OECD Russia Corporate Governance Roundtable
Moscow, 25–26 November 2012
The Law and Economics
of Takeovers
Prof Alessio M Pacces, PhD
Erasmus School of Law
Research Associate, ECGI
Co-sponsored by
Informational partner
OECD Russia Corporate Governance Roundtable
Moscow, 25–26 November 2012
Disclaimer: The views expressed in
this presentation are those of the
author and do not necessarily
represent the opinion of the OECD
Russia Corporate Governance
Roundtable, the OECD or its Member
countries, or of the Moscow
Exchange.
Co-sponsored by
Informational partner
Outline
1. What do takeovers do?
2. Freestanding vs. controlled companies
3. The trade-off between investor protection and the
market for corporate control
4. The key takeover rules:
• Who decides
• Exit rights
• Compulsory acquisition
5. Conclusion
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What do takeovers do?
a. Takeovers can be good or bad
 good takeovers create / uncover extra value
 bad takeovers destroy existing value
 takeover activity allocate firm resources to the entrepreneur willing
to pay the most for them
b. Companies can be contestable / non-contestable
 contestable companies can be acquired directly from SHLs
(hostile takeovers)
 takeovers of contestable companies need not be formally hostile
 takeovers of non-contestable companies need the consent of
controlling shareholder
c. Takeover threat matters too
 ∆ benefits: management more disciplined
 ∆ costs: management more short-termist, less innovative
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Takeover wealth effects (only SHL value)
Value-increasing
Value-decreasing
Incumbent management:
Acquirer’s management:
① is incompetent / lazy
① seeks to build an empire
② is dishonest
③ lacks vision / innovation
② wants to loot the
company
④ is wrong
③ is wrong
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Takeover of freestanding companies
- Acquirer’s gains fundamentally drive takeovers
- Is the SHL decision to accept the bid reliable?
- Dispersed SHLs cannot coordinate
(less problematic if ownership is concentrated)
• Free-riding: makes value-increasing takeover fail
• Pressure to tender: makes value-decreasing takeover
succeed
- There are remedies:
o Against free-riding: toehold; squeeze-out
o Against pressure to tender: bidding competition;
bid reopening; sell-out
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Board Veto vs Board Neutrality
- If SHL choice is potentially distorted, can boards help?
- Boards know better?  Board Veto
- However, management is self-interested…
- … and management can be wrong too!
- Board Neutrality still protects SHLs (board can promote
competition) as opposed to Passivity (board can do nothing)
- … but less mgt opportunism than Board Veto
- Note 1: bidding competition benefits target shareholders, but
reduces takeover probability ex-ante
- Note 2: the problems with Board Veto can be tempered by
severance payments
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Trade-off investor protection (ex-ante) / control
allocation (ex-post)
- Protection of target SHLs = takeover restriction
- Examples include:
o Ownership disclosure
o Regulation of pre-bid purchases
o Regulation of bid structure (e.g. MBR)
- Less investor protection, less redistribution from
acquirers, takeovers more likely
( benefits investors as a whole)
- Requires a floor on investor protection
(commitment to no expropriation must be credible)
- Forget about this if there is market manipulation
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Takeovers of controlled companies
- Question who decides not so interesting
- Gains to acquirer > [ share value + PBC of seller]
- Some value increasing takeovers fail to occur
o Acquirers’  gains insufficient to compensate incumbent’s PBC
(ctrl premium), whether psychic or pecuniary
- Some value-decreasing takeovers occur
o Control changes hand because the acquirer will extract PBC >
ctrl premium from minority SHLs
- Need the behaviour of controlling shareholders be
regulated?
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The Mandatory Bid Rule
- The MBR forces acquirer to make a bid to minority SHLs
- Bid price regulated on equal treatment basis
(ctrl premium must be shared)
- MBR rules out value-decreasing takeovers
(can’t subsidize inefficient acquisition from minority SHLs)
- MBR makes value-increasing takeovers more unlikely
(ctrl premium must be paid also to minority SHLs)
- Both effects are tempered if MBR is tempered /
circumvented
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Again the trade-off ex-ante/ex-post
• MBR in controlled companies prevents expropriation
from increasing
• MBR neither stops ongoing expropriation (cash flow) nor
prevents dilution (equity) / tunnelling (assets)
• Tunnelling is better countered by regulation of selfdealing
• MBR is a second best to curb expropriation
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The other (EU) takeover rules
Breakthrough Rule (BTR)
-
Seeks to reintroduce 1S1V in a takeover contest (ex-post)
Overlooks that founders already paid for deviation from 1S1V
Ex-ante 1S1V regulations may promote stock markets where investor
protection is low
Squeeze-out
-
A simple, elegant solution to free-riding
Requires that value-decreasing acquisitions be ruled out
If that is the case, threshold can be below 90%
Sell-out
-
Solves pressure to tender at lower cost than MBR
It is not effective at thresholds above 50%
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Does investor protection need takeover restriction?
 It depends
 Need to fix investor protection / credible enforcement
first
 Commitment not to steal credible
 Then perhaps rules can be fitted to individual companies
(sometimes opt out of protective rules)
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Conclusion
 A vibrant market for corporate control can allocate
production resources to the best available entrepreneur
 Overprotective takeover rules reduce takeover activity
 However, if investors are not protected from
expropriation in the first place, takeovers allocate control
to the best ‘thief’
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