An issue that deserves far greater attention concerns the recent miscount of the votes in connection with the election of directors at Yahoo.  The commentary has been passing, although as usual Corporate Governance noticed and asked the right questions.

As was recently reported, there was a significant but not outcome determinative miscount in connection with the recent election of directors at Yahoo.  The original announced tally showed that Jerry Yang, the CEO, received 85% of the votes cast and Roy Bostock, the chairman, received 80%.  After complaints from institutional investors that the tally was inaccurate, Broadridge Financial Solutions went back and recalculated the tally finding that Yang received only 66% and Bostock only 60%.  A huge discrepency.  The explanation?  According to one source, Broadridge claimed the error arose from underreporting share numbers that exceeded eight digits.  Don't worry.   Chuck Callan from Broadridge, a Senior VP Regulatory Affairs said that "the problem was identified and fixed...the error did not change the outcome."

The error apparently came from Broadridge which was hired by Capital Research and Management, a large shareholder of Yahoo, to transmit its votes to the company.  While the published reports make it sound like Broadridge worked only for Capital Research, this is unlikely.  Broadridge (the successor to ADP Shareholder Services) is widely used by brokers and other investors to distribute proxy materials to beneficial owners and to tabulate and submit vote totals.  See Exchange Act Release No. 43487 (Oct. 27, 2000)("Nearly all large broker and many bank intermediaries currently outsource the proxy material distribution function for beneficial security holders to ADP Investor Communications Services.").   In other words, more than the inspector of elections under state law, it is Broadridge that tallies most of the votes in connection with shareholder meetings. 

The role of Broadridge represents a gap in the regulatory system.  Particularly with beneficial owners, the legal obligation to ensure that votes (voting instructions actually) are properly tallied and submitted rests with the brokers (and banks) under the rules of the stock exchange and the proxy rules (Rules 14b-1 and 14b-2).  It is a complicated and circuitous system laden with problems and little enforcement.  Brokers, however, typically contract out the responsibility to Broadridge, which has something approaching a monopoly over the services.  With the relationship contractual, Broadridge is free of any direct regulation of the Commission or the securities laws.  This is a problem.  See Marcel Kahan & Edward B. Rock, The Hanging Chads of Corporate Voting, August 13, 2007 ("The complexity of the custodial ownership system, combined with the pressure of numerous shareholder votes, creates a system that is far more complex and fragile than the one anticipated by the Delaware legal structure. There are somewhere around 17,000 reporting companies. Most of these companies are subject to the SEC proxy rules when they solicit proxies. Finally, annual meetings are seasonal, with most taking place during the second quarter of the calendar year. Broadridge delivers more than one billion communications to investors per year. It is an accident waiting to happen.").  

With shareholder votes often becoming closer, particularly in an era of majority vote election requirements for directors, the system of counting votes needs to be accurate.  The example of Yahoo shows that Broadridge does not have a system in place sufficiently robust to catch mistakes that could amount to 20% of the total votes cast.  While in this case, the change did not affect the outcome, that will not always be the case.  Indeed, even much smaller mistakes can be outocme determinative.  Take a look, for example, at In re Transkaryotic where it was announced that a merger passed but evidence arising in litigation subsequently indicated that in fact it might have failed. 

Broadridge has been at the center of other complaints.  Some companies have professed disatisfaction with Broadridge over the implementation of the eproxy system recently approved by the Commission.  Certainly, return rates by retail investors have been low. And it is not a new problem.  It is discussed in my article, The Shareholder Communication Rules and the Securities and Exchange Commission: An Exercise in Regulatory Utility or Futility

The system of shareholder voting cannot be sustained where those tabulating votes can make errors in the vicinity of 20%.  Moreover, without regulatory oversight, errors in vote tallies will rarely if ever become public.  In other words, we don't really know how often these kinds of mistakes occur.  It is an area that ought to be examined by the Commission.  

As a parting shot in departing from the SEC, now former commissioner Paul Atkins gave a speech on Rule 14a-8, the shareholder proposal rule.  Most of it was a warning about allowing shareholders access to the proxy statement and a self complementary discussion of the decision to refer the CA case to the Delaware Supreme Court.  That decision in fact may be Atkin's longest lasting legacy since the anti-shareholder decision will make it easier for companies to exclude categories of shareholder proposals under the rule.

The speech also devoted time to another anti-shareholder issue.  Atkins does not like precatory shareholder proposals.  His dislike, however, is not truly rooted in a desire to have a properly functioning system of shareholder proposals.  This can be seen from his refusal to acknowledge the role played by the Commission in encouraging these proposals.  See Note to paragraph (i)(1) of Rule 14a-8, 17 CFR 240.14a-8 (“some proposals are not considered proper under state law if they would be binding on the company if approved by shareholders. In our experience, most proposal that are cast a recommendations or requests that the board of directors take specific action are proper under state law. Accordingly we will assume that a proposal drafted as a recommendation or suggestion is proper unless the company demonstrates otherwise.”). 

In fact, the solution is to eliminate SEC encouragement of precatory proposals.  This was suggested by VC Strine.  Let shareholders include mandatory proposals and if they pass the companies can let the Delaware courts resolve their legality.  As he noted at a roundtable held by the Commission:

• "I think those of us from Delaware would say one of the things the Commission could do to facilitate this is to make clear that if it's uncertain under state law and it's a by-law proposal, then it shouldn't be excluded and they should be able to put it on absent some showing, and then leave it to us, hold us accountable, and if we make the wrong decisions, you can bet we are going to hear about it from the institutional investor community and from the management community."

Atkins quotes Strine but omits this portion of the testimony.  He uses Strine's testimony to suggest the need to eliminate precatory proposals but does not add the portion that instructs the Commission to stop excluding mandatory proposals. 

His real concern, therefore, is not precatory proposals per se but the use of Rule 14a-8 by activist shareholders.  Thus, his only evidence of an unnecessary burden imposed on companies is the singular example of Exxon-Mobile, which confronted 17 shareholder proposals in its proxy statement.  Atkins omitted to mention that Exxon was in many ways unique because of its obstinate resitance in addressing enviornmental issues and seeking to develop alternative energy sources.  Thus, most of the 17 proposals dealt with enviornmental/alternative energy issues.  He also failed to mention that many of the proposals received heavy shareholder support, with a proposal  to separate chairman and CEO receiving 39.5% and say on pay receiving 40.7%.  Nonetheless, Atkins would prefer to cut off this avenue of communication between shareholders and managers. 

The one example aside, his true objection can be seen from the data he uses.  Relying on an ICI study of the 2006-2007 proxy season, he notes that "there were 186 proposals sponsored by unions or affiliates of unions, but just three unions accounted for 94 of the proposals. So the data shows that a relatively small number of investors are responsible for a significant portion of the shareholder proposals."  He then notes that the "abusive use of the shareholder proposal process by some institutional investors is troubling."  In other words, the sole evidence of abuse is the number of proposals submitted by a small number of shareholders.  He makes no mention of the percentage that pass or the use of proposals to largely implement a system of majority voting among large public companies.

During his tenure, he was unable to accomplish the goal of restricting the scope of Rule 14a-8 and limiting the use of precatory proposals.  Attention hereafter will shift not to limiting Rule 14a-8 but expanding its reach to include access. 

On Friday, Commissioner Paredes took the oath of office and joined the Commission. Continuing a long line of law faculty who have served on the Commission, Paredes most significant contribution so far is to replace Paul Atkins.

While one republican steps into the shoes of the other, it is hard to imagine that the change will do anything but improve the output of the Commission and reduce the shrill tone often emanating from the body.

