Chapter 18 Corporate Governance and the International Market for Corporate Control

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Corporate governance. Corporate governance refers to the way in which stakeholders exert control over the corporationThere are 3 ways to obtain control over another firm's assetsAcquisition of assetsAcquisition of stockMerger or consolidationMergers and acquisitions are becoming increasingly

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Chapter 18 Corporate Governance and the International Market for Corporate Control

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2. Corporate governance Corporate governance refers to the way in which stakeholders exert control over the corporation There are 3 ways to obtain control over another firm’s assets Acquisition of assets Acquisition of stock Merger or consolidation Mergers and acquisitions are becoming increasingly important

3. Investment-based entry

4. Corporate governance systems Market-based Australia Canada Ireland U.K. U.S. Bank-based Germany Japan Families or the State Family/State Indonesia S. Korea Saudi Arabia Family Mexico Italy Spain State China N. Korea Singapore

5. Corporate governance systems Country Equity Equity Supervisory Hostile concen- ownership board acquisitions tration by banks Germany High - lead Unlimited Outside directors, Rare - approval bank equity bankers, of lead bank and ownership labor reps 75% of shares Japan High - Limited Inside managers, Rare - blocked by main bank; equity bankers, keiretsu cross-holdings keiretsu or ownership members, with keiretsu business (5% max) business or business partners partners partners United Low No direct Inside managers, Proxy contests States equity outside directors and ownership tender offers

6. Corporate governance systems

7. Commercial banking in the U.S. The Glass-Steagall Banking Act of 1933 prohibited banks from most equity-related activities; i.e., owning stock for their own account, voting shares held in trust, investment banking, equity market making, and brokerage activities The Gramm-Leach-Bliley Financial Services Modernization Act of 1999 repealed Glass-Steagall separation of… Commercial banking Investment banking Insurance Brokerage

8. Universal banking in Germany German banks offer a wide range of financial services, including Commercial banking Investment banking Insurance Brokerage

9. Japanese keiretsu Types Horizontal keiretsu Vertical keiretsu Characteristics Extensive share cross-holdings Personnel swaps Strategic coordination Commercial transactions

10. Mitsubishi’s horizontal keiretsu

11. The post-war keiretsu Mitsubishi Fuyo Bank of Tokyo-Mitsubishi Fuji Bank Mitsubishi, Nikon, Marubeni Kirin Beer Sumitomo Dai-Ichi Sumitomo Bank Dai-Ichi Kangyo Bank NEC Nissan, Canon Mitsui Sanwa Sakura Bank Sanwa Bank Toshiba Kobe Steel

12. Financial modernization in Japan Mitsubishi UFJ Financial Group (MUFG) Bank of Tokyo-Mitsubishi UFJ Mitsubishi keiretsu UFJ Holdings Sanwa & Tokai keiretsu Mizuho Financial Group (MHFG) Industrial Bank of Japan Independent Dai-Ichi Kangyo Bank Dai-Ichi keiretsu Fuji Bank Fuyo keiretsu Sumitomo Mitsui Banking Corp (SMBC) Sumitomo Bank Sumitomo keiretsu Sakura Bank Mitsui keiretsu

13. M&A activity (# of deals)

14. M&A values ($ billions)

15. Privatization deals

16. Privatizations of state-owned enterprises in transition economies Privatizations of state-owned enterprises are usually conducted as a Voucher program Management buyout (MBO) Mass privatization program (MPP) Effective legal and corporate governance systems are prerequisites for a successful transition to a market economy

17. Russia’s troubled privatization Russia: 1992 through 1996 Vouchers were used to distribute ownership in state-owned enterprises to Russian citizens Managers repurchased many of these shares and retained controlling interests in most firms Fraud was rampant, and foreign investors were often disenfranchised Financial oligarchs established control over Russia’s commercial banks and natural resource firms Russia’s privatization program struggled because it was conducted without concurrent reforms in legal, regulatory, and administrative systems

18. Russia’s troubled privatization

19. Relatively successful privatizations Poland 1991-1995 Poland promoted the growth of free enterprise State-owned assets were slowly sold to investors Strong labor unions monitored managers Czech Republic 1991-1995 Assets of 350 state-owned firms sold to investors 1,800 firms privatized through vouchers Most vouchers reinvested in diversified investment funds that monitored managers These transitions were relatively successful because these countries developed institutions that promoted good corporate governance Enforceability of contracts Effective monitoring of corporate insiders

20. The winners and losers Target firms Target firms shareholders receive large gains during the announcement period Acquiring firms Within the U.S. market, shareholders of acquirers may or may not win The shareholders of acquirers in non-U.S. markets are more likely to win The shareholders of acquirers in cross-border M&A are more likely to win

21. Contributing factors Method of payment Cash offers are more likely to benefit bidding firm shareholders Free cash flow Firms with free cash flow often waste it The tax environment M&A can facilitate the transfer and realization of tax benefits Real exchange rates A strong domestic currency helps domestic acquirers

22. Similarities in executive turnover Cross-border similarities in top executive turnover Higher executive turnover in firms suffering a sharp decline in equity value Higher executive turnover in firms reporting poor earnings performance

23. Differences in executive turnover Cross-border differences in top executive turnover In bank-based systems, turnover tends to be initiated by the lead bank (Germany) or the principal shareholders (Japan) In market-based systems, control contests are held through proxy contests or directly in the marketplace through tender offers

24. When the turnover-performance relation breaks down China Top executive turnover is related to performance, but only for firms in the private sector Firms with politically connected CEOs under-perform those without politically connected CEOs Italy Minority investors have few legal protections The relation between top executive turnover and firm performance is weak when… control is in the hands of one shareholder the controlling shareholder is the top executive

25. Caveat Increasing competitiveness in the international market for corporate control is likely to change some of these conclusions Further research will surely modify or extend these conclusions

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