Yucaipa American Alliance Fund II, LP v. Riggio: The Growing Use of Poison Pills to Preclude a Proxy Contest (Introduction)
In the 1980s, hostile takeover attempts were common. When boards of target companies resisted, bidders commonly made a hostile tender offer, seeking to purchase at least a majority of the outstanding shares. Boards of target companies would resist acquisitions through a panoply of colorful defensive tactics. These included lock up options, scorched earth, the pac man defense, and sales of crown jewels. Most significantly, however, was the use of poison pills. Poison pills, if triggered, diluted the interest of the bidder and made an acquisition prohibitively expenses.
Until very recently, no hostile acquisition had over continued in the face of a triggered poison pill. The law that developed around poison pills largely gave the board unlimited discretion to issue them and keep them in place. As a result, hostile tender offers have all but disappeared as an acquisition mechanism.
The Delaware courts, however, held that a poison pill or other defensive tactic would be invalid if it had a preclusive effect on a proxy contest. In other words, while a board had the authority to stop additional purchases, it did not have the authority to entirely preclude all methods of changing control. Court cases challenging poison pills have, therefore, focused on the pills impact on a proxy contest.
The law that has emerged has, predictably, provided boards with considerable discretion to put in place poison pills even when they tilt the balance in the proxy contest decidely against insurgents. Selectica upheld a pill with a 5% trigger, even though the limits could discourage insurgents from engaging in any kind of proxy contest.
The latest legal salvo in the area is Yucaipa American Alliance Fund II, LP v. Riggio. The case involved a poison pill that essentially prohibited shareholders from coming to agreement on a common slate of directors and a sharing of expenses. The court declined to invalidate the pill even though an existing shareholder controlled as much as 40% of the outstanding shares and the insurgent was seeking only a minority of the positions on the board.
As we will discuss in the next several posts, the case makes clear that companies can put in place poison pills that discourage most insurgents from even engaging in a proxy contest.
Primary materials are posted on the DU Corporate Governance web site.