Hostile Takeover – French Laundry service company Elis made a hostile takeover offer valuing the company at over Euro 2 billion (Please see above)
The world would have been a different place if there were friendly gestures all over. However, not everything happens on a friendly note in the corporate landscape. Hostility is a common phenomenon when it comes to mergers and acquisitions. A noted philosopher, Lucius Annaeus Seneca, said-“He who dreads hostility too much is unfit to rule”. Hence, for a corporate landscape, hostility is unavoidable and companies have to be prepared for it. The battle for corporate control has led to many tectonic shifts in management structures of many large corporations. The key factor that differentiates a hostile takeover from a friendly one is that the target company’s management is against the deal coming through. In such cases, usually, a target’s board recommends their shareholders to reject the offer.
By now we know that hostile takeover is an acquisition wherein a company doesn’t want to be purchased at all. So many a times the question arises that if a company is not on sale, how is that it is being purchased. Well, the answer is that hostile takeovers only happen with publicly traded companies. Means it’s only for stocks bought and sold in public bourses.
- Tactics for hostile takeover
- Reactive & Pre-emptive Factors to Thwart Hostile Takeover Bid
- The most talked about hostile takeovers of all time
- Effect of the hostile takeover on shareholders
Tactics for hostile takeover
A company aiming at a takeover can approach this by two major ways, namely-Tender offer, and Proxy Fight.
Tender Offer happens when a company or group of investors offers to purchase the majority shares of the target company at a premium to market price and this offer is made to the board of directors who may reject it. In these circumstances, the bidder can place the offer directly to the shareholders. The shareholders, in turn, may decide to accept the offer if they find merit in it. Only when the majority of the shareholders decide to accept the offer, the sale of shares takes place.
Proxy Battle, on the other hand, is a rather unfriendly fight of control over an organization.
The above decision tree diagram shows the entire process that goes behind the takeover bid. The target offer is termed as hostile when the bidder deliberately chooses not to inform the target company about the unsolicited offer. Naturally, in such a scenario, a proxy contest will also, be considered unamicable by the existing management. Even a 5% purchase of shares of the target company or what is termed as a “Toehold position” may be either considered hostile or friendly depending on the situation. Actually, it is the intention behind the Toehold purchase that determines how the takeover is viewed. It could still be termed as friendly if the purchase is driven by a reduction of transaction costs or gaining a strategic position in the auction. However, if a toehold purchased with done with the intention of gaining an authority over the management will definitely be considered as hostile. The path of hostile takeover seems to be full of twists and turns. A bid which started off as a friendly one initially could also turn into a hostile one in the due course.
Hostile Takeover Defense Strategies
Since this takeover bid is unwelcome, the target company takes various hostile takeover defense strategies (reactive as well as pre-emptive factors) such as-
#1 – Macaroni Defense
Quite a lip smacking name, isn’t it. On a more technical front, a macaroni defense entails a company issuing a large number of bonds with the situation that they must be redeemed at a high price if the company is taken over. When the bonds of a company are redeemed at an excessively higher price, the deal seems economically unappealing. This defensive strategy works in a two-pronged way. After making the deal unattractive, it also limits the powers of the potential buyer. The expansion of macaroni when cooked has been used as an allegory to depict that redemption of bonds at higher prices increases the cost of the hostile takeover. It is actually a tough nut to crack for a potential buyer when the redemption price of bond increases.
Let us assume that a company A is forcibly trying to acquire company B. The management of the target company does not want to go ahead with the deal because it might not seem quite appealing to them or they do not have adequate confidence that A will be able to manage the company successfully. Additional fears of corporate restructuring and layoffs also loom large. In such a case, company B might decide to go for the macaroni strategy. They may issue bonds of $100 million which will be redeemable at 200% of the face value. Hence, whoever has invested $2000 will have to be paid $4000 which will inflate the overall cost of acquisition and will eventually dissuade the acquirer from going ahead with the offer.
#2 – Poison Pill
A Poison Pill is a popular defense mechanism for a “target company” wherein it uses shareholder’s right issue as a tactic to make the hostile acquisition deal expensive or less attractive for the raiders. This strategy also acts as a tool to slow down the speed of potential hostile attempts in future. Poison pills are generally adopted by the Board of directors without the approval of shareholders. It also comes with a provision that the rights associated can be altered or redeemed by the board when required. This to indirectly compel direct negotiations between the acquirer and the Board, so as to build grounds for better bargaining power.
Carl Icahn, an institutional investor, caught Netflix off-guard in 2012 by acquiring 10% stake in the company. The latter responded by issuing a shareholder’s right plan as a “Poison Pill”, a move which irked Carl Icahn to no end. A year later, he cut his holding to 4.5% and Netflix terminated its right issue plan in December 2013
#3 – Scorched Earth Policy
Scorched Earth Policy is a term borrowed from the military parlance. Most of the times in military, generals order the soldiers to destroy anything and everything that could be of potential use to the opponent army. According to this defensive tactic, companies sell off their most important assets or make the acquiring companies enter into long-term contractual obligations.