Atkins, in his six or so years on the Commission, managed to be on the opposite side of almost every shareholder friendly initiative of any great importance. Stoneridge? Against the position taken by shareholder. Access? Against the position taken by shareholders. The Enforcement division, the office responsible for enforcing the investor protection requirements of the securities laws? Constant criticism and calls for a panel to evaluate (read weaken) the division. Fines imposed on companies that commit fraud? In general, against them. The credit crunch and the subprime problem? A paean to his anti-regulatory philosophy and a call not to "immediately jump" to the conclusion that the problems are from market or regulatory failure. His parting shot in the corporate governance area? To participate in the Commission's decision to certify a shareholder proposal to the Delaware Supreme Court, an act that resulted in a predictably anti-shareholder decision that will now make proposals harder to insert in proxy statements.

With all of that in mind, we turn to Atkin's last set of remarks on access. The speech was delivered on July 22, reflecting how Atkins wanted to be remembered with respect to his involvement in the access issue. Of course the content was predictable given the audience: The Chamber of Commerce, the organization probably most in sync with Atkin's views. The talk began with an attack on Rule 14a-8. "Some would argue — and perhaps correctly — that the SEC's Rule 14a-8 on shareholder proposals inappropriately infringes upon state laws that govern the relationships among shareholders and between shareholders and the corporations that they own."

The comment wasn't explained and perhaps for a non-lawyer it was enough to just say it. But most lawyers will recognize that the view is wrong. Rule 14a-8 addresses the right to include proposals in a proxy statement, a document that is entirely a creation of federal law. Proposals are excluded if they violate state law, providing states with an ultimate veto over the availability of the rule. The comment isn't any kind of statement about the law. Its a reflection of Atkin's anti-shareholder bias. He simply dislikes that Rule 14a-8 provides shareholders with an opportunity to express their views, invariably in a non-binding manner, on managerial issues they consider important. In other words, shareholders should be seen (by providing capital) but not heard. It is a view that is belied by reality, particularly as public companies are more and more owned by institutional investors. These investors want greater opportunity to communicate their views with management whether Atkins likes it or not.

He rightfully realizes that the anti-shareholder approach he struggled to promote may not survive long after his departure. In the speech he expressed concern that the agency permit access in time for the 2009 proxy season.

• My most significant concern is that the Commission could try to move to adopt a final rule based on the long release without additional public notice or comment. The long proposal was controversial with almost every group commenting on it — including procedural aspects as well as specific thresholds contained in the rule. Of course, it suffered from concerns as to the SEC's authority to do it, plus it undermines the proxy disclosure and solicitation regime. In addition, much has happened since the comment period closed on October 2, 2007.

Atkins had no difficulty with the adoption of the short proposal (denying access) despite vociferous criticism. He made no effort to compromise or try to address the interests of a large number of commentators, including almost all significant shareholder groups. He was able to have an accentuated degree of influence because of the makeup of the Commission, with no democrats present at the most critical junctures.

But Atkins no longer has a decision making role and the agency has its full complement of democrats. Perhaps Chairman Cox will revisit access for the 2009 proxy season as Atkins suspects. But it hardly matters. With regime change coming following the November 2008 elections, access will be revisited one way or another. The pressure of shareholders is simply too great (take a look at my paper, The SEC, Corporate Governance, and Shareholder Access to the Boardroom). In fact, while Atkins struggles to oppose access of any kind, the truth is that Chairman Cox has a brief window to put in place a system of access that will likely be rarely used and lead to few changes on the board. If he doesn't, the form of access ultimately implemented will likely to be far more invasive. Chairman Cox knows this, Paul Atkins does not.

We are sure that the Tenth Circuit agreed to rehear the case because of its possible impact on the trial courts in the circuit.  We also note that going into the case, Nacchio is at a disadvantage.

In the original panel, he drew an unusually good draw.  First, the panel heard the motion for bail pending appeal and granted it, a clear indication that at least two of the judges saw reversible error.  Then, as we have noted, in an extraordinary fashion, the panel opted to retain control over the case, arguably in violation of the traditional notion of random assignment of cases, and hear it on an accelerated basis that only disadvantaged the government.  It was not the kind of treatment that could be expected of, say, a defendant in a drug conviction. 

Second, one judge (McConnell) graduated from the University of Chicago (as we have noted, the same law school as appellate counsel for Nacchio, Maureen Mahoney, and the excluded expert, Daniel Fischel).  You probably can't graduate from that law school without an accentuated belief in the importance of economic analysis, the very type of information excluded by the trial judge.  It was no real surprise that he would look for a way to reverse a case that excluded this type of evidence.  Another, Judge Kelly, viewed the case as government overreaching and evidenced clear hostility towards the trial judge calling his ruling on Fischel's testimony "the most simplistic thing I've ever seen."

But in the en banc hearing, these advantages will be gone.  The Chicago connection is gone.  Of the judges who will hear the case, only McConnell has gone to Chicago.  The respective law schools?  HENRY, Chie f Judge (Oklahoma), TACHA (Michigan),  KELLY (Fordham), BRISCOE (Virginia), LUCERO (George Washington), MURPHY (Wyoming), HARTZ (Harvard), McCONNELL (Chicago), and HOLMES (Georgetown).  The accentuated importance for the excluded information that comes from three years of indoctrination during law school will not predominate among the judges hearing the case en banc.  Similarly, the implacable hostility shown by Judge Kelly for the government and the trial judge is not likely to be present to any significant degree.  It probably helps that a fair amount of time has elapsed since the terrible publicity surrounding Judge Nottingham.  

With these advantages gone, Nacchio will see a different outcome.  The Court will reverse the panel and remand to the trial judge for a hearing.  The hearing will either address the facts and circumstances surrounding the failure to request the hearing (did the Defendant really have adequate opportunity given the fast paced nature of the process) or to determine the appropriate remedy should a hearing have been required.  The interesting question will be whether the court en banc sends the case back to Judge Nottingham for the evidentiary hearing or, consistent with the panel decision, requires that another judge be assigned to the case.

Last week we were posting daily on the CSX case and the proposed changes to the formula used by US News to rank law school.  As a result, we have been a bit remiss in commenting on the decision of the Tenth Circuit to hear en banc aspects of the appeal of Joe Nacchio.  Oral argument will be held in Denver at 1:00 pm on September 25. 

For most, the decision to take the case was a surprise.  After all, the case takes up the time of the entire circuit, something the judges agree to only grudgingly.  Indeed, the rules of the appellate procedure provide specifically that hearings en banc are not "favored" (Fed. R. App. Rule 35) and the local rules of the 10th Circuit note that a rehearing will only be granted for "an issue of exceptional public importance or on a panel decision that conflicts with a decision of the United States Supreme Court or of this court."  Since this case doesn't conflict with the Supreme Court or precedent in the circuit, it can be assumed that the circuit voted to hear it because of its "exceptional importance."  And that tells you something about the judges in this circuit. 

This is a circuit that in general does not view itself with much pretense.  It is right of center but has never been caught up in the huge ideological debates that have plagued other circuits.  There are not many judges, Michael McConnell, the author of the panel opinion a possible exception, who seriously aspire to be on the Supreme Court.  As a result, the judges in this circuit are generally not motivated by publicity or the need to demonstrate their intellectual acumen by writing ground breaking opinions. 

Much of this can be seen from the decision with respect to Joe Nacchio.  The place to make ground breaking law is on the substantive elements of the alleged criminal behavior.  On appeal, Nacchio sought not just reversal but acquittal, arguing that, among other things, the information he knew before trading was not material.  Had the court agreed with Nacchio, some insider trading cases would have been more difficult to bring.  More importantly, however, such an opinion would have crippled many shareholder class actions based upon only modest understatements of earnings.   In setting the case for en banc hearing, the circuit declined to consider this issue.

