Corporate Governance in a Global Economy
The Shareholders’ Champion
Lucian Bebchuk is trying to change the way corporations are governed
For anyone who follows financial news, it’s becoming harder to miss the name or influence of Lucian A. Bebchuk LL.M. ’80 S.J.D. ’84, the director of Harvard Law School’s Program on Corporate Governance.
In a single week this past December, for example, stories about a new study co-written by Bebchuk appeared in The Wall Street Journal, The New York Times, The Washington Post, the Financial Times, the Guardian and other newspapers around the world. Another study issued a month earlier garnered similar attention. In the past few years, as concern over corporate governance has grown, Bebchuk’s research—extensive empirical studies as well as scores of theoretical and policy articles—has been at the heart of discussions over executive pay, corporate elections, takeover defenses and shareholder proposals.
For shareholders and others seeking expert guidance on restructuring corporate administration in a post-scandal world, Bebchuk has become the go-to guy—as close as a corporate law professor can get to attaining rock-star status. “He’s the Elvis Presley of shareholder activism,” says Theodore Mirvis ’76, a prominent mergers-and-acquisitions litigator.
In the space of just a few months, Bebchuk has testified before the U.S. Senate and the House of Representatives; written op-ed articles for The Wall Street Journal, The New York Times and the Financial Times; provided expert opinions in a variety of matters; and participated in an amicus brief filed in a Second Circuit case, AFSCME v. AIG, establishing the right of shareholders to introduce a proposal for shareholder access to a company proxy card. In each of the past four years, he has had one or more articles on the list of the 10 best corporate law articles selected by a national poll of corporate law faculty. The Social Science Research Network ranked Bebchuk first among all law professors in all fields in terms of how much his work has been used by its members.
And he recently persuaded several top American corporations to make their bylaws more shareholder-friendly.
What makes Bebchuk so influential? According to those who know him well, it’s a blend of law, economics and empirical rigor—fueled by seemingly inexhaustible energy and boundless curiosity—that has been apparent since he arrived at HLS from Israel as a graduate student in 1978. He pursued his LL.M. and S.J.D. while also getting a master’s degree and a Ph.D. in economics from Harvard, and he was appointed to the prestigious Harvard Society of Fellows.
From the start, he drew on his training in both law and economics. His framework for analyzing how parties make litigation and settlement decisions based on imperfect information became the standard tool of analysis, and it has remained so for the past two decades. His option-based mechanism for smoothly resolving Chapter 11 reorganizations was described as “ingenious” by noted economists Aghion, Hart and Moore, who built on it in their subsequent work.
An early opportunity set Bebchuk on the path to corporate governance. “I got into this field by chance,” he says. “I was a graduate student doing research on the jurisprudential dimensions of economic analysis of law under Professor Frank Michelman’s supervision, when Professor Victor Brudney suggested that I use my economics knowledge to write a reply to a just-published Harvard Law Review article on takeover defenses by Easterbrook and Fischel.” The Review took the unusual step of publishing a piece by a student, and later that year the Stanford Law Review published a follow-up exchange on takeover policy among Bebchuk, University of Chicago Law Professors Easterbrook and Fischel, and Stanford Professor Ronald Gilson. The Harvard and Stanford exchanges became corporate law classics, and Bebchuk was in the field to stay. He joined the HLS faculty in 1986 and received tenure in 1988.
In the years since, his work has led him to the view that corporate boards are insufficiently accountable to shareholders and that corporate governance could be considerably improved, with benefits to investors and the economy, by strengthening shareholder rights. To this end, he advocates making it easier for shareholders to replace directors via proxy contests. He is a staunch advocate of shareholder access to the ballot—an issue that has been on the SEC agenda for the last several years. In “The Myth of the Shareholder Franchise,” an article based on his Raben lecture at Yale Law School, he offers a detailed blueprint for reforming corporate elections to give shareholders real power to replace directors.
Bebchuk also supports making boards less insulated from “the discipline of the market” by lowering the array of anti-takeover defenses that incumbents have erected over time. And he calls for expanding the role of shareholders in governance arrangements. In a 2005 Harvard Law Review article, “The Case for Increasing Shareholder Power,” he identifies the costs resulting from directors’ control over the rules that govern their own election and behavior, and he argues for giving shareholders broader power to initiate rule changes.
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Bebchuk has built the case for his proposed reforms partly on his empirical work—for example, demonstrating the costs to shareholders of staggered boards, which he views as a major impediment to director removal via takeover or proxy contest. A study he conducted with HLS Professors John Coates and Guhan Subramanian ’98 found that staggered boards don’t benefit the shareholders of takeover targets but rather reduce the expected stock returns they capture. A subsequent study by Bebchuk and Alma Cohen showed that staggered boards are correlated with lower firm value in general. These findings led the investment firm TIAA-CREF to adopt voting policies disfavoring staggered boards and have contributed significantly to the movement to dismantle them at a variety of companies, says HLS Professor Robert Clark ’72, who has served on the TIAA board.
Although Bebchuk argues that substantial legal reform is necessary, he also believes that investors can accomplish significant governance improvements in publicly traded companies by using their right to amend corporate bylaws—a right that has been thus far little used. He recently started developing model bylaw provisions designed to improve investor protection. “I could have put forward my ideas on how this could be done through an article,” he says, “but I thought that an alternative way of doing so would be by submitting my model bylaws as shareholder proposals in some companies.”
