Aurora Borealis
1 August 2015 CFA Institute Journal Review

Employees and the Market for Corporate Control (Digest Summary)

  1. Neeti Goyal

Today, human capital is a key determining factor in many corporate decisions. The authors analyze the relationship between employees and the market for corporate control and find that employee-friendly policies go a long way toward preventing a firm from becoming a takeover target.

What’s Inside?

Previous studies have not considered human capital as a factor in the market for mergers and acquisitions. In the 21st century, human capital is being recognized as an important factor in investment and financial decision making. The bargaining power of employees affects merger and acquisition decisions and the premium attributable to the seller firm. The authors’ research highlights the importance of benevolent employee policies in reducing the chances of a firm becoming a takeover target.

How Is This Research Useful to Practitioners?

Mergers, acquisitions, and takeovers often imply dramatic changes for employees. Without stable cooperation between employees and management, shareholders’ value cannot be maximized. The mass privatization with favorable conditions for employees in Eurasian countries has created prerequisites for the insider model of corporate governance. Owners of firms tend to have an enduring interest in the company and its employees’ welfare and growth.

The authors find that by incorporating employee-friendly policies (e.g., job security, health care, employee stock compensation, employee training), firms reduce their likelihood of becoming a takeover target and/or reduce their takeover premium to the seller. They also find that the bidder distributes part of the surplus created in the acquisition deal to the employees. In R&D-intensive companies, the acquirer invests in human capital and works to improve employee policies. These steps not only create employee satisfaction but also maximize the value of human capital–intensive companies. The research is useful for top management and human resources personnel.

How Did the Authors Conduct This Research?

The authors use two types of hypotheses—value driven and agency driven. An employee-friendly index is constructed based on 11 criteria of employee policies of companies from the KLD Socrates database over the period of 1995–2009, resulting in a dataset of 23,591 firm-year observations. A rating of 1 is assigned to companies that have these employee-friendly criteria and 0 otherwise. Summing up all ratings for all the companies for each year results in an index value for each company. These 11 criteria are regrouped into five subsets: implicit contracts that indicate the likelihood of reductions in workforce, explicit contracts that indicate a strength of benefits and health and safety programs, employee share ownership and option plans, strength of relationship with unions, and strength of other relations. The results are further grouped according to the 12 major industry types.

From Compustat, acquisitions data of all targets, with a market value of equity exceeding $1 million, are collated with data from the KLD database, which yields 1,853 acquisitions for the period of study. Due to the small size of the target firms, the final sample includes only data for 671 target firms. With employee-friendliness as the independent variable, a logit regression is performed to estimate a company’s probability of being a target, probability of being a bidder, and probability of being acquired. A Tobit regression model is used to estimate coefficient values on the number of acquisitions. The other variables are intercept, firm financial characteristics, and industry- and year-fixed effects. A treatment effect model is also applied as a robustness check. A multivariate analysis is used to analyze the results of post-acquisition scenarios.

Abstractor’s Viewpoint

Companies today integrate social concerns into their business operations and into their interaction with employees on a voluntary basis. Employee-friendly policies improve companies’ bargaining power. Hence, these policies reduce the takeover premium to the seller and also make the firm an unattractive target. The authors have analyzed the employee-friendly index from different perspectives, incorporating all possible variables. Endogenous concerns are also addressed in the analysis. The authors also analyze the economic impact of each of the five employee-friendly criteria in terms of acquisitions.

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