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Abstract:
We investigate the relative importance of the twenty-four provisions followed by the Investor Responsibility Research Center (IRRC) and included in the Gompers, Ishii, and Metrick governance index (Gompers, Ishii, and Metrick 2003). We put forward an entrenchment index based on six provisions: staggered boards, limits to shareholder bylaw amendments, poison pills, golden parachutes, and supermajority requirements for mergers and charter amendments. We find that increases in the index level are monotonically associated with economically significant reductions in firm valuation as well as large negative abnormal returns during the 1990-2003 period. The other eighteen IRRC provisions not in our entrenchment index were uncorrelated with either reduced firm valuation or negative abnormal returns.

G30, G34, K22

Abstract:
We investigate which provisions, among a set of twenty-four governance provisions followed by the Investor Responsibility Research Center (IRRC), are correlated with firm value and stockholder returns. Based on this analysis, we put forward an entrenchment index based on six provisions - four constitutional provisions that prevent a majority of shareholders from having their way (staggered boards, limits to shareholder bylaw amendments, supermajority requirements for mergers, and supermajority requirements for charter amendments), and two takeover readiness provisions that boards put in place to be ready for a hostile takeover (poison pills and golden parachutes). We find that increases in the level of this index are monotonically associated with economically significant reductions in firm valuation, as measured by Tobin's Q. We present suggestive evidence that the entrenching provisions cause lower firm valuation. We also find that firms with higher levels of the entrenchment index were associated with large negative abnormal returns during the 1990-2003 period. Moreover, examining all sub-periods of two or more years within this period, we find that a strategy of buying low entrenchment firms and selling short high entrenchment firms out-performs the market in most such periods and does not under-perform the market even in a single sub-period. Finally, we find that the provisions in our entrenchment index fully drive the correlation, identified by prior work, that the IRRC provisions in the aggregate have with reduced firm value and lower stock returns during the 1990s; we do not find any evidence that the other eighteen IRRC provisions are negatively correlated with either firm value or stock returns during the 1990-2003 period.

Data on the entrenchment index for the period 1990-2007, and a list of over seventy-five studies using our entrenchment index, is available for downloading at Lucian Bebchuk's home page.

Corporate governance, agency costs, boards, directors, takeovers, tender offers, mergers and acquisitions, proxy fights, defensive tactics, entrenchment, anti-takeover provisions, staggered boards, corporate charters, corporate bylaws, golden parachutes, poison pills

Abstract:
This paper reconsiders the basic allocation of power between boards and shareholders in publicly traded companies with dispersed ownership. U.S. corporate law has long precluded shareholders from initiating any changes in the company's basic governance arrangements. I show, and support with empirical evidence, that shareholders' existing power to replace directors is insufficient to secure the adoption of value-increasing governance arrangements that management disfavors. I put forward an alternative regime that would allow shareholders to initiate and adopt rules-of-the-game decisions to change the company's charter or state of incorporation. Providing shareholders with such power would improve over time to improve all corporate governance arrangements, largely by inducing management to initiate value-increasing changes and without shareholders' having to exercise their power to intervene.

Furthermore, I argue that, as part of their power to amend governance arrangements, shareholders should be able to adopt provisions that give them additional power to intervene, down the road, in specific business decisions. Power to intervene in game-ending decisions (to merge, sell all assets, or dissolve) could address management's bias in favor of the company's continued existence. Power to intervene in scaling-down decisions (to make cash or in-kind distributions) could address management's tendency to retain excessive funds and engage in empire-building. Shareholders' ability to adopt, when necessary, provisions that give themselves additional power to intervene could thus produce benefits in many companies.

A regime with shareholder power to intervene, I show, would address governance problems that have long troubled legal scholars and financial economists. These benefits would result mainly from inducing management to act in ways that better serve shareholder interests and without shareholders' having to exercise their power to intervene. I also discus how such a regime could best be designed to address concerns that supporters of management insulation could raise; for example, to allay such concerns, shareholder-initiated changes in governance arrangements could be adopted only if they enjoy shareholder support in two consecutive annual meetings.

Finally, examining a wide range of possible objections, I conclude that they do not provide a good basis for opposing the proposed increase in shareholder power.

corporate governance, shareholders, managers, directors, boards, stakeholders, agency costs, mergers, takeovers, acquisitions, proxy contests, corporate charters, charter amendments, state competition, dividends, distributions, free cash-flow, empire-building, myopia, short-termism, corporate reform

Abstract:
This paper critiques the proposed emergency legislation for spending $700 billion on purchasing financial firms' troubled assets to address the 2008 financial crisis. It also puts forward a superior alternative for advancing the two goals of the proposed legislation - restoring stability to the financial markets and protecting taxpayers.

I show that the proposed legislation can be redesigned to limit greatly the cost to taxpayers while doing much better in terms of restoring stability to the financial markets. The proposed redesign is based on four interrelated elements:

* No overpaying for troubled assets: The Treasury's authority to purchase troubled assets should be limited to doing so at fair market value.

* Addressing undercapitalization problems directly: Because the purchase of troubled assets at fair market value may leave financial firms severely under-capitalized, the Treasury's authority should be expanded to allow purchasing, again at fair market value, new securities issued by financial institutions in need of additional capital.

* Market-based discipline: to ensure that purchases are made at fair market value, the Treasury should conduct them through multi-buyer competitive processes with appropriate incentives. * Inducing infusion of private capital: to further expand the capital available to the financial sector, and to reduce the use of public funds for this purpose, financial firms should be required or induced to raise capital through right offerings to their existing shareholders.

Compared with the Treasury's proposed legislation, the alternative proposal put forward in this paper would provide a far better way to use taxpayers' funds to address the financial crisis.

The approach of buying troubled assets through privately managed and competing funds put forward in this paper, which was subsequently followed by the Treasury in its March 2009 plan for buying troubled assets, is further developed in "How to Make TARP II Work," a February 2009 discussion paper available at http://ssrn.com/abstract=1341939

The proposal for using competing private funds for buying trouble assets put forward in this paper is further developed in How To Make TARP II Work (Harvard Law & Econ. Discussion Paper No. 626, 2009), available at http://papers.ssrn.com/abstract =1341939, and in “Buying Troubled Assets, Yale Journal on Regulation, 2009, available at http://papers.ssrn.com/abstract =1392808.

Financial crisis, bailout, subprime mortgages, creditor run

Abstract:
This Paper provides an overview of the main theoretical elements and empirical underpinnings of a 'managerial power' approach to executive compensation. Under this approach, the design of executive compensation is viewed not only as an instrument for addressing the agency problem between managers and shareholders but also as part of the agency problem itself. Boards of publicly traded companies with dispersed ownership, we argue, cannot be expected to bargain at arm's length with managers. As a result, managers wield substantial influence over their own pay arrangements, and they have an interest in reducing the saliency of the amount of their pay and the extent to which that pay is de-coupled from managers' performance. We show that the managerial power approach can explain many features of the executive compensation landscape, including ones that many researchers have long viewed as puzzling. Among other things, we discuss option plan design, executive loans, retirement benefits, payments to departing executives, the use of compensation consultants, and the observed relationship between CEO power and pay. We also explain how managerial influence might lead to substantially inefficient arrangements that produce weak or even perverse incentives.

M14, corporate governance, managers, shareholders, boards, directors, executive compensation, stock options, principal-agent problem, agency costs, rent extraction, golden parachutes, executive loans, compensation consultants, expensing

Abstract:
This paper provides an overview of the main theoretical elements and empirical underpinnings of a 'managerial power' approach to executive compensation. Under this approach, the design of executive compensation is viewed not only as an instrument for addressing the agency problem between managers and shareholders but also as part of the agency problem itself. Boards of publicly traded companies with dispersed ownership, we argue, cannot be expected to bargain at arm's length with managers. As a result, managers wield substantial influence over their own pay arrangements, and they have an interest in reducing the saliency of the amount of their pay and the extent to which that pay is de-coupled from managers' performance. We show that the managerial power approach can explain many features of the executive compensation landscape, including ones that many researchers have long viewed as puzzling. Among other things, we discuss option plan design, stealth compensation, executive loans, payments to departing executives, retirement benefits, the use of compensation consultants, and the observed relationship between CEO power and pay. We also explain how managerial influence might lead to substantially inefficient arrangements that produce weak or even perverse incentives.

Abstract:
This paper provides an overview of the main theoretical elements and empirical underpinnings of a managerial power approach to executive compensation. Under this approach, the design of executive compensation is viewed not only as an instrument for addressing the agency problem between managers and shareholders but also as part of the agency problem itself. Boards of publicly traded companies with dispersed ownership, we argue, cannot be expected to bargain at arm's length with managers. As a result, managers wield substantial influence over their own pay arrangements, and they have an interest in reducing the saliency of the amount of their pay and the extent to which that pay is de-coupled from managers' performance. We show that the managerial power approach can explain many features of the executive compensation landscape, including ones that many researchers have long viewed as puzzling. Among other things, we discuss option plan design, stealth compensation, executive loans, payments to departing executives, retirement benefits, the use of compensation consultants, and the observed relationship between CEO power and pay. We also explain how managerial influence might lead to substantially inefficient arrangements that produce weak or even perverse incentives.

Abstract:
In a recent book, Pay without Performance: The Unfulfilled Promise of executive Compensation, we critique existing executive pay arrangements and the corporate governance processes producing them, and put forward proposals for improving both executive pay and corporate governance. This paper provides an overview of the main elements of our critique and proposals. We show that, under current legal arrangements, boards cannot be expected to contract at arm's length with the executives whose pay they set. We discuss how managers' influence can explain many features of the executive compensation landscape, including ones that researchers subscribing to the arm's length contracting view have long viewed as puzzling. We also explain how managerial influence can lead to inefficient arrangements that generate weak or even perverse incentives, as well as to arrangements that make the amount and performance-insensitivity of pay less transparent. Finally, we outline our proposals for improving the transparency of executive pay, the connection between pay and performance, and the accountability of corporate boards.

Keywords: Corporate governance, managers, shareholders, boards, directors, executive compensation, stock options, principal-agent problem, agency costs, rent extraction, disclosure, stealth compensation, compensation consultants, camouflage.

Abstract:
Corporate structures differ among the advanced economies of the world. We contribute to an understanding of these differences by developing a theory of the path dependence of corporate structure. The corporate structures that an economy has at any point in time depend in part on those that it had at earlier times. Two sources of path dependence--structure driven and rule driven--are identified and analyzed. First, the corporate structures of an economy depend on the structures with which the economy started. Initial ownership structures have such an effect because they affect the identity of the structure that would be efficient for any given company and because they can give some parties both incentives and power to impede changes in them. Second, corporate rules, which affect ownership structures, will themselves depend on the corporate structures with which the economy started. Initial ownership structures can affect both the identity of the rules that would be efficient and the interest group politics that can determine which rules would actually be chosen. Our theory of path dependence sheds light on why the advanced economies, despite pressures to converge, vary in their ownership structures. It also provides a basis for why some important differences might persist.

