According Wikipedia a Takeover maybe defined as a the purchase of one company (the target) by another (the acquirer, or bidder) taking over a company. In United Kingdom and as well as in South Africa, the term refers to the acquisition of a public company whose shares are listed on a stock exchange, in contrast to the acquisition of a private company.
Mergers and acquisitions: These two words represent how companies buy, sell and recombine businesses. They’re also the reason why today’s corporate landscape is a maze of conglomerations. Insurance companies own breakfast cereal makers, shopping mall outlets are part of military manufacturing groups, and movie studios own airlines, all because of mergers and acquisitions.
Not all Mergers & Acquisitions are peaceful, however. Sometimes, a company can take over another one against its will — a hostile takeover. How can they do that? In this article, we’ll find out how hostile takeovers happen, how to prevent them and why a hostile takeover isn’t always a bad thing.
A hostile takeover occurs when an acquirer buys another entity (the target) despite the objections of the managers of the target organization. A hostile takeover can be accomplished either through a tender offer or a proxy fight. Both options essentially go around the target’s management team.
The Tender Offer
An acquirer may resort to a tender offer to appeal directly to the shareholders of the target company. The SEC defines a tender offer as follows:
“A tender offer is a broad solicitation by a company or a third party to purchase a substantial percentage of a company’s … registered equity shares or units for a limited period of time. The offer is at a fixed price, usually at a premium over the current market price, and is customarily contingent on shareholders tendering a fixed number of their shares or units.”
The particular advantage of a tender offer is that the acquirer is under no obligation to buy any shares that have been put forward by shareholders until a stated total number of shares have been tendered. This eliminates the initial need for large amounts of cash to buy shares, and also keeps the acquirer from having to liquidate its stock position in case the tender offer fails. The acquirer can include escape clauses in its tender offer that releases it from the liability to purchase any shares; for example, an escape clause could state that, if the government rejects the proposed acquisition for anti-trust reasons, the acquirer can refuse to buy tendered shares. Such an escape clause is only prudent for the acquirer, which would otherwise have to buy shares that it no longer needs, since the acquisition will not be allowed to proceed.
Another advantage of the tender offer is that the acquirer could potentially gain control of the target company in as little as 20 days, if it can persuade shareholders to accept its offer. This period will be extended if a rival bidder appears or if not enough shares are tendered. Even so, the matter will typically be decided within a few months.
The Proxy Fight
A proxy fight is an attempt by those not in control of a business to use the proxy method of voting to obtain a sufficient number of shareholder votes to gain control of the board of directors. The result is a change in the membership of the board, which then leads to a change in the management of the target company. The new board may approve of being acquired by the entity that initiated the proxy fight.
The term proxy fight is derived from the use of proxies. A proxy is the authorization of shareholders to vote their shares for them at the shareholders meeting. Since shares are voted at the shareholders meeting, and few shareholders bother to appear for that meeting, they instead grant a proxy to someone else who will be attending the meeting to vote their shares, such as the corporate secretary. It is the task of the acquirer to obtain the proxies for as many shares as possible, which it can then vote at the shareholders meeting.
Directors are elected once a year by the common shareholders, at the annual shareholders meeting that takes placed anywhere from two to five months following the end of a company’s fiscal year-end. There may also be a special shareholders meeting for such issues as considering an acquisition offer, if a sufficient percentage of the voting shareholders request the meeting.
In a proxy fight, the acquirer and the target company use a variety of solicitation methods to influence shareholder votes for members of the board of directors. Shareholders must be sent a Schedule 14A, which contains a substantial amount of financial and other information about the target company; if the proxy fight is over a motion to sell the company, the schedule also includes the terms of the proposed acquisition. The basic steps in a proxy fight are:
- The acquirer hires a proxy solicitation firm, which is responsible for contacting shareholders.
- The proxy solicitor compiles a shareholder list and then contacts shareholders to state the case of the acquirer. In cases where shares are registered in the names of stock brokerages, the brokerages consult with the share owners regarding the voting positions they will take.
