Person:

Bebchuk, Lucian

This paper contains the proceedings of the Proxy Access Roundtable that was held by the Harvard Law School Program on Corporate Governance on October 7, 2009. The Roundtable brought together prominent participants in the debate - representing a range of perspectives and experiences - for a day of discussion on the subject. The day’s first two sessions focused on the question of whether the Securities and Exchange Commission should provide an access regime, or whether it should leave the adoption of access arrangements, if any, to private ordering on a company-by-company basis. The third session focused on how a proxy access regime should be designed, assuming the Securities and Exchange Commission were to adopt such an access regime. The final session went beyond proxy access and focused on whether there are any further changes to the arrangements governing corporate elections that should be considered.

Speakers in the roundtable included Joseph Bachelder (The Bachelder Firm), Michal Barzuza (University of Virginia School of Law), Lucian Bebchuk (Harvard Law School), Robert Clark (Harvard Law School), John Coates (Harvard Law School), Isaac Corré (Eton Park Capital Management L.P.), Steven M. Davidoff (University of Connecticut School of Law), Jay Eisenhofer (Grant & Eisenhofer P.A.), Richard Ferlauto (American Federation of State, County and Municipal Employees [AFSCME]), Abe Friedman (Barclays Global Investors), Byron Georgiou (Of Counsel, Coughlin Stoia Geller Rudman & Robbins LLP), Kayla Gillan (U.S. Securities and Exchange Commission), Jeffrey Gordon (Columbia Law School), Edward Greene (Cleary Gottlieb Steen & Hamilton LLP), Joseph Grundfest (Stanford Law School), Howell Jackson (Harvard Law School), Roy Katzovicz (Pershing Square Capital Management, L.P.), Stephen Lamb (Paul, Weiss, Rifkind, Wharton & Garrison LLP), Mark Lebovitch (Bernstein Litowitz Berger & Grossmann LLP), Lance Lindblom (The Nathan Cummings Foundation), Simon Lorne (Millennium Management LLC), Robert Mendelsohn (formerly of Royal and Sun Alliance Insurance Group), Ted Mirvis (Wachtell, Lipton, Rosen & Katz), James Morphy (Sullivan & Cromwell LLP), Toby Myerson (Paul,Weiss, Rifkind, Wharton & Garrison LLP), Annette Nazareth (Davis Polk & Wardwell LLP), John F. Olson (Georgetown University Law Center), Mark Roe (Harvard Law School), Eric Roiter (Boston University School of Law), Leo Strine (Delaware Chancery Court), Daniel Summerfield (Universities Superannuation Scheme), Greg Taxin (formerly of Glass, Lewis & Co.) and John C. Wilcox (Sodali Ltd).

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.

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.

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.

Firms, investors, and regulators around the world are now seeking to ensure that the compensation of public company executives is tied to long-term results, in part to avoid incentives for excessive risk taking. This Article examines how best to achieve this objective. Focusing on equity-based compensation, the primary component of executive pay, we identify how such compensation should best be structured to tie pay to long-term performance. We consider the optimal design of limitations on the unwinding of equity incentives, putting forward a proposal that firms adopt both grant-based and aggregate limitations on unwinding. We also analyze how equity compensation should be designed to prevent the gaming of equity grants at the front end and the gaming of equity dispositions at the back end. Finally, we emphasize the need for widespread adoption of limitations on executives’ use of hedging and derivative transactions that weaken the tie between executive payoffs and the long-term stock price that well-designed equity compensation is intended to produce.

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.

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.