Category: Corporate Law

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Liquidity and Control at Buffett’s Berkshire Hathaway

Warren Buffett’s ownership of Berkshire Hathaway is skewed heavily towards commanding greater voting power rather than a larger slice of the economic interest. He values control more than liquidity and is delighted to have shareholders who prefer liquidity to control to stake their money accordingly.   It is interesting to see the corporate governance tools used to create this structure and precisely how the voting power and economic interests are determined. 

Berkshire Hathaway, like many other corporations, has multiple classes of stock with different economic and voting rights. Berkshire’s Class A has 10,000 times the voting power as its Class B and 1,500 times the economic interest.  All shares are eligible to vote on most shareholder voting matters and there are no further distinctions as to economic rights, such as dividends or liquidation payments. Market prices generally reflect the economic rather than the voting ratio: the Class A shares recently traded at $170,000 per share while the Class B trade at $113 (very close to 1500-to-1).

Many stockholders, including Buffett, own some Class A and some Class B, in part because they exercised the right to convert A to B to give gifts and otherwise manage estate planning.   It is easy to see what portion Buffett or another shareholder has of each Class, simply his number of shares of a Class divided by all shares of that Class. Buffett, for example, owns about forty percent of Berkshire’s Class A shares and a small number of the Class B.

It is more important to know what percentage of the aggregate voting power and economic interest any given shareholder’s stake represents.  So: what percentage of the aggregate voting power and economic interest does Buffett command?  For Berkshire, the answer can be computed using the following formula that reflects the relative weight of the A compared to the B in votes and payouts:

 

Voting Power    =

Number of A Shares Owned + Number of B Shares Owned / 10,000

Total A Shares Outstanding + Total B Shares Outstanding / 10,000

Economic Interest =

Number of A Shares Owned + Number of B Shares Owned / 1,500

Total A Shares Outstanding + Total B Shares Outstanding / 1,500

 

Applied to Buffett (using the most recent proxy statement figures for share information):

 

          Buffett’s Voting Power =

    350,000 + 3,525,623 / 10,000      

892,657 + 1,126,012,136 / 10,000

= 34.9%

 

Buffett’s Economic Interest =

      350,000 + 3,525,623 / 1,500

892,657 + 1,126,012,136 / 1,500

= 21.4%

 

Conversion charts can be created to show the voting power and economic interest of given levels of A and B share ownership.  The following assume the same figures stated above, which can change from time to time as Class A shares are converted into Class B shares or other capital shuffles occur.

 

Class A Power

Shares % ofClass VotingPower EconomicInterest
  250  – 0.04 0.02
  500 .056 0.05 0.03
1000 .112 0.1 0.06
2000 .224 0.2 0.12
3000 .336 0.3 0.18
4000 .448 0.4 0.24
5000 .550 0.5 0.30
6000 .662 0.6 0.36
7000 .784 0.7 0.42
8000 .892 0.8 0.48
9000 1.00 0.9 0.54
10,000 1.12 1.0 0.60
15,000 1.68 1.5 0.91
30,000 3.36 3.0 1.82

                                                                                                 Class B Power

(shares in millions)

Shares % ofClass VotingPower EconomicInterest
  1 0.1 0.04 0.01
  5 0.4 0.20 0.05
10 0.9 0.42 0.1
20 1.8 0.82 0.2
30 2.7 1.22 0.3
40 3.6 1.62 0.4
50 4.4 2.02 0.5
60 5.3 2.42 0.6
70 6.2 2.84 0.7
80 7.1 3.24 0.8

 

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Of Wolfs, Wall Street, Art, and Poser Populists

I was not planning on seeing The Wolf of Wall Street but may have to after reading an op-ed by Christina McDowell, the daughter of Tom Prousalis who was a lawyer in the pump and dump schemes portrayed in the movie. She makes the argument that the film and especially the film makers, Scorsese, DiCaprio, and Winters, have glorified these tactics:

So here’s the deal. You people are dangerous. Your film is a reckless attempt at continuing to pretend that these sorts of schemes are entertaining, even as the country is reeling from yet another round of Wall Street scandals. We want to get lost in what? These phony financiers’ fun sexcapades and coke binges? Come on, we know the truth. This kind of behavior brought America to its knees.

