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FINS 5526

International Corporate Governance

Emma Jincheng Zhang
School of Banking & Finance

Session 1, 2017
FINS 3626
International Corporate Governance

Week 9
Market for Corporate Control (Takeover Threat)
Market for Corporate Control

Introduce some basics regarding the takeover process;

Discuss why (the threat of) takeover serves as a
monitoring / governance mechanism;
Introduce some basics about anti-takeover defense
provisions (ATPs);
Examples concerning takeovers and ATPs;
Empirical findings regarding the benefits of strong
shareholder rights (i.e. low ATPs);

Acquisition to GDP ratio (1968-1998)

Corporate governance and merger activity in the US: Making sense of the 1980s and 1990s , Holmstrom and Kaplan
Journal of Economic Perspective

Acquisition to total market capitalization

Corporate governance and merger activity in the US: Making sense of the 1980s and 1990s , Holmstrom and Kaplan
Journal of Economic Perspective

Contested tender offers as % of total tender offers

Corporate governance and merger activity in the US: Making sense of the 1980s and 1990s , Holmstrom and Kaplan
Journal of Economic Perspective

Trends in takeovers in the US

1. In 1970s, takeover market was very quiet

2. There was a takeover wave in 1980s
3. Takeover slowed down around 1990
4. Takeover was again upswing since 1992 and strong throughout
1990s afterward
5. Hostile takeovers were prevalent in 1980s, but rapidly declined
in 1990s

Mergers & Acquisitions: Some Basic Definitions
Merger (of equals): the union of two companies under single
ownership, through the direct acquisition by one company of the assets
and liabilities of the other; typically friendly.
Acquisition / Takeover: the purchase of one company (target) by another
company (acquirer / bidder), with the latter becomes the new owner of
the combined new entity; can be friendly or hostile.
Tender offer: one type of hostile takeover, which involves the bidder
soliciting share purchase intentions directed at shareholder of the target.
Leveraged buyout (LBO): purchase of a company (target) by an investor
(or, a group of investors), where the deal relies heavily on the use of
financial leverage (borrowing) and the company is typically taken private;
often involves existing management team.

Takeovers in 1980s

1. Takeover booms in 1980s had the following two stylized facts:

Acquirers are highly levered
Hostile takeovers are prevalent
2. The use of leverage in takeover is also related to the development in
junk bond (non-investment grade bond) market in 1980s
3. Almost half of all major US firms received hostile takeover bids in
1980s (Mitchell and Mulherin, 1996)
4. This coincided with the change in managerial climate in 1980s
Before 1980s, the concept of corporate governance is vague
During 1980s, firms start to focus on the issues of managerial agency problems

Junk bond volume offers as % of total market cap

Corporate governance and merger activity in the US: Making sense of the 1980s and 1990s , Holmstrom and Kaplan
Journal of Economic Perspective

The demise of LBO in the late 1980s

1. In the late 1980s, the profitability of LBO significantly decreased

The shareholders of target firms required higher price, after they observed
the effect of previous LBOs
Default of LBO firms increased due to the higher cost of buying shares
2. Some states enacted anti-takeover law which helped management
defend takeover threats
3. Credit crunch: junk bond market collapsed
4. Internal governance mechanisms such as executive compensation and
board of directors replace the governance role of takeover

Gains from LBO

1. Many studies reported that the firm performance improved after LBO
Kaplan (1989): cash flows increased by 20% during 1980-86
Muscarella and Vetsuypens (1990): increased by 23.5% during 1976-87
2. The gains from LBO tend to decrease in the late 1980s
Opler (1993): cash flows increased by 8.8% in 1986-89
Kaplan and Stein (1993): relative to LBOs initiated in the early 1980s, the
initiated in the late 1980s are more likely to default
3. Is the performance improvement of LBO firms evidence of managerial
disciplinary effect of LBO?
There is strong evidence of productivity gains from LBO
Alternatively, it may be the evidence that the investment group selects
the target firms that have promising business

Market for Corporate Control
The problem of entrenched managers:
Managers have a natural desire to protect their jobs and private
benefits derived from running their companies;
Managers can set up barriers against outsiders actions by:
Executive power (e.g. influence on the board) and anti-takeover
defense tactics
Important governance mechanisms to challenge
excessive managerial control:
Boards and shareholders
Proxy contests
Product market competition & takeover threat

Market for Corporate Control (cont.)

Active market for corporate control:

An external corporate governance mechanism;
A deterrence against managers self-serving behavior;
A method to dislodge entrenched managers.

