August 09, 2014
Disruptive Legal Technologies: Benefit Corporations and the Crowdfunding of Firms
Posted by Eric Orts

Two recent developments in the law and practice of business include:  (1) the advent of benefit corporations (and kindred organizational forms) and (2) the application of crowdfunding practices to capital-raising for start-ups.  My thesis here is that these two innovations will become disruptive legal technologies.  In other words, benefit corporations and capital crowdfunding will change the landscape of business organization substantially.

A disruptive technology is one that changes the foundational context of business.  Think of the internet and the rise of Amazon, Google, etc.   Or consider the invention of laptops and the rise of Microsoft and the fall of the old IBM.  Automobiles displace horses, and telephones make the telegraph obsolete.  The Harvard economist Joseph Schumpeter coined a phrase for the phenomenon:  “creative destruction.”

Technologies can be further divided into two types:  physical technologies (e.g., new scientific inventions or mechanical innovations) and social technologies (such as law and accounting).   See Business Persons, p. 1 (citing Richard R. Nelson, Technology, Institutions, and Economic Growth (2005), pp. 153–65, 195–209).  The legal innovations of benefit corporations and capital crowdfunding count as major changes in social technologies.  (Perhaps the biggest legal technological invention remains the corporation itself.)

1.  Benefit corporations began as a nonprofit idea, hatched in my hometown of Philadelphia (actually Berwyn, Pennsylvania, but I’ll claim it as close enough).  A nonprofit organization called B Lab began to offer an independent brand to business firms (somewhat confusingly not limited to corporations) that agree to adopt a “social purpose” as well as the usual self-seeking goal of profit-making.  In addition, a “Certified B Corporation” must meet a transparency requirement of regular reporting on its “social” as well as financial progress.  Other similar efforts include the advent of “low-profit” limited liability companies or L3Cs, which attempt to combine nonprofit/social and profit objectives.  In my theory of business, I label these kind of firms “hybrid social enterprises.”  Business Persons, pp. 206-15.

A significant change occurred in the last few years with the passage of legislation that gave teeth to the benefit corporation idea.  Previously, the nonprofit label for a B Corp required a firm to declare adherence to a corporate constituency statute or to adopt a similar constituency by-law or other governing provision which signaled that a firm’s sense of its business objective extended beyond shareholders or other equity-owners alone.  (One of my first academic articles addressed the topic at an earlier stage.  See “Beyond Shareholders:  Interpreting Corporate Constituency Statutes.”  I also gave a recent video interview on the topic here.)  Beginning in 2010, a number of U.S. states passed formal statutes authorizing benefit corporations.  One recent count finds that twenty-seven states have now passed similar statutes.  California has allowed for an option of all corporations to “opt in” to a “flexible purpose corporation” statute which combines features of benefit corporations and constituency statutes.  Most notably, Delaware – the center of gravity of U.S. incorporations – adopted a benefit corporation statute in the summer of 2013. According to Alicia Plerhoples, fifty-five corporations opted in to the Delaware benefit corporation form within six months.  Better known companies that have chosen to operate as benefit corporations include Method Products in Delaware and Patagonia in California.

2. Crowdfunding firms.  Crowdfunding along the lines of Kickstarter and Indiegogo campaigns for the creation of new products have become commonplace.  And the amounts of capital raised have sometimes been eye-popping.  An article in Forbes relates the recent case of a robotics company raising $1.4 million in three weeks for a new project.  Nonprofit funding for the microfinance of small business ventures in developing countries seems also to be successful.  Kiva is probably the best known example.  (Disclosure:  my family has been an investor in various Kiva projects, and I’ve been surprised and encouraged by the fact that no loans have so far defaulted!)

However, a truly disruptive change in the capital funding of enterprises – perhaps including hybrid social enterprises – may be signaled by the Jumpstart Our Business Start-ups (JOBS) Act passed in 2012. Although it is limited at the moment in terms of the range of investors that may be tapped for crowdfunding (including a $1 million capital limit and sophisticated/wealthy investors requirement), a successful initial run may result in amendments that may begin to change the face of capital fundraising for firms.  Judging from some recent books at least, crowdfunding for new ventures seems to have arrived.  See Kevin Lawton and Dan Marom’s The Crowdfunding Revolution (2012) and Gary Spirer’s Crowdfunding:  The Next Big Thing (2013).

What if easier capital crowdfunding combined with benefit corporation structures?  Is it possible to imagine the construction of new securities markets that would raise capital for benefit corporations -- outside of traditional Wall Street markets where the norm of “shareholder value maximization” rules?  There are some reasons for doubt:  securities regulations change slowly (with the financial status quo more than willing to lobby against disruptive changes) and hopes for “do-good” business models may run into trouble if consumer markets don’t support them strongly.  But it’s at least possible to imagine a different world of business emerging with the energy and commitment of a generation of entrepreneurs who might care about more in their lives than making themselves rich.  Benefit corporations fueled by capital crowdfunding might lead a revolution:  or, less provocatively, may at least challenge traditional business models that for too long have assumed a narrow economic model of profit-maximizing self-interest.  James Surowiecki, in his recent column in The New Yorker, captures a more modest possibility:  “The rise of B corps is a reminder that the idea that corporations should be only lean, mean, profit-maximizing machines isn’t dictated by the inherent nature of capitalism, let alone by human nature.  As individuals, we try to make our work not just profitable but also meaningful. It may be time for more companies to do the same.”

