Private company “poison pill” found unlawful by NC Business Court
By: Daniel K. Tracey
A recent ruling by the North Carolina Business Court may have NC corporations re-thinking their anti-takeover strategy. In the case of First Citizens BancShares, Inc. v. KS Bancorp, Inc., decided on March 21, 2018, the Business Court found that KS Bancorp’s shareholder rights plan (commonly called a “poison pill”) is likely unlawful under North Carolina law pursuant to N.C. Gen. Stat. §§ 55-6-01(a) and 55-6-24(b) and granted a preliminary injunction preventing KS Bancorp from taking any action under its plan while the two banks further proceed on the issue in court.
KS Bancorp’s “Poison Pill”
KS Bancorp, a small, regional bank, is privately owned and its common stock is traded on the open market. In February 2018, the KS Bancorp board adopted a shareholder rights plan in response to inquiries from First Citizens to acquire KS Bancorp and actions by First Citizens to purchase additional KS Bancorp shares on the open market since mid-2017. Pursuant to the rights plan, the KS Bancorp board declared a dividend on each share of KS Bancorp common stock of one “right” to purchase additional shares of KS Bancorp’s common stock at 50% of the then-current market price. The plan also provided KS Bancorp with the option to exchange the outstanding rights for KS Bancorp common stock, at an exchange ratio of one share of common stock per right.
The defensive aspect of the shareholder rights plan provides that if a party acquires beneficial ownership of 15% or more of KS Bancorp’s common stock, the KS Bancorp Board may activate the rights; however, the 15% shareholder’s rights would become null and void. As a result, the 15% shareholder’s ownership percentage would be diluted significantly when the other shareholders either buy common stock at a discount or receive an additional share of common stock for each right.
First Citizens’ Claim and the Court’s Ruling
Following adoption of the shareholder rights plan, First Citizens ceased its efforts to purchase shares of KS Bancorp and brought an action claiming that the rights plan is unlawful under North Carolina law. The North Carolina Business Court granted a preliminary injunction prohibiting KS Bancorp from taking any action under its shareholder rights plan pending full resolution of the claim. The Business Court focused on N.C. Gen. Stat. § 55-6-01(a), which provides that all shares of a particular class of a corporation’s stock must have the same relative rights unless divided into series. The KS Bancorp common stock was not divided into series. The Business Court then reviewed N.C. Gen. Stat. § 55-6-24, which provides that a corporation may issue rights to acquire shares of the corporation and that, in the case of a public corporation, the corporation may limit the exercise of such rights by a holder of a specified number or percentage of the outstanding voting shares of such public corporation (thus expressly allowing public corporations to adopt a “poison pill”). The Business Court determined that (1) the absence of a similar express exception for private corporations indicates that private corporations were not granted the same opportunity to adopt a poison pill and (2) North Carolina law requires both the shares of a single class and the holders of those shares to have the same rights. Thus, because KS Bancorp is not a public corporation, North Carolina law does not allow it to enact a stockholder rights plan.
Would the result have been different for a Delaware corporation?
With relatively few exceptions, Delaware courts have consistently defended a public corporation’s defensive use of a poison pill, provided the poison pill is a proportionate response to specific types of corporate threats that pose a threat to shareholder value (see, e.g. Unocal Corp. v. Mesa Petroleum and City Capital Associates v. Interco Inc.). While there is relatively little guidance on the legality of a private corporation’s poison pill under Delaware law,1 the 2011 case of eBay v. Newmark saw the Delaware Court of Chancery examine a private corporation’s poison pill using an analysis similar to that applied to a public company poison pill – suggesting that the result in the First Citizens case may have played out differently in a Delaware courtroom. Still, private and public Delaware corporations alike should proceed thoughtfully when considering adopting a poison pill.
Takeaway for North Carolina Corporations
Following this ruling, privately owned North Carolina corporations should not try to use a poison pill to defend against hostile takeovers, unless the rights plan and the applicable class of stock are carefully crafted. Other defensive measures, such as a requirement for super-majority shareholder and board approval of any change of control, can provide alternative means for protection.
1 Experts in this field have noted the rarity of a private company adopting a rights plan. See, e.g.,LOU R. KLING & EILEEN T. NUGENT, NEGOTIATED ACQUISITIONS OF COMPANIES, SUBSIDIARIES AND DIVISIONS, § 16.06 n. 1 (2010) ("In theory, there is no reason why a private company, if its shares were sufficiently widely held, could not adopt such a plan. In our experience, this rarely occurs, either because the ownership of such companies is not sufficiently dispersed to make them vulnerable to hostile takeovers or, conversely, because the shareholders do not wish to cede to their boards the ability to control such a powerful defensive weapon if an unsolicited takeover were attempted.") (quoting footnote 95 in eBay v. Newmark, 16 A.3d 1 (Del. Ch. 2010)).
Daniel K. Tracey is an attorney in the M&A Practice Group of Wyrick Robbins Yates & Ponton LLP, which represents clients across a broad range of industries in connection with their significant corporate transactions. The group publishes Practice Briefs periodically as a service to clients and friends. The purpose of this Practice Brief is to provide general information, and it is not intended to provide, and should not be relied upon as, legal advice.