July 29, 2005
A Homer Ruling the Microsoft Case?
A state court judge in Seattle, the home of Microsoft, has, on a temporary restraining order, blocked Google's hiring of Kai-Fu Lee, a former employee of Microsoft and thereby stopping Google from starting a research center in China. The is a test case for the power of non-competition agreements and their effect on rivals in a hotly contested, evolving market.
Cafta Wins by Two Votes
In a bruising political battle, Cafta (Central American Free Trade Agreement) passed the House by two votes. Last minute calls from the President, often with promises (highway money), were necessary to get a few votes needed to put the agreement over the top. The struggle was notable because it was over so little trade. Many of the tariffs reductions with the six countries in Central Amercia covered by the agreement are already in place (on a rolling temporary basis). Moreover, the countries made substantial permanent sacrifices to the American textile and sugar industies in the final agreement. The total trade involved in small from the perspective of the United States and when one nets out American winners (those who will enjoy increased exports) and losers (those suffering more competition from imports) the figure is smaller yet. This does not bode well for the future. Our response to increased competitive pressures from abroad (China and India) cannot be knee-jerk local protection of domestic industries.
July 27, 2005
China and CNOOC's bid for Unocal
Those supporting the bid of CNOOC for Unocal (and opposing the efforts of the United States House to block it) have cycled through two arguments that were, well, disingenious and now have lit on a third, the appeasement academics have joined the fray. The first argument was it was "just commercial international trade," we invest in China and they invest in America -- it should be a two way street. The answer (I spare you some details): the buyer is not a commercial company but China seeking strategic oil reserves, American companies cannot buy Chinese oil companies, and those lobbying for the view are also themselves trying to gain inside favor with Chinese authorities for their own minority investments in China.
The second argument: Well fine, but these are only Asian oil reserves and there are no Unocal United States refineries. There is no impact the United States markets. The answer: all foreign oil reserves impact the United States markets (much of our oil comes from abroad) and with Unocal goes significant drilling technology as well.
The third argument: Well fine, (here are the academics) we need to be nice to China our we will drive them into an internation confrontation like we did Japan in 1942. See Amy Myers Jaffe (Rice Univ.), "Wasted Energy," today's New York Times. We should use this opportunity to "explore the possibility of a constructive, high-level dialogue with China." Oh Pleeeease! The argument distilled is -- Give China Unocal and them dialogue with them -- just as we should have let Japan take oil from its "colonies" in China (this smacks of "It was our fault that we were invaded by the Japanese" stuff).
Why not block the sale and then dialogue with them before anything irreversible is done? Why is appeassement, the loss of Unocal, necessary to dialogue -- this is academic babble at its best. More importantly, is the argument's tendency to deny the obvious. China is a competitor and seeks a competitive advantage in energy supplies; dialogue with China will not eliminate the competition (which always makes academics nervous)-- it can only establish sensible and fair rules (as much as are possible) for what is inevitable. The negotiation for the rules of trade requires a demand for reciprocity (you invest here we invest there on equal terms). Respect for reciprocity is not engendered through appeasement. Exchanges much be mutual and not unilateral gifts, any kid trading pokemon cards knows this. Moreover, her history is incomplete -- we did trade with Japan until they invaded a country or two -- then we restricted trade. We should have asked for more concessions before and during the trading, not after they grew to expect it (and viewed the shut-down as a threat).
Cafta: What is the fuss all about?
President Bush's efforts to get the Central American Free Trade Agreement confirmed in Congress are a classic political show down. The vote will be close. The President is making side promises to get the last votes in line (want a local park??) and oppoenents are vowing political revenge on members of Congress that go along. But the amount at trade at stake is small.
The agreement covers six small central american countries -- Costa Rica, Dominician Republic, El Salvador, Guatemala, Honduras and Nicaragua. It is a huge deal for each of these countries but affects a very small percentage of United States trade -- only $32 billion. Why the fuss??
Rob Portman, our United States trade representative, has the explanation -- "This is a gate-way agreement." In other words, the President and Portman view the agreement as a predecessor and, indeed, a model for future trade agreements with larger countries. This approach is alway trouble. Each trade agreement should be taken on its own merits. Taking the position that a vote on CAFTA is a vote on trade with, say, Brazil is a consensus breaker. There is no Brazil deal to consider and the arguments, all based on speculation, get extreme in a hurry. If the Administration had promised to take each deal on its own merits and to reconsider each deal with Congress as it came along this might have been less of a policial test of wills.
