Leadership Spotlight

Wharton's Andrew Metrick has some surprising answers.

It was a time of near-constant proxy fights, leveraged buyouts, and corporate raiders, of once indomitable firms like Texaco, TWA, and Revlon, mired in costly, historic battles with men like T. Boone Pickens and Ivan Boesky, men who told business students that greed was a good and healthy thing. The 1980s forever changed corporate America. Mergers, historically a gentlemanly process, become a battlefield that ultimately affected every industry: by 1985, 3,000 transactions took place, worth a record-breaking $200 billion. Firms we rebroken into pieces that were spun off, layoffs were rampant. "The 1980s looked like a game of Monopoly come to life," wrote one business writer. A lot has changed since those Wild West days. Throughout the 1990s, the takeover frenzy receded. And today's takeover attempts are typically more strategically motivated, often involving an interloper hoping to dash a proposed takeover, or simply trying to acquire a competitor. Nonetheless, a key remnant of the 1980s remains: the arsenals of anti-takeover tools, from poison pills and golden parachutes to staggered boards that many companies put into place during the late 1980s, are quietly intact – and often given nary a strategic thought.

But a study co-authored by Wharton finance professor Andrew Metrick could change that. Metrick's study of 1,500 companies and their performance throughout the 1990s, published this February in The Quarterly Journal of Economics, found that firms that protected management rights with anti-takeover provisions significantly under performed those that gave more power to shareholders. Shareholders, not management, Metrick's study finds, best protect shareholders. "If I were a large institutional shareholder of a company, I would insist they dismantle their takeover defenses," says Metrick, an associate professor of finance. "They don't seem to be doing much good, and they might be doing a lot of harm. Our research suggests that there's some chance that this would unlock a tremendous amount of value in an organization."

The study found a striking relationship between corporate governance and equity prices but also found that firms with weaker shareholder rights were less profitable, had lower sales growth, and higher capital expenditures and made more acquisitions than other firms in their industry. Co-authored with Harvard Professor Paul Gompers and Harvard graduate student Joy L. Ishii, the study garnered international media attention, including writeups in The New York Times, Financial Times and The Economist.

"When venture capitalists are forming young companies, they work very hard to write contracts with entrepreneurs that make the entrepreneurs really beholden to the shareholders and make them have to listen to the shareholders," Metrick says. "There's a reason for this – they want effective governance. I think that in public companies we've gotten a little away from that – from management and directors being beholden to shareholders, having to report back to them; and if they don't do a good job, the company will get taken over, and they will get fired. It's not that we want people walking around every day worrying about their jobs, but I think the pendulum has swung too far toward entrenching them."

Working with a massive database of companies, Metrick used 24 different provisions, including takeover defenses such as poison pills, golden parachutes, and staggered boards, to build a "governance index" for about 1,500 firms per year. He then studied the relationship between the index and several performance measures during the decade of the 1990s. Each year from 1990 to 1999, the shareholderfriendly or "democratic" firms outperformed the S&P's 500 by 3.5 percentage points, while the pro-management or "dictatorship" group lagged by about 5 points. Hewlett-Packard, IBM, Wal-Mart, and DuPont were among the most shareholder- friendly firms found, while pro-management firms included Kmart, GTE, Waste Management, Woolworth, and Time Warner.