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Abstract:
Following the collapse of Enron Corporation, the ethical obligations of corporate attorneys have received increased scrutiny. The Sarbanes-Oxley Act of 2002, enacted in response to calls for corporate reform, specifically requires the Securities and Exchange Commission to address the lawyer's role by requiring covered attorneys to report up evidence of corporate wrongdoing to key corporate officers, and, in some circumstances, to the board of directors. Failure to report up subjects a lawyer to liability under federal law.

This article argues that the reporting up requirement reflects a second-best approach to corporate governance reform. Rather than focusing on the actors that traditionally control a corporation's activities, the statute attempts to solve governance problems indirectly by assigning to the lawyer the role of corporate gatekeeper and information intermediary. We demonstrate that the reporting up requirement fails to address the incentives that motivate corporate attorneys, directors, and managers. At the same time, the provision threatens to undermine the flow of information between lawyers and corporate actors. As a consequence, we suggest that the requirement is unlikely to achieve its objective of providing key corporate decisionmakers with early information about potential misconduct. Moreover, attorney and manager responses to the reporting up requirement are likely to reduce the quality of legal services provided to the corporation.

Based on this cost-benefit analysis, we conclude that the Sarbanes-Oxley approach to corporate governance reform is flawed. Instead, we argue that a demand side approach is most likely to realign corporate attorney incentives and to reinvigorate the business lawyer's important role in promoting good corporate governance. Toward that end, we identify specific reforms tailored to increasing the incentives for corporate officers and directors to demand and obtain better legal advice.

Sarbanes-Oxley, ethics, lawyer regulation

Abstract:
The shareholder primacy norm defines the objective of the corporation as maximization of shareholder wealth. Law and economics scholars have incorporated the shareholder primacy norm into their empirical analyses of regulatory efficiency. An increasingly influential body of scholarship uses empirical methodology to evaluate legal rules that allocate power within the corporation. By embracing the shareholder primacy norm, empirical scholars offer normative assessments about regulatory choices based on the effect of legal rules on measures of shareholder value such as stock price, net profits and Tobins Q.

This Article challenges the foundations of using the shareholder primacy norm to judge corporate law. As the Article explains, existing legal doctrine and economic theory provide only limited support for shareholder primacy. Similarly, shareholder primacy cannot be justified as a necessary consequence of existing limits on the enforcement of management fiduciary duties. The Article demonstrates that, rather than defining the corporation's objectives, the limited scope of a fiduciary duty claim provides a mechanism for institutional specialization in responding to the needs of different corporate stakeholders. Comparative institutional analysis suggests that the courts are uniquely positioned to protect the interests of shareholders in the context of inter-stakeholder conflicts. Implementation of this role through rules that grant shareholders a unique degree of judicial access does not privilege the interests of shareholders in the evaluation of firm value.

The presence of other stakeholders, whose interests in the firm may be not reflected in an assessment of shareholder value, offers reasons to question the conclusions of existing empirical research. In addition, the measures of shareholder value typically employed by empirical scholars - particularly short term stock price - are problematic as indications of firm value and may reinforce inappropriate managerial decisions. The Article maintains that empirical scholars need to offer better and explicit justifications for their reliance on shareholder wealth and, more importantly, for their argument that shareholder wealth effects should dominate regulatory policy.

Abstract:
Securities market intermediaries operate in a number of areas in the capital markets reducing the collective action problem facing investors. Analysts provide securities research. Proxy advisory firms assist investors in determining how to vote their shares. And even shareholders bringing proxy contests can be viewed as providing a collective benefit to the extent the contests are motivated out of a desire to increase share value. Despite the service they provide investors, many intermediaries face financing problems due to pervasive free riding on the part of dispersed shareholders. In some areas, the law provides for mandatory financing of intermediaries (including the independent audit requirement for most public firms). Regulators are poorly suited, however, to make decisions on precisely how to distribute subsidies to intermediaries. Much of the current level of subsidization therefore is left to firms (and their managers) to provide voluntarily. Firms may subsidize analysts, for example, through elevated investment banking fees to a financial brokerage firm. Managers, however, may then use firm financing of intermediaries to corrupt the intermediaries in favor of the managers.

