The Legal Infrastructure of Business

Medical Malpractice Reform At Risk Once Again?

Three years ago the Illinois State General Assembly passed a law that capped jury awards in medical malpractice lawsuits. The 2005 law capped jury awards for pain and suffering at $500,000 against physicians and $1 million against hospitals. At the time the law was passed Illinois was a hotbed of medical malpractice litigation, the climate for medical malpractice litigation was one of the worst in the United States. This was demonstrated by soaring jury awards for pain and suffering in medical malpractice cases, between 1998 and 2003 pain and suffering damages in Cook County grew by 247%. The impact of soaring damage awards were felt by physicians who were attempting to practice in Illinois and their patients. The cost of liability insurance for physicians in Illinois became financially untenable or was simply unavailable.

For example, an Illinois obstetrician could save between $75,000 to $100,000 per year on insurance if the physician moved their practice to Wisconsin, Indiana or Missouri. What is more, physicians were deterred from performing high-risk procedures, despite the life-saving benefits. The Medical Malpractice Reform Act addressed the problems posed by soaring medical malpractice damage awards by capping jury awards for pain and suffering, and within a year four insurance providers had either entered the Illinois market for the first time or expanded their market share within the state. Insurance premiums fell by up to 30% and patients were able to find physicians to treat them. Despite the measurable improvements to healthcare in Illinois, it came as no surprise when the plaintiff’s lawyers challenged the law nearly as soon as it was passed into law. Their motives for challenging a law that has benefited the health and welfare of the state’s healthcare system are obvious; the law drastically reduced the ability of plaintiff’s attorneys to cash in on medical malpractice suits. The plaintiffs lawyers typically are paid on a contingent fee basis, which allows them to collect anywhere from 30-40% of the amount awarded by a jury.

The case was first heard by a Cook County trial court last year, and the trial court invalidated the caps put in place by the Illinois legislature. The case progressed to the Illinois Supreme Court and has just recently been heard. The plaintiff’s attorneys argued that the law capping damages violates the separation-of-powers principles because it strips judges of the ability to police excessive verdicts (the irony of this position is self evident). The legislature has not removed this authority from a judge, it has done what it is entitled to do, limiting remedies is within the powers granted to the Illinois state legislature. What Illinois lawmakers have done is hardly novel, 35 other states have passed similar laws reforming pain and suffering awards. Despite the overwhelming national recognition that limiting these awards is in the best interests of the entire healthcare system there is a risk that the Illinois Supreme Court will once again invalidate the Illinois legislature’s passage of medical malpractice liability reform. In 1976 and again in 1997 the legislature passed similar legislation capping damages only to have the Supreme Court invalidate it for being overly broad. Since the 2005 law took painstaking care to draft a law that addressed only non economic damages, i.e. pain and suffering damages, one can only hope that the third time will be the charm for the Illinois legislatures’ attempt to protect the health and welfare of Illinois citizens by allowing the state to continue to attract top healthcare providers.

FAA Attempts to Alleviate Congestion In New York...

Earlier this week the FAA announced that it was going to proceed with plans to take "slots" from air carriers at New York area airports then put those slots up for auction.

The implications of this reallocation of slots are far reaching. Most airlines have already sold tickets for flights and schedules using those slots. If the FAA continues with its plans, it is likely that those airlines will have to cancel flights and restructure schedules. This will increase costs to already struggling air carriers. FAA proposed this auction as a solution to reducing congestion and ultimately flight delays in the New York metropolitan area.

This story is particularly interesting because the Government Accountability Office issued an opinion saying that the FAA has no legal authority to do this and then the Justice Department took an opposing stance, stating that the FAA DID have authority. The source of controversy has not been the economic implications to the struggling industry, but on whether the FAA has the authority to raise proceeds from the auction. The Air Transport Association has filed a lawsuit against the FAA in D.C. Circuit Court (Air Transport Assn v. FAA, No. 08-1262 (D.C. Cir.) calling into question this authority.

The Air Transport Authority also proposes that the FAA's action is unfair because only US based carriers are targets to have existing slots auctioned, while international carriers would still be allowed to buy those slots in the auction.

Given the current state of the economy, this seems like a poorly timed action on the FAA's part. As we see bailouts of the automotive and financial industries, I can't help but wonder if the FAA's action, which will ultimately increase operating costs and decrease revenues for some already teetering US air carriers, won't help send at least one airline to next in line with outstretched hands on the Hill.

http://www.msnbc.msn.com/id/28060393/

Department of Justice Opinion
http://www.dot.gov/affairs/OLCltr.pdf

Should the big three be bailed out? Let's spin the wheel!

http://online.wsj.com/article/SB122872998311887795.html

 

Some variety of bailout for the Big Three now seems fairly certain.  The question is in what form it will take.  Lawmakers appear to be looking toward both the current and incoming administrations for guidance though little has been forthcoming at this point.  

 

However, this latest bailout is yet another chapter in six months of inconsistent policy on the part of the

U.S.

government.  As the nation’s financial troubles have deepened, all of the major players have looked to

Washington

for guidance and no clear messages have been sent from the President, the Treasury, or the Fed. All bailouts seem to be conducted on a case by case basis which in itself may not be a problem.  The problem lies in the apparent lack of overall guiding principles in the actions of those three entities or at the very least in the failure of these principles to be loudly and clearly broadcast to the public.  This has served to create tremendous uncertainty in the marketplace at a time when the market can least afford it.  Will this situation change under the new administration?

 

It seems reasonable to hope that it will.  The Preident-Elect has chosen a number of experienced advisers (Volcker foremost among them) with a track record that speaks to this clear and principled leadership.

Should tax payers bail out GM retirees?

General Motors' recent 10-Q financial report indicated that GM had only $16.9 billion in ready cash reserves in place as of Sept. 30. Buried in report is a note indicating that GM has tucked away another $13.5 billion, in trust, to pay for health care for current and future blue-collar retirees covered by labor contracts with the UAW.  This trust came about from the lawsuit, and kept separate from the company’s cash reserves.  The money cannot be used for anything other than retiree health care.  Both Ford and Chrysler also have similar cash reserves to cover retiree health care.  GM’s combined pension and retiree-health-care costs run $7 billion annually and have cost GM more than $103 billion over the past 15 years.  For Ford, it is about $2.2 billion.  By 2020, GM will have transferred some $23 billion to the new Voluntary Employee Benefit Association, including the $13.5 billion that GM has already injected into the trust, plus another $9.5 billion yet to be contributed.  Ford owes about $13.6 billion to its VERA, and Chrysler owes between $6 billion and $9 billion to its new retiree-health-care trust.  In the fall of 2007, the UAW president Ron Gettlefinger said that the VEBA trusts would protect the health care of retirees and eligible dependents for the next 80 years.  Last summer, the UAW allowed GM to defer a $1.7 billion payment to the trust. The company's next scheduled payment of $4 billion is due in December 2009.

This is interesting, especially in the wake of the Congress’ approval on the $15 billion of emergency funding, that will keep the auto makers alive until next March.  If the bailout did not get approved, and the companies had to file for bankruptcy, the automakers were likely to be relieved from future contributions although the fund that is already paid into trust would be safe.  As the bailout is approved although it was less than half the amount they asked for, they DID get the bailout money, which still keeps the auto-makers on the hook for the trust.  At the same time, we have not heard how the Big Three will use the emergency bailout fund or what compromises will be made with the UAW.  As proposals are being made that there should be close government oversight on the spending of the Big Three, including government approval for any transactions over $25 million, it still is not clear how contracts with UAW will be handled.  While decades of poor management by the auto makers is the major cause for their crisis, their costly contracts with UAW, no doubt, plays a major part as well.  However, now that the option for bankruptcy for these auto makers has been cleared, the talk of new contract with UAW seems to be fading as well.  So, should the tax payers be financing the benefits of UAW retirees? 

Scanvenging discounts: enforcing “suggested” mínimum prices

The Wall Street Journal for Thursday December 4, 2008 displays a really interesting article by Joseph Pereira in its main page titled “Discounters, Monitors Face Battle on Minimum Pricing”. The article states that there is an ongoing battle between retailers and a relatively “new” growing economic powerhouse: the monitors.

Monitors are small new firms (e.g. NetEnforcers Inc.) who “scour hundreds of thousands of Web sites daily, looking for retailers offering bargains below the minimum advertised price or MAP set by manufacturers on an array of consumer goods”. Once monitors come across prices below the MAP, they notify the manufacturer (e.g. Sony, Black & Decker); should the retailer/discounter be an authorized dealer (i.e. and thus be compelled to honor a MAP agreement), then it receives notice from either the manufacturer or the monitor and usually ends up bringing its price back into line with the MAP. Up to this point, the monitor’s role appears that of contract enforceability and could be considered beneficial in the sense that it attains contract honoring between manufacturers and their retailers. However, should the seller not be an authorized dealer, monitors allege trademark or copyright infringement in an effort to prevent the retailer to further list the discount.

Up to this date, the Department of Justice has stated that monitors and their existence comply with current antitrust laws; however, several firms who list and sell products sometimes below the MAP (e.g. eBay) believe this to be wrong. This story, as is usually the case, has different points of view about it. On the one hand, manufacturers say that establishment of price requirements are good as “they protect a brand’s image from being tarnished by discounting, while helping retailers make enough profit to pay for customer service”. On the other hand, advocates of the consumer cause consider this practice to be hurtful for both the consumer’s pocket and competition in general.   

This article further enlightens us on the importance of antitrust laws being dynamic and adaptable. Moreover, it provides proof that industries are redefined every day; in this particular case, the appearance of a new figure within the electronics retail chain who not only exercises economic power, but does so on a doubtfully “fair” way. In theory, suggested pricing for retailers is a monopolistic practice which prevents them (i.e. the retailers) from competing accordingly. However, it brings about questions as to the legitimacy and freedom of competition, as apparent arguments to defend the existence of MAP are, for instance “helping retailers make enough profit for them to pay for customer service”.

Big Three request for bailout funding supported by UAW concessions

The United Auto Workers (UAW) recently announced that it would make major concessions in its contract with big three U.S. automakers to help them lobby Congress for $34 billion in bailout funding.

In an effort to preserve jobs and benefits, the UAW agreed to delay the companies’ payments to a multibillion-dollar, union-run health care trust and eliminate a jobs bank which provides laid-off workers most of their wages.  The concessions by the UAW are designed to help the Big Three achieve parity with Toyota's labor costs by 2012.  Including benefits and retiree costs, UAW workers – who are above the industry average in age and have more often reached the top of the hourly wage scale – cost $76 an hour, about $18 more per hour than the average Toyota factory worker.  The concessions are also intended to appease lawmakers who criticized the union’s benefits as a major cause of U.S. automobiles being over-priced in world markets when the total compensation workers at foreign-brand are compared with those at auto plants in the U.S.

 

The UAW JOBS bank program is being suspended by the union.  This much ridiculed perk, created as part of a contract agreement reached between Detroit's Big Three and the union decades ago, pays auto workers 85% of their pay while laid-off, or furloughed.  Under the plan, affected workers reported to meeting rooms for possible assignment or be sent to do minor public works.  In any event, whether they sit or are active, the workers are paid nearly all of their wages.

 

The JOBS bank was costly to the Big Three in ways other than direct costs.  In effect, the JOBS program made labor a fixed cost, thereby standardizing mush of the companies’ manufacturing strategy.  Consequently, for the past 10 years, the Big Three have preferred to discount models with big rebates rather than cut production, since layoffs of UAW workers produced only tiny costs

savings and the potential for auto sales were reduced by limiting production.

 

Eliminating the JOBS bank program is a major concession by the UAW, even though the Big Three will almost certainly be required to fund buyouts or severance for laid-off workers.  Under current arrangements, laid-off workers receive nearly full pay for the first 48 weeks of furlough from state unemployment benefits and company-funded supplemental unemployment benefits (SUB pay).  Then, the workers are eligible for the JOBS bank and get most of their pay from the automakers.

 

The UAW further agreed to allow the Big Three to defer the payments that they are contractually required to make to a union-led health-care trust that, as of 2010, will be used to provide medical benefits to the auto workers.  While all of the automakers are obligated to have set aside cash to fund the UAW healthcare fund, they have not been meeting the requirements of their contract with the UAW.  GM owes the UAW $32 billion to start the long-term health-care liability fund but has only contributed less than $7 billion to date and the company admits that it does not know how it will makeup the shortfall.

State Governments Also Seek Bailout Packages

Leaders of the National Governors Association (NGA) and the National Conference of State Legislatures (NCSL) joined forces at the conference to advocate for the federal government to fund the multi-billion dollar stimulus package.  Both parties called on President-elect Obama and the new Congress to spend approximately $136 billion on a rescue package to stimulate struggling state economies.    

It is estimated that 43 of 50 states currently face deficits.  Many of these state budget deficits arise from significant losses of tax revenues and rising fuel, commodity, and service costs.  Many believe that the recession exacerbated the states’ fiscal problems.   

Healthcare & Infrastructure

A significant portion of the proposed funds would be used to fund state level healthcare and infrastructure projects.  NGA chairman Rendell says that increasing the Federal Medicaid Assistance Percentage (FMAP) and infrastructure improvements are his state’s most important needs. An increase in FMAP would assist people who have lost their health care coverage by extending their employment benefits.  Rendell also cited an estimated “73,000 structurally deficient bridges” in the United States that he says should be fixed with the help of the rescue package. 

Short-term Relief vs. Long-term Fiscal Discipline

The federal government is already challenged with its own fiscal deficit.  The US is saddled with a huge national debt over $10 trillion now and an operating deficit that’s approaching a trillion.  NGA vice chairman Gov. Douglas says “Ordinarily, I wouldn’t be here asking for more support from the federal government because of that significant deficit and debt but now is a crisis for the people of our states and we have to do everything we can to get them through it”. 

