Privatization and Corporate Governance: The Lessons from Securities Market Failure

This paper analyzes the comparative experiences of Poland and the Czech Republic with voucher privatization. Because of a number of similarities between these two transitional economies, it finds their comparative experience to provide a useful natural experiment, with the critical distinguishing variable being their different approaches to regulatory controls. However, while their experiences have been very different, their substantive corporate law was very similar. The true locus of regulatory differences appears then to have been the area of securities market regulation, where their approaches differed dramatically. Re-examining the work of LaPorta, Lopez-de-Silanos, Shleifer & Vishny, this paper submits that (1) the homogenity of both common law systems and civil law systems has been overstated; (2) common law systems in particular differ widely in terms of substantive corporate law, but have converged functionally at the level of securities regulation; (3) dispersed ownership will likely not persist under civil law systems that contemplate concentrated ownership and hence do not address or discourage rent-seeking corporate control contests or other forms of expropriation from minority shareholders; and (4) such winner-take-all control contests are probably most feasibly addressed through self-enforcing structural protections, such as (following the Polish model) the transitional use of state-created controlling shareholders. Reformulating the thesis originally advanced by LaPorta, et al., this article argues that civil law systems are not inherently unprotective of minority shareholders, but rather protect shareholders only against the forms of abuse that were well-known in systems of concentrated ownership (i.e., typically, abuse by a dominating parent) and not against the abuses that typically characterize systems of dispersed ownership (i.e., managerial expropriation and theft of the control premium). Ultimately, there is a conceptual mismatch between civil law systems and the dispersed ownership created by voucher privatization

Litigation Governance: Taking Accountability Seriously

Both Europe and the United States are rethinking their approach to aggregate litigation. In the United States, class actions have long been organized around an entrepreneurial model that uses economic incentives to align the interest of the class attorney with those of the class. But increasingly, potential class members are preferring exit to voice, suggesting that the advantages of the U.S. model may have been overstated. In contrast, Europe has long resisted the United States\u27s entrepreneurial model, and the contemporary debate in Europe centers on whether certain elements of the U.S. model – namely, opt-out class actions, contingent fees, and the American rule on fee shifting – must be adopted in order to assure access to justice. Because legal transplants rarely take, this Essay offers an alternative nonentrepreneurial model for aggregate litigation that is consistent with European traditions. Relying less on economic incentives, it seeks to design a representative plaintiff for the class action who would function as a true gatekeeper, pledging its reputational capital to assure class members of its loyal performance. Effectively, this model marries aspects of U.S. public interest litigation with existing European class action practice. Examining the differences between U.S. and European practice, this Essay argues none of these differences is dispositively prohibitive and that functional substitutes, including an opt-in class action and third-party funding, could be engineered so as to yield roughly comparable results. Although the two systems might perform similarly in terms of compensation, the ultimate question, this Essay argues, is the degree to which a jurisdiction wishes to authorize and arm a private attorney general to pursue deterrence for profit

Convergence and its Critics: What are the Preconditions to the Separation of Ownership and Control?

