How Hard to Swallow?

Question: Are poison pills, a.k.a. shareholder rights plans, really in the interests of all shareholders?

by Fil Fraser

The Case
Agent 007 carried one. If you were a spy caught with no possible escape, you swallowed a poison pill to prevent your adversaries from torturing secrets out of you. But since the early 1980s, the term has taken on a new meaning in the corporate world. The corporate poison pill was created as a defence against raiders who would, sometimes stealthily, buy up a controlling interest in a corporation, fire its senior executives and directors, and then break the company up into parts and sell off the pieces at a substantial profit. Corporations established shareholders’ rights agreements, better known as poison pills, that allow directors to buy shares at a substantial discount and then to flood the market with them, driving up the cost of the acquisition. Often combined with platinum parachutes for senior executives, poison pills can make a takeover prohibitively expensive and not worth the effort.
But poison pills can also be used to protect the interests of the executives and directors who run the company, a position argued recently by TransAlta Corporation in its bid to take over Canadian Hydro Developers Inc. Their interests can be at odds with those of the shareholders who could make a considerable profit on their investments if a high bidder makes an offer for their shares.

The Panel
Ken Chapman: a lawyer, principal in Cambridge Strategies Inc., a public policy consulting firm, and a blogger
Ron Ghitter: a businessman, former senator, former member of the Alberta legislature
Carole Hunt: chief legal counsel and corporate secretary, Alberta Investment Management Corporation

Ken Chapman: The question is, What’s the motivation behind using a poison pill? It is primarily a technique to make it very difficult for anyone to acquire a public company through the normal processes. There are different tactical arrangements that can be created by a board of directors to make it, if not impossible, very difficult for a takeover to succeed. If the purpose of the poison pill is to preserve shareholder value while a company is depressed because of market adjustments or a recession, that’s all right. If it’s there to protect bad management – that is to say if the company is in terrible shape and share value is down because of bad management and they’re trying to protect themselves – that doesn’t do much for the shareholders.

Ron Ghitter: You have to start by looking at the responsibility of the directors, which lies in their fiduciary relationship to the shareholders. In other words, they must carry on their activities to the benefit of the company, but always keeping in mind the benefits of shareholders. That’s where their obligation and responsibility lies. Having said that, you have directors sitting in positions that are sometimes rather cushy, and they are faced with what to do if there’s the potential of a takeover bid which would cause a number of things to take place. The first thing is that they might lose their jobs because the acquiror might install a new set of directors.

Carole Hunt: If properly constructed and properly limited, poison pills can help add to shareholder value. But certainly without restrictions and limitations, they can be abusive. I don’t think they currently are used in an abusive manner in the Canadian marketplace because we have better protections in place than in the United States. The classic tension is between whether poison pills are actually useful to shareholders or not. In the Canadian context, regulators have stepped in and put limits on these arrangements. The fact that shareholders have to approve poison-pill plans means that boards cannot unilaterally put them in place and have them survive without any kind of shareholder scrutiny.

Chapman: The moral of the story is that shareholders have to be diligent. When a poison pill is in place, is it there for a proper purpose? It has to be for the greater good of the company and not the self-preservation of management.

Corporate raids occur because of poor management; they just aren’t vigilant as to who is buying their shares. In the real world, there’s nothing wrong with that. If you want to buy shares on the open market and acquire a company on a free-market basis, what’s wrong with that? On the other hand, from an employee point of view, from a customer point of view and even from a shareholder point of view, if they sell the company off in pieces because they see that there is a higher value in some of the pieces of the company that the management hasn’t seen themselves, I don’t have a lot of sympathy for management in that situation. But it seems to me to be what the marketplace is all about.

Listen to the interviews that shaped this column, November’s Right Call Audio Collection, now.

If you’d like advice on a compromising situation (no names used), send details to feedback, or login to this site and post a comment.

Current Issue