Over the past several years, I have been spending a great deal of time reading sophisticated financial contracts, mostly in the venture capital arena. More than once I have asked myself, "What makes a well-drafted contract?"
- Internal consistency? This is a modest aspiration, but if you don't live in the world of contracts, you might be surprised to learn how often it doesn't happen.
- Accuracy in memorializing the agreement of the parties? Perhaps, though most (all?) sophisticated financial contracts must be much more than that since these contracts contain many terms never discussed by the parties.
- Effectiveness in guiding future actions of the parties without generating disputes over the meaning of the contract? This would be a significant accomplishment, I suppose, even though we know that contracting parties often make midstream adjustments to their relationship. Implicit in this standard is the idea that a well-drafted contract could be interpreted by an independent third party (i.e., a judge) to discover the terms of the bargain.
In his classic article, Value Creation By Business Lawyers: Legal Skills And Asset Pricing, 94 Yale L.J. 239 (1984), Ron Gilson suggests a more ambitious standard: a well-drafted contract economizes transaction costs. In Ron's words: "the tie between legal skills and transaction value is the business lawyer's ability to create a transactional structure which reduces transaction costs and therefore results in more accurate asset pricing."
If you were reading closely, you may have noticed that Ron connects legal skills with transaction value, thus raising the obvious question: why are legal skills required to perform "transaction cost engineering"? Ron has an answer:
The critical importance of transactional structure for purpose of regulation provides the core of an explanation for lawyers' domination of the role of transaction cost engineer. Because the lawyer must play an important role in designing the structure of the transaction in order to assure the desired regulatory treatment, economies of scope should cause the nonregulatory aspects of transactional structuring to gravitate to the lawyer as well. Knowledge of alternative transactional forms and skill as translating the desired form into appropriate documents are as central to engineering transactions for the purpose of reducing transaction costs as for the purpose of reducing regulatory costs; indeed, if these purposes is one or another way conflict, facility at both tasks should result in more optimal trade-offs between them. Viewing the matter from this perspective, it would have been surprising if lawyers had not dominated the field.
This is very clever, and I think it also has the virtue of being right. Which leads me to Usha's post from last week in which she despaired of being "lost in a casebook world." In 1984, Ron asked, "why have law schools done so bad a job in training business lawyers?" His answer was that the absence of a theory of private ordering made classroom instruction no more valuable than apprenticeship. The advent of transaction cost economics, however, emboldened Ron to "present a fairly optimistic picture of the future of this component of the legal academy and profession."
Has that promise been fulfilled? My sense is that things have changed significantly since 1984, partly due to Ron's and Victor Goldberg's initiative in starting the Deals course at Columbia, a version of which Vic still teaches. That course (which was discussed at a AALS conference on transactional law held during my second year of teaching) inspired much of my experimentation with teaching transactions, and I know that many other law professors are also teaching transactional courses and introducing transactions into mainstream courses. The proliferation of business law clinics is also a happy development.
Yet, I believe we have some distance to travel before we obtain Ron's aspiration for the training of business lawyers. The vast majority of law students still graduate without significant transactional training. Standards for "best practices" in transactional training do not exist, and as a result, training opportunities vary widely, from heavily theoretical to almost exclusively practical. Finally, materials are mostly homemade, thus requiring a significant investment of additional time to teach such a course.
Where do we go from here? I would be very interested to hear thoughts about next steps. Not just baby steps, like using HBS case studies in Bizorgs, but big steps. How do we take transactional training to the masses?
Oh, and if you would be interested in helping me to organize another AALS conference on transactional law, let me know. It's overdue.
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