The Federal Union System vs. Statehood Independence

Not all state governors support a state government bailout.  Gov. Rick Perry of Texas currently enjoys a budget surplus.  Governor Perry laid out his state’s formula for success: “Texas has created a business-friendly environment where 1,000 people a day move to our state to work and raise a family.” Montana’s governor, Brian Schweitzer, also stewards a surplus.  In Alaska, Governor Palin is managing the state’s budget admirably as well.   

The President-Elect’s Solution

President-elect Obama signaled his determination to create a new federal and state partnership to rebuild America "from the bottom up." His undertaking comes on the heels of the economic crisis, depleted state treasuries, and demand for state services increases.  Obama made a deliberate distinction between his proposed plan as compared to a bailout:  any "true solution" to the economic woes would not come from Washington alone but from cooperation with governors across the United States.   The governors showed "almost unanimously" their support of Obama's recovery plan and offered to reach out to their citizens and congressional delegations to win passage. 

http://www.csmonitor.com/2008/1203/p25s21-usec.html

http://www.csmonitor.com/2008/1203/p25s21-usec.html

http://www.cnsnews.com/public/content/article.aspx?RsrcID=40341

"Pricing is at the Sole Discretion of the Retailer" - or Maybe Not

Last year the Supreme Court overturned a 1911 ruling banning price floor policies.  At the time it was considered a violation of antitrust legislation to agree on minimum prices.  Now the Court has said agreements on minimum prices are legal if they promote competition.  Future suits will be decided on a case-by-case basis in the interest of greater consumer choice – the doctrine called “rule of reason.”

The 1911 ruling made minimum price agreements a “per se” violation – meaning any agreement, regardless of its effect on competition or any other factor, would be deemed illegal.  Anyone who has worked for a consumer products company is familiar with the ubiquitous statement “All pricing and promotion decisions are at the sole discretion of the retailer.”  Not anymore.  Manufacturers now have some power in determining if discounts exist, and if so, to what extent. 

This is especially interesting in light of the number of players involved.  Other than retailers and manufacturers, there are numerous agencies whose sole job is to scour the web on manufacturers’ behalf for evidence of MAP (minimum advertised price) on certain goods, such as electronics.  When such a breach is found, the manufacturer contacts the retailer to ask them to raise prices.  If the retailer refuses, the manufacturer can pull supply of its goods or raise list price.  The industry, which was nonexistent a year ago, uses sophisticated software to track offenders.

The original suit was brought by Kay’s Kloset, a small family-owned retailer who discounted a line of goods manufactured by Leegin Creative Leather Products Inc.  Leegin asked Kay’s to raise its prices, but Kay’s did not comply, believing there was no legal need to do so.  Leegin cut off supply to Kay’s and it eventually went out of business.  Kay’s then sued and won a $3.97 million award in District Court.  Leegin appealed to the Supreme Court and prevailed.  Leegin argued that by holding price consistent, it leaves retailers free to compete on service and other non-price attributes as profitability rises.  The Court agreed, adding that it would help traditional bricks-and-mortar stores stay in business while facing competition on the Internet.   

But what about those retailers whose image and reputation depends on low prices and discounting?  eBay and Costco, among others, are coming together this week to call for a change in the law, again.  In the meantime, retailers like Circuit City use a “see price in cart” function to offer lower prices, but publish MAP.

At an extreme this can change the retail environment as we know it.  Walmart, for example, has built an image and identity around “low, low prices.”  If every retailer has the same price for everything, Walmart will have to find a new competitive advantage.  In one sense this is good for consumers – you just pick your favorite store.   But what sorts of activities will surface to get around these requirements?  Some are already in place (ie Circuit City). 

Quite frankly, retailers know better than to continually drop prices.  It sets off unnecessary price wars, leading to erosion of profits for both retailers and manufacturers, and everyone loses.  This doesn’t mean prices are high in all cases – just not rock bottom. 

A group wishing to return to the 1911 ruling and make minimum pricing agreements once again a violation of antitrust law is attempting to get consumers on board.  eBay has offered free use of its site in order to reach consumers – obviously, it has a vested interest in the bill’s success.  The group has also commissioned a study to determine if minimum pricing policies lead to higher prices for consumers.

It will be interesting to see how the case plays out in the next few weeks.

http://online.wsj.com/article/SB122835660256478297.html

http://www.bloomberg.com/apps/news?pid=20601087&sid=ab4dB_tp38YU&refer=home

Kick 'em While They're Down

This collapsing auto industry is offering a unique opportunity for policy makers to enforce its will on the Big 3; and while I’m as much a proponent of the free market approach as anyone else at Booth, I don’t think that is necessarily a bad thing. 

As can be seen from the testimony last week, the market has put the Big 3 in a difficult situation and they are asking for mercy.  Recent (as of December 6^th) news stories indicate Congress is working on establishing loans for the car companies.[1]  The current plan is for $15 billion to come from an energy bill previously passed in 2007.  The 2007 energy bill calls for funds to be used to create more fuel efficient cars.

Two caveats are proposed to limit the use of these loans.  First, the loan is meant as a bridge to allow the Big 3 to not (completely) collapse between now and the end of the first quarter of 2009.  With a new and presumptively competent president in office, there will likely be a comprehensive economic reform package passed by that time.

Second, a Fox News article[2] indicates the White House wants to ensure the funds from the loan are used for their original purpose, developing energy efficient cars.  This is where the policy makers can enforce their agendas. 

A few years ago, the government could have encouraged companies to act in a certain way by passing tax laws favoring the desired action, such as R&D credits.  Now, however, policy makers are in a position to force the Big 3 to act the way they want; that is, policy makers can force the Big 3 to more rapidly increase the fuel efficiency of their cars fleets.

In this situation, the beneficial externalities of creating fuel efficient cars outweigh strictly adhering to our capitalistic ideology.  This forced changing in the market dynamics may accomplish a shift in consumer consumption which would otherwise take much longer.  Consumers shifted to fuel efficient cars when gas was increasing at 10 cents per gallon per week, but now that the price is down again, who knows how long consumers will remember the pain of $4.00 a gallon gas and continue to shift to more fuel efficient cars.  Besides, there is the prisoner’s dilemma where nobody wants to be caught in the small car in an accident.  Ultimately, the government could compel the Big 3 to update their manufacturing facilities in the short term.  By the time the US economy turns around, the pent up demand for cars combined with the fuel efficiency of the new fleet of cars could add up to a real impact on US oil consumption and greenhouse gas emissions. 

In the end, this little bailout issue could be good for society after all.

---

[1]http://www.businessweek.com/bwdaily/dnflash/content/dec2008/db2008126_622881.htm?chan=top+news_top+news+index+-+temp_news+%2B+analysis

 

[2] http://www.foxnews.com/politics/2008/12/06/white-house-constructive-auto-talks-congress/

You bailed me out, but when it is my turn to bail you out...

A Chicago manufacturing company that makes windows and doors, Republic Windows and Doors, located on Goose Island is shutting down its business as of Friday, December 05, 2008.  The company has been in existence since 1965, but the poor management from the previous owner coupled with the downturn of housing market and economy has put the company in a real financial hole for the past couple of years.  As the sales have been going down, and the light at the end of the tunnel is dim, its lender, Bank of America cancelled its Line of Credit on Wednesday, December 3^rd, and forced the company to shut down.  About 240 workers will lose jobs.  The workers will not get their vacation pay.  More than 100 union workers picketed in front of Bank of America’s LaSalle branch on Wednesday in protest of the news. 

This reminds me of our class discussion in our last class.  Besides the fact that Republic had its own problems with management and frivolous spending, which led them down the road to its shut-down, what is interesting here is that Bank of America, after receiving $25 billion in its own bailout, it won’t extend the credit to bail out its customer.  As we discussed extensively in our last class, the purpose of bail-out of the financial industry was so that they can turn around and extend the loan to the people, who ultimately financed the bailout of the banks.  As Republic says that the company probably could have survived if it had enough cash in hand, this seems like a classic example of the financial industry getting a bail-out for the purpose of reviving the economy, and yet, all its bailout money is being used for is to pay down its own debt.  My understanding of the rationale behind the bailout of financial industry was that the ripple effect would be too great if we did not bail them out – that as a result of the fall of the banks, businesses and individuals who rely on their line of credit from these banks would also go down.   Is our bailout of the financial industry really helping the economy?  If all they are doing is paying down their own debt, should we have given them $25 billion in bailout?  As we discussed in class, how do we make the “box” bigger, so that the banks will do what they are supposed to do with the bailout money, and unfreeze this credit crunch?

http://www.chicagotribune.com/business/chi-thu_republic-windowsdec04,0,7537071.story

http://www.suntimes.com/business/1313535,CST-FIN-republic04.article

Can litigation risk be hedged? Maybe... but not in a traditional way.

I know this often happens in trust battles; the fiduciary duty of the trustee is first to the trust.  This means that even if the beneficiary thinks he's entitled to the money in the trust, and even if he's right, and even if the trustee is wrong, the trustee will customarily use the money in the trust to pay legal bills to defend the trust from the beneficiary's claims.  I've always thought this puts the beneficiary in a strange position: not just having to fight for his own money, but having to fight against his own money.

Now, apply the same idea to a fund and you get an idea of what the investors in Reserve are up against.

<<

December 5, 2008

Embattled, Fund Shifts Cost of Suits to Investors

By DIANA B. HENRIQUES

The Reserve Primary Fund has presented its deeply frustrated shareholders with a stark choice.

If they are patient, they might ultimately get back 98.5 cents for each dollar they had in the money market fund, which in September became only the second such fund to ever “break the buck,” or report a share price below a dollar.

But if they continue to wage legal battles against the fund and its managers, the company will use investors’ own money to defend itself against their accusations of mismanagement and deception.

So this money fund once seen as risk-free has presented investors with a painful dilemma: if they fight for more than 98.5 cents, they risk getting far less, because more of their money will be used to pay the fund’s legal expenses. Those terms, described in a “plan of liquidation” posted on the Reserve Fund’s Web site late Wednesday, are part of the contract that fund trustees negotiated with the money manager that has been running the fund since its inception more than 30 years ago.

Even so, the choice struck some legal experts as brazen.

“This is a very smart thing they have done,” said Tamar Frankel, a law professor at Boston University who has written extensively on mutual fund legal issues. “It pours not only ice water but ice on any claims” by shareholders, she added.

But if the fund’s manager or trustees are to blame for the fund’s current troubles, Ms. Frankel said, she is very skeptical that they will be allowed to tap shareholder money for the legal bills.

The fund’s shareholders can avoid paying those legal bills only if the trustees or the fund adviser have committed willful malfeasance, acted in bad faith, displayed gross negligence or shown a reckless disregard for their duties.

But it is not clear how anyone could prove they engaged in such behavior without some sort of litigation — the very act that could reduce the return of 98.5 cents that shareholders will get if there are no new legal expenses.

“This is a complicated and unprecedented situation,” a spokesman for the trustees said. “The trustees are acting in good faith to treat all shareholders fairly and equitably.”

The offer is the latest jolt for investors in the once-formidable Primary Fund, whose founders invented the money fund concept more than 30 years ago. The fund was the largest of more than a dozen money funds operated by the Reserve Management Company.

The fund began to fray on Sept. 15, the morning Lehman Brothers filed for bankruptcy protection, when the fund was hit by a wave of redemption orders. By the next day, it had broken the buck.

The run was a shock to Primary Fund investors because the fund held only a small amount of Lehman Brothers notes — $785 million, out of $64 billion in assets. And it was a shock to the entire money fund industry, prompting federal regulators to quickly introduce an insurance program for money funds, in a bid to restore investor confidence.

The next day, the fund froze all Primary Fund redemptions and announced plans to liquidate the Primary Fund; within days, it had frozen all its money funds, even those that had not broken the buck, and began trying to liquidate assets in today’s weak credit markets.

The latest plan shows that the fund trustees still have not decided how to handle a fundamental dispute between shareholders who redeemed before the fund broke the buck and those who redeemed afterward. It says only that it “will attempt to resolve the question,” and said it hoped to announce in three weeks how big its legal contingency fund will be.

One of the most potentially damaging claims facing the fund is pending in federal court in Minneapolis, where Ameriprise Financial, hundreds of thousands of whose customers were caught in the fund, is accusing the fund managers of tipping some investors in advance that the fund was in danger of breaking the buck.

“The Reserve’s plan is ingenious,” said Harvey J. Wolkoff, a lawyer with Ropes & Gray in Boston who is handling that case for Ameriprise. “Their plan is that their own investors reimburse them for their wrongdoing.”

Along with the liquidation plan, the fund also announced on Wednesday that it was making a second distribution of cash to shareholders who had been unable to withdraw their money since the fund broke the buck.

The latest distribution of $14.4 billion, added to $25 billion in October, brings the shareholders’ recovery so far to about 80 cents on the dollar.

There is about $10.8 billion in assets left in the fund, about half of which matures between July and October of next year. Unless the credit markets strengthen enough to allow those notes to be sold at par before maturity, the final payments to shareholders could come more than a year after their money was first frozen.

http://www.nytimes.com/2008/12/05/business/05fund.html?th&emc=th >>

Certificate of Need

http://www.ama-assn.org/amednews/2008/10/06/gvsb1006.htm

The above article references a unique set of laws specific to the health care industry that regulates the ability of hospitals to offer services without a demonstrated community need. The set of regulations requires hospitals/physicians that want to offer new services to testify before a state board to prove that the local community is under-served in that particular service. The state board then determines whether the hospital or physician is allowed to invest in this service. For instance, if a physician wants to begin offering dialysis services in his office, he must demonstrate that the dialysis service being offered at the local hospital is not meeting the community's need because of access constraints, antiquated technology, etc.

