February 03, 2015
icon Admissions by Algorithm?
Posted by Christine Hurt

This morning on NPR, I listened to a short report on how people tend to lose trust in computer algorithms much more quickly than we lose trust in humans.  We compare a world of computer mistakes to a false world of zero human mistakes.  For example, if driverless cars get popular and one causes an accident, trust in driverless cars will plummet, even if driver-ful cars cause more accidents.  The report was merely interesting until Steve Inskeep and Shankar Vedantam used a hypothetical example far closer to home:  law school admissions.

INSKEEP: I wonder if there's another factor that comes into play here because you said one other reason that we trust humans is we presume that humans can learn. Aren't we entering a world in which the algorithms themselves will be learning more and more?
VEDANTAM: In fact, I think we've already entered that world, Steve. Algorithms not only learn, but they learn very well. So one of the things that computers are very good at doing is quickly learning how much weight to attach to the different components of a decision. So if you have students applying to law school, the computer might be able to say, here's how much attention you pay to their grades in college, to their LSAT scores, to their recommendation letters. Now, of course, many of us are comfortable with algorithms making decisions for other people. We just don't like it when algorithms make decisions about us.
INSKEEP: (Laughter) Don't make a decision about my law school application.
VEDANTAM: Precisely. Because we think we're unique and special, how can it possibly be that an algorithm can judge us? 

First, I'm very interested in why Vedantam used this example -- does he know of a law school that uses an admissions algorithm?

Second, if Vedantam does know of a law school that uses an admissions algorithm, I'll bet a lot of money that the algorithm isn't weighting and using factors that we believe will predict a student's future success, whether in law school or in the practice of law. I'm willing to bet that the algorithm judges whether the law students will improve/weaken their class profile of USNEWS purposes.

Finally, I wish we did live in the false world that Inskeep and Vedantam believe we live in -- where admissions committees not only are interested in the "whole file" of a candidate and treat them as unique and special and not as numbers, but also the second-best world that Inskeep and Vedantam are predicting -- where committees use algorithms to predict candidate success in the classroom and beyond based on markers and proxies.  I was talking to a physician friend who serves on the admissions committee of his medical school alma mater.  (Can you imagine a law school having practicing attorneys on admissions?)  He said they were not that interested in grades.  He said they looked for "hungry" and proxies for that.  He said his ideal med school candidate was someone who worked 40 hours a week during undergrad.  That sounds like a good world to me.

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icon The Alibaba IPO Lawsuit
Posted by Christine Hurt

Kevin LaCroix has all the information on the first securities fraud lawsuit to be filed against Alibaba regarding its sale of ADS on the NYSE in September.  For securities regulation professors, there are a few nice issues here.

Materiality.  The complaint cites two separate "revelations" that appeared in the U.S. in the WSJ on the same day (January 29).  One article reports that the company announced that it had come to an agreement with China's State Administration for Industry and Commerce to strengthen its websites ability to monitor unlawful activity.  In addition, the article noted that the SAIC had met with Alibaba for the first time in July, two months prior to the IPO.  This meeting was not mentioned in the registration materials.  The other article reported disappointing revenue numbers and a decline in profits.  That day, the share price drops about 7%.  Which revelation caused the drop if we believe that a "market test" determines materiality?  What about the "total mix" test?  Would investors have wanted to know about the sit-down meeting?  Aren't the disappointing numbers most likely non-actionable under a forward-looking safe harbor for any contrary statements in the registration materials?

The Difference Between Section 11 and 12 of the Securities Act and Section 10 of the Securities Exchange Act.  The plaintiffs have only brought suit under Section 10, even though the false statements would be in the registration statement.  Kevin hypothesizes that the plaintiffs can't meet the tracing requirements of the Securities Act, but a commenter also points out that those who purchased at the IPO or shortly thereafter bought at a purchase price lower than the market price now, even with the January 29 price drop, so no damages.

Fee-Shifting Provision.  Alibaba has a fee-shifting provision in its (Grand Caymans) charter.  Will the fee-shifting provision hold up in federal court under the Securities Exchange Act?  Does federal securities law (specifically the PSLRA) pre-empt this provision?  We shall see.

