Back in May, I posted about a legal action against Starbucks for too much ice in its drinks.  I referenced in that post the earlier legal action taken against Starbucks for under-filling its latte drinks and against McDonald’s for damage done by hot coffee.  I can’t resist adding another hot coffee case to the mix . . . .

Another suit has been brought against Starbucks–my daughter’s employer (as I disclosed at the outset in my previous post).  This time, the case involves damage caused by hot coffee resulting from a bad drive-through pass-off.  The plaintiff requests up to $1 million “for medical expenses, loss of work, and for the mental and physical pain she claims the burning coffee caused her,” according to the news report.  The case involves second-degree burns–a serious matter in anyone’s eyes.  Depending on the facts elucidated at trial, this case may (like the McDonald’s case from 20+ years ago) have some traction in court.  (Apparently, there have been other Starbucks cases involving hot drinks.)

I do feel sorry for plaintiffs who are damaged by hot coffee or beverages.  These cases undoubtedly have more gravitas than cases alleging damages based on the amount of ice or beverage served.  Yet, the hot beverage cases still nag at me a bit–maybe because I have trouble conceptualizing suing a coffee service business for damage created by a hot beverage that I ordered.  Today, reflecting on this new Starbucks case, I did some soul-searching to determine why I am unlikely to sue.

The bottom line is that I understand there is something inherently dangerous about ordering hot coffee in a paper cup with a plastic lid, especially for pick-up at a drive-through window.  I know I am assuming a risk in those circumstances.  I also know that I may share or bear blame for any spill that happens after I order–the lid on a cup properly sealed and handed to me loosens and sometimes pops right off if I grab the cup from the top under the lid area.  Maybe you’ve noticed that in handling coffee at your favorite coffee shop . . . .  

I am no tort lawyer, but I guess I see myself in many of these cases, which makes me wonder whether the plaintiffs and their lawyers place too much reliance on litigation for the achievement of their respective desired objectives . . . .  I would hope that many controversies between businesses and consumers, as I indicated in my prior post, could be resolved outside the litigation process.  Not every injury is or should be compensable through a legal action.

Moreover, in my work, I have been critical of many securities fraud (including insider trading) class actions as at best inefficient means of addressing certain plaintiffs’ concerns.  In my experience, I also have seen cases brought against high-profile or deep-pocket defendants more for their settlement value than to redress or prevent a wrong to the plaintiff or society.  My gut tells me that I might be critical of some of the hot coffee cases on the same bases if I came to know more of the facts.  But I cannot be sure.  

Is my instinct off-base?  Am I too quick to see fault in the claims of potential plaintiffs?  Am I giving coffee service businesses too much cred?  I am interested in any thoughts you may have.  In any event, we can be confident that the hot beverage cases will continue for the foreseeable future.

Hat tip to Lou Sirico at Legal Skills Prof Blog for pointing out this case to me.

Former Delaware Chancellor William (Bill) Chandler and Elizabeth Hecker, a fellow lawyer at Wilson Sonsini Goodrich & Rosati presented on benefit corporations and Delaware law at the Berle VIII conference. I cannot fully communicate how exciting it was to hear a distillation of Delaware law generally and several opinions specifically from a judge involved in the cases.  In short: it was thrilling.

Former Chancellor Chandler discussed the Delaware case law interpretation of shareholder value and its place in analyzing corporate transactions.  While these aren’t words that he used, I have been thinking a lot about this tension as a question of complimenting or competing.  The simple message was that the “inc.” behind corporate names means something.  But the question, is what does that mean?  It signals, among other things, that a Delaware court will invalidate a board of directors’ other serving actions only if they are in conflict with shareholder value, but never when it is complimentary.   And there is a expanding appreciation of when “other interests” are seen as complimentary to, and not in competition with, shareholder value maximization.

Former Chancellor Chandler reminded us that shareholder value can include long term interests as the Delaware Chancery Court concluded in February 2011 in the Airgas case where Delaware upheld a board’s defensive actions taken, in part, on the belief that the offer didn’t include the full long-term value. The Airgas opinion is available here. The original $5.9B bid for Airgas, which the BOD said, despite an informed shareholder vote in its favor, didn’t capture the full value of the company.  The market validated Airgas’ board’s position and the Delaware court’s adoption of that view.  Airgas completed its merger with Air Liquide in May, 2016 for $10.3B. 

