Week 7 - Takeovers and Market for Corporate Control

Question 1

In the market for corporate control, what leads to too many/ too few takeovers?

Answer 1

Too many takeovers - Private benefits at the expense of other stakeholders

Too few takeovers - Free - Rider problem

Question 2

What are the incentives for takeovers to take place?

Answer 2

• Synergy gains
• Market Power
• Correcting Managerial Failure
• Unsued Tax Shields
• Restructuring due to changed business environment

Question 3

What are the economics Consequences of takeovers?

Answer 3

• Value Creation vs Value Destruction

Question 4

Merger Definition

Answer 4

Two firms get together to combine their businesses to form a new firm
- In the US, merger requires the approval of both firm’s shareholders
- Merger typically refers to friendly negotiations among ‘equals’

Question 5

Takeover Definition

Answer 5

Acquiring firm takes over the target firm
- Board and management of target firm may agree (friendly takeover), or may not (hostile takeover)
-Example - Elon Musk taking over Twitter (hostile takeover)

Question 6

Tender Offer Definition

Answer 6

Acquiring firm makes offer directly to target shareholders to sell (tender) their shares at a specified price
- This is the most common way for takeovers to happen
- Acquiring firm may offer cash or securities (or a mixture of the two) in exchange for target shares

Question 7

US Merger Waves

Answer 7

M&A activity typically clusters in time (merger waves), coinciding with sustained periods of growth and changes in business environment due to technological innovation or regulatory change.

Question 8

1895-1904 Merger Wave

Answer 8

• Horizontal mergers leading to high concentration in heavy manufacturing industries
• Wave followed major changes in production technologies and infrastructure

Question 9

1922-1929 Merger Wave

Answer 9

• Vertical Mergers in fragmented industries such as banking, food processing and chemicals
• Wave followed major developments in transportation and merchandising
• Ended with economic slowdown in 1929

Question 10

1960s Merger Wave

Answer 10

• Conglomerate Mergers
• Firms acquired firms to diversify their operations as a means to mitigate demand fluctuations or share organisational know-how
• Number of deals declined sharply in 1969 when general economic activity slowed down

Question 11

1981-1989 Merger Wave

Answer 11

• Emergence of hostile takeovers
• Large transactions and bust-up takeovers, undoing the 1960s conglomerates
• Increased sophistication of takeover strategies eg. Highly leveraged transactions (MBOs/LBOs)
• Large-sized takeoevers facilitated by financial innovations such as junk bonds

Question 12

1992-2000

Answer 12

• Even larger volume of M&A activity
• Strategic mergers due to technological changes that affected many industries, notably internet and telecommunication industries
• Surge in M&A transaction during long economic boom period that ended with stock market collapse in 2000

Question 13

What is the problem concerning the separation of ownership and control?

Answer 13

• Owners (Shareholders) delegate the running of the firm to an agent (professional manager)
• The delegation of control creates the risk that the manager does not run the firm in the shareholder’s best interests
• Problem is magnified when ownership is dispersed among small shareholders
• Monitoring management is a public good for shareholders - This is because monitoring managers improves firm performance, benefitting all shareholders

Question 14

What is the problem concerning monitoring shareholders

Answer 14

Monitoring managers is costly - Therefore each shareholder leaves it to other, not incurring the cost. This results in under-monitoring or no monitoring

Question 15

How does manager discretion affect shareholder value

Answer 15

manager may use acquired firm as a supplier for the primary firm, thus running the secondary firm in a suboptimal manner and not beneffiting the shareholders.

• Other examples of private benefits: Empire building, entrenchment activities, perk consumption

Question 16

How can Private benefits lead to too many takeovers

Answer 16

• Exogenous Private Benefits: Not at the expense of other stakeholders
  Eg. Prestige, social status

Endogenous Private benefits - Raider can extract some private benefits at the expense of other stakeholders - takeovers may happen even though they destroy value

Question 17

Economic Effects of Takeovers

Answer 17

Case A - Raider lays off workers who find work at same wages immediately - Takeover clearly beneficial as resources allocated to more productive use
Case B - Raider Lays off workers - remaining workers accept 30% cut and laid off workers find work at 50% wage cut - Shareholders gain is offset by losses incurred by the workers - redistributional
Case C - Shareholder gain is less than loss incurred by workers and local communities - society worse off

Question 18

Implication of economic consequences

Answer 18

Increase in share value does not measure or demonstrate the social benefit of takeovers