A Delaware Chancery Court ruling last month upheld Airgas, Inc.’s right to employ its shareholders rights plan — a defense known as a “poison pill” — to block an unsolicited offer by Air Products. Don Margotta, associate professor of finance, discusses the resurgence of this corporate defense tactic. Margotta has served as an expert witness in numerous court cases involving both hostile takeovers and the legality of poison pill takeover defenses.
What is the significance of the Delaware ruling that upheld Airgas, Inc.’s use of a poison pill?
It is hard to overemphasize the importance of Chancellor William B. Chandler’s decision regarding the legality of Airgas’s poison pill takeover defense, which Airgas used to ward off what many saw as a generous offer by Air Products Corporation.
Two facts are important to understand about the significance of this decision. First, the Airgas board admitted in court proceedings that most shareholders, 75 percent by some estimates, would accept the offer if they had the opportunity to vote on it. Second, the only thing that stopped them from voting was the poison pill defense.
The significance of this case was best expressed by the judge himself when he said, “[T]his case brings to the fore one of the most basic questions animating all of corporate law, which relates to the allocation of power between directors and stockholders.”
The judge essentially concluded that board has that power to decide when and if the corporation is for sale, even though boards are typically not large shareholders. The Airgas directors owned only about 13 percent of the shares, an uncharacteristically large percentage for a publicly traded company. Many people have the view that since shareholders own the company they should decide when, and at what price, the company should be sold. That’s why this decision is such an important and controversial one.
What does the judge’s decision mean for investors?
This decision has different meaning for different shareholders. Risk arbitrageurs, or “arbs,” constituted one key part of the shareholder base. Arbs are investors who buy stock after an offer has been announced, hoping to turn a quick profit. In this case, arbs owned more than a majority of Airgas shares. Argument at trial contended that these shareholders didn’t care about realizing the “true” value of the company — or at least the “true” value as envisioned by the directors. So the board argued that although arbs were the majority owners of the company, they should not be allowed to determine its fate. This case makes the business of being a risk arbitrageur a lot riskier since it empowers the board to reject offers it deems inadequate.
For other shareholders — in particular institutional shareholders, who were the next largest shareholder group — it sends a signal that boards have the power to make key decisions, not the arbs, not the other shareholders, and not the market. The latter point is a particularly unpopular one within the academic finance community.
Why did poison pills grow unpopular over the last 20 years?
While poison pills have become unpopular with shareholders, they are not unpopular with management and boards of directors. The key development that has channeled shareholder unhappiness with this tactic over the last 20 years is the growth of stock ownership by institutional shareholders, who have grown a great deal. In the last two decades, they’ve gone from owning about 20 percent of New York Stock Exchange–listed stock to owning close to 70 percent today. These shareholders are big, powerful, and they typically oppose poison pill takeover defenses.
The poison-pill controversy has become more intense since institutions became a larger countervailing force to oppose the power of boards to make key decisions for the companies. Boards of directors contend that these takeover defenses enable them to make decisions in the best interests of the corporation and its stockholders (even when the stockholders don’t agree!). On the other hand, many stockholders and critics say these devices serve to entrench boards and managers in their jobs. It’s hard to make a judgment on where the truth lies between these two views, but for now the Delaware Chancery Court has decided that the Airgas board used the power of the poison pill in the best interests of the corporation and its shareholders. Shareholders who disagree are free to sue the board in civil proceedings.
