Beginning in the late 1980s, when I was in practice, I and other lawyers participated in incubating the market for financial derivatives and securitization transactions. In the beginning, these deals were nowhere near as exciting as the same period’s newly-exciting mergers and acquisitions and finance practices. We would prepare one-off interest rate swap form contracts on a small scale. We would package credit card accounts receivable into pools for sale [...]]]> Causes of the worldwide credit crisis include, perhaps dominantly, the proliferation of innovative financial contracts, purportedly devices that would reduce financial risk but that instead backfired to concentrate and intensify it on a galactic scale. What role did corporate law culture play in this part of the cause? Was it too exciting? Should it be duller?

Beginning in the late 1980s, when I was in practice, I and other lawyers participated in incubating the market for financial derivatives and securitization transactions. In the beginning, these deals were nowhere near as exciting as the same period’s newly-exciting mergers and acquisitions and finance practices. We would prepare one-off interest rate swap form contracts on a small scale. We would package credit card accounts receivable into pools for sale to investors. But this practice area became increasingly exciting through the 1990s and 2000s as derivatives and securitization deals proliferated and came to form whole departments in law firms, rivaling mergers and acquisitions groups in glamour and revenue.

In the early 1990s, when I entered corporate law teaching, there was much exciting academic work being done, the culmination of what Yale corporate law scholar Roberta Romano heralded as a “revolution” in corporate law scholarship which, in the 1960s and 1970s, at least, had been dull. In that earlier period, the focus, in practice and the academy, was merely on positive, doctrinal law, mostly statutes, and on the old-fashioned duties managers owed to shareholders, often meaning practicing lawyers telling creative clients “no” when innovative ideas would violate longstanding duties.

Beginning in the 1980s, the focus in both turned to innovative deals, especially highly-leveraged hostile takeovers and what courts should do about them. Scholarship studied market behavior, looking empirically at deal effects on stock prices, how quickly and accurately information was absorbed into stock prices, how to measure investment risk and value. Important strands of this scholarship, and resulting law, urged facilitating these debt-financed deals.

In practice and scholarship, intensifying through the 1980s and into the 1990s, transactional and financial innovation was the rage. Corporate lawyers turned innovative, cutting edge, exciting, doing deals, developing new contractual devices for financial products—including those I worked on. Corporate law scholars took up finance theory with alacrity, doing exciting research showing how this innovation worked, with many producers and devotees of this work arguing how law should give it maximal space to flourish (though there were dissenters from this dominant view, including me).

As recently as 2005, Professor Romano, a leading scholar in this dominant style, urged doing more of it, more innovative financial engineering in practice and more finance oriented and exciting research in the academy. Professor Romano urged law schools to develop programs in law and finance to assist promoting this excitement, in practice and research, reporting how her school created a degree program in law and finance to seal the exciting links between law and finance and between cutting-edge law practice and legal scholarship.

Earlier this year, on a corporate law panel at the annual meeting of the Association of American Law Schools, though, Professor Romano said the program had attracted little interest among students. As Matt Bodie reports, panel discussion included talk of how the exciting finance models had failed and yet how problematic it is to design corporate law absent reliable empirical information. Professor Bodie wisely wondered whether these facts and lamentations spelled the end of the “revolution” in corporate law—a “post-post-revolution” period.

That makes me wonder, is it an inherent virtue for corporate law practice and scholarship to be exciting, or is being dull okay? Would the world be better off if more participants in corporate life were as dull as corporate lawyers used to be? Is it okay to tell clients “no, you can’t do that,” or, as I recall one stodgy old Cravath lawyer tell a client back in the late 1980s, “you can do that, but be prepared to go to jail”?

An old joke says every financial crisis needs an accounting culprit to blame. The current crisis may be attributable instead to the dominance of modern finance theory and subordination of traditional accounting principles. Two generations of finance theorists—in business and law schools—developed elaborate models to measure and manage risk in a theoretical world of efficient markets where accounting is not relevant.

Yet two strange twists have arisen—one showing the intellectual limits of the finance story and the other the dark art of making accounting into a political issue. Both concern debate over how to measure financial assets on a balance sheet—the so-called fair value debate.

First, for decades, proponents of modern finance theory urged standard setters to direct asset measurements using fair value rather than applying traditional [...]]]>

An old joke says every financial crisis needs an accounting culprit to blame. The current crisis may be attributable instead to the dominance of modern finance theory and subordination of traditional accounting principles. Two generations of finance theorists—in business and law schools—developed elaborate models to measure and manage risk in a theoretical world of efficient markets where accounting is not relevant.

Yet two strange twists have arisen—one showing the intellectual limits of the finance story and the other the dark art of making accounting into a political issue. Both concern debate over how to measure financial assets on a balance sheet—the so-called fair value debate.

First, for decades, proponents of modern finance theory urged standard setters to direct asset measurements using fair value rather than applying traditional accounting conventions. The prescription was based on assertions that emphasized the reliability of efficient markets to reveal relevant values. Proponents said traditional accounting conventions, using acquisition cost adjusted over time, were comparatively impoverished.

Amid the crisis, those same people shift their stance, now saying fair value measures in stressful markets are either misleading or put downward pressure on values that could render owners of impaired assets, especially banks, insolvent. On its face, this is an admission about the limits of markets to reveal reliable asset values, that modern finance theory is impoverished.

Second, without opining on the merits of measuring assets at fair value or using historical cost accounting conventions, this issue, once again, is turning accounting standard setting into a political expression rather than a professional one. Politicians in Congress, under heavy bank lobbying, pressured the US standard setter [the Financial Accounting Standards Board] to adopt bank-friendly approaches to asset measurement.   Now, Congressional bills  (here, for example, and noted here) contemplate empowering politicians and/or a new federal agency to oversee US accounting standard setting, equipping them with veto rights over any accounting standards the political power consensus disfavors.

Such politicization of accounting, a recurrent threat in the United States that generally is recurrently defeated, is dangerous, as Bill Bratton has explored. Injecting politics into accounting standard setting would not only turn our accounting system into a version of the politically-pockmarked and incomprehensible US tax code, it would diminish the hard-won emphasis on investors as the primary constituent for which accounting standards are adopted.

Examples of hard-won investor focus, and successful resistance to campaigns to make accounting a political product in the US, include (a) accounting for oil companies during the energy crisis of the 1970s, (b) accounting for mergers in the takeover wave of the 1980s, (c) accounting for pensions and employee benefits in the late 1980s after these proliferated and (d) accounting for stock options in the late 1990s and early 2000s after these mushroomed.

