Monthly Archives: March 2010

Executive Compensation: A New View from a Long-Term Perspective

This paper comes to us from Carola Frydman, Assistant Professor of Finance at MIT, and Raven Saks Molloy, Economist at the U.S. Federal Reserve.

In our paper, Executive Compensation: A New View from a Long-Term Perspective, 1936-2005, which is forthcoming in the Review of Financial Studies, we document important changes in the level and the structure of executive pay from 1936 to 2005. The real value of total compensation followed a J-shaped pattern over our sample period. After a sharp decline during World War II, the level of pay increased at a modest rate from the mid-1940s to the mid-1970s, and then rose at an increasing rate from the 1970s to the present. The composition of executive compensation also changed considerably since the 1950s, as both stock options and other forms of incentive pay became larger shares of total compensation over time.

The relative stagnation of compensation during the 1950s and 1960s is surprising because the level of executive pay did not keep pace with the growing size of firms during this period. By contrast, pay and firm size have been more strongly correlated in recent decades. Decomposing the relationship between compensation and firm size into its cross-sectional and time series components, we find that the cross-sectional relationship has remained relatively stable over the past 70 years. On the other hand, while the level of pay moved almost one-to-one with the average market value of firms over the past 30 years, this correlation was one-tenth to one-third as large in the 1946-1975 period. Moreover, the strong correlation that we find in the later period may be biased upward by spurious correlation in the market value of firms and the level of pay.


Who Should Submit Shareowner Proposals?

James McRitchie is the publisher of This post relates to Apache Corp. v. Chevedden, S.D. Tex., No. 4;10-cv-00076, 1/8/10. The court documents in that case are available here.

In Apache v. Chevedden, Apache’s court brief says: “When it comes to shareholder proposals, Apache is the ‘David’ and Chevedden is the ‘Goliath.’” That seems strange coming from a $33 billion market cap company. However, after reading their brief, I agree; the company seems to be at a disadvantage. They don’t seem to know how corporate ownership in America works.

The lawsuit stems from what appears to be ambiguous language contained in SEC Rule 14a-8(b)(2) regarding how to demonstrate proof of ownership when submitting a shareowner proposal.

… at the time you submit your proposal, you must prove your eligibility to the company in one of two ways:

(i) The first way is to submit to the company a written statement from the “record” holder of your securities (usually a broker or bank) verifying that, at the time you submitted your proposal, you continuously held the securities for at least one year. You must also include your own written statement that you intend to continue to hold the securities through the date of the meeting of shareowners …


Incentives of Private Equity General Partners from Future Fundraising

Michael Weisbach is Professor and Ralph W. Kurtz Chair in Finance at The Ohio State University.

In the paper, Incentives of Private Equity General Partners from Future Fundraising, which was recently published on SSRN, my co-authors (Ji-Woong Chung, Berk Sensoy, and Léa Stern) and I evaluate the importance of future fundraising to the incentives of private equity general partners. To do so, we formalize the logic by which good performance today could lead to higher future incomes for GPs.

We present a model in which a private equity partnership potentially has an ability to earn abnormal returns for their investors, but this ability is unknown. Given an observation of returns, investors update their assessment of the GP’s ability, and, in turn, decide how much capital to allocate to the partners’ next fund. We derive predictions about the relation between the performance of a particular fund and the fund’s partners’ abilities to raise capital in the future. Intuitively, the model implies that the more informative the fund’s performance is about GPs’ abilities, the more sensitive future fundraising should be to today’s performance. In addition, the way in which abilities can be “scaled” will affect investors’ willingness to commit higher quantities of capital for a given level of managerial ability. These larger funds will lead, in expectation, to higher compensation for the partners, since compensation agreements almost always change linearly with fund size. Given this setup, we derive an explicit formula calculating the effect of fund performance today on expected future GP compensation.


SEC Release Establishes Guidance on Climate Change Disclosure

Edward Greene is a partner at Cleary Gottlieb Steen & Hamilton LLP focusing on corporate law matters. This post is based on a Cleary Gottlieb Alert Memo by Ann Bonneville and Richard Bidstrup.

On February 2, 2010, the Securities and Exchange Commission issued an interpretive release to provide guidance on existing Commission disclosure requirements as they apply to climate change.