The circuit, however, ignored the issue and instead opted to examine a more procedural issue, examining when a defendant has an obligation to request a hearing (otherwise waiving the right to challenge the contested point) and, where a hearing is required, the appropriate remedy (reversal or remand and an evidentiary hearing).  In the more politicized places like the DC circuit, this would hardly be viewed as a matter of "exceptional importance."  But in the Tenth Circuit it is.  Why?  The case goes to the proper functioning of the trial courts.  The panel decision (finding that the failure to hold an unrequested hearing was reversible error) affects every trial judge in the circuit.  If the panel opinion remains in place, trial courts in the circuit will likely be forced to hold hearings sua sponte even when not requested in order to insulate their decision from reversal.  It will be an inefficient, time consuming addition to the work load of already busy courts. 

And it is this impact, not the publicity surrounding the Defendant, that has caused the entire circuit to take up the case.  The Tenth Circuit may ultimately decide that the trial judge should have held a hearing but it is clear that the entire circuit will not impose this burden on trial courts without seriously weighing the consequences.

The briefs and other materials filed in connection with the appeal and the request for hearing en banc can be found at the DU Corporate Governance web site. 

We are discussing the much awaited  interpretive release from the SEC containing guidance on the use of company websites. 

The release discusses the issue of hyperlinks and the problem of adopting third party statements linked to the company's web site.  The general rule is that companies are not liable for third party statements.  To the extent they "adopt" them, however, the company will be treated as having made the statement and potentially liable for any inaccuracies.  The issue arises in the Internet context most severely where a company links third party statements, whether analyst reports or media commentary, on a selective basis.  This creates the appearance that the company is linking only to content that it approves.   As the release noted:

• While the use of "exit notices" or "intermediate screens" helps to  avoid confusion as to the source of the third-party information, no one type of "exit notice" or "intermediate screen" will absolve companies from antifraud liability for third party hyperlinked information. For example, if there is only one analyst report out of many that provides a positive outlook on the company's prospects, and the company provides a hyperlink to the one positive analyst report and to no other, and does not mention the fact that all the other analyst reports are negative on the company's prospects, then even the use of an "exit notice" or "intermediate screen" or explanatory language may not be sufficient to avoid the inference that the company has approved or endorsed the one positive analyst's report.

Sound advice, although even mentioning that there are other reports that disagree will probably not insulate the link from successful allegations that the company approved the one positive report.  To avoid this, the traditional advice (other than don't do it, particularly with respect to links to analyst reports), is to have the company link to all materials within a classification, good or bad (along with a relevant legend or "exit notice"), whether all articles on the company or all analyst reports.  The key is to have the selection of material that will be linked to the page not be in any way influenced by the contents.   The release repeats this advice. 

• "[I]f a company has a media page and simply provides hyperlinks ot recent news articles, both positive and negative, about a company, the risk that a company may have liability regarding a particular article or that it endorsed or approves of each and every news article may be reduced."

All straightforward enough except that the release also notes that "a company would not be shielded from the antifraud liability for hyperlinks to information it knows, or is reckless in not knowing is materially false or misleading." 

This is true even if the company "uses a disclaimer and/or other features designed to indicate that it has not adopted the false or misleading information to which it has provided the hyperlink."  

Presumably officials in the company read all articles and analyst reports linked to the page.  As a result, they know if there are any inaccuracies.  The release seems to say that if they know, the company will be treated as having approved the false statement.  The approach squarely contradicts the advice that  companies can post all materials within a category, irrespective of the content.  If means that companies must delete or remove materials because of their contents.  Said another way, the SEC is effectively stating that companies must vouch for the contents of the material linked to its page.

Assume, therefore, that a company links to all analyst reports.  If one of the analyst reports falsely states that the company has had a breakthrough in its product development (assuming the information came from sources outside the company), the release suggests that the company may be deemed to have adopted the statement.  Similarly, what if an analyst report contains a projection that the company knows is lacking in a reasonable basis.  Perhaps the company is liable for these as well, assuming they know (which they will). 

There is no question that conveying false information to the market through the medium of third parties can violate the antifraud requirements.  Linking to false information can constitute fraud where the company somehow suggests that it has approved the contents.  But linking to all publications, consistently over time, without editorial comment, in a neutral matter, is effectively a disclaimer at any effort to approve or disapprove the contents.  In those circumstances, it is hard to see why or how a company would be liable for inaccurate information in the third party statement, even if it knows of the inaccuracy. 

The SEC's statement is too blunt.  It in fact may well have the effect of discouraging links to third party information, even if done in a neutral and comprehensive way. 

On Friday, the Commission issued its much awaited  interpretive release containing guidance on the use of company websites.  Most of the "interpretation" was common sense applications of Regulation FD and the antifraud provisions, neither novel nor particularly useful but relatively harmless.  In some places, however, the Commission confused the analysis and made matters more, rather than less difficult for lawyers trying to ensure compliance with the securities laws.

Take the discussion of the republication problem.  Unlike hard copies, which become stale automatically over time, web disclosure that has been drafted long ago can still be current.  Everytime an investor hits the web site and reads the disclosure, he or she may well rely on the information.  As long as it remains on the page, therefore, the information is effectively republished.  

In the interpretive release, the Commission noted that it does not believe that "companies maintaining previously posted materials or statements on their web sites are reissuing or republishing the materials . . . just because the materials or statements remain accessible to the public."   Fair enough, although no serious securities lawyer would take the position that the posting of materials always, irrespective of the circumstances (including positioning on the page and legends), automatically results in republication.  

The observation suggests that republication is the exception but the remaining tone of the release suggests otherwise.  The release went on to note that that "where it is not apparent to the reasonable person that the posted materials or statements speak as of a certain date or earlier period" then "we believe" that the materials should be moved to a section "identified as historical" and on "a separate section of the company's web site." 

In other words, if the disclosure is not written in a way that telegraphs it's limited time span, it will in fact be republished.  This is another way of saying that date specific material is not republished, date unspecific material is.  Why is this important?  Because the Commission provides only one solution to the republication problem, moving the material to an archived section of the web site.  The solution is limited and potentially misleading. 

First, archiving materials is not a silver bullet.  Even when this is done, reliance does not automatically cease.  This is particularly true if the material is archived shortly after posting.  Take for example the speech of the CEO who makes projections for the year.  Moving it within a few weeks from the main page to an archive will probably not end reliance.

Second, the focus on location obscures the more important solution.  In fact, the best way to avoid republication is through careful drafting.  In other words, materials on the web ought to state that they are current as of a time certain or contain legends indicating that they speak as of a specific time.  Routinely taking these steps will reduce investor reliance, whether or not ultimately moved to an archived section of the web site.

A huge component of corporate governance is disclosure.  The SEC uses disclosure for a variety of purposes including to influence the substantive behavior of officers and directors.  This is discussed at length in Corporate Governance, the Securities and Exchange Commission, and the Limits of Disclosure.

Last week, the SEC put out the long awaited interpretive release containing guidance on the use of company websites.  The release is a great disappointment, containing nothing that the average security lawyer doesn't already know.  Take a look at the chapter on Electronic Communications in The Regulation of Corporate Disclosure.  The Release largely deals with Regulation FD and the antifraud provisions, covering such topics as hyperlinks and republication.  So, does disclosure over a public website fulfill the disclosure requirements of Regulation FD?  It depends upon the facts and circumstances.  Will hyperlinks result in a company "adopting" the linked material?  It depends upon the facts and circumstances.  Will a document placed on a website be constantly "reaffirmed" or "republished" each day it appears?  It depends upon the facts and circumstances.

These areas, particularly the antifraud provisions, are full of uncertainty so the "facts and circumstances" test will often be the answer.  But there is no reason to use an interpretive release to repeat well known lore (or in this case, to confuse well known lore).  Instead, the release should have pushed the luddite companies without web pages to start using them.  Indeed, the Commission confessed in the release that "today we have reached a point where the availability of information in electronic form – whether on EDGAR or a company web site – is the superior method of providing company information to most investors, as compared to other methods.”  if its superior then why dance around the need for a web page?  Companies are only required to post filings and beneficial ownership reports on their website "if they have one."     Isn't it time to make them have one and to subject them to uniform standards? 

