Replies to post #106186 on Biotech Values

[DewDiligence]

Staggered Boards Reduce Value, Evidently

http://dealbook.nytimes.com/2010/11/12/staggered-boards-and-company-value/

›November 12, 2010, 7:00 am
By STEVEN M. DAVIDOFF

A background issue in the battle between Airgas and Air Products and Chemicals is the effectiveness of staggered boards and what academic research has to bear on the issue.

Academics have speculated that the staggered board is an entrenching device. It makes a hostile takeover more difficult and protects underperforming management, reducing the value of the corporation.

If this theory is true, then you would expect the staggered board to result in a decrease in stock prices by companies adopting such a device. Without the fear of a takeover, companies with staggered boards would also be more likely to make bad decisions and be less willing to adjust exorbitant executive compensation. This is what studies have largely found.

However, while value may be reduced by the adoption of the staggered board, this reduced value may be exceeded by higher premiums that bidders may pay to overcome the stronger hostile defense. In other words, the reduction in value from a staggered board may be acceptable because shareholders reap the benefits of a higher premium in a takeover.

It is quite difficult to measure any additional premium a bidder might be paying in this respect. The most prominent study to do so provided mixed evidence. It found that companies with staggered boards do receive fewer takeover bids and have lower value, but they also receive higher premiums in takeovers.

The consequence is that the effect of staggered boards on corporations are still being debated and these studies are continuously criticized for being limited in scope and for failing to measure the market completely. Still, the academic community leans rather strongly toward labeling the staggered board as a problematic takeover defense. This leads to the oft-repeated criticism of academics by takeover law firms: What do they know about the real world? The staggered board dynamic appears to work effectively to raise value. Nonetheless, the staggered board is in retreat because of the efforts of the corporate governance movement in reliance on this academic research. According to Factset Sharkrepellent, 302 companies in the Standard & Poor’s 500-stock index had a staggered board in 2002. By 2009 the number had declined to 164.

The validity of the staggered board is not at issue in the Airgas dispute. Rather, the question in that litigation is how academics have historically viewed the device. Airgas cites a number of academic studies and form agreements; Airgas then claims that the authors of these studies and forms assumed that the staggered board involves a term of three years for each director. The authors of at least one prominent study have subsequently written that this was not their assumption.

In truth, the question has never really come up, and relying on these studies in any form is not going to get you anywhere. No one realized that there was an ambiguity in the Delaware corporate law statute allowing a company to adopt a staggered board until Jim Woolery and Min Van Ngo at Cravath, Swaine & Moore spotted it. It is the classic example of having your keys in your hand while you search for them throughout the house thinking they are lost. You never notice what is there all along.

This back and forth on this issue in the debate over Airgas and Air Products also raises another chance to review these studies. Lucian A. Bebchuk, Alma Cohen and Charles Wang, professors at Harvard, have seized this opportunity.

In a study released on Wednesday, the professors examine how a Delaware Chancery Court decision in the Airgas dispute affected corporate value. The decision effectively permitted a hostile bidder to shorten the terms of a staggered board by moving up the date for the next annual meeting. If the Delaware Supreme Court upholds the opinion, Airgas will have to hold its shareholder meeting on Jan. 15, four months after the last one, in September.

The professors hypothesize that if the staggered board is indeed an entrenching device that unduly protects against takeovers, then the value of all companies with staggered boards would go up because of the Delaware decision. The reason is that they are now worth more since management is no longer as protected from its poor performance and the companies are easier takeover targets because of the ability of a bidder to move up the shareholder meeting date, as Air Products was able to do with Airgas.

The authors look at a sample of 2,631 public companies and do find this effect. In the wake of the Airgas opinion, companies with staggered boards rose in value by approximately half a percent, versus similar companies without a staggered board. The effect was more pronounced on those companies that were most affected by the decision. This includes companies that had their annual election in the second half of the calendar year. The authors state the reason why:

“Recall that the bylaw whose legality was approved by the Airgas litigation moves the annual meeting to January. Such a bylaw could substantially shorten the term of directors who would otherwise come up for re-election toward the end of the calendar year, but would have little practical impact on directors who would in any event come up for re-election early in the calendar year.”

Thirty-two percent of the companies with staggered boards in the authors’ sample had a meeting date later than June. The companies in this sub-sample outperformed the market by approximately 0.72 percent during a two-day period around the time of the Delaware decision.

There are issues with the study as the authors acknowledge. They state that the effects may be weakened “because (i) the market might have ascribed a positive probability to such a ruling and such expectations might have been already built into market prices prior to the ruling, and (ii) the bylaws rendered legal by the Airgas ruling reduce but not eliminate the ability of staggered boards to delay the removal of directors whose replacement is desired by a shareholder majority.”

But in both cases, these events would only work to diminish the results of this study. The evidence here thus supports the thesis that staggered boards diminish value.

Etc.‹

[DewDiligence]

Poison pill update (APD-ARG):

http://www.reuters.com/article/idUSN2525402320110125?feedType=RSS&feedName=mergersNews&rpc=43

…the ruling in the case could shape the use of the "poison pill" defense against hostile takeovers.