Takeover Process

Searching for a takeover target;

Establishing a toehold;
The buyer needs to disclose its stockholding in the target
company and its intention for takeover.
Pre-offer negotiation (casual pass and bear hugs);
In a friendly acquisition, buyer directly contacts the targets
board of directors, sometimes stating a potential hostile tender
offer should the friendly acquisition be turned down .
Hostile tender offer, if friendly negotiation fails.
Due diligence enquiries (not explicit in the case of
hostile bids);

Example: Bear Hug

AIG (bidder) vs. American General (target), in April 2001

AIGs letter to American General:

We are submitting an alternative for a combination of
American General with AIG. We would like to begin
discussions with you and your board to reach a satisfactory
You can be assured that we will do everything in our power
to see this transaction through to completion

Takeover Process (Cont.)

Announcing the offer;

Offer price & the form of payment: cash vs. stocks;
The target company prepares the response;
Releasing the response;
Independent expert (valuation) reports;
Implementing or invoking takeover defense mechanisms.
Bidder tries to rally target firms shareholders to accept
the offer;
Once control is won by the bidder, restructuring occurs.

Takeover Process (Cont.)

Parties involved in a takeover:

Bidder(s) vs. Target
Investment bankers
Legal advisors
Information agents, depository banks, forwarding agents, etc.
Regulators, if needed to

Takeovers in Australia

Regulatory Background Corporations Act:

Takeovers should take place in an efficient, competitive
and informed market;
Stockholders and directors of the target company should:
(a) know the identity of any bidder who proposes to
acquire a substantial interest in the target firm; (b) have
reasonable time to consider the offer; and (c) are given
enough information to assess the merits of the offer;
Target firms shareholders should have a reasonable and
equal opportunity to participate in any benefits flowing
from the offer.

Key Regulatory Bodies
Supervises the operation of companies and securities laws
including takeover law;
Review documents issued by parties involved in a
Monitors compliance with takeover law;
The Takeover Panel:
The principal forum for resolving disputes relating to a
takeover during a bid;
May get involved in a takeover if the acquisition would
substantially lessen competition;

Key Regulatory Bodies (cont.)

May get involved in a takeover if it is concerned that its
rules are not being complied with by the parties involved
in the takeover;
Review documents and provide timely information;
May get involved if an acquirer is foreign and, in certain
cases, the proposed takeovers must also be approved by
the Treasury on the advice of the FIRB.

Key Regulatory Bodies: Some Examples

In April 2013, ACCC approved the acquisition of Tiger
Airways by Virgin Australia;

FIRB and Takeover Panel:

In March 2007, FIRB cleared the way for a potential
takeover of Qantas by a Macquarie Bank-led private equity
consortium (Airline Partners Australia);
In May 2007, the APA takeover attempt was effectively
blocked by Takeover Panel.

Common Methods in Australia
The most common ways of acquiring an interest in more
than 20% of the voting shares in a listed target company in
Off-market bid;
On-market bid;
A court approved scheme of arrangements.
Off-market bid;
A bid makes identical offers to all shareholders of the target
Quite often are made conditional upon the satisfaction of a
number of conditions, such as reaching a minimum level of
acceptance (50.1%, or 90%).

Common Methods in Australia (cont.)
On-market bid:
Shares of target firm are acquired through the ASX, rather
than through off-market acceptance;
Must be cash-only and unconditional;
All regulatory approvals must be obtained prior to
Scheme of arrangement;
A formal merger implementation agreement (MIA) setting out
the terms upon which a scheme will be proposed to target
firms shareholders and supported by target firms directors;
A popular means of effecting friendly mergers and
acquisitions in Australia.

Off-market Bid: An Indicative Timeline

Source: King & Wood Mallesons Law Firm

Hostile Takeovers

Characteristics of a hostile takeover:

Often in the form of a tender offer to target firms shareholders,
should the friendly negotiation fails;
Targets incumbent management (& board) not consulted and /or
compensated; and the offer is not supported by targets
incumbent management and/or the board;
Can be a partial acquisition in which only a proportion necessary
to acquire absolute control is sought;
Generally results in a change of control and of management, once
successful, and substantial restructuring often occurs at the
completion of a successful takeover.

Hostile Takeovers (cont.)

Tender Offer (TO):

Full offer, or partial offer, or two-tiered offer;
Could be combined with a proxy contest;
Market sweep: terminate the TO first, and then immediately
purchase large % equity stake in the target.

Purchase target firms shares on the open market or

accumulate shares quickly through arbitragers.

Some Australian Takeover Examples

AMPs takeover of GIO Australia;

Lion Nathans bid for Coopers Brewery;

AGL and Alinta bidding for each other;

Primary Healthcares takeover of Symbion Health;

In Australia, however, hostile bids are not very common.

