Why the Poison Pill Is Still Relevant After All These Years – Even in Japan  

More than 40 years after its invention by lawyer Martin Lipton, the poison pill remains the subject of important judicial decisions and academic debate over corporate governance questions, in both the United States, its country of origin, and Japan, its adopted home. The pill’s development has taken divergent paths in the two countries because of their markedly different corporate governance environments. Yet today, shareholder activism and concern for environmental, social, and governance (ESG) issues may be causing those paths to converge, a possibility highlighted by recent judicial decisions on anti-activist pills in the Delaware courts and the Japanese Supreme Court.

In a recent essay, we explore the relevance of the poison pill as it developed under Delaware law (“D-Pill”) and Japan (“J-Pill”) at this moment of great introspection about the role of corporations in society. We use the poison pill as a mirror, reflecting the evolution of corporate law, markets and norms in the two countries. We begin by tracing the separate origins of the D- and J-Pills, showing how three key differences between them derive from some fundamental differences in corporate law and governance. First, while the board has sole discretion (subject to its fiduciary duties) to adopt and exercise the D-Pill without shareholder approval, judicial rulings and market practice contemplate approval of the J-Pill by shareholders.[1] Second, while the D-Pill is a legal instrument, the J-Pill is an informal public “warning” to prospective bidders that their ownership beyond a stated threshold may be diluted by the board’s issuance of stock options to shareholders. Third, in Japan, the theoretical justification for use of the poison pill is grounded in the broad concept of protection of “corporate value”[2] rather than the board’s fiduciary duty to protect shareholders and promote shareholder value under Delaware law.

Developments in the early 2010s exposed great differences in the potency of the J- and D-Pills. The J-Pill experienced a near death, as many companies withdrew defensive measures in the still-quiescent domestic market for corporate control. The number of listed companies with defensive measures peaked at 574 in August 2008 and fell to 387 in October 2018.[3] Arguing that the J-Pill is unnecessary and ineffective as a defensive measure, as well as costly to maintain in the face of institutional investor resistance, the decline prompted a group of commentators to conclude that “Japan’s ‘poison pill’ … is heading toward extinction.”[4]

By contrast, nearly contemporaneously, the D-Pill reached the apogee of its potency – particularly in combination with a staggered board – in the Delaware Chancery Court’s famous Airgas decision, in which Chancellor Chandler stated, “As this case demonstrates, in order to have any effectiveness, pills do not – and cannot – have a set expiration date.”[5] A Wachtell Lipton client memo celebrating the decision triumphantly declared, “The poison pill lives.”[6]

Market developments and shifting corporate governance norms in the United States and Japan over the past decade have prompted a re-evaluation of the function of the poison pill in the two countries, reinvigorating scholarly debates about its role in an era of global shareholder activism and ESG concerns. In the United States, there has been a steady shift from hostile takeovers seeking outright control of a target company to activist interventions by hedge funds challenging incumbent management’s financial and strategic direction. The pill is evolving in response to this market shift, with the increasing prevalence of anti-activist features, such as low share-ownership triggers and acting-in-concert provisions that broaden the definition of beneficial ownership in determining whether a shareholder has crossed the threshold. The Williams Companies decision[7] in 2021 indicated that the Delaware judiciary will view unusual features of a pill directed at shareholder activism with considerable skepticism.

Meanwhile, developments in Japanese corporate governance that percolated for nearly two decades recently culminated in a market that has substantially increased the relevance of the pill. Foreign institutions hold about 30 percent of the Tokyo stock market by market capitalization, and many high-quality small- and medium-sized firms trade below book value. Japanese listed companies have thus become more vulnerable to hostile takeovers and activist campaigns. Several entirely domestic hostile takeovers have succeeded in recent years, while foreign and domestic activists are making use of Japan’s shareholder-friendly company law to challenge incumbent management. In 2020, Japan was home to the second largest number of activist campaigns (66) after the United States.[8]

