Last Thursday, the SEC announced the settlement of an administrative proceeding against Institutional Shareholder Services (ISS), one of the two largest proxy advisory firms. The key facts: for nearly five years an ISS employee sold confidential client information (specifically, how ISS institutional investment clients were voting their proxies) to an employee of a proxy solicitation firm. In all, the proxy solicitation firm paid about $11,500 for tickets and $20,000 for meals.
When I read the news reports about the settlement, I’d assumed that this was an unfortunate instance of employee misconduct that occurred despite an employer’s robust ethics and compliance (E&C) program. Companies can do a lot to reduce the likelihood of such incidents, but it’s impossible to prevent an individual employee from going rogue. Given the nature of ISS’s business and the type of information the company compiled, I assumed that the firm would have vigorous E&C and information-security programs.
When I read the SEC’s order, however, a very different picture emerged. Though there was a code of conduct that permitted only “nominal” gifts and “reasonable” entertainment, ISS employees received no guidance on how these limitations should be applied in real-life business settings. Nor was there guidance on how — or even whether — ISS employees should interact with employees of proxy solicitation firms. No on-site compliance personnel were available to most ISS employees, and there was no requirement that business gifts and entertainment be recorded. Essentially, ISS had what E&C practitioners would call a “post and pray” approach: they adopted a code of conduct, made it available to employees, and hoped for the best.
Even more startling were the glimpses of ISS culture revealed in the SEC order. Managers of the employee whose conduct led to the SEC action were aware of his transactions in client information. In some cases, they accompanied him to dinners that had been purchased with client information. The SEC order also reported that some managers had received similar payoffs earlier in their ISS careers. It appears that trading client information for swag was deemed unremarkable.
It’s too early to know whether remedial measures required by the SEC settlement will repair the damage that’s been done to ISS’s reputation and client relationships. As reported in the SEC’s order, over 100 ISS clients had their information sold between 2007 and 2012, and in general the firm handled clients’ confidential, and potentially market-moving, information carelessly. Clients cannot be happy about the revelations.
News of the SEC settlement capped a bad week for ISS. On Tuesday, J.P. Morgan Chase shareholders overwhelmingly voted against an ISS-supported recommendation that the roles of CEO and Chairman be split. The following day, a Wall Street Journal article suggested that the influence of proxy advisers was waning. The article cited two reasons for the decline: money managers were increasingly looking to in-house analysts for voting recommendations; and more issuers were conducting their own shareholder outreach before votes on important initiatives. In addition, the Journal noted that ISS had “long been criticized for selling corporate governance consulting services to some of the same companies that are the subject of its voting recommendations.” ISS, the Journal noted, “said it has adopted policies to guard against possible conflicts of interest.”
In light of the SEC settlement announced just one day later, I can’t help but wonder if ISS took more than a “post and pray” approach to those conflict-of-interest policies.
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The SEC apparently learned of the ISS payments through a whistleblower employed by the proxy solicitation firm. Because of the size of the monetary penalty the SEC assessed against ISS ($300,000), the whistleblower did not qualify for a bounty payment. Whistleblower Tip Leads to SEC Enforcement Action (May 24, 2013 press release issued by whistleblower’s attorney); Tipster Stiffed After SEC Fines ISS (NY Post May 23, 2013).
STOCK Act Update: Congress Revisits, and Effectively Repeals, Online Posting of Most Federal Employees’ Financial Disclosure Forms
Last Sunday, CBS’s 60 Minutes ran an update on Insiders, the program’s highly influential 2011 critique of stock trading by members of Congress and their staffs. The update noted that Congress had “quietly repealed” a provision of the Stop Trading on Congressional Knowledge Act (“STOCK Act”) that would have made financial records of about 28,000 federal employees publicly available online. The update suggested that the repeal had eliminated a key provision of STOCK Act. Other reporting did more than merely suggest this: the repeal was described as having “gutted” or “defanged” the statute.
