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.

As the weeks pass, we move steadily closer and closer to the June 30th implementation date for Regulation Best Interest.  As I’ve written elsewhere, the new SEC rule does little actually help investors.  The new rule package may also do real harm by collapsing distinctions between brokerage firms and independent registered investment advisers.  In the headline quote for a new white paper from the Institute for the Fiduciary Standard, Professor Tamar Frankel explains how the new package erodes established fiduciary principles

Rostad and Fogarty tell the story that these standards deserve attention because they abandon decades of established principles. They then offer selected remedies to help investors manage in this new era. The Securities and Exchange Commission’s Regulation Best Interest ignores the brokers’ advisory sales-talk and waters-down significantly brokers’ fiduciary duties. In fact little remains. Hopefully, this rule will fail to achieve its purpose or is fixed before it brings true disasters on the securities markets. Otherwise, investors and the securities markets may pay the price.

As the SEC has altered investor protections, states have begun to put their own protections in place.  Nevada stands alone with the first state fiduciary statute.   New Jersey and Massachusetts also have proposed regulations.

Yet these regulations will not arrive before Regulation Best Interest goes into effect. At present, New Jersey has delayed its rule process. New Jersey’s initial proposal broke with the SEC on an important point.  It doesn’t rely on disclosure to completely sanitize conflicts.  Rather, the New Jersey proposal included a provision that “there is no presumption that disclosing a conflict of interest in and of itself will satisfy the duty of loyalty.”  

At present, I wouldn’t expect the SEC to delay implementation of Regulation Best Interest. The brokerage industry isn’t likely to seriously push for any delay because it would be like a child asking to delay Christmas.  As Regulation Best Interest goes into effect, brokerages get the ability to market themselves as acting in their customers’ best interests while still operating with the same conflicts.  Be on the lookout for new advertising campaigns featuring “best interest” language.  Few, if any, customers will actually read the fine print.

But financial adviser ads will continue to roll.  With almost all other businesses shuttered and advertising prices plummeting, expect to see more ads from groups like the CFP board on television.   After Regulation Best Interest goes into effect, they will all tell you that they’ll act in your best interest.  Sorting out what they actually will do once they have your money will be more of a challenge.

 

The National Center for Public Policy Research has posted an open letter to Blackrock CEO Larry Fink that should be of interest to readers of this blog.  I provide some excerpts below.  The full letter can be found here.

Dear Mr. Fink,

….

This economic crisis makes it more important than ever that companies like BlackRock focus on helping our nation’s economy recover. BlackRock and others must not add additional hurdles to recovery by supporting unnecessary and harmful environmental, social, and governance (ESG) shareholder proposals.

…. we are especially concerned that your support for some ESG shareholder proposals and investor initiatives brings political interests into decisions that should be guided by shareholder interests…. when a company’s values become politicized, the interests of the diverse group of shareholders and customers are overshadowed by the narrow interests of activist groups pushing a political agenda.

…. ESG proposals will add an extra-regulatory cost …. This may harm everyday Americans who are invested in these companies through pension funds and retirement plans. While this won’t affect folks in your income bracket, this may be the difference between affording medication, being able to retire, or supporting a family member’s education for many Americans.

There is a financial risk to this tack as well. The Wall Street Journal recently reported that “[p]erformance of BlackRock’s own iShares range of ESG funds shows that ESG is no guarantee of gold-plated returns. Its two oldest in the U.S., set up in 2005 and 2006 and now tracking the MSCI USA ESG Select index and the MSCI KLD 400 Social index, have both lagged behind iShares’ S&P 500 fund.”

And while publicly traded companies operate under a legal fiduciary duty to their investors, this is also a moral imperative. Free market capitalism has lifted more people out of poverty than any economic system in world history. That’s because, at its simplest level, capitalism operates under the basic rule that all exchanges are voluntary. Therefore, to achieve wealth and create growth in a capitalist system, one must appeal to the self-interest of others….

This post again comes to us from friend-of-the BLPB Nadia B. Ahmad.  Her offering is in the tradition of similar posts published by my co-bloggers in the past that focus on videos that can be used in teaching various topics relevant to business law.  I remember this post, for example, by Marcia Narine Weldon on blockchain teaching resources.  Again, thanks to Nadia for contributing to our knowledge and our blog.  I hope that others will be encouraged to offer suggestions in the comments below about other helpful online video resources that they know about.

image from cdnimages.barry.edu

Below is a list of online video resources for business law related topics.

