All posts by mlamnini

News Articles

“Who will decide Alcan’s fate?”

Leave a comment

On May 7, 2007, Alcoa launched a bid to take over Alcan. It is qualified as “hostile” takeover bid because no previous arrangements had been made with the Alcan board of directors in this regard.

This event, which follows on the heels of several other takeovers of Canadian businesses by foreign interests in recent months, has rekindled concerns about corporate ownership in Canada. The debate reveals widespread uncertainty as to the costs and benefits of the major shifts associated with economic globalization and the rise of finance capitalism.

Some claim that these changes are inevitable and that the ultimate outcome of the worldwide M&A scramble will be a more efficient and productive global economy that benefits everyone – or at least nearly everyone. Interestingly enough, data released on May 9 by Statistics Canada reassures us that Canadian investments abroad still outweigh foreign investments in Canada.

This one statistic, however, does not provide an accurate picture of the situation, in our opinion. U.S. investments in Canada in 2006 ($274 billion) accounted for roughly 17% of the market capitalization of all of the companies listed on the Toronto Stock Exchange. In contrast, Canadian investments in the U.S. ($224 billion) represented a mere 0.5% of the market capitalization of U.S.-based firms. We feel that these figures are key to gauging the impact of foreign investments in a national economy.

These large-scale M&A deals bring to light issues of diminished competition, job displacement and Canadian cities’ dwindling status as centres of influence. In the case of Alcan, thanks to the commendable foresight of the Quebec government, hydroelectric concessions were made contingent on specific requirements regarding jobs and the retention of decision-making authority in Quebec. Furthermore, Alcan had to agree to uphold these terms in the event the company changed hands.

Consequently, the questions of jobs and head office location are not as critical in this case as they are in others. And in terms of competition, Canadian, U.S. and European competition bureaus will take a close look at the impacts of a potential Alcoa/Alcan merger and establish a set of commitments and concessions to be respected. Moreover, the massive influx of Russian and Chinese players into the aluminum market will undoubtedly help allay many of the fears that the amalgamated company would control an unduly large proportion of the industry.

That said, Alcoa’s bid to take over Alcan does raise other important questions, namely:

  • Who ultimately has the final say as to Alcan’s fate?
  • Why doesn’t Alcan attempt a hostile takeover of Alcoa?

Who will decide Alcan’s fate?

On the surface, the answer is straightforward: Barring government interference and considering the current legal framework in Canada, Alcan’s shareholders are the ones who will make the decision, based on whether or not they agree to sell their stock. But who are these shareholders or, more appropriately, who will they be when it comes time for the decision to be made?

Between May 7, the day the bid was announced, and Friday, May 11, some 100 million shares, or roughly 30% of all Alcan stock, changed hands. Two-thirds of this volume was traded on the New York Stock Exchange. Moreover, in today’s financial markets there are plenty of instruments (derivates of all kinds, calls, etc.) that make it possible to acquire a significant virtual stake in a company. The volume of these kinds of trades is difficult to pin down because they are often off the board and thus do not appear on derivatives exchanges.

One thing is for sure, though: hedge funds and other similar funds tend to flock to these situations. Their objective – as we clearly saw during the Falconbridge/Inco saga – is to drive share prices upward and then quickly dispose of their holdings by selling to the buyer with the most to offer in terms of cold, hard cash.

Because of their collective clout, these hedge funds-turned-shareholders can end up with the balance of power and thus wield significant influence over the fate of a company or even an entire industry. This is precisely what happened in the Falconbridge affair.

We feel that these short-sighted, speculative manoeuvres take us one step further away from the principle of building a stable, faithful group of shareholders. This increasingly commonplace reality needs to be rectified. The situation can be compared to letting tourists cast a ballot in a local election – in other words, it would be like allowing 3 million Americans who just happened to be visiting Quebec on referendum day to vote and have their say.

This analogy shows how ridiculous the situation is. However, all too frequently, this is exactly how the fate of certain corporations is decided. That is why the Institute for Governance of Private and Public Organizations proposes that all shareholders be required to own stock for a year before being granted voting rights. A rule of this nature would not be a cure for all of the ills inherent in the system, but it would ensure that decisions in Alcan/Alcoa-type scenarios were in the hands of those already involved with the company before the launch of the takeover bid.

Why doesn’t Alcan attempt a hostile takeover of Alcoa?

Alcan has the means to do so or, at the very least, enough support from key Canadian institutional funds to easily assemble the necessary capital. And in terms of skills and expertise, Alcoa’s officers and directors are just as qualified as Alcan’s.

The problem, and it is not an immaterial one, is that hostile takeovers are for all intents and purposes impossible to carry out in many U.S. states. This will come as a surprise to many people, but in America –champion of the free market economy, poster child of finance capitalism and self-proclaimed model of good governance and accountability to shareholders – many boards of directors have adopted protective means and legal mechanisms to fend off hostile takeovers.

