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7/29/2019 Chapter 03 Common Takeover Tactics and Defenses
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The Corporate TakeoverMarket
Common Takeover Tactics,Takeover Defenses, andCorporate Governance
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Treat a person as he is, and he will remain as he is.
Treat him as he could be,
and he will become what he should be.Jimmy Johnson
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Course Layout: M&A & OtherRestructuring Activities
Part IV: DealStructuring &
Financing
Part II: M&AProcess
Part I: M&AEnvironment
Payment &Legal
Considerations
Public CompanyValuation
FinancialModeling
Techniques
M&A Integration
Business &Acquisition
Plans
Search throughClosing
Activities
Part V:AlternativeStrategies
Accounting &Tax
Considerations
BusinessAlliances
Divestitures,Spin-Offs &Carve-Outs
Bankruptcy &Liquidation
RegulatoryConsiderations
Motivations forM&A
Part III: M&AValuation &Modeling
Takeover Tacticsand Defenses
FinancingStrategies
PrivateCompanyValuation
Cross-BorderTransactions
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Current Lecture Learning Objectives
Providing students with an understanding of
Corporate governance and its role in protectingstakeholders in the firm;
Factors external and internal to the firm affectingcorporate governance;
Common takeover tactics employed in themarket for corporate control and when and why
they are used; and Common takeover defenses employed by target
firms and when and why they are used.
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Alternative Models of Corporate Control
Market model applies when:
Capital markets are liquid
Equity ownership is widelydispersed
Board members are largelyindependent
Ownership & control areseparate
Financial disclosure is high
Shareholder focus more on
short-term gains Prevalent In U.S. and U.K.
Control model applies when:
Capital markets are illiquid
Ownership is heavilyconcentrated
Board members are largelyinsiders
Ownership & controloverlap
Financial disclosure limited
Shareholder focus more on
long-term gains Prevalent in Europe, Asia, &
Latin America
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Factors Affecting Corporate Governance:Market Model Perspective
Internal to FirmBoard of DirectorsManagementInternal ControlsIncentive SystemsTakeover Defenses
External to Firm
External to Firm
External to Firm
External to Firm
Legislation:1933-34 Securities ActsDodd-Frank Act of 2010Sherman Anti-Trust Act
Regulators:SECJustice Department
FTC
Institutional Activism:Pension Funds (Calpers)Mutual FundsHedge Funds
Market for CorporateControl:
Proxy ContestsHostile Takeovers
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Internal Factors: Board of Directorsand Management
Board responsibilities include:--Review management proposals/advise CEO
--Hire, fire, and set CEO compensation
--Oversee management, corporate strategy, and
financial reports to shareholders
Good governance practices include:
--Separation of CEO and Chairman of the Board
--Boards dominated by independent members--Independent members serving on the audit and
compensation committees
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nterna actors: ontro sIncentive Systems
Dodd-Frank Act (2010):
-- Gives shareholders of public firms nonbinding right tovote on executive compensation packages
--Public firms must have mechanism for recoveringcompensation 3-yrs prior to earnings restatement
Alternative ways to align management and shareholderobjectives
Link stock option exercise prices to firms stock price
performance relative to the overall market Key managers should own a significant portion of thefirms outstanding shares
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External Factors: Legislation
Federal and state securities laws Securities Acts of 1933 and 1934
Williams Act (1968)
Insider trading laws Anti-trust laws
Sherman Act (1890)
Clayton Act (1914) Hart-Scott-Rodino Act (1976)
Dodd-Frank Act (2010)
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o - ran c o : overnanceExecutive Compensation
Say on Pay: In a nonbinding vote, shareholders may voteon executive pay every 3 yrs.
Say on Golden Parachutes (executive severancepackages): Proxy statements seeking shareholder approvalof M&As or sale of most of a firms assets must disclosepay agreements with target or acquirer executives
Clawbacks: Public firms must disclose mechanisms forrecovering incentive pay paid during 3-yrs prior to earningsrestatements.