Recent commentary has argued that deep and liquid securities markets and a dispersed shareholder base are unlikely to develop in civil law countries and transitional economies for a variety of reasons, including (1) the absence of adequate legal protections for minority shareholder, (2) the inability of dispersed shareholders to hold control or pay an equivalent control premium to that which a prospective controlling shareholder will pay and (3) the political vulnerability of dispersed shareholder ownership in left-leaning social democracies. Nonetheless, this article finds that significant movement in the direction of dispersed ownership has occurred and is accelerating across Europe. To understand how dispersed ownership can arise in the absence of the supposed legal and political preconditions, this article reconsiders the appearance of dispersed ownership in the late 19th and early 20th Century in the U.S. and the U.K. During this era, the private benefits of control were high, and minority legal protections in the U.S. were notoriously lacking, as the famous Robber Barron of the age bribed judges and legislators and effectively employed regulatory arbitrage to escape regulation. Nonetheless, strong self-regulatory institutions (most notably, the New York Stock Exchange) and private bonding mechanisms by which leading underwriters pledged their reputational capital by placing directors on the board of sponsored firms enabled the equity market to expand and dispersed ownership to arise. In contrast, in the U.K., the London Stock Exchange for a variety of path-dependent reasons played a far more passive role and did not become an effective self-regulator until much later in the 20th Century. Yet, dispersed ownership also arose, although at a slower pace. The lesser role for private self-regulation in the U.K. may have been the consequence of its lesser need for self-regulation as a functional substitute for formal law, given both earlier legislation in the U.K. and lesser exposure to judicial corruption and regulatory arbitrage. Based on these examples, this article argues that functional convergence will dominate formal convergence and that the principal mechanism of functional convergence may be private self-regulation. However, rather than reject the law matters hypothesis, this article suggests that one of the principal advantages of common law legal systems is their decentralized character, which encourages self-regulatory initiatives, whereas civil law systems may monopolize all law-making initiatives. Further, this article proposes that legal reforms, while important, are likely to follow, rather than precede, market changes – as happened in both the U.S. and the U.K. Once however a constituency for liquid and transparent securities market is thus created, it will predictably seek and secure legislation that fills in the enforcement gap that self-regulation leaves. Both in the U.S., the U.K. and Europe today, the growth of securities markets has been largely divorced from politics. What then are the preconditions for the separation of ownership and control? The key answer is that public shareholders be able to retain control, protected from the threat of stealth raiders who can assemble controlling blocks without paying a control premium. In both the U.S. and the U.K., these protections were first developed through private (or semi-private) ordering and then formalized in legislation

No Soul to Damn: No Body to Kick : An Unscandalized Inquiry into the Problem of Corporate Punishment

Because this Article\u27s arguments are interwoven, a preliminary roadmap seems advisable. First, Section I will examine three perspectives on corporate punishment and will develop several concepts in terms of which corporate penalties should be evaluated. Although this analysis will suggest several barriers to effective corporate deterrence, Section II will explain why a sensible approach to corporate misbehavior still must punish the firm as well as the individual decision- maker. Section III will then evaluate three proposed approaches: (1) the equity fine,\u27\u27 (2) the use of adverse publicity, and (3) the fuller integration of public and private enforcement. In addition, it will consider whether anything is gained by prosecuting the corporation in a criminal, as opposed to civil, proceeding. Finally, Section IV will look beyond remedies designed to increase deterrence to the possibility of incapacitative sanctions. This latter inquiry is promoted by recent judicial decisions and legislative proposals that permit courts to place corporations on probation. Interesting questions are thus presented: Can an organization be rehabilitated? If so, what goals should the sentencing court pursue and what remedies can it realistically implement

Corruption of the Class Action: The New Technology of Collusion

Professor Coffee\u27s article, an oral version of which was given at the Cornell Mass Torts conference, is appearing in the Columbia Law Review. However, because commentators in this volume have responded to it, he has authorized the following summary of his views

The Agency Costs of Activism: Information Leakage, Thwarted Majorities, and the Public Morality

