Monthly Archives: January 2018

Does Size Matter? Bailouts with Large and Small Banks

Eduardo Dávila is Assistant Professor of Finance at New York University Stern School of Business and Ansgar Walther is Assistant Professor of Finance at the University of Warwick. This post is based on their recent paper.


The differential treatment of large financial institutions has drawn substantial interest in recent financial regulatory discussions. In particular, several regulatory measures put in place after the 2008 financial crisis have singled out large banks as subjects of increased regulatory scrutiny. At the same time, the U.S. banking industry has experienced a secular increase in concentration: The total number of U.S. banks has dropped from 25,000 in the 1920’s, to 14,000 in the 1970’s, to less than 6,000 as of today, while the top 10 bank holding companies now control more than 50% of total bank assets. These developments suggest that concerns about too-big-to-fail banks are now more important than ever before.


Ineffective Stockholder Approval for Director Equity Awards

Joseph Penko and Robert Saunders are partners and Audrey Murga is an associate at Skadden, Arps, Slate, Meagher & Flom LLP. This post is based on a Skadden publication by Mr. Penko, Mr. Saunders, Ms. Murga, Regina OlshanNeil Leff and Joseph Yaffe, and is part of the Delaware law series; links to other posts in the series are available here.

On December 13, 2017, the Delaware Supreme Court issued an opinion, In re Investors Bancorp, Inc. Stockholder Litigation, Case No. 169, holding that, except under limited circumstances, the court will not apply the deferential “business judgment rule” in reviewing challenges to director compensation awards granted pursuant to stockholder-approved equity plans. Instead, such awards are subject to an “entire fairness” standard of review. The ruling increases the likelihood that a plaintiff will defeat a motion to dismiss and potentially embroil the company in costly litigation and discovery.

Public companies should work with their compensation consultants to conduct a peer review of their director compensation programs in order to determine whether their director compensation, including equity grants, are reasonable. Companies should carefully document this process and consider the extent to which it may be beneficial to describe the process in their annual proxy disclosure. In light of the Delaware Supreme Court’s opinion, companies also may wish to consider whether to provide for grants of director compensation awards pursuant to a stockholder-approved formula plan, or via grants of awards specifically approved by stockholders.


Damage Quantification in Delaware for Breaches of Contract in Post-Merger Litigation

Arthur H. Rosenbloom is Managing Director of Consilium ADR LLC. This post is based on his recent paper, and is part of the Delaware law series; links to other posts in the series are available here.

Despite vigorous attempts, through judicial decisions, [1] and legislative provision on forum selection and fee shifting provisions [2] to limit the number of post-merger litigation filings, the fact remains that in 2016, almost a third of the mergers and acquisitions (“M&A”) in Delaware resulted in such filings. [3]

This paper: (i) describes the kinds of contractual breaches giving rise to post-closing M&A related litigation; (ii) examines contractual provisions that act to expand or reduce the amount of damages; (iii) determines whether tort based claims should be treated differently than those sounding in contract; (iv) reviews Delaware opinions meeting discrete screening criteria and; (v) presents the conclusion that Delaware courts, (or indeed any court) should make findings of fact on whether the damage caused by Target’s breach was transient or permanent in nature measured by whether the breach resulted in permanent damage to Target’s current or future cash flows. In my view, courts should award damages on a dollar-for-dollar in basis for transient damages and on a price earnings (“P/E”) multiple or discounted cash flow (“DCF”) basis where damages are non-transient. Further, I describe which of the holdings in the cases studied could have benefited from that distinction.


Industry Tournament Incentives and the Product Market Benefits of Corporate Liquidity

Jian Huang is an assistant professor of finance in the College of Business and Economics at Towson University; Bharat A. Jain is a professor of finance in the College of Business and Economics at Towson University; and Omesh Kini is a distinguished university professor and professor of finance at Georgia State University Robinson College of Business. This post is based on their recent article, forthcoming in the Journal of Financial and Quantitative Analysis.

Recent research suggests that the inherent optionality present in intra-firm rank-order tournaments provides senior managers with distinct and incremental career-enhancing incentives from option-based compensation schemes to implement riskier but value-enhancing firm policies (Kale, Reis, and Venkateswaran (2009) and Kini and Williams (2012)). Extending the notion of tournaments beyond the top management team to focus on the CEO, Coles, Li, and Wang (2017) find that CEO industry tournament incentives (henceforth ITI), as captured by the pay differential between the firm’s CEO and the maximal industry CEO pay, encourage the adoption of riskier but value-enhancing corporate investment and financing policies. In our article, Industry Tournament Incentives and the Product Market Benefits of Corporate Liquidity, forthcoming in the Journal of Financial and Quantitative Analysis, we add to the literature on managerial tournaments by examining whether and how ITI shape corporate cash policy. To shed light on this issue, we empirically examine the impact of ITI on the: (i) level of cash holdings, (ii) marginal value of cash holdings, and (iii) strategic actions that entail the use of excess cash to obtain competitive benefits in the firm’s product markets.


Tax Reform Implications for U.S. Businesses and Foreign Investments

Philip Wagman and Richard Catalano are partners and Alan Kravitz is an associate at Clifford Chance. This post is based on a Clifford Chance publication by Mr. Wagman, Mr. Catalano, and Mr. Kravitz.

