The University of Chicago Law School Faculty Blog

"Corporate Philanthropy and the Market for Altruism"

Todd Henderson and Anup Malani recently posted their paper "Corporate Philanthropy and the Market for Altruism" to SSRN. The abstract is below, and the paper can be downloaded here. You can also listen to Prof. Malani's discuss corporate philanthropy at a CBI earlier this year.

The existing literature on corporate philanthropy asks why corporations engage in philanthropy. But corporations are not alone in doing good works. Non-profit charities and the government also lend a hand. Together the three sectors compete in a larger market for good deeds where individuals seek to satisfy their desire to help others.

The existing literature on public goods ignores the role for-profit firms play in this market, which we call the market for altruism. Once the demand and supply for altruism is understood, asking why firms are philanthropic becomes about as meaningful as asking why Ford produces the Explorer or Apple produces the iPod Nano. Instead the question becomes how is this market different from other markets, and when are for-profit corporations best suited to supplying it. The market for altruism is special because one of the competitors - the government - also regulates competition in the remainder of the market. After analyzing the market for altruism, and explaining the comparative advantages of corporations, this paper highlights one area - tax policy - in which the government discriminates among competitors. We argue that this discrimination is not justified and propose a number of tax reforms to level the playing field and improve the efficiency of the market for altruism.

 

Conditional Prediction Markets, Presidential and Otherwise

The heat of the presidential primary races brings us a new application for prediction markets. Long-used to predict the outcome of presidential elections, these markets are now being deployed to measure economic and strategic variables conditional on who is elected president. The for-profit firm Intrade is offering (for no transaction fee) a variety of conditional markets designed to predict oil prices, long-term interest rates, government debt loads, and the number of troops in Iraq depending on who wins the 2008 election. This forecasting tool has the virtue of capturing the market's best guess about the state of the world after the election, which thereby informs our views of the election. For example, if the market thinks that the number of troops in Iraq will be the same whether Obama or McCain wins in November, this tells us that perhaps we shouldn’t vote based on this issue since the wisdom of the crowd says it isn’t one. Or, if we are a firm interested in oil prices or interest rates (which one isn’t?), these markets may provide very useful information about future uncertainties.

Of course, these conditional markets have great appeal and wide possible application in the corporate law world too.

The Nanny Corporation

The “Nanny State” seems to be thriving as never before. To see this, I need only peer out from my 6th Floor window at the City of Chicago, which has recently banned foie gras (it is bad for the geese) and smoking in bars (it is bad for the smokers, non-smoking patrons, and bar employees). Similar moves are happening all over the country. This well-known phenomenon is getting traction among Republican presidential candidates, and was the subject of a recent book by journalist David Harsanyi.

We are also seeing the rise of the “Nanny Corporation”.

Henderson on Dissent

The Supreme Court term started last week, and the docket includes many interesting and controversial cases. A safe prediction is that there will be many cases in which the Court splits 5-4 firmly along ideological lines. We take it for granted that justices can dissent, issue official separate opinions, and that the public vote of the justices is revealed, but this was not always so. In a new paper recently posted to SSRN, Professor Henderson traces the history of opinion delivery practices in England and the United States in search of an explanation for the current practice of dissent. The history shows that the discourse is about power, and that courts adapt their opinion delivery practices to achieve a greater role over dispute resolution.

From 'Seriatim' to Consensus and Back Again: A Theory of Dissent
M. Todd Henderson
University of Chicago - Law School
October 2007
U of Chicago Law & Economics, Olin Working Paper No. 263

Abstract:      
Why do judges dissent? There are several conventional answers. One is that dissents communicate legal theories to future judges, litigants, or politicians in the hope of becoming law later. Another is that dissents reveal the internal deliberation of courts, thus increasing their legitimacy in a democratic society. Both of these suggest that dissent improves the law making process.

