implement. Each had its own associated risks. None represented an obvious alternative to the merger agreement.
According to SEC filings, the Dell Inc. board’s special committee rejected the Icahn proposal for a leveraged recapitalization
because of the uncertainty associated with the value of the stub equity. There was also uncertainty as to whether Icahn could
finance his proposal. Furthermore, the resulting increase in the Company’s leverage ratios could reduce investor confidence
that the firm could survive as a public company thereby jeopardizing the value of the stub equity.
Separating the Company’s End User Computing business from the Company’s Enterprise Solutions and Services business,
the Committee argued, would be complex in view of the interrelationships between the two businesses and subject to
significant execution risk. This option would require reorganizing the sales force and dividing senior management across the
two businesses. Revenue from cross-selling could be reduced and overhead expenses increased because of the need to
duplicate administrative and support functions.
Prologue
From start to finish, the deal took more than 1 year to complete. It also saw the board of directors postpone the annual
shareholder meeting three times because it was unclear if the proposed Michael Dell/Silver Lake Partners merger would be
approved. The justification for this delay resides in whether or not the Dell board was acting in good faith. The Dell board did
follow what are generally considered appropriate procedures by setting up a separate committee consisting of independent
board members to assess various strategic options for the firm.
While the firm’s operating performance spiraled downward throughout 2013, it is difficult to assess to what extent this
reflected the ongoing contraction in the PC market or the turmoil surrounding the buyout process. It is probable that the
lengthy and tumultuous process diverted management’s attention from dealing with daily operating issues as well as had a
negative impact on the firm’s brand and on corporation’s willingness to buy its products.
The firm’s fortunes improved markedly in 2014. According to tech–industry analytical firm IDC, Dell’s global PC
shipments increased by about 9% over the prior year. In the United States, shipments increased by almost 20% bringing its
total share of the US PC market to 24%. This compares to market leader Hewlett-Packard’s share of about 28%. The
improvement in the firm’s PC sales may provide sufficient cash to finance Dell’s changing product focus.
Was it a fair deal for Dell Inc. shareholders? Carl Icahn has argued that Michael Dell and Silver Lake Partners “got a
steal” buying the firm for $24.9 billion. Time will tell.
Discussion Questions
1. When, if ever, is it appropriate for a board to prevent shareholder votes on matters involved in selling a firm?
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2. In your opinion, did the Dell Inc. board of directors act in the best interests of the Dell shareholders? Cite examples
to support your position.
3. A buyout involving the target firm’s current management is called a management buyout. In what way do these
types of deals represent agency conflicts between managers and shareholders? What board procedures can be put in
place to mitigate such conflicts? How can activist investors help mitigate such conflicts?
4. From publicly available information, find at least two examples of activist investors influencing the policies or
strategies of a firm? Describe the impact you believe they had in each instance?
Answer:
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5. Critics of activist investors argue that they force firms to focus on short-term considerations versus long-term
performance. As such, they believe that shareholder rights to remove board members, to remove defenses, and to
approve major strategic decisions through proxy contests should be restricted. Do you agree or disagree with such
critics? Explain your answer.
6. Is the highest bid necessarily the best bid? Explain your answer.
Clothiers Men’s Wearhouse and Jos. A. Bank Reach Agreement After Lengthy Battle
Key Points:
• Discerning when management decisions are in shareholders’ best interests or designed to simply entrench
management often is difficult.
• Takeover defenses intended to coax a higher offer from acquirers often simply allow existing management to remain
in place.
• Friendly takeovers (those supported by the target’s board and management) often are preferred to hostile attempts.
Hollywood could not have written a more unpredictable thriller than the takeover battle between the nation’s two largest
independent men’s clothiers. Men’s Wearhouse emphatically rejected Jos. A. Bank’s acquisition offer valued at $2.3 billion
or $48 per share on October 11, 2013. The rejection of the offer was the opening salvo in a bitter war that was to continue for
the next 6 months with Jos. A. Bank (initially the acquirer) being taken over by Men’s Wearhouse.
Jos. A. Bank is a century old seller of men’s tailored and casual clothing with more than 600 stores throughout the United
States. The larger Men’s Wearhouse operates more than 1000 men’s clothing stores across the United States. The potential
for substantial cost savings through elimination of overhead, redundant stores, and economies of scale and purchasing is
believed to be substantial if the two firms are combined. Each had been for some time considering the other as a potential
takeover target for some time.