So a combination of hybrid social enterprises and capital crowdfunding doesn’t need to displace all of the traditional modes of doing business to change the world.  If a significant number of entrepreneurs, employees, investors, and customers lock-in to these new social technologies, then they will indeed become “disruptive.”

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August 07, 2014
New Directions in Corporate Disclosure: Politics, Environment, and Religion
Posted by Eric Orts

Corporate disclosure, especially in securities regulation, has been a standard regulatory strategy since the New Deal. Brandeisian “sunlight” has been endorsed widely as a cure for nefarious inside dealings. An impressive apparatus of regulatory disclosure has emerged, including annual and quarterly reports enshrined in Forms 10K and 10Q. Other less comprehensive disclosures are also required: for initial public offerings and various debt issuances, as well as for unexpected events that require an update of available information in the market (Form 8K).

For the most part, corporate disclosure has focused on financial information: for the good and sufficient reason that it is designed to protect investors – especially investors who are relatively small players in large public trading markets. Some doubts have been raised about the effectiveness of this kind of disclosure and, indeed, the effectiveness of mandatory disclosure in general. A recent book by Omri Ben-Shahar and Carl Scheider, More Than You Wanted to Know: The Failure of Mandated Disclosure, advances a wide-ranging attack on all mandatory disclosure. (I think that their attack goes too far: I’ll be coming out with a short review of the book for Penn Law’s RegBlog called “Defending Disclosure”).   Assuming, though, that much financial disclosure makes sense, what about expanding it to include other activities of business firms?

Consider three types of nonfinancial information that might usefully be disclosed: information about a business firm’s activities with respect to politics, the natural environment, and religion.

1. Politics. One good candidate for enhanced corporate disclosure concerns business activities in politics. Lobbying laws require various disclosures, and various campaign finance laws do too. It is possible to obscure actual political spending through the complexity of corporate organization. (For a nice graphic of the Koch brothers’ labyrinth assembled by the Center for Responsive Politics, see here.) Good reporters can ferret out this information – but they need to get access to it in the first place. My colleague Bill Laufer has been an academic leader in an effort to encourage public corporations to disclose political spending voluntarily, with Wharton’s Zicklin Center for Business Ethics Research teaming up with the nonpartisan Center for Political Accountability to rank companies with respect to their transparency about corporate political spending. The rankings have been done for three years now, and there are indications of increased business participation.  Recently, even this voluntary effort has been attacked by business groups such as the U.S. Chamber of Commerce for being “anti-business.” See letter from U.S. Chamber of Commerce quoted here.  Jonathan Macey of Yale Law School has also objected to the rankings in an article in the Wall Street Journal, arguing that the purpose of political disclosure is somehow part of “a continuing war against corporate America.” These objections, however, seem overblown and misplaced. What is so wrong about asking for disclosure about the political spending of business firms? One can Google individuals to see their record of supporting Presidential and Congressional candidates via the Federal Election Commission’s website, yet large businesses should be exempt? Political spending by corporations and other business should be disclosed in virtue of democratic ideals of transparency in the political process. Media, non-profit groups, political parties, and other citizens may then use the resulting information in political debates and election campaigns. Also, it seems reasonable for shareholders to expect to have access to this kind of information.

In Business Persons, I’ve gone further to argue (in chapter 7) that both majority and dissenting opinions in Citizens United appear to support mandatory disclosure as a good compromise strategy for regulation. One can still debate the merits of closer control of corporate spending in politics (and I believe that though business corporations indeed have “rights” to political speech these rights do not necessarily extend to unlimited spending directed toward political campaigns). It seems to me hard to dispute that principles of political democracy – and the transparency of the process – support a law of mandatory disclosure of corporate spending in politics.

2. Natural environment. Increasingly, many large companies are also issuing voluntary reports regarding their environmental performance (and often adding in other “social impact” elements). Annual reports issued under the International Standards Organization (the ISO 14000 series), the Global Reporting Initiative, and the Carbon Disclosure Project are examples. The Environmental Protection Agency (EPA) has also established a mandatory program for greenhouse gas emissions reporting, which is tailored to different industrial sectors. One can argue about whether these kinds of disclosures are sufficiently useful to justify their expense, but my own view is that they help to encourage business firms to take environmental concerns seriously. Many firms use this reporting to enhance their internal efficiency (often leading to financial bottom-line gains). As important, however, is the engagement of firms to consider environmental issues – and encouraging them to act as “part of the solution” rather than simply as a generating part of the problem.

One caveat that is relevant to all nonfinancial disclosure regimes:   The scope of firms required to disclose should be considered.  I do not believe that the case is convincing that only public reporting companies under the securities laws should be included.  (For one influential argument to the contrary, see Cynthia A. Williams, “The Securities and Exchange Commission and Corporate Social Transparency,”  112 Harvard Law Review 1197 (1999)).  Instead, it makes to sense for different agencies appropriate to the particular issue at hand to regulate:  the Federal Election Commission for political disclosures and the EPA for environmental disclosures.

