Does Mandatory Bid Rule Discourage Acquisitions Above the Threshold?

The mandatory bid rule (MBR) requires anyone who buys a significant portion of a company to make a fair offer to the remaining shareholders. Introduced in the UK in 1972, this rule ensures fairness by guaranteeing that everyone holding the same class of securities is treated equally. Essentially, if someone gains control of a company, minority shareholders have the right to cash out at the same price, giving them an exit if they disagree with the new leadership.

The MBR has become the global standard, embraced by 29 out of 38 OECD countries and many non-OECD nations. While Europe is its main hub, countries in Asia, Latin America, and Africa have also adopted it. Yet, South Korea and the US remain notable exceptions.

Critics argue that the rule is a financial burden, making takeovers too costly and potentially stifling efficient control transfers. They believe that under the mandatory bid rule, acquisition costs may escalate for two reasons: first, acquirers must offer minority shareholders the same control premium as that given to the controlling shareholder; second, this offer must be extended to all minority shareholders.

However, these two critical features of the mandatory bid rule may not necessarily lead to higher acquisition costs. First, acquirers may not continue to offer the same level of control premium as they did before the implementation of the MBR. Acquirers will negotiate harder to lower the offering price, knowing they must extend the offer to all shareholders. Second, a lower offering price may make the bid less attractive to minority shareholders, making many choose not to tender their shares. As a result, the overall acquisition costs may not necessarily increase; in fact, they could potentially decrease.

Our study investigates these possibilities by examining the MBR’s real impact across 41 countries. The findings suggest that the MBR reduces the control premium—the critical factor in determining overall acquisition cost and the extent of private benefits an acquirer can gain post-acquisition. Specifically, our analyses show that the MBR leads to a 45-percentage point reduction in the control premium and a 10-percentage point reduction in private benefits of control in deals above the rule-triggering thresholds.

Some might argue that the reduction in premium is due to acquirers gaming the system by buying just below the threshold to avoid the MBR when premiums are high. However, our data doesn’t fully support this. While there is some strategic clustering below the threshold, this pattern does not extend to ownership levels distant from the threshold.

Our findings show that the mandatory bid rule reduces post-acquisition ownership size (toehold plus newly acquired shares from the block seller) by only 3.3 percentage points. Additionally, our results do not support the claim that the likelihood of post-acquisition ownership exceeding the threshold decreases. Moreover, our analyses demonstrate that the MBR does not necessarily result in fewer deals occurring above the rule-triggering threshold. In one analysis, comparing the UK (an MBR adopter) and the US (an MBR non-adopter), we found that the gap in deal frequency between transactions below and above the threshold is less pronounced in the UK, where the deal frequency for transactions above the threshold is 46.2 percent less than for transactions below the threshold. In contrast, in the US, the deal frequency for transactions above the threshold is 57.6 percent less than for transactions below the threshold.

In conclusion, the mandatory bid rule is a crucial regulation that ensures fairness in corporate takeovers. Despite criticisms about its potential to raise acquisition costs, our study shows that the MBR can reduce control premiums without significantly affecting the overall number of transactions. This rule strikes a balance between protecting minority shareholders and maintaining an efficient and dynamic corporate control market.

Our message to policymakers is clear: don’t fear the MBR. It doesn’t hike acquisition costs or dampen the takeover market as much as critics claim. Instead, it promotes fairness without significant financial drawbacks. The MBR is a smart policy choice for countries looking to regulate corporate takeovers effectively.

Our study contributes to the literature on corporate takeovers by providing the first empirical examination of the MBR’s impact on post-acquisition ownership levels. Previous research has mainly been theoretical or focused on different aspects, such as control premiums for block sellers and acquirers, shareholder returns around the time of rule adoption, and the extraction of private control benefits.

This study can be extended in three ways. First, an obvious extension would be to investigate the impact of the mandatory bid rule on the overall costs of acquisitions, encompassing the expenses from privately negotiated block deals and costs incurred from making tender offers to remaining minority shareholders. Second, it is also worth investigating how different variants of the mandatory bid rule have varying effects. For example, one could compare the impact of a mandatory bid rule that requires a tender offer for all remaining shares versus one that requires a tender offer for only a portion of the outstanding shares.

Third, to fully understand the impact of mandatory bid rule adoption on takeover activities, it is crucial to study the evasive strategies that have emerged to circumvent mandatory bid obligations. These include lowballing practices that emerged in EU countries. One such practice involves making a high-price block acquisition just below the threshold, waiting for 6 to 12 months so that this price would not be considered in determining the mandatory bid price, and then reaching or crossing the threshold through an acquisition below the current stock market price, such as using call option transactions. This allows the offeror to make a tender offer to remaining shareholders at a price below the current stock market price (‘lowballing mandatory bids’). Another strategy is to make a high-price block acquisition immediately below the threshold and then acquire shares beyond the threshold by launching a voluntary full takeover bid. In many jurisdictions, such offers are exempt from minimum price regulations (‘lowballing voluntary bids’).

Yongjoon Lee is a Researcher at Korea University.

Bushik Kim is a Researcher at Korea University.

Woochan Kim is a Professor of Finance at Korea University.