Men’s Wearhouse claimed that the proposal substantially undervalued the firm, calling the bid “opportunistic” and
“subject to unacceptable risks and contingencies,” as the offer was dependent on due diligence and was not supported with
ironclad financing. Not only was the offer rejected, but Men’s Wearhouse adopted a poison pill, which effectively limited a
shareholder to a 10% of less ownership stake in the company. Poison pills take effect when an investor reaches a specified
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limit on the amount of stock that can be purchased. When triggered they are intended to make a hostile takeover prohibitively
expensive.
Jos. A. Bank’s strategy may have been to rely on shareholder pressure to force Men’s Wearhouse to the negotiating table.
The two firms had large shareholders, who may have seen value in combining the two firms, in common such as the mega–
investment firm BlackRock which owns 9% of Men’s Wearhouse and 8.2% of Jos. A. Bank. Also, since initial offers often
are intentionally low to enable an increase in subsequent bids, Jos. A. Bank may have hoped that arbitrageurs would buy
Men’s Wearhouse stock at its current price hoping to pressure the firm into selling at an expected higher bid.
In a surprising retaliatory move, Men’s Wearhouse turned the tables in early December 2013 by offering to buy Jos. A. Bank
for $55 per share in an all cash tender offer set to expire on March 12, 2014. The offer valued the firm at $1.5 billion. This
seldom successful tactic has been referred to as the Pac Man defense, in which the prey turns predator, after a 1980s video
game. On December 23, 2013, Jos. A. Bank rejected this bid claiming publicly that it has a well-developed strategy in place
to increase revenue and to improve margins.
Each firm’s management team stubbornly held on to its independence. Eminence Capital, which owns a 4.9% stake in Jos.
A. Bank and a 10% position in Men’s Wearhouse, had been pushing Jos. A. Bank to make a deal for months. Expressing
growing impatience, Eminence Capital took Jos. A. Bank to court to try to force the retailer to negotiate exclusively with
Men’s Wearhouse. Jos. A. Bank subsequently asked the court to dismiss the request.
Wearhouse increasingly expensive.
On February 24, 2014, Men’s Wearhouse raised its cash tender offer for Jos. A. Bank to $63.50, with the potential to
increase it to $65 (the price at which Jos. A. Bank said it would repurchase shares) if it were able to perform limited due
diligence. The increased offer values the business at $1.78 billion. Men’s Wearhouse also extended the expiration date on its
tender offer to March 28, 2014. The amended offer was conditioned on the termination of the agreement to buy Eddie Bauer.
Men’s Wearhouse hoped that Jos. A. Bank shareholders would tender their shares forcing the firm’s management to reach a
negotiated settlement with Men’s Wearhouse. Men’s Wearhouse also filed a lawsuit seeking to prevent Jos. A. Bank from
buying Eddie Bauer and to rescind its poison pill arguing that Jos. A. Bank had breached its fiduciary responsibility to its
shareholders by pursuing tactics designed to unreasonably thwart Men’s Wearhouse tender offer.
Hostilities between the two firms came to an end on March 11, 2014, when Jos. A. Bank announced that it had reached an
agreement to be acquired by Men’s Wearhouse for $65 per share in cash, ending more than 6 months of acrimony. The deal
valued the firm at $1.8 billion and represented a 56% premium over Jos. A. Bank’s share price in early October of 2013. The
combined company will have annual revenue of $3.5 billion and annual savings of at least $100 million consisting of lower
overhead, more efficient marketing, and improved customer service. The combined firms will trail only Macey’s, Kohl’s, and
J.C. Penney’s in terms of volume in men’s wear.
Teva Acquires Cephalon in a Hostile Takeover
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Key Points
Friendly approaches are most commonly employed in corporate takeovers.
Hostile takeovers may be employed by the bidder to break an impasse.
Unplanned events often are a deciding factor in the timing of takeovers and the magnitude of the winning bid.
______________________________________________________________________________
Discussions about a possible merger between Israel’s mega generic-drug maker Teva Pharmaceutical Industries Ltd. (Teva)
and a specialty drug firm, Cephalon Inc. (Cephalon), had been under way for more than a year. However, they took on a
sense of heightened urgency following an unexpected public announcement on March 29, 2011, of an unsolicited tender offer
for U.S.–based Cephalon by Canada’s Valeant Pharmaceuticals International Ltd. (Valeant). The Valeant offer was valued at
$5.7 billion, or $73 per Cephalon share. Cephalon had already rebuffed several friendly merger proposals made privately
from Valeant earlier in 2011. Valeant, known for employing aggressive takeover tactics, decided to break the impasse in its
discussions with Cephalon’s board and management by taking its offer public.