3. Religion? In the wake of the Hobby Lobby case, some have called for greater disclosure about a firm’s values on this score both with respect to employment and investors. See, e.g., Joan Heminway’s piece here. Stephen Bainbridge has also called attention to this question here.  Probably it makes sense to consider disclosure as a partial solution, though the idea of mandatory government disclosure of religious characteristics makes me nervous on “separation of church and state” grounds. It might be better to “wait” (as Frank Partnoy advises us often to do in his recent book) and see how the Hobby Lobby line of cases develops. My guess is that some tensions will become apparent that may result in keeping Hobby Lobby limited to the context of close and usually small corporations (though Hobby Lobby itself is an exception, having more than 10,000 employees).
 
But a rule of disclosure might not be the best approach with respect to religion and firms. Better in this context perhaps to bite the bullet and ascertain when for various legal purposes a business firm “crosses the line” from a private organization (with rights of self-organization and self-determination with respect to many internal business practices) to a public-facing organization (with duties to treat public customers, employees, and business partners in a non-discriminatory manner). These issues are not easy. As I suggest in Business Persons (chapter 3), a central problem in business theory concerns “the public/private distinction” which I conceive as involving “two faces of the business enterprise.” Here, the religious preferences of private owners require balancing with the public role undertaken when holding out one’s shingle in public markets. Drawing legal lines isn’t always easy, but often it’s necessary.  And disclosures alone will not always be sufficient.

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August 05, 2014
The Legal and Social Ontology of the Firm
Posted by Eric Orts

Thanks to Gordon Smith and my Wharton colleague David Zaring for inviting me as a guest blogger on The Conglomerate.  I am a new entrant in the blogosphere here, and I appreciate this invitation very much.

What follows is a written version of remarks that I presented at the Society for Business Ethics in Philadelphia on August 3 at a panel on “Corporate Personhood – For or Against or Whether It Even Matters?” organized by Kendy Hess of Holy Cross.  (Thanks, Kendy!)  The panel also included excellent presentations on the topic by two of my Wharton colleagues, Gwen Gordon and Amy Sepinwall, as well as Kendy.  A longer version will be presented in a conference in London in September, and a written version will also be included in a book that I'm co-editing with Craig Smith called The Moral Responsibility of Firms (forthcoming in Oxford University Press).  It will also inform chapter 1 of a book that is underway (and still forthcoming) currently called Rethinking the Firm: An Interdisciplinary Interpretation (also under contract with OUP). 

In these posts, I've been kindly invited to revisit some themes of my new book on Business Persons:  A Legal Theory of the Firm.  So I hope that I'll generate some interest in the book:  or perhaps make some of the ideas there more accessible in "blog-sized" pieces.  The following contribution is a first entry.

***

Let me be provocative first and say affirmatively: Corporations are legal persons and it matters. The thesis is qualified, however, by the fact that to say that corporations are persons is a conclusion that only then begins arguments about what it actually means in practice with respect to particular issues.  The fact that corporations are “persons” means only that we provide them – through law – with certain capacities and powers, and certain rights and obligations.  It remains to be decided what the nature and limits of these capacities and powers, and rights and obligations, may and will be.

Three main arguments support my claim.

1. Firms exist.  Some economists (and lawyers following them) have argued that firms do not really exist.  They are mere fictions, they say, and any serious epistemological analysis must look past the “legal fiction” of the firm – or the “corporation” in the form we are discussing here – to the actual human beings who are involved.  Although this methodological reduction may be useful for some kinds of analysis (economic modeling, etc.), it is wrong from a realistic legal and social perspective.  Firms exist because the law has evolved to say that they exist.  They are constructions of human relationships that are socially sanctioned and legally recognized.  They are “fictions” in the sense that they are created through the artificial mechanisms of law and government.  They are also “real” because people acting under law and in society believe in them and make them real.  Firms are therefore what I’ve called “real fictions”:  both nominalism and realism are right, but only when they are combined together into a nominalist realism.  See Business Persons, ch. 1.  Philosophers such as Margaret Gilbert, John Searle, and Philip Pettit support this view.  People acting in social groups form collective realities, which are reinforced and articulated by organizational law.  Business firms – including for-profit corporations – are in this sense social constructions.  Corporations are like money and nation-states.  Exxon-Mobil and Patagonia are as real as China and the United States.  They exist because we believe in them.  We act as if they exist – and so as social constructions they exist.  They have power and authority.

2. Firms are persons.  The method of legal recognition is to bestow “personality”:  The law recognizes an individual human being as a “person” who has “standing” to bring or defend a claim in court.  A person has rights: personal rights against mistreatment and rights against violations of one’s dignity and physical integrity.  The law matters here.  Consider the situation of a slave (historically not so very long ago in the United States) or an illegal immigrant (such as children from other countries crossing the southern border of the United States today).  The law does not recognize them fully as “persons” – or at least not to the same level of available rights and obligations as “citizens.”  Even children of citizens do not have a complete set of rights:  they cannot drive cars or enter contracts legally until reaching an age allowing legal capacity.  The law makes other distinctions:  “person” is a legally denominated concept.  It is extended (or not) for various reasons of philosophy and social policy.  Is a fetus a “person”?  What rights does a “terrorist” have?  Even: is a dog, such as my dog Butterbean, a legal person for certain purposes?  I cannot, for example, torture him for fun (assuming that I’m that kind of person, which I’m not).  In this sense, then, a dog too is a person:  he has some minimal rights recognized under law (though he'll need someone else to speak for him).