In all those contexts, lobbyists got politicians to pressure the independent accounting standard to steer it off its intended course. In each case, however, eventually the standard setter won, retained its position and achieved adoption of accounting standards focused on the needs of investors, rather than parochial interests of managers.

In the current context, the legislative talk is going much further, to create political watch-dog power to oversee the independent standard setter, even giving the federal agency power to veto any standard it does not like. This is a dangerous proposal that should be rejected out of hand.

There is no accounting culprit in the current crisis, a crisis more a product of modern finance theories. Politicians ought to focus on those theories that failed rather than exploit a period of chaos and confusion to alter practices that have succeeded.

Above all, modern finance theories seduce belief that markets, not accounting, matter. Yet the intense and costly political lobbying about what accounting should be also shows that real-world participants know that finance theory’s intellectual elegance masks important drivers of capital allocation.

“In many cities, however, and especially in Athens, the poorer citizens had towards the rich a double hostility, that of envy, and that of traditionalism. The rich were supposed – often with justice – to be impious and immoral; they were subverting ancient beliefs, and probably trying to destroy democracy. It thus happened that political democracy was associated with cultural conservatism, while those who were cultural innovators tended to be political reactionaries. Somewhat the same situation exists in modern America, where Tammany, as a mainly Catholic organization, is engaged in defending traditional theological and ethical dogmas against the assaults of enlightenment. But the enlightened are politically weaker in America than they were in Athens, because they have failed to make [...]]]> Who said the following, and when?

“In many cities, however, and especially in Athens, the poorer citizens had towards the rich a double hostility, that of envy, and that of traditionalism. The rich were supposed – often with justice – to be impious and immoral; they were subverting ancient beliefs, and probably trying to destroy democracy. It thus happened that political democracy was associated with cultural conservatism, while those who were cultural innovators tended to be political reactionaries. Somewhat the same situation exists in modern America, where Tammany, as a mainly Catholic organization, is engaged in defending traditional theological and ethical dogmas against the assaults of enlightenment. But the enlightened are politically weaker in America than they were in Athens, because they have failed to make common cause with the plutocracy. There is, however, one important and highly intellectual class which is concerned with the defense of the plutocracy, namely the class of corporation lawyers. In some respects, their functions are similar to those that were performed in Athens by the Sophists”

The answer follows the jump.

Bertrand Russell, History of Western Philosophy (1945) [quote is from Chapter 10]. Note how Russell’s political frame – probably outdated by the early 1940s – is impossible to apply in our vastly more complicated society.  Additionally, I’ve come to believe, reading Urofsky’s uneven but sometimes brilliant new biography of Brandeis, that the idea of a corporation lawyer in the sense of a lawyer for the situation was largely the invention of that famous progressive jurist.

Volume 57, Issue 1 (October 2009)

Articles

Essay

Comments

Discourse

Th UCLA Law Review is also pleased to announce the launch of a our new website.

The Yale Law Journal Online is pleased to announce the publication of Citizens Not United: The Lack of Stockholder Voluntariness in Corporate Political Speech by Elizabeth Pollman, a Stanford Law Fellow and former practitioner at Latham & Watkins LLP.  Pollman’s piece covers the potential for sweeping changes to corporate political speech law in light of the Supreme Court proceedings in Citizens United v. Federal Election Commission.

When Does This Get Pierced?

If you’ve made it through the content of complaints, some data about who gets sued, and descriptive statistics about wins and losses, you basically are pot committed to this veil piercing project. In this post, I’m going to exploit that commitment by describing the results of our statistical analysis of two different kinds of success that plaintiffs may achieve in veil piercing cases: (1) on motions; and (2) at the case level. If you don’t care to follow me beyond the jump, here’s the bottom line (from our abstract):

“Voluntary creditor causes of action promote veil piercing; LLCs are in very limited circumstances better insulated from veil piercing claims than corporations; undercapitalization is strongly associated with success while conclusory grounds like [...]]]>

When Does This Get Pierced?

If you’ve made it through the content of complaints, some data about who gets sued, and descriptive statistics about wins and losses, you basically are pot committed to this veil piercing project. In this post, I’m going to exploit that commitment by describing the results of our statistical analysis of two different kinds of success that plaintiffs may achieve in veil piercing cases: (1) on motions; and (2) at the case level. If you don’t care to follow me beyond the jump, here’s the bottom line (from our abstract):

“Voluntary creditor causes of action promote veil piercing; LLCs are in very limited circumstances better insulated from veil piercing claims than corporations; undercapitalization is strongly associated with success while conclusory grounds like “façade” and “sham” are not; and defendants’ legal sophistication is predictive of plaintiff failure. Extra-legal factors play a more striking and counterintuitive role. Plaintiffs suing companies with few employees are much more likely to win veil piercing motions, and obtain relief in cases, than plaintiffs suing companies employing many workers. This results holds even when controlling for legally-relevant variables. Contrary to both theory and previous empirical work, we also find that judicial liberalism is inversely related to the likelihood of plaintiff success.”

Veil Piercing Motions

Let’s start with the motions level. We ran a logistic regression, where the dependant variable is plaintiff succeeding at the motions level – - either advancing the veil piercing case (e.g., getting VP discovery), or actually winning – - and a number of our variables of interest reach statistical significance (at p ≤ 0.05 (two-tailed)), including judge ideology, defendant firm size, voluntary creditor-based causes of action, and the presence of the shell, façade, and undercapitalization grounds for piercing in the complaint.* Generally, and in accord with our theory, we get much better model performance when we look at motions-level success than at case-level success.

What does this mean?  Well, consider the effect of being a veil piercing target with more (or less) employees.  For example, the figure indicates that the probability of successfully asserting a veil piercing motion against companies with less than 300 employees being is around 0.80. For companies with more than 2100 employees, that number drops below 0.20.  These results hold when controlling for variables like “being an LLC, or not”, “being incorporated in Delaware, or not”, asserting “informalities as a ground in the complaint, or not”, etc.

By contrast, we find that as a judge’s ideology moves in a conservative direction, the mean likelihood of having successful interstitial veil piercing activity increases.  Motions in cases with very liberal judges have a mean predicted probability of being successful of under 50%, while that probability is around 75% for moderate district court judges and near 95%  for conservative district court judges.  This is, in a word, surprising!

Discrete factors also correlate with success on veil piercing motions.

