Hostile Bid
When the management does not approve the bid, acquirer present their offer directly to the target firm’s shareholders
What Is a Hostile Bid?
A hostile bid is a takeover bid that arises when the target firm's management does not approve of the deal. In this case, the bidders present their offer directly to the target firm's shareholders.
Typically, bidders submit their bids in the form of a tender offer. A tender offer occurs when there is a public bid to buy some or all of a company's stock. Tender offers request that shareholders sell their shares for a set price and within a certain period.
To incentivize shareholders to sell their shares, the tender offer is usually set above the company's current stock price. In the case of a hostile bid, the acquiring company offers to buy the shares from the target firm's shareholders at a significant premium.
The price bidders offer to pay depends on the number of shares that shareholders are willing to sell.
Bidders may have to go directly to a company's shareholders if the acquiring firm's board of directors either is not receptive to the offer or is attempting to prevent the acquisition transaction.
These bids can arise when a company's management rejects a bid because the acquiring company has a reputation for being aggressive.
Understanding Hostile Bids
These can cause substantial shifts in a company's organizational structure. Sometimes, a proxy fight can arise if a company's board of directors takes defensive measures to prevent the merger.
When a proxy fight occurs, the acquiring company often tries to persuade the target firm's shareholders to replace the management. Particular investors, like activist investors, are notorious for imposing takeovers and acquisitions using hostile takeovers.
An activist investor is an individual or group that invests in a company to influence how that company is run and to access seats on the company's board of directors.
An example of a proxy fight is Microsoft's unsolicited offer to buy Yahoo in 2008. Microsoft offered to purchase the company for $31 per share, and the board of directors at Yahoo claimed the offer undervalued their company.
As a result, Yahoo's board delayed any further negotiations with Microsoft. As a result, Microsoft retracted its offer on May 3, 2008, and shortly after that, Carl Icahn (an American financier) initiated a proxy fight to replace Yahoo's board of directors.
Icahn, a large Yahoo shareholder, wanted to replace Yahoo's board with one that would try to arrange a successful merger with Microsoft. He believed that the potential merger would enhance value through synergies.
Despite Microsoft making the initial bid, Yahoo was eventually bought by Verizon for $4.48 billion.
Soliciting Shareholders
To carry out a hostile bid, a variety of solicitation methods are used by both the acquirer and the target firm. First, with the goal of influencing shareholder votes, the acquirer sends Schedule 14A to the target's shareholders.
Schedule 14A, also known as the "definitive proxy statement," provides shareholders with the financial information and terms of the proposed acquisition for them to vote on in the next shareholders' meeting. Oftentimes, acquirers hire solicitation firms to carry out this process for them.
Solicitation firms are tasked with creating a list of shareholders and sending them a written description of the acquiring company's proposal to make changes to the target firm. They must also present reasons for the changes generating more long-term shareholder value.
After this process, the target company's shareholders send their votes to the stock transfer agent or brokerage in charge of collecting this information. It is then shown to the target company's corporate secretary prior to the shareholder's meeting.
Motivations Behind A Hostile Takeover
There are several reasons a company may use such a bid to acquire another company.
1. Increase Long-Term Value: The main motivation of a hostile bid is to purchase a target company whose value will increase in the long term at a low price.
2. Monopoly Power: After acquiring the target firm, the acquirer can take advantage of increased profits, reduction in expenses, economies of scale, and increased market share.
Eventually, the acquirer may obtain monopoly control by acquiring a company with a powerful position in its industry.
If a monopoly arises, the company can benefit from having exclusive control over market prices and distribution networks.
3. New Markets: A company can gain access to new markets through a hostile bid, allowing the acquiring company to save the expenses associated with distribution logistics and industrial facilities.
When attempting to enter a new market, an acquirer will seek firms that already have an
established presence in the specific market and geographical location.
4. Increased Efficiency: Overall, an acquirer can benefit from a hostile bid because a successful deal can increase efficiency. Without bearing the costs of new resources and much risk, the acquirer can operate efficiently in new markets and access more goods and services.
Hostile Takeover Strategies
Now that we have analyzed the reasons why a company may use such a bid, let us discuss some hostile takeover strategies. We will examine two strategies, the "bear hug" strategy and the hostile tender offer.
1. Bear Hug" Strategy:
Using the "bear hug" strategy, bidders will send an open letter to the CEO and board of directors of the company they want to acquire. The letter contains information about their proposed acquisition, including the offer price.
The "bear hug" method aims to persuade the target's board of directors to accept the bid without offering room for negotiation.
The letter also contains an expiration date to pressure the board further to accept the offer by adding a time crunch.
The job of a company's board of directors is to make decisions that are best for its shareholders. So, the board must try to decide whether or not accepting the bid will be beneficial to shareholders.
Deciding on an offer with limited time is a difficult task. The bidder's goal is to put the board in a challenging situation by enacting the bear hug.
A company's board must be careful about rejecting an offer without adequate consideration because that decision could make the board subject to liability later if their decision ends up not optimally serving the shareholders.
It is called the "bear hug" strategy because of the intensity of the offer and the fact that it is uninvited. It gives the target's board a little choice as the offer is typically well above the target's market value.
2. Hostile Tender Offer:
As discussed earlier, a hostile tender offer occurs when bidders present an offer to purchase company shares directly to the target's shareholders.