Between 1980 and 1990, leveraged buyout funds (LBOs) launched one hostile takeover after another. While the ideologists of the U.S. federal government touted the “economic vitality” and “increased efficiency” of these initiatives, the ensuing job cuts and industry turmoil generated a political backlash that prompted no fewer than 31 states to adopt anti-takeover legislation.

The content of these statutes varies from one legislature to the next, with the State of Pennsylvania having the most stringent provisions in place, making it practically impossible for any hostile takeover to go through. Incidentally, Pennsylvania is the state that Alcoa calls home.

The measures included in the Pennsylvania statute include the following:

  • In a takeover, the board of directors of the target company must consider the interests of all stakeholders – workers, suppliers, clients and society as a whole – as well as the long-term interests of the company. The board may reject a financially attractive bid if it feels that it does serve these interests. No legal action may be taken against a board that declines a takeover bid.
  • In a hostile takeover situation, the shares held by the bidder are stripped of their voting rights. The vote on whether or not to accept the bid is left exclusively to shareholders who are not involved in the transaction.
  • Any bids that do not meet with the approval of the board of the target company are subjected to a five-year waiting period, during which the bidder may not “combine” assets with the target company (which essentially precludes the possibility of any “synergistic” benefits during the waiting period).
  • Unsuccessful bidders that still make a significant profit because of changes in the stock prices of the target company must turn over all such proceeds generated during the 18 months following the failed takeover.

Because company boards do have some pull with respect to these restrictions, bidders may try to have individuals sympathetic to their cause appointed as directors. However, because many U.S. corporations, including Alcoa, appoint their directors for a three-year term, with only one-third up for election every year, such a move would require winning a sufficient number of votes two years in a row. Changing the procedure to a one-year term for all board members (as is the norm in Canada) would require the support of at least 80% of shareholders with voting rights.

The statutes in other states are less severe, but they all provide boards with broader responsibilities and more clear-cut powers when it comes to opposing a hostile takeover.

Legislation in the State of Delaware, where more than 240 companies listed on the Standard & Poor’s 500 Index are headquartered, is considered moderate and the model of balanced, well-thought-out policy.

Generally speaking, Delaware courts have upheld that a company does not exist solely to serve the short-term interests of its shareholders and “is not obliged to abandon a deliberately conceived corporate plan for a short-term shareholder profit unless there is clearly no basis to sustain the corporate strategy.”

Legislative measures of this type have naturally been greeted with fierce opposition from advocates of market fundamentalism from academic, financial and legal circles. Nevertheless, their arguments have not done much to change the stances of courts and legislatures.

Conclusion

This all-too-brief analysis of the issues involved in takeovers of Canadian corporations emphasizes that governments need not be powerless pawns or simple observers in this regard. They do have a say in the so-called inevitable impacts associated with the rise of global capitalism.

In the 1980s, state legislatures in the U.S. took rapid, decisive action to shore up their defences against a massive wave of hostile takeovers – and at the time, the issue was still a domestic one (unless New Yorkers are considered foreigners in Pennsylvania!). It is easy to imagine how much more vigorous the movement would have been had the takeovers been led by interests from outside the U.S.

There are simple measures that can be introduced to strike a better balance between the parties involved without significantly hindering the free market, such as:

  • Requiring that shares be held for a specific period of time before voting rights are granted.
  • Including an explicit provision that allows directors to consider the effect of a takeover on parties other than shareholders.
  • Clearly establishing that boards are bound to safeguard the long-term interests of the company and not focus solely on the short-term profits of shareholders. Several states have adopted these last two measures without seeing the free market temple crumble down around them.
Policy Papers

Corporate citizenship and the right to vote

Leave a comment

In this age of momentum investors, day traders and hedge funds, the practice of granting transient “investors” the full and immediate rights of corporate citizenship, including the right to vote, is questionable and should be questioned.

The democratic equivalent to this practice would consist of granting the right to vote to anyone who happens to be in the country on Election Day (tourists, business travelers, etc.). Every democracy imposes a minimum period of time before a newcomer acquires the full rights of citizenship, particularly the right to vote.

Whereas in 1960, the average holding period for publicly listed company shares in the U.S. was seven years, it shrank to two years by 1992 (Porter,1992). This holding period is now estimated at some seven and a half months for companies listed on the New York Stock Exchange (Odland, 2006). A similar trend is at work in Canada, with the TSX trading volume increasing at 10% a year for the last ten years and some 200 hedge funds with assets under management in excess of $50 billion.

Though very unorthodox in the North American context, the notion that some time should be required before a shareholder acquires the rights of corporate citizenship, including the right to vote, is proposed here for due consideration.

Policy Papers

Dual-class share structures in Canada

Leave a comment

In Canada and, indeed, wherever there are functional stock markets, differences between classes of shareholders in publicly listed corporations raise important and controversial issues. Thus, the European Commission has undertaken a vast consultation on a proposed directive to enshrine the “one share, one vote” principle.