CAFTA is great for some of the poorest countries in our hemisphere and will not negatively affect declining industries in the United States much more than current trading partners do. We will increase exports as well as imports and the net industry gain and loss will be negligible. Moreover, at some point we need to break the ties to the concentrated and insolated sugar industry in Florida that have limited the countries trade flexibility for too many years.
Christopher Cox Confirmation Hearing
The confirmation hearings for the new chair of the Securities and Exchange Commission could have been very contentious but they were not. President Bush selected a United States Congressmen for the position and his colleagues in the US Senate gave him a very gentle time at the hearings. Moreover, the President has given the Democratic leadership their say in the two minority party appointments to the Commission, appointments that are also pending. The skids are greased for this confirmation. It was an impressive series of political maneuvers by the Administration, not unlike its choice for the open Surpeme Court seat -- it could have been a firestorm but was not. Business leaders were not happy with Donaldson -- the chair of the SEC has a more direct effect on business operations in the United States than does a Justice on the United States Supreme Court -- and Democrats sought to identify with and perserve Donaldson's initiatives. It could have turned partisan.
Cox did say he would no seek to overturn the FASB's requirement that United States firms begin expensing of executive options on their income statement, something he fought as a representative of California's high-tech community. The battle had been lost: "These question have been asked, answered and deliberated on. Most imortantly, we have clarity." He said. He also noted that he would not seek to reverse significant rules approved by his predecessor, William H. Donaldson, who was a "stand-up guy."
There is no doubt that Donaldson was well intentioned but he acted on intuition, not data, and, on some matters (mutual fund regulation), he listened to attentively to the eager regulatory impulses of a necessarily young and green SEC staff. On other matters, when dealing with an industry in which he participated (stock trading), he was too congenial to the arguments of the established players (the NYSE). Applaud his intentions but question his judgment.
July 26, 2005
NYSE Seat Prices at Historic Highs
With seats on the NYSE trading for historic highs can there is any doubt that the new SEC Regulation NMS, soon to be effective, has re-structured the trading markets to the benefit of the NYSE??
The Positive Pressure Exerted by Buyout Funds
One of the historic problems of corporate governance is how to bring outside pressure to bear on misbehaving managers in publicly held corporations. The failure of shareholder oversight and nervousness over dominating government oversight led to the call for "gate-keepers" -- auditors, lawyers, rating agencies and the like that could bring a non-governmental check from outside the firm. Read the piece by Hugh MacArthur and Dan Hass in today's Wall Street Journal on the goals of buyout funds. Buyout funds are seeking returns in failing businesses by "blueprinting a path to value," hiring hungry managers," "measuring what matters," and "making equity sweat." These funds could be the most effective method of outside correction in the market today, as long as incumbent managers are not allowed to erect self-protecting defenses.
New Moody's Study on Credit Risk and Excessive Compensation
Moody's Investors Service has confirmed a positive relationship between excessive compensation option and bonus packages and credit risk. Companies that overpay executives have a higher likelihood of defaulting on their debts. Presumably, Moody's will now take excessive compensation into account when issuing debt ratings. This means that excessive compensation is no longer a trivial item on the income statement, it will affect a firm's basic cost of capital by affecting the interest rates it must pay on its debt. The pressure on board's to behave when setting executive compensation is mounting.
Will John Roberts Be Pro-Business?
The speculation that Judge John Roberts will be pro-business once he ascends to the United States Supreme Court is simplistic and thereby wrong. Analysts are projecting how a new Justice Roberts would decide pending antitrust, intellectual property, labor discrimination, and products liability cases. ( See Lorraine Woellert's "Bringing Business to the Bench" in the Aug. 1, 2005 Business Week.) These projections have three problems. First, it is not clear in many cases which side of a case is "pro-business." In an antitrust decision that allows a large merger, for example, small business competitors may be losers. Similarly , protecting intellectual property helps some and disables others in producing a product or service. In a decision that federalizes a rule on tort damages, many local businesses, with the ability to lobby locally but not nationally, lose. Second, there is nothing in Judge Roberts record to suggest that he will be pro-business as opposed to pro-limited government. In many cases one finds business leaders to be very pro-government if it suits their purposes, such as lobbying for special operating or tax subsidies or for trade protections. Third, and most important, what will be pro-business about Judge Roberts' opinion is not mentioned. He understands the business community's need for clear rules, for predictable enforcement. The current court often refuses to take cases that it needs to take to provide needed guidance and, in the ones it does take, creates open-ended rules that offer confused future guidance, encouraging more litigation, and reserving for the court future decision-making discretion with each new factual wrinkle. Judge Roberts may help the court focus on issues the business community needs decided and may help craft language that is more helpful when the cases are resolved. On this latter point, Judge Roberts ought to be able to put the language of his opinions on business cases in the context of the capital markets, a skill in which the current Court is deficient. In short he will not say uninformed (and at times silly) things about business operations on the edges of court rulings that cause problems with the application of the holding of the case and worse, perhaps, a lack of respect for the Court's expertise. The current court's lack of business expertise is most obvious in how it describes the effects of its holdings, when the court attempts to put its holdings in the context of American business operations, projecting the effects of its rulings. Obvious effects of a given holding are overlooked and described effects are fanciful. For examples of odd-ball language look at Justice Blackmun's footnote 17 in Basic v Levinson (on the effect of a "no comment" answer) or Justice Ginsburg's language on the misappropriation doctrine of insider trading in O'Hagan (the effect of notice to an employer). Better yet read Justice Souter's entire opinion straight-through in Virginia Bankshares v Sandberg and attempt to distill its holdings.
