law, he said.

Carlyle’s structure as a limited partnership, rather than a corporation, is critical to the legality of its arbitration provision, Bainbridge said. That’s because Delaware, the state in which most companies are incorporated, gives partnerships more leeway than corporations to restrict their fiduciary duties to shareholders.

Many closely held firms that manage hedge and buyout funds are also structured as limited partnerships, meaning they too could go public with mandatory-arbitration clauses if Carlyle succeeds, Bainbridge said. Technology and industrial firms that are set up as corporations might consider converting into limited partnerships, weighing the huge tax liabilities they would incur, the UCLA professor said.

“If Carlyle can get away with this, you are going to have a bunch of CEOs telling their tax accountants, ‘Price out what it would cost me’” to convert from a corporation to a partnership, Bainbridge said in a telephone interview.

Convert was a poorly chosen word, of course. You'd have to do it via a merger. Anyway, it's a great article. Go read the whole thing.

Tyler Cowen on my Corporate Governance After the Financial Crisis

Tyler Cowen at his Marginal Revolution blog:

I am learning a good deal from Stephen Bainbridge’s Corporate Governance After the Financial Crisis:

There seems little doubt that the monitoring model has influenced board behavior.  In 1995, only one in eight CEOs [of those stepping down] was fired or resigned under board pressure.  By 2006, however, almost a third of CEOs were terminated involuntarily.  Over the last several decades, the average CEO tenure has decreased, which also has been attributed to more active board oversight.

Thanks!

"Insider" Trading by the Representative Plaintiff in Shareholder Litigation

If a plaintiff's class action or derivative lawyer tells the representative shareholder material nonpublic information about the status of the litigation, on the basis of which the shareholder then trades in the issuer's stock, there's doubtless some sort of state law violation. As Peter Ladig reports, the Delaware Chancery Court's newly issued guidelines for practicing before it make clear that "litigants who engage in this type of behavior should expect to be subject to "intensive scrutiny" and face a host of possible penalties." (See also Francis Pileggi's summary of the case.)

Ladig further reports that a recent Delaware case imposed sanctions in just such a case:

... in Steinhardt v. Howard-Anderson, ... the court ordered the plaintiffs it had found to have traded while in possession of confidential, nonpublic information to (i) self-report to the Securities Exchange Commission; (ii) disclose their improper trading in any future application to serve as lead plaintiff; and (iii) disgorge any profits made from the trades. The court then dismissed the trading plaintiffs from the case with prejudice and barred them from receiving any recovery from the litigation.

Query, however, whether the trading representative shareholder violated the federal insider trading prohibition. The Supreme Court has consistently made clear that insider trading liability is premised on breach of a duty to disclose rising out of a fiduciary relationship. 

Outside the traditional categories of Rule 10b-5 defendants—insiders, constructive insiders, and their tippees—things become quite complicated. As the Second Circuit observed in United States v. Chestman:

[F]iduciary duties are circumscribed with some clarity in the context of shareholder relations but lack definition in other contexts. Tethered to the field of shareholder relations, fiduciary obligations arise within a narrow, principled sphere. The existence of fiduciary duties in other common law settings, however, is anything but clear. Our Rule 10b-5 precedents . . ., moreover, provide little guidance with respect to the question of fiduciary breach, because they involved egregious fiduciary breaches arising solely in the context of employer/employee associations.[1]

In Chestman, the question was whether the relationship between spouses was fiduciary in nature. In answering that question, the court laid out a general framework for dealing with nontraditional relationships. First, unilaterally entrusting someone with confidential information does not by itself create a fiduciary relationship.[2] This is true even if the disclosure is accompanied by an admonition such as “don’t tell.” Second, familial relationships are not fiduciary in nature without some additional element.

Turning to factors that could justify finding a fiduciary relationship on these facts, the court first identified a list of “inherently fiduciary” associations. "Counted among these hornbook fiduciary relations are those existing between attorney and client, executor and heir, guardian and ward, principal and agent, trustee and trust beneficiary, and senior corporate official and shareholder."

Once one moves beyond this class of “hornbook” fiduciary relationships, the requisite relationship exists solely where one party acts on the other’s behalf and “great trust and confidence” exists between the parties:

A fiduciary relationship involves discretionary authority and dependency: One person depends on another—the fiduciary—to serve his interests. In relying on a fiduciary to act for his benefit, the beneficiary of the relation may entrust the fiduciary with custody over property of one sort or another. Because the fiduciary obtains access to this property to serve the ends of the fiduciary relationship, he becomes duty-bound not to appropriate the property for his own use.

