Chapter 3: The Corporate Takeover Market:
Common Takeover Tactics, Anti-Takeover Defenses, and Corporate Governance
Answers to End of Chapter Discussion Questions
3.1 What are the management entrenchment and shareholder interests hypotheses? Which seems more realistic in your
judgment?
3.2 What are the advantages and disadvantages of the friendly versus hostile approach to a corporate takeover?
3.3 What are the primary advantages and disadvantages of commonly used takeover defenses?
3.4 How may golden parachutes for senior management help a target firm’s shareholders? Are such
severance packages justified in your judgment?
3.5 How might recapitalization as a takeover defense help or hurt a target firm’s shareholders?
3.6 Anheuser-Busch (AB) rejected InBev’s all–cash offer price of $65 per share on June 30, 2008 saying it undervalued
the company, despite the offer representing a 35 percent premium to AB’s pre-announcement share price. InBev
refused to raise its offer repeating its strong preference for a friendly takeover. Speculate as to why InBev refused
to raise its initial offer. Why do you believe that InBev continued to prefer a friendly takeover? What would you
recommend InBev do to raise pressure on the AB board to accept the offer?
3.7 What do you believe are the primary factors a target firm’s board should consider when evaluating a bid from a
potential acquirer? Explain your answer.
3.8 If you were the CEO of a target firm, what strategy would you recommend to convince institutional shareholders
to support your position in a proxy battle with the bidding firm?
3.9 Anheuser-Busch reduced its anti-takeover defenses in 2006 when it removed its staggered board structure. Two
years earlier, it did not renew its poison pill provision. Speculate as to why the board acquiesced in these
instances? Explain how these events affected the firm’s vulnerability to a takeover
3.10 In response to Microsoft’s efforts to acquire the firm, the Yahoo board adopted a “change–in–control” compensation
plan in May 2008. The plan states that if a Yahoo employee is terminated by Yahoo without cause (i.e., the
employee is performing their duties appropriately) of if an employee leaves of their own volition due to a change in
their position or responsibilities within two years after Microsoft acquires a controlling interest in Yahoo, the
employee will receive one year’s salary. Also, the plan provides for accelerated vesting of all stock options. Yahoo
notes that the adoption of severance plan is an effort to ensure that employees are treated fairly if Microsoft wins
control. Microsoft views the tactic as an effort to discourage a takeover. With whom do you agree and why?
Solutions to End of Chapter Case Study Questions
Strategy Matters—Sempra Energy Acquires Oncor
Discussion Questions and Answers:
1. What decisions made by Sempra Energy could affect its control over Oncor?
2. Describe the takeover tactics employed by each previous suitor and why they failed? What enabled Sempra to win
approval?
4. What constituencies won and which lost with Sempra’s takeover of Oncor?
5. Is the highest bid necessarily the best bid? Explain your answer.
6. Compare and contrast the Sempra and Berkshire Hathaway bids for Oncor?
7. Describe the unique challenges of buying an electric utility out of bankruptcy? Illustrate how these challenges were
overcome by Sempra Energy? Be Specific.
8. The case study states the following: Sempra learned from the failures of past bidders to gain regulatory approval.
But these concessions came with a price. What is that price? Be specific.
1. Friendly takeovers are negotiated settlements that are often characterized by bargaining, which remains undisclosed
until the agreement has been signed. True or False
2. Concern about their fiduciary responsibility to shareholders and shareholder lawsuits often puts pressure on a target
firm’s board of directors to accept an offer if it includes a significant premium to the target’s current share price.
True or False
3. An astute bidder should always analyze the target firm’s possible defenses such as golden parachutes for key
employees and poison pills before making a bid. True or False
4. The accumulation of a target firm’s stock by arbitrageurs makes purchases of blocks of stock by the bidder easier.
True or False
5. A successful proxy fight may represent a far less expensive means of gaining control over a target than a
tender offer. True or False
6. Public announcements of a proposed takeover are often designed to put pressure on the board of the target firm.
True or False
7. A tender offer is a proposal made directly to the target firm’s board as the first step leading to a friendly takeover.
