From friend-of-the-BLPB Megan Shaner:

  • The Transactional Law & Skills Section main program, “Transactional Lawyering at the Intersection of Business and Societal Well-Being,” will be held Friday, January 7th at 11am-12:15 EST.

    Description:

    * Presenters from Call for Papers:

    Michael Blasie, Penn State Dickinson Law, “The Rise of Plain Language Laws”
    George Georgiev, Emory University School of Law, “The Law and Economics of Materiality”

    * Moderator: Eric Chaffee, University of Toledo College of Law

    * Invited Speakers
    Praveen Kosuri, University of Pennsylvania Carey Law School

    Amelia Miazad, UC Berkeley School of Law

    Jennie Morawetz, Kirkland & Ellis (strategy and operations partner for Kirkland’s ESG and Impact practice)

    Faith Stevelman, New York Law School

    *Moderator: Megan Shaner, University of Oklahoma College of Law

  • At the end of the program we will hold a brief business meeting to elect the membership of next year’s executive committee. If you would like to nominate yourself or another member, please email me at mshaner@ou.edu by December 13, 2020.

 

Jill E. Fisch, Mutual Fund Stewardship and the Empty Voting Problem ( https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3939112 ):

The exercise of institutional voting power is by fund managers or governance teams, people who have “little or no economic interest in the shares that they vote,” This “empty voting” has the potential to undermine the legitimacy of the shareholder franchise. It is of particular concern when the assets committed to a broad-based index fund are voted to support initiatives that have the potential to sacrifice economic value in favor of social or societal objectives about which the shareholders invested in that index fund may not agree.

Matteo Gatti & Chrystin D. Ondersma, Stakeholder Syndrome: Does Stakeholderism Derail Effective Protections for Weaker Constituencies? ( https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3793732 ):

Because available evidence suggests that corporations will seek to undermine any proposal that meaningfully shifts power and resources to workers, it is unlikely stakeholderism could provide equivalent protections that can actually improve workers’ position; assuming it could, its implementation would be no more feasible than direct regulation. Neither do we believe that stakeholderism can provide a fertile landscape for direct regulation, because corporations are likely to use stakeholderism as a pretext to wield greater political power and to shape the debate in their own favor, thus interfering with direct regulation. Ultimately, given the risks of allowing managers and directors wield stakeholderism in their own interests, political capital should be spent on achieving direct regulation rather than on a stakeholderist corporate governance reform.

Lauren Yu-Hsin Lin & Curtis J. Milhaupt, China’s Corporate Social Credit System and the Dawn of Surveillance State Capitalism ( https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3933134 ):

Chinese state capitalism is transitioning toward a panoptic, technology-assisted variant that we call “surveillance state capitalism.” The mechanism driving the emergence of this variant is China’s corporate social credit system (CSCS) …. The CSCS is linked to a system of corporate rewards and punishments, representing a futuristic strategy of automated screening to determine which enterprises are allowed market access and benefits…. A key finding is that while the CSCS is a facially neutral means of measuring legal compliance, politically connected firms (regardless of their status as state-owned or private enterprises, or the extent of state equity ownership) receive higher overall scores …. The channel for this result is a “social responsibility” category that valorizes awards from the government and contributions to Chinese Communist Party (CCP)-sanctioned causes.

Fair to say, corporate governance was very much a theme:

The full convention schedule can be found here: https://fedsoc.org/conferences/2021-national-lawyers-convention .

Hi, all.  If you subscribe to emails from this blog, you may have noticed they’ve been erratic lately.  Soon, if not immediately, we expect emails to halt altogether, because Google will no longer be supporting the email service.  We appreciate you as devoted blog readers but sadly you will likely need to find another way to follow our posts.  I personally follow blogs through the Feedly service.

Sorry for the inconvenience; it is unfortunately out of our hands, but we hope you will stick with us.

 

This in from friend-of-the-BLPB Jessica Erickson:

+++++

Dear AALS Business Association Section Members,

I hope the end of your semester is going well! I’m writing with programming details for the January 2022 AALS Annual Meeting and to invite you to nominate yourself or others for Executive Committee positions next year.

