Category: Contract Law & Beyond

Confronting Contractors

brokedown.jpgThere’s a nice review of Barry B. Lepatner’s Broken Buildings, Busted Budgets in the WSJ today. Lepatner offers an interesting economic model of traditional business methods here:

Firms aren’t really competing to deliver quality for the lowest possible price. Instead, according to Mr. LePatner, “they compete for the future right to increase the initial cost of their agreement.”. . . “We end up with many firms,” Mr. LePatner writes, “but little head-to-head competition on the big economic variables of time, quality and price.”

Construction firms often make unrealistically low bids to get jobs, Mr. LePatner notes, but they can count on finding plenty of reasons later to jack the price up enough to allow for a profit. When the building is under way, it becomes prohibitively expensive to fire the contractor and start anew. The owner has become a hostage.

Yet another reason to suspect “lock-in” as a business model. On the bright side, LePatner suggests that cyberspace’s enhancement of “reputation nation” should make experiences like our guest Jeff Lipshaw’s less likely in the future:

[LePatner suggests] hiring experts who can monitor builders and who have financial incentives to prevent needless overruns. Tougher contracts should enforce fixed costs or, at least, severely limit the scope for escalation. And thorough background checks — looking for lawsuits, public complaints and financial troubles — may lower the chance of hiring dodgy engineers and construction teams.

Photo Credit: night86mare.

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A Nod to Angie’s List as an Alternative to Contract Law

As I’ve written in Models and Games, I think contract law is often a poor template and, hence, a poor solution for issues in transactions.

My lousy experience with builders and contractors is the stuff of legend. I was walking home from the Porter Square T station, looking at the old Cambridge houses, and wondering how, in the view of the general level of competence out there, any building actually manages to withstand entropy. We have a brand new house in Cambridge, and notwithstanding my contractual right to have an entire punch list of repairs done, and notwithstanding the builder’s one year warranty, and notwithstanding his earlier promises to show up, he has disappeared with only a voice mail message as evidence that he ever existed.

Contract law is not going to solve my problem, except in the most indirect sense. Because I have a contract, I can sue the builder, get a judgment (I assume it will be a default judgment in small claims court), and have the judgment satisfied by a guaranty fund that the Commonwealth of Massachusetts established with the builders’ license fees. Other than that, the accepted wisdom is that you never resort to the contract in arguing a money issue with your builder. You may win the battle, but you will lose the war, particularly if you never manage to get inside the walls to discover he used 1/4 inch rather than 3/4 inch plywood or a lower grade of insulation to make back what he lost in the other battle.

An even better tack is to deal with people who will do what they say will do regardless of the contract. In that regard, let me recommend Angie’s List. This was founded by a person in Indianapolis, where we used to live, and has spread around the country. We got referrals for the electrician and the plumber from the list of A-rated companies, and I just finished posting excellent reviews of both.

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Models and Games

This seems like an auspicious occasion to announce that, following in the Larry Solum model of developing a paper from blog post to short idea piece to full-blown article, I’ve posted on SSRN the complete version of what was known in a prior iteration as “Aboutness, Thingness. . . .” The last thing to go was the old title, and the second to last were the first several paragraphs of the old introduction, I suppose because the words are like children, these particular words had been around since I first put fingers to keyboard, and, if truth be known, I thought they were really clever. But these are all aspects either of self-deception or unwillingness to make choices, and who of all people inspired me but Katie Holmes (or at least her character in Wonder Boys, Hannah Green) who observed to Michael Douglas (as Grady Tripp) that writing was about making choices and he had made none in the manuscript of his second novel.

The gist of the piece, if I were to put it blog-colloquially, is how some modes of making sense of cause-and-effect, particularly in the realm of human behavior, just plain miss the boat. In natural science, an example would be trying to explain dog behavior and conditioning at the level of physiology. That level of explanation might suffice for a physiologist who is interested in measuring muscle contractions at feeding time, but it doesn’t tell the microbiologist much, nor does it do much to explain at the level of operant conditioning. In the social sciences, the distinction would be (courtesy of historian Thomas Haskell), the difference between explanatory cause and attributive cause. If you ask the thug why he beat the old man, an answer that involves neural pathways and muscular contractions may explain cause and effect at one level, but it doesn’t make sense in the same way this answer does: “because I wanted his wallet full of money.”

The part of the piece with which I had the most fun was where I applied the foregoing to the 2003 Yale Law Journal article by Alan Schwartz and Bob Scott on contract interpretation. In a nutshell (but you will have to read the piece to see why), my claim was that their mode of explanation simply missed the boat in the same explanatory versus attributive way.

The article is Models and Games: The Difference Between Explanation and Understanding for Lawyers and Ethicists. The abstract follows the fold.