Other theories are potentially less benign. For example, dissents are inevitable given the ego and life-tenure of Article III judges or dissents enable majorities to be bolder in their holdings, thereby creating more law than is necessary. Chief Justice Roberts adheres to this latter view, and therefore has called for more unanimity on the Court. Before we can say whether Roberts's goal is worth pursuing, we must have a full account of the reason for dissent.

This paper traces the history of judicial discourse to understand the reason for dissent. Over the past several hundred years, the Supreme Court and its predecessors in England have sometimes issued dissents and sometimes spoken largely with one voice. A specific change in the delivery of opinions has happened at least three times on a grand scale: (1) Chief Justice Mansfield's change from traditional seriatim opinions to an “opinion of the court” in England circa 1760; (2) a similar change in the United States Supreme Court upon the ascendancy of John Marshall to Chief Justice in 1801; and (3) the development of a tradition of writing separately during the New Deal era of the Supreme Court, which has persisted to the present.

This paper shows that in each case the change in judicial discourse was made in an attempt to increase the power of law courts over other forms of dispute resolution. For example, Mansfield and Marshall moved from seriatim opinions to an “opinion of the court” to bring certainty to decisions and thereby increase the power of their courts, whereas the modern move away from unanimity is about achieving the same goal, but by using dissent to placate losers and protect the Court's jurisdiction over politically contentious issues like abortion or affirmative action. In short, history shows that judicial discourse, be it unanimity or seriatim or something in the middle, reflects court power, and those who want to change court power did so through a change in judicial discourse.

Baird & Henderson on "Other People's Money"

In corporate law classes at Chicago and other law schools this fall, students are studying the rules that govern the conduct of corporate directors and officers. Collectively known as "fiduciary duties", these include the "duty of care" and the "duty of loyalty". Nearly the entirety of corporate law is premised on these duties being owed to shareholders. In a new paper (see the abstract below), Professors Baird & Henderson argue that fiduciary duties as currently conceived are more harmful than helpful, and that they should be replaced with a new, contract-based approach. The full paper is available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1017615.

"Other People's Money"

Abstract:    

There is no more sacred tenet of corporate law than the one stating that corporate directors owe a fiduciary duty to shareholders. We argue that while this rule has not yet generated seriously wrongheaded outcomes, it is an “almost right” principle that should be abandoned before it does. As a threshold matter, we show the notion of special duties owed to shareholders is plainly inconsistent with everyday business decisions and corporate law. Firms can take and do take actions that are inconsistent with those of a fiduciary and that favor creditors at the expense of shareholders, despite supposedly trumping fiduciary duties owed to the latter. A bankruptcy filing is the most obvious of these. 

The recent cases in Delaware over fiduciary duties in the “zone of insolvency” demonstrate how the attempt to delineate clearly what duties are owed to different investors in a firm is doomed to fail. Using Credit Lyonnais and its predecessor Central Ice Cream, we show how courts are attuned to the problem of conflicting interests among different investors, but are not likely to create efficient rules by using labels like “fiduciary duties” and applying them to shareholders sometimes and creditors other times.

We offer two potential replacements for the shareholder fiduciary duty doctrine. The most familiar for corporate scholars and practitioners is the idea of fiduciary duties being owed to the firm as a whole, coupled with a strong business judgment rule. Although we think this is superior to the existing rule, we show how this principle itself may be wanting in some important cases. In venture capital transactions, for one, the ex ante bargain appears to give certain investors the right to take actions in bad states of the world that may destroy firm value in order to create incentives for managers to avoid those bad states. Courts disrupting these deals in the name of fiduciary duties may be upsetting well struck bargains.

We therefore set out an alternative paradigm, one in which no fiduciary duties exist at all, and directors face liability for their decisions (other than for neglect or surreptitious self-dealing) only if they violate a contractual obligation owed a shareholder, creditor, or other investor. We conclude by showing how separating corporate law from conceptions of duty brings needed clarity to the often-litigated issue of disclosure duties. The problem, we suggest, is largely contractual, and in setting the default rules the focus should be on the ability of parties to opt out—or opt in.

