Hostile Takeover (Hostile Merger) Defence Strategies

A target company has various options on how to fight a hostile takeover, which is also called a hostile merger. The target company generally obtains assistance of an investment banker and lawyer to ensure that fighting the hostile takeover will be successful. Below are the nine common hostile takeover defence strategies used by target companies.

Target companies may inform shareholders why the merger will be disadvantageous for the company.

Repurchase of stock is sometimes undertaken by companies to decrease the attractiveness of the target company for hostile takeover. Mergers can be attractive due to a company’s liquidity position. If the company has a lot of cash, it can be used to cover all or part of the debt undertaken to finance the acquisition. By using available cash to repurchase stock, the firm decreases its attractiveness as a takeover target. Moreover, repurchase of shares increases the price per share which makes hostile takeover more expensive.

Greenmail is another defensive strategy against hostile takeover. It leads to the target company buying a large bulk of shares from one or more shareholders which attempted a hostile takeover.

Another strategy to protect itself against hostile takeover is defensive acquisition. The purpose of such action is for the target company to make itself less attractive to the acquiring company. In such situations, the target company will acquire another company as a defensive acquisition and finance such acquisition with debt. Due to increased debt of the target company, the acquiring company, which previously planned hostile takeover, will likely lose interest in acquiring now highly leveraged target company. Before a defensive acquisition is undertaken, it is important to make sure that such action is better for shareholders’ wealth than the merger with the acquiring company which pursues a hostile takeover.

Finding a white knight is another hostile takeover defence strategy. It involves finding a more appropriate acquiring company that will take over the target company on more favourable terms and at a better price than the original bidder. White knights are seen as a protector of the target company against the black knight which is the acquiring company which attempted a hostile takeover.

Golden parachutes is another way to discourage hostile takeover. This strategy means including provisions in the employment contracts of top executives which will require a large payments to key executives if the organization is taken over. Nevertheless, the amounts to be paid are small relative to the size of the transaction. Therefore, this strategy may not be sufficiently effective on its own but will make the acquisition target less attractive.

Leveraged recapitalization is yet another way to deter hostile takeover. It refers to the distribution of a sizable dividend financed by debt. This increases the financial leverage of the target company and decreases its attractiveness.

The term poison pill was created by mergers and acquisitions lawyer Martin Lipton in the 1980’s and refers to a further hostile takeover defence strategy. It involves an arrangement that will make the target company’s stock unattractive for the acquiring company.

The poison pill strategy includes two main variations. Such variations are flip-in and flip-over. Flip-in tactic occurs when management offers to buy shares at a discount to all investors except for the acquiring company. Such an option is exercised when the acquiring company purchases a certain amount of the shares of the target company. Flip-over occurs where the Target Company will be able to purchase shares of the acquiring company at a discount after the merger is completed. This will decrease the value of the acquiring company’s shares and dilute the company’s control.

The poison pill can be effective in discouraging a hostile takeover and allows the target company more time to find a white knight. Yahoo is a famous example of a company that uses poison pill as a defence strategy. It will be exercised if any company or investor buys more than 15% of its shares without the approval of the board of directors.

The target company may also use the crown jewel defence strategy. Crown jewels refer to the most valuable assets and parts of the company. According to this strategy, the target company has the right to sell its best and most profitable assets and valuable parts of the business to another party if a hostile takeover occurs. This discourages hostile takeover as it makes the target company less attractive.

Pac-Man defence is a hostile defence strategy named after the popular arcade video game of the 1980’s. According to this strategy, the target company “turns the tables” and attempts to acquire an acquiring company which attempted a hostile takeover.

Although these hostile takeover defence strategies may be successful, there are costs such as transaction costs which are involved in undertaking them. Transaction costs may include hiring of investment bankers and lawyers. In making decisions whether or not to undertake any defence actions against hostile takeover, management needs to continue to act in the best interests of shareholders by keeping the maximization of the shareholders’ wealth as the main objective.

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