Mergers and Acquisitions

MSc. Management
Lecture 2: The corporate takeover
market

Dr. Juliana Malagon

 Contact details

Consultation Hours change: Thursdays in term time 08:30

to 10:30, by email appointment:
Email: juliana.malagon@durham.ac.uk
 Readings

DePamphilis, (2014).
Chapter 3
 Objectives

Identify differences between friendly and hostile

takeovers
Discuss the time line of a deal
Tactics and defenses for takeovers
Section I
FRIENDLY VS. HOSTILE TAKEOVERS
 Takeovers

Friendly Hostile
the buyer has the purchaser is
negotiated initially fighting the directors
with the Board of of the target
the target company company, and goes
agreed to a price directly to the
Recommended it to shareholders to put
shareholders his proposal
 Takeovers

In the US the shareholders cannot decide

directly, they can only vote for the directors
who, in turn, decide on the takeover.

Therefore, the battle is about who the directors

should be:
Proxy fight

Leak to the press to destabilize the targets

board
 Takeovers

The acquiring company must offer a premium to

the current stock price
Purchase premium / acquisition premium

Reflects:
perceived value of controlling interest
Value of expected synergies
Overpayment
 Takeovers

Formal proposal to buy shares is called a

tender offer
Tender offers usually when friendly
Hostile tender offers when not

Prices paid typically lie in the following range:

True merger. Very small: typically 5% of pre-bid price
Agreed takeover (friendly): typically 15% to 20%
premium on pre-bid
Hostile takeover: typically 25% to 40% premium on
pre-bid price
 Market for Corporate Control
Friendly deals
Better for target directors: can negotiate their own terms, more
likely to end up with better terms than in a hostile one
Bidder director likes them because premiums are lower.
Therefore not so good for shareholders!

Hostile deals are rare due to:

Target board flexibility in setting up defenses
Impact on bid premiums
Impact on post-closing integration
The threat of hostile bids often moves target boards toward
negotiated settlements.
Takeovers
 Takeovers

The offer document (what it says in general)

We are offering to buy your shares
We offer to pay X per share (or X of our shares per
share in the target)
This is a y% premium to pre-bid price
We already have the cash to pay for it
We are better managers, there will be synergies
This is value creating for you and for the bidder
shareholders (often not true!)
This is your best chance to get rid of these bad stocks
Send us back the attached form
 Takeovers

The answer
This misrepresents the facts
It is opportunistic
You are undervaluing our firm
The bidder directors are not good
This transaction would be value destroying for both
parties
 Takeovers

A company cannot build up a stake of 30% or more

in another company without making a tender offer
If offer is rejected the bidder must reduce his stake below 30%
If offer is rejected another offer cannot be made before 12
months

If offer is accepted (bidder gains control over 50.01%

or more)
Must offer to buy in same conditions the rest of the stocks
Any shareholder who refuses will be a minority shareholder
If acquire more than 90% can force to sell
Section II
TACTICS AND DEFENSES FOR M&A
 Friendly Takeover Tactics
Potential acquirer obtains support from the targets board and
management early in the takeover process before proceeding to a
negotiated settlement.
The acquirer and target firms often enter into a standstill
agreement in which the bidder agrees not to make any further
investments for a stipulated period.
Such takeovers are desirable as they avoid an auction environment.
If the bidder is rebuffed, the loss of surprise gives the target firm
time to mount additional takeover defenses.
Rapid takeovers are less likely today due to FTC and SEC pre-
notification and disclosure requirements
 Hostile Takeover Tactics
Not all mergers are welcome
Defenses against unwelcome proposals were
developed during the 1980s
Motivations for takeover defenses
Target tries to get a better price
Management of target judges that company will
perform better on its own
Management is seeking to entrench itself
 Hostile Takeover Tactics

A hostile takeover is a war: conquer and colonize

The bidder usually:

