Monthly Archives: December 2006

Court Rejects Settlement of Claims Challenging Private-Equity Deal

Editor’s Note:This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

In a recent opinion in In re SS&C Technologies, Vice Chancellor Lamb refuses to approve a proposed settlement of claims challenging a management buy-out led by Carlyle. This fascinating opinion demonstrates that the courts will not hesitate to reject settlements where plaintiffs’ counsel have been dilatory in exploring the merits of their claims–and, perhaps more importantly, raises a host of interesting issues about management’s role in soliciting buyouts from private-equity firms.

SS&C Technologies CEO William Stone approached Carlyle in 2005 to discuss a potential deal. Carlyle eventually proposed a cash-out merger in which Stone would receive, among other things, cash proceeds of more than $72 million. Shareholders sued; their lawyers concluded that the proxy materials related to the transaction were inadequate, and the company agreed to make more extensive disclosures in a supplemental proxy. Without presenting these terms to the court, the company simply mailed the new proxy and closed the transaction.

The Vice Chancellor refuses to approve the settlement, in part because the parties settled the claims, and closed the transaction, without so much as notice to the court. Indeed, the Vice Chancellor explains, the parties sought approval of the settlement a year after having closed the deal. The court is clearly troubled by the implication of such an untimely presentation of the terms–that is, that the court was a mere rubber stamp for the parties’ agreed-upon (and already-performed!) terms.


Directors Ignore Majority-Shareholder Malfeasance at their Peril

This post is by Robert Jackson, Harvard Law School.

In an opinion issued yesterday in ATR-Kim Eng Financial v. PMHI Holdings, Vice Chancellor Strine concludes that two directors breached their duty of loyalty to a minority shareholder by standing by silently while the majority shareholder essentially liquidated the corporation’s assets and placed them into entities controlled by his family. The court concludes that the directors, who “regarded themselves as mere employees of [the majority shareholder] and failed to take any steps” to stop the shareholder from “do[ing] whatever he wanted,” breached their obligation to protect the interests of the company and “all its stockholders” (emphasis mine). The directors could not seek refuge in the business-judgment rule, the court held, because permitting the majority shareholder to do as he wished was not “indicative of a good faith error in judgment,” but rather “reflects a conscious decision to approach one’s role in a faithless manner by acting as a tool of a particular stockholder.”

In crafting a remedy for the aggrieved minority shareholder, the court takes the unusual step of holding the directors jointly and severally liable for the judgment against the majority shareholder. And even though the court acknowledges that the majority shareholder was more culpable than his abettors on the board–and thus that the directors may be able to recoup any monies paid to the plaintiffs through an action against the majority shareholder–Delaware directors would do well to take note of footnote 129 of the opinion. There the Vice Chancellor indicates that, “when persons act as mere tools for malefactors and contribute to harm to others, public policy might limit their ability to seek indemnification from their ‘boss.'”


Lucky CEOs and Directors: How Serious Is the Problem?

Editor’s Note: This post is by Larry Ribstein, University of Illinois College of Law,

I appreciate the opportunity I’ve been given to post on this Harvard blog.

Appropriately enough, I’m going to start with a response to the work highlighted on this blog of Bebchuk, Grinstein & Peyer (BGP) in Lucky Directors and Lucky CEOs. As summarized in the Financial Times op-ed reproduced on this blog, BGP say their work “suggests [opportunistic timing of option grants] deserves all the attention it has been getting and more.” They show that backdating has produced significant gains, been widespread across industries, occurred mainly when the pay-offs were high (i.e., with larger gaps between lowest and median prices in the grant month), was correlated with evidence of CEO influence (in firms lacking a majority of independent directors and where the CEOs had longer tenure), and occurred where CEOs had more total compensation from other sources (suggesting, they say, that it did not substitute for other compensation). The director study shows that backdating was prevalent for outside directors. The authors conclude that “[t]he patterns we have studied reflect persistent, widespread and systematic governance problems” that “deserve investors’ full attention.”

Here I take issue not with the authors’ basic data but with their conclusions about what the practice says about corporate governance generally.

