No late hits on entrepreneurs

The WSJ’s Weekend Interview tells of the federal government’s effort to retroactively penalize an entrepreneur after his business failed, quite probably because of a cheeky and defiant publicity campaign he pursued in an (unsuccessful) attempt to save his company.  The story echoes one from California, where the state is so desperate for tax revenue that it’s resorted to a retroactive tax on entrepreneurs that applies even after they’ve left the state.

Whether it’s taxes or lawsuits, it’s probably not wise to tell your best job creators that the risks they assume may extend beyond the expiration of their companies and threaten to pierce the corporate veil.

These stories illustrate that broken institutions are as great an impediment to job creation as either fiscal or monetary policies.

In 2012 the Consumer Product Safety Commission shut down the small company behind Buckyballs, an office toy that became an Internet sensation in 2009, because of safety concerns that were strenuously contested by the company and its CEO, Craig Zucker.   In an effort to save the company, Zucker and his team filed the required “corrective action plan” and launched a publicity campaign to rally customers and spotlight what they viewed as the commission’s “nanny-state excesses.”

The campaign was successful at generating publicity but not at saving the business:

Online ads pointed out how, under the commission’s reasoning, everything from coconuts (“tasty fruit or deadly sky ballistic?”) to stairways (“are they really worth the risk?”) to hot dogs (“delicious but deadly”) could be banned. Commission staff were challenged to debate Mr. Zucker, and consumers were invited to call Commissioner Inez Tenenbaum’s “psychic hotline” to find out how it was that “the vote to sue our company was presented to the Commissioners on July 23rd, a day before our Corrective Action Plan was to be submitted.”

“It was a very successful campaign,” says Mr. Zucker, “just not successful enough to keep us in business.” On Dec. 27, 2012, the company filed a certificate of cancellation with the State of Delaware, where Maxfield & Oberton was incorporated, and the company was dissolved.

“The inventory was sold and the business ended,” says Mr. Zucker. He thought it was an “honest and graceful exit” to a broken entrepreneurial dream.

Whatever the merits of the safety argument, after the business was dissolved, the commission continued to pursue Mr. Zucker:

But in February the Buckyballs saga took a chilling turn: The commission filed a motion requesting that Mr. Zucker be held personally liable for the costs of the recall, which it estimated at $57 million, if the product was ultimately determined to be defective.

This was an astounding departure from the principle of limited liability at the heart of U.S. corporate law. Normally corporate officers aren’t liable for the obligations of a company, and courts are loath to pierce the shield of limited liability unless it can be shown that the corporate entity was a mere facade—that corporate formalities weren’t adhered to, the officers commingled personal and corporate funds, and so on.

No such allegations were made against Mr. Zucker. Instead, the commission seeks to extend the holding of United States v. Park, a 1975 Supreme Court case in which the CEO of a food retailer was held criminally liable under the Food and Drug Act for rodent infestation at company warehouses. The CEO, the court ruled, was the “responsible corporate officer” by virtue of being in a position of authority when the health violations occurred.

But in a subsequent case, Meyer v. Holley (2003), the justices clarified that ordinary rules of liability apply unless there is clear congressional intent in the pertinent statute to hold individual officers liable. The statute in Park did include an individual-liability provision. But the relevant law in the Buckyballs case, Section 15 of the Consumer Product Safety Act, regulates the conduct of manufacturers, distributors, retailers and importers as corporate persons, suggesting Congress didn’t intend to hold officers liable for recalls when there is a proper corporate entity in place. There is also no question of a criminal violation in Mr. Zucker’s case.

Says Mr. Zucker: “The commission’s saying that because as CEO I did my duty—didn’t violate any law, was completely lawful—I am now the manufacturer individually responsible.” Shockingly, the administrative-law judge hearing the case bought the commission’s argument, meaning Mr. Zucker will have to defend himself in the Maxfield & Oberton recall case to its conclusion at the administrative level before he can challenge the individual-liability holding on appeal.

Given the fact that Buckyballs have now long been off the market, the attempt to go after Mr. Zucker personally raises the question of retaliation for his public campaign against the commission. Mr. Zucker won’t speculate about the commission’s motives. “It’s very selective and very aggressive,” he says. “If you want to ask if this is some sort of reprisal, well, they don’t need Craig Zucker anymore.”

Mr. Zucker says his treatment at the hands of the commission should alarm fellow entrepreneurs: “This is the beginning. It starts with this case. If you play out what happens to me, then the next thing you’ll have is personal-injury lawyers saying ‘you conducted the actions of the company, you were the company.’ “

Since the Consumer Product Safety Commission is a federal agency, start-ups in the Southeast and Texas may be as susceptible to that risk as Mr. Zucker’s was in NYC.  However the tax policies found in our region are demonstrably more favorable – both before you start your business and after you’ve sold it.