Builds up a useful shareholding in the target company
Tries to do this without being noticed (options for ex.)
Around 5% will be enough to alert the targets board
Picks a moment to attack
When directors will have a hard time to respond
 Hostile Takeover Tactics
Limiting the targets actions through a bear hug.
Bear hug letters are formal proposals to a targets board demanding an
immediate response and intended to pressure the board to accept the
proposal by making large shareholders, hedge funds and other institutional
shareholders aware of the proposal.
Proxy contests in support of a takeover.
A proxy contest in this context is an activity initiated by a dissident
shareholder who requests other shareholders grant them the right to vote
their shares for a single vote often to remove directors, rescind the firms
defenses, to pressure the board to accept a takeover bid, etc.
Purchasing target stock in the open market.
Purchasing stock in the public markets is intended to enable an acquirer to
accumulate up to 4.99% of the voting shares of a target company at a
comparatively low price before publicly filing its intentions.
 Continued
Circumventing the targets board through a tender offer.
Tender offers in this context are those made directly to a firms shareholders
to get their approval of a takeover bid when the target firms board has failed
to accept the proposed bid. Tenders offers do not necessarily imply hostile
action on the part of the bidder but may reflect an effort to complete the
transaction more rapidly than may be achieved using a merger.
Litigation.
Litigation is intended to pressure the board into accepting a takeover bid.
The target firms boards often are accused of not acting in the best interests
of their shareholders or refusing to rescind what are arguably impenetrable
defenses.
Using multiple tactics concurrently.
 Pre-Offer Takeover Defenses
Assume the following information about BAD Plc:
Stock price: $20
Shares outstanding: 2M
You believe you can increase the companys value if you
buy it and replace the management
The firms charter establishes that in a situation where an
investor gets control of the firm (i.e. owns 20% or more of
the total shares outstanding) all BADs shareholders - other
than the acquirer - will be able to buy one new share in
BAD for each share they own at a 50% discount
 Pre-Offer Takeover Defenses
Would you go on with your plan to get control of the
firm? Answer the following questions to help you
deciding:

1. How many new shares will be issued and at what price?

2. What will happen to your percentage ownership of BAD?
3. What will happen to the price of your shares of BAD?
4. Would you lose or gain from the transaction? If you lose,
where does the loss go (who benefits)? If you gain, from
where does the gain come (who loses)?
Pre-Offer Takeover Defenses
Pre-Offer Takeover Defenses
Pre-Offer Takeover Defenses
Pre-Offer Takeover Defenses
 Pre-Offer Takeover Defenses
Poison pills to raise the cost of takeover
Poison pills are rights offerings issued as dividends to shareholders that may
be exercised if an unwanted suitor purchases an amount of stock in excess
of a predetermined percentage of the firms outstanding shares.

Once approved by the board, each right entitles the holder, excluding those
held by the acquirer, if the threshold is triggered, to purchase common or
some fraction of participating preferred stock of the target firm (a flip-in
pill) or shares of the acquirer (a flip-over pill) at a pre-set exercise price.

The flip-in poison pill can discourage an unwanted investor because it

dilutes their ownership interest in the firm as well as the value of their
investment in the target firm.
 Pre-Offer Takeover Defenses

The investors stake is diluted as shareholders other than the unwanted

investor buy more shares in the firm at a deeply discounted price
causing the value of the investors shares to decline as they are unlikely
to be able to sell their shares for what they paid.