The bottom portion of the figure to the left contains the plots for the substantive effect of the three veil piercing grounds (in complaints) that have a statistically significant effect on veil piercing motion success: shell, façade, and failure to adequately capitalize (or undercapitalization).  The addition of façade and shell grounds to a veil piercing complaint each provide strong negative effects on the likelihood of veil piercing motions in that case, with a shell ground decreasing the likelihood of veil piercing motion success by over 39%, on average, and a façade ground doing the same by nearly 53%, on average.  Stated undercapitalization grounds have the opposite, albeit more modest, effect.  The addition of an undercapitalization ground to a veil piercing complaint makes an interstitial veil piercing motion 14% more likely to be successful.  We also find (but do not illustrate) that corporations owned by artificial shareholders are more likely to be subject to successful veil piercing motions than LLCs owned by artificial shareholders.

Here’s what this suggests to me: facade and shell grounds in complaint signal/reflect a case that is pretty thin — the grounds are totally conclusory — such claims fall away in cases at higher-than-usual rates.  By contrast, undercapitalization signals a strong case — one that evidences a certain about of seriousness about the veil piercing claim.   With respect to voluntary creditors (i.e., contract claims) recall that plaintiffs can bring both voluntary and involuntary creditor claims in the same complaint.  Still, the expectation from theory was that voluntary creditors ought to win less often than involuntary ones.  We don’t find that.  We find instead that complaints with voluntary creditor causes of action in them are more likely to be associated with veil piercing claims that survive longer.

The corporation-LLC finding is expected.  LLCs are designed to be more informal.  They ought to be pierced less often.

Case Level Success

As I discussed in an earlier post, figuring out what veil piercing success at the case level means is a little bit complicated. We decided to treat veil piercing at the case level as successful if: (1) the veil has been affirmatively pierced by a court through veil piercing motion activity OR (2) when, after veil piercing has been litigated on the record (through motion activity), the case settles while veil piercing is still “alive” in the case (i.e., having never been dismissed or denied).  In the paper, we provide alternative set of results based on the coding of veil piercing success both more narrowly (excluding all settlements) and more broadly (including all settlements where veil piercing is still “alive,” regardless of the affirmative presence of veil piercing motions in the case).

We again find that employee size has an important relationship to success.  Very small firms have a probability of case level veil piercing of around 20%; that number quickly approaches zero as firm size increase. Similarly, the more conservative a district court judge is, the more likely the case he is presiding over is to have a case-level veil piercing success.  This result, of course, mirrors that in the veil piercing motion context.  While the most liberal judge’s case has around a 15% probability of having ultimate veil piercing success, the most conservative judge’s case has around a 30% probability.

Individual factors also matter.  When companies are incorporated in different states from where they operate (holding their size constant) the presence of such sophistication decreases (by about 10%) the likelihood that the firm’s veil will be pierced.  The inclusion of undercapitalization as a ground increases (by about 10%) the likelihood of there being a successful case-level veil piercing.

The last post in this series will discuss these results.

* * *

FN*  We generally do not find statistical significance at the motions level for our variables regarding entity choice,  shareholder identity, defendant sophistication, judge gender or race, appellate court control, or the increased incidence of success when failure to observe formalities, inadequate capitalization, and domination and control were cited as veil piercing grounds against corporations compared to LLCs

There’s value in this approach, not least because opinions shape reality. But there’s a problem too.  Not only are opinions unrepresentative, but they come late in cases.  The result is an extreme form of selection.  It’s not clear (to me, anyway) what the null hypothesis regarding the effect of independent variables  ought to be for late-stage dispositions.

Dockets offer the promise of a different approach: asking which factors correlate [...]]]> If you look at opinions, winning in a veil piercing case is pretty easy to define: did the court agree to pierce the veil, reaching through an entity to its shareholders. If you were inclined, you could model success at those terminal moments in cases, asking which factors (described in the opinions) correlated with courts agreeing to pierce.

There’s value in this approach, not least because opinions shape reality. But there’s a problem too.  Not only are opinions unrepresentative, but they come late in cases.  The result is an extreme form of selection.  It’s not clear (to me, anyway) what the null hypothesis regarding the effect of independent variables  ought to be for late-stage dispositions.

Dockets offer the promise of a different approach: asking which factors correlate with success or failure early in cases.  Further, assuming that adjudicated motions teach the parties about the strength of their cases, and that they settle strategically, we can even start to learn from the timing and incidence of settlement.

In this post, I’m going to relay some descriptive statistics about the veil piercing successes that plaintiffs achieved in our data. (I’m continuing to pull the data and some text from our paper.)  To those who are getting annoyed by all of these posts, I’m sorry!  I’ve been living with this project for a long time — I’m excited to finally share it publicly.

We coded 550 motions raising veil piercing problems, and 580 non-veil piercing motions, in our 690 cases.  Overall, about half of all veil piercing motions result in plaintiffs advancing their veil piercing claims (but not ending the case), about fifteen percent involve judicial determinations against the veil piercing claim, twenty percent success on the merits (if defaults are included), and the remainder of motions were pending at the time of settlement. (Recall that 2 of 3 cases overall ended in settlement).

Excluding defaults, and dropping pending motions, veil piercing litigation is a story of wild early success: plaintiffs prevailed — in one form or another – on approximately 85% of all veil piercing motions in our dataset.  Many cases had their veil piercing claims still “alive” at the time of settlement.  Indeed, using the most liberal definition, which includes settlement after motion practice as victory, 78% of cases resulted in plaintiffs realizing some value from their veil piercing claims.

But very few cases actually led to veil piercing, on the merits, outside of defaults: only 37 cases, out of 690, contained a judicially-enforced veil piercing on the merits.  That’s around 6%.

Moving parties were less likely to win non-veil piercing discovery motions  than veil piercing discovery (a 67% success rate versus 90% in resolved motions) and plaintiffs were less successful at fighting off motions to dismiss (61% plaintiff prevail rate versus 88%) and summary judgment (62% versus 90%).  One explanation for this effect is that veil piercing motions (i.e., demanding VP discovery, or fighting of a motion to dismiss) are somehow not selected out of cases to the same degree that ordinary motions are: defendants either are too attached to them (think they are going to win when they won’t) or plaintiffs insufficiently so (think they lack settlement leverage when they have it).

The advantage of looking at success and failure at the motion-by-motion level is that it promises a chance to move the problem of selection back in cases to a moment where we wouldn’t reasonably expect for plaintiffs and defendants to have a realistic sense of their chances. We can fairly hypothesize that some independent variables — judicial demographics, plaintiffs and defendant characteristics, legal rules and planning — will affect the parties’ respective successes and failures on (say) the grant rate in motions to dismiss.  As I’ll discuss in penultimate post in this series, that intuition turns out to be basically correct.

