After giving a speech in Phoenix two years ago, James F. Bere beamed as two well-dressed women approached and asked to meet the chairman of Borg-Warner Corp.
”I thought, isn`t this marvelous?” Bere recalled. ”The first thing they said was that they had bought some of our stock. They were both in investment clubs. With my ego I was waiting for the second thing. I thought they`d say something about enlightened management. They said, `We bought your stock because we heard you are a takeover candidate.` ”
From Wall Street to Main Street, Americans have stopped investing in companies and started cashing in companies.
At least $1 trillion has been spent in corporate takeovers and internal restructurings in the 1980s. According to publicly available figures compiled by W.T. Grimm & Co. through June, more than $820 billion has been spent in the 1980s to pay shareholders in major takeovers. Of those deals, 131 carried prices of $1 billion or more.
No one tracks the billions spent on internal corporate restructurings to avert takeovers. Rather than have a corporate raider step in, companies substantially remake their balance sheets to have more debt, less overhead and a higher stock price.
Additional billions have been paid in both cases to advisers, bankers and other intermediaries.
As this Tribune series will show, the takeover and restructuring process amounts to a giant bet. It`s a bet that today`s capricious shareholders can be appeased without seriously harming the ”stakeholders” in American business- the employees, communities, customers, suppliers and others who depend on business for something more than the quickest and highest possible share price gains.
So far, the most obvious winner has been the ”house”: the American capital markets and those who profit by managing-some say manipulating-the game, win or lose. But as interest rates rise, the game becomes riskier for all.
Balance sheet blockbusting has offered quick financial and ego gratification for some. Beatrice Companies Inc. chief Donald Kelly is a rich, proud man who`s enjoyed not only $200 million of personal gain from Beatrice`s ongoing restructuring but also sweet revenge against James Dutt, former Beatrice chairman. Kelly, former chairman of Esmark Inc., lost his job after Beatrice acquired Esmark, then got it back when he bought Beatrice.
Even small investors who sold shares at large premiums in the face of acquisitions, management buyouts and internal restructurings aren`t complaining.
Moreover, many companies have slimmed down effectively and re-energized. For example, Beatrice and its various offspring and Baxter Travenol Laboratories Inc., which acquired American Hospital Supply Corp., may be winners.
But other American businesses, such as Chicago`s Borg-Warner Corp., have saddled themselves with a load of debt that compels deep cuts in personnel, long-term projects and civic contributions. In many executive suites, the focus has shifted from running the business to holding Wall Street auctioneers at bay. Meanwhile, employees down the line have forgotten the company song.
”There`s absolutely no loyalty any more,” said a surviving manager of one of Borg-Warner`s subsidiaries after the company repelled two corporate raiders by going private. ”People have no feeling they`re in control of their destiny. People are upset about the lack of honesty by top management. That provides the seeds of discontent. It provides additional tensions and pressures outside the workplace.”
The economic malaise of Bartlesville, Okla., after Phillips Petroleum Co. held off corporate raiders can`t be blamed solely on the generally hard times in the oil patch. Bartlesville declined faster and more severely after Phillips went into debt to stay independent.
And the acceleration of corporate indebtedness is the hallmark of the era. At the end of the first quarter, American corporations were carrying $1.7 trillion of debt, up from $1.1 trillion five years ago.
”It doesn`t appear that restructuring has cooled off,” said Robert S. Gay, senior economist at Morgan Stanley & Co. ”Restructuring is motivated not just by a desire to shuffle paper but more because of the fundamental pressure on firms to cut costs.”
”In the past, managements were willing to do many things to buy labor peace and just stuck the bill to the consumer and the stockholder,” said Richard Belous, an economist who has studied the effects of corporate restructurings at the Conference Board, a business research group.
Those days are over. It`s not coincidental that the era of corporate takeovers and restructurings has been accompanied by virtually no growth in the labor cost per unit of output in manufacturing, after increases reached nearly 16 percent in the mid-1970s. Like consumers finding alternatives to high-cost goods and services, stockholders have become restive, to put it mildly.
The most influential stockholders of major companies today aren`t investors, in the traditional sense of the word, but securities traders who buy and sell with a computer keystroke the investment assets of multibillion- dollar pension funds and insurance companies.
Traders, unlike investors, care little about the potential of a company as an employer and creator of goods and services. Even if company executives have a legitimate story about the profitable outlook for their products or services, they have no opportunity to convince today`s breed of traders that a corporate strategy will work, given time.
