Articles Packet

BRN 482 Professor Clifford W. Smith Jr. Corporate Financial Policy Summer 2007

ARTICLES PACKET

Debt-Driven Deals Shake Up Holders of Highly Rated Bonds Karen Richardson and Serena Ng. Wall Street Journal. (Eastern edition). New York, N.Y.: Feb 8, 2007. Abstract (Document Summary) On Dec. 26, before Vornado appeared on the scene, EOP and Blackstone announced plans to buy back all of EOP's $8.4 billion in bonds as part of the Blackstone buyout. The offer covered short-term bonds due within the next 10 years and longer-term bonds due as late as 2031. But debt investors rallied against it, rejecting the terms as too little for the long-term bondholders.

"It was an impressive effort, especially the way bondholders seemingly looked out for each other," says Sid Bakst, a bond manager at Robeco Weiss, Peck & Greer who wasn't involved in the EOP affair.

"It's one of the first things we ask for nowadays," says Mr. Bakst of Robeco Weiss. "It's an insurance policy that protects against the worst-case scenario." If companies choose not to include covenants, they may have to commit to higher interest rates before investors will buy their bonds. Full Text (1002 words) (c) 2005 Dow Jones & Company, Inc. Reproduced with permission of copyright owner. Further reproduction or distribution is prohibited without permission.

The flurry of debt-driven corporate mergers, spinoffs and buyouts is putting a normally staid group of investors -- investment-grade bondholders -- on the defensive.

Typically a genteel bunch populated by life insurers and pension- fund managers, these risk-averse investors are learning the hard way that their bets on high-quality corporate bonds, some of the safest debt around, are more vulnerable than believed.

Holders of highly rated bonds in companies like casino operator Harrah's Entertainment Inc. or energy firm Kinder Morgan Inc. have seen their investments dropped in value overnight after private-equity shops launched bids for the companies.

The bids came with plans to load the companies up with new debt. The heavier debt burden meant existing bondholders became more exposed to default. They had added exposure, because the new debt would be paid off first if a default actually occurs. In both cases the credit rating on the existing bonds tumbled from investment grade to junk.

"The whole culture of high-grade bondholders for a very long time was lackadaisical, where nobody was ever worried," says Robert Haines, a bond analyst in New York at CreditSights, an independent debt- research firm.

That might be changing as buyout shops search out more big, high- quality companies to take over.

In a rare show of solidarity, some debt investors are fighting back. Blackstone Group's purchase of Equity Office Properties Trust, the nation's largest office landlord, for $23 billion is one example.

EOP's shareholders voted yesterday in favor of a buyout deal, concluding Blackstone's bidding war with Vornado Realty Trust.

The deal came with significant gamesmanship between existing bondholders and the company. On Dec. 26, before Vornado appeared on the scene, EOP and Blackstone announced plans to buy back all of EOP's $8.4 billion in bonds as part of the Blackstone buyout. The offer covered short-term bonds due within the next 10 years and longer-term bonds due as late as 2031. But debt investors rallied against it, rejecting the terms as too little for the long-term bondholders.

"It was an impressive effort, especially the way bondholders seemingly looked out for each other," says Sid Bakst, a bond manager at Robeco Weiss, Peck & Greer who wasn't involved in the EOP affair.

In that case, bondholders had some leverage against the company. They were protected by provisions in the debt, known as covenants, that limited the amount of new debt EOP could take on in a buyout. Without the consent of existing bondholders, in other words, Blackstone might not have been able to finance the deal.

AIG Global Investment Group, which held both long-term and short- term bonds, banded other investors against the offer. By Jan. 11, EOP and Blackstone agreed to boost the offer to long-term bondholders by about 20%, paying nearly $950 million for the $725 million in outstanding bonds.

For the remaining $7.6 billion in debt, EOP and Blackstone agreed to pay about $8 billion. In total, bondholders will be paid about $9 billion for their $8.4 billion in bonds.

Bondholders in Tyco International Ltd., which is undergoing a restructuring that will split the conglomerate into three separately traded pieces, are bracing for a potential replay of the EOP situation, says one Tyco bondholder. Like EOP bondholders, investors in Tyco bonds have covenants that allow them to get their money back in a merger.

In many other cases, high-grade bondholders don't have these protections, making them especially vulnerable, even targets. Without covenants, they have little negotiating leverage with buyout shops. And because the bonds are high-grade and pay relatively low interest rates, they are appealing to buyout shops looking for companies that can bear more debt.

Now more investors are demanding these provisions. Home Depot, Federated Department Stores, and Black & Decker were among the companies that included such provisions.

Even with the provisions, some bond investors are finding themselves vulnerable. This week, some bondholders in junk-rated Lear Corp. found themselves on the losing end of a buyout offer by Carl Icahn even though their bonds contained change-of-control provisions.

Lear had issued $900 million in bonds last November with terms that ensured the bonds would be paid off in full if ownership of the company changed -- but not if certain "permitted holders" took control of it. These holders were defined elsewhere in the bond agreement as Mr. Icahn, his affiliates and funds controlled by him. As a result, prices of the newly issued bonds slumped on news of the buyout bid.

In Trade Deal, a Shift on Generics; Agreement Opens the Door To Cheaper Drugs Abroad, Easing Some Patent Rules Sarah Lueck. Wall Street Journal. (Eastern edition). New York, N.Y.: May 17, 2007. pg. A.4

Abstract (Document Summary) marks the first big setback for the pharmaceutical industry since Democrats claimed Capitol Hill. The administration "has permitted the weakening of intellectual- property protections in these agreements," For now, the provisions likely only affect pending trade said Billy Tauzin, president of the Pharmaceutical deals with Peru, Panama and Colombia. But the plan Research and Manufacturers of America, the drug also signals a broader shift as congressional leaders industry's main trade group, in an interview. "They were give greater weight in trade talks to providing cheaper desperate to get continuing trade authority" from medicines for the poor, even if it means denying the Democrats in Congress, he said. "The fact is, their Republican-friendly drug industry some of the protection leverage changed since November." it says it needs.

"Compared to the many steps backward that have been The administration "has permitted the weakening of taken since 2003, this is a bit of relief for people who intellectual- property protections in these agreements," want access to affordable medicines," said Ellen said Billy Tauzin, president of the Pharmaceutical Shaffer, co-director of the Center for Policy Analysis on Research and Manufacturers of America, the drug Trade and Health in San Francisco. "Compared to an industry's main trade group, in an interview. "They were actual policy that would provide affordable medicines for desperate to get continuing trade authority" from people and fairly balance that with innovation, it is a Democrats in Congress, he said. "The fact is, their small step forward." leverage changed since November." Under recent trade agreements, the U.S. The main focus of the pressed countries to bipartisan trade deal, agree to "linkage," announced last week, which requires local involves requiring U.S. drug regulators to make trade partners to meet sure a generic product new standards for doesn't violate any giving their workers patents before allowing labor rights and it on the market. Public- ensuring health advocacy groups environmental have said this puts protections. But the makers of brand-name deal also allows drugs at an advantage developing countries and burdens regulators. more flexibility in Drug companies dealing with U.S. drug support linkage because it prevents copies of their makers than they would have had under earlier products from being sold during lengthy court battles. versions. Without it, companies will have to be more vigilant. To take industry concerns into account, the new policy calls Specifically, the policy would ease requirements on for countries to set up fast procedures for resolving developing- country regulators to prevent the sale of patent disputes. patent-infringing products. It also releases trading partners from a requirement to extend the time for Full Text (884 words) patent protections as a form of compensation for delays (c) 2007 Dow Jones & Company, Inc. Reproduced with in drug approvals. permission of copyright owner. Further reproduction or distribution is prohibited without permission. Public-health advocacy groups have argued for years that U.S. trade policy under Mr. Bush often protected WASHINGTON -- A new trade agreement between brand-name drug makers at the expense of poor Congress and the White House contains provisions that countries in need of more-affordable treatments. Many open the door to more sales of generic drugs in of those groups said they weren't satisfied with last developing countries. The plan, reversing earlier gains week's deal. Even with the changes, they say, the Peru for American drug makers backed by President Bush, and Panama deals advance many of the protections the drug industry wants -- just fewer than would have Under recent trade agreements, the U.S. pressed existed if the Bush administration had stuck with its countries to agree to "linkage," which requires local drug earlier trade stance. regulators to make sure a generic product doesn't violate any patents before allowing it on the market. "Compared to the many steps backward that have been Public-health advocacy groups have said this puts taken since 2003, this is a bit of relief for people who makers of brand-name drugs at an advantage and want access to affordable medicines," said Ellen burdens regulators. Drug companies support linkage Shaffer, co-director of the Center for Policy Analysis on because it prevents copies of their products from being Trade and Health in San Francisco. "Compared to an sold during lengthy court battles. Without it, companies actual policy that would provide affordable medicines for will have to be more vigilant. To take industry concerns people and fairly balance that with innovation, it is a into account, the new policy calls for countries to set up small step forward." fast procedures for resolving patent disputes.