Proxy Access: SEC has authority to require public firms toinclude nominees submitted by shareholders in proxy
materials Broker Discretionary Voting: Stock exchanges must
prohibit brokers from voting shares without direction fromowners in election of directors and executive compensation
D dd F k A t f 2010 S t i
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Dodd-Frank Act of 2010: SystemicRegulation and Emergency Powers
Financial Stability Oversight Council (FSOC): Monitors U.S. financialmarkets to identify banks and nonbank banks exhibiting systemic risk.
New Fed Bank/Nonbank Supervisory Powers: Banks/nonbanks withtotal assets $50 billion must Submit plans for their rapid dissolution in event of failure Limit their credit exposure in any unaffiliated firm to 25% of its
capital
Conduct semiannual stress tests to determine capital adequacy Provide advance notice of intent to buy voting shares in financial
firms Leverage Limitations: Fed may require banks with assets $50 billion
to maintain debt-to-equity ratio of no more than 15 to 1. Size Limitations: No bank or nonbank can hold deposits > 10% of
deposits nationwide; does not apply to mergers involving failing banks. FDIC Guaranty Powers: May guaranty liabilities of solvent banks if
FSOC and Fed determine appropriate to do so. Orderly Liquidation Authority: FDIC may seize and liquidate banks
threatening U.S. financial stability New Bank Capital Requirements: At discretion of regulators.
D dd F k A t f 2010
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Dodd-Frank Act of 2010:Capital Markets
Office of Credit Ratings: Sets rules for transparency,conducts audits and makes it easier to sue ratingagencies.
Securitization: Issuers of asset-backed securities mustretain an interest of at least 5% of any security sold to
third parties. Hedge and Private Equity Fund Registration: Must
register with SEC as investment advisors if assets $100 million; those with < $100 million subject to stateregulation.
Clearing and Trading of OTC Derivatives: Must betraded on formal exchanges to provide real time datareporting to market participants (e.g., CDS-lenderinsurance).
D dd F k A t f 2010
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Dodd-Frank Act of 2010:Financial Institutions
Volcker Rule: Prohibits insured banks frombuying and selling securities with their ownmoney (i.e., proprietary trading) or sponsoring orinvesting in hedge funds or private equity funds;banks may do so if they have no control over
funds. Does not apply to U.S. banks with foreignoperations.
Consumer Financial Protection Bureau:Writes rules governing financial institutions
offering consumer financial products Federal Insurance Office: Monitors insuranceindustry and recommends which firms should beconsidered systemically important.
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External Factors: Regulators
Securities and Exchange Commission
Justice Department
Federal Trade Commission
Public Company Accounting OversightBoard
Financial Accounting Standards Board
Financial Stability Oversight Council
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External Factors:Institutional Activism
Pension funds, mutual funds, and insurancecompanies
Ability to discipline management often limited byamount of stock can legally own in a single firm
Investors with huge portfolios (e.g., TIAA-CREF,California Employee Pension Fund) can exertsignificant influence
Recent trend has been for institutional investorsto simply withhold their votes
E t l F t M k t f
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External Factors: Market forCorporate Control
Changes in control can result from hostile takeovers orproxy contests Management may resist takeover bids to
Increase the purchase price (Shareholders InterestsTheory) or
Ensure their longevity with the firm (ManagementEntrenchment Theory)
Takeovers may Minimize agency costs and
Transfer control to those who can more efficientlymanage the acquired assets
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Discussion Questions
1.Do you believe corporate governance should benarrowly defined to encompass shareholdersonly or more broadly to incorporate all
stakeholders? Explain your answer.2.Of the external factors impacting corporate
governance, which do you believe is likely to be
the most important? Be specific.
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Market for Corporate Control:Alternative Takeover1 Tactics
Friendly (Target board andmanagement supports bid)
Hostile (Target board and managementcontests bid)
1A corporate takeover refers to a transfer of control from one investor group to another.
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Market for Corporate Control:Friendly Takeover Tactics
Potential acquirer obtains support from the targets board andmanagement early in the takeover process before proceeding to anegotiated settlement The acquirer and target firms often enter into a standstill
agreement in which the bidder agrees not to make any furtherinvestments for a stipulated period in exchange for a break-up
fee from the target firm. Such takeovers are desirable as they avoid an auction environment
If the bidder is rebuffed, the loss of surprise gives the target firmtime to mount additional takeover defenses
Rapid takeovers are less likely today due to FTC and SEC pre-notification and disclosure requirements1
1The permitted reporting delay between first exceeding the 5% ownership stake threshold and the filing of a 13Dallowed Vornado Realty Trust to accumulate 27% of J. C. Pennys outstanding shares before making theirholdings public.
