Chapter 5

Takeover and Defence Tactics

Copyright 2009 Vikas Publishing House rights reserved. Prasad G. Godbole. All Pvt. Ltd. All rights reserved.

CHAPTER 5

Introduction

When the existing promoters are not ready to give up their control and the acquirer is hell bent upon acquiring the target company then the corporate game turns into a war and both sides have to deploy tactics.

CHAPTER 5

Friendly versus Hostile Takeovers

Friendly Takeovers
1. The promoters/management of the target company are, in principle, agreeable to be taken over by the acquirer and are willing to peacefully cede control over the target company to the acquirer. There is cooperation between the acquirer and the target company. The target company shares the critical information required by the acquirer to carry out valuation of the target company. Chances of the acquirer allowing the promoters/management of the target company to continue having important role postacquisitions are far better. Example: Daiichi Sankyos acquisition of Ranbaxy 1.

Hostile Takeovers
Sometimes, promoter group receives an offer from a prospective acquirer whom they dont want to sell out. It may also happen that some of the entities in the promoter group are against the sales out. On such occasions, the hostile takeover battle follows. An acquirer has to depend upon information available in public domain only and has to force his way for due diligence and regulatory compliance. Allowing continuation of the target companys management/promoters is highly unlikely.

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Example: Mittal Steels acquisition of Arcelor

CHAPTER 5

Takeover Tactics
Dawn Raid

In this, brokers acting on behalf of acquirer/raider jump down on stock exchange(s) at the time of its opening and buy all available shares before the target/prey wakes up. This is not a good tactic.

An acquirer can get a sizeable chunk in capital in the dawn raid

only if the scrip is highly liquid in comparison to its total paidup capital.

Whether the target wakes up or not, the investor certainly

would. This would make the price shoot up requiring the acquirer to covering out much more money. It may also happen that the investors, sensing the acquisition, may hold back the quantity offered thereby reducing the liquidity and making the dawn raid fail. Cont..

CHAPTER 5

Takeover tactics

In the Indian context, dawn raid would be much more

expensive.
Indian takeover regulations prohibit the acquirer, along with the persons acting in concert with him, from acquiring 15 percent or more shares or voting capital (including the shares or voting capital already held) of the target company without making an open offer.

It is rather more cautious to gradually acquire upto slightly below 15

per cent over a period of time and then make an open offer.

CHAPTER 5

Takeover Tactics
Bear Hug

The acquirer makes a very attractive tender offer to the management of the target company for the latters shareholders and asks it to consider the same offer in the interest of the shareholders. This is a sound tactic.
Such an offer is backed by the acquirers preparedness to make a hostile open offer to the public shareholder if the board of the target company rejects the offer.
The board of the target company is bound to consider it impartially on account of its fiduciary capacity in protecting public shareholder interests . If the offer is really very good for the public shareholders, the board generally cannot reject it, chances may come that public shareholders would favorably respond to the offer.

CHAPTER 5

Bear Hug Takeover Tactic

Accept or Reject???

Offer beneficial for shareholders

Company B

Company A

CHAPTER 5

Takeover Tactics
Saturday Night Special

This is the same tactic as bear hug but made on a Friday or Saturday night (last working day of the week) asking for a decision on Monday (first working day of the subsequent week). The idea behind this is to give very little time to the promoter/board of the target company to set up their defences. This is also called Godfather Offer.

CHAPTER 5

Takeover Tactics

Proxy Fight In this tactic, the acquirer convinces majority (in value) shareholders to issue proxy rights in his favour so that he can remove the existing directors from the board of the target company and appoint his own nominees, thereby, taking control of the target company. This method is not sustainable because
Every time the acquirer will have to keep on acquiring proxies from the geographically scattered shareholders. Such removal or appointment of majority of directors will be treated as an acquisition of control over the target company requiring the acquirer to make an open offer.