Abstract:
This Paper develops an account of the role and significance of managerial power and rent extraction in executive compensation. Under the optimal contracting approach to executive compensation, which has dominated academic research on the subject, pay arrangements are set by a board of directors that aims to maximize shareholder value. In contrast, the managerial power approach suggests that boards do not operate at arm's length in devising executive compensation arrangements; rather, executives have power to influence their own pay, and they use that power to extract rents. Furthermore, the desire to camouflage rent extraction might lead to the use of inefficient pay arrangements that provide suboptimal incentives and thereby hurt shareholder value. The authors show that the processes that produce compensation arrangements, and the various market forces and constraints that act on these processes, leave managers with considerable power to shape their own pay arrangements. Examining the large body of empirical work on executive compensation, the authors show that managerial power and the desire to camouflage rents can explain significant features of the executive compensation landscape, including ones that have long been viewed as puzzling or problematic from the optimal contracting perspective. The authors conclude that the role managerial power plays in the design of executive compensation is significant and should be taken into account in any examination of executive pay arrangements or of corporate governance generally.

Corporate governance, managers, shareholders, directors, boards, executive compensation, stock options, private benefits of control, principal-agent problem, agency costs, rent extraction, golden parachutes, accounting, FASB rules, disclosure, camouflage

Abstract:
This paper develops an account of the role and significance of managerial power and rent extraction in executive compensation. Under the optimal contracting approach to executive compensation, which has dominated academic re-search on the subject, pay arrangements are set by a board of directors that aims to maximize shareholder value. In contrast, the managerial power approach suggests that boards do not operate at arm's length in devising executive compensation arrangements; rather, executives have power to influence their own pay, and they use that power to extract rents. Furthermore, the desire to camouflage rent extraction might lead to the use of inefficient pay arrangements that provide suboptimal incentives and thereby hurt shareholder value. The authors show that the processes that produce compensation arrangements, and the various market forces and constraints that act on these processes, leave managers with considerable power to shape their own pay arrangements. Examining the large body of empirical work on executive compensation, the authors show that managerial power and the desire to camouflage rents can explain significant features of the executive compensation landscape, including ones that have long been viewed as puzzling or problematic from the optimal contracting perspective. The authors conclude that the role managerial power plays in the design of executive compensation is significant and should be taken into account in any examination of executive pay arrangements or of corporate governance generally.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This paper develops an account of the role and significance of managerial power and rent extraction in executive compensation. Under the optimal contracting approach to executive compensation, which has dominated academic research on the subject, pay arrangements are set by a board of directors that aims to maximize shareholder value. In contrast, the managerial power approach suggests that boards do not operate at arm's length in devising executive compensation arrangements; rather, executives have power to influence their own pay, and they use that power to extract rents. Furthermore, the desire to camouflage rent extraction might lead to the use of inefficient pay arrangements that provide suboptimal incentives and thereby hurt shareholder value. The authors show that the processes that produce compensation arrangements, and the various market forces and constraints that act on these processes, leave managers with considerable power to shape their own pay arrangements. Examining the large body of empirical work on executive compensation, the authors show that managerial power and the desire to camouflage rents can explain significant features of the executive compensation landscape, including ones that have long been viewed as puzzling or problematic from the optimal contracting perspective. The authors conclude that the role managerial power plays in the design of executive compensation is significant and should be taken into account in any examination of executive pay arrangements or of corporate governance generally.

corporate governance, managers, shareholders, directors, boards, executive compensation, stock options, private benefits of control, principal-agent problem, agency costs, rent extraction, golden parachutes, accounting, FASB rules, disclosure, camouflage, insider trading, indexed options, vesting

Abstract:
This paper analyzes how asymmetric information affects which corporate governance arrangements firms choose when they go public. It is shown that such asymmetry might lead firms to adopting - through the design of securities and corporate charters - corporate governance arrangements that are known to be inefficient both by public investors and by those taking firms public. When assets with higher value produce opportunities for higher private benefits of control, asymmetric information about the asset value of firms going public will lead some or all such firms to offer a sub-optimal level of investor protection. The results can help explain why charter provisions cannot be relied on to provide optimal investor protection in countries with poor investor protection, why companies going public in the US commonly include substantial antitakeover provisions in their charters, and why companies rarely restrict self-dealing or the taking of corporate opportunities more than is done by the corporate laws of their country. The analysis also identifies a potentially beneficial role that mandatory legal rules might play in the corporate area.

adverse selection, asymmetric information, corporate governance, investor protection, security design, private benefits of control, agency costs, expropriation, minority shareholders, IPO, going public, corporate charter, contractual freedom, private ordering, takeovers, antitakeover provisions, self-dealing

Abstract:
The power of shareholders to replace the board is a central element in the accepted theory of the modern public corporation with dispersed ownership. This power, however, is largely a myth. I document in this paper that the incidence of electoral challenges during the 1996-2005 decade was very low. After presenting this evidence, the paper analyzes why electoral challenges to directors are so rare, and then makes the case for arrangements that would provide shareholders with a viable power to remove directors. Under the proposed default arrangements, companies will have, at least every two years, elections with shareholder access to the corporate ballot, reimbursement of campaign expenses for candidates who receive a sufficiently significant number of votes (for example, one-third of the votes cast), and the opportunity to replace all the directors; companies will also have secret ballot and majority voting in all directors elections. Furthermore, opting out of default election arrangements through shareholder-approved bylaws should be facilitated, but boards should be constrained from adopting without shareholder approval bylaws that make director removal more difficult. Finally, I examine a wide range of possible objections to the proposed reform of corporate elections, and I conclude that they do not undermine the case for such a reform.

The paper, which is based on the Raben Lecture in Corporate Law at Yale and the Uri and Caroline Bauer Lecture at Cardozo, is scheduled to appear in May 2007 in the Virginia Law Review together with responses to it by Martin Lipton and William Savitt, Jonathan Macey, John Olson, Lynn Stout, and E. Norman Veasey.

Corporate governance, directors, boards, shareholders, shareholder rights, shareholder voting, shareholder franchise, corporate elections, corporate ballot, proxy fights, proxy contests, access to the ballot, staggered boards, confidential voting, majority voting, bylaws, entrenchment, myopia

Abstract:
This book provides a detailed account of how structural flaws in corporate governance have enabled managers to influence their own pay and produced widespread distortions in pay arrangements. The book also examines how these flaws and distortions can best be addressed.

Part I of the book (titled The Official View and its Limits) critically examines the arm's length contracting view, which underlies much of the academic research on executive compensation as well as the law's approach to it. We show that boards have not been operating at arm's length from the executives whose pay they set. While recent reforms can improve matters, they cannot be expected to eliminate significant deviations from arm's length contracting. We also show that the constraints imposed by market forces and shareholders' power to intervene are not tight enough to prevent such deviations.

Part II of the book (titled Power and Pay) shows how an understanding of the role of managerial power can help explain executive compensation practices. We provide a framework for assessing whether pay arrangements are a product of managerial influence. We discuss managers' interest in camouflaging the amount and the performance-insensitivity of their pay. Applying our framework, we discuss how managerial influence can help explain, among other things, the evidence on the relationship between managerial pay and managerial power; the use of retirement benefits and other compensation arrangements to provide stealth compensation; and the ability of departing managers to obtain more than their contractual entitlement.

Part III of the book (titled Decoupling Pay from Performance) examines how managerial influence has operated to reduce the performance-sensitivity of executive pay. Among other things, we examine the structure of non-equity compensation, the design of conventional option plans, the use of restricted stock grants, and managers' freedom to unload options and shares.

Part IV of the book (titled Going Forward) discusses how executive compensation - and corporate governance more generally - can be improved. We examine the extent to which pay arrangements can be improved by adopting board process rules, imposing shareholder approval requirements, and making pay more transparent. We conclude that problems with compensation arrangements cannot be fully addressed without ensuring that directors focus on shareholder interests and operate at arm's length from the executives whose compensation they set. To achieve this result, we argue, it is not sufficient to make directors independent of executives as recent reforms has sought to do; it is also necessary to make directors dependent on shareholders by changing the legal arrangements that insulate boards from shareholders.

The preface and introduction are available to download at the bottom of this page. Also available for downloading from SSRN are three papers on which the book partly draws:

- Lucian Bebchuk and Jesse Fried, "Stealth Compensation via Retirement Benefits," http://ssrn.com/abstract=583861

- Lucian Bebchuk and Jesse Fried, "Executive Compensation as an Agency Problem," Journal of Economic Perspectives, Vol. 17, pp. 71-92, 2003, http://ssrn.com/abstract=364220

- Lucian Bebchuk, Jesse Fried, and David Walker, "Managerial Power and Rent Extraction in the Design of Executive Compensation," University of Chicago Law Review, Vol. 69, pp. 751-846, 2002, http://ssrn.com/abstract=316590

Corporate governance, managers, executives, shareholders, boards, directors, executive compensation, principal-agent problem, pay for performance, agency costs, stock options, rents, camouflage

Abstract:
This paper evaluates the primary mechanisms for changing management or obtaining control in publicly traded corporations with dispersed ownership. Specifically, we analyze and compare three mechanisms: (1) proxy fights (voting only); (2) takeover bids (buying shares only); and (3) a combination of proxy fights and takeover bids in which shareholders vote on acquisition offers. We first show how proxy fights unaccompanied by an acquisition offer suffer from substantial shortcomings that limit the use of such contests in practice. We then argue that combining voting with acquisition offers is superior not only to proxy fights alone but also to takeover bids alone. Finally, we show that, when acquisition offers are in the form of cash or the acquirer's existing securities, voting shareholders can infer from the pre-vote market trading which outcome would be best in light of all the available public information. Our analysis has implications for the ongoing debates in the US over poison pills and in Europe over the new EEC directive on takeovers.

Abstract:
This paper evaluates the primary mechanisms for changing management or obtaining control in publicly traded corporations with dispersed ownership. Specifically, we analyze and compare three mechanisms: (1) proxy fights (voting only); (2) takeover bids (buying shares only); and (3) a combination of proxy fights and takeover bids in which shareholders vote on acquisition offers. We first show how proxy fights unaccompanied by an acquisition offer suffer from substantial shortcomings that limit the use of such contests in practice. We then argue that combining voting with acquisition offers is superior not only to proxy fights alone but also to takeover bids alone. Finally, we show that, when acquisition offers are in the form of cash or the acquirer's existing securities, voting shareholders can infer from the pre-vote market trading which outcome would be best in light of all the available public information. Our analysis has implications for the ongoing debates in the US over poison pills and in Europe over the new EEC directive on takeovers.