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January 31, 2015
icon Pretend you never went to school
Posted by Usha Rodrigues

President Obama's SOTU address was easy to dismiss as standard-issue liberal class-baiting.  But when within the span of a week I see two eminent right-of-center publications headlining class division in America, maybe it's time to take notice. Thursday's WSJ featured front-page article on How a Two-Tier Economy Is Reshaping the U.S. Marketplace.  Basically, the crisis hit everyone, but since 2009 the rich have been getting richer, and they're spending up a storm at Whole Foods and at "luxury retailers" like Neiman Marcus.  Meanwhile, Target, Macy's, J.C. Penny's, and Sears have seen sales slump. Hmm.  I don't shop at Needles Markup, and have a well-worn Target card.  Workers of the world, unite!

More incisive analysis came from this week's Economist, which described America's new aristocracy.  The thesis is that "today’s rich increasingly pass on to their children an asset that cannot be frittered away in a few nights at a casino. It is far more useful than wealth, and invulnerable to inheritance tax. It is brains." 

This charge hits a lot closer to home, and takes me back to my clerkship days.  My judge had 4 clerks.  Quickly the consensus arose among the other 3 that I was the least impressive clerk--by which they meant that my background made my attainment of an prestigious appellate court clerkship something more to be expected than exclaimed over.  Mind you, my parents were academics who made less money--much less money--than the parents of two of my fellow clerks.  But my compatriots vociferously maintained that my parental background, dappled as it was with 2 PhDs, 1 MD, and several MAs, gave me a serious leg up in this particular game.  In the end, I conceded that they were right. 

Where do I stack up in the new aristocracy?  While we may be slumming it at Target with the rest of the common people, we are a two-degree household.  Our children go to public schools, but they're good public schools and my oldest girl is on the Athens Area Girls Math Team (no, I'm not kidding and yes, it's awesome).  I talk  college all the time with my 7 and 4 year old--largely because we live in a college town and drop-offs and pickups involve passing college kids en route to dorm or class.  Given all these things, I'm pretty sure they will have leg up in the academic game.  

This advantage is a problem if we want a "natural aristocracy" of brains and talent--otherwise America's promise of meritocracy becomes a plutocracy or a cerebrocracy.  The Economist recommends leveling the field by improving childcare and early childhood education, funding schools at the state level, encouraging vouchers, having colleges base admissions decisions solely on academic merit, and disclosure of the return college graduates receive on their degrees.  All of these sound like plausible reforms, with a likelihood of being adopted ranging from "maybe" to "unlikely" to "nil."  But it's sure interesting that it's not just the liberal bastions remarking on the gap between the haves and have-lesses in the United States today.

Also, just in case you haven't heard it, this.

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January 30, 2015
icon Reminder: LEA CFP
Posted by Usha Rodrigues

Remember, February 1 is the deadline for submitting a proposal to the Law and Entrepreneurship Association.  Details follow:

March 21, 2015
University of Georgia School of Law, Athens GA

 The ninth annual meeting of the Law and Entrepreneurship Association (LEA) will occur on March 21, 2015 in Athens, Georgia.  The LEA is a group of legal scholars interested in the topic of entrepreneurship—broadly construed.  Topics have ranged from crowdfunding to electronic contracting to issues of taxation in startups.

Our annual conference is an intimate gathering where each participant is expected to have read and actively engage with all of the pieces under discussion.  We call for papers and proposals relating to the general topic of entrepreneurship and the law.

Proposals should be comprehensive enough to allow the LEA board to evaluate the aims and likely content of papers they propose. Papers may be accepted for publication but must not be published prior to the meeting. Works in progress, even those at a relatively early stage, are welcome.  Junior scholars and those considering entering the legal academy are especially encouraged to participate. There is no registration fee, but participants must cover their own costs.

To submit a presentation, email Professor Usha Rodrigues at rodrig@uga.edu with a proposal or paper by February 1, 2015. Please title the email “LEA Submission – {Name}.”  For additional information, please email Professor Usha Rodrigues at rodrig@uga.edu.

 

LEA Board

Robert Bartlett (UC Berkeley School of Law)
Brian Broughman (Indiana University Maurer School of Law)

Victor Fleischer (San Diego University School of Law)

Michelle Harner (University of Maryland Francis King Carey School of Law)

Christine Hurt (BYU School of Law)

Darian Ibrahim (William & Mary School of Law)

Sean O’Connor (University of Washington School of Law)

Usha Rodrigues (University of Georgia School of Law) (President)

Gordon Smith (BYU School of Law)

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icon The Causation Link Between Securitization and Fraud, Used Car Edition
Posted by Christine Hurt

When I practiced in the mid-1990s, I occasionally worked on projects we called "asset securitizations."  We didn't talk about it to our friends or families, because their eyes would glaze over and then they would pass out from boredom.  Because of our client base, our asset securitizations were generally either used car loans from the finance side of large auto companies or franchise loan securitizations from oil and gas companies.  Only when the financial crisis hit did everyone seem to become conversant in asset-backed securities, and the process of wide-spread securitization of mortgages seemed to be at the root of all the mortgage troubles.

