I would have thought that eliminating my commute during the pandemic would have meant more time to read, but those of us with young children seem to have significantly less free time during all of this. Nevertheless, my neighborhood book club prompted some reading, and I squeezed in a few others. Always open to suggestions. 

Atomic Habits – James Clear (2018) (Self-Help). Didn’t think there was much novel here, but I did like his suggestion to start small with habits (create some 2-minute habits and build from there). This podcast with Donald Miller on writing and exercise habits prompted me to read the book. 

The Ruthless Elimination of Hurry – John Mark Comer (2019) (Religion). “The modern world is a virtual conspiracy against the interior life.”

A Lesson Before Dying – Ernest Gaines (1993) (Novel/Historical Fiction). Story of family, humanity, race, teaching, and belief. 

Talking to Strangers – Malcom Gladwell (2019) (Pop Psychology).  Book club (and he spoke at Belmont on this book). Basically, Blink Part II. Challenges our judgment of others, especially those we do not know well.  Liked this note of humility and willingness to be corrected at the end of the book. “Instances where I am plainly in error, please contact me at lbpublicity.generic@hbgusa.com and I will be happy to correct the record.” 

Endure – Alex Hutchinson (2018) (Fitness). More story and less sports psychology than I was hoping for, but confirmed the power of belief and explored the limits of human endurance in sport.   

Brave New World – Aldous Huxley (1932) (Novel). Book club. Dystopian novel, relevant for these times, and I blogged a bit about it here. Helped me view inconvenience and struggle as opportunity. 

An American Marriage – Tayari Jones (2018) (Novel). Book club. A novel about marriage, family, friendship, betrayal, race, class, and injustice. Written mostly in the forms of letters to and from a husband/son who is supposedly wrongfully imprisoned. 

Race Matters – Cornel West (1993) (Social Science). A few quotes that leapt out — “Today, eighty-six percent of white suburban Americans live in neighborhoods that are less than 1 percent black.” (4). “American mass culture presented models of the good life principally in terms of conspicuous consumption and hedonistic indulgence.” (36) “Humility is the fruit of inner security and wise maturity. To be humble is to be so sure of one’s self and one’s mission that one can forgo calling excessive attention to one’s self and status.” (38)

This has been quite a first year as a dean. Heck, it’s been quite a year for all of us.  

I woke up (very) early this morning, and it struck me that I hadn’t been in contact with our students since Friday, which was our last day of classes. I don’t want to be a distraction to their studies, but I also realized the midway through the first week, they might need a reminder of what they have accomplished in the face of unique and unprecedented challenges. Following is the note I sent our students, which I share for all of us who might need a reminder of what we’re accomplishing. It is addressed to our Creighton Law students, but it’s for all law students. Hang in there.  

Dear Students,

It’s the middle of the first week of what has to be the strangest finals we have ever experienced. This is always a time of hard work, long days, and high stress, but never before have we had to be so separate while going through it. We can’t experience study group or lunch breaks with friends, or play basketball or soccer in a group to blow off steam. In addition, there are health concerns for ourselves and loved ones, and many of us have kids at home, in wide ranges of ages who may need help with homework or just to be watched because the daycares are closed. 

Despite all of this, you have shown up.  You have worked, and you have learned.  You are a remarkable group of people, and I am so proud of all you have accomplished. I know there is more to do, and I know this has not been easy. And there will continue to be bumps in the road, so I need you to know you can do this.  Not just exams. Not just law school. All of it. You can do life, and you can be exceptional at what you do.

This is true even if you’re struggling right now. It’s not what happens in the next couple of days that will define you. It will be how you respond on the other side of this that matters, and from what I have seen, you are up to the task. And know you will have your Creighton Law community by your side, or at you back, when you need it.

I know you have a lot left to do, so I won’t take up more of your time. Please just know that even though we’re not in the law school, we’re still here for you.  Keep at it, and know you’re not alone.

In his Wednesday post (here), co-blogger Stefan J. Padfield highlighted a recent development in the arbitration area that I also want to bring to readers’ attention.  I’m sure that all BLPB readers are a party to an arbitration agreement as these provisions have become so widespread in consumer adhesion contracts.  The New York Times recently ran a fascinating article by Michael Corkery and Jessica Silver-Greenberg, ‘Scared to Death’ by Arbitration: Companies Drowning in their Own System.  It details an innovative development in which entrepreneurial lawyers “are leaders in testing a new weapon in arbitration: sheer volume,” which is something the current arbitration system can’t handle. 

