Explained | “Poison pill” and other corporate defenses to prevent hostile takeovers


Publicly traded companies are most at risk of hostile takeovers. However, over time they have developed various defense mechanisms to prevent such takeovers.

Publicly traded companies are most at risk of hostile takeovers. However, over time they have developed various defense mechanisms to prevent such takeovers.

Tesla CEO Elon Musk’s bid to take over Twitter was partially thwarted on Saturday when the microblogging platform deployed the “poison pill” mechanism. The “poison pill” mechanism is used to dilute a company’s stock, leaving activist investors looking for hostile takeovers incurring massive expenses.

As part of the mechanism, Twitter laid out a shareholder rights plan that would be triggered if a company acquired a stake of 15% or more. The plan would allow existing shareholders, other than the acquiring company — in this case Mr Musk — to purchase additional shares at a discounted rate, making it more difficult for the acquirer to build a controlling stake in the company. The move would further reduce the likelihood that a company would gain control of the company without paying a reasonable premium to other shareholders. It should buy more time as the company’s board strives to “make informed judgments and take actions that are in the best interests of shareholders.”

Publicly traded companies around the world often witness hostile takeover threats that take place through backdoor stock accumulation; in other words, buying larger stocks on the open market than from management. But even listed companies have come up with some defense mechanisms over time to prevent such takeovers. Some of them include:

Greenmail Defense

The idea here is simple: pay them to go away and stop threatening the company with a hostile takeover.

The target company buys back its own stock at a premium and in an amount sufficient to prevent a hostile takeover. This practice once became a way for several activist investors to sell their shares at a premium by threatening a hostile takeover.

The Wall Street Journal adds that the practice, widely criticized as “corporate blackmail,” diminished after the 1990s, when “corporations stepped up their defenses and lawmakers took steps to discourage them”.

In 1986, broadcaster Viacom International ended a two-week siege by buying back 17% of its own block of shares from prominent institutional investor Carl Icahn for $62 a share. Wall Street pundits estimated that the deal helped the investor reap $21 million Los Angeles Times. Mr. Icahn’s group had spent an average of $65.75 per share, or a total of $230 million for 3.5 million shares of Viacom. However, the target company granted him warrants at prices ranging from $65,375 to $72 for each of his common shares, exercisable for six years. Warrants are instruments that give the holder the right, but not the obligation, to purchase a specified quantity and price of a company’s common stock at any time before it expires. “Analysts said the warrants are attractive amid widespread projections that Viacom stock will appreciate in value over the next several years.” New York Times noted in his report. In addition, the publication reported that the activist investor received $10 million in free advertising time on the company’s radio and television stations.

Crown Jewel Defense

The mechanism involves the target company spinning off its crown jewel unit or most valuable asset to make the acquisition less desirable for the acquirer. The asset could be the unit that is the most profitable unit in the company, or important to future profitability, or produces the company’s flagship product.

In September 2020, France-based Veolia Environnement SA initiated a bid to acquire 30% of utility Suez SA from state-backed utility Engie. financial publication Bloomberg reported that the acquirer was opportunistically taking advantage of a depressed COVID-19 situation. She had reported: “However, Suez’s justified outrage at this move, which would put Veolia boss Antoine Frerot in pole position to swallow the entire company, was not backed up by a convincing alternative.”

The defense focused on the French Suez water business. news agency Reuters reported in April 2021 that in an effort to force Veolia into negotiations, Suez set up a Dutch foundation to prevent the sale of the water business deemed essential for its rival to divest and thereby derail antitrust clearance to to obtain purchase of Suez. The Dutch foundation should make sure it owns a symbolic but powerful piece of the company and doesn’t part ways with the group. That in turn would make Suez unsaleable.

Pac-Man Defense

The idea is simple: prevent a hostile takeover by initiating a reverse takeover. The target company submits an offer to acquire the company that started the takeover bid. The target company could use its “war chest” for the reverse takeover offer or secure external funds.

Pac-Man was a popular video game of yesteryear. The player must swallow all the power pills to escape from the ghosts that are haunting the Pac-Man character. Once the player has acquired all of the pills, the ghosts will turn blue, allowing “Pac Man” to eat them and earn bonus points.

In 1999, Richmond-based paper recycling company Chesapeake Corp made an unsolicited bid for Shorewood Packaging. The latter previously made an offer to buy the former Chesapeake for $480 million at $40 per share. In response, Chesapeake increased its bid to acquire Shorewood at a price of $17.25 per share from the original $16.50 per share, it was reported CNN money. Shorewood turned down the offer and after three months was acquired by North America-based International Paper.

Defense of the White Knight

When a company’s board of directors is in a situation where they cannot prevent a hostile takeover, they will seek a more accommodating and welcoming firm to acquire a controlling interest from the hostile acquirer. The “White Knight” agrees to restructure the company largely according to the wishes of the board of directors of the target company and also to provide fair consideration.

Automaker Fiat, which bailed out Chrysler from a liquidation crisis in 2009, is a case in point.

Like many other automobile manufacturers at the time, Chrysler experienced a decline in sales after the global economic crisis of 2008. In April 2009, insolvency proceedings had to be opened. This initiated the search for a potential buyer to bail the company out of the crisis and inject some cash into the company. Chrysler was previously given $4 billion by the US Treasury in December 2008 and another $4 billion in 2009 to keep the company afloat. But the other general macroeconomic downturn did not help his revival ambitions. For the same reason, the near-deals with Nissan and Kia Motors also fell through. In addition, it was believed that the companies were unwilling to inject money into the ailing company.

Later, Fiat emerged as a white knight. The terms of the deal stipulated that Fiat would not inject money into the company immediately, but how The Wall Street Journal reports receiving a stake in exchange for covering the cost of converting a Chrysler plant to produce Fiat models in the United States and provide engine and transmission technology.

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