Everywhere, the topic has proved divisive, particularly when the positions of the parties are couched in the simple vernacular of public pronouncements. Unfortunately, the arguments for or against dual classes of shares are still heavily weighted by ideology and misconceptions.

The aim of this paper is a) to outline the scope of the issue in Canada, b) review the terms of the debate, c) introduce relevant research findings and d) propose a framework of safeguards that could enhance the benefits of dual share structures and minimize their potential downside.

News Articles

CHUM and the premium for control: it is legal, but is it fair?

Leave a comment

The opinions expressed here are strictly those of the author and do not reflect a position of the Institute nor of its board of directors.

The acquisition of CHUM Ltd by Bell Globemedia has brought the issue of control through superior voting shares back in the limelight.

In an early, path-breaking move, the Toronto stock exchange decreed in 1987 that, from that point on, any company issuing a class of shares with superior voting rights would have to include a provision that no offer to acquire the class of controlling shares would be valid without the would-be acquirer making a concurrent offer at the same terms and conditions to the other class of shareholders.

In one fell swoop, this « coattail » provision eliminated much of the so-called “private benefits” enjoyed by a controlling shareholder. Largely as a result of this provision, studies of the private benefits of control across many countries place Canada at the top of the class, with the U.S and the U.K, when it comes to   limiting the size of these benefits.

However, when the TSX put the coattail rule in place in 1987, it grandfathered the then-current situation whereby a number of companies could continue to operate with a dual class of shares without any coattail provision. The TSX did not impose a period of transition. Therefore, twenty years later, the following situation prevails:

  • 96 companies (in  April of 2005) of the 1,459 listed on the TSX had a dual class of shares;
  • At least 13 of these companies still did not have a coattail provision;
  • Of these 96 companies, 71 did not list their superior voting shares;
  • Among the 25 companies that listed, only 8 had both a coattail provision and substantial float; the premium on those shares ranged from none to less than 3% (with the exception of Teck Cominco over some periods of time);
  • There were 5 companies among the 25, which had no coattail and a reasonable level of transactions; the premium on the superior voting shares of these companies was substantial, ranging from 4% to 15% over the last 30 days;
  • For 11 of these 25 companies, a very small float and very few transactions characterize their listed superior-voting shares, as the controlling shareholders own most of these shares. In these cases, listing these shares appears to serve the purpose of providing the controlling shareholders with the ability to set at will an appropriate price for these superior voting shares.
  • Then, there is CHUM Limited, a company without a coattail provision and without float on its voting shares. With a dual-class share structure (a class of non voting shares and a class of voting shares) and close to 90% of the 6,748,030 voting shares held by the founder’s family, there are very few transactions on the listed voting shares. For instance, in the 30 days prior to the announcement of the buy-out of CHUM by Bell Globemedia, there were a total of 551 voting shares exchanged over four different days (with 26 days with not a single share traded).

Over time, the price of the CHUM voting shares has been set at various levels. For instance, according to the price history produced by the Toronto Stock Exchange:

  • On June 12th, voting shares closed at a 14.3% premium over non-voting shares.
  • From June 21st to June 29th the premium hovered around 4%.
  • On June 30th, it jumped to 17.7% as result of a transaction for 183 shares.
  • On July 12th (the day before the announcement of the takeover), it closed with a 12.0% premium.

The premium of 11% set for the transaction does not reflect a market valuation of the CHUM voting shares; it may be claimed, however, that this premium is in the range of the observed premium for the few (5) companies without a coattail and with significant float.

The facts about superior-voting shares and control premium are pretty compelling:

  • With a coattail provision, no premium is expected nor paid to the controlling shareholders;
  • The absence of coattail in at least 13 cases is an anomaly twenty years after the enactment of this measure by the TSX;
  • When superior voting shares are listed but very lightly traded, one should not assume that the price of these shares reflects a market assessment of the fair value of control; as a result, it is incorrect to state that shareholders who bought the non- voting shares were informed of the market premium for the voting shares;
  • It is a fact, however, that buyers of the non-voting shares of CHUM were well informed about the absence of a coattail provision. The company’s information circular advises, in bold letters, that “Holders of Non-voting Class B shares will not be entitled to participate in any take-over bid for the Common Shares of the Corporation”. Technically, the holders of voting shares could have sold the control of the company without any offer made to the holders of non-voting shares;
  • It is also a fact that companies without a coattail provision (and sufficient float) tend to show a significant market premium for their superior-voting shares.

Absent a coattail provision, it is consistent with financial market practices that holders of controlling shares be paid a premium over the price paid to other shareholders at takeover time. But is it fair? Is it appropriate for controlling shareholders to extract a premium to which they would not be entitled, had they listed their shares after 1987, or had the regulators put in place an orderly process for the inclusion of a coattail provision within a reasonable period of time?