Abstract

"M&A and the Treatment of Minority Shareholders in an Opaque Environment: The Case of the Stealth Hostile Takeover of the Third Avenue Railroad"

Mark Walker, North Carolina State University (mdwalker@ncsu.edu)

In spring 1900, a syndicate of investors used open market purchases and manipulative trading practices to exploit an ongoing financial crisis at the Third Avenue Railroad Company and stealthily buy control of the company. The acquisition provided the syndicate near monopoly control of the street railways of Manhattan. This consolidation represented the street railway industry’s response to a new technology, namely electrification. The lax regulatory environment fostered innovation, ultimately benefitting consumers, while allowing the trading syndicates to expropriate the wealth of minority shareholders. Our case study documents how an innovation was financed in a different regulatory environment and in less transparent markets.

Stock market activity on Wall Street at the turn of the 20th century captures a remarkable chapter in U.S. financial market history. The era saw the first great merger movement in the U.S. These mergers were typically accompanied by new financial engineering practices. Trading activity as a proportion of shares outstanding was substantially greater than during any other period. Still, the overall market was small enough that individual traders and business leaders could dominate market activity and sway asset prices. This dominance was possible, in part, because these individuals operated in a different information regime with fewer investor protections.

We use this remarkable environment as a background for our descriptive case study to examine how financial markets facilitated the adoption of an innovative technology (the electrification of commuter railways). Among other things, the syndicate behind the deals described in our case created what likely was the first holding company in the United States and inadvertently caused a market corner and short squeeze of Third Avenue Railroad shares. The analysis will allow readers to garner insights into the costs and benefits of our current regulatory and information environments, es