For at least 40 years, a large body of literature has debated the effects of state competition for corporate charters and the value of state corporate laws. The common assumption of these studies is that interstate competition affects the way state corporate laws respond to managerial moral hazard, i.e., the agency problem arising between shareholders and managers out of the separation of ownership from control (Jensen and Meckling, 1976). Nevertheless, scholars have been sharply divided about the importance of interstate competition, and particularly whether interstate competition fosters a “race to the top” that maximizes firm value (Winter, 1977; Easterbrook and Fischel, 1991; Romano, 1985, 1993) or a “race to the bottom” that pushes states to cater to managers at the expense of shareholders (Cary, 1974; Bebchuk, 1992; Bebchuk and Ferrell, 1999, 2001).
Posts Tagged ‘State law’
As we have noted in prior M&A Updates, when dealmakers face a transaction where one or both of the parties are incorporated outside the Delaware comfort zone, they often confront unexpected structuring issues unique to entities or deals undertaken in that state or country. These may include corporate law, tax, accounting or structuring concerns and, most often, the deal teams will have to adjust the transaction terms to accommodate these issues.
But a recent decision from the Virginia Supreme Court is a timely reminder that, on occasion, these issues can be managed using some resourceful and creative structuring involving shifting jurisdictions. In the case, a Virginia corporation planned to sell its assets which, under Virginia law, would trigger appraisal rights for minority stockholders. Seemingly to avoid this result, the seller undertook a multi-step restructuring ahead of the sale which began with a “domestication” under Virginia law that shifted its jurisdiction of incorporation to Delaware. Under the Virginia statute, no appraisal rights apply to such a reincorporation. Once reincorporated in Delaware, the seller continued its restructuring, ultimately selling its assets to the buyer. Notably, Delaware does not provide for appraisal rights in an asset sale. The Virginia court dismissed the minority stockholders’ argument that they were entitled to appraisal rights. It rejected a “steps transaction” argument that looked to collapse the multiple steps and focus on the substance of the transaction (i.e., a sale of the company’s assets to the buyer), favoring instead the seller’s assertion that the first-stage move to Delaware had independent legal significance and therefore was effective to shift the appraisal rights analysis to Delaware law.
In our paper, What Happens in Nevada? Self-Selecting into Lax Law, forthcoming in the Review of Financial Studies, we study the financial reporting behavior of firms that incorporate in Nevada, the second most popular state for out-of-state incorporations, after Delaware. Compared to Delaware, Nevada law has weak fiduciary requirements for corporate managers and board members. We find evidence consistent with the idea that lax shareholder protection under Nevada law induces firms prone to financial reporting errors to incorporate in Nevada, and that lax Nevada law may also cause firms to engage in risky reporting behavior.  In particular, we find that Nevada-incorporated firms are 30 – 40% more likely to report financial results that later require restatement than firms incorporated in other states, including Delaware. These results hold when we narrow our set of restatements to more serious infractions, including restatements that reduce reported earnings, and to restatements that raise suspicions of fraud or lead to regulatory investigations.
The competition by states for incorporations has long been the subject of extensive scholarship. Views of this competition differ radically. While some commentators regard it as “The Genius of American Corporate Law,” others believe it leads to a “Race to the Bottom” and yet others have taken the position that it barely exists. Despite this lack of consensus among corporate law scholars, scholars in other fields have treated state competition for incorporations as a paradigm case of regulatory competition.
In The Race to the Bottom Recalculated: Scoring Corporate Law Over Time we undertake a pioneering historically-oriented leximetric analysis of U.S. corporate law to provide insights concerning the evolution of shareholder rights. There have previously been studies seeking to measure the pace of change with U.S. corporate law. Our study, which covers from 1900 to the present, is the first to quantify systematically the level of protection afforded to shareholders.
I have been NASAA’s liaison since I was asked by NASAA to take on that role early in my tenure at the SEC, and it is truly a pleasure to continue our dialogue with my fifth appearance here at the 19(d) conference. This conference, as required by Section 19(d) of the Securities Act, is held jointly by the North American Securities Administrators Association (“NASAA”) and the U.S. Securities and Exchange Commission (“SEC” or “Commission”).