Understanding the problem of intermediary corruption as an outgrowth of the financing problem facing intermediaries cautions against simply imposing regulatory prohibitions on voluntary firm subsidies. Instead, we propose to separate the decision of how much to subsidize intermediaries from the decision on who should get the subsidies through voucher financing. Under our proposal, regulators determine a subsidy amount funded through levies on public firms (roughly equal to the present amount of subsidies which flow from firms to intermediaries). Shareholders are then given the ability to direct (using vouchers) to which intermediaries their subsidy dollars should go in proportion to their shares. Voucher financing provides a market-based mechanism to finance intermediaries, resulting in greater flexibility and responsiveness in the provision of intermediary financing. With vouchers, shareholders may mass vouchers from several firms in their portfolios and direct them across time (saving them for the future) and across different intermediaries to their highest value use. Shareholders, of course, may lack full information on the value of different intermediaries. Shareholders may also fail to coordinate in the distribution of vouchers. We think, nonetheless, that solutions exist for such problems. Moreover, voucher financing represents a superior alternative compared with error-prone mandatory regulatory attempts at providing financing for intermediaries as well as conflict-of-interest prone voluntary firm financing.

securities market research, analysts, voucher financing, securities market intermediaries

Abstract:
United States law extensively regulates corporate participation in the political process. The rationale for this regulation is a concern that corporate political activity, particularly campaign contributions, will corrupt the political process and enable corporations to obtain rents at societal expense. Regulators, the media and the public generally view corporate political activity as illegitimate and distinguish it from operational business decisions. Critics of corporate political activity advocate ever-increasing regulatory restrictions and support their analysis with empirical studies that purport to demonstrate the ability of corporate donors to buy favorable legislation by making political contributions to members of Congress.

This Article challenges the prevailing characterization of corporate political activity as a distortion of the political process. Using a case study methodology, the Article examines the political involvement of one company, FedEx, in a series of regulatory reforms over a forty year period. Drawing upon the business context, the legislative record, campaign finance materials and interest group analysis, the Article demonstrates that political activity has been an integral component of FedEx's business growth and operations. FedEx has successfully used its political influence to shape legislation, and FedEx's political success has, in turn, shaped its overall business strategy. Moreover, in identifying the specific components of FedEx's political activity, the Article highlights the range of mechanisms that corporations use to engage in politics, revealing that the exercise of political influence is far more complex than the purchase of political favors in a spot market.

Regulation is becoming an increasingly important factor for United States businesses. As a result, corporations must integrate political activity into their overall business strategy and must develop and manage their political capital in the same way that they manage other business assets. The FedEx story demonstrates the importance of politics to business and explains the growing investment by corporations in political capital. It further explains how the business world has responded, and will continue to respond, to regulatory restrictions by developing alternative mechanisms for exerting political influence. By understanding how and why corporations participate in politics, policy-makers can better address concerns about the effect of corporate political influence.

corporate political activity, campaign finance, political contributions

Abstract:
When Congress enacted the Private Securities Litigation Reform Act in 1995, the Act's "lead plaintiff" provision was the centerpiece of its efforts to increase investor control over securities fraud class actions. The lead plaintiff provision alters the balance of power between investors and class counsel by creating a presumption that the investor with the largest financial stake in the case will serve as lead plaintiff. The lead plaintiff then chooses class counsel and, at least in theory, negotiates the terms of counsel's compensation. Congress' stated purpose in enacting the lead plaintiff provision was to encourage institutional investors - pension funds, mutual funds, hedge funds, etc. - to come forward to serve as lead plaintiff. The theory was that an institutional investor with a substantial damages claim would have the incentive to bargain hard with class counsel on behalf of the class, reducing the percentage of the recovery awarded to class counsel. Congress also expected institutions to play an oversight role, monitoring to make sure that class counsel was vigorously pursuing claims on behalf of the class and not settling claims on the cheap.

Our study offers evidence on the extent to which the lead plaintiff provision furthers these goals. We have collected two samples of securities class actions - one from 1991 to 1995 (pre-PSLRA), and one from 1996-2000 (post-PSLRA). We compare the class representatives from the two periods to determine if institutional investors are stepping forward in significantly greater numbers. We also sort the institutional investors - distinguishing public from private - to see what types of investors have stepped forward to serve as lead plaintiff. Consistent with other research, we find a significant difference only in the number of public institutions serving as lead plaintiff.

Our sample also allows us to analyze the impact of the lead plaintiff provision. Does the presence of an institutional investor increase the likelihood of a high value settlement? Despite the visible participation of institutions in several high-profile cases, we find no systematic evidence that private institutional lead plaintiffs are associated with larger class recoveries. Public pension funds, on the other hand, are correlated with higher class recoveries as a fraction of the potential damage award in the post-PSLRA period. Our results are, however, consistent with the possibility that public pensions "cherry pick" the actions in which they seek to become lead plaintiff, selecting only the cases with the largest potential damages and the strongest evidence of fraud. Further analysis is necessary to evaluate this possibility.

