When do you usually take pills? When we’re ill, we take pills to get better. Or, in a broader context, it’s a measure to improve the situation. Then, can you guess what a “poison pill” is? It’s a business jargon which refers to a strategy used by a company’s board of directors against a hostile takeover and also called as a “shareholder rights plan”.
It was devised in the early 1980s in order to help directors strengthen their position in terms of negotiating a price for sale of shares. They give the rights to shareholders to secure their holdings by suggesting them a far lower price. This would eventually make takeover bidders difficult to obtain control of the company. In this sense, this defensive method is referred as the “poison pill”; it harms not only the bidders, but the company or the shareholders as well.
There are three types of poison pills: flip-over pill, flip-in pill, and back-end pill. Under the flip-over system, current shareholders are provided with the right to purchase stock at a discount after the potential takeover. This will make the shares held by the hostile acquirer less attractive by going through price depreciation. On the other hand, flip-in plan allows the current shareholders to purchase additional stocks in the targeted company at a discounted price before the potential acquisition or when the acquirer exceeds a certain level of obtaining outstanding shares. In this way, the board is able to set a limit on the amount of shares that any shareholder can maintain. Likewise, back-end plan is also effective in the same situation as the flip-in plan. However, in this case, the shareholders hold the right to ask for convertible preferred stocks or redemption at a price previously set by the board.
So, what’s good about these strategies? Above all, the directors are able to secure corporate control and concentrate on corporate management without worrying about any external threat. Furthermore, they don’t need to prepare for hostile wars over the corporate management so that they can reduce unnecessary expenses spent on the wars. Even though they decide to sell the corporation, the poison pill will put them in a better position when it comes to price negotiation with the bidders.
Despite the fact that poison pills provide a number of benefits to companies and investors, they are still regarded controversial. The board overprotect themselves by using these tactics which might even disturb sound mergers and acquisitions. This, eventually, leads to a hindrance of the development of the capital market and a decrease in efficiency in the corporate management.
Due to their potential negative impacts, takeover law regarding the poison pills is still under scrutiny in many countries. In Korea, legal base for the tactics was established in 2009, however, further details are still need to be made in order to make corporations utilize the strategies.
-Written by Seunghye Shin