Confused?  Read the paper!

Starting with the [...]]]> As I described yesterday, Christy Boyd and I have collected a representative sample of veil piercing complaints and have written up some of our analysis of that data in Disputing Limited Liability. Before talking about the meat of the project — the wins and losses — I’ll describe another piece of information that you can extract from complaints but not opinions: who gets sued.  In the 690 cases in our sample, plaintiffs sought to pierce the veil of 870 entities.  With the generous support of Temple’s Law Library, we purchased information about those entities from Dunn & Bradstreet, including the number of employees and revenues per firm, corporate structure, and organizational home.  After the flip, I’ll give you a taste of our findings.

Starting with the basics, approximately eighty-five percent of the entities to be pierced are corporations and thirteen percent are LLCs, meaning that just over two percent compose other forms.  The following figure examines the ownership of such entities, looking only at the domestic corporations and LLCs, and ignoring other entities entirely.

The shareholder makeup of LLC and Corporations to be pierced. This Figure drops other entities (including mostly foreign companies) from the analysis. "Entity Mix" refers to groupings of individual and entity shareholders, or LLCs and Corporations together as shareholders.

Notably, natural people own about equal percentages of the LLCs and Corporations in our data: 70%.  The remainder consists of artificial owners.  This implies, of course, that most veil piercing plaintiffs in our sample seeks to pick the pocket of ordinary people.  Cases in which veil piercing looks more like a bankruptcy consolidation are rare.

Now, you might ask where such companies were incorporated and/or organized.  Based on the work of Jens Dammann and his co-authors, we had believed coming into our analysis that companies might change their legal home depending on a jurisdiction’s treatment of veil piercing claims.  (They would migrate away from liberal jurisdictions and toward strict ones.)  Thus, identifying the state of organization/incorporation was important for our project’s later inferential analysis.

Both of the above figures display the the incorporation/organization choices for entities with a non-trial number of observation in the data.  As you can see, Illinois is a surprisingly prominent entrant.  The reason?  ERISA veil piercing practice by Chicago firms! Otherwise, the picture isn’t all that interesting.  But what happens if we ask whether firms are incorporated/organized in a different jurisdiction from the one that they are doing business in?

The black portion of the bar chart indicates the number of entities in the state that are both incorporated/organized there and that operate there. Light grey indicates that the entity is only incorporated/organized in the state but does not operate there or vice versa. Dark grey shows the number of entities that are operating in the state but for which we do not have data on their state of incorporation/organization.

Here we see that Delaware, which attaches to a very large number of the entities to be pierced, is the operating home to very few.  Such firms are both larger and more legally sophisticated than the mean.  By contrast Illinois, which produces lots of entities to be pierced, is basically represented by very small mom & pop businesses.

The cool thing about this variable is that enables us to get, for each entity in the dataset, a very rough, but very clean, approximation of its legal sophistication.

We also collected information about employment.  Of the firms to be pierced,  fifty-five percent employed ten individuals or less.  Twenty-six percent reported 11-50 employees; six percent had 51-100 employees; seven percent had 501-1000 employees; and four percent had more than 1001 employees.  That last statistic is pretty striking, from a particular point of view. It’s often remarked that in the history of the United States, no one has successfully pierced a public company.  (We have no idea if this is actually true. But it feels true.)  But we observe around 50 cases in our data where someone tried to pierce a firm with more than 1000 employees – some firms employed more than 30,000 workers and were public.  If it’s true that public companies are immune from veil piercing, it’s not for lack of trying.  That might lead you to think of plaintiffs lawyers asserting veil piercing complaints as the Don Quixotes of the commercial litigation bar.  If you take as your measure of success a merits based judicial determination that the veil ought to be pierced, you’d be right.  But, as I hope to convince you in my next post on this topic, that’s the wrong way to think about success.

I thought that I would use my last post to introduce a work-in-progress, titled Voting as Veto (forthcoming early next year in the Mich. L. Rev.). The article began long ago with a simple observation: When my wife and I (pre-baby) had to decide where to go out for dinner, I realized that I rarely had an affirmative preference for a particular restaurant or type of food on a given night. Instead, I found myself acting almost exclusively on what I call “negative [...]]]> It’s been great to guest blog at Concurring Opinions, but unfortunately for me, my stint here has come to a close. I’ve enjoyed it. Thanks to Dan Solove, Danielle Citron, and their colleagues for hosting me during the last couple months.

I thought that I would use my last post to introduce a work-in-progress, titled Voting as Veto (forthcoming early next year in the Mich. L. Rev.). The article began long ago with a simple observation: When my wife and I (pre-baby) had to decide where to go out for dinner, I realized that I rarely had an affirmative preference for a particular restaurant or type of food on a given night. Instead, I found myself acting almost exclusively on what I call “negative preferences,” or preferences against certain outcomes. I mainly preferred not to visit a particular restaurant or have a particular type of food on a given night. Besides the desire to reserve a veto against certain outcomes, I was reasonably indifferent most of the time about where to go otherwise. It struck me that this type of negative preference was probably common in more formal, less mundane contexts for voting that I study in my research. Although there are many forms of voting that implicitly account for negative preferences in various ways, I found very little in the legal and political science literature developing the notion of negative preferences, or systematically assessing a conception of voting as veto. Voting as Veto is my attempt at both.

In addition, I am currently working on a related essay that applies the insights of Voting as Veto to corporate shareholder voting, the subject of public attention in recent months. Unfortunately, I haven’t posted a draft of either piece on SSRN quite yet. Voting as Veto is further along and currently in the middle of the citechecking process, but as a result, it is in many pieces at the moment. However, I plan to post drafts as soon as I can, so please feel free to email me if you have any questions or comments. Thanks again.

Volume 56, Issue 6 (August 2009)

Articles

Overcoming Overdisclosure: Toward Tax Shelter Detection (pdf) Joshua D. Blank

First Amendment Enforcement in Government Institutions and Programs (pdf) Gia B. Lee

Ezra Pound’s Copyright Statute: Perpetual Rights and the Problem of Heirs (pdf) Robert Spoo

Comments

Nonwaiver Agreements After Federal Rule of Evidence 502: A Glance at Quick-Peek and Clawback Agreements (pdf) Jessica Wang

Narrowing the Definition of “Dwelling” Under the Fair Housing Act (pdf) Karen Wong

Addressing Youth Bias Crime (pdf) Jordan Blair Woods

We prepared the supplement with a view towards our next edition, due out in 2010. A lot has happened in this field in those few years and it is a wonderful exercise to bring it all together.

