What is Shark Repellent?

Explanation

In the competitive world of acquisitionsAcquisitionsAcquisition refers to the strategic move of one company buying another company by acquiring major stakes of the firm. Usually, companies acquire an existing business to share its customer base, operations and market presence. It is one of the popular ways of business expansion.read more, takeoversTakeoversA takeover is a transaction where the bidder company acquires the target company with or without the management’s mutual agreement. Typically, a larger company expresses an interest to acquire a smaller company. Takeovers are frequent events in the current competitive business world disguised as friendly mergers.read more, and mergersMergersMerger refers to a strategic process whereby two or more companies mutually form a new single legal venture. For example, in 2015, ketchup maker H.J. Heinz Co and Kraft Foods Group Inc merged their business to become Kraft Heinz Company, a leading global food and beverage firm.read more, companies try to protect the interests of the business and the shareholders by employing certain measures that guard the companies against bigger or aggressive players that intend at hostile takeoversHostile TakeoversA hostile takeover is a process where a company acquires another company against the will of its management.read more.

Shark repellent stems from the idea that a company’s actions seeking to take over other businesses are called shark attacks, and the company itself is called a predator. They are the defensive strategies or tactics that companies implement to deter the attacks.

How Does Shark Repellent Work?

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Businesses are in constant threat of hostile takeovers where one company, called the target, is acquired by another company, called the acquirer, without any mutual agreement. Hostile takeovers aim at replacing the target company’s management so that acquisition is approved. The defense strategies that are now popular have been the effects of historic takeovers and attempts to ward them off.

  • Macaroni Defense: A tactic companies use by issuing a large number of bondsBondsBonds refer to the debt instruments issued by governments or corporations to acquire investors’ funds for a certain period.read more that must be redeemed at a higher price if the company faces a takeover such that the aggressor is cautioned. Take, for instance, a company AAA Ltd. that wants to take over the business of BBB Ltd. issues 100,000 bonds redeemable at 125% of the issued value in the event of a change of control. This situation can ward off AAA Ltd. from taking the deal further because of the higher premium it will have to pay to the bondholders.Staggered Board: In a staggered boardStaggered BoardStaggered Board, popularly known as Classified Board, refers to the particular set-up of the members of the board such that it contains directors that are stratified into different classes. read more strategy, the company makes elections to the board in such a way that at any given time, only a fraction of board members is elected, thus avoiding any possibility of change of control during the election to the board.Golden Parachute: A golden parachuteGolden ParachuteGolden parachute refers to the clause in the employment contract whereby the top-level executives entitled to receive significant benefits if the company faces a merger or takeover. Such benefits comprise liberal severance pay, cash bonus, retirement packages, stock options, etc.read more is a strategy where large compensation is guaranteed to the company’s top management should they be dismissed due to takeover or merger; thus, helping as an anti-takeover strategy.Supermajority: As the name suggests, supermajority mandates the majority of shareholders to approve the takeover initiative. Thus, it becomes difficult for the takeover company to convince the many shareholders to satisfy the majority.Poison Pill: In a poison pillPoison PillPoison pill is a psychologically based defensive strategy that protects minority shareholders from an unprecedented takeover or hostile management change by increasing the cost of acquisition to a very high level and creating disincentives if a takeover or management changes happen in order to alter the decision maker’s mind.read more tactic, the target company dilutes the shareholding by issuing more shares at a discount, thus making the takeover bid a difficult process and rather expensivePeople Pill: A people pill strategy is a simple way of proactively warding off the predator. The management works it out by announcing that it will resign from the position in a change of control. This makes the acquirer skeptical of his decision because of the fear of losing an experienced and good management team.

Examples of Shark Repellent

  • The case is related to Saxon Industries, when an American investor-owned more than a 9.9% stake in the corporation. Saxon Industries, fearing takeover attempts, paid the investor a high premium for buying back shares. When the Saxon stock was trading at $7.21 per share, Saxon paid the investor a premium as high as $10.50. This was a luring 45% premium pay, which the investor could not deny. Such a defense strategy is known as ‘greenmailGreenmailGreenmail is an intentional purchase of a substantial number of shares in an organization with an ultimate objective to jeopardize it with a hostile takeover, which usually results in forcing the owners to repurchase the shares at a premium.read more.’Another example of shark repellent defense was Oracle v PeopleSoft Inc, which dates to June 2003. People Soft Inc, in an attempt to deter Oracle from taking it over, paid its customers a five-fold rebateRebateA rebate is a cashback to the customers against the purchase as a completing transaction incentive. Rebates are offered after the sale. Thus, it is a form of marketing strategy provided to the client to facilitate future transactions.read more on the license fee. The takeover bidTakeover BidThe price offered by the acquiring company to the target company to purchase the company is known as a takeover bid. Such bids are typically placed by larger companies to buy smaller companies in the market and the bids can be in the form of cash, equity, or a combination of both.read more was pegged at $7.7 billion.

Practical Example

A classic real-world example of shark repellent defense is the White knightWhite KnightA white knight is a friendly investor who acquires the company with the help of the company’s board of directors or top-level management at a fair price so that the company can be protected from a hostile takeover attempt by another potential buyer or from bankruptcy.read more defense tactic. A leading electronics equipment maker, AMP, Inc., used this strategy against Allied Signal Corporation, which worked in the aerospace sector. Allied Signal Corp. made a $10 billion bid for taking over the AMP, Inc. As a defense, AMP, Inc executives offered a friendly bid to be made by another company that could potentially avoid a hostile takeover by Allied Signal Corporation. Tyco, Inc made this friendly bid. The deal was a stock-for-stock swap, which had a total consideration of $11.3 billion.

Advantages

  • Using shark repellent tactics fends off unwanted or hostile takeover attempts, in which case the predator finds the target less attractive because of the deployed tactics.Shark repellent strategies like a poison pill, supermajority, and scorched earth help form formidable defenses around the business such that the business, the management, and the shareholders are protected.

Disadvantages

  • The unwise use of these tactics can backfire greatly. For instance, the macaroni defense protects the business by issuing bonds redeemable at a higher price. If the premium is high and the predator wards off, the company is entitled to fulfill the redemption obligation.Sometimes management uses defense tactics against takeovers that are not in the best interests of the shareholders. A management that has performed poorly but still wants to retain control of the board may deploy tactics that prohibit takeover, which can be fruitful for the business needs and shareholder interests.Every strategy, when employed, makes management count for costs. It is always a trade-off between the costs of deploying such strategies and accepting the fate of a hostile takeover.

Conclusion

Shark repellent strategies have proven to be warding off predators successfully. With each takeover attempt, the target company management comes up with strategic actions, and the most successful ones are recorded in history. Popular tactics are macaroni defense, white knight, sandbagSandbagSandbagging refers to the lowballing strategy adopted by an individual or company to lower down estimations of success. It is a corporate approach at lowering the shareholders’ or investors’ success or growth expectations to produce higher or perform better than the expected results.read more, golden parachute, and a poison pill. The history of mergers and acquisitions has evolved with every successful or unsuccessful deal in the market. Management teams use shark repellents to fight off acquisition or a takeover attempt, but the real interest of shareholders, rather all stakeholders, is not addressed all the time.

This has been a guide to shark repellent. Here we discuss practical examples and how shark repellent works along with advantages and disadvantages. You may learn more about financing from the following articles –

  • Reverse TakeoverAcquisition Premium (Takeover)Friendly TakeoverWilliams Act