The flip-in pill is triggered before a takeover to discourage an investor

from making a minority investment (as the value of such an
investment is diluted) while the flip-over pill is triggered after a
merger, consolidation or purchase of at least some percentage of the
targets assets (usually 50%).
 Other pre-offer measures
Shark repellents to strengthen the target boards defenses
Staggered or classified board elections.
Staggered boards are those in which members are classified into various groups, with
only one group subject to re-election each year.
Limiting conditions when directors can be removed.
clause provisions describe the conditions under which board members can be removed
and are often stipulated in a firms charter or bylaws.
Shark repellents to limit shareholder actions
Limitations on shareholders meetings include the requirement that special meetings can be
called only if a specified number of shareholders demand such a meeting.
Some firms specifically prohibit in their bylaws the use of consent solicitation cards which
enable shareholders to cast their votes by mail without attending a shareholders meetings.
Advance notice provisions may require the announcement of shareholder proposals well in
advance of the actual meeting and in this manner serving as a delaying tactic.
 Other shark repellents
Anti-greenmail and fair price provisions
Greenmail refers to an activist investor taking a minority position in the stock of a particular
firm and subsequently demanding that their shares be repurchased at a premium with a
thinly disguised threat that failure to do so could result in the investor taking control of the
firm and subsequently removing management and board members. Anti-greenmail
provisions prevent management from buying back such shares.
Super majority provisions require that for certain votes approval requires more than a simple
majority.
Once issued, firms offer to exchange such shares for those offering dividends. Most
shareholders exchange their super-voting shares. Managers and family members often
retain super-voting shares which results in a concentration of voting power.
Super-voting stock and golden parachutes
Super-voting shares are those distributed to all shareholders as a dividend that possess
multiple voting rights.
Golden parachutes are highly lucrative termination paid to senior executives dismissed
following a takeover. When exercised they raise the overall cost of the transaction.
 Post-Offer Takeover Defenses
When the offer has been made:
Greenmail refers to an activist investor taking a minority position in the stock of a
particular firm and subsequently demanding that their shares be repurchased at a
premium with a thinly disguised threat that failure to do so could result in the
investor taking control of the firm and subsequently removing management and
board members.
Standstill agreements are those that in exchange for a pay-out bind an activist
investor to discontinuing any further accumulation of stock in a given firm for a
specific time period.
 Continued
A Pac-man defence is a rarely used defence employed by a target firm in which the
firm buys stock in a potential acquirer.
White knights are firms solicited by target firms to take a substantial position in the
firm with a commitment not to sell to an unwanted suitor.
Employee stock ownership plans are profit sharing plans in which a firm contributes
cash or stock into a trust set up on behalf of the employees. Employees typically
gain ownership of the stock based on the number of years of service with the firm.
 Continued
Recapitalization describes the actions of a firm making itself less attractive by
taking on substantial additional debt, often using the proceeds to buy back stock or
pay a special dividend.
Share buy-back plans often are undertaken by target firms to remove those shares
held by investors most likely to sell to the highest bidder.
Corporate restructuring is a defence in which a target firm sells off attractive assets
to discourage bidders.
Litigation is undertaken to raise the cost of a takeover and to slow down the
process to give the target more time to erect countervailing defenses.
Just say know is a defence in which a target firms board simply refuses a bid on the
grounds that it is inferior to the value creation that could be achieved if the firms
current business strategy is implemented. of course the shareholders have to
believe this.
 Impact on Shareholder Value
Friendly transactions realized abnormal returns to target shareholders of about
25% during the 2000s
Hostile transactions often result in even larger average abnormal returns to target
shareholders
Acquirers shareholders earn average abnormal returns of 1% to 1.5%; however,
they may be negative for deals involving large public firms and those using stock to
pay for the deal
Recent studies suggest (see Ch. 3 summary for details)
Takeover defenses have small negative impact on abnormal target shareholder
returns
Defenses put in place prior to an IPO may benefit target shareholders
Bondholders in firms with ineffective defenses (i.e., vulnerable to takeover)
may lose value
 Things to remember

Hostile takeover attempts and proxy contests affect governance through the
market for corporate control,
Although relatively rare, hostile takeover attempts tend to benefit target
shareholders substantially more than the acquirers shareholders by putting the
target into play. Consequently, acquirers generally consider friendly takeovers
preferable.
Anti-takeover measures share two things in common. They are designed to:
Raise the overall cost of the takeover to the acquirers shareholders and
Increase the time required for the acquirer to complete the transaction to give
the target additional time to develop an anti-takeover strategy.