-Anne Tucker

    The doctrine of shareholder oppression protects minority stockholders in closely held corporations from the improper exercise of majority control. When a minority shareholder claims abuse at the hands of a majority investor, courts applying the oppression doctrine will subject the majority’s conduct to a considerable amount of scrutiny.  Approximately thirty-nine states have statutes providing for dissolution or other relief on the grounds of “oppressive actions” by “directors or those in control.”  See Douglas K. Moll & Robert A. Ragazzo, Closely Held Corporations § 7.01[D][1][b], at 7-69 n.192 (LexisNexis 2015).

    The factors that give rise to the oppression problem in the closely held corporation context are also present in the LLC setting.  See, e.g., Douglas K. Moll, Minority Oppression & the Limited Liability Company:  Learning (or Not) from Close Corporation History, 40 Wake Forest L. Rev. 883, 925-57 (2005).  Indeed, the same combination of “no exit” and majority rule—a combination that has left minority shareholders vulnerable in the closely held corporation for decades—exists in the LLC.  Despite these similarities, only nineteen states have LLC statutes providing for dissolution or other relief on the grounds of oppressive conduct or similar language.

    Why the difference?  Why do twice as many states provide oppression-related protection in the corporation setting (as compared to the LLC setting)?  Some thoughts:

(1)      Differences in default exit rights:  In the corporation, state statutes do not provide default exit rights.  In the LLC, the situation is similar, as the passage of the check-the-box regulations led to most states eliminating default exit rights for estate planning and related purposes.  See id. at 925-40.  Nevertheless, in a small handful of jurisdictions (5 states by my count), default exit rights still exist in LLCs.  Such statutes usually indicate that the dissociation of a member leads to a buyout of the member’s ownership interest or dissolution of the company.  When minority owners have a statutory mechanism for exiting the venture with the value of their investments, there is little need for an oppression doctrine, as the oppression doctrine typically seeks to provide the same outcome (i.e., exit and return of capital). 

(2)      The oppression doctrine is too vague and unpredictable:  In many jurisdictions, oppressive conduct is defined as “burdensome, harsh, and wrongful conduct” by the majority, or a frustration of the minority’s “reasonable expectations” by the majority.  These definitions have been criticized on the grounds that they are too vague and general to provide any meaningful guidance to litigants and courts.  Importing the oppression doctrine with these definitions into the LLC setting may be viewed as compounding the problem.  One could argue, however, that oppression is no more vague and open-ended than the concept of fiduciary duty, particularly in jurisdictions where the scope of manager and member fiduciary duties is not circumscribed by statute.

(3)      Other dissolution grounds are broad enough to encompass oppressive conduct:  Almost all LLC statutes provide for judicial dissolution on the ground that it is not reasonably practicable to carry on the business in conformity with the governing documents of the LLC.    Such a ground is presumably broad enough to encompass certain types of oppressive behavior.  For example, if the majority consistently deprives the minority of distributions to which the minority is entitled, such conduct would likely run afoul of the operating agreement and would show a pattern of the majority violating the governing documents.  If this dissolution ground can handle oppressive conduct, the need for a dissolution statute explicitly tied to oppressive behavior is lessened.* 

    On the other hand, some types of oppressive conduct fail to fit neatly within the “not reasonably practicable” language.  In a classic freezeout where the minority is terminated from employment and denied any management role in the LLC, there may be no technical violation of the articles or the operating agreement.  Cf. Dennis S. Karjala, Planning Problems in the Limited Liability Company, 73 Wash. U. L.Q. 455, 471 (1995) (“[I]n Arizona, Delaware, and Oregon, a court may order dissolution in an action by a member if it is established that it is ‘not reasonably practicable to carry on the business’ according to the articles or an operating agreement.  Yet it is often possible to carry on the business while freezing a minority interest out of any return.” (footnote omitted)).  Thus, a more explicit dissolution-for-oppression statute may still be useful.

(4)       Fiduciary duties to members exist in the LLC:  Perhaps the most compelling reason for the lack of LLC dissolution-for-oppression statutes is that minority members may already be protected from oppressive conduct by fiduciary duties owed to them by managers (and, possibly, other members).  In the corporation setting, directors and officers traditionally owe fiduciary duties to the corporation itself, but not to individual shareholders.  By contrast, in the LLC setting, many jurisdictions indicate (either by statute or judicial decision) that a manager owes a fiduciary duty to an individual member as well as to the LLC itself.  See, e.g., RULLCA § 409 (2006).  A member’s ability to bring a breach of fiduciary duty claim on his own behalf lessens the need for an oppression action, as the oppression action is also designed to allow a minority owner to assert, on his own behalf, that he has been unfairly treated. 

