M&A in 2014: Poison pills web seminar Norton Rose Fulbright speakers: Glen J. Hettinger Bryan C. Wittman

October 2, 2014

Speaker Glen J. Hettinger Partner Fulbright & Jaworski LLP (Norton Rose Fulbright) Glen Hettinger is head of the Securities/M&A in the Dallas office and Co-Chair of the USA M&A practice group.

Glen has a broad range of experience including representing public and private companies in accessing capital and effecting mergers and acquisitions. He has served on the board and audit committee of a public corporation and has counseled boards of directors on corporate governance and fiduciary duties.

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Speaker Bryan C. Wittman Counsel Fulbright & Jaworski LLP (Norton Rose Fulbright) Bryan Wittman is counsel in the San Antonio office. His corporate practice is focused on mergers and acquisitions, venture capital, start-up companies and general corporate and contract law.

Bryan is a 1993 graduate of Harvard Law School and began his legal career in the Chicago office of Skadden, Arps, Slate, Meagher & Flom where he first became acquainted with the poison pill. Bryan has subsequently worked on dozens of matters involving the consideration, adoption, amendment, renewal or extension of poison pills on behalf of issuers and the review and analysis of target company poison pills on behalf of potential acquirers.

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Continuing education information

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• We have applied for one hour of California, Texas, Virginia CLE and New York non-transitional CLE credit. Newly admitted New York attorneys may not receive non-transitional CLE credit. For attendees outside of these states, we will supply a certificate of attendance which may be used to apply for CLE credit in the applicable bar or other accrediting agencies.

• Norton Rose Fulbright will supply a certificate of attendance to all participants who: 1. Participate in the web seminar by phone and via the web

2. Complete our online evaluation that we will send to you by email within a day after the event has taken place

Administrative information • Today’s program will be conducted in a listen-only mode. To

ask an online question at any time throughout the program, click on the question mark icon located on the toolbar in the bottom right side of your screen. Time permitting, we will answer your question during the session.

• Everything we say today is opinion. We are not dispensing legal advice, and listening does not establish an attorney-client relationship. This discussion is off the record. You may not quote the speakers without our express written permission. If the press is listening, you may contact us, and we may be able to speak on the record.

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What is a Poison Pill?

A nickname for a Stockholder (or Shareholder) Rights Plan.

An anti-takeover device. • It does not prevent a takeover, but deters acquisition of an

issuer’s stock above a specified percentage without board approval.

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What Can a Poison Pill Do (and Not Do)?

What can a poison pill do? • Prevent accumulation of a control position without premium. • Require a hostile bidder to negotiate directly with the board.

○ prevent company from being put in play (Just Say No). ○ enhance board leverage to maximize shareholder value.

• Buy time.

What can a poison pill not do? • It cannot prevent a proxy contest for control of the board… • though it can be a powerful complement to a staggered board.

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How Does a Poison Pill Work?

Big Picture: • It allows all stockholders other than a hostile bidder to

purchase additional company securities at a discount to market price.

• This results in substantial voting power dilution to the hostile bidder: reduces percentage of the company owned by the bidder and the bidder’s relative voting power.

• Also results in substantial economic dilution to the hostile bidder: transfers value from the hostile bidder to other stockholders.

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How Does a Poison Pill Work?

Details: • A dividend of “Rights” is distributed to all stockholders. • Each “Right” allows the purchase of a company security at a

fixed price. • The exercisability of the Rights (a “distribution”) is triggered by

a specified event (e.g., hostile bidder crossing an ownership threshold or a tender offer launch).

• The Rights “flip in” upon the occurrence of a specified event (may be the same distribution event or a second event).

○ Hostile bidder’s Rights become void. ○ All other Rights become exercisable for the company’s

Common Stock at half price.

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How Does a Poison Pill Work?

More Details: • The Rights “flip over” if the hostile bidder consummates

certain extraordinary transactions with the company (e.g., merger or asset acquisition).

○ Rights become exercisable for the hostile bidder’s Common Stock at half price. (Remember: hostile bidder’s Rights have become void.)

