Magazine article Ideas on Liberty

The Logic and Morality of Takeovers

Magazine article Ideas on Liberty

The Logic and Morality of Takeovers

Article excerpt

Of all the features of the market, the takeover process is still the most reviled. Assailed by moralists for encouraging greed and antisocial individualism and for breaking up stable communities; by some economists for its alleged short-termism, irrational stockmarket speculation, and the loading of companies with debt; and by politicians who, while anxious not to appear opposed to capitalism, are eager to make political capital out of any slightly disreputable feature. Look at Germany and Japan, they say. Those economies rarely use takeovers, and they are doing pretty well, though the use of the present tense in both substantive parts of that sentence might well be questioned. The language used to describe takeovers is emotivethose who bring about necessary corporate restructuring are called predators and raiders, as if they belonged either to the jungle or the criminal class.

But it is easy to show that they are doing something which is intrinsically part of the market economy's search for efficiency and that it is quite consistent with the high standards of the morality of the market, for example, ensuring that fiduciary duties to owners are fulfilled, something that is not a striking feature of the German or Japanese market systems. The takeover phenomenon has developed its own exotic language-poison pills, golden parachutes, greenmail, and junk bonds are good examples. All sound slightly sinister and are things that respectable capitalism apparently could do without.

Why Takeovers?

Takeovers arise out of something endemic to the market system-the agency problem. In a publicly quoted company, characterized by the separation between ownership and control, how can the dispersed stockholders protect themselves against opportunism from the management? Will the latter not be tempted to spend company assets on themselves, their personal ambitions (often dressed up as morality), and empire-building, rather than paying the highest feasible dividends to stockholders? Adam Smith was aware of the problem and had a well-known hostility to the joint stock company. He preferred ownermanaged enterprises. Indeed, America in the 1960s and 1970s experienced a version of economically mistaken and morally reprehensible takeovers. Cash-rich companies did not return money to the stockholders but embarked on counterproductive takeoversthe creation of unwieldy conglomerates that contributed only to the well-being of the managements.1 It was the legendary corporate raider T Boone Pickens, who, in an Israel Kirzner-like manner, noticed that the oil companies were not extracting the full value of the reserves but instead were embarking on quite unnecessary research, exploration, and expansionism. He therefore pioneered the economically productive strategy of taking them over and then breaking them up-spinning off unwanted parts and working the viable parts more efficiently. The fears of the left, that takeovers always lead to the swallowing up of small companies and the concentration of industry are groundless. The efficient ones do the reverse and lead to the survival of lean and economical companies.

The takeover process is part of a normal market system-it is the market for corporate control.2 Those who succeed in this market have, in effect, secured the best use of managerial talent. Without all this, the modern company really would produce industrial "princes" over whom the dispersed stockholders would have no control. It might be that other economies, perhaps those that rely on trust rather contract, can induce good behavior in other ways, but as economies become more anonymous they have to resort to this method. It has never been without its critics. Surely, the immense costs involved through the payment of lawyers and financial intermediaries can be avoided? Will not the emphasis on the takeover method induce managers, through fear of losing their jobs, to concentrate more on the share price than on longterm research and development? …

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