Corporate governance, corporate control, takeovers, proxy contests, mergers and acquisitions

Abstract:
This paper examines both empirically and theoretically the growth of US executive pay during the period 1993-2003. During this period, pay has grown much beyond the increase that could be explained by changes in firm size, performance, and industry classification. Had the relationship of compensation to size, performance, and industry classification remained the same in 2003 as it was in 1993, mean compensation in 2003 would have been only about half of its actual size. During the 1993-2003 period, equity-based compensation has increased considerably in both new-economy and old-economy firms, but this growth has not been accompanied by a substitution effect, i.e. a reduction in non-equity compensation. The aggregate compensation paid by public companies to their top-five executives during the considered period added up to about $350 billion, and the ratio of this aggregate top-five compensation to the aggregate earnings of these firms increased from 5 per cent in 1993-5 to about 10 per cent in 2001-3. After presenting evidence about the growth of pay, we discuss alternative explanations for it. We examine how this growth could be explained under either the arm`s-length bargaining model of executive compensation or the managerial-power model. Among other things, we discuss the relevance of the parallel rise in market capitalizations and in the use of equity-based compensation.

Abstract:
This paper examines both empirically and theoretically the growth of U.S. executive pay during the period 1993-2003. During this period, pay has grown much beyond the increase that could be explained by changes in firm size, performance and industry classification. Had the relationship of compensation to size, performance and industry classification remained the same in 2003 as it was in 1993, mean compensation in 2003 would have been only about half of its actual size. During the 1993-2003 period, equity-based compensation has increased considerably in both new economy and old economy firms, but this growth has not been accompanied by a substitution effect, i.e., a reduction in non-equity compensation. The aggregate compensation paid by public companies to their top-five executives during the considered period added up to about $350 billion, and the ratio of this aggregate top-five compensation to the aggregate earnings of these firms increased from 5% in 1993-1995 to about 10% in 2001-2003. After presenting evidence about the growth of pay, we discuss alternative explanations for it. We examine how this growth could be explained under either the arm's length bargaining model of executive compensation or the managerial power model. Among other things, we discuss the relevance of the parallel rise in market capitalizations and in the use of equity-based compensation.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This paper examines both empirically and theoretically the growth of U.S. executive pay during the period 1993-2003. During this period, pay has grown much beyond the increase that could be explained by changes in firm size, performance and industry classification. Had the relationship of compensation to size, performance and industry classification remained the same in 2003 as it was in 1993, mean compensation in 2003 would have been only about half of its actual size. During the 1993-2003 period, equity-based compensation has increased considerably in both new economy and old economy firms, but this growth has not been accompanied by a substitution effect, i.e., a reduction in non-equity compensation. The aggregate compensation paid by public companies to their top-five executives during the considered period added up to about $350 billion, and the ratio of this aggregate top-five compensation to the aggregate earnings of these firms increased from 5% in 1993-1995 to about 10% in 2001-2003. After presenting evidence about the growth of pay, we discuss alternative explanations for it. We examine how this growth could be explained under either the arm's length bargaining model of executive compensation or the managerial power model. Among other things, we discuss the relevance of the parallel rise in market capitalizations and in the use of equity-based compensation.

The figures and tables from this paper are available for downloading at Lucian Bebchuk's home page.

executive compensation, equity-based compensation, cash compensation, growth of compensation, managerial power

Abstract:
This paper seeks to make three contributions to understanding how banks’ executive pay has produced incentives for excessive risk-taking and how such pay should be reformed. First, although there is now wide recognition that pay packages focused excessively on short-term results, we analyze a separate and critical distortion that has received little attention. Equity-based awards, coupled with the capital structure of banks, tie executives’ compensation to a highly levered bet on the value of banks’ assets. Because bank executives expect to share in any gains that might flow to common shareholders, but are insulated from losses that the realization of risks could impose on preferred shareholders, bondholders, depositors, and taxpayers, executives have incentives to give insufficient weight to the downside of risky strategies.

Second, we show that corporate governance reforms aimed at aligning the design of executive pay arrangements with the interests of banks’ common shareholders — such as advisory shareholder votes on compensation arrangements, use of restricted stock awards, and increased director oversight and independence — cannot eliminate the identified problem. In fact, the interests of common shareholders could be served by more risk-taking than is socially desirable. Accordingly, while such measures could eliminate risk-taking that is excessive even from shareholders’ point of view, they cannot be expected to prevent risk-taking that serves shareholders but is socially excessive.

Third, we develop a case for using regulation of banks’ executive pay as an important element of financial regulation. We provide a normative foundation for such pay regulation, analyze how regulators should monitor and regulate bankers’ pay, and show how pay regulation can complement and reinforce the traditional forms of financial regulation.

executive compensation, banks, financial regulation, financial firms, financial crisis, TARP, restricted shares, options, moral hazard, risk-taking, prudential regulation, say on pay, compensation committees

Abstract:
This paper examines common arrangements for separating control from cash flow rights: stock pyramids, cross-ownership structures, and dual class equity structures. We describe the ways in which such arrangements enable a controlling shareholder or group to maintain a complete lock on the control of a company while holding less than a majority of the cash flow rights associated with its equity. Next, we analyze the consequences and agency costs of these arrangements. In particular, we show that they have the potential to create very large agency costs—costs that are an order of magnitude larger than those associated with controlling shareholders who hold a majority of the cash flow rights in their companies. The agency costs of these structures, we suggest, are also likely to exceed the agency costs of attending highly leveraged capital structures. Finally, we put forward an agenda for research concerning structures separating control from cash flow rights.

Pyramids, dual-class, cross-ownership, cash flow nights, votes, agency costs, corporate governance, law and finance

Abstract:
This paper is a case study of Fannie Mae's executive compensation arrangements during the period 2000-2004. We identify and analyze four problems with these arrangements:

- First, by richly rewarding executives for reporting higher earnings, without requiring return of the compensation if earnings turned out to be misstated, Fannie Mae's arrangement provided perverse incentives to inflate earnings.

- Second, Fannie Mae's arrangements provided soft landings to executives who were pushed out by the board for failure; expectation of such outcome adversely affected ex ante incentives.

- Third, even if the executives had retired after years of unblemished service, the value of their retirement packages would have been largely unrelated to their own performance.

- Fourth, both when promising retirement payments to executives and when making theses payments, Fannie Mae's disclosures obscured rather than made transparent the total values of the executives' retirement packages.

Because many other companies have practices similar to Fannie Mae's, our case study highlights some general problems with existing pay practices and the need for reform.

Executive compensation, agency problems, pay for performance, nonperformance pay, performance pay, soft landing, golden goodbyes, camouflage, misreporting, restatement, earning manipulation, incentives

Abstract:
This article contains the edited transcript of a forum on personal liability of directors held at Harvard Law School in November 2005. Eleven panelists offer their diverse views and perspectives on this subject. The participants in the panel, which is moderated by Lucian Bebchuk, are: Joseph Bachelder, Roel Campos, Byron Georgiou, Alan Hevesi, William Lerach, Robert Mendelsohn, Robert Monks, Toby Myerson, John Olson, Leo Strine, Jr., and John Wilcox.

delaware, journal, corporate, law, transcript, personal liability, directors, Harvard Law, Corporate governance, directors, boards, shareholders, shareholder suits, liability, plaintiffs lawyers, derivative suits, securities litigation, D&O insurance

Abstract:
We study the relation between corporate governance and opportunistic timing of CEO option grants via backdating or otherwise. Our methodology focuses on how grant date prices rank within the price distribution of the grant month. During 1996-2005, about 12% of firms provided one or more lucky grant -- defined as grants given at the lowest price of the month -- due to opportunistic timing. Lucky grants were more likely when the board did not have a majority of independent directors and/or the CEO had longer tenure -- factors associated with increased influence of the CEO on pay-setting. We find no evidence that gains from manipulated grants served as a substitute for compensation paid through other sources; total reported compensation from such sources was higher in firms providing lucky grants. Finally, opportunistic timing has been widespread throughout the economy, with a significant presence in each of the economy`s twelve (Fama-French) industries.

Abstract:
We study the relation between corporate governance and opportunistic timing of CEO option grants. Investigating the incidence of lucky grants - defined as grants given at the lowest price of the month - we estimate that about 1,150 lucky grants resulted from opportunistic timing, and that 12% of firms provided one or more lucky grant due to opportunistic timing during the period 1996-2005. We find no evidence that opportunistically timed grants served as a substitute for other forms of compensation; indeed, total reported compensation from other sources was higher (relative to peer companies) in firms providing lucky grants. For any given CEO with two or more grants, grants were more likely to be lucky when they took place in months in which the potential payoffs from opportunistic timing were relatively high. Grants were also more likely when the company did not have a majority of independent directors on the board and/or the CEO had longer tenure, both factors that are associated with increased influence of the CEO on pay-setting and board decision-making. Luck was persistent, with a CEO's chance of getting a lucky grant increasing when a preceding grant was lucky as well. Finally, we find that opportunistic timing was present in each of the economy's 12 (Fama-French) industries, and we do not find evidence that it was significantly driven by industry norms and culture.

The analysis of this paper was subsequently combined with that of our companion paper “Lucky Directors,” http://ssrn.com/abstract=952239, and the combined and further developed analysis will be published in the Journal of Finance under the title “Lucky CEOs and Lucky Directors.” The combined paper is available on SSRN at: http://ssrn.com/abstract=1405316

Executive compensation, corporate governance, options, backdating, spring-loading, inside information, CEO, independent directors

Abstract:
This paper develops a rent-protection theory of corporate ownership structure - and in particular, of the choice between concentrated and dispersed ownership of corporate shares and votes. The paper analyzes the decision of a company's initial owner whether to maintain a lock on control when the company goes public. This decision is shown to be very much influenced by the size that private benefits of control are expected to have. Most importantly, when private benefits of control are large - and when control is thus valuable enough - leaving control up for grabs would attract attempts by rivals to grab control and thereby capture these private benefits; in such circumstances, to preclude a control grab, the initial owner might elect to maintain a lock on control. Furthermore, when private benefits of control are large, maintaining a lock on control would enable the company's initial shareholders to capture a larger fraction of the surplus from value-producing transfers of control. Both results suggest that, in countries in which private benefits of control are large, publicly traded companies will tend to have a controlling shareholder. It is also shown that separation of cash flow rights and voting rights will tend to be used in conjunction with a controlling shareholder structure but not with a dispersed ownership structure. Finally, the paper analyzes why companies might make control partially contestable, as many US companies currently do by adopting antitakeover arrangements. The results of the paper are consistent with the available evidence, can explain the observed patterns of corporate ownership, and yield testable predictions for future empirical work. The analysis also implies that a corporate law system that effectively limits private benefits of control can produce more efficient choices of ownership structure.

Abstract:
This paper develops a rent-protection theory of corporate ownership structure--and in particular, of the choice between concentrated and dispersed ownership of corporate shares and votes. The paper analyzes the decision of a company's initial owner whether to maintain a lock on control when the company goes public. This decision is shown to be very much influenced by the size that private benefits of control are expected to have. Most importantly, when private benefits of control are large--and when control is thus valuable enough--leaving control up for grabs would attract attempts by rivals to grab control and thereby capture these private benefits; in such circumstances, to preclude a control grab, the initial owner might elect to maintain a lock on control. Furthermore, when private benefits of control are large, maintaining a lock on control would enable the company's initial shareholders to capture a larger fraction of the surplus from value-producing transfers of control. Both results suggest that, in countries in which private benefits of control are large, publicly traded companies will tend to have a controlling shareholder. It is also shown that separation of cash flow rights and voting rights will tend to be used in conjunction with a controlling shareholder structure but not with a dispersed ownership structure. Finally, the paper analyzes why companies might make control partially contestable, as many US companies currently do by adopting antitakeover arrangements. The results of the paper are consistent with the available evidence, can explain the observed patterns of corporate ownership, and yield testable predictions for future empirical work. The analysis also has policy implications and, in particular, identifies an important benefit that arises from having a corporate law system that effectively limits private benefits of control.

