Monthly Archives: August 2016

A Critique of the ValueAct Settlement

Phillip Goldstein is the co-founder of Bulldog Investors. This post is based on a comment letter regarding the ValueAct settlement. The ValueAct settlement was previously discussed on the Forum here, here, and here. Related research from the Program on Corporate Governance includes The Long-Term Effects of Hedge Fund Activism by Lucian Bebchuk, Alon Brav, and Wei Jiang (discussed on the Forum here), The Myth that Insulating Boards Serves Long-Term Value by Lucian Bebchuk (discussed on the Forum here).

The announced settlement of the referenced matter appears to be a product of coerced capitulation rather than of the parties’ relative assessments of the merits. It appears that ValueAct, in response to the FTC’s post-litigation decision to dramatically increase the penalties for violations of the Hart-Scott-Rodino Antitrust Improvements Act (the “HSR Act”) and to apply them retroactively, made a rational decision to settle. [1] As a result, the settlement avoids judicial scrutiny of, and perpetuates (by virtue of its in terrorem effect) a rule that, as explained below, should never have been adopted. For those reasons, the settlement is not in the public interest.

Conglomerate Investment, Skewness, and the CEO Long-Shot Bias

Oliver Spalt is Professor of Behavioral Finance at Tilburg University. This post is based on an article authored by Professor Spalt and Christoph Schneider, Assistant Professor of Finance at the University of Mannheim.

Making investment decisions that maximize shareholder value is the central task of corporate managers, and every MBA curriculum features state-of-the-art valuation tools prominently. Nevertheless, making investment decisions in the real world is difficult because even the best valuation tools rely to a considerable extent on assumptions that are subjective. Consistent with substantial residual uncertainty around true project value, about half of the CEOs mention in surveys “gut feel” as an important or very important factor in their investment and capital allocation decisions. As there is by now overwhelming evidence suggesting that intuitive reasoning in financial matters frequently leads to biased and therefore suboptimal decisions, a natural—and potentially very important—question is whether biases distort optimal capital allocation in firms.


Weekly Roundup: July 29–August 4, 2016

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This roundup contains a collection of the posts published on the Forum during the week of July 29–August 4, 2016.

The Commonsense Corporate Governance Principles: Who Was Missing from the Table?

Ed Batts is partner and co-head of the M&A and Private Equity groups at Orrick, Herrington & Sutcliffe LLP. This post is based on an Orrick publication. The Commonsense Governance Principles are available here.

A most curious press release sprouted up amidst summer’s hot growing season: 13 leaders of public companies and investing firms have put forth self-professed governance principles for public companies. As can often happen with a group drawn from diverse constituencies, however, and no matter how laudable the goal, the message avoided controversy—and thus at times clarity. In many areas the principles simply restated what has become commonly accepted as the norm—and in other areas they merely described known facts without clearly adopting a position—thereby resulting in analytical hedging. While the governance principles are undeniably appropriate to initiate a dialogue, they beg the question of what raw issues lurk under the surface.


Boards, Shareholders, and Executive Pay

Paula Loop is Leader of the Governance Insights Center at PricewaterhouseCoopers LLP. This post is based on a co-publication from PwC and Cleary Gottlieb Steen & Hamilton LLP by Ms. Loop, Catherine BromilowTerry Ward, Paul DeNicola, and Arthur H. Kohn. Related research from the Program on Corporate Governance includes Paying for Long-Term Performance by Lucian Bebchuk and Jesse Fried (discussed on the Forum here).

More and more, we are seeing boards engage with shareholders and other stakeholders about executive compensation. But what has motivated this new attitude? We take a closer look at the drivers behind it, including provisions of the Dodd-Frank Act, the role of proxy advisors and shareholder pressure, and offer advice on how boards can do a better job of talking to shareholders and other stakeholders about the issue.


Race and Gender Inequality in the Boardroom

Matthew E. Souther and Adam S. Yore are Assistant Professors in Finance at the Robert J. Trulaske, Sr. College of Business a University of Missouri. The following post is based on a recent paper by Professors Souther and Yore.

In the paper, Racial and Gender Inequality in the Boardroom, we analyze the individual compensation levels of S&P 1,500 directors and find that minority and female (“diverse”) directors earn systematically lower compensation than their peers serving within the same board, despite having higher qualifications on average. The lower compensation is largely a function of board responsibilities, but also reflects differences in pay not attributable board leadership or service on the primary committees. Although diverse directors are more likely to serve on certain committees, they are less likely to serve in key leadership positions associated with higher levels of pay such as committee chairs, Lead Director, or Chairman of the Board. Additionally, they are less likely to earn additional income beyond the formulaic components of director compensation.


