Mental health deal should ease shareholders’ minds

May 17, 2010

Executives at Psychiatric Solutions  have done well for themselves. The hospital chain’s top four managers were awarded rich options packages in February. Just a few weeks later, news leaked of a leveraged buyout with the CEO onboard. The timing looked unsavory, and led to a federal investigation. But it also spurred an auction, bringing a higher $1.9 billion bid from rival Universal Health Services. This chain of events, which led to a 41 percent takeover premium, should at least partly ease shareholders’ minds.

There’s a solid theoretical reason for rewarding top brass for selling their company. Otherwise, it could be too tempting to spurn a deal, which could put them out of their cushy jobs. So change-of-control bonuses and options vesting can help to align the interests of executives with those of shareholders.

The reality, however, can be far messier and slightly perverse. The Psychiatric Solutions deal shows how. The board provided the four most senior executives with more than $1 billion in options and restricted stock — about five times as much as the previous year’s grants. Weeks later, it emerged the board was considering a bid from private equity firm Bain. Moreover, the change-of-control packages were sweetened in April. Joey Jacobs, the chairman and chief executive, will now be paid three times his salary and bonus, as well as other generous perks, when Psychiatric Solutions is sold.

Maybe this can be put down to the miraculous power of incentives, and the U.S. Department of Justice will uncover nothing wrong. Still, a bigger going-away gift after a sale has started will need some explaining. Oddly enough, however, the size and timing of the awards — and the subsequent attention from both media and the authorities — also seem to have ensured a proper auction of the company was conducted. This had the unintended, or maybe even intended, effect of squeezing out the maximum price for shareholders.

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