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Predatory Lending: Meet Jonathan Swift

plalogo.gifAt the new website of the Predatory Lending Association, aspiring lenders can find concentrations of “working poor” customers in their neighborhood, calculate effectively usurious loans, not blacklist crusaders against payday lending, including Liz Warren, and learn all the arguments that goo-goos will make against high-interest borrowing. One Q&A in particular should be familiar to contracts professors (or maybe just those, like me, who use Randy Barnett’s Perspectives book):

Myth: Payday lending is comparable to selling yourself into slavery.

Reality: Although there is a market need for slavery, people do not choose to sell themselves into slavery. Free choice is the difference between payday lending and slavery.

(There is even a neat chart to make the connection more clear.) On the discussion boards, you can share your thoughts with other predatory lenders. Sure, it all seems a little too cute, but it’s worth checking out anyway.

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“Cops” for Commercial Law Profs

Today in my Article 9 class, we reached one of my favorite parts of the course: the law of the repo man. I have blogged before about the philosophical significance of the repo man, but today we focused on the more mundane issue of what constitutes a breach of the peace under UCC 9-609. Fortunately, YouTube came to my rescue. It turns out that there is a whole YouTube genre of repo-men (and a few women) filming and posting their work. Its like “Cops” for commercial law profs. (Warning: profanity)

My class was pretty unanimous in their belief that this constituted a breach of the peace, but — I am happy to say — could not agree on when the breach actually happened. Now if I could find some YouTube videos on the Statute of Frauds.

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Regulating Private Military Companies

privatemilitary.jpgBlackwater has of course been in the news. And the House has acted twice in the past week to regulate private military companies. One, H.R. 2740, according to the Times “would bring all United States government contractors in the Iraq war zone under the jurisdiction of American criminal law. The measure would require the F.B.I. to investigate any allegations of wrongdoing.” The other, H.R. 400, is designed “to make it easier to convict private contractors of defrauding the federal government during wartime.”

A couple of years ago I wrote an article about this area. One thing is clear: the use of private military contractors is not going away soon and can often have benefits. As such I proposed that rather than looking to legislation alone, the U.S. government, which accounts for massive portions of many private military contractors income stream, should take an old school contract approach to the jurisdiction problem. In short if the government wants to be serious about the issue, it can simply demand that any contractor adhere to human rights and international laws and agree to U.S. jurisdiction over common crimes. An additional legislative layer is required, however. Protection for whistleblowers is vital for any criminal or profiteering law to have teeth. These events occur far away and when people have come forward as happened in Bosnia, the company involved was quick to try and paint those who spoke up as trouble makers with all the usual employment repercussions. Peter Singer’s work in the area details much of the problem and is worth a read. My paper, Have Your Cake and Eat It Too: A Proposal for a Layered Approach to Regulating Private Military Companies, covers some of the history of the use of PMCs by governments and NGOs, the way PMCs can be used well, the reasons international law falls short of addressing many of the issues that are bound to arise, and then offers a possible solution to at least make sure that when crimes occur people know about them (a real problem in many cases), and they can be prosecuted. There is of course much to do in this area. The paper seeks to be a starting point.

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Drafting a Group Blog Operating Agreement

special_large.gifConcurring Opinions organized as an LLC some months ago, for all the obvious reasons. But filing papers with the Secretary of State doesn’t begin to answer the legal issues that arise when people come together to blog. Indeed, it creates a host of new ones. Over the last few months, to solve the problems that becoming a legal entity creates, we have been working to finalize our operating agreement, tailored to the unique needs of blogging. Now that we’re done, I thought I’d share a few thoughts about the major issues we considered, and the solutions that we settled on. I’m going to be a little bit general here, and, as always, nothing about this post constitutes legal advice, on the off chance you were in the market for it. To preempt the objection that considering the pittance of money that we get from advertising, most of this is overkill, I would just respond: they probably used to think that at Google too. (Or, more humbly and accurately, if it is worth doing, it is worth doing right).

1. Governance: We decided to go with a member-operated entity (rather than the formal route of having officers). This seemed like an overdetermined choice. But it leaves some big questions on the table: what kind of majorities do you need for which kinds of decisions; how many members constitute a quorum; do all members get equal votes? We decided on super-majority rules for every decision, and permitted voting by email with a “quorum” defined as participation in the email “meeting” within a set period of time. We also decided on equal voting shares for existing members.

2. Exit: So there you are, blogging away as a member of an LLC, and one of your members decides to sell his or her stake to an outsider, who chooses to blog on (the horror!) international law instead of privacy, or simply write multiple posts about Jennifer Aniston or other trivial sundries. Can you stop this nightmare before it starts? With difficulty. Transfer restrictions must be reasonable, which means (generally) that you need to draft an LLC buy-out as an alternative to an outside sale that provides a fair estimate of the worth of a stake in the entity. That isn’t an easy to problem to solve. We started with a six month revenue figure and backed into a valuation: I’m sure that there are better options available. Similarly, we made provisions for non-voluntary exit (i.e., removing a member) with an appropriate valuation and notice provisions. This is a sensitive drafting problem, but a necessary one in a world where people sometimes simply get tired of blogging.