And yet you’re glorifying it — you who call yourselves liberals. You were honored for career excellence and for your cultural influence by the Kennedy Center, Marty. You drive a Honda hybrid, Leo. Did you think about the cultural message you’d be sending when you decided to make this film? You have successfully aligned yourself with an accomplished criminal, a guy who still hasn’t made full restitution to his victims, exacerbating our national obsession with wealth and status and glorifying greed and psychopathic behavior. And don’t even get me started on the incomprehensible way in which your film degrades women, the misogynistic, ass-backwards message you endorse to younger generations of men.

On the one hand, I think McDowell is suggesting that these “liberal” film makers are what I like to call poser populists; lots of lip service to certain ideals but not much beyond that. Maybe that is so. Some artists and writers were horrible in private life but wrote works that capture and celebrate humanity. Do we stop reading them? No. When the opposite is true, however, we may indeed pass up the work. On the other hand, there is the film by itself. Is it that bad?

With McDowell’s critique, I find I may have to see the blasted thing to determine whether it is as lacking substance as it seems. The trailers made the film seem pretty much as McDowell describes. And I happen to find the Scorsese and DiCaprio combo flat film-making. But these images and perspectives of how to conduct one’s life come up in both business associations and professional responsibility. While I believe people should make what they wish for film, T.V., books, etc., if those works become popular, I find I want to know them so I can counter-punch the message or give some context to what students see. Thus I agree with McDowell that creators can exercise judgment in what they make, but once the thing is done, blast it all, I may have to dive in if I want to say “Not for me” and back it up with why.

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Executives Say the Funniest Things

The now week-old expose of disarray in the front-office of the Seattle Mariners contains many great tidbits.  From the discussions of nitpicking the fonts in a powerpoint deck, to the puffery about sabermetrics, it suggests that baseball teams’ front-offices look very much like the rest of corporate america.  And here’s the anecdote to prove it:

“[Team manager Eric] Wedge described how, starting in 2011, [team President Chuck] Armstrong would visit his office and gravely say things like: ‘Howard [Lincoln, the Mariner’s CEO] sent me down here and … we’ve got to win.’

Wedge would shrug in agreement, telling him he wanted to win every night. But he’s like, ‘No, we’ve really got to win. We’ve got to go 5-2 on this trip. We’ve got to win tonight.’”

We’ve really got to win.  Most of the time, it’s more or less optional! Needless to say, in a universe where success is determined by quarterly returns and flexible GAAP accounting, this is exactly the kind of direction that leads to cooking the books.  Sadly for the Mariners, their success was harder to manufacture.

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Individuals & Teams, Carrots & Sticks

I promised Victor Fleisher to return to his reflections on team production. Vic raised the issue of team production and the challenge of monitoring individual performance. In Talent Wants to Be Free I discuss some of these challenges in the connection to my argument that much of what firms try to achieve through restrictive covenants could be achieved through positive incentives:

“Stock options, bonuses, and profit-sharing programs induce loyalty and identification with the company without the negative effects of over-surveillance or over-restriction. Performance-based rewards increase employees’ stake in the company and increase their commitment to the success of the firm. These rewards (and the employee’s personal investment in the firm that is generated by them) can also motivate workers to monitor their co-workers. We now have evidence that companies that use such bonus structures and pay employees stock options outperform comparable companies .”

 But I also warn:

 “[W]hile stock options and bonuses reward hard work, these pay structures also present challenges. Measuring employee performance in innovative settings is a difficult task. One of the risks is that compensation schemes may inadvertently emphasize observable over unobservable outputs. Another risk is that when collaborative efforts are crucial, differential pay based on individual contribution will be counterproductive and impede teamwork, as workers will want to shine individually. Individual compensation incentives might lead employees to hoard information, divert their efforts from the team, and reduce team output. In other words, performance-based pay in some settings risks creating perverse incentives, driving individuals to spend too much time on solo inventions and not enough time collaborating. Even more worrisome is the fear that employees competing for bonus awards will have incentives to actively sabotage one another’s efforts.

