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Debate This: Takeovers
Mario Bonsetti and Rico Sanchez incorporated Gnarly Vulcan Gear, Inc. (GVG), to manufacture windsurfing equipment. Bonsetti owned 60 percent of the corporation’s stock, and Sanchez owned 40 percent. Both men served on the board of directors. Hula Boards, Inc., owned solely by Mai Jin Li, made a public offer to buy GVG stock. Hula offered 30 percent more than the market price per share for the stock, and Bonsetti and Sanchez each sold 20 percent of their stock to Hula. Jin Li became the third member of the GVG board of directors. An irreconcilable dispute soon arose between Bonsetti and Sanchez over design modifications of their popular Baked Chameleon board. Despite Bonsetti’s dissent, Sanchez and Jin Li voted to merge GVG with Hula Boards under the latter name, Gnarly Vulcan Gear was dissolved, and production of the Baked Chameleon ceased. Using the information presented in the chapter, answer the following questions.
Debate This:Corporate law should be changed to prohibit management from using most of the legal methods currently used to fight takeover. 35
Learning Objectives
The four Learning Objectives below
are designed to help improve your understanding of the chapter. After reading this chapter, you should be able to answer the following
questions:
1. What are the basic differ ences between a merger, a consolidation, and a share exchange?
2. Under what circumstances is a corporation that pur chases the assets of another corporation
responsible for the liabilities of the selling corporation?
3. What actions might a target corporation take to resist a takeover attempt?
4. What are the two ways in which a corporation can be voluntarily dissolved?
Corporate Mergers, Takeovers, and
Termination
“Business is a combination of war and sport.”
During the later part of the twentieth century, the acquisi- tion of corporations by other corporations
became a common phenomenon, and corporate takeovers have continued into the twenty-first century.
Observers of the numerous corpo- rate takeovers occurring in the business world today might well conclude,
as André Maurois did in the chapter-opening quotation, that business is indeed a “combination of war and
sport.”
826
André Maurois
1885–1967
(French author and historian)
A corporation often extends its operations by combining with another corporation through a merger, a
consolidation, a share exchange, a purchase of assets, or a purchase of a controlling interest in the other
corporation. This chapter will examine these types of cor- porate expansion. Dissolution and winding up
(liquidation) are the combined processes by which a corporation terminates its existence. The latter part of
this chapter will discuss the typical reasons for—and methods used in—terminating a corporation’s
existence.
35–1 Merger, Consolidation, and Share Exchange
A corporation may extend its operations by combining with another corporation through a merger, a
consolidation, or a share exchange. The terms merger and consolidation traditionally referred to two legally
distinct proceedings, but some people today use the term consolidation to refer to all types of combinations.
Whether a combination is a merger, a consolidation, or a share exchange, the rights and liabilities of
shareholders, the corporation, and the corpo- ration’s creditors are the same.
Stock photo © Maxiphoto
CHAPTER 35: Corporate Mergers, Takeovers, and Termination
827
35–1a Merger
A merger involves the legal combination of two or more corporations in such a way that only one of the
corporations continues to exist. Example 35.1 Corporation A and Corporation B decide to merge. They agree
that A will absorb B. Therefore, on merging, B ceases to exist as a separate entity, and A continues as the
surviving corporation. ■ Exhibit 35–1 graphically illustrates this process.
Merger The legal combination of two or more corporations in such a way that only one corporation (the surviving corporation)
continues to exist.
One of the Firms Survives Continuing with Example 35.1, after the merger, Cor- poration A—the
surviving corporation—is recognized as a single corporation, and B no longer exists as an entity. A’s articles of
incorporation are deemed amended to include any changes stated in the articles of merger (a document
setting forth the terms and conditions of the merger). Corporation A will issue shares or pay some fair
consideration to the shareholders of B.
Exhibit 35–1 Merger
A
A
It Inherits All Legal Rights and Obligations of the Other Firm After the merger, Corporation
A possesses all of the rights, privileges, and powers of itself and B. It auto- matically acquires all of B’s
property and assets without the necessity of a formal transfer.
In addition, it becomes liable for all of B’s debts and obligations, and it inherits B’s preex- isting legal rights.
Thus, if Corporation B had a right of action against a third party under tort or property law, Corporation A can
bring a suit after the merger to recover B’s damages.
