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Climate-Conscious Investors and Climate Pledges

John Armour, Luca Enriques & Thom Wetzer, Green Pills: Making Corporate Climate Commitments Credible, 6 Ariz. L. Rev. 285 (2023).

Many of us find it hard to imagine that firms seeking to maximize profits would credibly commit to reducing their greenhouse gas (GHG) emissions. But in Green Pills: Making Corporate Climate Commitments Credible, Oxford professors John Armour, Luca Enriques, and Thom Wetzer argue there is reason to believe that such firms, even in the absence of regulation, might credibly commit to “net-zero” targets. The article lays out a case for such optimism and proposes a mechanism through which corporate managers can enhance the credibility of commitments.

Green Pills initially describes a world in which profit-maximizing companies might eventually credibly commit to reducing GHGs even without regulatory intervention, because a green transition not only imposes physical and transition risks but also creates profitable commercial opportunities. Even as investors are largely climate-indifferent—meaning that they are unwilling to pay more for companies that make significant headway in mitigating their impact on climate change—Armour, Enriques, and Wetzer believe “it is likely that at some point firms will reach a tipping point and conclude their future profits will be maximized by aligning their business model with net zero.” (P. 291.) (Net zero refers to the goal of cutting a firm’s net GHG emissions to as close to zero as possible within a stated time frame). But change of this sort may be a long time in coming. Any gains from transition are likely to be long-term and unexpected, while costs will be certain and immediate. In the minds of corporate managers—whose expected job tenures and therefore time horizons are short—the costs of reducing GHG emissions will weigh more heavily than the benefits, making managers “likely to be highly conservative in their transition policy.” (P. 300.)

But how might managers behave if shareholders in their corporations include influential climate-conscious investors? Here Armour, Enriques, and Wetzer make a key contribution, arguing that climate-conscious investors can trigger stock-price effects, giving corporate managers incentives to make credible climate commitments. Climate-conscious investors “place a higher valuation on firms that are making headway toward reducing emissions” (P. 300) than do climate-indifferent investors. Some such investors have green preferences; others have strictly financial motives but attribute a higher value than does the median investor to firms that credibly commit to reducing their emissions. Either way, these investors’ willingness to pay more for clean companies can shift those companies’ stock prices.

The claim that investors’ willingness to pay can affect stock price is a vital one, as well as a challenge to orthodox finance theory. The conventional view holds that the price of a company’s stock is determined by sophisticated investors paying attention to the company’s fundamental financial data—namely, measures of the company’s risk and return.1 In response, Green Pills marshals theoretical and empirical evidence in support of climate-conscious investors’ ability to move stock prices. On the theoretical side, the authors note that as climate-conscious investors’ demand for clean stocks increases, they can bid up prices of these stocks, creating a premium, or “greenium.” Arbitrage by climate-indifferent investors may fail to reverse the greenium due to the potentially “large volume of capital coming from climate-conscious investors” (P. 303) and the greater expense of short positions relative to long positions. On the empirical side, there is already evidence of climate-conscious investors triggering stock-price increases. The authors detail studies showing that firms that appeal to climate-conscious investors trade at a premium, although the economic significance of this price effect is currently “quite modest.”

While there is reason to believe that climate-conscious investors can drive up stock prices for clean firms, Armour, Enriques, and Wetzer do not claim that corporate managers are, at this point, seeking to attract these specific investors. Instead, “the extent to which managers respond to the preferences of climate-conscious investors depends on the significance of these investors’ presence in the marketplace and the intensity of their valuation differential from that of climate-indifferent investors.” (P. 306.) The calculus for managers is to minimize the sum of the cost of carbon emissions and of emissions avoidance, minus the premium generated by climate-conscious investors. Accordingly, if this premium is large enough, managers will have real incentives to attract these investors.

That threshold has apparently not yet been reached—but when it is, how are managers to appeal to climate-conscious investors? An important means might be net-zero and other climate commitments. However, rational climate-conscious investors will suspect that firms are greenwashing or that these commitments aren’t commitments at all—that they are reversible. What is needed are credible climate commitments.

Here, the authors clear brush, dismissing the potential of existing corporate-governance mechanisms to ensure credibility. Securities litigation offers little hope because climate claims are often forward-looking. Firms might shape compensation packages, structure their boards, and hold say-on-climate votes with eye toward appealing to climate-conscious investors, but each of these mechanisms depends on shareholders siding with those climate-conscious investors. Even corporate purpose statements may be unwound by a majority of shareholders.

The authors propose an eminently sensible and elegantly designed alternative to these existing governance mechanisms that fall short. They argue that what they call “green pills” can establish commitments that climate-conscious investors will find credible. According to this proposal, a company would enter into a standard contract with investors or a third party, promising to pay a given sum, either to investors or a third-party, if the company fails to deliver on its transition milestones. Firms may calibrate their levels of commitment. As the authors note, “the firm should only be willing to commit to payment that has an ex ante valuation equivalent to the climate-conscious investors’ additional valuation of the commitment.” (P. 323.) The authors contend with multiple potential complications, among them that the scheme would be subject to heightened judicial review. Importantly, the use of green pills is likely to be reviewed under the business judgment standard of review.

Green Pills warrants a close reading. The article’s challenge to orthodox pricing theory is itself detailed and persuasive, and the claims on behalf of the green-pills proposal are careful yet hopeful. Those who regard profit maximization—as reflected in share prices—as a barrier to credible net-zero pledges might find real possibilities here. Indeed, share prices could well be the mechanism through which climate-conscious investors express their preferences, hastening the green transition.

  1. As Judge Frank Easterbrook once put it, a stock’s demand curve “may shift up or down with new information but it is not sloped like the demand curve for physical products.” West v. Prudential Sec., Inc., 282 F.3d 935, 939 (7th Cir. 2002).
Cite as: Andrew F. Tuch, Climate-Conscious Investors and Climate Pledges, JOTWELL (March 18, 2024) (reviewing John Armour, Luca Enriques & Thom Wetzer, Green Pills: Making Corporate Climate Commitments Credible, 6 Ariz. L. Rev. 285 (2023)), https://corp.jotwell.com/climate-conscious-investors-and-climate-pledges/.

Retiree Exploitation? Debunking the Retirement Business Theory

Natalya Shnitser, The 401(k) Conundrum in Corporate Law, 13 Harv. Bus. L. Rev. 289 (2023).

Nearly two-thirds of workers have access to an employer-sponsored retirement plan (P. 324.) Consequently, retirement security is a salient issue in US politics and corporate governance. BlackRock, Vanguard Group, and State Street, the three largest investment managers, who own about 20 percent of every company in the S&P 500 Index, offer a menu of mutual funds and other services for employer-sponsored retirement plans. (P. 308.) Institutional investors’ prominence and putative conflicts of interest are hot topics among scholars and regulators. (Pp. 307-21.)

Natalya Shnitser’s must-read article, The 401(k) Conundrum in Corporate Law, argues that these concerns and efforts, however well-intentioned, are based upon shaky theoretical foundations: (i) a description of how employer-sponsored retirement plan decisions are executed that does not reflect the evolution of plan governance and (ii) reliance on outdated information that fails to consider recent trends showing less biased voting decisions among fund managers. The article deftly captures the intersection of corporate governance and employee benefits law.