    That said, it is not clear that the scope of a manager’s fiduciary duty would be construed as broadly as the oppression doctrine has been construed, particularly with respect to protecting the minority’s participatory rights in the business (i.e., employment and management rights).  In fact, in some jurisdictions, a manager’s fiduciary duty of loyalty is limited by statute to harm caused to the LLC itself (and not harm caused to an individual member).  (Note:  I discussed this in the partnership context in a prior post.)  In addition, broad remedies for oppression, such as a buyout of the oppressed minority’s holdings, are already well-established in the case law.  Although a court has significant remedial discretion in fiduciary duty actions as well, in many jurisdictions there is no precedent for a buyout as a remedy for breach of fiduciary duty.

    What am I missing?  Are there other explanations for significantly fewer oppression statutes in the LLC setting?

*    Some LLC statutes allow for dissolution when member conduct makes it not reasonably practicable to carry on the company’s business with that member.  This ground seems even more tailored to oppressive conduct, but it is only present in seven jurisdictions.

SEC Chair Mary Jo White yesterday presented the keynote address, for the International Corporate Governance Network Annual Conference, “Focusing the Lens of Disclosure to Set the Path Forward on Board Diversity, Non-GAAP, and Sustainability.” The full speech is available here.    

In reading the speech, I found that I was talking to myself at various spots (I do that from time to time), so I thought I’d turn those thoughts into an annotated version of the speech.  In the excerpt below, I have added my comments in brackets and italics. These are my initial thoughts to the speech, and I will continue to think these ideas through to see if my impression evolves.  Overall, as is often the case with financial and other regulation, I found myself agreeing with many of the goals, but questioning whether the proposed methods were the right way to achieve the goals.  Here’s my initial take:   

Continue Reading Annotated Highlights from SEC Keynote Address on International Corporate Governance

I am still at Berle VIII with Haskell Murray and Anne Tucker.  One more day of my June Scholarship and Teaching Tour to go–and I have a final presentation to do.  Then, back to Knoxville to stay until late in July.  Whew!

As you may recall or know, my Berle appearance this week follows closely on the heels of a talk on the same work (on corporate purpose and litigation risk in publicly held U.S. benefit corporations) that I made at last week’s 2016 National Business Law Scholars conference.  While I am thinking about this conference, please join me in saving the date for the next one:  the 2017 National Business Law Scholars conference.  Next year’s conference will be held June 8-9 at The University of Utah S. J. Quinney College of Law, with Jeff Schwartz hosting.  I will post more information and the call for papers, etc. once I have it.

Section 11 imposes liability for false statements in registration statements.  See 15 U.S.C. §77k.  Section 11 is distinctive in that the plaintiffs do not have to show fault on the part of any defendants – a sharp contrast with Section 10(b), which requires plaintiffs to prove that the defendants acted with scienter.

When it comes to imposing liability on corporate auditors who approve false financial statements, very often, Section 11 is the only viable option for plaintiffs.  This is because it is very, very hard to show that auditors acted with scienter – especially at the pleading stage.  When a company blows up, typically a lot of information becomes available that would help the plaintiffs demonstrate that there was fault within the corporate ranks.  But it is far less typical for information to become available against the auditor.  So Section 11 is really the only way for plaintiffs to go.

In Querub v. Moore Stephens Hong Kong, 2016 U.S. App. LEXIS 9213 (2d Cir. N.Y. May 20, 2016) (unpublished), the Second Circuit held that for Section 11 purposes, audit opinions are “opinions” in the manner described in Omnicare, Inc. v. Laborers Dist. Council Constr. Indus. Pension Fund, 135 S. Ct. 1318 (2015).  This means that audit opinions can only be shown to be false – and liability based on them can only be imposed – if the plaintiffs show either that the auditors did not believe the opinion (the functional equivalent of scienter), or that the auditors left out critical facts regarding the manner in which the opinion was formed (which in most cases is likely to mean that the auditor failed to comply with Generally Accepted Accounting Standards (GAAS)).

It’s my view that this holding contradicts the text of Section 11. 

