Why do companies merge and acquire other companies? Synergy
is the textbook answer. Typically, the stockholders of the target company see
an appreciation in the value of their stock, while stockholders in the
initiating firm see a downtick. The reason why is simple: corporations
typically overpay. The value-added of the anticipated synergy must be greater
than not only any overpayment, but also the intangible costs in aligning the
corporate cultures. Yet another factor—an opportunity cost, really—is frequently
overlooked: that of whether the extra cash on hand should be returned to the
stockholders as dividends.
During 2014 up to August 15th, merger activity
around the world was $2.2 trillion, up from $1.29 trillion in the same period
the previous year.[1]
Comcast, for example, was buying Time Warner Cable for $5 billion, and Reynolds
American was buying Lorillard for $27 billion.[2]
The nonfinancial companies in the S&P 500 had a near-record $1.2 trillion
in cash in an economic context of low interest rates and a bit of inflation.[3]
Buying another company would thus be cheaper than not only expanding from
within, but also investing the cash in interest-bearing or tied securities.
In fact, not buying a company under the circumstances could
easily be thought of as doing nothing with the cash. As Chris Lee of Fidelity
Select Financial Services Portfolio puts it, “Now, the risk of doing nothing
seems greater than the risk of doing something.”[4]
In spite of the fact that mergers can be very good in the long haul for the
stockholders of both companies to a merger or acquisition, a board in touch
with its fiduciary duty to the company’s owners would properly consider the
alternative of returning the surplus cash to them. Lest too much attention be
paid to appreciation in the price of a stock—admittedly of value to those
owners who intend to sell—the dividend is a means by which all of a company’s
current owners benefit.
To be sure, the decision is not merely a financial one. The
return of capital to the providers of equity is an ideological matter as well.
To own property, even if most of it is in the form of a concentration of
capital, brings with it the right to a share in the profits. This goes beyond
the impact of the successive surpluses on the stock’s price. The perspective in
which not using extra cash to acquire or otherwise merge with another company
is reckoned as doing nothing eclipses the alternative use altogether. Returning
excess cash to the stockholders is decidedly not “doing nothing.” The implication that it is intimates a bias in
the interest of management that is at odds with its fiduciary duty.
Put another
way, similar to what can easily happen in the political debate over whether to
reduce taxes so the citizens will be able to hold onto more of their money or
spend the additional revenue on governmental budget items, the tendency of corporate
managements, and even boards, to spend excess money rather than return it to
the owners may not always be in the best interests of the principals and the
principle of property rights.
[1]
John Waggoner, “When 2 Companies Love Each Other Very Much . . . “, USA Today, August 15, 2014.
[2]
Ibid.
[3]
Ibid.
[4]
Ibid.
