LEGALcurrents®

The spread of COVID-19 has triggered steep stock market declines and public companies have reacted in the first instance by introducing cost-cutting measures to weather the volatile market. Now, as public companies navigate their respective businesses through the upcoming months, boards should consider proactive plans, including whether implementing takeover defenses are an appropriate step to take. As seen in the wake of the 2008 mortgage crisis, market volatility has historically led to hostile takeover attempts. At the same time, in the interim years since the mortgage crisis, proxy advisory firm recommendations have served to erode most methods of corporate takeover defense because of the view that these serve to entrench management at the expense of shareholders. However, in the context of today’s market, a shareholder rights plan—commonly known as a poison pill plan—with a limited term or an “on the shelf” plan, may prove an effective tool to shepherd companies through the financial turbulence of the market. As a short and midterm planning exercise, companies should now be considering the options at their disposal to preempt hostile takeovers in an environment of artificially depressed stock prices where market participants, such as private equity firms, activist investors and competitors may seek to take advantage of opportunities created by crisis. 

In considering whether to enact a limited term operative plan or to put a plan on the shelf, the company should weigh a number of factors. With a shelf plan, the company takes all steps to put the plan in place, including the preparation of definitive documentation but does not actually adopt the plan and therefore does not have to publicly disclose its preparations to adopt a plan. Thus, the shelf plan allows a company to prepare for a potential threat without having to address the downsides of announcing an operative plan, including the negative perception of plans by proxy advisory firms and the market and a potential for a negative impact on stock price. There are also established standards with respect to fiduciary duties of boards, which dictate that the plan must be proportional and reasonable in light of a perceived threat. However, in the current environment, there may be a benefit to a company with a severely reduced market cap just adopting a plan now. Limited term plans of less than one year are viewed less negatively by proxy advisory firms and such a plan could provide that, absent a threat, the plan will expire by its terms within a year.

In the event a company’s board, after due consideration, deems it appropriate and in the best interest of the company to do so, taking the steps to put into place an operative or a shelf shareholder rights plan can position a company to respond to a future threat quickly. A properly tailored plan can, among other things, serve as a formidable deterrent to unsolicited takeover bids by making such attempts excessively expensive for the would-be corporate suitor. In drafting a shareholder rights plan, the particular features of the plan are context-specific and must be tailored to the facts and circumstances of the company implementing said plan. A company must consider a potential plan in the context of external factors, including:

Factor 
Considerations

Market Conditions:

With a rights plan put in place during the ongoing pandemic, in setting the term of the plan, the company should consider whether COVID-19’s impact on the company’s stock price was caused by general market conditions or whether the company is in an industry where the company’s fundamentals were impacted by the pandemic to help gauge the time needed for the company to recover its market position.

Charter Document Restrictions:

Boards should confirm that the company has the ability to undertake all actions contemplated by the rights plan, including actual and de facto limitations on the issuance of shares. These include:

  • The company’s ability to issue additional shares, including whether the company has enough authorized and unissued stock outstanding or the ability to issue blank check preferred, in each case to achieve the purposes of the plan
  • Limits on the board’s ability to declare dividends
  • Any existing policies around shareholder rights plans

Restrictive Covenants:

The company should review relevant agreements for restrictions on its ability to put a rights plan in place or issue shares pursuant to the plan, including relevant provisions of its debt and equity financing arrangements. The company may need waivers or counterparty approvals of the plan.

After a review of the external factors, the company should prepare a rights agreement, which will set forth the rights as well as the mechanics and the operative effect of these rights being triggered. Below are a number of considerations with respect to the terms of the rights agreement for companies considering putting such a plan in place: 

Feature
Considerations

 

Duration:

Plans with terms of 1 year are most common with typically a maximum of a 3-year term.

Proxy advisory firms frown upon plans with longer terms, absent shareholder approval so renewal features could bridge the gap given the uncertainty on the time period such plans would need to be in force during the pandemic. 

Triggers:

Triggers in rights plans are based on shareholder stock acquisition thresholds (i.e., a certain percentage of the company's stock).

In setting the threshold, the company needs to consider the threat being addressed. Thresholds typically range from 10-20% but in the context of NOL plans, the thresholds are typically lower (i.e., 5%).

Exemptions and Carveouts from Triggers:

The company should consider provisions that allow flexibility in whether the rights plan is triggered. Some of these considerations include:

  • Whether there should be carveouts for inadvertent triggers or for persons who hold the position for a de minimis amount of time
  • Whether there should be carveouts or grandfathering provisions for specific persons, such as existing friendly shareholders and their (existing) affiliates
  • Whether to set different triggering thresholds for 13D and 13G filers
  • Whether there should be a carveout for “permitted offers” (chewable pills)

Flip In vs. Flip Over:

The plan can be a flip-in or flip-over plan or a combination of both—most rights plans grant shareholders both flip-in and flip-over rights.

  • Flip-in provisions are intended to address creeping share acquisitions and partial tender offers—they kick in when an acquiror becomes the beneficial owner of shares in excess of a set threshold, whereupon rights holders (other than the acquiror) would be entitled to buy shares of the company at a steep discount
  • Flip-over provisions are intended to provide protection in the context of freeze out mergers and similar transactions and operate to entitle rights holders to purchase shares of the surviving entity at a steep discount

Defining Beneficial Ownership:

The company should consider tailoring the plan’s definition of beneficial ownership and whether to aggregate shares by multiple acquirors (i.e., for persons deemed to be “acting in concert”) and if different thresholds should apply for different groups.

Shareholder Friendly Features:

The company should weigh the inclusion of shareholder override features—including the ability to force redemption even in the face of a “permitted offer” or an ability to rescind the pill in the event the shareholders choose to do so.

Rights Agent:

Typically the company’s transfer agent, the company should involve the rights agent in every step of the process to ensure that the plan is well coordinated and complies with applicable law and any listing rules.

Amendment:

Plans typically are permissive on a board’s ability to amend the provisions of a plan without holder approval provided that the rights under the plan are redeemable—once the rights are no longer redeemable, the plan may not be amended without the permission of the holders if the amendment would impact the holders of the rights.

Our firm regularly advises boards and management on their available options with regard to hostile takeovers, including potential defenses and related considerations in implementing such defenses. In the context of these discussions, we have structured and drafted shareholder rights plans and policies for a number of our public company clients, including clients who are looking for additional protections during the COVID-19 pandemic. If you have questions with respect to defensive tactics in today’s market, including tailoring a plan based on your company’s particulars and/or supplemental or alternative steps to take, please reach out to a member of our Securities & Capital Markets group.


Attorney Advertising. Prior results do not guarantee a similar outcome. This publication is provided as a service to clients and friends of Harter Secrest & Emery LLP. It is intended for general information purposes only and should not be considered as legal advice. The contents are neither an exhaustive discussion nor do they purport to cover all developments in the area. The reader should consult with legal counsel to determine how applicable laws relate to specific situations. ©2020 Harter Secrest & Emery LLP

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