When news of Kraft Foods Inc.’s hostile bid for Cadbury Plc broke in England a couple of months back, it caused intense debate, including whether an American company should, by all rights, really be the new home of a well-known British brand that dates back to 1824.
Felicity Loudon, the granddaughter of the former Cadbury Brothers managing director Egbert Cadbury, was quoted in The Sunday Telegraph as saying that she was “particularly saddened by the possibility of one of the last remaining British icons disappearing into an American plastic cheese company”.
After giving the back of her hand to Kraft, Loudon made a plea to her fellow countrymen: “I cannot believe that something can’t be done for totally patriotic reasons.”
Let’s set aside for a moment the charged rhetoric over the merits of Cheez Whiz versus a Dairy Milk candy bar, and consider this instead as Exhibit A in the argument that maybe, just maybe, the notion of shareholder democracy isn’t all it’s cracked up to be.
First, some context. Kraft’s $16.7 billion (around Rs77,320 crore) hostile takeover bid for Cadbury, the confectionery company, is one of the largest deals of the year. If the takeover battle were happening in the US, it would most likely be a fierce fight.
And yet when I visited London two weeks ago, there wasn’t much talk of a fight at all. Indeed, most takeover experts I talked to said the deal is a fait accompli—it’s just a matter of time and the price Kraft will end up paying.
The reason is that, unlike in the US, British takeover law essentially handcuffs the board of a target company from doing anything to block a deal. No poison pills. No staggered boards. No changing the shareholder vote date. The potential for a chief executive or entrenched board to block a deal—or otherwise act in its own self-interest—is virtually nil. In other words, England is as close as any country gets to a true shareholder democracy. Any bid gets put to a vote, and all the board can do is offer an opinion.
To many people, this is how the rest of the world should work.
“I’m a majority-rules guy,” said Steven N. Kaplan, a finance professor at the Booth School of Business at the University of Chicago. “The UK system is better.”
Jeffrey A. Sonnenfeld, a professor at the Yale School of Management, also said that, in theory, the British system has much to commend it. “Economists will say it is much purer,” he said. “It creates a tremendous fluidity.”
So what’s not to like? Sonnenfeld noted an important asterisk—that this push for shareholder democracy may create a perverse incentive system so that short-term shareholders can end up determining the long-term fate of the company. So the balance of interests becomes skewed. “It raises a question about short-termism,” Sonnenfeld said.
Indeed, one parlour game in London has been to guess how much of Cadbury’s long-term shareholder base has already sold out to arbitrageurs, whose goal is to see the company sold as quickly as possible and then move on to another deal. (That’s not to say the right strategic decision isn’t for Cadbury to be sold to Kraft, though that’s the position of Cadbury’s board.)
People involved in the deal estimate that about one-third of the shares have already changed hands, moving from long-term shareholders to hedge funds. Those funds, said Joseph Grundfest, a professor at Stanford Law School, “have a long-term time horizon of about 12 minutes”.
If the board lacks power to weigh in on the deal, that also means nobody with any clout is looking out for other stakeholders, such as employees. Most mergers never live up to their hype, resulting in lower values and fewer jobs. So the question worth asking is: Shouldn’t someone be looking further into the future?
That’s been the argument of people like Martin Lipton, the takeover lawyer who invented the poison pill. He has long argued that shareholders don’t necessarily know what’s good for them, and that companies need someone looking out for their best interests. That best interest may include holding out for a higher offer, or even bringing in other bidders. As a result, he has often been branded a friend of entrenched boards. Without the first-line defence of boards, shareholders may simply jump at the first bid.
“It gives the company less negotiating leverage,” Sonnenfeld said.
That’s certainly the argument that some Cadbury insiders and bankers made to me, saying they feel helpless that their votes count for so little in this case study in shareholder democracy.
There is also very little evidence that shareholder democracy works better than directors in deal-making. A number of academic studies suggest it is a wash. There will always be exceptions to every rule. Some boards make bad calls.
“Look at the lost opportunity with Yahoo and Microsoft,” said Sonnenfeld about the decision by Yahoo Inc.’s board to originally block Microsoft Corp.’s offer, a decision that probably lost Yahoo shareholders billions.
Kaplan argues that both boards and shareholders will always make mistakes, but that when shareholders are in charge, “net-net, the shareholder wins”.
And he may have a point: While Cadbury’s fate may now be in the hands of fast-money arbitrageurs, “some long-term investor had to make the decision to sell”. And selling is in itself a vote on the long-term future of the company.
Democracy is indeed messy.
©2009/THE NEW YORK TIMES
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