Sunset Provisions Research Articles

Sentencing is Dang Hard … and So …

This essay, adapted from a speech upon receipt of the 2018 Richard P. Kern Memorial Award from the National Association of Sentencing Commissions, details why sentencing is “dang hard” and explores implications of that reality. The essay argues that the challenges of sentencing not only demand that all jurisdictions have a sentencing commission as an essential permanent agency, but also call for these commissions always to think big and to strive to work deep and wide to study all facets of modern criminal justice systems. The essay also contends that sentencing errors may be quite common and that, even if we manage to get sentencing “right” at the outset, changes in society and in individuals can make even “right” sentences wrong over time. Sensible humility about the likelihood of sentencing errors further suggests, for example: at the rule-making stage, having sentencing laws include sunset provisions and having sentencing commissions review and audit major guidelines and related sentencing practices on a regular basis; at the case-specific stage, having far more robust substantive appellate review of sentences, having more robust mechanisms for parole and judicial reconsideration and clemency, and even developing more creative means to apply and revise different forms of punishment as time passes and new information is gathered.

Designing Dual Class Sunsets: The Case for a Transfer-Centered Approach

Dual class stock (DCS) structures, and their implications for managerial accountability and corporate governance more broadly, have become prevalent concerns for corporate lawyers and policymakers. Recent academic and practitioner debates on DCS have tended to focus less on the general merits and drawbacks of DCS versus one share/one vote structures, and more on the specific common-ground concern as to whether and how such structures are subjected to contingent reversal or “sunset”. This Article compares the relative advantages and disadvantages of time-, ownership- and transfer-centered models of DCS sunset provision. It argues in favor of the transfer-centered model on the grounds that: (a) its specific event-based trigger renders it less arbitrary in application than the time-centered model, and protects against the possibility of founders being prevented prematurely from realizing their long-term strategic vision (as is a risk with the time-centered sunset model); (b) it avoids the moral hazard and other perverse controller incentives that are prone to ensue from time-centered sunsets; and (c) unlike both the time- and ownership-centered models (which are motivated primarily by agency cost concerns), the transfer-centered model is sensitive to the powerful non-financial incentives that controllers typically have to safeguard and promote firm value, even where their corporate control rights significantly outweigh their corresponding cash flow rights. Accordingly, it suggests that the SEC and principal US exchanges should resist recent calls from influential investor-related bodies to mandate time-based sunsets. Instead, domestic policymakers should look overseas to Hong Kong and Singapore, whose respective listing authorities have recently introduced transfer-based sunset requirements for DCS issuers, in considering the most appropriate blueprint for any future regulatory initiatives in this regard.

Delegation, Time, And Congressional Capacity: A Response To Adler And Walker

Delegation, Time, And Congressional Capacity: A Response To Adler And Walker

Why Dual Class Stock? A Response to CII's Petition to Nasdaq For Mandatory Sunset Provisions

On March 28, 2019 the Nasdaq Listing Council invited me to respond to the recent proposal by the Council of Institutional Investors (CII) requesting Nasdaq (and the NYSE) to adopt rules requiring a company going public with dual class shares to include a mandatory provision in the company's charter. Under the CII proposal, the company would generally have to convert the dual class shares into a single class after seven (7) years unless an extension was approved by stockholders voting separately as a class. This article briefly outlines my reasons for opposing CII's proposal and offers some alternative ideas for moving forward. My response focused upon three issues. First, I analyzed some of the governance and market forces that have led many of the most innovative and successful companies in the country (and indeed across the globe) to adopt dual class stock. This section focused upon what is the core issue of corporate governance but often goes unspoken: who gets to elect directors? This is the critical governance issue because directors manage the corporation and are responsive to those who elect them. Our corporate republic is not a direct democracy; stockholders do not run the corporation. Rather, corporations are managed and run by the board of directors. Yet over the last few decades, changes in the financial markets and the increased separation of from ownership has led to a situation where directors are increasingly elected by a small group of institutional investors and activist fund managers, including activist hedge funds. Confronted with a reality where directors are elected by this small group of investors, it should come as no surprise that some of our most innovative and entrepreneurial leaders, as well as those who support them, seek a better way to elect directors. Second, I identify some of the many problems with CII's analysis. As part of this, I demonstrate that many of the studies identified by CII do not support the claim for a seven (7) year sunset period, and in fact show that companies with dual class stock outperform their single class peers for considerably longer periods of time. Additionally, the most recent study by two highly respected scholars who have carefully reviewed all the literature and studies identified by CII concludes that compulsory sunsets, and time-based sunsets in particular, are an inappropriate response to the potential problems of dual class stock. In this section I further discuss recent studies that support a reality that I (and I suspect many practitioners) have long recognized: that there is little correlation between so-called best governance practices and either corporate performance or corporate governance. Rather, the studies on corporate governance typically measure adherence to the particular structural governance measures that are favored by certain institutional investors and/or academics, but that these studies do not measure whether in fact a company is well-governed, much less whether there is any correlation between a well-governed company and its performance. For this reason as well I discuss why it is important to continue to allow the system of private ordering on these types of governance issues to exist. The third section of my paper offered some specific compromise proposals to CII and other institutional investors, with the hope of better achieving the joint goals of fostering better governance while also opening up the process for director selection. In addition to discussing these proposals, I also call on the Nasdaq (and the NYSE) to continue to play their historic role as facilitators to this debate, and in my talk I suggested that Nasdaq consider convening a group of experts to consider the various issues and make recommendations to the exchanges.