Example: AMP vs. GIO

GIO Australia suffered a string of bad results;
AMP was pursuing an aggressive expansion

The AMPs takeover offer:

Intentionally made hostile;
Initial price $4.70 rejected by the board;
Offer price increased to $5.35, reflecting a total
value of $3.3 billion;

Example: AMP vs. GIO

GIOs defense:
The offer was again rejected;
Forecasted a profit of $90 mil (for 1998-1999);
Independent expert report by Grant Samuel &
Associates claimed that GIO offer was under-
valued (the report was paid for by GIOs board);
GIO used a 35 cent special dividend (capital
return) to persuade their shareholders.

Example: AMP vs. GIO
The fight:
AMP could only obtain 57%, but still majority;
GIOs board was forced out;
Integration costs were $140 mil;
GIOs 1998 results were in fact a loss of $759 mil;
AMP launched a mop-up bid to buy the remaining 43% at $2.75
per share;
Two GIO independent directors finally recommend shareholders
to accept AMPs second offer.

Example: AMP vs. GIO
The aftermath:
Shareholders who rejected AMP offer lost half of their money;
GIO recorded $1.2 billion loss in 1999;
Class-action lawsuit against GIOs board members;
AMP sold GIO to Suncorp-Metway for $1.6 billion in early 2001.
The proceed was then used for AMPs UK expansion

Example: Primary vs. Symbion

First takeover attempt by Primary:

On 30/Jan/2007, shares in pathology firm
Symbion Health Ltd. rose 9%, after rival firm
Primary Health Care Ltd. took a 5.25% stake
and said it had made a "confidential proposal" to
The offer was quickly rejected by Symbion,
arguing that the (undisclosed) offer price was
too low;
Also, Symbion said that it was still interested in
acquiring some of Primarys pathology assets, an
offer that had been rejected by Primary in 2006.

Example: Primary vs. Symbion (cont.)

Primary blocked a rival acquisition of Symbion:

Primary increased its ownership in Symbion to just about
20% by mid-2007;
Symbion and private hospital operator Healthscope Ltd.
negotiated a friendly acquisition deal;
In September, Primary used its ownership stake to block the
deal, which did not meet the 75% approval rate.

Example: Primary vs. Symbion (cont.)

Primary took over Symbion:

Primary launched another takeover attempt of Symbion in
Nov 2007, at which time, Primary owned about 45% of
The offer was revised in early 2008, including a better price
and to lower the approval rate to 50.1% (down from 90%);
On 13/Feb/2008, Primarys offer became unconditional and
the $2.65 billion deal eventually went through;
Symbion was fully acquired, and delisted from the ASX in
May 2008.

Example: Primary vs. Symbion (cont.)

Primary sold off Symbion units:

Primary sold the Symbion consumer business unit in Jul
2008 for $560 million to the Australian arm of French drug-
maker sanofi-aventis;
Primary sold the Symbion pharmacy division in August for
$505 million to Zuellig Australian Pharmacy Services.
The sales will now allow Primary to focus on its core business
and to progress with the integration of Symbion's medical centre,
pathology and radiology businesses.

Fighting against a Hostile Takeover

Main barriers to a hostile takeover:

Existing anti-takeover provisions (ATPs), adopted by a target firm,
as defense mechanisms;
Resistance of incumbent management;
Possible resistance from employees;
Also, the hold out problem:
Shareholders can hold out to wait for competing bids or revised (higher)
Theoretically, the hold-out problem can eliminate all the potential gains to

Anti-takeover Provisions/Tactics (ATPs)

When used properly:

ATPs help ensure the target companys independence and, in
the case of an inevitable takeover, better offer price for the
target companys shareholders.

However, when used inappropriately:

ATPs make the target firms management (& directors) too
powerful and entrenched, by reducing the disciplining role of
takeover threat.

Commonly Used ATPs

Corporate Charter / Bylaw Amendments:

Supermajority requirements
Ownership Restriction
Golden Parachutes:
Termination pay to managers (and board members) in the
case of change of control
Differential Voting Rights:
Super-voting shares vs. one-share-one-vote vs. non-voting

Commonly Used ATPs (Cont.)

Staggered (classified) Boards:

A classified board is one in which directors are dividend into
separate classes;
Usually three classes, with the directors in each class serving
3-year directorship terms and only one class be elected
Staggering directors terms makes it difficult for dissidents to
use proxy contests to seize control of the target company,
because they can only elect 1/3 of directors, or for potential
bidders to get fully control of the target company quickly.

Commonly Used ATPs (Cont.)