Because the spousal relationship at issue in Chestman did not involve either discretionary authority or dependency of this sort, it was not fiduciary in character.

According to Ladig, the Delaware Chancery Court characterized the relationship between the representative shareholder and the class s/he represents as a fiduciary one:

"Trading by plaintiff-fiduciaries on the basis of information obtained through discovery undermines the integrity of the representative litigation process. Consequently, it is unacceptable for a plaintiff-fiduciary to trade on the basis of nonpublic information obtained through litigation."

In theory, I suppose the representative plaintiff has discretionary authority over the litigation. Also, in theory, I suppose that the other shareholders depend the representative shareholder to serve their interests. In theory, it's therefore hard to quibble with Vice Chancellor Lasker's statement that:

When a stockholder of a Delaware corporation files suit as a representative plaintiff for a class of similarly situated stockholders, the plaintiff voluntarily assumes the role of fiduciary for the class. See Emerald P'rs v. Berlin, 564 A.2d 670, 673 (Del. Ch.1989); Youngman v. Tahmoush, 457 A.2d 376, 379 (Del. Ch.1983). As a fiduciary, the representative plaintiff “owes to those whose cause he advocates a duty of the finest loyalty.” Barbieri v. Swing–N–Slide Corp., 1996 WL 255907, at *5 (Del. Ch. May 7, 1996) (internal quotation marks omitted). [2012 WL 29340 at *8]

In practice, however, the real party in interest in shareholder litigation is the class counsel. It is the class counsell who really runs the show and upon whomn the class members really depend. In practice, the representative shareholder is simply the name on the lawsuit's title. See Bell Atlantic Corp. v. Bolger
2 F.3d 1304, 1309 n.8 (3d Cir 1993):

See Ralph K. Winter, Paying Lawyers, Empowering Prosecutors, and Protecting Managers: Raising the Cost of Capital in America, 42 Duke L.J. 945, 948 (1993) (in derivative actions, “plaintiffs are generally figureheads”); Jonathan R. Macey & Geoffrey P. Miller, The Plaintiffs' Attorney's Role in Class Action and Derivative Litigation: Economic Analysis and Recommendations for Reform, 58 U.Chi.L.Rev. 1, 3 (1991) (plaintiffs' class and derivative action attorneys “subject to only minimal monitoring by their ostensible ‘clients' who are either dispersed and disorganized (in the case of class litigation) or under the control of hostile forces (in the case of derivative litigation).”); Geoffrey P. Miller, Some Agency Problems in Settlement, 16 J.Legal Stud. 189, 190 (1987) (“the interests of plaintiff and attorney are never perfectly aligned”); John C. Coffee Jr., Understanding The Plaintiff's Attorney: The Implications of Economic Theory for Private Enforcement of Law Through Class and Derivative Actions, 86 Col.L.Rev. 669, 677-78 (1986) (in derivative and class actions client “generally has only a nominal stake in the outcome of litigation” and cannot closely monitor and control plaintiff's attorney's conduct); Daniel R. Fischel & Michael Bradley, The Role of Liability Rules and the Derivative Suit in Corporate Law: A Theoretical and Empirical Analysis, 71 Corn.L.Rev. 261, 271 & n. 26 (1986) (“real party in interest is the attorney”); Deborah L. Rhode, Class Conflicts in Class Actions, 34 Stan.L.Rev. 1183, 1203 (1982) (“as a practical matter, once a class is certified, named plaintiffs generally are neither highly motivated nor well situated to monitor the congruence between counsel's conduct and class preferences”) ....

Which suggests that the representative shareholder's discretionary authority may not rise to the level Chestman requires or that the other shareholders' dependency on the representative plaintiff rises to that level either.

I'm not saying that representative plainitffs ought to be allowed to trade on the basis of nonpublic information about the lawsuit. I'm just saying we don't need to make a federal case out of it. Before we do so there ought to be a meaningful showing under the Chestman standard, rather than just a label casually slapped on the relationship without a realistic examination of the relationship as it exists in the real world.

