Takeover – As an Instrument for Better Corporate Governance

Takeover – As an instrument for better corporate governance

“Experience tells us that we do not need more overspending or higher taxes to grow jobs. We do not need more regulations or more government control – such as the government takeover of health care or the restrictions in domestic energy production.” (Walberg, p. 1)

In simple words, a takeover is the purchase of one company (the target) by another company (the acquirer or bidder). Bidder shall mean any natural or legal person uprising or confined to issue takeover bid to acquire shares in the target company.[1]

In General term, it refers to transfer of control of a firm from one group of shareholders to another group of shareholders.

A takeover is virtually the same as an acquisition. The term acquisition under SEBI Takeover Regulation is defined as, “directly or indirectly, acquiring or agreeing to acquire shares or voting rights in, or control over a target company.”

A takeover occurs when one company makes a successful bid to assume control of another. Takeover can be done by purchasing a majority stake in the target firm. Takeover is commonly done through the merger and acquisition process.

In a takeover, the company making the bid is called as ‘acquirer’ the company it wishes to take control is called as ‘target’

Takeover is an inorganic corporate growth device whereby one company acquires control over another company, usually by purchasing all or a majority of its shares.

Takeover implies acquisition of control of a company, which is already registered, through the purchase or exchange of shares.

Takeovers usually take place when shares are acquired or purchased from the shareholders of a company at a specified price to the extent of at least controlling interest in order to gain control of that company.

Many takeovers occur because shareholders believe an outside party will be able to run the company better than the current management and will give them a better return on their investment.

Takeover are the most common form of external growth particularly by larger businesses.

  1. Acquirer

An Acquirer means (includes Person acting in Concert with him) any individual/company/any other legal entity which intends to acquire or acquires substantial quantity of shares or voting rights of target company or acquires or agrees to acquire control over the target company.

  1. Target company

A Target company is a listed company i.e. whose shares are listed on any stock exchange and whose shares or voting rights are acquired/being acquired or whose control is taken over/being taken over by an acquirer. With the acquisition of shares in the target company, a relationship between controlling and controlled company is create.[2]

  1. Control

Control includes the right to appoint directly or indirectly or by virtue of agreements or in any other manner majority of directors on the Board of the target company or to control management or policy decisions affecting the target company.

  1. Promoter

The definition of promoter after the amendment in 2006 now includes “any person who is in control of the target company” or “named as promoter in an offer document or shareholding pattern filled by the target company with the stock exchanges according to the listing agreement whichever is later.”

Objective of Takeover

Enable dynamic firms to takeover inefficient firms and turn them into a more efficient and profitable firm so there are many objectives of takeover are to create shareholder value and wealth by optimum utilization of the resources of both companies, to increase market share, to achieve market development by acquiring one or more companies in new geographical territories or segments, in which the activities of the acquirer are absent or do not have a strong presence, to achieve economy of number by mass production at economical costs,  to improve productivity and profitability by joint efforts of technical and other personnel of both companies as a consequence of unified control, to achieve product development through acquiring firms with compatible products and technical, to diversify through acquiring companies with new product lines as well as new market area, to so secure substantial facilities as available to a large company compared to smaller companies for raising additional capital, increasing market potential and expanding consumer base and for having own combined and improved research and development activities for continuous improvement of the products. Management body is generally required to proceed with “prudence of a meticulous and conscientious commercial entity.[3]

Advantages of Takeover

To begin with, there are several advantages of takeover which are discussed as follows:-

  1. The new firm may benefits from economics of scale and share knowledge.
  2.  Greater profit may enable more investment in research and development.
  3. Monopoly in the market dominance
  4. Decrease in tax payment
  5. Decrease in debt payment
  6. Increase in the reserve and surplus
  7. Increase in the number of employees and reach to skilled, efficient and effective manpower
  8. Market expansion
  9. Decrease in liabilities
Disadvantages of Takeover

It is important to recognize that takeovers are the highest risk method of growth. The common drawbacks of takeover include:-

  1. High cost involved-with the takeover price often proving too high
  2. Problems of valuation
  3. Problem of integration, change management including resistance from employees
  4. Incompatibility of management styles, structure and culture
  5. Questionable motives
  6. Upset customers and suppliers usually as a result of the disruption involved.

In terms of Law on the takeover of joint stock companies, the bidder is a person or entity that has made a public takeover bid, regardless of whether such takeover bid has been made for the purpose of meeting its obligations stipulated in Article 4 or Article 5 of this Law.[4]

Types of Takeover
Friendly Takeover

Friendly takeover is also known as Welcome Takeover. A welcome or friendly takeover will usually be structured as a merger or acquisition. These generally go smoothly because the boards of directors for both companies usually consider it a positive situation. Voting must still take place in a friendly takeover. However, when the Board of Directors and key shareholders are in favor of the takeover, takeover voting can more easily be achieved.

An example of a friendly takeover bid is the takeover of Aetna by CVS health corp. in December 2017. The resulting company benefited from significant synergies, as noted by Chief Executive Officer Larry Merlo in a press release “By delivery the combined capabilities of our two leading organizations, we will transform the consumer health experience and build healthier communities through a new innovative health care model that is local easier to use, and puts consumer at the center of their care.”