Abstract:
U.S. corporate law has long denied shareholders the power to make rules-of-the-game decisions - that is, decisions to change the company's charter or state of incorporation. In an article published last year, The Case for Increasing Shareholder Power, I advocated providing shareholders with power to make rules-of-the-game decisions. A forthcoming exchange in the Harvard law Review will feature responses by Professor Stephen Bainbridge and Vice-Chancellor Leo Strine taking issue with my proposal. This paper, which was written for this exchange, responds to Bainbridge and Strine as well as further develops my arguments for increasing shareholder power. I discuss the significant costs arising from boards control over rules-of-the-game decisions during the often long life of public companies. Discussing the objections raised by critics, I show that giving shareholders power to make rules-of-the-game decisions would be consistent with centralized management in public companies; would not be made unnecessary by reforms in corporate elections; and should not dismissed on the grounds that it would already be offered by corporate charters or state law rules if it were beneficial. I also address concerns arising from the shortcomings of institutional investors. I conclude that there is a strong case for a serious reexamination of boards' control over the rules of the game.

Stephen Bainbridge's response is available at:
http://ssrn.com/abstract=808584

Leo Strine's response is available on SSRN at:
http://ssrn.com/abstract=883720

The earlier article to which Bainbridge and Strine respond is available at:
http://ssrn.com/abstract=631344

corporate governance, shareholders, managers, directors, boards, centralized management, corporate law, agency costs, corporate charters, charter amendments, incorporation, state competition, IPO, proxy contests, corporate reform

Abstract:
This article argues that effective staggered boards (ESBs) provide a powerful antitakeover defense, more powerful than is commonly recognized. We develop a theoretical account of how ESBs impede hostile bids by forcing bidders both to wait at least one year to gain control and to win two elections far apart in time rather than a one-time referendum on their offer. We then test our theory using a new data set of hostile bids during 1996-2000. We find that in this period:

1) Not a single hostile bidder won a ballot box victory against an ESB; 2) An ESB nearly doubled the odds of remaining independent for an average target in our data set; 3) Shareholders of targets that remained independent were made worse off compared with accepting the bid; 4) ESBs did not provide significant countervailing benefits in terms of increased premiums to offset the costs of remaining independent; 5) Overall, during 1996-2000, ESBs reduced the returns to shareholders of hostile bid targets on the order of 8-10%; and 6) Most ESBs were adopted before the developments in takeover jurisprudence that made ESBs.

In view of these findings, we argue that courts should not permit managers of a target with an ESB to continue maintaining a pill after they lose one election conducted over an acquisition offer. This approach, we suggest, would best implement the basic proportionality principles underlying takeover doctrine.

The Stanford Law Review is planning to publish a symposium with responses and reactions to this article. Participants will include Steve Bainbridge (UCLA), Mark Gordon (Wachtell, Lipton), Patrick McGurn (Institutional Shareholder Services), Lynn Stout (UCLA), and Leo Strine (Delaware Chancery Court). We are now in the process of writing for the symposium a paper that will respond to these five commentators and will further develop our analysis of staggered boards. Accordingly, comments or reactions on the article would be most welcome.

Takeover, mergers and acquisitions, tender offers, takeover bids, defensive tactics, staggered boards, poison pills

Abstract:
This paper develops a model of the causes and consequences of misreporting of corporate performance. Misreporting in our model covers all actions, whether legal or illegal, that enable managers of firms with low value to make statements that mimic those made by firms with high value. We show that even managers who cannot sell their shares in the short-term might misreport in order to improve the terms under which their company would be able to raise capital for new projects or acquisitions. When managers may sell some of their holdings in the short-term, incentives to misreport and the incidence of misreporting increase to an extent that depends on what fraction of their holdings managers may sell and on whether they can sell without the market knowing about it. Investments in misreporting have real economic costs and distort financing and investment decisions, with firms that misreport raising too much equity and firms that do not misreport raising too little. A lax accounting and legal environment increases the incidence of misreporting and consequently the distortions in capital allocation. Our analysis provides many testable predictions concerning the times, industries, and types of firms where misreporting is likely to occur. The analysis also has implications for corporate governance and executive compensation.

Asymmetric information, acquisitions, corporate governance, disclosure, myopia, short-termism, executive compensation, stock options, insider trading, accounting, financial statements, earnings management, auditor, financial reporting

Abstract:
This Paper develops a model of the competition among states in providing corporate law rules. The analysis provides a full characterization of the equilibrium in this market. Competition among states is shown to produce optimal rules with respect to issues that do not have a substantial effect on managers' private benefits but not with respect to issues (such as takeover regulation) that substantially affect these private benefits. We analyse why a dominant state such as Delaware can emerge, the prices that the dominant state will set and the profits it will make. We also analyse the roles played by legal infrastructure, network externalities, and the rules governing incorporations. The results of the model are consistent with, and can explain, existing empirical evidence; they also indicate that the performance of state competition cannot be evaluated on the basis of how incorporation in Delaware in the prevailing market equilibrium affects shareholder wealth.

Network externalities, private benefits of control, Delaware, regulatory competition, shareholders, corporate law

Abstract:
This paper develops a model of the competition among states in providing corporate law rules. The analysis provides a full characterization of the equilibrium in this market. Competition among states is shown to produce optimal rules with respect to issues that do not have a substantial effect on managers' private benefits but not with respect to issues (such as takeover regulation) that substantially affect these private benefits. We analyze why a Dominant state such as Delaware can emerge, the prices that the dominant state will set and the profits it will make. We also analyze the roles played by legal infrastructure, network externalities, and the rules governing incorporations. The results of the model are consistent with, and can explain, existing empirical evidence; they also indicate that the performance of state competition cannot be evaluated on the basis of how incorporation in Delaware in the prevailing market equilibrium affects shareholder wealth.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This paper develops a model of the competition among states in providing corporate law rules. The analysis provides a full characterization of the equilibrium in this market. Competition among states is shown to produce optimal rules with respect to issues that do not have a substantial effect on managers' private benefits but not with respect to issues (such as takeover regulation) that substantially affect these private benefits. We analyze why a dominant state such as Delaware can emerge, the prices that the dominant state will set and the profits it will make. The results of the model are consistent with, and can explain, existing empirical evidence. Finally, the analysis highlights the importance of the rules governing reincorporation and the potential benefits of giving shareholders the power to make reincorporation decisions.

corporate law, managers, shareholders, regulatory competition, Delaware, private benefits of control, network externalities

Abstract:
This paper empirically investigates the decisions of publicly traded firms where to incorporate. We study the features of states that make them attractive to incorporating firms and the characteristics of firms that determine whether they incorporate in or out of their state of location. We find that states that offer stronger antitakeover protections are substantially more successful both in retaining in-state firms and in attracting out-of-state incorporations. We estimate that, compared with adopting no antitakeover statutes, adopting all standard antitakeover statutes enabled the states that adopted them to more than double the percentage of local firms that incorporated in-state (from 23% to 49%). Indeed, the incorporation market has not even penalized the three states that passed two extreme antitakeover statutes that have been widely viewed as detrimental to shareholders. We also find that there is commonly a big difference between a state's ability to attract incorporations from firms located in and out of the state, and we investigate several possible explanations for this home-state advantage. Finally, we find that Delaware's dominance is greater than has been recognized and can be expected to increase further in the future. Our findings have significant implications for corporate governance, regulatory competition, and takeover law.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This paper empirically investigates the decisions of publicly traded firms where to incorporate. We study the features of states that make them attractive to incorporating firms and the characteristics of firms that determine whether they incorporate in or out of their state of location. We find that states that offer stronger antitakeover protections are substantially more successful both in retaining in-state firms and in attracting out-of-state incorporations. We estimate that, compared with adopting no antitakeover statutes, adopting all standard antitakeover statutes enabled the states that adopted them to more than double the percentage of local firms that incorporated in-state (from 23% to 49%). Indeed, we find no evidence that the incorporation market has even penalized the three states that passed antitakeover statutes widely viewed as detrimental to shareholders. We also find that there is commonly a big difference between a state's ability to attract incorporations from firms located in and out of the state, and we investigate several possible explanations for this home-state advantage. Our findings have significant implications for corporate governance, regulatory competition, and takeover law.

The data on which this paper is based is available for downloading at Lucian Bebchuk's home page.

Delaware, incorporation, corporate governance, regulatory competition, managers, shareholders, takeovers, antitakeover statutes, antitakeover defenses, home bias

Abstract:
Treasury Secretary Geithner announced a plan, which the Treasury is willing to finance with up to $1 trillion of public funds, to partner with private capital to buy banks' troubled assets. The Treasury has not yet settled on the plan's design, and its announcement has encountered substantial skepticism as to whether an effective plan for a public-private partnership in buying troubled assets can be worked out. This paper argues that, yes, it can. The paper also analyzes how the plan should be designed to contribute most to restarting the market for troubled assets at the least cost to taxpayers.

The government's plan should focus on establishing a significant number of competing funds that will be privately managed and dedicated to buying troubled assets - not on creating one, large public-private aggregator bank. Establishing competing funds, I show, is necessary both to securing a well-functioning market for troubled assets and to keeping costs to taxpayers at a minimum.

Each new fund will be partly financed with private capital, with the rest coming (say, in the form of non-recourse debt financing) from the government's Investment Fund planned by the Treasury. One important element of the proposed design is a competitive process in which private managers seeking to establish a fund participating in the program will submit bids as to what fraction of the fund's capital will be funded privately. The government will set the fraction of each participating fund's capital that must be financed with private money at the highest level that, given the received bids, will still enable establishing new funds with aggregate capital equal to the program's target level. Overall, I show that the proposed design will leverage private capital to the fullest extent possible and will provide the most effective and least costly mechanism for restarting the market for troubled assets.

The paper builds on and develops the proposal for using privately managed funds for buying troubled assets I first put forward in A Plan for Addressing the Financial Crisis (Harvard Law & Econ. Discussion Paper No. 620, 2009), available at http://papers.ssrn.com/abstract =1273241. The analysis of this proposal is further developed in “Buying Troubled Assets, Yale Journal on Regulation, 2009, available at http://papers.ssrn.com/abstract =1392808.

Troubled assets, Bailout, Financial Crisis, Banks, Financial Stability

Abstract:
This paper investigates empirically how the value of publicly traded firms is overall affected by arrangements protecting management from removal. A majority of U.S. public companies have staggered boards that substantially insulate the board from removal via a hostile takeover or a proxy contest. We find that staggered boards are associated with an economically significant reduction in firm value (as measured by Tobin's Q). We also find evidence consistent with staggered boards' bringing about, and not merely reflecting, a lower firm value. Finally, the correlation with reduced firm value is stronger for staggered boards established in the corporate charter (which shareholders cannot amend) than for staggered boards established in the company's bylaws (which can be amended by shareholders).

