M & A Law Prof Blog

Editor: Brian JM Quinn
Boston College Law School

Friday, March 2, 2012

I Bankers cover themselves in glory

One wonders why investment bankers get a bad rep?  Well, they certainly didn't cover themselves in glory in the El Paso transaction.  This from the El Paso opinion describing the fee arrangements - including the fee to pay Morgan Stanley, who was hired to balance Goldman's structural bias in favor of doing a transaction with Kinder Morgan:

    Even worse, Goldman tainted the cleansing effect of Morgan Stanley. Goldman clung to its previously obtained contract to make it the exclusive advisor on the spin-off and which promised Goldman $25 million in fees if the spin-off was completed. Despite the reality that Morgan Stanley was retained to address Goldman’s bias toward a suboptimally priced deal with Kinder Morgan and thus Morgan Stanley’s work in evaluating whether the spin-off was a more valuable option was critical to its integrity enforcing  role, Goldman refused to concede that Morgan Stanley should be paid anything if the spin-off, rather than the Merger, was consummated. Goldman’s friends in El Paso management – and that is what they seem to have been – easily gave in to Goldman. [..] This resulted in an incentive structure like this for Morgan Stanley:

    • Approve deal with Kinder Morgan (the entity of which Goldman owned 19%) – get $35 million; or
    • Counsel the Board to go with the spin-off or to pursue another option –  get zilch, nada, zero.

    This makes more questionable some of the tactical advice given by Morgan Stanley and some of its valuation advice, which can be viewed as stretching to make Kinder Morgan’s offers more favorable than other available options. Then, despite saying that it did not advise on the Merger – a claim that the record does not bear out in large measure – Goldman asked for a $20 million fee for its work on the Merger. Of course, by the same logic it used to shut out Morgan Stanley from receiving any fee for the spin-off, Goldman should have been foreclosed from getting fees for working on the Merger when it supposedly was walled off from advising on that deal. But, Goldman’s affectionate clients, more wed to Goldman than to logical consistency, quickly assented to this demand.

    Here's the El Paso opinion.  Of course, it wasn't just them. El Paso CEO Foshee doesn't come across as someone you'd trust to hold your wallet, either.  Anyway, where might this go from here?  That's a good question.  As Strine notes, Foshee and Goldman's actions in connection with this sale still make out a reasonably good claim for a loyalty violation:

At a time when Foshee’s and the Board’s duty was to squeeze the last drop of the lemon out for El Paso’s stockholders, Foshee had a motive to keep juice in the lemon that he could use to make a financial Collins for himself and his fellow managers interested inpursuing an MBO of the E&P business. The defendants defend this by calling Foshee’sactions and motivations immaterial and frivolous. It may turn out after trial that Foshee is the type of person who entertains and thendismisses multi-billion dollar transactions at whim. Perhaps his interest in an MBO was really more of a passing fancy, a casual thought that he could have mentioned to Kinderover canapés and forgotten about the next day.

It could be.

Or it could be that Foshee is a very smart man, and very financially savvy. He did not tell anyone but his management confreres that he was contemplating an MBO because he knew that would have posed all kinds of questions about the negotiations with Kinder Morgan and how they were to be conducted. Thus, he decided to keep quiet about it and approach his negotiating counterpart Rich Kinder late in the process – after the basic deal terms were set – to maximize the chance that Kinder would be receptive.

Hmm. So there may be a case against Foshee, but the court recognized that monetary damages against Foshee may be an imperfect remedy - damages might be upwards of $500 million and Foshee, as well off as he might be, simply isn't worth that much.  Also, aiding and abetting against Goldman is tough to prove.  So what to do? Absent a competing offer on the table, Strine opted to let shareholders - who one presumes are autonomous and smart enough to determine what's in their best interests - decide for themselves whether they want to accept this tainted premium offer.

It's an imperfect result, but it may be all that's possible.



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Has it occurred to anyone that perhaps the price paid for these El Paso assets was not that small after all? DBRS the rating agency downgraded the senior Notes of KMI for instance. there are voices that say that the future of interstate pipelines could be at risk with the disappearances of seasonal spreads from east to west justifying transport of gas over long distances. with the posited view of future local gas supplies everywhere in abundance, the then valuation of the economic value of pipelines will be a very different story... Foshee in hindsight might be viewed as one guy who knows the nat gas pipeline biz and what is in store for massive interstate pipeline constellations planned and build 5-10 years ago and coming on stream now that gas is getting so abundant everywhere.. This is admittedly a contrarian view that strikes to the very heart of the arguments made by lawyers of not squeezing the last drop of the lemon. Possibly Foshee did get the best deal on the table. Just dont expect the MLP industry to join in in the fray and say so. The very notion of MLPs is based on increasing assets under management so incentive fees can be earned by GP. This is a borderline corrupt industry and you may not want to entrust hard earned money, unless you have a view of how to trade this from quarter to quarter or over the years. However at the first signs of industry troubles, it would be time to take off the chips from the table.. Some of the players at this poker table know the game better than others and I think Foshee is one of them. So lets give the guy some credit, even the MLP bandwagon may be ongoing for 1, 2, 3, more years.. it all depends what happens with the sheer gas abundance out there. A contrary view to the nat gas abundance everywhere is that nat gas wells will be plugged so prices can again recover. at nat gas prices of 2-3 dollars, its difficult for anyone to make money.. so perhaps the seasonal spreads will not be gone forever, once nat gas returns to 4-6 bucks after massive plugging of wells and necessary industry consolidation and coordination.. The troubles at Chesapeake are a case in point (CHK). Right now the KMI business is making lots of money on the transport of C02 into oil and gas shale formations. Nat gas transport revenues is actually down. El Paso gas centric biz is a lot less diversified and based on certain notions such as nat gas storage and transport that in a way look passé. at least for now.. I hope anyone is reading the last outgoing 10Q of EP and paying attention to the details. even read the last 10K if it was filed. IN the deal frenzy it is very easy for shareholders to stop doing the real analytics of an underlying business. its easy to rant and rave of what EP business is worth. I suggest going back to that 10K and hear from El Paso's Foshee where they are hurting. I dont think any of this was incorporated in the judge's opinion. And you sure would not expect the financial analysts to have an ongoing view about the El Paso business that no longer exists in public markets.. When deals of this nature happen, the stock gats re-rated as a sell or a hold and eventually is dropped from coverage. I would be more than eager to spill the beans of what Foshee said in his outgoing remarks, for the sake of completing the record on what he sees driving the business.

Posted by: Christopher Schulz | May 30, 2012 6:05:32 AM

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