January 2022 Annual Meeting

1. Registration is still open, and you can register here https://aals.secure-platform.com/a/organizations/main/submissions/details/7094 . As you may know, most law schools have paid school-wide registration fees again this year, which makes registration simpler, but you still have to register to attend any of the sessions.

2. The Business Associations Section main program, “Race and Teaching Business Associations,” will be held Friday, January 7th at 12:35 to 1:50 EST. Many thanks to James Park, the section’s chair-elect, for organizing this panel!

Description: Business Associations classes taught in most law schools spend little if any time on issues relating to racial discrimination and inequity. But as important social institutions, businesses have long had a significant impact on racial equity. The increasing scrutiny of the lack of diversity on public company boards is one of several fronts where businesses are facing both legal and social pressure to address racial inequity. Students are increasingly interested in understanding how the law governing business organizations reflects or contributes to racial injustice. Many law professors want to do more to cover topics relating to race in their Business Associations course and are seeking guidance on how to do so. This panel will provide a forum where teachers of Business Associations can share ideas for incorporating the subject of racial discrimination and inequity into their classes.

* Invited Speakers
Thomas Joo, UC Davis School of Law
Steven Ramirez, Loyola University Chicago School of Law
Cheryl Wade, St. John’s University School of Law

* Presenter from Call for Papers: Harwell Wells, Temple University School of Law, presenting Shareholder Meetings and Freedom Rides: The Story of Peck v. Greyhound

* Moderator: James Park, UCLA School of Law

3. The section’s Works-in-Progress Program will be held Thursday, January 6th at 4:45 – 6:00 pm EST. Many thanks to Eric Chaffee for organizing a terrific panel of the following presenters and commentators!

* Paper #1: William J. Moon (University of Maryland Carey School of Law), Anonymous Companies

* Commentators: Frank Gevurtz, Joan Heminway, Eric Chaffee

* Paper #2: Trang (Mae) Nguyen (Temple University Beasley School of Law), Norm Assembly in Global Value Chains

* Commentators: Michael Malloy, Kish Parella, Veronica Root

* Paper #3: Alexander I. Platt (University of Kansas School of Law), Beyond “Market Transparency”: Investor Disclosure and Corporate Governance

* Commentators: Afra Afsharipour, Michael Guttentag, and Donna Nagy

* Moderator: Eric Chaffee

Nominations for Next Year’s Executive Committee

Finally, following past practice, we will hold an electronic business meeting later this month to determine the membership of next year’s executive committee. If you would like to nominate yourself or another member, please email me at jerickso@richmond.edu by December 13, 2020.

We hope to see you (virtually) at the Annual Meeting!

Best,

Jessica Erickson

On behalf of the Executive Committee:

Jessica Erickson, University of Richmond School of Law (Chair)
James J. Park, University of California, Los Angeles School of Law (Chair-Elect)
Dana Brakman Reiser, Brooklyn Law School
Eric Chaffee, University of Toledo College of Law
Carliss Chatman, Washington & Lee School of Law
Gina-Gail S. Fletcher, Duke University School of Law
Mira Ganor, University of Texas School of Law
Cathy Hwang, University of Virginia School of Law
Matt Jennejohn, BYU Law School
Michael Malloy, University of the Pacific McGeorge School of Law
James Nelson, University of Houston Law Center
Andrew Verstein, University of California, Los Angeles School of Law
Cheryl Wade, St. John’s University School of Law
Manning G. Warren, III, University of Louisville, Louis D. Brandeis School of Law

From our friend Art Wilmarth at GWU Law:

George Washington University Law School is seeking to hire a new Assistant Dean (and program director) for our Business and Finance Law Program.

Following is the link for the job posting:

https://www.gwu.jobs/postings/88506

If you know of well-qualified candidates who might be interested in this
position, please share this information and encourage them to apply.
Applications should be submitted ASAP, and preferably by December 15, 2021.

