As some of you know, I have been a defender (although perhaps not a staunch one) of student-edited law reviews as a good learning experience for students.  I have worked with students in ways that I really have enjoyed over the years.  I also have had some lousy experiences.  But even I admit that between the overwhelmingly negative blog commentary  (to which I now add), including posts here and here by Steve Bradford here on the BLPB, and the experiences I relate here, I am having trouble sustaining my support for student-edited journals . . . .

Continue Reading Nightmare in Law Review Land . . . .

Received Saturday (edited slightly for publication here):

Dear Colleague,

Please consider submitting your work to the Track “Crowdfunding: a democratic way for financing innovative projects” @ the RnD Management Conference 2015.

The RnD Management Conference 2015 will be held in June 23-26 at Sant’Anna School of Advanced Studies in Pisa.

You can find more information on the Conference Track and on the submission process at the following link: http://www.rnd2015.sssup.it/.

I warmly apologize for cross-posting.

Best regards,

Cristina Rossi Lamastra, PhD

Associate Professor at Politecnico di Milano School of Management

Phone: 0039 0223993972

Fax: 0039 0323992710

Skype: crossi73

Web page: http://www.dig.polimi.it/index.php?id=308&tx_wfqbe_pi1[id]=52

What’s it like to fight the SEC? For 13 years? The defense attorneys in SEC v. Obus, an insider trading case that the SEC lost last spring, try to answer that question in the latest edition of The Review of Securities & Commodities Regulation. (SEC v. Obus: A Case Study on Taking the Government to Trial and Winning, 47 REV. SEC. & COMMOD. REG. 247 (Nov. 5, 2014). (If the case name is familiar to you, it’s probably because in 2012 the Second Circuit issued an important opinion in the case addressing the misappropriation theory of insider trading.)

The article provides a great insider’s view of the case, including suggestions for attorneys fighting SEC actions. The authors’  criticism of the procedures when Obus was required to testify under oath at the SEC is priceless. Obus was not told whether he was a target of the investigation. He was not allowed to review documents to refresh his recollection. His attorneys were not allowed to object to questions (although they apparently did anyway). They were told not to take notes and they were not allowed to review the transcript for errors. Home court advantage and all that, I guess.

If you don’t get the Review, it makes some of its articles available online here. The Obus article is not yet available (the latest article posted is from the October 15 issue), so you might want to check back later.

On Tuesday, in my Financial Crisis seminar, we discussed the types of securities claims that have been filed by investors in mortgage-backed securities.  I opened by telling my students that one of the critical takeaway points is the importance of civil procedure.  The substance of the law matters, sure, but (as I posted when discussing class action standing), cases are won and lost on procedural grounds.

Case in point: Omnicare, Inc. v. Laborers District Council Construction Industry Pension Fund, which was argued before the Supreme Court on Monday.  (Transcript here.)  Omnicare concerns the question of opinion-falsity in the context of claims under Section 11 of the Securities Act of 1933. 

Section 11 of the Securities Act imposes strict liability on issuers who include false statements of material fact in registration statements.  In a case called Virginia Bankshares, Inc. v. Sandberg, the Supreme Court held that even expressions of opinion may count as “material facts” for the purposes of the securities laws – such as, for example, a proxy statement that recommends a merger as “fair” to shareholders.  In Omnicare, the Supreme Court will decide what, exactly, it means for a statement of opinion to be false. Essentially, the dispute is about whether a statement of opinion is only false if it is subjectively disbelieved by the speaker (i.e., if the speaker claims a price is “fair” while secretly believing the price is not fair) or whether a statement of opinion can be false even if the speaker believes it to be true, but the opinion lacks a basis in fact (i.e., the speaker genuinely believes the price to be fair, but has not made any investigation into fairness and so the opinion lacks a factual basis).

Joan Heminway posted about the case here, and I also had a rundown on the issues here (where I argued, at the cert stage, that the issue was not yet ripe for Supreme Court consideration).