True or False
8. A bear hug involves mailing a letter containing an acquisition proposal to the target’s board without warning and
demanding an immediate response. True or False
9. Dissident shareholders always undertake a tender offer to change the composition of a firm’s board of
directors. True or False
10. A proxy contest is one in which a group of dissident shareholders attempts to obtain representation on a
firm’s board by soliciting other shareholders for the right to vote their shares. True or False
11. A hostile tender offer is a takeover tactic in which the acquirer bypasses the target’s board and management and
goes directly to the target’s shareholders with an offer to purchase their shares. True or False
12. According to the management entrenchment hypothesis, takeover defenses are designed to protect the
target firm’s management from a hostile takeover. True or False
13. The shareholder interests theory suggests that shareholders gain when management resists takeover
attempts. True or False
14. A standstill agreement is one in which the target firm agrees not to solicit bids from other potential
buyers while it is negotiating with the first bidder. True or False
15. Most takeover attempts may be characterized as hostile bids. True or False
16. Litigation is a tactic that is used only by acquiring firms. True or False
17. The takeover premium is the dollar or percentage amount the purchase price proposed for a target firm
exceeds the acquiring firm’s share price. True or False
18. Concern about their fiduciary responsibility and about stockholder lawsuits puts pressure on the target’s
board to accept the offer. True or False
19. The final outcome of a hostile takeover is rarely affected by the composition of the target’s stock
ownership and how stockholders feel about management’s performance. True or False
20. Despite the pressure of an attractive purchase price premium, the composition of the target’s board
greatly influences what the board does and the timing of its decisions. True or False
21. The target firm’s bylaws may provide significant hurdles for an acquiring firm. True or False
22. Bylaws may provide for a staggered board, the inability to remove directors without cause, and
supermajority voting requirements for approval of mergers. True or False
23. An acquiring firm may attempt to limit the options of the target’s senior management by making a formal
acquisition proposal, usually involving a public announcement, to the board of the directors of the target. True or
False
24. A target firm is unlikely to reject a bid without getting a “fairness” opinion from an investment banker
stating that the offer is inadequate. True or False
25. By replacing the target’s board members, proxy fights may be an effective means of gaining control
without owning 51% of the target’s voting stock. True or False
26. Proxy contests and tender offers are often viewed by acquirers as inexpensive ways to takeover another
firm. True or False
27. All materials in a proxy contest must be filed with the SEC before they are sent to shareholders.
True or False
28. Federal and state laws make it extremely difficult for a bidder to acquire a controlling interest in a target
without such actions becoming public knowledge. True or False
29. Tender offers always consist of an offer to exchange acquirer shares for shares in the target firm.
True or False
30. The size of the target firm is the best predictor of the likelihood of being taken over by another firm.
True or False
31. Poison pills are a commonly used takeover tactic to remove the management and board of the target firm.
True or False
32. Poison pills represent a new class of securities issued by a company to its shareholders, which have no
value unless an investor acquires a specific percentage of the firm’s voting stock. True or False
33. In elections involving staggered or classified boards, only one group of board members is up for
reelection each year. True or False
34. Golden parachutes are employee severance arrangements, which are triggered whenever a change in
control takes place. They are generally held by a large number of employees at all levels of management throughout
the firm. True or False
35. Tender offers apply only for share for share exchanges. True or False
36. Corporate governance refers to the way firms elect CEOs. True or False
37. The threat of hostile takeovers is a factor in encouraging a firm to implement good governance practices.
True or False
38. Corporate governance refers to a system of controls both internal and external to the firm that protects
stakeholders’ interests. True or False
39. Stakeholders in a firm refer to shareholders only. True or False
40. Corporate anti-takeover defenses are necessarily a sign of bad corporate governance. True or False
41. The threat of corporate takeover has little impact on how responsibly a corporate board and management manage a
firm. True or False
42. Institutional activism has assumed a larger role in ensuring good corporate governance practices in recent years.
True or False
43. Executive stock option plans have little impact on the way management runs the firm. True or False
44. A standstill agreement prevents an investor who has signed the agreement from ever again buying stock in the target
firm. True or False
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45. The primary forms of proxy contests are those for seats on the board of directors, those concerning management
proposals, and those seeking to force management to take a particular action. True or False
46. Purchasing target stock in the open market is a rarely used takeover tactic. True or False
47. In a one-tier offer, the acquirer announces the same offer to all target shareholders. True or False.
48. In a two-tiered offer, target shareholders typically received two offers, which potentially have different values.
True or False
49. A no-shop agreement prohibits the takeover target from seeking other bids. True or False
50. Poison pills represent a new class of stock issued by a company to its shareholders, usually as a dividend. True or
False
Multiple Choice: Circle only one alternative.