The Commission had a chance to use the release to push companies in a direction of increased public availability of information and real time disclosure.  The avenue was Regulation FD.  Regulation FD prohibits intentional selective disclosure of material non-public information.  See 17 CFR 243.100.  Thus, if information is already public, the Regulation does not apply. 

The Commission could have provided a safe harbor for companies that maintained a public web page and met certain standards (perhaps initially limited to accelerated filers).  The exemption might, for example, apply to companies with web sites that have an easily accessible page dedicated entirely to shareholders (investor relations) and has had the page in place for a specified time period (perhaps a year).  It's not enough to have a page.  Shareholders need to know that it will be used to disseminate important information.  The safe harbor could extend, therefore, to companies that post all periodic reports simultaneously with filing in EDGAR, post all press releases and other disclosure made to the market simultaneously with release, and agree to broadcast all earnings conferences and shareholder meetings by webcast and keep the webcast posted on the site at least a year. 

They would need to have written standards for what will appear on the web site and both post the standards and repeat them in periodic reports.  Shareholders would then know that the company's web site would be the "superior" method of disseminating important information.  In those circumstances, defining information disclosed on the web site as public for purposes of Regulation FD would be appropriate.

The Commission knows this and danced around the issue.  Information disclosed on the website would sometimes be public.  In resolving whether and when, companies were left with an amorphous set of standards that they already knew. 

• companies must consider whether and when: (1) a company web site is a recognized channel of distribution, (2) posting of information on a company web site disseminates the information in a manner making it available to the securities marketplace in general, and (3) there has been a reasonable waiting period for investors and the market to react to the posted information.

In other words, it depends.  The release provides no real security and no real safe harbor.  The existence of a facts and circumstances test has long been recognized.

A safe harbor under Regulation FD would likely have been a considerable impetus to the use and standardization of corporate web sites.  All public companies are subject to the regulation and therefore must worry about its applicability.  A safe harbor would have alleviated these concerns while, at the same time, benefiting shareholders. 

With respect to Regulation FD, this release provides nothing new.  More importantly, it was an opportunity not taken.  The Release could have taken huge steps in ensuring the use of corporate web sites and ensuring that shareholders received a predictable and uniform stream of disclosure.  Perhaps with regime change after the 2008 elections the agency will revisit the issue. 

So where does all of this leave the case?  There is some possibility that the hedge funds will win on the merits, that the Second Circuit panel will agree with the defendants and find that the "intent to evade" language applies to efforts to hide actual beneficial ownership (the belts and suspenders interpretation of Rule 13d-3).  The reasoning would do damage to the rule but it is an approach that would leave the ultimate solution to the SEC.  The Second Circuit is very unlikely to overturn the decision with respect to group formation.  That is a highly fact specific issue.  The Court will, therefore, have to wrestle with the problem of the appropriate remedy for violations of Section 13(d).  What will the Court do?  Agree that equitable relief is not limited to disclosure and return the case to the district court to determine the appropriate relief.

Oral argument on August 25.  Stay tuned. 

The briefs on appeal, including those filed as amicus are posted on the DU Corporate Governance web site.

We occasionally examine issues associated with law school rankings (for a paper on the impact of law blogging and rankings can be found here). We are examining the impact of a proposal put out by US News to alter the formula for determining the median LSAT and GPA (which provide 22.5% of a law school's ranking). The magazine proposes that medians be calculated based not on full time students but all students, including part time.

We note a few caveats.  First, the medians are the average of the 25th and 75th percentiles, so they may not actually be the median.  Second, this analysis did not look at GPA.  It is possible that in some cases the combination of the part time and full time class will result in a drop in the median LSAT but an increase in the median GPA, offsetting the effect.  The GPA counts for 10%, the LSAT 12.5%.  Third, the likelihood that some schools will fall out of the top 100 in part depends upon the stats of the schools in the third tier that are waiting to rise.  We did not examine this data either.   

The question becomes, assuming US News makes the change and combines full and part time for purposes of median LSAT/GPA, is there anything a law school can and should do?  There are several answers to the question.  Foremost, a law school can do nothing, either out of indifference to the rankings or out of hope that US News will not implement the change.

Assuming a school wants to eschew this approach, it is late in the admissions season to do much to change the class.  Nonetheless, the goals are obvious.  Either shrink the differential in the median between full and part time or reduce the size of the part time division.  Both strategies will reduce the downward pressure on the median LSAT.  Whether there is time to do so depends upon the situation at each law school. 

Whatever a law school does in the short term, it is clear that this change will result in continued homogenization of entering classes, with law schools having an incentive to ensure that the part time and full time divisions have comparable numbers.  In other words, while some law schools may game the numbers by throwing weaker students into the part time division, other law schools likely take a more untraditional student body in the part time division, perhaps those working (in other words likely to be older) and, particularly with schools in urban areas, perhaps more diverse.  Lumping the two programs together will make it harder for the untraditional student to find a spot in law school.

Of course there's always the long term strategy of increasing rankings by improving reputation.  The best, cost effective way to do it?  Blogging.  See Of Empires, Independents, and Captives: Law Blogging, Law Scholarship, and Law School Rankings. 

We are following CSX v. TCI.  Briefs in the case (including a number of amicus briefs) have been filed and oral argument is scheduled for August 25.

 

One of the amicus briefs came from an assortment of former SEC commissioners (an increasingly common phenomena, apparently, see posts here,  here and here), as well as professors (both law and business) and other professionals.  Those signing off on the brief include one former chairman (Arthur Levitt), four former commissioners (Campos, Grundfest, Karmel, and Wallman), 15 professors (Coates, Cox, Dharan, Ferrell, Gilson, Gibbons, Gompers, Harris, Hazen, Klausner, Kearl, Langevoort, Hu, Pfleiderer, Ready, and Schwert), one dean (Mahoney from Virginia), and one former general counsel of the SEC (Doty).  

 

The brief seeks affirmance of the trial court's decision on the requirement to report referenced shares in a swap position.  It does not weigh in on the remedy issue.  See Amicus Brief, at 2 n. 2 (indicating that it expressed no view on whether the trial court "had the authority to enjoin the voting of shares acquired" in violation of Section 13(d)).  As the brief notes:   

• Section 13(d) requires disclosure of every large aggregation of securities that might herald a change of corporate control so that investors can make informed decisions. Congress has set the reporting threshold at 5%. In this case, hedge funds actively seeking to force changes to the management and governance of CSX Corporation (“CSX”) used swap arrangements to gain effective control of the disposition and voting of a block of CSX shares well over the 5% threshold, but did not make the required filing. In a thorough and well-reasoned opinion, the District Court held that Defendants engaged in a “scheme to evade the reporting requirements of section 13(d),” in violation of the SEC’s Rule 13d-3(b), and therefore are deemed the “beneficial owners” of the shares referenced in the swap agreements. We urge the Court to affirm the District Court’s decision in this respect. 

The brief interestingly examines the letter from the Division of Corporation Finance and asserts that the letter "supports" the trial court's decision, thereby eliminating any need to determine the degree of deference to be accorded to the pronouncement.  The effort involves some deft arguing, mostly by asserting that the portions of the letter that arguably conflict are not exclusive. 

The briefs on appeal, including those filed as amicus are posted on the DU Corporate Governance web site.  The letter from the Division of Corporation Finance is attached to the document on the page titled Defendants Response to the SEC's Letter, CSX v. The Children's Investment Fund, 08 Civ. 02764, SD NY, June 6, 2008.  

