Poison pills: A defensive measure against a hostile takeover or a demonstration of power of the target company

Abstract

The balance of power is particularly at stake in hostile takeovers, which makes the issue of establishing the balance of power one of the most controversial issues in the contemporary company law. In the circumstances of direct market competition and the need to have a dominant market position, companies are necessarily forced to constantly upgrade and advance their offensive and defensive methods, techniques and strategies. In order to prevent a hostile takeover, the target company may resort to an array of defence mechanisms, the most prominent of which are 'poison pills'. In spite of being perceived as the most powerful tool for obstructing hostile takeovers (and commonly designated as the 'Holy Grail' among the defensive mechanisms), there are many pros and cons underlying their application. One of the positive effects of using the poison pills is that the fear of takeovers makes the target company management more disciplined and efficient in business operations. The negative consequences are reflected in the relationship between the company board of directors and the shareholders. The target company management makes a unilateral decision on using a poison pill and this decision does not have to be approved by the shareholders in the General Meeting; however, this is highly inconsistent with the basic principles of corporate governance. The asymmetry of information, where the management (an agent) has disproportionately more relevant information at its disposal than the shareholders (principals), generates a conflict between the management and the shareholders. In company law, this agency problem is generally known as the principal-agent problem, which is most prominent in a takeover. Poison pills are often associated with the discrimination of the target company shareholders, but not necessarily. The controversial nature of this defensive measure which can be applied by the target company has given rise to numerous debates on the need to control the use of poison pills and their impact on shareholder democracy.