Arbitration provisions in consumer adhesion contracts generally bar class-action lawsuits and might also bar class-wide arbitration.  And it often makes little economic sense for an individual to take a large corporation to arbitration.  Not surprisingly, many don’t.  Corkery and Silver-Greenberg note that “Over the past few years, the nation’s largest telecom companies, like Comcast and AT&T, have had a combined 330 million customers.  Yet annually an average of just 30 people took the companies to arbitration…”  Now entrepreneurial lawyers such as Teel Lidow, who runs FairShake, and Travis Lenkner at Chicago law firm Keller Lenkner have entered the picture and are shaking up the consumer arbitration area with mass arbitration filings.  It’s going to be a really interesting development to watch.  It’s also a great reminder to all of the power of entrepreneurial thinking: “ ‘The conventional wisdom might say that arbitration is a bad development for plaintiffs and an automatic win for the companies,’ he said. ‘We don’t see it that way.’ ” (Lenkner, as quoted by Corkery and Silver-Greenberg)              

All right, it’s probably a little premature to call it an “age of direct listings”; we’ve had Spotify and Slack and I guess some company called Watford Holdings and Airbnb was reportedly considering one, and in the Before Times a lot of VCs were making noises about preferring direct listings to traditional IPOs, but in the immediate future I don’t expect to see a lot of new firms going public either way (notwithstanding the occasional ambitious SPAC), so these issues may turn out to be nothing more than a curiosity. 

BUT!  In the meantime!  We have Pirani v. Slack Technologies, 2020 WL 1929241 (N.D. Cal. Apr. 21, 2020), in which a district court refused to dismiss Section 11 claims brought by investors who purchased Slack shares after the company listed directly on the NYSE. And, it turns out, direct listings raise a lot of unsettled questions under Section 11.

 Slack, like a lot of companies these days, never formally sold its stock to the public; instead, it distributed stock in exempt transactions, subject to various securities law rules that permit these kinds of distributions but generally require the investors to hold their stock for some period of time before reselling it.  Eventually, Slack had distributed a lot of stock this way, and its investors were clamoring for liquidity, i.e., an easy way to sell their shares.  So Slack decided to list its shares for trading on the New York Stock Exchange.

That was fine for shares that had been distributed so long ago that investors were now legally permitted to resell them, but a lot of shares were distributed more recently, and investors holding those shares were were not permitted to trade them yet.  In order to allow these latecomers to sell immediately, Slack registered those shares – and only those shares – formally with the SEC. Normally, companies file registration statements when they sell new stock to the public, and the registration permits immediate trading.  But registration statements can be used – as Slack’s was – to register previously-issued shares, so as to enable holders of those shares to trade right away.  As a result, when Slack’s stock formally began trading on the NYSE, there were actually two groups of shares for sale: The shares that had been distributed so long ago that the legal holding period had expired, and the recently-issued shares that had just been registered.  In total, 118,429,640 shares were registered, and an additional 164,932,646 shares traded with them.  But, of course, it was all common stock, and therefore fungible; no specific share could be traced to one group or the other. 

Which is how we get to Section 11.

Section 11 of the Securities Act of 1933 allows any investor to sue if they purchased a security issued pursuant to a false registration statement. Damages are calculated based on the extent to which the price of the security falls below “the price at which the security was offered to the public.”

Naturally, soon after Slack’s direct listing, some investors came to believe that the registration statement contained false information (specifically, concerning Slack’s ability to avoid service disruptions), and sought to bring Section 11 claims against the company.  In the context of a direct listing like Slack’s, then, two questions were raised:  First, what is the “price at which the security was offered to the public” if the issuer is not selling any new shares to the public?  And second, how can a purchaser show that he or she bought shares tied to the registration statement?

These were the questions that confronted the court.

And first, let’s first talk about theory.

In general, the idea behind Section 11 is that when a company is selling securities to the public, it is functionally warranting that the securities are worth at least the price at which they’re being sold for, based on the information in the registration statement.  If the registration statement turns out to be false and the securities drop below that offering price, disappointed investors are entitled to recoup the amount of their overpayment.  In this scheme, the issuer is held liable to the extent it collected payments in excess of the securities’ value, as gauged by the registration statement information.