35–1b Consolidation
In a consolidation, two or more corporations combine in such a way that each corporation
ceases to exist and a new one emerges. Example 35.2 Corporation A and Corporation B con- solidate to form
an entirely new organization, Corporation C. In the process, A and B both terminate, and C comes into
existence as an entirely new entity. ■ Exhibit 35–2 graphically illustrates this process.
Consolidation The legal combi nation of two or more corporations in such a way that the original corporations cease to exist, and a
new corporation emerges with all their assets and liabilities.
B
A New Corporation Is Formed The results of a consolidation are similar to those of a Exhibit 35–2
Consolidation merger—only one company remains—but it is a completely new entity (the consolidated
corporation). In terms of Example 35.2, Corporation C is recognized as a new corporation, while A and B cease to exist. C’s articles of consolidation take the place of A’s and
A
B
B’s original corporate articles and are thereafter regarded as C’s corporate articles. As with a merger, the
newly formed corporation will issue shares or pay some fair consideration to the shareholders of the
disappearing corporations.
ItInheritsAllRightsandLiabilitiesofBothPredecessors CorporationCinher- its all of the rights,
privileges, and powers previously held by A and B. Title to any property and assets owned by A and B passes
to C without a formal transfer. C assumes liability for all debts and obligations owed by A and B.
True consolidations have become less common among for-profit corporations because it is often
advantageous for one of the combining firms to survive. In contrast, nonprofit corporations and associations
may prefer consolidation because it suggests a new beginning in which neither of the two initial entities is
dominant.
35–1c ShareExchange
In a share exchange, some or all of the shares of one corporation are exchanged for some or all of the shares of
another corporation, but both companies continue to exist. Share exchanges are often used to create holding
companies—that is, a company whose business activities is holding shares in another company. For instance,
UAL Corporation is a large
ShareExchange Atransactionin which some or all of the shares of one corporation are exchanged for some or all of the shares of
another corporation, but both corporations continue to exist.
C
Learning Objective 1
What are the basic differences between a merger, a consolidation, and a share exchange?
828
UNIT FIVE: Business Organizations
holding company that owns United Airlines. If one corporation owns all of the shares of another corporation,
it is referred to as the parent corporation, and the wholly owned com- pany is the subsidiary corporation.
35–1d Merger,Consolidation,andShareExchangeProcedures
All states have statutes authorizing mergers, consolidations, and share exchanges for domes- tic (in-state) and
foreign (out-of-state) corporations. The procedures vary somewhat among jurisdictions. In some states, a
consolidation resulting in an entirely new corporation simply follows the initial incorporation procedures,
whereas other business combinations must follow the procedures outlined below.
The Revised Model Business Corporation Act (RMBCA) is used by the majority of states to govern corporate
formation and operations. The RMBCA sets forth the following basic requirements:
1.
2.
Theboardofdirectorsofeachcorporationinvolvedmustapprovethemergerorconsolidationplan.
The plan must specify any terms and conditions of the merger. It also must state how the value of the
shares of each merging corporation will be determined and how they will be converted into shares or
other securities, cash, property, or other interests in another corporation.
3.
Themajorityoftheshareholdersofeachcorporationmustvotetoapprovetheplanatashareholders’ meeting.
If any class of stock is entitled to vote as a separate group, the majority of each separate voting group
must approve the plan.
Although RMBCA 11.04(e) requires the approval of only a simple majority of the shareholders entitled to
vote once a quorum is present, frequently a corporation’s articles of incorporation or bylaws require
approval by more than a simple majority. In addition, some state statutes require the approval of twothirds of the outstanding shares of voting stock, and others require a fourfifths vote.
4.
5.
Oncetheplanisapprovedbythedirectorsandtheshareholdersofbothcorporations,thesurviving corporation
files the plan (articles of merger, consolidation, or share exchange) with the appropriate official, usually
the secretary of state.
Whenstateformalitiesaresatisfied,thestateissuesacertificateofmergertothesurvivingcorpora tion or a
certificate of consolidation to the newly consolidated corporation.
Note that when a merger or consolidation takes place, the surviving corporation or newly
formed corporation will issue shares or pay some fair consideration to the shareholders of the corporation or
corporations that cease to exist.
In the following case, the attorneys for a group of shareholders argued that the plaintiffs had not been given
enough information before they were asked to vote on a proposed merger.
Case 35.1
In re Trulia, Inc. Stockholder Litigation
Court of Chancery of Delaware, 129 A.3d 884 (2016).
