[The Viewpoint] Hostile Takeovers – My Way or the Highway?

The recent business trends globally and particularly in India indicate that corporate restructuring has become an efficient mechanism to boost and expand business. One striking observation with reference to such development is hostile takeovers which have been making headlines recently. Let us understand what transpires in hostile takeovers, who are the affected party and what are the recourses available in the event of a hostile takeover.

A hostile takeover, as the name suggests, refers to the taking over of the business of the target entity by a person (who may be an existing shareholder) against the wishes of the management of such entity without any amicable negotiation. A hostile takeover is attempted when the promoter or the promoter group of the target company does not agree with the acquirer on its takeover bid, and the acquirer directly approaches the shareholders of the target company to purchase their stake and ultimately acquire a stake in the target company. In the recent past, the takeover of New Delhi Television Limited ("NDTV") by Adani Enterprises Limited ("AEL") and Twitter Inc.("Twitter") by Elon Musk have become the subject matter of debate.

In India, takeovers for listed companies are governed primarily by Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations, 2011 ("Takeover Regulations"). Let us understand the threshold provided in the Takeover Regulations on the basis of which AEL was required to make an open offer. Under the Takeover Regulations, a takeover gets triggered upon acquisition of, whether directly or indirectly, a certain threshold of shares or control. For the purpose of this article, we will take 25% acquisition (whether directly or indirectly) of the target company as a trigger point ("Trigger Threshold").  If an acquisition by a prospective acquirer crosses the Trigger Threshold, then he must make an open offer for the acquisition of a further minimum of 26% of shares or voting rights. In the same parlance, as AEL through its subsidiary AMG Media Networks Ltd. had indirectly acquired 29.18% stake in NDTV, i.e. over and above the threshold of 25%, it had to mandatorily provide for an open offer pursuant to which it could further acquire 8.27% stake in NDTV and became the largest shareholder in NDTV. Additionally, post the acquisition of 27.26% stake in NDTV by Radhika Roy Prannoy Roy Holding Private Limited (“RRPR”), indirectly AEL currently owns 64.71% in NDTV .

Since a hostile takeover takes place by the acquirer directly approaching the shareholders, quite often the affected party is usually the management of the target company and the majority shareholders. For instance, in the case of NDTV, prior to the acquisition, Radhika Roy and Prannoy Roy, two of the Directors of NDTV individually and through their parent company RRPR held majority shareholding. Post-acquisition, AEL replaced them to become the largest individual shareholder in NDTV. Similarly, the management of the target company is also at risk and gets affected because in terms of Section 169(1) of the Companies Act, 2013 ("Companies Act"), the directors are vulnerable to being removed by a mere ordinary resolution. The goodwill that the management has established in the process of advancing the company gets affected because of the takeover. Their position plunges to being controlled in the hands of the acquirer.  

Firstly, a simple possible recourse would be the acquisition of the stake of the target company by a "white knight". A white knight is an individual or a company who shares friendly relations with existing promoters or management of the target company and buys the majority stake in the target company at a fair value.

Secondly, a "golden parachute" clause in the employment agreement usually provides that in case of removal of a whole-time director or manager, the company would give substantial compensation to them. Section 202 of the Companies Act also provides that a company may make payment to a managing or whole-time director or manager for loss of office amongst other things. In terms of the golden parachute clause, apparently in the employment agreement of Twitter’s top executives who were removed post the acquisition by Elon Musk, the executives are entitled to compensation. We are not commenting on whether the compensation was paid or not or whether the same was contested or not. However, such a provision can act as a possible deterrent to any acquirer who would second-guess his decision to take over because of such possible liabilities post-acquisition.

Thirdly, share transfer restrictions in the shareholders’ agreement may help a company from a hostile takeover.  For example, share transfer restrictions in the agreement between Amazon.com Inc. and Future Coupons Private Limited ("FCPL") restricted FCPL from selling its retail assets to any other person (which would ordinarily include Reliance Retail Ventures Limited). Depending on the fact whether the promoters are majority shareholders or not, a provision for a share transfer restriction that any shareholder other than the promoter (in case promoters are the majority shareholders) holding the second largest stake in the company cannot transfer their stake in the company without the consent of the promoters or the Board of directors may be incorporated to save the target company in case of a takeover attempt.

Fourth, if a company avails the option to adopt the principle of proportional representation for the appointment of directors in terms of Section 163 of Companies Act, the chances of a hostile takeover can be lessened. Under Section 163 of Companies Act, a company has the option to provide in its Article of Association for the appointment of at least two-thirds of the total number of the directors of a company in accordance with the principle of proportional representation. Under the principle, amongst other mechanisms, the appointment of directors can be done by way of a single transferable vote or cumulative voting, and the appointment may be done once in three years. This can be a potential safeguard against a hostile takeover bid. This is because if the company adopts this principle in its article of association, then in terms of the proviso to Section 169(1) of the Companies Act, the directors would not be vulnerable to being removed by ordinary resolution. The acquirers would lose the incentive to acquire as they might not be in a position to acquire a seat on the Board of directors of the target company immediately even if they succeed in acquiring.

In a nutshell, shareholders’ decision to accept the bid of the hostile acquirer can be a turning point for a target company. In our experience, we observe that the promoter who runs the company has a high level of comfort with its stakeholders, and somewhere tends to have institutional shareholder-aligned loyalty to it, and who in most cases of a hostile takeover gives a lukewarm response to the hostile acquirer. However, if the offer of the hostile acquirer makes a sweet deal that cannot be refused and/or a majority of the public (including, institutional) shareholders are unhappy with the current management, the public shareholders may accept the takeover bid.

Further, in our experience, we believe that in cases where the shareholding of the promoters is more than 50%, then there are few or remote chances of a hostile takeover. If the shareholding of the promoters is around 35% ~ 40%, then there is a probability of a hostile takeover. However, if the promoter shareholding is around (or less than) 26%, then such a target company can become an easy target or as we colloquially state a “sitting duck" for a takeover.

A company always has to incentivize the shareholders and other stakeholders to stay associated with the company. The best possible way to preclude a hostile takeover attempt is adherence to the best management practices or a combination of one or more strategies provided above. In fact, some authors believe that the fear of hostile takeovers itself keeps companies on their toes to ensure compliance with corporate governance practices and we concur with them. If a company takes prudent decisions, ensures returns in proportion to the risks taken, and follows an ethical code of conduct, the possibility of a hostile takeover attempt can be largely mitigated.   

Prem Rajani is the Managing Partner, Pearl Boga is a Principal Associate, Karen Issac is a Senior Associate at Rajani Associates. The authors thank Kriti Bhatt, Associate Trainee for her assistance.