1. All of the following are commonly used takeover tactics, except for
a. Poison pills
b. Bear hug
c. Tender offer
d. Proxy contest
e. Litigation
2. According to the management entrenchment theory,
a. Management resistance to takeover attempts is an attempt to increase the proposed purchase price premium
b. Management resistance to takeover attempts is an attempt to extend their longevity with the target firm
c. Shareholders tend to benefit when management resists takeover attempts
d. Management attempts to maximize shareholder value
e. Describes the primary reason takeover targets resist takeover bids
3. Which of the following factors often affects hostile takeover bids?
a. The takeover premium
b. The composition of the board of the target firm
c. The composition of the ownership of the target’s stock
d. The target’s bylaws
e. All of the above
4. All of the following are true of a proxy contest except for
a. Are usually successful
b. Are sometimes designed to replace members of the board
c. Are sometimes designed to have certain takeover defenses removed
d. May enable effective control of a firm without owning 51% of the voting stock
e. Are often costly
5. Purchasing the target firm’s stock in the open market is a commonly used tactic to achieve all of
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the following except for
a. Acquiring a controlling interest in the target firm without making such actions public knowledge.
b. Lowering the average cost of acquiring the target firm’s shares
c. Recovering the cost of an unsuccessful takeover attempt
d. Obtaining additional voting rights in the target firm
e. Strengthening the effectiveness of proxy contests
6. All of the following are true of tender offers except for
a. Tender offers consist only of offers of cash for target stock
b. Are generally considered an expensive takeover tactic
c. Are extended for a specific period of time
d. Are sometimes over subscribed
e. Must be filed with the SEC
7. Which of the following are common takeover tactics?
a. Bear hugs
b. Open market purchases
c. Tender offers
d. Litigation
e. All of the above
8. All of the following are common takeover defenses except for
a. Poison pills
b. Litigation
c. Tender offers
d. Staggered boards
e. Golden parachutes
9. All of the following are true of poison pills except for
a. They are a new class of security
b. Generally prevent takeover attempts from being successful
c. Enable target shareholders to buy additional shares in the new company if an unwanted shareholder’s
ownership exceeds a specific percentage of the target’s stock
d. Delays the completion of a takeover attempt
e. May be removed by the target’s board if an attractive bid is received from a so–called “white knight.”
10. The following takeover defenses are generally put in place by a firm before a takeover attempt is
initiated.
a. Standstill agreements
b. Poison pills
c. Recapitalization
d. Corporate restructuring
e. Greenmail
11. The following takeover defenses are generally put in place by a firm after a takeover attempt is
underway.
a. Staggered board
b. Standstill agreement
c. Supermajority provision
d. Fair price provision
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e. Reincorporation
12. Which of the following is true about so-called shark repellants?
a. They are put in place to strengthen the board
b. They include poison pills
c. Often consist of the right to issue greenmail
d. Involve White Knights
e. Involve corporate restructuring
13. Which of the following is true? A hostile takeover attempt
a. Is generally found to be illegal
b. Is one that is resisted by the target’s management
c. Results in lower returns to the target firm’s shareholders than a friendly attempt
d. Usually successful
e. Supported by the target firm’s board and its management
14. Which is true of the following? A white knight
a. Is a group of dissident shareholders which side with the bidding firm
b. Is a group of the target firm’s current shareholders which side with management
c. Is a third party that is willing to acquire the target firm at the same price as the bidder but usually removes
the target’s management
d. Is a firm which is viewed by management as a more appropriate suitor than the bidder
e. Is a firm that is willing to acquire only a large block of stock in the target firm
15. Which of the following is true about supervoting stock?
a. Is a commonly used takeover tactic.
b. Is generally encouraged by the SEC
c. May have 10 to 100 times of the voting rights of other classes of stock
d. Is issued to acquiring firms if they agree not to purchase a controlling interest in the target firm
e. Is a widely used takeover defense
16. Which of the following factors influences corporate governance practices?
a. Securities legislation
b. Government regulatory agencies
c. The threat of a hostile takeover
d. Institutional activism
e. All of the above
17. Which of the following are commonly considered alternative models of corporate governance?
a. Market model
b. Control model
c. Takeover model
d. A & B only
e. A & C only
18. The market governance model is applicable when which of the following conditions are true?
a. Capital markets are liquid
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b. Equity ownership is widely dispersed
c. Ownership and control are separate
d. Board members are largely independent
e. All of the above
19. The control market is applicable when which of the following conditions are true?
a. Capital markets are illiquid
b. Equity ownership is heavily concentrated
c. Board members are largely insiders
d. Ownership and control overlap
e. All of the above
20. The control model of corporate governance is applicable under all of the following conditions except for
a. Capital markets are illiquid
b. Board members are largely insiders
c. Ownership and control overlap
d. Equity ownership is widely dispersed
e. A, B, & D only
21. Which of the following are the basic principles on which the market model is based?
a. Management incentives should be aligned with those of shareholders and other major stakeholders
b. Transparency of financial statements
c. Equity ownership should be widely dispersed
d. A & B only
e. A, B, and C only
22. Which of the following statements best describes the business judgment rule?
a. Board members are expected to conduct themselves in a manner that could reasonably be seen as being in
the best interests of the shareholders.
b. Board members are always expected to make good decisions.
c. The courts are expected to “second guess’ decisions made by corporate boards.
d. Directors and managers are always expected to make good decisions.
e. Board decisions should be subject to constant scrutiny by the courts.