Hostile Takeover

An unwelcome or hostile takeover can be quite aggressive as one party is not a willing participant. The acquiring firm can use unfavorable tactics such as dawn raid where it buys a substantial stake in the target company as soon as the market open. Acquiring companies that pursue a hostile takeover will use any number of tactics to gain ownership of their target.

A hostile takeover occurs when one corporation, the acquiring corporation attempts to take over another corporation, the target corporation without the agreement of the target corporation’s Board of Directors.[5]

These include making a tender offer directly to shareholders or engaging in a proxy fight to replace the target company’s management.

Tender offer

In a tender offer, the corporation seeks to purchase shares from outstanding shareholders of the target corporation at a premium to the current market price. This offer usually has a limited time frame for shareholders to accept.

The premium over the market price is an incentive for shareholders to sell to the acquiring corporation. The acquiring company must file a Schedule TO with the SEC if it controls more than 5% of shares of the target corporation’s securities.[6]

Proxy

In a proxy fight, the acquiring corporation tries to persuade shareholders to use their proxy votes to take other types of corporate action such as new management. The acquiring corporation may highlight alleged shortcomings of the target corporation’s management. The acquiring corporation seeks to have its own candidates appointed on the Board Of Directors.

By appointed friendly candidates on the Board of Directors, the acquiring corporation can easily make the desired changes at the target corporation. Proxy fights have become a popular method with activist hedge funds in order to institute change.[7]

An example of a hostile takeover bid was Green Growth Brand’ takeover attempt of Aphria in December 2018. Green Growth Brands submitted an all-stock offer for Aphria, valuing the company at $2.35 billion. However, Aphria’s board and shareholders rejected the offer, citing that the offer significantly undervalued the company.

Defenses

To defend itself against the acquirer, a target company can also deploy a variety of strategies. Some of the most colorfully tactics are:-

  • Pac-Man defense
  • Crown jewel defense
  • Golden parachute
Pac-Man Defense

The Pac-Man defense is a defensive tactic used by a target firm in a hostile takeover situation. In a Pac-Man defense, the target firm then tries to acquire the company that has made a hostile takeover attempt. With the Pac-Man defense, a company that has been targeted in a hostile takeover scen ario fights back by seeking to gain financial control of the situation. The targeted company may choose to sell off certain key assets, so as to wrest them free of the potential acquisition company.

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Crown jewel Defense

When a company is threatened with takeover, the crown jewel defense is a strategy in which the target company sells off its most attractive assets to a friendly third party or spin off the valuable assets in a separate entity. Consequently, the unfriendly bidder is less attracted to the company assets. A marquee asset is a company’smost prized and valuableasset. The marquee assets may be physical assets or intangibles, such as goodwill or patents.

Golden parachute

A golden parachute consists of substantial benefits given to top executives if the company is taken over by another firm, and the executives are terminated as a result of the merger or takeover. Golden parachutes are contracts with key executives and can be used as a type of anti-takeover measure, often collectively referred to as poison pills, taken by a firm to discourage an unwanted takeover attempt. Benefits may include stock options, cash bonuses, and generous severance pay.

Eg: – Dell Inc. is in the process of merging with storage giant EMC corporation. As per the terms of his golden parachute, EMC’s CEO will receive compensation worth $27 Million.

Reverse Takeover

A Reverse Takeover occurs when a private company purchases a public listed company. It is a process whereby private companies can become a publicly traded companies without going through initial public offering (IPO).

For a company that wants to become publicly traded, reverse takeovers (RTOs) can be a cheaper and quicker option than an IPO. However, they tend to pose greater risks for investors.

 For example, the computer company Dell (DELL) completed a reverse takeover of VMware tracking stock (DVMT) in December 2018 and returned to being a publicly traded company. It also changed its name to Dell Technologies.[8]

An example of a reverse takeover bid is the reverse takeover of J. Michaels (a furniture company) by Muriel Siebert’s brokerage firm in 1996, to form Siebert Financial Corp. Today, Siebert Financial Corp. is a holding company for Muriel Siebert & Co. and is one of the largest discount brokerage firms in the United states.

   Bailout Takeover

Takeover of a financially sick company by a profit earning company to bail out the former is known as bail out takeover. There are several advantages for a profit making company to takeover a sick company.

In other words, a bailout takeover is a takeover in which a financially strong firm or the government takes over a weak company to help out regain financial strength. 

Eg: – In 2008, PNC Financial Services purchased $5.2 billion in National City Corp.’s stock to acquire it. National City suffered massive losses as a result of the subprime lending crisis. PNC used money from the TARP fund to bail out NCC. After the takeover, NCC became the fifth-largest bank in the US, even though the bailout led to the loss of many jobs at National City’s headquarters.

Banks and other lending financial institutions would evaluate various options and if there is no other goes except to sell the property, they will invite bids. Such a sale could take place in the form by transfer of shares. While identifying a party (acquirer), lenders do evaluate the bids received, the purchase price, and the track record of the acquirer and the overall financial position of the acquirer. Thus a bail out takeover takes place with the approval of the Financial Institutions and banks. 