Background and Facts Trulia, Inc. is an online provider of information on homes for sale or rent
in the United States. Zillow, Inc. is a real estate marketplace that helps house buyers, sellers,
landlords, and others find and share information. Zillow proposed to acquire Trulia. When the deal
was announced
publicly, complaints filed in a Delaware state court on behalf of Trulia shareholders alleged that the
company’s directors had breached their fiduciary duties in approving the proposed merger.
Attorneys for a group of shareholders argued that the plaintiffs had not been given enough
information before they were asked
CHAPTER 35: Corporate Mergers, Takeovers, and Termination
829
to vote on the proposal. The court was asked to enjoin Zillow’s acquisition. The parties agreed to
settle. Trulia would supple- ment the proxy materials provided to the shareholders before the vote
to include additional information. In exchange, the plaintiffs would drop their request for an
injunction and agree to release any claims arising from the transaction that they, as a class, might
otherwise have.
In the Words of the Court
BOUCHARD, C. [Chancellor] * ** *
stockholder action, those stockholders are entitled to receive in the proxy statement a fair summary
of the substantive work per- formed by the investment bankers upon whose advice the recommendations of their board as to how to vote on a merger or tender rely.
A fair summary, however, is a summary. By definition, it need not contain all information
underlying the financial advi- sor’s opinion or contained in its report to the board. * * * A fair
summary is not a cornucopia [abundance] of financial data, but rather an accurate description of
the advisor’s methodology and key assumptions. * * * Disclosures that provide extraneous
[inessential] details do not contribute to a fair summary and do not add value for stockholders.
*** *
* * * The disclosures in the original Proxy already provided a fair summary of J.P. Morgan’s
methodology and assumptions * * *. Inserting additional minutiae [intricacies] underlying some of
the assumptions could not reasonably have been expected to significantly alter the total mix of
information and thus was not material. * * * The supplemental information was not even helpful to
stockholders.
Decision and Remedy The court denied approval of the settlement. The additional information
in the supplemental dis- closures did not warrant a release of all claims against the defen- dants.
“Accordingly, * * * the proposed settlement is not fair or reasonable to Trulia’s stockholders.”
Critical Thinking
• Legal Environment When the parties to a dispute agree to a settlement, they share the same
interest in obtaining the court’s approval. What are the advantages and disadvantages of this
situation?
• Economic In the Trulia case, the settlement, if approved, would not have yielded any genuine
benefit for the shareholders. If the court had approved the settlement, however, who would have
benefited?
Under Delaware law, when directors solicit stockholder action, they must disclose fully and fairly
all material informa- tion within the board’s control. * * * Information is material if there is a
substantial likelihood that a reasonable share- holder would consider it important in deciding how
to vote. In other words, information is material if, from the perspective of a reasonable stockholder,
there is a substantial likelihood that it significantly alters the total mix of information made available.
[Emphasis added.]
Here, the * * * Proxy that Trulia and Zillow stockholders received in advance of their respective
stockholders’ meetings to consider whether to approve the proposed transaction ran 224 pages in
length, excluding annexes. It contained extensive dis- cussion concerning, among other things, the
background of the mergers, each board’s reasons for recommending approval of the proposed
transaction, prospective financial information concern- ing the companies that had been reviewed
by their respective boards and financial advisors, and explanations of the opinions of each
company’s financial advisor.
The Supplemental Disclosures plaintiffs obtained in this case solely concern the section of the Proxy
summarizing J.P. Morgan’s financial analysis, which the Trulia board cited as one of the fac- tors it
considered in deciding to recommend approval of the pro- posed merger. Specifically, these
disclosures provided additional details concerning * * * J.P. Morgan’s * * * analysis.
* * * Under Delaware law, when the board relies on the advice of a financial advisor in making a
decision that requires
35–1e Short-FormMergers
RMBCA 11.04 provides a simplified procedure for the merger of a substantially owned sub- sidiary
corporation into its parent corporation. Under these provisions, a short-form merger— also referred to as a
parent-subsidiary merger—can be accomplished without the approval of the shareholders of either
corporation.
Short-FormMerger Amergerthat can be accomplished without the approval of the shareholders of either corporation because one
company (the parent corporation) owns at least 90 percent of the outstanding shares of each class of stock of the other corporation (the
subsidiary corporation).
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UNIT FIVE: Business Organizations
Know This
State statutes, articles of incorporation, and corporate bylaws can require the approval of more than a simple
majority of shares for some extraordinary matters.