"If (the judge) allows the pill to remain, it's a big case. If he removes it, it's a big case, too" said Charles Elson [LOL], a professor at the University of Delaware. "It defines the legality of a pill."

Under Delaware law, which governs the majority of major U.S. companies, poison pills are meant to give directors time to evaluate a deal and make their case for alternatives. They have been criticized as a way for boards to entrench themselves by defeating a hostile bid that might provide a handsome return to shareholders.

The judge overseeing the case, William Chandler, is expected to rule quickly, possibly on Thursday when the hearings are scheduled to wrap up.

[DewDiligence]

Update: The APD-ARG hostile takeover failed* and, in the process,
the poison-pill defense received a boost from the Delaware Chancery
Court. This has ramifications for biotech buyouts insofar as many small
biotech companies are incorporated in Delaware and have poison pills.

*As an APD shareholder, I’m happy the buyout failed. APD surged to
a new high today on news of the deal’s termination.

http://www.reuters.com/article/2011/02/17/us-airgas-poisonpills-idUSTRE71G03W20110217

›Airgas Verdict Revives Poison Pills

Wed Feb 16, 2011 7:20pm EST
by Timothy Sifert

NEW YORK, Feb 16 (IFR) - Tuesday's legal decision to uphold Airgas's use of a "poison pill" defense against rival Air Products & Chemicals' takeover bid is a bonus for corporate board members in the US: it sharpens one more tool to defend against hostile bidders.

While these shareholder rights schemes, or poison pills, aren't as popular as they once were, the Delaware Chancery Court's verdict last night gives corporate boards in the US cause to reconsider their utility.

The number of US-incorporated companies with poison pills in place is a fraction of what it was. At the end of 2001 there were 2,218 takeover-protected companies, compared to 869 at the end of last year, according to FactSet SharkRepellent, which tracks the use of poison pills.

In fact, the figure is at its lowest in two decades, owing to changes in both corporate governance and hostile takeover practices.

Airgas's (ARG) successful avoidance of Air Products (APD) breathes new life into the use of poison pills.

"If the case had ended differently the number of poison pills would have reduced even more," said John Laide, vice president, senior product manager at FactSet Research Systems.

"I think this ruling endorses that position. It will show other companies that the courts endorse them putting a poison pill in place."

DEFENSE MECHANISM

A poison pill is a takeover defense that makes it costly and difficult to buy a company if any party buys a certain percentage of shares, usually about 20%. In a popular scenario, a target company might flood the market with new shares, making a hostile acquisition prohibitively expensive.

The prophylactic measure is intended to give a board of directors time to find alternatives and explain to shareholders why a bid isn't tenable.

It can also be used, however, as a way for management -- in shareholders' best interests or not -- to stay the usual course and keep their jobs. In either case, shareholders are prevented from deciding on their own.

Corporate scandals during the last decade or so have changed the way management and shareholders look at corporate governance. At the same time, poison pills have gone through a metamorphosis of sorts.

For example, in the past, boards would vote a 10-year poison pill in place and decide whether to renew when it expires. But as poison pills have become incompatible to the idea of good corporate governance -- and hostile bidders have become savvier -- boards have had to change their ways, Laide said.

A new variety of takeover protections has surfaced as a result. New poison pills have shorter durations and variable terms.

"Now what you have is specific-purpose pills," Laide said.

What's more, boards can have a general plan ready "on the shelf" to be adapted should a need arise. These schemes are not immediately discernible. "There's no public disclosure of shelf pills," Laide said.

GAMBIT PAYS OFF

Air Products, which had been trying to buy Airgas for about a year, was not happy with the decision. The company proposed buying Airgas for $70 per share in an all-cash offer. Airgas's board countered, saying it was worth $78 a share.

In the end, Air Products contested that the Airgas board was using the poison pill to defend against a takeover of any kind, shareholder-friendly or not.

"Despite the public statements of the Airgas board, we are convinced they are unwilling to sell the company at any price," said John McGlade, Air Products, chairman, president and CEO during a conference call this morning to discuss the decision.

Airgas's gambit of going to the courts rather than to its shareholders to decide worked. Air Products management is putting the experience behind it. [Thankfully, IMO.]

"The chapter is now closed, and we are moving on," said Paul Huck, CFO, Air Products. "We've withdrawn our offer and will sell our Airgas shares."

Air Products, owns as of this morning, about 1.5m shares of Airgas.

The judge in the case said that methods for defeating a poison pill have been in place since 1985 and his ruling does not endorse a "just say no" approach to a hostile bid.

It's an unfortunate decision now that the M&A market is gathering ground. US mergers and acquisitions so far this year total $220.8bn, according to Thomson Reuters data. That's more than the combined volumes for the same periods in 2010 and 2009, when smaller, though more, trades were completed.

In the long run, however, the ruling doesn't exactly spell doom for all shareholders in search of value. As a result Air Products will resume share repurchases this year. It has $650m left over on its authorization.‹