• As an alternative to a flip-in, the board can order an “exchange” of Rights for the company’s Common Stock on a 1-for-1 basis.

○ Advantage: Can be effected unilaterally by the board without action of Rights holders.

○ Disadvantage: Generally much less dilution than a flip-in.

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How Do You Stop a Poison Pill (if you wanted to)?

Redemption • Before a specified deadline (e.g., the date of the flip-in), the

board has the right to redeem all Rights for a nominal amount of cash.

Amendment • Before a specified deadline (usually the same as the

redemption deadline), the board can amend the Rights to cause them to expire immediately or at some set time or upon the occurrence of a specified event.

• Or, before the amendment deadline, the board can amend the Rights to exempt certain acquiring persons or stock acquisition transactions.

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What are the Primary Deal Points for a Poison Pill?

Triggering Percentage • What is the ownership level that must be crossed by a hostile

bidder in order to trigger the flip-in?

Exercise Price • What is the fixed price to be paid upon the exercise of Rights?

These two variables affect the amount of potential dilution caused by the Rights.

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What Other Terms are in a Poison Pill?

Expiration Date (Term)

Subject to Stockholder Approval?

Qualified Offer (“chewable pill”) provision?

Continuing Directors (“dead hand”) provision? (hint: not in DE)

Substitution of Alternative Value

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How Do You Adopt a Poison Pill?

Authorized by the Board of Directors • Deal points and terms are finalized… • with advice of lawyers and investment bankers. • Stockholder approval not required.

Company enters into a Rights Agreement with a Rights Agent

Certificate of Designations filed (if a preferred stock pill)

Registered with the SEC (Form 8-A) and exchange listed

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How Do Courts Evaluate a Poison Pill Adoption?

Delaware: Unocal Standard • “Enhanced Scrutiny.” • For anti-takeover matters, the board has the burden to show: ○ reasonable grounds to believe that a danger to corporate

policy and effectiveness existed; and ○ the defensive measure taken was reasonable in relation to

the threat posed. Note: Contrast “clear blue” threat versus immediate threat. • If the board satisfies this burden, the Business Judgment Rule

will apply. ○ The plaintiff must overcome the presumption that the board

met its fiduciary duties of care and loyalty. • Evaluated at adoption and at decision to not terminate.

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Drafting and Design Considerations: ISS

Institutional Shareholder Services (ISS) guidelines: • Stockholders should withhold votes from directors if a

company adopts a poison pill without stockholder approval or commitment to obtain stockholder approval within one year.

• Stockholders should vote against a poison pill that does not meet certain criteria, including:

○ Must have a 20% or more ownership percentage trigger, ○ Must not have a term of more than 3 years, ○ Must contain a Qualified Offer provision and ○ Must not contain a “dead hand” provision. • ISS Guidelines = Relatively weaker poison pill.

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Drafting and Design Considerations: ISS

Company reactions to ISS guidelines: • Ignore ISS guidelines – adopt a strong poison pill. • Abide by ISS guidelines – adopt a weaker poison pill. • Forego a poison pill altogether. • Approve a “shelf pill.” ○ Generally in the form of a strong poison pill. ○ Not formally adopted or implemented. ○ Kept “on the shelf” for when the need arises. ○ Advantage: Strong pill without blowback from ISS. ○ Disadvantage: May not see the threat until it’s too late.

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Drafting and Design Considerations: NOL Pills

The Net Operating Loss (NOL) Pill: • Developed in the late 1990s as an adaption of the traditional

anti-takeover pill. • Intended to prevent impairment of the tax benefits of net

operating losses (NOLs) pursuant to Section 382 of the Internal Revenue Code (the “Code”).

○ Code Section 382 limits the use of NOLs following an “Ownership Change” – which is determined by looking at changes in ownership by 5%+ stockholders.

○ The NOL pill seeks to deter anyone from becoming a 5%+ stockholder (unless the board has determined it would not jeopardize the use of NOLs pursuant to Code Section 382).