The question of taking cash today versus receiving investment returns tomorrow never arises among traders. Their interest lies in the momentary opportunity to profit by trading among various financial markets, including the so-called derivative markets for options and futures. Traders engaged in this interplay between financial markets, known as arbitrage, may hold a stock for less than 20 minutes, but their rights equal the rights of those who`ve held the stock for 20 years.
As Richard Ferris, former chairman of Allegis Corp., found out, long-range plans count for nothing. Even short-term plans and results count for little. The slightest rumor that a stock`s price might rise through a takeover or restructuring often becomes a self-fulfilling prophecy. Once Wall Street puts a stock in play, a corporate board, with its legal obligations to shareholders, hardly can say no to the highest offer that comes along, regardless of the consequences for ”stakeholders.”
For better or worse, today`s continuous, global trading in stocks, bonds and their derivatives compresses the time in which a company`s evolution may occur and magnifies changes, including layoffs. Certainly, changes in a company`s operations and finances would occur anyway, but changes would happen more gradually, and perhaps more graciously, outside the pressure cooker of financial markets. The footsteps of financial markets are quickening, and their tread has become heavier.
No one has proposed repealing capitalism or technology to halt the march. Even a company that goes private cannot escape the rigors of the financial markets. Generally within a few years, those who financed the buyout-such as Beatrice, Signode Industries and Axia Inc.-seek to liquidate their position through a public stock offering or other form of refinancing.
Simply stated, stock prices rise fastest today when a company or an acquirer borrows heavily and uses the money to pay company shareholders a special ”dividend.”
The ”dividend” could result when a company sells itself at a premium over recent market value in an acquisition or management buyout, as Borg-Warner did, or when a company radically recapitalizes its balance sheet to pay off shareholders, as FMC Corp. did last year.
Public attention to hostile takeovers and raiders obscures such common themes among takeovers, mergers and internal restructurings. The ”hostility” of a deal is often a matter of opinion. But raiders and unfriendly suitors, with their ready access to debt financing, serve as catalysts for the overall process.
Company managers and directors know that if they don`t boost their stock price quickly, someone else armed with debt financing probably will. Carter Hawley Hale Stores split itself into two operating units and boosted its long- term debt to more than $1 billion to block takeover bids by The Limited Inc.
Paul M. Hirsch, professor of sociology at the University of Chicago Graduate School of Business, dates the rise of hostile takeovers financed by third parties to 1974. In that year, Morgan Stanley financed the $230 million unfriendly takeover of ESB Inc., a major battery manufacturer, by International Nickle Co. of Canada Ltd. (now Inco Ltd.).
Until then, blue-blooded Wall Street investment bankers didn`t touch hostile deals. Since then, supplying cash for takeovers and restructurings-friendly or not-has become big business on Wall Street because of the fees paid for the service.
Alfred Rappaport, accounting professor at Northwestern University`s Kellogg Graduate School of Management and a leading guru of corporate valuation theory, notes that corporate chieftains, like Rodney Dangerfield, used to complain that their stock got no respect on Wall Street.
Now, they`re upset when Wall Street values their stock at levels higher than they can deliver, Rappaport says. Sometimes the gap arises from appraisals of the sheer liquidation value of a company`s assets, especially real estate. More often, it reflects Wall Street`s perception that a company recast and shrunken, often with new management, will be worth more. In either case, the ease of arranging debt financing makes a quick payoff to shareholders irresistible.
”It became a death wish to buy a company`s stock, not a vote of confidence,” Hirsch said.
New or surviving equity owners, their stakes now highly leveraged by debt, stand to make fantastic investment returns if the company can handle the debt and maintain profitability.
In 1982, former Treasury Secretary William E. Simon, through his Wesray Capital Corp. investment banking firm, invested just $330,000 of his own money in the $80 million buyout of Gibson Greetings Inc. from RCA Corp. Eighteen months later, Simon reaped $66 milllion in cash and stock when the company went public. The Gibson Greetings story remains a legend of this era.
Cutting costs, and that means cutting people, is the surest way to manage the debt and yield ambitious equity returns. Building a better mousetrap is riskier.
”It`s an impossible time for a manufacturing company to exist,” said John D. Nichols, chairman and chief executive officer of Illinois Tool Works Inc. and a former director of Borg-Warner. ”Why? Because the only product is money. We`re starting to do real structural harm to our productive capacity.” Operating managers like Nichols believe that the future prosperity of American business in world competition lies in better adapting technology and in building stronger relationships with customers, employees, suppliers, communities and other stakeholders.