Shareholder Rights Plan (Poison Pills):

Shares issued contingent upon a takeover to make the target
less attractive or to dilute acquirers interest;
Pills are triggered upon a takeover announcement /
disclosure of takeover intention, when certain percentage of
the targets shares has been bought by the potential acquirer;
Pills allow target firms certain shareholders (or, managers /
directors) to buy lots of shares of the target firm at
substantially discounted prices;
Pills will dilute the voting power and ownership stake of the
potential acquirer, thus making it too expensive to pursue.

Commonly Used ATPs (Cont.)

Some active defense mechanisms:

Just say No marketing;
Using external valuation reports to justify a refusal;
White knight;
Pac-Man defense;
Litigations & regulatory involvements, etc.

ATPs in Australia

ATPs are rarely adopted formally by Australian companies,

largely due to regulatory restrictions in using them:
Legislation (NSW) preventing takeover for 2 years after
Pre-emptive rights;

Example: Lion Nathan vs. Coopers

The offer
From Lion Nathan, Australias 2nd largest brewer;
Initial offer price $260, then raised to $310.
Coopers Brewery pre-existing anti-takeover
4 share classes with different voting rights with respect to
appointment of directors;
Shares largely held by Cooper family;
Pre-emptive rights regime:
Shares offered for sale must be first offered to existing
shareholders, secondly to Coopers employee super funds, thirdly
to Lion Nathan
Example: Lion Nathan vs. Coopers

Coopers active anti-takeover strategies:

The board rejected the offer;
Openly alleging that Lion Nathan has fallen into Japanese (Kirin
brewery) control;
Invoking local and community sentiments;
Raising issue of anti-competitive conduct to the ACCC;
Share buy back:
15% of capital
At $260 per share

Example: Lion Nathan vs. Coopers

Final result:
The ACCC decided not to oppose Lion Nathans acquisition
of Coopers;
At EGM shareholders vote to remove Lion Nathans pre-
emptive rights;
Majority shareholders voted against the offer.

Price Impacts of ATPs
At the announcement of an ATP adoption:
Share price declines;

After ATP adoption:

Likelihood of a takeover is reduced;
But average premium of takeover is increased.

Governance Implication of Hostile Takeovers
Large price increases on takeover announcements;
Substantial takeover premium paid to target firms shareholder;
Incumbent managers are often dislodged and post-takeover
performance of target firms improves;
Other stakeholders interests may be undermined;
Relevance to corporate governance
Deterrence against complacent and entrenched management;
Often the best way for shareholders of badly governed firms.

Governance Implication of ATPs

ATPs are often perceived as poor governance practices

limiting shareholders rights and reducing the likelihood
the chance of having another company to dislocate non-
performing executives.

Empirical evidence:
There is a significant variation in ATPs across firms;
When an index (the GIM Index), which aggregates different
ATPs, research findings show that investing in low-ATP firms
(democracy firms with stronger shareholder rights)
generates higher returns than investing in high-ATP firms
A positive correlation between the level of anti-takeover
defense and the investment (capex or acquisition).

How do we interpret the result?
Causality: Anti-takeover defense makes the
entrenched manager over-invest in unprofitable
Reverse causality: Underperforming firms are more
likely to have stronger anti-takeover defense

50 50
Role of the Target Firms Board

Duties of Loyalty and Care, towards its shareholders:

Directors need to get involved in the evaluation process of
any takeover bid offer;
Directors need to consider the economic benefits for
shareholders, rather than for themselves or management;
Directors also should evaluate, in general, the merits of
adopting ATPs. Australian law (& the ASX Listing Rules and
Takeover Panel policy) prohibit a company from adopting
ATPs once a bid has been made, unless shareholders
approval has been obtained.

Cross-border takeover in the 1990s

Cross-country determinants of merger and acquisitions, Rossi and Volpin (2004), Journal of Finance Economics

Cross-border takeover and investor

Cross-country determinants of merger and acquisitions, Rossi and Volpin (2004), Journal of Finance Economics

Cross-border hostile takeover and investor

Cross-country determinants of merger and acquisitions, Rossi and Volpin (2004), Journal of Finance Economics

Governance motive in cross-border

Cross-country determinants of merger and acquisitions, Rossi and Volpin (2004), Journal of Finance Economics

Empirical evidence
1. Cross-border takeover is more likely to occur when the country of
target firms has better investor protections
2. Cross-border hostile takeover is more likely to occur when the
country of target firms has better investor protections
3. Cross-border takeover is more likely to occur when the country of
bidder firms has better investor protection than the country of target
4. How do we interpret the results?
Bidding firms prefer the target firms operating in countries with better
Bidding firms may attempt takeover to increase the target firms value by
improving its governance

Going into the future
For next weeks lecture
Concentrated Ownership & Control