Yearly Archives: 2010

Turbulent Waters for Derivatives Markets

Posted by Scott Hirst, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Saturday, April 17, 2010
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This post comes to us from David Felsenthal, a partner in the New York office of Clifford Chance who specializes in financial transactions. It is based on a recent Clifford Chance publication regarding the views of a number of Clifford Chance lawyers, including Mr. Felsenthal, Marc Benzler, Paget Dare Bryan, Ian Moulding and Habib Motani.

Central clearing may sound like a wonder drug to regulators and politicians around the world anxious to control trading in over-the-counter (OTC) derivatives, but it has side effects.

US authorities realise this and have “backed off” from a position of requiring all derivatives to be cleared. Some in the US believe there will be a world where cleared swaps co-exist with bespoke swaps that won’t be cleared. Where that boundary is drawn is going to be a critical issue.

Among questions facing proponents of central clearing are what type of derivatives would need to be cleared, whether interest rate swaps as well as credit derivatives would come under the rule, whether trade execution would also be centralised and the impact of increased transparency.

The heart of the OTC derivatives world has been bilateral prices, individually negotiated. The regulators would like more centralisation and transparency. Some believe this has enormous business consequences.

Inevitably, the contracts used for derivatives will be affected by way they’re cleared. Of the different sets of contracts, the biggest changes will be in contracts between dealer and customer which have always been done bilaterally.

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Regaining Corporate Governance Balance

Posted by Peter Atkins, Skadden, Arps, Slate, Meagher & Flom LLP, on
Friday, April 16, 2010
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Peter Atkins is a Partner for Corporate and Securities Law Matters at Skadden, Arps, Slate, Meagher & Flom LLP.

Those who believe that U.S. corporate governance reform efforts have been moving too fast and too far off course [1] need to focus carefully on the current state of play.  We are at a moment in time when it may be possible to achieve a more balanced outcome from Washington than seemed likely only a few months ago.  However, this moment can easily turn into a missed opportunity if it is not recognized and the effort to take advantage of it is not pursued.

The Current Environment

On the political front, certain potentially moderating circumstances may have developed.  2010 has seen the Democrats lose their 60 vote, filibuster-proof majority in the Senate and, in the face of a heated national debate, achieve passage of significant federal health care reform legislation that may have repercussions in the mid-term elections this coming November.

However, populist ire at U.S. government bailouts of banks and financial institutions continues to resonate.  It remains to be seen whether and to what extent this will be a counteracting force in support of expanded federal government regulation.

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Performance Persistence in Entrepreneurship and Venture Capital

Posted by Josh Lerner, Harvard Business School, on
Friday, April 16, 2010

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

In the paper, Performance Persistence in Entrepreneurship and Venture Capital, forthcoming in the Journal of Financial Economics, my co-authors (Paul Gompers, Anna Kovner, and David Scharfstein) and I address two basic questions: Is there performance persistence in entrepreneurship? And, if so, why? Our answer to the first question is yes: all else equal, a venture-capital-backed entrepreneur who succeeds in a venture (by our definition, starts a company that goes public) has a 30% chance of succeeding in his next venture. By contrast, first-time entrepreneurs have only an 18% chance of succeeding and entrepreneurs who previously failed have a 20% chance of succeeding.

The answer to the second question of why there is performance persistence is more complex. Performance persistence is usually taken as evidence of skill. This is certainly the most straightforward explanation of our finding. However, in the context of entrepreneurship, there may be another force at work. The perception of performance persistence – the belief that successful entrepreneurs are more skilled than unsuccessful ones – can induce real performance persistence. This would be the case if suppliers and customers are more likely to commit resources to firms that they perceive to be more likely to succeed based on the entrepreneur’s track record. This perception of performance persistence mitigates the coordination problem in which suppliers and customers are unwilling to commit resources unless they know that others are doing so. In this way, success breeds success even if successful entrepreneurs were just lucky. And, success breeds even more success if entrepreneurs have some skill.

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The Lead Director’s Role in Major Transactions and Board Succession Planning

Posted by Jeffrey Stein, King & Spalding LLP, on
Thursday, April 15, 2010

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Jeffrey Stein is a partner in the Corporate Practice Group at King & Spalding LLP. This post is by Mr. Stein and Bill Baxley, also a partner in the Corporate Practice Group and co-head of the firm’s Mergers & Acquisitions initiative, and relates to a recent meeting of King & Spalding’s Lead Director Network, a summary of which is available here.

