Corporate mergers and takeovers: lessons from the UK

In the light of the growing trend of mergers and takeovers in continental Europe - with a number of high-profile examples occurring in 1997-8 - this feature examines recent evidence of the effects of corporate mergers and takeovers in the UK, indicating that improved performance and job security are not a necessary outcome.

Introduction

There is currently some debate within Europe about the significance of corporate mergers and takeovers. The market for corporate control is most active in the UK where there are few institutional or legal barriers to takeover. In Britain the threat of takeover is seen as a disciplinary mechanism on management, ensuring that inefficient managers are replaced by more efficient ones. For advocates of this "Anglo-Saxon" model, therefore, the current wave of takeovers is taken as a sign of corporate health.

Elsewhere in Europe, takeovers - especially hostile ones - have been much less common. A smaller proportion of companies are quoted on the stock market, making the purchase of shares by a potential bidder more difficult. Moreover, even in firms with a stock market listing there commonly exist impediments to the takeover process, such as controlling shareholdings held by banks or the state, the rights of employee representatives to influence or even veto key decisions and the issuing of priority shares with special controlling rights.

Reports suggest, however, that takeovers in continental Europe are becoming more common. In the autumn of 1997 in France, Promodes, the supermarket chain, announced hostile takeover bids for two rival chains while the holding company Artemis also announced a hostile bid for the conglomerate Worms and Cie (see Financial Times, 30 September 1997). The sale by the previous French Government of controlling stakes in many large companies arguably removes one barrier to takeover. In Germany, mergers and acquisitions are growing in number, generating concern amongst unions that Germany could be adopting elements of the Anglo-Saxon market for corporate control. This was exemplified in workers' protests during 1997 at the merger of two steel producers Krupp-Hoesch and Thyssen (DE9804159F). In the Netherlands, shareholder pressure has led to proposals to weaken the ability of target companies to resist the advances of a hostile bidder (NL9801154F).

These developments are, of course, in their early stages and the hostile takeover remains much more common in Britain than elsewhere. Nonetheless, the limited "Anglo-Saxonisation" of continental European markets for corporate control make it apposite to review the impact takeovers have had in the UK; how are employees and trade unions affected by takeovers? This feature examines recent evidence from the UK on the impact of "merger mania" on business performance in general and employment levels in particular.

Takeovers in the UK

Advocates of an active market for corporate control argue that takeovers bring benefits to shareholders and employees alike. They do so, claim the advocates, through the correction of managerial failure; those firms which are taken over are largely those which are poor performers. The introduction of a new, more efficient managerial team brings improved performance, resulting in higher returns to shareholders and improved prospects for employees' pay and security.

Latterly, however, a growing body of evidence in the UK has cast doubt on these predictions. Recent research shows that the profitability of firms that are taken over is no worse than other quoted companies ("Do hostile takeovers improve performance?", J Franks and C Mayer, Business Strategy Review, 7, 4 (1996)). This suggests that takeovers are not a mechanism for correcting managerial failure. Even more importantly, the performance of merged companies frequently fails to deliver the expected benefits and, indeed, worse performance more commonly results: one study found that "acquisitions have a systematic detrimental impact on company performance" ("The impact of acquisitions on company performance: Evidence from a large panel of UK firms", A Dickerson, H Gibson and E Tsakalotos, Canterbury: University of Kent (1995)). If post-merger company performance suffers, a likely outcome is a reduction in job security in the long term.

Moreover, takeovers are often followed by significant numbers of redundancies in the short term. In order to convince shareholders that a takeover is in their interests, managers in the bidding firm often promise that cost savings will result from the merger, and shedding staff is a principal way in which this is achieved. Diageo, the food and drinks group formed in December 1997 following the merger of Grand Metropolitan and Guinness, recently announced 850 job losses in the UK with another 1,000 redundancies overseas expected in the next six months. Currently, this pattern is most evident in the financial sector where a wave of mergers is associated with large-scale job losses. As many as 1,600 jobs cuts are planned at the insurance company Eagle Star following the merger of its owner, British American Financial Services with Zurich Insurance. Senior managers at the new group formed as a result of the merger between the Union Bank of Switzerland and the Swiss Bank Corporation recently announced that 13,000 of the 56,000 worldwide workforce would be cut, with nearly 3,000 of these redundancies being in London.

Wider effects of takeovers

As well as the direct effects, takeovers have a more general impact on company performance and employment. Senior managers in firms potentially the subject of a hostile takeover see this as a threat because takeovers generally result in a change of executives. Thus management behaviour is in part shaped by an attempt to prevent the firm being taken over. This can be achieved through concentrating on maximising short-term profitability in order to keep up the share price - making a hostile bid more expensive - and through distributing a high proportion of profits in the form of dividends to shareholders in order to generate loyalty to the existing managerial team. A key consequence is the orientation of management towards short-term considerations, arguably at the expense of investments in research and development, new technology and training. This analysis is developed by the commentator Will Hutton in his book The state we're in (London: Vintage (1996)). which sees takeovers as one source of the short-termist pressures on UK firms.

Elsewhere in Europe, in contrast, the impediments to takeover that exist enable management to pursue long-term goals such as growth in market share. The greater confidence that both management and employees have concerning the stability of ownership encourages the development of implicit contracts between management and employees. These make it more likely that management will seek to develop the skills of its workforce and also give employees more incentive to invest human capital in their firm (The assessment: Corporate governance and corporate control, T Jenkinson and C Mayer, Oxford Review of Economic Policy, 8, 3 (1992)).

Commentary

This feature has reviewed the evidence concerning the impact of takeovers on business performance in general and for employees in particular. We have seen that, contrary to popular belief, takeovers are not associated with improved performance; indeed, the opposite seems to be the case. Partly as a result of this poor performance, employment security is adversely affected following takeover. More generally, the prevalence of takeovers appears to result in a short-term orientation amongst managers, leading to a reluctance to undertake investment and develop implicit contracts with employees and their representatives. This evidence suggests that the concerns over the effects of takeovers expressed by Margaret Beckett, the Labour Government's Secretary of State for Trade and Industry until July 1998, are well founded and questions the benefits to be gained from continuing the moves towards a more active market for corporate control in some other European countries. (T Edwards, IRRU)