That said, the rules are not quite so simple.  First, many persons other than the issuer may be liable for false registration statements (though these persons, like corporate directors, are generally those who are in a position to correct false registration statements).  And second, registration statements are explicitly required even when persons other than the issuer are selling shares – like, control persons.  In the end, then, Section 11 remedies are analogous to disgorgement but they are not quite so strict because even persons who do not collect monies from the sale of shares may end up paying damages. 

Still, most of the time, the scheme is relatively coherent – an issuer sells securities for more than they are worth by including false information in the registration statement, therefore the issuer (and persons similarly responsible) must refund disappointed investors the amount of the overpayment.

So what to do about the Slack situation, then?

As to the first question – what counts as the “price at which the security was offered to the public” – Slack’s argument was of course that there was no such price, and therefore there could be no Section 11 damages.  The court, however, ducked the issue, holding that damages are an affirmative defense and not an element of the plaintiffs’ claim, and therefore are an inappropriate basis for dismissal.  At the same time, the court expressed some doubt as to the merit of Slack’s argument that a direct listing is entirely different from an IPO, pointing out that Slack itself admitted in its registration statement that the direct listing process would include a “pre-opening indication” that was “[s]imilar to how a security being offered in an underwritten initial public offering would open on the first day of trading.” 

In my view, Section 11 is, at least for now, one important mechanism for enforcing the securities laws.  If those laws contemplate that previously-issued shares will become freely-tradeable upon registration, then, it’s necessary that courts be able to identify some “offering price” that renders Section 11 meaningful.  Slack should not be able to avoid liability simply by claiming there is no relevant price; something must count.  

Which leaves us only to ask how that price should be determined.

As a formal matter, there are a few options.  One is the “reference price” chosen by the NYSE to guide trading; another is the “opening price” determined by the market maker based on pre-opening buy and sell orders.  Those buy and sell orders may use the reference price as a guide, but trades themselves are executed, to begin with, at the opening price set by supply and demand.  In Slack’s case, the reference price was $26, but the opening price was $38.50. 

This is sort of analogous to the IPO process.  In a traditional IPO, the offering price is used to sell shares to initial allocants, but pre-opening bidding determines the actual opening price at which trading begins.  For example, in Facebook’s IPO, its offering price was $38 per share, but due to pre-opening bidding, the stock actually began trading at $42.05 per share.  For Section 11 purposes, $38 was the relevant price.  In this analogy, the reference price in a direct listing is like a traditional IPO’s offering price and therefore the reference price should be the anchor for Section 11 claims. 

But!  Unlike a traditional IPO, no shares actually change hands at the reference price because there are no initial allocants.  If we assume that the majority of Slack’s pre-listing shares were issued in sales that count as “private” under the securities laws, the first actual sales to the public were, in fact, at the opening price, and therefore $38.50 was the “price at which the security was offered to the public” for Section 11 purposes.  Therefore, the opening price should control.

But on a third hand, we might look at the pre-open bidding history and see the very first price at which any seller offered to sell shares – likely NYSE’s reference, and possibly something else.  That first price might technically be the first “price at which the security was offered to the public,” and therefore we might treat that as the appropriate anchor for Section 11 purposes.

All of that, though, is divorced from the functional purposes of Section 11 damages, namely, to force the issuer to “stand behind” a particular stated value for the security.  Which is why I think this matter actually cannot be settled without discovery.  Slack claimed in its briefing that it had no role in setting either the reference price or the opening price, but that likely overstates matters. Its bankers appear to have assisted both the NYSE and the designated market maker in setting both prices, and it may turn out that either price was driven by the preferences of selling insiders (the plaintiffs noted that several insiders sold at prices slightly above the open).  If so, these participants’ involvement, along with their superior knowledge, may function as the same kind of “price warranty” that Section 11 ordinarily envisions, perhaps similar to when an issuer registers shares being sold by a controlling person (who necessarily must have a hand in setting the price to the public).

Which brings us to the next question, namely, how do we know that any open-market purchaser bought registered shares rather than unregistered ones?