23. Over the years, the U.S. Congress has transferred some of the enforcement of securities laws to organizations other
than the SEC such as
a. Public stock exchanges
b. Financial Accounting Standards Board
c. Public Accounting Oversight Board
d. State regulatory agencies
e. All of the above
24. Which of the following government agencies can discipline firms with inappropriate governance practices?
a. Securities and Exchange Commission
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b. Federal Trade Commission
c. The Department of Justice
d. A & C only
e. A, B, & C
25. Studies show that which of the following combinations of corporate defenses can be most effective in discouraging
hostile takeovers?
a. Poison pills and staggered boards
b. Poison pills and golden parachutes
c. Golden parachutes and staggered boards
d. Standstill agreements and White Knights
e. Poison Pills and tender offers
26. Some of Acme Inc.’s shareholders are very dissatisfied with the performance of the firm’s current management team
and want to gain control of the board. To do so, these shareholders offer their own slate of candidates for open
spaces on the firm’s board of directors. Lacking the necessary votes to elect these candidates, they are contacting
other shareholders and asking them to vote for their slate of candidates. The firm’s existing management and board
is asking shareholders to vote for the candidates they have proposed to fill vacant seats on the board. Which of the
following terms best describes this scenario?
a. Leveraged buyout
b Proxy contest
c. Merger
d. Divestiture
e. None of the above
27. Xon Enterprises is attempting to take over Rayon Group. Rayon’s shareholders have the right to buy additional
shares at below market price if Xon (considered by Rayon’s board to be a hostile bidder) buys more than 15 percent
of Rayon’s outstanding shares. What term applies to this antitakeover measure?
a. Share repellent plan
b. Golden parachute plan
c. Pac Man defense
d. Poison pill
e. Greenmail provision
Case Study Short Essay Examination Questions
STRATEGY MATTERS IN TAKEOVER BATTLES
KEY POINTS
• Successful takeovers include a strategy for bringing the target’s board to the negotiating table and the discipline to
walk away when the target’s demands are viewed as excessive,
• Friendly takeovers often are preferred to hostile attempts but sometimes result in overpaying for the target, and
• Paying too much severely limits the acquirer’s ability to earn its cost of capital.
Good takeover strategies don’t always ensure success, especially when things turn hostile. But a bad strategy dramatically
increases the risk of calamity. This was aptly demonstrated in the years following Conagra Food’s (Conagra) acquisition of
Ralcorp Holdings (Ralcorp) in early 2013. By mid-2015, Conagra, under considerable pressure to divest or spin-off Ralcorp
from activist investors, announced it would be seeking ways to do so.
13
The Ralcorp takeover made Conagra one of the largest packaged food companies in North America. The transaction also
positioned ConAgra as the largest private label packaged food business in North America.1 What Conagra had hoped is that
diversifying from its own consumer brands to faster growing private label brands would provide a well-balanced business
portfolio allowing the firm to better weather cyclical downturns in the economy. What actually happened is that investors
saw Conagra as a hybrid company consisting of second and third tier branded products such as Hunt’s ketchup and Orville
Redenbacher’s popcorn and private label foods sold under supermarket names. Other food companies selling either branded
products or private-label items were easier to value.
Conagra, initially rebuffed in its all-cash $84 bid in March 2011 to get a friendly deal, decided to threaten to walk away if
Ralcorp did not negotiate immediately. Normally, so-called hostile deals (i.e., those not supported by the target’s board and
management) are difficult, particularly when a target has strong takeover defenses. Ralcorp had both a staggered board
making it difficult to change the composition of the board and a poison pill which would if triggered substantially raise the
cost of the deal. Such deals are made even more difficult when the acquirer lacks a coherent takeover strategy. Such
strategies often involve an offer made directly to the target’s shareholders (i.e., a hostile tender offer), a proxy contest to
change the composition of the board (even though it could take several years because of the staggered board) to rescind the
poison pill, and litigation to compel the board to remove the pill. These tactics in combination are intended to pressure the
board to the negotiating table.