The Case for Dual-Class of Shares

The debate over whether dual class of shares increases or decreases share value, should be prohibited or not, should be subjected to mandatory sunset provisions, and so on has been heating up over the last few years. This paper reviews the pros and cons of dual class of shares in light of more recent empirical results of (mostly) American studies. The paper surveys the evolution of dual-class companies in the Canadian context and makes a number of recommendations to enhance the usefulness of this type of capital structure and protect the rights of minority shareholders. The paper comes out against time-based sunset clauses but supports the obligation for dual-class companies to adopt a “coattail” provision, as is the case in Canada, which provision ensures that all shareholders will have to be offered the same price and conditions should the controlling shareholder decide to sell its controlling stake in the company. The paper also recommends that separate tallies of vote results be made public for each class of shares and that a third of board members be elected by shareholders with “inferior” voting rights. Not only is there growing evidence of their better economic performance but the coupling of dual class and family ownership brings about longer survivorship, better integration in the social fabric of host societies, less vulnerability to transient shareholders and more resistance to strategic and financial fashions. This precious form of ownership must come with appropriate measure to ensure and protect the rights of minority shareholders.

Comment Letters to NASDAQ and NYSE: Time-Based Sunsets and the Problem of Early Unifications of Dual Class Share Structures

I am responding to the Council of Institutional Investors’ (“CII”) request that the NASDAQ Stock Market (“NASDAQ”) and New York Stock Exchange amend its listing standards to require companies seeking to go public with dual class shares (classes of common stock with unequal voting rights) to include in their certificates of incorporation a time-based sunset provision (a forced unification of shares into one share structure with equal voting rights after a certain period of time) that must go into effect no more than seven years after the initial public offering (IPO) unless the minority shareholders vote to extend up to an additional seven years. These letters (both letters have been combined into one document) argue that such a mandatory provision would be extremely unwise and harmful to our most important public companies and their shareholders, current as well as future. As a creation of private ordering, the absence of time-based sunset provisions in dual class share structures serves a significant value enhancing purpose. It prevents the risk that a pre-mature and therefore suboptimal unification of shares may occur. This risk has so far been ignored by those advocating for the implementation of a mandatory time-based sunset provision.

Sentencing is Dang Hard... And So...

This essay, adapted from a speech upon receipt of the 2018 Richard P. Kern Memorial Award from the National Association of Sentencing Commissions, details why sentencing is “dang hard” and explores implications of that reality. The essay argues that the challenges of sentencing not only demand that all jurisdictions have a sentencing commission as an essential permanent agency, but also call for these commissions always to think big and to strive to work deep and wide to study all facets of modern criminal justice systems. The essay also contends that sentencing errors may be quite common and that, even if we manage to get sentencing “right” at the outset, changes in society and in individuals can make even “right” sentences wrong over time. Sensible humility about the likelihood of sentencing errors further suggests, for example: at the rule-making stage, having sentencing laws include sunset provisions and having sentencing commissions review and audit major guidelines and related sentencing practices on a regular basis; at the case-specific stage, having far more robust substantive appellate review of sentences and more robust mechanisms for parole and judicial reconsideration and clemency, and even developing more creative means to apply and revise different forms of punishment as time passes and new information is gathered.

