By James Kwak
The indefatigable Lucian Bebchuk has written another empirical paper (Dealbook summary), this time with Alma Cohen and Charles Wang, on the impact of golden parachutes (agreements that pay off CEOs generously in case of acquisition by another company) on shareholder value.
Looking just at the question of whether a company is acquired and for how much, they find out that golden parachutes work about how you would expect. Companies whose CEOs have golden parachutes are more likely to get acquisition offers and are more likely to be acquired, presumably because their CEOs are les likely to contest takeovers. On the other hand, these companies tend to sell for lower acquisition premiums, again because their CEOs are more likely to be happy to be bought out.
“So far, so good,” Bebchuk writes. But the problem is that when you take a longer view, golden parachutes appear to be bad for shareholder value. Companies that adopt golden parachutes have lower risk-adjusted stock returns than their peers—despite the fact that they are more likely to be acquired. Some other factor is outweighing the positive effect (for the stock price) of more frequent takeovers.
Bebchuk proposes one explanation: Golden parachutes make being acquired relatively painless to CEOs. Therefore, they are less afraid of being acquired; and, therefore, they are less concerned about maximizing shareholder value in the first place.
Here’s another possibility: Companies are more likely to grant golden parachutes to their CEOs if they have: (a) CEOs who care more about maximizing their personal wealth than about their companies; (b) boards who are more concerned about doing favors for the CEO than about doing what’s right for the company; or (c) both. Those are not the kinds of companies you want to be investing in, since they’re likely to screw up all sorts of other things in addition to their executive compensation policies.
Protecting Boards from Their Own Shareholders
By James Kwak
I teach corporate law, and one of the topics in a typical introductory corporate law course is hostile takeovers. The central legal question is: to what extent is a board of directors allowed to undertake defenses against a takeover bid, even if (as is always the case) the potential acquirer is offering a premium over the current market price?
Whenever I teach one of these cases, I always bring up the nagging economic question: if the share price is $20, and Big Bad Raider is offering $30 in cash to each and every shareholder, where does the board get the chutzpah to claim that, under its leadership, the true value of the company is more than $30? (I understand the argument that Bigger Badder Raider might be convinced to pay more than $30, but the law, at least in Delaware, allows boards to use some takeover defenses to fend off any acquirer.) This always baffles me, but the law is premised on the idea that there is some fundamental value that is hidden deep inside the current board’s “strategic plans,” and that Big Bad Raider may rob shareholders of this fundamental value.
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