The ability of state boards to regulate the availability for specific health care services is certainly anti-competitive, yet 36 states currently have them. The arguments against them are clear... increased competition should reduce costs, increase quality, provide greater access to care, etc. Additionally, it appears decisions by these state boards (not surprisingly) can be politically motivated to favor specific communities, hospitals, etc. But before we dismiss 'Certificate of Need' regulations as un-American, they do seem to serve some purpose. In general, hospitals serve a high percentage of Medicare and Medicaid patients that don't reimburse hospital care above cost. The government determines what payment hospitals will receive without having to negotiate rates. In order to ensure that hospitals are able to off-set these losses, the certificate of need laws create high margin service monopolies for these hospitals. Without these laws, enterprising companies would offer those services that offer higher margins, leaving the hospitals to provide care to patients that provide no profit.

Taking into account both sides of the argument, it seems to me that certificate of need laws are preventing the real debate that needs to take place within the health care industry... is it necessary that the same level of care be offered to the same patient regardless of their ability to pay? If equal access to quality health care for all Americans is part of the social contract, than certificate of need laws seem to be doing their job. But by doing so, they are distorting competitive pressures that otherwise could help reduce the spiraling costs of providing this care.

Is the FCC Pushing for Free Wireless Internet???

Outgoing Federal Communications Commission Chairman Kevin Martin is pushing for action in December on a plan to offer free, pornography-free wireless Internet service to all Americans, despite objections from the wireless industry and some consumer groups.

The proposal would allow for a pornography-free, wireless Internet service (free of charge), which would be part of a proposal to auction off a chunk of airwaves.  The winning bidder would be required to set aside a quarter of the airwaves for a free Internet service.   Mr. Martin wants the company that buys the airwaves to devote at least 25% of the spectrum to free Internet access for 95% of the country.  The no-cost Internet service also would be smut-free for users under 18.  Adult users could opt out of the filter blocking pornographic content.

The winner could establish a paid service that would have a fast wireless Internet connection.  The free service could be slower and would be required to filter out pornography and other material not suitable for children.

Consumer advocates have objected to the FCC's proposed pornography filter, while the wireless industry has objected to the entire free Internet plan.  To address concerns about the filter, the FCC is proposing that adults could opt out and access all Internet sites.

T-Mobile USA, in particular, has raised concerns.  The Deutsche Telekom AG unit paid about $4 billion a few years ago for nearby airwaves and has complained that the free wireless Internet plan will likely result in interference for consumers of its new 3G wireless network.  The FCC dismissed the company's interference concerns this fall, although T-Mobile disagreed with that finding.

Mr. Martin’s proposal raises several key issues such as the following:

1.        Pornography vs. Free Speech

2.       Public Good vs. Private Enterprise

3.       Price Discrimination:  Free Service vs. Paid Service

Pornography vs. Free Speech

The issue of banning the access to pornographic web content to protect minors raises several issues regarding the general public and its right to free speech.  Pornographic website operators as well as adult customers should, under constitutional law, have the right to offer and view these web sites at their pleasure.   Regardless as to whether the wireless service is offered by the government or a private enterprise, access to content should not be limited.  As a subscriber to a private service, I, as an individual, must take responsibility for monitoring my child’s use of the internet, not the government. 

Public Good vs. Private Enterprise

Offering free internet to the public is an unprecedented statement on our society and the significant role that the internet plays within.  The move would shift the internet from a private service to a public utility.  Similar the utility that pubic roads, highways, and public restrooms provide, the internet will now provide a technological utility for all citizens.  Private enterprise does not favor the shift from for profit wireless access to free access.  Free wireless service ultimately reduces the economic rents that private enterprises can collect from their proprietary service offerings. 

Price Discrimination:  Free Service vs. Paid Service

Private enterprise may be able to create a differentiated product offering which would allow them to collect rents on their existing wireless services.  For starters, the private service provider can offer a better (i.e. faster) wireless service to its paying customers as compared to the free service sponsored by the government.  The customer would ultimately be able to self select between services based on his/her preferences.  Second, private businesses could provide better customer service as compared to the public wireless service which could further differentiate the product. 

Overall, the free wireless internet debate is interesting and represents the significance of technology in our society. 

http://online.wsj.com/article/SB122832671930476269.html?mod=googlenews_wsj

http://www.reuters.com/article/marketsNews/idUSN0334842220081203

http://online.wsj.com/article/SB122809560499668087.html

New Rules for Rating Agencies

Today, the SEC adopted tougher rules for credit rating agencies, designed to reduce conflicts of interest and curtail business practices that many people say contributed to the current financial crisis.  Agencies such as Moody’s and S&P have been blamed for failing to protect investors during the real estate boom, leading to the subprime mortgage meltdown.  The firms lowered their standards in rating complex CDOs, often giving higher ratings to securities backed with toxic subprime mortgages.  The new rules try to prevent conflicts of interest at the rating agencies which receive their fees from banks or debt issuers.  Some of the adopted rules include: 

 

·         Rating agencies required to provide the SEC with an annual report of credit actions, such as downgrades or upgrades 

 

·         Bans rating agencies from advising investment banks on how to package securities to secure favorable ratings

 

·         Prohibits any gifts over $25 from underwriters to rating agency employees

 

·         Prohibits an agency from issuing a rating for a structured finance product unless the information in the rating is available to other rating firms

 

Investors will also receive detailed information on the ratings process for complex securities, which will hopefully expose any potential conflicts of interest for the agencies.  I think these new rules will bring much more transparency to the rating agency process.  When the subprime mortgage crisis began last year, many people wondered how in the world securities constructed with toxic mortgages had been awarded "AAA" ratings.   The ratings agencies did a horrible job of managing conflicts of interest. The analysts charged with evaluating the securities knew that giving a higher rating would improve the financial success of their firms.  The situation is identical to the conflict of interest that existed between research and investment banking on Wall Street.  Eventually those divisions were separated, but it was a common practice for research analysts to give upgrades to companies the Wall St. firms were doing banking business with.  Confiscated rating agency emails reveal that they were actually aware their methodology didn’t capture the risk of the CDOs (including the infamous “It could be structured by cows, and we would rate it” email).  As the main enforcer of transparency in the markets, the SEC should have noticed the problem sooner but it is refreshing to see industry reform finally. 

 

http://www.reuters.com/article/americasDealsNews/idUSTRE4B25MV20081203

Trade-offs between national defense and accessibility to the US

Since August 1, 2008, the Electronic System for Travel Authorization (ESTA) has been accessible via Internet for citizens of Visa Waiver Program (VWP) countries to apply for advance authorization to travel to the United States. VWP has been enabled citizens of certain countries including most of the Western European countries to travel to the United States for tourism or business for stays of 90 days or less without obtaining a visa, but after August, all VWP travelers has been required to obtain an electronic travel authorization prior to boarding a carrier to travel by air or sea to the U.S.

The ESTA program is required pursuant to Section 217 of the INA, as amended by Section 711 of the "Implementing Recommendations of the 9/11 Commission Act of 2007" (9/11 Act). This legislation requires DHS to develop and implement an automated system to determine, in advance of travel, the eligibility of visitors to travel to the U.S. under the VWP and whether such travel poses a law enforcement or security risk.

On the other hand, I heard some governments were opposing the ESTA because it would be against two-way personal exchanges and influence on each economy, but is it true? Actually it takes time for travelers to get advance authorization, but I don't think that additional "labors" prevent them from visiting the US. While the US government needs to try to facilitate the authorization process efficiently, VWP countries, which have close relationships with the US, should understand that this process revision is derived from the necessity to reinforce counterterrorism measures.

Convenience to travelers and businessmen and national security always have some trade-offs, but I think national security should be the first priority.

GM’s New Vehicle: Chapter 11 Bankruptcy

You pick up a BusinessWeek in your dentist’s waiting room and stop on the story, What if GM Did Go Bankrupt…  You read the piece and learn of the harsh consequences that would befall consumers, partners and investors if such an event transpired.  While this paints a gloomy picture for the company’s future, some believe that a bankruptcy may be worthwhile if a revitalized GM emerged from the reorganization.  Chairman and CEO G. Richard Wagoner Jr. is clear in his position; even though the company is losing money at an alarming rate, he argues that bankruptcy is unnecessary and “talking about it actually hurts the business.”  You chuckle at this bit of posturing and set the magazine down.  Only then does the date catch your eye – December 2005.

No one would fault you for thinking it’s a current story since the issues then are much the same as they are now.  For instance, the company’s annual report acknowledged 2005 as one of the most difficult years in GM’s 98-year history and proceeded to outline a North America Turnaround Plan which included goals to significantly improve cost competitiveness and address the health-care and pension legacy cost burden.  Much to Wagoner’s credit, GM made good progress toward these ends by: 

• Announcing plans to cease production at 12 US plants by 2008, and reduce its manufacturing workforce by 30,000 positions.
• Reaching an agreement with the United Auto Workers (UAW) that was expected to reduce GM’s retiree health-care obligations by about $15 billion.
• Reaching an agreement to reduce significantly the number of hourly employees in the United States through an accelerated attrition program.
• Capping the company’s contribution to salaried retiree health-care costs at the end of 2005, reducing that obligation by almost $5 billion.

Yet, three years later – notwithstanding Wagoner’s comment – we’re still talking of bankruptcy.  It seems that despite GM’s best efforts, losses have mounted and the company’s cash reserves have fallen from $34 billion in 2005 to only $16.2 billion as we close out 2008 [1].  Wagoner and executives from Ford and Chrysler are set to request $25 billion in bridge loans from Congress today in an attempt to Band-Aid the auto industry’s problems with a government bailout.  Wagoner will come to the table hoping to pitch Turnaround Plan v2.0 in exchange for support, but this approach will not fundamentally change the dynamics of the business.  The auto industry is inherently cyclical and GM is encumbered with legacy obligations that prevent the firm from appropriately responding to dry spells by reducing costs.  Instead of summoning manna from heaven (or the US government), Wagoner should be working to secure a prepackaged Chapter 11 bankruptcy.  Here’s why.

As was seen with the US steel industry, 30 years of government assistance in various forms only served to delay bankruptcy, which was ultimately required to facilitate a turnaround [2].  While it is true that GM has done a notable job of restructuring agreements with the UAW, only bankruptcy will allow the company to fully align with its new fiscal reality.  Case in point, GM currently has US market share of about 22% which is supported by a network of roughly 6,700 dealers compared to 1,200 for Toyota’s 16% share [3], [4].  Dealer parity between the two firms would require GM to reduce the number of dealers by 75%.  Yet state legislative restrictions and dealer agreements make this an impossible proposition.  In 2000, GM retired the Oldsmobile brand and paid $1.1 billion to settle with the 2,800 dealers shuttered as a result [5].  Chapter 11, however, would allow GM to sever agreements with dealers and unions as bankruptcy courts generally approve the rejection of executory contracts and have the ability to unilaterally reject collective bargaining agreements.  This would allow the company to finally divorce itself from these legacy obligations. 

Bankruptcy would also afford GM some operational breathing room via debtor-in-possession (DIP) financing that would allow GM to secure new lines of credit during the restructuring.  The Bankruptcy Code grants special protection to those who lend new money to a bankrupt company by granting a senior claim on assets.  Although the DIP market has dried up in recent months as a result of the financial crisis, this might provide Congress with the sort of bailout that taxpayers can stomach [6].  In exchange for DIP financing, the government would receive a claim in a company that has a significantly improved chance of survival. 

Although Chapter 11 does provide GM with many benefits, it will undoubtedly have a negative impact on the consumer.  Logic holds that the car buying public will avoid GM dealerships at all costs out of concern over the company’s future ability to service and maintain its vehicles.  It is argued that the airline bankruptcies have been successful because the airlines do not deal in durable goods.  The ticket value is all that a consumer risks from the time of purchase until redemption for travel.  With a car, however, who will make good on the warranty if the manufacturer no longer exists?  This too can be addressed.  Think of a new automobile as a bundle product consisting of a good (the car) and service (the warranty).  The two components can be decoupled so the service portion of the bundle can be fulfilled by a third party.  Automobile manufactures have been doing this for years with roadside assistance programs that are provided with a new vehicle.   

Finally, a prepack Chapter 11 might allow GM to exit bankruptcy much more quickly than a traditional bankruptcy, since the company would simultaneously file for bankruptcy and file a reorganization plan with the court.  Doing so requires GM to negotiate with creditors and solicit their votes on a reorganization plan up front – this saves time and money on fees and expenses associated with bankruptcy proceedings.  Wagoner would also stand to benefit, since prepacks are friendly toward management and reduce the chance of loss of control, which given the grumblings coming from GM’s board and Congress is probably a growing concern. 

---

[1] GM's Crippling Burn Rate

[2] Revival of US steel industry offers lessons for automakers

[3] Big Three May Need to Trim Number of Brands

[4] Wikipedia: Toyota

[5] Oldsmobile Dealers, GM Remain at Odds

[6] 'DIP' Loans Are Scarce, Complicating Bankruptcies

Performance Evaluation and Vacation Policy

As the economy dips deeper into recession, companies continue to slash their workforce to cut cost.  Supermarkets have started to evaluate their employees’ productivity by clocking their time spent per customer at the cash register.  Employees who are the least efficient based on time may face the risk of losing their job.  This new business strategy has reduced the quality of customer service because customers are rushed to pay for the purchases.  To the employer, the time per customer has been reduced, but the once cherished connection between a customer and the supermarket is lost in the process, because cashiers have less time to engage in small talks.   Plus, more mistakes are likely to be made.  Besides the supermarkets, auto companies have also started to time employees by the minute.  Even the clocks on the walls have been removed as part of the cost reduction.  While efficiency is important to any company, the work environment is also crucial to induce productivity.  If employees continue to experience dreadful changes, they will be less motivated to be productive.  External increased productivity may just be a camouflage to inferior quality. 