Trade is just one of many fronts where the Another change in the new trade policy would weaken a pharmaceutical industry faces a less friendly policy common provision in past trade agreements: that local environment, after enjoying strong support during years regulators "shall" compensate drug makers for delays in of undivided Republican rule. Some Democrats want to the process of approving their products, by awarding rewrite the Medicare prescription-drug benefit to allow extra time to sell their products free from competition. the government to negotiate lower prices with manufacturers. Some Democrats also want to legalize Some Democrats said this unfairly penalizes consumers imports of cheaper medications from Canada and other in those countries for slow bureaucracies. A description countries. The Bush administration has maintained its of the changes to the Peru and Panama agreements support for the industry on those issues, and the Senate says countries "may" extend a company's patent to has blocked those policy changes. make up for delays, suggesting more flexibility on what

But on exports, the administration last week changed they are required to do to compensate drug makers. course. For the last several years, U.S. trade officials and drug companies have worked to push new Health-advocacy groups complain the new policy still protections for drug makers in countries such as signers preserves the data-exclusivity provision used to block of the Central American Free Trade Agreement. generic competition. In many countries, including the U.S., makers of generic drugs can often win approval by Companies say stronger safeguards for their patents proving their products are equivalent to the original and proprietary data are needed in many countries, to drugs. In that process, regulators use test data delay generic competition and make it worthwhile for the submitted by makers of brand-name drugs. The data- industry to continue to invest in research and exclusivity provision typically prevents such use of the development of new treatments. data for five years, acting as an effective hurdle for generics. The new policy does, however, place more Under the new American trade strategy, the biggest loss restrictions on the five-year data exclusivity than for the industry is a change that may shift more previously existed in the Panama and Peru agreements. responsibility to drug makers for preventing the marketing of patent-infringing products.

Why Your Paycheck Is Really a Bond Jonathan Clements. Wall Street Journal. (Eastern edition). New York, N.Y.: Jul 11, 2007. pg. D.1

any folks think the world revolves around them. Silicon Valley employees will load up on technology And financial experts agree. stocks. This "invest in what you know" strategy may be M Among leading investment advisers, one of this comforting. But it isn't as safe as it seems. year's most discussed topics is so-called lifecycle "What are the characteristics of your human capital?" finance. The notion: Often, our most valuable asset is asks Moshe Milevsky, a finance professor at Toronto's our ability to earn income, so we ought to figure our York University. "If you're a real-estate developer, "human capital" into our investment mix. maybe you're a real-estate investment trust. If you're a Indeed, lifecycle finance provides a great framework for miner, maybe you're an ounce of gold. If you work for thinking about money -- and it could help you build a Weyerhaeuser, maybe you're a forest product." more prudent portfolio. The implication: Your income is already riding on one -- Managing capital. If you are in your 20s, you likely sector of the economy. Don't crank up your risk even have precious little savings, but ahead may lie four further by sinking your savings into the same sector. decades of paychecks. By contrast, if you are in your 60s, your income-earning days are probably drawing to -- Insuring income. Lifecycle finance can also help you a close. With any luck, however, you have amassed a figure out what type of insurance to buy. fair amount of financial capital to replace your human capital. Given that your human capital is so valuable, you will want to protect your family against the loss of this How can you best manage your financial capital to income by buying life insurance and, if your employer complement this gradual decline doesn't provide it, maybe disability in your human capital? insurance as well. The amount of Think of your paycheck as similar What You're Worth life insurance you need, however, to a bond, with its steady stream should decline as you grow older. of income. How to figure your paycheck into After all, not only will you accumulate more savings, but you Early in your career, you will your finances: will have fewer paychecks ahead want to diversify this bond by of you. investing heavily in stocks. But When you join the work force, think as you grow older, you should of your earning ability as a bond Meanwhile, once you quit the work prepare for the eventual and diversify it with stocks. force, you will want to replace your disappearance of your paycheck paycheck. "Up until now, we've by buying more bonds in your been telling people that what portfolio. As you age, you have fewer matters is how big your portfolio is paychecks ahead of you, so you will on the day you retire," notes -- Seeking stability. Seem want to shift toward bonds. Milwaukee financial planner Paula reasonable? Problem is, not Hogan. "But what really matters is everybody's paycheck is how much you can spend each bondlike. Suppose you're a When you retire, consider replacing year over your whole life." salesperson on commission. your salary with an income annuity. Your month-to-month income If you try to pay for retirement by may be highly unpredictable, slowly drawing down your nest so you might want to lean toward bonds in your egg, there's a risk you will outlive your savings or your portfolio. finances will get derailed by rotten markets. To protect yourself, you'll want insurance – in the form of Favoring bonds can be especially smart if you're a Wall guaranteed lifetime income. Street employee whose income rises and falls with the stock market. Terry Burnham, director of economics at Your Social Security benefit will provide some of this Boston's Acadian Asset Management, tells the story of insurance, and you may have a pension as well. If you a friend in the money-management business. want further protection, consider buying immediate annuities that pay lifetime income. "He has 100% of his money in short-term, high-quality bonds," Mr. Burnham recounts. "His broker says, 'You could earn higher returns in stocks.' His response is, 'I am the S&P 500.'" -- Avoiding yourself. Once you decide how much risk to take with your portfolio, think carefully about which particular investments you buy. Workers will often invest heavily in their own company's shares. Real-estate brokers will buy rental properties.

from the June 20, 2007 edition - http://www.csmonitor.com/2007/0620/p02s01-usec.html CEOs under fire to perform – or else

CEO turnover set a record in 2006 and could reach another one this year as investors demand higher returns. By Mark Trumbull | Staff writer of The Christian Science Monitor

In the end, Terry Semel held his job as CEO for six years – a longer time than some chief executive officers are granted to produce results.

This week, he's exiting the corner office at Yahoo!, joining a trend of CEO turnovers, that, by some measures, stands at record levels.

The pay for corporate leaders remains sky high, but those compensation packages now face growing scrutiny from both investors and Congress. And the pressure to perform has also increased.

In fact, many CEOs probably feel as if a "for sale" sign sits right outside their door. If a stock isn't performing well, the board will either look for a buyer or find that buyers arrive uninvited. At the hamburger chain Wendy's International, for example, CEO Kerrii Anderson is struggling to revive sales, even as board chairman James Pickett is studying whether shareholders would be better served by selling the company.

And Dow Jones & Co. saw its stagnant share price jump after Rupert Murdoch's News Corp. made a $5 billion takeover offer for the financial publisher. If the controlling shareholders don't agree to the deal, the CEO could find himself struggling to unlock similar value for shareholders.

"There's less room for companies to coast," says John Challenger, president of the outplacement firm Challenger, Gray & Christmas in Chicago. "You get one term in office" as CEO these days. "Some make it for the next term."

CEO turnover hit record levels last year, according to numbers that Challenger has kept tabs on annually since 2000. Judging by the pace through this May, 2007 could set another record.

Investors, of course, always want to see a rising share price. With stock indexes near record levels this week, it may not appear like the most trying of times for top executives.

But many stocks remain far below the highs they hit in 2000, as the 1990s bull market peaked. Yahoo! is one example – with investor worries amplified by the ascendancy of Google as a magnet for online advertising. Mr. Semel, who will remain as the company's board chairman, resigned to make way for the website's co-founder Jerry Yang to return as CEO.

Another big force is also bearing down on chief executives: the threat of buyout by private equity firms.

These bids by big investment funds often aren't hostile. And sometimes the CEO remains in office even as the firm changes from being a publicly traded company to a privately held one. But the growing power of private equity has changed the marketplace for corporate control.

"You can have another team come in from the outside and say, 'We think we can make more of the business opportunities that this firm faces,' " says Clifford Smith, professor at the University of Rochester's Simon School of Business.

Even if no offer is on the table, a CEO knows that someone backed by big money might be plotting an alternative vision for the firm.

By Challenger's count, 1,478 top executives in the US left their jobs in 2006, whether by retiring, resigning, being fired, or being shoved aside in a merger. That exceeded previous highs of 1,322 in 2005 and 1,106 in 2000.

The consulting firm Booz Allen Hamilton has tallied the numbers a different way, taking a global view but focusing on just the biggest 2,500 firms. In a study released four weeks ago, it found:

•Globally, 357 CEOs at these large corporations left office in 2006, a 1.2 percent decrease from 2005.

•The number of CEOs leaving because of conflicts with the board has grown from 2 percent in 1995 to 11 percent between 2004 and 2006. Such boardroom power struggles have been particularly common in Europe.

•In 1995, one in eight departing CEOs was forced from office – in 2006, nearly one in three left involuntarily.

Despite all the job churn, the majority of corporate leaders get more than a season or two at the helm. The Booz Allen study finds that the average CEO tenure is nearly eight years.

And for all the burdens on their shoulders, CEOs are well paid.

"You can't have it both ways," Mr. Smith says. A high salary and lucrative stock-option plan "leads to high expectations on the part of the owners of the firm."

The private equity buyout trend has upped the ante for both CEO pay and performance. "On the whole, they're living a more comfortable life than they would if [the companies] were taken private," says Colin Blaydon, a private equity expert at the Tuck School of Business at Dartmouth College in Hanover, N.H.

But the rewards of success in private equity can be astronomical, he adds.

Private or public buyout offers often come at a premium of 20 percent or more above the current market value of public corporations. The News Corp. bid for Dow Jones is one prominent example.

