Working Papers 141-150
141. Bloomer Girl Revisited or How to Frame an Unmade Picture (Goldberg, Victor P.)
The standard analysis of Parker v. Twentieth Century Fox follows the court in focusing on whether the substitute employment offered Shirley MacLaine was "different and inferior" from that which she had initally contracted for. That, this paper argues, was the wrong question. The court managed to produce the right outcome, but through convoluted reasoning that failed to recognize the essential feature of the contract. The contract had a "pay-or-play" provision by which the studio, in effect, purchased an option on her time; they would pay her to be ready to make a particular film, but they made no promise to actually use her in making the film. Cancellation did not entail breach, and, therefore, it was unnecessary to ask whether she had failed to mitigate.
The paper traces the case through the courts, showing how the attention paid the pay-or-play feature declined. It then analyzes the economics of the pay-or-play clause. The clause gives the studio an option, giving it the flexibility to adapt or to abandon a project. The pay-or-play clause is a nuanced balancing of the studio's need for flexibility against the artist's reliance. Working Paper No.141.pdf
142. In Search of Best Efforts: Reinterpreting Bloor v. Falstaff (Goldberg, Victor P.)
Bloor v. Falstaff has become the standard casebook example of judicial interpretation of a "best efforts" clause. The court held that Falstaff's lackluster promotional efforts for Ballantine beer violated its "best efforts covenant, a result that has met with near universal approval. However, when the problem is properly framed, the decision is clearly wrong. The court's failure to consider the purpose of the transaction led it astray. Falstaff almost certainly did not breach its obligation.
The essential feature of the contract is that Ballantine was exiting the beer business and was making a one-shot sale of some of its assets to Falstaff. Ballantine wanted to receive the highest possible price and, other things equal, the fewer post-sale restrictions on Falstaff's exploitation of the assets, the more Falstaff would be willing to pay. So, any restriction, like the best efforts clause, immediately raises a red flag: how might the particular restriction raise the value of the Ballantine assets, ex ante? The deal included an "earnout" designed to cope with the information asymmetries inherent in the transaction. A significant part of Ballantine's compensation was in the form of a per barrel royalty. The role of the best efforts clause was to guard against the possibility that Falstaff could obtain the value from the Ballantine assets in a manner which bypassed the royalty. The poor performance of Ballantine beer post-acquisition was due not to Falstaff's diversion of revenue, but to the poor quality of the Ballantine assets (and the changing conditions in the beer industry). Working Paper No.142.pdf
143. Board Independence and Long-Term Performance (Bhagat, Sanjai and Bernard S. Black) Previous version was titled: Do Independent Directors Matter? (WP # 112)
The boards of directors of American public companies are dominated by independent directors. Moreover, many commentators and institutional investors believe that independent directors should be even more numerically dominant on public company boards than they are today. We conduct the first large sample, long-horizon study of whether board independence (proxied by a "difference" variable equal to proportion of independent directors minus proportion of inside directors) correlates with the long-term performance of large American firms. Contrary to conventional wisdom, we find a negative correlation between board independence and various measures of firm performance and growth. This suggests that the current focus on board independence could be leading firms to employ too many independent directors and too few inside directors. Working Paper No.143.pdf
144. The Future as History: The Prospects for Global Convergence in Corporate Governance and its Implications (Coffee, John C. Jr.) Published in Northwestern University Law Review, Vol. 93, No. 3, pp. 641-708, Spring 1999
No Abstract Available Working Paper No.144.pdf
146. Obviousness and New Technologies (Kasdan, John)
The recent Court of Appeals for the Federal Circuit ("CAFC") decision in State Street Bank and Trust Co. v. Signature Financial Group has opened up a new area, methods of doing business, as patentable subject matter. This paper explores the institutional competence of the United States Patent Office ("USPTO") and the CAFC to administer patents in this new field. Analogies are drawn with another new technology, computer programming, which was only recently made eligible for patent protection. It is argued that entrenched doctrinal methods in the CAFC and historical staffing preferences in the USPTO make it likely that patents will be granted on innovations that are obvious, at least in the non-technical sense of that word. A suggestion is made for a legislative change which might ameliorate the problems caused by such patents, if they are issued, and the paper concludes with some speculations on the extent of the possible harm from such patents. Working Paper No.146.pdf
147. Executives and Hedging: The Fragile Legal Foundation of Incentive Compatibility (Schizer, David M.) Published in Columbia Law Review, Vol. 100 No. 2, pp. 440-504, March 2000 Please consult author before citing this working draft of November 7, 1999. Comments are welcome at (212) 854-2599 or firstname.lastname@example.org
In the capital markets, the 1990s have been the decade of executive stock options and the derivatives market. Legal scholars and economists have begun to realize that, in combination, these two trends raise a serious concern. Options are supposed to inspire better performance by tying pay to the stock price. Yet, what if an executive could use the derivatives market to simulate a sale of her option - a practice known as "hedging" - without violating her contract with the firm? The incentive justification for option grants would no longer hold.
