The Poison Pill explained

A “poison pill” is a defensive tactic used to discourage a hostile takeover. Professor John D. Morley of Yale Law School explains how they work.

A poison pill is a tool used by corporate boards to make an acquisition intolerably expensive. The way that a poison pill works is by setting a trigger or threshold in the terms of stock ownership which, if reached or surpassed by a particular shareholder, will result in the dilution of that shareholder's interest in the company. Morley gives the example of a company that sets its poison pill trigger at 15% of the company’s stock. If a shareholder then purchases a 17% position in the company, the company may then make significant quantities of stock available for purchase to all other shareholders at a reduced price or even at no cost at all. This can both make the potential acquisition more expensive and at the same time significantly dilute the potential acquirer's share.

Professor Morley explains that poison pills are so effective that  they can make takeover bit through purchase of a majority of stock an impossibility. So how can they be overcome? Generally, the only options are either to get the approval of the board by increasing the purchase price or to replace sufficient board members to permit the removal of the poison pill.

 

John D. Morley a professor of law at Yale Law School.  His research focuses on the law and economics of organization, with a special emphasis on the regulation and structure of investment funds.