Using the WTO to Facilitate the Paris Agreement: A Tripartite Approach

Climate change is undeniably the greatest threat humanity has ever faced, and its challenges can only be addressed through multilateral means. Lacking in accountability and enforcement mechanisms, however, the Paris Agreement requires additional support to achieve its full effect. This paper proposes a novel approach for refocusing the multilateral trading system and facilitating the Paris Agreement. Although not perfectly aligned with the goals of the Paris Agreement, the WTO’s multilateral framework could provide the necessary flexibilities to work towards meeting the Paris Agreement’s targets. There are three prongs to using the WTO as a vehicle to achieve progress on climate change. First, the preamble to the Agreement Establishing the WTO explicitly recognizes sustainable development as a goal, seeking to protect and preserve the environment. It also recognizes the need for developing countries to share in the growth in international trade. Giving meaning and effect to sustainable development is key to facilitating the Paris Agreement. The second prong recognizes that certain types of climate change mitigation measures may require violating WTO rules. In such circumstances, limited carve-outs in the mold of the Public Stockpiling Exception relating to food security, with additional built-in sunset provisions, would provide support for countries working to meet their targets, allowing them the ability to break from WTO rules to support domestic industries. Finally, the third prong envisions the negotiation of a multilateral or plurilateral agreement to help give effect to the Paris Agreement, much as the WTO already works in tandem with WIPO in relation to TRIPS and with the WCO in relation to the Trade Facilitation Agreement (TFA). Key to this agreement would be special and differential treatment (S&DT) provisions. The TFA contains next generation S&DT provisions, which could be leveraged in the context of a future plurilateral or multilateral agreement to help give effect to the Paris Agreement.

Governance Issues in Dual Class Share Firms

In a typical public company, shareholders can elect the board, appoint auditors, and approve fundamental changes. Firms with dual class share (DCS) structures alter this balance by inviting the subordinate shareholders to carry the financial risk of investing in the corporation without providing them with the corresponding power to elect the board or exercise other fundamental voting rights. This article fills a conspicuous gap in the scholarly literature by providing empirical data regarding the governance of DCS firms beyond the presence of sunrise and sunset provisions. The summary data suggest that the governance of DCS firms is variable. A large proportion of DCS firms have no majority of the minority voting provisions and no independent chair. By contrast, almost half of the DCS firms have a sunset clause and a majority of independent directors. Finally, just under one-third of DCS firms have change of control provisions over and above existing law. On the basis of this evidence, this article argues against complete private ordering in favor of limited reforms to protect shareholders in DCS firms including: mandatory sunset provisions, disclosure relating to shareholder votes, and buyout protections that would address weaknesses inherent in DCS firms.

Sticking Around Too Long? Dynamics of the Benefits of Dual-Class Structures

Using a new dataset of corporate voting-rights from 1971 to 2015, we find that young dual-class firms trade at a premium and operate at least as efficiently as young single-class firms. As dual-class firms mature, their valuation declines, and they become less efficient in their margins, innovation, and labor productivity compared to their single-class counterparts. Voting premiums increase with firm age, suggesting that private benefits increase over maturity. Most sunset provisions that dual-class firms adopt are ineffective. Our findings suggest that effective, time-consistent sunset provisions would be based on age or on inferior shareholders’ periodic right to eliminate dual-class voting.

Building support for taxation in developing countries: Experimental evidence from Mexico

Drawing on insights from the literature on institutional design—how rules shape behavior to achieve desired outcomes—this article examines how certain design features of taxes—such as allowing for civil society oversight, earmark mechanisms that direct tax revenue for a specific purpose, and sunset provisions that make the duration of taxes finite—affect political support for tax reforms. It also evaluates how three important aspects of the fiscal exchange—trust in government, perceptions of the public good, and level of income—shape the effect of these design features. Based on an original survey experiment focusing on the provision of public safety in Mexico, I find that these design features increase political support for taxation, especially among those with low trust in government and low income. These findings have important implications not just for Mexico but also a number of other countries across Latin America that have both low levels of extraction and increased public spending imperatives.