We occasionally examine issues associated with law school rankings (for a paper on the impact of law blogging and rankings can be found here). We are examining the impact of a proposal put out by US News to alter the formula for determining the median LSAT and GPA (which provide 22.5% of a law school's ranking). The magazine proposes that medians be calculated based not on full time students but all students, including part time.

We have already compared the median LSAT score of the part time and full time divisions.  We noted that in every case the median (an average of the 25th and 75th percentile) of the part time division was lower that the full time division.  We also noted that the average differential was 3.7%.

The average of the part time program shows that they have about 38% of the students in the full time division (8685/3330) or about 28% of the entire student body.  Some, however, have part time divisions that are quite large relative to the matriculating day class.  George Mason has a part time division equal to 52% of the day division (176 full time; 91 part time), SMU's equals 59% (177/105), Brooklyn's equals 61% (207/187), Seton Hall equals 71% (214/151), Indiana equals 51% (199/101), Dickinson equals 52% (151/79), Loyola Chicago equals 56% (177/99), Catholic equals 50% (201/100) and, the prize for the largest as a percentage of the full time class goes to Rutgers-Camden, where the law school has the only part time division in the top 100 larger than the full time division, with the percentage equal to 106% (114/121). 

All other things being equal (this assumes the median calculation is accurate, the law schools admit a roughly similar class in both quality and size, and that all of the other numbers remain unchanged), it is safe to say that Georgetown and GW will see a drop in the median LSAT, with GW in particular confronting the risk that it will lose its position in the top 25.  Maryland, Connecticut and SMU will likewise see a drop and confront the real possibility of falling out of the top 50.  All of the schools ranked 80 and below confront some risk of a fall in the median and some possibility that they will drop out of the top 100, with St. John's, St. Louis, and McGeorge perhaps having the greatest risk of this occurring. 

For the law schools in the top 100, we have the data on the differences in the median LSAT scores for full and part time programs and the number of students as a percentage of the day division that each part time program accepts.  If you want a the data, it will be sent gratis to anyone who writes a comment on this series and asks for the data.  

We are discussing CSX v. TCI. 

Another amicus brief was filed by the Washington Legal Foundation, the National Association of Manufacturers and the Business Roundtable.  The brief squarely confronted the trial court's determination that it lacked the authority to enjoin the voting of the shares held by the hedge funds, concluding that the court "erred with respect to the scope of its remedial powers."  As a result of the failure to file a timely Schedule 13D, the brief argued that the hedge funds "very likely could not have obtained their position in CSX for the same price had they disclosed their true holdings and intentions in February 2007."  CSX was, therefore, entitled to an injunction.

• Under those circumstances, an entirely appropriate equitable remedy -- and one that the district court would have granted had it believed itself empowered to do so -- is an injunction prohibiting TCI and 3G from voting their illegally obtained shares at the June 25, 2008 shareholders' meeting.  Such an injunction would not require the courts to take sides in an on-going fight for control of CSX; the control issue would be decided by a majority vote of all legally obtained CSX shares.  But if a majority of those shareholders decide to back the exisiting board and management, TCI and 3G should not be permitted to thwart the majority will by voting shares that they obtained only as a result of their flagrant violations of federal securites laws.

In other words, the brief does not really come up with a principled reason why this is the appropriate remedy.  To the extent illegally acquired, there is actually an argument for permanent sterilization (or divestment).  The case for sterilization at only one meeting is harder to justify.  Amici note the problem.  

• Amici are also mindful of the need to impose a temporal limit on any injunctive relief. . . Accordingly, should TCI and 3G still be CSX shareholders at the time of the 2009 annual shareholders' meeting, the rationale for continuing an injunction against the voting of all illegally obtained shares would be considerably weakened. But sterilization of the illegally obtained shares is a wholly appropriate remedy on at least the first occasion on which TCI and 3G attempt to vote them. 

In other words, they recognize that the argument for sterilization beyond the June 2008 meeting exists but also recognize that a court is unlikely to issue an injunction that would permanently sterilize the shares.  While severe, a more logical remedy would be divestment of the illegally obtained shares. 

Perhaps the most interesting component of the brief was the swipe at hedge funds.  Without any authority, the amici warned the court of the evils of hedge funds.   

• Amici urge the Court to take note of the increasing fequency with which hedge funds have been mounting challenges to the incumbent boards and management of publicly traded companies. In some instances, those challenges may serve the best interests of shareholders by leading to improved managment.  But the Court should bear in mind that most hedge fund managers have relatively short-term investment horizons; they are looking to maximize a stock's price over the short term and then to move on to other investment opportunities.  Such interests often conflict with those shareholders who seek to stay invested in a corporation for the long haul and are focused on long-term, sustained grown.  Federal courts must be provided the tools necessary to ensure that hedge funds are not permitted to employ schemes prohibited under the federal securites laws as a means of gaining an unfair advantage over shareholders who do not share their investment goals.

In other words, broad equitable authority is necessary in the battle by issuers against the influence of hedge funds.  This is not the first or last time that hedge funds as a category have been demonized.  The category is, of course, a broad one (with no real fixed definition) and to the extent they encompass shareholders who want to maximize price "over the short term" is a category that has existed since the first trading markets opened. 

The ruling is in.  The Tenth Circuit voted to hear the appeal of Joe Nacchio en banc.  The Race to the Bottom argued that the case should be reheard.  The issues to be briefed en banc?

• 1 . Was the defendant sufficiently on notice that he was required either to present evidence in support of the expert's methodology or request an evidentiary hearing in advance of presenting the expert ’s testimony?
• 2 . Did the defendant have an adequate opportunity to present such evidence or request an evidentiary hearing in advance of presenting the expert ’s testimony?
• 3. Did the defendant bear the burden of requesting an evidentiary hearing?
• 4 . Did the district court abuse its discretion in disallowing the evidence, and if so, is the appropriate remedy necessarily a new trial or is a remand for purposes of conducting an evidentiary hearing adequate?

The choice of issues are indicative.  It was the evidentiary issues (the exclusion of testimony from Daniel Fischel) that resulted in reversal of the conviction by the 10th Circuit panel.  Nacchio argued, however, that if the case went en banc, all of the issues addressed in the appeal should be reopened, including the issue of the materiality of the nonpublic information.  The 10th Circuit, however, rejected that approach. 

The en banc panel will consist, apparently, of only nine judges (including the two in the majority in the panel opinion) since Judges O ’Brien, Tymkovich, and Gorsuch are listed as not participating and therefore presumably recused.  That means that the panel majority need only find three more votes to affirm its position.   

We occasionally examine issues associated with law school rankings (for a paper on the impact of law blogging and rankings can be found here). We are examining the impact of a proposal put out by US News to alter the formula for determining the median LSAT and GPA (which provide 22.5% of a law school's ranking). The magazine proposes that medians be calculated based not on full time students but all students, including part time.

What will be the impact if US News changes the formula by requiring law schools to use the GPA and LSAT median for all students rather than just full time students?  First, the category is one of the largest, involving 22.5% of the rankings.  Second, to the extent law schools have medians for the full and part time programs that are roughly identical, there will be little risk of a drop in rankings (and perhaps an increase as other schools fall).  Third, to the extent that there is a material difference (with the part time statistics lower), the law school's rankings may well fall.  The risk of a fall and its extent depend at least in part on the size of the part time class relative to the full time class.

Having said all of that, we will examine the possible impact of the proposal on the law schools in the top 100.  As we noted in the  last post, based on data from last year, there are two part time programs in the top 25, seven in the next 25 and 29 in the next 50.   So, 38 law schools in the top 100 have part time programs.  