Monday’s oral argument had a lot of back and forth about specific states of mind and various types of implied representations.  After all, when you issue an opinion in the context of a securities offering, isn’t there an implied factual representation that you have a basis for that opinion, that’s independent of the speaker’s state of mind?  On the other hand, if a statement does lack a factual basis, isn’t that strong evidence of subjective disbelief? 

And while all of these are interesting existential questions, the really important issue – and what oral argument touched upon – is pleading.

The question of opinion-falsity tends to come up in three different types of private claims under the securities laws.

First, it comes up in the context of Section 11, which imposes strict liability for false statements in registration statements. 

Second, it comes up in the context of Section 14, which imposes liability for false statements in proxy statements.  Most circuits have held that Section 14 liability is rooted in negligence.

Third, it comes up in the context of Section 10(b), which imposes liability for intentionally or recklessly false statements in connection with securities transactions.

Because Section 10(b) requires a showing of scienter, the issues in Omnicare are largely rendered moot for claims under that statute – the plaintiff will have to show intentional or reckless behavior anyway, so “subjective disbelief” gets folded into the scienter inquiry.

Where the “subjective disbelief” issue really makes a difference, therefore, is in the context of Section 11 and Section 14.

Section 14 claims are subject to the heightened pleading requirements of the Private Securities Litigation Reform Act.  That statute requires that plaintiffs plead, with particularity, facts creating a “strong inference” that the defendant acted with the required state of mind.  Some courts have held that negligence is not a state of mind, so this provision does not apply; even if it is, it’s often not a difficult one to plead, even under the PSLRA.

Section 11 claims are not subject to heightened pleading under the PSLRA – they are subject to ordinary standards under the Federal Rules.  Normally, because Section 11 is a strict liability statute, plaintiffs need only plead claims in accordance with Rule 8.  But most circuits agree that when a Section 11 claim “sounds in fraud” – when the plaintiffs seem to be claiming that defendants’ actions were intentional or reckless – then Section 11 claims will be subject to Rule 9(b) pleading standards.  And though there’s a circuit split on the issue, many courts would agree that Rule 9(b) also requires that plaintiffs plead facts giving rise to a “strong inference” of fraud.

If “subjective disbelief” is required to show opinion-falsity, courts are likely to treat that as the equivalent of fraudulent intent, and require heightened pleading for Section 11 and Section 14 claims.

Moreover, for securities claims, all discovery is stayed pending the resolution of a motion to dismiss.  That means that the plaintiffs must not only plead fraudulent intent in great detail, but they must also do so without discovery.

The upshot of all of this is that one of the most significant aspects of Omnicare isn’t what it means for an opinion to be false, and it isn’t the duties imposed on issuers of securities – it’s whether plaintiffs bringing claims under Section 11 and Section 14 are going to be subject to heightened pleading requirements.  This is especially true because the boundaries between what counts as “opinion” and what counts as “fact” are very fuzzy – a point that was made in oral argument.  After all, as I previously posted, the Second Circuit believes that even financial statements are only “opinions.”  If just about anything can be considered an opinion, a requirement that opinions be “subjectively disbelieved” will functionally raise the pleading standards for Section 11 and Section 14 claims across the board.

(Now, the Second Circuit also tried to stake out an odd middle ground, holding both that opinion statements must be “subjectively disbelieved” to be false, and that this “subjective disbelief” is something other than fraudulent intent.  That holding has caused much confusion in the district courts, and it’s difficult to imagine a similar holding coming out of the Omnicare case; and even if Omnicare dodges that point, if the Court holds that “subjective disbelief” is required, the Second Circuit’s view is going to come under considerable pressure.)

In other words, the sleeper issue in this case isn’t the substance of the law – it’s procedure.

 I subscribe to a few helpful law-related listservs:

All of these listservs provide useful information, through the helpful e-mails from the participants. Especially for those of us at business schools, where we do not have many legally trained colleagues, access to the collective wisdom of those on the listserv is invaluable. Occasionally, however, the listservs produce an avalanche of uninteresting e-mails. The LLC listserv allows the option of getting a single weekly digest of the discussion, which I prefer, though the Yahoo! formatting of the digest is unattractive and cumbersome.

What law-related listservs do you enjoy? Any thoughts on the best (free) platform for listservs?

