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CEO salary issue delayed ISS advice

If HP and Compaq had openly discussed their executive compensation proposal, the advisory firm would have issued its recommendation earlier. Still, the firm found no "smoking gun."

Although key advisory firm Institutional Shareholder Services eventually sided with Hewlett-Packard management, ISS delayed its recommendation of the Compaq Computer acquisition by several days because of concerns about the way the companies handled disclosure of salary talks with their top executives.

In an interview after the firm gave its nod of approval, ISS Vice President Patrick McGurn said he was dismayed that HP and Compaq were not more clear in their disclosure of negotiations that had taken place between the companies and their chief executives.

Dissident board member Walter Hewlett has charged that HP CEO Carly Fiorina and Compaq CEO Michael Capellas would have received a $115 million windfall under the terms of a post-merger pay package discussed, but not approved, by the HP board of directors.

"We read them the riot act," said McGurn, adding that ISS was poised to make its decision last week, until the compensation issue came up. McGurn said ISS not only listened to Hewlett's side but also demanded to speak with the other members of HP's compensation committee.

In the end, ISS said it found no "smoking gun" showing that HP's leaders had been unduly influenced by the contract talks. "However, HP's decision not to disclose what clearly were very advanced discussions falls far short of the good governance ideal," ISS said in its report.

Rockville, Md.-based ISS has become a central figure in the mega-merger, with some seeing the obscure firm as the pivotal player in the controversial deal. HP has been facing an uphill battle since heirs of David Packard and William Hewlett and foundations linked to the two company founders have come out against the deal.

With the recommendation, HP is certain to at least get the vote of Barclays Global Advisors, which holds 3 percent of the company's shares, as well as those of an undetermined number of ISS clients and others that will be swayed by the firm's analysis.

But McGurn shies away from the notion that his firm is deciding the fate of the merger.

"We read them the riot act."
-Patrick McGurn, ISS vice president
"We won't decide anything on this. Our clients will decide," McGurn said. He contends that most clients were more interested in ISS's analysis than in its recommendation, saying many investors, including index funds, are likely to make up their own minds.

"If they agree with our analysis they will agree with our recommendations," McGurn said.

However, some have taken issue with the central role that ISS has come to play in the deal.

In a research note, Sanford C. Bernstein analyst Toni Sacconaghi said that although ISS's opinion will carry a lot of weight, evaluating mergers is not the key strength of the company's 30 analysts, who focus largely on other issues of corporate governance.

"Should ISS rightfully have such a large impact in determining the outcome of the (HP-Compaq) merger?" Sacconaghi said in a research note Monday. "No, but the fact is, they do."

McGurn said ISS made its decision after more than 20 hours of face-to-face meetings with the key players in the deal, along with hundreds of hours of phone calls with the parties, their lawyers and financial advisers, and other analysts and money managers.

"It was a major undertaking to try and get all sides of the issue and hear from everyone that wanted to lend their views," McGurn said.

Although the company spent more total hours on such long-running takeover battles as ITT-Hilton, McGurn said the amount of time spent on the HP deal in a two and a half month period was the most concentrated effort ever for his firm.

McGurn added that the company uses a team of analysts to evaluate big deals, compared with several years ago, when just a single analyst would have been charged with making a recommendation.

Although McGurn said the firm did not make up its mind until recently, he said the decision was unanimous.

"There was no dissenting voice within the group," McGurn said of the six or seven analysts that made the ultimate recommendation.

McGurn said the burden of proof was probably on the companies to prove that they had ample justification for the deal.

"Once the basic strategy passed muster, it was really focusing in on the integration risk issues," McGurn said.