 

Increased frustration from workers in the industrial and consumer services companies will lead to strikes or lower quality products, which will be more damaging to companies’ profits.  This will only create a vicious cycle because lower sales revenue leads to more cost reduction.  Massive layoff in the last year or so in various industries reflect the fact when companies underperform, even the most productive workers may be laid off. 

Another related point is the number of vacation days an employee is allowed without jeopardizing his performance review.   Major corporations and small firms differ in the number of vacation days an employee is permitted.   While the latter are more entrepreneurial, the former are more formalized and standardized.  When evaluating employees, the two may take a different approach.  Large firms view employees who take too many days off as a sign of slacking off.  Certain firms, especially small companies judge their employees by the final output, while giving their employees as many paid vacation days as they like.  However, if every adopts a similar firm policy, most industries’ will collapse.  Thus, I believe that companies must strike the right balance between being too harsh and too lenient on their employees. 

 

Below is an article from BusinessWeek on Vacation Policy

http://www.businessweek.com/smallbiz/content/jul2008/sb2008072_456680_page_2.htm

Health Insurance Consolidation

http://www.bizjournals.com/philadelphia/stories/2008/10/06/daily43.html
The above article references the potential merger between Independence Blue Cross and Highland Insurance of Pennsylvania. The two health care insurance companies represent the two largest health plans within the state, with the market share of the combined company appearing to be in excess of 70%. Over the last few years, there have been a series of high profile health insurance company mergers such as this one in which the combined company controlled more than 50% of the state's insurance market. A 2004 study by a Berkeley economist discussed how reduced competition within the health care industry at the same time as record profits (driven by double digit premium increases) is unsustainable, with the lack of competition reducing necessary innovations and improvements. Within his study, he goes on to quantify the relative level of consolidation within the health care insurance industry in this way:

"In thirty-eight states the largest firm controls one-third or more of the market; in sixteen states the largest firm controls more than half the market. In all states except California and Nevada the largest insurer is a Blue Cross or Blue Shield plan, or both."
http://www.medscape.com/viewarticle/493022_1

In an interview with Medscape at the time of the article's publication, he explained his findings.

"Dr. Robinson: It wasn't that health insurers drove down costs but that they increased their revenue. Premium increases of 10% to 15% have outrun the increases in medical costs, which have been rising by a few percentage points lower than that. So that's their earnings. Health insurers have been very successful about not fighting for market share among themselves and by building up their margins.

That gets back to consolidation — with a small number of competitors, it's easy to maintain an implicit agreement not to be aggressive in reducing premiums to gain market share. Everyone raises premiums at more or less the same rate. That's what they've done, and they've been successful at it. In the past five years, the industry has been the most profitable at a time of great strain on the medical system."

http://www.medscape.com/viewarticle/498374

Where has the Department of Justice been during this wave of health insurance consolidation? According to a comment by David Balto in the public hearing portion of the Blue Cross/Highland merger:

"In the past decade there have been over 400 health insurer mergers and in only two cases has the Department of Justice brought any enforcement action. Besides mergers, the Justice Department has not brought any cases challenging anticompetitive or exclusionary conduct by health insurers, even though numerous private plaintiffs and state attorneys general have challenged this type of conduct."
http://www.americanprogressaction.org/issues/2008/balto_testimony.html

It seems odd to me that the DOJ would allow the reduction of competition within the health care insurance industry, unless they feel that the year over year increases in health care premiums are the result of provider costs. By allowing health insurance consolidation, insurance companies could theoretically negotiate better contracts with hospitals and physicians and pass these savings on to their plan members. Interestingly, their 2005 financial statements indicate that the two companies have more the $4 billion in cash reserves – and by the way, both are non-profits. I don’t know many of the details behind the proposed merger and the benefits the two insurance companies are claiming can be realized, but it will be interesting to hear the comments from the DOJ.

First Amendment Two-Steps to Victory in North Carolina, Pennsylvania

Recently, two unrelated rulings upheld a woman's right to express herself through dancing.

In North Carolina, plaintiff Rebecca Willis, filed suit six years ago when the township of Marshall banned her from weekly community dance events at the Marshall Depot.  This ban came about after patrons of the dance hall complained of her "unorthodox" dance stylings.  A more detailed explanation of her techniques may be found here.  In 2005, an appeals court upheld the township's decision by arguing the same public health laws that apply to mandating the wear of shoes and shirts in public venues applied to the dance hall, which is housed a publicly-funded community center. "Willis, 64, argued town officials violated her constitutional rights to freedom of expression and equal protection when they barred her from Friday night dances at the Marshall Depot in December 2000."  On advice from the municipality's insurance company, the town settled with Ms. Willis on November 13, 2008 to the tune of $275,000 after an aggressive legal campaign funded by the ACLU.

In other freedom-to-dance news, Adams Township, PA, settled with Stephanie Barbines this week regarding yet another First Amendment suit.  Butler County, in which Adams Township is located, refused to allow Ms. Barbines to open a pole dancing studio on the grounds that it believed she wished to open a sexually oriented business.  This refusal was based on the recommendation of Gary Peaco, who testified "because her Web site’s 'pink-and-black color scheme . . . and the high-heeled shoe in her logo' indicated to him she planned to run a sexually oriented business."  "Although Babines’ classes include pole-dancing, power lap dance, strip tease and “SeXXXercise,” they are all taught and performed fully clothed, the lawsuit states. Men can’t take the classes, and no spectators are allowed," according to the Wall Street Journal.

Both these cases present interesting interpretations of one's freedom to express herself and should be claimed a victory by not-only fans of the first amendment but also libertarians and other like-minded folks who believe less governmental regulation is generally for the best.

Alien Tort Claims Act

Chevron was cleared today by a jury in U.S. federal court of liability charges arising from a violent clash on one of its oil platforms off the coast of Nigeria 10 years ago.  Back in 1998 on an oil platform off the coast of West Africa, Niger Delta villagers demonstrated for three days on top the platform, which ended violently, as the Nigerian military ended the protest with bloodshed (killing two).  The jurors sided with Chevron that the Nigerian government, and not Chevron, was responsible for the human rights violations and deaths of the protesters.

 

So what is the Alien Tort Claims Act? 

 "The district courts shall have original jurisdiction of any civil action by an alien for a tort only, committed in violation of the law of nations or a treaty of the United States."¹

 

With globalization and U.S. involvement in numerous conflicts abroad, one can see how this Act could have serious future implications.  The Act came into being in 1789 and was originally intended to provide a proper venue for torts resulting from acts of piracy, violations of safe-conducts, or interference with the rights of ambassadors.  A lot has changed since 1789, and the Act has become much more frequently invoked.   Since 1980, 100 suits have been filed under the Act.²

 

American government, military, and corporate leaders can be held responsible in a Court of Law even if the abuses were committed by local groups or non-U.S. citizens in the organization.²  I agree with the jury in the Chevron case that it was the Nigerian government and not Chevron that should be held accountable.Given the multinational nature of corporations and the often unpredictable environments in which they work (e.g. Chevron in Nigeria), I would argue that the bar should be raised for criteria upon which a suit can be filed.  Firms and governments need to be held accountable for wrong doings in foreign countries, however, a statute of this nature needs to be updated for the times.

 

1.  http://cyber.law.harvard.edu/torts3y/readings/update-a-02.html

2. http://en.wikipedia.org/wiki/Alien_Tort_Claims_Act

Freedom: hear it or speak it?

One of the most relevant issues discussed nowadays concerns freedom. This word in fact, covers for all elements of possible choice for an individual and accounts for the right to choose what one deems appropriate. More so, freedom reflects the capacity to choose and accountability for said choice. In this sense, a logical question would arise as to where does one individual’s freedom begin and where does it end. In my opinion, the answer, although simple, is not as easy to internalize as one would think. One person’s freedom ends where another person’s freedom begins.

Recalling a subject we have already discussed in class gives a perfect example of said statement. Following the “Bono-Golden Globes” incident, the right to freedom of speech came about as an element of discussion. The inability of the judicial system to agree on whether it is right for the FCC to fine “vulgarities” or not has led to a showdown between the authorities and the Constitutional right provided by the First Amendment. This idea is further discussed in an editorial opinion posted in the NY Times (http://www.nytimes.com/2008/11/04/opinion/04tue2.html). More so, the question is further emphasized by the responsibility of public voices to say or do “appropriate” things. The key concern is definitely based on people exposed and potentially influenced by said “vulgarities”.

Said issue leads me to think if this kind of discussions or concerns were intended when freedom of speech was proclaimed and incorporated in the Constitution. Was this the purpose of freedom? Was freedom conceived in every sense of the word? Perhaps the discussion held between the FCC and the courts seems irrelevant to many persons; however, I believe this to be a symbolic fight for the right to be able to say something that perhaps might offend or concern another person, but still the capacity of people to express themselves.  

Administration Changes Affecting Antitrust Enforcement Philosophy?

 

The following post on the Deal Journal http://blogs.wsj.com/deals/2008/11/10/dont-freak-out-about-antitrust-sea-change-under-obama/(the title says a lot about its point of view) includes excerpts of an interview with James “Hart” Holden, an antitrust partner with law firm Paul Hastings Janofsky & Walker.

 

The interview goes on to explore the potential affect the new presidential administration might have on large mergers and acquisitions (created prior to the election was decided).  The interview addresses the belief widely held by investment bankers and executives that a Democratic administration would effectively hold up or prevent large mergers due to antitrust concerns.

 

The M&A market has certainly experienced many of its own challenges lately. And these concerns may be unfounded, but in coming to that conclusion it is essential to understand how a change in political leadership impacts the agencies that control the enforcement of antitrust regulation in the

United States

.  The Federal Trade Commission (FTC) is structured to withstand influence from changes in politics, the five commissioners serve staggered terms of seven years, and no more than three of the five may be of the President’s political party.  However, the new Presidential administration will appoint a new Attorney General and a new Assistant Attorney General for Antitrust within the Department of Justice (DOJ); these appointments will be more susceptible to the new administration’s political agenda.  Despite the political influence that will be exerted on the DOJ, the areas that President Obama is expected to increase antitrust enforcement fall within the jurisdiction of FTC not the DOJ, energy and health care to name a few. 

Under the current administration the FTC has exhibited significant antitrust enforcement activity, challenging or investigating 22 merger cases over the past year.  In contrast, the DOJ has been criticized for failing to challenge large transactions where experts in antitrust felt the DOJ failed to oppose transactions that fell within the scope of antitrust regulations.  Despite the criticism of the DOJ’s actions it is important to recognize that the DOJ lacks the authority to block mergers, it has the power to investigate mergers and to bring a lawsuit against the merger in federal court, however the ultimate decision lies with the federal courts.  The limitations imposed upon the DOJ’s enforcement authority likely prevent the DOJ from challenging mergers where it seems violations of antitrust regulations are being committed but there is a lack of evidence to prove it in court. 

The jurisdiction of antitrust enforcement coupled with limitations on the power to enforce antitrust regulations make it unlikely that the incoming Presidential Administration will bring with it sweeping antitrust challenges. Given that the FTC has demonstrated a willingness to act over the past year, the political party in the White House seems to matter less to the FTC’s antitrust enforcement actions.  The DOJ may attempt to challenge more mergers in federal court, but the decision appears to rest with the court.   

Teva: Challenging the Patent Laws and Winning

Teva Pharmaceutical Industries must have some very talented lawyers.  The company seems to have perfected an interesting maneuver where it intentionally and knowingly begins selling generic copies of patented drugs prior to the relevant patent’s expiration.  Considering that Teva is the only generic drug manufacturer in the market against these brand name medicines, it can easily capture huge market share and profits while undercutting its competition.

How does the company get away with this? First, it finds patents that it believes are weak.  That is, patents that it believes can be tied up in litigation because they merely reflect “variations of existing ideas.” So Teva begins making copies of the brand-name drug covered by this “weak” patent.  Next, the brand-name manufacturer files suit against Teva.  However, U.S. law states that ongoing patent litigation can only bar Teva from producing copies of brand-name drug for the first 30 months of the legal process.  After the first 30 months of the ongoing legal battle Teva may begin flooding the market with and reaping enormous profits from its generic copy.

Thus, Teva has a significant incentive to drag out the legal process as long as its legal fees are not greater than the benefit it receives from selling its generic pharmaceuticals.  Indeed, potential downside exists if Teva eventually loses its lawsuit against the brand-name manufacturer it purposely infringes upon (the most recent victim was AstraZeneca who produces the asthma drug Pulmicort, and the next target is likely to be Eli Lilly’s osteoporosis drug, Evista). 

However, at least up until now, the potential downside risks have not caught up with Teva.  AstraZeneca has even agreed to let Teva stay in the market for asthma medication in exchange for undisclosed payments to avoid litigation.  Essentially, once Teva has “illegally” entered the market and eroded the monopolist’s market share, it may be cheaper to the patent holder to just let the entrant remain.

This “at-risk launch” strategy has enabled Teva, Israel’s largest company by market capitalization, to double its annual revenue over the last four years, and management’s goal is to double it again by 2012.  Management does view their strategy as too bold or reckless; instead, they view it as taking a calculated risk, carefully weighing the expected values of risk and reward, and the best means of fulfilling their obligation to get “affordable medicines into the system.”