We also evaluate the effect of lead plaintiffs on the selection of attorneys and attorneys' fees. We find that, for the time period of our study, institutional investors tended to avoid the Milberg Weiss plaintiffs' attorney firm. On the more fundamental issue of whether the presence of an institutional investor as a lead plaintiff reduces the fees paid to the lawyers, after controlling for the size of the case, we find no systematic evidence that institutional involvement correlates with lower fee awards.

securities regulations, class actions, procedure, lead plaintiff, pslra

Abstract:
From the classic Cary-Winter debate to current legal scholarship, commentators have struggled to explain Delaware's dominance in the market for corporate charters. Although scholars have offered nonsubstantive explanations such as network externalities, interest group dynamics, and Delaware's expert and specialized judiciary, much of the debate focuses on substantive law.

This article takes another view. Arguing that a regulator can offer benefits through its lawmaking process, as well as its legal rules, the article suggests a process-oriented analysis of regulatory competition. The article focuses on the unique role of the Delaware judiciary in corporate lawmaking, a role that has received little attention from corporate law scholars. The article demonstrates that Delaware uses a unusual process to make corporate law, relying heavily on judge-made law, but employing a different lawmaking structure than that used by other states. As a result of this structure, Delaware judicial lawmaking more closely resembles legislation in its scope, flexibility, and responsiveness.

The article then evaluates this lawmaking structure from a standpoint of comparative institutional advantage. In particular, the article compares Delaware's process to the legislative process. The article concludes that Delaware lawmaking offers particular advantages, including flexibility, responsiveness, reduced political influence, and transparency. These benefits increase Delaware's ability to adjust its corporate law to changes in the business world. The article's explanatory power includes its identification of the role of the Delaware courts as central to Delaware's dominance of the market for corporate charters. Moreover, the article's assessment of the importance of the lawmaking process has important implications for the application of Delaware's success to continuing questions of regulatory design.

Abstract:
We survey public pension funds and report on their litigation and non-litigation activism. We report that activity levels vary, dramatically. Although some funds engage in a substantial amount of governance activity, a significant number do little or nothing. Public pension funds engage in a very limited spectrum of non-litigation activities, involving primarily low visibility activities such as participation in corporate governance organizations or withholding votes from a management nominee. Funds with more assets under management are far more active in non-litigation activism. Similarly, funds that devote more resources generally to in-house activities are also more active in non-litigation activism. A marked difference exists for litigation activism. Public pension fund participate much more extensively in shareholder litigation than in other governance activities. Despite the importance of asset size for participation levels, we also find that for litigation-related activism, smaller funds participate with equal frequency.

institutional investors, pension funds, shareholder activism, corporate governance

Abstract:
With the adoption of the Sarbanes-Oxley Act of 2002, Congress vested the Securities and Exchange Commission with the authority to promulgate professional standards of conduct for attorneys. The Commission, however, went beyond requiring that attorneys report corporate misconduct "up the ladder" by introducing a new corporate governance structure - the qualified legal compliance committee or QLCC. The QLCC reduces the statutory emphasis on lawyers as gatekeepers in favor of increasing the focus on board structure and director independence.

Although increasing reliance on the board of directors rather than outside gatekeepers to prevent and address corporate misconduct may well be desirable, several components of QLCCs are problematic. The Commission appears to have given little consideration to the potential costs of establishing QLCCs. At the same time, the potential benefits of QLCCs may be overstated. These facts are particularly troubling, because the Commission's rules provide incentives for attorneys to pressure issuers to create QLCCs as a means of reducing the attorney's own liability. Accordingly, issuer decisions to create QLCCs could be influenced more by the market for legal services than the benefits and costs of QLCCs themselves. Finally, the Commission's conception of the ideal corporate governance model is open to question. QLCCs are part of a continuing effort to reduce corporate misconduct by enhancing the monitoring role of the board of directors through a rule-based approach to board structure and director independence. As recent governance scandals demonstrate, this approach is unlikely to produce radical changes in the effectiveness of directors, primarily because rules specifying board structure and director independence do not create adequate incentives for directors to take a more active role in monitoring corporate management.