The important question is whether the backdating could be considered a form of theft. If it was, then this, indeed, indicates a serious governance problem. Moreover, the fact that the practice was evidently correlated with weak governance constraints (more entrenchment, fewer outside directors) suggests we should correct those problems.


And What a Year It Was!

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Editor’s Note: This post is by

With the Sarbanes-Oxley Act in the rear-view mirror for 4 years now, one would think that this would have been a quiet year for corporate governance developments. To the contrary, it was arguably the most dramatic year of change in recent history. Here is a snapshot of some of the most significant developments:

– The majority-vote movement matured at an incredible pace. Within the span of a single year, over half of the Fortune 500 adopted some form of policy or standard to move away from pure plurality voting for director elections. This trend is likely to continue as it’s what investors seek the most.

– An area not touched by Sarbanes-Oxley – executive compensation – continued to be inspected under a microscope by both investors and regulators. The SEC adopted sweeping changes to its compensation disclosure rules and investors became more willing to challenge companies that continue outlandish compensation policies. And House Democrats intend to consider executive compensation legislation early in 2007.


Lucky Grants and Corporate Governance

This post is by Lucian Bebchuk, Harvard Law School.

Urs Peyer and I published this week in the Financial Times an op-ed piece about lucky grants and corporate governance. The op-ed piece drew on our Lucky CEOs study with some reference to the results in our new Lucky Directors study which we released this week. Below is what we said in our op-ed:

More than 130 companies are under scrutiny in the US for alleged backdating of stock options and dozens of executives have lost their jobs, but the significance for the corporate governance system is in dispute. To what extent has backdating been the product of systemic problems? Is it relevant for the future or only for the past? Our empirical work on backdating (co-authored with Yaniv Grinstein) suggests this practice deserves all the attention it has been getting and more.

First, opportunistic timing of option grants has been alarmingly widespread. Studying all the unscheduled option grants to chief executives during 1996-2005, we find a highly abnormal concentration at monthly share price lows. Twelve per cent of option grants to CEOs (15 per cent before Sarbanes-Oxley) have been “lucky grants” – awarded at the month’s lowest price. We estimate about 1,150 lucky grants owe their status to “manipulation” – opportunistic timing via backdating, use of inside information suggesting the stock price is likely to appreciate, or otherwise. We further estimate that about 850 CEOs (10 per cent of all CEOs) and about 720 companies (12 per cent of all companies) received or provided lucky grants that were manipulated. There is evidence they have been to a significant extent produced by backdating and not merely spring-loading based on inside information.


Lucky Directors

This post is by Lucian Bebchuk, Harvard Law School.

Yaniv Grinstein, Urs Peyer, and I just placed on SSRN a new paper, Lucky Directors. As in our earlier study released last month, Lucky CEOs, our approach is to focus on “lucky grants” awarded at the lowest price of the grant month.

A key finding of our new study is that opportunistic timing of option grants is not limited, as has been thus far assumed, to options granted to executives. Favorable timing that cannot be fully explained by mere luck has also taken place among grants awarded to outside directors.

We continue to work on the subject so any comments or reactions to our new study (as well as to the earlier Lucky CEOs study) would be most welcome.

The abstract of Lucky Directors runs as follows:

While prior empirical work and much public attention have focused on the opportunistic timing of executives’ grants, we provide in this paper evidence that outside directors’ option grants have also been favorably timed to an extent that cannot be fully explained by sheer luck. Examining the option grants provided by public firms to outside directors during 1996-2005, we find that:
• Out of all director grant events, 9% (and a higher percentage when events coinciding with annual meetings are excluded) were “lucky grant events” – falling on days with a stock price equal to a monthly low.

“What is a Perk” Survey Results

Editor’s Note: This post is by Broc Romanek,

In the wake of the adoption of comprehensive new executive compensation disclosure rules by the SEC, which become effective early next year, we conducted an informal What is a Perk survey of the lawyers and other advisors that regularly use to see how they interpret the SEC’s new rules. As with any new rulemaking of the magnitude of these rules (the adopting release was more than 400 pages long), there always remain numerous open issues that lead to a mad rush to figure out the nuances.