Paper’s Central Findings

Retirement Business Theory and its Shaky Foundations. The article describes a prevailing “retirement business theory” that emphasizes the potential for conflicts of interest among mutual fund managers. The theory maintains that to avoid losing lucrative retirement-plan business from large corporate employers, the managers act passively or vote pro-management when exercising shareholder voting rights. It is proffered as a reason to examine and even restrict such passive voting practices. However, the research supporting it is outdated and does not reflect the current state of affairs (P. 321) including how plan-investment menu choices and service-provider decisions are generated. Like some scholars, the Securities and Exchange Commission and other regulators have invoked the retirement business theory to justify interventions that could have unintended, adverse consequences.

A More Accurate Description of Retirement-Plan Decision-making. Shnitser offers a more accurate description of the relationship between institutional investors and employer-sponsored retirement plans. Contrary to other scholarly accounts, the article illustrates that corporate management now has more limited influence on retirement plan decisions concerning investment menu options and service providers. Due to recent legal and other developments, corporate directors’ and officers’ influence has been attenuated. The ERISA regime and fiduciary duties attempt to constrain managers from making decisions contrary to the interests of plan participants and beneficiaries. (P. 323-29.) These decisions are now delegated to a plan committee “comprised of employees and advisors with relevant expertise and with appropriate fiduciary training.” (P. 323.) The committees often work in accordance with an investor policy statement (IPS) designed to guide investment and service provider decisions. The IPS sets goals and helps to ensure that plan decisions are made in the interests of participants and that fees are reasonable.

Other Key Factors Disciplining Plan Decision-making

Litigation

Over the past 15 years, ERISA litigation challenging plan management and excessive plan fees has increased in frequency and velocity. Retirement plans have considerably changed as a result. More than 200 cases were filed between January 2020 and June 2022. (Pp. 329-33.) Lawsuits are normally brought as class actions on behalf of thousands of current and former plan participants and beneficiaries. Allegations in these cases fall into two general categories: (i) excessive recordkeeping and administrative fees charged to plan participants and (ii) the “selection and retention” of underperforming and underpriced investments. (Pp. 329-33.) Scrutiny from plaintiff attorneys and the Department of Labor discourages board member and C-suite participation in plan decision-making. Managerial influence is still possible but more muted.

Insurance Markets

Managers of retirement plans customarily are protected by fiduciary liability insurance. Fiduciary insurance providers have a keen interest in litigation risk and tend to monitor and inquire into retirement plan governance, in particular its fiduciary processes and practices and approaches to monitoring investments and benchmarking vendors. (Pp. 328-29.) The insurers’ monitoring role is pivotal and has increased the formality and professionalism of plan committee governance.

These relatively recent trends and developments help to explain why mutual funds, particularly index funds, once passive, are increasingly willing to challenge corporate management. Mutual fund managers have less reason to be concerned about their votes’ impact on retaining or attracting retirement business from U.S. public companies. These fiduciary decisions cannot be made hastily or arbitrarily, or companies risk costly lawsuits and fines.

Paper’s Implications for Scholarly Debate and Future Research

The article calls for updated data and additional research on assumptions about fund manager bias because recent trends point to a sharp reduction. The lack of evidence supporting the retirement business theory points to other decision-making drivers.1

The evolving role of plan committees in response to litigation and insurance risks has increased their discipline, professionalism, and routine adherence to protocols for decisions about investment options and service providers. These forces insulate mutual fund managers from corporate retaliation while enhancing their independence and potential for activism. These evolving trends and others—for example, well-designed pass-through voting mechanisms—may reduce conflicts of interest—benefiting plan participants and retirees. This article is timely because red-state lawmakers are currently riding a wave of anti-ESG backlash, ostensibly to protect the retirement security of Americans. This situation illuminates the connection between employee benefits law and contemporary corporate governance.

  1. See, e.g., Michal Barzuza, Quinn Curtis & David H. Webber, Shareholder Value(s): Index Fund ESG Activism and the New Millennial Corporate Governance, 93 S. Cal. L. Rev. 1243, 1291-95 (2020).
Cite as: Omari Simmons, Retiree Exploitation? Debunking the Retirement Business Theory, JOTWELL (February 19, 2024) (reviewing Natalya Shnitser, The 401(k) Conundrum in Corporate Law, 13 Harv. Bus. L. Rev. 289 (2023). ), https://corp.jotwell.com/retiree-exploitation-debunking-the-retirement-business-theory/.

Unpacking Green Bonds

Quinn Curtis, Mark C. Weidemaier, & Mitu Gulati, Green Bonds, Empty Promises (February 6, 2023). Virginia Public Law and Legal Theory Research Paper No. 2023-14, Virginia Law and Economics Research Paper No. 2023-05, UNC Legal Studies Research Paper No. 4350209. Available at SSRN.

Climate change adaptation (moving towards net zero by shifting to renewable energy and changing behaviors so that we produce fewer greenhouse gas emissions) and mitigation (building resilience in the face of the impacts of climate change) are expensive, and must be paid for somehow. Policy-makers accept that climate change mitigation and adaptation require co-operation between public authorities and private business, and a combination of public and private finance. Green bonds promise to be a component of addressing this need for financing, as well as the interests of investors who want to invest in sustainability. But do they really do this? The urgency of the need to address climate change, together with our reliance on private finance as an important part of the proposed solution, means that this is a really important question. In order to address climate change, green bonds should finance green or sustainable activities, and, preferably, activities that would not otherwise be funded.

In Green Bonds, Empty Promises, Quinn Curtis, Mark C. Weidemaier, and Mitu Gulati present the results of their study of a dataset of green bonds issued between 2012 and 2022 and of interviews with market participants. The authors say that in credible green bonds they would expect to see mechanisms to increase the cost of non-compliance, but, instead, they find “a concerning lack of enforceable promises” (P. 56.) They find some language of commitment in more than half of the bonds in the dataset, although they state that, for varying reasons, they are likely to be overstating the extent to which issuers make firm green commitments (e.g. pp. 17,19). But even where green promises are made, they are not backed up by the usual enforcement mechanisms: none of the bonds in the sample “expressly makes it an event of default for the issuer to fail to live up to its green promises.”(P. 24.) In addition, the authors find that green bonds are evolving away from enforceability over time, now including disclaimers excluding a failure to comply with green promises from the application of a catch-all events of default provision and disclaimers of any duty to pursue green objectives.

The authors find the lack of legal enforceability of green promises in green bonds to be something of a puzzle. Although some of the market participants they interviewed suggested that the market worked on the basis of reputation rather than on legal enforceability, they prefer an explanation that focuses on the incentives of issuers and investors. ESG funds can use holdings of green bonds to demonstrate their credibility, but “investors in green funds are almost certainly not sensitive to whether the underlying bonds in ESG funds’ portfolios are backed by strong legal enforcement.” (P. 45.) On the other hand fund investors do care about performance, and enforceable green promises would likely lead to lower returns on the green bonds (the “greenium” ). The authors emphasize that they are not arguing that issuers are failing to meet their green promises, rather that they are not legally bound to meet them. Green bonds are not necessarily tools for greenwashing, but they could be.