The lead director’s role in major corporate transactions and board succession planning are two topics that are often critical to a company’s long-term success.  However, although “bet the company” transactions are themselves not new, in view of the recent expansion of lead directors’ roles, there is currently little formal guidance or established practices defining the role that lead directors should play in major corporate transactions.  Moreover, while management succession planning has recently received significant attention, board succession planning and the role of the lead director in such planning has received comparatively little attention.

Against this background, the Lead Director Network (the “LDN”), a group of lead directors, presiding directors and non-executive chairmen from many of America’s leading companies, met on March 2, 2010 to discuss the lead director’s role in major transactions and board succession planning.  Following this meeting, King & Spalding and Tapestry Networks have published the ViewPoints reports here to present highlights of the discussion that occurred at the meeting and to stimulate further consideration of these subjects.

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Strategic and Financial Bidders in Takeover Auctions

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Wednesday, April 14, 2010
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This post comes to us from Alexander Gorbenko, Ph.D. Candidate at Stanford University (Assistant Professor of Finance at the London Business School beginning in August of 2010), and Andrey Malenko, Finance Ph.D. Candidate at Stanford University.

In the paper, Strategic and Financial Bidders in Takeover Auctions, which was recently made publicly available on SSRN, we propose a structural empirical model of a takeover auction that studies asymmetries between strategic and financial bidders. A large portion of deals in the multi-trillion market for takeovers are done through the competitive auction. In these cases, the target has to decide on the set of participating bidders and the selling procedure. This task is complicated by the fact that potential bidders are asymmetric. Specifically, both academic and business literatures recognize two major groups of bidders, strategic and financial, that seem to be very different in their bidding and participation decisions. This paper studies how the two groups of bidders differ with respect to valuations of potential takeover targets and costs of participation in takeover auctions, and how these differences affect the outcome of a takeover auction. Understanding bidder asymmetries is an important step towards designing an optimal selling procedure for each particular target.

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Multiple Gatekeepers

Posted by Scott Hirst, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Tuesday, April 13, 2010

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This post is from Andrew Tuch, a Fellow of the Program on Corporate Governance and John M. Olin Fellow at Harvard Law School. The paper is available here.

In my paper Multiple Gatekeepers, which was recently accepted for publication in the Virginia Law Review, I extend the literature on gatekeeper liability by considering the possibility that the fraud-deterrence capacity of gatekeepers will be interdependent, and not simply independent as previous scholars have assumed. Put differently, I envisage of gatekeepers as providing an interacting web of protection against wrongdoing. The paper thus goes beyond the unitary conception of the gatekeeper, under which a single gatekeeper is regarded as acting on a transaction or each of multiple gatekeepers is conceived of as being independently capable of deterring wrongdoing. My focus is on business transactions, such as securities offerings and mergers and acquisitions.

In this context, gatekeepers are lawyers, investment bankers, accountants and other actors with the capacity to monitor and control the disclosure decisions of their clients – and thereby to deter securities fraud. After each wave of corporate upheaval, including the recent financial crisis, the spotlight of responsibility invariably falls on gatekeepers for failing to avert the wrongs of their clients. Witness the focus on lawyers’ conduct in the controversial merger of Bank of America and Merrill Lynch. A rich literature on gatekeeper liability has considered what liability regime would lead gatekeepers to deter securities fraud optimally, but has adopted a unitary conception of the gatekeeper.

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Follow Harvard’s Corporate Governance Forum on Twitter

Posted by the Harvard Law School Forum on Corporate Governance & Financial Regulation, on
Tuesday, April 13, 2010

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In addition to daily e-mail updates (which you can sign-up for here), the Forum on Corporate Governance and Financial Regulation sends out regular updates on Twitter about our posts and events.

Click here to view our Twitter page and see the latest updates. Twitter users can click the “Follow” icon to receive current tweets as soon as they are posted.

SEC Proposes Asset-Backed Securities Reform

Posted by James Morphy, Sullivan & Cromwell LLP, on
Monday, April 12, 2010
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James Morphy is a partner at Sullivan & Cromwell LLP specializing in mergers & acquisitions and corporate governance. This post is based on a Sullivan & Cromwell client memorandum.