Given its reputation, attempts to get an agreement between Valeant and Cephalon were in trouble from the outset. Valeant
was not interested in Cephalon’s oncology products and even proposed buying only the firm’s non–oncology drugs.
Cephalon’s board and management showed little interest in dismembering the firm and proceeded to acquire U.S.-based
Gemin X Pharmaceuticals Inc. for $225 million on March 21, 2011, and to buy up the outstanding shares of ChemGenex
Pharmaceuticals Ltd of Australia for $175 million. The use of cash for these purposes substantially reduced the firm’s cash
balances.
Teva had significantly greater appeal to the Cephalon board, since it had expressed interest in the entire company. Teva
also was willing to pay a substantially higher purchase price because of the greater perceived synergy between the two
companies. To understand the source of this synergy it is important to recognize that Teva has historically been viewed by
investors as primarily a manufacturer of low-margin pharmaceuticals. Profit margins on such drugs tend to be substantially
less than those of branded drugs and were likely to continue to decline due to increased competition and government and
insurance company pressure to reduce selling prices. Teva did have its own blockbuster branded drug, Copaxone, which
accounted for 21% of the firm’s $16.1 billion in 2010. However, the drug was going to lose patent protection in 2014.
Teva needed to achieve a better balance between branded and generic products. Acquiring Cephalon, with its strong drug
pipeline and fast-growing cancer drug Treanda and pain medicine Fentora, offered the potential for offsetting any loss of
Copaxone revenue and of expanding Teva’s offering of high–margin branded drugs. These drugs would complement Teva’s
own portfolio of drugs, serving therapeutic areas ranging from central nervous system disorders to oncology to pain
management, that generated $2.8 billion in 2010. With Cephalon, branded drugs would account for 36% of the combined
firms’ revenue. Together, the combined firms would have 30 pharmaceuticals at least at the mid-development stage. Teva
believed the deal would be accretive immediately, with $500 million in annual cost savings and synergies realized within
three years. Although the deal did offer cost–cutting opportunities, the ability to broaden the firm’s product offering was a far
greater attraction.
With this in mind, Teva lost little time in exploiting Cephalon’s efforts to ward off Valeant’s March 29 unwanted takeover
bid by moving aggressively to trump Valeant’s offer. Teva’s all–cash bid of $81.50 per share represented an approximate
12% premium to Valeant’s $73 per share offer and a 39% premium to Cephalon’s share price the day after Valeant’s
announced its bid. The deal, including the conversion of its convertible debentures and stock options, is worth $6.8 billion to
Cephalon’s shareholders. The purchase agreement included a breakup fee of $275 million, about 4% of the purchase price.
Having publicly stated that they thought their offer fully valued the business, Valeant withdrew its offer after the joint
Cephalon–Teva announcement on May 2, 2011. Valeant could not continue to pursue Cephalon unless it was willing to run
the risk of being publicly perceived as overpaying for the target. Investors reacted favorably, with Cephalon’s stock and
Teva’s rising 4.2% and 3.5%, respectively, on the announcement. Expressing their disappointment, investors drove Valeant’s
share price down by 6.5%. Valeant would still profit from the 1 million Cephalon shares it had acquired prior to Teva’s and
Cephalon’s public announcement of their agreement. These shares had been acquired at prices below Teva’s winning bid of
$81.50 per share.
The acquisition of Cephalon marks the third major deal for Teva in four years as it continues to implement its business
strategy of broadening its product portfolio by diversifying between generic-drug offerings and higher-margin branded
offerings through acquisitions. This strategy is designed to reduce the firm’s reliance on any single drug or handful of drugs.
Discussion Questions:
1. What were the motivations for Valeant and Teva to be interested in acquiring Cephalon? Be specific.
2. Identify the takeover tactics employed by Valeant and Teva. Explain why each was used.
3. What alternative strategies could Valeant and Teva have pursued?
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4. Identify the takeover defenses employed by Cephalon. Explained why each was used.
5. What does the reaction of investors tell you about how they valued the combination of either Valeant or Teva with
Cephalon? Be specific.
6. Why do the shares of acquiring companies tend to perform better when cash is used to make the acquisition rather
than equity?
Balancing Board and Shareholder Rights: Air Products Aborted Takeover of Airgas
Key Points
Defining the right balance of power between corporate boards and shareholders remains elusive.