  1. Panic: The Untold Story of the 2008 Financial Crisis(1 hour, 35 minutes)

VICE on HBO looks at factors that led to the 2008 financial crisis and the efforts made by then-Treasury Secretary Henry Paulson, Federal Reserve Bank of New York President Timothy Geithner, and Federal Reserve Chair Ben Bernanke to save the United States from an economic collapse. The feature-length documentary explores the challenges these men faced, as well as the consequences of their decisions.

https://www.youtube.com/watch?v=QozGSS7QY_U

  1. To Catch a Trader

PBS Frontline correspondent Martin Smith goes inside the government’s ongoing, seven-year crackdown on insider trading, drawing on exclusively obtained video of hedge fund titan Steven A. Cohen, incriminating FBI wiretaps of other traders, and interviews with both Wall Street and Justice Department insiders.

https://www.pbs.org/video/frontline-catch-trader/

  1. How to Illegally Profit From a Pandemic: Insider Trading! (LegalEagle’s Real Law Review) (20 minutes)

LegalEagle is designed for law students and gives them an insider’s view to the legal system.

https://www.youtube.com/watch?v=a45ujRTJyJ8&feature=youtu.be

  1. PanamaPapers – The Shady World of Offshore Companies(55 minutes)

For decades, presidents, drug smugglers and criminals have used a Panamanian law firm to hide their accounts and valuables. This is revealed in documents reviewed by media partners around the world, including NDR and WDR. A total of 370 journalists from 78 countries evaluated around 11.5 million documents in the course of their reporting on the “PanamaPapers.” An anonymous source provided the data to Germany’s Süddeutsche Zeitung. The paper then shared it with the International Consortium of Investigative Journalists (ICIJ) and partners across the globe, including NDR and WDR.

https://www.youtube.com/watch?v=CtvaNIQN0DY

I first blogged about this case back when the Supreme Court’s Halliburton Co. v. Erica P. John Fund, Inc. (Halliburton II), 573 U.S. 258 (2014) decision was new, and now we finally have some answers. 

In Halliburton II, the Court held that while securities class action plaintiffs get the benefit of a presumption that any material information – including false information – impacts the price of stock that trades in an efficient market, defendants may, at the class certification stage, attempt to rebut that presumption with evidence that there was no such price impact.

The complicating factor in all of this is that, per Amgen Inc. v. Connecticut Ret. Plans & Tr. Funds, 568 U.S. 455 (2013) and Erica P. John Fund v. Halliburton Co., 563 U.S. 804 (2011) (Halliburton I), defendants cannot rebut that evidence by demonstrating either a lack of materiality or a lack of loss causation.  This, of course, severely ties defendants’ hands, because those are the usual proxies for price impact.  (See prior blog posts for further discussion here and here and here and here.)

The Goldman case has an interesting twist, though.  The basic allegation is that Goldman falsely represented that it behaved with honesty and integrity toward its clients, and its lies were revealed when the SEC filed an enforcement action alleging that Goldman’s transactions involving CDOs were riddled with undisclosed conflicts of interest.  The SEC’s complaint triggered a price drop, and Goldman investors suffered as a result.

Goldman, however, argued it could rebut the presumption of price impact by demonstrating that at multiple times throughout the class period, the media reported on its conflicts, with no market reaction.  Therefore, argued Goldman, it was clear that the initial lies did not impact prices, and the price drop at the end of the class period was not due to the revelation of the truth – all of which was known to the market – but simply due to the SEC’s enforcement action itself.

As I previously argued, much of this was really a disguised attempt to relitigate the materiality of the initial statements, but in a 2018 appeal, the Second Circuit remanded to the district court to give Goldman the opportunity to prove lack of price impact by a preponderance of evidence.  See Ark. Teachers Ret. Sys. v. Goldman Sachs Grp., Inc., 879 F.3d 474 (2d Cir. 2018).  The district court recertified the class, Goldman appealed again, and the Second Circuit’s affirmance, 2-1, issued earlier this week, engages more closely with the substance of Goldman’s argument.

Okay, that sets the stage.  What actually happened here?

(More under the jump)

Continue Reading The Latest in Post-Halliburton Developments: Arkansas Teachers Ret. Sys. v. Goldman Sachs

Iowa’s Greg Shill has a new paper out on Congressional Securities Trading.  As a former congressional staffer, he brings a special appreciation to the issue.

Congressional securities trading has attracted a good bit of attention after controversial trades by Senators Burr and Loeffler.  The scrutiny has even drawn more attention to another surprisingly well-timed trade by Senator Burr.