The hypothesis is this, and it has some support:  If lenders held their loans, particularly their mortgages, then they would only make good loans.  By having a market to dump loans into, lenders loosen criteria to make more mortgages.  Ignorant bond holders can't buy enough MBS, so lenders loosen criteria even more to meet demand.  Lenders may even engage in fraud or encourage borrowers to engage in fraud.  The Dodd-Frank Act tries to remedy these ills by having regulation at the lender end and the MBS end.  We'll see if it works.

But the NYT this week tells us the securitization evil has spread to used car loans.  Because I'm pretty sure used car loans have been securitized since at least 1993, I don't see this as news.  However, the article suggests that because of less fun in MBS, those investors now have poured their money into used car loan-backed securities (let's say UCBS).  The article doesn't state it's hypothesis, but suggests this is bad because (1) car buyers are defaulting and losing their vehicles and (2) financial players who package UCBS are getting rich.  But, the article doesn't go so far as to provide evidence that (1) car buyers are defaulting more than usual or (2) that the demand for UCBS has caused lenders to be more unscrupulous than they have been in the past.  

In addition, problems in the MBS market, particularly mortgage defaults, have pretty big negative externalities:  foreclosures, neighborhoods with empty houses, dislocation of families, home prices, etc.  When car borrowers default, the lender takes the car back.  The borrower is out the car payments that were made (the NYT focuses on car buyers who never made any payments, so not particularly left worse off), but the car lot now can resell the car again.  Cars are more liquid than houses, and repossession is quicker and cheaper than foreclosure.  

So, I'm not getting very worried about the used car loan bubble just yet.  If we think that used car loan rates are too high, then that's another concern.  If we think that used car sales people are pressuring or misleading customers, that's another concern.  But I don't think securitization is the problem.

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icon The "Successful" Shake Shack IPO
Posted by Christine Hurt

I've never been to a Shake Shack.  I believe this fast casual restaurant operates in other parts of the U.S. and abroad, but its website has been down all morning.  Why?  Because Shake Shack is having a whiz bang IPO.  After just a few hours on the board (it debuted last night), SHAK is up 132%.

Readers familiar with my scholarship and rants know that, unlike the rest of the world, I don't see that as a successful IPO.  Instead of selling its shares at $21, Shake Shack (the entity) could have issued shares for almost $50.  The difference there was left on the table, just as if you sold your house for $200,000 yesterday and the buyer sold it with no modifications today for $500,000.  I wouldn't think of that house sale as successful, even if it was quick and I thought it was worth only $200,000.  I would be steaming mad.

But the founder of Shake Shack isn't steaming mad because he still owns 21% of the company, and his shares are worth over $50 now.  As he sells into the market (presuming he does it before the price drops), he will get more cash.  But Shake Shack (the entity) doesn't.  It now must grow, expand, wrestle with the challenges of being a public company -- all with the capital it raised at $21/share.

Not to beat a dead horse, but even the author of the Forbes article linked above seems to be unclear about what a successful IPO is.  The author recognizes that Potbelly's share price is now just 2% higher than its IPO price, but "IPO buyers had their chance to exit with profits after the stock popped 120% on its first day of trading."  That is not really a ringing endorsement for the efficiency and substance of capital markets.

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icon The Ethical Slide, Train Tickets, and Helping the Next Generation of Corporate Leaders to Choose Differently
Posted by Josephine Sandler Nelson

It has been a pleasure to guest-blog for the last two weeks here at the Glom. (Previous posts available here: one, two, three, four, five, six, seven, eight, and nine.) This final post will introduce the book that Lynn Stout and I propose writing to give better direction to business people in search of ethical outcomes and to support the teaching of ethics in business schools.

Sometimes bad ethical behavior is simply the result of making obviously poor decisions. Consider the very human case of Jonathan Burrows, the former managing director at Blackrock Assets group. Burrows’s two mansions outside London were worth over $6 million U.S., but he ducked paying a little over $22 U.S. in train fare each way to the City for five years. Perhaps Burrows had calculated that being fined would be less expensive than the inconvenience of complying with the train fare rules. Unluckily, the size of his $67,200 U.S total repayment caught the eye of Britain’s Financial Conduct Authority, which banned Burrows from the country’s financial industry for life. That’s how we know about his story.