We conclude by considering ways to address the incentives of directors, including increased director liability, changes to director compensation, and alternative mechanisms for director selection. Although each of these methods is imperfect, collectively they illustrate the limitations of the Commission's approach, which emphasizes board structure without adequately addressing director passivity. The range of options available to improve director incentives and accountability highlights the shortcomings of the Commission's current rulemaking efforts.

Directors, attorneys, QLCCs, SEC rules

Abstract:
Using a dataset of proxy recommendations and voting results for uncontested director elections from 2005 and 2006 at S&P 1500 companies, we examine how advisors make their recommendations and how these recommendations and other factors affect the shareholder vote. Of the four firms we study, Institutional Shareholder Services (ISS), Proxy Governance, Glass Lewis, and Egan Jones, ISS is widely regarded as the most influential and its recommendation is claimed to sway 20-30% of the vote. We find that the four proxy advisory firms differ systematically from each other both in their willingness to issue a withhold recommendation and in the factors that affect their recommendation.

We further find that all the proxy advisors, but particularly ISS, base their recommendations largely on factors that shareholders take into account (independent of the recommendation) in casting their vote. Once these factors are controlled for, overall voting outcomes are substantially similar whether or not a proxy advisor has issued a recommendation. Our analysis demonstrates that the reported influence of ISS is substantially overstated. Our evidence is consistent with the view that proxy advisors act primarily as agents or intermediaries which aggregate information that investors find important in determining how to vote in director elections rather than as independent power centers.

proxy advisors, corporate governance, shareholder voting, ISS, institutional investors

Abstract:
Corporate political contributions have been extensively regulated out of a concern that they provide corporations with undue influence over political decisionmaking. Campaign contributions, however, are not the main way that corporations influence public policy. Instead, corporate political activity consists of the development and deployment of political capital. This Article develops a theory of political capital to describe corporate investments in political experience, reputation and relationships. The conception of political capital offers a richer explanation for corporate political behavior than the portrayal of corporations buying political favors in a spot market. The argument that political capital is properly understood as a firm asset is further supported by empirical work demonstrating a relationship between political capital and firm value.

The Article then illustrates the operation of political capital through a case study of the FedEx experience. By examining FedEx's involvement in a series of regulatory reforms, the Article demonstrates how FedEx has cultivated its political capital and used that capital to secure favorable regulatory changes. In so doing, the Article highlights the contributions of the political capital theory in explaining FedEx's success.

The Article goes on to consider the extent to which the FedEx experience is typical, both by comparing FedEx to its commercial competitors and by identifying several factors that are likely to be key components in explaining FedEx's decision to invest in political capital. Finally, the Article explores the implications of the political capital theory for differences among firms. The political capital theory suggests that these differences may reflect efficient specialization and economies of scale. Moreover, the theory offers an alternative perspective on special interest legislation by positing that such legislation may reflect efficient subsidization of politically active leader firms to reduce the cost of free riding.

Although this Article offers merely a modest starting point for future research, the political capital theory identifies key components of the political process that are outside the scope of existing research on corporate political activity. In addition, the Article suggests an agenda for future empirical research to develop the concept and role of political capital.

Abstract:
We study the role of attorneys as arbitrators in securities arbitration, using a dataset of 422 randomly selected arbitrators and their 6724 arbitration awards from 1992 to 2006. We find that arbitrators who also represent brokerage firms or brokers in other arbitrations award significantly less compensation to investor-claimants than other arbitrators. This relation between representing brokerage firms and arbitration awards remains significant even when we control for political outlook. We find no significant effect for attorney-arbitrators who represent investors or both investors and brokerage firms. We report that ideology also correlates significantly with arbitration awards - arbitrators who donate money to Democratic political candidates award greater compensation than arbitrators who donate to Republican candidates.

Because the arbitration award is the product of the panel, not a single arbitrator, we also study the dynamics of panel interaction. We find that the position of chair is an important factor in assessing the arbitrator's influence (although the financial conflicts of other arbitrators may also affect arbitration awards). Coalitions among the other arbitrators are also important. If the chair and another panelist possess a common attribute, the effect on the arbitration award increases.

Finally, we provide evidence that the 1998 NASD reforms to the arbitration process - which introduced party control over the composition of panels - ameliorated, but did not eliminate, the effect that attorneys who represent brokers have on outcomes. We find no significant effect from the NASD's 2004 reforms.

attorneys, procedure, litigation, arbitration, securities regulation, investors, brokers, brokerage firms

Abstract:
The Supreme Court's decision in Dura Pharmaceuticals dramatically changed federal securities fraud litigation. The Dura decision itself said little, but counseled lower courts to fashion new requirements of causation and harm modeled upon common law tort principles. These instructions have led lower courts to craft a series of confusing and inconsistent decisions that incorporate little of the reasoning upon which the common law principles are based.