In fact, the online reporting provision was an afterthought: a product of the “ethical arms race” that followed the initial airing of the 2011 Insiders segment. Until then, the proposed STOCK Act had languished in Congress for six years. Afterward, it suddenly garnered enthusiastic bipartisan support — along with many extraneous, and hastily conceived amendments. So fervid was Congress embrace of the once-modest legislation that then-Senator Joseph Leiberman (a sponsor), described it as “mass repentance for past sins.”
Senator Lieberman also likened the frenzied amendment process to Dr. Seuss’s tale of Thidwick, the Big-Hearted Moose: “other animals in the forest wanted to lodge in [Thidwick’s] enormous antlers, and he welcome[d] them until finally there is too much there, and his antlers fall off and they all fall to the ground . . . . [w]e don’t want this wonderful bill, which really does accomplish some very important things, to be so loaded up that it falls by the wayside like Thidwick’s antlers.”
Media and public responses to the repeal offer useful lessons for those charged with crafting ethics requirements, whether for legislation or for organizational ethics programs. The first lesson: there’s real danger in adopting sweeping requirements that are tangential to the problem you’re trying to address. The STOCK Act was intended to accomplish an extremely limited objective: eliminate uncertainty over whether members of Congress and their staffs were subject to the same insider trading restrictions that apply to everyone else.
Instead of adopting something brief that dealt with this narrow issue, Congress adorned Thidwick’s antlers. Suddenly 28,000 federal employees — most of whom worked in the executive and judicial branches, not Congress — found themselves subject to extremely intrusive public reporting requirements that had nothing to do with stock trading by members of Congress. It seems that Congress, having belatedly embraced transparency for itself, felt it necessary to impose it on thousands GS-15’s who worked in the other branches of government.
The second lesson: once you’ve adopted an ethical requirement that’s unnecessary, over-broad, or half-baked, eliminating it will look awful. Invariably, the rollback of an ill-advised ethics requirement — especially one adopted with much fanfare — will be viewed as a retreat from high ethical standards.
This holds true even when (as was the case with the STOCK Act’s public database requirement) there’s strong evidence that the requirement would do a lot of harm (both in terms of government employees’ privacy and personal security and, in some cases, the security of government programs) while offering little or no improvement over existing mechanisms for deterring federal employees from trading on the basis of non-public information they learned on the job. Both the National Academy of Public Administration and the Office of Government Ethics urged Congress to abolish, or indefinitely suspend implementation of, the database requirement because it did more harm than good.
The final lesson: it’s best to avoid adopting ethical requirements while gripped by a media-induced “spirit of mass repentance for past sins.” At such times, it’s tempting to quickly do something dramatic and sweeping, but it’s best to resist that impulse. Down the road, it will be far less controversial to enhance modest initial measures than to roll back ill-considered major ones.
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60 Minutes Segments
- Link to November 11,2011 60 Minutes Insiders segment
- Link to April 28, 2013 60 Minutes update on Insiders
Legislative Developments Following 2011 60 Minutes Segment
- Washington Post: Minor Bill is Transformed Into Major Reform Package (Feb. 2, 2012)
- The Hill: Lieberman invokes Dr. Seuss in urging relevant amendments (Jan 30, 2012)
- Wrightings Blog: STOCK Act Meets Skepticism in the House (Dec. 7, 2011)
Analysis of Public Database Requirement
- National Academy of Public Administration: An Independent Review of the Impact of Providing Personally Identifiable Financial Information Online (Mar. 2013)
- Office of Government Ethics: letters to Congress recommending repeal of public database requirement (Apr. 2013)
Illustrative Responses to Repeal of Database Requirement
- 60 Minutes STOCK Act Followup Sends Warning Signal to Congress (breitbart.com)
- Jon Stewart Eviscerates Congress and President Obama for Gutting STOCK Act (sunlightfoundation.com)
- Obama Quietly Signs STOCK Act Rollback (ijreview.com)
- Pres Obama Signs Bill Killing Anti-Corruption, Pro-Transparency STOCK Act Provisions (disinfo.com)
There were two principal forces that shaped my view of a wine critic’s responsibilities. I was then, and remain today, significantly influenced by the independent philosophy of consumer advocate Ralph Nader. Moreover, I was marked by the indelible impression left by my law school professors, who in the post‑Watergate era pounded into their students’ heads a broad definition of conflict of interest. These two forces have governed the purpose and soul of my newsletter, The Wine Advocate, and of my books.