I have previously blogged about Institutional Shareholder Services’ policy survey and noted that a number of business groups, including the Chamber of Commerce, had significant concerns. In case you haven’t read Steve Bainbridge’s posts on the matter, he’s not a fan either. 

Calling the ISS consultation period “a decision in search of a process,” the Chamber released its comment letter to ISS last week, and it cited Bainbridge’s comment letter liberally. Some quotable quotes from the Chamber include:

Under ISS’ revised policy, according to the Consultation, “any single factor that may have previously resulted in a ‘For’ or ‘Against’ recommendation may be mitigated by other positive or negative aspects, respectively.” Of course, there is no delineation of what these “other positive or negative aspects” may be, how they would be weighted, or how they would be applied. This leaves public companies as well as ISS’ clients at sea as to what prompted a determination that previously would have seen ISS oppose more of these proposals. This is a change that would, if enacted, fly in the face of explicit SEC Staff Guidance on the obligations to verify the accuracy and current nature of information utilized in formulating voting recommendations.

The proposed new policy—as yet undefined and undisclosed—is also lacking in any foundation of empirical support… Indeed, a number of studies confirm that there is no empirical support for or against the proposition ISS seems eager to adopt.

[Regarding equity plan scorecards] there is no clear indication on the part of ISS as to what weight it will assign to each category of assessment—cost of plan, plan features, and company grant practices…  this approach benefits ISS (and in particular its’ consulting operations), but does nothing to advance either corporate or shareholder interests or benefits. The Consultation also makes clear that, for all ISS’ purported interest in creating a more “nuanced” approach, in fact the proposed policy fosters a one-size-fits-all system that fails to take into account the different unique needs of companies and their investors.

Proxy votes cast in reliance on proxy voting policies based upon this Consultation cannot—by definition—be reasonably designed to further shareholder values.

ISS had a number of other recommendations but they didn’t raise the ire of Bainbridge and the Chamber. For the record, Steve is angry about the independent chair shareholder proposals, but please read his well-documented posts and judge for yourself whether ISS missed the mark. The ISS’ 2015 US Proxy Voting Guidelines were released today. Personally, I plan to raise some of the Guidelines discussing fee-shifting bylaws and exclusive venue provisions in both my Civil Procedure and Business Associations classes.

Let’s see how the Guidelines affect the next proxy season—the recommendations from the two-week comment period go into effect in February. 

Bear with me while I connect a loose thread between my research interests and the BLPB readership’s broader interests and talk about the legal status of plan advisors to investment accounts (think 401k).  More so than with a traditional benefits plan (think pension) fiduciaries and their corresponding duties raise difficult questions in the context of self-directed retirement accounts (again, think 401k). Standing  between employee/beneficiary and the investment assets are a myriad of third parties servicing the plan– like the employer sponsor, the plan administrator, the record keeper, the plan advisor, the organizational machines of the individual funds listed in the plans.  Each of these parties touch the assets in some way and effect the outcome of the investment at least in some respect.  Not all of these third parties, however, are fiduciaries under ERISA and even those that are, often owe diluted fiduciary duties to beneficiaries due to the “self-direction” that you and I exercise over our retirement accounts by allocating between stocks and bonds or target date funds when we were hired, or annually for those of us that actively monitor our accounts.  (For those ERISA folks out there, forgive this over simplification).

A big legal issue in the world of ERISA and mutual funds (because the two overlap in the context of retirement investing) is liability for fees charged to these accounts. The 2010 Supreme Court case in Jones v. Harris and the pending case Tibble v. Edison Int’l illustrate how big and unsettled these questions are.  

Fees matter because they affect your total return on your investment, and more so than a fund’s past performance, serve as a predictor of how your future investment will fare.  Fiduciary status matters because it helps answer who, if anyone, is response for the fees charged to investors, particularly in the 401k context. 

For service providers to plan, their fiduciary status turns on the functional fiduciary test (as opposed to the named fiduciary like would be the case with the employer sponsor) under ERISA 3(21)(A).  This fact-intensive test requires the service provider have discretionary authority or control over the management of the assets or discretionary responsibility over the administration AND, as the recent cases have played out that the service provider actually exercise that discretion. 