Corporate directors, with an eye on these deals, are asking CEOs how they can boost shareholder value. "A lot of CEOs are getting those questions from the board and feeling the pressure," Mr. Blaydon says.

Annual CEO departures

1,106 in 2000

929 in 2001

749 in 2002

695 in 2003

663 in 2004

1,322 in 2005

1,478 in 2006

Source: Challenger, Gray & Christmas, Inc.

What's Aiding Buyout Boom: Toggle Notes; An Innovative Means To Structure Debt Helps Defaults Remain Low Henny Sender. Wall Street Journal. (Eastern edition). New York, N.Y.: Feb 21, 2007. pg. C.1

In the fall of 2005, when Texas Pacific Group and Warburg Pincus LLC bought luxury retailer Neiman Marcus Group Inc., Jim Coulter, TPG's co-founder, was nervous, said people familiar with the deal. What if there was another terrorist attack or a sharp economic downturn? What if Neiman's management got fashion trends all wrong?

To protect against an unexpected turn, TPG came up with an unusual structure for some of the debt it put on Neiman Marcus to help pay for the purchase. If the retailer experienced unexpected head winds, it could stop paying cash interest on $700 million in debt, and instead agree to pay back much more when the bonds mature in 2015.

"If the company hits a speed bump, it gives it liquidity and a cushion," said Kewsong Lee, a partner at Warburg Pincus who worked on the deal. "This innovation was one factor enabling us to pay a more aggressive price."

The bond, formally known as a payment-in-kind toggle note, is becoming an increasingly important part of the arsenal of private- equity firms as they pile debt on their corporate trophies.

These "PIK toggle" securities allow borrowers to make a choice. They can keep paying interest on a bond, or they can defer paying interest until the bond matures, and in the process agree to pay an interest rate that is effectively higher. In the case of Neiman Marcus, the interest rate on its debt with this feature will rise from 9% to 9.75% if it decides to defer payments, which it hasn't done.

The increased use of these bonds is one of the latest examples of the easy lending terms that dominate the corporate borrowing market these days and have helped fuel the historic buyout boom. It also is a sign the boom could keep going for some time.

Corporate default rates are at record lows less than 1%. That has investors clamoring for corporate bonds and loans, because they don't seem very risky. In 2006, companies issued $624 billion in speculative grade bonds and loans, up from $389 billion in 2005.

Easy lending terms such as those of PIK-toggle bonds make it possible for even companies with strained cash flows to stay afloat longer than they otherwise would by putting off interest payments. The downside is that borrowers and investors in the end could find they have even more debt than expected if the credit cycle turns.

"Cheap debt is the rocket fuel," said Bill Conway, a co-founder of Carlyle Group, at a January conference. "We try to get as much as we can as cheaply as we can and as flexibly as we can."

The health of the debt market matters hugely to private-equity firms, which have used massive dollops of debt to go after ever larger prey and reap higher returns on their investments. Nearly every TPG deal since Neiman Marcus includes debt with the PIK toggle feature. All the megadeals, including Freescale Semiconductor Inc., HCA Inc. and ballpark-concessionaire Aramark Corp. do as well.

A similar feature that allowed companies to defer interest payments was popular during the late 1980s buyout boom, but fell out of favor in the 1990s.

Although default rates are low, and easy lending terms make it easier to stay solvent, the credit quality of some companies show some signs of deteriorating. Some 30% of companies issuing debt in 2006 carry "junk" credit ratings of "B plus" or below, compared with 7% in 2002, according to Standard & Poor's Leveraged Commentary & Data group. In many cases, the debt itself isn't going to fund new investments; rather it is used to finance takeovers or to pay new owners a special dividend.

Many companies have been able to issue debt without the usual terms, known as covenants, that require them to meet certain performance metrics to avoid defaulting. Last year, there was about $24 billion in such debt, ten times the amount in 2005.

This is another factor that is making it easier for companies to avoid defaulting. In the past, when companies fell short of financial performance targets, "banks would take over the company at the worst possible time or we would have to put more money in," said Tony James, president of Blackstone Group at a conference at Harvard Business School. "Now we can live to fight another day."

To many analysts, such "covenant lite" loans or PIK toggle notes are glaring signs of the bull market in debt, and underscore the power of bond issuers at a time when investors are flush with cash and willing to take chances for high returns. Some bond issuers said the new features are in the interest of investors, because the features help companies avoid default and complex bankruptcy proceedings. Proponents have said the high interest rates attached to PIK toggle notes give borrowers an incentive to keep making interest payments unless times tur n dire.

Others are less sure. S&P's Leveraged Commentary & Data Group noted in a commentary, for example, that PIK toggle bonds could be risky because they have the potential to saddle investors with more debt in companies and less cash from them just as the companies are beginning to struggle.

"Because there is so much cash around, lenders are being pushed to give up more and more," said Howard Gellis, who runs the debt capital markets group at Blackstone Group.

So far this cycle, none of the issuers have taken advantage of their option and ceased paying interest. It remains unclear how investors will react if companies do start exercising this right. "Since the message is that a company can't afford to pay cash, it is hard to see how the market won't be spooked," said Steven Shapiro, a partner at GoldenTree Asset Management, which has $6 billion to invest out of its hedge- fund operations. "For the most part we don't invest in them."

Tyco Threatens to Withdraw Bond Rights in Breakup (Update3)

By Mark Pittman

May 11 (Bloomberg) -- Tyco International Ltd. threatened to take away the right of bondholders to approve its breakup plan after more than two-thirds of its debt investors refused to tender their securities because they say the offer is too low.

Tyco may waive the ``majority consent'' covenant in its bond indentures, the Bermuda-based company said in a press release today. Tyco bondholder American International Group Inc. this week sued the owner of ADT security systems in an effort to block it from buying back $6.6 billion of debt as part of a plan to split into three companies.

Bondholders claim Tyco, which also makes health-care and electronics products, is offering about $95 million less than what they are entitled to under the indentures. Tyco has said it is paying market rates.

``If they can somehow get the bondholders to agree, the upside is enormous,'' said Adam Cohen, New York lawyer who advises hedge funds on the value of bond covenants. ``What risk do you have? A couple of million in legal fees and angering some people? It's a cheap option.''

Tyco said today that holders of less than one third of its U.S. debt, totaling $5.6 billion, agreed to the tender. It also said it was extending the offer, which expired at 5 p.m. yesterday, by three days.

Hearing Set

The company has claimed in statements that it doesn't need bondholders' permission to go through with the breakup because the plan doesn't affect ``all or substantially all'' of the assets backing the bonds. AIG, in its lawsuit, disagreed.

A federal court hearing is scheduled for 5 p.m. May 14 in the Southern District of New York in Manhattan. Andrew Rosenberg, a lawyer at Paul, Weiss, Rifkind, Wharton & Garrison LLP that is representing AIG didn't immediately respond to telephone messages and e-mail requests for comment. Tyco spokesman, Paul Fitzhenry, declined to comment.

Tyco's tender is the latest to test bondholder resolve against offers that debt investors say are less than what they are entitled to under their lending agreements. Bondholders united in January to force Blackstone Group LP to pay almost $225 million more than face value for the bonds of Equity Office Properties Trust this year when it bought the company.

``It comes down to lawyers and a more aggressive campaign to scare bondholders,'' said Glenn Reynolds, chief executive officer of independent research firm CreditSights Inc. in New York in an e-mail. ``Bondholders will be setting their own course on risk-reward for future spinoffs and whether Tyco's strategy proves an anomaly or a new way to beat the system and dishonor the value of indentures.''

Tyco Separation

The tender offer is being managed by Goldman Sachs Group Inc. and Morgan Stanley, both based in New York.

Tyco wants to separate into three publicly traded companies under a plan announced in January 2006. The split may be completed by June 30. Bond investors say the plan may leave them with fewer assets backing their securities, reducing their value.

``So far the bondholders are way ahead by this early count,'' Reynolds said. ``The extension buys time for Tyco to keep twisting arms and making subtle threats on what will happen to those securities who do not go along.''

The extra yield investors demand to own Tyco's 7 percent bonds due in 2028 rather than Treasuries narrowed to as little as 42 basis points, according to Trace, the bond price reporting service of the NASD. The company is offering to pay a spread of 60 basis points, which implies a lower value for the bonds.

``We made fair offers for our bonds,'' Tyco Chief Financial Officer Chris Coughlin said on a May 8 conference call.

The biggest holders of Tyco's bond includes Europe's second-largest pension plan, Stichting Pensioenfonds ABP, with $1 billion, Prudential Insurance Co. of America with $206.8 million and Goldman Sachs with $127.5 million, according to data compiled by Bloomberg.

To contact the reporter on this story: Mark Pittman in New York at [email protected]

http://www.bloomberg.com/apps/news?pid=20601009&sid=a0mGxHpzf3co&refer=bond

Ford's Convertible-Debt Offering May Race Off Lots, Analysts Say Michael Aneiro. Wall Street Journal: Dec 6, 2006. Abstract (Document Summary) The company has included a call option on the notes after seven years and another "soft-call" redemption option three years later. With current guidance on the coupon rate at 4.75% to 5.25% and a conversion premium between 23% and 27%, investors could easily lock in profits before the company could buy back the notes, regardless of where the stock goes, according to Mr. [Paul Berkman]. He expects the deal to be a "blowout."