On December 20, 2017, Congress voted to enact the most sweeping US tax reform bill in decades. The Tax Cuts and Jobs Act (the “TCJA” or the “Act”) will reduce business tax rates and revamp the US international tax system. While the President may not sign the Act until January 2018, its adoption into law appears virtually certain.


The TCJA’s proponents in Congress intend it to boost US businesses by making a host of changes to how they are taxed. While the legislation has (somewhat unexpectedly) passed through Congress at warp speed, many of its basic ideas have been advanced in some form by the Act’s Republican authors for over a decade. Key provisions of the Act include, as described in more detail below, a permanent reduction in the US federal corporate income tax rate from 35% to 21%; reduced tax rates (ranging up to 29.6%) for many US businesses organized as partnerships, limited liability companies (LLCs) and S corporations; immediate expensing of the full cost of equipment bought before 2023; and broad changes to the United States’ international tax rules, including tax-free repatriation of profits earned abroad in the future.


Non-rating Revenue and Conflicts of Interest

Bo Becker is Professor of Finance and Ramin Baghai is Associate Professor of Finance at the Stockholm School of Economics. This post is based on their recent paper.

Credit rating agencies produce one of the key technologies of the financial system. Ratings have been in use for more than a century, and their application has continuously expanded to new types of financial securities and contracts. Regulations, contracts, investment mandates, capital requirements, loan pricing, all frequently rely on credit ratings.

The expanded use of credit ratings has not been without difficulties and setbacks. Inflated ratings played an important role in the financial crisis of 2008-2009, when large losses on structured securities that had received overly optimistic ratings at issue contributed to destabilizing the financial system (e.g., Benmelech and Dlugosz 2009). Consequently, the production and use of ratings have been subject to more questions and scrutiny in the decade since the financial crisis than ever before, from academics, the public, and policymakers (see, e.g., White 2010, Sangiorgi and Spatt 2017).


Weekly Roundup: December 29, 2017-January 4, 2018

More from:

This roundup contains a collection of the posts published on the Forum during the week of December 29, 2017-January 4, 2018.

Venture Capital Investments and Merger and Acquisition Activity around the World

Global and Regional Trends in Corporate Governance for 2018

Credit Default Swaps, Agency Problems, and Management Incentives

Why Do Some Companies Leave? Evidence on the Factors that Drive Inversions

Globalization and Executive Compensation

Pre-IPO Analyst Coverage: Hype or Information Production?

Opportunity Makes a Thief: Corporate Opportunities as Legal Transplant and Convergence in Corporate Law

Top 10 Topics for Directors in 2018

The Appointment of Senior Program Fellow Robert Jackson as SEC Commissioner

Delaware Court on Risks to Buyers When Devising Earn-Outs

The Changing Landscape of Auditor Litigation and Its Implication for Audit Quality

The Changing Landscape of Auditor Litigation and Its Implication for Audit Quality

Colleen Honigsberg is an Assistant Professor at Stanford Law School; Shivaram Rajgopal is the Roy Bernard Kester and T.W. Byrnes Professor of Accounting and Auditing at Columbia Business School; and Suraj Srinivasan is the Philip J. Stomberg Professor of Business Administration at Harvard Business School. This post is based on their recent paper.

Stretching back to Central Bank v. First Interstate, [1] a series of Supreme Court opinions have limited shareholders’ ability to bring claims under Rule 10b-5 against auditors. Prior literature has noted the changes in auditor liability and questioned whether the current law provides auditors with efficient incentives (e.g., Park, 2017; Coffee, 2006; Partnoy, 2001). However, our paper, The Changing Landscape of Auditor Litigation and Its Implications for Audit Quality, is the first to provide empirical evidence that recent court opinions have led to declines in Rule 10b-5 liability exposure and have implications for audit quality.


Delaware Court on Risks to Buyers When Devising Earn-Outs

Robert Little is a partner and Benjamin Bodurian is an associate at Gibson, Dunn & Crutcher LLP. This post is based on a Gibson Dunn publication by Mr. Little, Mr. Bodurian, and Paige Lager, and is part of the Delaware law series; links to other posts in the series are available here.

Buyers and sellers in M&A transactions sometimes structure a portion of the purchase price as an earn-out. In an earn-out structure, the buyer pays part of the purchase price at the closing and the remainder if and when the target business achieves pre-defined milestones after the closing. An earn-out is often a means to bridge a valuation gap in purchase price negotiations between the buyer and the seller when the seller is confident in the business’s future prospects, but the buyer is unwilling to pay full value for the business based on the seller’s projections. A compromise can be for the buyer to agree to pay additional consideration for the business if and when the seller’s projections are achieved. This additional consideration is the earn-out.


How Director Age Influences Corporate Performance

Elizabeth Carroll is a Research Analyst at Equilar, Inc. This post is based on an Equilar publication by Ms. Carroll.

Concurrent with discussions around board refreshment and diversity, age has also become a hot topic in board composition. Though older directors generally have more executive and board experience, there is concern that a lack of board refreshment and age diversity can stultify companies and result in subpar performance, and on the flipside, that younger executives may be able to bring unique skills to the boardroom to help navigate a fast-changing corporate environment.

In addition to actively seeking younger directors, some companies have instituted mandatory retirement ages or term limits as a way to promote regular board refreshment and avoid any of the negative connotations surrounding stale, aging boards. For example, a majority of companies with retirement mandates say that no director can be reelected to the board after reaching either the age of 72 or 75.


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