May 2 (Bloomberg) -- Shares of Morgan Stanley, the world's biggest securities firm by market value, dropped by the most in more than seven months after board members decided against ousting Chief Executive Officer Philip Purcell.

The stock fell 6.8 percent a day after directors meeting in Chicago issued a statement in support of Purcell, who is battling some shareholders and former executives who want him fired. The decline reversed a 4.3 percent gain on April 29, the most in 14 months, which followed a CNBC report that directors would meet over the weekend.

``The stock ran up on speculation there would be a change in the CEO, and has given it back now that the reality is it's a change in corporate governance,'' said David Katz, chief investment officer of New York-based Matrix Asset Management. ``It's disappointing the board continues to move glacially.''

The board eased rules that would allow Purcell to be ejected in the future, in an attempt to appease investors disappointed with a 31 percent drop in the stock price in the past five years. Eight former Morgan Stanley executives who want Purcell fired said the changes don't go far enough. The group has been calling publicly for Purcell's ouster since March 29.

The New York-based company's shares traded at $49.05 at 12:20 p.m., down $3.57, in composite trading on the New York Stock Exchange.

Purcell's `Failure'

The retirees first wrote to the board on March 3, blaming the 61-year-old Purcell, who has been CEO since merging Dean Witter, Discover & Co. with Morgan Stanley in 1997, for the firm's lagging stock. Last month, they proposed ex-President Robert G. Scott as Purcell's replacement.

The board said it will have 15 members, up from 13, remove a bylaw requiring a 75 percent board vote to oust Purcell and name a lead independent director. Morgan Stanley also will begin annual board elections starting next year.

``The changes fail to address the fundamental cause of the crisis at Morgan Stanley, which is the failure in Philip Purcell's leadership,'' the group of retired executives, led by former Chairman S. Parker Gilbert, 71, and Scott, 59, said in a statement.

The drop in Morgan Stanley's shares also followed downgrades of the overall securities industry by analysts at UBS AG and Morgan Stanley, which cited rising interest rates and lower debt issuance.

Goldman Sachs Group Inc., the second-largest U.S. securities firm by market value, slid 2.8 percent, and Merrill Lynch & Co. dropped 2.1 percent. Goldman has gained 15 percent in the past five years, while Merrill climbed almost 6 percent.

Carrot and Stick

``We have said consistently that management enjoys the confidence of the board and we reiterate that commitment today,'' the board said in a statement yesterday. ``We have thoroughly examined all of the issues surrounding leadership, structure and strategy and conclude that it is in the best interest of shareholders that we support management and not split up the company.''

Morgan Stanley was until today one of only two companies requiring a super-majority ouster vote in a study of 1,800 companies by the Corporate Library, a Portland, Maine-based consulting firm that specializes in corporate governance. The second is Comcast Corp., the biggest cable-television operator.

Dismissing Purcell would now take a simple-majority vote.

``The Morgan Stanley board offered investors a stick and a carrot,'' said C. Warren Neel, director of the University of Tennessee corporate governance center in Knoxville and a member of the Saks Inc. board of directors. ``They reaffirmed their backing of the CEO, but said to investors if you don't like this we're all going to be up for election.''

Succession Planning

In another change, the board decided that succession planning will be handled by its compensation committee, meaning Purcell may not have a role in choosing or grooming Morgan Stanley's next CEO. Previously, the entire board had responsibility for succession.

``I think the board will step back and give Purcell a chance to win over shareholders and employees through what he says and what he does,'' said John Waterman, chief investment officer of Radnor, Pennsylvania-based Rittenhouse Asset Management, whose $9 billion of assets included 3.2 million shares of Morgan Stanley as of December. ``If he does, he's likely to keep his job, but it's the board's decision.''

The compensation committee's four members are former Emerson Electric Co. CEO Charles F. Knight, 69; Howard J. Davies, 54, director of the London School of Economics; Anheuser-Busch Cos. Executive Vice President John E. Jacob, 70; and former Fort James Corp. CEO Miles L. Marsh, 57.

Spinoff

Morgan Stanley said it won't extend a corporate reorganization beyond the planned spinoff of its Discover credit- card division.

The spinoff proposal was Purcell's attempt to mollify the group of former executives and shareholders such as Copper Arch Capital's Scott Sipprelle, who had urged Morgan Stanley to shed its credit-card, asset-management and brokerage businesses.

Purcell shook up the company's management on March 28 by demoting Stephan Newhouse, 58, as president. The decision prompted the retirees to go public with their call for Purcell's ouster and triggered the departures of top bankers, including former Vice Chairman Joseph Perella, 63.

In the five weeks since, Morgan Stanley shares have dropped 5 percent.

New Directors

Newhouse, who later quit, was replaced by Chief Risk Officer Stephen S. Crawford, 40, and Zoe Cruz, 50, head of Morgan Stanley's fixed-income department. Cruz and Crawford were named directors on April 4.

The board's remaining six directors are: Edward A. Brennan, 71, who was chairman and CEO of Sears, Roebuck & Co., when Purcell ran its Dean Witter unit; C. Robert Kidder, former CEO of Duracell International Inc.; Forstmann Little & Co. partner Michael A. Miles, 65; Deutsche Post AG Chairman Klaus Zumwinkel, 61; former Tribune Co. Chairman John W. Madigan, 67; and London Business School Dean Laura D'Andrea Tyson, 57.

The board reaffirmed that directors can't stand for re- election after turning 72. That means a new director will take Brennan's place in addition to the two new board members.

Morgan Stanley said its nominating and governance committee is already searching for the two additional directors, who will be appointed from outside the firm. The board expects to fill the lead director role ``shortly,'' it said in the statement.

Morgan Stanley spokesman Raymond O'Rourke said the planned appointment of a lead director doesn't alter Purcell's role as chairman.

Also during yesterday's meeting the board decided that starting in June it will begin rotating committee chairs.

To contact the reporter on this story: Margaret Popper in New York at mpopper1@bloomberg.net.

Last Updated: May 2, 2005 12:26 EDT