- Individual shareholders or stock brokerages submit their votes to the entity designated to aggregate the information, such as a stock transfer agent or brokerage. These results are then forwarded to the corporate secretary of the target company just prior to the shareholders meeting. Votes may be scrutinized by proxy solicitors and challenged if votes are unclear, voted multiple times, or not signed.
- Directors are approved based on the votes received.
It can be quite difficult to gain the attention of shareholders, since the vast majority of them are completely apathetic in reviewing the options for directors. Instead, they usually agree to the director voting recommendations mailed to them without any examination of qualifications or underlying issues at all. The same level of apathy may apply to acquisition votes. However, a proxy fight might be favorable for the acquirer if the target company has been suffering from poor financial results, which might make shareholders restive. It is especially useful if the acquirer has a concrete proposal for turning around the business or shifting more cash to shareholders, such as through the use of asset sales, sale of the business, or increased dividends.
A proxy fight is not a high-probability option for an acquirer. However, it can still lead to changes, since the board of directors may be sufficiently scared by the proxy fight to enact a few changes to keep from triggering another proxy fight in the future. Examples of preventive changes include unusually large dividends and the sale of assets. In short, the acquirer must consider the low probability of acquiring through this approach and the costs incurred for proxy advisors, communications with shareholders, litigation, and proxy materials.
Types of Takeovers
A “friendly takeover” is an acquisition which is approved by the management. Before a bidder makes an offer for another company, it usually first informs the company’s board of directors. In an ideal world, if the board feels that accepting the offer serves the shareholders better than rejecting it, it recommends the offer be accepted by the shareholders.
In a private company, because the shareholders and the board are usually the same people or closely connected with one another, private acquisitions are usually friendly. If the shareholders agree to sell the company, then the board is usually of the same mind or sufficiently under the orders of the equity shareholders to cooperate with the bidder. This point is not relevant to the UK concept of takeovers, which always involve the acquisition of a public company.
A “hostile takeover” allows a bidder to take over a target company whose management is unwilling to agree to a merger or takeover. A takeover is considered “hostile” if the target company’s board rejects the offer, but the bidder continues to pursue it, or the bidder makes the offer directly after having announced its firm intention to make an offer. Development of the hostile tender is attributed to Louis Wolfson.
A hostile takeover can be conducted in several ways. A tender offer can be made where the acquiring company makes a public offer at a fixed price above the current market price. Tender offers in the United States are regulated by the Williams Act. An acquiring company can also engage in a proxy fight, whereby it tries to persuade enough shareholders, usually a simple majority, to replace the management with a new one which will approve the takeover. Another method involves quietly purchasing enough stock on the open market, known as a “creeping tender offer”, to effect a change in management. In all of these ways, management resists the acquisition, but it is carried out anyway.
The main consequence of a bid being considered hostile is practical rather than legal. If the board of the target cooperates, the bidder can conduct extensive due diligence into the affairs of the target company, providing the bidder with a comprehensive analysis of the target company’s finances. In contrast, a hostile bidder will only have more limited, publicly available information about the target company available, rendering the bidder vulnerable to hidden risks regarding the target company’s finances. An additional problem is that takeovers often require loans provided by banks in order to service the offer, but banks are often less willing to back a hostile bidder because of the relative lack of target information which is available to them.
A well known example of an extremely hostile takeover was Oracle’s hostile bid to acquire PeopleSoft.
A “reverse takeover” is a type of takeover where a private company acquires a public company. This is usually done at the instigation of the larger, private company, the purpose being for the private company to effectively float itself while avoiding some of the expense and time involved in a conventional IPO. However, in the UK under AIM rules, a reverse take-over is an acquisition or acquisitions in a twelve-month period which for an AIM company would:
- exceed 100% in any of the class tests; or
- result in a fundamental change in its business, board or voting control; or
- In the case of an investing company, depart substantially from the investing strategy stated in its admission document or, where no admission document was produced on admission, depart substantially from the investing strategy stated in its pre-admission announcement or, depart substantially from the investing strategy.
An individual or organization, sometimes known as corporate raider, can purchase a large fraction of the company’s stock and, in doing so, get enough votes to replace the board of directors and the CEO. With a new agreeable management team, the stock is a much more attractive investment, which would likely result in a price rise and a profit for the corporate raider and the other shareholders.