Many thanks, and best regards ……………… Art Wilmarth

Arthur E. Wilmarth, Jr.
Professor Emeritus of Law
George Washington University Law School
2000 H Street, N.W.
Washington, DC 20052

This case came out of the Second Circuit a couple of months ago, and it’s still bugging me, so it’s the subject of today’s blog post.  I speak of Loreley Financing (Jersey) No. 3 Limited v. Wells Fargo Securities, LLC, 13 F.4th 247 (2d Cir. 2021). 

The case itself is one of the last arising out of the financial crisis, featuring familiar names like Magnetar and Wing Chau.  And the allegations were standard for cases of this type:  Loreley, a German investment vehicle, invested in CDOs, and alleged that the structuring bank – Wachovia at the time, Wells Fargo as its successor – did not tell it the truth about how the assets were selected.  Loreley claimed it was defrauded under New York common law (not Section 10(b), because if you’re not relying on the fraud-on-the-market theory and you’re not trying to bring claims as a class, state fraud law will almost always be more favorable).  The district court granted summary judgment to Wells Fargo, and Loreley appealed. 

Before the Second Circuit, there were two issues.  The first concerned whether there were any misrepresentations at all; the court agreed that there were arguably at least some misrepresentations alleged with respect to one of the CDOs.  The second concerned the element of reliance, because Loreley itself did not actually communicate with Wachovia and did not receive any false information.  Instead, its investment advisor did. 

Loreley was actually formed by the investment advisor, IKB.  And IKB was in charge of vetting assets for the fund.  IKB presented its recommendations, and Loreley made the actual purchase without doing any independent research.  Thus, it was IKB – not Loreley – that received the false information, and Wells Fargo argued that for that reason, Loreley itself did not “rely” on any misrepresentations under New York law.

Shockingly, to me, the Second Circuit held in favor of Wells Fargo.  The court, summarizing its understanding of New York law, held that  “Loreley—which did not communicate directly with the defendants—bases its fraud claims on IKB’s reliance. Yet New York law does not support such a theory of third-party reliance….The reliance element of fraud cannot be based on indirect communications through a third party unless the third party acted as a mere conduit in passing on the misrepresentations to a plaintiff.”

That is … nutty.  No fund ever reviews information directly; they always rely on investment advisors who act on their behalf.  That’s the whole point; funds themselves are shells, with the real work being done by an investment advisor.

But instead of recognizing that fact, the Second Circuit made a big deal out of the orthogonal point that IKB conducted significant independent analysis before passing its recommendation on to Loreley.  That’s not entirely irrelevant, for sure. If IKB’s recommendation was based on its own analysis and not the fraud, then IKB didn’t rely, and IKB’s nonreliance is imputed to the funds.

But that’s not what the Second Circuit held.  The Second Circuit’s point was that Loreley itself never received the false information because it only received IKB’s analysis, and from that concluded that even if IKB’s analysis on Loreley’s behalf was in fact influenced by the fraud, Loreley did not rely on that fraud itself.  If that is the rule, no fund would ever be able to bring a fraud claim.

For example, off the top of my head, consider the Volkswagen case, which I blogged about here.  Since that post, the Ninth Circuit on appeal rejected the district court’s conclusion the case involved omissions, and therefore held that Affiliated Ute’s presumption of reliance would not apply, but as relevant here, in that case, it was investment advisor, not the institutional investor itself, who reviewed the materials. 

After all, that’s part of the reason why qualified institutional buyers and accredited investors are permitted to invest in unregistered offerings; we assume wealthy investors are capable of hiring professional advisors who will vet things for them. 

The Second Circuit claimed that its decision was dictated by Pasternack v. Lab. Corp. of Am. Holdings, 27 N.Y.3d 817 (2015).  In that case, the plaintiff had to get a drug test to maintain flight certification and he alleged the lab misrepresented the results to the FAA.  When he couldn’t get his certification, he sued the lab for fraud.  In that context, the New York Court of Appeals held there was no reliance. 