The first question that requires an answer is whether the melding together of the part time and full time programs will necessarily result in a lower ranking.  Looking only at LSAT scores (not GPA, there wasn't time), the ABA publishes the 75th and 25th percentile LSAT score for both the full time and the part time divisions of all accredited law schools.  In order to compute the median, we averaged the two together.  This is by definition an imperfect measurement since a law school may well have a median that is not an average of these numbers (it's true, for example, at the University of Denver).  Nonetheless, we use it as a proxy for the median for lack of a viable alternative.  

What did these "medians" show?  First, there is no law school in the top 100 that had an LSAT median for the part time division that was equal to or higher than the full time median.  In other words, all part time programs had lower medians.  Seattle (158/157.5) and Indiana (154.5/154) were the closest, with the part time median LSAT only 0.5% lower than the full time median.  A median from these schools of the entire entering class is not likely to deviate much from the median for the full time matriculating class.  On the other hand, the average of the 38 schools was a median LSAT 3.8 points lower for the part time than the full time class. 

Some of the most significant difference?  Alabama, 9.5 percentage point (162.5/153), Dickinson, 8 percentage points (158.5/150.5), Maryland, 7 percentage points (163/156), Loyola-Chicago, 6.5 percentage points (161/154.5), and St. Johns, 6 percentage points (159.5/153.5),  We also note that for the highest ranked schools with a part time division, all of them have a significant differential in the "median" LSAT score.  Thus, they are as follows:  Georgetown, 5.5 percentage points (169/163.5), GW, 5 percentage points (167.5/162.5) and Fordham, 4.5 percentage points (165/162.5).  The high differential means that, assuming the schools accept a comparable class for 2008-2009, the combining of the full and part time divisions will put considerable downward pressure on the median LSAT.  In short, all other things being equal, they (along with most of the other 38 law schools) will see a drop in the median LSAT score used by US News in its rankings. 

There is, however, one other variable, the size of the part time division.  A large differential in median LSAT and a large part time division will result in maximum downward pressure on the median LSAT.  We'll look at that in the next post.

For the law schools in the top 100, we have the data on the differences in the median LSAT scores for full and part time programs and the number of students as a percentage of the day division that each part time program accepts.  If you want a the data, it will be sent gratis to anyone who writes a comment on this series and asks for the data.  

We are discussing CSX v. TCI.  The case has generated considerable attention.  This can be seen in part from the filing of at least five amicus briefs.  Many also made appearances at the district court.  One that did (we posted on it here) was the brief submitted by the International Swaps and Deriviatives Association and the Securities Industry and Financial Markets Association.  The brief relies on the letter submitted by the Division of Corporation Finance and asserts that a scheme to evade the beneficial ownership reporting requirements "is intended to reach arrangements that, through deception, conceal the existence of beneficial ownership." 

 

Putting aside the degree of deference that this position ought to receive (we have discussed that in a prior post), the position of amici would essentially render a portion of Rule 13d-3 irrelevant.  Since Rule 13d-3(a) already requires shareholders to report beneficial ownership, the section encompasses all instances of beneficial ownership, including those masked by deception.  The scheme to evade language in subsection (b), therefore, must pick up instances where there is not actual beneficial ownership to have any meaning.  Indeed, the subsection specifically encompasses any device that prevents "the vesting of such beneficial ownership."  In other words, logic and language indicate that the scheme to evade must sometimes cover circumstances where there is not actual beneficial ownership.  The brief all but acknowledges this, concluding that "the SEC would not be the first agency to resort to 'belt and suspenders' in drafting rules intended to be all inclusive." 

 

As for the argument that there must be actual control over the shares to have beneficial ownership (rather than influence as the district court indicated), the approach would essentially undo the parking cases.  In those circumstances, there was at most an understanding about what would happen to the shares.  SEC v. Drexel, Litigation Release No. 13891 (SDNY Dec. 2, 1993)(noting that parking occurred where purchaser was "encouraged" to buy shares with assurances that the purchaser "would not lose any money").   In other words, there was no control.  Boesky could have sold the shares at any time to anyone and he retained the authority to vote them.  

 

The brief lists a parade of horrors that will occur if the trial court is upheld.  This includes implementation of a "highly sophisticated and extremely expensive monitoring systems if even possible."  The brief provides no citation or authority for the statement.  More importantly, the trial court's holding only becomes relevant at most to swap positions that, when aggregated together with shares beneficially owned, would result in the long party having an interest in more than 5% of the voting shares of a company. This would presumably not happen very often.  Moreover, it is hard to imagine why developing a system that would catch equity swaps in this situation would need to be a "highly sophisticated and extremely expensive monitoring system."   When the SEC imposed new obligations on short sales with little advance notice, brokers were able to implement the new requirements with "few snags."

 

An amicus was filed by the Coalition of Private Investment Companies.  The CPIC filed a brief at the trial court and we have posted on the content.  Calling the trial court's ruling a "radical departure," the brief to some degree relies on the position taken by the Division of Corporation Finance.  See CPIC Brief, at p. 8 ("Rather than accord any deference to the SEC's views, the District Court took the unprecedented position that the SEC has the power to extend its rules beyond the terms of a statute then substituted its own views for the SEC's views.").  

 

Interestingly, the brief argues that the decision will harm activist shareholders.  After noting the ability to exercise "influence over corporate governance through director elections," the brief essentially argued that activist shareholders would no longer be able to acquire cheap shares.  CPIC Brief, at 24-25 (decision will "result in investors other than the activist 'bidding up the referenced stock in anticipation of a tneder offer or other corporate control contest' thereby decreasing the financial incentive for the activist to engage in activist behavior."). 

 

Finally the Managed Funds Association filed a brief, endorsing the views of the ISDA and SIFMA.  The brief primarily asks the court to provide clarification, particularly that a long party to an equity swap is not, "standing alone," the beneficial owner of the referenced shares and that investing through equity swaps does not, "without more," constitute a "scheme to evade."  Fair enough points since the trial court did not do either but it can result in little harm to remind the Second Circuit of the need for clarity. 

 

The brief also sought clarification on the issue of group formation. Despite noting that the brief offered "no opinion whether or not a group was in fact formed in this case," much of the discussion in the section challenged the trial court's basis for finding the existence of a group.  Nonetheless, the brief asked for clarification.  "Any affirmance of the district court's finding of a group in this case, however, should underscore that the finding rests on the existence of an agreement, and that information-sharing and even parallel activity based on common interests, but without agreement, does not create a group."

The briefs on appeal, including those filed as amicus are posted on the DU Corporate Governance web site.

We occasionally examine issues associated with law school rankings (for a paper on the impact of law blogging and rankings can be found here). We are examining the impact of a proposal put out by US News to alter the formula for determining the median LSAT and GPA (which provide 22.5% of a law school's ranking). The magazine proposes that medians be calculated based not on full time students but all students, including part time.

In assessing the impact of this possible change, we took a look at the law schools that have part time divisions. The data is reported to the ABA and is publicly available. The ABA list contains 196 accredited law schools (although US News says the rankings include only 184 law schools). Of that number, 90 or slightly less than half have a part time division. The schools with part time divisions?

