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Bebchuk, Lucian

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Bebchuk

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Bebchuk, Lucian

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Now showing 1 - 10 of 62
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    Managerial Power and Rent Extraction in the Design of Executive Compensation
    (University of Chicago Press, 2002) Bebchuk, Lucian
    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.
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    Precontractual Reliance
    (University of Chicago Press, 2001) Bebchuk, Lucian; Ben-Shahar, Omri
    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.
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    Federal Intervention to Enhance Shareholder Choice
    (Virginia Law Review Association, 2001) Bebchuk, Lucian; Ferrell, Allen
    The modern approach to corporate reorganizations begins in a curious place. Everywhere else in corporate law, we focus on those who control the firm and on when others should be able to go to court and reverse their decisions. With respect to corporate reorganizations, however, we ignore these questions and instead focus on priority rights. Our lodestar is the real estate foreclosure. A real estate foreclosure is an actual sale of a physical asset, and the proceeds of the sale are distributed to old creditors and shareholders according to nonbankruptcy priorities. A reorganization is also a sale, albeit a hypothetical one, and the proceeds of the sale (usually in the form of new claims against the reorganized firm) are again distributed to the old creditors and shareholders. Hence, nonbankruptcy priorities should be respected here as well. According to this conventional wisdom, the primary challenge in the law of corporate reorganizations lies in devising a process that allows us to respect priority rights when there is not an actual foreclosure with competing bids. In this paper, we show that this conventional understanding of corporate reorganizations is wrong. It might seem that the primary question when all cannot be paid in full is who gets what, but this question is in the first instance merely distributional. It concerns only the size of the slices, not the size of the pie. Rational investors are indifferent to the priority they enjoy in bad states as long they enjoy a competitive risk-adjusted return on their investment. Hence, the central focus of corporate reorganizations should not be upon priority rights. Instead, as in corporate law generally, it should remain upon how the firm's assets are used and who controls them. Investors care intensely about ensuring that control of a firm's assets resides in able hands in good times; they care even more in bad times. When a firm is in financial distress, a large part of its value can be lost in a short period of time. The starting place for corporate reorganization scholarship since the 1930s -- the real estate foreclosure -- ignores the question of control. Real estate foreclosure turns tangible assets into cash. With such a sale, there is no need to decide whether to liquidate the firm or to replace the current managers. These decisions can be entrusted to the new buyer. The only question is the distribution of cash among old creditors and shareholders. By contrast, in a reorganization that might last months or years, we must ask whether to continue the firm, how to identify those who will run it, and how to monitor them. About these questions, the real estate foreclosure analogy has nothing to say. Moreover, the foreclosure analogy leads to a method of allocating rights among old investors in the new entity that is affirmatively suspect. This distributional scheme-the absolute priority rule- demands that shareholders of insolvent firms be wiped out in the event of a reorganization. This rule exists uncomfortably with a persistent and pervasive feature of the capital structures of all but the largest, publicly held firms. In smaller firms, there is a near identity between shareholder and manager. The value of such firms as going concerns depends upon the firm-specific human capital of its manager. To be sure, if the firm lacks any value as a going concern, it should be liquidated. In such a case, there is an actual sale and nonbankruptcy priorities should be respected. But a significant number of firms have value as going concerns, and this value can be preserved only if the current manager remains in place and continues to hold the equity of the firm. When such a firm is kept as a going concern, a deal must be struck with the current manager one way or another. The dynamics of these renegotiations are such that the absolute priority rule likely has no effect on the share of the firm the manager enjoys after the reorganization, nor does it change her incentives beforehand. In short, modern scholars of corporate reorganizations have asked the wrong question and then offered an answer that is very likely irrelevant. In this Essay, we reexamine the foundations of corporate reorganizations. More in harmony with the modern understanding of corporate law, our approach does not begin with the real estate foreclosure and does not assume the centrality of the absolute priority rule. With respect to small firms or firms in less developed capital markets, we show that the question of whether to shut down the firm is of central importance. The challenge of the law of corporate reorganizations should be one of ensuring that this decision is in the hands of someone well equipped to make it. The thesis put forward in this Essay is straightforward. When the managers and shareholders cannot be easily separated, control rights should lie in the hands of someone whose loyalties are aligned with the creditors, but the reorganization itself should not affect the value of the managers' equity interest. These principles are not new, but rather forgotten. Although they barely made a toehold in the academic literature of the time, 10 the early law of corporate reorganizations in this country adopted these principles in an environment in which it seems likely that they vindicated the creditors' bargain. Hence, it is this body of law to which we turn first.