“Teva Grabs Billions Gambling on Copies of Brand Drugs” from Bloomberg.com:

http://www.bloomberg.com/apps/news?pid=20601127&sid=aS52SijhbcTQ&refer=law

Is the goal of net neutrality clear and understandable to policy makers around the world?

As I read this interesting paper, in which law professor Tim Wu from Columbia University exposes a new idea to the already booming myriad of models suggested to secure the highly desirable full net neutrality objective, I wonder if the lack of policy and a patch making strategy from our governments in regards to technology matters suggests that policy makers really lack an understanding the reaching capacity and coverage of technology in our present and future lives.

This model takes the “last mile” service providers out of the equation leaving a cooperative effort of mostly property owners to decide how to interconnect their homes to the “larger network”. But is it simply a shift of power and attention from providers to co-ops associations?. Also the model is more applicable to property owners rather than to tenants, who by nature are not interested in enhancing the value of the property they live in. However, professor Wu has a relationship with Google and therefore is not “totally unbiased” about the situation. 

Again, this reading and some others, has led me to this paper on the Internet Governance Project about what is and what is not network neutrality and how political advocacy around bandwidth differentiation sometimes forgets that the whole point is to provide nondiscriminatory, universal access to internet resources.

Technology is an almost empty canvas waiting for policy that fosters innovation and open competition to be written. 

Jury Bias

The 10^th Circuit Court of Appeals has ruled that a juror’s racial bias cannot be used to overturn a conviction.  This has created a split among the appeals courts as the 9^th Circuit has ruled that racial bias may be used to overturn convictions, while the 3^rd Circuit issued a ruling that supported the 10^th Circuits view.

 

Whether to allow the used of racially biased statements and actions in an action to overturn a conviction rests upon the Federal Rules of Evidence Rule 606(b).  The rule does not allow jurors to testify “as to any matter or statements occurring during deliberations, except in limited circumstances:  for extraneous prejudicial information improperly brought to the jury’s attention, improper outside influences or mistake in the jury form.”  Anything outside of these exceptions may not be used.

 

The 10^th Circuit case involved an assault charge against an American Indian.  According to one juror, during deliberations the jury foreman said, ‘When Indians get alcohol, they all get drunk.”  Another juror supposedly wanted to ‘send a message back to the reservation.’ 

 

The 9^th Circuit heard a similar matter and came to a different conclusion stating that a juror’s testimony about racial bias can be used to “show deceit and to eliminate bias from the judicial system.”  The 10^th Circuit judge writing the opinion claims that the 9^th Circuit’s ruling was much too broad and invited too many challenges to viable jury verdicts.

 

One of these cases is likely headed to the US Supreme Court to solve the split among the circuit courts.  Something that may be foretelling is that current Supreme Court Justice Alito wrote a 3^rd Circuit opinion on a similar jury bias issue and came to the same result as the 10^th Circuit. 

 

Trade Secrets

In an interesting trade secrets case from California, both plaintiff and her attorney were sanctioned and fined by the court for violating a protective order by exposing the trade secret at issue to third parties. 

 

The plaintiff, Dale Willis, brought suit against PHL Associates Inc almost 15 years ago claiming that she had invented an animal vaccine while working at PHL.  PHL counter-sued Willis arguing that the vaccine was a trade secret and that she had stolen it.  The court had issued an order early in the case protecting any documents in the court file labeled confidential and under seal.  PHL filed a document under seal and labeled confidential which held the trade secret in question.  Somehow this document made it into the public portion of the file.  Willis’ attorney, Joanna Mendoza, discovered that the document was mis-filed and told her client (this also violated the court order).  Willis then told her friends and business associates about the mis-filed document and had them copy the document from the court file in hopes that exposing the document to the public would render it unable to be considered a trade secret.

 

Mendoza then filed a motion arguing that the document had become public and that ‘if PHL had trade secrets, it does not anymore as a direct result of  [filing the document in the public domain].’  PHL filed a motion for sanctions which the court granted and the court went on to fine Willis and Mendoza $44,000.

 

The interesting twist in this instance is that from the evidence presented it appeared that PHL's attorney had been responsible for the mis-filing.  Although they had labeled the document confidential they had not gone through the steps necessary to place the document under seal.  The court found that Willis and her attorney knew this document should have been under seal and should have treated it as such but instead acted in bad faith.

Policy blunders in Canada?

http://www.canada.com/montrealgazette/news/business/story.html?id=f3c5d0cf-28a8-45d7-9b2a-620b91e96132

 

It is a well-known fact that economic struggles are not currently confined to the

U.S.

  The article posted above discusses a recent and puzzling statement issued by

Canada

’s Minister of Finance.  Finance Minister Jim Flaherty illustrated plans to strongly pursue a balanced budgeted, enumerating $6B of spending cuts in the coming fiscal year.  The Canadian economy is not exempt from the struggles experienced by the other world economies (particularly its neighbor’s) so it would seem that some sort of stimulus would be much more appropriate.  The hypothesis is that the statement was spurred by political infighting and is merely designed to serve as a later example of Flaherty’s toughness on deficit spending (leading to the conclusion that a stimulus package would still be pursued).  However, even if government spending is increased in the future, damage has already been done as a result of the message this most recent statement has sent to the Canadian economy.  What was the reasoning behind this message?

Online gambling – legal or just loopholes?

There seems to be “confusion” on whether online gambling is really illegal or if it is just another example of laws not being able to keep up with technology.  Currently US bettors are using foreign sites that are privately owned as a way around the gambling restrictions.  A representative from

Nevada did introduce legislation that would allow a study of the effects of legalized Internet gambling.  Some of the concerns voiced here are about restrictions on those under 21 and how to pick out those individuals with gambling problems. 

 

One of the loopholes seems to be around online horse-racing bets.  Per the article – “The Interstate Horseracing Act, first passed in 1978 and amended in 2000, includes a provision that allows betting parlors to cover bets on tracks in other states. The industry interprets that language to include Internet bets, and several large firms now accept millions in wagers annually.”  Yet – the Justice Department has indicated that these bets are in fact illegal – but there has been no action taken against any of these sites. 

 

The Justice Department is now going after the companies that transfer funds for these bets in the

US market.  Two of these companies have been prosecuted under the 1961 Wire Act which was created to intercept phone calls between bookies – back in the “old days”.  These companies paid fines of around $100M and have since pulled out of the

US

market in order to avoid future troubles. 

 

There was an act passed in 2006 (the Unlawful Internet Gaming Enforcement Act), yet it seems that this law doesn’t define what illegal Internet gambling is.  It does tell banks to ban payments to offshore betting sites, but there is argument over how this can be controlled. 

 

The UIGEA and the US actions are being compared to the Prohibition approach to drinking in the 20s.  Many argue that by implementing these actions, the

US

government is forcing those who are going to gamble to do so in more dangerous ways since “reputable” companies have been forced out of doing business in the

US

.

 

With the college football bowl season and then the Super Bowl coming up, I’m sure there will be many people who place bets through the sites that are still operating.  This article leads me to believe that the only ones who should worry about this are the banks who are transferring the funds and possibly the betting sites – but not those making bets.

 

http://www.washingtonpost.com/wp-dyn/content/article/2008/11/30/AR2008113002006_pf.html

CEO Bailouts

It was feared early on that some of the hundreds of billions of dollars that the taxpayers were paying to bail out companies to save the economy were going to go towards top executives bonuses.  Early on it was reported that Congress was worried that top performing managing directors at investment banks could still receive about $625,000 in bonuses (down from $1.1M last year) and that the same could happen throughout companies that have also been helped.  Congress really wanted to let these companies know that they did not want to see that happen.

While we have seen companies like AIG spending large sums money on corporate retreats and others spending on conventions it appears that the companies might be slowly coming around.  Part of the EESA covers some employee compensation like "golden parachutes", while other financial responsibilities must be taken up by the companies themselves.  

It has been reported that top executives at Goldman Sachs are giving up their 2008 bonuses and that AIG senior executives will also not receive any 2008 bonuses as well as the CEO, Edward Liddy, only receiving a salary of $1.  This move will hopefully strengthen the tax payers trust in these companies and the companies are hoping to prove that they are not just in it for themselves but also want to help rebuild the economy.  Hopefully this is more than a reaction to Congress and that all of the companies take more responsibility and that the top executives stay on board to see this through.  The economy will not change over night, it is going to take a long time, but it is good to see some changes.

http://ibnlive.in.com/news/aig-says-no-2008-bonus-for-top-execs-ceo-gets-1/79031-7.html

 

http://news.yahoo.com/s/afp/20081117/bs_afp/useconomycompanygoldmansachs

 

http://abcnews.go.com/Business/story?id=6150746&page=1

Presidential Pardons

Article II, Section 2 of the United State Constitution gives pardon power to the president stating the president “shall have power to grant reprieves and pardons for offenses against the United States, except in cases of impeachment.”

The Supreme Court has interpreted this to be rather expansive including commutations of sentences, conditional pardons, etc.  From an administrative perspective, individuals convicted of federal crimes may apply for pardon directly to the president (even via the internet).  Requests are then reviewed by the Office of the Pardon Attorney (which resides under the DOJ) and a positive or negative recommendation is made to the president.  The president then gives either a thumbs-up or a thumbs-down.

A few of the pardons are controversial and for high-profile convictions, like the pardon of Marc Rich’s tax evasion charges by Clinton or the commutation of Scooter Libby’s prison sentence by Bush.  These pardons can spark outrage and debate over the abuse of clemency power.  However, most are for individuals that committed crimes long ago and have no connection to the president. 

While the president and DOJ are under no obligation to reveal the reason for pardons, reporters are picking up on a trend in some of the recent pardons from President Bush.  It seems that he has pardoned numerous citizens of their federal crimes (all non-violent in nature) to restore their right to possess firearms.  Many of those pardoned are former avid hunters or sport shooters.  While the reason for the pardon does not have to be disclosed, this seems reasonable given the current president’s support of second amendment rights.

It will be interested to see who, and maybe more importantly how many pardons are issued by the president-elect.  Currently George W. Bush has offered the second fewest pardons (only to his father) since World War II.

http://www.washingtonpost.com/wp-dyn/content/article/2008/11/23/AR2008112302097.html

http://online.wsj.com/article/SB122790763963865173.html

http://www.usdoj.gov/pardon/pardon_instructions.htm

Either Way We’ll Have to Pay

In my blog last week I discussed articles about the bailout of DEPFA Bank and the Bank’s impact on Wisconsin school boards.  DEPFA was mentioned again last week in a Barron’s article (A Mess in the Muni Market, by Jacqueline Doherty, Monday, November 24, 2008) and available here:

http://online.barrons.com/article/SB122732198216750239.html?mod=rss_barrons_features

What I didn’t discuss in detail last week is DEPFA’s importance in the US municipal finance market as a liquidity provider.  Many state and local municipalities have long relied on cheap, short-term financing in the form of Variable Rate Demand Obligations for everything from infrastructure to housing projects.  This article discusses the problem States are having as these bonds are put bank to the liquidity banks such as DEPFA.  The States can’t refinance out because of the enormous losses they would face as a function of the interest rate swaps they entered into as a part of the overall financing.  Under a refinance these swaps would have to be terminated and the loss in value picked up by the States.

California is highlighted in the article as the author reports that the State has $1.75 billion maturing in 2009, and $91MM in VRDO’s that have already been put back to banks.  The State is asking the Federal Government to provide help by buying VRDO’s or giving banks the capital to do the same.  The State reportedly argues that if the Treasury does not take this action, municipalities will have no other choice but to seek longer-term financing, driving up rates in the long-term municipal bond market, thus costing taxpayers.

My reaction to this logic is that it is going to cost taxpayers either way.  I certainly hope that someone is using a computer (or a least a calculator) to determine the proper course of action, if any, so as to minimize the cost to us, the US taxpayer.

The real power of unions - to hurt their members??

http://www6.lexisnexis.com/publisher/EndUser?Action=UserDisplayFullDocument&orgId=607&docId=l:l:892230826&topicId=12755&source=undefined&start=1&topics=single

 

With all the talk in last class about the UAW and the debate about how their power has influenced the industry, I came across the above article about a case the Supreme Court is hearing a case that resulted from a union’s refusal to use its power to influence an industry.

The case, 14 Penn Plaza v. Pyett, centers on the re-assignment of older security guards from visible, less-physical jobs to less-prestigious, more demanding positions. These security guards then complained to their local union, citing that “… Temco and the building owners, Pennsylvania Building and 14 Penn Plaza, violated the collective bargaining agreement by reassigning them to other jobs. They also alleged the reassignments violated the provision of the agreement prohibiting age discrimination.”

Perhaps in non-union fashion, the employees’ claims of discrimination were actually denied by the union. The men then sued at their own will, and, in response, the defendants moved for arbitration in lieu of litigation (as they cited that the collective bargaining agreement provides such claims must be resolved through arbitration, which already happened). Both a federal judge and a Court of Appeals denied the motion.

The article sums the issue up nicely by saying, “the employer and building owners phrase the question before the [Supreme] court as whether the arbitration clause of a collective bargaining agreement, "freely negotiated by a union and an employer," is enforceable. The employees, on the other hand, phrase the question before the court as whether an arbitration agreement between a union and an employer preclude an employee from filing a lawsuit under the Age Discrimination in Employment Act of 1967 when the union refuses to pursue the claim in arbitration.”