CHAPTER 5

Successful Takeover Tactics in India

Market accumulation followed by an offer

Given the Indian takeover regulations, it would rather be more

prudent to gradually purchase from the stock market upto slightly below 15 per cent over a period of time and then make an open offer.

The acquirer can and should control the highest price paid by him
while purchasing the shares in the stock market.

Also, acquisition upto first 5 per cent can be done without any
disclosure, helping the acquirer to keep his market acquisition cost low.

CHAPTER 5

Successful Takeover Tactics in India

Negotiated deal with financial institutions followed by an open offer

It is an effective tactic to convince financial institutions (FIs) to sell

shares to the acquirer.

Upon striking such a deal, an acquirer would first enter into a

Memorandum of Understanding (MOU) with them to acquire more than 15 per cent stake. This would then have to be followed by an open offer.

The open offer will have to be for minimum 20 per cent of the equity
capital of the company.

CHAPTER 5

Successful Takeover Tactics in India

Negotiated deal with a breakaway promoter faction followed by an open offer

Some of the factions who get sidelined in managing the company This creates an opportunity for an acquirer to acquire a sizeable

are sometimes willing to get out at the right price by selling out to other promoter faction(s) or to outsiders.

chunk of the stake from a breakaway faction(s) and then make an open offer to wrestle the control out of the hands of the entire promoter family.

CHAPTER 5

Successful Takeover Tactics in India

Direct offer to the shareholders of the target company

In this tactic, the acquirer/raider makes an open offer to the shareholders of the target company without acquiring any substantial shares either from the open market or through a negotiated deal. In India, an acquirer does not have to acquire any shares of the target company prior to his open offer. In such case, the acquirer has to make an open offer for a very large stake.

CHAPTER 5

Successful Takeover Tactics in India

Disadvantage:

If such an offer fails, but still a good amount of shares

are tendered by the shareholders, the acquirer would have to acquire them and sink a good amount of money without gaining any control over the target company. Advantage: The acquirer would not have sunk any money in the market purchases.

CHAPTER 5

Defence Tactics
Crown Jewels

The target company sells its highly profitable or attractive business/division to make the takeover bid less attractive to the raider.

CHAPTER 5

Defence Tactics
Blank Cheque

The target company makes a preferential allotment to existing promoters or friendly shareholders to increase the control of the promoter group. In India, such a preferential issue is governed by SEBI (Disclosure and Investor Protection DIP) Guidelines, 2000. The existing promoters have to pay a price close to the market price, which makes such preferential allotment expensive. A preferential allotment would normally trigger an open offer requiring the promoters to buy additional 20 percent from the public. This makes the blank cheque tactic very expensive in India and cannot be effectively used.

CHAPTER 5

Defence Tactics
Shark repellents The target company amends its charter, i.e., Memorandum of Association or Article of Association or the like to make the takeover expensive or impossible.

CHAPTER 5

Defence Tactics

Examples: A company may stipulate a certain minimum educational qualification and/or experience for directors, so that an acquirer finds it difficult to depute his people on the board. Another shark repellent could be stipulating that a super majority (say 90 percent) would be required to approve a merger. This would make it impossible for the acquirer to merge the target company with the acquirer company.

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Defence Tactics
Poison Pill
The term poison pill is used to generally refer to any strategy which upon a successful acquisition by the acquirer, creates negative financial results and leads to value destruction.

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Defence Tactics
Poison pill can take various forms:

The target company may issue rights/warrants to the existing shareholders entitling them to acquire large number of shares in the event an acquirers stake in the company reaches a certain level (say 30 percent). This is also called shareholders right plan. In India, however, this is not possible under extant regulations.

The target company may add to its charter a provision that gives the current shareholders a right to sell their shares to the acquirer at an increased price (say 100 percent above last two or four weeks average price), if the acquirer's stake in the company reaches a certain limit (say 30 percent ). This kind of poison pill would ensure a high exit price for the existing shareholders. In India, however, this would not be allowed under extant regulations.

CHAPTER 5

Defence Tactics

-The target company may borrow large long-term funds from banks or financial institutions, or other lenders. However, the repayment terms would be such, that in the event of a takeover of the target company the same would become repayable immediately. It may further add twist by making the loan repayable at a premium. This tactic is possible in India. -The target company may borrow not for its genuine needs but for paying one time huge dividend to the shareholders. This tactic is also known as leveraged cash out. In India, this is possible. -The target company may buy back its shares using borrowed funds. This will have a double effect of increasing promoters stake and the negative effect on cash flows. The latter would make the target company less attractive to the acquirer, who may drop the plan of acquisition. This is called as leveraged recap or leveraged recapitalization. This tactic is possible in India if executed smartly, working around the SEBI regulations.

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Defence Tactics
People Pill
In this tactic, current management team of the target company threatens to quit en masse in the event of a successful hostile takeover. It is very difficult to engineer this tactic, in practice, since many of the employees, even at senior level, may not be willing to lose their jobs due to their own compulsions.

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Defence Tactics
Scorched Earth
As a takeover defence, it virtually destroys a company while it is being taken over or when it is likely to face a takeover threat . This could be achieved either through extreme form of poison pill or extreme form of crown jewel tactic or through stripping assets. In India this tactic can be used prior to an acquirer making public announcement of an open offer.

ACQUIRERS BEWARE!!

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Defence Tactics
Pacman

The target company or its promoters start acquiring sizeable holding in the acquirer/raiders company, threatening to acquire the raider itself. This makes the acquirer run for cover and forces him to hammer out a truce. This tactic is possible in India prior to the acquirer hitting the trigger for open offer and making the public announcement thereof.

CHAPTER 5

Defence Tactics
Green mail

The target company or the existing promoters arrange through friendly investors to accumulate large stock of its shares with a view to raise its market price. This makes the takeover very expensive for the raider. In India this is possible; however, if it is done in such a manner that the nexus between the existing promoters and the friendly investors who are accumulating the stock is proved, it may trigger an open offer by the existing promoters themselves.

CHAPTER 5

Defence Tactics
White Knight
In this tactic, the target company or its existing promoters enlist the services of another company or group of investors to act as a white knight who actually takes over the target company, thereby foiling the bid of the raider and retaining the control of existing promoters. This tactic is possible in India. Example: Used by Indal to foil Sterlites bid.

CHAPTER 5

Defence Tactics
Grey Knight
In this tactic, the services of a friendly company or a group of investors are engaged to acquire shares of the raider itself to keep the raider busy defending himself and eventually force a truce. This is also possible in India.

CHAPTER 5

Defence Tactics
Golden Parachute

In this tactic, a contractual guarantee of a fairly large sum of compensation is issued to the top and/or senior executives of the target company whose service are likely to be terminated in case the takeover succeeds.

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Defence Tactics

Buy-back as a takeover defence tactic

Buy-back, with or without a creeping acquisition, can help the existing promoters to consolidate significantly their stake without requiring to shell out their own money, except for creeping acquisition part.

However, what would happen, if due to the buy-back, the existing promoters stake increases by more than 5 percent? Would it trigger an open offer? SEBI used to maintain the view that for any increase in the promoters holding (in terms of percentage) as a result of buy-back, the promoters should seek exemption from making an open offer from SEBI (failing which they would have to make an open offer). Now it has allowed such increase upto 5 per cent beyond which, either an exemption by SEBI or open offer would be necessary.

CHAPTER 5

Defence Tactics

In India, at least as of now, a company cannot effect a buy-back out of borrowed funds. However, nothing prevents a company from borrowing in the ordinary course of business (ideally before passing the buy-back resolution), thereby, releasing its free reserves hitherto blocked in the business assets and then effect a buy-back out of free reserves. In short, in India, if one wants to use buy-back as a takeover defence tactic, he has to follow a circuitous route at present.