For those teaching Corporations and/or Business Organizations, Linda and are drafting the following letter highlighting what’s new. We are writing it put to let those who use our book, or who might do so, know what they can expect in the supplement and next [...]]]> My co-editor, Linda Smiddy (Vermont), and I are finishing a 135-page 2009 supplement to our casebook, Corporations and Other Business Organizations. This is the first supplement we’ve done since the current 2006 edition, when I joined the book.

We prepared the supplement with a view towards our next edition, due out in 2010. A lot has happened in this field in those few years and it is a wonderful exercise to bring it all together.

For those teaching Corporations and/or Business Organizations, Linda and are drafting the following letter highlighting what’s new. We are writing it put to let those who use our book, or who might do so, know what they can expect in the supplement and next edition.

I’m posting the draft here for the same purpose, and to invite suggestions from current or prospective users of the book on how we can make it more useful. We want to preserve the enormous value put into it by our predecessor editors, the late Larry Soderquist and the late Al Sommer, as well as Pat Chew, while giving it a fresh, thoughtful and still practical utility.

Chapter 1, Agency Principles, boasts extensive new materials. Agency law materials are now primarily based on the new Restatement (Third) of Agency. The supplement provides fresh authors’ notes on implied authority, inherent agency power, and fiduciary obligations.   To reflect these new developments in agency law, the supplement revises our approach to Koval & Koval and also includes three new cases from various jurisdictions around the country, on ratification, vicarious liability in tort and the duty of loyalty (Daynard v. Ness, Motley et al.; Papa John’s Int’l v. McCoy; and Huong Que, Inc. v. Luu).

Chapter 3, Incorporation, now includes a great case on the internal affairs doctrine, the Delaware Supreme Court’s 2005 opinion in VantagePoint Venture Partners. This provides a valuable statement of this fundamental doctrine in an accessible way suitable for early stages of the course.

Chapter 6, Corporate Authority, includes an up-to-date (2006) Delaware case on shareholder inspection rights, Seinfeld v. Verizon, focusing on the question of executive compensation in a likewise relatively early stage of the course. This is a much fresher and more modern opinion for contemporary students to appreciate than the vintage but dated (1971) Pillsbury v. Honeywell, which we propose to delete. Chapter 6 also boasts new authors’ notes on several hot topics: electronic meetings, director elections, digital organizations, and–most dynamic and subject to ongoing change and debate–shareholder access to the ballot for director elections.

Chapter 7, Distributing Corporate Control, adds a very interesting 2006 Massachusetts opinion updating the traditional problems seen in the classic Donahue v. Rodd Electrotype. The case, Brodie v. Johnson, explores remedies for minority shareholder freeze-outs, reversing a lower court decision awarding a buy-out as erroneously putting the aggrieved shareholder in a better position than she reasonably expected. This Chapter also features new authors’ notes updating the law concerning dissolution proceedings and perspectives on contractual control in close corporations.

In Chapter 9, Dividends, we are prepared to retire the old chestnut Randall v. Bailey (1940) as it now appears to be aging poorly–especially for our contemporary students it seems. We have found an excellent replacement in Delaware’s 1997 Klang v. Smith’s Food & Drug Centers case. It is much easier to teach and students find it much easier to learn from.

For Chapter 10, Duty of Care, we note a couple of modest points by including reference to Delaware’s 2009 Gantler v. Stephens decision concerning fiduciary duties of officers–particularly the open issue of whether the business judgment rule applies–and make a cross-reference to Chapter 11 after Caremark as to its enduring status.

Chapter 11, Duty of Loyalty, is considerably enriched by a half dozen new cases and related notes. We think Delaware’s 2006 Benihana opinion is an excellent way to teach the duty of loyalty at this stage and accompany it with what we hope is a clear summary of the law governing interested director transactions across the country. Certainly, as we propose, eliminating the excerpt from Wheelabrator in favor of these materials will make for markedly improved teaching and learning. In addition, we pair up Delaware’s forays into the concept of good faith by presenting a (intensely edited) Disney opinion adjacent to Stone v. Ritter and follow these with three Delaware Chancery Court opinions on executive compensation, including stock options (the Tyson Foods cases and Ryan v. Gifford), to round out the Chapter, along with a brief note on this hot topic of public policy.

Chapter 12, Controlling Shareholders, is supplemented by the very interesting case, although dating to 2001, of Glassman v. Unocal Exploration, for how it advances student knowledge concerning the ease of effectuating short-form mergers under the applicable statutes.

Chapter 13, Changes in Control, is supplemented by both a note on statutory authorization of “force-the-vote” provisions following Caremark plus the very interesting and recent case, Delaware’s 2009 Lyondell Chemical v. Ryan opinion, clarifying some of the perceived mystery about good faith emanating from cases like Disney and Stone and also exploring a contemporary engagement with old favorites like Revlon.

Chapter 17, Proxy Regulation, amplifies the ballot access debate supplemented earlier in Chapter 6 by including the Second Circuit’s prominent 2006 opinion in AFSCME v. AIG. Although debate over ballot access and current SEC rulemaking may tend to render some of the case moot, it remains pedagogically and legally valuable on the history, purpose, and structure of the SEC’s shareholder proposal rule and there may be ongoing debate about the federal-state interface concerning proxy access that keeps the case’s utility strong.

Chapter 19, Insider Trading and Other Securities Fraud, is freshened with the Supreme Court’s opinion in Dura Pharmaceuticals, a case on loss causation that readily displaces the current edition’s Stransky v. Cummins Engine.

Now comes the myth-killer, Michael Lewis, with a must-read article in Vanity Fair.  He starts by reminding us that “nearly a year after perhaps the most sensational corporate collapse [...]]]> When students, friends and family have asked me what I think “happened” to cause our current financial crisis, my response has been an embarrassed shrug.  Embarrassed because (as a corporate law teacher) I’m expected to have clear answers.  A shrug because the crisis doesn’t have a obvious anecdote or story that explains it, and lacks a clearly defined evil doer who might be plausibly blamed.  The best candidate – who I’ve thrown out there to quiet persistent friends – is Joe Cassano, formerly head of AIG’s Financial Product’s Division, and the so-called “patient zero” in the crisis.