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Market for Corporate Control:Hostile Takeover Tactics
Limiting the targets actions through abear hug
Proxy contests in support of a takeover
Purchasing target stock in the openmarket
Circumventing the targets board through
a tender offer Litigation
Using multiple tactics concurrently
M k f C C l
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Market for Corporate Control:Pre-Offer Takeover Defenses
Poison pills to raise the cost of takeover1
Shark repellants to strengthen the target boards defenses Staggered or classified board elections Limiting when can remove directors
Shark repellants to limit shareholder actions Limitations on calling special meetings
Limiting consent solicitations Advance notice and super-majority provisions Other shark repellants
Anti-greenmail and fair price provisions Super-voting stock, re-incorporation, and golden parachutes
1Note that poison pills could also be classified as post-bid defenses as they may be issued by the board as dividends withoutshareholder approval.
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Poison Pill: Cash for Share Purchase
P1 = Pre-offer equilibrium price/target shareP2 = Poison pill conversion price/target shareP3 = Offer price/target shareQ1 = Pre-offer target shares outstandingQ2 = Target shares outstanding following poison pill conversion
ABCD = Incremental acquirer cash outlay due to poison pill conversion
Q1 Q2 Target Shares Outstanding
Target Price Share D S1 S2
D
P3
P1
P2
Target shareholder Profit/Share onPoison Pill Conversion
A B
C D
DD reflects relationship betweenshares outstanding and price/share forgiven level of expected earnings &interest rates.
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Poison Pills: Share for Share Exchange
Acquirer Shareholder Ownership Dilution Due to Poison Pill
New Company SharesOutstanding1
Ownership Distribution inNew Company (%)
Without Pill With Pill Without Pill With Pill
Target Firm Shareholders
Shares Outstanding
Total Shares Outstanding
1,000,000
1,000,000
2,000,000
2,000,000
50 673
Acquiring Firm Shareholders
Shares Outstanding
New Shares Issued
Total Shares Outstanding4
1,000,0001,000,000
2,000,000
1,000,0002,000,0002
3,000,00050 33
1Acquirer agrees to exchange one share of acquirer for each share of target stock.
2Poison pill provisions enable each target shareholder to buy one share of target stock at a nominalprice for each share they own. Assume all target shareholders exercise their rights to do so.32,000,000/3,000,0004Target shares are cancelled upon completion of transaction.
f C C
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Market for Corporate Control:Post-Offer Takeover Defenses
Greenmail Standstill agreement
Pac-man defense
White knights
Employee stock ownership plans
Recapitalization
Share buy-back plans
Corporate restructuring
Litigation
Just say no
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Discussion Questions
1. Discuss the advantages and disadvantages ofthe friendly versus hostile approaches tocorporate takeovers. Be specific.
2. Do you believe that corporate takeoverdefenses are more motivated by the targetsmanagers attempting to entrench themselvesor to negotiate a higher price for their
shareholders? Be specific.
I t Sh h ld V l
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Impact on Shareholder Value
Friendly transactions result in average abnormal returnsto target shareholders of 20%
Hostile transactions result in average abnormal returnsto target shareholders of 30-35%
Bidders shareholders earn average abnormal returnsthat are zero or slightly negative; however, often positivein certain situations
Recent studies suggest
Takeover defenses have small negative impact onabnormal target shareholder returns
Defenses put in place prior to an IPO may benefittarget shareholders
Bondholders in firms with ineffective defenses (i.e.,vulnerable to takeover) may lose value
Thi t b
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Things to remember...
Hostile takeover attempts and proxy contests affectgovernance through the market for corporate control
Hostile takeover attempts tend to benefit targetshareholders substantially more than the acquirersshareholders 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 acquirersshareholders and
Increase the time required for the acquirer tocomplete the transaction to give the target additionaltime to develop an anti-takeover strategy.