Certification schemes for green bonds do not currently focus on enforceability of green promises, and the authors suggest that one way to address this issue would be to change this. The regulatory focus in the EU and the US on characteristics of funds that market themselves as green or ESG funds is another development that could address enforceability of green promises. The recently agreed EU Green Bond standard, a voluntary standard, adopts a different, regulatory, approach which focuses on ensuring that proceeds of a green bond are in fact allocated to environmentally sustainable activities as defined in the EU taxonomy, imposing regulatory requirements on issuers and on external reviewers, backed by sanctions. But it is not clear whether green bond issuers will choose to opt into this regime.

Green Bonds, Empty Promises is a useful resource for information about how green bond documentation is constructed and drafted. In arguing that end investors want to be investing in ESG products, but probably also want the returns associated with non-ESG bonds, the authors bring us back to the question whether we really can rely on finance to address climate change. And, in thinking about this question it is really useful to be reminded to think about climate finance as involving more than defining what is and is not green or sustainable, but to think about the details of the documents involved in market transactions.

Cite as: Caroline Bradley, Unpacking Green Bonds, JOTWELL (December 12, 2023) (reviewing Quinn Curtis, Mark C. Weidemaier, & Mitu Gulati, Green Bonds, Empty Promises (February 6, 2023). Virginia Public Law and Legal Theory Research Paper No. 2023-14, Virginia Law and Economics Research Paper No. 2023-05, UNC Legal Studies Research Paper No. 4350209. Available at SSRN), https://corp.jotwell.com/unpacking-green-bonds/.

Securities at the Supremes

A.C. Pritchard and Robert B. Thompson, A History of Securities Law in the Supreme Court (2023).

We in business law tend to be creatures of the law reviews. Good new books don’t come along very often. When one does appear, it is doubly welcome. A History of Securities Law in the Supreme Court, by A.C. Pritchard and Robert B. Thompson, recently published by Oxford Press, is that rare, good book. It is absolutely, doubly welcome.

Pritchard and Thompson present every one of what turns out to be 134 cases. For the reader it is a bit like taking a law school course—the material goes case by case. This may not sound enticing, but please believe me when I say that it is, for the authors are master teachers. It is just that the medium is the written word rather than an oral presentation. Excellent writing is called for and Pritchard and Thompson answer the call. This book is fun to read.

I suspect that knowing the plot line in advance helps. The book makes no attempt to teach the basic securities law course, even as it is unabashedly instructional. The focus is on the top court and how it dealt with the business law cases falling within its remit rather than on the mechanics of registering securities or establishing exemptions from registration. At the same time, the book has tremendous value as a supplement to basic education in the field. The reader comes away with all sorts of information the basic course does not supply. There is a load of value added, for the stories are not just superb case summaries. The authors have gone to the archives and draw on the justices’ correspondence, conference notes, memos, and draft opinions to give us a sequence of illuminating case-based stories.

The account’s progress is roughly chronological. But a topical organization emerges to thicken the plotlines. Once one gets past enactment and the early cases on constitutionality, the Holding Company Act and the Chandler Act, one encounters a sequence of substantive clusters—first judicial review of agency process, then definitional and boundary issues, then on to insider trading and private litigation, and, finally, to federalism. Within each cluster the chronology is completed—we pick up the topic at its start and carry it through to today.

The account tracks the history of administrative law. Agency deference and purposive interpretation dominate the early years—the SEC almost always wins. Textualist exactitude follows along with a checkered record of results for the agency. Private enforcement, consistently supported by the agency, rises and then gets its wings clipped, but not so much as to prevent it from evolving into the billion-dollar business that it is today.

Mighty personalities come to dominate the account. Frankfurter and Douglas take center stage in the early years to be followed by Lewis Powell, who emerges as the story’s hero at its climactic stage. The post-Powell era is a denouement, with a diminution in the number of interesting cases for study as securities law goes to the Court’s back burner. If there’s a villain, it is Douglas. Much as I wanted to resist his appearance in this role, I have to admit that it emerges intrinsically from the story and, perhaps, this particular justice’s self-involved approach to things. Frankfurter, who had personality problems of his own, is the tragic character, bereft of influence despite superior technical expertise and manifest genius. Finally, a nifty subplot emerges in the back and forth between the top court and securities law’s mother court, the Second Circuit, along with welcome, albeit brief, appearances by the Learned and Gus Hand, Jerome Frank, Henry Friendly, and my old boss, William H. Timbers.

I have always thought that we overdo the Supreme Court in our teaching and scholarship. Now I am not so sure. Meanwhile, this book should be on the desk of every teacher of not only securities but corporations. I expect to be going back to it regularly.

Cite as: Bill Bratton, Securities at the Supremes, JOTWELL (October 6, 2023) (reviewing A.C. Pritchard and Robert B. Thompson, A History of Securities Law in the Supreme Court (2023)), https://corp.jotwell.com/securities-at-the-supremes/.

Explaining the SPAC Crash

  • Michael Klausner & Michael Ohlrogge, Was the SPAC Crash Predictable?, 40 Yale J. Reg. 101 (2023).
  • Michael Klausner, Michael Ohlrogge & Emily Ruan, A Sober Look at SPACs, 39 Yale J. Reg. 228 (2022).
  • Michael Klausner & Michael Ohlrogge, SPAC Governance: In Need of Judicial Review, (Nov. 19, 2021), available at SSRN.
  • Michael Klausner, Michael Ohlrogge & Harald Halbhuber, Net Cash Per Share: The Key to Disclosing SPAC Dilution, 40 Yale J. Reg. 18 (2022).
  • Michael Klausner & Michael Ohlrogge, Is SPAC Sponsor Compensation Evolving? A Sober Look at Earnouts, (Jan. 31, 2022) available at SSRN.

Few scholars have done more to illuminate little-understood but vitally important areas of corporate and securities practice than Michael Klausner and Michael Ohlrogge. Their work has been an essential guide to the boom in special purpose acquisition companies (SPACs). Once a remote corner of securities practice, mergers of SPACs suddenly became a mainstream method for taking companies public. And just as suddenly, they faltered. The boom having now ended, Professors Klausner and Ohlrogge ask: “Was the SPAC Crash Predicable?” It is the title of their latest article. The answer, they think, is yes.

In the article, Professors Klausner and Ohlrogge replicate much of the analysis of an earlier, critically important study coauthored with Emily Ruan. At the time, the group promised a “sober look” at SPAC transactions and presented compelling evidence that SPACs are a rigged game. That evidence attracted strong industry skepticism but has since become broadly accepted. The influence of their findings is apparent in the Securities and Exchange Commission’s proposed SPAC reforms and in recent decisions from the Delaware Court of Chancery. 1

A Sober Look at SPACs made vital contributions to the literature, establishing how the capital structure of SPACs stacks the odds against public shareholders who retain their shares through the course of a SPAC merger. These shareholders have the option to redeem their shares at $10 pre-merger or remain invested in the SPAC, thereby becoming shareholders in the post-merger company. A Sober Look showed that conventional SPAC features, including the issuance of heavily discounted shares to sponsors, free warrants to IPO investors, and cash disbursements to deal advisors, significantly diluted the position of public shareholders. Consequently, on a cash basis, the value of SPAC shares was substantially less than $10 per share at the time of merger. In the article’s cohort of 2019–20 SPAC mergers, the mean and median net cash per SPAC share was $4.10 and $5.70, respectively, depending on the time period. This finding suggests that around half the value that public shareholders invested was effectively lost by the time of merger.

