Demystifying Poison Pills: Safeguarding Companies in M&A

Poison pills, formally known as shareholder rights plans, are financial defense mechanisms employed by companies to deter hostile takeovers and protect shareholder interests. In this article, we'll delve into poison pills, explain their mechanisms, and provide multiple real-world examples, including their use by Yahoo, Rio Tinto, Airgas, and Allergan.

What are Poison Pills?

A poison pill is a corporate measure designed to make a hostile takeover attempt less attractive to the potential acquirer. It operates on the premise that a hostile bidder will be discouraged by the prospect of significant financial loss if the takeover proceeds. Here's a detailed look at how poison pills work:

• Triggering Event: A company's board of directors creates a poison pill plan, outlining specific conditions or events that would trigger the plan's activation. This trigger event is typically the acquisition or attempted acquisition of a substantial stake in the company by an external party, often referred to as the hostile bidder.
• Rights Issuance: When the triggering event occurs, the company issues rights to its existing shareholders. These rights are commonly referred to as "poison pills." Shareholders receive these rights either as detachable rights certificates or as a dividend. The poison pill rights grant shareholders the option to purchase additional shares in the company at a significant discount to their market value.
• Dilution Effect: If the hostile bidder accumulates a substantial stake in the target company, the poison pill rights become exercisable. When exercised, the rights significantly dilute the hostile bidder's ownership percentage. This dilution makes it financially unattractive for the hostile bidder to proceed with the takeover, as their ownership stake is diluted, and the cost of acquiring additional shares becomes prohibitive.

Now, let's explore four real-world examples of poison pills - including how they were used to defend against hostile takeover attempts:

Example 1: Yahoo's Poison Pill in Response to Microsoft's Hostile Takeover Attempt (2011)

In 2011, Yahoo faced a hostile takeover bid from Microsoft, which Yahoo's management believed undervalued the company. To defend against the takeover, Yahoo's board of directors implemented a poison pill plan. The trigger event was set at 15% ownership of Yahoo's outstanding shares by any entity. When this threshold was reached, the poison pill rights would be issued to existing shareholders, allowing them to purchase additional shares at a significant discount. The poison pill proved effective in deterring Microsoft's takeover attempt, and the bid was ultimately abandoned.

Example 2: Rio Tinto's Poison Pill Defense Against BHP Billiton (2008)

In 2008, the global mining industry witnessed a hostile takeover bid when BHP Billiton sought to acquire Rio Tinto. Rio Tinto's board of directors adopted a poison pill strategy to protect against the takeover. The trigger event in this case was the acquisition of a 50% ownership stake in Rio Tinto by BHP Billiton or any other entity. If this threshold was reached, poison pill rights would be issued to existing shareholders. These rights allowed shareholders to purchase additional shares at a substantial discount, leading to a dilution of the hostile bidder's ownership. BHP Billiton ultimately withdrew its takeover bid, at least in part due to the poison pill's deterrent effect.

Example 3: Airgas's Successful Use of Poison Pill (2010)

In 2010, Airgas, a U.S. industrial gas company, faced a hostile takeover bid from Air Products and Chemicals. Airgas implemented a poison pill plan with a trigger set at a 10% ownership threshold. The poison pill successfully thwarted the hostile takeover attempt, as Air Products and Chemicals struggled to accumulate the necessary shares to trigger the plan. As a result, Airgas' board was able to negotiate a higher acquisition price, ultimately securing a better deal for its shareholders.

Example 4: Allergan's Fight Against Valeant Pharmaceuticals (2014)

In 2014, Allergan, a pharmaceutical company known for its Botox product, became the target of a hostile takeover attempt by Valeant Pharmaceuticals, supported by hedge fund Pershing Square Capital Management. Allergan's board adopted a poison pill defense strategy to fend off the takeover. The trigger event was set at a 10% ownership threshold. This triggered the issuance of poison pill rights to Allergan shareholders, enabling them to purchase additional shares at a discount. The poison pill, combined with further actions by Allergan's board (including pursuing alternative acquisition deals) ultimately led to the termination of Valeant's takeover bid.

Conclusion: The Controversial Option in Corporate Defense

Poison pills remain a potent and often controversial weapon in the arsenal of corporate hostile takeover defenses. They serve to protect a company's independence, value, and long-term interests by making hostile takeovers financially onerous. While they have been effective in deterring hostile bidders, they also generate debates over corporate governance and shareholders' rights. These real-world examples, including Yahoo, Rio Tinto, Airgas, and Allergan, showcase the significant impact that poison pills can have on the dynamics of mergers and acquisitions.