Innovation in Portugal – 1957

From the proceeds of the II Congress of the Industry and Economists, which took place in 1957, we learn that “it is crucial that initiatives which are useful to the country’s industrial development, are not constrained in any way, as this would refrain the dynamics of creative enthusiasm” (the translation is my own).

Lesson learned?

Hard work

Shellfish fisherman in the Algarve.

Morals and the takeover code do not always mix

This post originally appeared on Bureau van Dijk’s M&A Portal.

CMVM, the Portuguese equity market regulator, has recently opened a  public consultation period (which is now over) for proposed changes to the takeover code. At present, the code allows the use of so-called defensive measures during takeovers. In practice, if an acquirer launches a takeover offer for a company quoted on Euronext Lisbon without the prior approval or the company’s core shareholders, chances are that the offer will not be successful. Most quoted companies are controlled either by families or core shareholders, whose rights are protected by shareholder agreements and other locking mechanisms.

The proposal, in short, consists in removing voting rights limitations and defence mechanisms.

It is safe to say that, in larger European exchanges and in the US, shareholders’ rights are respected. Take the UK as an example: if a foreign or UK investor, be it a corporate or an investment fund, decides to launch a credible takeover offer for a company listed on the London Stock Exchange, offers a suitable premium and convinces more than 75% of shareholders to accept the offer, it will achieve control over the target. It is as simple (and powerful) as that.

In Portugal, if an investor launches a public takeover without gaining prior approval from core shareholders, the target’s Board will likely block the offer before it even gets to a stage where other shareholders can vote on it. 

 

Also consider the following facts:

• So far, no one has found a way to convince core shareholders to let go of their control rights over quoted companies.
• It is widely accepted that most Portuguese quoted companies would be taken over by larger, foreign competitors, if such shareholders did not exist.
• Most Portuguese consider that, if foreign competitors acquired the leading Portuguese quoted companies, this would be a disgrace. International investors (investment funds, pension funds) already own the majority of shares of those companies, which makes it hard to understand this belief. Yet most politicians appear to share this view.
• A large number of investors buy equities purely for financial purposes. These investors will usually hold on to a stock for less than a year. Large volumes of equities are also traded as part of derivatives trades.
• The State and the State-owned bank, Caixa Geral de Depósitos, are under increased pressure to sell non-core assets in order to reduce the public deficit.
• A number of companies quoted on Euronext Lisbon are former State-owned companies that were privatised during the 90s.

I went through the regulator’s consultation document and what caught my attention was the emphasis on principles and moral values. At a certain stage, the regulator attempts to justify the reason why changes to the code are necessary. Reference is made to principles including “shareholder sovereign rights” and “the proportional rule” according to which “capital and voting rights should be proportional”, as if those principles were part of some sort of universal declaration.

 

Why is it so hard to recognise the following?

• The State, directly or indirectly, contributed to create a system in which most quoted companies are controlled by Portuguese core shareholders.
• Some (but not all) of these shareholders depend on the State or State-owned banks for financing. In other cases, the acquisition of the shares was partly debt financed and shareholders will need to reduce their leverage in the short term.

The Status Quo is no longer sustainable and the takeover code simply needs to be amended in order to reflect the new reality. Why call on principles, moral values or use emotionally charged words to justify these changes? As with most policy decisions which result from the financial crisis, this one is pragmatic and owes little to principles. 

 

Still, the proposed changes are a step in the right direction. The regulator had to refer to some principles in order to justify this initiative, which is fine by me.

 

I can understand the reasons why a number of people would oppose these changes – as well as why others will back the reform. One side will defend that the budget needs to be balanced and that the country needs to attract foreign investors. Others will defend the need to preserve the independence of quoted companies and fend off attacks from larger international competitors. The positions of the protagonists will depend on their political allegiances and professional interests.

My view is that the benefits of change are far greater than the disadvantages. Advantages would include improved efficiency: while quoted companies will be more vulnerable to being taken over by larger competitors, this could result in improved management practices as management teams develop competitive advantages in order to retain their independence. Another benefit could be improved access to equity markets, which is crucial at this stage when companies need to deleverage.