Abstract:
This paper investigates empirically how the value of publicly traded firms is affected by arrangements that protect management from removal. Staggered boards, which a majority of U.S. public companies have, substantially insulate boards from removal in either a hostile takeover or a proxy contest. We find that staggered boards are associated with an economically meaningful reduction in firm value (as measured by Tobin's Q). We also provide suggestive evidence that staggered boards bring about, and not merely reflect, an economically significant reduction in firm value. Finally, the correlation with reduced firm value is stronger for staggered boards that are established in the corporate charter (which shareholders cannot amend) than for staggered boards established in the company's bylaws (which shareholders can amend).

The data on which this paper is based is available for downloading at Lucian Bebchuk's home page.

Corporate governance, Tobin's Q, firm value, agency costs, boards, directors, takeovers, tender offers, mergers and acquisitions, proxy fights, defensive tactics, antitakeover provisions, staggered boards, poison pills

Abstract:
We investigate the relationship between CEO centrality - the relative importance of the CEO within the top executive team in terms of ability, contribution, or power - and the value and behavior of public firms. Our proxy for CEO centrality is the fraction of the top-five compensation captured by the CEO. We find that CEO centrality is negatively associated with firm value (as measured by industry-adjusted Tobin's Q). Greater CEO centrality is also correlated with (i) lower (industry-adjusted) accounting profitability, (ii) lower stock returns accompanying acquisitions announced by the firm and higher likelihood of a negative stock return accompanying such announcements, (iii) higher odds of the CEO's receiving a 'lucky' option grant at the lowest price of the month, (iv) greater tendency to reward the CEO for luck in the form of positive industry-wide shocks, (v) lower likelihood of CEO turnover controlling for performance, and (vi) lower firm-specific variability of stock returns over time. Overall, our results indicate that differences in CEO centrality are an aspect of firm management and governance that deserves the attention of researchers.

Abstract:
We investigate the relationship between CEO centrality - the relative importance of the CEO within the top executive team in terms of ability, contribution, or power - and the value, performance and behavior of public firms. Our proxy for CEO centrality is the fraction of the aggregate compensation of the top-five executive team captured by the CEO. We find that CEO centrality is negatively associated with firm value (as measured by industry-adjusted Tobin's Q). This result is robust to controlling for all standard controls in Q regressions as well as additional controls such as CEO tenure, whether the CEO is a founder or a large owner, and whether the company's top-five aggregate compensation is high or low relative to peer companies. CEO centrality also has a rich set of relations with firms' behavior and performance. In particular, CEO centrality is correlated with (i) lower (industry-adjusted) accounting profitability, (ii) lower stock returns accompanying acquisitions announced by the firm and higher likelihood of a negative stock return accompanying such announcements, (iii) higher odds of the CEO's receiving a "lucky" option grant at the lowest price of the month, (iv) greater tendency to reward the CEO for luck due to positive industry-wide shocks, (v) lower performance sensitivity of CEO turnover, and (vi) lower firm-specific variability of stock returns over time.

Executive compensation, corporate governance, CEOs, executives, options, equity-based compensation, non-equity compensation, Tobin's Q, firm entrenchment, CEO turnover, independent directors, CEO chair, acquisitions, CEO turnover, pay for luck., variability of returns, pay distribution, internal pay

Abstract:
We study the extent to which decisions to expand firm size are associated with increases in subsequent CEO compensation. Controlling for past stock performance, we find a positive correlation between CEO compensation and the CEO's past decisions to increase firm size. This correlation is economically meaningful; for example, other things being equal, CEOs who in the preceding three years were in the top quartile in terms of expanding by increasing the number of shares outstanding receive compensation that is higher by one-third than the compensation of CEOs belonging to the bottom quartile. We also find that stock returns are correlated with subsequent CEO pay only to the extent that they contribute to expanding firm size; only the component of past stock returns not distributed as dividends is correlated with subsequent CEO pay. Finally, we find an asymmetry between increases and decreases in size: while increases in firm size are followed by higher CEO pay, decreases in firm size are not followed by reduction in such pay. The association we find between CEOs' compensation and firm-expanding decisions undertaken earlier during their service could provide CEOs with incentives to expand firm size.

Abstract:
We study the extent to which decisions to expand firm size are associated with increases in subsequent CEO compensation. Investigating a broad universe of firm-expansion choices, we find, controlling for performance and firm characteristics, a positive and economically meaningful correlation between CEO compensation and the CEO's past decisions to increase firm size. We demonstrate that the identified correlation is not driven by large corporate acquisitions, and that it remains significant and economically meaningful when firms making large acquisitions during the relevant period are excluded. We further find an asymmetry between size increases and decreases: while size increases are positively correlated with subsequent CEO pay, size decreases are not negatively correlated with subsequent CEO pay. The identified association between expansion decisions and subsequent CEO pay is relevant for assessing CEO incentives with respect to a broad range of choices made by firms.

executive compensation, firm size, acquisitions, distributions, repurchases, stock issuance, empire-building, sales growth, pay for performance, options

Abstract:
This paper analyzes an important form of "stealth compensation" provided to managers of public companies. We show how boards have been able to camouflage large amount of executive compensation through the use of retirement benefits and payments. Our study highlights the significant role that camouflage and stealth compensation play in the design of compensation arrangements. Our study also highlights the significance of whether information about compensation arrangements is not merely publicly available but also communicated in a way that is transparent and accessible to outsiders.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This Article analyzes an important form of stealth compensation provided to managers of public companies. We show how boards have been able to camouflage large amounts of executive compensation through the use of retirement benefits and payments. Our study illustrates the significant role that camouflage and stealth compensation play in the design of compensation arrangements. It also highlights the importance of having information about compensation arrangements not only publicly available but also communicated in a way that is transparent and accessible to outsiders.

To improve the transparency of executives' retirement payments and benefits, we propose several changes in current disclosure requirements. Among other things, firms should be required to report to investors each year the dollar value of all the retirement benefits to which their executives become entitled. For example, firms should disclose to investors the annual buildup in the actuarial value of executives' retirement plans, as well as the tax savings reaped by executives at the company's expense through the use of deferred compensation arrangements. Firms should also disclose to investors each year the present value of all the retirement benefits their top executives have accumulated.

Executive compensation, pay for performance, agency costs, rent extraction, stealth compensation, camouflage, retirement benefits, deferred compensation, executive pensions, perks

Abstract:
Researchers and shareholder advisers have devoted much attention to developing metrics for assessing the governance of public companies around the world. These important and influential efforts, we argue, suffer from a basic shortcoming. The impact of many key governance arrangements depends considerably on companies’ ownership structure: measures that protect outside investors in a company without a controlling shareholder are often irrelevant or even harmful when it comes to investor protection in companies with a controlling shareholder, and vice versa. Consequently, governance metrics that purport to apply to companies regardless of ownership structure are bound to miss the mark with respect to one or both types of firms. In particular, we show that the influential metrics used extensively by scholars and shareholder advisers to assess governance arrangements around the world—the Corporate Governance Quotient (CGQ), the Anti-Director Rights Index, and the Anti-Self-Dealing Index—are inadequate for this purpose.

We argue that, going forward, the quest for global governance standards should be replaced by an effort to develop and implement separate methodologies for assessing governance in companies with and without a controlling shareholder. We also identify the key features that these separate methodologies should include, and discuss how to apply such methodologies in either country-level or firm-level comparisons. Our analysis has wide-ranging implications for corporate-governance research and practice.

Corporate governance, investor protection, agency costs, law and finance, governance indices, global standards, best practices, controlling shareholders, CGQ, anti-director index, anti-self-dealing index.

Abstract:
The development of U.S. state takeover law in the past three decades has produced considerable and quite possibly excessive protection for incumbent managers from hostile takeovers. Although the shortcomings of state takeover law have been widely recognized, there has been little support for federal intervention because of the concern that such intervention might produce even worse takeover arrangements. This paper puts forward a novel form of federal intervention in the regulation of takeovers that would address these shortcomings without raising such a concern. Rather than mandating particular substantive takeover arrangements, this form of federal intervention would focus on increasing shareholder choice. Choice-enhancing' federal intervention would consist of two elements: (i) an optional body of substantive federal takeover law which shareholders would be able to opt into (or out of) and (ii) a mandatory process rule that would provide shareholders the right to initiate and adopt, regardless of managers' wishes, proposals for opting into (or out of) the federal takeover law. We argue that such a federal role in takeover law cannot harm and would likely improve the regulation of takeovers. Moreover, by showing how federal law can be used to improve regulatory competition in the provision of takeover law rather than preempt it, our analysis lays the groundwork for a more general reconsideration of regulatory competition in the corporate law area.

Abstract:
The paper puts forward a new approach to two corporate subjects that have been intensively debated in the last three decades, the regulation of takeovers and state competition in the production of corporate law. During this period, U.S. state takeover law has produced considerable and quite possibly excessive protection for incumbent managers from hostile takeovers. Although the shortcomings of state takeover law have been widely recognized, there has been little support for federal intervention because of the concern that such intervention might produce even worse takeover arrangements. This paper, however, identifies a form of federal intervention in the regulation of takeovers "choice-enhancing" intervention that would address these shortcomings without raising such a concern.

"Choice-enhancing" federal intervention would consist of two elements: (i) an optional body of substantive federal takeover law which shareholders would be able to opt into (or out of) and (ii) a mandatory process rule that would provide shareholders the right to initiate and adopt, regardless of managers' wishes, proposals for opting into (or out of) the federal takeover law. An alternative version of choice-enhancing intervention would provide a federal law requiring states to allow shareholders to initiate and approve opting out of anti-takeover arrangements provided by the state's law. We argue that such a federal role in takeover law cannot harm and would likely improve the regulation of takeovers. Moreover, by showing how federal law can be used to improve regulatory competition in the provision of takeover law rather than preempt it, our analysis lays the groundwork for a more general reconsideration of regulatory competition in the corporate law.

Takeovers, mergers and acquisitions, corporate governance, regulatory competition

Abstract:
While prior empirical work and much public attention have focused on the opportunistic timing of executives' grants, we provide in this paper evidence that outside directors' option grants have also been favorably timed to an extent that cannot be fully explained by sheer luck. Examining events in which public firms granted options to outside directors during 1996-2005, we find that 9% were lucky grant events falling on days with a stock price equal to a monthly low. We estimate that about 800 lucky grant events owed their status to opportunistic timing, and that about 460 firms and 1400 outside directors were associated with grant events produced by such timing. There is evidence that the opportunistic timing of director grant events has been to a substantial extent the product of backdating and not merely spring-loading based on private information. We find that directors' luck has been correlated with executives' luck. Furthermore, grant events were more likely to be lucky when the firm had more entrenching provisions protecting insiders from the risk of removal, as well as when the board did not have a majority of independent directors.

