Hey everybody, welcome back to X-Land Fon Fi, the podcast where we take the questions you always want to ask and talk about them in a way that's easy to understand. We are your hosts, I'm Tim. Hey, I'm Kevin. So Kevin, today we're talking about something which comes up in the news from time to time and has been in the headlines lately, and that is hostile takeovers.
What is a hostile takeover? Well, to put it simply, a hostile takeover is when a bidder tries to take over a target company whose management is basically unwilling to kind of agree to any kind of merger or takeover. Now, the takeover itself is considered hostile if the target company's board rejects the original offer and if the bidder continues to try to pursue it. The whole concept of a hostile tender is actually attributed to a guy named Louis Wolfson, one of the first modern corporate raiders.
The label feels given by Time Magazine back in 1956. Well, you do see a lot in the business press, but I do think we need to e-live this whole concept of a hostile takeover. Can we try to do that? Yeah, let's try.
I have a whole great metaphor for this. Okay. So let's say you are the five-year-old owner of a company that makes spaceships out of cardboard boxes. Okay?
So this is your business. You make all these cool spaceships out of boxes. And you decide your spaceship can be even cooler if you add some decorations, maybe with some sticky tape and other materials. But unfortunately, right now you can't afford any of that.
But you have a few friends that have materials you need, so you agree to give them some ownership in your company so that they can give you materials. Now, in an adult company, this will be giving up capital in exchange for shares. I see. Okay.
So now you share the ownership of your company with your friends and you only own a portion of it. You no longer own the whole thing, which means you now have shareholders. I understand. That's the first concept.
Exactly. Exactly. Now, not all of these shareholder friends have time to spend to be really deeply involved in the cardboard box spaceship company. So they choose maybe, let's say, a smaller group.
Let's say, just five people, some five friends who can represent them and look out for their interests. So this is the second concept. I see what you're doing here. So these five friends become your board of directors.
Precisely. Precisely. Now, maybe there's a kid who wasn't necessarily a shareholder, but she is really skilled now at building spaceships out of cardboard boxes. And your five board director friends, they decide to hire her to lead the company to make better spaceships.
She's a part of the group, right? Which could overlap with your shareholder group, but it doesn't necessarily need to. She is part of management. And even as CEO, she doesn't really own the company.
I got it. So she is management and management just runs the company. The shareholders own the company and the board of directors, they represent the shareholders. So that makes everyone's roles really clear.
Yeah. Yeah. So, you know, most of the confusion on this topic, it comes from folks failing to distinguish or to understand the distinction between ownership and management, right? The management may also happen to be shareholders, which is usually the case, but that's simply a case of one person being a member of those two groups.
It's still incorrect to think that a CEO outright owns a corporation or even a piece of corporation just by virtue of that title alone. Okay. So now with our spaceship company, I want to know where's the five-year-old's hostile takeover going to come into play. Okay, sure.
So now imagine there's a new kid who we call Eli. Now, Eli comes along and contributes some money or material so that he owns 10% of the company now. Now, still just a shareholder, right? 10% shareholder.
But Eli thinks that cardboard boxes would be better if they were turning to race cars instead. So he tells the CEO and the whole five friends on board and says that he'll buy everyone's ownership at a given price to take the company in this direction. I see. But then the board disagrees with this direction.
So what happens is he launches a hostile takeover bid. Now this gets interesting, but how does he do that? Okay. So a hostile takeover can be done in several ways.
Eli can make a tender offer, which is where he, let's say, puts posters all around school saying he's making a public offer directly to all shareholders, even though the board said no. Interesting. So that's a bet that the board who are supposedly representatives of the shareholders didn't correctly figure out or represent what the underlying shareholders all wanted. Exactly.
Exactly. Well put. Another way is to engage in a proxy fight. So a proxy fight is where maybe Eli tries to persuade enough shareholders, usually via a simple majority, to replace the CEO and management with a whole new set of friends who are more in favor of this cool cardboard race cars idea.
I see. That's pretty clever. I can see how that might work too, where he only needs to get 50% plus one share to make that happen. Now, in this situation, it does seem like there's not much that the original owner or the board can even do if they disagree strongly that the cardboard box company should stay as a spaceship company.
That is true. If you as the original owner want to remain in control, you must control the majority of the shares. But there's also one other thing to do, and this almost happened in the recent Twitter case. You are talking about the poison pill here.
That's right. That's right. The poison pill. The poison pill tactic has been around since the 1980s and was actually devised by a New York-based legal firm.
So the name itself, it comes from the poison pill that spies carried in the past to avoid being questioned by their enemies in the event that they were captured. We don't have time to go into detail, but give us a quick explanation of how a poison pill could work. Yeah. So imagine, you know, I want to protect the smaller shareholders.
I can put in place something called a shareholder rights plan to say if any single shareholder tries to acquire, you know, let's say more than 15% of shares, the board, they can offer all the other existing shareholders the right to get more shares. The simple way of putting it is it has the effect of making a takeover much more expensive. I see. So when have poison pills actually been used?
Oh, yes, absolutely. In the past, there's a couple of interesting stories. So one big case was Microsoft originally made an unsolicited bid for Yahoo, but subsequently dropped the bid after Yahoo CEO at the time, Jerry Yang, threatened to make the takeover as difficult as possible, unless Microsoft raised the overprice to about $37 per share. On the other hand, another story is Netflix, actually.
In 2012, Netflix announced that a shareholder rights plan was adopted by its board, just days after investor Carl Icahn acquired a 10% stake. These are both tech companies. Does it happen in other industries too? Yeah, yeah.
It has been used across industries. Papa John's, they put a poison pill in place to prevent the ousted founder, John Shatner, from regaining control of the company. That's a recent non-tech example. And now finally, even when a poison pill is in place, a board can still accept a takeover at the right price.
Is that correct? That's exactly right. So back in 2001, it was reported that since 1997, for every company with a poison pill which successfully resisted a hostile takeover, there were 20 companies with poison pills that accepted takeover offers. So at the right price, a takeover ends up happening more often than not.
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