The short-form merger can be used only when the parent corporation owns at least 90 percent of the
outstanding shares of each class of stock of the subsidiary corporation. Once the board of directors of the
parent corporation approves the plan, it is filed with the state, and copies are sent to each shareholder of
record in the subsidiary corporation.
35–1f ShareholderApproval
As mentioned, except in a short-form merger, the shareholders of both corporations must approve a merger
or consolidation plan. Shareholders invest in a corporation with the expec- tation that the board of directors
will manage the enterprise and make decisions on ordinary business matters. For extraordinary matters,
normally both the board of directors and the shareholders must approve the transaction.
Mergers and other combinations are extraordinary business matters, meaning that the board of directors
must normally obtain the shareholders’ approval and provide appraisal rights (discussed next). Amendments
to the articles of incorporation and the dissolution of the corporation also generally require shareholder
approval.
Sometimes, a transaction can be structured in such a way that shareholder approval is not required, but if the
shareholders challenge the transaction, a court might use its equity powers to require shareholder approval.
For this reason, the board of directors may request shareholder approval even when it might not be legally
required.
35–1g AppraisalRights
What if a shareholder disapproves of a merger or a consolidation but is outvoted by the other shareholders?
The law recognizes that a dissenting shareholder should not be forced to become an unwilling shareholder in
a corporation that is new or different from the one in which the shareholder originally invested. Dissenting
shareholders therefore are given a statutory right to be paid the fair value of the shares they held on the date
of the merger or consolidation. This right is referred to as the shareholder’s appraisal right. So long as the
transaction does not involve fraud or other illegal conduct, appraisal rights are the exclusive remedy for a
shareholder who is dissatisfied with the price received for the stock.
When Appraisal Rights Apply Appraisal rights normally extend to regular mergers, consolidations,
share exchanges, short-form mergers, and sales of substantially all of the corporate assets not in the ordinary
course of business. Such rights can be particularly important in a short-form merger because the minority
stockholders do not receive advance notice of the merger, the directors do not consider or approve it, and
there is no vote. Appraisal rights are often the only recourse available to shareholders who object to par- entsubsidiary mergers.
Procedures Each state establishes the procedures for asserting appraisal rights in that jurisdiction.
Shareholders may lose their appraisal rights if they do not adhere precisely to the procedures prescribed by
statute. When they lose the right to an appraisal, dissenting shareholders must go along with the transaction
despite their objections.
35–2 Purchase of Assets
When a corporation acquires all or substantially all of the assets of another corporation by direct purchase,
the purchasing, or acquiring, corporation simply extends its ownership and control over more physical assets.
Because no change in the legal entity occurs, the acquiring corporation is not generally required to obtain
shareholder approval for the purchase.
Appraisal Right The right of a dissenting shareholder, who objects to a merger or consolidation of
the corporation, to have his or her shares appraised and to be paid
the fair value of those shares by the corporation.
CHAPTER 35: Corporate Mergers, Takeovers, and Termination 831 35–2a
WhenShareholderApprovalMayBeRequired
Shareholder approval may be required in a few situations, however. If the acquiring corpora- tion plans to
pay for the assets with its own corporate stock and not enough authorized unis- sued shares are available, the
shareholders must vote to approve the issuance of additional shares by amendment of the corporate articles.
Also, if the acquiring corporation’s stock is traded on a national stock exchange and it will be issuing a
significant number (at least 20 percent) of its outstanding shares, shareholder approval can be required.
Note that the corporation that is selling all of its assets is substantially changing its busi- ness position and
perhaps its ability to carry out its corporate purposes. For that reason, the corporation whose assets are
being sold must obtain the approval of both the board of direc- tors and the shareholders. In most states and
under RMBCA 13.02, a dissenting shareholder of the selling corporation can demand appraisal rights.
Both the U.S. Department of Justice and the Federal Trade Commission have guidelines that significantly
constrain and often prohibit mergers that could result from a purchase of assets. (These guidelines will be
discussed in the materials covering federal antitrust laws.)
35–2b SuccessorLiabilityinPurchasesofAssets
Generally, a corporation that purchases the assets of another corporation is not responsible for the liabilities
of the selling corporation. Exceptions to this rule are made in certain cir- cumstances, however. In any of the
following situations, the acquiring corporation will be held to have assumed both the assets and the liabilities
of the selling corporation.