This Article demonstrates that the tax law helps avert this consequence in the United States; this phenomenon, in turn, shows that the U.S. tax law performs an important corporate governance function, not previously recognized in the academic literature. The tax law discourages executives from hedging options (but not necessarily from hedging stock holdings, although such hedging raises somewhat different concerns). Whereas shareholders and executives should contract to ban options hedging, the existing tax barrier is a plausible substitute. Indeed, since the tax law already has reason to monitor and penalize hedging, it can perform this corporate governance function without significant new administrative costs. Yet the tax barrier is overbroad and potentially unstable. Indeed, it could unravel due to relatively minor changes in the tax law that seem far removed from corporate governance. Moreover, the tax barrier does not govern foreign executives who are not subject to U.S. tax. Accordingly, this Article recommends strengthening contractual and securities law constraints on hedging. It concludes with reflections about the capacity of tax to influence corporate governance, not only for the worse, as has widely been observed, but also sometimes for the better. This paper available through Columbia Law Review Columbia Law Review
148. Japan's Experience with Deposit Insurance and Failing Banks: Implications for Financial Regulatory Design? (Milhaupt, Curtis J.) March 5, 1999
This paper examines three decades of Japanese experience with deposit insurance and failing banks, and analyzes the implications of that experience for bank safety net reform in other countries. To date, the literature and policy debate on deposit insurance have been heavily colored by U.S. banking history and focus almost exclusively on explicit deposit protection schemes. Analysis of Japan's safety net experience suggests that (a) deposit insurance, for all its flaws, is superior to the real-world alternative -- implicit government protection of depositors and discretionary regulatory intervention in bank distress, (b) a well designed explicit deposit insurance system which includes a credible bank closure policy is the starting point for the design of effective private alternatives to a government-run safety net, and (c) the trend toward greater institutionalization of the Japanese safety net -- culminating in recent legislation to address the financial crisis -- reflects increased political competition and greater emphasis on legal as opposed to reputational systems of economic ordering in that country. Working Paper No.148.pdf
149. Can the Graduated Income Tax Survive Optimal Tax Analysis? (Zelenak, Lawrence and Kemper Moreland) Published in Tax Law Review, Vol. 53, p. 51-, 1999
Optimal tax analysis attempts to find the income tax rate structure which maximizes social welfare, under a chosen social welfare function (which can range from purely utilitarian to a Rawlsian maximin). It provides sophisticated mathematical techniques for balancing the welfare gains from redistribution against the welfare losses from the disincentive effects of taxation. Although the results of optimal tax simulations are sensitive to factual assumptions (relating to the rate at which the marginal utility of money declines, the strength of the disincentive effects of taxation, and the distribution of wage rates) and to the choice of social welfare function, one result is surprisingly robust: the marginal tax rate rises through the bottom decile of the societal wage distribution, but falls as income increases thereafter. These results provide high-level intellectual support for the attack on progressive marginal rates by the flat tax movement. To date, however, optimal tax simulations have uniformly assumed that much or all of the revenue raised by taxation will be used to finance universal cash grants ("demogrants"), and the combined effect of the cash grants and the regressive marginal rate structure has been optimal tax-and-transfer systems with progressivity of average (as contrasted with marginal) tax rates. The paper criticizes the demogrant assumption as politically unrealistic, and considers whether optimal marginal rates would continue to be regressive if demogrants are ruled out on political grounds-i.e., if the only purpose of taxation is to finance non-redistributive governmental functions. The paper reports on the results of a simulation which assumes no demogrants, a poverty-level exemption (zero bracket), and two rate brackets above the exemption. In that case, the second bracket rate should be higher than the first. In other words, without demogrants the optimal two-bracket tax system has progressive marginal rates. Thus the reliance on optimal tax analysis by flat tax proponents is inappropriate, if those proponents do not also support demogrants. The paper also surveys the optimal tax literature for other indications progressive marginal rates may be optimal under non-standard assumptions. In particular, progressive marginal rates may be optimal (even in the context of demogrants) if people care about relative levels of consumption, if there is significant wage uncertainty, or if the distribution of wage rates is different from that usually assumed. Working Paper No.149.pdf
150. The Conception that the Corporation is a Nexus of Contracts, and the Dual Nature of the Firm (Eisenberg, Melvin A.) May 12, 1999 Published in 24 Journal of Corporation Law, P. 819, 1999
In 1976 Michael Jensen and William Meckling first formulated the conception that the corporation is a nexus of contracts in their famous article The Theory of the Firm-: Managerial Behavior, Agency Costs, and Ownership Structure. Since that time, the conception has dominated the law-and-economics literature in corporate law. The validity of this conception, however, cannot be established by economic analysis. That does not make the conception invalid, but it does mean that its validity must be examined along other dimensions. This Article examines the conception along several such dimensions, including its descriptive validity, its bearing on important problems of corporate law, and its intellectual coherence. One thesis of the Article is that the nexus-of-contracts conception is unsatisfactory as a positive -- that is, descriptive -- matter, in part because the corporation has a dual nature. In one aspect, the corporation consists of reciprocal arrangements. In another, it is a bureaucratic hierarchical organization. The nexus-of-contracts conception captures only one of these two aspects of the corporation. The Article also shows the conception lacks intellectual coherence, and often gets in the way of clear thinking by substituting conclusory assertions for careful analysis. Working Paper No.150.pdf