A related potential pitfall of providing bonuses for performance and innovative activities is the creation of jealousy and a perception of unfairness among employees. Employees, as all of us do in most aspects of our lives, tend to overestimate their own abilities and efforts. When a select few employees are rewarded unevenly in a large workplace setting, employers risk demoralizing others. Such unintended consequences will vary in corporate and industry cultures across time and place, but they may explain why many companies decide to operate under wage compression structures with relatively narrow variance between their employees’ paychecks. For all of these concerns, the highly innovative software company Atlassian recently replaced individual performance bonuses with higher salaries, an organizational bonus, and stock options, believing that too much of a focus on immediate individual rewards depleted team effort.

Still, despite these risks, for many businesses the carrots of performance-based pay and profit sharing schemes have effectively replaced the sticks of controls. But there is a catch! Cleverly, sticks can be disguised as carrots. The infamous “golden handcuffs”- stock options and deferred compensation with punitive early exit trigger – can operate as de facto restrictive contracts….”

 All this is in line with what Vic is saying about the advantages of organizational forms that encourage longer term attachment. But the fundamental point is that stickiness (or what Vic refers to as soft control) is already quite strong through the firm form itself, along with status quo biases, risk aversion, and search lags. The stickiness has benefits but it also has heavy costs when it is compounded and infused with legal threats.

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A Time for Action: The Double Gain of Freer Regions and the Double Speak about Talent Droughts

As Catherine Fisk and Danielle Citron point out in their thoughtful reviews here and here, the wisdom of freeing talent must go beyond private firm level decisions; beyond the message to corporations about what the benefits of talent mobility, beyond what Frank Pasquale’s smartly spun as “reversing Machiavelli’s famous prescription, Lobel advises the Princes of modern business that it is better to be loved than feared.” To get to an optimal equilibrium of knowledge exchanges and mobility, smart policy is needed and policymakers must to pay attention to research. Both Fisk and Citron raise questions about the likelihood that we will see reforms anytime soon. As Fisk points out — and as her important historical work has skillfully shown, and more recently, as we witness developments in several states including Michigan, Texas and Georgia as well as (again as Fisk and Citron point out) in certain aspects of the pending Restatement of Employment — the movement of law and policy has actually been toward more human capital controls rather than less. This is perhaps unsurprising to many of us. Like with the copyright extension act which was the product of heavyweight lobbying, these shifts were supported by strong interest groups. What is perhaps different with the talent wars is the robust evidence that suggests that everyone, corporations large and small, new and old, can gain from loosening controls. Citron points to an irony that I too have been quite troubled by: the current buzz is about the intense need for talent, the talent drought, the shortage in STEM graduates. As Citron describes, the art and science of recruitment is all the rage. But while we debate reforms in schooling and reforms in immigration policies, we largely neglect to consider a reality of much deadweight loss of through talent controls.

The good news is that not only in Massachusetts, where the governor has just expressed his support in reforming state law to narrow the use of  non-competes, but also in other state legislatures , courts and agencies, we see a greater willingness to think seriously about positive reforms. At the state level, the jurisdictional variations points to the double gain of regions that void or at least strongly narrow the use of non-competes. California for example gains twice: first by encouraging more human capital flow intra-regionally and second, by its willingness to give refuge to employees who have signed non-competes elsewhere. In other words, the positive effects stem not only from having the right policies of setting talent free but also from its comparative advantage vis-à-vis more controlling states. This brain gain effect has been shown empirically: areas that enforce strong post-employment controls have higher rates of departure of inventors to other regions. States that weakly enforce non-competes are on the receiving side of the cream of the crop. One can only hope that legislature and business leaders will take these findings very seriously.

At the federal level, in a novel approach to antitrust the federal government recently took up the investigation of anti-competitive practices between high-tech giants that had agreed not to poach one another’s employee. This in fact relates to Shubha Gosh’s questions about defining competition and the meaning of free and open labor markets. And it is a good moment to pause about the extent to which we encourage secrecy in both private and public organizations. It is a moment in which the spiraling scandals of economic espionage by governments coupled with leaks and demand for more transparency require us to think hard. In this context, Citron is right to raise the question of government 2.0 – for individuals to be committed and motivated to contribute to innovation, they need some assurances that their contributions will not be entirely appropriated by concentrated interests.