Last week, we learned that Robert Parker, perhaps the most influential wine critic ever, plans to reduce his ownership interest in The Wine Advocate, his highly regarded wine newsletter. On December 10, the Wall Street Journal reported that Mr. Parker planned to sell a substantial interest in the newsletter to a group of Singaporean investors.
Given that Mr. Parker is in his mid-60’s, it’s hardly surprising that he might want to reduce his day-to-day role at (and extract some cash from) the publication he has nurtured for 34 years. The announced changes, however, extend beyond a major reallocation of ownership and editorial responsibilities.
In a fundamental policy change, the owners plan to accept advertising. They insist, however, that the ads won’t be wine-related and will be limited to portions of Parker’s website. They also insist that the hard-copy and PDF versions of the Advocate will “never” include advertising.
The Advocate also will start producing wine-tasting events, and will require its reviewers (most of whom currently work as independent contractors) to become employees.
The planned changes illustrate how hard it is for a reviewer to maintain a reputation for independence while simultaneously seeking to capitalize on that reputation. Courting and retaining non-wine advertisers for Parker’s website probably won’t affect the Advocate’s content, although deciding what’s “wine-related” may prove more difficult than anticipated (for instance, when non-wine and wine-related entities share common ownership).
But it will be far more difficult to navigate the conflicts posed by producing wine events. These conflicts are so significant that they could negate the ban on wine-related advertising. As one blogger noted, wine makers have no need to advertise if they “can simply underwrite a grand wine-tasting event instead. Having your wines featured at a Wine Advocate tasting event is the best marketing any winery can hope for, and they will be very willing to pay top dollar for the privilege.”
A more positive development is the Advocate’s decision to require reviewers to become employees. In addition to facilitating greater control over reviews (and reviewers’ ethical standards), the change will obviate the need for the Advocate‘s bifurcated independence standards (currently, the standards that apply to Mr. Parker are more stringent than those that apply to non-employee contributors).
Since the phase-out of non-employee reviewers will require a rewrite of the Advocate’s independence standards, I’d like to propose another change for the owners’ consideration: the Advocate should adopt a policy of buying all of the wine it reviews. Parker says that though he buys most of it, he does receive complimentary unsolicited samples. He maintains, however, that it’s not unethical to accept samples he didn’t request.
I have no reason to think that Parker isn’t sincere in his belief, but he’s mistaken. A huge amount behavioral research on reciprocity demonstrates that accepting unsolicited freebies (even freebies of relatively small value, or ones we don’t really want) often alter our perceptions of the donor and the donor’s products. Most of us like to think otherwise (at least when assessing our own ethicality versus that of others), but freebies really do affect our objectivity.
But apart from the behavioral evidence, there’s the issue of appearances. Parker has long claimed to be a consumer advocate who maintains a distance from the industry he writes about. Insisting on paying your own way — with no exception for unsolicited goodies — is important for any reviewer. But it’s especially important for Parker, whose reputation rests not only on his palate, but also his perceived probity.
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Wall Street Journal (December 10, 2012): Big Shake-Up at Robert Parker’s Wine Advocate
Wall Street Journal (December 12, 2012): Wine Advocate Will Stay Put, And in Print
The Robert Parker Bombshell (December 10, 2012) by Felix Salmon.
Wine Spectator Statement of Ethics. It’s interesting to compare with its Advocate counterpart. In addition to saying nothing about wine-related advertising (in fact, the Spectator has lots of it), there’s no explanation of how the Spectator obtains the wines it reviews. Elsewhere on the website, however, the Spectator discloses that it gets the majority of the wine from wineries or their US distributors and spends “thousands of dollars each year” to buy the rest.