A “backflip takeover” is any sort of takeover in which the acquiring company turns itself into a subsidiary of the purchased company. This type of takeover can occur when a larger but less well-known company purchases a struggling company with a very well-known brand. Examples include:
- The Texas Air Corporationtakeover of Continental Airlines but taking the Continental name as it was better known.
- The SBC takeover of the ailing AT&Tand subsequent rename to AT&T.
- Westinghouse’s 1995 purchase of CBS and 1997 renaming to CBS Corporation, with Westinghousebecoming a brand name owned by the company.
- NationsBank‘s takeover of the Bank of America, but adopting Bank of America’s name.
Financing a takeover
Often a company acquiring another pays a specified amount for it. This money can be raised in a number of ways. Although the company may have sufficient funds available in its account, remitting payment entirely from the acquiring company’s cash on hand is unusual. More often, it will be borrowed from a bank, or raised by an issue of bonds. Acquisitions financed through debt are known as leveraged buyouts, and the debt will often be moved down onto the balance sheet of the acquired company. The acquired company then has to pay back the debt. This is a technique often used by private equity companies. The debt ratio of financing can go as high as 80% in some cases. In such a case, the acquiring company would only need to raise 20% of the purchase price.
Loan note alternatives
Cash offers for public companies often include a “loan note alternative” that allows shareholders to take a part or all of their consideration in loan notes rather than cash. This is done primarily to make the offer more attractive in terms of taxation. A conversion of shares into cash is counted as a disposal that triggers a payment of capital gains tax, whereas if the shares are converted into other securities, such as loan notes, the tax is rolled over.
All share deals
A takeover, particularly a reverse takeover, may be financed by an all share deal. The bidder does not pay money, but instead issues new shares in itself to the shareholders of the company being acquired. In a reverse takeover the shareholders of the company being acquired end up with a majority of the shares in, and so control of, the company making the bid. The company has managerial rights.
In the United Kingdom
Takeovers in the UK (meaning acquisitions of public companies only) are governed by the City Code on Takeovers and Mergers, also known as the ‘City Code’ or ‘Takeover Code’. The rules for a takeover can be found in what is primarily known as ‘The Blue Book’. The Code used to be a non-statutory set of rules that was controlled by city institutions on a theoretically voluntary basis. However, as a breach of the Code brought such reputational damage and the possibility of exclusion from city services run by those institutions, it was regarded as binding. In 2006, the Code was put onto a statutory footing as part of the UK’s compliance with the European Takeover Directive (2004/25/EC).
The Code requires that all shareholders in a company should be treated equally. It regulates when and what information companies must and cannot release publicly in relation to the bid, sets timetables for certain aspects of the bid, and sets minimum bid levels following a previous purchase of shares.
- a shareholder must make an offer when its shareholding, including that of parties acting in concert (a “concert party“), reaches 30% of the target;
- information relating to the bid must not be released except by announcements regulated by the Code;
- the bidder must make an announcement if rumour or speculation have affected a company’s share price;
- the level of the offer must not be less than any price paid by the bidder in the three months before the announcement of a firm intention to make an offer;
- if shares are bought during the offer period at a price higher than the offer price, the offer must be increased to that price;
The Rules Governing the Substantial Acquisition of Shares, which used to accompany the Code and which regulated the announcement of certain levels of shareholdings, have now been abolished, though similar provisions still exist in the Companies Act 1985.
There are a variety of reasons why an acquiring company may wish to purchase another company. Some takeovers are opportunistic – the target company may simply be very reasonably priced for one reason or another and the acquiring company may decide that in the long run, it will end up making money by purchasing the target company. The large holding company Berkshire Hathaway has profited well over time by purchasing many companies opportunistically in this manner.
Other takeovers are strategic in that they are thought to have secondary effects beyond the simple effect of the profitability of the target company being added to the acquiring company’s profitability. For example, an acquiring company may decide to purchase a company that is profitable and has good distribution capabilities in new areas which the acquiring company can use for its own products as well. A target company might be attractive because it allows the acquiring company to enter a new market without having to take on the risk, time and expense of starting a new division. An acquiring company could decide to take over a competitor not only because the competitor is profitable, but in order to eliminate competition in its field and make it easier, in the long term, to raise prices. Also a takeover could fulfill the belief that the combined company can be more profitable than the two companies would be separately due to a reduction of redundant functions.