But how do small bad ethical choices snowball into large-scale frauds? How do we go from dishonesty about a $22 train ticket to a $22 trillion loss in the financial crisis? We know that, once they cross their thresholds for misconduct, individuals find it easier and easier to justify misconduct that adds up and can become more serious. And we know that there is a problem with the incentive structure within organizations that allows larger crises to happen. How do we reach the next generation of corporate leaders to help them make different decisions?

Business schools still largely fail to teach about ethics and legal duties. In fact, research finds “a negative relationship between the resources schools possess and the presence of a required ethics course.” Moreover, psychological studies demonstrate that the teaching of economics without a strong ethical component contributes to a “culture of greed.” Too often business-school cases, especially about entrepreneurs, venerate the individual who bends or breaks the rules for competitive advantage as long as the profit and loss numbers work out. And we fail to talk enough about the positive aspects of being ethical in the workplace. The situation is so bad that Luigi Zingales of the University of Chicago asks point-blank if business schools incubate criminals.

New business-school accreditation guidelines adopted in April 2013 will put specific pressure on schools to describe how they address business ethics. Because business schools are accredited in staggered five-year cycles, every business school that is a member of the international accreditation agency will have to adopt ethics in its curriculum sometime over the next few years.

We hope that the work outlined in my blogposts, discussed at greater length in my articles, and laid out in our proposed book will be at the forefront of this trend to discuss business ethics and the law. We welcome those reading this blog to be a part of the development of this curriculum for our next generation of business leaders.

Permalink | Business Ethics, Business Organizations, Businesses of Note, Corporate Governance, Corporate Law, Crime and Criminal Law, Economics, Education, Entrepreneurs, Entrepreneurship, Fiduciary Law, Finance, Financial Crisis, Financial Institutions, Law & Economics, Law & Entrepreneurship, Law & Society, Management, Politics, Popular Culture, Social Responsibility, White Collar Crime | Comments (View) | TrackBack (0) | Bookmark

January 29, 2015
icon SEC ALJ Orders: It's How It Does It's Anti-Bribery Rule
Posted by David Zaring

While defendants are gearing up to make arguments against the constitutionality of the SEC's increasing inclination to use its ALJs, rather than the courts, to serve as the venue for fraud cases, it looks like it has already flipped that way for foreign corrupt practices cases.  Mike Koehler did the counting:

More recently, the SEC has been keen on resolving corporate FCPA enforcement actions in the absence of any judicial scrutiny.  As highlighted in this 2013 SEC Year in Review post, a notable statistic from 2013 is that 50% of SEC corporate enforcement actions were not subjected to one ounce of judicial scrutiny either because the action was resolved via a NPA or through an administrative order.  In 2014, as highlighted in this prior year in review post, of the 7 corporate enforcement actions from 2014, 6 enforcement actions (86%) were administrative actions.  In other words, there was no judicial scrutiny of 86% of SEC FCPA enforcement actions from 2014.

It is interesting to note that the SEC has used administrative actions to resolve 9 corporate enforcement actions since 2013 and in none of these actions have there been related SEC enforcement actions against company employees.

Maybe we are seeing an agency decision to prefer administrative adjudication to, you know, adjudicative adjudication.

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icon Apparently I'm Not The Only One Attached to My 529 Plans
Posted by Christine Hurt

Obama's plan to cut tax benefits for 529 plans has been scrapped.  The uproar must have included other voices louder and more powerful than mine.  

One note:  at least one opinion writer uses the death of the 529 proposal as evidence of the power of the wealthy, who mistakenly believe themselves to be middle class, not to be taxed.  This may be true, but it and other news reports state that 70% of benefits of 529 plans go to families with incomes over $200,000 a year.  However, in the NYT article linked above, it makes clear that this statistic is based on the value of the accounts, not the number of accountholders.  By number, 70% of 529 accounts are owned by families with incomes under $150,000.  So, to say that the affluent are the only ones making use of the accounts is misleading.

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icon The Intracorporate Conspiracy Doctrine and D&O Litigation Incentives
Posted by Josephine Sandler Nelson

My previous blogposts (one, two, three, four, five, six, seven, and eight) discussed the dangers of granting intracorporate conspiracy immunity to agents who commit coordinated wrongdoing within an organization. The last two blogposts (here and here) highlighted the harm that public and judicial frustration with this immunity inflicts on alternative doctrines.