In issuing the release, the Commission stated that its objective is to provide clarity on disclosure relating to climate change, including in an issuer’s risk factors, business description, legal proceedings and management’s discussion and analysis. The Commission emphasized that the release does not impose any new legal requirements or modify existing ones. In particular, the release does not, in and of itself, require an issuer to disclose its carbon footprint or the steps it is taking to reduce emissions. Chairman Mary Schapiro also observed that the Commission is not taking a position on any facts relating to climate change or global warming.

It would, however, be naïve to think that Commission statements of this sort do not drive practice, and we expect all issuers to focus on this area in the current reporting season. We also expect more disclosure, given the Commission’s endorsement of the principle expressed in the seminal case of TSC Industries, Inc. v. Northway, Inc. that doubts about materiality should be resolved in favor of disclosure. The release likewise foreshadows increased regulatory scrutiny not only of disclosure by issuers whose business is clearly implicated by the effects of climate change, but also by others whose business may be affected in more indirect or speculative ways. Increased disclosure will also likely attract attention from other regulators and NGOs, as well as from shareholders seeking to advance an environment-friendly agenda through the annual meeting shareholder proposal process. It is noteworthy that the Commission’s action has already drawn strong criticism from Capitol Hill, with Rep. Spencer Bachus (R-Alabama), the ranking member of the House Financial Services Committee, characterizing the action as “ill-advised” and “reaching beyond the SEC’s expertise.”


Alternative Dispute Resolution in the Delaware Court of Chancery

Rachelle Silverberg is a partner and member of the Litigation Department at Wachtell, Lipton, Rosen & Katz. This post is based on a Wachtell Lipton firm memorandum by Ms. Silverberg. 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.

New rules took effect February in Delaware governing the arbitration of business disputes in the Delaware Court of Chancery. The rules implement amendments to Delaware law, adopted last year, granting the Chancery Court jurisdiction to arbitrate certain business disputes, and compliment rules already in place governing the Court’s mediation of business and technology disputes.

Under the new law, the Court of Chancery has jurisdiction to arbitrate “business disputes,” which would include most complex corporate and commercial disputes. At least one of the parties must be a business entity, and at least one must be organized under Delaware law or have its principal place of business in Delaware. No party can be a consumer. In a claim exclusively for monetary damages, the amount in controversy must be at least $1 million. All parties must consent to the arbitration.


Fixing the Problems with Client Directed Voting

John Wilcox is Chairman of Sodali and an independent consultant on corporate governance to TIAA-CREF.

In their recent post on the Forum entitled Restoring Balance in Proxy Voting: The Case For “Client Directed Voting (available here), Frank Zarb Jr. and John Endean advocate Client Directed Voting (CDV), and describe how CDV might work. However, their model suffers from a significant problem. As envisioned by Mr. Zarb and Mr. Endean, CDV would offer beneficial owners only three choices: (1) to vote in proportion to other retail shareholders; (2) to vote as the board recommends; (3) to vote “contrary to the board’s recommendation.” This approach offers no improvement over the old discredited system of broker discretionary voting. In fact, proportional voting is a practice that violates the core governance principle of one-share-one-vote and increases the risk of manipulative practices. What is needed is an efficient model of CDV that is contextual and that can be customized to individual companies and their circumstances.

It is possible to conceive of a much more robust model for CDV in which retail investors would have access to a variety of meaningful choices for directed voting. CDV make sense if it could be structured to offer retail beneficial owners (RBOs) meaningful and customized voting choices, an audit trail, regular reporting and annual contract renewal.

To be meaningful, CDV should provide RBOs an array of voting analyses and choices from different types of institutional investors and other groups, including public pension funds, environmental and social investors, long term centrists such as TIAA-CREF, labor unions, advocacy investors, etc. It is interesting to speculate whether or how activist institutional investors, short-term investors or hedge funds might participate in a CDV system. It is also interesting to consider whether the voting recommendations of proxy advisory firms might appear on CDV platforms, with or without accompanying analyses.


The Corporate Pyramid Fable

Editor’s Note: This post comes to us from Steven Bank, Professor of Law at UCLA, and Brian Cheffins, Professor of Corporate Law at the University of Cambridge.

