Poison Pill

Author:Jeffrey Lehman, Shirelle Phelps
 
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A defensive strategy based on issuing special stock that is used to deter aggressors in corporate takeover attempts.

The poison pill is a defensive strategy used against corporate takeovers. Popularly known as corporate raiding, takeovers are hostile mergers intended to acquire a corporation. A takeover begins when a so-called aggressor tries to buy sufficient stock in another corporation, known as the target, to seize control of it. Target corporations use a wide range of legal options to deter takeovers, among which is the poison pill: a change in the company's stock plan or financial condition that is intended to make the corporation unattractive to the buyer. Despite its fanciful name, the poison pill does not destroy the target company. It is intended to affect the aggressor, which will be burdened with costs if it succeeds in its takeover. The strategy was widely adopted in the 1980s.

The poison pill is unique among anti-takeover strategies. At the simplest level, takeovers are about buying stock. Corporate raiders offer shareholders an inflated price for their shares. They try to buy the company for more than its stock is worth. Although this idea seems paradoxical, raiders can reap profits from their overpriced acquisition by selling off its

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divisions and assets. Some anti-takeover strategies try to deter the aggressor by selling off prize assets first, making a counter offer to shareholders, or stipulating that the current executives will receive huge payoffs after a takeover when they are fired. These strategies can injure the company or simply benefit executives. But the poison pill involves a kind of doomsday scenario for the aggressor. If the takeover is successful, it will end up paying enormous dividends to the company's current stockholders.

Essential to the use of such a strategy is that it is first established in the corporation's charter. Among other details, these charters specify shareholders' rights. They specify that companies can issue preferred stock—shares that give special dividends, or payments—to their holders. When a takeover bid begins, the company's board of directors issues this preferred stock to its current shareholders. The stock is essentially worthless and is intended to scare away the aggressor. If the takeover succeeds, the stock becomes quite valuable. It can then be redeemed for a very good price or it can be converted into stock of the...

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