In addition to exacerbating blind CEO turnover, substituting alternative doctrines for prosecuting intracorporate conspiracy affects an executive’s incentives under Director’s and Officer’s (D&O) liability insurance. This post builds on arguments that I have made about D&O insurance in articles here and here.

In traditional conspiracy prosecutions, the Model Penal Code (MPC) provides an affirmative defense for renunciation. The MPC’s standard protects the actor, who “after conspiring to commit a crime, thwarted the success of the conspiracy, under circumstances manifesting a complete and voluntary renunciation of his criminal purpose.” This means that the executive who renounces an intracorporate conspiracy faces no charges.

In contrast with conspiracy prosecutions, responsible corporate officer doctrine and its correlates fail to reward the executive who changes course to mitigate damages or to abandon further destructive behavior. Although the size of the damages may be smaller with lesser harm if the executive renounces an organization’s course of conduct, the executive’s personal career and reputation may still be destroyed by entry of a judgment. Modest whistle-blower protections are ineffectual.

Specifically, because of the way that indemnification and D&O insurance function, the entry of judgment has become an all-or-nothing standard: an employee’s right to indemnification hinges on whether the employee is found guilty of a crime or not. To receive indemnification under Delaware law, for example, an individual must have been “successful on the merits or otherwise in defense of any action, suit or proceeding.” Indemnification is repayment to the employee from the company; D&O insurance is a method that companies use to pass on the cost of indemnification and may contain different terms than indemnification itself.

Indemnification and D&O insurance are not a minor issues for executives. In fact, under many circumstances, employees have a right to indemnification from an organization even when the alleged conduct is criminal. Courts have acknowleged that “[i]ndemnification encourages corporate service by capable individuals by protecting their personal financial resources from depletion by the expenses they incur during an investigation or litigation that results by reason of that service.” And when hiring for an executive board, “Quality directors will not serve without D&O coverage.” Because of this pressure from executives, as many as ninety-nine percent of public U.S. companies carry D&O insurance.

So what does this standard mean for executives prosecuted under responsible corporate officer doctrine instead of for traditional conspiracy? Executives are incentivized either not to get caught, or to perpetrate a crime large enough that the monetary value of the wrongdoing outweighs the potential damage to the executive’s career. Because an executive’s right to indemnification hinges on whether he is found guilty of a crime or not, he has an enormous incentive to fight charges to the end instead of pleading to a lesser count. Thus, unless the executive has an affirmative defense to charges, like renunciation in traditional conspiracy law, there is no safety valve. Litigating responsible corporate officer doctrine cases creates a new volatile high-wire strategy. Moreover, as discussed in my last blogpost, responsible corporate officer doctrine imposes actual blind “respondeat superior” liability. Regardless of the merits, the executive may be penalized. So you can see the take-home message for executives: go ahead and help yourself to the largest possible slice pie on your way out the door.

I argue that in sending this message, and in many other ways, our current law on corporate crime is badly broken. My last blogpost for the Glom will introduce the book that Lynn Stout and I propose writing to give better direction to business people in search of ethical outcomes.

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January 28, 2015
icon The Intracorporate Conspiracy Doctrine and CEO Turnover
Posted by Josephine Sandler Nelson

My previous blogposts (one, two, three, four, five, six, and seven) discussed why conspiracy prosecutions were the best method to penalize coordinated wrongdoing by agents within an organization. Using alternative doctrines to impose liability on behavior that would otherwise be recognized as an intracorporate conspiracy results in flawed incentives and disproportionate awards.

The fundamental problem with substituting responsible corporate officer doctrine and control person liability for reforming the intracorporate conspiracy doctrine is that these alternative doctrines represent exactly what Professor Martin objects to: actual imposition of blind “respondeat superior” liability. For example, under these doctrines, “in most federal courts, it is not necessary to show that the corporate official being charged had a culpable state of mind.” Instead, the issue before the court is merely whether the officer had control and responsibility for the alleged actions. Accordingly, it is not a defense to control person liability that the officer did not “knowingly participate in or independently commit a violation of the Act.”

But simply penalizing the officer who is in the wrong place at the wrong time does little to define and encourage best practices. Moreover, with these and other explosive hazards for corporate service, it should be no surprise that top executives are demanding and receiving ever-increasing compensation for often short-term positions. Since 2009, the year that the NSP case establishing “control person” liability was settled, the discrepancy in pay between top management and the average worker has been growing dramatically. In 2013, the CEO of J.C. Penny Co., for example, was exposed for making 1,795 times what the average U.S. department store employee made. From 2009 to 2013, as measured across Standard & Poor’s 500 Index (S&P 500) of companies, “the average multiple of CEO compensation to that of rank-and-file workers” has risen to 204, an increase of twenty percent.