Abstract:
While prior work has focused on the opportunistic timing of executives' grants, we provide in this paper evidence that outside directors' option grants have also been favorably timed to an extent that cannot be fully explained by sheer luck. Examining events in which public firms granted options to outside directors during 1996-2005, we find that 9% of director grant events were lucky grant events falling on days with a stock price equal to a monthly low. We estimate that about 800 lucky grant events owed their status to opportunistic timing, and that about 460 firms and 1400 outside directors were associated with grant events produced by such timing. Director grant events were preceded by negative abnormal returns and followed by positive abnormal returns. There is evidence that the opportunistic timing of director grant events has been to a substantial extent the product of backdating and not merely spring-loading based on private information. We find that directors' luck has been correlated with executives' luck. We also find that director grant events were more likely to be lucky when the potential gains from such luck were larger, when the firm had more entrenching provisions protecting insiders from the risk of removal, and when the board did not have a majority of independent directors.

The analysis of this paper was subsequently combined with that of our companion paper “Lucky CEOs,” http://ssrn.com/abstract=945392, and the combined and further developed analysis will be published in the Journal of Finance under the title “Lucky CEOs and Lucky Directors.” The combined paper is available on SSRN at: http://ssrn.com/abstract=1405316

Executive compensation, corporate governance, stock options, backdating, spring loading, inside information, CEO, independent directors, outside directors, entrenchment

Abstract:
This paper analyzes how government intervention in the market for banks' troubled assets is best designed, and also uses this analysis to evaluate the public-private investment program announced by the U.S. government in March 2009. I begin by presenting the case for using government funds to restart the market for troubled assets. I then discuss the advantages of providing government capital to competing privately managed funds, a strategy I have advocated in past work, and I outline the key elements that such a plan should include.

Based on this analysis, I propose three improvements to the government's current plan:

• Introducing a competitive mechanism that would ensure that the government's subsidy to participating private parties is kept at a minimum; • Redesigning the plan to provide such private parties with incentives aligned with those of taxpayers rather than highly skewed incentives to overpay for troubled assets; and • Precluding banks that hold significant amounts of troubled assets from participating as managers or private investors in funds set up under the program.

The proposed changes would address most of the concerns that have been raised by critics of the administration's program. In particular, they would reduce costs to taxpayers, prevent excessive and unnecessary gains by private parties, and produce market prices that can be relied on for valuing assets that remain on banks' books.

The paper builds on and incorporates elements of my September 2008 and February 2009 working papers on using privately managed funds for buying troubled assets, A Plan for Addressing the Financial Crisis (Harvard Law & Econ. Discussion Paper No. 620, 2009), available at http://papers.ssrn.com/abstract =1273241, and How To Make TARP II Work (Harvard Law & Econ. Discussion Paper No. 626, 2009), available at http://papers.ssrn.com/abstract =1341939.

Troubled assets, toxic assets, public-private investment program, bailout, financial crisis, banks, financial stability, U.S. Treasury

Abstract:
This paper analyzes the history of federal intervention in corporate law and draws from it lessons for the future. We show that federal intervention has generally not alternated between tightening state law restrictions on corporate insiders and relaxing them. Rather, federal law has systematically replaced state law arrangements with ones imposing tighter constraints on insiders. Without federal intervention, state law would have produced a corporate system that provides substantially weaker investor protection than the United States enjoys today. We also show that federal interventions have systematically taken advantage of additional tools (including public enforcement, criminal sanctions, gatekeeper liability, and agency-based regulations) beyond those that state law has chosen or been able to use. Overall, unless one views existing levels of investor protection as substantially excessive, past patterns suggest that state competition on its own is unlikely to produce an adequate level of investor protection. Furthermore, the recurring need for federal officials to rectify state law failures in order to provide investors with adequate protection indicates that federal lawmaking should be proactive rather than reactive. We thus recommend that, going forward, federal policymakers examine in a systematic and comprehensive fashion which corporate law areas should be federalized either because tighter restrictions on insiders are needed or because the additional tools available to federal law would be useful.

State competition, regulatory competition, Delaware regulations, incorporations, Corporate Charters, corporate law, corporate governance, securities regulations, SEC

Abstract:
Because public firms are not required to disclose the monetary value of pension plans in their executive pay disclosures, financial economists have generally analyzed executive pay using figures that do not include the value of such pension plans. This paper presents evidence that omitting the value of pension benefits significantly undermines the accuracy of existing estimates of executive pay, its variability, and its sensitivity to performance companies. Studying the pension arrangements of CEOs of S&P 500, we find that the CEOs' plans had a median actuarial value of $15 million; that the ratio of the executives' pension value to the executives' total compensation (including both equity and non-equity pay) during their service as CEO had a median value of 34%; and that including pension values increased the median percentage of the executives' total compensation composed of salary-like payments during and after their service as CEO from 15% to 39%.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This paper presents evidence of the extent to which omitting the value of pension benefits has undermined the accuracy of existing estimates of executive pay, its variability, and its sensitivity to performance.We study the pension arrangements of CEOs of S&P 500 companies that (1) are now serving and are near the retirement age; or (2) left their positions during 2003 and the first half of 2004. Roughly two-thirds of these CEO have a pension plan (or similar retirement arrangement), and our findings with respect to these CEOs are as follows:

· The executives' pension plans had a median actuarial value of $15 million. · The ratio of the executives' pension value to the executives' total compensation (including both equity and non-equity pay) during their service as CEO had a median value of 34%. · Including pension values increased the median percentage of the executives' total compensation composed of salary-like payments during and after their service as CEO from 15% to 39%.

In addition, the pension benefits in our sample varied considerably with respect to both their magnitude and their relationship to the executives' overall compensation. Our findings indicate that the standard omission of pension plan values by researchers and the media leads to:

· Significant underestimation of the magnitude of executive compensation; · Severe distortions in comparisons among executive pay packages; and · Significant overestimation of the extent to which executive pay is linked to performance.

Our analysis demonstrates that the SEC new disclosure rules, which require companies to make executive pensions transparent in ways supported by this paper, can be expected to reveal large amounts of performance-insensitive compensation via executive pensions.

Executive compensation, executive retirement benefits, executive pensions, stealth compensation, camouflage, pay for performance

Abstract:
The SEC is now considering a proposal to require some public companies to include in their proxy materials candidates for the board nominated by shareholders. I document that incumbents do not currently face any meaningful risk of being replaced via the ballot box, and I argue that providing shareholder access would be a moderate step toward improving board accountability. Analyzing each of the objections that opponents have raised against the proposed shareholder access, I conclude that none of them provides a good basis for opposing it. Indeed, it would be desirable to supplement shareholder access with additional measures to invigorate corporate elections.

corporate governance, directors, shareholders, shareholder voting, corporate elections, proxy fights, proxy contests, proxy rules, SEC

Abstract:
We model how lobbying by interest groups affects the level of investor protection. In our model, insiders in existing public companies, institutional investors (financial intermediaries), and entrepreneurs who plan to take companies public in the future, compete for influence over the politicians setting the level of investor protection. We identify conditions under which this lobbying game has an inefficiently low equilibrium level of investor protection. Factors that operate to reduce investor protection below its efficient level include the ability of corporate insiders to use the corporate assets they control to influence politicians, as well as the inability of institutional investors to capture the full value that efficient investor protection would produce for outside investors. The interest that entrepreneurs (and existing public firms) have in raising equity capital in the future reduces but does not eliminate the distortions arising from insiders' interest in extracting rents from the capital public firms already have. Our analysis generates testable predictions, and can explain existing empirical evidence, regarding the way in which investor protection varies over time and around the world.

Abstract:
We model how lobbying by interest groups affects the level of investor protection. In our model, three groups - insiders in existing public companies, institutional investors (financial intermediaries), and entrepreneurs who plan to take companies public in the future - compete for influence over the politicians setting the level of investor protection. We identify conditions under which this lobbying game has an inefficiently low equilibrium level of investor protection. Factors pushing investor protection below its efficient level include the ability of corporate insiders to use the corporate assets they control to influence politicians, and the inability of institutional investors to capture the full value that efficient investor protection would produce for outside investors. The interest that entrepreneurs (and existing public firms) have in raising equity capital in the future reduces but does not eliminate the distortions arising from insiders' interest in extracting rents from the capital that public firms already possess. Our analysis generates testable predictions, and can explain existing empirical evidence, regarding the way in which investor protection varies over time and around the world.

Investor protection, corporate governance, corporate law, interest groups, political economy, law and finance, insiders, institutional investors, entrepreneurs, equity capital, agency costs, private benefits of control

Abstract:
We investigate the distribution of pay in the top executive team in public companies. In particular, we study the CEO's pay slice (CPS), defined as the fraction of the aggregate top-five total compensation paid to the CEO. The level of a firm's CPS might reflect the relative centrality of the CEO in the top executive team in terms of ability, contribution to the firm, or power.

We find that CPS has been going up over the past decade. During this period, CEOs have increased their fraction of both equity-based compensation and non-equity compensation. The level of CPS is associated with various characteristics of the top team and the firm's governance arrangements. Among other things, CPS is high when the CEO has long tenure; when the CEO chairs the board; when few other executives are members of the board; and when the firm has more entrenching provisions.

High CPS is associated with lower firm value as measured by Tobin's Q. Using a simultaneous equations approach yields findings consistent with the possibility that this negative correlation is at least partly due to high CPS, or the relative CEO centrality it might reflect, bringing about a lower Tobin's Q. Consistent with the negative correlation between high CPS and Q, high CPS is associated with a less favorable market reaction, and a higher likelihood of a negative market reaction, to acquisitions announced by the firm. We also find that high CPS is associated with lower variability of stock returns over time. Overall, our results indicate that the distribution of compensation in the top executive team is an aspect of pay arrangements and corporate governance that deserves researchers' attention.

Executive compensation, corporate governance, CEOs, options, equity-based compensation, non-equity compensation, Tobin's Q, entrenchment, independent directors, board size, CEO tenure, CEO turnover, acquisitions, variability of returns, pay distribution, and internal pay equity

Abstract:
Firms going public have increasingly been incorporating antitakeover provisions in their IPO charters, while shareholders of existing companies have increasingly been voting in opposition to such charter provisions. This paper identifies possible explanations for this empirical pattern. Specifically, I analyze explanations based on (1) the role of antitakeover arrangements in encouraging founders to break up their initial control blocks, (2) efficient private benefits of control, (3) agency problems among pre-IPO shareholders, (4) agency problems between pre-IPO shareholders and their IPO lawyers, (5) asymmetric information between founders and public investors about the firm's future growth prospects, and (6) bounded attention and imperfect pricing at the IPO stage.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
Firms going public have increasingly been incorporating antitakeover provisions in their IPO charters, while shareholders of existing companies have increasingly been voting in opposition to such charter provisions. This paper identifies and analyzes possible explanations for this empirical pattern. Specifically, I analyze explanations based on (1) the role of antitakeover arrangements in encouraging founders to break up their initial control blocks, (2) efficient private benefits of control, (3) agency problems among pre-IPO shareholders, (4) agency problems between pre-IPO shareholders and their IPO lawyers, (5) asymmetric information between founders and public investors about the firm's future growth prospects, and (6) bounded attention and imperfect pricing at the IPO stage.