#4 – Golden parachute
Technically, Golden Parachute is defined as a contract between the Company and its top level management which entails that the executives will be offered considerable benefits in case the latter is terminated as a result of the restructuring activity. These benefits usually include cash bonus, stock options, retirement package, medical benefits, and of course a handsome severance pay. It is also used as a tool for an Anti-takeover mechanism or Poison pill to dissuade any potential merger. The quantum of benefits or compensation promised to the crème-de- la-crème of the company might lead many acquirers to change their takeover decision.
Ever since Verizon agreed to buy Yahoo, the industry has been abuzz with the exorbitant Golden Parachute that Marissa Mayer (CEO Yahoo) would be flying with in case the former decides to terminate her.
source: Yahoo Schedule 14A
#5 – Crown jewel
This is quite a similar strategy to the Scorched Earth Policy. In this case, the sale of assets by the target company during hostile bid is focussed mostly on its most valuable ones (Crown Jewel). This is done with an assumption that selling such assets will make the company less appealing to the potential acquirers. This might eventually compel the purchasing company to withdraw the bid.
However, there is another way in which this strategy can be implemented. The target company chooses to sell its most prized assets to a friendly company, also known as White Knight and later on when the acquiring company drops its decision for a hostile takeover, the target company again buys back its assets from the White Knight at a predetermined price.
#6 – Lobster trap
Another popular defense mechanism is called Lobster Trap. In this, the target company issues a mandate in which individuals with more than 10% ownership of convertible securities (includes convertible bonds, convertible preferred stock, and warrants) are deterred from transferring these securities to voting stock. Here individuals with more than 10% ownership are symbolic of big fish or lobsters.
The most talked about hostile takeovers of all time
|AOL and Time Warner||2000||$164bn||When AOL announced it was taking over the much larger and successful Time Warner, it was touted as one of the biggest deals of the period.|
|Sanofi-Aventis and Genzyme Corp||2010||$24.5bn||Sanofi put up a tough battle to acquire biotechnology company Genzyme in 2010. It had to offer significantly higher premium than they initially wanted and assumed control over around 90% of its target company.|
|Nasdaq OMX/IntercontinentalExchange and NYSE Euronext||2011||$approx 13.4bn||In 2011, NASDAQ and Intercontinental Exchange wanted to acquire NYSE with an unsolicited and bid. However, Nasdaq eventually had to withdraw its offer amid directive from Antitrust Division of the U.S. Department of Justice|
|Icahn Enterprises and Clorox||2011||Approx. $12.6 bn||Years ago, Carl Icahn launched a hostile takeover bid against Clorox. He offered to takeover at $7.65 per share which was about a 12% premium. Clorox rejected the offer and used a poison pill strategy to safeguard itself from various such offers in future.|
Effect of the hostile takeover on shareholders
Usually, shares of the target company have been seen to rise. When a group of investors or acquiring company perceive that the management is not maximizing shareholder value, they directly approach shareholders to buy their stock at a premium to market value. At the same time, they engage in certain tactics to topple the management and create a notion amongst the public, media, and shareholders that a new management is the need of the hour.
As we see, the stock price of Berendsen jumped after Euro 2 billion Hostile Takeover Bid by Elis.
source: Yahoo Finance
As the result of this, there is an additional demand for shares in the market. What follows is a bitter fight for control of the company. Hostile takeovers are nothing but a battle against the existing management. Only when shareholders have the acumen to judge the vision of the management in juxtaposition to the luring profits offered by a hostile takeover, can some value can be realized out of it.
The share price increases follow a rather convoluted path in the share repurchase process. Even if the Hostile takeovers, are eventually made, these involve management to make certain offers that are friendly for the shareholders. Usually, these offers are made so that the shareholders reject the takeover bid.
Most of the times these offers include special dividends, share repurchase and spin-offs. All of these measures drive up the price of the stock in the near-term and longer-term. Let us try to understand each of these offers in details. Special dividends are one-time payouts to shareholders. These boost the sentiment of the stockholders and make the stock appear more attractive mainly in the scenarios when interest rates are at a low. Share buy-back creates an increased demand for the stocks and reduce its supply. Spinoffs are strategic decisions to divest non-core business units to show higher valuations and provide a more focused vision and business for shareholders.
While most of the companies put up a tough fight against hostile takeovers, it is not exactly clear why they do so. Many experts and analysts are of the opinion that since the acquirers pay the shareholders a premium over the share price, it is always beneficial for the target company. Another side of the story is that the bidders take up huge debts to arrange for funds in order to pay the premium amount to the target company shareholders. This, in turn, drops the share value of the acquiring company.
However, some analysts opine that hostile takeovers have an adverse effect on the overall economy. When one company takes over another one by force, the management may have limited or no understanding of the business model of the target company, their work culture or technology. Basically, it will be an acquisition without any synergies and such M&A activity can never be successful in the long run.
In a hostile takeover, both the target company and the acquiring company incurs a heavy cost at all levels. The target company lives in a constant fear of takeover which creates a sense of insecurity amongst them and hinders its progressive functioning. As a result, the target companies put in a lot of costs in undertaking defense strategies.
However, the outcome of hostile takeovers, like every other Merger and acquisition cannot be generalized and hence it is difficult to draw a conclusion whether they are successful or not. The cost-benefit analysis has to be done on a case by case basis. Some of the hostile takeovers have been doomed while others have resulted in industry consolidation and fairly strong companies.