This strategy is typically utilized when the target's board strongly disapproves of the offer.
For this method, the bidder must gain a significant number of shares in the target firm to acquire more negotiating power and the ability to convince shareholders to defy its current board and management.
Obtaining a substantial number of the target firm's shares also serves as a defensive strategy. A bidder has to defend against other potential buyers. Hence, if it owns many shares, it makes entry more difficult for others.
Hostile Bid vs. Friendly Bid
It is important to differentiate between a hostile bid and a friendly bid. This is because the two types of bids differ in the approach the acquiring company takes in an attempt to acquire the target company.
A friendly bid is an offer that is approved by the target firm's management. In a friendly bid, the target's management team and board of directors are amicable with the acquiring company.
When a friendly bid occurs, the acquiring company has more access to the target company and its information. In addition, since the target company approves the bid, the acquiring firm can see important information about the target's performance and daily operations.
In contrast, a company initiating a hostile takeover has access to very little internal information about the target firm because the management team is unwelcoming to it.
This bid typically occurs after a failed attempt at a friendly bid. A company may still want to pursue the takeover, so the bid becomes hostile because any goodwill left from the first negotiation would have been spoiled.
The target company's management team may respond to a hostile bid by employing defensive tactics to prevent the takeover. We will discuss these preventative and defensive tactics in the next section.
Preventing Hostile Takeovers
Companies can use many different strategies to prevent and defend against hostile bids. We will first discuss a few preventative measures and then active defensive measures.
Businesses can protect themselves from hostile takeovers by employing the Pac-Man, golden parachute, and crown-jewel defenses.
A company's bylaws requiring the sale of its most valuable assets in the case of a takeover is known as a crown gem defense. The buyer may find the company less appealing as a result.
A golden parachute can discourage acquirers by offering the target's senior executives significant benefits upon completion of the purchase. The target company flips the script and aggressively buys shares in the acquirer's business as part of a Pac-Man defense.
Preventative Measures
1. Golden Parachutes:
A company's key executives would receive a substantial amount of benefits, including severance pay, cash bonuses, and stock options if the takeover were to result in them being laid off.
Golden parachutes are intended to attract accomplished executives to a company that may be struggling.
The goal of dead hand provision is to create more share dilution to discourage acquisition.
If the unwanted acquirer purchased a significant amount of the target's shares, additional shares would be automatically issued to all shareholders except for the acquirer. This measure makes it expensive for the acquirer to pursue a hostile takeover.
3. Crown Jewel Defense:
Some of the most valuable assets to a company are its patents, intellectual property (IP), and trade secrets (i.e., these are a company's "crown jewels").
The crown jewel defense strategy is an agreement that the company's crown jewel assets can be sold if the company is to be taken over. This makes the target less desirable to the acquirer.
Active Defensive Measures
1. White Knight Defense:
This occurs when a friendly acquirer, the white knight, stops a hostile takeover by buying the target company. The unfriendly bidder is referred to as the "black knight."
The target company's management typically stays in place in a white knight scenario. Additionally, investors are better compensated for their shares. Although the target loses independence, a white knight takeover is preferred over a hostile takeover.
2. White Squire Defense:
Similar to the white knight defense, the white squire occurs when a friendly acquirer steps in to buy a stake in the target to prevent a hostile takeover.
The difference between the knight and squire defenses is that the squire does not have to purchase a majority stake, only a partial stake that is large enough to stop the hostile acquirer.
3 Defensive Acquisition Strategy:
The company that is about to be acquired may look to acquire another company in order to make itself less desirable to the hostile bidder.
The goal of a defensive acquisition is to protect the current company by defending its market share and potentially increasing its debt piles.
4. Pac-Man Defense:
The target company may attempt to acquire the hostile bidder. The goal is to stop the initial acquisition rather than acquire the other company. The Pac-Man defense strategy is typically deemed a last resort.
5. Greenmail Defense:
The target firm can try to stop the acquisition by buying back its shares at a substantial premium, known as greenmail, from the hostile acquirer.
The result of the greenmail defense is considerable profit for the potential acquirer. This type of defense was made more difficult after the 1980s because of anti-greenmail regulations deemed similar to extortion.
Example Of A Hostile Takeover
A example here is:
Icahn Enterprises and Clorox
In 2011, Carl Icahn, the founder and majority owner of Icahn Enterprises, offered to purchase the cleaning products company Clorox. At the time, Icahn was Clorox's largest shareholder. Clorox's stock price had increased slightly, but not enough for Icahn's liking.
So, Icahn decided to offer to buy Clorox at a premium of 12%, and he received $7.8 billion in funding from Jefferies & Co. for the acquisition.
However, Clorox rejected Icahn's offer of $12.6 billion, claiming that the bid severely undervalued the company. Clorox's board unanimously rejected the offer and immediately enacted a "poison pill" defense to prevent a hostile takeover.
A poison pill defense tactic is when the target firm makes itself less attractive to the potential acquirer by raising acquisition costs.
Clorox issued new shares to raise the takeover's cost by Icahn significantly. Even though Icahn offered a $100 million breakup fee if the board decided to accept the offer, the deal still failed to close.
Researched and authored by Rachel Kim | LinkedIn
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