I also discuss the policy implications of the possible explanations. Among other things, the analysis implies that researchers should not automatically infer that arrangements adopted in IPO charters are ones that enhance shareholder value. The analysis also indicates that board veto arrangements is unlikely to serve shareholders in companies with dispersed ownership and should not be chosen as a default. The analysis provides some support for limits on contractual freedom at the IPO stage. Finally, the analysis suggests that it might be desirable for corporate law to use sunset strategies, requiring that entrenching arrangements adopted by charter provisions lapse after a certain period unless renewed by a shareholder vote.

corporate governance, corporate control, takeovers, mergers and acquisitions, takeover bids, tender offers, takeover defenses, antitakeover charter provisions, staggered boards, corporate charters, IPO, mandatory rules, sunset arrangements

Abstract:
The standard narrative of the meltdown of Bear Stearns and Lehman Brothers assumes that the wealth of the top executives of these firms was largely wiped out along with their firms. In the ongoing debate about regulatory responses to the financial crisis, commentators have used this assumed fact as a basis for dismissing both the role of compensation structures in inducing risk-taking and the potential value of reforming such structures. This paper provides a case study of compensation at Bear Stearns and Lehman during 2000-2008 and concludes that this assumed fact is incorrect.

We find that the top-five executive teams of these firms cashed out large amounts of performance-based compensation during the 2000-2008 period. During this period, they were able to cash out large amounts of bonus compensation that was not clawed back when the firms collapsed, as well as to pocket large amounts from selling shares. Overall, we estimate that the top executive teams of Bear Stearns and Lehman Brothers derived cash flows of about $1.4 billion and $1 billion respectively from cash bonuses and equity sales during 2000-2008. These cash flows substantially exceeded the value of the executives’ initial holdings in the beginning of the period, and the executives’ net payoffs for the period were thus decidedly positive. The divergence between how the top executives and their shareholders fared implies that it is not possible to rule out, as standard narratives suggest, that the executives’ pay arrangements provided them with excessive risk-taking incentives. We discuss the implications of our analysis for understanding the possible role that pay arrangements have played in the run-up to the financial crisis and how they should be reformed going forward.

Lehman Brothers, Bear Stearns, the financial crisis, banks, executive compensation, risk-taking, compensation structures, bonus compensation, stock options, restricted shares, moral hazard

Abstract:
This paper, which introduces the special issue on corporate governance co-sponsored by the Review of Financial Studies and the National Bureau of Economic Research (NBER), reviews and comments on the state of corporate governance research. The special issue feature seven papers on corporate governance that were presented in a meeting of the NBER‘s corporate governance project. Each of the papers represents state-of-the-art research in an important area of corporate governance research. For each of these areas, we discuss the importance of the area and the questions it focuses on, how the paper in the special issue makes a significant contribution to this area, and what we do and do not know about the area. We discuss in turn work on shareholders and shareholder activism, directors, executives and their compensation, controlling shareholders, comparative corporate governance, cross-border investments in global capital markets, and the political economy of corporate governance.

corporate governance, investor protection, shareholders, shareholder activism

Abstract:
This essay surveys the literature on Chapter 11. I start by discussing the objectives by which the performance of corporate reorganization rules is to be judged and then consider the fundamental problem of valuation that arises in corporate reorganization. I next turn to examine the performance of the prevailing bargaining-based approach to reorganization, both in terms of its effect on total reorganization value and in terms of its effect on the division of this value. Finally, I examine the two alternative approaches that have been put forward to the approach of existing rules -- that of auctioning the reorganized company's asset (put forward by Baird (1986) and Jensen (1991)) and that of using options to reorganize the company's ownership (put forward by Bebchuk (1988)).

Abstract:
This essay surveys the literature on Chapter 11. I start by discussing the objectives by which the performance of corporate reorganization rules is to be judged and then consider the fundamental problem of valuation that arises in corporate reorganization. I next turn to examine the performance of the prevailing bargaining-based approach to reorganization, both in terms of its effect on total reorganization value and in terms of its effect on the division of this value. Finally, I examine the two alternative approaches that have been put forward to the approach of existing rules - that of auctioning the reorganized company's asset (put forward by Baird (1986) and Jensen (1991) and that of using options to reorganize the company's ownership (put forward by Bebchuk (1988)).

Abstract:
In the ongoing debate on state competition over corporate charters, supporters of state competition have long claimed that the empirical evidence clearly supports their view. This paper suggests that the body of empirical evidence on which supporters of state competition have relied does not warrant this claim. The paper first demonstrates that reported findings of a positive correlation between incorporation in Delaware and increased shareholder wealth are not robust and, furthermore, do not establish causation. The paper then shows that, even if Delaware incorporation were found to cause an increase in shareholder value, this finding would not imply that state competition is working well; benefits to incorporating in the dominant state would likely exist in a race-toward-the bottom' equilibrium in which state competition provided undesirable incentives. Third, the analysis shows that empirical claims that state competition rewards moderation in the provision of antitakeover protections are not well grounded. Finally, we endorse a new approach to the empirical study of the subject that is based on analyzing the determinants of companies' choices of state of incorporation. Recent work based on this approach indicates that, contrary to the beliefs of state competition supporters, states that amass antitakeover statutes are more successful in the incorporation market.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
In the ongoing debate on state competition over corporate charters supporters of state competition have long claimed that the empirical evidence clearly supports their view. This article shows, however, that the body of empirical evidence on which supporters of state competition have relied does not warrant this claim. This empirical evidence, we argue, is in fact entirely consistent with the opposing view that state competition provides undesirable incentives with respect to corporate issues, such as takeover regulation, that substantially affect managers' private benefits.

We first show that reported findings of a positive correlation between incorporation in Delaware and increased shareholder wealth are not robust and are much more mixed and ambiguous than has been recognized. Furthermore, we argue that the presence of such causation would in any event not establish that Delaware incorporation increases value rather than simply chosen by higher value companies.

We next show that, even if Delaware incorporation were found to cause an increase in shareholder value, this finding would not imply that state competition is working well; benefits to incorporating in the dominant state would likely exist in a "race-toward-the-bottom" equilibrium in which state competition provides undesirable incentives. Finally, we show that empirical claims that state competition rewards moderation in the provision of antitakeover protections are not well grounded.

We conclude by endorsing a new approach to the empirical study of the subject that is based on analyzing the determinants of companies' choices of state of incorporation. Recent work based on this approach indicates that, contrary to the beliefs of state competition supporters, states that amass antitakeover statutes are more successful in the incorporation market.

Delaware, incorporations, corporate charters, regulatory competition, corporate governance, managers, shareholders, takeovers, antitakeover statutes

Abstract:
This paper shows that "one-sided" terms in standard contracts, which deny consumers a contractual benefit that seems efficient on average, may arise in competitive markets without informational problems (other than those of courts). A one-sided term might be an efficient response to situations in which courts cannot perfectly observe all the contingencies needed for an accurate implementation of a "balanced" contractual term when firms are more concerned about their reputation, and thus less inclined to behave opportunistically, than consumers are. We develop this explanation, discuss its positive and normative implications, and compare them to those of information-based explanations for one-sided terms.

contracts, standard form contracts, contracts of adhesion, reputation, opportunism, observability

Abstract:
This paper contains the edited transcripts of the Symposium on Corporate Elections held at Harvard Law School in October 2003. The symposium brought together SEC officials, CEOs, directors, institutional investors, money managers, shareholder activists, lawyers, judges, academics, and others to discuss the subject from a wide range of perspectives. The symposium included the following six sessions:

1. The Basic Pros and Cons of Shareholder Access. Martin Lipton and Steven Rosenblum, Wachtell, Lipton, Rosen & Katz, Lucian Bebchuk, Harvard Law School

2. The Board/Management Perspective. Richard Breeden, Richard C. Breeden & Co. John Castellani, The Business Roundtable James Rogers, Cinergy Inc. Ralph Whitworth, Apria Healthcare Group

3. The Perspective of Institutional Investors. Orin Kramer, Kramer Spellman Robert Pozen, Harvard Law School Michael Price, MFP Investors Sarah Teslik, Council for Institutional Investors

4. The Perspective of Shareholder Activists and Advisers. Jaime Heard, Institutional Shareholder Services Robert Monks, Lens Governance Advisors Damon Silvers, AFL-CIO John Wilcox, Georgeson Shareholders

5. Legal Problems in Designing a Shareholder Access Rule. John Coffee, Columbia Law School Joseph Grundfest, Stanford Law School Robert Todd Lang, Weil, Gotshal & Manges Charles Nathan, Latham & Watkins Leo Strine, Delaware Chancery Court

6. Concluding Remarks. Robert Clark, Harvard Law School Floyd Norris, The New York Times Harvey Goldschmid, U.S. Securities and Exchange Commission

Each session started with opening presentations by the panelists, followed by a discussion among the panelists and between the panelists and other participants in the symposium.

corporate governance, directors, shareholders, shareholder voting, corporate elections, proxy fights, proxy contests, proxy rules, corporate elections, SEC

Abstract:
This paper develops and defends our earlier analysis of the powerful antitakeover force of staggered boards. We reply to five responses to our work, by Stephen Bainbridge, Mark Gordon, Patrick McGurn, Leo Strine, and Lynn Stout, which are to be published in a Stanford Law Review Symposium. We present new empirical evidence that extends our earlier findings, confirms our conclusions, and demonstrates that the alternative theories put forward by some commentators do not adequately explain the evidence. Among other things, we find that having a majority of independent directors does not address the concern that defensive tactics might be abused. We also find that effective staggered boards do not appear to have a significant beneficial effect on premia in negotiated transactions. Finally, we show that, unlike our approach, the approach that our critics advocate for Delaware takeover jurisprudence to follow is both inconsistent with its established principles and takes an extreme position in the overall debate on takeover defenses. Our analysis and new findings further strengthen the case for limiting the ability of incumbents armed with a staggered board to continue saying no after losing an election conducted over an acquisition offer.

Our earlier study, Lucian Bebchuk, John Coates IV and Guhan Subramanian, "The Powerful Antitakeover Force of Staggered Boards: Theory, Evidence, and Policy," 54 Stanford Law Review 887-951 (2002), is available on the SSRN site at http://ssrn.com/abstract=304388.

Takeover, mergers and acquisitions, tender offers, takeover bids, defensive tactics, staggered boards, poison pills, premia, independent directors

Abstract:
This Paper argues that once undistorted shareholder choice is ensured - which can be done by making it necessary for hostile bidders to win a vote of shareholder support - boards should not have veto power over takeover bids. The Paper considers all of the arguments that have been offered for board veto - including ones based on analogies to other corporate decisions, directors' superior information, bargaining by management, pressures on managers to focus on the short-run, inferences from IPO charters, interests of long-term share-holders, aggregate shareholder wealth, and protection of stakeholders. Examining these arguments both at the level of theory and in light of all available empirical evidence, the Paper concludes that none of them individually, nor all of them taken together, warrants a board veto. Finally, the Paper discusses the implications that the analysis has for judicial review of defensive tactics.

