Where have all the hostile takeovers gone?

As of early last year it seems to have
vanished. In the 1990s I have been able to locate only few transactions that seemed to have all the paraphernalia associated with the hostile takeover battles of the 1980s.
I believe that of the huge amount of merger activity that’s gone on in the US recently, well over 90 percent by value has been by voluntary acquisition.
How should we construe this?

Against the trend
One could suggest that the anti-takeover legislation in the US has made it so difficult to mount hostile takeovers that the incentives have been eliminated and as result everybody has suffered real decline in shareholder value.
But one argument against this is that the US has had booming stock market in the 1990s which seems inconsistent with the idea of diminution in value.
An answer may be that many companies are better managed but some are not.
To see the effect of the rules we should not look at aggregates; we should segment the market into different kinds of companies and do some empirical research into whether the laggards have been protected against takeovers.

Takeovers as quality control
The alternative explanation is that take-overs are costly way of monitoring the quality of sitting management.
The idea of discipline by threat of takeover presupposes that owners are essentially passive, given the separation of ownership from control that characterises the modern company.
There seems to be some evidence in the United States that this is no longer the norm and that other monitoring practices have come into play, precisely because the takeover bids showed owners just how serious the problem of incompetent management was.

Investor scrutiny
One piece of evidence that points in that direction is the apparent transformation in the role of institutional investors putting large sums of money every month in the stock market. Their holdings in large companies motivates them to engage in serious monitoring.
The 1980s’ attitude was that organisations such as pension funds were simply passive and would not pass judgement on the way in which companies operate. Instead they would just increase or reduce their exposures.
Today the attitude is different.
These types of organisations are investing the savings of lot of people, they are fiduciaries to their shareholders and pension holders and they watch company performance much more closely.
With greater monitoring by institutional investors, one would predict that even with unrestrictive takeover rules there would be fewer takeovers because of incompetence than before.

Exploiting synergies
If in fact management is better than it was before, you would expect to see mergers taking place not to throw the incompetents out, to break up the company to liquidate its pieces, but rather to exploit genuine synergies which are understood by the acquired company every bit as much as by the acquirer.
Those companies wanting to preserve the synergies and acquire the management team have, moreover, no incentive to drive them away by hostile takeover with golden parachute
So the verdict is unclear but I think it’s at least plausible to say that one of the real benefits of the 1980s’ orgy in hostile takeovers is that it exposed the soft underbelly of business. Once it was exposed the mere general threat of takeover was enough to help reconstitute business in ways that reduced the level of incompetence and changed the internal monitoring structures so that the market for take-overs became somewhat less active, notwithstanding that the rules on takeovers remained relatively unchanged.

The ideal takeover
The larger question facing us, is what’s the ideal takeover regime?
I suggest it’s possible to come up with positive but not exclusive answer.
When looking at corporate takeovers, control transactions and the like, the important thing is not to be fooled by the apparent similarities of transactions.
The fact that large companies are often complex and have different patterns of shareholding, as well as the differences between asset structures, how control blocks work, who the management is, how much knowledge the minority shareholders have and so forth, means there are sharper differences from case to case.
That being so, uniform rules of the one-size-fits-all kind aren’t going to work well.
You need system that allows for individuation, and that in turn requires freedom of contract. The best way to achieve this is through company constitutions and the listing rules of the stock exchange, which should also allow for changes from one regime to another by some form of super majority vote.
This deals with the externality problems without interfering with the operation of the market for takeovers as whole.
Transactions in private shares, even transactions in control blocks, don’t have any of the coordination problems associated with prisoner’s dilemma situations, defections, counterbids and so on.

Shareholder choice
So for those purposes I think the New Zealand regime that allows shareholder choice is the optimal approach, although it could be extended to allow companies not to have any rules at all.
Small shareholders who seek greater ‘protection’ can invest in companies that opt for restrictive regimes.
If at the time of an original issue shareholders decide they wish to split the premium when control block is sold, they should be free to adopt such rule, but the likelihood that they will do so is low. That being the case my default rule would take an unrestricted form.
Richard Epstein is Professor of Law at the University of Chicago, and since 1991 has been an editor of the Journal of Law and Economics. This text comes from seminar with the NZ Business Roundtable 1999.
Editorial for the corporate governance series is independently supplied by Management magazine and sponsored by QBE Insurance.

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