Question

Page 256 - Writing Prompt: Ethical Framework for Hostile Takeovers

In view of Maxxam's takeover of Pacific Lumber, do you believe that hostile takeovers are morally wrong, or could they be morally permissible or even desirable in certain circumstances? What do you think is the most important ethical objection to hostile takeovers? Explain your reasoning.

Provide no less than 1 full page response to the above questions and answer each question as a separate paragraph.

I want to assess your level of understanding and critical thinking. Therefore, I am interested in more than your opinion.  You must support your response with text material from the chapter.

Double check your work for spelling and grammatical accuracy. Cite any part of your response that are direct quotes from the text or other sources.

"we should seek to make information available at the lowest cost. To force people to make costlyinvestments in information—or to suffer loss from inadequate information—is a deadweight lossto the economy if the same information could be provided at little cost. Thus, the requirement thatthe issuance of new securities be accompanied by a detailed prospectus, for example, is intendednot only to prevent fraud through the concealment of material facts but also to make it easier forbuyers to gain certain kinds of information, which benefits society as a whole.Although efficiency and fairness both support attempts to reduce information asymme-tries in financial markets, exactly what fairness or justice requires is not easy to determine.Consider, for example, whether a geologist who concludes after careful study that a widow’s landcontains oil would be justified in buying the land without revealing what he knows.12 A utilitariancould argue that without such opportunities, geologists would not search for oil, and so society asa whole is better off if such advantage taking is permitted. In addition, the widow herself, whowould be deprived of a potential gain, is better off in a society that allows some exploitation ofsuperior knowledge. A difficult task for securities regulation, then, is drawing a line between fairand unfair advantage taking when people have unequal access to information.EQUAL BARGAINING POWER. Generally, agreements reached by arm’s-length bargaining areconsidered to be fair, regardless of the actual outcome. A trader who negotiates a futurescontract that results in a great loss, for example, has only himself or herself to blame. However,the fairness of bargained agreements assumes that the parties have relatively equal bargainingpower. Unequal bargaining power can result from many sources—including unequal informa-tion, which is discussed earlier—but other sources include the following factors.1. Resources. In most transactions, wealth is an advantage. The rich are better able thanthe poor to negotiate over almost all matters. Prices of groceries in low-income neighbor-hoods are generally higher than those in affluent areas, for example, because wealthiercustomers have more options. Similarly, large investors have greater opportunities. They canbe better diversified; they can bear greater risk and thereby use higher leverage; they can gainmore from arbitrage through volume trading; and they have access to investments that areclosed to small investors.Chapter 11 • Ethics in Finance 2552. Processing Ability. Even with equal access to information, people vary enormously intheir ability to process information and to make informed judgments. Unsophisticated investorsare ill-advised to play the stock market and even more so to invest in markets that only profes-sionals understand. Fraud aside, financial markets can be dangerous places for people who lackan understanding of the risks involved. Securities firms and institutional investors overcome theproblem of people’s limited processing ability by employing specialists in different kinds ofmarkets, and the use of computers in program trading enables these organizations to substitutemachine power for gray matter.3. Vulnerabilities. Investors are only human, and human beings have many weaknessesthat can be exploited. Some regulation is designed to protect people from the exploitation oftheir vulnerabilities. Thus, consumer protection legislation often provides for a “cooling off ”period during which shoppers can cancel an impulsive purchase. The requirements that aprospectus accompany offers of securities and that investors be urged to read the prospectuscarefully serve to curb impulsiveness. Margin requirements and other measures that discouragespeculative investment serve to protect incautious investors from overextending themselves, aswell as to protect the market from excess volatility. The legal duty of brokers and investmentadvisers to recommend only suitable investments and to warn adequately of the risks of anyinvestment instrument provides a further check on people’s greedy impulses.Unequal bargaining power that arises from these factors—resources, processing ability, andvulnerabilities—is an unavoidable feature of financial markets, and exploiting such power imbal-ances is not always unfair. In general, the law intervenes when exploitation is unconscionable orwhen the harm is not easily avoided, even by sophisticated investors. The success of financial"