Judge Roberts will help the business community but not in the sense discussed in the financial press.
July 25, 2005
I Knew It: The New Argument for Government Provided Health Care -- Corporate Subsidies
Paul Krugman has authored an editorial in todays New York Times that may be the future -- social liberals teaming with corporate leaders to push for government provided health care and pensions. He argues, in essence, that for the United States to compete for business investment, the government must subsidize the business community by providing employees with free health care. Can pensions be far behind? He argument is based on the decision of Toyota to build a factory in Canada, taking advantage of Canada's free health care system. Toyota, the argument goes, will have lower costs because it will not pick up the health care costs of its employees, the Canadian citizens will -- through their tax payments. The United States, Krugman argues, must offer government health care to compete for Toyota factories (direct investment) in the United States.
The argument has obvious problems. Should Canada provide free pension benefits as well? pay 10% of the salary of Toyota workers? Business subsidies incite counter subsidies and are very inefficient (causing the production of goods that should not be produced and the use of production methods that should not be used). Moreover, the benefits themselves will be inefficiently provided -- they will cost too much.
This is a seductive argument and creates an odd but powerful alliance -- business and labor socialists.
New SEC Appointments
President Bush has announced nominations for the two Democrats positions on the Securities and Exchange Commission, Reol Campos and Annette Nazareth. Recall that the SEC is made up of five members, three from the political party in power (Republicans) and two from the largest minority political party (Democrats). The President nominates and the Senate confirms the appointments. Senate Democratic leaders had urged the President to nominate Annette Nazareth to fill the position vacated by Harvey Goldsmidt and to renominate Roel Campos. The President, following tradition, followed the Democrats' recommendations, no doubt hoping to easy the confirmation of his new nomination for chair, Christopher Cox. Democratic Senators are uneasy with the nomination of Cox, who may seek to undo some of the controversial changes engineered by his predecessor, William Donaldson. On the more controverisal SEC initiatives (mutual fund governance, hedge-fund registration, and trading market structure)c, Donaldson pushed the rules throught with the votes of the two Democrats and over the objections of the two Republicans. Nazareth, a long-time staff member, is expected to support the controverisal initiatives; she worked on several of them.
More Law Firm Shenanigans (NB)
Each week there seems to be yet another law firm appearing in the business pages for less than salutary reasons. Milberg Weiss accused of giving kickbacks to a shell plaintiff; Kirkland and Ellis accused of helping Morgan Stanley hide evidence in the Perelman case. Today the Wall Street Journal reports that the individual appointed as CEO of eToys (the once high-flying dot.com bust) for purposes of liquidating the company upon the recommendation of a lawyer for a group of creditors in the case was a business associate of that same lawyer, Paul Traub of Traub, Bonacquist & Fox. The Trustee's office is seeking the return of $750,000 (down from $1.64 million) in fees paid by the bankruptcy estate to Mr. Traub's law firm. It appears as though Mr. Traub and the interim CEO, Barry Gold, formed a partnership that would engage in inventory liquidation about a month before Mr. Gold was appointed interim CEO of eToys. Mr. Traub never disclosed his relationship with Mr. Gold to the Bankruptcy Court. Although there is no evidence that the partnership formed between Gold and Traub profited from Mr. Gold's appointment, it does appear as though Mr. Traub agreed to pay Mr. Gold's salary while the partnership was establishing itself.
Lawyers seemed to emerge from the corporate scandals that arose out of the stock bubble bust of 2000 relatively unscathed, despite the misconduct of lawyers such as those at Vinson & Elkins. But as lawyer misconduct becomes a regular feature on the business pages, one has to wonder how long lawyers can avoid tighter regulation in their dealings with businesses.