1. Expressorimplicitagreement.Thepurchasingcorporationimpliedlyorexpresslyassumesthe seller’s liabilities.
2. Defactomerger.Thesaletransactionamountstoamergerorconsolidationofthetwocompanies. 3.
Continuation.Thepurchasercontinuestheseller’sbusinessandretainsthesameshareholders,
directors, and officers.
4. Fraudexception.Thesaleisenteredintofraudulentlyforthepurposeofescapingliability.
Case Example 35.3 American Standard, Inc., sold its Kewanee Boiler division to OakFabco, Inc. The agreement
stated that OakFabco would purchase Kewanee assets subject to Kewanee liabilities. “Kewanee liabilities”
were defined as “all the debts, liabilities, obligations, and commitments (fixed or contingent) connected with
or attributable to Kewanee existing and outstanding at the Closing Date.”
Because the boilers manufactured by Kewanee had been insulated with asbestos, many tort claims arose in
the years following the purchase of the business. Some of those claims were brought by plaintiffs who had
suffered injuries after the closing of the transaction that were allegedly attributable to boilers manufactured
and sold before the closing.
American Standard filed an action against OakFabco in New York, asking the court for a declaratory judgment
on the issue of whether liabilities for such injuries were among the “Kewanee liabilities” that OakFabco had
assumed. The court held that OakFabco had expressly assumed the liabilities of the selling corporation in the
contract, includ- ing claims that arose after the closing date. A state appellate court affirmed that decision.
According to the reviewing court, “nothing in the nature of the transaction suggested that the parties
intended OakFabco, which got all the assets, to escape any of the related obligations.”1 ■
1. American Standard, Inc. v. OakFabco, Inc., 14 N.Y.3d 399, 901 N.Y.S.2d 572 (2010).
When does the purchase of a boiler division create ongoing liabilities for past acts?
Learning Objective 2
Under what circumstances is a corporation that purchases the assets of another corporation responsible for
the liabilities of the selling corporation?
ultramarinfoto/E+/Getty Images
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UNIT FIVE: Business Organizations
Does a purchasing corporation assume the liability of the selling corporation if the buyer has constructive
notice of potential liability? That was the issue in the following case.
Case 35.2
Background and Facts The Hotel Union & Hotel Industry of Hawaii Pension Plan is a
multiemployer plan that represents more than 12,000 members who work at unionized hotels in
Hawaii. Ohana Hotel Company, which operated Ohana Hotel on the island of Maui, contributed to
the plan for its hotel employ- ees but had underfunded the contributions for years. The plan’s
annual funding notices revealed Ohana’s underfunding and were publicly available online. Ohana
agreed to sell the hotel to Heavenly Hana, LLC, and its parent company, Amstar-39. Amstar had
previously owned and operated a hotel that participated in a multiemployer pension plan. The
purchase agreement stated that Ohana contributed to such a plan. Before the deal closed, however, Ohana withdrew from the plan without informing Amstar. The plan’s administrators
demanded that the new owner cover the unfunded “withdrawal” liability. Amstar filed a suit in a
federal district court against the plan, contesting the demand. The court entered a judgment in
Amstar’s favor. The plan appealed.
In the Words of the Court
THOMAS, Chief Judge: *** *
* * * Under a constructive notice standard, purchasers are deemed to have notice of any facts that one
using reasonable care or diligence should have. [Emphasis added.]
*** *
* * * Requiring purchasers to make reasonable inquiries into the existence of withdrawal liability
advances the * * * interest in preventing underfunding in multiemployer pension plans. Imposing this
burden [has] little negative impact on the fluid transfer of corporate assets. Purchasers [can] simply
investigate the possible liability and negotiate a purchase price [or other accommodation] that would
take it into account. [Emphasis added.]
* * * Of the three relevant parties to successor withdrawal liability—the seller, the purchaser, and
the pension plan— purchasers are in the best position to ensure withdrawal liability is accounted
for during an asset sale. Sellers have no incentive to disclose potential liabilities because such
liabilities are likely
to drive the sale price in one direction only: down. Pension plans cannot be asked to investigate
sales rumors, track down the iden- tity of all potential purchasers, avoid confidentiality or contract
interference concerns, and send notice of its publicly available funding status directly to potential
purchasers. Rather, pension plans are only responsible for (1) determining the amount of the
employer’s withdrawal liability, (2) notifying the employer of the amount of the withdrawal
liability, and (3) collecting the amount of the withdrawal liability from the employer. Purchasers, in
con- trast, have the incentive to inquire about potential withdrawal liability in order to avoid
unexpected post-transaction liabilities.