"Looking at the worst-case scenario -- the lowest coupon and the highest conversion premium -- you would break even in about 4 1/2; years," he said. "It's very unusual to see a convertible break even in a period before the call protection ends."

Standard & Poor's yesterday assigned a CCC-plus rating to Ford's convertible offering, placing it deep in speculative-grade territory. Moody's Investors Service assigned an equivalent Caa1 rating. Fitch Ratings gave a B rating to the convertible debt offer, along with a recovery rating that indicates unsecured debt holders would recover between 30% and 35% of their principal in the event of a bankruptcy. Full Text (808 words)

Ford Motor Co. has unveiled its latest convertible.

And early indications are it will be a hit among investors as the terms of the planned convertible-debt deal lure potential buyers despite the highly speculative ratings the notes will carry.

In a prospectus filed with the Securities and Exchange Commission yesterday, Ford detailed its plans to issue $3 billion in 30-year senior unsecured convertible notes, which could increase to $3.45 billion if the deal's underwriters exercise an overallotment option. Convertibles are securities that pay interest like a regular bond but can be turned into shares when certain conditions are met.

The redemption options included in the offering coupled with initial guidance on the coupon rate for the notes adds up to an uncommonly attractive deal for investors, according to Paul Berkman, a convertibles analyst at J. Giordano Securities Group.

The company has included a call option on the notes after seven years and another "soft-call" redemption option three years later. With current guidance on the coupon rate at 4.75% to 5.25% and a conversion premium between 23% and 27%, investors could easily lock in profits before the company could buy back the notes, regardless of where the stock goes, according to Mr. Berkman. He expects the deal to be a "blowout."

If the kind of demand Mr. Berkman anticipates materializes, the analyst said that Ford would have some leeway to change the size of the deal before it prices, or else to lower the coupon rate or raise the conversion premium.

As they stand right now, the terms of the deal appear extremely attractive, according to Mike Revy, director of research at Froley Revy Investment Co., which lists over $3.5 billion in convertible securities under management and is planning to invest in the Ford deal.

The proceeds from the notes, as well as the $8 billion credit facility and $7 billion term loan that round out the financing package, will help sustain Ford for the next several years, as the company said it expects to continue to bleed cash while it tries to turn around its struggling North American operations.

Standard & Poor's yesterday assigned a CCC-plus rating to Ford's convertible offering, placing it deep in speculative- grade territory. Moody's Investors Service assigned an equivalent Caa1 rating. Fitch Ratings gave a B rating to the convertible debt offer, along with a recovery rating that indicates unsecured debt holders would recover between 30% and 35% of their principal in the event of a bankruptcy.

The Ford issue will rank as one of the largest new convertible issues of 2006.

The large offering weighed on Ford's stock early yesterday, as fears of dilution resulting from the convertible issue drove the share price to its lowest level since August, before rebounding later in the day.

A Ford spokesperson declined to discuss pricing terms or why the company elected to tap the convertibles market and said the company didn't have any comment on the drop in stock price following the announcement of the convertible offer.

Ford's previous foray into the convertibles market came in 2002.

Metalico Converts Debt to Equity Business Wire- 11/29/2006 11:26:00 AM EST

Metalico, Inc. (AMEX:MEA) has substantially completed conversion of its November 2004 Series 7% Convertible Notes to common equity in the Company.

The conversion of the notes (assuming all remaining conversions) coupled with the Company’s free cash flow from operations has resulted in overall debt reduction of $13.7 million so far this calendar year. As of November 28, 2006, Metalico’s total debt (assuming all remaining conversions) stood at $15.7 million, of which $8.2 million represented borrowings under Metalico’s $35 million revolving credit agreement.

In November and December of 2004, Metalico completed a private placement of two-year convertible notes to fund the acquisition of a scrap metal recycling company in Rochester, New York. The notes were redeemable in cash or convertible to common stock. By November 29, 2006, each noteholder had voluntarily either converted 100% of its principal to Metalico common stock or arranged for full conversion on its note’s maturity date. Noteholders included certain directors of the Company, members of its management, and other stockholders.

In addition, the Company has received preliminary approval from its lender to increase the commitment under its senior secured revolving credit and term loan agreement to $50 million. Metalico intends to utilize the available capital to finance acquisitions and internal development projects in the scrap-metal recycling and lead-fabricating segments and, secondarily, to support investment initiatives through AgriFuel Co., a producer and marketer of biofuels with a particular focus on biodiesel. Metalico previously announced its agreement to acquire controlling interest in AgriFuel.

Metalico, Inc. is a rapidly growing holding company with operations in two principal business segments: ferrous and non-ferrous scrap metal recycling, and fabrication of lead-based products. The Company operates seven recycling facilities through New York State and five lead fabrication plants in four states. Metalico’s common stock is traded on the American Stock Exchange under the symbol MEA.

Forward-looking Statements

This news release may contain “forward-looking statements” made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include statements with respect to Metalico’s beliefs, plans, objectives, goals, expectations, anticipations, assumptions, estimates, intentions, and future performance, and involve known and unknown risks, uncertainties and other factors, which may be beyond Metalico’s control, and which may cause Metalico’s actual results, performance or achievements to be materially different from future results, performance or achievements expressed or implied by such forward-looking statements. All statements other than statements of historical fact are statements that could be forward-looking statements. Metalico assumes no obligation to update the information contained in this news release.

CONTACT: Metalico, Inc. Carlos E. Agüero or Michael J. Drury 908-497-9610 Fax: 908-497-1097 [email protected] www.metalico.com

to offer the same protection to In Emerging Markets, bondholders as a company with shakier Fewer Debt Covenants credit. By WAILIN WONG May 19, 2007 For many investors, the concern focuses on emerging-market companies that are With emerging-market governments further down the creditworthiness scale receding from international capital and drawing heavy investor interest for markets, companies in those countries are their deals, which often result in price eagerly stepping up to fill the void. tightening and oversubscription.

Corporate issuance is outpacing that of Alfredo Chang, portfolio manager at GE sovereigns by a rate of 2 to 1, with the Asset Management, said at the EMTA corporate market now at $600 billion, or event that bondholders are appearing to about two-thirds of the U.S. high-yield "take on faith" that they will escape market. Companies in emerging relatively unscathed from negative credit economies are also finding investors eager events. to take on risk in the search for higher yield, as emerging-market sovereign-bond Investors also point out that weak risk premiums are at record-tight levels. regulatory and legal frameworks in developing countries can render With so many investors looking for bigger covenants a moot point. Bondholders returns, emerging-market companies -- could still get squeezed if they don't get like their high-yield counterparts in the treated fairly in local courts. U.S. -- are finding that they don't have to offer as much protection to bondholders in "Covenants don't protect you that much -- the form of covenants. property rights will," said Andrew Feltus, who oversees about $9 billion in global "More and more, as you still see a lot of high-yield debt at Pioneer Global Asset liquidity held by investors, locally and Management, with about $1.5 billion of globally, this high liquidity may be that amount in emerging markets. reflected in looser covenants," said Eduardo Uribe, managing director of Mr. Feltus said he prefers deals that are corporate and governmental ratings at more similar to asset-backed securities. Standard & Poor's in Mexico City. He cited the case of Russian bank Alfa, which has done several bond issuances Covenants on corporate bonds can restrict under a diversified payment-rights a company's capital expenditures and program that securitizes financial flows. In ability to take on additional debt, or March, the bank sold $400 million in require management to maintain a certain bonds under this program. level of free cash flow. These restrictions are traditionally present in bank loans, For Mr. Uribe of S&P, bondholder and a growing number of emerging- protection could also decline in local- market companies are choosing to issue currency deals done in domestic markets, bonds, because they can now raise capital which, in countries such as Mexico, are with more flexible terms. flush with liquidity, as local pension funds become increasingly important players. Looser restrictions aren't necessarily negative, especially because there are a growing number of companies in emerging economies that are investment- grade international players and don't need

Market Scan Ryanair Soars Thanks To Hedged Fuel Parmy Olson, 02.05.07, 3:50 PM ET

No guesses as to which airline was gazing enviously at Ryanair Holdings's third-quarter results on Monday. Last week, British Airways announced that its third-quarter earnings had plummeted 14% thanks to fuel charges, fog-related delays and the cost of heightened security requirements at London's Heathrow Airport.

Yet none of those problems seem to have made a dent on Ryanair's balance sheet. Europe's largest low-cost airline reported stunning results on Monday: third-quarter earnings had shot up by 30% to 47.7 million euros ($61.8 million), while sales rose 33% to 492.8 million euros ($638.4 million).

Its stock followed suit, rising 5.9%, or $5.25, to $94.99, while shares in British Airways (nyse: BAB - news - people ) fell 2%, or $2.20, to $107.20 in Monday-afternoon trading in New York.

The rising shares also came off the back of an announcement from Ryanair (nasdaq: RYAAY - news - people ) that it was hoping to renew its bid to take over Dublin-based rival Aer Lingus in May, assuming the European Union's competition authorities gave the conditional nod of approval by then.