Yet in this period when trading dominates investing, American business and its camp followers among lawyers, bankers, institutional investors and the press have focused instead on concocting or repelling financial transactions struck in the name of ”maximizing shareholder value.”
Rappaport, who helped popularize that phrase, acknowledges the concept easily can become a slogan or a handy rationalization for ill-conceived cutbacks.
The lexicon of dealmaking-takeovers, buyouts, restructurings, white knights and poison pills-largely has replaced the vocabulary of applied technology, marketing and human relations-concepts that Rappaport says are the true long-term contributors to shareholder value.
Judged simply by compensation levels, the dealmakers and others collectively taking in the financial washing of American business clearly are reaping society`s rewards.
According to Financial News magazine, Wall Street`s 10 highest paid professionals last year received an average of $68 million apiece. Leading the list was Michael David-Weill, a senior partner at Lazard Freres & Co., who received $125 million. Lenders to buyouts and restructurings receive much more in up-front fees than they expect to receive in interest on the loans.
Those who facilitate and often force the takeover and restructuring of corporations insist their contribution to America`s economic well-being deserves praise as well as riches. According to them, U.S. business is becoming lean and mean in the process.
”We got fat, we were lazy, we were poorly led,” says noted corporate raider T. Boone Pickens, who heads an organization called United Shareholders Association. ”What we have going on now is that the system is purging itself of abuses that have gone on for years in corporate America.”
Indeed, for every employee fired from a corporate headquarters staff, where the restructuring ax usually falls hardest, there often are dozens of workers and managers in the company`s operating units who applaud the decline of a costly, stifling bureacracy.
”There`s a human cost in not restructuring that maybe we haven`t looked at yet,” said John K. Clemens, a professor of management at Hartwick College, Oneonta, N.Y., who consults with Fortune 500 managements on dealing with change. ”I`m talking about seven decision layers. When you have a good idea, it takes 12 months to get it started because of the flabbiness in the organization.”
Despite the notion that divisions sold after a takeover or restructuring disappear, many managers have enjoyed a surge of productive energy by spinning off from a larger corporation. Unlike many of their parent company executives, they have become substantial owners of their enterprises. They enjoy answering, at least temporarily, to themselves and a defined group of lenders, instead of the faceless, fickle securities traders and analysts of Wall Street.
Henry Kravis, partner in the noted leverage buyout firm Kohlberg Kravis Roberts & Co., noted, for example, the buyout of Playtex Inc. from Beatrice by management led by Joel Smilow. ”I guarantee you I`d bet on a Joel Smilow owning Playtex before I`d bet on Beatrice owning Playtex, even though we owned Beatrice.”
Nevertheless, many employees haven`t been been liberated, just cut loose. The cool, some say irreversible, logic of corporate restructuring, wherein somehow hidden financial values suddenly are monetized to reward shareholders, contrasts starkly with the human toll often exacted afterwards.
Layoffs directly attributable to restructuring and takeovers, as opposed to other economic factors, have hit hard in the ranks of middle management. Joseph F. Coates, a Washington-based consultant, estimates that at least 600,000 managers and professionals lost their jobs from 1984 to 1986, well after the recession of the early 1980s. While most found work, only half were re-employed in the same kind of job at the same salary level.
These are the same workers who tend to view a job as a long-term relationship, not just a purely financial transaction. Workers are entitled to that view, according to recent judicial rulings as well as the findings of psychological studies in the workplace.
”People believe they own their jobs more than they ever did before,”
said Denise Rousseau, associate professor of organizational behavior at the Kellogg school. ”People feel a relationship has been broken without good reason.”
”Severance payments don`t cushion the blow for managers who thought they would spend the rest of their working lives at the firm,” said Hirsch, author of a new book on the subject, ”Pack Your Own Parachute.”
Moreover, survivors of restructured companies often remain anxious and less productive long after the financial deals have closed, largely because they expect another shoe to drop.
No one has studied systematically the labor relations effects of corporate takeovers and restructurings, but Rousseau said increased absenteeism and reduced loyalty are common.
Turnover and motivational problems arise in any organization, but low morale may frustrate the core purposes of a takeover or restructuring. And executives of companies ladened with buyout or restructuring debt don`t have time to hold the hands of worried employees.
Of course, upper and middle managers aren`t the only ones affected. United Airlines pilots, who despite their high salaries may be called rank-and-file employees, would rather acquire the airline from Allegis than lose control of their destiny. Their union has formed an allegiance with Wall Street that, according to some, signals a new era in labor power.