The Second Circuit also cited Securities Investor Protection Corp. v. BDO Seidman, 95 N.Y.2d 702 (2001), which presented a similar kind of scenario.  BDO Seidman audited a broker-dealer and communicated its financial condition to the NASD.  The NASD was charged with, among other things, notifying SIPC of any problems with a regulated broker-dealer.  As it turns out, BDO Seidman gave the firm a clean audit even though the firm was engaged in shenanigans, and the firm ultimately went bankrupt.  SIPC was then forced to cover the claims of the broker-dealer’s customers, and it sued BDO Seidman for fraud and negligent misrepresentation.  The court held that because the audits were not performed for SIPC, and were never communicated to SIPC, SIPC had not relied on the audits.

Both Pasternak and SIPC present common problems in fraud claims: the plaintiff didn’t rely on the false information, but someone else did, and that third party reliance ended up harming the plaintiff.  It comes up a lot for short-sellers, for example: The defendant lies publicly about its financial condition, and the short-seller knows it’s lying, but because the market is fooled, the short-seller is still forced to cover its position at inflated prices.  Can the short-seller satisfy the element of reliance in a Section 10(b) claim?  That’s something of an unsettled question, see discussion in Christine Hurt & Paul Stancil, Short Sellers, Short Squeezes, and Securities Fraud. 

In fact, in a way, all of fraud-on-the-market is a kind of third party reliance.  The plaintiff did not necessarily hear the lie, but the market did, and that affected the plaintiff. 

But in these scenarios, the “market” is not acting on the investor’s behalf.  Just like NASD was not acting on SIPC’s behalf, and the FAA was certainly not acting on Pasternak’s behalf.  It is therefore a very different kind of problem than the one presented in Loreley Financing, where Loreley employed a financial advisor, the advisor relied on a misrepresentation, and then made a recommendations based on that misrepresentation.  The financial advisor should not even count as a third party in this context – the financial advisor is acting on Loreley’s behalf and therefore is an extension of Loreley itself.  It’s the “on Loreley’s behalf” that’s the key here and it’s a distinction that the Second Circuit completely elided.

Now, to be sure, IKB did not have discretion to actually make the investment decision for Loreley; Loreley ultimately made the investment decision.  (There does not appear to be any information about how often Loreley rejected IKB’s recommendations).  And in the briefing, there was some skirmishing among the parties about whether IKB was technically acting as Loreley’s agent – Loreley said it was, Wells Fargo said it was not – but what’s notable about the Second Circuit’s opinion was that it did not care.  The court’s holding was not based on some kind of hypothesized distance between IKB’s recommendation and Loreley’s investment; the court accepted that IKB was hired by the funds to vet investments (and in fact was Loreley’s sponsor), and that still was not enough for the Second Circuit to impute IKB’s reliance to Loreley.

Nutty.

View the debate here: https://youtu.be/uhg7P1DHxVk .

From the video description: The MIT Sloan Adam Smith Society chapter hosted a virtual debate between Roivant founder and chairman Vivek Ramaswamy and Chicago Booth Professor Luigi Zingales on the topic: “Is ‘Woke Capitalism’ a Threat to Democracy?”

I have not yet watched the video, but I have heard both speakers before and expect the debate to be of interest to our readers.  Here’s a bit more from the description:

In 1970, Milton Friedman urged business leaders to prioritize shareholder value when making business decisions. Businesses have turned away from this model of late, and are instead actively pursuing social and political goals. Is it good for society when businesses promote political causes and take social stances? Is it good for business? What are the costs when corporate managers focus exclusively on maximizing profit?

In my Corporate Finance class this morning, as a capstone experience, I asked my students to read and be prepared to comment on an article I wrote a bit over a decade ago.  The article, Federal Interventions in Private Enterprise in the United States: Their Genesis in and Effects on Corporate Finance Instruments and Transactions, 40 Seton Hall L. Rev 1487 (2010), offers information and observations about the U.S. government’s engagements as an investor, bankruptcy transformer, and M&A gadfly/matchmaker in responding to the global financial crisis.  A discussion of the article typically leads to a nice review of several things we have covered over the course of the semester.  I have a number of topics I want to ensure we engage with, but I allow some free rein.