*** *
Applying a constructive notice standard in this case leads us to conclude that Amstar had
constructive notice because a reasonable purchaser would have discovered Ohana’s with- drawal
liability.
Amstar previously operated a hotel that participated in a multiemployer pension plan * * *. The
Agreement [between Amstar and Ohana] plainly informed Amstar that * * * Ohana had contributed
to a multiemployer pension plan. Finally, the Plan’s annual funding notices, which indicated a state
of underfunding, were publicly available.
Decision and Remedy The U.S. Court of Appeals for the Ninth Circuit reversed the lower court’s
judgment. “The undisputed facts indicate that Amstar should have determined that . . . Ohana would
incur withdrawal liability.”
Critical Thinking
• Legal Environment What actions might a purchasing corpo- ration take to determine if
withdrawal liability exists?
• What If the Facts Were Different? Suppose that Amstar’s lawyers had advised, “Absent an
express assumption of liability, a purchasing corporation does not assume a selling corporation’s
withdrawal liability.” Would the result have been different? Why or why not?
Heavenly Hana, LLC v. Hotel Union &
Hotel Industry of Hawaii Pension Plan
United States Court of Appeals, Ninth Circuit, 891 F.3d 839 (2018).
CHAPTER 35: Corporate Mergers, Takeovers, and Termination
833
35–3 Takeovers
An alternative to the purchase of another corporation’s assets is the purchase of a substantial number of the
voting shares of its stock. This enables the acquiring corporation to control the target corporation (the
corporation being acquired). The process of acquiring control over a corporation in this way is commonly
referred to as a corporate takeover.
35–3a TenderOffers
The acquiring corporation deals directly with the target company’s shareholders in seeking to purchase the
shares they hold. It does this by making a tender offer to all of the sharehold- ers of the target corporation.
The tender offer can be conditioned on receipt of a specified number of shares by a certain date.
To induce shareholders to accept the tender offer, the acquiring corporation generally offers them a price
higher than the market price of the target corporation’s shares before the announcement of the offer. In a
merger of two Fortune 500 pharmaceutical companies, for instance, Pfizer, Inc., paid $68 billion to acquire its
rival Wyeth. Wyeth shareholders report- edly received approximately $50.19 per share (part in cash and part
in Pfizer stock), which amounted to a 15 percent premium over the market price of the stock.
Federal securities laws strictly control the terms, duration, and circumstances under which most tender
offers are made. In addition, many states have passed antitakeover statutes.
35–3b ResponsestoTakeoverAttempts
A firm may respond to a takeover attempt in many ways. Sometimes, a target firm’s board of directors will
see a tender offer as favorable and will recommend to the shareholders that they accept it. Frequently,
though, the target corporation’s management opposes the proposed takeover.
To resist a takeover, a target company can make a self-tender, which is an offer to acquire stock from its own
shareholders and thereby retain corporate control. Alternatively, the target corporation might resort to one
of several other defensive tactics. Several of these tactics are described in Exhibit 35–3.
In a hostile takeover attempt, sometimes directors’ duties of care and loyalty collide with their self-interest.
Then the shareholders, who would have received a premium for their shares as a result of the takeover, file
lawsuits. Such lawsuits frequently allege that the direc- tors breached their fiduciary duties in defending
against the tender offer.
Business Judgment Rule Courts apply the business judgment rule when analyzing whether the directors
acted reasonably in resisting the takeover attempt. The directors must show that they had reasonable
grounds to believe that the tender offer posed a danger to the corporation’s policies and effectiveness.
In addition, the board’s response must have been rational in relation to the threat posed. Basically, the
defensive tactics used must have been reasonable, and the board of directors must have been trying to
protect the corporation and its shareholders from a perceived danger. If the directors’ actions were
reasonable under the circumstances, then they are not liable for breaching their fiduciary duties.
AnExample—ThePoisonPillDefense Onetechniquetoavoidtakeoversisthepoison pill defense. With
this defensive measure, a board gives shareholders the right to buy addi- tional shares at low prices. The right
is triggered when a party acquires a certain proportion of the target corporation’s stock—often between 15
and 20 percent. (This party, of course, does not have the right to purchase shares at a discount.) With more
shares outstanding, the
Takeover The acquisition of control over a corporation through the purchase of a substantial number of the voting shares of the
corporation.