DOJ and SEC Guidance on HSR and “Passive” Investors

Ethan A. Klingsberg is a partner in the New York office of Cleary Gottlieb Steen & Hamilton LLP. This post is based on a Cleary Gottlieb publication by Mr. Klingsberg, Steven J. Kaiser, and Elizabeth Bieber. Related research from the Program on Corporate Governance includes The Law and Economics of Blockholder Disclosure by Lucian Bebchuk and Robert J. Jackson Jr. (discussed on the Forum here), and Pre-Disclosure Accumulations by Activist Investors: Evidence and Policy by Lucian Bebchuk, Alon Brav, Robert J. Jackson Jr., and Wei Jiang.

A settlement on July 12, 2016 by the DOJ with ValueAct for violations of the HSR Act’s notification requirements and an interpretation of the Exchange Act’s beneficial ownership reporting rules posted by the SEC staff on July 14, 2016 combine to provide new guidance that will have an immediate impact on shareholder activism and engagement.

These developments at the DOJ and SEC matter because, as explained in our earlier post, the effectiveness of hedge fund activism is directly related to the extent to which the funds may engage in “under the radar” accumulations of equity positions. At the heart of these new developments is a struggle by these two governmental agencies to determine where to draw the line between active vs. passive investing, albeit under rules using different language and against backdrops of different statutory regimes, for purposes of determining when a shareholder’s level of engagement is “active” enough that the investment ceases to qualify for a passivity exemption from the requirement to make an HSR Act notification or a filing of a Statement of Beneficial Ownership on Schedule 13D (especially in the case of those activist hedge funds that purport to qualify for the exemption under Rule 13d-1(b) that permits delayed filings on Schedule 13G, see the chart contained in the complete publication of our prior post). As explained in greater detail in our prior post where we analyze the nuances of the investment thresholds for HSR Act notifications and Schedule 13D filings, these requirements to make an HSR notification and file a Schedule 13D, especially when combined with each other, can impede meaningfully the ability of an activist shareholder to buy under the radar in many scenarios.


The Law and Brexit II

Thomas J. Reid is Managing Partner of Davis Polk & Wardwell LLP. This post is based on a Davis Polk memorandum. Additional posts on the legal and financial impact of Brexit are available here.

Since our prior post, we now have a new UK Government in place, with a new Prime Minister and a new “Secretary of State for Exiting the European Union.” The shape of the UK’s future relationship with the EU, or even the key objectives of the new UK Government in the Brexit negotiations, remain unclear.

In this post, we have addressed one of the more controversial areas of Brexit aftermath: whether London’s position as a key center for the clearing of euro-denominated securities and derivatives can be maintained. Although the attempt by the European Central Bank (the “ECB”) to impose a eurozone “location policy” failed in the EU courts last year, we conclude that Brexit materially increases the possibility that substantial volumes of clearing activity will move out of London, which may be a contributing factor towards a gradual migration of broker-dealer and derivatives trading activity out of the UK.

We then examine the impact of Brexit on the development of anti-money laundering legislation in the EU. Although there will be concerns about divergence in the anti-money laundering regimes of the UK and the EU over the longer term, in the short term we expect the UK to maintain and develop a system which is substantially the same as that operating in the remaining EU member states.


Comparative Corporate Governance: Old and New

Martin Gelter is Professor of Law at Fordham University School of Law. This post is based on a forthcoming book chapter by Professor Gelter.

In the forthcoming book chapter, Comparative Corporate Governance: Old and New, I take a bird’s eye perspective on changes in corporate governance systems both in Continental Europe and in the US, and explore their possible impact on the comparative corporate governance literature.

Comparative corporate governance scholarship has focused, among other things, on two core issues. One important issue is ownership structure and capital market development: Why are large corporations in some corporate governance system owned by a multitude of disempowered shareholders, thus effectively giving management free rein? Why are corporations typically governed by a controlling shareholder or a coalition of controlling shareholders in other systems, where management is held on a tighter leash by insiders, but not necessarily more attentive to the interests of outside investors?


SEC Proposal to Streamline Disclosure Requirements

Paul A. Ferrillo is counsel at Weil, Gotshal & Manges LLP specializing in complex securities and business litigation. This post is based on a Weil publication by Mr. Ferrillo, David Wohl, Venera Ziegler, and Gregory Denis.

On June 28, 2016, the Securities and Exchange Commission (the SEC) proposed Rule 206(4)-4 under the Investment Advisers Act of 1940 that would require each SEC-registered investment adviser to adopt, implement and annually review a written business continuity and transition plan to address risks related to potential significant disruptions in, or termination of, the adviser’s business. The SEC noted in its release that as part of their fiduciary duty, advisers are obligated to take steps to protect client interests from being placed at risk as a result of the adviser’s inability to provide advisory services. The proposed rule illustrates the SEC’s continued focus on cybersecurity and systems issues following its adoption in 2014 of Regulation SCI, which requires stock and options exchanges, clearing agencies, other securities market participants and certain self-regulatory organizations to establish written policies and procedures reasonably designed to ensure that their systems have levels of capacity, integrity, resiliency, availability, and security adequate to maintain their operational capability and promote the maintenance of fair and orderly markets.


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