Henderson CBI: CEOs are Underpaid

A provocative title, no? Well, Todd Henderson's a provocative guy. On Wednsday, May 9, 2007, he delivered the talk on "CEOs are Underpaid." As he said, he may not have convinced the audience that CEOs are underpaid, but he was pretty convincing in explaining that they seem to be efficiently paid and not overpaid. You're going to have to listen to hear for yourself. The blurb for the talk is after the jump.

The Tale of Stephen Hilbert

The Law School, like others around the country, was abuzz yesterday with the start (or false start thanks to the Jewish holiday) of the new Supreme Court term.  While no opinions were handed down yesterday, the Court did make a decision of interest to corporate types: it turned away the petition of Stephen Hilbert, the founder of the insurance firm Conseco.  This case is interesting not so much for the legal issues in Hilbert’s petition or the lower court opinions, but for what it reveals about how firms use (or, rather, used) deferred compensation of various sorts to discipline management. 

Moral hazard and credit derivatives

Have you ever heard of “credit derivatives”?  Most of us haven’t, but we should become familiar with them because they are poised to transform how we think about corporations.  The basic idea is that banks and other holders of corporate debt can now spread this risk to other willing bearers using a variety of intricate financial tools.  In the most basic flavor, a bank that holds a loan to a company on its balance sheet agrees to pay a quarterly fee to a third party (usually an insurance company, other bank, or hedge fund) in return for a make-whole payment by the third party in the event that the borrower on the underlying loan defaults.  Called a “credit default swap”, this is nothing more than insurance against the reduction in value of the loan.  The CDS market is currently over $26 trillion.  That is right, TRILLION.  Even more profound, however, is the rethinking we will have to do about our models of corporate governance and finance in a world in which debt starts to look more and more like equity (i.e., freely traded and held in diversified portfolios by dispersed individuals and entities).  One potential issue with these transactions is the potential moral hazard it creates for borrowers.

Governance at Gunpoint

A story in today’s Wall Street Journal (sub. req.) about the continuing troubles at Bristol-Myers raises troubling questions about the government’s use of strong-arm tactics to extract corporate governance and other concessions from firms under threat of litigation-induced firm death.

In the aftermath of the demise of Arthur Andersen, firms are especially leery about the possibility of being indicted.  As the Andersen case makes clear, the risk from indictment is enormous, and even exoneration by the Supreme Court isn’t enough to bring back the dead.  It was in the wake of Andersen that the US Attorney’s Office for the District of New Jersey negotiated a so-called “deferred prosecution agreement” (DPA) with Bristol-Myers to settle allegations that the firm engaged in deceptive inventory practices to meet quarterly earnings estimates.  DPAs, which are adapted to the corporate crime context from the pre-trial diversion programs used to monitor juvenile and drug offenders, have been used in 43 corporate crime and fraud cases since 1993.  These agreements raise issues about privilege waiver and corporate versus individual accountability, but the Bristol-Myers case highlights the danger of governance reform aspects of these agreements. 

A new mechanism for exercising shareholder voice

The latest craze in corporate activism is majority voting for board elections.  The intuition is simple if misguided: boards are elected by shareholders to run the firm; elections everywhere (except maybe North Korea, Cuba, and, er, Chicago) are decided by majority vote; therefore board members should be elected only if they win a majority of shareholder votes.  (Currently, shareholder votes in ordinary elections are not dispositive, as board members can be elected with a plurality of votes—only in expensive and rare proxy fights when a rival slate of directors is run do votes actually matter.)  This campaign is being waged on many fronts, including by law professor Lucian Bebchuk, who has personally lobbied firms in which he owns a few shares to adopt bylaw amendments requiring majority rule.  A recent court decision highlights the problems with this approach, and a new paper offers some alternatives.