On April 7, 2010, the Securities and Exchange Commission proposed significant revisions to Regulation AB and other rules relating to the disclosure, reporting and offering process for asset-backed securities. The proposed rules are intended to provide investors with more information, additional useful tools and more time to consider their investment in the asset-backed securities, and to align the interests of sponsors with those of investors. The proposals would also revise the conditions to use of shelf registration in the context of asset-backed securities, replacing the investment grade rating requirement with a new set of requirements, including a condition that the ABS sponsor hold five percent of each class of ABS, net of any hedging arrangements. Significantly, in an apparent effort to encourage continued use of shelf registration and to provide more information to investors in the private markets, the proposals would condition availability of the Rule 144A and Regulation D safe harbors, for a private offering of asset-backed securities and other “structured finance products”, on investors’ being given, upon request, the same information that would be required if the offering were registered.

We plan to issue a memorandum analyzing these proposals in more detail and to submit a comment letter to the SEC on the proposals. Comments will be due 90 days after publication of the proposing release in the Federal Register.

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Do Global Banks Spread Global Imbalances?

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on
Monday, April 12, 2010

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This post comes to us from Viral Acharya, Professor of Finance at New York University, and Philipp Schnabl, Assistant Professor of Finance at New York University.

In our paper, Do Global Banks Spread Global Imbalances? The Case of Asset-Backed Commercial Paper During the Financial Crisis of 2007-09, forthcoming in the IMF Economic Review, we provide evidence that global imbalances cannot explain the geography of the financial crisis of 2007-09. In particular, they cannot explain why surplus countries such as Germany and their banks were as heavily involved as the US banks in the business of creating risk-free securities and concentrating risks in the process.

The global imbalance explanation of the financial crisis of 2007-09 argues that the demand for riskless assets from countries with current account surpluses created fragility in the US financial sector. We investigate this explanation by analyzing whether this fragility only appeared in countries that had current account surpluses, such as the US, or also in other countries. Specifically, we examine the geography of asset-backed commercial paper (ABCP) conduits set up by large commercial banks. We show that both banks located in surplus countries and banks located in deficit countries manufactured riskless assets of $1.2 trillion by selling short-term asset-backed commercial paper to risk-averse investors, predominantly US money market funds, and investing the proceeds primarily in long term US assets. As negative information about US assets became apparent in August 2007, banks in both surplus and deficit countries experienced difficulties rolling over asset-backed commercial paper and as a result suffered significant losses.

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Delaware Ruling Reinforces Validity of the Poison Pill

Posted by David A. Katz, Wachtell, Lipton, Rosen & Katz, on
Sunday, April 11, 2010
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David A. Katz is a partner at Wachtell, Lipton, Rosen & Katz specializing in the areas of mergers and acquisitions and complex securities transactions. This post is based on an article by Mr. Katz and Laura A. McIntosh that recently appeared in the New York Law Journal. The post offers another perspective on the important Delaware decision in Selectica, Inc. v. Versata, Inc. (which is available here); other posts discussing the case have appeared on the Forum here and here. 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.

A recent decision by the Delaware Court of Chancery strongly reinforces both the continued relevance of the shareholder rights plan and the primacy of boards’ business judgment. Selectica, Inc. v. Versata, Inc., [1] decided by Vice Chancellor Noble last month, concludes the saga of the first triggering of a modern poison pill—and represents the first judicial scrutiny of a pill designed to protect a company’s net operating losses (“NOLs”). The opinion makes several important points: first, that a poison pill can be an appropriate mechanism for protecting a company’s NOLs, despite the NOLs’ uncertain value; second, that lowering a rights plan’s triggering threshold to 4.99 percent in order to convert a traditional poison pill to a NOL pill in response to a competitor’s accumulation of shares is permissible under Unocal and its progeny; third, that directors have broad latitude to draw reasonable conclusions about the value of a company’s NOLs, the severity of the threat posed by a particular shareholder, and the appropriate defensive response under the circumstances; and finally, that even after a pill has been triggered and the acquirer diluted, a board is permitted to implement a new pill (i.e., “reload”) to deter further acquisitions that could jeopardize the company’s NOLs. Recent takeover trends and the widely publicized Cadbury-Kraft deal highlight the importance of takeover defenses in the current environment.

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