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FOOL SCHOOL
Dealing With Takeovers & Mergers

August 12, 2005

So you spend many months analysing the stock market, trying to decide which share you think offers the best long-term opportunity for growth. Finally you call your broker and buy the shares. After receiving the share certificate, you stick it away in the bottom of the sock drawer, fully intending to hold for the long term.

Then what happens? Some big conglomerate comes along, also notices how good the company is and decides they want to buy it as well -- only they want to own the whole company.

Takeovers can be very exciting for shareholders. Whether or not they are good for shareholders in the long run is not always clear. But that issue verges on the theoretical and is certainly beyond the scope of this far more practical article. Many takeovers take place in an atmosphere of high drama. Existing management often fears being replaced by the acquiring company.

Takeover tangles

So what happens when our mythical company SuperChip PLC makes a takeover bid for MicroChip PLC? Once the target company is notified of a takeover offer, it should immediately issue an announcement giving the terms and conditions of the offer. This might either be for cash, or for shares with a cash alternative. Trading of the company's shares may be temporarily suspended pending the announcement.

If the directors of MicroChip think that the offer is in the best interests of their shareholders and recommend they accept the offer, this is known as an agreed bid. Agreed bids are often worked out and agreed between the directors of the two companies in secret long before investors get to hear about it.

Now, of course, what the directors of MicroChip perceive as being good for shareholders may not in fact be in the shareholders' best interests. There have been many cases recently where a company has made an offer that has been recommended to shareholders by the directors only for another bidder to come along and offer more money. If someone else wants to pay more for the company, why would the directors have recommended the first offer then?

So is an agreed bid good for shareholders? Well, this is difficult to say. The offering company will obviously want to pay as little as possible, and if there is no competition for the shares, how will you know if you are getting a fair price? That's up to you to decide, based on your own valuation of the company and its prospects. However, presumably the directors know more about the company than anyone else. This is worth bearing in mind.

Hostile bids

If MicroChip were to receive an offer from SuperChip that was not welcomed by the directors of the company, this would become a hostile takeover bid. The "predator" then will bid for shares of the target firm, dealing directly with the company's shareholders. The directors of MicroChip will put up a defence and will try to persuade shareholders to reject the offer, arguing that it is not in shareholders' best interest.

Is a hostile bid good for shareholders? Well, again, this is a difficult question to answer. With a hostile bid, you will have two arguments that you should weigh up: the defensive one from MicroChip, in which they will set out the reasons why you should reject the offer, and the offer document from SuperChip as to why it would be in your best interests to accept the offer.

Now it gets a little more complicated. In a contested bid, there will be more than one bidder. In our mythical example, another company called HyperChip comes along and tops SuperChip's offer. As a general rule, a contested takeover bid is much better for shareholders, who will have at least two offers to consider. If you feel that neither values the company fairly, you can still reject them.

A predator company will almost always try to arrange an agreed takeover bid, as this will generally be much cheaper and quicker. They will usually approach the directors of the company informally to discuss the opportunities, and if it is clear that the directors would reject a formal offer, many predators will simply go away. Takeover battles can become very messy, drawn out and expensive.

What should you do?

As a shareholder in MicroChip, you should take your time before deciding what to do. Registered shareholders will receive an offer document from SuperChip that sets out the terms and conditions of the offer. You will also get a circular from MicroChip that contains other information, including the directors' recommendation as to whether or not you should accept the offer.

The offer will be open for at least 21 days from the date the offer document is posted. However, if the terms are adjusted or a rival offer is made, the offer must stay open for a further period for shareholders to reconsider.

Make sure you check what the bid timetable is. Once a bid has been formally made, the bid timetable starts to count up from day 0 (the date of the formal bid). By day 28, the bidder must have posted the bid document to shareholders. The closing date for the bid will then be at least 21 days after the date the offer document was posted but no later than day 60.

Bidders often set an early closing date and then extend it, and will often increase the bid after the 21 days are up. If a rival bidder steps in, then the whole timetable is reset back to day 0. At first, the offer will have been made conditionally, but once the company has received over 50% acceptances from shareholders, the offer will be declared unconditional. You will then have 14 days in which to accept the offer or refuse it.

Timetable tips

You should always wait for the offer document to arrive from the bidder and for the recommendation from the directors of your company before you make a decision. If you hold your shares in certificate form, the documents will be sent to you automatically. If your broker holds your shares in nominee accounts, you may have to contact the broker to ensure that they send you all the documents.

This is important, because if you do not ask for the relevant documents, you are quite likely to receive a short letter from your broker simply asking you to tick a box saying yes or no. This is far from the Foolish way of going about things. It does not give you the opportunity to make an informed decision.

Obtain all the facts about an offer before making a decision. Read the terms of the offer carefully before deciding whether or not to accept it. If you wish to accept the offer, you need to complete the acceptance form and return it, together with share certificates, to the registrar before the deadline.

If your shares are in a nominee account, return the acceptance form to your broker. You can change your mind at a later date and reject the offer if you wish. If the offer lapses, shares received under the offer will be returned to the investors. If you decide to do nothing, it will be assumed that you do not wish to sell your shares.

A question that often crops up on the message boards concerns what happens if you refuse to accept the offer? Well, if the bidding company receives acceptances from shareholders making up more than 90% of the value of the target company for which the offer is made, it will be able to compulsorily acquire the remaining shares.

The ultimate decision is yours

Are takeover offers good for shareholders? The answer is sometimes yes and sometime no. Remember, as a Fool, you bought the shares with the intention of holding them for the long term, hoping to benefit from the long-term growth in the value of the business.

Accepting a takeover offer now means that you will sacrifice long-term gain for an immediate payment, assuming it is a cash offer. This may be good if you can find a better home for your money but will be bad if you cannot find as good an investment to replace this one.

If instead the offer is an all-share one, meaning you receive shares in the bidding company in exchange for your original holding in the target company, then you should Foolishly assess the bidding company's business. Go and do your research on the group, its financial record, management and prospects. Why not start by looking on its discussion board, here at the Fool?