Few doubt that hedge fund activism has radically changed corporate governance in the United States – for better or for worse. Proponents see activists as desirable agents of change who intentionally invest in underperforming companies to organize more passive shareholders to support their proposals to change the target’s business model and/or management. So viewed, the process is fundamentally democratic, with institutional shareholders determining whether or not to support the activist’s proposals. Skeptics respond that things do not work this simply. Actual proxy contests are few, and most activist engagements are resolved through private settlement negotiations between the activists, who rarely hold 10% or more of the stock, and corporate management. Driving this process of private resolution is management’s fear of ouster if they allow the matter to go to a proxy contest. But as a result, activists holding often only a small percentage of the stock are imposing their agenda on other shareholders who hold much more. Increasingly, large indexed investors – BlackRock, State Street and Vanguard in particular – are objecting that this pattern of private settlements excludes them. Against this backdrop, this article attempts to map the “agency costs” of contemporary activism on the premise that any new structure of governance will have its own unique agency costs. Basically, it identifies four areas in which activists have interests that can conflict with those of the other shareholders: Private Benefits. Activists do receive private benefits (most notably in the form of expense reimbursement), but to date these benefits have been fairly modest (probably for a variety of reasons). Information Leakage. The appointment of hedge fund nominees to a corporate board is followed by a short-term increase in information leakage in the target firm’s stock price. That is, the target firm’s stock price regularly moves in the direction of a subsequent public disclosure – and does so significantly more often and more emphatically than in the case of a control group of firms. This can most plausibly be explained as a consequence of informed trading by persons apprised of the material information that is to be released in the subsequent public disclosure. Moreover, this phenomenon of information leakage is significantly greater when the hedge fund’s nominees include a hedge fund employee (as opposed to nominees who are simply independent directors). Further, once hedge fund nominees are appointed to the board, bid/ask spreads widen in comparison to the spreads on stocks in a control group. Thwarted Majorities. Activists often have a short-term agenda, to which indexed investors object. Given these disagreements, it is undemocratic (even if predictable) that an organized minority can dominate a larger, more dispersed “silent majority.” This is a “horizontal” agency cost in contrast to more traditional “vertical” agency costs. Public Morality. Although most institutional investors favor public goals, such as greater gender diversity on the board and a shift from “dirty” to “clean” energy, activists have opposed both and are constraining the ability of public companies to behave in a manner consistent with the public morality. Finally, this article will discuss proposed reforms intended to minimize these agency costs, without materially chilling shareholder activism

Ratings Reform: The Good, the Bad, and the Ugly

Although dissatisfaction with the performance of the credit rating agencies is universal (particularly with regard to structured finance), reformers divide into two basic camps: (1) those who see the issuer pays model of the major credit ratings firms as the fundamental cause of inflated ratings, and (2) those who view the licensing power given to credit ratings agencies by regulatory rules requiring an investment grade rating from an NRSRO rating agency as creating a de facto monopoly that precludes competition. After reviewing the recent empirical literature on how ratings became inflated, this Article agrees with the former school and doubts that serious reform is possible unless the conflicts of interest inherent in the issuer pays model can be reduced. Although the licensing power hypothesis can explain the contemporary lack of competition in the ratings industry, increased competition is more likely to aggravate than alleviate the problem of inflated ratings. Still, purging conflicts is no easy matter, both because (1) investors, as well as issuers, have serious conflicts of interest (for example, investors dislike ratings downgrades) and (2) a shift to a subscriber pays business model is impeded by the public goods nature of credit ratings. This Article therefore reviews recent policy proposals and considers what steps could most feasibly tame the conflicts of interest problem

Accountability and Competition in Securities Class Actions: Why Exit Works Better than Voice

The rules of litigation governance in class actions are diametrically different from the rules of corporate governance, in large part because the former works off an opt out rule while the latter employs an opt in rule. This results in higher agency costs in the former context. To address this problem, reformers have long favored remedies such as the lead plaintiff provision of the Private Securities Litigation Reform Act ( PSLRA ), which in theory give class members a stronger voice. Empirically, however, such voice-based reforms appear to have had no more than a modest impact. But an alternative remedy appears to be more promising: exit-based reforms that seek to provoke greater competition between class counsel and attorneys soliciting class members to opt out of the class and file individual actions with them in state court. Unnoticed by academics, a major trend towards institutional investors opting out of securities class actions has developed over the past five years. More importantly, these opt outs appear to be recovering per share amounts that are a multiple of the class per share recovery. This development poses a variety of issues that this paper examines: (1) Why do opt outs do better?; (2) Do the opt outs gains come at the expense of those who remain in the class?; (3) Can defendants feasibly restrict opt outs and how should courts respond to such attempts?; (4) Are pension funds and other institutional investors under a fiduciary or ERISA-based duty to opt out?; and (5) Will greater competition produce greater accountability