Takeovers may also benefit from principal–agent problems associated with top executive compensation. For example, it is fairly easy for a top executive to reduce the price of his/her company’s stock – due to information asymmetry. The executive can accelerate accounting of expected expenses, delay accounting of expected revenue, engage in sheet transactions to make the company’s profitability appear temporarily poorer, or simply promote and report severely conservative (e.g. pessimistic) estimates of future earnings. Such seemingly adverse earnings news will be likely to (at least temporarily) reduce share price. (This is again due to information asymmetries since it is more common for top executives to do everything they can to window dress their company’s earnings forecasts). There are typically very few legal risks to being ‘too conservative’ in one’s accounting and earnings estimates.
A reduced share price makes a company an easier takeover target. When the company gets bought out (or taken private) – at a dramatically lower price – the takeover artist gains a windfall from the former top executive’s actions to surreptitiously reduce share price. This can represent tens of billions of dollars (questionably) transferred from previous shareholders to the takeover artist. The former top executive is then rewarded with a golden handshake for presiding over the fire sale that can sometimes be in the hundreds of millions of dollars for one or two years of work. (This is nevertheless an excellent bargain for the takeover artist, who will tend to benefit from developing a reputation of being very generous to parting top executives). This is just one example of some of the principal–agent / perverse incentive issues involved with takeovers.
Similar issues occur when a publicly held asset or non-profit organization undergoes privatization. Top executives often reap tremendous monetary benefits when a government owned or non-profit entity is sold to private hands. Just as in the example above, they can facilitate this process by making the entity appear to be in financial crisis. This perception can reduce the sale price (to the profit of the purchaser) and make non-profits and governments more likely to sell. It can also contribute to a public perception that private entities are more efficiently run, reinforcing the political will to sell off public assets.
Pros and cons of takeover
While pros and cons of a takeover differ from case to case, there are a few reoccurring ones worth mentioning.
- Increase in sales/revenues (e.g. Procter & Gambletakeover of Gillette)
- Venture into new businesses and markets
- Profitability of target company
- Increase market share
- Decreased competition (from the perspective of the acquiring company)
- Reduction of overcapacity in the industry
- Enlarge brand portfolio (e.g. L’Oréal‘s takeover of Body Shop)
- Increase in economies of scale
- Increased efficiency as a result of corporate synergies/redundancies (jobs with overlapping responsibilities can be eliminated, decreasing operating costs)
- Expand strategic distribution network
- Goodwill, often paid in excess for the acquisition
- Culture clashes within the two companies causes employees to be less-efficient or despondent
- Reduced competition and choice for consumers in oligopolymarkets (Bad for consumers, although this is good for the companies involved in the takeover)
- Likelihood of job cuts
- Cultural integration/conflict with new management
- Hidden liabilities of target entity
- The monetary cost to the company
- Lack of motivation for employees in the company being bought.
Takeovers also tend to substitute debt for equity. In a sense, any government tax policy of allowing for deduction of interest expenses but not of dividends, has essentially provided a substantial subsidy to takeovers. It can punish more-conservative or prudent management that do not allow their companies to leverage themselves into a high-risk position. High leverage will lead to high profits if circumstances go well, but can lead to catastrophic failure if circumstances do not go favorably. This can create substantial negative externalities for governments, employees, suppliers and other stakeholders.
See also: Golden share
Corporate takeovers occur frequently in the United States, Canada, United Kingdom, France and Spain. They happen only occasionally in Italy because larger shareholders (typically controlling families) often have special board voting privileges designed to keep them in control. They do not happen often in Germany because of the dual board structure, nor in Japan because companies have interlocking sets of ownerships known as keiretsu, nor in the People’s Republic of China because the state majority-owns most publicly listed companies.
Tactics against hostile takeover
There are several tactics, or techniques, which can be used to deter a hostile takeover.
|· Poison pill· Flip-in|
Credit to: http://en.wikipedia.org/wiki/Takeover