The Delaware court has ruled that a board can take as long as necessary to consider a bid and can prevent shareholders from
voting on takeover bids.
Activist investors are increasingly urging shareholders to pressure firms to drop staggered boards because of the potential to
entrench management.
______________________________________________________________________________
When, if ever, is it appropriate for a board to agree to a current bid to buy the firm if it, in good faith, believes that the bid
undervalues the firm based on the board’s knowledge of the long-term outlook for the firm? When, if ever, is it appropriate
for a board to prevent shareholder votes on such matters? The answers to these questions are rooted in whether boards are
perceived to be acting in the interests of all shareholders or simply attempting to entrench themselves and current
management. How these questions are answered will determine whether the board or shareholders will have leverage in
hostile takeover negotiations. What follows is a discussion of what is an important judicial precedent pertaining to board and
shareholder rights.
The unsolicited offer by Air Products for Airgas on February 2, 2010, has been one of the longest-running hostile bids in
U.S. history. After having revised up its offer twice, Air Products sought to bring this process to a close when it asked the
Delaware Chancery Court to invalidate Airgas’s poison pill. On February 15, 2011, the court ruled that the board has the
right to prevent shareholders from voting on the takeover offer as long as it is acting in good faith. In the wake of the court’s
ruling, Air Products withdrew its bid.
The court argued that the Airgas board determined, using a good-faith effort, that the Air Products offer of $70 per share
was inadequate and allowed Airgas to use a poison pill to defeat the hostile bid by Air Products. A firm is believed to have
undertaken a good-faith effort when it has exhausted all reasonable means of resolving an issue. Airgas’s board had
demanded a bid of $78 per share. Because the Air Products bid was viewed as inadequate, the court ruled that Airgas could
keep the poison pill in place against the will of the shareholders. The court also argued that the poison pill was not preventing
Air Products from changing the composition of the board but, rather, extending the amount of time required to do so. The
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court also ruled that directors have the right to prevent shareholder votes if they believe that shareholders would accept a bid
that undervalued the firm out of ignorance of the firm’s true value.
In practice, the additional time that would have been required to change the composition of the board when the board is
classified, as was the case with Airgas, is usually enough to force the bidder to walk away. Once an unsolicited bid is
initiated, the composition of a target firm’s shareholders moves from its long-term investors, who often sell when the offer is
announced, to arbitrageurs and hedge funds, seeking to profit from temporary differences in the offer price and the target’s
short-term share price. From their perspective, the faster a deal is done, the greater their return on investment. Reflecting the
change in composition of their shareholder base, target boards come under intense pressure to sell. However, the fiduciary
responsibility of boards is to ensure that any bids are in the best interests of their shareholders; takeover defenses in the view
of the board give them more time to evaluate the initial offer and to hold out for higher bids.
The court’s decision illustrates how a poison pill can work in concert with a classified or staggered board, in which
directors are elected one-third at a time. Bidders must therefore wait two years to elect a majority of the total board and force
the poison pill to be rescinded. This combination has proven to be a highly potent antitakeover defense. Air Products’ bid for
Airgas highlights the challenges of attempting to take control of another firm’s board. Even if Air Products had been
successful in electing a majority of board members, there was no assurance the new board would have supported the $70 Air
Products bid. The Airgas rejection of their bid came after three new directors nominated by Air Products had been elected to
the Airgas board in 2009. Instead of campaigning for a sale, the three new directors joined the rest of the Airgas board in
demanding a higher price from Air Products.
The outcome of the court’s ruling has implications for future hostile takeovers. The ruling upholds Delaware’s long
tradition of respecting managerial discretion as long as the board is found to be acting in good faith and abiding by its
fiduciary responsibilities to the firm’s shareholders. The ruling allows target firm boards to use a poison pill as long as the
board deems justified, and it is far-reaching because Delaware law governs most U.S. publicly traded firms.
Discussion Questions:
1. Do you believe that shareholders should always have the right to vote on a sale of the firm under any circumstances?
Explain your answer.
2. Do you agree with the Delaware Chancery Court’s ruling? Explain your answer.
3. Under what circumstances do the combination of a poison pill and a staggered board make sense for the target firm’s
shareholders? Be specific.
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4. How might this court ruling impact the willingness of acquirers in the future to go aggressively hostile?
Linkedin IPO Raises Governance Issues
_____________________________________________________________________________________
<TE type A>
Key Points
Various antitakeover defenses raise shareholder rights issues.
