Greenmail can be loosely defined as a type of legal blackmail. It occurs when publicl3y traded companies are forced to buy back shares, at a premium to the current trading price, from large investors or corporate raiders in order to maintain their independence. Often the party initiating the greenmail, the raider, doesn't actually intend to buy a controlliing interest in the company, and hence "green" in "greenmail" refers to the money made in such transactions.
In hostile takeovers, one person or group of persons decide to take over a controlling of a public company without that company's consent and, in the early stages, without its knowledge. If the targeted firm realizes what is happening, it often tries to fend off the takeover by buying back its own stock. The raider sells, but often at an inflated thus greenmail.
Greenmail was a common practice in the 1980s, when corporate takeovers and threats of takeovers surged. Until 1986, in fact, companies that used greenmail to defend against a takeover could deduct the expenses on their taxes. Congress removed the tax break in 1986 as a measure to discourage exorbitant greenmail deals and the takeover frenzy in general.
In one prominent case, Wrangler Apparel Inc. attempted to recover taxes paid on greenmail expenses during the early 1980s up through the year the law changed. The company had faced multiple take-over attempts before it was finally acquired by VF Corporation in 1986. Wrangler didn't prevail with the IRS or in district court, but the court held that the company could potentially amortize some of the costs as depreciation expenses, thereby obtaining indirect tax relief.
Publicly traded corporations continue to face unwelcome suitors, but more recently they have been choosing to find other defenses rather than resorting to greenmail. Several states have loosened their corporation statutes to allow more flexible corporate bylaws that can help neutralize an attempted takeover. Among other remedies, these bylaw changes might allow directors to temporarily suspend voting rights during a takeover battle. Other states, at the behest of corporations targeted by hostile takeovers, have considered allowing more drastic changes in corporate governance, such as forbidding a new board of directors—those elected by the raider—from acting on any merger plans, leaving those decisions to the old board.
SEE ALSO : Poison Pills
Downey, John. "Wrangler Sues IRS over Rule on 'Greenmail." Triad Business News, 1 March 1996.
Friedrich, Craig W. "'Greenmail' Held Not Deductible but Possibly Amortizable by District Court." Journal of Corporate Taxation, winter 1998.
Lipin, Steven. "Bylaw Changes, Legislative Help Sought in Hostile Bids." Wall Street Journal, 10 March 1998.