This market activity is increasingly generating litigation, an additional sign of change in Japanese corporate governance norms. A Japanese Supreme Court decision in 2021 is the most significant and potentially troubling from a doctrinal standpoint.[9] In that case, the board of Tokyo Kikai, a small-cap printing machine company listed on the Tokyo Stock Exchange, responded to the rapid accumulation of shares by a foreign investment fund by obtaining approval from a majority-of-the minority shareholders (MoM) for the adoption of an option plan that discriminated against the fund. MoM has never been used for approval of defensive measures in Delaware, and its transplantation into Japanese poison pill doctrine seems problematic, particularly because the version of MoM adopted in the Tokyo Kikai decision is extremely favorable to the target’s board. The use of MoM in this context allows incumbent managers to insulate themselves from capital market pressure and may create incentives to reestablish friendly shareholder ties among listed firms.

In the new era of shareholder activism and ESG considerations in both countries, a measure of convergence between the D- and J-Pill is now conceivable. The precise features of an anti-activist pill that would survive a judicial challenge under Delaware’s takeover jurisprudence is still an open question in the United States. Attention in the U.S. may be turning from the poison pill to a potentially more potent shield against activists seeking board seats – advance notice bylaws – which raise their own issues about managerial attempts to frustrate the exercise of shareholders’ rights. One possible solution to balancing the board’s interest in protecting against wolfpacks (as well as misguided or anti-ESG hedge fund activism) and the legitimate exercise of rights of all shareholders, is to require shareholder approval for anti-activist pills, as is the norm for all poison pills in Japan.[10] Across the Pacific, scholars are asking whether Japanese corporate governance would be improved if boards had independent authority to adopt the J-Pill in some circumstances. And some are suggesting that the primary purpose of the J-Pill should be to protect shareholder value, marking a sea change in Japanese corporate governance norms.

The poison is still relevant after all these years – in its country of origin, and increasingly, in its adopted home of Japan.

ENDNOTES

[1] The principle that the poison pill should be approved by shareholders was subsequently affirmed by the Japanese Supreme Court. Steel Partners v. Bulldog Sauce, 61 Minshu 2215 (Sup. Ct., Aug. 7, 2007).

[2] Soft law guidelines on takeovers jointly promulgated by the Ministry of Economy, Trade and Industry and the Ministry of Justice define “corporate value” as “[a]ttributes of a company, such as assets, earning power, financial soundness, effectiveness, and growth potential, etc., which contribute to the interest of the shareholders.” Guidelines Regarding Takeover Defense for the Purposes of Protection and Enhancement of Corporate Value and Shareholders’ Common Interests, May 27, 2005.

[3] Koh, et al., Land of the Falling “Poison Pill:” Understanding Japanese Defensive Measures on Their Own Terms, 41 U. Pa. J. Int’l L. 687, 688 (2020).

[4] Id.

[5] Air Products v. Airgas, 16 A.3d 48, 129 (Del. Ch. 2011).

[6] Wachtell Client Memo, Delaware Court Reaffirms the Poison Pill and Directors’ Power to Block Inadequate Offers, Feb. 16, 2011.

[7] The Williams Companies Stockholder Litigation, 2021 WL 754593 (Del. Ch. Feb. 26, 2021), aff’d sub nom. Williams Cos. v. Wolosky, 264 A.3d 641 (Del. 2021).

[8] Activist Insight, https://www.activistinsight.com/research/Insightia_ShareholderActivism2020.pdf.

[9] In re Tokyo Kikai, 1641 Kinsho 48 (Sup. Nov. 18, 2021).

[10] A recent study indicates that 30 percent of anti-activist pills in the United States already have a provision requiring shareholder approval. See Ofer Elder, et al., The Rise of Anti-Activist Poison Pills, Working Paper (2022), 34 Figure 1 (D).

This post comes to us from professors Curtis J. Milhaupt at Stanford Law School and Zenichi Shishido at Musashino University. It is based on their recent essay, “The Enduring Relevance of the Poison Pill: A U.S.-Japan Comparative Analysis,” available here.

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