Watchdog Laid Down Laws Now Affecting Merger Talks
By Yuki Noguchi
Washington Post Staff Writer
Thursday, April 28, 2005
During WorldCom Inc.'s bankruptcy proceedings, Richard C. Breeden wielded control over the company's monthly budget. He vetted executive pay and helped pick a new board of directors for the company, now known as MCI Inc.
After the company's $11 billion accounting fraud, the former chairman of the Securities and Exchange Commission cast the new MCI into what he hoped would become a model of how shareholders should be protected and how companies should be run.
Now, three years later, Breeden's rules for corporate fairness are being put to the test.
Every time MCI delves into delicate discussions over whether to merge with Qwest Communications International Inc. or Verizon Communications Inc., it is doing so under the close watch of the man a federal judge appointed as the company's watchdog on corporate governance and ethics. Ashburn-based MCI is run under 78 rules Breeden laid out to safeguard against capricious and self-serving management decisions. It consults three separate investment banks and two law firms that prepare cost-benefit analyses with every new offer. The board meets frequently -- more than 40 times so far this year -- and its members are compensated mostly in cash in an effort to separate their judgment about company policy as much as possible from their self-interest in its stock price or prospects.
MCI "has gone through an extraordinary process," said Charles Elson, director of the Weinberg Center for Corporate Governance at the University of Delaware. "Its founder [Bernard J. Ebbers] is headed for jail -- and it's in an extraordinary situation." Most companies don't retain so many advisers, so many lawyers, or conduct so many meetings, Elson said.
The bidding process between Qwest and Verizon is not over, so it's not clear how those measures have helped MCI or its shareholders. Nor is everyone pleased with Breeden's $800-an-hour advice, with some shareholders arguing that he has been biased toward Verizon's offer from the start.
But by at least one measure, the protracted deliberations are yielding results: MCI shares, which closed at $26.70 yesterday, are worth 36 percent more than before a possible merger was reported in February. MCI has gone from endorsing Verizon's initial offer of $6.75 billion to embracing Qwest's thrice-sweetened bid of $9.74 billion. Sources close to Verizon say the New York-based company could still increase its bid, with the next deadline Friday.
"I am confident that for years to come, people will say shareholders got the best deal out of the MCI board," Breeden said, "We set out to recruit a board of exceptional talent that would roll up their sleeves, and we got that."
Breeden, a lawyer who ran the SEC from 1989 to 1993, was appointed by U.S. District Judge Jed S. Rakoff in July 2002 to act as the public's eyes and ears at WorldCom. Among other things, he was supposed to make sure that no one destroyed documents associated with WorldCom's fraud.
"I tried to be the honest broker, to be there to tell it straight," Breeden said in a recent interview. The goal was to give customers and shareholders "the confidence to deal with a company that had a sheriff in its midst."
Terry Savage, an investment banker with Lazard Freres & Co., one of MCI's banks, said having Breeden oversee the board during the merger negotiations is akin to having a referee assuring the board that it is not running afoul of the rules. "At one point he said, 'I think this process has been as clear as possible. We can't fear doing the right thing,' " even if the decision would be unpopular with one company or the other, or even with shareholders, Savage said.
MCI's board already faces several shareholder lawsuits stemming from the merger discussions, and it probably will face more no matter what it decides. But experts say the situation doesn't compare with other controversial mergers, such as Time Inc.'s 1989 deal with Warner Communications Inc. Many shareholders favored a cash deal with Paramount Communications Inc. and were angered when Time's board engineered the deal to deny a shareholder vote and refused to meet with Paramount.
In contrast, MCI has three times agreed to reopen talks with Qwest even after recommending a merger with Verizon and has held ongoing discussions with major shareholders and customers.
Breeden, 55, designed the MCI board to encourage just that sort of deliberation. His position was created a month after WorldCom admitted it had inflated its earnings. Breeden's initial powers were wide-ranging. He could attend any meeting, read any document and meet with any employee. He wielded that authority not only to reshape MCI's governance, but to place the company in the broader discussion about corporate reform.
In August 2003, Breeden's report on MCI, "Restoring Trust," served as both an indictment of WorldCom's shoddy corporate governance and a prescription for the remedy. Ebbers, the former WorldCom chief executive, wielded "nearly imperial" control of the company, staffed his board with cronies and left the company without checks or balances to protect shareholders' interests, Breeden wrote.
The report detailed 78 recommendations, including specifications about eligibility of board members, how often and where a board should meet, and guidelines limiting executive and board member compensation. It made the board accessible to town-hall style meetings for large shareholders to talk to the board.
"[T]he recommendations of Restoring Trust will be a set of policies and procedures that go beyond what any major public company has in place today," he wrote.
Still, some MCI shareholders disagree about the outcome, angry that the board was ready to accept an initial offer of about $20.75 a share from Verizon that in retrospect seems low. Qwest's latest offer is equal to $30 a share.
"Richard Breeden wasn't there to protect my shareholder value," said Jeff Kavy, an individual investor with more than 100,000 shares of MCI. "I think Breeden and [the board] did everything against this process, and if Qwest hadn't been so tenacious, those guys would have let Verizon steal the company."
Breeden denies any favoritism toward either of MCI's suitors, noting that he acts as trustee for nearly 10 million MCI shares held in a victims' trust fund to compensate former WorldCom investors. He said he wants the best deal for those shares.
"[The board is] not going to do what I tell them to do, or what [MCI chief executive Michael] Capellas tells them to do," Breeden said.
Moreover, Breeden's high-profile presence at MCI could hurt a shareholder's case in court, some say. "With Mr. Breeden's presence, any court will look at that and say that his being there must mean that they did everything [by the books], and we would lose our case," said David Ahl, a consultant to four major MCI shareholders.
"I think their conduct has been exemplary," said Nell Minow, editor for the Corporate Library, a corporate governance research group. "I keep expecting them to say, 'Okay, it's enough,' and shutting out every additional offer. But they keep saying, 'Yes, we're going to look at it, yes we're going to look at it.' "