Section 11, provides that if a registration statement contains a false statement or material omission, liability will lie against:

every accountant, engineer, or appraiser, or any person whose profession gives authority to a statement made by him, who has with his consent been named as having prepared or certified any part of the registration statement, or as having prepared or certified any report or valuation which is used in connection with the registration statement, with respect to the statement in such registration statement, report, or valuation, which purports to have been prepared or certified by him…

On my reading, this language directs courts to ask whether the corporate financial statements are false.  If they are, then liability is imposed on the auditor who “certified” the statements – automatically.  The act of auditor certification of a false financial statement is what triggers liability, period.  No further inquiry into the truth or falsity of the certification itself – independent of the underlying financial statement – is permitted.

But, the auditor is permitted to offer a defense.  Auditors (who are “experts”) may avoid liability if they prove that:

as regards any part of the registration statement purporting to be made upon his authority as an expert or purporting to be a copy of or extract from a report or valuation of himself as an expert … he had, after reasonable investigation, reasonable ground to believe and did believe, at the time such part of the registration statement became effective, that the statements therein were true and that there was no omission to state a material fact required to be stated therein or necessary to make the statements therein not misleading….

In other words, the auditor will not be liable if it believed the financial statements were true, based on a reasonable investigation.  Presumably, the auditor will try to meet this standard by showing that it complied with GAAS, which itself would require a showing of good faith and professional due diligence.  If the auditor makes that showing, it avoids liability.

The Second Circuit (and, I must confess, several other courts) undermine this scheme when they put the burden on the plaintiff to make an initial showing that there was a failure to comply with GAAS.

This is a problem that may be broader than audit certifications, and extend to the proper interpretation of Section 11 generally – occasioned not so much by Omnicare‘s definition of opinion falsity, but by its capacious definition of what counts as opinion in the first place – but in the context of audit opinions, the tension looms particularly large.

Now, one counterargument is that auditors do not “certify” financial statements any more.  Certification is an old terminology; it fell out of favor several decades ago (after the passage of the Securities Act), to be replaced by the “opinion” phrasing, which more accurately reflects the fact that auditors don’t guarantee the accuracy of corporate financial statements.  And indeed, today, SEC regulations dictate that auditors offer “opinions” (not certifications) of financial statements.

But to me, this is beside the point.  As far as I know – and I’d be curious if anyone has any contrary evidence – these changes in terminology were never intended to change the liability scheme, let alone shift Section 11’s burden of proof (something that presumably auditors could not do unilaterally).

Last fall, I posted some thoughts on the film Poverty Inc., which looked at the impact of foreign aid and business giving through programs like TOMS Shoes’ One for One initiative. 

Recently, I came across this discussion on Poverty Inc. by Bill Easterly (NYU Economics) and the film’s creators (Michael Matheson Miller and Mark Weber). I posted on one of Bill Easterly’s books here. 

In the discussion at NYU, I especially liked this quote from Michael Matheson Miller: “We tend to treat poor people as objects–as objects of our charity, objects of our pity, objects of our compassion.–instead of subjects…Poor people are not objects; they are subjects and they should be the protagonists in their own stories of development.” The personal story Mark Weber tells of his trip while he was studying at Notre Dame was moving, but you will have to watch the discussion to hear it, as it would be tough to summarize. Some of the audience questions are a bit long-winded, but I think the panel does a nice job deciphering and answering. 

The film’s trailer, the discussion, and the Q&A with the audience are all worth watching.

Film Trailer

Discussion

Q&A 1

Q&A 2

Q&A 3

Q&A 4

My latest article on Cuba and the US is out. Here I explore corporate governance and compliance issues for US companies. In May, I made my third trip to Cuba in a year to do further research on rule of law and investor concerns for my current work in progress.

In the meantime, please feel free to email me your comments or thoughts at mnarine@stu.edu on my latest piece
Download Here

The abstract is below:

The list of companies exploring business opportunities in Cuba reads like a who’s who of household names- Starwood Hotels, Netflix, Jet Blue, Carnival, Google, and AirBnB are either conducting business or have publicly announced plans to do so now that the Obama administration has normalized relations with Cuba. The 1962 embargo and the 1996 Helm-Burton Act remain in place, but companies are preparing for or have already been taking advantage of the new legal exemptions that ban business with Cuba. Many firms, however, may not be focusing on the corporate governance and compliance challenges of doing business in Cuba. This Essay will briefly discuss the pitfalls related to doing business with state-owned enterprises like those in Cuba; the particular complexity of doing business in Cuba; and the challenges of complying with US anti-bribery and whistleblower laws in the totalitarian country. I will also raise the possibility that Cuba will return to a state of corporatism and the potential impact that could have on compliance and governance programs. I conclude that board members have a fiduciary duty to ensure that their companies comply with existing US law despite these challenges and recommend a code of conduct that can be used for Cuba or any emerging markets which may pose similar difficulties.

