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11 Jul Anti-Takeover Defenses

When outsiders attempt to induce a takeover via Tender Offer (TO) of a public company, there are a number of protections available to avoid the foreseen “hostility.” Unfortunately, some of the takeover defenses require contracts and statues implemented long before a unsolicited acquirer starts buying-up shares of the company’s stock on the public market. Knowing the options can help public firms plan ahead.

Shareholder Rights Plan or “Poison Pill”

A typically successful defensive strategy in preventing a hostile takeover is something referred to as a shareholder rights plan. Established as a mechanism in 1982, the shareholder rights plan is often more pleasantly referred to as the “poison pill.” In a “poison pill” defense, existing company shareholders have the right to purchase additional shares in the company at some discount. This has the immediate effect of diluting the interest of any new shareholders intent at nefarious ends. Rights plans are often triggered or can go into effect once a single individual or entity acquires a threshold percentage of the shares.

A great example of the “poison pill” defense occurred in 2012 when Carl C. Icahn acquired a 10% stake in Netflix. Around that time, the company announced a shareholder rights plan that allowed existing shareholders to acquire two shares for the price of one in the event that more than 50% of assets were planned to be sold in a merger or other sale transfer.

Shareholder rights plans have proven very effective at discouraging hostile and monopolistic takeovers of public companies. They also put the power back in the hands of the company board and existing shareholders as well as put large competitors at bay who may find a Tender Offer or hostile takeover an appealing route if a smaller public company has a bad quarter and sees significant decreases in the value of its stock.

The “poison pill” defense can unfortunately dilute stock values and existing shareholders may find they need to buy more shares just to maintain equal ownership. This can be expensive. Large institutional investors may shy away from significant investments if the company has terse and harsh defenses in place. Finally, in some cases a hostile takeover that may have ultimately improved the company by ousting poor managers and executives is ultimately thwarted due to this type of defense. In some cases, it may be in the shareholders’ best interest to allow a hostile takeover to occur. The Berkshire Hathaway shareholders, for instance, would have been the net losers had they been able to enact a shareholder right plan to thwart Warren Buffett’s acquisition of the company in 1962. The outcome for those shareholders would have been entirely different.

Staggered Boards

With a staggered board, a director has a staggered three-year term and because only one-third of the directors are elected at each annual meeting, it is extremely difficult to change through a proxy contest. Because it takes both the approval of the company board as well as a proxy shareholder vote to enact a significant change such as a merger or hostile takeover, staggering board elections helps current management and shareholders to maintain majority control of the board of directors. While not as dramatic or seemingly harsh as the “poison pill” takeover defense previously mentioned, maintaining this type of control is essential for thwarting a rapid hostile takeover attempt from an unwanted suitor.

Control Share Acquisition Statutes

If not waived, control share acquisition statutes can delay or complicate an otherwise smooth takeover process. Such a statute will restrict the ability of a bidder to expand their ownership stake in the business without restriction to other rights given to typical shareholders. These right restrictions typically include voting restrictions which have the effect of significantly limiting an unsolicited acquirers ability to enact significant change within the organization after quickly seizing a control block of the company’s stock.

For more information, Morrison Foerster has a great outline of takeover and control defenses on the company website. It also dives deep into anti-trust and monopolistic issues relating to takeovers of public corporations. Well worth the read.

The takeover of a public company is no easy feat. In some cases, this is unfortunate as management can be a significant barrier to a much more successful and operationally efficient company. The virtues, vices and legitimacy of hostile takeover bids will always be a hotly debated topic.