In a new departure for Learning from Dogs, Sherry Jarrell publishes a three-part article on the Daimler-Chrysler merger. Learning from Dogs is indebted to Professor Jarrell for both giving so freely of her time to the Blog and for sharing such erudite material.
Here is Part Two. If you missed Part One then it is here.
What does the Daimler-Chrysler merger demonstrate in broader terms?
The 1998 Daimler-Chrysler “merger of equals” was widely expected to realize both operating efficiencies and better access to international capital markets. Instead, when DCX incorporated it adopted German corporate governance standards. U.S. institutional ownership in Chrysler was largely replaced by European banks that not only directly monitor the working capital financing of DCX but also may sit on its Management and Supervisory Boards.
Such superior access and corporate control created distinct advantages for large German institutional owners relative to minority owners; foreign shareholders in the U.S. found themselves among this minority group. These advantages included the ability to: expropriate the private benefits of control from minority shareholders; share these benefits with management, effectively creating a collusion, and; profit from trading DCX shares with superior information. As a result, minority owners priced their shares less aggressively – i.e., the bid-ask spread widened — to minimize their losses from transacting with controlling shareholders. As their spread increased, U.S. minority shareholders’ trading costs rose and U.S. trading volume fell as it migrated to Germany, the relatively cheaper trading venue.
The merger between Chrysler and Daimler and consequent changes in corporate governance create an ideal clinical study for isolating our hypothesis about the failure of the enhanced disclosure requirements to effectively compensate for lax corporate governance standards in protecting minority shareholders.
To test this hypothesis, we explored changes in the bid-ask spread that are associated with the change in corporate governance and the control over the flow of information about the Chrysler assets. We look “inside” the trading mechanism that creates the observed transacted stock price, namely the bid-ask spread, to generate evidence on shifts in the quality and quantity of information available to minority versus controlling shareholders. The bid-ask spread should grow as minority shareholders learn that traders on the other side of the spread possess superior information about the company, information which is linked to their majority control of the firm and its senior management compensation, asset disposition, and financing and risk-taking strategies.
We find that the decision to merge and become a German stock corporation significantly weakened the protection of minority shareholders, particularly prior owners of Chrysler assets, and led to their expropriation by controlling shareholders and principal creditors of the consolidated firm. How? We find that the answer lies in the lack of protection afforded minority shareholders by the corporate governance structure of the newly combined DCX entity.
By Sherry Jarrell – Part Three continues tomorrow.