Aer Lingus shares also rose 5.4% to 2.95 euros ($3.82) on Monday, their highest mark since Ryanair's 2.80 euros ($3.63) a share bid was launched on Oct. 5 last year. (See: "Scrappy Ryanair Targets Aer Lingus.")

Till now bid has looked like something of a lost cause. A loose alliance of Aer Lingus shareholders that hold more than 45% of the airline -- including the government, Aer Lingus pilots and an employee trust -- have vehemently opposed the offer. (See: "Aer Lingus Spurns Ryanair Bid.")

But Ryanair's confident chief executive Michael O'Leary said that even if the Aer Lingus bid did fall flat once again, it would still keep its 25.2% stake in the airline.

And what about the fuel costs that had so dragged on the earnings of British Airways? O'Leary pointed to a string of advance supply contracts that had adeptly locked in prices.

"We took advantage of the recent oil price weakness to extend our hedging position for fiscal 2008," the County Kidare-bred chief executive said. Those fuel-delivery contracts had involved half of Ryanair's needs for the April-September period and 90% for the October-March 2008 period.

Looking ahead, the no-frills carrier brightened its outlook for the fourth quarter, saying it expected net profit to stay flat rather than decline 5% as had originally been expected. It also forecast full-year profit to rise 29% to 390 million euros ($505 million), up from its previous forecast of 16%.

MAY 28, 2007 NEWS & INSIGHTS

Pumping Cash, Not Oil Exxon's risk-averse stock-buyback strategy is the new profit model

With gas prices hitting record highs, Exxon Mobil (XOM) Corp. ought to be drilling like mad and refining more of that black gold, right? As it turns out, the world's largest oil producer thinks it is smarter to use more of its resources to buy back stock. The indirect result: increased pain at the pump for consumers.

It's Big Oil's new formula for making money. Last year, Exxon pumped out $49 billion in operating cash flow on sales of $365 billion. It's the world's most profitable company, but Exxon is plowing a smaller percentage of its spare cash back into the business. Although capital expenditures have risen from $11 billion at the start of the decade to nearly $20 billion, that spending amounts to roughly 40% of cash flow, down from 50% in 2000. Meanwhile, overall production has barely budged since its megamerger in 1999.

Instead, Exxon is bingeing on buybacks to help boost profits, which also benefit from higher commodity prices. Repurchases have been part of Exxon's strategy for decades, but they've exploded in recent years. Exxon spent 60%, or $29 billion, of its cash flow on repurchases in 2006, more than any other company in the Standard & Poor's 500- stock index and a tenfold increase since 2000. The company has retired 16% of shares in the past five years, adding an estimated 88 cents to earnings of $6.68 per share. With Exxon's stock handily beating the market and peers with a 15% annual return over the past decade, others in the oil patch are catching on to the strategy. "They don't need to grow production in order to generate shareholder returns," says energy consultant Richard Gordon.

Exxon takes pride in its fiscal restraint. At a three-hour-long meeting with Wall Street analysts in March, top brass used the word "discipline" no fewer than 29 times. In Exxon parlance, that refers to a sharp focus on returns. It means not chasing marginally profitable oil wells, not pouring money into costly new refineries, and not staffing up aggressively. Exxon employs 82,000 people, 10,000 fewer than in 2002. "Our business model," Chairman and CEO Rex W. Tillerson told analysts, "begins with discipline."

GETTING BURNED That mantra traces back to the early 1980s. Like many oil producers, Exxon tried to diversify during the 1970s boom, pouring billions into unsuccessful forays such as an attempt to produce oil from shale deposits in Colorado and the acquisition of Reliance Electric, an electric motor manufacturer. "We had huge cash flow and not many good investments to put it into," then-CEO Clifford C. Garvin Jr. said at the time, according to The Prize, Daniel H. Yergin's Pulitzer-winning book about the industry.

If anything, it's even more challenging for Exxon to find opportunities today. For one, there are issues with access to oil fields. In April, Venezuela President Hugo Chávez nationalized a number of large oil fields in that country, including Exxon's. Exxon also must compete for hot prospects with government-sponsored oil companies that don't have to worry about pleasing Wall Street. Plus, the really juicy fields are located thousands of feet underwater off the coast of Africa or in remote parts of the former Soviet Union, locales that require years of spadework to start producing. "An investment of any consequence takes a minimum of six years," says Kenneth P. Cohen, Exxon's vice-president for public affairs.

But sometimes it's important to take a little risk. Despite the failed ventures during the 1970s, that boom period also produced world-class fields in the North Sea and Alaska's Prudhoe Bay that appeared speculative at the time but are now critical sources of supply. Exxon seems to be shying away from such risks today. Citing higher-than- anticipated costs, it backed out of a project in February that would have converted natural gas in Qatar into diesel fuel for export. Similarly, Alaskan politicians have been begging oil companies to build a new pipeline to carry natural gas to the 48 continental states. Exxon says it would pursue the project only if the tax situation in the state is favorable. CEO Tillerson has also indicated publicly that he won't build a new refinery in the U.S., pointing to internal research that domestic gasoline consumption will plateau in coming years as ethanol and energy-efficiency measures crimp demand. Indeed, there's plenty of legislation in Congress right now aimed at curbing consumers' appetite for gasoline. So Exxon is partnering with two companies, one Chinese and one Saudi Arabian, to build a $3.5 billion refinery in China, where demand seems more assured.

Currently, Exxon pumps out 4.4 million barrels of oil and natural gas a day, roughly the same as its output seven years ago. The company's production of gasoline, jet fuel, and other refined products is 5.7 million barrels a day, modestly higher than 2000. Exxon says it has added 130,000 barrels of capacity but also divested plants to improve profitability.

Exxon isn't the only big company facing essentially flat output. Oil and gas volumes slid 1% last year at Royal Dutch Shell (RDS ) PLC. After adjusting for recent acquisitions, they were flat at BP (BP ), Chevron (CX ), and ConocoPhillips (COP ). "Companies say, 'There are fewer places we can find big oil,' and there's some truth to that," says Amy Myers Jaffe, who heads the Baker Institute Energy Forum at Rice University in Houston. "Wall Street has to ask itself whether it made sense to create these big oil companies when some smaller, nimbler players are doing better [at finding opportunities]."

Although Exxon has said it will increase oil and gas production from 4.4 million barrels to just under 5 million barrels by 2010, it has a poor record, like other oil majors, of generating such growth. It's also unclear whether it really makes sense from a profit standpoint. After all, Exxon has proved that buybacks enhance earnings nicely. And management doesn't seem to be easing up. In the first quarter, Exxon repurchased $7.8 billion worth of stock.

'RELIEF VALVE' Exxon is not alone. Chevron, which also says it plans to increase production, bought back some $4.5 billion of its stock in 2006, vs. $2.6 billion the prior year. Overall, the industry spent $52.4 billion on buybacks last year, nearly double the amount in 2005. "Exxon has established the path most companies are following," says Arthur L. Smith, chairman of industry researcher John S. Herold Inc. "The profound fear is that prices are going to fall again, and the relief valve is stock buyback."

But as gas soars past $3.10, politicians and others are increasingly scrutinizing the way Big Oil does business. On May 9 a handful of lawmakers held court at an Exxon station near the Capitol to offer their prescription for lower prices. Senator Maria Cantwell (D-Wash.) is promoting an "anti-gouging" bill aimed at oil companies. Senator Bernie Sanders (I-Vt.) wants a windfall tax on outsize profits such as Exxon's and hopes to break up the massive oil companies formed through mergers, which he says have curbed competition.

Still, even Sanders concedes that his proposals are a long shot. "Economists tell us high prices should send the signal for Exxon to invest [in growing production]," says Tyson Slocum, director of the energy program at the consumer group Public Citizen. "But that's not happening. They're transferring that money from the wallets of consumers to shareholders."

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breakingviews.com / Financial Insight: Dean Foods' Healthy Binge; Plan to Load Up on Debt Looks Questionable at First But Should Benefit Holders Wall Street Journal. (Eastern edition). New York, N.Y.: Mar 7, 2007. pg. C.14 Abstract (Document Summary) Mr. Prince isn't behaving entirely out of character. While he's taking a risk, it's a calculated one. Buying Japan's third-largest brokerage firm fits in well with Citi's overall strategy. Mr. Prince wants to increase international revenue. Nikko's problems offer the chance to buy a big and potentially valuable asset without paying a fat premium.

If anyone knows the extent of Nikko's problems, it's likely to be Citi. The bank owns just shy of 5% of Nikko and the two have had a Japanese investment-banking joint venture for a number of years. While Nikko's regulatory problems are serious, they center on its private- equity business. There's no evidence the reputational fallout has hit the core brokerage operation.

That, of course, might change if Nikko were delisted. Then clients might defect, crushing the value of the business. That may explain why Nikko's managers are backing Citi's no-premium bid. If Citi can buy Nikko for just over book value and turn it around, it will have done a smart deal. Nikko's principal rivals, Nomura Holdings and Daiwa Securities Group, trade at two times their book values. A Citi deal would give it a platform through Nikko's branch network to expand its retail banking and wealth-management presence in Japan. And it would please regulators, who support the deal. Full Text (671 words) (c) 2007 Dow Jones & Company, Inc. Reproduced with permission of copyright owner. Further reproduction or distribution is prohibited without permission.