• Akron, Alabama, American, Arkansas (Little Rock), Cleveland State, Baltimore, Barry, Brooklyn, California Western, Capital, Cardozo, Case Western, Catholic (DC), Chapman, Charleston, Chicago-Kent, Cleveland State, Connecticut, Denver, DePaul, Detroit-Mercy, Duquesne, Thomas Goode Jones (Faulkner), Florida A&M, Florida International, Fordham, George Mason, George Washington, Georgetown, Georgia State, Golden Gate, Hamline, Hofstra, Houston, Indiana (Indianapolis), Inter American, John Marshall, La Verne, Lewis & Clark, Louisville, Loyola (Marymount), Loyola (Chicago), Loyola (New Orleans), Marquette, Maryland, Michigan State, Nevada, New England, NY Law, North Carolina Central, Northern Kentucky, Nova, Oklahoma City, Pace, McGeorge, Penn State (Dickinson), Phoenix, Catholic (PR), Puerto Rico, Quinnipiac, Rutgers (Camden), Rutgers (Newark), St. Johns, St. Louis, St. Mary’s, San Diego, San Francisco, Santa Clara, Seattle, Seton Hall, SMU, South Texas, Southern University, Southwestern, Stetson, Suffolk, Temple, Texas Wesleyan, Cooley, Thomas Jefferson, Toledo, Touro, Tulsa, Valparaiso, Wayne State, Western New England, Western State, Whittier, Widener, William Mitchell

Before we do a rough assessment of the likely impact of the change in the US New formula on these schools, we offer a number of general observations.  First, we omitted from the list Creighton, Missouri (KC), and Hawaii, each with only 11 students, and a host of schools that showed less than 10 part time students (Boston College, Drake, Florida Coastal, Memphis, Northern Illinois, Regent, Richmond and South Dakota), but left in Tulsa with 16.

Part time divisions are, interestingly, a second and fourth tier phenomena.  In the top 25 (based on the most current US News rankings), only two law schools have part time divisions:  Georgetown and George Washington.  In the next 25, there are seven schools with part time divisions, Alabama, American, Connecticut, Fordham, George Mason, Maryland and SMU.  

Of the remaining top 100, however, more than half, or 29 law schools have part time divisions.  Of the 37 schools in the third tier, 15 have part time divisions, while 28 of the 43 schools in the 4th tier have them.  In addition, nine are not ranked (Charleston, Jones, Florida A&M, Inter American, La Verne, Phoenix, Catholic - Puerto Rico, Puerto Rico, and Western State). 

Which schools took in the largest part time classes last year?  Cooley by far (1273), followed by Michigan State (201), Suffolk (199), Brooklyn (187), Fordham (161), Seton Hall (151), and Fordham (161).  

In the next post, we will look at the possible impact of the proposed change by US News.

For the law schools in the top 100, we have the data on the differences in the median LSAT scores for full and part time programs and the number of students as a percentage of the day division that each part time program accepts.  If you want a the data, it will be sent gratis to anyone who writes a comment on this series and asks for the data.  

We are following the appeal of CSX v. The Children's Investment Fund.  Briefs have been filed and oral argument is scheduled for August 25.  Yesterday, we addressed some of the arguments made by CSX in its appeal.  Today we look at some of those made by the hedge funds. 

The hedge funds challenged both the determination that they had operated as an undisclosed group and that they engaged in a "scheme to evade" Section 13(d).  They fundamentally argued that any scheme had to involve the hiding of actual beneficial ownership and that they did not beneficially own the shares held by the counterparties in the equity swaps.  “To deem standard cash settled swaps as conferring ‘beneficial ownership’ of referenced securities within the meaning of the 1934 Act would represent a sea change in law and policy, and any such change should come, if at all, from Congress or the SEC, not a federal court.”  

For the scheme to evade issue, the funds relied primarily upon the letter written by the staff of the SEC and found as error that the trial court had rejected the conclusions contained in the letter.  “As both the Supreme Court and this Court have explained time and again, agencies are entitled to especially great deference when interpreting their own rules and regulations.” 

True as a general proposition.  But what about the fact that the interpretation came from one division?  “Defendants are aware of no principle limiting judicial deference to an agency’s interpretation of its own regulations only to pronouncements made by the agency itself, as opposed to by a duly authorized subdivision or staff of the agency.”  

While the funds may not be aware, their position goes too far.  Defendants' reasoning would presumably extend deference to opinions by any subsection of an agency, perhaps even an opinion by a single individual within the agency.  This of course cannot be the right interpretation. 

Agency deference to the interpretation of rules is likely easier to establish than deference to interpretations of statutes, the area where the concept of deference is the most (if not confusingly) developed.  Nonetheless, there are some ground rules that necessarily apply to agency deference, even of its own rules.  First, the agency cannot issue an interpretation that is inconsistent with the rule.  Second, assuming some ambiguity in the language of the rule, deference is not accorded to just any pronouncement.  Deference may arise out of agency expertise or out of a more general notion that having adopted the rule, agencies get to fix the ambiguities (even in cases not requiring expertise).  But the key is that it must be, one way or another, the position of the agency.  This can certainly arise where the position has been approved by the head of the agency, whether an individual or commission.  But the concept of approval need not be so cramped.  A position developed by the appropriate subdivision then applied agency wide in a consistent fashion would likewise require deference.   

In this case, the Commission was asked by the trial court to provide an interpretation of Rule 13d-3(b).  It did not.  Instead, the court received the views of a single division within the SEC.  The interpretation was apparently created for the litigation and had never actually been applied by the staff.  Moreover, the interpretation was apparently not reviewed by any of the other divisions within the agency that could be affected by the policy, whether the General Counsel's Office or the Divisions of Investment Management and Trading and Markets.  All of these factors indicate that the letter does not reflect the position of the agency as a whole.  Indeed, the cover letter from the General Counsel conceded that the position was entitled to less deference than a position of the Commission.   

The merits of the arguments are one thing.  Deference is another.  In this case, the letter is entitled to little or no deference, as the trial court properly found.   Of course, the best way to have eliminated this issue was to have the entire Commission rather than an individual division weigh in on the issue.  The General Counsel's letter noted that the Commission did not speak to the issue because "the schedule for submitting a response to the Court did not afford enough time for the Commission's staff to present this matter for a vote of the Commission."  Perhaps true enough when views were solicited by the trial court in May for a decision that would be issued in a matter of weeks.  Here the Commission has had a period of months to resolve the issue but has not.  Whatever the reason, its not because the schedule did not "afford enough time." 

The briefs on appeal, including those filed as amicus are posted on the DU Corporate Governance web site.

While we typically focus on issues of corporate governance, we are also tangentially interested in law school rankings.  An example can be found in the paper, Of Empires, Independents, and Captives: Law Blogging, Law Scholarship, and Law School Rankings.  The paper makes the case that blogging by law faculty can positively impact rankings, particularly for law schools outside the top tier.

Law schools are uniquely dependent upon the annual rankings published by the US News and World Report.  In part it is because of the monopoly effect of the rankings.  While others have tried, there is essentially no other widely used system of rankings for law schools.  For all of its faults, therefore, US News is largely the only game in town. 

US News mostly relies for the rankings on data submitted by laws schools to the ABA (although the largest component, reputation, accounting for 40% of the formula, comes from a survey distributed by the magazine).  Nonetheless, US News periodically tinkers with the formula, something that can have an enormous impact on a law school's rankings.  With respect to next year, US News is at it again. 

US News is suggesting that it will change the formula for ranking law schools (as it does from time to time).  Under the current system, 22.5% of the rankings are based upon the median LSAT and undergraduate GPA of the full time students matriculating at each law school.  How important are these numbers to overall rankings?  A study done in 1998 concluded that "90% of the overall differences in ranks among schools can be explained solely by the median LSAT score of their entering classes."  Klein & Hamilton, The Validity of the US News and World Report Ranking of ABA Law Schools. 

The calculation of median LSAT, however, excludes part time students, mostly those associated with a law school's evening division (although some apparently have part time day programs).  The exclusion provides an opportunity for gaming the system.  Full time divisions can be reduced in size, with a concomitant improvement in median LSAT scores, and the revenues foregone made up by increasing the size of the part time (evening) division.  The result would be a higher median reported to US News and a higher ranking.  Some have noted this phenomena and concluded that it works.  See William D. Henderson & Andrew P. Morriss, Student Quality as Measured by LSAT Scores: Migration Patterns in the U.S. News Rankings Era, 81 Ind. L.J. 163 (Winter 2006). 

