I wish I knew what a poison pill was, but I’m too embarrassed to ask

A poison pill, as the rather melodramatic name suggests, is a strategy designed to protect a company from an unwanted takeover approach. The defence usually works by promising to flood the market with new shares under certain circumstances, making it far more costly for any predator to mount a successful bid.

The term is in the news right now because Tesla founder Elon Musk has launched a hostile takeover bid for social media website Twitter (see page 10). It’s by no means certain or even likely that Musk’s bid would succeed in any case, given that many Twitter shareholders believe it’s too low, but the board has decided to take no chances. In this case, if anyone acquires more than 15% of the company without board approval, existing shareholders – except Musk – will be able to buy new shares at a discount. That would dilute his stake while allowing other shareholders to maintain the size of their holdings in the company. This is what’s known as a “flip in” poison-pill defence.

Poison pills (or to give them their technical name, shareholder rights plans) were first dreamt up in the US in 1982, in response to a wave of takeover attempts by “corporate raiders” (or “shareholder activists”, as we’d call them now) such as T. Boone Pickens. The strategy was seen as controversial, but was eventually declared legal by the Delaware Supreme Court in 1985.

To take a more recent example, in 2012, streaming giant Netflix instituted a poison pill after Carl Icahn (one of the original corporate raiders) acquired a 10% stake in the business.

Shareholders have tended to take a dimmer view of poison pills in more recent decades, as many are quite happy to see bids for the stocks they own, but the Covid-19 pandemic saw a revival of the plans to stop opportunistic takeovers of companies with temporarily stricken share prices.