By definition, it says that it gives the shareholders of the target firm an option to purchase the acquiring company’s shares at a discount price, and this move will dilute the acquiring company’s shares and thus makes the takeover more unfavorable.
Why would any shareholders of the acquiring firm agree to sell their shares at a discount price to the target company’s shareholders? And if no new shares are issued, how could this dilute the acquiring firm’s shares?
If the new shares are issued and sold to the target company’s shareholders, yes it will dilute the shares, but…I mean why would the acquiring company do such things? To make its own takeover attempt harder? It doesn’t make any sense to me…
Could someone enlighten me?
Greetings friend! It’s been a while since I was a corporate attorney, but I will give it a go with a general description. I also defer to others who have dealt with this topic more recently than me, of course.
A poison pill is a defense mechanism against future hostile takeovers that a company builds into its own shareholders’ agreement or shareholders’ rights plan, etc. In the typical case, lawyers draft language into these documents that give a company a right to issue more shares at a discount (in the case of a poison pill) to its existing shareholders in the event a hostile takeover bid is submitted to the company’s board of directors. The acquirer is not allowed to participate in this discount share purchase, they are outside looking in.
The shareholders’ agreement (or shareholders’ rights plan as the case may be) are documents that are part of the target company long before a hostile bid is presented. They carefully describe in legal terms what actions the target company may take for itself, in the event a hostile takeover bid presents itself or if a company suddenly acquires say 25% or more of the company’s shares. So this is something a potential hostile bidder will see during their initial due diligence, prior to making any acquisition attempts. And the language written into those documents therefore acts as a deterrent to hostile bids, because the potential hostile bidder will see that if they do X, then the company can do Y and dilute them out giving new, cheap shares to existing shareholders who will vote against the hostile takeover bid when it comes to the board of directors and submitted to a proxy vote. It’s all pre-coded into the target company’s legal DNA by their attorneys and is their shield against future attacks.
Now specifically to your flip-over poison pill question: in practice, this is again something pre-coded into the target company’s legal document DNA. Usually in the company’s bylaws, which makes up part of the charter documents for that target company. The target company’s lawyers will have written in conditional language addressing a takeover scenario, and what will be required for the board of directors of the target company to accept the takeover bid. It’s like a precondition that the target company’s lawyers drafted into the bylaws to chase off potential suitors because they know that in order for their bid to succeed at the board level, they will need to sell their own shares to the target company’s shareholders at a discount as part of their bid package. So it’s a precondition drafted in public, forced on anyone desiring to make a winning bid. If a company still bids, it agrees to this as part of their bid package. Otherwise it won’t succeed with the board because it’s against the bylaws.
Cheers - good luck - you got this 