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    A New Approach to Takeover Law and Regulatory Competition
    (Virginia Law Review Association, 2001) Bebchuk, Lucian; Ferrell, Allen
    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.
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    Property Rights and Liability Rules: The Ex Ante View of the Cathedral
    (Michigan Law Review, 2001) Bebchuk, Lucian
    Beginning with Calabresi's and Melamed's seminal article, economic analysis of property rights and liability rules has been largely done from an ex post perspective, taking as given the presence of the parties involved and their payoffs. This paper analyzes how such allocation of entitlements affects ex ante investments and actions. Even when ex post bargaining is easy, the ex post allocation of entitlements, by affecting the distribution of ex post value, can have significant efficiency effects ex ante. By identifying the ex ante effects of alternative rules, the analysis provides a framework for determining allocations of entitlement that would perform best from the perspective of ex ante efficiency.
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    The Trouble with Staggered Boards: A Reply to Georgeson's John Wilcox
    (Prentice Hall Law & Business, 2003) Bebchuk, Lucian; Coates, John; Subramanian, Guhan
    In recent work, we presented evidence indicating that staggered boards have adverse effects on target shareholders. John Wilcox, the Vice-Chair of Georgeson, recently published a critique of our work, urging shareholders to support staggered boards. We respond in this article to Wilcox's critique and explain why it does not weaken in any way our analysis of staggered boards. The study criticized by Wilcox, "The Powerful Antitakeover Force of Staggered Boards: Theory, Evidence, and Policy," 54 Stanford Law Review 887-951 (2002), is available at http://ssrn.com/abstract=304388. In a separate reply, "The Powerful Antitakeover Force of Staggered Boards: Further Findings and a Reply to Symposium Participants," 55 Stanford Law Review 885-917 (2002), which is available at http://ssrn.com/abstract=360840, we respond to several other responses to our original study and present additional evidence that confirms its conclusions.
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    The Powerful Antitakeover Force of Staggered Boards: Further Findings and a Reply to Symposium Participants
    (Stanford Law School, 2002) Bebchuk, Lucian; Coates, John; Subramanian, Guhan
    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.
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    Golden Parachutes and the Wealth of Shareholders
    (2014) Bebchuk, Lucian; Cohen, Alma; Wang, Charles
    Golden parachutes (GPs) have attracted substantial attention from investors and public officials for more than two decades. We find that GPs are associated with higher expected acquisition premiums and that this association is at least partly due to the effect of GPs on executive incentives. However, we also find that firms that adopt GPs experience negative abnormal stock returns both during and subsequent to the period surrounding their adoption. This finding raises the possibility that even though GPs facilitate some value-increasing acquisitions, they do have, on average, an overall negative effect on shareholder wealth; this effect could be due to GPs weakening the force of the market for control and thereby increasing managerial slack, and/or to GPs making it attractive for executives to go along with some value-decreasing acquisitions that do not serve shareholders' long-term interests. Our findings have significant implications for ongoing debates on GPs and suggest the need for additional work identifying the types of GPs that drive the identified correlation between GPs and reduced shareholder value.
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    A New Approach to Valuing Secured Claims in Bankruptcy
    (Harvard University, Harvard Law School, 2001) Bebchuk, Lucian; Fried, Jesse
    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.
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    The Overlooked Corporate Finance Problems of a Microsoft Breakup
    (American Bar Association, 2001) Bebchuk, Lucian; Walker, David
    This paper identifies problems with the ordered breakup of Microsoft that seem to have been completely overlooked by the government, the judge, and the commentators. The breakup order prohibits Bill Gates and other large Microsoft shareholders from owning shares in both of the companies that would result from the separation. Given this prohibition, we show, dividing the securities in the resultant companies among the shareholders is not as straightforward as the government has suggested. Any method of distributing the securities that would comply with this mandate would either (i) impose a significant financial penalty on Microsoft's large shareholders that is not contemplated by the order, or (ii) create a risk of a substantial transfer of value between Microsoft's shareholders. In addition to identifying the difficulties and costs involved in the two distribution methods that would comply with the cross-shareholding prohibition, we examine how the breakup order could be refined to reduce these difficulties and costs. The problems that we identify should be addressed if a breakup is ultimately to be pursued and should be taken into account in making the basic decision of whether to break up Microsoft at all.