A Theoretic Analysis of Corporate Auctioneers Liability Regimes

Abstract

In Schneider v. Lazard Freres & Co. a New York appellate court greatly expanded the liability of investment advisers working as corporate auctioneers. Under this new legal regime, auctioneer/advisers accused of simple negligence are exposed to billions of dollars of potential legal liabilities. This article first reviews the existing law covering auctioneer/advisers and shows that the Schneider decision conflicts with the law governing general auctioneers and with the law governing the role of advisers and directors during the sale of the corporate control. Next, using an auction-theoretic framework, this Article shows that Schneider will likely result in: (1) increased indemnification of auctioneer/advisers by corporations; (2) reduced net proceeds to selling company shareholders when there is a sale of the corporation; (3) increased use of pure cash as means-of-payment in sales of corporations; and (4) fewer sales of corporations. Schneider's net impact therefore is to place shareholders in a less advantageous position than under prior law. To demonstrate these economic effects, the authors employ a combination of principal/agent theory and auction theory. This is natural, for the advisers are hired by the directors to conduct an auction. A simple principle/agent model is the basis for the authors' predictions of indemnification; if indemnification does indeed occur, the selling corporation retains the Schneider liability. Rational bidders for the corporation, knowing they will assume this liability, will lower their bids, and auction theory predicts that the expected high bid will fall by more than the expected Schneider liability.Thus, the net effect on the selling shareholder is negative: the lower price more than offsets expected proceeds from legal suits.