1

Talent Wants to Be In Control

Many thanks to Deven and Orly for organizing this online symposium and for letting me join in.  Talent Wants to Be Free is a real tour de force: original and engaging, thoughtful and thought-provoking.  Orly is likely the only person who could have written this book, as it deftly combines research from a variety of academic literatures to make novel observations while at the same time remaining understandable and even approachable.  As other participants have mentioned, I do hope it gets read by policymakers and thought leaders who are contemplating how to bring more innovation to their city, state, or country.  Given the burgeoning interest in entrepreneurship (see, e.g., this program on St. Louis), the book should find a place on many bookshelves.

Since I’m starting in the midst of an already heady discussion, I wanted to build on what Shuba and Vic mentioned about the theory of the firm, as well as Orly’s response.  I argue in a forthcoming paper that our notion of “employment” is completely connected to our idea of the economic firm: you can’t have employees without an employer, and the employer is a firm.  Why do we have these mechanisms for joint production?  The short answer, I think, is that we need firms to facilitate joint production.  There’s only so much we can do on our own, and once we start working together we need legal and economic structures to manage that collaboration.  Shuba and Vic both discuss how the theory of the firm literature might provide an antithesis to Orly’s thesis in terms of the benefits of organized team structures that, to some extent, constrain individual workers. Orly’s response agrees that firms play a useful role, but she argues that much of the existing theory-of-the-firm literature depends on the “orthodox” model of employer protectionism.  However, I think both sides are missing an important aspect of the issue: namely, the governance of firms.

In both academic and popular literature, employers/firms/corporations are characterized as large, faceless institutions that act autonomously in their own self-interest.  But firms are just collections of individuals with various economic and legal relationships who are acting together in the context of a legal entity.  In other words, employers are people too — not individual persons, but groups of people.  Do some of the restrictions we are talking about look less onerous if we think of employers as groups of people?  Let’s take, for example, the work-for-hire doctrine.  Does that doctrine look less punitive if five people create a firm to work together on a collection of projects, and they jointly agree to share their intellectual property rights with one another?  If one of the five breaks the deal and takes off with the rights to a key component of the research, the work-for-hire doctrine looks like it’s pro-employee — at least, for the four other employees involved.  Although Orly’s Evan Brown example (pp. 141-44) looks like blatant opportunism by a large corporation, in other instances employees as a whole may end up better off if one of their number can’t defect to the detriment of the joint enterprise.

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Input Knowledge, Output Information, and the Irony of Under the Radar Expansion of IP

Peter Lee’s thoughtful review of Talent Wants to Be Free goes straight to the heart of the issues. Peter describes a “central irony about information” – so many aspects of our knowledge cannot lend themselves to traditional monopolization through patents and copyright that their appropriation is done under the radar,  through the more dispersed and covert regimes of talent wars rather than the more visible IP wars. We’ve always understood intellectual property law as a bargain: through patents and copyright, we allow monopolization of information for a limited time as a means to the end of encouraging progress in science and art. We understand the costs however and we strive as a society to draw the scope of these exclusive rights very carefully. and deliberately. We have heated public debates about the optimal delineation of patents, and we are witnessing new legislative reforms and significant numbers of recent SCOTUS cases addressing these tradeoffs. But patents are only a sliver of all the information that is needed to sustain innovative industries and creative ventures. Without much debate, the monopolization of knowledge has expanded far beyond the bargain struck in Article I, Section 8 of the Constitution.  Through contractual and regulatory law, human capital – people themselves – their skills and tacit knowledge, their social connections and professional ties, and their creative capacities and inventive potential are all the subject to market attempts, aided by public enforcement, of monopolization. Peter refers to these as tacit versus codified knowledge; I think about inputs, human inventive powers versus outputs – the more tangible iterations of intangible assets – the traditional core IP, which qualifies patentability to items reduced to practice (rather than abstraction) and copyrightable art to expressions (rather than ideas). Cognitive property versus intellectual property, if you will.