Also jettisoned in many restructurings are investments in research and development and other long-term projects that don`t yield an immediate cash payoff. Even relatively new high-tech companies, where research is the heart of the business, haven`t escaped the takeover trend. The 1985 acquisition of Informatics General Corp. by Sterling Software Inc. exploded the myth that only mature companies would be targets of hostile takeovers.
Some suggest that American capitalism, now in the sixth year of a bull market, is passing through a phase of excess that will end when the next recession hits, interest rates move up and the Wall Street fraternity moves on to selling other wares. The element of fad, in which yesterday`s promoters of corporate ”conglomeration” and ”synergy” become today`s advocates of
”downsizing” and ”focus,” cannot be denied.
”The money today is to be made in breakups,” said Donald C. Clark, chief executive officer of Household International Inc. and a leading critic of the takeover trend. ”If money is to be made tomorrow in reconglomeration, they will be waving that flag.”
A greater likelihood is that the current wave of takeovers and restructurings will spawn a second wave as companies that can`t handle their debt are forced into a second round of buyouts, spinoffs and cutbacks, said Kai Lindholst, head of the Chicago office of the consulting and executive search firm Egon Zehnder International.
Moreover, the movement is expected to shift from basic industries to service industries, especially financial services, he said.
Perhaps the fixation on corporate finance will subside, though of course never end, when technological innovations now considered too risky begin to fit more comfortably into the fabric of American industry; when American management becomes more adept at motivating productivity among employees; and when American business again asserts itself convincingly to its customers worldwide and its overseers in the financial markets.
Ideally, achieving these desirable results is what corporate takeovers and restructurings are all about. In the meantime, political forces are pushing the pendulum back in favor of stakeholders and away from shareholders as legislators and political candidates react to ”merger mania.”
An uneasy alliance between corporate management, labor and communities has spurred a number of antitakeover bills in Congress and various state legislatures. Legislatures have responded quickly in Indiana, Wisconsin, Minnesota, New York and other states when local companies have been threatened.
An Illinois legislative committee on Wednesday is to consider adopting Indiana`s statute, which has been upheld by the U.S. Supreme Court. Indiana`s law, in effect, bars a takeover unless a majority of the independent shareholders, with ties to neither the company nor the buyers, approves.
Delaware, the state where most major companies are incorporated, so far has declined to join the parade. A. Gilchrist Sparks, chairman of the corporate law section of the Delaware Bar Association, said the state`s law already gives corporate boards wide latitute to consider stakeholder interests as long as shareholder interests prevail.
”We need an equitable sharing of costs and benefits in this process,”
said Ray Marshall, professor of economics and public policy at the University of Texas and former secretary of labor in the Carter administration.
”If I were fashioning a law, a better approach would be to have some triggering process, where a committee of workers, stockholders, present managers and somebody to represent the interests of the public would be constituted,” Marshall said. This committee would act much like a creditors` committee in bankruptcy, he said.
Sen. Paul Simon (D., Ill.) has proposed a less sweeping approach that would require an economic impact statement from any would-be company acquirer. The buyer would have to disclose plans to terminate operations and estimate the revenue impact on affected communities and local governments.
Illinois Tool`s Nichols suggests using for this purpose the review mechanism already available in the Hart-Scott-Rodino antitrust law. That law enables the Justice Department and Federal Trade Commission to examine mergers and acquisitions for antitrust implications and requires formidable disclosures by companies whose transactions fall under the law.
Injecting social concerns into the market for corporate control violates the traditional and legal precedence that corporate directors owe their primary allegiance to shareholders, Sparks said.
Yet critics in Congress and elsewhere say the nature of that allegiance has changed as the nature of shareholders has changed. Takeover specialists aren`t investors. ”This whole takeover thing takes on a life of its own,”
said Walter Bauer, former head of Informatics General. ”Institutional investors love to see a company under attack. The lawyers and investment bankers take charge and proceed.”
The resulting auction market for corporate control leaves little opportunity or incentive for stakeholders to develop or maintain trust in company directors and management. ”We felt we had to act or we would have been faced with shareholders suits,” said Bauer.
On the other hand, ”If you look at a company as a WPA project, you`re going to see more situations where we lose business to foreign competitors,” said Murray L. Weidenbaum, director of the Center for the Study of American Business at Washington University in St. Louis. ”A business is not a charitable institution.”
