Market for Corporate Control

The market for corporate control (MFCC) is a market in which one or a set of investors may attempt, and sometimes succeed, in securing management control of a firm from another set of investors through the trading of shares. This may be done, for example, by friendly or hostile takeovers by means of a tender offer, or by mergers or acquisitions negotiated by the board. It is mainly relevant for public listed corporations; shareholders in unlisted corporations often have restrictions on how they may dispose of those shares (such as a veto power by other shareholders).

The MFCC serves as an external corporate governance mechanism by ensuring that management acts to maximize shareholder value through efficient use of a corporation's resources irrespective of whether current shareholders are satisfied with management's performance. If shareholder value is not being maximized, new investors can, in theory, create value for themselves by taking control and putting in place managers who they believe can maximize shareholder value, or by one organization taking over or merging with another to create value through, for example, transfer of [Page 1334]core competencies or increased market power. Although, in general, the MFCC creates shareholder value, the evidence suggests that the shareholders of the target company often gain a larger portion of this value than the shareholders of the acquiring company.

All public corporations are subject to the MFCC, including those that are efficiently and ethically managed: It is not just a mechanism for disciplining ineffective management. As the MFCC encourages managers to do what they should already be doing, control does not have to be transferred for the mechanism to be effective: The threat of the transfer is an equally effective, and in some cases a more effective, corporate governance mechanism.

The MFCC is more effective as a corporate governance mechanism in countries where shareholdings are dispersed and there is high liquidity, such as in the United States and the United Kingdom, but generally less effective in countries where there is often a controlling shareholder, such as in Germany, or a controlling group of interconnected shareholders, such as the Japanese keiretsu. In such instances, the role of the MFCC is replaced by direct monitoring of management. Even where the Anglo-American model of corporate governance is entrenched, the MFCC may not be effective; in Kenya, for example, there has not been a single hostile takeover since the stock exchange was founded in 1954, and in 2005 the turnover ratio was only 7.9%.

There are three broad groups of ethical issues raised by the MFCC. The first group relates to the social consequences of changes of control. The MFCC effectively forces managers to maximize shareholder value even when this is at the expense of other stakeholders. For example, if a firm pays wage rates above those of its competitors, or engages in activities such as education or health care, protecting the environment above regulatory minima, or philanthropy, then it is effectively transferring value from shareholders to other stakeholders. Although this may be ethical business practice, the MFCC punishes such behavior: Those taking control of the firm do so to increase shareholder value not by creating additional value but by transferring value back to shareholders through reducing wages and cutting programs. Changes of control may also result in relocation or rationalization of operations, which may have devastating impacts on local communities. An even larger impact may result from especially Western corporations using their advantages in, for example, technology and access to cheaper financing to take control of corporations in developing countries and then expatriating profits, thereby undermining the economic development of such countries.

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