An analogous argument applies to firms.  They are “persons” because the law recognizes them as such and as having certain rights and obligations:  standing in court, holding of property, a party to contracts, an organizational principal, a target for tort liability, and a potential plaintiff to insist on its “rights,” whatever they may be.  The exact nature of these various rights of firms remains to be decided:  The controversial recent cases of Citizens United and Hobby Lobby extend claims of political and religious freedom to include corporations as persons.  Are these cases correctly decided?  The answer does not, I believe, turn on whether they are considered “persons” or not.  Firms are uncontroversially legal persons for many purposes.  The question is whether or not we should extend certain kind of rights to firms as “persons” derivatively – representing the people who act collectively through them.  Note that the answer can be qualified.  We may say: “Yes, corporations hold property and should have standing to object on constitutional grounds if a government attempts to expropriate the property without compensation.”  But we may also say: “No, corporations usually represent diverse groups of people regarding religion, so in these cases it is not correct to say that corporations should have religious rights" (contrary, of course, to the holding of Hobby Lobby).  I make this latter argument in a previous blog for The Conglomerate on Hobby Lobby here.

3. Legal personality matters, but it is not dispositive. Firms exist, firms have legal personality, and it matters.  The fact that a corporation is a person does not settle the argument for or against an assertion of rights or obligations.  This is a mistake in argumentation, in my view, that opinions on both sides of the divided Justices of the Citizens United and Hobby Lobby cases make.  In these kinds of cases, the Court should ask – as legislatures and citizens should as well – what is the purpose of a firm and of a corporation given the question that we're asking?  Arguably, as Justice Alito argues in Hobby Lobby, business firms are not just profit maximizers (as some students are taught in some business school classes).  They are moral creatures because the people who compose them are moral creatures (or, at least they have the potential to be moral -- nobody's perfect!)  But we then have to dig deeper and ask “who” is involved in the firm.  Why are we asking the question: “persons” for what purposes?  Perhaps firms should have political rights, but perhaps also they should be constrained in this respect for good reasons of political theory and modern democracy.  Perhaps some kinds of firms should have religious rights, but the scope of these potential rights should be constrained.  Rights of employees may be equal to those of owners and managers in this context.  There are other limits in principle that need to be drawn here too:  but my main point here is that doing so assumes that “legal personality” matters.  It is then a question of filling in the institutional portrait:  who is this person?  What kind of person?  And how does the nature of this person relate to the considerations in play on a specific issue?

4. Conclusion.  My argument is designed mostly to set up rather than to answer the hard questions, so I hope that my position will not be too controversial.  Here again are my main propositions.

a.  Firms exist. For our purposes here, corporations are a kind of firm.  (The difference between for-profit and profit corporations raises another set of issues.)

b.  Firms, including corporations, have legal personality.  The question is not whether firms are persons, but what the fact that they are persons means with respect to particular further questions regarding the rights or obligations that we should extend to them as persons.

c.  Legal personality matters, but is not dispositive.  To argue about whether firms are persons or not persons does not advance the ball very much.  The popular debate conflates the meanings of "persons" and "people."  Firms are persons; begin there.  And then engage the substantive policy issues as hand.  Move the discussion forward, while recognizing the truth of the “real fictions” of firms as legal persons.

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June 10, 2014
Death Of Tenure?
Posted by David Zaring

It is pretty fishy to argue that tenure deprives students of the right to an education (as opposed to being a reasonable call by the legislature that it is a way to vindicate that right), and one is taking one's chances when the first citation in an opinion is to Brown v. Board of Education, but that's what a California court just held and did.  I'm guessing the deans at the state's various law schools will wait to see how this one plays out before sending out the pink slips.

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March 26, 2014
Rick Garnett: “the position and the rights of . . . the employees”
Posted by Gordon Smith

The following is from Rick Garnett at Notre Dame Law School:

Thanks very much to Gordon for including me in this very rich and thoughtful discussion.  The care and civility with which the various questions raised in the Hobby Lobby case are being handled here at The Conglomerate is a model, and should be an inspiration, for all of us.

I had the chance, yesterday afternoon, to read the transcript of the oral arguments in the case.  The usual caveats apply:  it is difficult and dangerous to make confident predictions about the Court based on oral arguments.  That said, it appears that at least three justices are highly skeptical regarding Hobby Lobby’s RFRA claim and also that at least four justices are similarly skeptical -- as I think they should be -- with respect to the notions that (a) “corporations” or “businesses” are categorically excluded from RFRA’s protections; (b) that it would violate the Establishment Clause to accommodate Hobby Lobby; and (c) that the contraception-coverage provisions at issue do not “substantially burden” Hobby Lobby’s exercise of religion.

One thing that stood out, for me, in the argument (besides some of the justices’ maddening habit of so frequently interrupting counsel and each other as to make the arguments near useless) was Paul Clement’s exchange with Justice Kennedy about “the position and the rights of . . . the employees.”  In some places, it has been suggested that accommodating the religious-liberty rights of the employer would violate the religious liberty of an employee who did not share the employer’s religious beliefs.  (An example “close to home”:  some have argued that it would violate the religious freedom of Notre Dame faculty or students who do not accept Catholic teaching regarding the use of contraception to exempt Notre Dame from the contraception-coverage rules.)  In my view, this suggestion is not convincing -- it conflates state-imposed burdens and state coercion with the presumptive right of non-state institutions, including employers, to act in accord with a religious mission or character.  In any event, I don’t think Justice Kennedy was making this suggestion.  His concern seemed, instead, to be with accommodations that put the employees of some employers in a “disadvantageous position.”