Critics argue such measures entrench existing management.
Firms employing such measures argue that they allow the founder to retain control, attract and retain key managers, and
enable the firm to continue its business strategy.
______________________________________________________________________________
Investors often overlook governance structures when the prospect of future profits is high. This may have been the case when
Internet social media company LinkedIn completed on May 9, 2011, the largest IPO since Google’s in 2004. With 2010
revenues of $243 million and net income of $15 million, the eight-year-old firm was valued at $8.9 billion, nearly 600 times
earnings.
Investors in the IPO received Class A shares, which have only one vote, while LinkedIn’s pre-IPO shareholders hold Class
B shares, entitled to 10 votes each. The dual share structure guarantees that cofounder and CEO, Reid Hoffman, will own
about 20% of LinkedIn and, in concert with three venture capital firms, will have a controlling interest. In contrast, public
shareholders will have less than 1% of the voting power of the firm. Different classes of voting stock allow the founder’s
family to preserve and protect their desired corporate culture, to preserve continuity of policies and practices, to attract and
retain key managers, and to enable the current board and management to look beyond quarterly earnings pressures. The dual
structure also allows founders to cash out without losing control of the companies they started.
LinkedIn also adopted a staggered board, which effectively requires at least two years before a majority of the firm’s
current board can be replaced. To make it more difficult to eliminate the staggered board defense, LinkedIn shareholders
must vote to change the firm’s certificate of incorporation after the board recommends such a vote. Once the
recommendation is made, all LinkedIn shares (Class A and Class B) have only one vote. However, the removal of the
staggered board is still unlikely, because the firm’s certificate of incorporation requires that more than 80% of all
shareholders approve changes in the staggered board structure.
The firm also added bylaw notice provisions—to discourage shareholder activists—more onerous than would be required
in SEC filings, when a shareholder has more than 5% ownership interest in a public firm. If it is later determined that the
shareholder has misstated the facts in any manner, LinkedIn’s bylaws allow the board to disqualify the proposal or
nomination. Finally, according to LinkedIn’s charter, any shareholder lawsuits must be litigated in the state of Delaware,
where the laws are particularly favorable to corporations.
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These measures raise questions about the rights of pre-IPO investors versus those of public shareholders. Do they allow
the firm to retain the best managers and to implement fully its business strategy? Do they embolden management to negotiate
the best deal for all shareholders in the event of a takeover attempt? Or do they entrench current management intent on
maintaining their power and compensation at the expense of other shareholders?
Discussion Questions:
Mittal Acquires Arcelor—A Battle of Global Titans in the European Corporate Takeover Market
Ending five months of maneuvering, Arcelor agreed on June 26, 2006, to be acquired by larger rival Mittal Steel Co. for
$33.8 billion in cash and stock. The takeover battle was one of the most acrimonious in recent European Union history.
Hostile takeovers are now increasingly common in Europe. The battle is widely viewed as a test case as to how far a firm can
go in attempting to prevent an unwanted takeover.
Arcelor was created in 2001 by melding steel companies in Spain, France, and Luxembourg. Most of its 90 plants are in
Europe. In contrast, most of Mittal’s plants are outside of Europe in areas with lower labor costs. Lakshmi Mittal, Mittal‘s
CEO and a member of an important industrial family in India, started the firm and built it into a powerhouse through two
decades of acquisitions in emerging nations. The company is headquartered in the Netherlands for tax reasons. Prior to the
Arcelor acquisition, Mr. Mittal owned 88 percent of the firm’s stock.
Mittal acquired Arcelor to accelerate steel industry consolidation to reduce industry overcapacity. The combined firms
could have more leverage in setting prices and negotiating contracts with major customers such as auto and appliance
manufacturers and suppliers such as iron ore and coal vendors, and eventually realize $1 billion annually in pretax cost
savings.
After having been rebuffed by Guy Dolle, Arcelor’s president, in an effort to consummate a friendly merger, Mittal
launched a tender offer in January 2006 consisting of mostly stock and cash for all of Arcelor’s outstanding equity. The offer
constituted a 27 percent premium over Arcelor’s share price at that time. The reaction from Arcelor’s management, European
unions, and government officials was swift and furious. Guy Dolle stated flatly that the offer was “inadequate and
strategically unsound.” European politicians supported Mr. Dolle. Luxembourg’s prime minister, Jean Claude Juncker, said a
hostile bid “calls for a hostile response.” Trade unions expressed concerns about potential job loss.
