Morals and the takeover code do not always mix 20110925


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Morals and the takeover code do not always mix 20110925

  1. 1. Hugo Mendes DomingosMorals and the takeover codedo not always mixCMVM, the Portuguese equity market regulator, has recently opened apublic consultation period (which is now over) for proposed changes to thetakeover code. At present, the code allows the use of so-called defensivemeasures during takeovers. In practice, if an acquirer launches a takeoveroffer for a company quoted on Euronext Lisbon without the prior approval orthe company’s core shareholders, chances are that the offer will not besuccessful. Most quoted companies are controlled either by families or coreshareholders, whose rights are protected by shareholder agreements andother locking mechanisms.The proposal, in short, consists in removing voting rights limitations anddefence mechanisms.It is safe to say that, in larger European exchanges and in the US,shareholders rights are respected. Take the UK as an example: if a foreignor UK investor, be it a corporate or an investment fund, decides to launch acredible takeover offer for a company listed on the London Stock Exchange,offers a suitable premium and convinces more than 75% of shareholders toaccept the offer, it will achieve control over the target. It is as simple (andpowerful) as that.In Portugal, if an investor launches a public takeover without gaining priorapproval from core shareholders, the target’s Board will likely block theoffer before it even gets to a stage where other shareholders can vote onit.Also consider the following facts:  So far, no one has found a way to convince core shareholders to let go of their control rights over quoted companies.  It is widely accepted that most Portuguese quoted companies would be taken over by larger, foreign competitors, if such shareholders did not exist.  Most Portuguese consider that, if foreign competitors acquired the leading Portuguese quoted companies, this would be a disgrace. International investors (investment funds, pension funds) already own the majority of shares of those companies, which makes it hard to understand this belief. Yet most politicians appear to share this view.  A large number of investors buy equities purely for financial purposes. These investors will usually hold on to a stock for less than a year. Large volumes of equities are also traded as part of derivatives trades.19-09-2011 1
  2. 2. Hugo Mendes Domingos  The State and the State-owned bank, Caixa Geral de Depósitos, are under increased pressure to sell non-core assets in order to reduce the public deficit.  A number of companies quoted on Euronext Lisbon are former State-owned companies that were privatised during the 90s.I went through the regulator’s consultation document and what caught myattention was the emphasis on principles and moral values. At a certainstage, the regulator attempts to justify the reason why changes to the codeare necessary. Reference is made to principles including "shareholdersovereign rights" and "the proportional rule" according to which "capital andvoting rights should be proportional", as if those principles were part ofsome sort of universal declaration.Why is it so hard to recognise the following?  The State, directly or indirectly, contributed to create a system in which most quoted companies are controlled by Portuguese core shareholders.  Some (but not all) of these shareholders depend on the State or State-owned banks for financing. In other cases, the acquisition of the shares was partly debt financed and shareholders will need to reduce their leverage in the short term.The Status Quo is no longer sustainable and the takeover code simply needsto be amended in order to reflect the new reality. Why call on principles,moral values or use emotionally charged words to justify these changes? Aswith most policy decisions which result from the financial crisis, this one ispragmatic and owes little to principles.Still, the proposed changes are a step in the right direction. The regulatorhad to refer to some principles in order to justify this initiative, which is fineby me.I can understand the reasons why a number of people would oppose thesechanges – as well as why others will back the reform. One side will defendthat the budget needs to be balanced and that the country needs to attractforeign investors. Others will defend the need to preserve the independenceof quoted companies and fend off attacks from larger internationalcompetitors. The positions of the protagonists will depend on their politicalallegiances and professional interests.My view is that the benefits of change are far greater than thedisadvantages. Advantages would include improved efficiency: while quotedcompanies will be more vulnerable to being taken over by largercompetitors, this could result in improved management practices asmanagement teams develop competitive advantages in order to retain theirindependence. Another benefit could be improved access to equity markets,which is crucial at this stage when companies need to deleverage.19-09-2011 2