In addition, A Sober Look demonstrated a strong positive correlation between a SPAC’s pre-merger dilution and post-merger performance. The lower a SPAC’s net cash per share at the time of a proposed merger, the lower the post-merger company’s share prices. This correlation existed immediately after the merger and strengthened as post-merger time went on (including one month and one year later)—the result of share prices falling gradually. The results were striking: on average, a reduction of one dollar in net cash per share resulted in a corresponding decrease of one dollar in post-merger value for SPAC shareholders. Furthermore, at the point when post-merger prices settled, post-merger SPAC shares were worth roughly the same amount as the net cash per SPAC share at the time of the merger—far less than the redemption price of $10. This suggests that, in negotiating merger terms with SPACs, target companies were aware of the dilution inherent in SPACs and that public shareholders, rather than target shareholders, bore those costs.

Was the SPAC Crash Predictable? builds on A Sober Look by assessing a significantly larger number of transactions over a longer and more recent period of time. The new findings are consistent with the earlier ones. First, dilution is extensive, as evidenced by mean and median net cash per share of $6.40 and $7.10, respectively. Second, Professors Klausner and Ohlrogge again identify a strong positive correlation between pre-merger dilution and post-merger performance, measured at various intervals after the merger. Once more, the evidence suggests that public SPAC shareholders rather than target shareholders bear the costs of dilution inherent in SPACs.

Based on this statistical analysis, Professors Klausner and Ohlrogge conclude that the SPAC crash was predictable: knowing that public shareholders’ interests were heavily diluted, we should have predicted that these shareholders would want to exercise their redemption rights, jeopardizing the viability of SPAC mergers. The game was not sustainable. Indeed, as Professors Klausner and Ohlrogge also demonstrate, SPAC redemptions eventually spiked, leading to abandoned deals or deals delivering little cash to targets.

In Net Cash Per Share: The Key to Disclosing SPAC Dilution, Professors Klausner and Ohlrogge join with Harald Halbhuber, an experienced Wall Street lawyer and advisor to SPACs, to detail how net cash per share in SPACs should be calculated and disclosed to public shareholders. In SPAC Governance: In Need of Judicial Review Klausner and Ohlrogge tackle the corporate law implications of the SPAC structure, arguing—in reasoning consistent with that later adopted by the Delaware Court of Chancery—that SPAC fiduciaries’ conduct should be reviewed under the entire fairness standard. In Is SPAC Sponsor Compensation Evolving? A Sober Look at Earnouts, they address sponsor earnouts, rejecting claims by SPAC advocates that these techniques for remunerating sponsors address concerns about conflicts and dilution.

Professors Klausner and Ohlrogge could hardly be more authoritative. But, inevitably, their work also leaves us with unanswered questions. Among them is why the SPAC crash did not arrive sooner. Even after A Sober Look’s publication and the significant attention it attracted, public investors continued piling into SPACs.

Second, why were market prices so slow to reflect the value of post-merger SPACs? Professors Klausner and Ohlrogge show that on the day after a merger, the market valued post-merger companies above $10, indicating a market view that these deals were value-increasing. But prices then dropped gradually, declining to the net cash value some 12 months later. This evidence is hard to square with our conventional understanding of markets’ informational efficiency. Even after A Sober Look laid bare the expected relationship between pre-merger dilution and post-merger performance, the market valuation process only slowly yielded accurate figures on SPAC targets.

While the SPAC boom has ended, SPAC-related scholarship will have continued importance. Interest in alternatives to traditional IPOs remains strong, and the appetite for SPAC mergers may rebound if deal terms shift, as they have in the past—or at least if investors believe they have shifted. The SEC has yet to finalize its reforms to SPAC regulation. And the rush of SPAC lawsuits shows no signs of abating.

  1. See Special Purpose Acquisition Companies, Shell Companies, and Projections, 87 Fed. Reg. 29458 (proposed May 13, 2022) (to be codified at 17 C.F.R. pts. 210, 229, 230, 232, 239, 240, 249, 270); In re MultiPlan Corp. S’holders Litig., 268 A.3d 784 (Del. Ch. 2022); Delman v. GigAcquisitions3, LLC, 288 A.3d 692 (Del. Ch. 2023); Laidlaw v. GigAcquisitions2, LLC, No. 2021-0821-LWW, 2023 WL 2292488 (Del. Ch. Mar. 1, 2023). See also In re XL Fleet (Pivotal) Stockholder Litigation, No. 2021-0808-KSJM, (Del. Ch. June 9, 2023).
Cite as: Andrew F. Tuch, Explaining the SPAC Crash, JOTWELL (Sep. 8, 2023) (reviewing Michael Klausner & Michael Ohlrogge, Was the SPAC Crash Predictable?, 40 Yale J. Reg. 101 (2023); Michael Klausner, Michael Ohlrogge & Emily Ruan, A Sober Look at SPACs, 39 Yale J. Reg. 228 (2022); Michael Klausner & Michael Ohlrogge, SPAC Governance: In Need of Judicial Review, (Nov. 19, 2021), available at SSRN; Michael Klausner, Michael Ohlrogge & Harald Halbhuber, Net Cash Per Share: The Key to Disclosing SPAC Dilution, 40 Yale J. Reg. 18 (2022); Michael Klausner & Michael Ohlrogge, Is SPAC Sponsor Compensation Evolving? A Sober Look at Earnouts, (Jan. 31, 2022) available at SSRN), https://corp.jotwell.com/explaining-the-spac-crash/.

Litigation and Corporate Social Bankruptcy

Pamela Foohey & Christopher K. Odinet, Silencing Litigation Through Bankruptcy, 109 Va. L. Rev. __ (forthcoming 2023), available at SSRN (February 20, 2023).

It is often said that crisis reveals character. In adversity, an individual’s values and integrity are tested and brought into the light – to shrink or steel in the crucible of calamity and conflict. Perhaps the same can be said of corporations and corporate governance in crisis.

In a forthcoming article, Silencing Litigation Through Bankruptcy, Professors Pamela Foohey and Christopher Odinet offer an insightful, critical view of how some corporations have responded to crisis by using bankruptcy law to silence survivors, exacerbate injuries, and hurt the public in the face of significant litigation. Through a thoughtful examination of businesses and other organizations using the bankruptcy code as a sword to cruelly suppress rather than a shield to carefully reorganize, the article makes a persuasive case for rethinking and reforming legal and business practices during crisis. In doing so, the article informs, expands, and challenges the ways one thinks about corporate governance.

