Loyola University Chicago School of Law, JD 2022
Although the business world and the public at large have been fascinated by the words and actions of Elon Musk for several years, that fascination has reached new heights over the past several weeks. The business world recently learned that Musk has spent his time in recent weeks criticizing Twitter, buying a large stake in the company, accepting a seat on Twitter’s board, rejecting the seat on Twitter’s board, and then offering to buy Twitter and take the company private. Twitter responded to this offer by implementing a so-called “poison pill.”
The Musk-Twitter saga summarized
On January 31, Elon Musk started quietly buying Twitter shares. By March 14, Musk had acquired a five percent stake in Twitter. After crossing the five percent threshold, Musk was supposed to inform the SEC, but he missed the ten-day deadline.
On March 24, Musk began criticizing Twitter by asserting that the company’s regulation of posted content is a detriment to principles of free speech and democracy.
On April 4, a SEC filing revealed that Musk had accumulated 73,486,938 shares of Twitter, which amounted to about a 9.2 percent stake. The box checked on the SEC filing form indicated that it was a Schedule 13G, which allows a simple disclosure for investors who intend to remain “passive” in the company’s affairs.
On April 5, Twitter CEO, Parag Agrawal, announced that Musk was becoming a member of Twitter’s board of directors. This news was surprising because serving on the board of directors suggests an active role in the company, which would have required Musk to file the more detailed Schedule 13D that applies to active investors. As indicated above, Musk filed a Schedule 13G on April 4. To avoid fines or penalties from the SEC, Musk amended his filing after the news of his potential acceptance of a Twitter board seat became public. The amended filing properly indicated that it was being filed as a Schedule 13D and provided more information on Musk’s plans for his stake in the company and company overall. For example, the amended filing referenced Musk’s agreement to not purchase more than 14.9 percent of Twitter stock as a condition to accepting a seat on the board. In addition, the amended filing provided more detailed information about how Musk had acquired so many shares, including the number of shares that were purchased on various dates starting on January 31.
On April 10, Agrawal tweeted, “Elon has decided not to join our board.”
On April 12, Twitter investor, Marc Bain Rasella, filed a lawsuit against Musk in a New York federal court alleging that Musk did not disclose his purchase of five percent stake within the deadline and illegally saved $143 million as a result.
On April 14, Musk tweeted that he had made an offer to buy Twitter for $43 billion or at $54.20 per share. In a letter to the SEC, Musk wrote that if the offer is not accepted, he would reconsider his position as a shareholder. Following this news, Twitter shares fell by 1.7 percent to a price of $45.08. It is almost unheard of for a stock to decline in price after the announcement of a takeover offer.
On April 15, Twitter’s board of directors issued a new “shareholder rights plan” to block Musk’s offer. It mentioned that its board of directors would be employing a “poison pill” deterrent which means the current shareholders of the company will be allowed to purchase more shares at a discounted price to weaken the ownership interest of Musk who is trying to take over. The strategy is expected to kick in if Musk’s stake in Twitter increases to fifteen percent or higher.
What is a poison pill?
The term “poison pill” refers to a defensive strategy used by a target company to prevent or discourage a potential hostile takeover. The poison pill tactic has been around since the 1980s and was devised by New York-based law firm Wachtell, Lipton, Rosen, and Katz. The name comes from the poison pill spies carried in the past to avoid being questioned by their enemies in the event they were captured.
Although the ingredients of each poison pill are different, they are all designed to give corporate boards the option to flood the market with so much newly created stock that a takeover becomes prohibitively expensive.
What are the disadvantages that come with using a poison pill?
Although Twitter’s use of a poison pill may successfully prevent Musk from taking control of the company, implementing the poison pill will not be without costs. Some of the key disadvantages associated with poison pills are:
Dilutes the value of stock. When companies issue new shares at a discount, they are saturating the supply of stock. This ends up reducing the value of existing shares and investors are forced to purchase new shares to maintain their prior ownership percentage.
Investors forgo profit from a takeover. During a takeover, investors are often paid a premium for their stock. Therefore, the use of a poison pill may deprive investors of potentially hefty profits. Unfortunately, investors who would prefer that the takeover go through successfully don’t have much power to fight a poison pill.
Poison pills tend to protect poor managers. Companies that are the targets of takeovers are often subject to poor performance. The acquirer typically realizes that the target company has major room for improvement if managed properly. As a result, poison pills are instituted by management to protect their own jobs and, ultimately, deprive investors of a better management team.
What are the legal questions surrounding poison pills?
Poison pills have inspired controversy and legal questions since they were first introduced. Arguing that they render suitors powerless, some states have made them illegal and some countries have implemented policies to protect shareholders when companies use poison pills.
For example, in the UK, poison pills are not allowed without shareholder approval. Similarly, in Canada, poison pills are not allowed if shareholders decide they would like to allow a company to offer a proposal. In effect, Canada recognizes the right to accept a takeover bid as belonging to stockholders rather than directors.
In addition to providing an incredibly compelling story of the world’s richest man turned corporate raider, the Musk-Twitter saga may force lawmakers and regulators to reconsider how American corporations use poison pills.