Monthly Archives: March 2007

A “Valeant” Effort

Editor’s Note: This post is by Lawrence A. Hamermesh of the Widener University School of Law. 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.

On March 1st, Vice Chancellor Lamb made a significant contribution to the growing body of caselaw involving challenges to executive compensation decisions. The case is Valeant Pharmaceuticals v. Jerney. Fellow guest contributor Broc Romanek has already blogged about the decision, recognizing its educational value on matters of executive pay. (Broc’s post includes a nice summary of the case from Delaware lawyer J. Travis Laster of Abrams & Laster.)

The Valeant opinion is a rare example of a case in which a court awards damages against a director for having approved excessive compensation. The case is not one, however, that blazes a path for challenges to executive compensation decisions made the “kosher” way, i.e., by compensation committees whose members meet stock-exchange-prescribed criteria for independence and who rely on truly independent compensation consultants.


WLRK Memorandum on The Caremark Chronicles

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.

Notwithstanding Chancellor Chandler‘s order last month delaying a shareholder vote on the deal, CVS and Caremark successfully closed their merger last week.  The Chancellor delayed the vote until Caremark disclosed to shareholders their right to seek an appraisal and the structure of the fees paid to UBS and J.P. Morgan, which stood to gain considerably more from a consummated deal with CVS rather than a deal with Caremark’s other suitor, Express Scripts.

Edward Herlihy, Eric Roth, Craig Wasserman, and Ross Fieldston of Wachtell, Lipton, Rosen and Katz have prepared a highly insightful Memorandum offering an insider’s view of the strategic considerations that guided the Caremark board during the merger process.  The Memorandum sets forth several critical lessons boards of directors can draw from the Caremark experience, including the importance of the strategic choices that permitted CVS to improve its bid without further delaying a shareholder vote.  In light of the increased scrutiny the courts are applying to board decisions made during the auction process, the Memorandum is a must-read for directors and transaction counsel alike.

Ehud Kamar’s Study on the Consequences of SOX

Ehud Kamar presented a fascinating new paper last night at the Law School’s Law and Economics Seminar: Going-Private Decisions and the Sarbanes-Oxley Act of 2002: A Cross-Country Analysis.  The paper, which is coauthored by Pinar Karaca-Mandic and Eric Talley, uses a difference-in-differences approach to measure whether small firms are being driven out of the U.S. capital markets by Sarbanes-Oxley.  The Abstract is as follows:

This article investigates whether the passage and the implementation of the Sarbanes-Oxley Act of 2002 (SOX) drove firms out of the public capital market.  To control for other factors affecting exit decisions, we examine the post-SOX change in the propensity of public American targets to be bought by private acquirers rather than public ones with the corresponding change for foreign targets, which were outside the purview of SOX.  Our findings are consistent with the hypothesis that SOX induced small firms to exit the public capital market during the year following its enactment.  In contrast, SOX appears to have little effect on the going-private propensities of larger firms.

Ehud’s presentation at the Seminar was followed by a lively debate with faculty and students.  Some highlights:


Chancery Addresses Deficient Board Procedures in Approving Private Equity Transactions

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.

Vice Chancellor Leo Strine, who teaches at Harvard Law each fall, last week issued an opinion with potentially significant implications for shareholder challenges to going-private transactions in In re Netsmart Technologies, Inc.  The opinion holds that a board may fail to meet its Revlon duties when it considers only bids from financial buyers–to the exclusion of strategic acquirers–and that a firm must disclose valuation opinions suggesting that the firm is worth more as a standalone entity in the merger proxy.

Netsmart‘s board considered only bids from financial buyers before signing a merger agreement with a window shopping provision.  (Although Netsmart was prohibited from soliciting a higher bid, the window shopping clause authorized them to accept an unsolicited bid.)  In cases involving larger firms, Chancery has suggested that window shopping clauses ensure that the board accepted the highest bid, for other bidders are free to step in and pay more.  But Netsmart is quite small, and the Vice Chancellor concludes on these facts that a window shopping provision offers little market assurance for small firms because other buyers might not know that the firm is in play and the company is prohibited from actively soliciting a higher bid.

Paul Rowe, a member of the Program on Corporate Governance‘s Advisory Board and a partner at Wachtell, Lipton, Rosen & Katz, has authored a Memorandum on the decision.  The Memorandum notes that the Netsmart board used an increasingly common approach to the auction, and that previous Delaware cases had approved window shopping provisions under different circumstances.  Emphasizing the fact-specific nature of the opinion, Paul concludes that Chancery will probably continue to defer to the judgment of boards in structuring the auction process, but that boards must ensure that the auction procedure they establish is appropriate in light of the particular circumstances of the merger market for the firm.


Just Who is Creating This Value, and at What Cost?

This post is by J. Richard Finlay of the Centre for Corporate & Public Governance.

It has recently been suggested by some commentators on these pages that CEOs add great value and are entirely deserving of the substantial compensation they have been paid.  The example of Jim Kilts–who, it is claimed, created some $20 billion in share value at Gillette and received total compensation of $150 million for his work–was cited with approval.