In his essay, Shill takes up the issue from a policy perspective, looking at how we ought to regulate Congressional Securities Trading.  He draws from ordinary securities regulation and suggest pulling over the trading plan approach and short-swing profit prohibition we use for corporate executives.  This approach should help manage ordinary securities transactions by members of Congress and their staff.  He also advocates for limiting Congressional investing to U.S. index funds and treasuries.  This would reduce the incentive to favor one market participant over another.

The proposed reforms would be a substantial improvement over the status quo.  We should not have legislators with significant financial incentives to favor one company over another when making law and setting policy.  We should also not subsidize public service by tolerating Congressional trading on Congressional information.

Of course, we’ll still face some implementation challenges.  When and how would we require newly-elected and currently-serving officials to liquidate existing portfolios?  What kinds of exceptions would we make for private-company investments where no ready, liquid market exists?  These implementation challenges strike me as mild compared to the benefits.

And Congressional adoption of the proposal would certainly yield substantial benefits.  Although difficult to quantify, two broad benefits seem clear. First, adopting the proposal would generally increase confidence in government’s integrity.  As we’re seeing with the pandemic, public trust in public officials can shift how society responds in times of collective crisis.  

Allowing federal officials to trade securities generates real harm, confusion, and suspicion.  Consider the hubbub over Trump’s indirect ownership of a tiny stake in drug-maker Sanofi.  Some have seized on the small, indirect interest to contend that he now hypes a particular drug for personal gain.  A public-trust-focused regime limiting all elected officials to only broad index funds and U.S. Treasuries would likely cut down on the fear that officials recommend particular things to the public because of their economic interests.  To be clear, it strikes me as extremely unlikely that the President now hypes the drug because of his minuscule ownership stake.  The much likelier explanation is simply disordered magical thinking.

Many politicians have been targeted by similar attacks. This particular type of ill-informed charge has also been leveled at Senator Elizabeth Warren.  One deeply misleading headline claimed she “invested in private prisons” before going on to explain that she owned a Vanguard index fund.  It would be better to remove this line of attack entirely by sharply limiting the ways public officials invest.

Limiting Congressional ownership would also advance another vital national interest by increasing confidence in American securities markets.  Our ability to attract capital and move it from investors to the real economy depends on confidence in the system.  If investors fear that Congressional insiders have a leg up, they may not be as likely to participate in our markets.

As Congress considers how to regulate on these issues in the future, it should pay close attention to Shill’s recommendations.

The American Business Law Journal (ABLJ) is a triple-blind peer review journal published quarterly “on behalf of the Academy of Legal Studies in Business (ALSB).”  Its articles explore a range of business and corporate law topics, and it is a great resource for academics, industry professionals, and others.  Its “mission is to publish only top quality law review articles that make a scholarly contribution to all areas of law that impact business theory and practice…[and it] search[es] for those articles that articulate a novel research question and make a meaningful contribution directly relevant to scholars and practitioners of business law.”  I’ve previously posted about the journal (here).

The ABLJ has issued an invitation to ALSB members to apply for the position of Articles Editor.  Not currently a member of the ALSB?  No worries, you can easily become a member (here)!  Below is the complete invitation to apply sent from Terence Lau, the ABLJ Managing Editor.  

We invite ALSB members who are interested in serving on the Editorial Board of the American Business Law Journal to apply for the position of Articles Editor. The new Articles Editor will begin serving on the Board in August 2020. Board members serve for six years—three years as Articles Editor, one year as Senior Articles Editor, one as Managing Editor, and one as Editor-in-Chief. Articles Editors supervise the review of the articles that have been submitted to the ABLJ to determine which manuscripts to recommend for publication. In the case of manuscripts that are accepted, the Articles Editor is responsible for working with the author and overseeing changes in both style and substance. In the case of manuscripts that are believed to be publishable but need further work, the Articles Editor outlines specific revisions and/or further lines of research that should be pursued. The Articles Editors’ recommendations for works-in-process are perhaps the most important and creative aspect of the job because they provide the guidance necessary for such works to blossom into publishable manuscripts. An applicant for the position of Articles Editor should have an established track record of publishing articles in law reviews and should have published at least one article with the ABLJ. Experience serving as a Reviewer for the ABLJ or as a Staff Editor is helpful. Please send a resume and letter of interest to Terence Lau, ABLJ Managing Editor, at tjlau@mail.csuchico.edu by May 31, 2020, for full consideration.

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It’s been four 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 = 1,426,096; Deaths = 81,865.