One trick that struggling executives of public companies use to keep their jobs is to borrow to the gills. By pulling off what is effectively a pre-emptive leveraged buyout, they repel the private- equity shops that might otherwise swoop in, buy the firm and fire them. So what should one make of the latest corporate debt binge, by dairy titan Dean Foods?

Well, the $6.2 billion company's plan to boost its debt by 60%, to a total $5.3 billion, to fund a $2 billion dividend looks suspect at first. But in this case, Dean's management appears to have holders' best interests in mind.

Granted, the $15-a-share special dividend creates only a little value in itself. But strategically, it makes sense. Dean has been on a buying binge for more than a decade, but it has run out of attractive targets. Now it plans to focus on growth from within. So it may as well deliver part of its future cash flows to investors today, while taking advantage of attractive debt-market rates.

Shareholders like the plan. They've pushed Dean's shares up nearly 4% since the announcement March 2. And after factoring in lower earnings estimates for 2007, due to the company's higher interest expense, Dean's stock still traded at a multiple more than 26 times forecast 2007 earnings per share, giving it one of the food sector's highest ratios.

Compare this with the $2.4 billion debt-financed dividend unveiled by Health Management Associates in January. After the special dividend was unveiled, its shares didn't budge. Investors appear to have concluded the deal didn't help the company address its business problems. Still, the move warded off buyers who might have brought new ideas -- and managers. That sort of defensive move gives these transactions a bad reputation. But Dean's deal shows that, with the right intentions, they can be cash cows for shareholders.

Citi's Calculated Risk

Citigroup Chief Executive Chuck Prince has been accused of being too conservative about acquisitions. But no one could say Citigroup's $11 billion bid for Japanese securities firm Nikko Cordial isn't bold.

It means entering a market where Citi has had big regulatory problems in the past. It was stripped of its private-banking license there a few years ago. And Nikko itself has its share of problems. The Tokyo Stock Exchange is threatening to delist its shares over an accounting scandal.

But Mr. Prince isn't behaving entirely out of character. While he's taking a risk, it's a calculated one. Buying Japan's third-largest brokerage firm fits in well with Citi's overall strategy. Mr. Prince wants to increase international revenue. Nikko's problems offer the chance to buy a big and potentially valuable asset without paying a fat premium.

Of course, the prospect of Citi storming into their backyard may make Japanese banks sit up and take notice. Mizuho Financial Group, for instance, has been sniffing around Nikko. If it or others have any interest, Citi's bid should galvanize them into action.

-- Dwight Cass, Taron Wade and Jonathan Ford

Private Firms Lure C.E.O.'s With Top Pay ANDREW ROSS SORKIN and ERIC DASH. New York Times. Jan 8, 2007.

Robert L. Nardelli's unceremonious departure from Private equity investors ''think about compensation Home Depot may spell the end of the era of super-size differently. They will spend the money to get the right pay packages for chief executives of public companies, person,'' said George B. Paulin, an executive pay but a new refuge for lavish compensation and private consultant at Frederic W. Cook & Company. They are jets is emerging elsewhere. ''not under pressure to reform the same way big public companies are,'' he said. Flush with hundreds of billions of dollars, private equity firms are beginning to offer compensation on a This willingness to pay big money may bolster the previously unimaginable scale to the chief executives argument of defenders of corporate pay practices who who run the once-public companies that the firms have have contended that companies have simply been bought out. At the privately held firms, the executives paying the going rate in the market to attract top talent. still get salaries and bonuses, but a crucial difference At the same time, however, private equity may be lies in the ownership positions they can secure, which quicker than a public company to fire an executive if he can turn into particularly bountiful riches when these is not getting results. businesses are sold or go public again. ''There's also huge risk,'' said Mr. Paulin, whose firm While executives like Mr. Nardelli are being deposed, advised on some of the richest pay packages for other public company chieftains are deciding that they executives at a number of big public companies. ''It's the no long want to be judged by their shareholders and classic pay-for-performance model.'' regulators, and are going to work for businesses owned by private equity. The imperial chief executive is still Of course, the great irony is that private equity very much alive and well in the private realm. executives usually get their biggest paydays when a private company is either sold or taken public again. ''Five or 10 years ago, it used to be that private company Then they again find themselves in the public view. C.E.O.'s wanted to return to the public markets because they wanted to run their own ship, not have private Mark P. Frissora is an example of the risk being worth equity managers second-guessing their decisions,'' said it. Up until last year, Mr. Frissora was the chairman and Jeffrey A. Sonnenfeld, associate dean of the Yale chief executive of Tenneco, the auto parts manufacturer. University School of Management. He was making only a few million dollars a year at Tenneco when executive recruiters approached him last Now, that pattern has reversed. ''You regularly hear year with several job offers. Among them was one to public company C.E.O.'s talk about how they can make lead a big public company. two or three times the money in what they feel is half the effort because they don't have the same degree of But then he was offered the chief executive's job at scrutiny,'' Mr. Sonnenfeld said. Hertz, the rental car chain owned by a group of big private equity firms, including Carlyle Group, Clayton, David Calhoun, a 50-year-old vice chairman at General Dubilier & Rice, and an investment arm of Merrill Electric who ran the company's $47 billion aircraft unit, Lynch. The public company offers could not compete. left G.E. last year to become chairman and chief executive of privately held VNU, a $4.3 billion media Mr. Frissora left Tenneco for Hertz in July and was company whose holdings include Nielsen Media granted a $4 million ''make-whole'' cash award and a Research and The Hollywood Reporter. guaranteed bonus of almost $1 million for 2006. He also was given millions in stock options and the chance to Mr. Calhoun, who was a contemporary of Mr. Nardelli's buy company stock -- both at a very steeply discounted at General Electric, was offered a compensation prices -- and a special dividend that would put another package worth more than $100 million, according to $1.2 million in his pocket. executives involved in negotiating the agreement. VNU, which up until last year was a public company, is Less than six months and an initial public offering later, controlled by a consortium of private equity firms led Mr. Frissora is more than $33 million richer on paper, by Kohlberg Kravis Roberts & Company. according to an analysis by Brian Foley, an independent compensation consultant in White Plains. He stands to will exit with a $210 million pay package, has already make even more money if Hertz's share price goes up. received phone calls, e-mail messages and letters from the nation's largest private equity firms all seeking his ''It's nice work if you can get it,'' Mr. Foley said. And services and dangling the possibility of even more Mr. Frissora is not the only one to reap such riches. money, according to people in private equity who approached him. Millard S. Drexler made hundreds of millions of dollars and his reputation as the merchant prince in his 16 years ''He will wind up making a lot more money with a lot running the Gap retail chain. Now, four years after the less grief in the private equity world,'' Leon Cooperman, Texas Pacific Group, a private equity firm, recruited one of Home Depot's largest shareholders, said on him in to turn around J. Crew, he has made a princely CNBC about an hour after news of Mr. Nardelli's sum of money: at least $300 million, and growing. departure. ''I think it will be long time before Bob Nardelli gets involved in a public company again.'' Mr. Drexler took $200,000 in annual salary and received no bonus, but he was granted millions of stock Some worry that with executives all rushing to take options and shares of restricted stock. Those awards are their companies private, the United States is going to now worth $190 million after J. Crew's initial public become less competitive. Last month, the Committee on offering last in June. Over the last three years, the Capital Markets Regulation published a report, which company also reimbursed Mr. Drexler hundreds of was endorsed by Henry M. Paulson Jr., the Treasury thousands of dollars for moving expenses, a personal secretary, calling for a lightening of the regulatory chauffeur and business use of a personal jet, according burden on public companies. to public filings. Henry Silverman, who spent the last decade building Even more lucrative was the chance to invest $10 Cendant into an $18 billion conglomerate -- it owned million of his own money. That investment is now dozens of the nation's most prominent businesses like worth at least $120 million today, and has helped him Century 21, Avis, Days Inn and Orbitz -- through a solidify a 12 percent ownership stake -- a size virtually number of stock deals, says being public is no longer unheard of for a public company chieftain who is not attractive. He broke up Cendant into four pieces and last the company's founder. month sold Realogy, its former real estate unit, to Apollo Management, a private equity firm. That kind of money is exacerbating the tension at public companies, where directors weigh the demands of top ''There is no reason to be a public company anymore,'' officers, who are aware of the riches elsewhere, against he said. the demands of shareholders, who expect to see some gains in return. ''You don't need access to the public market,'' because, he said, of the enormous amount of money sloshing ''You have conflicting pressures where people in the around private equity and hedge funds. private markets are driving up the numbers of compensation at public companies,'' said William W. Like Mr. Nardelli, Mr. Silverman of Cendant had been George, the former Medtronic chairman who serves on accused of being an imperial chief executive with an the boards of Exxon Mobil and Goldman Sachs. outsized pay package. He is estimated to have made $36.6 million in salary and bonus and reaped $223 It is probably not surprising that some of the best million from exercising options between 1998 and examples of imperial chief executives of the recent past 2002. And he will make $135 million more as a result -- John F. Welch Jr. of General Electric, Louis V. of selling Realogy. Gerstner of I.B.M. and Lawrence A. Bossidy of Honeywell International -- have all since ventured into ''Wherever I show up next, it will not be at a public private equity after their retirement as advisors. Even company,'' Mr. Silverman said. Mr. Nardelli, who departed abruptly on Wednesday and

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FEBRUARY 3, 2005

VIEWPOINT By Gabor Garai Fine-Tuning Stock Incentives Options aren't the only way to motivate staff. Equity can be offered in several ways that, if structured well, benefit all players

If you're the founder of a growth-oriented company with venture-capital financing on the horizon, you probably plan to establish a stock-option program. If so, you may have to adjust those plans.