It is true that the financial crisis did reduce executive compensation packages before 2009, and that there has been a historical trend towards the growth of executives’ salaries as a multiple of average workers’ salaries. For example, “[es]timates by academics and trade-union groups put the number at 20-to-1 in the 1950s, rising to 42-to-1 in 1980 and 120-to-1 by 2000.” But the jump in executives’ salaries from 2009 has been extraordinary. The new emphasis on vicarious liability for individuals under the responsible corporate officer doctrine since that date must be considered part of executives’ demands for such high compensation in exchange for their risky positions.

The average duration of a CEO’s time in office has diminished as well. In 2000, the average tenure of a departing S&P 500 CEO in the U.S. was ten years. By 2010, it was down to eight years. In 2011, merely a year later, the average tenure of a Fortune 500 CEO was barely 4.6 years. In 2013, that former CEO of J.C. Penny Co. served for only eighteen months.

With an eighteen-month tenure, how much can the chief executive of a large company discover about the wrongdoing that his or her new company is committing? Furthermore, how much can that person design and institute good preventative measures to guide his or her subordinates to avoid that harm? A blindly revolving door for CEOs does not help those interested in effectively reducing the wrongdoing of agents within the corporation. Incentives without intracorporate conspiracy immunity would be different because they would reward the agent who abandons a conspiracy. (More about this argument here, here, here, and here.)

My next blogpost will examine how substituting alternative doctrines for prosecuting intracorporate conspiracy affects incentives under Director’s and Officer’s (D&O) liability insurance.

Permalink | Agency Law, Business Ethics, Business Organizations, Businesses of Note, Corporate Governance, Corporate Law, Crime and Criminal Law, Economics, Financial Crisis, Financial Institutions, Law & Economics, Law & Entrepreneurship, Law & Society, Management, Masters: Dodd-Frank, Masters: Dodd-Frank@1, Politics, Roundtable: Corps/B.A., Social Responsibility, Torts, White Collar Crime | Comments (View) | TrackBack (0) | Bookmark

January 27, 2015
icon The SEC's New Preference For Administrative Proceedings
Posted by David Zaring

Peter Henning has a nice overview of recent claims made against the SEC's growing inclination to take fraud cases before its handful of agency-judges (ALJs), instead of to court.  Why should that be okay?

From a policy perspective, there's reason to worry.  I did some litigation before an administrative tribunal, and it's not that different from in court litigation, with the exception of evidence admissability and objections.  But it could be really quite different.  Hearsay is in theory fine, there's no requirement that you be able to present evidence in person, and the judge works for the agency that is suing you.  It's fair to say that defendants get less process from an ALJ than they would from a federal judge.

But not that much less.  ALJs are required to hold hearings, permit the introduction of rebuttal evidence, the statute that governs them makes what they do ("formal adjudication" in the verbiage of administrative law) pretty similar to a trial.

That matters for the equities, as does the almost absolute discretion that agencies have to prosecute in the way they see fit.  The SEC can drop claims, send scoldy letters, use ALJs, take you to court, or refer you to the criminal lawyers at DOJ with the recommendation that imprisonment could be sought.  Because we wouldn't want judges second guessing the decisions to, say, emphasize insider trading prosecutions over accounting fraud claims, we leave those policy calls to the agency.

Which then begs the question: why now with the constitutional case against the ALJ, a thing that has existed since the end of WWII?  

Well, the SEC hasn't used its ALJs for high profile cases very often, at least until recently.  But the claims against the turn to administrative tribunals aren't getting a lot of love, and I predict that will continue to happen.  Judge Lewis Kaplan, who isn't afraid to savage a government case alleging financial wrongdoing, concluded that he didn't have the power to judge whether an ALJ proceeding violated due process or equal protection standards, given that other, similar cases had been brought in court.  The SEC recently ignored a declaratory relief case filed by an S&P executive when it brought an administrative complaint against her.

Some well-heeled defendants may have been emboldened to bring these cases by the Free Enterprise Fund decision in the Supreme Court, which constrained the number levels of tenured officials that could separate the president from policymakers.  But administrative adjudication is simply too resource intensive and carefully done to be rendered illegal because of its insulation.  The alternative would be to replace ALJs with political hacks, and no one wants that.  So I'm not predicting a lot of luck for the defendants in these cases.

