TAKEOVERS



In the market for corporate control, management teams vie for the right to acquire and manage corporate assets and strategies. If an outside group acquires control of a target corporation, the transaction is termed a takeover. There are two basic methods of effecting a corporate acquisition: a friendly takeover and a hostile takeover. In a friendly takeover, the board of directors of the target firm is willing to agree to the acquisition. By contrast, a hostile takeover occurs when the board of directors is opposed to the acquisition. Friendly takeovers often involve firms with complementary skills and resources in growing industries. Hostile offers generally involve poorly performing firms in mature industries. In these cases, the suitor desires to replace the existing management team and sell off underperforming business units.

FRIENDLY TAKEOVERS

Friendly takeovers can involve either the acquisition of the assets of the company or the purchase of the stock of the target. There are several advantages associated with the purchase of assets. First, the acquiring firm can purchase only those assets that it desires. Second, the buyer avoids the assumption of any contingent liabilities of the target. Third, the purchase of assets is easier to negotiate since only the board of directors, and not the shareholders, need approve the acquisition.

The second type of friendly takeover involves the purchase of the stock of the target. In this instance, the acquiring firm does assume the liabilities of the target firm. The target firm continues to operate as an autonomous subsidiary or it may be merged into the operations of the acquiring firm. The approval of the target's shareholders is necessary for this type of acquisition.

HOSTILE TAKEOVERS

Hostile takeovers occur when the board of directors of the target is opposed to the sale of the company. In this instance, the acquiring firm has two options if it chooses to proceed with the acquisition: a tender offer or a proxy fight. A tender offer represents an offer to buy the stock of the target firm either directly from the firm's shareholders or through the secondary market. This method tends to be an expensive way of acquiring the stock since the share price is bid up in anticipation of a takeover. Often, acquiring firms will first propose an offer to buy the company's stock to the target company's board of directors, with an indication that if the offer is turned down, it will then attempt a tender offer.

Federal securities regulations require the disclosure of the acquiring firm's intent with respect to the acquisition. Under the Williams Act, the acquiring firm must give 30 days notice to both the management of the target firm and the Securities and Exchange Commission. This enables the target firm to formulate a defensive strategy to maintain its independence.

In a proxy fight, the acquirer solicits the shareholders of the target firm in an attempt to obtain the right to vote their shares. The acquiring firm hopes to secure enough proxies to gain control of the board of directors and, in turn, replace the incumbent management. Proxy fights are expensive and difficult to win, since the incumbent management team can use the target firm's funds to pay all the costs of presenting their case and obtaining votes.

FORM OF THE TAKEOVER

The form of the takeover is often heavily influenced by income tax laws. A simple exchange of shares of common stock, while rarely used in takeovers, is considered a nontaxable exchange. The tax basis of the new shares is simply that of the old. Should the takeover use cash and/or debt to pay for the target's common shares, however, this generates a taxable transaction and the target's shareholders will be subject to capital gains taxes.

DEFENSIVE TACTICS

There are a number of maneuvers that can be used to ward off an unwanted suitor. These can be divided into two basic categories: preoffer tactics and postoffer tactics. Preoffer tactics are those that may be employed prior to the receipt of a hostile bid. For example, private companies are almost invulnerable to takeovers since blocking stakes of more than 50 percent of the outstanding shares are usually held by an individual or an affiliated group.

Hostile takeovers are often generated by investors who believe the shares of the target firm are undervalued. Therefore, a high stock price will also fend off many potential acquirers since it will be difficult for the acquirer to earn a sufficiently high return on its investment in the target. In other cases, size alone may pose a valid defense. Also, high-tech firms in the defense industry may be immune to takeovers because of the political ramifications.

Target companies can also decrease the likelihood of a takeover though charter amendments. With staggered terms for the board of directors, the board is divided into three groups, with only one group elected each year. Thus, a suitor cannot obtain control of the board immediately even though it may have acquired a majority ownership of the target via a tender offer. Under a supermajority amendment, a higher percentage than 50 percent, generally two-thirds or 80 percent is required to approve a merger. A fair price amendment prohibits two-tier bids, where the first 80 percent of the shares tendered receive one price, whereas the last 20 percent receive a lower price for their stock.

Other preoffer tactics include poison pills and dual class recapitalizations. With poison pills, existing shareholders are issued rights that, if a bidder acquires a certain percentage of the outstanding shares, can be used to purchase additional shares at a bargain price, usually half the market price. Dual class recapitalizations distribute a new class of equity with superior voting rights. This enables the target firm's managers to obtain majority control even though they do not own a majority of the shares.

Postoffer tactics occur after an unsolicited offer is made to the target firm. The target may file suit against the bidder alleging violations of antitrust or securities laws. Alternatively, the target may engage in asset and liability restructuring to make it an unattractive target. With asset restructuring, the target purchases assets that the bidder does not want or that will create antitrust problems or sells off the "crown jewels," the assets that the suitor desires to obtain. Liability restructuring maneuvers include issuing shares to a friendly third party to dilute the bidder's ownership position or leveraging up the firm through a leveraged recapitalization making it difficult for the suitor to finance the transaction. Other postoffer tactics involve targeted share repurchases (often termed "greenmail" in which the target repurchases the shares of an unfriendly suitor at a premium over the current market price) and golden parachutes, which are lucrative supplemental compensation packages for the target firm's management. These packages are activated in the case of a takeover and the subsequent resignations of the senior executives.

SEE ALSO : Mergers and Acquisitions

[ Robert T. Kleiman ,

updated by Ronald M. Horwitz ]

FURTHER READING:

Auerbach, Alan J. Corporate Takeovers: Causes and Consequences. Chicago: University of Chicago Press, 1991.

Coffee, John C., Jr., Louis Lowenstein, and Susan Rose-Ackerman, eds. Knights, Raiders, and Targets: The Impact of the Hostile Takeover. New York: Oxford University Press, 1988.

Weston, J. Fred, Kwang S. Chung, and Juan A. Sui. Takeovers, Restructuring, and Corporate Governance. 2nd ed. New York: Prentice Hall, 1998.



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