To start, the article contextualizes the space of its argument and analysis by focusing on the use of bankruptcy in circumstances involving potentially calamitous and socially significant litigation that it terms “onslaught litigation.” The term “refers to alleged wrongful conduct that produces claims from multiple plaintiffs against the same defendant or group of defendants. When collected, the magnitude of claims and lawsuits presents the possible financial or operational crippling of the defendants over the long-term, or else will require the defendant to devote tremendous operational resources and time to the litigation because of its public saliency.” (P. 2.) Recent examples of onslaught litigation includes cases relating to opioids, gun violence, asbestos, and sexual abuse involving major corporations and organizations like Purdue Pharma, Johnson & Johnson, 3M, Boy Scouts of America, and various Catholic dioceses.

Next, the article explains how Chapter 11 of the bankruptcy code has been (mis)used by some corporations to “to bypass procedural justice and to shut down discussion of their purported wrongdoings.” (P. 3.) To be sure, the article does not claim that all corporate uses of bankruptcy in the presence of litigation are problematic. Rather, in response to onslaught litigation, some companies have deleteriously used bankruptcy as a means to stay a plethora of pending actions, suppress vital information, release third parties, and harm the greater public good. Often in these scenarios, the voices of victims are silenced, responsible parties are not fully held liable, and society is deprived of meaningful opportunities to heal and repair serious damages.

The article concludes by offering a variety of reforms and proposals to help curb the misuses of Chapter 11 bankruptcy and their detrimental effects in situations involving onslaught litigation. It does so mindful of the complicated governance and tactical considerations involving onslaught litigation, but also hopeful of a better path forward.

During a time when there is much discussion about the appropriate roles and purposes of corporations and about what it means to be a “good corporation,” this article by Professors Foohey and Odinet presents a valuable new perspective for thinking and rethinking the terms of ongoing corporate governance debates. Too often debates about corporate objectives, responsibilities, and stakeholders are framed in the context of core corporate operations during periods of relative calm and good fortune. Less so are such debates framed to include periods of crises and distress, like during reorganization and bankruptcy in response to onslaught litigation. Ironically, the concerns of shareholders, stakeholders, and society often matter a lot more when a business is fighting to survive than while it is thriving. Too frequently contemporary corporate governance debates fail to account for the full, topsy turvy life cycle of a business.  It would be akin to measuring a person’s character based solely on their deeds when healthy and happy, while not considering their choices when distressed and debilitated.

In the end, timely and timeless debates about good corporate governance need to better capture the entire life cycle and varying volatility of businesses, covering periods of decline and distress as well as periods of growth and success. Corporate law and corporate governance should not end where bankruptcy law and reorganization begin.  Many bankruptcy decisions are not just purely financial, and devoid of social impact. Rather, they are also decisions about corporate governance and corporate social responsibility, or perhaps more precisely termed, decisions about corporate social bankruptcy. As such, Professors Foohey and Odinet’s recent article offers us a valuable lens to see differently, act differently, and perhaps to do better in corporate governance – during times of calm and crisis, during times of boom and bankruptcy.

Cite as: Tom C.W. Lin, Litigation and Corporate Social Bankruptcy, JOTWELL (July 31, 2023) (reviewing Pamela Foohey & Christopher K. Odinet, Silencing Litigation Through Bankruptcy, 109 Va. L. Rev. __ (forthcoming 2023), available at SSRN (February 20, 2023)), https://corp.jotwell.com/litigation-and-corporate-social-bankruptcy/.

Toward A Non-Binary Vision of Disclosure Regulation

Public company law and practices in the United States are rooted in line-item and gap-filling disclosure regulation. Although the precise place and value of disclosure in business law and regulation has been—and (appropriately) continues to be—debated, mandatory disclosure has been a cornerstone of the U.S. federal securities laws applying to public companies since the enactment of the Securities Act of 1933. Together with liability (including antifraud) provisions and substantive regulation, mandatory disclosure rules have been one of the three core regulatory tools employed at the federal level to promote capital formation and fair, honest markets for securities, while at the same time providing core protections for investors.

At its core, Lisa Fairfax’s Dynamic Disclosure: An Exposé on the Mythical Divide Between Voluntary and Mandatory ESG Disclosure embraces mandatory disclosure rules in the spirit in which they have been enacted and employed in U.S. federal securities regulation. The article also, however, articulates the independent and cooperative value of voluntary disclosure as an important piece of the regulatory puzzle. In essence, Fairfax suggests that “the modern publicness of corporate information has eroded the walls between voluntary and mandated disclosure, making it impossible not to consider voluntary disclosure as an integral aspect of mandated disclosure and the overall disclosure regime in which corporations operate.” Importantly, Fairfax illustrates this proposition in the context of one of the most hotly contended areas of current regulatory debate: ESG (environmental, social, and governance) disclosures, including the U.S. Securities and Exchange Commission’s climate change disclosure proposal. Her insightful and diplomatic treatment of the subject matter is a breath of fresh air in ongoing debates about both the regulation of ESG disclosures specifically and mandatory disclosure as a component of securities regulation more generally.

Dynamic Disclosure first offers background on the SEC’s climate change proposal as part of the overall history and usage of mandatory disclosure in U.S federal securities regulation. It then proceeds to outline the debate between and among the proposal’s supporters and detractors and to offer an alternative perspective on the debate, essentially embracing points made by both sides. Fairfax supports her thesis with theory and matter-of-fact reasoning, citing to a wide variety of sources.

Along the way, she also treats us to a clear and cogent primer on ESG disclosures. She is careful to note the foundational roles played by line-item and gap-filling mandatory disclosure rules that already compel the disclosure of ESG information in certain settings. Especially important in this regard are the disclosure requirements adopted by the U.S. Securities and Exchange Commission in Item 303 of Regulation S-K and the gap-filling mandatory disclosure rules in Rule 408 under the Securities Act of 1933 and Rule 12b-20 under the Securities Exchange Act of 1934. Interestingly, Fairfax does not mention in this same breath the overall disclosure nudge that potential liability under Section 10(b) of and Rule 10b-5 under the 1934 Act provide in compelling ESG disclosures (although she later notes that Section 10(b) encourages the production of accurate and complete disclosures).

I most enjoyed Part III of Dynamic Disclosure, in which Fairfax makes her case for dynamic disclosure—the naturally amicable coexistence of voluntary disclosure and mandatory disclosure. This part of the article also usefully communicates four benefits of voluntary disclosure: flexibility as to content and timing; the provision of a laboratory for disclosure experimentation; accessibility/digestibility; and adaptability/timeliness. Finally, before addressing a few possible remaining concerns about dynamic disclosure (possible disclosure overload, a lack of comparability, and the potential for inaccuracies), Part III illustrates the characteristically interconnected nature of voluntary and mandatory disclosure.

Fairfax indicates that her work in Dynamic Disclosure “seeks to shift the disclosure debate away from a binary choice between mandatory and voluntary disclosure.” The article skillfully serves that purpose. Indeed, it is inspirational—and illuminating—to read legal scholarship that is not advocating a sterile, exclusive solution in a my-way-or-the-highway manner. Fairfax’s thesis and analysis are refreshingly nuanced and pragmatic, and she illuminates an important topic. Good legal scholarship doesn’t get much better than that.