There appear to be two conflicting precedent opinions: Gilmer v. Interstate/Johnson Lane Corp, which effectively said that submitting an age discrimination claim to arbitration isn’t a violation of the collective bargaining agreement; and Rogers v. New York University, which said that such submissions are not enforceable (citing another case, Alexander v. Gardner Denver Co.). There seems to be some controversy over whether the opinion in the Gardner Denver case is “dead” due to the opinion rendered in Gilmer (which is essentially what the defendant is arguing), but given that is was cited in cases earlier in 2008, the answer seems unclear.  It will be interesting to see how the upcoming SC proceedings play out – there seem to be many factors at play here (in addition to conflicting historical actions) such as the more favorable view of arbitration today than in previous decades and whether the union was looking out for the plaintiff’s best interest when it denied their claim or its own.

Who's Watching the Watchers?

I received the following email from my local Urban Wildlife Coalition regarding Forest Preserve Burning:

 

We've learned that the Forest Preserve District of Cook County (FPDCC) plans to begin large-scale burns on sites in our area such as LaBagh Woods, Bunker Hill, Indian Road Woods and Miami Woods as early as the next two weeks.

The only way to prevent this is to demonstrate that there is significant community opposition. Please make a point to contact the officials below with your concerns and pass this information on to like-minded family, friends and neighbors in your address book as soon as you receive this. If you have not already, please sign our online petition. 

Here's a quick refresher on burning:

Burning is one of the practices that FPDCC and other restoration proponents use to reshape natural areas into a state that they believe existed before European settlement. Species that restorationists believe were present prior to this are characterized as native. Other plant and animal species are designated invasive and targeted for removal.

In our area, which was historically wooded, existing forests are being carved into prairies and savannas. Staff and volunteers cut healthy trees they deem undesirable, including basswood, poplar, maple, green ash, aspen, dogwood, willow, black cherry, hawthorn and elm. Because these newly created landscapes are artificial, they require perpetual use of herbicides and burning to maintain them.

Herbicides such as Garlon 4 are applied to keep the cut trees from re-sprouting and large-scale burns are used to keep vegetation in the cleared areas from regenerating. In addition to killing healthy trees, clear-cutting and burning destroy established wildlife habitat and burns kill wildlife caught in the fires.

According to maps provided by FPDCC, significant portions of each site will be burned (see links below to view). See the attached photograph of a large-scale burn from the restoration organization Chicago Wilderness to view what one looks like. 

Besides the environmental impact, burns like these pose health risks from particulate matter that is equivalent to burning a massive pile of cigarettes and are opposed by the Respiratory Health Association of Metropolitan Chicago.

In an urban setting like ours, where FPDCC plans to burn as close as 300 feet from homes and businesses, there is also the threat of an out of control burn, which has happened at least six times statewide since 1993. Nationally, out of control burns include a 2000 Los Alamos, New Mexico fire that caused $1 billion worth of damage and a recent Florida fire where the smoke caused a pileup that killed four people.

Thanks for your help opposing these practices in our community.

The opposing viewpoint primarily uses environmentalism in its argument for restoration.  Invasive species have been introduced via human beings, so we must be the ones to remove these overbearing species, or so the argument goes.

 

Further review of the issue will note quite a lot of passion on both sides.  However, there seems to be a unique make-up of the constituent parties.  It appears that most of the Pro-Restoration (pro-burning) folk are not immediately local to the Forest Preserves while most of the Pro-Wildlife (anti-burning) folk live in and around the Forest Preserves. 

 

This reminds me one of our topics of discussion; Who’s Watching the Watchers.  Presumably, the Forest Preserve Officials are elected or appointed to both establish policy and execute care of the grounds.  I would like to believe that appointed/elected officials delicately balance what their constituency wants with the needs of those outside the constituency and with other influences.  For example, any established speed limit should be appropriate to those who live near the road in question, should bear in mind the use of the road by others, and should account for data concerning vehicle safety. 

 

The Preservationist policies undertaken by the Forest Preserve Officials appear, in my mind to consider little about the forests in question other than returning them to a time that has not existed for hundreds of years.  What avenue exists for facing the Preservationists who have been elected/appointed?  Do those of us who live near-by really have the energy, money, and time to do battle with elected/appointed officials?  Can we afford not to?

Apple, Nintendo, and Other Great Christmas Gifts

“I can’t wait to get my hands on my new Christmas gift; a brand new high powered computer from Psystar.”  What?!  Who?

Psystar is an upstart computer company from Florida who intended to build Intel-based computers that operate the Mac OSX – the Apple Operating System.  Psystar began producing and selling hardware that was capable of running Mac OSX.  Psystar was loading a purportedly modified version of Mac OSX onto this hardware without any license from Apple.  Because the operating system was pirated, traditional OSX online updates were not available to purchasers of Psystar’s machines, so Psystar would modify the updates and make them available to its customers. 

Some of the above details are quite difficult to cull from the four primary filings (links).  Whether or not you believe Psystar, I had been reading Blog posts regarding Psystar beginning when Psystar was a start-up.  Generally, the technology blogs held the above version of what was transpiring to be true.

The four linked documents are the four primary filings surrounding this case.

·         Apple’s Initial Complaint

·         Psystar’s Answers, Affirmative Defenses, and Counterclaims

·         Apple’s Motion to Dismiss Counterclaims

·         Judge’s Order to Dismiss Counterclaims

These documents have it all.  Particularly, Psystar’s ramblings bring to bear every legal weapon in the arsenal including the kitchen sink.  Summarily, Apple claims copyright infringement and trademark infringement among other aggravations.  Psystar denies everything and counterclaims with essentially anti-trust.  Apple points out all the flaws in Psystar’s argument and asks for dismissal of the counterclaims.  The district judge agrees with Apple.

Among the many interesting claims are a few items of interest.  Apple spends a few paragraphs documenting the appropriateness of their chosen venue – Northern California.  Clearly, with Psystar in Florida coupled with its small size, Apple has much to gain by promoting the Northern California venue.

As was discussed in class, the primary arguments surrounding the anti-trust case against Apple are market definition and market power.  Psystar argues that Apple is in a market by themselves, and subsequently is participating in anticompetitive activities and clearly has market power.  Apple claims, and the courts agree that Apple is competing in the PC marketplace and that they have little or no market power.  Again, the issue at hand is the tying of the OSX operating system to Apple-Branded hardware.

It is of interest that Nintendo faced the anticompetitive issues of tying at the apogee of its NES video game console.  Nintendo’s practices of licensing game development to specific companies and allowing only Nintendo-licensed cartridges to be played on their systems came under fire.  Nintendo, at that time, had market power and tying the systems and the cartridges had been considered a clear indication of anticompetitive behavior.  Nintendo, however, came away victorious and paved the way for a loosening of anticompetitive tying policies. 

Nintendo won the case primarily due to the failure of Atari.  Atari, at one time dominated the home video console market.  The predominant thought was that the home video console market fell flat and failed due to the entry of poor quality games from any number of manufacturers.  Nintendo recognized this mishap and remedied the situation with game licensing.  By convincing the courts that tying was beneficial to Nintendo, the industry, and the consumer, Nintendo was able to continue its licensing practices. 

Apple is clearly following similar logic, although the legal arguments are less difficult now.  By closely marrying their software to their hardware, Apple creates a quality-specific product.  Microsoft continues to dabble in this arena with marketing activities such as Vista Ready; however their efforts are not at the same level as Apple.  If the computer industry was cut substantially differently, it is unclear whether Apple or Microsoft would be able to continue to tie software and hardware if either had clear market power.  I believe that if Apple were ever to overtake Microsoft in operating system sales, a court case against Apple may fall the other way.

How should Google be governed worldwide?

http://www.nytimes.com/2008/11/30/magazine/30google-t.html?pagewanted=1&_r=1&sq=law&st=cse&scp=4

In March of last year, a Turkish judge ordered all of Turkey's telecom providers to block access to You Tube, because of inappropriate videos thatinsulted Mustafa Kemal Ataturk, the founder of modern Turkey.  Such an offense is a crime under Turkish law.  Google, which owns YouTube, sent Nicole Wong, deputy general counsel of Google, to intervene in this difficult situation.  Google is familiar to such controversy.  Thailand blocked access to YouTube in 2006 because of videos thought to be offensive to the Thai culture.  Google was asked to remove the offensive materials before the Thai government would unblock the website. 

Counsel Wong had discovered that the video posted on YouTube titled, "Today's news: Kamal Ataturk was gay!", was a news parody posted by Greek football fans looking to taunt their Turkish rivals.  Google users had "flagged" or removed the offensive videos.  Therefore, Counselor Wong hadrequested Turkey lift its ban on the YouTube website.  Unfortunately, Turkish officials objected to new YouTube videos they viewed as offensive to the Turkish culture.  One video was posted that superimposed Mustafa Ataturk's image on characters from "Queer Eye for the Straight Guy."  Additional footageon the site included Kurdish militia recruitment videos.

Google's task was to figure out which videos were illegal in Turkey, due to its offensive content, while protecting and promoting freedom of speech.  Wong also had to take into account the safety of fellow Google employees stationed in Turkey.  Google resolved the issue with I.P. blocking, a method that could deny access to videos that violated Turkish law, specifically for Turkey.  The method proved to be a success; at least for the moment.  In June, a Turkish prosecutor, requested that Google block access to any offending videos worldwide to protect the rights of Turks living all over the world.  Google refused such demands, on the theory that "one nation's government shouldn't be able to set the limits of speech for Internet users worldwide."  Unfortunately, no compromise was ever reached between both parties.  YouTube is still blocked in Turkey. 

We have covered so many topics throughout this course that relate to this issue. What role can various governments have over companies that are global icons, such as Google?  Where does the jurisdiction begin and end?  Should Google be forced to remove all content deemed to be offensive to the Turkish culture?  My personal opinion is that at some point Google has to take a stand.  They should not take down every single post or video because of some person or governmental bully tactics.  I am sure that if Google gives in to one government, then they will have pressure of the same nature from another government in the near future.  Sure, Google should be aware and accept some responsibility for the content placed on its site,(only because at some point, they have the right to remove it) and should not want to offend any persons regardless of race, religion, sex, etc....  I guess you can say that Google is a victim of its own power.  They created the power to reach billions of people around the world.  But with all of its success, Google knows that they can't make all people happy all of the time.  In this case, governments.

We Need A Targeted and Measured Bailout Policy

 

Over the past three months the federal government’s role within the private sector has increased significantly, as the government has scrambled to deal with the credit crisis. This observer fully appreciates the serious nature of the current financial situation and recognizes the Treasury’s role in taking some action to stem the crisis. However, in tough times there is a temptation to panic and implement anti-free market policies that are short-sited, leading to long-term negative consequences.  

 

Over the past three decades the practice of the federal government directly intervening in the private sector has been controversial and has generated extremely mixed results. On one hand, the federal government issued $1.5 billion in loan guarantees on behalf of a failing Chrysler in 1979. These loans were fully repaid in 1983 and the taxpayer came out whole. This is one of the better results from direct government intervention. On the other hand, the federal GSEs like Fannie and Freddie helped the government play a significant role in the mortgage adventure of the early 2000’s. This government influence created negative externalities that contributed to the current credit crisis. Thus, we should practice foresight and have a vigorous debate about the major government interventions in the private sector that are being proposed today.

 

Our bailout policy should also be targeted given that we live in a world of scarce resources and the magnitude of proposed bailouts has the potential to greatly expand the national debt. The federal budget deficit in FY 2008 was $438 billion, so all things being equal this deficit will likely increase in FY 2009 due to lower tax receipts. However, FY 2009 will also bear the cost of the $700 billion TARP and the Obama fiscal stimulus package that hopes to generate 2.5 million new jobs. The

U.S.

is fighting two wars abroad and has a host of other financial obligations. Given these commitments the federal deficit could easily hit $1 trillion in FY 2009. To give a little perspective to this number, the current national debt is $10.7 trillion, so the national debt could increase by 10% in one year and by an even greater magnitude as a percentage of GDP (as GDP contracts in 2009). This means three things: 1) The federal government should exercise extreme fiscal responsibility in cutting back marginal or duplicated federal programs, 2) entitlement spending should not be expanded, and 3) only the most crucial federal capital injections into the private companies should be made.

 

Bailout policy works best when it absorbs shocks to the economic infrastructure of the country, where the private sector is unable to do so. This is illustrated by Secretary Paulson’s efforts to inject capital into banks to revive the money circulation in the banking sector. Conversely, bailouts should not be used to prop-up failing systems and organizations in order to temporarily help the few and the expense of the many. Here the proposed $25 billion bailout of the domestic autos serves as a good example. It is hard for anyone to argue that the Big 3 can restructure their business models, dealer networks, union contracts, and assembly lines outside of the mechanism of bankruptcy court. I defer a full analysis here to the other blogs on this example.

 

In conclusion, the topic of federal bailouts is complex and there are well intentioned individuals on all sides of the argument. This observer still feels strongly in the power of free market capitalism. A measured and targeted bailout policy will help to limit the burden of the national debt and will prevent federal money from propping up failed organizations creating market inefficiencies. If bailout policy is done well, it will be temporary and the government will return its new found responsibilities for private companies back to the private sector where they belong.

"Sovereign Immunity" in Chinese Vitamin Price Fixing

In 2005 a Texas feed maker, Animal Science Products Inc, filed suit against four Chinese vitamin C makers, alleging that their dominant position in the market (60% market share) was a result of price-fixing, and that U.S. consumers, farmers and food makers have been forced to pay exorbitantly higher prices for the nutrient.

The companies’ defense is on the basis of “sovereign immunity,” which states that is a government orders a company to take a specific action, it is generally considered an “act of state” and therefore cannot be prosecuted in foreign courts.  OPEC is one example where members act as sovereign states, not companies, and therefore are protected against criminal prosecution or civil suits in U.S. courts.

Recently unsealed court documents brought this evidence to bear.  In New York, Judge Trager rejected the sovereign immunity defense, finding that documents presented by the defense “suggest voluntary, rather than compelled” action to collude on prices.  The case will be going to trial (date unknown).

