Poison pill

Definition

A poison pill is a defensive strategy used by a company to deter hostile takeover attempts by making its stock less attractive to potential acquirers. This tactic often involves issuing new shares or offering existing shareholders the right to purchase additional shares at a discount, effectively diluting the ownership percentage of the hostile bidder. By increasing the cost of acquisition, companies aim to protect themselves and maintain their independence during mergers and acquisitions.

5 Must Know Facts For Your Next Test

1. Poison pills can be structured in various ways, but they generally serve to make hostile takeovers prohibitively expensive for acquirers.
2. The implementation of a poison pill strategy often requires board approval, as it involves significant changes to share structure.
3. Companies might use a 'flip-in' poison pill, allowing existing shareholders to buy additional shares at a discount, or a 'flip-over' poison pill, which allows shareholders to buy shares in the acquirer at a discount after the merger.
4. Poison pills have been upheld by courts as legitimate defensive measures when properly implemented and disclosed to shareholders.
5. While effective, poison pills can also deter potential friendly offers, as they create uncertainty about the target's willingness to engage in negotiations.

Review Questions

• How does a poison pill strategy protect a company from hostile takeovers?
  • A poison pill strategy protects a company by making its stock less appealing to hostile bidders. By issuing new shares or allowing existing shareholders to purchase additional shares at a discount, the ownership percentage of the acquirer gets diluted. This increases the financial burden on potential buyers and discourages them from pursuing the acquisition, thus preserving the company's independence.
• What are some potential drawbacks of implementing a poison pill strategy for a company considering its effects on shareholder relations?
  • Implementing a poison pill strategy can create tension between a company's management and its shareholders, especially if the shareholders feel that their interests are not being considered. Additionally, while the intent is to fend off hostile takeovers, it can also deter potential friendly offers from other companies interested in acquiring the business. This could lead to missed opportunities for valuable partnerships or beneficial mergers.
• Evaluate the effectiveness of poison pills in today's corporate environment where mergers and acquisitions are increasingly common, citing both advantages and challenges.
  • In today's corporate environment, poison pills remain an important tool for companies seeking to defend against hostile takeovers. They provide significant leverage by increasing acquisition costs for aggressors and allow companies time to seek better alternatives. However, challenges arise as shareholders may view these strategies as impediments to beneficial deals. Moreover, increased scrutiny from regulators and evolving market conditions may require companies to balance defensive tactics with maintaining positive relationships with potential partners, highlighting the need for strategic consideration in their deployment.

Related terms

shareholder rights plan: A type of poison pill strategy that allows existing shareholders to purchase additional shares at a discount if an acquirer buys a certain percentage of the company's stock.

hostile takeover:

An acquisition attempt by one company to take control of another company against the wishes of the target company's management and board.

white knight: A friendly third-party company that acquires a struggling company in order to save it from a hostile takeover.