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icon Frustration with the Intracorporate Conspiracy Doctrine Distorts Other Areas of Law
Posted by Josephine Sandler Nelson

My previous blogposts (one, two, three, four, five, and six) discussed why conspiracy prosecutions should be used to reach coordinated wrongdoing by agents within an organization. The intracorporate conspiracy doctrine has distorted agency law and inappropriately handicaps the ability of tort and criminal law to regulate the behavior of organizations and their agents.

My Intracorporate Conspiracy Trap article argues that the intracorporate conspiracy doctrine is not properly based in agency law, and that it should most certainly not be applied throughout tort law and criminal law. As a result of the immunity granted by the doctrine, harmful behavior is ordered and performed without consequences, and the victims of the behavior suffer without appropriate remedy. My Corporate Conspiracy Vacuum article argues that public and judicial frustration with the lack of accountability for corporate conspiracy has now warped the doctrines around it.

Courts have used a wide variety of doctrines to hold agents of enterprises responsible for their actions that should have prosecuted as intracorporate conspiracy. Some of these doctrines include:

piercing the corporate veil,

responsible corporate officer doctrine, and related control person liability,

denying the retroactive imposition of the corporate veil, and

reverse piercing of the corporate veil.

But the new applications of these alternative doctrines are producing distortions that make the doctrines less stable, less predictable, and less able to signal proper incentives to individuals within organizations.

An example of how piercing the corporate veil has been used to defeat intracorporate conspiracy immunity can be seen in the Morelia case. A previous blogpost discussed how the intracorporate conspiracy doctrine has defanged RICO prosecutions of agents and business entities. In Morelia, which was a civil RICO case, the federal district court, obviously outraged by defendants’ behavior in the case, explicitly permitted plaintiffs to pierce the corporate veil to avoid application of the intracorporate conspiracy doctrine. In a creative twist invented from whole cloth to link the two doctrines, the Morelia court overruled its magistrate judge’s recommendation to announce:

"Since the court has determined that plaintiffs have properly alleged that the corporate veil should be pierced, the individual defendants may be liable for corporate actions and any distinction created by the intra-corporate doctrine does not exist."

Regarding its test for piercing the corporate veil, the Morelia court further overruled its magistrate’s recommendation by focusing on plaintiffs’ arguments regarding undercapitalization, and its decision included only a single footnote about the disregard of corporate formalities.

The Morelia court is not alone in its frustration with the intracorporate conspiracy doctrine and in its attempt to link analysis under the intracorporate conspiracy doctrine with the stronger equitable tenets of piercing the corporate veil. More subtly, courts across the country have started to entangle the two doctrines’ requirements as intracorporate conspiracy immunity has become stronger and courts have increasingly had to rely on piercing the corporate veil as an ill-fitting alternative to permit conspiracy claims to proceed. Even large public companies should take note. No public company has ever been pierced, but a bankruptcy court recently reverse-pierced corporate veils of the Roman Catholic Church, which is far from a single-person “sham” corporation. My Corporate Conspiracy Vacuum article discusses additional examples and repercussions for incentives under each of these alternative doctrines.

My next blogpost will examine how frustration with intracorporate conspiracy immunity has led to volatility in responsible corporate officer doctrine and related control person liability. Ironically, executive immunity from conspiracy charges fuels counterproductive CEO turnover.

Permalink | Agency Law, Bankruptcy, Business Ethics, Business Organizations, Businesses of Note, Corporate Governance, Corporate Law, Crime and Criminal Law, Economics, Employees, Entrepreneurs, Entrepreneurship, Financial Crisis, Financial Institutions, Law & Economics, Law & Entrepreneurship, Law & Society, Management, Masters: Dodd-Frank, Masters: Dodd-Frank@1, Politics, Roundtable: Corps/B.A., Social Responsibility, White Collar Crime | Comments (View) | TrackBack (0) | Bookmark

January 26, 2015
icon Subsidizing Savings v. Subsidizing Borrowings
Posted by Christine Hurt

OK, so I try not to just vote my interest.  If I'm in tax bracket A, I try not to root for tax cuts to A and cheer for tax hikes for tax bracket B and so forth.  I know it's human to vote one's interest, but I try to vote the interest of the country.  (Ha!)

BUT, I have to say I hate this new proposal.  Currently 529 programs allow anyone to save money for future education benefits for any named beneficiary, with all returns on investment growing tax-free.  Distributions for educational purposes are tax-free as well.  There are no phase-outs or maximum income rules for using 529s.  Well, the White House proposes that this end.  Any future deposits into a 529 will be subject to taxation on returns upon distribution.