The Travel Channel (video): The Ethics of Food Critics (Anthony Bourdain and food writer Michael Ruhlman discuss food critics who receive “comped” meals, lodging, and transportation).
Los Angeles Times (November 2, 2005): The Real Cost of A Free Meal (more on “comped” meals).
Conde Nast Traveler’s Truth in Travel Policy.
The Big Corruption in Small Gifts (December 21, 2012) by Jason Zweig.
Over the Thanksgiving weekend, I finished listening to Walter Isaacson’s biography of Steve Jobs. After investing 24 hours listening (on — what else? — my iPhone) to the unabridged audiobook, I came away with renewed appreciation of why the Apple products I enjoy using are so elegant and intuitive.
But the book also provided abundant confirmation that geniuses like Jobs can be insensitive, inconsiderate, and sometimes cruel. As much as I admire Jobs’s single-minded commitment to creating “insanely great” products, I wouldn’t have wanted to work with or for him. Nor do I envy his family.
Isaacson notes that Jobs felt that he was exempt from the normal rules, and the book contains countless examples of Jobs’s disregard for social and business conventions. One cringeworthy incident related to Jobs’s inviting, then disinviting, former SEC Chairman Arthur Levitt to join Apple board of directors.
Isaacson recounts that Jobs called Levitt (who was about to leave his SEC post) and asked him to come to Cupertino — the following day — to discuss joining the board. Levitt, who loved technology in general and Apple products in particular, obliged. After flying California, Levitt spent two days meeting with Jobs and other directors, and being briefed by top management. He attended the MacWorld conference as Apple’s guest, and received a schedule of upcoming board meetings. As he left for the airport, already feeling that he was a member of the “Apple family,” Levitt gave the company’s CFO a copy of one of his recent speeches on corporate governance.
Evidently, the CFO and Jobs read the speech promptly, and were alarmed by its contents. Shortly after Levitt returned to New York from California, Jobs called to tell him the directorship was not to be. Jobs told Levitt: “‘Arthur, I don’t think you’d be happy on our board . . . I read your speech and, frankly, I think some of the issues you raised, while appropriate for some companies, really don’t apply to Apple’s culture.'”
The incident left me shaking my head. The idea of summoning the SEC Chairman to fly cross country on short notice is pretty presumptuous. Doing so without having performed advance vetting (Levitt’s views on corporate governance were no secret) subjected a board candidate to needless humiliation. And, of course, the incident illustrated Jobs’s belief that normal rules didn’t apply to him (or, by extension, his company). In all, it was a classic example of “Jobsian Exceptionalism.”
The incident also provided Levitt with a vehicle for publicly criticizing Apple’s corporate governance deficiencies. In his 2002 book, Take On the Street: What Wall Street and Corporate America Don’t Want You To Know, Levitt wrote at length about the incident, and the insular, hand-picked nature of Apple’s board. Especially when there’s a charismatic CEO like Jobs, Levitt wrote, “it’s crucial to have independent thinkers on a board who do not act as an extension of management.”
But nine years later, Levitt offered a mellower assessment. In a Bloomberg interview the day following Jobs’s death, Levitt observed that Jobs was, indeed, exceptional. Even if Jobs had “six monkeys on his board,” Levitt observed, their presence wouldn’t have prevented him from accomplishing transformative things.
So, perhaps Jobs was right all along.
Ethics practitioners spend lots of time and effort developing tools to help us make ethical decisions. Sometimes, these take the form of wallet cards that pose questions designed to clarify the ethical dimensions of business decisions. For example, such a “cheat sheet” might ask whether a potential course of action complies with the relevant organization’s conduct code, and whether a decision-maker would be comfortable if family members learned about his actions.
Mnemonic devices are another popular decision-making aid. Organizational ethics sessions often incorporate an acronym or phrase to remind participants of the factors they should consider when evaluating a potential course of action.
In the not-too-distant future, higher-tech tools may complement (and, perhaps, eventually replace) these venerable decision-making aids. Recently, the Markkula Center for Applied Ethics at Santa Clara University invited students to submit designs for an ethical decision-making app. The criteria on which the submissions will be judged are:
- Creativity: how effectively the app deploys the Center’s Framework for Ethical Decision-Making and related materials in order to help users improve their ethical decision-making skills?