This is actually not a problem unique to direct listings; it arises even in IPOs, when previously-issued shares become freely tradeable along with registered shares.  In the typical IPO, some number of insiders hold unregistered shares at the time of the offering, but they are subject to a contractual lockup period that prevents them from trading (usually 180 days) after the registration statement becomes effective.  After the lockup period expires, the unregistered shares commingle with the registered shares.  Courts usually hold that a Section 11 plaintiff is required to prove that his or her shares are traceable to the registration statement, Krim v. pcOrder.com, 402 F.3d 489 (5th Cir. 2005), which is literally impossible to do for any open-market purchaser who buys after the expiration of the lockup period.  As a result, the tracing requirement ends up cutting many a Section 11 claim off at the knees.  To avoid neutering Section 11 entirely, advocates have argued that courts should award damages based on some kind of statistical formula, such as assuming that plaintiffs hold registered and unregistered shares in proportion to the number of registered and unregistered shares in the market generally, see Steinberg & Kirby, The Assault on Section 11 of the Securities Act: A Study in Judicial Activism, 63 Rutgers L. Rev. 1 (2010), but courts so far have not been receptive.  Indeed, on more than one occasion, corporate attorneys have recommended that issuers intentionally shorten or eliminate the lockup period for some unregistered shares in order to defeat all Section 11 claims.

But now there’s Slack!

In Slack’s case, the court was sympathetic to the argument that because there is no lockup period in a direct listing – all shares become freely tradeable at once – a strict tracing requirement would mean no Section 11 claims are available to anyone.  As a result, the court held that “in this unique circumstance—a direct listing in which shares registered under the Securities Act become available on the first day simultaneously with shares exempted from registration,” purchasers of all shares of the registered class would be eligible to bring Section 11 claims.

On the one hand, I am (again) sympathetic to the idea that Section 11 should not be so easily defeated.  On the other hand, again, Section 11 was originally intended as a mechanism of disgorging ill-gotten gains from issuers, which is why there is so much fixation on offering prices and shares traceable to a registration statement.  In a direct listing, the concerns are a bit different – there’s no disgorgement to be had – and there’s no precise functional way to figure out how the statute should apply.

That said, if we look back to the history of Section 11, we see that the expectation was something like a fraud-on-the-market theory, where trading prices for newly-registered shares were assumed to be set based on information in the registration statement, and open-market purchasers would therefore be injured if that information turned out to be false.  See, e.g., Douglas & Bates, The Federal Securities Act of 1933, 43 Yale L.J. 171 (1933) (“At that time the registration statement will be an important conditioner of the market. Plaintiff may be wholly ignorant of anything in the statement. But if he buys in the open market at the time he may be as much affected by the concealed untruths or the omissions as if he had read and understood the registration statement.”); 78 Cong. Rec. 10186 (1934) (“the market value is fixed by the false statement of the corporation. The individual investor relies upon the investigation made by the banker. It is fair to assume that this situation continues until such time as the corporation makes available a statement showing its earnings for 12 months. Then the market value is influenced by the statement of actual earnings and not by the statements contained in the registration statement”).

On that theory, it hardly matters whether the shares were technically those issued on the registration statement or not – all shares would be affected by the same false information, and thus all purchasers should have some remedy, even if the total damages are capped at the level traceable to the number of shares issued on the defective registration statement, and divided pro rata among all claimants.

My final thought is: Section 11 may serve an important disciplining function, not only for IPOs, but even for shelf registrations that incorporate SEC filings by reference.  But, as I previously blogged, the statute has not been updated since 1933 and is not well-adapted to the realities of today’s offerings.  The best solution isn’t to have courts try to mold the statute to the current environment, but for Congress to work out a solution that best meets the needs of modern markets.

In recent years, investment funds have shifted more assets to private market securities.  This can make it much more difficult to figure out how much a particular investment is worth.  The SEC has proposed a new rule for valuing these sorts of investments.  Comments on it will be due on July 21, 2020.

Investment Companies have to tell investors how much their stake in the fund is worth.  Investments in public companies are  often easy to value.  The investment fund simply takes the market price of the security and uses that figure for valuation.  It can become more complicated if you take into account fundamental value, the size of the position, or the ability to sell it all at a particular price. For securities without readily available market prices, the Investment Company Act  calls for “using the fair value of that security, as determined in good faith by the fund’s board.”  

Yet how should an investment company board go about valuing its assets?  The new rule would put a framework in place for that process to create more consistency.