Lee is absolutely correct that university tech transfer and its challenges and often discontent is highly revealing in this context of drawing fences around ideas and knowledge. Lee writes “in subtle ways, Orly’s work thus offers a cogent exposition of the limits of patent law and formal technology transfer.” Lee’s recent work on tech transfer Transcending the Tacit Dimension: Patents, Relationships, and Organizational Integration in Technology Transfer, California Law Review 2012 is a must read. Lee shows that “effective technology transfer often involves long-term personal relationships rather than discrete market exchanges. In particular, it explores the significant role of tacit, uncodified knowledge in effectively exploiting patented academic inventions. Markets, patents, and licenses are ill-suited to transferring such tacit knowledge, leading licensees to seek direct relationships with academic inventors themselves.” And Lee’s article also uses the lens of the theory of the firm, the subject of the exchanges here, to illuminate the role of organizational integration in transferring university technologies to the private sector. I think that in both of our works, trade secrets are an elephant in the room. And I hope we continue to think more about how can trade secrets, which have been called the step child of intellectual property, be better analyzed and defined.

Management Wants Precarity: A California Ideology for Employment Law

LaborShareThe reader of Talent Wants to be Free effectively gets two books for the price of one. As one of the top legal scholars on the intersection of employment and intellectual property law, Prof. Lobel skillfully describes key concepts and disputes in both areas. Lobel has distilled years of rigorous, careful legal analysis into a series of narratives, theories, and key concepts. Lobel brings legal ideas to life, dramatizing the workplace tensions between loyalty and commitment, control and creativity, better than any work I’ve encountered over the past decade. Her enthusiasm for the subject matter animates the work throughout, making the book a joy to read. Most of the other participants in this symposium have already commented on how successful this aspect of the book is, so I won’t belabor their points.

Talent Want to Be Free also functions as a second kind of book: a management guide. The ending of the first chapter sets up this project, proposing to advise corporate leaders on how to “meet the challenge” of keeping the best performers from leaving, and how “to react when, inevitably, some of these most talented people become competitors” (26). This is a work not only destined for law schools, but also for business schools: for captains of industry eager for new strategies to deploy in the great game of luring and keeping “talent.” Reversing Machiavelli’s famous prescription, Lobel advises the Princes of modern business that it is better to be loved than feared. They should celebrate mobile workers, and should not seek to bind their top employees with burdensome noncompete clauses. Drawing on the work of social scientists like AnnaLee Saxenian (68), Lobel argues that an ecology of innovation depends on workers’ ability to freely move to where their talents are best appreciated.

For Lobel, many restrictions on the free flow of human capital are becoming just as much of a threat to economic prosperity as excess copyright, patent, and trademark protection. Both sets of laws waste resources combating the free flow of information. A firm that trains its workers may want to require them to stay for several years, to recoup its investment (28-29). But Lobel exposes the costs of such a strategy: human capital controls “restrict careers and connections that are born between people” (32). They can also hurt the development of a local talent pool that could, in all likelihood, redound to the benefit of the would-be controlling firm. Trapped in their firms by rigid Massachusetts’ custom and law, Route 128’s talent tended to stagnate. California refused to enforce noncompete clauses, encouraging its knowledge workers to find the firms best able to use their skills.

I have little doubt that Lobel’s book will be assigned in B-schools from Stanford to Wharton. She tells a consistently positive, upbeat story about management techniques to fraternize the incompatibles of personal fulfillment, profit maximization, and regional advantage. But for every normative term that animates her analysis (labor mobility, freedom of contract, innovation, creative or constructive destruction) there is a shadow term (precarity, exploitation, disruption, waste) that goes unexplored. I want to surface a few of these terms, and explore the degree to which they limit the scope or force of Lobel’s message. My worry is that managers will be receptive to the book not because they want talent to be free in the sense of “free speech,” but rather, in the sense of “free beer:” interchangeable cog(nitive unit)s desperately pitching themselves on MTurk and TaskRabbit.
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Human Capital Law and Innovation Policy

This is a thrilling week for Talent Wants to Be Free. I am incredibly honored and grateful to all the participants of the symposium and especially to Deven Desai for putting it all together. It’s only Monday morning, the first official day of the symposium, and there are already a half a dozen fantastic posts up, all of which offer so much food for thought and so much to respond to. Wow! Before posting responses to the various themes and comments raised in the reviews, I wanted to write a more general introductory post to describe the path, motivation, and goals of writing the book.

