Antitrust policy must account for hidden culprits: hedge funds

Antitrust policy must account for hidden culprits: hedge funds
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The recent surge of corporate mergers — last year’s Amazon purchase of Whole Foods being a glaring example — is gaining ground on the left as a political issue.

Antitrust policies are an important but under-utilized set of tools for addressing these mergers and the drag they put on our economy while padding the pockets of the very wealthy.

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Yet, to really get at the root causes of this trend, policymakers must look beyond traditional antitrust policy and crack down on the predatory hedge funds often pushing these mergers to make a quick profit with no concern for the wreckage they leave in their wake.

 

The scale of corporate power today is something we have not seen since the Gilded Age more than a century ago. Since 1990, America has seen a spate of sustained merger activity. According to one 2017 study, the average publicly-traded firm is three times larger today than it was 20 years ago.

Corporations are merging across a range of industries — from telecom to airlines to agriculture and food production —and working people feel the negative consequences every day.

Mergers push up prices for consumers in the long run (think cellphone and cable bills), diminish competition and the invention of new and better products (including medicines) and inevitably lead to declining wages and job losses. These newly formed behemoths also wield outsized political power, which only serves to exacerbate the issue.  

After growing pressure from progressive economists and advocates, congressional Democrats have begun recognizing the problems of these merger trends.

Their late summer “Better Deal” economic platform argued for much stronger antitrust regulation, as well as enforcement of existing rules, to boost competition and business opportunities for small businesses and suppliers, lower the cost of everyday goods and put economic and political power back in the hands of the American people.

Yet, one thing that is missing from their proposals — and much of the recent attention on corporate consolidation — is the role that so called “activist” hedge funds play in driving this troubling wave of mergers.

(The term “activist” refers to investors — hedge fund or otherwise — who obtain enough corporate shares to garner influence and effect change at the company.)

Today’s activist hedge funds are akin to the corporate raiders of the 1980s and have profoundly shaped the way corporations do business in the 21st century.

Despite the fact that their share of ownership of any one company is brief (on average two years), many are able to put extraordinary pressure on executives and boards to abandon any existing long-term strategy for a quick boost in share price.

They push companies to cut costs by laying off workers and selling assets, and they implore them to use company coffers by buying back stocks to elevate price, which amounts to insider trading. On top of that, many hedge funds pressure companies to sell themselves to their competitors to bump up share prices before they themselves cash out.

They add little real value to the economy, working people are often hurt and a small handful of executives (not to mention shareholders) line their pockets.

Low interest rates, bull markets and corporations flush with cash all create the right conditions for merger activity. Yet, hedge funds clearly take advantage of this environment.

Last year’s Amazon-Whole Foods merger is a familiar example. In the spring of 2017, Jana Partners almost simultaneously announced itself as an investor in Whole Foods and demanded that the grocery store chain sell itself.

In July, just weeks after Amazon made its successful bid, Jana sold most of its holdings in the company, making over $300 million on the trade while radically transforming the retail industry for the long term.

In a less publicized example, Trian Partners drove the recent Dow-DuPont merger worth over $120 billion. DuPont has a long-held tradition of investing in research and invention, which Trian stymied by pressuring the company to cut costs, drastically reduce staff numbers by 1,700 jobs and ultimately merge with Dow Chemical for the sake of a boosted stock price despite DuPont’s consistently good performance against the S&P 500.

Finally, in 2014, Botox-maker Allergan was feeling pressure to sell to Valeant, another pharmaceutical with a reputation for serial acquisitions that pump up share price but disguise dismal underlying growth.

As a defense mechanism, Allergan began cutting its workforce and reduced its research and development spending to 13 percent of its annual sales from an average of 17 percent. Allergan ultimately insulated itself from Valeant’s hostile bid by selling to Actavis for $66 billion, one of the biggest mergers of 2014.

While Pershing Square (leading Allergan shareholder and architect of the failed Valeant sale) ultimately lost that campaign, it still made around $2.6 billion from the Actavis merger.

It’s difficult to determine how much merger and acquisition activity results from hedge fund activism, because these campaigns aren’t always made public. One report suggests over 25 percent of deals are the result of direct or indirect activist pressure.

According to additional research, the launch of an activist campaign by a hedge fund makes a company three times more likely to face a takeover bid in the subsequent two years.

It’s not a new argument to criticize the hedge fund industry, which has grown from 2,000 funds in 2002 to over 10,000 by 2015. And there are plenty of policy ideas on the left to weaken their power, from raising the capital gains tax, to implementing a financial transactions tax, to greater transparency disclosure and so forth.

But the fact that hedge funds are a core driver of the recent surge in mergers is largely missing from the monopoly debate. It’s not just an antitrust issue. Stated another way, it is not a traditional antitrust issue.

The bottom line is many activist hedge funds use mergers as a tool to extract value for their investors at great expense to our economy and society.

If we want a more competitive economy — and a fairer political system — then we must expand our understanding of antitrust to help rein in the power of hedge funds in the corporate boardroom.

Susan Holmberg is a fellow at the Roosevelt Institute where she researchers and writes on inequality and corporate governance issues, particularly around CEO pay reform and climate change.