3. Intellectual Property: Does the blog own the posts, or do the authors? If the former, then you’ve got multiple problems: what about guests? Who will control licensing? If the latter, you’ve got to worry about protecting the Blog’s marks (such as they are), and also make sure that you set up a licensing system within the operating agreement. We settled on a scheme were the authors retained IP rights, except that the Blog will own its own marks, such as they are.

4. Distribution of Profits: The options here are legion, and fraught with potential hard feelings. Starting with the presumption that most blog LLCs will want to be taxed like partnerships, the legal problem is to find a way to distribute revenue in rough proportion to contributions to the operation of the company. I’ve heard other blogs have very complicated formula to distribute cash, like, say, dividing the total numbers of words posted by some denominator and then creating an index productivity score. This seems to me to create bad incentives to overwrite, in a medium where omitting needless words is valued. So, we went with a three-track system: a threshold number of posts to receive any distributions, coupled with an incentive bonus for the percentage of total posts over that threshold, and finally something extra for administrative service. The devil is in the details.

5. Negotiation: In a blog of our size (seven permanent members) it wasn’t terribly difficult to reach an agreement, although seven lawyers means lots of line editing and persnickety (but useful) language nits. We did have the help of a lawyer’s basic draft agreement to get us along the way, and if you are trying to do this without a law degree, I think you should hire a lawyer. Generally, if you go lawyer-free, I’d recommend appointing a smaller committee of the whole to flesh out the issues, appointing a drafter, and then have that person be responsible for incorporating changes into the master document.

I know that most law professors who blog with others think of this as sort of a hobby/professional sidelight. To the extent they’ve thought about governance issues, they’ve probably done so in the context of a revenue discussion, where the “owner” has told the other editors, perhaps with some input, about how the money will flow. This is a fine model if you think of yourself as an employee (and it shifts most real risk to the “owner” and his or her homeowner’s policy). But I doubt that many folks on group blogs have thought much about whether they should have a right to compensation if they are removed as a contributor, or whether they should get a veto on adding new members. Or what were to happen if a co-blogger tried to prevent them from syndicating “their” posts with another outlet. Or whether blog-related business opportunities must be shared with co-bloggers?

Airing these issues is one of the big benefits to sitting down and drafting an operating agreement. That is, formalizing the legal status of a blog, whether in an LLC or not, has benefits apart from merely shielding members’ assets. Talking together about governance helps to get everyone’s expectations out in the open, and generates good will and emotional investment into the enterprise. If blogs are going to mature to be permanent institutional parts of the media/academic/legal marketplace, as so many predict, people should get serious about how they are run. A good agreement is the place to start.

(Image Credit: These folks, who will make it all look pretty.)

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Markets in Female Talk and Markets in Markets

I love Intrade. For example, I have stopped paying that much attention to political polls. When something happens, I click over to Intrade to see what the markets have to say about Romeny’s prospects of getting the nod (currently trading at about 23) or Obama’s continuing plunge from grace (his share price has gone from a July high of about 38 to about 13 today). I was recently explaining these markets to my mother-in-law who asked, “So it is just gambling, right?” Well, sort of, I replied. However, there are also reasons that investors would want to buy shares in, say, a Clinton victory as a way of hedging against political risk. I explained that politics might be like the weather — a random event that can create real costs for a business — and buying rights to payment in the event of bad weather allows you to get rid of some risk. I felt that I had made the whole thing sound very hip, serious, and respectable at the same time.

womentalk.pngThen today I noticed that Intrade has been selling a contract on whether or not the next publicized study of adult talkativeness will find that women are at least 10% more talkative than men. As you can see, there was a bit of initial price fluctuation, with the market pushing the price of female chatter up to about 85, but things have since settled down to the current price of about 75.

I have to confess that I am a bit stumped on how one would use this as a hedging device. What exactly is the risk that one is trying to avoid here? It turns out that the market was suggested by Robin Hanson, of Oxford’s Future of Humanity Institute and George Mason University. This fact doesn’t help me see any real financial use for this contract, but it does show the power of the market to satisfy even the demand of academics for markets in odd things.

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Law Talk: Markovits on Contracts of Adhesion

In this week’s episode I speak with Professor Daniel Markovits of the Yale Law School. Daniel writes in a variety of areas including the philosophy of law, the theory of toleration, and — most importantly — the theory of contract law. In 2004, Daniel published an ambitious article in the Yale Law Journal“Contract and Collaboration” — in which he sought to offer a new theory of contractual liability based on the integrative and pro-social effects of contracts. He is now at work on a project that applies his collaborative theory of contract to the perennial problem of contracts of adhesion. The result, as you can hear in this episode, is a critique of contracts of adhesion that is unrelated to the traditional complaints of unequal bargaining power and substantive unfairness.

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