Cite as: Joan MacLeod Heminway, Toward A Non-Binary Vision of Disclosure Regulation, JOTWELL (June 30, 2023) (reviewing Lisa M. Fairfax, Dynamic Disclosure: An Exposé on the Mythical Divide Between Voluntary and Mandatory ESG Disclosure, 101 Tex. L. Rev. 273 (2022)), https://corp.jotwell.com/toward-a-non-binary-vision-of-disclosure-regulation/.

Even Small Banks Can Pose Systemic Risk

Jeremy C. Kress & Matthew C. Turk, Too Many to Fail: Against Community Bank Deregulation, 115 Nw. U. L. Rev. 647 (2020).

Professors Jeremy Kress and Matthew Turk’s warning that “too-big-to-fail” megabanks are not the only source of systemic risk to the banking system has proved prescient. Shortly before its collapse on March 10, 2023, Silicon Valley Bank (SVB) had approximately $209 billion in total assets. SVB was the sixteenth largest bank in the U.S., but it still fell below the size threshold that automatically triggered an enhanced regulatory regime. Until it failed, SVB was not regulated as a “systemically important” bank because it was not big enough. Yet two days after it closed, federal regulators invoked the “systemic risk exception” after determining that they needed to rescue the uninsured depositors of SVB and the even-smaller Signature Bank to prevent destabilizing the broader financial sector.

In Too Many to Fail: Against Community Bank Deregulation, Kress and Turk foreshadow the error of equating “systemically important” with “too-big-to-fail.” The article is an incisive response to the sweeping efforts since 2010 to ease the regulatory burden on small and midsize banks, which culminated in the Economic Growth, Regulatory Relief, and Consumer Protection Act of 2018. It argues that this deregulatory push has been premised on three widely held but mistaken myths: (1) smaller banks cannot propagate systemic risk; (2) post-financial crisis reforms overly burdened smaller banks; and (3) smaller banks require special regulatory relief or advantages to compete with too-big-to-fail counterparts.

Kress and Turk make this argument in its most expansive sense, by focusing not on banks that fall just below the “systemically important” cutoff, like SVB, but rather on the smallest depository institutions: so-called community banks with less than $10 billion in assets. But even those who are unpersuaded by the full scope of their claims will agree with many of their broader insights about why smaller banks merit serious regulatory attention.

Too Many to Fail starts by establishing that the community banking sector can propagate systemic risk. In broad strokes, systemic risk exists because community banks tend to have highly correlated balance sheets and funding vulnerabilities. Because runs can spread rapidly between institutions with similar profiles, the community banking sector is particularly susceptible to concurrent failures. And a collapse of community banks en masse could well distort capital markets and disrupt the real economy. The systemic impact of small bank runs is not a mere theoretical possibility: according to the authors, the simultaneous failure of many small banks was a component of every banking crisis in American history, including 2008.

Kress and Turk next consider how systemic risk from the community banking sector ought to be regulated. Using the Dodd-Frank Act and other post-financial crisis reforms as the baseline, Kress and Turk seek to dispel the persistent concern that the regulatory framework since 2010 has been uniquely onerous for community banks. They document the ways in which policymakers “made special efforts” to design postcrisis rules to limit the regulatory burden on smaller banks and provide them with both explicit and implicit subsidies, such as reducing their contributions to the Deposit Insurance Fund, exempting banks with less than $10 billion in assets from the cap on debit card transaction fees, and curtailing the ways in which the largest banks can use their size to gain competitive advantages. On balance, they calculate, “[these accommodations] likely offset the financial drag from new prudential regulations imposed on community banks after the crisis.”

Kress and Turk’s final claim is the most expansive: community bank regulatory relief is ill advised not only because the postcrisis status quo was not excessively burdensome for community banks, but also because “community banks do not necessitate special legal treatment,” either in the form of deregulation or subsidies. In their view, regulatory advantages or relief for community banks will not meaningfully impact the current concentration of financial assets in too-big-to-fail banks, increase the availability of credit for local communities or nontraditional borrowers, or supply a necessary correction to an uneven playing field between the largest and smallest banking institutions.

There is a lot to be gained from this article, especially in the current moment. SVB’s collapse put the broader financial system at risk through the linkages that Kress and Turk describe: as word of SVB’s problems spread, other midsize banks that shared similar risk, funding, and geographic profiles began to experience significant deposit withdrawals. Signature Bank, which closed two days after SVB, reportedly lost 20% of its total deposits in a matter of hours after SVB failed. Kress and Turk’s warning that a two-tiered treatment of large and small banks could inadvertently drive risk-taking toward the less regulated sector also deserves close study, particularly in light of growing concern over smaller banks’ exposures to the turbulent cryptocurrency industry. And besides recommending the obvious conclusion of rolling back recent deregulatory initiatives, Kress and Turk also offer several practical proposals for reform, including stress tests of smaller banking sectors as a whole to identify and prevent the build-up of common vulnerabilities.

Naturally, there are also grounds for challenging some of the article’s claims. For example, do community and midsize banks, on the one hand, and the largest banking conglomerates, on the other, propagate systemic risk in different ways that require different rules? Do other distinctions between their operating models necessitate giving smaller banks some regulatory relief or subsidy? Kress and Turk document that community banks have profitably co-existed with the largest banks since 2010, but community banks were arguably only able to compete effectively because they received special legal treatment within the postcrisis framework.

There have already been numerous calls for regulatory changes since SVB’s and Signature Bank’s collapse. Too Many to Fail’s clear-eyed distillation of how smaller banks can create important systemic risks to the financial system and how those risks ought to be regulated provides a timely, important starting point for any conversation about banking reform.

Cite as: Da Lin, Even Small Banks Can Pose Systemic Risk, JOTWELL (May 30, 2023) (reviewing Jeremy C. Kress & Matthew C. Turk, Too Many to Fail: Against Community Bank Deregulation, 115 Nw. U. L. Rev. 647 (2020)), https://corp.jotwell.com/even-small-banks-can-pose-systemic-risk/.

Corporate Culture is Complicated

Jillian Grennan & Kai Li, Corporate Culture: A Review and Directions for Future Research in Handbook of Financial Decision Making (Gilles Hilary & David McLean eds., forthcoming 2023), April 28, 2022 draft available at SSRN.

In the 2022 Annual Review of Financial Economics, Jillian Grennan, with lead author Gary B. Gorton and Alexander K. Stentefis, document studies by economists that use “corporate culture” to explain M & A choices and consequences, individual and business risk-taking, as well as corporate malfeasance.1 Such research has been propelled by new data sets and methods. For example, employee grievances and networks are now revealed on the web and natural language processing now translates texts into cultural elements. Work in this mode also emerges because much remains to be explained about corporate decisions after the usual analysis under the property rights and agency cost paradigms. Grennan and her co-authors propose corporate culture as a new “theoretical paradigm” for corporate finance research.2

The problem with this paradigm, as the authors note is that “culture” is an “omnibus term.” Unpacked, it includes “values, norms, conventions, shared beliefs, customs, traditions, symbols, rituals, knowledge, identity, ideologies, identities, and shared mental models.”  Corporate culture includes everything from employee perceptions of managers’ ethics (positively associated with Tobin’s Q) to stock options for rank-and-file employees (positively correlated with financial misreporting).3​ Mathematical representations of corporate culture are few in number.  We have measurements of company reputations, homogeneous beliefs across the company, and managerial preferences. But these tell us little. Researchers have shown us that “employees’ firsthand impressions of the manager’s instructions, along with their secondhand interpretations from communicating with each other about the manager’s instructions, together shift the observed culture away from the manager’s intended one.” Furthermore, there also is “within-person cultural diversity”–individuals believe contradictory things. Consequently, despite reviewing research that finds correlations between “cultural” changes and financial decisions, the authors call for “More theoretical work on corporate culture.”