Mass Mutual and ING were recently found to be functional fiduciaries, whereas Morgan Stanley and American United Life Insurance were not (see this summary of recent fee litigation cases).  While it isn’t clear where the legal doctrine will eventually be settled, it is safe to say that this is a big issue in the investment and consumer advocacy circles.  A tremendous pool of capital stands to be effected, one way or another by the outcome of this debate.

In the meantime, Mass Mutual settled it’s excessive fee litigation lawsuit on Friday, October 31st. As a part of the settlement, Mass Mutual agreed to change several business practices for plan sponsors including greater transparency about the actual expense ratio charged, the different class of investment shares, and fee sharaing arrangements. (See the “Changes to Defendants’ Practices and Revisions to the Contracting and Disclosure Documents” section of the settlement agreement begining on page 24).  These settlement terms get to the heart of the fee transaparancy/competition debate in the mutual fund arena (the Seventh Circuit opinon/dissent in Jones is a great recap of this debate).  

Aside from how this may affect your personal retirement account or intersect with your interests in mutual funds, because of the amount of capital in these accounts, the evolving law regarding fees, fiduciaries and duties owed to retirement investors will also impact public operating companies. In other words, this is an area of the law to watch–some exciting stuff is on the horizon.

-Anne Tucker

Back in 2010, Art Durnev published a short paper, The Real Effects of Political Uncertainty: Elections and Investment Sensitivity to Stock Prices, available here.  The article studies the interaction between national elections and corporate investment.  Today is not a national election — we get two more years before we have to choose our next president — but it’s still seems like an apt day to think about the role of elections on corporate activity.

The most interesting part of the article, to me anyway, is the test of the relationship between political uncertainty and firm performance. As the article explains, 

If prices reflect future profitability of investment projects, investment-to-price sensitivity can be interpreted as a measure of the quality of capital allocation. This is because if capital is  allocated efficiently, capital is withdrawn from sectors with poor prospects and invested in profitable sectors. Thus, if political uncertainty reduces investment efficiency, firm performance is likely to suffer. Consistent with this argument, we show that firms that experience a drop in investment-to-price sensitivity during election years perform worse over the two years following elections.

The conclusion: this signifies that political uncertainty significantly impacts real economic outcomes.  Therefore, “political uncertainty can deteriorate company performance because of inferior capital allocation.”

So, it’s election day.  Please vote, regardless of your views.  Voting is a right, a privilege, and duty. And if you’re in charge of a firm’s investment decisions, consider this study.  As we approach the next national election, you might want to be wary of dropping your investment-to-price sensitivity leading up to the next election.  If you do, odds are your firm will do worse in the two years following the election. 

And, while we’re talking presidential politics, here’s another study worth considering: Effects of Election Results on Stock Price Performance: Evidence from 1980 to 2008.  Here’s the abstract (and, please, go vote!):

We analyze whether the results of the 1980 to 2008 U.S. presidential elections influence the stock market performance of eight industries and we examine factors that are expected to affect firms’ stock returns around these elections. Our empirical analysis reflects firms’ exposure to government policies in two ways. First, to determine whether investors presume any Democratic or Republican favoritism towards or biases against certain industries we perform an event study for each of the eight industries around the eight elections. Second, we include the firms’ marginal tax rate as proxy for the firms’ exposure to uncertainty about fiscal policy in a regression analysis. We do not find a consistent pattern in industry returns when comparing the effect of Democratic versus Republican victories. However, the extent of the reaction differs among industries. The victory of a Democratic candidate rather negatively influences overall stock returns, while the results are rather mixed for Republican victories. Furthermore, a change in presidency from either a Democratic to a Republican candidate or from a Republican to a Democratic candidate causes stronger stock market effects than re-election or the election of a president from the same party. We also find that the firms’ marginal tax rate is positively correlated with abnormal stock price returns around the election day. The results are relevant for academics, investors and policy makers alike because they provide insight on the question whether stock market participants respond to expected changes in policy making as a result of presidential elections.