---

[1] 947 F.2d 551, 567 (2d Cir. 1991) (citations omitted), cert. denied 503 U.S. 1004 (1992).

[2] Repeated disclosures of business secrets, however, could substitute for a factual finding of dependence and influence and, accordingly, sustain a finding that a fiduciary relationship existed in the case at bar. Chestman, 947 F.2d at 569. 

Empirical studies of private equity

Steven Davidoff gives a fast review of the key studies.

Obama supports STOCK Act

Politico:

“Send me a bill that bans insider trading by members of Congress and I will sign it tomorrow,” President Barack Obama said Tuesday night, to applause.

OTOH, so what? Did anybody think he'd veto it? OTOH, give him credit for being on the right side of the issue while GOP Congressional old bulls like Eric Cantor likely still hope to kill it.

"Hauerwasian Christian Legal Theory" by Skeel

A typically insightful essay by David Skeel:

This Essay, which was written for a Law and Contemporary Problems symposium on Stanley Hauerwas, tries to develop an account of public engagement in Hauerwas’ theology. The Essay distinguishes between two kinds of public engagement, “prophetic” and “participatory.” Christian engagement is prophetic when it criticizes or condemns the state, often by urging the state to honor or alter its true principles. In participatory engagement, by contrast, the church intervenes more directly in the political process, as when it works with lawmakers or mobilizes grass roots action. Prophetic engagement is often one-off; participatory engagement is more sustained. Because they worry intensely about the integrity of the church, Hauerwasians are more comfortable with prophetic engagement than the participatory alternative, a tendency the Essay calls the “prophetic temptation.” Hauerwasians also struggle to explain what can or should participatory engagement look like.

After first comparing Hauerwas’s understanding of Jesus’s Sermon on the Mount with that of his two twentieth century predecessors, Walter Rauschenbusch and Reinhold Neibuhr, the Essay turns to Hauerwasian public engagement and the prophetic temptation. The Essay then considers the implications of Hauerwas’s theology for three very different social issues, the Civil Rights Movement, abortion, and debt and bankruptcy.

Time to delete section 3 of article II of the constitution

Article II. Section 3 of the US Constitution requires that the President "shall from time to time give to the Congress Information of the State of the Union, and recommend to their Consideration such Measures as he shall judge necessary and expedient ...." Let's repeal it.

The State of the Union address has become an exercise in political theater. The President gets to give a political speech using the Supreme Court, Joint Chiefs, and his political opponents in Congress as stage props. The big question of the evening usually is whether the latter can keep their temper when the President takes them task, as this one is especially wont to do.

The political theater aspect is emphasized by the thought administrations put into issues like who gets to sit next to the First Lady in the Gallery. This year it is (drum roll here) Warren Buffett's secretary.

His secretary? Yes, really. 

Bold prediction: Obama will use her as a prop for taxing the 1% more heavily. After all, as Politico reminds us:

"Warren Buffett's secretary shouldn't pay a higher tax rate than Warren Buffett," President Obama said in September, when he unveiled his American Jobs Act proposal. It's a trope that Buffett himself has repeated, as he has campaigned for higher taxes on investment income.

In an election year, the SOTU is especially galling for those of who do not support the incumbent POTUS, because it amounts to millions of dollars worth of free advertising for the POTUS' reelection campaign.

It's theater. But not very good theater. Time for it to die.

Crony capitalism + ecomentalism = Win-win for POTUS

I understand that Obama's decision to "delay" the Keystone XL pipeline project was mainly made to keep the ecomentalists in his base happy, but it's interesting that:

Warren Buffett’s Burlington Northern Santa Fe LLC is among U.S. and Canadian railroads that stand to benefit from the Obama administration’s decision to reject TransCanada Corp. (TRP)’s Keystone XL oil pipeline permit. ...

“Whatever people bring to us, we’re ready to haul,” Krista York-Wooley, a spokeswoman for Burlington Northern, a unit of Buffett’s Omaha, Nebraska-based Berkshire Hathaway Inc. (BRK/A), said in an interview. If Keystone XL “doesn’t happen, we’re here to haul.”

It may not rise to the level of Solyndra in the annals of crony capitalism, but it's still a nicely thrown stone that killed two birds at once for the POTUS: ecomentalists happy and Warren Buffett's got more money to spend telling everyone how evil Republicans are.