Aargh. Here, voting for this proposal is in my own interest, but I also think it's a bad policy.  Yes, I am in the 529 generation.  We had our first child in 1999, about the same time as details were being hammered out in early versions of the 529 that would become part of what is now known as "the Bush Tax Cuts" in 2001.  We have relied heavily on the 529 vehicle for all our kids, and I would be very upset personally if this tax benefit would disappear (going forward).  And no, I doubt we would continue to use the 529 vehicle for that purpose if earnings were taxed on distribution given the educational limit on use.  Now, we are taking the risk that one or more of our children will somehow get scholarship dollars for all their education and be unable to use all of their funds for educational use.  

I also do not believe that it is a rationalization to say this proposal is bad.  The optics are bad; the result is bad.  If you ask anyone in higher education what the biggest problem today is, the answer would have to be student debt.  So, why would you want to suddenly discourage earmarked savings for higher education?  If we are concerned about the cost of education, then maybe we should quit using federal money to subsidize student debt, not quit using federal money to subsidize student savings.

Permalink | Education | Comments (View) | TrackBack (0) | Bookmark

icon The Silenced Connecticut Sex-Abuse Case
Posted by Josephine Sandler Nelson

My previous blogposts (one, two, three, four, and five) introduced why conspiracy prosecutions should be used to reach wrongdoing by agents within an organization. The 2012 prosecution of Monsignor Lynn for twelve years of transferring predator priests from parish to parish at the command and for the benefit of the Archdiocese of Philadelphia was defeated by the intracorporate conspiracy doctrine. Moreover, this was not the first time that the Roman Catholic Church had used the doctrine to help its bureaucrats escape liability for suppressing sex abuse cases.

In 1997, employees of the Roman Catholic Church in Connecticut were alleged—very much like Lynn—to have covered up the sexual misconduct of a priest, enabling him to continue to abuse children entrusted to the Church’s care by virtue of his office. When sued for civil conspiracy by the victims, the employees’ defense was that they were acting in the best interest of the corporation.

The Connecticut court found that the test for whether an agent is acting within the scope of his duties “is not the wrongful nature of the conspirators’ action but whether the wrongful conduct was performed within the scope of the conspirators’ official duties.” If the wrongful conduct was performed within the scope of the conspirators’ official duties, the effect of applying the intracorporate conspiracy doctrine is to find that there was no conspiracy. Because covering up the priest’s sex abuse was in the best interest of the corporate organization, the court found that the employees were all acting on behalf of the corporation. The court never reached the issue of whether the employees’ actions rose to the level of a civil conspiracy. Under the intracorporate conspiracy doctrine, it was a tautology that no conspiracy could be possible.

This case is interesting not only because it documents the way that the intracorporate conspiracy doctrine protects enterprises from inquiry into conspiracies, but also because of the subsequent history of its allegations. The full extent of the Bridgeport Diocese’s wrongdoings—if current public knowledge is indeed complete—only came to light in December 2009, twelve years after the 1997 case. It took twelve years, the combined resources of four major newspapers, an act displaying public condemnation of the Roman Catholic Church by members of the state legislature, and finally a decision by the U.S. Supreme Court to release the documents that could have become the basis of the intracorporate conspiracy claim in 1997. There is still no conspiracy suit or any criminal charge against the Diocese. Additional details about the case are available in my article The Intracorporate Conspiracy Trap. The article will be published soon in the Cardozo Law Review, and it is available in draft form here.

Astonishingly, none of the extensive news coverage about the sexual abuse cases in Bridgeport over those additional twelve years has connected these facts to the original 1997 case defeated by application of the intracorporate conspiracy doctrine. If the intracorporate conspiracy doctrine had not provided immunity, the case might have revealed the Diocese’s pattern of wrongdoing long beforehand and in a much more efficient way.

My next blogpost reveals additional dangers from the spread of the intracorporate conspiracy doctrine: frustration with the intracorporate conspiracy doctrine has started to distort other areas of law.

Permalink | Agency Law, Business Ethics, Business Organizations, Businesses of Note, Corporate Governance, Corporate Law, Crime and Criminal Law, Employees, Finance, Financial Crisis, Financial Institutions, Law & Economics, Law & Entrepreneurship, Law & Society, Management, Masters: Dodd-Frank, Masters: Dodd-Frank@1, Politics, Popular Culture, Roundtable: Corps/B.A., Social Responsibility, White Collar Crime | Comments (View) | TrackBack (0) | Bookmark

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