Paul Clement was (sigh) interrupted by another justice before he was able to answer Justice Kennedy but it appeared to me that he wanted to make the point (and he did say something like this in conversation with Justices Sotomayor and Kagan) that we should not regard it as “imposing a burden on” or “disadvantaging” an employee to say that it was not lawful – because it violated RFRA – to require the employer to provide a benefit to that employee in the first place.  This is, of course, the “where’s the baseline?” point with which we law professors are so familiar.  (For more on this, take a look at this short essay I did for the Vanderbilt Law Review’s “En Banc” feature.)

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March 10, 2014
ScarJo, SodaStream, and Competing Stakeholder Interests
Posted by Greg Shill

Scarjo


Scarlett Johansson has been in the news a lot lately because of her twin roles as spokeswoman for Oxfam and SodaStream. For nine years, Johansson served as an ambassador for Oxfam. She was a major fundraiser and public face of the charity. But this January, Oxfam told her she had to choose between representing them and SodaStream, and she chose the latter. The episode suggests some important limitations of the stakeholder theory of corporate organization.

Why did Oxfam give Johansson an ultimatum? SodaStream manufactures popular home carbonation systems in 22 facilities around the world. Some are in the U.S., China, Germany, Australia, South Africa, Sweden, and Israel, and one is in the West Bank. The company has recently been targeted by the pro-Palestinian “Boycott, Divestment, Sanctions” movement (BDS), which seeks to delegitimize either certain Israeli policies or the State of Israel itself (depending on who you talk to). The BDS movement is boycotting SodaStream because, it argues, the company promotes the Israeli occupation of the West Bank by operating a factory there. Oxfam backs the BDS boycott of Israel and insisted Johansson choose between them and SodaStream.

This should not have been an intuitive response. And curiously enough, corporate law—specifically the stakeholder theory of the firm—helps illuminate the oddness of Oxfam's single-minded boycottism.

There are many strains of the stakeholder theory, but in general the idea is that management should consider the impact of its decisions not only on shareholders but on “stakeholders” of the firm—employees, suppliers, customers, community members, and other constituencies beyond its owners. (For simplicity, we'll consider the term "stakeholder" to exclude shareholders.)

The stakeholder model is often presented as an alternative to the standard shareholder model. But forget shareholders. Say you have a company that is unequivocally committed to the stakeholder model—their slogan is “people before profits,” and shareholders have no special claim on company decisions. What should the company do when the interests of employees and community members collide? Who should win out?

Ostensibly, the SodaStream boycott is being conducted on behalf of the Palestinian community and cause. The assumption is that short-term pain (i.e., probable unemployment) for the factory’s 500 Palestinian employees is the price of long-term gain (i.e., a Palestinian state) for the community.

Politics aside, the SodaStream boycott assumes a hierarchy of stakeholder interests that seems extremely tenuous. Even those sympathetic to the boycott—and this is probably obvious by now, but I am not—acknowledge that shutting SodaStream’s West Bank factory would bring hardship to a lot of Palestinian families who depend on those jobs. I would add that that sacrifice is a really bad deal for those stakeholders if the boycott does not succeed (and most don’t). Regardless, the question of the normative justness or wisdom of the boycott is beside the point—what about those stakeholder employees? They're not trying to live their politics; they want to work. What value do we place on their interests versus those of boycott advocates? In other words, how do we assess the boycott from a stakeholder perspective?

A few concerns I have with the SodaStream boycott from a stakeholder standpoint, moving from specific to general: 

  • The Palestinian SodaStream employees almost certainly share the same political aspirations as their community (e.g., statehood). Yet they're rejecting the boycott by working for SodaStream. Shouldn’t stakeholder-employees get a voice in whether they are forced to sacrifice their jobs in service of community goals?
  • What’s the boycott’s limiting principle? Should no foreign businesses be permitted to employ Palestinians in settlements? What about a non-profit? Why limit it to settlements? If SodaStream moved its operations a few miles up the street to Palestinian-governed territory, would the BDS movement call off the boycott?
  • SodaStream is headquartered in Israel. Does the boycott only apply to Israeli firms? If so, could SodaStream continue to operate in the West Bank if it sold itself to a foreign company? Stakeholder theory self-consciously promotes the observance of international law and fairness norms. Under what circumstances is per se discrimination on the basis of employer nationality okay?
  • More broadly, what is the limiting principle behind privileging somewhat amorphous community interests over the clear and important interests of a defined group of stakeholders, like employees? Aren’t the sum total of global interests affecting a firm (e.g., preventing climate change) always going to be more powerful than narrow stakeholder interests (e.g., jobs on oil rigs)?

One thing I find fascinating is how quickly questions about stakeholder priority (on which the literature is pretty sparse) verge towards politics and ideology. It’s almost enough to make you miss having profit maximization as the lodestar! Snarkiness aside, I don't think advocates of the stakeholder theory would dispute that “take stakeholder interests into account” is a fuzzy objective to begin with. But as the SodaStream controversy illustrates, this is not only because a stakeholder-centric view creates conflicts between shareholders and stakeholders. It also creates confusion about how to prioritize the legitimate concerns of stakeholders as against one another.