Fortunately, Jillian Grennan takes steps to developing such a theory in her book chapter with Kai Lin, Corporate Culture: A Review and Directions for Future Research. They begin by noting that in the 1950’s, anthropologists assembled a list of 164 different definitions of societal culture. They draw on sociological theory to describe culture as part of the informal institutional structure of firms. They understand that culture has two faces:  meaning-creating and behavioral patterning. The expectations employees have about “how they need to behave to fit in and succeed in their firm” are part of corporate culture. Changes in such expectations are then studied to understand the dynamics of corporate culture.

In society, culture often is relatively stable and of uncertain value. Businesses, however, can train meanings and audit actions. In so doing, they intentionally try to modify how employees behave.  Although intangible, changes in culture can be relevant and add value. By providing meanings and valorizing expectations, culture helps define employee preferences and pattern behavior.

In society, culture often refers to broadly shared structures of meaning and action. In contrast, in firms, both small and large, behavior is not explained by looking for an overarching culture, such as the tone set by those at the top. Cultural diversity is what employees experience. Ethnic ancestry, familial and other commitments, as well as specific experiences all influence what employees find meaningful and what they take as routine. Joining a project team, for example, brings about cultural changes both for the joiner and the rest of the team but these changes and their effects will vary depending on the experiences that the employees had on other project teams. On the other hand, in firms, stories can spread like wildfires and certain memes may be required in all communications.

Because corporate culture can be intentionally created and is limited in its reach, it enables marginal analysis. The sources of cultural change are broad, including people, systems, and events. The authors propose analysis of catalysts of cultural change and their effects to further develop theories of corporate culture.

Behavioral economics explores the borders between rational and irrational preferences.  Cultural analysis explores what is meaningful. Cultures shape how rationalities, in their various forms, are valued. Cultural analysis thus explores the borders between rational and meaningful preferences to explain decision making.

Research on corporate culture has explored the meanings of integrity, trust, adaptability, cultural flexibility, collaboration, teamwork, hard work, mastery, innovation, confidence, respect, quality, safety, consumer-orientation, detail-orientation, results-orientation, community, communication, transparency, corruption avoidance, pro-social (ESG) values, individualism, gender, risk-taking, uncertainty avoidance, and time-framing. Developing a larger theory from this research, however, is hampered by differences in defining each of these terms. Unfortunately, the idiosyncratic nature of culture, as well as the multiplicity of catalysts of change, stand in the way of any global theory of corporate culture.

Understanding that firms are not values melting pots and that different meanings are operative on their own terms as well as in conjunction with other cultural elements complicate intentional changes of corporate culture. Such changes are mandated in many settlements of corporate non-compliance lawsuits. Deferred- and Non- Prosecution Agreements (DPAs and NPAs) presume, as do Grennan and Li, that “culture guides employees’ actions.” What Greenan and Li importantly add is that it is often “difficult to decipher the cultural meaning of what is observed.”

Like most teachers, I understand that shouting at the beginning of class “Stop Talking” won’t produce the desired result. Yet, most DPAs assume that when corporate leaders say “Stop Non-complying” compliance will follow.  Before you next rely on “tone at the top” to set a corporate agenda, I recommend reading this book chapter.

  1. Gary B Gorton, Jillian Grennan & Alexander K. Zentefis, Corporate Culture, 14 Annu. Rev. Financ. Econ. 535 (2022).
  2. Andrew C. Call, Simi Kedia, Shivaram Rajgopal, Rank and File Employees and the Discovery of Misreporting: The Role of Stock Options, 62 J. Account. Econ. 277 (2016).
  3. Andrew C. Call, Simi Kedia & Shivaram Rajgopal, Rank and File Employees and the Discovery of Misreporting: The Role of Stock Options, 62 J. Account. Econ. 277 (2016).
Cite as: Robert Rosen, Corporate Culture is Complicated, JOTWELL (March 27, 2023) (reviewing Jillian Grennan & Kai Li, Corporate Culture: A Review and Directions for Future Research in Handbook of Financial Decision Making (Gilles Hilary & David McLean eds., forthcoming 2023), April 28, 2022 draft available at SSRN), https://corp.jotwell.com/corporate-culture-is-complicated/.

Improving Diversity Disclosures

Atinuke O. Adediran, Disclosing Corporate Diversity, 109 Virginia L. Rev. __ (forthcoming 2023), available at SSRN.

Atinuke Adediran’s insightful article, Disclosing Corporate Diversity, advances the contemporary discussion by examining the legacy and limitations of extant and proposed corporate diversity disclosure approaches. She proposes an alternative diversity disclosure regime based on more comprehensive statistical and forward-looking elements to inspire tangible changes.1

Over 50 years ago, Ralph Nader and a group of Washington lawyers challenged General Motors Company (GM) over such critical concerns as product safety, environmental impact, and diversity.2 The 1970 Project on Corporate Responsibility sought shareholder approval of several resolutions. One would have expanded the board to include three directors nominated by constituent groups of employees and consumers. Another would have required GM to publish information on its auto safety, pollution control, and minority hiring policies.3

This campaign followed the social upheaval of the late 1960s: the assassinations of Martin Luther King Jr. and Robert Kennedy, riots and fires that devastated US urban centers, recession and deep skepticism about leadership generated by the Viet Nam War. In response to this confluence of events and pressures, GM Chair and CEO James Roche actively recruited Reverend Leon H. Sullivan to join the GM board of directors, and in 1971, Sullivan became the first Black person to serve on the board of a major US public company. He would serve on GM’s board for over twenty years.

Sullivan was a synergistic choice—a human capital expert with a multifaceted skill set—but it surprised many observers; as a civil rights activist, he had successfully organized boycotts to compel companies to change their discriminatory hiring practices. He soon moved beyond the antagonism of boycotts, collaborating with the private sector to develop a path-breaking vocational training program, Opportunities Industrial Centers, which created a pipeline for minorities, immigrants, Native Americans, and the poor.4 Envisioning a more inclusive free enterprise system, Sullivan worked to convince the federal government and large companies like GM to invest in people on the margins of society and to link corporate America’s success and growth to its ability to harness human potential, especially in inner cities. Since the 1970s, we have witnessed some progress on the broader front, yet diversity remains one of corporate America’s most complex and pressing deficiencies.