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Drafting and Design Considerations: NOL Pills

Key Drafting / Design Considerations for an NOL Pill: • Must have a percentage ownership trigger that is 5% or less in

order to assure that no “Ownership Change” for purposes of Code Section 382 can occur without triggering the Rights.

○ Much lower than in traditional rights plans (where 10% is relatively low, 15% is typical and 20% is required by ISS).

○ Upheld by Delaware courts under Unocal since a reasonable threat to NOLs can be reasonably perceived by a board at a lower ownership level than the threat posed by a hostile takeover.

• Definition of “ownership” generally tracks the Code. ○ No modern enhancements as in traditional poison pills as

they are irrelevant to the tax treatment of NOLs.

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Drafting and Design Considerations: NOL Pills

More Key Drafting / Design Considerations for an NOL Pill: • Often contains broad mandate for the board to exempt certain

persons or transactions, on a case-by-case basis, where an ownership change would not jeopardize NOLs.

• Often does not include a flip-over provision (since the damage under Code Section 382 would already have occurred before a second-step transaction).

• NOL plan will terminate early if no longer needed. ○ Change in tax law. ○ Exhaustion of NOLs. ○ Value of protecting NOLs ceases to justify poison pill.

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Drafting Considerations: 21st Century Enhancements

21st Century Enhancements: Synthetic Securities • Poison pills traditionally measure “ownership” by securities

laws’ concepts of legal title or right to vote or dispose. • An economic interest in stock (“synthetic equity”) may be

separated from physical ownership and arguably does not count for purposes of a traditional ownership definition.

• A hostile bidder could use multiple “short parties” to avoid any having enough hedging shares to trigger the Rights, though such synthetic equity positions may be converted into physical equity quickly or otherwise used to affect a proxy contest.

• An increasing number of poison pills include synthetic equity (and derivative positions) within the definition of “beneficial ownership” for purposes of judging whether the percentage ownership trigger has been crossed.

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Drafting Considerations: 21st Century Enhancements

21st Century Enhancements: Wolf Pack Provisions • “Wolf Pack” – a group of activist investors who cooperate

tacitly to exert influence or control over a company. • Traditional poison pills may not protect against Wolf Packs: ○ No pack member individually owns sufficient shares to hit

the percentage ownership trigger. ○ Pack members’ ownership is not aggregated under a

poison pill unless they have an agreement with respect to the acquisition, holding, voting or disposition of stock and pack members are careful to disclaim such agreements – acting through a “follow the leader” approach.

• Poison pills may include language to aggregate stock held by stockholders “acting in concert” to change or influence control of the company.

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Drafting Considerations: 21st Century Enhancements

21st Century Enhancements: Bifurcated Trigger Percentages • The most recent poison pill innovation is to include a

bifurcated percentage ownership trigger – a double standard that sets a relatively high ownership limit (e.g., 20%) for passive investors who file a Schedule 13G with the SEC and a second, much lower, ownership limit (e.g., 10%) for others, including activist stockholders.

• In the May 2014 Sotheby’s case (Third Point LLC v. Ruprecht), the Delaware Court of Chancery denied a preliminary injunction to an activist stockholder who challenged such a bifurcated poison pill trigger.

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Conclusions

• The heyday of the poison pill may have passed with the decline in hostile acquisitions and the rise of disapproving stockholder advocacy organizations.

• But the poison pill has shown its adaptability to protect new corporate interests (NOLs) and to thwart new corporate threats (stockholder activism).

• Without doubt, the poison pill remains a powerful tool in the hands of public corporations and the lawyers who are called upon to protect them.

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Questions?

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Continuing education information

• If you are requesting CLE credit for this presentation, please complete the evaluation that you will receive from Norton Rose Fulbright.

• If you are listening to a recording of this web seminar, most state bar organizations will only allow you to claim self-study CLE. Please refer to your state’s CLE rules. If you have any questions regarding CLE approval of this course, please contact your bar administrator.

• Please direct any questions regarding the administration of this presentation to Terra Worshek at terra.worshek@nortonrosefulbright.com.

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