Dolle engaged in one of the most aggressive takeover defenses in recent corporate history. In early February, Arcelor
doubled its dividend and announced plans to buy back about $8.75 billion in stock at a price well above the then current
market price for Arcelor stock. These actions were taken to motivate Arcelor shareholders not to tender their shares to Mittal.
Arcelor also backed a move to change the law so that Mittal would be required to pay in cash. However, the Luxembourg
parliament rejected that effort.
To counter these moves, Mittal Steel said in mid-February that if it received more than one-half of the Arcelor shares
submitted in the initial tender offer, it would hold a second tender offer for the remaining shares at a slightly lower price.
Mittal pointed out that it could acquire the remaining shares through a merger or corporate reorganization. Such rhetoric was
designed to encourage Arcelor shareholders to tender their shares during the first offer.
In late 2005, Arcelor outbid German steelmaker Metallgeschaft to buy Canadian steelmaker Dofasco for $5 billion. Mittal
was proposing to sell Dofasco to raise money and avoid North American antitrust concerns. Following completion of the
Dofasco deal in April 2006, Arcelor set up a special Dutch trust to prevent Mittal from getting access to the asset. The trust is
run by a board of three Arcelor appointees. The trio has the power to determine if Dofasco can be sold during the next five
years. Mittal immediately sued to test the legality of this tactic.
In a deal with Russian steel maker OAO Severstahl, Arcelor agreed to exchange its shares for Alexei Mordashov’s 90
percent stake in Severstahl. The transaction would give Mr. Mordashov a 32 percent stake in Arcelor. Arcelor also scheduled
an unusual vote that created very tough conditions for Arcelor shareholders to prevent the deal with Severstahl from being
completed. Arcelor’s board stated that the Severstahl deal could be blocked only if at least 50 percent of all Arcelor
shareholders would vote against it. However, Arcelor knew that only about one-third of shareholders actually attend
meetings. This is a tactic permissible under Luxembourg law, where Arcelor is incorporated.
31
Investors holding more than 30 percent of Arcelor shares signed a petition to force the company to make the deal with
Severstahl subject to a traditional 50.1 percent or more of actual votes cast. After major shareholders pressured the Arcelor
board to at least talk to Mr. Mittal, Arcelor demanded an intricate business plan from Mittal as a condition that had to be met.
Despite Mittal’s submission of such a plan, Arcelor still refused to talk. In late May, Mittal raised its bid by 34 percent and
said that if the bid succeeded, Mittal would eliminate his firm’s two–tiered share structure, giving the Mittal family shares ten
times the voting rights of other shareholders.
A week after receiving the shareholder petition, the Arcelor board rejected Mittal’s sweetened bid and repeated its support
of the Severstahl deal. Shareholder anger continued, and many investors said they would reject the share buyback. Some
investors opposed the buyback because it would increase Mr. Mordashov’s ultimate stake in Arcelor to 38 percent by
reducing the number of Arcelor shares outstanding. Under the laws of most European countries, any entity owning more than
a third of a company is said to have effective control. Arcelor cancelled a scheduled June 21 shareholder vote on the buyback.
Despite Mr. Mordashov’s efforts to enhance his bid, the Arcelor board asked both Mordashov and Mittal to submit their final
bids by June 25.
Arcelor finally agreed to Mittal’s final bid, which had been increased by 14 percent. The new offer consisted of $15.70 in
cash and 1.0833 Mittal shares for each Arcelor share. The new bid is valued at $50.54 per Arcelor share, up from Mittal’s
initial bid in January 2006 of $35.26. The final offer represented an unprecedented 93 percent premium over Arcelor’s share
price of $26.25 immediately before Mittal’s initial bid. Lakshmi Mittal will control 43.5 percent of the combined firm’s stock.
Mr. Mordashov would receive a $175 million breakup fee due to Arcelor’s failure to complete its agreement with him.
Finally, Mittal agreed not to make any layoffs beyond what Arcelor already has planned.
Discussion Questions:
1. Identify the takeover tactics employed by Mittal. Explain why each was used.
2. Identify the takeover defenses employed by Arcelor? Explain why each was used.
3. Using the information in this case study, discuss the arguments for and against encouraging hostile corporate
takeovers
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4. Was Arcelor’s board and management acting to protect their own positions (i.e., the management entrenchment
hypothesis) or in the best interests of the shareholders (i.e., the shareholder interests hypothesis)? Explain your
answer.