The Paper’s Central Findings and Claims

Historically, CSR/ESG (corporate social responsibility/environmental, social, and governance) disclosures mostly focused on companies’ environmental, community-based and philanthropic efforts with limited engagement with diversity. (P. 5.)5 Adediran shows that for the past five years, public companies have incorporated more diversity disclosures into their CSR/ESG reports. (Pp. 6, 22-30.)6

The paper makes three central claims. First, disclosure can function as an instrument to prompt diversification of corporate boardrooms and workplaces. Second, diversity disclosures are important to a wider range of stakeholders than shareholders. Third, legislative reform is necessary for diversity disclosure effectiveness. (Pp. 3-4.) This review focuses largely on the third claim, in support of which Adediran examines the limitations of extant and proposed approaches to diversity disclosure and proposes potential enhancements.

Limitations of Extant Approaches
SEC/Nasdaq Diversity Disclosure Mandate. Adediran cites three shortcomings of the recent Nasdaq SEC-approved diversity disclosure mandate. First, the rule’s comply-or-explain approach requires companies merely to explain why they lack diversity and may not result in an increase. Second, the disclosures are limited to board diversity. The rule does not require diversity disclosures related to employees, executives, or managers, which are equally, if not more important according to academic research. Third, the scope of the rule’s application is too narrow, applying only to public companies listed on Nasdaq’s stock exchange, and excluding large private companies with high valuations and NYSE companies. Nonetheless, despite its tentative footprint, the SEC/Nasdaq rule has faced significant court challenges.

Proposed Legislation: ESG Simplification Act. The ESG Simplification Act, introduced in the US House of Representatives in February 2021, mandates a range of CSR/ESG disclosures related to climate-related risk, executive compensation, and diversity.7 This proposed legislation would standardize what many companies are already disclosing voluntarily. Its scope extends beyond board composition to a broader proportion of the workforce. However, diversity-related disclosures under the Act are quite limited; that is, “companies need only disclose whether they have adopted any policy, plan, or strategy to promote racial, ethnic, and gender diversity among board members and executive officers.” (P. 43.) Under the Act, the SEC would provide oversight and enforcement.

Author’s Proposal for Involuntary Comprehensive Disclosures
After showing the deficiencies of extant and proposed diversity disclosure regimes, the article proposes an aspirational disclosure regime that includes the following components:

  • descriptive statistical disclosures of the self-identified race, gender, LGBTQ+, and disability status of board directors as well as all top executives and employees;
  • forward-looking provisions that require companies to disclose: (i) internal diversity assessments, hiring of diversity managers, and their specific roles; (ii) policies and programs to increase employee diversity, such as recruitment, advancement, and retention programs; and (iii) steps taken to increase board diversity;
  • significant sanctions for noncompliance;
  • expanding the scope of application to all public companies and private companies with large valuations; and
  • oversight and enforcement by a non-SEC regulator (e.g., EEOC, Dept. of Labor), given the SEC’s limited investor protection mandate.

Adediran acknowledges that these proposals are aspirational and “[w]ithout a major shift in politics, it is unlikely that Congress would mandate diversity disclosures.” (P. 48.)

The Paper’s Implications for Scholarly Debate and Future Research

Diversity Disclosure Blind Spots
Too many legal scholars and policymakers have focused on board diversity and neglected other levels of management and employees. The importance of this blind spot is buttressed by social science research concerning effective mechanisms for advancing diversity. Researchers, such as Frank Dobbin and Alexandra Kalev, illustrate the importance of focusing on middle management, rather than simply the board, in advancing diversity.8 Adopting this wider lens is pragmatic because employee movement through an organization, entry into middle management, and ultimate ascent to the C-Suite is the traditional path and progression toward becoming a director of a public company. Hence, a laser focus on corporate boards to the exclusion of other employees and specific firm practices that affect them may prove ineffective in achieving sustained diversity on a broader scale.

Disclosure Expectations Gap
Disclosure is often not enough. By nature, it is a moderate form of regulation, relying on market actors to influence corporate behavior. Despite receiving considerable pushback from some corporate observers, disclosure burdens, such as those in a comply-or-explain format, often pale in comparison to prescriptive regulation. Adediran’s claim that diversity disclosures are important to a wide range of stakeholders beyond shareholders is correct. However, relying on a range of fragmented stakeholders to advance diversity and other issues implies coordination, strategy, and leadership. Leon Sullivan’s creation of the Sullivan Principles, a voluntary code of ethics applied to corporate operations to remediate racial inequity, particularly labor practices in Apartheid South Africa, illustrates this dilemma. The Principles’ key features included: (i) periodic reporting; that is, disclosure; (ii) third-party auditing by a public accounting firm; and (iii) stakeholder engagement; that is, informing stakeholders of the company’s annual rating and allowing them to respond.9 Stakeholders equipped with mandatory or voluntary disclosures must then determine whether to take extreme action, such as investor exit, or an incremental approach more focused on maintaining voice under the threat of exerting economic clout.

Voluntary regimes are often critiqued as an accommodation to business interests because they lack enforcement beyond largely looking-glass and reputational effects, but they also recognize the potential for legislative failure, political gridlock, scope and scale challenges, as well as the need for business buy-in and filling regulatory gaps. Attainable voluntary codes or disclosure regimes sometimes foreshadow future legislation. However, legislatively mandated disclosures may provide permanence, uniformity, and additional incentives to comply, among other things. Professor Lisa Fairfax explains that voluntary and mandatory disclosures are not necessarily at odds, but rather “inextricably” linked to a dynamic process and part of an interconnected feedback loop.10

Corporations and their leadership, whether passively or actively, have contributed to marginalization and exclusion for a significant part of US history. They are both part of the problem and the solution.11 As the legacy of Leon Sullivan illustrates, raising the economic ante for companies with disclosure and other mechanisms assists in broader systemic and firm-level changes.

  1. Here, the author uses the term “forward-looking” to describe “language that seeks to improve diversity or other CSR/ESG issues over time, usually on a year-by-year basis.” (P.43 n.204.)
  2. See, e.g., Herbert Mitgang, G.M. Challenged on ‘Responsibility’, N.Y. Times (1970).
  3. Id.
  4. Leon H. Sullivan, From Protest to Progress: The Lesson of the Opportunities Industrialization Centers, 4 Yale L. & Pol’y Rev. 364-374 (1986).
  5. CSR/ESG disclosures are often non-financial metrics captured in internal and external facing documents.
  6. The article uses Natural Language Processing (NLP) methodology to show the uptick in diversity-related disclosures.
  7. H.R. 1187.
  8. Frank Dobbin and Alexandra Kalev, Getting To Diversity: What Works and What Doesn’t (2022).
  9. Leon H. Sullivan, Moving Mountains: The Principles and Purposes of Leon Sullivan (2000).
  10. Fairfax, Lisa, Dynamic Disclosure: An Exposé on the Mythical Divide Between Voluntary and Mandatory ESG Disclosure (2022), available at SSRN.
  11. Tom C.W. Lin, Capitalist and Activists (2022).
Cite as: Omari Simmons, Improving Diversity Disclosures, JOTWELL (February 16, 2023) (reviewing Atinuke O. Adediran, Disclosing Corporate Diversity, 109 Virginia L. Rev. __ (forthcoming 2023), available at SSRN), https://corp.jotwell.com/improving-diversity-disclosures/.