In my post last week, I mentioned the President’s invocation of the Defense Production Act during the current COVID-19 crisis.  I was immediately curious about this law when news of the President’s March 27 memorandum focused on General Motors and ventilator production hit my radar screen (a/k/a, my laptop, which has effectively become my lap these days).  Surely, it must be unusual for the U.S. government, I thought, to direct the nature, means, and timing of production and supply.  That seems antithetical to the spirit, if not the letter, of U.S. capitalism.  However, the more I read, the less curious and concerned I am, at least for the moment.  Perhaps some of the reporting in this area is more geared to generating a splashy news item than, well, alerting us to something truly unusual or troubling.  Nevertheless, I will make a few foundational points on the Act here.  I may have more to say later.

The Defense Production Act of 1950 can be found in Chapter 55 of Title 50 of the U.S. Code.  The Act recognizes that “the security of the United States is dependent on the ability of the domestic industrial base to supply materials and services for the national defense and to prepare for and respond to military conflicts, natural or man-caused disasters, or acts of terrorism within the United States.”  50 U.S.C. § 4502(a)(1). To meet these and other requirements, the Defense Production Act “provides the President with an array of authorities to shape national defense preparedness programs and to take appropriate steps to maintain and enhance the domestic industrial base.”  Id. at § 4502(a)(4).

The President’s highly publicized General Motors memorandum referenced above is only one of a number of formalized presidential actions citing to or using the Defense Production Act in the war against COVID-19.  That memorandum directs the Secretary of Health and Human Services to “use any and all authority available under the Act to require General Motors Company to accept, perform, and prioritize contracts or orders for the number of ventilators that the Secretary determines to be appropriate.”  The General Motors memorandum follows on a March 16 executive order delegating specified presidential powers under Section 101 of the Act to the Secretary of Health and Human Services.  An April 2 memorandum directs the Secretary of Homeland Security “through the Administrator of the Federal Emergency Management Agency (Administrator), . . . [to] use any and all authority available under the Act to acquire, from any appropriate subsidiary or affiliate of 3M Company, the number of N-95 respirators that the Administrator determines to be appropriate.”  A second April 2 memorandum directs the Secretary of Health and Human Services, “in consultation with the Secretary of Homeland Security, . . . [to] use any and all authority available under the Act to facilitate the supply of materials to the appropriate subsidiary or affiliate of the following entities for the production of ventilators: General Electric Company; Hill-Rom Holdings, Inc.; Medtronic Public Limited Company; ResMed Inc.; Royal Philips N.V.; and Vyaire Medical, Inc.”  Finally, an April 3 memorandum directs the Secretary of Homeland Security “through the Administrator of the Federal Emergency Management Agency, in consultation with the Secretary of Health and Human Services, . . . [to] use any and all authority available under section 101 of the Act to allocate to domestic use, as appropriate, . . . [specified] scarce or threatened materials designated by the Secretary of Health and Human Services . . . .”  The President also issued a related statement on April 3 that decries “wartime profiteering.”

Although the use of the Defense Production Act in directing production during the ongoing COVID-19 crisis may be novel in its nature or scale, Fortune reports that the Act is used “routinely” to prioritize contracts relating to military procurements and in response to natural disasters.  Other past uses also are mentioned in that Fortune article.  None of the President’s actions to date invoking the Act as to production by specific firms is in the form of an executive order.  However, the President is afforded many powers under the Act, see 50 U.S.C. § 4554(a) (providing in relevant part that “the President may prescribe such regulations and issue such orders as the President may determine to be appropriate”), although they are subject to certain limitations (including, e.g., broad-based restrictions relating to “wage or price controls” and “chemical or biological weapons” under 50 U.S.C. § 4514).

Even without the issuance of enforceable presidential orders, however, those charged with manufacturing under the various presidential memoranda are (and in some cases, prior to presidential action, were) scrambling to make up for lost time.  A report published over the weekend in The Washington Post describes the status of some of their efforts.  CNBC’s similar report is here.  Time weighed in a few days earlier with its story.  Finally, an earlier report from The New York Times offers historic details relevant at that time.  Private industry has been stepping up in so many ways during the pandemic.  With all the hullabaloo around the Defense Production Act, we all should know about and be proud of that.

As for the actual COVID-19 business operational effects of the powers afforded to the President under the Defense Production Act, they remain to be seen.  My interest has been whetted, however, and I will be paying attention to future invocations of the Act not only in the COVID-19 crisis, but also in other contexts.  My perception is that it is one of the lesser-known laws that can impact business in a significant ways if the full force of its provisions is employed.  It is legislation–even 70 years out–that all of us business lawyers and law professors should be aware of.