In sum, to paraphrase ScarJo, it's hard to find a principled way to rank the competing interests of stakeholders. That observation doesn't invalidate the stakeholder theory, of course. It just shines a light on some of its limitations as a principle of organization.

Photo: E!

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October 19, 2012
Position Announcement: Penn State School of Business
Posted by David Zaring

PENNSYLVANIA STATE UNIVERSITY

Smeal College of Business

University Park, Pennsylvania

Assistant Professor of Business Law

The Department of Risk Management of the Smeal College of Business at The Pennsylvania State University seeks to fill a full-time, tenure-track appointment in Business Law.  The successful candidate will be hired at the Assistant Professor rank.

JOB DESCRIPTION/ QUALIFICATIONS

This position is a tenure-track appointment with teaching responsibilities at the undergraduate and MBA levels. A qualified candidate must demonstrate interest in and capacity to conduct quality scholarly research as well as a high level of teaching competence. All successful candidates are expected to pursue an active research program, perform undergraduate and graduate teaching, and supervise graduate students. Candidates must have a J.D. degree from an ABA accredited law school by time of appointment. The department has an interest in candidates with a background in securities law, real estate law or legal aspects of risk management including insurance regulation, but other backgrounds will be considered as well.  Candidates with a second degree in a business-related field at either the masters or undergraduate level, a record of publishing in the field of business law, and/or teaching experience in higher education in the field of business law are particularly encouraged to apply.

POSITION AVAILABLE:  August 2013

SALARY:  Competitive and commensurate with qualifications.

APPLICATION PROCEDURE

Applications received by December 1, 2012 will receive first priority, although all applications will be considered until the position is filled.  Candidates must send a letter of application to buseconposition@smeal.psu.edu.  Please include a copy of curriculum vita, the names of at least three references, and evidence of quality research and teaching where appropriate.

If you have questions about the position, please contact Dan Cahoy, Associate Professor of Business Law, Smeal College of Business at DanCahoy@psu.edu.

Employment will require successful completion of background check(s) in accordance with University policies. Penn State is committed to affirmative action, equal opportunity and the diversity of its workforce.

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December 14, 2011
Does a Corporation Have a Conscience and Can It Tempt Ethical People to Do Bad Things?
Posted by Marcia Narine

Time Magazine’s “person of the year” is the “protestor.” Occupy Wall Street’s participants have generated discussion unprecedented in recent years about the role of corporations and their executives in society. The movement has influenced workers and unemployed alike around the world and has clearly shaped the political debate.

But how does a corporation really act? Doesn’t it act through its people? And do those people behave like the members of the homo economicus species acting rationally, selfishly for their greatest material advantage and without consideration about morality, ethics or other people? If so, can a corporation really have a conscience?

In her book Cultivating Conscience: How Good Laws Make Good People, Lynn Stout, a corporate and securities professor at UCLA School of Law argues that the homo economicus model does a poor job of predicting behavior within corporations. Stout takes aim at Oliver Wendell Holmes’ theory of the “bad man” (which forms the basis of homo economicus), Hobbes’ approach in Leviathan, John Stuart Mill’s theory of political economy, and those judges, law professors, regulators and policymakers who focus solely on the law and economics theory that material incentives are the only things that matter.

Citing hundreds of sociological studies that have been replicated around the world over the past fifty years, evolutionary biology, and experimental gaming theory, she concludes that  people do not generally behave like the “rational maximizers” that ecomonic theory would predict. In fact other than the 1-3% of the population who are psychopaths, people are “prosocial, ” meaning that they sacrifice to follow ethical rules, or to help or avoid harming others (although interestingly in student studies, economics majors tended to be less prosocial than others). 

She recommends a three-factor model for judges, regulators and legislators who want to shape human behavior:

 “Unselfish prosocial behavior toward strangers, including unselfish compliance with legal and ethical rules, is triggered by social context, including especially:

(1)         instructions from authority

(2)         beliefs about others’ prosocial behavior; and

(3)         the magnitude of the benefits to others.

Prosocial behavior declines, however, as the personal cost of acting prosocially increases.”

While she focuses on tort, contract and criminal law, her model and criticisms of the homo economicus model may be particularly helpful in the context of understanding corporate behavior. Corporations clearly influence how their people act. Professor Pamela Bucy, for example, argues that government should only be able to convict a corporation if it proves that the corporate ethos encouraged agents of the corporation to commit the criminal act. That corporate ethos results from individuals working together toward corporate goals.

Stout observes that an entire generation of business and political leaders has been taught that people only respond to material incentives, which leads to poor planning that can have devastating results by steering naturally prosocial people to toward unethical or illegal behavior. She warns against “rais[ing] the cost of conscience,” stating that “if we want people to be good, we must not tempt them to be bad.”