Back flip Takeover

A back flip takeover bid occurs when the acquirer becomes the subsidiary of the target company. The takeover is termed a “backflip” due to the fact that the target company is the surviving entity and the acquiring company becomes the subsidiary of the merged company. A common motive behind a backflip takeover offer is for the acquiring company to take advantage of the target’s stronger brand recognition or some other significant marketplace edge.

An example of backflip takeover bid is the takeover of AT &T by SBC in 2005. In the transaction, SBC purchased AT & T for $16 billion and named the merged company AT & T because of AT & T stronger brand image.

Principle of transparency of data taking and defense measures of target company The principle of transparency[9] in the procedure for takeover is a basic principle. On the one hand, it contributes to the protection of the interests of more groups of stakeholders, and on the other, it creates pressure/scrutiny for compliance with the rules by the governing bodies.

Giving systematic information of the market of corporate control to the investors has a multi-faceted role. Management body plays a key role in the process of takeover. Generally, from their behavior depends the difficulties of acquisition of the target company.The person who shows interest in acquisition, must be familiar with the working conditions of the company, activity that realizes, the available of human and technical capacities, the company profit and loss etc. Specifically, the potential acquirer must check the legal and economic suitability company takeover. Economic eligibility is tied to the economic parameters of the company. In contrast, the legal eligibility refers to the introduction of the corporate mechanism in order to determine what defense measures taken over the target company.

Transparency is important for shareholders who are only interested on opportunity to make profit.  Respectability to the principle of transparency contributes to preventing potential abuses by management. Thereby indirectly creates external pressure for better corporate governance, hence reducing the danger of the target company to be taken over, and the current administration resolved.[10]

SEBI Guidelines for Takeover

As per 2011 takeover code, its mandate for an acquire to place an offer for at least 26% of the total shares of the target company. An acquirer with 15% shareholding and increasing it by another 20% through an open offer would have only got a 35% shareholding in the target company. An acquirer with a 25% shareholding and increasing it by another 26% through the open offer under the Takeover Code of 2011 can accrue 51% shareholding. The regulation further talks about acquirers who already have 55% or more shares but less than 75% shares of the target company but intend to acquire more shares, this can only be done if the acquirer makes a public announcement in this regard.

Pankaj Piyush Trade & Investment Ltd
  • Name of the Acquirer – Mr. Vinod Kumar Bansal
  • Number of shares – 1,04,000 equity shares
  • Price for shares – Rs. 34 per share
  • Date – April 17, 2012
  • Name of the target company – Pankaj Piyush Trade & Investment Ltd
  • Reason to acquire-
  • In the last 3 years, the target company has achieved very low turnover & profit after tax. Even EPS is very low.
  • The fair value of shares issued by Avesh Patel (C.A.) is Rs. 33.53 per equity shares which are lower than the offer price of Rs. 34 per equity shares.
  • There has been no trading of shares on BSE. Thus it’s highly illiquid on BSE. It will provide an exit opportunity to the existing shareholders.
Conclusion

Takeover implies acquisition of control of a company which is already registered through the purchase or exchange of shares. Takeover takes place usually by acquisition or purchase from the shareholders of a company their shares at a specified price to the extent of at least controlling interest in order to gain control of the company. Study of the concept of “takeover” as a legal instrument for corporate control, requires an overhaul analysis of several interrelated issues in the areas of corporate governance and corporate control.


[1] Carline, N.F. Linn, S. Yadav, P.K. (2011). Corporate Governance and Take Resistance. AFA Chicago Meetings Paper.

[2] . Khoury, R.A. (2005). Failed Takeover attempts as a means for better Corporate Governance? Project (M.B.A.) American University of Beirut, Suliman S. Olayan School of Business.

[3] Munzig, P.G. (2003). Enron and the Economics of Corporate Governance. Stanford Department of Economics Stanford University.

[4] Law on the takeover of joint stock companies, article 6. One part of this definition refer to art 4 and 6 according to that person or entity which has acquired securities issued by a certain joint stock company, whereby these securities, together with the other securities that it already holds, ensures it a voting right of at least 25% in the joint stock company, shall mandatory make a public bid for takeover of securities, under the conditions and in the manner laid down by this Law.

[5] Cornell Law School Legal Information Institute. “Hostile Takeover”

[6] Securities and Exchange Commission. “Tender Offer” Accessed June 1,2020

[7] Harvard Law School Forum on Corporate Governance. “Review and Analysis of 2018 U.S. Shareholder Activism.” Accessed June 1,2020

[8] Dell Technologies. “Dell Technologies completes class V transaction, https://investors.delltechnologies.com/news-releasedetails/dell-technologies-completes-class-v-transaction.”

[9] . Radovich, V. Measures of defence from takeover control. (2008). Belgrade.

[10] Ryngaert, M. (1998). The Effect of Poison Pill Securities on Stockholder wealth. Journal of financial Economics.

Also Read: Indirect Tax prior to GST and after GST

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