This Article accepts the Dura challenge and examines both common law causation principles and their applicability to federal securities fraud. In so doing, the Article identifies the failure of the federal courts properly to confront the complex causation challenges presented by securities fraud and the extent to which common law approaches to multiple and indeterminate causation offer guidance. Common law causation analysis further highlights the critical issue of harm specification. The Article demonstrates how, from Basic to Dura, the Supreme Court has refused to address the issue of what constitutes an appropriate economic loss, despite the fact that this determination is a necessary predicate to formulating a causation requirement. The Article goes on to show how, in Basic, the Court shifted the nature of actionable harm and, in so doing, exacerbated the complexity of causation analysis.

Defining the appropriate harm involved in securities fraud is challenging. Drawing upon tort law principles, the Article considers several alternatives, ranging from artificial price inflation and ex post stock drop, to increased investment risk. The choice among these alternatives reflects policy judgments about the appropriate goals of private securities fraud litigation. In its final section, the Article considers current critiques of securities fraud litigation and demonstrates how these concerns should influence the scope of the private right of action.

corporations, stock fraud litigation, private right of action, common law tort of fraud, economic loss, artificial price inflation, ex post stock drop, investment risk

Abstract:
An extensive body of empirical research evaluates corporate law in terms of its effect on shareholder wealth and, based on this effect, makes efficiency claims designed to influence regulatory policy. Central to these claims is the premise that the principal objective of the corporation is the maximization of shareholder wealth. By defining regulatory efficiency in terms of shareholder wealth, the literature relies on the shareholder primacy norm to equate shareholder value with firm value.

This Article challenges both the positive and the normative foundations of the shareholder primacy norm. The Article demonstrates that existing legal doctrine does not require corporations to maximize shareholder wealth at the expense of other stakeholder interests. Although economic analysis offers a theoretical defense of shareholder primacy, its conclusions are based on strong and questionable assumptions about the market conditions in which the corporation operates. Finally, the Article explores and rejects the argument that shareholder primacy may be grounded in existing limits on management fiduciary duties, offering an alternative defense of those limits in terms of comparative institutional analysis.

Justifying the evaluation of corporate performance in terms of shareholder wealth is critical to empirical claims of regulatory efficiency. The presence of other stakeholders, whose interests in the firm may be not reflected in an assessment of shareholder value, raises questions about efficiency analyses that do not incorporate those interests into their assessment of firm value. Alternative conceptions of firm value suggest that empirical scholars need to offer better and explicit justifications for their reliance on shareholder wealth and, more importantly, for their argument that shareholder wealth effects should dominate regulatory policy.

Abstract:
The market for sovereign debt differs from the market for corporate debt in several important ways including the risk of opportunistic default by sovereign debtors, the importance of political pressures, and the presence of international development organizations. Moreover, countries are subject to neither liquidation nor standardized processes of debt reorganization. Instead, negotiations between a sovereign debtor and its creditors lead to a voluntary restructuring of the sovereign's debt.

One of the greatest difficulties in restructuring claims against sovereign debtors is balancing the interests of the majority of the creditors with those of minority creditors. Holdout creditors serve as a check on opportunistic defaults and unreasonable restructuring terms, yet their presence can interfere with the restructuring process. In this Article, we examine the role of holdout creditors within the context of the international capital markets. In particular, we consider the effect of a litigation remedy on the power of holdout creditors to influence current restructurings of sovereign debt.

Recent commentators have criticized holdout creditors and proposed mechanisms designed to reduce their power - particularly their power to enforce contractual claims against sovereign debtors through litigation. We argue that these proposals may undervalue the role of holdout creditors in facilitating the restructuring process and in promoting the functioning of the international capital markets. Accordingly, we suggest that, prior to the implementation of broad reforms, the value of holdouts be tested through a market-based approach. We propose several modifications to the terms of agreements governing sovereign bonds that can be tested in the market as a mechanism for assessing the value of holdout litigation in the international financial architecture.

Abstract:
Using a dataset of proxy recommendations and voting results for uncontested director elections from 2005 and 2006 at S&P 1500 companies, we examine how advisors make their recommendations. Of the four firms we study, Institutional Shareholder Services (ISS), Proxy Governance (PGI), Glass Lewis (GL), and Egan Jones (EJ), ISS has the largest market share and is widely regarded as the most influential. We find that the four proxy advisory firms differ substantially from each other both in their willingness to issue a withhold recommendation and in the factors that affect their recommendation.