- Programming polish: does the app work smoothly, with minimal bugs?
- Design: is the app attractive and engaging?
- Accessibility: is the app easy to understand and use?
I was intrigued by the notion of an app that’s specifically designed to help people make ethical decisions. A quick check of apps currently available for Apple mobile devices revealed that there are several that purport to help with life’s more mundane decisions (typically, shopping, dining, and entertainment choices). User comments, however, suggest that the apps have questionable utility even in this limited context (“better than flipping a coin” observed a user of one decision-making app).
Designing an app to help with ethical decisions is a far more challenging undertaking. An app that simply provides mobile access to the decision-making tools already available on the Markkula Center’s website would be useful. But the contest criteria seem to contemplate something far more ambitious: an app that actually helps users improve their ethical decision-making skills. If the student contestants are able to succeed in doing this, it will be a very big deal indeed, both for the future of organizational ethics programs and the developers of the winning app.
The winning submission will be announced in late April 2013.
In yesterday’s New York Times, Gretchen Morgenson wrote about James W. Breyer, a venture capitalist who serves as a director at five public companies: Facebook, News Corporation, Wal-Mart, Dell, and BrightCove. Four of these companies, Morgenson noted, are facing significant challenges.
Is it possible for someone one to serve as an effective director on so many boards?
According to a National Association of Corporate Directors (NACD) survey, directors of public companies spend an annual average of 227.5 hours on board-related matters. The American Bar Association (ABA) cites a slightly higher average, reporting that an annual time commitment of 250 hours. The ABA also notes that substantially more time may be required when a corporate board confronts such major events as change-of-control transactions, financial distress, compliance failures, financial restatements, or management-succession crises.
Using the ABA’s baseline estimate, someone who serves on five outside boards can expect to spend 1,250 hours each year on board service. This is the equivalent of 31 40-hour work weeks. Juggling such extensive outside commitments along with a “day job” represents an impressive feat. Is it possible to undertake all of this and still fulfill your obligations to your employer and all of the outside companies to which you owe fiduciary duties?
Concerned about over-committed directors, companies increasingly have adopted policies limiting the number of boards on which their directors may serve. The 2011 Spencer Stuart US Board Index reported:
- 74% of S&P 500 companies now limit other corporate directorships for their board members, versus 27% in 2006, the first year [Spencer Stuart] tracked these data. Some companies limit the number of additional boards for all directors, while others do so only for directors fully employed by public companies.
- Of the 128 boards that do not specify any limits, 81 (63%) ask that directors notify the chairman in advance of accepting an invitation to join another company board and/or they encourage directors to “reasonably limit” their other board service.
- Of the 281 boards that impose a numerical limit for all directors, 31% cap other directorships at three boards, 40% at four boards and 14% at five or more.
- 73 boards put tighter restrictions on directors who are fully employed executives or CEOs of public companies — most often this cap is set at two outside boards.
- 40% of boards limit other audit committee memberships for their own audit committee members, up from 4% in 2006. Most of these put the maximum at two.
Nevertheless, Spencer Stuart found that two-thirds of corporate directors serve on multiple boards and that independent directors averaged 2.1 board affiliations. While 34% of independent directors have only one board affiliation, 53% have two or three. The remaining 13% have four or more.
So, while Breyer’s outside board commitments represent the far end of the spectrum, it appears that he’s by no means unique.
Two days ago, Yahoo’s board announced that the company’s CEO, Scott Thompson, was leaving in the wake of disclosures that he either misrepresented his academic background by falsely claiming to have a degree in computer science, or allowed his credentials to be misstated. Yahoo had repeated the inaccurate biographical information in investor communications, press releases, and at least one SEC filing.