Verizon Acquires MCI—The Anatomy of Alternative Bidding Strategies
While many parties were interested in acquiring MCI, the major players included Verizon and Qwest. U.S.-based Qwest is an
integrated communications company that provides data, multimedia, and Internet-based communication services on a
national and global basis. The acquisition would ease the firm’s huge debt burden of $17.3 billion because the debt would be
supported by the combined company with a much larger revenue base and give it access to new business customers and
opportunities to cut costs.
Verizon Communications, created through the merger of Bell Atlantic and GTE in 2000, is the largest telecommunications
provider in the United States. The company provides local exchange, long distance, Internet, and other services to residential,
business, and government customers. In addition, the company provides wireless services to over 42 million customers in the
United States through its 55 percent–owned joint venture with Vodafone Group PLC. Verizon stated that the merger would
enable it to more efficiently provide a broader range of services, give the firm access to MCI’s business customer base,
accelerate new product development using MCI’s fiber-optic network infrastructure, and create substantial cost savings.
By mid-2004, MCI had received several expressions of interest from Verizon and Qwest regarding potential strategic
relationships. By July, Qwest and MCI entered into a confidentiality agreement and proceeded to perform more detailed due
diligence. Ivan Seidenberg, Verizon’s chairman and CEO, inquired about a potential takeover and was rebuffed by MCI’s
board, which was evaluating its strategic options. These included Qwest’s proposal regarding a share-for-share merger,
following a one-time cash dividend to MCI shareholders from MCI’s cash in excess of its required operating balances. In
view of Verizon’s interest, MCI’s board of directors directed management to advise Richard Notebaert, the chairman and
CEO of Qwest, that MCI was not prepared to move forward with a potential transaction. The stage was set for what would
become Qwest’s laboriously long and ultimately unsuccessful pursuit of MCI, in which the firm would improve its original
offer four times, only to be rejected by MCI in each instance even though the Qwest bids exceeded Verizon’s.
After assessing its strategic alternatives, including the option to remain a stand-alone company, MCI’s board of directors
concluded that the merger with Verizon was in the best interests of the MCI stockholders. MCI’s board of directors noted that
Verizon’s bid of $26 in cash and stock for each MCI share represented a 41.5 percent premium over the closing price of
MCI’s common stock on January 26, 2005. Furthermore, the stock portion of the offer included “price protection” in the form
of a collar (i.e., the portion of the purchase price consisting of stock would be fixed within a narrow range if Verizon’s share
price changed between the signing and closing of the transaction).
The merger agreement also provided for the MCI board to declare a special dividend of $5.60 once the firm’s shareholders
approved the deal. MCI’s board of directors also considered the additional value that its stockholders would realize, since the
merger would be a tax-free reorganization in which MCI shareholders would be able to defer the payment of taxes until they
sold their stock. Only the cash portion of the purchase price would be taxable immediately. MCI’s board of directors also
noted that a large number of MCI’s most important business customers had indicated that they preferred a transaction
between MCI and Verizon rather than a transaction between MCI and Qwest.
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While it is clearly impossible to know for sure, the sequence of events reveals a great deal about Verizon’s possible
bidding strategy. Any bidding strategy must begin with a series of management assumptions about how to approach the target
firm. It was certainly in Verizon’s best interests to attempt a friendly rather than a hostile takeover of MCI, due to the
challenges of integrating these two complex businesses. Verizon also employed an increasingly popular technique in which
the merger agreement includes a special dividend payable by the target firm to its shareholders contingent upon their
approval of the transaction. This special dividend is an inducement to gain shareholder approval.
Given the modest 3 percent premium over the first Qwest bid, Verizon’s initial bidding strategy appears to have been
based on the low end of the purchase price range it was willing to offer MCI. Verizon was initially prepared to share
relatively little of the potential synergy with MCI shareholders, believing that a bidding war for MCI would be unlikely in
view of the recent spate of mergers in the telecommunications industry and the weak financial position of other competitors.
SBC and Nextel were busy integrating AT&T and Sprint, respectively. Moreover, Qwest appeared to be unable to finance a
substantial all-cash offer due to its current excessive debt burden, and its stock appeared to have little appreciation potential
because of ongoing operating losses. Perhaps stunned by the persistence with which Qwest pursued MCI, Verizon believed
that its combination of cash and stock would ultimately be more attractive to MCI investors than Qwest’s primarily all–cash
offer, due to the partial tax-free nature of the bid.