It is not clear that these differences, or the bases for the recommendations, are transparent to the institutions that purchase proxy advisory services. If the differences are not apparent, investors may not accurately perceive the information content associated with a withhold recommendation, and investors may rely on those recommendations based on an erroneous understanding of the basis for that recommendation. To the extent that proxy advisors aggregate information for the purpose of facilitating an informed shareholder vote, these limitations may impair the effectiveness of the shareholder franchise. If the differences are apparent, our results show that investors, though selecting a proxy advisor, can indirectly choose the bases for their vote on directors. To that extent, it is likely that proxy advisory firms will retain more investor clients if their recommendations are based on factors that their clients consider relevant.

corporations, securities law, shareholder voting, proxy recommendations, proxy advisory services, election of directors, regression analysis

Abstract:
This article focuses on aggregation and auctions, two key litigation developments in the selection of counsel under the Private Securities Litigation Reform Act of 1995. After reviewing some of the background concerns, including collective action problems presented by the class action structure and issues regarding the award of attorneys fees, the article explains how the lead plaintiff provision, adopted by Congress, addresses these concerns through a model of client empowerment.

The article then explains two recent trends: the use of lead counsel groups, in which courts appoint multiple investors and aggregate their holdings, and the use of an auction procedure to select lead counsel and determine counsel fees. The trends deal with facially separate issues, yet they are disturbing for the same reasons. First, both aggregation and lead counsel auctions weaken the relationship between the lead plaintiff and class counsel and specifically reduce the ability of the lead plaintiff to exert control over litigation decisionmaking. Second, both trends lead to serious problems in implementing the lead plaintiff provision. Finally, the trends maintain an active judicial role in supervising the conduct of the litigation.

The article challenges the propriety of aggregation and auctions under the PSLRA, arguing that neither development is supported by the statutory text or legislative history. The article further argues that these approaches are inconsistent with and likely to frustrate the objectives of the PSLRA. Courts that appoint groups of unrelated investors as lead plaintiffs will face difficult questions of appropriate group size and composition. Lead plaintiff groups are unlikely to function in accordance with the statutory design; in particular, they are unlikely to select or monitor class counsel effectively. Selection of lead counsel by auction is not an attractive alternative. Lead counsel auctions present substantial issues in design and implementation, and there is little reason to believe that a judicially conducted auction can replicate the market process or result in a selection decision and fee award more appropriate than the decisions made by a suitable lead plaintiff.

Finally, the article argues that both developments are based on the mistaken perception that class action abuses can be addressed through judicial oversight. In adopting the lead plaintiff provision, however, Congress expressly rejected this premise. The effect of both aggregation and lead counsel auctions is to maintain judicial empowerment at the expense of client control. This approach undermines the potential for client empowerment to achieve meaningful litigation reform.

Abstract:
An extensive body of behavioral economics literature suggests that investors do not behave with perfect rationality. Instead, investors are subject to a variety of biases that may cause them to react inappropriately to information. The policy challenge posed by this observation is to identify the appropriate response to investor irrationality. In particular, should regulators attempt to protect investors from bad investment decisions that may be the result of irrational behavior?

This article considers the appropriate regulatory response to investor irrationality within the concrete context of the research analyst. Many commentators have argued that analyst conflicts of interest led to biases reports and recommendations that distorted analyst behavior. In the wake of the analyst scandals, regulators have responded - most recently by mandating increased independence. This response can be understood as an effort to make investor reliance reasonable.

The article questions this mission. In particular, the article challenges the role of regulators in identifying appropriate sources of investment information or determining when investor behavior is rational. This fallibility of regulatory oversight coupled with the costs of regulation suggest that regulators should exercise caution, particularly in light of the market's capacity to discipline investor decisions.

behavioral economics, investor rationality, research analysts

Abstract:
The role of the research analyst has come under extensive scrutiny. Analyst conflicts of interest have been blamed for distorting analyst reports and recommendations, and undermining the analyst's role as an information conduit for investors and a gatekeeper of the integrity of the securities markets. The regulatory response has been a call for mandated analyst independence from conflicts of interest, particularly those relating to investment banking.

