In mergers and acquisitions, there is often confusion between friendly takeovers vs hostile takeovers. How can one differentiate between the two?
The difference between a friendly and hostile takeover is solely in the manner in which the company is taken over. In a friendly takeover, the target company’s management and board of directors approve the takeover proposal and help to implement it. However, in a hostile takeover, the management and board of directors of the targeted company oppose the intended takeover.
Depending on whether the takeover is friendly or hostile, the acquiring company employs different takeover strategies. These are discussed in more detail below. First, we must understand how takeovers work and why they happen.
What is a Takeover and Why Do Takeovers Happen?
A takeover is the purchase of a company (the target) by another company (the acquirer or bidder). Whether the takeover is friendly or hostile, the resulting transaction results in the merging of the two companies into one. A takeover happens for several reasons, including:
1. To realize operational efficiencies and economies of scale
By creating a larger company through the merger of two smaller companies, the resulting company is able to realize operational efficiencies and economies of scale (assuming that they operate in a similar industry and/or use similar resources).
2. To eliminate competition
Takeovers can be used to eliminate smaller companies that compete with the bidder. Instead of competing with the target company to acquire market share, the bidder can simply take over the target company to eliminate competition and gain the target’s market share.
3. To acquire a company in a unique niche market
A takeover may happen when the bidder wants to acquire proprietary technology that the target company owns. This may be the case when the bidder lacks a strong research and development (R&D) team or does not want to expend time and resources developing new technology.
For example, a data management company may want to take over a target company that possesses proprietary AI technology so that it can incorporate the AI technology into its data management platform instead of spending resources and time to develop its own AI technology.
4. Empire building by management
Takeovers may happen due to management wanting to “empire build.” This is the act of increasing the size, scope, and influence of a company through acquiring other companies. Empire building as a business rationale for a takeover is typically unwelcomed by shareholders of the acquiring company, as it may indicate that the management team is more concerned with resource control rather than with efficiently allocating resources.
If the company is acquiring companies in unrelated industries, it could increase the overall business risk of the company. Empire building as a business rationale for takeovers may not ultimately benefit shareholders.
The Takeover Process
A takeover starts with a proposal by the acquiring company to take over the target company. The proposal must be filed with the relevant regulatory bodies where the companies are headquartered.
Next, the target company’s board of directors can approve the proposal and advise shareholders to vote in favor of the takeover (friendly takeover) or reject the proposal and advise shareholders to vote against the takeover (hostile takeover). The acquirer company employs different strategies depending on whether the target board approves or rejects the takeover.
Friendly Takeover Strategies Employed
In a friendly takeover, the management and board of directors approve of the takeover and advises shareholders to vote in favor of the deal. The acquirer company, in a friendly takeover, can employ strategies such as:
1. Offering their own shares or cash
The acquirer company can offer a share conversion (x shares of the acquirer company for each share of the target company) or make a cash offer ($x per share of the target company). A combination of acquirer company shares + cash can also be used.
2. Offering a share price premium
The acquirer company can offer a percentage premium to the most recent closing share price of the target company (x% premium to the closing share price).
Hostile Takeover Strategies
In a hostile takeover, the target management and board of directors reject the takeover and advise shareholders to vote against the takeover. The acquirer company, in a hostile takeover, can employ strategies such as the following:
1. Tender offer
A tender offer is a direct offer to shareholders to purchase their shares at a premium to the current market price of the stock.
For example, if the target company’s share price is $20, the acquirer company could make a tender offer to purchase shares of the target company at $30 per(a 50% premium). The rationale behind a tender offer is to acquire enough shares to obtain a majority stake in the target company.
2. Proxy fight
A proxy fight is where the acquirer company persuades shareholders of the target company to band together and vote out the board of directors, and then subsequently approve the takeover.
For example, the acquirer company can reach out to shareholders of the target company to vote out certain directors during the annual general meeting (AGM) and reinstall a new board. The rationale behind a proxy fight is to replace the current board of directors with a new board that is more receptive to a takeover by the acquiring company.
Thank you for reading CFI’s guide to friendly takeovers vs hostile takeovers. CFI is the official provider of the global Financial Modeling & Valuation Analyst (FMVA)™ certification program, designed to help anyone become a world-class financial analyst. To keep advancing your career, the additional CFI resources below will be useful: