Bailout Takeover

A type of takeover in which a struggling company is bought by another company to keep it from going bankrupt

Author: Jake Heimowitz
Jake Heimowitz
Jake Heimowitz
IU Kelley School of Business Class of '25. I worked for Wall Street Oasis the summer following my freshman year of college at IU which undoubtedly broadened my understanding of financial research. I've since interned with Oppenheimer & Co as an Equity Research Summer Analyst and am excited to continue my career within finance.
Reviewed By: Rohan Arora
Rohan Arora
Rohan Arora
Investment Banking | Private Equity

Mr. Arora is an experienced private equity investment professional, with experience working across multiple markets. Rohan has a focus in particular on consumer and business services transactions and operational growth. Rohan has also worked at Evercore, where he also spent time in private equity advisory.

Rohan holds a BA (Hons., Scholar) in Economics and Management from Oxford University.

Last Updated:March 28, 2024

What is a Bailout Takeover?

A bailout takeover is an acquisition by a financially stable and strong organization of a financially weak and challenged organization.

This assumption of control by a strong company over a weak company is intended to aid the target/weak company in overcoming its financial turmoil without liquidating its assets.

This process includes acquiring a controlled amount of the weak company's common stock shares. The main aim of the takeover is to prevent the collapse of the companies involved because they are deemed too important for the economy to flourish.

Bailout takeovers can benefit both the acquiring company and the acquired company.

  • Acquiring Company: This company can purchase a struggling company for a fraction of its worth, turn it around, and then sell it off for profit. 
  • Acquired company: This company can avoid bankruptcy and keep its business running. However, it can also be risky, as the acquired company may not be able to make a successful turnaround.

Whether you oppose or support the bailout takeover, it can indeed be a helpful way to keep struggling companies afloat.

Key Takeaways

  • A bailout takeover is acquiring a financially distressed company by a financially stable entity, often to prevent the weak company from facing bankruptcy and aiding its recovery.
  • Bailout takeovers can benefit both the acquiring and acquired companies. The acquiring company may purchase a struggling entity at a fraction of its value, turn it around, and sell it for a profit.
  • The reasons to use bailouts include preventing bankruptcy, maintaining economic stability, addressing entities considered "too big to fail," and dealing with controversies and risks associated with bailouts.
  • Bailout deals can impact a company's stock, temporarily depressing it due to perceived instability. However, successful bailouts can restore investor confidence over time.

Understanding Bailout Takeover

A bailout takeover is a type of takeover in which the government or a financially stable company buys out a company to save it from bankruptcy or insolvency.

This is often done in cases where the company being purchased is seen as vital to the economy or national interests. 

To help save the troubled company's operations, the acquiring entity would typically develop a rescue plan and assign someone to lead the recovery project while safeguarding shareholders' interests.

The bailout can take the form of stock, bonds, loans, or cash. If a takeover is done in stock, the acquired company would have to buy back the shares from the acquirer once it regains its financial integrity.

Bailout takeovers can have a positive or negative effect on the company being bought out and the economy as a whole. However, in some cases, such as the 2008 financial crisis, it can stabilize a failing company and help it regain its financial strength. 

However, the takeover can lead to job losses and further financial instability in other cases. The bailout may not work or be prolonged and would only serve as a temporary delay to a persistent problem.

There are several reasons why bailout takeovers have become more common in recent history:

  1. Global Economic Slowdown: Slower economies pressure many companies, making them more susceptible to financial difficulties. 
  2. Rising Number of Private Equity Firms: Larger pools of capital give way to financing these types of takeovers.
  3. Increased Regulation of the Financial Sector: Regulation makes it more difficult for companies to raise capital in traditional ways, making bailout takeovers an attractive alternative.

Why Bailout a Company?

There are a lot of different reasons why companies get bailouts. Sometimes it's because they're in financial trouble and need a little help to stay afloat. Other times, it's because they're facing a legal issue or are undergoing a restructuring.

Below there are a few reasons why a corporation can opt for a Bailout. They are"

  1. Preventing Bankruptcy: One of the main reasons to go for a bailout is to pull a corporation out of financial turmoil. The aim is to protect companies from potential insolvency and collapse.
    • This is done by pumping capital for financing daily operations and prevent layoffs.
  2. Economic Stability: In the event of financial troubles, a corporation may face job losses, economic instability, and investor losses, which impact a wider audience.
  3. Too Big To Fail: One of the many reasons a bailout happens is that some corporations in the nation are "too big to fail." Their bankruptcy or failure can impact the economy in ways that cause many socio-economic disturbances.
  4. Controversies And Risks: Bailouts can be expensive for taxpayers or investors and come with dangers such as moral hazard, where businesses take excessive risks knowing they will be bailed out. Bailouts, according to its detractors, can exacerbate market inefficiencies and prolong recessions.

Furthermore, government bailouts also discourage productive and stable, carefully managed businesses, preventing resources from being better used and making the markets less efficient. 

Despite the criticism, government bailouts continue. Here is a tracker of the $700 billion bailout of the U.S. financial system following the 2008 financial crisis. 