The proposal made me think of an article by Utah’s Jeff Schwartz.  He looked at how one mutual fund valued its investments in venture capital funds.  What he saw made him realize that we need “new rules governing how mutual funds value their startup investments, which tie changes to objective evidence, and new disclosure requirements that would shed light on the rationale for valuation changes and provide mutual-fund investors with notice that startups are in their portfolios and that these investments pose certain risks.”  Hopefully the SEC’s final rule will be informed by this work.

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It’s been six weeks since the WHO declared the coronavirus outbreak a pandemic, and the NBA cancelled games. As of this writing, the NY Post reports: Total cases globally = 2,561,044; Deaths = 176,984.

Friend-of-the-BLPB Miriam Baer recently posted a draft of her forthcoming book chapter on corporate leniency programs to SSRN.  The abstract follows.

Corporate leniency programs promise putative offenders reduced punishment and fewer regulatory interventions in exchange for the corporation’s credible and authentic commitment to remedy wrongdoing and promptly self-report future violations of law to the requisite authorities.

Because these programs have been devised with multiple goals in mind—i.e., deterring wrongdoing and punishing corporate executives, improving corporate cultural norms, and extending the government’s regulatory reach—it is all but impossible to gauge their “success” objectively. We know that corporations invest significant resources in compliance-related activity and that they do so in order to take advantage of the various benefits promised by leniency regimes. We cannot definitively say, however, how valuable this activity has been in reducing either the incidence or severity of harms associated with corporate misconduct.

Notwithstanding these blind spots, recent developments in the Department of Justice’s stance towards corporate offenders provides valuable insight on the structural design of a leniency program. Message framing, precision of benefit, and the scope and centralization of the entity that administers a leniency program play important roles in how well the program is received by its intended targets and how long it survives. If the program’s popularity and longevity says something about its success, then these design factors merit closer attention.

Using the Department of Justice’s Yates Memo and FCPA Pilot Program as demonstrative examples, this book chapter excavates the framing and design factors that influence a leniency program’s performance. Carrots seemingly work better than sticks; and centralization of authority appears to better facilitate relationships between government enforcers and corporate representatives.

But that is not the end of the story. To the outside world, flexible leniency programs can appear clubby, weak and under-effective. The very design elements that generate trust between corporate targets and government enforcers may simultaneously sow credibility problems with the greater public. This conundrum will remain a core issue for policymakers as they continue to implement, shape and tinker with corporate leniency programs.

That last paragraph rings true to me in so many ways.  The remainder of the abstract also raises some great points that engage my interest.  Looks like I am adding this to my summer reading list!

In a reflection on the meaning of career success, a majority of my business ethics students mentioned happiness as a barometer. 

“Happiness,” however, is an incredibly imprecise term. For example, here is over seventy-five minutes of Jennifer Frey (University of South Carolina, Philosophy) and Jonathan Masur (University of Chicago, Law) discussing happiness under two different definitions. 

Frey, in the tradition of Aristotle and Aquinas, considers happiness not as a private good, but rather as the highest common good. Happiness is enjoyed in community. True happiness according to Frey, is bound up in the cultivation of virtue and human excellence. Under Frey’s definition, happiness makes room for sacrifice and suffering as beautiful and awe-inspiring. 

Masur, a self-described hedonist, seems to have a more psychological, subjective view of happiness. Masur defines happiness as positive feelings, and unhappiness as negative feelings. Masur acknowledges that happiness–maybe even the deepest happiness–can arise from relationships and altruistic behavior. Unlike Frey, however, Masur includes positive feelings that are artificially produced or arising from unvirtuous behavior as part of “happiness.” Masur sees happiness and living a good, moral life as often overlapping, but as not necessarily intertwined. 

These are two different conceptions of happiness. I think we need seperate words for the different conceptions–perhaps joy and pleasure–though I do not think any two English words fully capture the differences. 

Somewhat relatedly, this month, my neighborhood book club is reading Aldous Huxley’s Brave New World. Throughout the book, Huxley explores a future devoted to pleasure. In this world, a drug called soma, a sport called obstacle golf, and touch-engaging films called the “feelies” combine to drown out negative emotions. While the elimination of virtually all infectious diseases seems enviable in this moment, there is very little I admire in the brave new world—it seems incredibly shallow. Some of Aristotle’s virtues are largely missing. Courage, temperance, and liberality are only seen in the outcasts of this world. Self-denial and committed relationships are strongly discouraged.