In her forthcoming article “Killing Conscience: The Unintended Behavioral Consequences of ‘Pay for Performance,’” she applies behavioral science to incentive based-pay. She points to the savings and loans crisis of the 80's, the recent teacher cheating scandals on standardized tests, Enron, Worldcom, the 2008 credit crisis, which stemmed in part from performance-based bonuses that tempted brokers to approve risky loans, and Bear Sterns and AIG executives who bet on risky derivatives. She disagrees with those who say that that those incentive plans were poorly designed, arguing instead that excessive reliance on even well designed ex-ante incentive plans can “snuff out” or suppress conscience and create “psycopathogenic” environments, and has done so as evidenced by “a disturbing outbreak of executive-driven corporate frauds, scandals and failures.” She further notes that the pay for performance movement has produced less than stellar improvement in the performance and profitability of most US companies.  

She advocates instead for trust-based” compensation arrangements, which take into account the parties’ capacity for prosocial behavior rather than leading employees to believe that the employer rewards selfish behavior. This is especially true if that reward tempts employees to engage in fraudulent or opportunistic behavior if that is the only way to realistically achieve the performance metric.

Applying her three factor model looks like this: Does the company’s messaging tell employees that it doesn’t care about ethics? Is it rewarding other people to act in the same way? And is it signaling that there is nothing wrong with unethical behavior or that there are no victims? This theory fits in nicely with the Bucy corporate ethos paradigm described above.

Stout proposes modest, nonmaterial rewards such as greater job responsibilities, public recognition, and more reasonable cash awards based upon subjective, ex post evaluations on the employee’s performance, and cites studies indicating that most employees thrive and are more creative in environments that don’t focus on ex ante monetary incentives. She yearns for the pre 162(m) days when the tax code didn’t require corporations to tie executive pay over one million dollars to performance metrics.

Stout’s application of these behavioral science theories provide guidance that lawmakers and others may want to consider as they look at legislation to prevent or at least mitigate the next corporate scandal. She also provides food for thought for those in corporate America who want to change the dynamics and trust factors within their organizations, and by extension their employee base, shareholders and the general population.

 

 

 

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August 30, 2011
Miami, the NCAA, and Amateurism as Price Control
Posted by Erik Gerding

Another college football scandal, another round of calls for the NCAA to get tough on schools.

Why can’t we just admit that the NCAA is doomed to perpetual failure? Enforcing amateurism in big revenue sports is just a price control on the labor of college-age athletes. Price controls succeed mainly in creating black markets. Although, if they are effectively enforced, price controls can reduce supply.

But does the NCAA really want to reduce supply? Does it really want to enforce its rules? Miami won’t be treated like SMU and have its football program shut down because that would hurt television revenue.

There are really three explanations for why the NCAA seeks to enforce price controls:

1. It sincerely believes that doing so will encourage schools to provide the students who are generating the billions of dollars in revenue to NCAA schools with an education. (This focuses only on the supply side of education and ignores the demand side.  It also is only lightly tethered to reality.).

2. It wants to prevent rising labor prices for student athletes from eating into the revenue to schools.

3. It needs to protect the “amateur” brand that it thinks creates such strong demand for its product.

If this last assumption is true, it leads to a perverse result: demand for amateurism threatens to undermine that amateurism. As a result, the NCAA would have to do just enough enforcement to maintain a perception of amateurism.

Likely some combination of all three of the above explanations accounts for the continuing NCAA game: being “shocked, shocked” to find that college athletes are getting paid under the table and then imposing some penalties on schools, but not enough to actually hurt the egg-laying goose.

So let’s be frank. Division 1 football and basketball is about gobs and gobs of money. If universities would like to engage in a little less hypocrisy and actually serve the interests of its money-generating athletes, isn’t it time to actually test the premise of reason number three above? Is amateurism really essential to rabid demand for college football and basketball? Let’s pay college athletes a market rate for bringing in revenue to their schools. Better yet, let’s have schools sponsor professional athletic teams.

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May 18, 2011
In Defense of Loyalty
Posted by Gordon Smith

The American Law Institute is creating a Restatement Third, Employment Law. Chapter 8 of Tentative Draft No. 4, which was discussed today at the Annual Meeting, is entitled "Employee Obligations and Restrictive Covenants." Within that chapter is a section entitled "Employee Duty of Loyalty." This is the core obligation:

Employees owe a duty of loyalty to their employer in matters related to the employment relationship.

This is an uncontroversial (re)statement of the black-letter law, but some members of the ALI challenged the use of the word "loyalty." As noted by several of the ALI bloggers, some members want the ALI to omit references to "loyalty" because it implies that the relationship between employers and employers is reciprocal. These members prefer the term "mandatory obligation," which (to them) connotes that employment is a one-way street.

Although Reporter Samuel Estreicher did not grant the point, he repeatedly invoked the need to "delimit" the concept of loyalty and suggested that the "duty of loyalty" in the ALI's Restatement of the Law Third, Agency was ill-defined. These comments suggest the possibility of some future work to be done rationalizing the duty of loyalty in the two Restatements.

Count me as a fan of the duty of loyalty and as an opponent of attempts to delimit that duty. Such attempts, which surface regularly in the law of business associations, run at cross purposes with the value of the duty as a standard of last resort. Self-interested behavior may be constrained by statute or by contract, but the issue in cases involving the duty of loyalty is whether self-interest was checked in the absence of a specific rule. If courts (or Restatement drafters) are too precise with the boundaries of the duty, they provide bad men with a roadmap for opportunistic behavior. As I have written many times on this blog, ambiguity is our friend in this area.