Corporate governance, corporate control, takeovers, mergers and acquisitions, takeover bids, tender offers, takeover defences

Abstract:
This paper argues that once undistorted shareholder choice is ensured -- which can be done by making it necessary for hostile bidders to win a vote of shareholder support -- boards should not have veto power over takeover bids. The paper considers all of the arguments that have been offered for board veto -- including ones based on analogies to other corporate decisions, directors' superior information, bargaining by management, pressures on managers to focus on the short-run, inferences from IPO charters, interests of long-term shareholders, aggregate shareholder wealth, and protection of stakeholders. Examining these arguments both at the level of theory and in light of all available empirical evidence, the paper concludes that none of them individually, nor all of them taken together, warrants a board veto. Finally, the paper discusses the implications that the analysis has for judicial review of defensive tactics.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Abstract:
This paper argues that once undistorted shareholder choice is ensured - which can be done by making it necessary for hostile bidders to win a vote of shareholder support - boards should not have veto power over takeover bids. The paper considers all of the arguments that have been offered for board veto - including ones based on analogies to other corporate decisions, directors' superior information, bargaining by management, pressures on managers to focus on the short-run, inferences from IPO charters, interests of long-term shareholders, aggregate shareholder wealth, and protection of stakeholders. Examining these arguments both at the level of theory and in light of all available empirical evidence, the paper concludes that none of them individually, nor all of them taken together, warrants a board veto. Finally, the paper discusses the implications that the analysis has for judicial review of defensive tactics.

corporate governance, corporate control, takeovers, mergers and acquisitions, takeover bids, tender offers, takeover defenses

Abstract:
This article defends, and further develops, our earlier work on regulatory competition and takeover law. We have argued that competition for corporate charters provides incentives to states to protect incumbent managers from hostile takeovers, and that the empirical evidence is consistent with this account. To improve the performance of regulatory competition, we have put forward the possibility of choice-enhancing federal intervention; such intervention would expand shareholder choice, and encourage states to become more attentive to shareholder interests, without imposing any mandatory arrangements. Replying to Jonathan Macey's response to our work in this issue of the Business Lawyer, we show that none of his claims weakens our analysis.

The earlier work which we defend and develop in this paper is "A New Approach to Takeover Law and Regulatory Competition," 87 Virginia Law Review 111-164 (2001). In a related piece ("Federal Intervention to Enhance Shareholder Choice," 87 Virginia Law Review 993-1006 (2001)), we reply to a critique of our work by Steve Choi and Andrew Guzman.

Delaware, incorporations, corporate charters, regulatory competition, corporate governance, managers, shareholders, takeovers

Abstract:
In many business bankruptcies in which the firm is to be preserved as a going concern, one of the most difficult and important problems is that of valuing the assets that serve as collateral for secured creditors. Valuing a secured creditor's collateral is needed to determine the amount of the creditor's secured claim, which in turn affects the payout that must be made to the creditor. Such valuation has generally been believed to require either litigation or bargaining among the parties, which in turn give rise to uncertainty, delay, and deviations from parties' entitlements. This paper puts forward a new approach to valuing collateral that involves neither bargaining nor litigation. Under this approach, a market-based mechanism would determine the value of collateral in such a way that no participant in the bankruptcy would have a basis for complaining that secured creditors are either over- or under-compensated. Our approach would considerably improve the performance of business bankruptcy and could constitute an important element of any proposal for bankruptcy reform.

Abstract:
In many business bankruptcies in which the firm is to be preserved as a going concern, one of the most difficult and important problems is that of valuing the assets that serve as collateral for secured creditors. Valuing a secured creditor's collateral is needed to determine the amount of the creditor's secured claim, which in turn affects the payout that must be made to the creditor. Such valuation has generally been believed to require either litigation or bargaining among the parties, which in turn give rise to uncertainty, delay, and deviations from parties' entitlements. This paper puts forward a new approach to valuing collateral that involves neither bargaining nor litigation. Under this approach, a market-based mechanism would determine the value of collateral in such a way that no participant in the bankruptcy would have a basis for complaining that secured creditors are either over- or under-compensated. Our approach would considerably improve the performance of business bankruptcy and could constitute an important element of any proposal for bankruptcy reform.

bankruptcy, insolvency, secured debt, security interest, collateral, valuation, bankruptcy reform

Abstract:
Fairness opinions are a regular feature of every major corporate transaction. We analyze the conflict of interest problems that afflict fairness opinions and the extent to which courts should give weight to such opinions.

Investment bankers, fairness opinions, takeovers, freezeouts, corporate governance, conflict of interest, professionals

Abstract:
The agents to whom shareholders delegate the management of corporate affairs may transfer value from shareholders to themselves through a variety of mechanisms, such as self-dealing, insider trading, and taking of corporate opportunities. A common view in the law and economics literature is that such value diversion does not ultimately produce a reduction in shareholder wealth, since value diversion simply substitutes for alternative forms of compensation that would otherwise be paid to managers. We question this view within its own analytical framework by studying, in a principal-agent model, the effects of allowing value diversion on managerial compensation and effort. We suggest that the standard law and economics view of value diversion overlooks a significant cost of such behavior. Many common modes of compensation can provide managers with incentives to enhance shareholder value; replacing such compensation would reduce these incentives. As a result, even if the consequences of a rule permitting value diversion can be fully taken into account in settling managerial compensation, such a rule might still produce a reduction in shareholder wealth -- and would not do so only if value diversion would have some countervailing positive effects (a possibility which our model considers) that are sufficiently significant in size.

Abstract:
The agents to whom shareholders delegate the management of corporate affairs may transfer value from shareholders to themselves through a variety of mechanisms, such as self-dealing, insider trading, and taking of corporate opportunities. A common view in the law and economics literature is that such value diversion does not ultimately produce a reduction in shareholder wealth, since value diversion simply substitutes for alternative forms of compensation that would otherwise be paid to managers. We question this view within its own analytical framework by studying, in a principal-agent model, the effects of allowing value diversion on managerial compensation and effort. We suggest that the standard law and economics view of value diversion overlooks a significant cost of such behavior. Many common modes of compensation can provide managers with incentives to enhance shareholder value; replacing such compensation would reduce these incentives. As a result, even if the consequences of a rule permitting value diversion can be fully taken into account in setting managerial compensation, such a rule might still produce a reduction in shareholder wealth--and would not do so only if value diversion would have some countervailing positive effects (a possibility which our model considers) that are sufficiently significant in size.

Abstract:
This paper revisits the proposal to use options in corporate bankruptcy that was put forward in Bebchuk (1988). According to the proposed procedure, corporate bankruptcy should be implemented through the distribution to participants of appropriately designed options. The paper starts by discussing the goals that should guide the design of bankruptcy procedures. The paper then explains how the options procedure can improve both ex post efficiency and ex ante efficiency. The paper offers a refined version of the procedure, and it also responds to questions that have been raised regarding the execution and desirability of the procedure. The paper concludes by explaining the relationship between the options approach to corporate bankruptcy and the Black-Scholes characterization of all corporate securities as options.

Abstract:
This paper revisits the proposal to use options in corporate bankruptcy that was put forward in Bebchuk (1988). According to the proposed procedure, corporate bankruptcy should be implemented through the distribution to participants of appropriately designed options. The paper starts by discussing the goals that should guide the design of bankruptcy procedures. The paper then explains how the options procedure can improve both ex post efficiency and ex ante efficiency. The paper offers a refined version of the procedure, and it also responds to questions that have been raised regarding the execution and desirability of the procedure. The paper concludes by explaining the relationship between the options approach to corporate bankruptcy and the Black-Scholes characterization of all corporate securities as options.

Bankruptcy, reorganization, options

Abstract:
This piece provides the brief submitted to the Delaware Chancery Court by plaintiff in the case of Bebchuk vs. CA, Inc. The case concerns the attempt by CA to exclude from the corporate ballot a stockholder proposal to adopt a proposed bylaw concerning the use of poison pills on grounds that it would be invalid under Delaware law. Under the proposed bylaw, a board would not be able to maintain a pill indefinitely without periodic determination than doing so would serve shareholders. The brief explains why, in contrast to the claims made by CA, the proposed bylaw would neither violate any of the provisions of the Delaware corporate code nor impedes directors' fulfillment of their fiduciary duties. Although the court decided that the case was not sufficiently ripe for a ruling on the validity of the proposed bylaw, the court's decision rejected CA's arguments that the bylaw is clearly invalid.

Takeovers, takeover defenses, poison pill, bylaws, charter, fiduciary duties, corporate governance, agency costs, directors, shareholders, Delaware

Abstract:
During contractual negotiations, parties often make (reliance) expenditures that would increase the surplus should a contract be made. This paper analyzes decisions to invest in pre-contractual reliance under alternative legal regimes. Investments in reliance will be socially suboptimal in the absence of any pre-contractual liability -- and will be socially excessive under strict liability for all reliance expenditures. Given the results for these polar cases, we focus on exploring how 'intermediate' liability rules could be best designed to induce efficient reliance decisions. One of our results indicates that the case for liability is shown to be stronger when a party retracts from terms that it has proposed or from preliminary understandings reached by the parties. Our results have implications, which we discuss, for various contract doctrines and debates. Finally, we show that pre-contractual liability does not necessarily have an overall adverse effect on parties' decisions to enter into contractual negotiations.

Abstract:
During contractual negotiation, parties often make (reliance) expenditures that would increase the surplus should a contract be made. This paper analyzes decisions to invest in pre-contractual reliance under alternative legal regimes. Investments in reliance will be socially suboptimal in the absence of any pre-contractual liability - and will be socially excessive under strict liability for all reliance expenditures. Given the results for these polar cases, we focus on exploring how "intermediate" liability rules could be best designed to induce efficient reliance decisions. One of our results indicates that the case for liability is shown to be stronger when a party retracts from terms that it has proposed or from preliminary understandings reached by the parties. Our results have implications, which we discuss, for various contract doctrines and debates. Finally, we show that pre-contractual liability does not necessarily have an overall adverse effect on parties' decisions to enter into contractual negotiations.

Contracts, bargaining, negotiations, reliance

Abstract:
During contractual negotiations, but before entering a contract, parties might make (reliance) expenditures that would increase the surplus should a contract be made but would be fully or partially wasted otherwise. This paper develops a model for analyzing parties' decisions to invest in pre-contractual reliance under alternative legal regimes. Whereas parties' investments in reliance will be socially suboptimal in the absence of any pre-contractual liability, they will be socially excessive under a regime of strict liability for all reliance expenditures. Given the results for the two polar cases, the analysis explores how "intermediate" liability rules could be designed to induce optimal reliance decisions, considers what information courts would need to implement such rules, and discusses implications for the doctrines governing pre-contractual liability. The case for liability is shown to be stronger when a party retracts from a preliminary understanding or from terms that it has proposed. Finally, the analysis shows that pre-contractual liability does not necessarily have an adverse overall effect on parties' decisions to enter into contractual negotiations.

Contracts, Negotiations, Reliance