Tender Offer An offer made by one company directly to the shareholders of another (target) company to purchase their shares of
stock.
“In the takeover business, if you want a friend, you buy a dog.”
Carl Icahn
1936–present (American financier)
Learning Objective 3
What actions might a target corporation take to resist a takeover attempt?
834
UNIT FIVE: Business Organizations
Exhibit 35–3 The Terminology of Takeover Defenses
TERM
DEFINITION
When threatened with a takeover, management makes the company less attractive to the raider by selling
Crown Jewel
the company’s most valuable asset (the “crown jewel”) to a third party.
When a takeover is successful, top management usually is changed. With this in mind, a company may
Golden
establish special termination or retirement benefits that must be paid to top managers if they are “retired.”
Parachute In other words, a departing highlevel manager’s parachute will be “golden” when he or she is forced to “bail
out” of the company.
To regain control, a target company may pay a higherthanmarket price to repurchase the stock that the
acquiring corporation bought. When a takeover is attempted through a gradual accumulation of target
Greenmail
stock rather than a tender offer, the intent may be to get the target company to buy back the shares at a
premium price—a concept similar to blackmail.
Named after the Atari video game, this is an aggressive defense in which the target corporation attempts its
Pac-Man
own takeover of the acquiring corporation.
The target corporation issues to its stockholders rights to purchase additional shares at low prices when
Poison Pill there is a takeover attempt. This makes the takeover undesirably or even prohibitively expensive for the
acquiring corporation.
The target corporation solicits a merger with a third party, which then makes a better (often simply a
White
higher) tender offer to the target’s shareholders. The third party that “rescues” the target is the “white
Knight
knight.”
Dissolution Theformaldisbanding of a corporation.
acquiring party’s interest is diluted. The tactic is meant to make a takeover too expensive for the acquiring
party.
Example 35.4 Back in 2012, Netflix, Inc., used the poison pill defense to effectively block a takeover attempt by
billionaire investor Carl Icahn. Netflix gave its shareholders the right to acquire newly issued stock if any
individual acquired more than 10 percent of the com- pany. At the time, Icahn held 9.98 percent of the shares.
If his interest had risen to 10 per- cent, new shares would have flooded the market, and his interest in the
corporation would have been immediately diluted. Consequently, he was effectively prevented from buying
more shares. ■
35–4 Corporate Termination
The termination of a corporation’s existence has two phases—dissolution and winding up. Dissolution is the
legal death of the artificial “person” of the corporation. Dissolution can be brought about by the following:
1. Anactofthestate.
2. Anagreementoftheshareholdersandtheboardofdirectors.
3. Theexpirationofatimeperiodstatedinthecertificateofincorporation. 4. Acourtorder.
Winding up is the process by which corporate assets are liquidated, or converted into cash and distributed
among creditors and shareholders. Some prefer to call this phase
CHAPTER 35: Corporate Mergers, Takeovers, and Termination
835
liquidation. Here, we use the term winding up to mean all acts needed to bring the legal and financial affairs of
the business to an end, including but not necessarily limited to liquidation of assets.
Dissolution can be either voluntary or involuntary. Winding up may differ to some extent based on whether
voluntary or involuntary dissolution has occurred.
35–4a VoluntaryDissolution
Dissolution can be brought about voluntarily by the directors and the shareholders. State corporation
statutes establish the procedures required to voluntarily dissolve a corporation. Basically, there are two
possible methods:
1.
2.
By the shareholders’ unanimous vote to initiate dissolution proceedings. Example 35.5 Dee and Jim form
Home Remodeling, Inc. They are Home Remodeling’s only shareholders and directors. After three years,
they decide to cease business, dissolve the corporation, and go their sepa rate ways. ■
Byaproposaloftheboardofdirectorsthatissubmittedtotheshareholdersatashareholders’ meeting.
When a corporation is dissolved voluntarily, the corporation must file articles of dissolution
with the state and notify its creditors of the dissolution. The corporation must also establish a date (at least
120 days after the date of dissolution) by which all claims against the corporation must be received [RMBCA
14.06].
35–4b InvoluntaryDissolution
Because corporations are creatures of statute, the state can also dissolve a corporation in certain
circumstances. The secretary of state or the state attorney general can bring an action to dissolve a
corporation that has failed to pay its annual taxes or to submit required annual reports, for example. A state
court can also dissolve a corporation that has engaged in ultra vires acts or committed fraud or
misrepresentation to the state during incorporation.