Despite its threat, Conagra did not walk away and a year later announced a friendly deal on November 27, 2012 with
Ralcorp at $94 per share, about 12% more than its initial bid. The purchase price appeared at the time to be excessive
especially since Ralcorp had spun off Post Cereals in early 2012 which at the time had a market value of $17.50 per share.
Since Conagra was receiving fewer assets, the purchase price paid should have been lower reflecting the Post spin-off,
possibly by as much as $17.50 per share.
Conagra’s misfortune showed when it failed to convince investors that its “hybrid” strategy could create shareholder value
as its underperformance resulted in write-downs of the value of its Ralcorp acquisition by more than $2 billion. The
implication was clear: it had dramatically overpaid for Ralcorp. The legacy of overpaying has been that ConAgra shares since
the closing in January 2013 have dropped by more than 3% while other food products companies showed average gains of
more than 10%. At the end of 2016, ConAgra shares traded at a 30% discount to the median multiple for similar-sized North
American food manufacturers.
MYLAN THWARTED IN HOSTILE TAKEOVER OF PERRIGO
________________________________________________________
Case Study Objectives: To illustrate how
• Institutional investors can impact corporate decisions
• Current strategies can limit future options
• Good governance trumps bad management and
• Hubris can derail good decision making
__________________________________________________________________________________
Things looked good for Mylan NV, a leading generic pharmaceutical drug maker, midday on November 13, 2015 as the early
results of the firm’s campaign to acquire Perrigo appeared promising. The votes of more and more index-fund shares
supported Mylan’s proposed takeover of Perrigo Co., a maker of store-branded generic drugs. This date marked the last day
Perrigo shareholders could tender their shares, a process that had begun with Mylan’s initiation of a tender offer for a simple
majority of Perrigo’s outstanding common shares on September 15, 2015. Acceptance of Mylan’s bid, initially valued at
$26 billion and consisting of $75 in cash and 2.3 new Mylan shares for each Perrigo outstanding, appeared to be in reach. In
contrast, the Perrigo board of directors and management was nervous, as they had received support from the majority of their
investors in Israel but were alarmed at the number of index fund votes in support of the takeover.
1 Private label sales are products manufactured or packaged for sale under the name of the retailer rather than that of the
manufacturer.
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But the heady feeling among Mylan’s board of directors and senior management was soon to turn grim. By evening,
Mylan’s position appeared to weaken when a tally of votes by the national stock clearinghouse, Deposit Trust Corporation,
showed that Mylan was short by about 18 million shares of the number of needed to gain a controlling interest in Perrigo.
Had they won control of the firm, Mylan reasoned they could implement a backend merger at a later date to “squeeze out” the
shareholders who had been unwilling to tender their shares.
Even though Mylan had promised to make certain changes to its questionable governance practices immediately following
its acquisition of Perrigo, the declining value of its shares made the Mylan shares less attractive. Teva Pharmaceuticals bid to
acquire Mylan earlier in 2015 had inflated the value of Mylan’s shares to reflect most of the anticipated premium. Mylan was
using the inflated value of its shares to make a bid for Perrigo. When Teva later withdrew its offer, Mylan shares plummeted,
reducing the premium to Perrigo’s share price from 34% when the offer was first made to less than 3%. Ultimately, concerns
about the diminishing premium and Mylan’s poor governance practices could not be overcome. Analysts on Wall Street also
expressed a sigh of relief as they believed that the Mylan offer price overvalued Perrigo.
In April 2015, generic drug leader Teva Pharmaceuticals had tried to acquire Mylan. Within months, Mylan attempted to
buy Perrigo, but the latter successfully fended off Mylan eight months later. Mylan, one of the world’s largest generic drug
firms, was always facing an uphill fight to acquire Perrigo, the leading manufacturer of drugstore-brand products. Why?
Because it is difficult to acquire a firm whose board and management do not want to sell. Historically, hostile takeovers
eventually end with the target firm either relenting following the acquirer’s willingness to raise the offer price or with the
target able to find another suitor to buy it instead. However, Mylan, perhaps out of senior management’s hubris, thought it
would be relatively easy to acquire Perrigo. To understand why we need to look at past corporate actions taken by Perrigo
and how such action limited the firm’s options in defending against Mylan’s unsolicited offer.