Talent Wants to Be Free: Why We Should Learn to Love Leaks, Raids and Free Riding comes at a moment in time in which important developments in markets and research have coincided, pushing us to rethink innovation policy and our approaches to human capital. First, the talent wars are fiercer than ever and the mindset of talent control is rising. The stats about the rise of restrictions over human capital across industries and professions are dramatic.  Talent poaching is global, acquisition marathons increasingly focus on the people and their skills and potential for innovation as much as they look at the existing intellectual property of the company. And corporate espionage is the subject of heated international debates. Second, as a result of critical mass of new empirical studies coming out of business schools, law, psychology, economics, geography, we know so much more today compared to just a few years ago about what supports and what hinders innovation. The theories and insights I develop in the book attempt to bring together my behavioral research and economic analysis of employment law, including my experimental studies about the effects of non-competes on motivation, my theoretical and collaborative experimental studies about employee loyalty and institutional incentives, and my scholarship about the changing world of work, along with theories about endogenous growth and agglomeration economies by leading economists, such as Paul Romer and Michael Porter, and new empieircal field studies by management scholars such as Mark Garmaise, Olav Sorenson, Sampsa Samila, Matt Marx, and Lee Fleming. Third, as several of the posts point out, these are exciting times because legislatures and courts are actually interested in thinking seriously about innovation policy and have become more receptive to new evidence about the potential for better reforms.

As someone who teaches and writes in the fields of employment law, I wrote the book in the hopes that we can move beyond what I viewed as a stale conversation that framed these issues of non-competes, worker mobility, trade secrets and ownership over ideas  as labor versus business; protectionism versus free markets (as is often the case with other key areas of my research such as whistleblowing and discrimination). A primary goal was to shift the debate to include questions about how human capital law affects competitiveness and growth more generally. Writing about work policy, my first and foremost goal is to understand the nature of work in its many evolving iterations. Often in these debates we get sidetracked. While we have an active ongoing debate about the right scope of intellectual property, under the radar human capital controls have been expanding, largely without serious public conversation. My hope has been to encourage broad and sophisticated exchanges between legal scholars, policymakers, business leaders, investors, and innovators.

And still, there is so much more to do! The participants of the symposium are pushing me forward with next steps. The exchanges this week will certainly help crystalize a lot of the questions that were beyond the scope of the single book and several new projects are already underway. I will mention in closing a couple of other colleagues who have written about the book elsewhere and hope they too will join in the conversation. These include a thoughtful review by Raizel Liebler on The Learned FanGirl, a Q&A with CO’s Dan Solove, and other advance reviews here. Once again, let me say how grateful and appreciative I am to all the participants. Nothing is more rewarding.

5

Corporate Personhood is not the Enemy

The recent Citizens United decision has spawned a wave of really awful political critique, mostly from progressive writers and activists. A news story from earlier this year highlights one of the wackier critiques, in which a man drove in the carpool lane along with a copy of Articles of Incorporation. When pulled over, he turned it into a media event:

Your honor, according to the vehicle code definition and legal sources, I did have a ‘person’ in my car.But Officer ‘so-and-so’ believes I did NOT have another person in my car. If you rule in his favor, you are saying that corporations are not persons.

The carpool-lane stunt is probably the most over-the-top of responses, but many other critics have weighed in. For instance, the Occupy movement passed a resolution against corporate personhood, while an internet petition to “end corporate personhood” has garnered hundreds of thousands of signatures. Clearly, many people are deeply upset about the idea of corporate personhood.

They’re also, as a general matter, deeply misguided. Read More