In an earlier post, I argued that Thompson should be fired. Although a computer-science degree isn’t a prerequisite to serving as Yahoo’s CEO, I felt that Thompson’s repeated claims to a non-existent academic degree reflected negatively not only on his integrity, but also his temperament and professional judgment. In addition, I argued that failing to hold Thompson to the Yahoo’s professed ethical standards would engender cynicism among rank-and-file Yahoo employees and damage the company’s culture.
Lest you think that I completely lack appreciation for creative license: I had the exact opposite response to a story that appeared in yesterday’s Washington Post about factual embellishments in the semi-autobiographical sketches of humorist and storyteller David Sedaris. The Post reported, among other things, that Sedaris invented some elements of his darkly hilarious SantaLand Diaries, which recounts Sedaris’s experiences working as one of Santa’s elves at the Macy’s flagship NYC store.
According to the Post, officials at NPR (which broadcasts This American Life, a public radio program to which Sedaris often contributes ) and Chicago Public Media (which produces This American Life) are debating how best to ensure that Sedaris’s listeners understand that his humorous sketches should not be viewed as factual reporting or literal truth. Reportedly, NPR and Chicago Public Media are considering two options: subjecting Sedaris’s pieces to New Yorker-style fact-checking, or including a warning to alert listeners that they shouldn’t regard Sedaris’s sketches as journalism. Chicago Public Media, reportedly, is leaning toward fact-checking Sedaris’s work, whereas NPR is said to favor a “warning label” approach.
The bottom line: context matters. Creatively blending fact and imagination is permissible, indeed expected, if you’re an entertainer like Sedaris. Comparable creativity not only isn’t permissible on a resume, job application, or SEC filing, but may actually cost you your job.
“Several Yahoo employees . . . said they felt sadness and disbelief over the incident. They said it has damaged Mr. Thompson’s credibility with his workforce.” Wall Street Journal May 5, 2012
Earlier this week, we learned that Yahoo CEO Scott Thompson either misrepresented his academic background by falsely claiming to have a degree in computer science, or allowed his credentials to be misstated for years. Yahoo repeated the inaccurate biographical information in investor communications, press releases, and at least one SEC filing. In fact, the Form 10-K (Annual Report) that Yahoo filed with the SEC on April 27 contained both the inaccurate information about Thompson’s academic credentials and Thompson’s certification (required by SOX Section 302) of the 10-K’s accuracy.
Now, Yahoo’s board is facing tough questions about its due diligence in filling the CEO slot: how thorough could they have been if they didn’t even verify basic information about the CEO’s academic background? It’s embarrassing, and raises questions about the board’s competence. A hedge fund that owns 6% of the company’s stock has demanded Thompson’s removal by noon on May 7th.
This morning’s Wall Street Journal cited leadership experts who felt that sacking Thompson would be a mistake: Yahoo has already fired one CEO in the past year, and the company is facing many challenges. The WSJ also reported that:
In the absence of evidence that Mr. Thompson actively misled Yahoo about his resume, Yahoo directors likely won’t force him out, one person close to the company said. ‘Maintaining him as CEO of Yahoo at this time is more important than whether he had a computer science degree or not,’ this person said.
I disagree with this assessment. As unfortunate and distracting as it would be to have to replace Thompson (especially given his short tenure and his predecessor’s messy discharge last December) I think the company will do long-term damage to its culture if Thompson is allowed to remain as CEO.
It’s true that holding a computer-science degree isn’t a prerequisite to serving as Yahoo’s CEO. Indeed, some of our most admired corporate leaders haven’t been college graduates at all (Steve Jobs and Bill Gates are notable examples). But Jobs and Gates never claimed degrees they didn’t possess. When you’re the CEO of a public company, repeatedly claiming (or repeatedly failing to disavow) a non-existent academic degree reflects badly not only on your integrity, but also your temperament and professional judgment.
In my experience, a low or mid-level employee who engaged in a similar conduct would be quickly terminated. Misrepresenting one’s professional qualifications on an employment application or resume is a firing offense in most of corporate America — even if the fictional credential (e.g., an academic degree, bar admission, AICPA membership) isn’t a prerequisite for your position.