While Perrigo could not utilize more traditional antitakeover defences which were largely prohibited by Irish takeover
law, it was able to exploit Mylan’s problematic governance practices. Mylan disclosed on October 30, 2015, less than 2
weeks before the tender period was to close, that it was under investigation by the U.S. Securities and Exchange Commission
which was probing potential conflicts of interest with the firm’s board members. Not only did Mylan wait a full seven
weeks into tender period to make any disclosure about this SEC subpoena, but it buried the disclosure in a footnote on
Page 53 of a Friday–afternoon SEC filing that never explained the specific subject of the SEC‘s inquiry. Furthermor e,
Mylan’s own shareholders were suing the firm for not properly disclosing its highly restrictive antitakeover defenses
when it sought a vote for its prior inversion transaction, the process by which Mylan had reincorporated in the
Netherlands (for more information on inversions see Chapter 12). In another display of disregard for its shareholders,
Mylan used an obscure part of Dutch law allowing a target firm to put control of the firm into a foundation. While such
control would be temporary, it effectively allowed management to circumvent a shareholder vote on the Teva acquisition
attempt.
Perrigo’s board after repeatedly rejecting Mylan’s offer encouraged its shareholders to reject the Mylan tender offer by
noting that it “substantially undervalues our Company and did not adequately compensate shareholders for our exceptional
standalone growth prospects.” The Perrigo board also pointed out that shareholders had realized a 970% total return since
2007, which dwarfed the total return to Mylan shareholders during the same time period. They argued that continuing the
firm’s current business strategy would be more lucrative than selling to Mylan.
15
Perhaps Perrigo’s most effective argument against the Mylan offer was its assertion that the poor governance practices of
Mylan would undermine the long-term value of shares that would be received by those tendering their Perrigo shares. Adding
support to Perrigo’s claims was the fact that Mylan had consistently received the worst possible governance score from ISS, a
leading independent proxy advisory firm. In response to Perrigo’s allegations, Mylan threatened to delist Perrigo shares if it
gained majority control making any such shares outstanding highly illiquid. Perrigo countered that these were just scare
tactics and represented another illustration of Mylan’s disregard for shareholder rights.
Decisions made years earlier had left Perrigo vulnerable to takeover. Perrigo surrendered highly effective defences
when it moved its legal domicile to Ireland. Prior to its corporate inversion, Perrigo had been incorporated in Michigan.
Michigan is generally considered to have strong antitakeover laws, including a business combination law limiting parties
that have acquired 10% or more of the shares of a firm from acquiring the remaining shares for five years. Because it
would take so many years to gain a controlling interest, most acquirers would be encouraged to look for targets not
headquartered in Michigan. Also, under Michigan law, the board of directors is allowed to consider the interest of other
stakeholder groups such as employees when deciding to accept a takeover b id. If a combination would threaten
substantial layoffs at the target firm, the takeover could be disallowed under state statutes.
As a U.S.-based firm, Perrigo had several defensive measures in place including a staggered board allowing only one –
third of its directors to be up for election in any year. The firm’s bylaws also allowed it to adop t a poison pill defence
either before or after a bid had been made. The pill meant that the firm could ward off any unwanted suitor unless the
board would rescind the pill. The staggered board meant that any effort to change the composition of the board wo uld
take at least two years to replace the majority of board members with those willing to rescind the poison pill.
Now incorporated in Ireland, Perrigo has been stripped of these defensive measures as they are prohibited by the Irish
laws applying to takeovers. Consequently, Perrigo was forced to rely primarily on other means to dissuade its
shareholders from tendering their shares. The absence of significant takeover defences had been a motivating factor in
Mylan’s initiating a hostile tender offer for the firm.
Discussion Questions
1. What was Perrigo’s main line of defence against Mylan? Why was so much reliance given to this tactic?
Speculate as to why shareholders accepted Perrigo’s board and management’s arguments.
2. How did corporate inversions undertaken by each firm impact the outcome of the hostile takeover attempt?
3. Identify the takeover tactics and defences employed by Mylan and Perrigo, respectively. Explain why each may
have been used.
4. What does the reaction of investors to the breakup of the deal tell you about what they were thinking?
5. Under what circumstances do the combination of a poison pill and a staggered board make sense for the target firm’s
shareholders? Be specific.
17
6. Using the information in this case study, discuss the arguments for and against encouraging hostile corporate
takeovers. Why might a hostile takeover of Mylan be justified?
7. Explain why a friendly approach often is preferred to a hostile takeover?
8. Explain what caused the share prices of both firms to fluctuate wildly when the results of the tender offer solicitation
were made public? Be specific.
