Wealth Effects and Agency Conflict in Division Management Buyouts

JODY LANGHAN

ABSTRACT

In this article, the author examines the wealth effects on parent company shareholders and the potential for agency conflict in the sale of fully integrated business units to divisional management. A vast amount of empirical evidence supports the conclusion that parent company shareholders achieve significant benefits in whole-firm management buyouts. In contrast, a survey of the limited empirical evidence available on division management buyouts (DMBs) reveals that the wealth effects created by these transactions are not nearly as significant. Situating the DMB within the current trend toward deconglomeration and the elimination of public ownership, the author demonstrates, first, that there is significant potential for productive gains in the DMB transaction and, second, that the agency costs caused by divisional managers sitting on both sides of the transaction are often underestimated. The author stresses the reality that divisional managers in multidivisional corporations often possess an important informational advantage over the senior management of their parent corporations, and that this information asymmetry provides the scope for agency conflict in DMBs. In the light of this analysis, the author assesses the prevailing corporate and securities law regimes in Canada as they apply to the DMB transaction, and suggests that legal reform should focus on enhancing the disclosure obligations of divisional managers and requiring a waiting period before completion of DMBs. The author stresses, however, that DMBs must not be over-regulated and that divisional management must be entitled to share in the wealth effects of DMBs, given the significant potential for positive wealth creation offered by these privatizing transactions.

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Citation: (1996) 54(2) U.T. Fac. L. Rev. 193.
Copyright © 1996. University of Toronto Faculty of Law Review.
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