All the debate and discussion -- and the eventual move last year by the accounting profession to make stock options count as an expense against profits -- is percolating down to early-stage startups. Suddenly, options aren't the obvious choice for employers wanting to use company equity as a way to attract top-flight talent.

ALLOCATION TUSSLE. The diminished status of stock options is, at first glance, unfortunate for today's fast-growing companies. Venture investors have been comfortable with stock-option programs as a cash- free way to create incentives, with the added bonus that options have been free of any financial accounting penalty.

Coming up with new incentives that venture capitalists accept is no simple task. An inherent tension exists between entrepreneurs and venture capitalists over the allocation of equity. While both sides invariably say they want the founders and management team to have enough equity to keep everyone motivated, the amount each side considers "enough" usually differs. Not surprisingly, entrepreneurs want to see more equity staying with founders and management than do the venture capitalists.

When entrepreneurs put together stock-option programs, they typically set aside 10% to 20% of the business' equity for options, available to key employees on a vesting schedule usually ranging from three to five years. These options have been set aside in addition to founders' stock.

WIN-WIN DISTRIBUTION. Now, as the professionals like to say, a level playing field has been created between options and other types of equity. This actually offers an opportunity to establish a flexible and balanced portfolio of equity offerings -- a menu of different types of equity vehicles that provide the right combination of incentives to key employees in various demographic groups, career paths, and performance objectives.

If properly structured, these equity incentives result in a "win-win" situation: Providing more meaningful performance impetus and higher value to recipients, while minimizing the percentage of equity committed to employee stock incentives.

This new suite of equity incentives includes the following components:

1. Restricted stock These shares are handed out on a basis that's the reverse of stock options. A key person receives an agreed number of shares and under a vesting schedule that requires the return to the company of a certain percentage of the shares if the employee leaves early. For example, if the stock vests over four years, the individual might have to return all the shares for leaving before year one and three-fourths for leaving before year two.

Restricted stock can also be issued for free or for full value, for meeting performance objectives, or in a matrix of time-based and performance-based systems. One big advantage of restricted stock is that it often qualifies for capital-gains treatment, while options can incur higher ordinary income tax rates on gains that occur from the time they're awarded to when they're exercised.

2. Phantom stock These "synthetic equity" awards range from simple cash bonuses tied to increases in an outfit's equity valuation to comprehensive programs linked to various performance objectives and subject to the same vesting schedules as options and restricted stock. From an employer's perspective, the awards don't dilute "true" equity, while still giving employees an equity-like incentive.

3. Stock options Yes, stock options. The fact that other equity approaches are gaining popularity doesn't mean that stock options are completely out of fashion. They remain the best-understood model for entrepreneurs and venture capitalists. Because of the new financial penalties they incur, though, they can be expected to hold dwindling prominence -- and account for a smaller percentage of equity-incentive programs.

If properly structured, a blend of equity and synthetic-equity incentives can reduce the overall percentage of the business' stock reserved for key employees from the 15%-to-20% range customary for stock- option plans to approximately 10% to 15% of total capitalization. This is equally attractive to founders and venture capitalists.

The emergence of these more comprehensive equity packages will likely force entrepreneurs to set up and improve their systems and methods for awarding equity. These can be based on the importance of particular management positions, when an individual joins the team, and the background/experience of team members. Venture capitalists usually welcome improved systems.

Garai is a partner in the Boston office of national law firm Foley & Lardner, specializing in venture capital and private equity Edited by Rod Kurtz

Northwest CEO's Pay Deal Irks Pilots; Chief to Get $26.6 Million In Restricted Stock, Options Following Bankruptcy Exit Susan Carey. Wall Street Journal. (Eastern edition). New York, N.Y.: May 7, 2007. pg. A.3 Abstract (Document Summary) The pilots union condemned Mr. [Doug Steenland]'s package. The CEO "grossly overreached and missed another opportunity to share the gain with the employees whose excessive concessions funded the airline's turnaround," said Capt. Dave Stevens, chairman of the Northwest branch of the Air Line Pilots Association.

According to the carrier's April 30 proxy statement, Mr. Steenland last year received compensation of $2.66 million, including a base salary of $516,384 and $994,146 in cash-incentive awards. Northwest said the new management equity plan aims to help the airline recruit and keep management talent, ensure that executive compensation is linked to the company's financial performance and compensate the CEO at a "reasonable" level for his responsibilities.

Doug Steenland, Northwest Airlines Corp.'s chief executive, is to receive $26.6 million of restricted stock and options in the recapitalized company once it steps out of bankruptcy-court protection next month, according to documents filed Friday with the court.

The awards, which vest over four years, would give Mr. Steenland 9% of the 13.6 million new shares that will be granted to the airline's top 400 managers, who as a group will hold 4.9% of the equity of the company. Four existing executive vice presidents each are in line to receive equity grants valued at $10 million to $13.5 million, Northwest said.

The pilots union condemned Mr. Steenland's package. The CEO "grossly overreached and missed another opportunity to share the gain with the employees whose excessive concessions funded the airline's turnaround," said Capt. Dave Stevens, chairman of the Northwest branch of the Air Line Pilots Association.

The value of these awards is based on the projected price of new Northwest shares at emergence from Chapter 11. This suggests that nation's fifth-largest airline by traffic will have 277.5 million new shares valued at about $27 a share when they start trading, giving the enterprise an overall value of more than $7 billion.

The majority of the new shares will be assigned to unsecured creditors, including employees. It is expected, based on current claims trading, that they will recoup 65 cents to 75 cents on the dollar for their claims. Most unionized workers and the nonexecutive salaried employees are expected to gain a total of $1.6 billion in contributions in proceeds from sales of stock, profit sharing and other incentives through 2010, the company said.

Northwest, based in Eagan, Minn., filed for Chapter 11 in September 2005. It is the last of the big airlines that sought protection from creditors to emerge from reorganization following an unprecedented industry downturn precipitated by the 2001 terrorist attacks. Like the others, Northwest struck new, cheaper labor agreements, renegotiated its leases and shed debt. Unlike some of the others, it retained its employee pension plans.

Northwest said the 4.9% equity grant to its officers is lower than the packages awarded to management in the postbankruptcy plans of UAL Corp.'s United Airlines and US Airways Group Inc. Subject to creditor approval of Northwest's reorganization plan, a confirmation hearing is scheduled for May 16, and the airline could emerge in early June.

Bearing Down: Probes of Backdating Move to Faster Track; Stock-Option Emails At Broadcom Are Focus; Monster Worldwide Plea James Bandler and Charles Forelle. Wall Street Journal. Feb 16, 2007 Abstract (Document Summary) Mr. [William J. Ruehle] stepped down as Broadcom's chief financial officer a few days before he was to be interviewed by outside lawyers doing the internal investigation. Broadcom said in a securities filing that Mr. Ruehle was "at the center" of backdating. Mr. Ruehle's lawyer, Richard Marmaro, said that if his client is charged, he "will not plead guilty because he did not commit any crime."

Broadcom said in its federal filing that co-founder Mr. [Henry Samueli] was "involved with" the "flawed option granting process." The company cleared him, saying he "reasonably relied on management and other professionals" regarding proper treatment of the options. According to people familiar with the matter, Mr. Samueli, as a member of the Equity Award Committee, received a number of emails that discussed retroactive date selection.

Several emails written by Ms. [Nancy Tullos] suggest she may have been aware the dating practices were troublesome. In a period when Broadcom's stock was falling, a business-unit head repeatedly asked her when his subordinates would get options. Eventually, she told him "I cannot tell you what we are doing" in a "post-Enron" world, according to people familiar with the matter. In a message to another employee asking about options, she wrote, "I cannot answer in writing."

Prosecutors in a half-dozen jurisdictions are zeroing in on On Jan. 4, 2002, the chief financial officer of Broadcom other cases. The filing of criminal charges in some of these Corp. tapped out an email about stock options to his chief in coming months would mark a watershed in the scandal, executive and others. as prosecutors and regulators winnow the roster of some "I VERY strongly recommend that these options be priced 140 companies with options problems to a tighter list of as of December 24," he wrote. promising cases.