This Article challenges the regulatory goal of analyst independence. The Article questions the extent to which so-called analyst business relationships are inconsistent with their client obligations and the degree to which the supposed conflicts reduce the quality of analyst information. The Article also demonstrates that the independence requirement can only be predicated on a conception of the analyst a fiduciary - a conception that is inconsistent with the nature of the research industry. More importantly, the Article argues that the costs of imposing fiduciary status on research analysts are too high. By removing viable sources of funding analyst research, mandated independence is likely to be counter-productive and to reduce market efficiency. As an alternative, the Article identifies several more limited regulatory changes that are likely to increase the value of analyst research to the market while maintaining its financial viability.

research, analyst, conflicts of interest, securities regulation

Abstract:
In their forthcoming article, Redesigning the SEC: Does the Treasury Have a Better Idea?, Professors John C. Coffee, Jr., and Hillary Sale offer compelling reasons to rethink the SEC’s role. This article extends that analysis, evaluating the SEC’s responsibility for the current financial crisis and its potential future role in regulation of the capital markets. In particular, the article identifies critical failures in the SEC’s performance in its core competencies of enforcement, financial transparency, and investor protection.

The article argues that these failures are not the result, as suggested by the Treasury Department Blueprint, of a balkanized regulatory system. Rather, the SEC has failed to maintain its functional effectiveness in a time of increased financial market complexity – complexity stemming from financial product innovation, globalization and the growing role of financial intermediaries. This complexity demonstrates the shortcomings of self regulation and places an enhanced premium on the SEC’s core competencies, particularly maintaining effective financial disclosure. As a result, this article argues that regulatory reform should not entail a massive overhaul of the regulatory structure but should instead improve the SEC’s effectiveness through a renewed emphasis on leadership, increased independence, and enhanced oversight and analysis of market developments.

Securities Law, United States Treasury Department, Administrative Law, regulation of capital markets, enforcement, financial transparency, investor protection, increased market complexity, financial product innovation, globalization, self regulation, disclosure, regulatory reform

Abstract:
Many critics argue that private securities litigation fails effectively either to deter corporate misconduct or to compensate defrauded investors. In particular, commentators reason that damages reflect socially inefficient transfer payments - the so-called circularity problem. Fox and Mitchell address the circularity problem by identifying new reasons why private litigation is an effective deterrent, focusing on the role of disclosure in improving corporate governance.

The corporate governance rationale for securities regulation is more powerful than the authors recognize. By collecting and using corporate information in their trading decisions, informed investors play a critical role in enhancing market efficiency. This efficiency, in turn, allows the capital markets to discipline management, producing a governance externality that improves corporate decision-making and benefits non-trading shareholders. As this article shows, this governance externality justifies compensating informed traders for their fraud-based trading losses.

securities law, corporations, corporate misconduct, fraud-based trading losses, damages, transfer payments, inefficiency, deterrence, disclosure, transparency, corporate governance externality, market efficiency

Abstract:
The lead counsel auction has recently achieved increased visibility as a possible way of improving the selection and compensation of plaintiffs' counsel in class action litigation. Supporters of the auction approach, including judges who have used lead counsel auctions, claim that the lead counsel auction introduces competitive market forces into the selection process, and that these forces can address many existing problems with class action procedures and the jurisprudence of fee awards. The benefits of the auction, they claim, include lower legal fees and better representation of the plaintiff class.

These claims have not been subject to careful scrutiny. Indeed, auction advocates have overlooked substantial methodological problems with the design and implementation of the lead counsel auction. Even if these problems were overcome, limitations of the auction procedure hamper its ability to function as an effective method of selecting class counsel. In particular, auctions are poor tools for selecting firms based on multiple criteria, such as price and quality, auctions potentially compromise the judicial role, and lead counsel auctions are unlikely to produce reasonable fee awards.

Although the existing record in auction cases is insufficient to permit a rigorous empirical evaluation, early results raise concerns. This article therefore considers an alternative method for selecting and retaining lead counsel: negotiation by an empowered lead plaintiff. The article describes recent developments in institutional activism under the Private Securities Litigation Reform Act of 1995, and argues that these developments demonstrate that client empowerment is a more effective way of incorporating market forces into the selection and compensation of class counsel. The article concludes with interpretive guidance for the courts to facilitate further development of the PSLRA model and with an analysis of how the empowered lead plaintiff model can be extended beyond securities litigation.

