Saturday, February 23, 2019
Guhan Subramanian & Annie Zhao on Go-Shops
I had a great time reading Guhan Subramanian & Annie Zhao’s new paper, Go-Shops Revisited. It follows up on Prof. Subramanian’s earlier study of their effects, Go-Shops vs. No-Shops in Private Equity Deals: Evidence & Implications, 63 Bus. Law. 729 (2008). In the original study, Prof. Subramanian found that go-shops generally had beneficial effects for target companies: bidders would pay a little bit more for the privilege of something like exclusivity in the original negotiations, and not infrequently, a superior proposal would materialize during the go-shop period. But in the new paper, the authors conclude that go-shops are no longer an effective tool for price discovery, in large part because changes in their design make it much less likely that a superior proposal will emerge.
There are a lot of interesting observations in the new paper, with the basic point being that deal attorneys – aware that Delaware courts focus a lot on things like the size of termination fees – instead manipulate aspects of the go-shop that tend to escape judicial notice, and that collectively function to make go-shops less effective. One particular point that stood out: The authors note that PE firms have changed how they compensate CEOs who remain with the company after the buyout. Today, they pay based on whether the firm achieves certain multiples of invested capital, a metric that CEOs might view as functionally guaranteeing them a healthy payout, and one that incentivizes them to keep the deal price as low as possible. (The authors contrast with earlier IRR-based payouts, which were so difficult to achieve as to render compensation speculative). And even if the CEO does not negotiate compensation with the PE firm until after a deal price is reached, the CEO will know the PE firm’s practices and past history. The authors got a kind of amazing quote from an unnamed PE investor who said his firm tries to “corrupt” management; the multiple-of-invested-capital compensation structure, argue the authors, contributes to that corruption.
Point being, there are a lot of wonderful nuggets in the paper, and I highly recommend it.