Now comes the myth-killer, Michael Lewis, with a must-read article in Vanity Fair.  He starts by reminding us that “nearly a year after perhaps the most sensational corporate collapse in the history of finance, a collapse that, without the intervention of the government, would have led to the bankruptcy of every major American financial institution, plus a lot of foreign ones, too, A.I.G.’s losses and the trades that led to them still haven’t been properly explained.”  And he then takes a crack at that problem, suggesting that AIG’s traders (i) made a bad (negligent?) bet on the likely course of the housing market, (ii) didn’t unwind their positions fast enough; (iii) fell victim to a liquidity crunch caused by covenants tied to their AAA rating; (iv) were made into a convenient villain by the media; and (v) like everyone else, were outsmarted by Goldman.

And how about Cassano?  Here’s the key – and dispiriting – paragraph:

[T]he A.I.G. F.P. traders left behind, much as they despise him personally, refuse to believe Cassano was engaged in any kind of fraud. The problem is that they knew him. And they believe that his crime was not mere legal fraudulence but the deeper kind: a need for subservience in others and an unwillingness to acknowledge his own weaknesses. “When he said that he could not envision losses, that we wouldn’t lose a dime, I am positive that he believed that,” says one of the traders. The problem with Joe Cassano wasn’t that he knew he was wrong. It was that it was too important to him that he be right. More than anything, Joe Cassano wanted to be one of Wall Street’s big shots. He wound up being its perfect customer.

“A need for subservience in others and an unwillingness to acknowledge his own weaknesses.” The flip side of authority and confidence, and the hallmarks of an executive who has passed many gates in the corporate advancement tournament.  The law lacks purchase on this kind of evil – if that is what it is.

The bank’s unprecedented reach and power have enabled it to turn all of America into one giant pump-and-dump scam, manipulating whole economic sectors for years at a time, moving the dice game as this or that market collapses, and all the time gorging itself on the unseen costs that are breaking families everywhere — high gas prices, rising consumer credit rates, half-eaten pension funds, mass layoffs, future taxes to pay off bailouts. All that money that you’re losing, [...]]]> That’s how Matt Taibbi describes Goldman Sachs in the opening paragraph of his 12-page Rolling Stone article (which, as far as I can tell, is available online only here, in moderately annoying scanned form). From there, Taibbi picks up steam. For instance, we learn that:

The bank’s unprecedented reach and power have enabled it to turn all of America into one giant pump-and-dump scam, manipulating whole economic sectors for years at a time, moving the dice game as this or that market collapses, and all the time gorging itself on the unseen costs that are breaking families everywhere — high gas prices, rising consumer credit rates, half-eaten pension funds, mass layoffs, future taxes to pay off bailouts. All that money that you’re losing, it’s going somewhere, and in both a literal and a figurative sense, Goldman Sachs is where its going.

Yikes!

Is this just another crackpot conspiracy theory? (Paging Mr. Stein, Mr. Ben Stein.) Nay — Taibbi has give us proof of Goldman’s nefari-iety. It goes more or less along these lines: 1. Goldman survived the Great Depression. 2. Goldman made some savvy bets in the past ten years. 3. Goldman pays really big bonuses.

But wait, you ask, what does that prove? Let’s go over it in detail.

After noting that Goldman Sachs is almost 150 years old, Taibbi pronounces that of Goldman’s first 100 years, “there’s really only one episode that bears scrutiny now,” and then cites John Kenneth Galbraith for the idea that Goldman’s investment trusts were an important part of the Great Depression. So far, so good. (But why exactly would an evil vampire want to blow up its own money-printing scheme? Something about this conspiracy theory doesn’t make sense. Hold that thought for a moment — we’ll get back to it.)

From there, Taibbi jumps to 1999, and begins an analysis of the past ten years. (All of financial history boils down to 1929 and the past ten years, folks.) The breakdown of the last decade proceeds as follows: Taibbi notes that the stock prices during the internet bubble were not always based on sound principles (in other news, the sky is blue); that Goldman helped drive up prices by problematic practices like laddering and spinning; that Goldman put risky debt into overpriced CDOs with badly understood risks; that Goldman’s commodities trading sub made some good bets when oil prices spiked; that regulators were surprisingly compliant with Goldman’s commodity trading; and of course, that Goldman almuni have been heavily involved in the current bailout. Also, repeatedly, that folks at Goldman and other investment banks have made a lot of money, and earned big bonuses. Add it all up, and it is incontrovertible proof that Goldman has taken over the world.

The story also takes swipes at AIG and other entities. And yet, again and again, Taibbi’s narrative runs into the too-many-villains problem. Is AIG a co-vampire? Well, the market crisis has not been particularly good for AIG, to say the least. Taibbi throws stones at Merrill, too (err, the financial services sub of Bank of America) — but he offers no explanation for why these smart vampires (smart enough to take over the world) are so busy drilling holes in their own lifeboats.

And the same goes for not just AIG and Merrill, but for Goldman as well. (Remember what we said earlier about the Depression?) Taibbi’s narrative is one where Goldman deftly rigs the housing market and makes massive profits, only to gleefully blow it up a few years later, because they apparently know that they will be able to rig yet another market. At what point does the supervillain story begin to stretch credulity? If Goldman has the power and acumen to rig the market so well in the first place, why wouldn’t they just keep the rigged game rolling? Apparently the Goldman vampire is smart enough to take over the world every two years, but stupid enough that it continually blows up its own highly profitable and effective schemes — for no reason except the sheer joy of being able to suck the life out of the little guy.

It’s unfortunate, because there really are interesting stories to tell. The CFTC account seems like a fascinating example of the problems of regulatory capture. (Goldman disagrees.) And, as a number of commenters have noted, it’s true that Goldman alumni have been quite effective in shaping and steering the bailout. As Felix Salmon notes, there’s certainly evidence to support a somewhat more staid, less hyperbolic story about regulatory capture. Unfortunately, Taibbi chose to tell a vampire story instead.

(Hat tip to the inimitable Elisabeth for pointing me to the Taibbi article.)

Reinvigoration would be necessary because use of the doctrine of waste to upset corporate transactions is nearly as rare as hen’s teeth. Students of contract law, when beginning to study corporate law, find this rarity strange. They are told corporate law is anchored in fiduciary principles that contrast with contract law’s operating assumption of arms’-length transactions warranting extraordinary judicial deference.

True, standard talk in corporate law jurisprudence concerning both fiduciary duty and waste expresses similar interest in [...]]]> Extravagant corporate expenditures are among salacious details revealed during the  economic crisis, from executive compensation, celebratory parties, office renovations and naming sports stadiums. A few courts, even in Delaware, indicate willingness to police extravagance under the hoary corporate law doctrine of waste, and some observers call for reinvigorating that doctrine.