In conclusion, businesses are bailed out to preserve economic stability, stop employment losses, safeguard essential industries, and avert wider economic fallout. However, bailouts are also associated with dangers and debates about moral hazard and market inefficiencies.

How Does a Bailout Takeover Work?

In a typical corporate bailout takeover, a private equity firm purchases a controlling stake in the target company from its existing shareholders and works with the acquired company's management to turn around the business. 

This can involve a variety of measures, such as:

  1. Reducing Costs
  2. Improving Efficiency
  3. Increasing Revenue

Private equity firms typically invest their own money in these takeover deals but may also raise money from other institutional investors. 

Once the private equity has taken control of the acquired company, it will typically hold the acquired company for three to five years before selling it off again, hopefully at a profit.

Bailout takeovers can be risky ventures, but if successful, they can result in a substantial return on investment for the private equity firm and its investors.

As mentioned above, in a government bailout takeover, the government steps in to take control of a failing company to prevent it from going bankrupt. This process typically takes place when a company is too large or essential to the economy to be allowed to fail.

This type of bailout takeover can work in a few different ways. Sometimes, the government will take over the company and run it themselves.

In other cases, the government will provide financial assistance to the company to help it regain its footing.

And in some cases, the government will work with private investors to help them take over the company.

Bailout Deal

In recent years, the term "bailout deal" has become increasingly common in business. It is a term that describes the point of interaction between the acquirer and the failing company that is being purchased. 

Here are some of the features of the bailout deal

  1. Financial Support: A bailout deal is a type of financial transaction in which a company or individual receives financial assistance from another party to avoid bankruptcy or default. 
  2. Protecting Shareholders' Interests: Bailout deals protect a company's investors, who would otherwise lose their money if the company went bankrupt.
    • They are often used in extreme financial distress when it is clear that the entity will not be able to meet its obligations without outside help.
  3. Regulations And Oversight: While bailout deals can be a lifeline for struggling businesses, they often come with strict conditions that the company must adhere to to receive the funds.
    • These conditions can include making significant changes, such as selling off assets or giving up control to the party providing the bailout funding.
  4. Criticisms And Risks: Bailout accords can be contentious due to concerns about moral hazard, market inefficiencies, and the cost to taxpayers or investors.

In the current economic climate, bailout deals have become increasingly common. We've seen bailout deals for banks, car companies, and countries.

As the world economy becomes increasingly interconnected, we'll likely see even more bailout deals in the years to come.

What Happens to a Company’s Stock?

The impact of a bailout deal can vary, but one of the most common effects is that the acquired company's stock price takes a hit. The market views a bailed-out company as less stable and less trustworthy than one that does not need external assistance. 

As a result, investors may be less likely to buy the company's stock, which can lead to a decline in the stock's price. However, there are some cases where the stock value will go up. This is usually when the company is saved from bankruptcy and again seen as a good investment.

The impact of a bailout deal on a company's stock price is usually temporary and depends on the overall market conditions. Generally, a bailout deal is intended to help a company stay afloat, so it is usually seen as a positive thing for the company's stock price in the long run.

Examples of bailout takeover

The 2008 financial crisis was a turning point for the U.S. economy. The collapse of the housing market and the implosion of mortgage-backed securities (MBS) severely destabilized the financial system and pushed many companies to bankruptcy or insolvency. 

The severity of the crisis triggered the unprecedented federal intervention in which the U.S. government bailed out multiple large companies with toxic assets, such as Fannie Mae, Freddie Mac, Bear Stearns, and the American International Group. 

The Troubled Assets Relief Program (TARP)

As mentioned above, the financial crisis of 2008 led to the largest bailout in U.S. history. The federal government committed more than $700 billion to rescue the failing banking system. 

The Troubled Asset Relief Program, or TARP, was created to purchase toxic assets from banks to stabilize the economy. The purpose of this program was to make money markets more liquid, reducing the collateral losses of the owning institutions.

The program shifted focus later and allowed the government to buy equity in financial institutions, initially giving the Treasury $700 billion in purchasing power and later reducing that to $475 billion.

In October 2008, Congress passed the Emergency Economic Stabilization Act, which authorized the TARP. The TARP was overseen by the Office of Financial Stability, which the Act created. 

The TARP was initially run by Neel Kashkari, who Herb Allison replaced in 2009. It was controversial originally, as many felt it was a way for the government to bail out the banks. 

It's still unclear whether the bailout was successful. But one thing is certain: the government's intervention in the economy was unprecedented.

American International Group (AIG)

In 2008, the federal government took over the failing insurance giant American International Group (AIG) for $180 billion. The company struggled to stay afloat after making several poor investment decisions.

It was believed that AIG's failure would jeopardize the financial stability of not only its trading partners, such as Goldman Sachs, Bank of America, and Morgan Stanley, but also multiple central European banks. 

The AIG takeover was one of the most high-profile bailouts in recent history, and the government's move was controversial. Some people felt that the government should have let AIG fail, while others believed that the bailout was necessary to prevent a more significant financial crisis.

Although the AIG bailout is still controversial today, it provides an excellent example of how the government can intervene to save a struggling company.

Researched and authored by Jake Heimowitz | LinkedIn

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