The Ethics of Banking: Conclusions from the Financial Crisis (Issues ...

76 5 Ethics of the Market for Corporate Control
Hostile and Friendly Takeovers and the Importance
of the Global Competition Between Management Teams
In Germany, the ownership or takeover principle 6 is frequently countermanded by
the principle of consensus between all those who work for the firm, i.e. all its stakeholders.
Attention is also called to the codetermination principle in major German
corporations, which gives labor representatives the right to be consulted on decisions
concerning the management of the firm.
In contrast, the Anglo-American model relies on external control over the firm
and its management by outside shareholders. This model is backed by fairly realistic
assumptions about the risks to which corporations are exposed by their stakeholders.
Situations are conceivable in which the management and the workforce make
choices that enable them to have an easier life at the owners’ expense, by consuming
the value of the corporation and paying the owners or shareholders little or nothing
in the way of dividends or earnings. On the presumption that all members of the
organization will be tempted to take life easy in the firm, and that outside owners
prevent this tendency, control of the corporation by its shareholders is evidently a
necessity.
Among the explanatory hypotheses for hostile takeovers, Jensen’s free cash flow
hypothesis in particular is predicated on the danger of management complacency
in mature corporations and sectors. 7 In mature sectors, free cash flow items can be
amassed, i.e. surplus income from sales and amortization which, for the sake of
efficient allocation of capital, should be distributed to the shareholders so that they
can invest the proceeds in alternative projects by other firms. It is in the interests
of the managers, however, to keep these income streams within the firm. By this
means, they enhance their own freedom of action by several degrees because capital
market control is weakened.
In globalized markets, the threat of the hostile takeover by international management
teams reduces management’s tendency to accumulate profits within the firm,
as well as the concomitant tendency to inflate profitless turnover at the expense of
profit, and hence to boost management earnings, which are linked to turnover performance,
at the expense of dividends. The context that is analyzed by the free cash
flow hypothesis can also be described in terms of the universal phenomenon that
once people have built something up, they feel entitled to relax and stop working
so hard. Naturally, this is not in the interests of the institutions for which they have
done all the groundwork. On the other hand, in the case of a hostile takeover, it
gives rise to the necessity to remunerate all the groundwork and the part played by
management in the firm’s added value – where this is not already remunerated by
6 Cf. PETER KOSLOWSKI: “Shareholder Value und der Zweck des Unternehmens” [Shareholder
value and the purpose of the firm], in: P. KOSLOWSKI (ed.): Shareholder Value und die Kriterien
des Unternehmenserfolgs, Heidelberg (Physica) 1999, pp. 1–32.
7 MICHAEL C. JENSEN: “Agency Cost of Free Cash Flow, Corporate Finance, and Takeover”,
American Economic Review, 76 (1986), pp. 323–329.