What is Greenmail?
Greenmail involves the substantial purchase of a company’s shares with an intention to threaten it with a hostile takeover — unless the company repurchases the shares at a premium.
The term is a spin on the word blackmail as they share some similarities. Much like blackmail, it involves paying ransom to an entity that has leverage over the target entity, to prevent an unwanted outcome.
Greenmail today is slightly different than it was in the 1980s. According to a post on the Harvard Law School Forum on Corporate Governance, instead of a takeover threat, greenmailers would threaten a proxy contest that would result in major corporate change.
How does an investor greenmail a company?
There are 3 steps involved in greenmail:
- Accumulation: A corporate raider accumulates a company’s stock by purchasing it from the open market until a substantial stake is obtained.
- Threat: The raider threatens to take over the target company and also offers an easier way out if the company purchases the stake at a premium price. If the target company buys the stake at a premium, the raider contractually agrees to stop interfering with the company’s affairs.
- Profit: The target company repurchases the shares at a significant premium. The greenmailer pockets a large profit, reducing the company’s value.
Real-world examples of greenmail
Greenmail was at its peak during the 1980s, destroying shareholder value worth billions of dollars. Here are two noteworthy examples of greenmail from the 1980s.
Sir James Goldsmith and Goodyear Tire & Rubber Co.
Sir James Goldsmith owned 11.5% of Goodyear Company’s stock in 1986 that, on average, cost him $42.20 a share. Goldsmith threatened to take over unless Goodyear bought his entire stake at $49.50 a share. Goodyear accepted the proposal and also bought back 40M shares from other shareholders at $50 per share to prevent the recurrence of such threats.
Carl Icahn and Saxon Industries
Carl Icahn bought a 9.9% stake in Saxon industries in 1979 at $7.21 per share. Saxon industries, in a bid to keep Icahn from becoming a significant shareholder, offered to repurchase his stake at $10.50 per share in February 1980.
Defense mechanisms against greenmail
Greenmail is significantly less common today than it was during the 1980s. However, some companies proactively devise strategies to protect themselves against greenmail. The following are some defense mechanisms that can deter a greenmailer.
Statutes and taxes
Some US states have introduced statutes that prohibit companies from making greenmail payments. New York corporations, for instance, are not allowed to buy back more than 10% of stock from any shareholder at above the market price if it has not been authorized by a majority of the shareholders.
Additionally, the Internal Revenue Service collects a 50% excise tax through Section 5881 on profits arising out of greenmail. While this makes greenmail far less profitable, the excise tax is easily avoided due to a narrow definition of greenmail.
An anti-greenmail provision is a provision in a corporation’s charter that forbids the approval of greenmail payments by the board of directors. This deters a raider hoping to make some easy cash from targeting a company.
Poison pills aren’t usually the first line of defense, and they are not guaranteed to work. However, they have proven to be effective in some cases. Poison pills can either be a flip-in poison pill or a flip-over poison pill.
A flip-in poison pill involves offering new shares to shareholders, excluding the raider, at a deep discount to dilute the raider’s stake. On the contrary, a flip-over poison pill allows shareholders of the target company to buy shares of the acquiring company at a significant discount, thereby devaluing its stock.
A supermajority amendment is an amendment to the corporate charter of a company requiring approval of a large majority of shareholders (i.e., 67%–90%) before any important changes can take effect (such as a merger.)
A golden parachute is an employment contract that offers key management personnel substantial benefits if their employment is terminated following a merger or acquisition, which makes a hostile takeover less attractive for the acquirer.
Greenmail does not always involve takeover threats; sometimes, a greenmailer may use the threat of a proxy contest that could result in a major corporate change.
Since the 1980s, the IRS has added a 50% excise tax on greenmail profits, but it’s still easy for greenmailers to work around the provisions and avoid the tax. Therefore, it’s in a company’s best interests to have a defense mechanism that restricts activist investors’ ability to greenmail.