Of course, perk disclosure is highly sensitive for senior managers, as quite a few excesses are likely to be exposed when these SEC filings are made during 2007. So the answers to the survey questions below are quite meaningful to both managers and shareholders alike. The survey results are quite lengthy and come with the important disclaimer that they do not necessarily reflect what the new law will actually require. In fact, I interpret these survey results to mean that more guidance from the SEC Staff on many of these issues is badly needed. The Staff has promised some guidance soon, but it’s unclear if that guidance will deal with these challenging perk issues.

Some key findings of the survey are summarized here, and include:


The Pending NYSE-Euronext Merger and Sarbanes Oxley

This post is by Allen Ferrell, Harvard Law School.

An issue that has recieved quite a bit of press in the last several months has been the pending NYSE-Euronext merger.  Many in Europe are concerned that the merger will result in the application of Sarbanes-Oxley (including Section 404) to Euronext-listed companies (actually, companies are listed on the Amsterdam, Lisbon, Paris, and Brussels markets and not on Euronext itself).

In a paper for Euromoney (with Reena Aggarwal and Jonathan Katz) — called U.S. Securities Regulation in a World of Global Exchanges — we point out that this fear is misplaced.  It is highly unlikely that Sarbanes-Oxley would apply to companies listed on a Euronext market by virtue of the merger.  Rule 12g3-2(b) will provide an exemption for these companies due to the fact that the Euronext markets will not be a registered securities market.

The real issue is that the “merger” will be effectuated by a holding company structure with the U.S. markets (NYSE and Arca) and the Euronext markets retaining their independent trading platforms.  The various markets will be subsidiaries.  In short, the ability to realize cost savings (including regulatory cost savings) and maximize liquidity will be severely limited by the fact that the markets will largely continue in the form that they currently exist.  Consolidation of the trading platforms with one listing would likely result in the imposition of Sarbanes-Oxley on Euronext-listed companies given that Rule 12g3-2(b) would not longer be applicabe — the consolidated exchange would likely be considered a U.S. exchange that would need to be registered.

In short, domestic regulation will not prevent cross-border exchange mergers, but it will severely limit the ability of cross-border exchanges to fully realize the benefits of a merger.

Policy Issues Raised by Structured Products

This post is by Allen Ferrell, Harvard Law School.

The Program on Corporate Governance recently issued my discussion paper with Jennifer Bethel, Policy Issues Raised by Structured Products, which will be published in 2007 in the Brookings-Nomura Papers on Financial Services. Our abstract describes the paper as follows:

The structured products market has experienced explosive growth in the United States over the last five years. The growth of this market is expected to continue in the 20-25% range given the still comparatively small size of this market in the U.S. and the expected increase in demand for fixed-income type investments by retiring baby boomers. While often performing an invaluable role in facilitating the transfer of risk and improving the ability of investors to more fully diversify their portfolios, these products also raise important investor protection concerns. Investment banks are increasingly offering structured products to retail investors through their broker networks. Whether retail investors adequately understand the complicated payoff structure of these products, which often include embedded options, and the implicit fees being charged for these products is the source of these investor protection concerns. The illiquidity of most structured products, including even listed ones, heightens these concerns. The current regulation of structured products and possible reforms are examined with these investor protection concerns in mind.

The full discussion paper is available for download here.

Lucky CEOs

This post is by Lucian Bebchuk, Harvard Law School.

Yaniv Grinstein, Urs Peyer and I just issued a discussion paper, Lucky CEOs, on option backdating and corporate governance. The study has been covered in the Wall Street Journal, New York Times, Washington Post, Financial Times, and Boston Globe. We are continuing to work on the subject so any comments or reactions would be most welcome. Our abstract describes the paper as follows:

We study the relation between corporate governance and opportunistic option grant manipulation. Our methodology for studying grant manipulation focuses on how grant date prices rank within the price distribution of the grant month. Investigating the incidence of “lucky grants” — defined as grants given at the lowest price of the month – we estimate that about 1150 lucky grants resulted from manipulation and that 12% of firms provided one or more lucky grant due to manipulation during the period 1996-2005. Examining the circumstances and consequences of lucky grants we find:

– Lucky grants were more likely when the company did not have a majority of independent directors on the board and/or the CEO had longer tenure — factors that are both associated with increased influence of the CEO on pay-setting and board decision-making.


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