Reference no: EM132214182

Case question “A Conflict Laden Deal,” which conflict of interest would you expect to have the greatest influence on this deal? Why? How should this conflict of interest have been mitigated in order to get the best deal possible for the shareholders?

When El Paso Corporation was considering the spin-off of its oil and gas exploration and production unit, the company’s board turned to its longtime financial advisor, Goldman Sachs.42 The leader of the Goldman team was an experienced oil and gas banker, Steve Daniel. The investment bank had valued El Paso’s exploration and production (E&P) unit between $6 billion and $10 billion, and a successful sale would earn Goldman a $25 million fee. When El Paso announced its interest in the spin-off, an unsolicited, nonpublic offer was made by Kinder Morgan on August 30, 2011, for the purchase of the whole company. Kinder Morgan, a privately owned oil and gas pipeline and storage company based in Houston, Texas, was interested only in El Paso’s pipelines, but it was willing to buy the whole company and sell the E&P unit to finance the deal. The Kinder Morgan offer of $25.50 per share was quickly rejected by the El Paso board as inadequate, but a more realistic, higher offer was surely forthcoming since Kinder Morgan was anxious to complete a deal before El Paso proceeded to split up the company or another suitor entered into the bidding. Although publicly soliciting bids might have been in El Paso’s best interest, the board continued private negotiations with Kinder Morgan. The Conflicted Parties Goldman Sachs now found itself in a conflict of interest because it held a 19 percent stake in Kinder Morgan worth $4 billion and controlled two seats on the company’s board of directors. The value of Goldman’s stake in Kinder Morgan would be enhanced by the purchase; and the lower the price for El Paso, the better. This obvious conflict was disclosed to the El Paso board, which decided to keep Goldman as a financial advisor, but the board also accepted Goldman’s recommendation to engage a second investment bank for a more independent judgment, free of conflicts. The firm Morgan Stanley was chosen for this role. Goldman Sachs did not disclose—indeed, the firm may not have known at the time—that the lead banker, Steve Daniel, personally had a $340,000 investment in Kinder Morgan. Mr. Daniel kept this information to himself. The El Paso board appointed the company’s CEO Doug Foshee to conduct the negotiations with Rich Kinder of Kinder Morgan for the sale of the whole company. A price of $28 per share was sought by the board, and by September 22, Mr. Foshee had completed the paperwork for a sale at $27.55 subject to a due diligence study. The next day, on September 23, Kinder Morgan suddenly announced that the analyst projections it had relied on were too optimistic and that the company would not honor its commitment at the agreedupon price. Mr. Foshee lowered his expectations and ultimately settled for a price of $26.87 per share for a deal value of $21.1 billion. Both Goldman Sachs and Morgan Stanley, relying on their own analyses, advised the El Paso board to accept the deal. The acquisition agreement was signed on October 16, 2011, and contained provisions for sanctions that effectively prevented El Paso from accepting any better offer. Morgan Stanley, it turned out, was not free of conflicts. The contract with El Paso specified that the fee of $35 million would be paid to Morgan Stanley only if the whole of El Paso was sold to Morgan Kinder. If the whole company or only the E&P unit were sold to any other buyer, no matter the price, Morgan Stanley would receive nothing. Giving unbiased advice under those conditions would have required an extraordinary commitment to objectivity.