Throughout the bidding process, many hedge funds criticized MCI’s board publicly for accepting the initial Verizon bid.
Since its emergence from Chapter 11, hedge funds had acquired significant positions in MCI’s stock, with the expectation that
MCI constituted an attractive merger candidate. In particular, Carlos Slim Helu, the Mexican telecommunications magnate
and largest MCI shareholder, complained publicly about the failure of MCI’s board to get full value for the firm’s shares.
Pressure from hedge funds and other dissident MCI shareholders triggered a shareholder lawsuit to void the February 14,
2005, signed merger agreement with Verizon.
In preparation for a possible proxy fight, Verizon entered into negotiations with Carlos Slim Helu to acquire his shares.
Verizon acquired Mr. Slim’s 13.7 percent stake in MCI in April 2005. Despite this purchase, Verizon’s total stake in MCI
remained below the 15 percent ownership level that would trigger the MCI rights plan.
About 70 percent (i.e., $1.4 billion) of the cash portion of Verizon’s proposed purchase price consisted of a special MCI
dividend payable by MCI when the firm’s shareholders approved the merger agreement. Verizon’s management argued that
the deal would cost their shareholders only $7.05 billion (i.e., the $8.45 billion purchase price consisting of cash and stock,
less the MCI special dividend). The $1.4 billion special dividend reduced MCI’s cash in excess of what was required to meet
its normal operating cash requirements.
Qwest consistently attempted to outmaneuver Verizon by establishing a significant premium between its bid and
Verizon’s, often as much as 25 percent. Qwest realized that its current level of indebtedness would preclude it from
significantly increasing the cash portion of the bid. Consequently, it had to rely on the premium to attract enough investor
interest, particularly among hedge funds, to pressure the MCI board to accept the higher bid. However, Qwest was unable to
convince enough investors that its stock would not simply lose value once more shares were issued to consummate the stock
and cash transaction.
Qwest could have initiated a tender or exchange offer directly to MCI shareholders, proposing to purchase or exchange
their shares without going through the merger process. The tender process requires lengthy regulatory approval. However, if
Qwest initiated a tender offer, it could trigger MCI’s poison pill. Alternatively, a proxy contest might have been preferable
because Qwest already had a bid on the table, and the contest would enable Qwest to lobby MCI shareholders to vote against
the Verizon bid. This strategy would have avoided triggering the poison pill.
Ultimately, Qwest was forced to capitulate simply because it did not have the financial wherewithal to increase the $9.9
billion bid. It could not borrow anymore because of its excessive leverage. Additional stock would have contributed to
earnings dilution and caused the firm’s share price to fall.
It is unusual for a board to turn down a higher bid, especially when the competing bid was 17 percent higher. In accepting
the Verizon bid, MCI stated that a number of its large business customers had expressed a preference for the company to be
bought by Verizon rather than Qwest. MCI noted that these customer concerns posed a significant risk in being acquired by
Qwest. The MCI board’s acceptance of the lower Verizon bid could serve as a test case of how well MCI directors are
conducting their fiduciary responsibilities. The central issue is how far boards can go in rejecting a higher offer in favor of
one they believe offers more long-term stability for the firm’s stakeholders.
Ron Perlman, the 1980s takeover mogul, saw his higher all-cash bid rejected by the board of directors of Revlon
Corporation, which accepted a lower offer from another bidder. In a subsequent lawsuit, a court overruled the decision by the
Revlon board in favor of the Perlman bid. Consequently, from a governance perspective, legal precedent compels boards to
accept higher bids from bona fide bidders where the value of the bid is unambiguous, as in the case of an all–cash offer.
However, for transactions in which the purchase price is composed largely of acquirer stock, the value is less certain.
Consequently, the target’s board may rule that the lower bidder’s shares have higher appreciation potential or at least are less
likely to decline than those shares of other bidders.
MCI’s president and CEO Michael Capellas and other executives could collect $107 million in severance, payouts of
restricted stock, and monies to compensate them for taxes owed on the payouts. In particular, Capellas stood to receive $39.2
million if his job is terminated “without cause” or if he leaves the company “for good reason.”
Discussion Questions:
1. Discuss how changing industry conditions have encouraged consolidation within the telecommunications industry?
2. What alternative strategies could Verizon, Qwest, and MCI have pursued? Was the decision to acquire MCI the
best alternative for Verizon? Explain your answer.
3. Who are the winners and losers in the Verizon/MCI merger? Be specific.