Working Papers 271-280
271. Patterns of Legal Change: Shareholder and Creditor Rights in Transition Economies (Pistor, Katharina) European Business Organization Law Review (EBOR) Vol. 1, No. 1 pp. 59-110, 2004
This paper analyses changes in the legal protection of shareholder and creditor rights in 24 transition economies from 1990 to 1998. It documents differences in the initial conditions and a tendency towards convergence of formal legal rules as the result of extensive legal reforms. Convergence seems to be primarily the result of foreign technical assistance programs as well as of harmonisation requirements for countries wishing to join the European Union. The external supply of legal rules not withstanding, the pattern of legal reforms suggests that law reform has been primarily responsive, or lagging, rather than leading economic development. In comparison, the pre-socialist heritage of transition economies has little explanatory power for the observed patterns of legal change. However, countries with German legal heritage seem to favour creditor over shareholder protection and display substantially better creditor protection than other transition economies. The paper discusses the implications of the response pattern of legal change with externally supplied legal solutions for the prospects of effective law enforcement and compliance with the law in transition economies. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=214654
272. Co-determination in Germany: A Socio-Political Model with Governance Externalities (Pistor, Katharina)
The paper analyzes the socio-political roots of co-determination with special emphasis on the factors that led to the adoption of the 1976 Law, and discusses the impact of this law on corporate governance. The paper argues that co-determination was not designed with firm level corporate governance -- that is the control of management by the owners of the company -- in mind. Rather, its purpose was to bridge the gap between capital and labor in society, or to provide social governance over private capital. It is generally held that co-determination has achieved this socio-political goal. However, co-determination also affects firm level governance, or produces governance externalities. This has become increasingly evident in recent years when -- in times of economic difficulties and international competition -- problems in the existing corporate governance structure surfaced. The paper suggests that while co-determination cannot be made responsible for most of the inherent weaknesses in the existing corporate governance system, it has raised the costs of firm level governance and affected the dynamics among the three major parties involved in corporate control, shareholders, employees, and managers. Management is the party that benefits most from this arrangement, because it is in a position to choose its coalition partner from two fractions, who, because of their inherent antagonism as representatives of labor and capital, are less likely to cooperate with each other. This outcome also casts some doubts over the effectiveness of co-determination as social governance over private capital. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=10322
273. Executive Compensation: If There's a Problem, What's the Remedy? The Case for "Compensation Discussion and Analysis" (Gordon, Jeffrey N.) February, 2006
High levels of executive compensation have triggered an intense debate over whether compensation results primarily from competitive pressures in the market for managerial services or from managerial overreaching. Profs. Lucian Bebchuk and Jesse Fried have advanced the debate with their recent book, Pay Without Performance: The Unfulfilled Promise of Executive Compensation, which forcefully argues that the current compensation levels are best explained by managerial rent-seeking, not by arm's length bargaining designed to create the optimum pay and performance nexus. This paper expresses three sorts of reservations with their analysis and advances its own proposals. First, maximizing shareholder value is not, as a positive or normative matter, a sufficient framework for understanding the controversy or devising a remedy. Second, many of the compensation practices identified by Bebchuk and Fried as veritable "smoking guns" of managerial power may have benign explanations. Third, even accepting that the present corporate governance apparatus needs improvement in the executive compensation area, the better remedy is not a wholesale expansion of shareholder power, but a tailored serious of measures designed to bolster the independence in fact of the compensation committee. Most important, the SEC should require proxy disclosure of a "Compensation Discussion and Analysis" statement (CD&A) signed by the members of the compensation committee (or by the responsible independent directors for firms without a compensation committee). Such a CD&A ought to collect and summarize all compensation elements for each senior executive, providing bottom line analysis. This process "ownership," reputation-staking, and publicity will strengthen the committee's hand against managerial pressure and will elicit both shareholder and public responses that necessarily contribute to the compensation bargain. In addition to the CD&A, serious thought should be given to a shareholder approval vote on the CD&A, following the new UK practice. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=686464 WP273.pdf
274. A Theory of Corporate Scandals: Why the U.S. and Europe Differ (Coffee, John C. Jr.) March 2005