This is the second time such a thing has happened in the vitamin industry.  In the late 1990’s, Swiss, German, and Japanese companies were found guilty of price-fixing and made to pay both criminal fines and civil judgments totaling $1.2 billion in both Europe and the U.S.  When European and Japanese companies exited the market, it opened up to the Chinese and the process began again.

This is not the first time Chinese companies have faced price-fixing allegations.  Resco Products filed suit in the steelmaking industry, alleging price-fixing in the magnesite market (an input).  The tactic was the same as in the vitamin market – price low for as long as takes to drive rivals out of the market, then begin raising prices to recoup costs and turn a profit.  The Chinese defense was also the same – sovereign immunity.

This case is important for many reasons.  Just this year, China enacted its own rules against antitrust, restricting monopolistic practices including price-fixing.  However, the penalties are civil, not criminal, and so far do not apply to exports.  This situation bears on free trade with developing nations and is essentially the opposite of a tariff.  Tariffs impose a tax on imports to a country, driving the price artificially high in a particular market.  In this case, Chinese companies employed predatory pricing, where prices are artificially low, in order to push out competition so they could raise prices and keep them high.  China’s ministry of commerce has said the government is attempting to play a central role in China’s shift to a market-oriented economy, but does that excuse clear antitrust behavior in the global realm?

My stance is that it does not.  I completely understand that China is at a turning point in its economy and judicial system, but resorting to price-fixing “at the behest” of its government (not really) is going a bit far to prove itself on the national stage.  China should take a lesson from previous attempts in this arena – and its own troubles in other industries – and compete on more ethical terms.  To me this says the products aren’t that great, so we need to drive out our rivals in order to get business.  Not sustainable.  China should be subject to the same rules as everyone else when it comes to global markets.  It will be interesting to see how this plays out in terms of setting precedence in global antitrust law.

http://online.wsj.com/article/SB122757356771754983.html
http://www.law.com/jsp/law/international/LawArticleIntl.jsp?id=1202425997056

Lawyers getting outsourced!!!

I came upon this WSJ article recently that described how certain legal responsibilties are being outsourced to India.  The reason behind this is simple:  reduce costs.  According to the article, work typically completed by associates at $200/hr can be done by Indian lawyers for $75 - $100/hr.  I understand in a global economy that companies need to find creative cost cutting measures.  How is this legal?  Lawyers in the U.S. need to take the bar exam for every state they intend to practice law.  As technology continues to develop, it will only make it easier to communicate globally and give rise to potentially more complex legal proceedings outsourced. 

If outsourcing continues to evolve for lawyers (i.e. more responsibilty outsourced), then how should the US courts address this issue?  Can the courts dictate what legal work can and can't be outsourced?

Thoughts? 

http://online.wsj.com/article/SB122765161306957779.html

Dining In

My husband, who has a weird sense of a “fun job” always wanted to be a taxi driver.  So, when he found out about this company called “Dining-In”, he applied for the job.  “Dining In” does not belong to any restaurants, but they have contracts with restaurants in the city, and they deliver the take-out orders that the restaurants receive to the customers for a fee.   The restaurants pay Dining In $7 per order for delivering to their customers.  My husband was very excited about this job - he gets to drive around in the city, gets to visit different restaurants, and different offices and condos..etc.  Anyway, during the application process, they told him they would do a background check on him, which he consented.  On the first day, he spent three hours in orientation, during which he was told of all the rules and how the pay system worked.  He would get paid $3.50 per order plus whatever tip he would get from the customers, who put in the take-out orders.  He signed the paper work and started to work.  After he started his work, he started to find out all the fees that Dinning In was charging their employees.  First, he had to buy two “Dining In” shirts he was supposed to wear during the delivery for $12 each.  Secondly, he had to put down a hefty deposit for the Dining-In jacket, the cooler, the hot-oven bag, and the permit to be able to park in the loading zone.  Then, he found out that he also had to pay $3 a day for the phone he used during the delivery.  When he got his first paycheck, he also found out that he was charged for the background check expenses.  None of these charges was either told verbally or in the contract even though the contract delineated the rules for the pay-system they had. 

This made me think about our first class on contracts.  On the one hand, a contract “includes only the terms on which the parties have agreed”, and my husband as the new employee felt deceived and ripped off as he was charged for items of which he was not told beforehand, items that was not in the contract he signed, and the items of which were never mentioned during the orientation.  He felt that Dining-In violated the contract by adding items afterwards.  However, as I recall from the class, he COULD have walked away from the job when he found out about these expenses.  By not walking away, and decided to go ahead anyway when Dinning-In told him of these expenses RIGHT before he started working, he WAS agreeing to pay for these and accepting the terms of the “contract”.  When I thought about it further, it made me wonder if the employees were told of these expenses ahead of the time, whether everyone would accept the terms.  With tangible goods, once the package is opened, and the buyer does not agree with the contract, the buyer has the time to decided whether or not he wants to accept the terms of the contract and keep it or take it back.  Situations like Dinning-In seems a little different to me as the employees are fully expecting to get to work, all excited about this “fun job”,  leave the house and drive several miles to get to “Dining-In” for their delivery assignments, and THEN find out about the added items on the contract.  In their minds, when they leave the house, they have already started working, and they are already in the working mode.  To impose it on them to decide at this point whether or not they should accept the contract, especially to decide it within seconds, does not seem fair at its best.  Anyway, charging the background check expense AFTER the employees have already started working seems like a violation of contract. 

EU Drops Anti-trust lawsuit against E.ON

The European Commission dropped its anti-trust lawsuit against the German electric company E.ON AG on Wednesday.  It previously alleged that the company was holding back available capacity which in turn was driving up overall costs to the consumers.  The company agreed to divest 20% of holdings (i.e. available capacity) for the European Commission to drop the case. 

Considering the high barriers to entry in this industry, how long will it take for new competitors to arise?  What happens to the capacity if no competitors are able to purchase it?  Is the statute of limitation before E.ON AG can use the capacity for itself?  I would have thought that they would have already have identified buyers for the capacity right away.  Additionally, it never mentioned whether or not the company would have to reduce prices until competitors would purchase the additional capacity.

Thoughts?

http://online.wsj.com/article/SB122773753334261081.html

Are we really aware of our online privacy?

As more and more of our physical lives slowly migrate to our digital persona, I really wonder how informed is the vast majority of people of what information is being captured from their online activities and how this information is being used. In real life, people shut their doors, close their blinds or simply stay at home. But what about their online rituals and click-streams? Are people aware of the amount, quality and frequency that they provide to their content publishers?

On a daily basis we logon to our webmail, share on Facebook , search for low prices on the products we consume, discuss on Digg, interact with our avatar in a VR world, usually with our doors widely open and our behaviors completely exposed to whomever is willing to dig into them.

This latest Facebook feature release sparks again in me the thought of how these inter-site deals affect our online path. When we are on real life looking for a store, we deal with fixed streets, signs, ads and buildings. Online, our digital dossier allows vendors to dynamically change the landscape removing or adding options/links at their will.

I wonder if our freedom of choice is actually helped or punished by technology and even more, if this freedom is being carefully treated by the slowly developing policy worldwide.

Google Earth, what’s its purpose?

First, let me say, I’m not blaming Google Earth on the terrorist attacks that happened in India.  If someone is destined to attack someone else, they will always find a way. 

However, I’ve always had ill thoughts knowing this tool exists, and it can be used to view street level detail on virtually everything.  The terrorists that attacked India used it to gain intelligence on targets this past week.  It brings a lot of concerns about Google Earth back to the forefront of debate.   India was the very country that was worried about the tool being able to access sensitive information.  In 2005, the Indian President voiced their concerns, here is an article summarizing them…

http://www.physorg.com/news11634.html

Unfortunately, many of his concerns came true.  Should Google revisit how this tool is used?  Do we really need high resolution imagery at street level?  If you use this tool, you can see your house, cars on the street.   It seems this tool could be used maliciously in a variety of ways by criminals.  A few could be spying, looking at schools, scanning for specific cars to steal, etc.   The U.S. took a lot of their assets off the viewable list, the white house is one.  Do I have the same privilege with my house?   The world can view my house, but I can’t view Area 51.  I know, bad analogy for many reasons, but it seems like the invasion of privacy distinction between the individual and the state is ridiculous.  I’m curious if anything is really going to come out about the tool in the coming weeks, or if Google will at least issue a statement. 

Stem Cell Patents Working Their Way Through U.S. and European Patent Systems

        Last Thursday (11/27), The Wisconsin Alumni Research Foundation (“WARF”) was dealt a blow by the Enlarged Board of Appeal of the European Patent Office (“EPO”) when the EPO upheld a June 2008 decision to reject a specific 1995 patent application for a procedure to isolation and culture of human embryonic stem cells.  The board based its decision on European Patent Convention provisions that state it is “not possible to grant a patent for an invention which necessarily involves the use and destruction of human embryos,” that “do not allow patenting inventions whose commercial exploitation would be contrary to public order or morality” and that “prohibit patenting on uses of human embryos for industrial or commercial purposes.” 

11/27 EPO press release on decision

 the EPO decision

WARF response to decision

While the decision is a setback for WARF, the EPO specifically stated that the “decision does not concern the general question of human stem cell patentability,” a statement that undoubtedly eased the concern of a few stem cell investors and researchers.  Geron Corporation, a California-based biopharmaceutical company, even put out a press release emphasizing the importance of the specificity and narrowness of the decision.  Despite this argument that the decision was very narrow in its focus, the PharmaTimes is reporting that as many as 200 similar patents could be challenged (in Europe) using similar arguments under the decision.

While the outcome and implications of the recent European decision differ greatly, The Guardian reports that, “Some experts believe this will provide a boost for European companies developing technologies based on human embryonic stem cells. The patent would have covered virtually any application of human embryonic stem cells or cells derived from them. Had it been granted, companies that develop therapies involving embryonic stem cells may have been obliged to pay licences for using the technology” and quoted Dr. Robin Lovell-Badge, the Head of Stem Cell Biology and Developmental Genetics at the National Institute for Medical Research as saying, "I can imagine there will be sighs of relief.  There are going to be lots of other biotech companies interested in either applications for the cells or deriving products from the cells, or using the cells in screening methodology.”

            The U.S. Patent and Trademark Office upheld, in June, similar patent certificates that it had issued WARF regarding Dr. James Thompson’s discovery for the “isolation and culture of primate and human embryonic stem cells”.  The U.S. Patent Office reexamined the WARF patents after receiving a challenge brought forth by the Public Patent Foundation  (a.k.a. PUBPAT – a non-profit organization that claims to represent the “public’s interest in the patent system”) and the Foundation for Taxpayer and Consumer Rights (now called Consumer Watchdog).  These groups argue that the patents awarded WARF and Dr. Thompson should have never been issued in the first place because his work was “obvious in the light of previous scientific research, making his work unpatentable” and that “to receive a patent, something must be new, useful and non-obvious.”  It also argues that the patents awarded WARF were based on research performed roughly 15 years earlier.  Nevertheless, their claims were not found to be convincing enough and the U.S. Patent and Trademark Office upheld WARF’s patents.   WARF press release on the U.S. Patent Office decision 

FBI's Prying Eyes

New FBI Guidelines are scheduled to go into effect tomorrow, which will give broader authority to agents – authority not seen since the 1970’s. Under the new guidelines, agents will only need to perceive a hypothetical “threat” to engage in intrusive surveillance, such as spying on a person. In the soon-to-be former guidelines, agents needed factual predication before pursuing such activities. These guidelines were adopted in the mid-1970’s after investigations uncovered widespread violation of constitutional rights by the FBI, including the politically-driven spying on figures such as Martin Luther King Jr.

 

What are the potential ramifications of these expanded guidelines? A person may be targeted because of his/her religion or national origin (recall that the subject need only be perceived as a “threat”). The ACLU and some members of Congress have already spoken against the expanded guidelines; the FBI’s response is that there would still need to be a “valid purpose” to conduct an investigation; however, the language in the guidelines does not have the same reassurance.

 

I recognize that threats to our nation require that we recalibrate in some ways the balance between liberties and national security. However, I feel that the past proves this recalibration attempt to be way off. Following his “I have a dream” speech in

Washington

DC

, the FBI began secretly tracking King’s flights and watching his associates. Shortly thereafter, the FBI bugged the offices of King. Thousands of memos/recordings later, the FBI was unable to prove that King was a threat. The expanded guidelines (which resemble the FBI’s powers during King’s time) coupled with the heightened sense of suspicion in today’s world seems to be a recipe of wiretapping of any outspoken individual.

 

http://www.aclu.org/safefree/general/36847prs20080917.html

http://www.msnbc.msn.com/id/27986133/

http://www.nytimes.com/2008/08/21/washington/21fbi.html?adxnnl=1&adxnnlx=1222721525-LPDWtHLxqou3ebDz+xOZtQ

http://www.cnn.com/2008/US/03/31/mlk.fbi.conspiracy/index.html

 

Urgency and Effectiveness: What's the Bailout Driver? Is Balance Possible?

I stumbled across an editorial in the New York Times this weekend that revists a point made previously in the quarter.  Essentially, the basic idea is that big problems (e.g. Big 3, Mortgage Crisis, Citi, etc) cannot truly be solved with short-sighted remedies.  Rather, a sustainable solution requires that time be taken to develop objectives, weigh risks with rewards (short and long-term) and develop a well crafted, solid plan.  Given the current economy, nobody argues about the fact we are in crisis-mode.  Subsequently, urgency is demanded.  But we also need to take the necessary moments to consider the big picture.  Trillions of dollars have already been spent and we are still seeing a downward spiral.  The more money that is thrown around without taking the time to consider long-term implications, the more complicated (and arguably expensive) a situation we find ourselves facing.