"markets depends on reasonably wide participation, and so if unequal bargaining power werepermitted to drive all but the most powerful from the marketplace, then the efficiency of financialmarkets would be greatly impaired.EFFICIENT PRICING.Fairness in financial markets includes efficient prices that reasonablyreflect all available information. A fundamental market principle is that the price of securitiesshould reflect their underlying value. The mandate to ensure “fair and orderly” markets—setforth in the Securities Exchange Act of 1934—has been interpreted to authorize interventions tocorrect volatility or excess price swings in stock markets. Volatility that results from a mismatchof buyers and sellers is eventually self-correcting, but in the meantime, great harm may be doneby inefficient pricing. Individual investors may be harmed by buying at too high a price or sellingat too low a price during periods of mispricing. Volatility also affects the market by reducinginvestor confidence, thus driving investors away, and some argue that the loss of confidenceartificially depresses stock prices. At its worst, volatility can threaten the whole financial system,as it did in October 1987.INSIDER TRADINGInsider trading is commonly defined as trading in the stock of publicly held corporations on thebasis of material, nonpublic information. In a landmark 1968 decision, executives of Texas GulfSulphur Company were found guilty of insider trading for investing heavily in their own company’sstock after learning of the discovery of rich copper ore deposits in Canada.13 The principleestablished in the Texas Gulf Sulphur case is that corporate insiders must refrain from trading oninformation that significantly affects stock price until it becomes public knowledge. The rule forcorporate insiders is, reveal or refrain!Much of the uncertainty in the law on insider trading revolves around the relation of thetrader to the source of the information. Corporate executives are definitely “insiders,” but some“outsiders” have also been charged with insider trading. Among such outsiders have been a printerwho was able to identify the targets of several takeovers from legal documents that were beingprepared; a financial analyst who uncovered a huge fraud at a high-flying firm and advised hisclients to sell; a stockbroker who was tipped off by a client who was a relative of the president ofa company and who learned about the sale of the business through a chain of family gossip; apsychiatrist who was treating the wife of a financier who was attempting to take over a majorbank; and a lawyer whose firm was advising a client planning a hostile takeover.14 The first twotraders were eventually found innocent of insider trading; the latter three were found guilty(although the stockbroker case was later reversed in part). From these cases, a legal definition ofinsider trading is slowly emerging.The key points are that a person who trades on material, nonpublic information is engaging ininsider trading when (1) the trader has violated some legal duty to a corporation and its share-holders; or (2) the source of the information has such a legal duty and the trader knows that thesource is violating that duty. Thus, the printer and the stock analyst had no relation to thecorporations in question and so had no duty to refrain from using the information that they hadacquired. The stockbroker and the psychiatrist, however, knew or should have known that they wereobtaining inside information indirectly from high-level executives who had a duty to keep the infor-mation confidential. The corresponding rule for outsiders is: Don’t trade on information that isrevealed in violation of a trust. Both rules are imprecise, however, and leave many cases unresolved.Arguments against Insider TradingThe difficulty in defining insider trading is due to disagreement over the moral wrong involved.Two main rationales are used in support of a law against insider trading. One is based on propertyrights and holds that those who trade on material, nonpublic information are essentially stealing"

Answer 1

A hostile takeover is one that is not approved by the company executives, who work for the owners ( Shareholders), even though most investors do. If the owners didn't like the proposal, the purchase wouldn't happen.

Another way to look at it is that a "hostile takeover" is a takeover that is hostile to the management-management is the hostile party, not the buyer and not the sellers. It is similar to your cleaning service which opposes your house's sale. Is there anything unethical about selling your house although the sale is opposed by your cleaning service?
As a business journalist who has reported mergers and acquisitions, I don't think that ethics has anything to do with one way or another certain hostile takeovers. The decision to pursue a hostile takeover is financially strategic. Hostile takeovers are very expensive and not easy to pull off; typically behind the decision to pursue such a strategy, there is a pretty solid business reason. How wouldn't it be "ethical?"Competition is part of almost every business. One of the least favored ways of tackling competition is through a hostile takeover, because of the financial, strategic, and strategic planning challenges posed by the strategy.

If it could be shown that the institution of hostile takeovers is morally wrong then the practice of greenmail would be morally wrong, since it is morally wrong in itself to threaten someone with a morally wrong act. Throughout the previous sections, our assumption was that the Hostile Takeover Condition, which defined hostile takeovers, was not subject to moral questioning. Let's put the statement into question now. We might prove that the process of hostile takeovers is fundamentally unethical if we were to demonstrate that it has negative effects on principle, or that the very essence of hostile takeovers breaches another party's interests. Let's just take each one in turn. The practice of hostile takeovers is usually justified by an argument that claims that acting in the interests of stockholders represents one form of monitoring or control over the behavior of the management. And, on average, if management is required to behave in the interests of the stockholders, the principle implies that the contributions to society should be substantial. So the question becomes. Do hostile takeovers, on balance, harm the ability of the management to act in the interests of the stockholders more than good?
Equally problematic is the second way in which hostile takeovers could be shown to be morally wrong, by violations of rights. If the interests of non-management creditors and shareholders are breached, then hostile takeovers are again 'reducible' to broader corporate governance issues. If the management and owners' rights are the ones that are violated, then we have to look more closely at the condition of the Agency. It is the Department Situation that poses some of the most interesting business ethics issues that are directly relevant to our discussion of greenmail ethics and hostile takeovers because it is here that we can easily see the clash of duties between managers and owners. We will concentrate on but two of all of these issues, and make the argument that hostile takeovers are in a comparable ethical position to greenmail: they raise many questions about corporate governance ethics and act as symptoms of a much deeper issue. The two problems are:

1. the raiders' and protecting management presumptions of the agency; and
2. management's assertions of freedom.