A wave of financial irregularity broke out in the United States in 2001-2002, culminating in the Sarbanes-Oxley Act of 2002. A worldwide stock market bubble burst over this same period, with the actual market decline on a percentage basis being somewhat more severe in Europe. Yet, no corresponding wave of financial scandals involving a similar level of companies broke out in Europe. Indeed, those scandals that did arise in Europe often had American roots (e.g., Vivendi, Ahold, Adecco, etc.). Given the higher level of public and private enforcement in the United States for securities fraud, this contrast seems perplexing. What explains this contrast? This paper submits that different kinds of scandals characterize different systems of corporate governance. In particular, dispersed ownership systems of governance are prone to the forms of earnings management that erupted in the United States, but concentrated ownership systems are much less vulnerable. Instead, the characteristic scandal in concentrated ownership economics is the appropriation of private benefits of control. Here, Parmalat is the representative scandal, just as Enron and WorldCom are the iconic examples of fraud in dispersed ownership regimes. Is this difference meaningful? This article suggests that this difference in the likely source of, and motive for, financial misconduct has implications both for the utility of gatekeepers as reputational intermediaries and for design of legal controls to protect public shareholders. What works in one system will likely not work (at least as well) in the other. The difficulty in achieving auditor independence in a corporation with a controlling shareholder may also imply that minority shareholders in concentrated ownership economies should directly select their own gatekeepers. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=694581
275. Reputation, Malpractice Liability, and Medical Error (Sage, William M.) Accountability: Patient Safety and Policy Reform, Virginia A Sharpe, ed., Georgetown University Press, 2004
Health care providers have strong feelings about medical malpractice litigation, feelings that often seem at odds with measurable characteristics of the malpractice system. These (mis)perceptions influence the delivery of health care, and are therefore socially important notwithstanding their subjectivity. This speculative essay traces such paradoxes of malpractice policy to the concept of reputation, examining both historical trends and potential future developments such as enterprise liability. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=681925
276. Toward a Reform-Minded Model for Securities Law Enforcement (Ford, Cristie L.) March 8, 2005
This paper examines a significant shift in enforcement practice at the United States Securities and Exchange Commission. This shift is a response to a crisis of corporate governance, exemplified by recent scandals among various public corporations and financial services institutions, and to the demonstrated inadequacy of SEC enforcement tools to respond to that crisis. While the SEC's new approach, which I call the Reform Undertaking, is incomplete, I argue that if properly implemented it may have the potential to spur institutional reform not only in corporate governance, but also within Enforcement practice itself. I use the Reform Undertaking as a springboard for developing a larger theoretical model, focusing on the ways in which forward-looking, reform-minded enforcement improves on more traditional, retrospective, nontransparent approaches as a mechanism for addressing systemic problems in corporate governance. I conclude that the Reform Undertaking is a version of what is becoming known as new governance, or experimentalist, regulation. Further, the new enforcement model I describe - which I call the True Reform Undertaking - is a novel elaboration on existing experimentalist theory. Experimentalism is typically associated with a decentralized, data-driven, highly participatory regulatory model, but my work considers its application to the securities law enforcement context. As such, the True Reform Undertaking responds to one of the hardest problems for New Governance: what to do with worst actors. The model considers how to stimulate reform within corporations that for public welfare or other reasons should not simply be shut down, but whose dysfunction or internal culture makes them resistant to experimentalist incentives. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=688004
277. Separation and the Function of Corporation Law (Gilson, Ronald J.) January 2005
This article is part of a symposium in honor of William Klein on the subject of a functional typology of corporation law. Any typology must be animated by an underlying theory whose terms dictate the lines the typology draws. Here the focus is on the level of the theory that might animate the architecture of the grid. In particular, the article addresses the separation theorem, which states the implications of complete capital markets on shareholder preferences concerning corporate investment policy. The proposition is that the presence of markets in the characteristics that determine equity value makes a radical difference in the function played by corporate law, in these circumstances essentially limiting the criteria for good corporate law to a single overriding goal: facilitating the maximization of shareholder wealth. I will illustrate the usefulness of a uni-critierion view of corporate law by briefly taking up two familiar issues that span the corporate law domain: the idea of a stakeholder-oriented board of directors in public corporations and the role of the courts in enforcing the reasonable expectations of private corporation shareholders. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=732832
278. In the Shadow of Delaware? The Rise of Hostile Takeovers in Japan (Milhaupt, Curtis J.) August 1,2005. Forthcoming, Vol. 105 Columbia Law Review (Oct. 2005) Despite longstanding predictions to the contrary, hostile takeovers have arrived in Japan. This essay explains why, and explores the implications of this phenomenon, not only for Japanese corporate governance, but for our understanding of corporate law development around the world today. Delaware law figures prominently in the recent Japanese events. A high profile battle for corporate control has just generated a judicial standard for takeover defenses that might be called a Unocal rule with Japanese characteristics. Meanwhile, ministry-endorsed takeover guidelines have been formulated that adopt wholesale the familiar "threat" and "proportionality" tests under Delaware law, along with virtually every related doctrinal nuance following Unocal. If, as now seems distinctly possible, the world's second largest economy is in the process of embracing hostile M&A, along with Delaware takeover jurisprudence, it represents a remarkable moment for Japan and for the "global" standards movement in corporate governance.