Ross Douthat, in The New York Times, hits some similar notes below: 

  • In effect, both Huxley and [C. S.] Lewis looked at the utilitarian’s paradise–a world where all material needs are met, pleasure is maximized, and pain is eliminated–and pointed out what we might be giving up to get there: the entire vertical dimension in human life, the quest for the sublime and the transcendent, for romance and honor, beauty and truth. 

But even John Stuart Mill, the utilitarian, seemed to realize that there can be a depth to happiness that extends beyond pure pleasure. Mill wrote:  

  • It is better to be a human dissatisfied than a pig satisfied; better to be Socrates dissatisfied than a fool satisfied. And if the fool, or the pig, are of a different opinion, it is because they only know their own side of the question. The other party to the comparison knows both sides. 

Near the conclusion of Brave New World, the Savage (John) has an illuminating verbal spat with the Controller Mustapha Mond: 

  • Savage: “But I like the inconveniences [of life.]”
  • “We don’t,” said the Controller. “We prefer to do things comfortably.”
  • “But I don’t want comfort. I want God, I want poetry, I want freedom, I want goodness. I want sin.”
  • “In fact,” said Mustapha Mond, “you’re claiming the right to be unhappy.”
  • “All right then,” said the Savage defiantly, “I am claiming the right to be unhappy.” 

The Savage meets a tragic end (in part because he gets cut off from supportive community and has not grasped the concept of forgiveness), but I am still more drawn to his life–of pain and love, desire and disappointment, art and decay, principle and struggle–than to a life plugged into the pleasure producing experience machine. 

Even though Frey and Masur disagree on the breadth of the term “happiness,” both seem to agree that devoted relationships, selflessness, and self-transcendence often lead to durable, deep happiness. While many of my business ethics students did not define “happiness” in their reflections, I hope they increasingly realize the fulfillment that can come from cultivating virtue in the midst of difficulty. 

In these unprecedented times, the Federal Reserve is opening unprecedented facilities, including its new Municipal Liquidity Facility.  Professor Robert C. Hockett at Cornell Law School has posted a great 3-page paper on this for everyone (like myself) who is interested in quickly learning more about this new Fed program.  Check it out here; Abstract is below.

On April 9th the Fed announced it would be opening an unprecedented new Municipal Liquidity Facility (‘MLF’) for States and their Subdivisions now struggling to address the nation’s COVID-19 pandemic. This is effectively ‘Community QE’ in all but name. Because Community QE will constitute a literal lifeline to States and their Subdivisions, and will in light of its novelty be as unfamiliar as it is essential, this Memorandum briefly summarizes what the new Facility enables now and will likely enable in future. On this basis it then recommends a three-phase ‘Game Plan’ for States and their Subdivisions to put into operation immediately – that is, April 13th.

This week, I’m just plugging my new essay, forthcoming in the Wisconsin Law Review.  It was written for the New Realism in Business Law and Economics symposium, hosted by the University of Minnesota Law School, and here is the abstract:

Beyond Internal and External: A Taxonomy of Mechanisms for Regulating Corporate Conduct

Corporate discourse often distinguishes between internal and external regulation of corporate behavior. The former refers to internal decisionmaking processes within corporations and the relationships between investors and corporate managers, and the latter refers to the substantive mandates and prohibitions that dictate how corporations must behave with respect to the rest of society. At the same time, most commenters would likely agree that these categories are too simplistic; relationships between investors and managers are often regulated with a view toward benefitting other stakeholders.

This Article, written for the New Realism in Business Law and Economics symposium, will seek to develop a taxonomy of tactics available to, and used by, regulators to influence corporate conduct, without regard to their nominal categorization of “external” or “internal” (or “corporate” and “non-corporate”) in order to shed light on how those categories both obscure and misdescribe the existing regulatory framework. By reframing the shareholder/stakeholder debate, we can identify underutilized avenues for encouraging prosocial, and discouraging antisocial, corporate action, and recognize areas of contradiction and incoherence in current regulatory policy. Finally, this exercise will demonstrate how corporations, far from being “privately” ordered, are in fact the product of an overarching set of choices made by state actors in the first instance.