Today, one of our interesting bits of discussion centered around the possibility that the U.S. government became a controlling shareholder for a time due to the nature of its high percentage ownership interest in, for example, AIG.  This was not directly addressed in my article.  Nevertheless, we set into a discussion of the substance, citing to Sinclair Oil Corp. v. Levien, one of Josh Fershee’s favorite cases.  We also reflected on possible associated lawyering and professional responsibility issues.

I wondered after the in-class discussion whether anyone of us who had written articles on the government as an investor in private enterprise in the wake of the financial crisis had, in fact, commented on this aspect of the government’s majority or other controlling preferred stock investments.  A little digging revealed the following passage from a student article:

Delaware corporate law protects minority shareholders from controlling shareholders who use the corporation to advance their own interests at the expense of other shareholders. It does so both by imposing fiduciary duties on the directors and officers of a corporation, including duties of care, loyalty, and good faith, and extending those duties to any shareholder who exercises control over a corporation.

Matthew R. Shahabian, The Government as Shareholder and Political Risk: Procedural Protections in the Bailout, 86 N.Y. L. Rev. 351, 369 (2011) (citing to Sinclair) (footnote omitted).  The article engages both Sinclair‘s substantive fiduciary duty rule and the applicable judicial review standard, citing to the case a total of six times.  J.W. Verret also cites to Sinclair for the same principles in his article Treasury Inc.: How the Bailout Reshapes
Corporate Theory and Practice, 27 Yale J. Reg. 283, 335 (2010), and Steven Davidoff Solomon and David Zaring give Sinclair three nods in their article, After the Deal: Fannie, Freddie, and the Financial Crises Aftermath, 95 B.U.L. Rev. 371 (2015).  Good to know.

I admit that I was pleased that, after 13-14 weeks of hard work on the part of me and my students, we could have a conversation about this type of practical, applied legal issue.  I was still guiding the way a bit, but the students really carried the discussion.  And they had useful ideas and observations–ones I know they could not have shared at the beginning of the semester.  I applaud them; I am proud of them!

#whyweteach

Eric Chaffee has published Index Funds and ESG Hypocrisy in 71 Case W. Res. L. Rev. 1295.  Here is an excerpt from Part I of that essay:

[S]tatements from BlackRock, State Street, and Vanguard can be boiled down into a contradictory phrase that sounds like it belongs in George Orwell’s novel, 1984: “Diversity is conformity.” To unpack this idea a bit more, BlackRock, State Street, and Vanguard are selling index fund shares with the promise of diversification of the portfolios that underlie those funds to stabilize returns while mitigating risk, yet at the same time, they are fueling conformity through their voting power related to those funds.

This Essay takes the position that the importation of ESG voting into index funds by the dominate players in the index fund industry is unacceptable because it creates an unresolvable conflict of interests, is misleading to those purchasing shares in mutual funds, and is undemocratic. This Essay argues that these issues could be resolved by the SEC promulgating rules creating a fund name taxonomy to make it clear to investors the nature of the funds in which they are investing.

This Essay contributes to the existing literature in three main ways. First, this Essay contains an extensive analysis of the problems of pursuing ESG objectives through index funds, which include that it creates an unresolvable conflict of interest, is misleading, and is undemocratic. Second, this Essay proposes a fund name taxonomy for investment funds to resolve the problems with pursuing ESG objectives through index funds, which includes the requirement that the title “index fund” be reserved only for passively managed funds that are designed to track the components of financial markets. Such an approach would fit the underlying purposes of federal securities regulation to mandate disclosure and allow investors to make informed decisions regarding their investments. Third, the analysis and proposal in this Essay is especially important because at the time of this Essay, the United States Securities and Exchange Commission (SEC) is considering whether additional rulemaking is needed relating to section 35(d) of the Investment Company Act of 1940, which mandates honesty in the naming of investment funds.