Reinvigoration would be necessary because use of the doctrine of waste to upset corporate transactions is nearly as rare as hen’s teeth. Students of contract law, when beginning to study corporate law, find this rarity strange. They are told corporate law is anchored in fiduciary principles that contrast with contract law’s operating assumption of arms’-length transactions warranting extraordinary judicial deference.

True, standard talk in corporate law jurisprudence concerning both fiduciary duty and waste expresses similar interest in judicial deference, though emphasizing greater willingness to review corporate transactions to evaluate whether officials act in good faith, with due care, and without promoting self-interest over corporate interest. It may be odd, then, that judicial willingness to police corporate transactions under the doctrine of waste is weaker than within traditional law of contracts, such as its doctrine of substantive unconscionability.

Put differently, the issue can be expressed as what kinship exists or should exist between corporate law’s doctrine of waste and contract law, especially substantive unconscionability. The following notes some familiar ways the two show remarkable kinship and the surprising ways they depart from one another. For those looking to corporate law’s doctrine of waste to promote greater corporate accountability, a modest way would simply take more meaningful lessons from the law of contracts.

Corporate law’s doctrine of waste and contract law’s doctrine of substantive unconscionabilty are rarely-invoked tools used sparingly to upset an exchange transaction. Contract law’s sparing use is based on the principle of freedom of contract, along with doubt about judicial competence to evaluate substance of exchanges and deference to individual actors. Corporate law’s sparing use is based on the principle of business judgment, along with like doubt and deference.

Talk in both doctrines overlaps. First, both bodies of law are averse to gifts, although for different reasons. Contract law’s basic principle of consideration marks off as unenforceable promises to make gifts lacking the indicia of bargain seen as central to enforceable exchange transactions; corporate law’s doctrine of waste prohibits gifts of corporate assets when absence of bargain means the corporation received nothing in exchange.

Second, both bodies of law do not insist on any particular or manifest equivalence of the terms of bargain, enforcing and not upsetting transactions so long as the consideration is minimally adequate. In traditional contract law, this is the peppercorn theory of consideration, and works to the extent that even nominal consideration can perform functions required to separate exchanges from gifts. In both contract and corporate law, the issue is whether there is any consideration and, in corporate law, at least some relation between what the corporation transferred and what it received.

Third, both bodies of law investigate adequacy of consideration issue by posing similar questions using similar syntax. In contracts, an exchange or term may be stricken as substantively unconscionable only if no fair minded person would propose it and no rational person would assent to it. In corporations, a transaction may be upset only if the consideration is so inadequate in value that no person of ordinary sound business judgment would deem it worth what the corporation paid.

Despite affinities, numerous differences appear in these contract and corporate law doctrines. Contract law is quintessentially premised on freedom of exchange and assumes party competency and capacity, so that people lacking the latter traits can elect to be excused from contractual obligation. Corporate law is primarily fiduciary law, premised on the idea that officers and directors act on behalf of the corporation and must advance its and shareholder interests, not personal interests. To that extent, one may expect the otherwise roughly equivalent policing doctrines to be more frequently or robustly used in corporate law than in contract law.

But surveys of casebooks and other resources suggest that may not be the case. Indeed, contract law tends to resort to unconscionabilty doctrine only when no other available grounds exist to provide traditional doctrinal excuse, such as lack of capacity or competency, non-disclosure, misrepresentation, breach of warranty, duress, fraud or mistake. In corporate law, a claim of waste is so difficult to sustain that it rarely is possible to prevail unless there is some other grounds for challenging a transaction, such as breach of the duty of care or loyalty or fraud or ultra vires (corporate law’s functional equivalent to lack of capacity or competency, even more rarely used than waste in modern times).

Finally, contract law’s propensity to use substantive unconscionability to police exchanges intensifies according to a fairly coherent logic. First, it is least likely to be used in true arms’-length transactions, even on lopsided terms, like a grubstake contract that pays off 200:1, even by one of uncertain mental capacity, or an emergency loan contract that pays off 80:1, even in a time of war and famine.

Second, it is more likely that a court in equity, at least, would refuse specific performance of a land sale contract with a value ratio of say 40:1, even if not saying it would refuse to award money damages for its breach.

Third, contract law’s policing becomes most likely when a contract is between those in a confidential or fiduciary relationship, such as brother-sister and business manager-client, as when invoking notions of constructive fraud to refuse enforcement of a land sale contract with a value ratio of as little as 15:1. Similarly, it is most likely when a contract is formed at the urging of a trusted relation, such as a an intimate partner, as to exchange a contractual annuity right for a 1/4 of its face value.  It is also invoked to refuse enforcement of a prenuptial contract on massively lopsided terms.

So contract law’s logic is to become increasingly skeptical of lopsided exchanges as one moves from arms’-length transactions, to those evaluated in equity, and those involving special relationships of confidence, trust and fiduciaries. It is odd, then, that corporate law, fundamentally a fiduciary body of law founded in equity, remains strongly deferential to lopsided exchanges.

Among the few examples of successful invocation of the doctrine of corporate waste are the award to directors of stock options with an exercise period lasting a decade after they leave office or when a corporation allows an executive to discharge a loan in full by repaying only half of it.  At the other end, massive salaries are outside the doctrine, because they so easily meet a longstanding test, stated by the Supreme Court in 1933 (before Erie), denying waste unless there is “no relation” between what the corporation gives and gets.  That is a reason why a Delaware company defeated a claim of waste a few years ago even when it paid a newly recruited executive $140 million for a year’s work that was totally unsatisfactory.

So it is exceedingly difficult for shareholders to win claims of corporate waste. Certainly, it is nearly impossible to sustain such claims to challenge mergers or dividend policy.  Even as to compensation claims, the context of its likeliest utility, success is rare, when adequate consideration can even be found solely from the possibility that an executive may in the future be available to provide consulting services to the corporation.

Contract law’s policing devices for unconscionable bargains is rarely used too, of course, especially concerning substantive terms of exchange. It is more frequently invoked concerning terms of employee or consumer contracts containing obnoxious clauses concerning matters like arbitration or termination. To that point, one difference between contexts these laws address is the lesser perceived need for judicial superintendence and protection of shareholders of corporations compared to consumers, employees and other vulnerable types signing contracts of adhesion containing dense boilerplate overwhelmingly one-sided.