They were, and that was fortunate for recipients. The government is nearing charges against a former Broadcom's share price rose 23% between the two dates. official of computer-security company McAfee Inc., say The pretense that the options had been granted on the people familiar with the situation, earlier date made them extra valuable. and is strongly considering bringing cases against ex- executives of It also violated the rationale of stock options. They give Apple Inc. and semiconductor- recipients a right to buy stock in the future at the price equipment maker KLA-Tencor when the options are granted, so that recipients can profit Corp. In St. Louis, at least one only if the price of their company's stock goes up. Setting a former executive of Engineered lower "exercise price" for the options gives recipients a Support Systems Inc., a defense head start on profiting. contractor now owned by DRS Technologies Inc. of Parsippany, The Broadcom correspondence, found in an internal N.J., has been told of a likely investigation at the maker of communication chips, is just charge, says a person close to the one of a number internal documents that have drawn the matter. attention of federal prosecutors and Federal Bureau of Investigation agents in Orange County, Calif. Prosecutors The former Monster Worldwide general counsel who are strongly considering filing criminal charges against the pleaded guilty yesterday is Myron Olesnyckyj, 45. He former Broadcom chief financial officer who wrote the admitted that he and others conspired to systematically email, William J. Ruehle, and at least one other former backdate stock options, inflate the company's earnings and executive, according to people familiar with the situation. mislead auditors. Separately, the Securities and Exchange Commission filed a civil complaint against him. Mr. Mr. Ruehle's lawyer said his client didn't break the law. Olesnyckyj agreed to forfeit $381,000 in personal gains. He faces sentencing in August. The Broadcom probe is a sign of how long-running investigations of stock-options backdating are heating up. Mr. Olesnyckyj, fired last year, is expected to cooperate Yesterday, a former general counsel of Monster with prosecutors investigating Monster founder Andrew Worldwide Inc. pleaded guilty to securities fraud in federal McKelvey. Mr. McKelvey, who hasn't been charged, quit court in Manhattan. The day before, the founder of Take- late last year rather than be interviewed in an internal Two Interactive Software Inc. pleaded guilty to a New company probe of options. A lawyer for him declined to York State charge in a backdating scheme. comment.

In a 1999 email cited by the government, Mr. Olesnyckyj Mr. Samueli cuts a less flamboyant figure. A leading wrote to a human-resources official: "No written document philanthropist in Orange County, he also owns the Mighty should ever state lowest price over next 30 days! The Ducks hockey franchise. Two University of California auditorw [sic] will view that as backdating options and engineering schools bear his name. we'll have a charge to earning in the amount of the difference between price on day 30 and any lower price Last year Broadcom admitted rampant backdating. It which is used." restated several years of results, taking $2.24 billion in charges against earnings -- the biggest restatement so far in That's the type of evidence investigators are looking for -- the scandal. "plus factors" that can give a case more promise of success. Such Mr. Ruehle stepped down as Broadcom's chief financial factors might include written officer a few days before he was to be interviewed by indications of deliberate outside lawyers doing the internal investigation. Broadcom backdating; falsified documents; said in a securities filing that Mr. Ruehle was "at the efforts to hide manipulation from center" of backdating. Mr. Ruehle's lawyer, Richard auditors or investigators; or Marmaro, said that if his client is charged, he "will not indications that top executives gave plead guilty because he did not commit any crime." themselves backdated options. With so many companies admitting Broadcom in its filing also blamed a former human- to an improper options practice, resources chief, Nancy Tullos. It said she "encouraged, investigators have an abundance of assisted in and enabled" the backdating. A lawyer for Ms. possible cases. Tullos, who left in 2003, declined to comment for this article. The lawyer has said previously that Ms. Tullos Broadcom illustrates some of the elements investigators followed the directives of superiors, didn't select any grant are focusing on as they set their priorities. The Irvine, dates and always acted in the company's best interests. Calif., company is one of the biggest companies in the options spotlight. It makes chips that help power all sorts Broadcom's backdating, which it has said occurred from of communications devices and has a stock-market value 1998 to 2003, took place amid a gyrating stock price and a of more than $19 billion. The SEC in addition to the heated technology industry in which valued employees Justice Department is looking at Broadcom. were often poached by others with big options packages. Broadcom emails, described by people who have seen Also being investigated are Henry Nicholas -- the former them, suggest that executives sometimes deliberately gave chief executive to whom the CFO's email was addressed -- grants earlier dates and sometimes cautioned others not to and Henry Samueli, Broadcom's chairman. Messrs. mention the dating process in writing. Nicholas and Samueli co-founded Broadcom. The two made up the committee that handed out options Broadcom Broadcom's auditor, Ernst & Young, raised concerns in has admitted were backdated. 2000 about an aspect of the options process and reminded executives about the rules, say people familiar with the Mr. Nicholas said in a statement his focus was on running matter. At that time, options granted at the current stock Broadcom, and "the minutiae of employee paper-work and price didn't affect companies' earnings. But a grant at documentation were not at the top of my list." Mr. below-market prices was considered compensation, so that Samueli's attorney declined to comment except to say that companies had to count it as an expense. some of the Journal's information was "misleading." In 2000 Broadcom made a giant options grant to a large Mr. Nicholas founded the company in 1991 with help from number of employees, purportedly on a day in May when Mr. Samueli, his former engineering professor. After they the stock had its lowest close for the quarter. Ernst took it public in 1998, its stock soared 20-fold in two discovered that the company hadn't finished divvying up years. Together the men sold more than $1 billion in the grant among employees until months later. Accounting Broadcom shares near the end of the tech boom. Each still rules say an option isn't recorded as granted until recipients holds about $1 billion of Broadcom stock. are determined.

A domineering figure, Mr. Nicholas routinely scheduled Ernst warned company officials, including Mr. Ruehle, not late-night staff meetings and boasted of working for days to make such "subsequent allocations" again, according to without sleep. At a yearly sales conference, he quizzed people familiar with the matter. Ernst reminded executives subordinates about chip designs, forcing those who erred of how options should be accounted for, taking them to gulp down shots of hard liquor. He stepped down from through the rules. his CEO post in 2003. Along the way, he settled into a 15,000-square-foot mansion, which he outfitted with a Like many stocks, Broadcom's sank after the Sept. 11, billionaire's toys: waterfalls, secret tunnels into the hills, a 2001, terrorist attacks. It hit its lowest price in three years sports bar. on Oct. 1, before recovering and then more than doubling by year-end. Broadcom claimed to have granted a slew of options to non-officers on Oct. 1. Investigators are looking at whether the company may actually have made this grant In any effort to link backdating to Messrs. Nicholas and later and backdated it, say people familiar with the Samueli, prosecutors would face a potential hurdle: The situation. co-founders didn't regularly receive option grants themselves. The two received just one grant, for a million Broadcom said in its federal filing that co-founder Mr. options each, in 2002. Broadcom has said no grants to the Nicholas was "at times" involved in the backdating, and founders or to directors were among those misdated. bore a large responsibility for the problems because of "the tone and style of doing business he set." A person familiar Ms. Tullos and Mr. Ruehle, by contrast, received with the grant dated Oct. 1 said it engendered jealousy numerous options, including grants the company has said among those who didn't get options then, and that Mr. were manipulated. Mr. Ruehle had $32 million of Nicholas and others appear to have retroactively added unexercised options when he left last year. The company more people to the list. canceled them. Last year the company canceled $4 million of options Ms. Tullos held. In an email on Jan. 2, 2002, Mr. Nicholas sent a list of employees included in the Oct. 1 grant to at least two Several emails written by Ms. Tullos suggest she may have people, including been aware the Ms. Tullos, say dating practices people familiar were troublesome. with the email's In a period when contents. "I Broadcom's stock found my old was falling, a share grant business-unit head spreadsheet from repeatedly asked her before October," when his he wrote. subordinates would get options. But the Eventually, she told electronic time him "I cannot tell stamp on the you what we are computer file doing" in a "post- indicated the Enron" world, spreadsheet had according to people been created familiar with the toward the end of matter. In a message 2001, long after Oct. 1, say people familiar with the to another employee asking about options, she wrote, "I matter. The discrepancy has led investigators to examine cannot answer in writing." whether the email and spreadsheet might be an attempt to provide written cover for manipulated grants. Prosecutors would need more than suggestive emails to make a successful criminal case. A document that seems Broadcom said in its federal filing that co-founder Mr. like a smoking gun can grow cold when the context is Samueli was "involved with" the "flawed option granting explained to a jury by an experienced defense lawyer. process." The company cleared him, saying he "reasonably relied on management and other professionals" regarding Another obstacle for the government in prosecuting proper treatment of the options. According to people backdating is at some companies the practice was familiar with the matter, Mr. Samueli, as a member of the discussed openly, making it harder to argue that executives Equity Award Committee, received a number of emails knew they were engaged in wrongful conduct. that discussed retroactive date selection. Defense lawyers will doubtless pass blame around. Those Mr. Samueli cooperated with the internal probe but so far representing CEOs are likely to argue that their clients -- has declined a request to speak to government being business leaders, not accountants -- relied on others investigators -- unusual for a sitting chairman. When to figure out how options should be issued and accounted weighing how much responsibility corporations for. Those representing subordinates are likely to argue themselves bear for fraudulent conduct, prosecutors are that the boss made them do it. supposed to consider how cooperative top officials have Helping boost momentum toward the filing of charges is been, according to Justice Department guidelines. the statute of limitations. It's five years for securities fraud An outside lawyer for Broadcom said it wouldn't comment and wire fraud. But there's some flexibility, based on the on the investigation except to say that it was cooperating notion that misdated options might affect earnings in later fully. "Dr. Samueli did cooperate fully and voluntarily years. with the company's independent internal investigation," --- said the lawyer, David Siegel. Paul Davies contributed to this article