Merger Arbitrage, 2nd Edition

Chapter 9Management Incentives

Management of a company operates as an agent for the shareholders, the principals of the firm. Conflicts between principals and agents have always existed. Most investors ignore them as a cost of business until a financial crisis erupts, when abuses inevitably come to the forefront. It is only then that investors become aware of the problem.

For arbitrageurs, dealing with corporate management's conflicts of interest is part of the daily investing life. Arbitrageurs usually get involved after a transaction has been announced. It is important to understand the rationale behind a transaction to see whether a higher bid might emerge and whether management has an incentive to support such a higher bid. In management buyouts (MBOs) in particular, it is highly unlikely that a higher bidder will emerge.

In the United States, information about management's interest in a merger is supposed to be disclosed in detail. Proxy statements show the different levels of interest that management has in the transaction. The Securities and Exchange Commission (SEC) adopted special regulations under Rule 13E-3 to deal with acquisitions in which management is on both sides of the transaction. Schedule 13E-3 is filed at the same time as Schedule TO or the statements under Regulation 14A, but at least 30 days before any securities are purchased by the acquirer. Much of the material required to be disclosed in Schedule 13E-3 duplicates that of other filings in going-private ...