The Big Three Bailout discussion may be edging towards a move in the right direction.  The quick bailout option has faced a lot of resistance – and rightly so.   The money-making business model of any one of the manufacturers is flawed- and now the companies are buried with expenses preventing a recovery.  Will adding bailout money help without a drastic restructuring?  Not likely.  The Big Three need a strategic plan.  The thinking needs to start happening outside as well as inside the box.  People are definitely throwing out ideas.  One article suggests a simultaneous bankruptcy for each of the three companies, which would be interesting and could make some progress.  On the train, I overheard a conversation about revamping the dealership network-- something that should probably be considered regardless of what else goes on.  Another idea is consolidation within the industry to help develop a more streamlined and cost-effective process.   There are lots of suggestions on the table.  The point is that a plan should take those and other possibilities into consideration to develop a long-term solution rather than constantly making decisions around short-term impact. 

To further the point, it may be of interest to point out that a recent audit of the Financial Bailout Plan came back with less than flying colors.  When discussing the Bailout Plan in general, noted was “how quickly the program was carried out, how much its focus shifted over time and how little feedback Treasury has had from oversight agencies so far.”  In other words, the quick implementation of the program combined with lack of focus and minimal reporting measurement indicates poor overall planning and little long-term analysis.

As the editorial points out, it is difficult to exit the emergency-reaction-mode that we have entered.  The silver lining rests with President-elect Obama as he offers some hope for quick-acting, wise-thinking and truly effective solutions.  We all shall see.

References:

 Editorial

http://www.nytimes.com/2008/11/30/opinion/30sun1.html

Big Three Coordinated Filing Suggestion

http://www.nytimes.com/2008/11/25/opinion/25kahneman.html

Financial Bailout Plan Audit

http://www.nytimes.com/2008/11/26/business/economy/26tarp.html

 

 

 

“The Internet is a series of tubes!”

        “The Internet is a series of tubes,” as proclaimed by long-time and now outgoing U.S. Senator (AK) Ted Stevens, is said to describe the limits of Internet bandwidth.  His famous speech (highly recommended listening/viewing) was given in opposition to a proposed 2006 amendment to a telecommunications bill that would have mandated network neutrality, the notion that Internet carriers/providers should treat Internet content equally and that consumers should be allowed equal access to the Internet regardless of bandwidth usage.  The amendment never made onto the bill, but the debate over network neutrality continues. 

        Proponents of net neutrality argue that the Internet is a public good and that nobody should “control” or prioritize content availability or manage/segregate the speed of Internet access.  Google, a major supporter of a neutral network, has even established its own guide to Net Neutrality, with links to SaveTheInternet, the Open Internet Coalition and even a petition to Congress “for Internet freedom”.  Opponents of net neutrality argue that there is limited bandwidth availability and providers should be able to practice price discrimination and that network neutrality stifles innovation and product research. 

        Senator Stevens’ 2006 speech propelled the debate into the mainstream and net neutrality is rearing its head again as a new Congress gets set to reconvene.  Recent judgments by the FCC have upheld the notion of net neutrality.  The FCC, however, handles net neutrality issues on a case-by-case basis.  The FCC even included net neutrality provisions in their approval of AT&T’s 2006 acquisition of Bell South and has been involved in a back-and-forth fight with Comcast over Comcast’s slowing/blocking (described by Comcast as “network management” or “delaying” and described by others as “throttling”) of the file sharing technology, BitTorrent.  Specific net neutrality legislation, on the other hand, would lay the ground rules for network providers and would likely prevent/regulate “network management” by broadband network providers.

        Should broadband providers be allowed the “throttle” certain websites (like BitTorrent) if they take up a significant amount of a network’s bandwidth or be allowed to charge higher prices for access to “premium” Internet speeds?   Or are you a proponent of net neutrality, the concept of the Internet as a public good and equal access to all - despite its impact on the ability of companies to practice price discrimination and "network management"?

        Further reading/viewing:

PC World article – “Congress to Push for Net Neutrality Legislation”

2005 FCC Internet Policy Statement on reasonable network management

cnet article on the FCC / Comcast battle

YouTube “series of tubes” remixes (#1  - 3,463,000 views , #2 - 990,000 views)

Fighting Back against Patent Trolls

A new company is launching with the purpose of acquiring patents to shield technology companies from costly patent lawsuits.  The firm, RPX, is a San Francisco-based start-up that is calling itself a "defensive patent aggregator." The company plans to buy available patents to keep them out of the hands of patent trolls that wish to use patents to sue other companies for royalties or licensing fees.

RPX will sell memberships to companies for a fixed annual fee that could range from $35,000 to $4.9 million, depending on the member company's operating income. In exchange for this membership, companies will receive the patent licenses purchased by RPX.

Apparently, blue chip companies have already started signing up including Cisco Systems and IBM.  RPX says it has acquired 150 patents and has submitted 60 patent applications worth a total of $40 million in areas including Internet search, radio frequency identification, and mobile technology.  RPX has essentially created a membership club where large and small technology companies pool capital in order to order to protect themselves from costly litigation. 

I think there’s obviously good money to be made off of this venture and it serves an unmet need in the marketplace.  Large tech companies can limit the losses from patent trolls who try to extort large sums of money from licensing fees.  Just last week, a patent troll sued Apple over patent infringement targeting the iPhone’s Safari browser.  And this hasn’t been the first lawsuit; patent trolls have tried their luck by claiming their rights for the iPhone's touch screen, virtual keyboard, visual voicemail and the caller ID feature.  Similarly, eBay went all the way to the Supreme Court in a patent dispute with MercExchange, a company claiming that the online auctioneer had infringed on three of its patents.

In actuality, it seems like RPX is itself a patent troll, but I think the business model is meant to do more good than harm.  The patents acquired by RPX will only be used for defensive purposes and the company will not extract licensing fees from its members.  Companies are routinely destroyed by patent trolls and this helps provide a defense against costly litigation. 

 

http://blogs.wsj.com/law/2008/11/24/in-fight-against-patent-trolls-a-new-arrow-in-the-quiver/

 

Who Voted for the Bailout?

http://www.slate.com/id/2203982/

This article cites research by Chicago Booth’s own Atif Mian, Amir Sufi and Francesco Trebbi.  Their research investigates what motivated congressman to vote for and against both the American Housing Rescue and Foreclosure Prevention Act (passed in July 2008) and the Emergency Economic Stabilization Act.  As a note, only Republicans votes were investigated as Democratic support was nearly unanimous for both acts.

As for passing the AHRFPA, it appeared at first that congressman were acting in the best interest of their constituents, that is, those congressmen representing voting districts with high foreclosure rates tended to vote for the AHRFPA.  However, the article cites one Republican congressman, Michael Burgess of Texas’s 26^th District, who was torn.  His district had two demographics, Democratic neighborhoods with almost 12% mortgage default rates and Republican neighborhoods with less than 5% default rates.  Apparently realizing he wasn’t going to get the votes from the Democrats next time no matter what he did, he voted on behalf of his Republican constituents against the AHRFPA.  On this point, I don’t see a problem with this type of decision; elected officials should represent the interests of those that elect them.  After all, if a congressman only represents those individuals who voted for him, he is still, hypothetically, representing a majority of his constituents.

As for the EESA, the Chicago professors determined that congressman receiving more than $200,000 from Wall Street had a 70% chance to vote for the act.  Those receiving less than $30,000 had just over a 50% chance of voting for the EESA.  Turns out the Republican congressman aren’t complete slaves to the money, however.  When measured along political ideology, those Republicans with strong conservative voting records were much more likely to vote against the EESA than their more centrist brethren.

The article’s author expresses concern about the appropriateness of the expenditures that will result due to the passage of these bills and alludes to the wasteful spending practices in Iraq and the housing after Katrina.  Three weeks after the Slate article was published, this article was published by the New York Times, http://www.nytimes.com/2008/11/26/business/economy/26tarp.html.

This article states: “the overall assessment [as to the appropriateness of expenditures and controls surrounding them] was “a mixed bag,” as one person put it. It was clear, he said, that the auditors took into account how quickly the program was carried out, how much its focus shifted over time and how little feedback Treasury has had from oversight agencies so far.”  Considering the ‘mixed bag’ comment even after the auditors from the Government Accountability Office took into consideration the speed, I’m a little worried about where the money went.  One thing to consider is, maybe the congressman’s votes didn’t change due to large contributions, but its possible that, behind the scenes, they intentionally omitted including certain controls and oversight mechanisms into the bill that would have restricted the ability to ‘misappropriate funds.’

Déjà vu all over again – FHA/subprime

The December issue of BusinessWeek discusses an alarming trend relating to FHA-backed loans.  Many of the largest participants in the subprime movement have rebranded themselves and are looking to take advantage of the FHA-loan opportunity.  Research analysts estimate that FHA borrower defaults will cost American taxpayers an additional $100 billion in the next five years.

As background, the Federal Housing Administration (FHA) has had a longstanding program in place designed to encourage home ownership by insuring mortgages for “buyers of modest means.”  The program, founded during the New Deal, allows down payments as little as 3% and charges borrowers a modest fee for a fixed-cost FHA-backed loan.

New and old players are looking to profit from the FHA program.  Large subprime firms have renamed their business but continue to use tactics of old – mainly, issuing loans to unqualified borrowers resulting in egregious default rates.  For example, Premier Mortgage Funding, one of the nation’s largest subprime lenders, filed for bankruptcy in 2007.  The company had one of the highest default rates of any major national subprime lender.  The Premier management team recently emerged with a new company that now focuses on FHA-lending.  The firm has already issued $250 million of FHA-backed loans.

FHA-backed loans have dramatically changed the lending landscape.  In 2007, FHA-backed loans represented only 4% of new mortgages being issued.  In 2008 though, these loans made up 26%.

The corporate world is also looking to take advantage of the FHA-loan opportunity.  In 2007, Goldman Sachs purchased a controlling stake in Senderra Funding, a former subprime lender.  Since its investment, Goldman has converted Senderra into an FHA-backed lender.  Thus, the majority of Senderra’s old collection of subprime loans – which Goldman purchased for 63 cents on the dollar – have been refinanced into FHA-backed guaranteed loans, resulting in a profit margin increase of between 30 and 40%.

The interest in earning profits at the expense of FHA – and taxpayers – will continue.  There are now upwards to 40,000 firms authorized to issue FHA loans, nearly double the number from 12 months ago.  FHA loans are also at a peak in demand - in January 2008, FHA guaranteed 60,000 loans.  In October, that monthly number had grown to over 140,000 loans.  The increasing demand for FHA loans (and the authority to issue them) coupled with the FHA’s lean structure and relative inexperience with such high demand is a dangerous mix.  This combination recently led Risk Mitigation Group to state that “within the next 12-18 months there is going to be FHA-insurance Armageddon.”

What do experts know?

Back in the early 1990s, Motorola spun-off an operating unit named Iridium.  The idea behind Iridium was to create and operate a global telecommunications system based on radio communication between the subscriber and Iridium’s 66 satellites.  During the period of development, Motorola was the counterparty to Iridium’s contracts and provided technical and financial support to Iridium.  Between 1965 and 1999, Iridium paid Motorola management fees of approximately $3.7 billion based on contracts between the two parties. 

Iridium launched its service in November 1998 and failed miserably; on August 13, 1999, Iridium’s creditors filed an involuntary petition of bankruptcy against Iridium.  The sale value of Iridium’s assets was $25 million.

This is when it gets interesting.  In 2001, the creditors committee filed an adversary proceeding against Motorola to recover the $3.7 billion in payments, claiming a number of breaches including that (1) the transfers made were preferential (defined as a payment made on an antecedent debt while the debtor was insolvent), (2) inadequate value was received by Iridium when Iridium was insolvent for the amount transferred and this inadequacy hindered, delayed or defrauded creditors.  On both issues, it was important for the creditors committee to establish that four years prior to the bankruptcy filing, Iridium was insolvent.

To establish Iridium’s insolvency, the creditors’ committee used expert witness testimony.  To counter the creditors committee’s expert, Motorola hired its own.  The judge, however, relied on the unbiased ‘testimony’ of the market during the supposed time of insolvency.  You see, during the period in question, Iridium had a market cap of between $2.3 and $10 billion.  Further, in December 1997, Iridium secured a $1 billion credit facility from a bank syndicate.  Additional credit was provided in December 1998.

The judge first decided that the market was properly informed of the risks inherent at Iridium.   Then, he simply determined that with the risks fully known to the market, the market determined that Iridium as not insolvent, otherwise its market cap would have been $0 and banks wouldn’t have agreed to lend it $1 billion.  The judge stated in his opinion, quoting VFB LLC v, Campbell Soup Co., that, “Absent some reason to distrust it, the market price is ‘a more reliable measure of the stock’s value than the subjective estimates of one or two expert witnesses.’”

The authors of the article explain that there are several confounding factors that need to be considered before relying on market data, including whether:

·        the positive market premium was solely for the value of control,

·        the market was not acting “irrationally exuberant”,

·        the market was fully informed of relevant information, and

·        new capital was from existing lenders trying to protect their positions.

Overall, I think this decision is a good thing since it adds transparency.  As the judge indicated, the types of valuations performed by the experts are similar to the valuations performed by the investment bankers and stock analysts.  The difference in, the bankers and analysts are performing their valuations at the time of investment rather than several, sometimes many, years later.  At the later dates at which the experts must attempt to make their valuations, a number of difficulties emerge such as information may not be available and the experts must separate what they know happened from what was known at the time. 

http://www.turnaround.org/Publications/Articles.aspx?objectID=9781