Governance in Dual Class Share Firms

In a typical public company, shareholders can elect the board, appoint the auditors, and approve fundamental changes. Firms with dual class share structures (DCS) alter this balance by inviting the subordinate shareholders to carry the financial risk of investing in the corporation without providing them with the corresponding power to elect the board or exercise other fundamental voting rights. This article fills a conspicuous gap in the scholarly literature by providing empirical data regarding the governance of DCS firms beyond the presence of sunrise and sunset provisions. The summary data suggest that the governance of DCS firms is not uniform and DCS firms tend not to adopt governance measures voluntarily. In particular, a large proportion of DCS firms have no majority of the minority voting provisions and no independent chair. By contrast, almost half of the DCS firms have a sunset clause and a majority of independent directors. Finally, just under one-third of DCS firms have change of control provisions over and above existing law. On the basis of this evidence, the article argues against complete private ordering in favor of modest reforms to protect shareholders in DCS firms including: mandatory sunset provisions followed by a shareholder vote if the DCS is going to continue, disclosure relating to shareholder votes, and buy-out protections that would address governance weaknesses inherent in DCS firms.

Sunset Legislation in the States: Balancing the Legislature and the Executive

Sunset provisions are clauses embedded in legislation that allow a piece of legislation or a regulatory board to expire on a certain date unless the legislature takes affirmative action to renew the legislation or board. The time between enactment or renewal and the next sunset date varies from state to state but typically runs from four to twelve years. The sunset provision typically requires that the legislation or board undergo a review, usually conducted by legislative staff or by state auditors. The reviewers will recommend allowing the law or board to sunset, allowing it to continue but with changes, or leaving it unchanged. Sunset provisions also frequently allow or even require a preliminary review before the final review. Sunset laws are a key tool the legislature uses in asserting itself against an executive branch that often dominates state government.

Sunrise, Sunset: An Empirical and Theoretical Assessment of Dual-Class Stock Structures

A battle is brewing for control of America’s most dynamic companies. Entrepreneurs are increasingly seeking protection from interference or dismissal by public investors through the adoption of dual-class stock structures in initial public offerings. Institutional investors are pushing back, demanding that such structures be abandoned or strictly limited through sunset provisions. The actual terms of dual-class stock structures, however, have been remarkably understudied, so the debate between proponents of prohibition and private ordering is often ill-informed. This paper presents the first empirical analysis of the initial, or sunrise and terminal, or sunset provisions found in the charters of dual-class companies, with a data set of 123 U.S. public companies. Careful selection of such provisions can satisfy both the desire of entrepreneurs to pursue their idiosyncratic visions for value creation without fear of interference or dismissal and the need of investors for a voice to ensure management accountability. Private law firms representing entrepreneurs in initial public offerings play a critical role in the selection of charter provisions, so the onus is on such firms to ensure that private ordering produces a satisfactory resolution before momentum builds for a regulatory solution to investors’ concerns.

A Private Ordering Defense of a Company's Right to Use Dual Class Share Structures in IPOs

The shareholder empowerment movement (movement) has renewed its effort to eliminate, restrict or at the very least discourage the use of dual class share structures in initial public offerings (IPOs). This renewed effort was triggered by the recent Snap Inc. IPO that utilized non-voting stock. Such advocacy, if successful, would not be trivial, as many of our most valuable and dynamic companies, including Alphabet (Google) and Facebook, have gone public by offering shares with unequal voting rights. Unless there are significant sunset provisions, a dual class share structure allows insiders to maintain voting control over a company even when, over time, there is both an ebbing of superior leadership skills and a significant decline in the insiders’ ownership of the company’s common stock. Yet, investors are willing to take that risk even to the point of investing in dual class shares where the shares have no voting rights and barely any sunset provisions, such as in the recent Snap Inc. IPO. Why they are willing to do so is a result of the wealth maximizing efficiency that results from the private ordering of corporate governance arrangements and the understanding that agency costs are not the only costs of governance that need to be minimized. In this essay, Zohar Goshen and Richard Squire’s newly proposed “principal-cost theory,” “each firm’s optimal governance structure minimizes the sum of principal costs, produced when investors exercise control, and agent costs, produced when managers exercise control,” is used to argue that the use of dual class shares in IPOs is a value enhancing result of private ordering, making the movement’s renewed advocacy unwarranted.

Efficiency of flexible budgetary institutions

Which budgetary institutions result in efficient provision of public goods? We analyze a model with two parties bargaining over the allocation to a public good each period. Parties place different values on the public good, and these values may change over time. We focus on budgetary institutions that determine the rules governing feasible allocations to mandatory and discretionary spending programs. Mandatory spending is enacted by law and remains in effect until changed, and thus induces an endogenous status quo, whereas discretionary spending is a periodic appropriation that is not allocated if no new agreement is reached. We show that discretionary only and mandatory only institutions typically lead to dynamic inefficiency and that mandatory only institutions can even lead to static inefficiency. By introducing appropriate flexibility in mandatory programs, we obtain static and dynamic efficiency. This flexibility is provided by an endogenous choice of mandatory and discretionary programs, sunset provisions and state-contingent mandatory programs in increasingly complex environments.