I suspect that Yahoo’s rank-and-file employees know that a Thompson-like “error” on their part would lead to swift termination. And, I suspect that employees are watching closely to see how the board responds. It’s truly a “teachable moment” — if the board doesn’t remove Thompson, the incident will likely engender cynicism among Yahoo employees because it will reinforce the common perception that employee ethics rules aren’t enforced against senior officers.
Yahoo’s website posts the company’s employee ethics code. The document professes to apply to everyone who works for the company, regardless of position. Among other things, it requires company personnel to produce accurate business records and communications, and specifically mentions the need for accurate SEC filings.
Through its actions on the Thompson matter, Yahoo’s board will demonstrate to employees whether the ethics code is, or is not, window dressing.
Delaware’s Novel Arbitration Procedure Prompts Questions: Is It Really Arbitration? Is It Constitutional? Is It A Good Idea To Use Chancery Court Judges As Arbitrators?
Yesterday’s Wall Street Journal reported on a constitutional challenge to a relatively new Delaware arbitration procedure: Secret Arbitrations Put Delaware Judges on Defense. Under this procedure, parties to a commercial dispute may elect to have a sitting member of the Delaware Chancery Court decide the matter in arbitration rather than in a court proceeding. The statutory provision that authorized the arbitrations specified that they are “confidential and not of public record.”
From the standpoint of commercial litigants, the appeal of such an option is obvious: they get the benefit of decision makers who are the nation’s experts in business law, they get a faster decision, and they avoid having their dispute aired in open court.
The Delaware Coalition for Open Government (“DelCOG”) has challenged the constitutionality of the arbitration process, and the statutory provision that authorized its creation, on the ground that they deny the public its First Amendment right of access to judicial proceedings and records. The plaintiff argues that Delaware’s arbitration proceedings are, in substance, judicial trials. As such, plaintiffs argue, the proceedings must be open to the public.
DelCOG’s complaint names the judges of the Chancery Court as defendants. The defendants argue that designating an active judge to preside over and decide a commercial arbitration doesn’t convert the proceeding into a judicial trial, and stress the absence of any history of public access to commercial arbitration proceedings. They also note that the availability of the confidential arbitration process may prevent commercial litigants from resorting to non-US arbitration venues. The relative attractiveness such non-US forums could, they argue, discourage companies from registering as Delaware corporations, doing business in the US, and listing their stock on US financial markets.
Apart from the uncertain constitutionality of the process Delaware has created, you have to question its wisdom. Members of the Chancery Court are business-law authorities who have unparalleled expertise in commercial litigation. In marketing materials directed to companies deciding where to incorporate, the State of Delaware has noted:
Many experienced lawyers believe that the principal reason to recommend to their clients that they incorporate in Delaware is the Delaware courts and the body of case law those courts have developed. They point, in particular, to the national reputation and importance of the Court of Chancery.
. . . The reasons why a separate equity court was created in Delaware are obscure. The important fact is that cases involving corporation law issues came to be concentrated in a separate court in Delaware where there were no juries and where judges were called upon, on a regular basis, to explain the reasons for their decisions in written opinions. Over time, this body of decisional law, and the reputation for expertise in corporate matters which followed, caused more and more jurisdiction over business issues to be centered in the Court of Chancery. In effect, the same kind of symbiosis occurred—and continues—in the court system as in the development of statutory law. The Court of Chancery developed expertise in corporation law matters. Its reputation for expertise led, in turn, to more cases being brought to the Court and, over time, more expertise.
It’s not difficult to imagine how a state legislature, concerned about budget issues, might have viewed the court’s stature and expertise as assets to be monetized. But I can’t help but wonder if Delaware isn’t diminishing precisely what makes the Chancery Court so special. As yesterday’s Journal noted:
Delaware’s legal “product,” what it has to “sell” corporations, is a body of business law that has been forged in public view and is refined and certain, says Brian JM Quinn, an assistant professor at Boston College Law School. Once that body of law starts developing in the dark, that product will degrade, he says. “I understand why Delaware is doing this,” he says. “Over the long term, they may wish they hadn’t.”