Following his submission of proposals, Bristol-Myers Squibb, AIG and, most recently, Home Depot agreed to amend their bylaws along the lines he proposed. At several other companies, his proposals went to a vote, garnering substantial levels of support—more than 40 percent in some cases, an unusual outcome for proposals that were both novel and binding.
The model bylaw that has attracted the most attention concerns the “poison pill”—a device that boards can use to prevent shareholders from accepting an attractive premium offer a bidder has made for their shares. There has been a long-standing debate over whether state laws allow shareholders to adopt bylaws that limit board use of pills. “The pill bylaw I designed,” says Bebchuk, “seeks to reduce the potential costs of pills to shareholders but in a way that is consistent with both the letter and the spirit of state law.” In an article titled “The Bebchuk Bylaw,” The M&A Journal quoted a renowned litigator as saying: “It’s brilliant. Devilish. But brilliant.”
When CA Inc. (formerly Computer Associates) attempted to exclude Bebchuk’s pill bylaw proposal from its ballot, Bebchuk took the case to the Delaware Court of Chancery. He won a decision that forced CA to place the proposal on the ballot and that would preclude companies from excluding such proposals in the future. His bylaw proposal went on to obtain 41 percent of the vote, an outcome that induced the board to adopt a shareholder-friendly pill whose terms would allow shareholders to vote to remove the pill.
Bebchuk has also zeroed in on the subject of executive pay. In 2004, he and Jesse Fried ’92 published a book, “Pay without Performance: The Unfulfilled Promise of Executive Compensation” (Harvard University Press), providing a comprehensive account of how boards have failed to negotiate at arm’s length with executives. The book details how pay practices have decoupled compensation from performance and camouflaged both the amount and what Bebchuk calls the “performance-insensitivity” of pay. The Washington Post called it a “devastating critique of the way public companies pay their executives.” Nobel Laureate Joseph Stiglitz predicted the book “will shape debates … for years to come.”
Bebchuk views “Pay without Performance” as an integral part of his work on corporate governance. “The flaws of executive pay packages analyzed in the book are ones that reflect structural problems in underlying governance arrangements,” he says. “These flaws can be fully addressed only by improving directors’ incentives to focus on shareholder interests, which strengthening shareholder rights would do.”
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Since writing the book, Bebchuk has been conducting further empirical studies on executive pay. In a widely noticed study co-written with Yaniv Grinstein, he analyzed how much CEO pay has grown since 1993 beyond what could be explained by changes in firms’ earnings and other characteristics. His empirical study with Robert Jackson ’05 was the first to document systematically the large sums of nonperformance executive compensation via pension plan arrangements not disclosed to investors.
This winter, Bebchuk’s empirical work shed new light on the option backdating scandals. “Lucky CEOs” and “Lucky Directors,” two studies he co-wrote with Grinstein and Urs Peyer, examined the incidence of “lucky grants”—options awarded at the lowest price of the month—that could not be explained by sheer luck. “Lucky CEOs” demonstrated the link between CEO lucky grants and factors associated with CEO influence on internal decision-making. “Lucky Directors,” which, according to the Financial Times, opened a “new front” in the examination of the subject, provided the first evidence that opportunistic timing affected not only executives’ grants but also grants awarded to outside directors.
Bebchuk’s calls for reform have struck a nerve, and he has no shortage of critics. Last year, for example, the Harvard Law Review published responses by Vice Chancellor Leo E. Strine Jr. of the Delaware Court of Chancery and UCLA’s Stephen Bainbridge to Bebchuk’s arguments for a greater shareholder role in governance arrangements. This spring the Virginia Law Review will publish five responses by prominent practitioners and academics to Bebchuk’s “The Myth of the Shareholder Franchise.”
Even critics who strongly disagree with Bebchuk appear to appreciate the rigor of his work. Martin Lipton, founding partner of Wachtell, Lipton, Rosen & Katz and one of the country’s top corporate lawyers, says that Bebchuk “is one of the most brilliant people in the academic world, particularly with regard to corporate law, but we are just on diametrically opposite paths with regard to most of the issues he’s concerned with.” Lipton has written replies to Bebchuk’s work on election reform and takeover policy.
Bebchuk welcomes engagement with his ideas, and his academic stature has only grown as his work has generated debate. When the American Academy of Arts & Sciences elected him a member in 2000, it cited him as “one of the nation’s leading scholars of law and economics,” who “has made major contributions to the study of corporate control, governance and insolvency.” Last year, he became president-elect of the American Law and Economics Association.
“Lucian has had significant influence on the corporate law field not only through his writing but also through his students,” says Columbia Law School Professor Jeffrey Gordon ’75. Bebchuk has long invested in mentoring HLS students and fellows aspiring to become academics, and many of them now hold teaching positions at law schools including Harvard, Yale, NYU, Berkeley, Chicago, Michigan, Virginia and Penn. One former student, Bo Li ’99, is an architect of the privatization of China’s banking sector and says studying under Bebchuk was formative.
Bebchuk says that, as a student, he benefited greatly from the mentoring of Victor Brudney and learned how valuable mentorship can be: “My debt to Victor is large and can never be repaid. It can only be—with luck—partly passed on to others.”