I have been observing with considerable skepticism the course of CEO remuneration over a number of years, having dubbed excessive CEO pay the “mad cow disease of the North American boardroom.”  Empirically–as many who have spent much time in and around the boardroom will acknowledge–there is a point where additional tens of millions become marginal as an inducement to higher performance.  In my view, that point occurs very early in the compensation tally.


Comments on the SEC’s Mutual Fund Governance Rules

Editor’s Note: This post is by John Coates of Harvard Law School.

An article in today’s Wall Street Journal describes the continuing debate on the Securities and Exchange Commission‘s rulemaking on mutual fund governance.  In 2004, the SEC adopted rules (by a split vote of 3-2) that would have required mutual funds to have a 75% independent board and would have required that the chairman of the board be independent.  The D.C. Circuit struck down that rule (for the second time) last June.  In December, the SEC released for comment two papers on mutual fund governance prepared by the Office of Economic Analysis.

At Fidelity‘s request, I reviewed and commented on the OEA’s papers in this report filed with the SEC.  The report, which draws on a recent paper I coauthored with R. Glenn Hubbard, Competition and Shareholder Fees in the Mutual Fund Industry, notes that the OEA’s analysis contributes significantly to the debate on the desirability of the mutual fund governance rules.  The report also points out, however, that the OEA papers:

–Acknowledge (although underemphasize) that no empirical data supports the need for the 75% independence rule or the independent chair mandate;


Blogging the Nacchio Trial

Editor’s Note: This post is by J. Robert Brown, Jr. of the University of Denver Sturm College of Law.

The trial of former Qwest CEO Joe Nacchio begins next Monday, March 19, in the federal district courthouse in downtown Denver.  It is the last significant criminal case arising out of the corporate scandals that led to the adoption of Sarbanes-Oxley.  The SEC case against Nacchio is pending.  Qwest has already settled with the Commission in an agreement that included a $250 million civil penalty. 

The 42-count criminal indictment (a mere six pages long) does not revolve around financial fraud but insider trading.  It alleges that Nacchio sold shares worth more than $100 million while aware of material non-public information, with the indictment alleging that he was “specifically and repeatedly warned about the material, non-public financial risks facing Qwest and about Qwest’s ability to achieve its aggressive publicly stated financial targets.” will provide daily coverage of the trial.  The blog is a collaboration of students and faculty on corporate governance issues.  Faculty and students will rotate through the eight-week trial with the expectation that there will be at least two posts each day the trial is in session (the trial will not be conducted on Fridays).  Primary materials on the case can be found at the University of Denver Corporate Governance web site. 

Executive Pay Players

The Wall Street Journal ran an article on the front page of today’s paper entitled How Five New Players Aid Movement to Limit CEO Pay.  The article profiles five individuals, each representing a different type of player in what the Journal calls “an unusual movement that has turned executive-pay activism into a potent mainstream force.”

The five players include Lucian Bebchuk (who the article describes as “The Professor”); Jesse Brill (“The Networker”), who brought about the use of “tally sheets” in calculating the amount of compensation a company will owe if an executive leaves the firm; pension fund activist and assistant treasurer for the State of Connecticut Meredith Miller (“The Bureaucrat”); John Hill (“The Mutual-Fund Trustee”), who is credited with the assertive stance that Putnam Investments has been taking towards executive pay; and union fund official Edward Durkin (“The Union Leader”).


Warren Buffett on CEO Pay

Editor’s Note: This post is by Steven Kaplan of the University of Chicago.

I thought I’d mention two items on Warren Buffett’s views on executive pay.  (Broc Romanek posted here on Buffett’s 2007 letter to shareholders.  In that letter Buffett described current pay practices as “[i]rrational and excessive.”)

First, Berkshire Hathaway does not disclose what it pays its operating executives.  I would be curious to know how much Buffett pays them.  Second, Buffett was a strong supporter of Jim Kilts at Gillette.  Kilts was paid highly for performance, created some $20 billion in value, yet was criticized in some circles for being overpaid because he received over $150 million.  I happen to agree with Buffett that Kilts should have been congratulated rather than criticized.

The Hearing on Say on Pay

Editor’s Note: This post is by Lucian Bebchuk of Harvard Law School.

Steve Kaplan posted below on the hearing that the Financial Services Committee of the House of Representatives held last week on proposed legislation that would require public companies to hold each year an advisory shareholder vote on the company’s executive compensation in the preceding year.

In my written testimony, I explained: (1) the significant concerns that investors still have about existing executive pay arrangements; (2) the way in which advisory votes by shareholders could help address these concerns; (3) why the weakness of existing shareholder rights in the US makes the need for additional tools for investors greater in the US than it was in the UK (which now mandates shareholder advisory votes on compensation).  I also examined and responded to several possible objections to shareholder advisory votes.  Because I am considering developing my written statement into a piece on the subject, any comments or reactions either on the blog or directly to me would be most welcome.


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