The proposed change at US News would do away with this discrepancy and base the median on all students, part time and full time.  The proposed change has produced a deluge of comments, many negative.  As the blog at US News summarized:

• Some people -- including Brian Leiter --- have argued that if U.S. News combines the scores for all entering students, regardless of the part-time or full-time status—it could reduce the options for certain types of students to go to law school. These critics say that some law schools would de-emphasize their part-time programs to maintain their position in the rankings. Some law school deans (and others on the blog) have written me and said that their part-time programs are truly separate and serve working adults who can’t afford to go full time. Others say that those enrolled in part-time programs come disproportionately from minority populations; a reduction in part-time programs thus would also diminish racial diversity in the law school student body. These people state that by including part-time student data in our student selectivity factors, U.S. News would be doing more harm that good: We would curb the gaming of admission data, but actual students could get hurt in the process.

The proposed change has generated a considerable amount of commentary from the online community, with most crtical  (see the comments of Dean Gary Simpson of Case Western, Dan Solove at Concurring Opinions and Bill Araiza at Prawfsblog), some more equivocal (see the comments of Ann Bartow at Feminist Law Professors), and some containing personal observations (see Christine Hurt at  The Conglomerate).  It has caused a renewed discussion about the benefit/harm of the rankings by US News (see Brian Leiter on one hand and Larry Ribstein on the other).

Nonetheless, the US News Blog suggests that the change will be made.  As the Blog again pointed out:

• In any case, aren't law schools the sum of all their students (full-time, part-time, and transfer), and shouldn't the profile of the entire law school be the basis under which ranking comparisons are made? It should be noted that part-time student data are included in computing all the other variables (expenditures per students, student-faculty ratios, employment rates, and bar-pass rates) in the U.S. News law school rankings that involve statistical data.

Moreover, frankly, US News has business reasons for wanting the change the formula.  If the formula did not change and rankings remained fairly stable, there would be less interest when the new edition comes out.  If this change goes into effect, there is no doubt that the interest in the new rankings when they come out in April 2009 will be increased (and no doubt improve magazine sales).  Whatever the merits, we thought it would be an interesting exercise to examine the schools that have part time divisions to assess the impact of the change.  We will do so in the next post.  The data is reported to the ABA and publicly available. 

By the way, for the law schools in the top 100, we have the data on the differences in the median LSAT scores for full and part time programs and the number of students as a percentage of the day division that each part time program accepts.  If you want a the data, it will be sent gratis to anyone who writes a comment on this series and asks for the data.  

We are beginning a series on the briefs filed in the CSX case before the Second Circuit.  The meeting occurred in June 25.  The hedge funds won two seats with two too close to call. 

The panel declined to award emergency relief to CSX (primarily a request to sterilize the shares acquired by the two hedge funds) prior to the shareholder meeting in June but did provide for an accelerated briefing and oral argument schedule.  Both sides are appealing.  The case has attracted a host of amicus briefs, including one signed off on by former SEC Chairman Levitt. 

CSX appealed only a single issue.  It contended that the lower court was wrong in concluding that it was “foreclosed” from enjoining the defendants from voting their shares as a result of violations of Section 13(d).  The brief takes the position that the trial court had the authority to enjoin the voting of the shares and that the injunction should have been issued.  Rather than seek remand, CSX sought an injunction from the appellate court that would prevent the voting of the shares. 

The case at least initially turns on the Second Circuit's decision in Treadway Cos. v. Care Corp., 638 F.2d 357 (2nd Cir. 1980).   Treadway involved false disclosure under Item 4 of Schedule 13D.  The acquiring shareholder, Care Corporation, filed the Schedule in a timely fashion but disclosed that the purchases were for investment only, representations that the court found "not credible. "   Care disclosed an intent to acquire control in an amended schedule filed approximately 11 months after the original.  The proxy contest for Treadway began about three months after the corrective disclosure and the shareholder meeting approximately four months.  The Second Circuit found that in these circumstances, corrective disclosure was enough.

• The district court correctly determined that on the facts alleged, Treadway was not entitled to injunctive relief. Care's November 2 filing expressly declared Care's intent to seek control of Treadway; Treadway's shareholders had ample time to digest this information. Contrary to Treadway's suggestion, this is not a case in which a takeover attempt "followed on the heels" of a belated curative filing. Rather, the shareholders had four months to ponder Care's November 2 filing, before being asked, in the proxy contest, to reach any decision about a Care takeover. Since the informative purpose of § 13(d) had thereby been fulfilled, there was no risk of irreparable injury and no basis for injunctive relief.

The opinion did not purport to limit remedies to disclosure.  In fact, the Court responded to the company's argument that divestiture and disenfranchisement might sometimes be appropriate by noting that it expressed "no view" on the merits of the proposition.  Moreover, the disclosure violation was not significant.  While not disclosing a control purpose, Care did file an intial Schedule 13D when it went over 5% and thereafter disclosed additional acquisitions.  Thus, the market knew about the purchases and, irrespective of the item 4 disclosure, had to know that Care might seek control, particularly as the percentage of shares owned climbed above 30%.  Thus, when disclosure of the control motive finally occurred, it was likely something the market anticipated. 

The facts in CSX are very different.  Here the hedge funds acquired equity swaps that "referenced" more than 10% of the CSX shares by early 2007.  The hedge funds then collectively purchased somewhere around 8% of CSX shares in the spring of 2007, a position reduced during the summer but rebuilt in the fall.  Despite all of the activity, the funds only filed a Schedule 13D in December 2007.  The Schedule disclosed ownership of 8.3% and "exposure" from the swaps of 11.8%.  As a result, the funds held very large positions (counting actual ownership of shares and the equity swaps) for over a year with no public disclosure under Schedule 13(d). 

Investors knew almost none of this.  TCI had disclosed its Hart Scott Rodino filing in a quarterly report but it contained few specifics.  As the district court concluded:  "And it kept the marketplace entirely and, after CSX filed its Form 10-Q, largely in the dark, thus serving TCI's interest in permitting it to build its position without running up the price of the stock."  Had investors known that a group of shareholders collectively held a 20% interest in the company, they may well have altered their investment patterns.  Moreover, while ordinary investors were unaware of the activities, the district court found that the funds tipped "other funds to CSX, which continues for some time. This is an effort to steer CSX shares into the hands of like-minded associates."   In other words, ordinary investors did not know the information but "friends" of the hedge funds did.

Effectively CSX is arguing that this type of behavior ought to be punished (which also explains the lengthy discussion of the allegedly false testimony given by agents of the hedge funds).  CSX would disagree with the characterization, arguing that extraordinary relief was necessary "to deter, not to punish."   Whatever the proper characterization, the failure to provide relief begs the question of "who would comply with the statute if non-compliance results in belatedly having to tell the truth."  Effectively the district court's decision allowed the hedge funds to operate under the radar despite accumulating large positions in violation of Section 13(d) without incurring any penalty.

In the end, the central problem for CSX is the connection between the allegedly bad behavior and the remedy.  While the hedge funds may have been able to maintain and even increase their position during 2007, the disclosure violation did not prevent the acquisitions but did potentially result in the acquisition of cheaper shares.  Moreover, during the period, other investors may well have altered their investment strategy had they known of the acquisitions.  Most logically, this case would suggest the need for an action for damages by injured shareholders.  But in the Second Circuit, damages cannot be collected for violations of Section 13(d).  See Hallwood Realty Partners, L.P. v. Gotham Partners, L.P., 286 F.3d 613, 620 (2nd Cir. 2002)("We hold today that there are sufficient congressional indications to the contrary, and that, therefore, there is no private damages remedy for issuers under § 13(d). ").  Sterilizing the shares may deter but it won't make whole the injured shareholders. 

The briefs on appeal, including those filed as amicus are posted on the DU Corporate Governance web site.