A Structural Approach to Corporations: The Case against Defensive Tactics in Tender Offers

Abstract

Tender offers present an obvious and inherent conflict of interest between management and shareholders. On the one hand, an offer provides shareholders with the opportunity to sell their shares for a substantial premium over market price. On the other hand, the tender offer is the principal mechanism by which management can be forcibly unseated from control. It should thus come as no surprise that management often resists outsiders' efforts to direct tender offers at its shareholders. The form of that resistance, however, is somewhat surprising. Because the tender offer is the only form of corporate acquisition addressed directly to the target's shareholders, one might expect defensive tactics initiated by management to focus on persuading shareholders that the proffered transaction was not in their best interests. An offer would then fail because target shareholders found it unattractive. Reality, however, differs from expectation. Major forms of defensive tactics achieve success not because they convince target shareholders to retain their shares, but because they prevent the offer from being made, or if made, consummated, and thereby ensure that shareholders cannot make, from management's perspective, the "wrong" decision.\nCourts and regulatory authorities have long recognized this conflict between management's wish to retain control and the shareholders' wish to have access to -the highest price for their stock. Responding to cases arising out of the first postwar acquisition wave, the Delaware Supreme Court first confronted the conflict more than 20 years ago, and the Securities Exchange Commission, in settings where a defensive tactic requires shareholder approval, has since 1969 required explicit disclosure of the potential foreclosure of shareholder access to desirable offers. But despite this long-standing recognition, state corporation law's resolution of the conflict continues to turn on management's motive in defeating the tender offer and thereby preventing a shift in control. In this article I will argue that emphasizing managerial motives cannot resolve the conflict and, indeed, does no more than offer a pretense for believing that the conflict does not exist.\nThe difficulty with the traditional approach, however, goes beyond the uncertainties of motivational analysis. It is not the reason for management's action which creates the conflict, but the fact that management acts at all. Resolving the conflict unavoidably requires delineating the appropriate roles of management and shareholders in control transactions. This effort, in turn, is possible only by expanding the sources which courts have traditionally considered relevant in developing corporation law. I will argue here that an appropriate allocation of authority between management and shareholders in the modern public corporation and, therefore, resolution of the conflict of interest inherent in the tender offer process, can be achieved only by carefully examining the entire structure of the modern corporation. And while the broad outline of this structure is sketched by the typical state enabling statute, its picture is completed by nonlegal forces deriving from the markets in which the corporation and its participants function.\nPart I of this article critically examines the traditional approach to regulating management efforts to prevent changes of control. Having argued that the traditional approach is incapable of resolving the conflict of interest presented by management defensive tactics, I will then offer in Part II what I term a "structural approach" to the problem. This approach exposes the invalidity of defensive tactics in tender offers and delineates a general principle governing management's appropriate role in the tender offer process. In Part III I address the various arguments used to justify management discretion to block a tender offer, and in Part IV describe the role which remains for management, a role substantially more limited than that management currently assigns to itself. Finally, in Part V I suggest a rule which implements the structural approach and then consider anticipated criticism of the rule.

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