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August 10, 2010
How to Quit a Job
Posted by Gordon Smith

Option A: Unleash expletives over an intercom at your company's customers, then make a dramatic exit.

Option B: Expose your boss as a letch and Farmville addict using a series of photos with messages on a dry erase board.

It turns out the first fellow didn't actually quit -- he has been suspended -- so the winner is Option B by default. If the woman in Option B had asked my advice, I would have told her not to do it that way, but I have to admit, she made the event memorable.

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July 11, 2009
Henry Ford's "Good Idea"
Posted by Gordon Smith

Kevin Leicht:

Henry Ford had a good idea.

In January, 1914 he announced to the world that his workers would be paid five dollars a day. The five-dollar day doubled the average wage for auto workers, produced long lines outside of the factory gates, and helped to create a mass market for the Model T and other consumer durables.

For the next 60 years, this basic formula spread. An entire consumer economy was built on steady middle class jobs that paid slowly rising wages from productivity gains.


When Henry Ford announced the $5 workday, the W$J suspected a motivation other than creating customers for the Model T or improving the quality of workers' lives: Ford was attempting to reduce the company's profits, thus depriving the Dodge brothers, who owned shares of Ford Motor, of the capital they needed to start their own company. As it turned out, Ford couldn't spend the money fast enough, so he simply stopped paying dividends, a move that lead to the famous case of Dodge v. Ford Motor. You can read more about the dispute here.

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November 20, 2008
GM Prepack?
Posted by Fred Tung

As the Big Three automakers' pleas for emergency bailout money appear to have fallen on deaf ears on Capitol Hill, the blogosphere is awash with discussion of bankruptcy scenarios (see, e.g., here, here, and here).  "Prepackaged" bankruptcy in particular seems to be a popular solution (see here and here).  But I find it hard to see how a prepack would work here.  Unlike a standard Chapter 11 filing, a prepack is a bankruptcy filing where the debtor and its major constituents--in this case, bondholders, banks, employees, unions, management, dealers (have I left anyone out?)--already have a deal worked out before they file.  Instead of negotiating in Chapter 11 (i.e., after the Chapter 11 filing), management and the major constituents work out the company's financial restructuring, new finaCar9ncing, and anticipated operational changes beforehand, and when they file for bankruptcy, they include not just the bankruptcy petition, but also the plan of reorganization and all the creditor consents required to confirm the plan.

Just judging from what I read in the paper, it is not apparent that the Big Three have had any discussions with their banks or bondholders or dealers about how to share the pain of a restructuring, or who would provide financing in bankruptcy.  Now, this may be just posturing on the part of companies.  They seem to be playing chicken with Congress, on the "too-big-to-fail" theory.  Needless to say, that's a dangerous game.  Especially during the interregnum, the specter of political gridlock looms large.

There may just be some usage issues here:  when commentators say "prepackaged," they might instead mean some kind of bankruptcy filing with strong government involvement.  For example, the government could offer bankruptcy financing conditioned on specific operational and managerial changes.  Not a bad idea.  But that's not a prepack.

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March 30, 2008
Brackets and the Workplace
Posted by Lisa Fairfax

Since I traveled to Pittsburgh this week, I had the chance to read a story in the Pittsburgh Post-Gazette on the pros and cons of allowing employees to participate in office bracket pools.  Indeed, some offices have sought to ban such pools.  Apparently not because they may be illegal.  But rather because they may have a negative impact on employees and the workplace.  To be sure, one research firm estimates that the distraction created by basketball office pools will cost employers some $1.7 billion in wasted work time.  This estimate is based on wasted time spent on bracket-related activities from "trash talking at the water cooler" to "watching live videos of the games during business hours."  In addition, to the wasted time, one employment lawyer notes that bracket pools in the office invite trouble because things may go awry.  Such as when someone believes they should have taken first prize and instead gets third place, or worse, when the CEO wins first prize, after having pooled money with "the people in the mailroom and the messenger."  If this happens, the advice is that the CEO should buy everyone lunch instead of pocketing the money.  To be sure, despite the potential loss in productivity, most companies either encourage or do not discourage bracket pools in the office.   Such companies find that allowing employees to participate in brackets is good for employee morale, fostering a sense of community and healthy competition.  So for now, most employees are free to fill out and agonize over their brackets, even on company time.  Given the many students that participate in bracket pools, it is probably a pastime that would be very difficult for companies to disrupt.

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March 17, 2008
Bear Stearns' Employees
Posted by Lisa Fairfax

I know we are trying to move on, but I have heard several news sources and commentators point out that Bear Stearns employees own some 1/3 of the company's stock.  That number seems striking and a bit surprising, particularly given all of the hoopla surrounding Enron and the fact that its employees held so much of the company's stock when it collapsed.  Indeed, I thought one important lesson from Enron, at least for employees, was to diversify.  Apparently not.  To be sure, there are many good reasons to invest in your company's stock.  Then too, a short while ago Bear Stearns did not appear like it was heading for disaster (but then again neither did Enron).  Moreover, it is not clear that Bear Stearns employees have not diversified and hence perhaps there are employees who did not have their entire nest egg in the Bear Stearns basket.   Unfortunately, it seems more likely that employees have once again found themselves in a situation in which they not only face potential job loss, but also the loss of their retirement.   

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