Sometimes, a shareholder or a group of shareholders petitions a court for corporate dissolution. In such a
situation, the court may dissolve the corporation if the controlling shareholders or directors have engaged in
fraudulent, illegal, or oppressive conduct.
Example 35.6 The Miller family—Todd, Otilia, and Breanna—operates Seven Oaks Farm in rural Virginia, as a
close corporation. When Todd and Otilia are arrested for stealing from the farm’s financial accounts, Breanna
petitions the court for dissolution so that she can wind up Seven Oaks’s business. ■ Shareholders may also
petition a court for dissolution when the board of directors is deadlocked and the affairs of the corporation
can no longer be conducted because of the deadlock.
35–4c WindingUp
When dissolution takes place by voluntary action, the members of the board of direc- tors act as trustees of
the corporate assets. As trustees, they are responsible for winding up the affairs of the corporation for the
benefit of corporate creditors and shareholders. This makes the board members personally liable for any
breach of their fiduciary trustee duties.
When the dissolution is involuntary—or if board members do not wish to act as trust- ees of the assets—the
court will appoint a receiver to wind up the corporate affairs and liquidate corporate assets. Courts may also
appoint a receiver when shareholders or cred- itors can show that the board of directors should not be
permitted to act as trustees of the corporate assets.
Receiver Inacorporatedissolution, a courtappointed person who winds up corporate affairs and liquidates corporate assets.
Learning Objective 4
What are the two ways in which a corporation can be voluntarily dissolved?
836 UNIT FIVE: Business Organizations
35–5 Major Business Forms Compared
When deciding which form of business organization would be most appropriate, business- persons normally
take into account several factors, including the liability of the owners, tax considerations, and the need for
capital. Each major form of business organization offers advantages and disadvantages with respect to these
and other factors.
Exhibit 35–4 summarizes the essential advantages and disadvantages of each form of business organization
discussed in this unit.
Exhibit 35–4 Major Business Forms Compared
ChARACTERISTIC
Method of Creation
SOLE PROPRIETORShIP PARTNERShIP
Created by agreement of the
Created at will by owner.
parties.
Legal Position
Not a separate entity;
owner is the business.
A general partnership is a
separate legal entity in most
states.
Liability
Unlimited liability.
Unlimited liability.
Duration
Determined by owner;
automatically dissolved
on owner’s death.
Transferability of
Interest
Management
CORPORATION
Authorized by the state under the
state’s corporation law.
Always a legal entity separate and
distinct from its owners—a legal
fiction for the purposes of owning
property and being a party to
litigation.
Limited liability of shareholders—
shareholders are not liable for the
debts of the corporation.
Terminated by agreement of
the partners, but can continue
to do business even when a
Can have perpetual existence.
partner dissociates from the
partnership.
Interest can be
Although partnership interest
transferred, but
can be assigned, assignee does
Shares of stock can be transferred.
individual’s
not have full rights of a
proprietorship then ends. partner.
Each partner has a direct and
Completely at owner’s
Shareholders elect directors, who set
equal voice in management
discretion.
policy and appoint officers.
unless expressly agreed
otherwise in the partnership
agreement.
Taxation
Organizational Fees,
Annual License Fees,
and Annual Reports
Transaction of
Business
in Other States
Each partner pays pro rata
Owner pays personal
share of income taxes on net
taxes on business income. profits, whether or not they
are distributed.
Double taxation—corporation pays
income tax on net profits, with no
deduction for dividends, and
shareholders pay income tax on
disbursed dividends they receive.
None or minimal.
None or minimal.
All required.
Generally no limitation.
Generally no limitation.a
Normally must qualify to do
business and obtain certificate of
authority.
a. A few states have enacted statutes requiring that foreign partnerships qualify to do business there.
CHAPTER 35: Corporate Mergers, Takeovers, and Termination 837
LIMITED LIABILITy
LIMITED LIABILITy
COMPANy
PARTNERShIP
Created by agreement to carry on a
Created by an agreement of
business for a profit. Must include at least the memberowners of the
Created by agreement of the
one general partner and at least one
company. Articles of
partners. A statement of
limited partner. Certificate of limited
organization are filed.
qualification for the limited
partnership is filed. Charter must be
Charter must be issued by the liability partnership is filed.
issued by the state.
state.
Treated as a legal entity.
Treated as a legal entity.
ChARACTERISTIC LIMITED PARTNERShIP
Method of
Creation
Legal Position