9. Explain how a backend merger works and what it means to “squeeze out” the remaining Perrigo investors.
10. Both Mylan and Perrigo fought aggressively to ward off unwanted suitors. As such, both could be accused of trying
to entrench senior management and their boards of directors. Do you believe that the actions of both firms were
consistent with the best interests of their shareholders? Explain your answer.
Dell Goes Private amid a Battle of the Billionaire Titans
Case Study Objectives: To Illustrate
• Potential deal related agency conflicts
• How activist shareholders can preserve shareholder value
• The challenges boards of directors face in evaluating strategic alternatives.
•
18
Introduction
The events of 2013 surrounding the conversion of Dell Inc. from a public to a private company pitted billionaire entrepreneur
Michael Dell against billionaire activist investor Carl Icahn. Sensing an opportunity to save the multibillion dollar tech firm
he had created in the late 1980s, Michael Dell initiated a bold move to buy out public investors. The objective was to
transform the firm from one dependent on personal computers (PCs) to one focused on software and services. To be
successful, he felt he needed to gain unfettered control over the firm so that the “only investor he would have to talk to would
be himself.” The strategy required layering bone-crushing debt on the already foundering firm. To limit the amount of debt,
he would have to limit the amount of the purchase he paid to take the firm private. The overarching question: Was he in fact
offering a fair price to the firm’s public shareholders?
Dell Computer was founded by Michael Dell in his college dormitory room in 1987. One year later, he took the company
public at 23 years of age. He was 29 when his firm hit 1 billion dollars in revenue and 31 when it achieved $5 billion. By
2001, the company became the global leader in PCs. Over the next 3 years, the firm sustained continued growth by
diversifying into servers, storage, printers, mobile phones, and MP3 players. In 2004, Dell stepped down from the day–to-day
operations as CEO, appointing Kevin Rollins to that position, but he retained his role as Chairman of the board.
The success was not to last as the firm failed to anticipate the massive shift of the desktop PC, its primary revenue source, to
the notebook PC. By 2006, Dell had lost its number one spot in the PC market. In 2007, Michael Dell assumed control of the
firm again and moved quickly to expand its software, networking, security, and services offerings. The firm’s long-term
business strategy was to shift its focus from its end-user computing business (EUC), which includes PC, mobility, and third–
party software, to its enterprise solutions and services business (ESS), which provides higher margin enterprise-wide
solutions and services to businesses. The firm spent $13 billion to acquire 20 firms including spending $3.9 billion for
information technology (IT) services provider Perot Systems.
Deal Timeline
Dell’s second largest shareholder, Southeastern Asset Management, had seen the value of its investment in the computer firm
tumble well below its value when the investment was made. In an effort to recover its investment, Southeastern told Michael
Dell in June 2012 that it would be willing to roll over its shares into a private firm (i.e., exchange its holdings in Dell for
shares in a new company) managed by current management if the buyout price was reasonable. The following month,
Michael Dell consulted with Silver Lake Investors partner Egon Durvan and George Roberts of investment firm Kohlberg
Kravis and Roberts about joining forces to take Dell Inc. private. He later contacted Alex Mandl, an independent Dell Inc.
board member, to alert him of his plans.
According to SEC filings, the Dell board formed a Special Committee, consisting of independent directors not
participating in the buyout, to consider the proposal along with other strategic options for the firm. These options included
separating the PC and enterprise businesses into independent businesses via spin-offs, spinning off the PC unit and
subsequently merging the unit with a strategic buyer, making “transformative acquisitions, changing management,
undertaking a leveraged recapitalization, increasing buybacks and dividends, and selling the entire firm to a strategic buyer.”
The board assessed the firm’s vulnerabilities and subsequently approved Michael Dell contacting Silver Lake and KKR to
tell them the board was open to considering a going private deal.
By October, Silver Lake and KKR had submitted bids, each of which was about $12 per share. Dell indicated that he
would work with either financial sponsor (i.e., equity investor in the going private deal). Concerned about plummeting PC
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demand, KKR withdrew its bid, leaving Silver Lake as the sole bidder.
Convinced that there would not be any other financial bidders the board agreed to accept the Dell and Silver Lake bid on
February 5, 2013, which valued each Dell Inc. share at $13.65 and allowed the Company to continue to pay its quarterly
dividend. The bid valued the firm at $24.4 billion and included a “go–shop” provision giving other parties up to 45 days to
bid. This gave famed investor Carl Icahn an entrée. In early March, in a letter to the board, he explained that he owned $1
billion in shares and that the Silver Lake bid was too low. Investor group, Blackstone, also considered a bid but dropped out
in April, citing concerns over the declining PC market.