    Do partners in a general partnership owe a fiduciary duty of loyalty to one another?  “Of course!” you say.  “Everyone knows that.”  In one of the most famous passages in business organizations law, Justice Cardozo observed:

Joint adventurers, like copartners, owe to one another, while the enterprise continues, the duty of the finest loyalty.  Many forms of conduct permissible in a workaday world for those acting at arm’s length, are forbidden to those bound by fiduciary ties.  A trustee is held to something stricter than the morals of the market place.  Not honesty alone, but the punctilio of an honor the most sensitive, is then the standard of behavior.  As to this there has developed a tradition that is unbending and inveterate.  Uncompromising rigidity has been the attitude of courts of equity when petitioned to undermine the rule of undivided loyalty by the ‘disintegrating erosion’ of particular exceptions.  Only thus has the level of conduct for fiduciaries been kept at a level higher than that trodden by the crowd.  It will not consciously be lowered by any judgment of this court.

Meinhard v. Salmon, 164 N.E. 545, 546 (N.Y. 1928).

    On its face, RUPA § 404 (1997) seems consistent with Meinhard, as it indicates that “[t]he only fiduciary duties a partner owes to the partnership and the other partners are the duty of loyalty and the duty of care set forth in subsections (b) and (c).”  Even though this language acknowledges a partner-to-partner duty of loyalty, it explicitly blocks that duty from having any meaning.  Indeed, § 404(b) states that a “[a] partner’s duty of loyalty to the partnership and the other partners is limited to the following,” and the situations described all involve harm to the partnership itself—not harm to an individual partner:

(b)  A partner’s duty of loyalty to the partnership and the other partners is limited to the following:

(1) to account to the partnership and hold as trustee for it any property, profit, or benefit derived by the partner in the conduct and winding up of the partnership business or derived from a use by the partner of partnership property, including the appropriation of a partnership opportunity;

(2) to refrain from dealing with the partnership in the conduct or winding up of the partnership business as or on behalf of a party having an interest adverse to the partnership; and

(3) to refrain from competing with the partnership in the conduct of the partnership business before the dissolution of the partnership.

    What does it mean to set forth a duty that is owed to a partner, but that is defined solely by reference to harm to the partnership?  Take an extreme example:  assume that two partners gang up on a third partner and deny that third partner his share of partnership distributions.  Are we really saying that the third partner cannot sue for breach of the fiduciary duty of loyalty because the harm was to him personally and not the partnership?  Perhaps we don’t care because the third partner could surely sue for conversion or, perhaps, breach of the good faith and fair dealing obligation (see RUPA § 404(d)).  Yet the broader point remains—there are countless ways in which majority owners can gang up on minority owners and treat them unfairly.  If that happens in a partnership, and if there is no direct harm to the partnership itself, the duty of loyalty nominally owed to a partner is of no practical use.

    In the 2013 version of RUPA, this problem is squarely addressed.  RUPA § 409(a) (2013) eliminates the “only” fiduciary duties language, and § 409(b) eliminates the “limited to” language for the duty of loyalty.  The Official Comment squarely addresses the issue:

This section originated as UPA (1997) § 404. The 2011 and 2013 Harmonization amendments made one major substantive change; they “un-cabined” fiduciary duty. UPA (1997) § 404 had deviated substantially from UPA (1914) by purporting to codify all fiduciary duties owed by partners. This approach had a number of problems. Most notably, the exhaustive list of fiduciary duties left no room for the fiduciary duty owed by partners to each other – i.e., “the punctilio of an honor the most sensitive”). Meinhard v. Salmon, 164 N.E. 545, 546 (N.Y. 1928). Although UPA (1997) § 404(b) purported to state “[a] partner’s duty of loyalty to the partnership and the other partners” (emphasis added), the three listed duties each protected the partnership and not the partners.

Thus, under RUPA (2013), this problem disappears.  But the majority of jurisdictions still operate under RUPA (1997).  Unless those jurisdictions have eliminated the “cabining in” problem by deleting “only” and “limited to” in their versions of § 404, the problem persists.  And Cardozo would not be happy . . . .