The annual “19(d) conference” is a great opportunity for representatives of the Commission and NASAA to share ideas and best practices on how best to carry out our shared mission of protecting investors. Cooperation between state and federal regulators is critical to investor protection and to maintaining the integrity of our financial markets, and that has never been more true than it is today.
On February 26, 2014, the Supreme Court decided Chadbourne & Parke LLP v. Troice, 571 U.S. ___ (2014), ruling by a 7-2 vote that the Securities Litigation Uniform Standards Act of 1998 (“SLUSA”) does not bar state-law securities class actions in which the plaintiffs allege that they purchased uncovered securities that the defendants misrepresented were backed by covered securities. The decision is the first in which the Court has held that a state-law suit pertaining to securities fraud is not precluded by SLUSA, suggesting that there are limits to the broad interpretation of SLUSA’s preclusion provision that the Court has recognized in previous cases. While Chadbourne leaves many questions unanswered concerning the precise contours of SLUSA preclusion, and could encourage plaintiffs to pursue securities-fraud claims under state-law theories, the unusual facts in Chadbourne could limit the reach of the holding and provide defendants with avenues for distinguishing more typical state-law claims in other cases.
This Spring, the Supreme Court will decide whether a for-profit corporation can refuse to provide insurance coverage for birth control and other reproductive health services mandated by the Affordable Healthcare Act (or “Obamacare”) when doing so would conflict with “the corporation’s” religious beliefs. Although the main legal issue in Sibelius v. Hobby Lobby Stores, Inc., et al. and Conestoga Wood Specialties Corp., et al. v. Sibelius concerns the extent to which the guarantee of free exercise of religion under the Constitution and the Religious Freedom Restoration Act may be asserted by for-profit corporations, the Court’s decision may also have important—and unsettling—implications for state corporate laws that define the fiduciary duties of boards of directors.
In November 2013 I delivered the 29th Annual Francis G. Pileggi Distinguished Lecture in Law in Wilmington, Delaware. My lecture, entitled “Delaware’s Choice,” presented four uncontested facts from my prior research: (1) in the 1980s, federal courts established the principle that Section 203 must give bidders a “meaningful opportunity for success” in order to withstand scrutiny under the Supremacy Clause of the U.S. Constitution; (2) federal courts upheld Section 203 at the time, based on empirical evidence from 1985-1988 purporting to show that Section 203 did in fact give bidders a meaningful opportunity for success; (3) between 1990 and 2010, not a single bidder was able to achieve the 85% threshold required by Section 203, thereby calling into question whether Section 203 has in fact given bidders a meaningful opportunity for success; and (4) perhaps most damning, the original evidence that the courts relied upon to conclude that Section 203 gave bidders a meaningful opportunity for success was seriously flawed—so flawed, in fact, that even this original evidence supports the opposite conclusion: that Section 203 did not give bidders a meaningful opportunity for success.
December 18, 2013 may well mark an historic turning point in the ability of small business to effectively access capital in the private and public markets under the federal securities regulatory framework. On that day the Commissioners of the U.S. Securities and Exchange Commission met in open session and unanimously authorized the issuance of proposed rules  intended to implement Title IV of the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”)—a provision widely labeled as “Regulation A+”—and whose implementation is dependent upon SEC rulemaking. Title IV, entitled “Small Company Capital Formation”, was intended by Congress to expand the use of Regulation A—a little used exemption from a full blown SEC registration of securities which has been around for more than 20 years—by increasing the dollar ceiling from $5 million to $50 million. Both the scope and breadth of the SEC’s proposed rules, and the areas in which the SEC expressly seeks public comment, appear to represent an opening salvo by the SEC in what is certain to be a fierce, long overdue battle between the Commission and state regulators, the SEC determined to reduce the burden of state regulation on capital formation—a burden falling disproportionately on small business—and state regulators seeking to preserve their autonomy to review securities offerings at the state level.