Class Actions, Lead Counsel Auctions, Institutional Investors, Securities Litigation

Abstract:
Recent federal court decisions have struggled to apply the Supreme Court's decision in Central Bank v. First Interstate to formulate a standard for when outside professionals should be held liable as primary violators under section 10(b) of the Securities Exchange Act. In keeping with the Court's current interpretive methodology, Central Bank and its progeny employ a textualist approach. In this Article, Professor Fisch argues that textualism is an inappropriate approach for interpreting the federal securities laws generally and misguided in light of legislative developments post-dating the Central Bank decision. Instead, Professor Fisch advocates an approach that weighs Congress's recent endorsement of liability for outside professionals against the potential for litigation abuses perceived by the Central Bank Court. The Article concludes that recent federal decisions have been unduly restrictive in their interpretation of section 10(b) liability, and suggests that courts give greater consideration to the nature of the professional-client relationship and the role of liability in furthering the integrity of the securities markets.

Abstract:
This article uses the model of qui tam litigation as a tool to understand class action litigation. Starting with an examination of current class action practice, the article demonstrates how class actions have moved away from the format of traditional individual litigation. Departures from traditional procedural rules have been justified as deterring corporate misconduct, yet these departures are frequently criticized as reducing victim compensation and creating agency problems.

The article goes on to consider proposals for class action reform. Existing reform proposals tend to take one of two forms: either they propose remodeling class litigation so that it more closely resembles traditional litigation, or they propose more dramatic departures from traditional procedural rules in order to enhance the deterrence effect of the class suit. The latter reforms, based on the private attorney general model, move class litigation closer to government enforcement litigation. A significant reason for the conflict between these approaches stems from disagreement about whether class actions should focus on victim compensation or deterrence of misconduct.

The article argues that, before either approach to class action reform is adopted, class litigation should be understood as offering a third possibility: a hybrid litigation form that combines the attributes of the public and private models. Using the model of qui tam suits, the article attempts to break down the conceptual barrier between public and private litigation. Finally the article examines the implications of this approach. The article suggests that reconceptualizing class litigation as a hybrid offers the potential for coordinating the litigation efforts of the government and the private bar. In addition to creating potential litigation efficiencies, this model allows class litigation effectively to pursue both compensation and deterrence.

Abstract:
Internet technology offers the potential to reduce the search and information costs associated with capital formation. Commentators have suggested that the Web will enable small business to achieve better access to the capital markets. To facilitate this access, they have suggested regulatory reforms to make internet offerings cheaper and easier. At the same time, small business offerings have been identified as among the most risky, offering a caution to those who counsel regulatory reform.

This article examines the existing regulatory climate. State and federal regulators have adopted a number of recent reforms to facilitate the use of the internet and to reduce the regulatory burden on small business offerings. The article explores proposals for further reform and evaluates the existing evidence on the extent to which previous regulatory changes have affected the use of the internet for small business capital formation. The article concludes that, despite these reforms, small businesses have had limited success to date in using the internet as a substitute for traditional financing methods.

The article goes on to consider the effect of substituting public capital markets for traditional small business financing sources, such as banks, angel investors and venture capital, if technological and regulatory change makes this substitution possible. In particular, the article identifies nonfinancial benefits that banks and private equity provide to small businesses through active managing and monitoring. Shifting the source of small business capital may sacrifice of these benefits, at the cost of future business performance.

Abstract:
This article assesses current retroactivity doctrine and proposes a new framework for retroactivity analysis. Current law has failed to reflect the complexity of defining retroactivity and to harmonize the conflicting concerns of efficiency and fairness that animate retroactivity doctrine. By drawing a sharp distinction between adjudication and legislation, the law has also overlooked the similarity of the issues raised by retroactivity in both contexts. The article proposes instead an equilibrium approach, influenced by the legal process school, to connect retroactivity to theories of legal change. Instead of focusing on the nature of the new legal rule, this approach emphasizes the context in which change occurs. The use of equilibrium theory improves doctrinal analysis of the temporal line-drawing associated with legal change and clarifies the relationship of retroactivity rules to lawmaking power.

Abstract:
Corporate governance debates have recently focused on board structure and composition. Institutional investors in particular, have placed increasing importance on director independence as a hallmark of good governance. Empirical studies, however, have failed to confirm the value of independent directors in improving corporate performance. This article suggests a possible explanation for this result by analyzing board function. The article explains that the board's role includes both monitoring and managing components. Although independent boards may monitor more effectively, increasing board independence may reduce the board's managerial effectiveness. This analysis suggests skepticism about reform efforts that propose a universal ideal board structure. Instead, appropriate board structure, including the degree of independence, may depend on firm-specific characteristics. Berkshire Hathaway offers an illustrative example of a successful firm that has not adopted popular governance reforms.