What is a Show Stopper in M&A?

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AcquisitionAcquisitionAcquisition 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 or takeoverTakeoverA 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 is a process that can either be friendly with the consent of the board of directors of the target company or unfriendly, which is against the company’s will. Therefore, the concept of a show stopper in M&A is relevant only when the acquisition in the process is an unwanted affair.

Key Takeaways

  • Show Stopper in M&A is a legal, ethical, and operational barrier adopted and implemented to prevent hostile or unfriendly takeovers.It is different from any killer bees defense strategy, which also comprises non-ethical ways of preventing unwilling takeovers.Some of the widely used show stopper options applied in M&A are Scorched Earth Policy and Shark Repellents, which are inclusive of the former as well as Golden Parachute and Poison Pill.Sometimes, these show-stopping strategies backfire, making target companies lose their market value completely.

How Do Show Stoppers Work in M&A?

Show Stopper in M&A is applicable for stopping or preventing a hostile takeoverHostile TakeoverA hostile takeover is a process where a company acquires another company against the will of its management.read more. A mergers and acquisitions (M&A) process could be friendly or unfriendly, depending on how willing a firm is to be taken over. It is different from any killer bees defense strategy, a non-ethical way of preventing unfriendly takeovers. 

As the name suggests, show stoppers are similar to any method or strategy that could be adopted to ensure a task or motive is not accomplished. These either restrict or put a complete full stop to the progress or evil motives of the other party, desiring to take over a firm at any cost, no matter if the latter does it willingly or unwillingly.

In the process, entities consider laws or regulations that make the possibility of a hostile takeover impossible or unnecessarily expensive. It could be in a legislative act or a court order. For instance, a target firm may convince the state legislators to pass or tweak anti-takeover laws to prevent a hostile takeover.

Strategies & Methods

When it comes to putting ethical restrictions on hostile takeovers, here are two most widely used show stopper options in M&A:

A. Scorched Earth Policy

The term has a military origin and is considered a last-ditch effort before either succumbing to the takeover or winding up the business. This option includes tactics for making the target company less attractive to the hostile bidders.

The companies utilize their liberty and sell their valuable assets to make themselves a less desirable acquisition target. They involve in deals promising to settle all debts together as soon as the takeover occurs. In addition, they borrow lots of money at higher interest voluntarily. As a result, the acquirers lose interest in the companies and call off the takeover plans.

B. Shark Repellents

These mark management’s continuous or periodic efforts for locking out hostile takeover attempts. It involves making certain amendments to the bylaws in favor of the target company when the takeover attempt is made public. The prospective takeover may or may not favor the shareholdersShareholdersA shareholder is an individual or an institution that owns one or more shares of stock in a public or a private corporation and, therefore, are the legal owners of the company. The ownership percentage depends on the number of shares they hold against the company’s total shares.read more, and one must analyze efforts on a case-to-case basis.

A shark repellent method is inclusive of Scorched Earth Policy and other widely used measures, which include:

It involves including a provision within the executive’s contract, which will offer them substantially large compensation if a successful takeover attempts. It could be cash and stock, making it costly and less attractive to acquire the firm.

The Golden ParachutesGolden ParachutesGolden 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 clause predominantly protects the senior management under threat of termination if a takeover materializes. However, executives may deliberately use the clause to make it attractive for the acquirer to pursue the acquisition with a promise of massive financial compensation.

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 indicates an event that significantly raises the cost of acquisitions and creates large disincentives to prevent such attempts. The target companies either take a large sum of debt, affecting the financial statementsFinancial StatementsFinancial statements are written reports prepared by a company’s management to present the company’s financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all levels.read more and making the firm unprofitable and overleveraged, or create employee stock ownership plansEmployee Stock Ownership PlansEmployee stock option plan (ESOP) is an “option” granted to the company employee which carries the right, but not the obligation, to buy a promised number of shares at a pre-determined price (known as exercise price). read more (ESOPs) which get activated only when the takeover is finalized. However, firms should be careful while implementing this strategy as it can give rise to high costs and is not necessarily in the long-term interests of the stakeholders. 

Show Stopper in M&A Examples

Let us consider the following show stopper in M&A examples to understand the concept better:

Example #1

Company A attempted a hostile takeover of Company B. The former offered shares to the latter’s public shareholders at $5 per share, then traded at $2 per share on the New York Stock Exchange. 

Mary, the target company’s employee, suggested a luring offer for all shareholders, i.e., a special cumulative dividendCumulative DividendA cumulative dividend is a promise of paying a fixed percentage of earnings to the preferred shareholders. If the company cannot pay the dividend within the pre-decided date, then the dividend gets accumulated and is paid in the future. Cumulative dividend = Preferred dividend rate * Preferred share par valueread more in convertible preferred stockConvertible Preferred StockConvertible preferred stocks are a special class of stocks which give the right to convert its preferred stock holding into fixed numbers of shares of company’s common stock after the predetermined period. These are hybrid instruments with fixed dividends, providing options to acquire common stock.read more. Accordingly, company B’s shareholders applied the flip-over strategy and purchased shares in Company A. This strategy proved successful. Firm A initiated a negotiation with firm B, given the significant shareholder ownership on both sides.

Example #2

A high-profile American investor named Ronald Perelman showed consistent interest in taking over Gillette post the acquisition of Revlon Corporation. Perelman seemed to plan a tender offerTender OfferA tender offer is a public proposal by an investor to all the current shareholders to purchase their shares. Such offers can be executed without the permission of the firm’s Board of Directors and the acquirer can coordinate with the shareholders for taking over the firm.read more for Gillette, countered, and paid $558 million to Revlon. The latter agreed not to make any tender offer to Gillette stockholdersStockholdersA stockholder is a person, company, or institution who owns one or more shares of a company. They are the company’s owners, but their liability is limited to the value of their shares.read more. To make this plan effective, Gillette further paid $1.75 million to investment banking institution Drexel Burnham Lambert. In return, the investment banker ensured not to participate in any takeover involving Gillette for three years.

Limitations

Such sandbagging measures also have drawbacks and can also backfire. While making efforts to appear less attractive to the acquiring company, the target companies lose their value in the market. In some cases, the firms cannot recover the same market status again despite trying their best.

This article is a guide to What is a Show Stopper in M&A and its options. We also explain its effectiveness despite its limitations along with popular examples. You may also have a look at our suggested articles: –

It refers to legal or operational barriers that help target companies prevent hostile takeovers. The target companies, in the process, make themselves appear less attractive to ensure the acquirers lose interest in them.

The show stopper options, when implemented, are effective in preventing hostile takeovers. However, at the same time, these strategies make the target companies lose their market position because of sandbagging measures adopted to appear less desirable.

The poison pill strategy can either be flip-in or flip-over. In the flip-in process, the existing shareholders can buy the target companies’ shares at high discounts. On the contrary, under the flip-over strategy, the target companies’ shareholders are encouraged to buy more and more shares of the acquiring company at a discount.

  • M&A ProcessFriendly TakeoverKey Man ClauseAcquisition Premium