In our paper, The Corporate Pyramid Fable, which was recently published on SSRN, we investigate the impact intercorporate taxation of dividends had on corporate pyramids. Intercorporate taxation of dividends became a permanent feature of the U.S. tax landscape in 1935. Correspondingly, to assess the impact of this change, we rely on a pioneering hand-collected dataset based on filings made between 1936 and 1938 with the Securities and Exchange Commission by investors owning 10% or more of shares of corporations registered with the Commission. To the extent that the received wisdom concerning tax and corporate pyramids is correct, the introduction of taxation on intercorporate dividends in 1935 should have prompted the rapid unwinding of corporate-held ownership blocks in public companies, thus causing the simplification of complex group structures, including pyramidal arrangements.

Our results indicate matters worked out much differently. Although politicians may have supported the intercorporate dividends tax because they believed that it would induce corporations to unwind stakes held in other publicly traded corporations, tax reform apparently did not have that effect. Corporations that owned large stakes in publicly traded firms rarely sought to exit in the years immediately following the introduction of intercorporate taxation of dividends, and many corporations even increased their ownership stakes in other corporations. A key reason the introduction of intercorporate taxation of dividends did not have the anticipated impact was that the tax burden was so modest. Although dividends by one corporation to another corporation were no longer completely tax-free, they remained largely exempt.


Corporate Governance: Past, Present, & Future

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Editor’s Note: Robert Monks is the founder of Lens Governance Advisors, a law firm that advises on corporate governance in the settlement of shareholder litigation.

The Vision

The modern business corporation emerged as the first institutional claimant of significant unregulated power since the nation state established its title in the sixteenth and seventeenth centuries.
—Abe Chayes [1]

Abe Chayes, a former Kennedy administration official and long-time Harvard Law professor, wrote those words at the outset of what might be thought of as America’s own “Thirty Glorious Years” — that three-decade span from the late seventies through 2008 when it seemed possible that private enterprise could operate on a global stage, free from the constraints of governmental regulation and oversight. The vision was simple and stirring, and in many ways irresistible: Corporate efficiency could co-exist with democracy.

Writing in the Stanford Law Review, another professor, David Engel, [2] precisely articulated the standards to which corporations would need to subscribe in order to legitimate this unregulated power within a democratic society:


Private Equity and Industry Performance

Josh Lerner is a Professor of Investment Banking at Harvard Business School.

In this paper, Private Equity and Industry Performance, which was recently published on SSRN, my co-authors, Shai Bernstein, Morten Sørensen, and Per Strömberg, and I examine the impact of PE investments across 20 industries in 26 major nations between 1991 and 2007. We focus on whether PE investments in an industry affect aggregate growth and cyclicality. In particular, we look at the relationship between the presence of PE investments and the growth rates of productivity, employment and capital formation. For our productivity and employment measures, we find that PE investments are associated with faster growth. One natural concern is that this growth may have come at the expense of greater cyclicality in the industry, which would translate into greater risks for investors and stakeholders. Thus, we also examine whether economic fluctuations are exacerbated by the presence of PE investments, but we find little evidence that this is the case.

Throughout our analysis, we measure the growth rate in a particular industry relative to the average growth rate across countries in the same year. In addition, we use country and industry fixed effects, so that the impact of PE activity is measured relative to the average performance in a given country, industry, and year. For instance, if the Swedish steel industry has more PE investment than the Finnish one, we examine whether the steel industry in these two countries performs better or worse over time relative to the average performance of the steel industry across all countries in our sample, and whether the variations in performance over the industry cycles are more or less dramatic.


After the Financial Crisis: Fixing the Market and Regulatory Failures

Editor’s Note: Eliot Spitzer is the former Governor of New York. This post is based a speech delivered by Mr. Spitzer at Harvard University’s Edmond J. Safra Foundation Center for Ethics; an essay adapted from the speech recently appeared in the Boston Review.

Every day we read the headlines, feel the tensions, observe the consequences of the recent failures of markets and government. Having a serious conversation about how to remedy these failures lies at the heart of current American politics. Among the questions that conversation should address are whether our response to the immediate crisis has been successful, and how might we restore an effective structure for corporate governance. The failures of corporate governance account for much of our economic troubles over the past 30 years. Getting out of the current mess will require addressing these underlying failures.

Regarding the question of whether government intervention related to the current crisis has been appropriate and effective, perhaps not surprisingly, my conclusion is that it has not. When our economic world appeared to collapse, there was absolutely no question that an enormous sum of money was going to be spent creating solvency and liquidity; money needed to be pushed into the system. On that premise, there was universal agreement. And when it was done — the number $24 trillion is thrown about when you aggregate the straight cash given out, the guarantees, the money we printed — everyone cheered.


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