Yet when a large number of American households have increasingly come to rely upon stock ownership as the primary savings vehicle for retirement, especially through employer defined-contribution plans, the difference between consumers, employees and shareholders diminishes. It may be defensible and desirable for courts, even in Delaware, to sharpen, even if slightly, their oversight of corporate decision making under the doctrine of corporate waste.  The basic law of contracts can help.  

At least, I think, there may be an article to write investigating the doctrine and its current and potential kinship with contract law and its doctrine of substantive unconscionability.  Thanks to my RA, Christa Laser, we are researching this possibility this summer.  Thoughts are eagerly welcome on its viability.

Hat Tip: Christa Laser

The remaining 21 lawsuits seem to have results typical to those of most private securities lawsuits:  the defendant wins, usually on a motion to dismiss, which is affirmed by the court of appeals.  Specifically, in 16 cases the defendant was granted relief.  In four cases, the defendant was granted some, but not all, of the relief requested or one defendant was granted relief, but not all.  Of these four cases, no plaintiff won on a core 10b-5 securities law issue (was there reliance?  materiality?  loss causation?).  For example, in one case, the second circuit held that although the federal securities claims were [...]]]> Over at the Conglomerate, Christine Hurt has interesting posts on Judge Sotomayor’s decisions in the securities law arena.  Here is a snippet of her latest post:

The remaining 21 lawsuits seem to have results typical to those of most private securities lawsuits:  the defendant wins, usually on a motion to dismiss, which is affirmed by the court of appeals.  Specifically, in 16 cases the defendant was granted relief.  In four cases, the defendant was granted some, but not all, of the relief requested or one defendant was granted relief, but not all.  Of these four cases, no plaintiff won on a core 10b-5 securities law issue (was there reliance?  materiality?  loss causation?).  For example, in one case, the second circuit held that although the federal securities claims were dismissed, a state law duty existed for a fiduciary duty claim.  In another, several individual defendants were not granted a motion to dismiss on Section 11 claims.  In another, even though the case was dismissed, the court held that the lead plaintiff had standing.  The other case in which plaintiffs won partial relief was Dabit v. Merrill Lynch, which Sotomayor probably got right and the Supreme Court (reversing) probably got wrong.  (My colleague Larry Ribstein’s post on this is here.)  In the one case where the plaintiff won outright, the plaintiff won summary judgment in a bench trial against a foreign bank. 

Although pundits are scouring her other opinions to find judicial activism, there’s none here in the 10b-5 arena.  If we’re worried about the nominee showing empathy instead of following the law, there’s no evidence of runaway shareholder empathy!

A few provisions, while bold and getting most attention, are disclosure and proxy voting matters not far afield from traditional federal securities regulation; but several, getting far less attention, are not only bold but preempt deep inside traditional state corporation law territory.   Starting with the deepest and least discussed:

1.   All directors would have to stand for election annually, changing the prevailing corporation law option to have boards with multiple classes of directors serving staggered [...]]]> Congress appears hungrier to eat into state corporation law than any time since 2002 1933.  More than 2002’s Sarbanes-Oxley Act, the so-called Shareholder Bill of Rights Act of 2009 would invade deeper into areas traditionally known as corporation law, and the province of the states, than since federal securities regulation was created in the 1930s.  

A few provisions, while bold and getting most attention, are disclosure and proxy voting matters not far afield from traditional federal securities regulation; but several, getting far less attention, are not only bold but preempt deep inside traditional state corporation law territory.   Starting with the deepest and least discussed:

1.   All directors would have to stand for election annually, changing the prevailing corporation law option to have boards with multiple classes of directors serving staggered terms.

2.   Boards would be required to have independent risk committees, specifying governance rules state corporation law never does (and even Sarbanes-Oxley’s provisions on board audit committees did not overtly require them but created compelling incentives to have them).  

3.  In uncontested director elections, the voting rule would be a majority of votes cast, changing traditional corporation law’s plurality rule.

4.  The board chair would have to be an independent director, not otherwise employed by the corporation, a requirement unknown to traditional state corporation law.

5.  A provision more nearly within traditional federal securities regulation would require executive disclosure of any special perqs received in connection with business combinations.

6.  Getting heavy attention is a longstanding proposal, kicked around by the SEC for several years, to enable shareholders to use the corporation’s annual proxy statement to nominate directors for election.   The SEC seems poised to act on the issue and Delaware recently amended its corporate code to enable this and for corporations to self-regulate how it works.  This legislation would partly preempt both the SEC and Delaware on this matter.

7.  Getting greatest attention is a longstanding proposal, mooted by governance gurus for years, to enable shareholders to render non-binding votes on top executive compensation, the so-called say-on-pay provision.

Numbers 6 and 7 are getting most attention and may warrant attention.  But they address subjects (as number 5 does) within or close to traditional federal securities regulation.  The others invade more deeply into state corporation law than any extant federal securities regulation provisions. 

The current environment in Washington is not being kind to Delaware, long the leading producer of state corporation law in the US.  It will be interesting to study forthcoming Delaware corporate law judicial opinions to detect for any response from the judiciary of the Vice President’s home state to this incremental preemption.

The issue is whether the amount and form of consideration a corporation, through its board, pays its employees, including executives, is a subject sufficiently affecting interstate commerce to authorize Congress and the President to regulate under the commerce clause.

The activities of large corporations and trading in their securities involve interstate commerce. So there’s little doubt that federal securities laws or various other laws regulating related activities pass muster.

But employee pay, particularly highest-paid executives? That is a matter concerning the internal affairs of the corporation. It implicates that conflict of law principle, which enjoys a [...]]]> Over at the Wall Street Journal Deal Journal Blog, Michael Corkery speculates how federal law limiting private corporation executive compensation may be unconstitutional.

The issue is whether the amount and form of consideration a corporation, through its board, pays its employees, including executives, is a subject sufficiently affecting interstate commerce to authorize Congress and the President to regulate under the commerce clause.

The activities of large corporations and trading in their securities involve interstate commerce. So there’s little doubt that federal securities laws or various other laws regulating related activities pass muster.

But employee pay, particularly highest-paid executives? That is a matter concerning the internal affairs of the corporation. It implicates that conflict of law principle, which enjoys a respectable pedigree, including in constitutional law.

Obama’s proposals to cap pay for various companies would apply whether or not the federal government has invested funds in them, using debt or equity. The proposals may not be unconstitutional.

But they differ from securities law disclosure requirements and even Sarbanes-Oxley Act provisions about board independence and board supervision of auditors. Those creep into internal affairs yet the underlying accounting issues addressed involve capital allocation issues whose affect on interstate commerce is more clear cut than what to pay people.