Building Support for Taxation in Developing Countries: Experimental Evidence from Mexico

In spite of the importance of taxation for political and economic development, we know relatively little about the conditions under which citizens might not exact a political cost on leaders for adopting a particular tax. Drawing on insights from the literature on institutional design, this article examines how certain features of taxes – such as allowing for civil society oversight, sunset provisions that make the duration of taxes finite, and earmark mechanisms that direct tax revenue for a specific purpose – affect political support behind them. It also evaluates the role of three important aspects of the fiscal exchange, namely trust in government, perceptions of the public good, and level of income. Based on an original survey experiment focusing on the provision of public safety in Mexico, I find that these design features increase political support for taxation, especially among those with low trust in government, perceptions of high quality of the public good, and low income. These findings have important implications for Mexico, as well as a number of other countries that have both low levels of extraction and increased public spending imperatives.

The consequences of an unknown debt target

Several proposals to reduce U.S. debt reveal large differences in their targets. We examine how an unknown debt target affects economic activity using a real business cycle model in which Bayesian households learn about a state-dependent debt target in an endogenous tax rule. Recent papers use stochastic volatility shocks to study fiscal uncertainty. In our setup, the fiscal rule is time-varying due to unknown changes in the debt target. Households infer the current debt target from a noisy tax rule and jointly estimate the transition probabilities. Three key findings emerge from our analysis: (1) limited information about the debt target amplifies the effect of tax shocks through changes in expected tax rates; (2) the welfare losses are an order of magnitude larger when both the debt target state and transition matrix are unknown than when only the debt target state is unknown to households; (3) an unknown debt target likely reduced the stimulative effect of the ARRA and uncertainty about the sunset provision in the Bush tax cuts may have slowed the recovery and led to welfare losses.

Efficiency of Flexible Budgetary Institutions

Which budgetary institutions result in efficient provision of public goods? We analyze a model with two parties bargaining over the allocation to a public good each period. Parties place different values on the public good, and these values may change over time. We focus on budgetary institutions that determine the rules governing feasible allocations to mandatory and discretionary spending programs. Mandatory spending is enacted by law and remains in effect until changed, and thus induces an endogenous status quo, whereas discretionary spending is a periodic appropriation that is not allocated if no new agreement is reached. We show that discretionary only and mandatory only institutions typically lead to dynamic inefficiency and that mandatory only institutions can even lead to static inefficiency. By introducing appropriate flexibility in mandatory programs, we obtain static and dynamic efficiency. An endogenous choice of mandatory and discretionary programs, sunset provisions and state-contingent mandatory programs can provide this flexibility in increasingly complex environments.

Estate Tax Repeal: Through the Looking Glass

The Economic Growth and Tax Relief Reconciliation Act of 2001 promises dramatic reductions in income and estate taxes over a nine-year phase-in period, culminating in 2010 with complete repeal of the estate tax and introduction of a new carryover basis regime for inherited property. The Act's sunset provision automatically terminates these substantive changes at the end of 2010 and reinstates prior law for 2011 and subsequent years. In effect, the sunset provision transforms the large-scale tax cuts into a temporary measure and leaves open the question of whether to make those cuts permanent. Since the Act was signed into law, political and economic developments have already begun to reshape the debate over the future of the estate tax. The article examines the revenue and distributional impact of estate tax repeal and offers a critical assessment of the new carryover basis regime as a replacement for the estate tax. Although in the abstract carryover basis represents a plausible alternative to the unlimited deathtime basis step-up for appreciated property under current law, the carryover basis regime set forth in the Act is marred by outsized exemptions, substandard drafting and inadequate enforcement mechanisms. As the mounting revenue costs and skewed distributional effects of the Act become clearer, the prospects for making the tax cuts permanent are likely to fade. As the federal budget comes under increasing pressure to meet the costs of preserving social security and medicare while prosecuting a global war on terrorism, the estate tax may reassert its traditional role as a small but important - perhaps indispensable - component of the overall tax system.