Promptly after the announcement of the merger agreement with Michael Dell and Silver Lake Partners in early February,
Evercore, an investment bank hired by Dell Inc., at the direction and under the supervision of the Special Committee, began
the go-shop process on behalf of the Company. During the go-shop period, Evercore contacted a total of 67 parties, including
19 strategic parties, 18 financial sponsors and 30 other parties, including sovereign wealth funds, to solicit interest in
pursuing a possible transaction. Evercore also received unsolicited inquiries regarding a possible transaction from four
additional parties, including two strategic or long-term investors and two financial sponsors. Of the 71 total parties with
whom Evercore communicated, 11 expressed interest in evaluating a possible transaction. After further scrutiny, none of
these expressions of interest resulted in formal bids.
On March 22, 2013, the Special Committee received a nonlegally binding proposal from Mr. Icahn and Icahn Enterprises
(i.e., Carl Icahn’s investment firm). Icahn’s nonbinding proposal involved contributing his 80 million shares valued at about
$1 billion toward the deal, the purchase of 58.1% of the outstanding Dell Inc. shares, leaving the rest publicly traded (i.e.,
subsequently referred to as an “equity stub”). Icahn would also have Icahn Enterprises invest $1 billion and add $3 billion
from other sources of equity from T. Rowe Price and Southeastern. The proposal also contemplated using $7.4 billion of cash
on hand at Dell Inc., as well as borrowing $1.7 billion using the firm’s receivables as collateral and borrowing $5.2 billion in
new debt. He argued that the share buyback would increase the firm’s earnings per share and in turn the price per share of the
remaining publicly traded shares. Under the proposal, he would also issue warrants to enable investors to participate in any
long-term appreciation of the Dell shares if the firm’s turnaround was successful. Holders of these warrants would have the
right to buy Dell Inc. equity at a specific price within a certain time frame.2
When Michael Dell and Silver Lake agreed in August to increase the bid, the board arranged to have a separate meeting to
2 The difference between warrants and call options is that warrants are issued and guaranteed by the company. In contrast,
options are exchange traded instruments and not issued by the company. Furthermore, warrants may not expire for years,
unlike options which typically expire in months.
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elect directors in an effort to thwart Carl Icahn’s opposition to the deal. Icahn had sought to have a vote on the buyout at the
annual meeting and to force a proxy fight to replace Dell Inc. board members with those supporting his recapitalization
proposal.
The Final Deal
On October 31, 2013, Dell Inc. one of the world’s leading PC manufacturers, ended its 25 year history as a public firm. Dell
paid $13.88 per share, up from its initial bid of $13.65 in February. The final deal represented a 36% premium over Dell’s
share price 90 days prior to the February 5, 2013, merger announcement date and valued the Company at $24.9 billion. The
deal included Michael Dell’s 16% ownership, valued at more than $3 billion and another $750 million of his cash along with
$19.4 billion from Silver Lake Partners and a consortium of lenders. Dell now controls a 75% stake in Dell, with Silver Lake
owning the remaining equity.
With interest rates at record lows, the Dell deal is atypical in that it is far less leveraged than other LBOs of similar size
due to Michael Dell having agreed to roll over his equity into the new company and the use of the firm’s cash reserves of $11
billion to help finance the deal. Consequently, the firm’s net debt (i.e., total debt less cash) to EBITDA (i.e., earnings before
interest, taxes, depreciation, and amortization) is 2.5 versus an average leverage multiple for private equity deals of 5.3 times
in 2012 according to S&P’s Capital IQ.
What the New Dell Looks Like
The new Dell Corporation has more than 140,000 channel distribution partners (i.e., parties selling Dell products), with about
$16 billion of the firm’s $60 billion in annual revenue coming from these partners. This compares to zero in 2008. The firm
has also doubled the number of sales specialists with technical training to 7,000 from 2009. The firm is experiencing
increasing success in encouraging existing customers to buy more expensive products and services. About 90% of its
customers that buy PCs go on to buy other products and services.
The challenges the “New Dell” faces are daunting. Michael Dell must transform the firm from one dominated by PCs to
software and services and to generate sufficient cash to pay off the $20 billion in debt. Dell’s market share in software and
services is less than 1%, but these are the only categories making money. Enterprise solutions, software, and services revenue
was up 9% in the firm’s last quarter as a public company, with services contributing all of the firm’s operating profit. Dell is
battling traditional rivals in software and services such as Hewlett-Packard and IBM and must now combat new entrants such
as Amazon and Rackspace which are expanding in the cloud-based storage and services business.
Why Did the Board Reject Alternatives to the “Going–Private” Proposal?