At one level, these developments provide powerful support for convergence theories, illustrating the intellectual appeal of Delaware corporate law's shareholder-oriented model in the world today. But closer analysis suggests that a far more complex, strategic process of legal reform and selective adaptation is under way. The process suggests not so much a convergence of Japanese and Delaware law as a highly unpredictable telescoping and stacking of two decades of Delaware takeover jurisprudence onto existing Japanese institutions—a process whose important features are masked by the prevailing analytical constructs in the comparative corporate governance literature. Successful economies do not abandon their institutions for foreign models, they adapt features of other systems that offer the potential to address emergent shortcomings in their own systems. The true appeal of Delaware corporate law may reside in its suitability to this process of selective adaptation, rather than in its superior shareholder protections. WP278.pdf
279. Understanding Dura (Fox, Merritt B.) July 18, 2005, Forthcoming 60 Bus. Law, August 2005
This Article evaluates the issues remaining open after the recent Supreme Court decision in Dura Pharmaceuticals, Inc. v. Broudo, concerning causation in Rule 10b-5 fraud-on-the- market actions. Analytically, for a positive misstatement to cause an investor to suffer a loss, (1) the misstatement must inflate the market price of a security, (2) the investor must purchase the security at the inflated price, and (3) the investor must not resell the security sufficiently quickly that the price at the time of sale is still inflated. The lower courts have been left the task of designing a comprehensive set of rules concerning what the plaintiff must plead and prove, and the acceptable forms of evidence, concerning each of these critical elements. Dura simply narrowly holds that a plaintiff cannot establish causation merely by pleading and proving that the misstatement inflated price.
One important matter on which the Court expresses no opinion is whether loss causation can ever be established where the price at the time suit is brought (or, if earlier, the time of sale) is higher than the purchase price. The Article concludes that a blanket rule against actions where the price has increased would be inappropriate because there are situations where the price has increased but each of the three critical elements can still be reasonably easily and definitively established. Where one or more of these elements cannot be reasonably easily and definitively established, however, a price increase is a negative piece of evidence and under some specified circumstances a bright line rule barring actions might be appropriate.
The other important matter on which the Court expresses no opinion is whether the plaintiff must plead and prove a price drop immediately following the unambiguous public announcement of the truth. Again, the Article concludes that a blanket rule requiring such a showing is inappropriate. Other ways of demonstrating that the misstatement inflated price are sufficiently reliable that they should be allowed under at least some circumstances. The absence of a price drop after the announcement, however, makes it less clear when the inflation dissipated, which is relevant to whether the plaintiff bought at an inflated price and did not sell at one. Some plaintiffs can show these other elements reasonably easily and definitively in other ways, for example plaintiffs who purchase the security immediately after the misstatement is made and still hold it at the time of the public announcement of its falsity. For ones who cannot, it may be appropriate to ban actions where there is no post announcement price drop. This problem is less critical for class actions because at least minimum losses to the class as a whole can be established without concern as to when the inflation dissipated. WP279.pdf
280. Takeovers in the Boardroom: Burke versus Schumpeter (Gilson, Ronald J. and Reinier H. Kraakman) May 2005
This article was written for a symposium on the occasion of the 25th anniversary of Martin Lipton's 1979 article, Takeover Bids in the Target's Boardroom. In our view, Takeover Bids is a Burkean take on a messy Schumpeterian world that, during 1980s, reached its apex in Drexel Burnham's democratization of finance through the junk bond market. But the irony is that today, long after the Delaware Supreme Court has adopted many of Lipton's views, there is a new market for corporate control that no longer poses the threats - or supports the opportunities - that the market of the 1980s created. Today's strategic bidders and their targets share the same boardroom views. And for precisely this reason, "just say no" is no longer the battle cry that it once was. It stirred the crowds in the past precisely because hostile takeovers could be credibly depicted as a sweeping threat to the status quo - a claim that no one would make about today's strategic bidders. The market for corporate control now is a process of peer review, rather than an instrument of systemic change. What is lost as a result is just what, in the conservative view, has been gained: the capacity of the market for corporate control to ignite the dynamism that in our view has served the U.S. economy so well. Although Lipton may still lose today's battle to allow targets to just say no to intra-establishment takeovers, he will still have won the larger war. For now, at least, boardrooms are insulated from much of the force of a truly Schumpeterian market in corporate control of the sort we briefly glimpsed during the 1980s. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=732783