Lesson of September 2006
MERGERS & ACQUISITIONS
Coles Myer, one of Australia’s
biggest companies, has been subjected to a takeover offer by an
international consortium, led by leading New York investment bankers,
Kohlberg Kravis Roberts & Company [“KKR”].
KKR has been behind a number of major corporate takeovers in
recent times, including, in 1989, the then biggest corporate takeover in
history, that of the food and tobacco company R J R Nabisco, for US $
Subject to conditions, the offer
is $14.50 per share for what was recently valued by the market at
$10.60. In approximate
gross terms this amounts to an offer of $17.5 billion as opposed to a
market valuation of $13 billion. Based
on the cost of raising the necessary funds and other expenses and the
anticipated return it aspires to earn, it would appear that the
consortium would expect a share price of $22 in 3 years.
The offer has raised yet again questions as to the desirability
or otherwise of market corporate takeovers.
In 1932, two Americans, Adolph
Berle and Gardiner Means published a very influential book “ The
Modern Corporation and Private Property”.
In it they propounded what became known as the Berle-Means
thesis; large major corporations were no longer controlled by their
owners, the shareholders, since typically shareholdings were too diffuse
and small for any one shareholder or group of shareholders to do so.
Rather large modern corporations were controlled, and largely run
for the benefit of the executives and managers, who did not necessarily
seek to maximise the returns to shareholders, but rather to themselves. It was seen as a situation of strong managers and weak
owners. More importantly it
threw into question the neo-classical economic theory of the superior
efficiency of private property.
Partly in reliance on the Berle-Means
thesis, socialist economists such as J K Galbraith suggested that the
role of major corporations was not to serve for the benefit of the
shareholders but rather for the benefit of the public generally.
In effect it was a justification for a Clayton’s
nationalization, to be effected by regulation and taxation. If the
technocratic managers were not running the business for the
shareholders, but rather for themselves, then Galbraith thought it was
better that they should be required to run it for the benefit of the
In 1965, Henry Manne, an
American law professor, pointed out in a seminal article, “Mergers and
the Market for Corporate Control”, that the seeming unrestricted power
of executives and managers was in fact controlled by the stock market;
if management did not perform well, the price of the relevant share
would fall, making it easier and more attractive for a merger or
takeover to occur and for the management to be replaced.
If an existing corporation
wishes to expand it can do so by creating and producing new productive
assets. Alternatively it
can determine that it can do so more cheaply or more profitably by
purchasing already existing assets.
This is particularly so if the existing assets are not being well
managed or utilised to their best advantage.
A functional and efficient stock exchange enables this to occur.
The tendency is thus for assets constantly to be moved towards
their highest valued uses. Ultimately
this is of benefit to society generally.
Established management and
corporate structures tend to dislike smooth flowing takeover processes
since it places them under constant pressure to perform. They criticise much takeover activity as mere paper shuffling
or managerial empire building, often at the expense of workers and
established environments, and they seek to restrict takeovers by
government controls and judicial interference.
In the 1980’s, takeover
activity worldwide increased significantly.
It coincided with a number of financing innovations.
Previously takeovers had tended to involve proxy fights with the
disputing parties seeking to garner the support of a sufficient number
of existing shareholders. The
1980’s saw the introduction of the leveraged buy-out.
In America, takeover specialists like Michael Milken and Ivan
Boesky caused huge sums to be raised to buy out existing shareholders.
Typically this was done by issuing high yield bonds, dubbed junk
bonds by critics of the process. It
is said that at his peak in 1987 Milken was earning US $ 550 million
commission per year.
The increase in merger and
takeover activity associated with the 1980’s resulted in considerable
criticism, much of it severe. It
was dubbed the “Decade of Greed” and led to one of cinema’s
defining scenes in Oliver Stone’s film “Wall Street”, when Gordon
Gecko, played by Michael Douglas, declares that ‘greed is good’.
It also tended to create a coalition of powerful opponents such
as the existing executive elites, some of the more powerful unions,
whose own practices were threatened by corporate changes, and the banks
and established bond traders, whose dominant intermediary role in the
provision of finance was challenged by the direct floating of high risk,
high return, so-called ‘junk’ bonds on the market.
A number of best selling books
appeared commenting on the era including “Barbarians at the Gates”
by Burrough and Helyar [dealing particularly with the RJR Nabisco
takeover], and Stewart’s “Den of Thieves”.
Colourful phrases such as ‘corporate raider’ and ‘hostile
takeover’ entered the language. It is interesting to note that a
number of recent Australian newspaper reports referring to the takeover
offer for Coles Myer have resurrected the use of the word
‘barbarians’. In the
upshot it ended rather badly with Milken and Boesky both going to jail.
Takeovers and mergers remain a
controversial subject. Milken
and Boesky continue to have their supporters, who see them as more
sinned upon than sinners. The
particular viewpoint tends to depend on the outlook of those concerned,
with the market orientated and the Liberal on the one hand and the
conservative and Socialist on the other.
Perhaps more importantly, as the Coles Myer situation
demonstrates, takeovers and mergers, although perhaps more restricted
than previously, continue to play a major part in Western economies
As usual, the Coles Myer
takeover is likely to generate a considerable amount of nonsense,
typically from vested interests. If
it makes economic sense, and it seems to, it is likely to go ahead, if
not for $14.50 per share then perhaps at $16-17.
If rearranging the assets increases the returns, and some very
experienced people are betting a lot of their money that it will, then
overall it is likely to benefit the community generally; more profits,
more employment, more opportunity, more taxes paid to government and
David SharpSeptember 2006