Poison Pill Deep Dive Series:
Triggering Percentage

The fourth of a six-part series examining six specific and evolving rights plan provisions.

As discussed in greater detail in some of our prior articles,[1] a shareholder rights plan is a protective measure used by a public company to deter (though not necessarily prevent) a stockholder from exceeding a specified ownership percentage without prior approval from the company’s board.

We have prepared a series of articles on some of the interesting and evolving features of rights plans and the various considerations that go along with them. This article is the fourth in the series and focuses on the ownership percentage that, if exceeded by a stockholder without board approval, triggers the dilutive effect of the rights plan.

Triggering Percentage

Every rights plan sets a triggering percentage. If a stockholder acquires beneficial ownership[2] of a number of company common shares that exceeds the triggering percentage, the rights plan is triggered, and the acquiring stockholder’s ownership is significantly diluted.

Although the triggering percentage chosen will depend on a company’s specific situation and the threat being addressed, most rights plans have triggering percentages ranging from 5% to 20%.[3]

Below are some considerations that should be taken into account when setting the triggering percentage:

• Percentage: Traditionally, the triggering percentage was set at 15% or 20% for all stockholders. This allowed stockholders flexibility to acquire a significant number of shares while limiting the risk of any stockholder or group of stockholders acquiring control. Notably, the 15% triggering percentage corresponds with the ownership percentage that would cause a stockholder to be an “interested stockholder” under Delaware’s anti-takeover statute (Section 203 of the Delaware General Corporation Law). This triggering percentage has been the dominant percentage in rights plans for decades on the basis that the Delaware legislature endorsed it as the ownership percentage that raises a threat sufficient to trigger the state anti-takeover statute.

More recently, however, many companies are setting the triggering percentage at 10%, particularly to address a threat posed by an activist investor. An activist investor will typically acquire a smaller stake in a company and then use that stake, on its own or with other activist investors, to push for major corporate change. Activists won’t typically seek ownership percentages of 15% or more.

• Bifurcated Triggers: Some rights plans bifurcate the trigger, setting a higher triggering percentage for passive investors[4] (e.g., Schedule 13G filers) and a lower, general triggering percentage. If the general triggering percentage is set below 15%, most recent plans bifurcate the trigger, with the higher triggering percentage typically being set at 20%. Delaware courts have approved bifurcated triggers in certain circumstances (see Third Point LLC v. Ruprecht,[5] where the rights plan imposed a 20% triggering percentage on passive investors and a 10% triggering percentage on others).

Although less common, instead of setting a triggering percentage for passive investors, some plans exempt them from the rights plan altogether as long as they remain passive. In this case, the definition of passive investor will typically be narrower and be limited to persons that have filed a Schedule 13G pursuant to the requirements of Rule 13d-1(b) (i.e., a “qualified institutional investor”) or Rule 13d-1(c) (i.e., a “passive investor” that is not a beneficial owner of 20% or more of the issuer’s shares). Given these requirements, this exemption results in qualified institutional investors having no triggering percentage and other passive investors having a 20% triggering percentage.

Of the 47 rights plans adopted since March 1, 2020,[6] more than half bifurcated the triggering percentage.[7]

• Tailored to Specific Threat: When setting the triggering percentage, the company should consider the specific threat being addressed by the rights plan.

For example, if the company is facing a hostile takeover, a rights plan with a triggering percentage of 15% or 20% may be appropriate, as the acquiror’s objective would typically be to buy 100% of the company, or at least a controlling interest. In this case, a higher triggering percentage will still serve the rights plan’s purpose by forcing the strategic acquiror to negotiate with the board (unless the acquiror is successful in conducting a proxy contest to replace the board).

However, if the company is facing a threat by an activist investor, a rights plan with a bifurcated trigger of 10% in general and 20% for passive investors may make sense because activist investors often try to exert influence on a company through smaller stakes and are not necessarily seeking ownership of a large block.

• Lower Percentage; More Scrutiny. The lower the company sets the rights plan’s triggering percentage, the more susceptible it is to stockholder scrutiny. For example, after The Williams Companies adopted a rights plan (which was not an NOL plan) with a 5% triggering percentage, ISS recommended voting “against” the company’s board chair and “cautionary support” for all of its other directors, finding the 5% triggering percentage as “highly restrictive.”[8] About 1/3 of the shares that were voted at the company’s annual meeting were voted against the chair.[9]

[1] For more background, see our client alerts, “Protecting Against Opportunistic Acquisitions and Activism – Considering a Stockholder Rights Plan,” “Poison Pill Deep Dive Series: The Inadvertent Triggering Exception,” “Poison Pill Deep Dive Series: Grandfathering Existing Stockholders” and “Poison Pill Deep Dive Series: Acting in Concert.”

[2] Beneficial ownership is defined in the rights plan, typically including, first, “beneficial ownership” within the meaning of Rule 13d-3 of the Securities Exchange Act of 1934 (the “Exchange Act”). This covers securities over which a person has voting power or investment power, which includes the right to dispose, whether pursuant to any agreement, arrangement or understanding or otherwise. A rights plan typically expands the Exchange Act definition by including securities subject to such powers even if subject to certain conditions. The definition often also includes (i) securities underlying derivative contracts beneficially owned by a counterparty, and (ii) securities owned by persons who have an agreement, arrangement or understanding for the purpose of acquiring, holding, voting or disposing of such securities. As discussed in our prior alert, recent rights plans also often include securities owned by other persons who have an agreement, arrangement or understanding for obtaining, changing or influencing control of the issuer.

[3] Rights plans designed to protect a company’s ability to use net operating losses (“NOLs”) will have a triggering percentage of 4.9%. The triggering percentage is set at this lower level because a company’s ability to use its NOLs will be negatively affected if it undergoes an “ownership change,” which occurs when the percentage of its stock owned by one or more stockholders who directly or indirectly owns more than 5% of the company’s stock increases by more than 50% within a 3-year period.

[4] Typically, a “passive investor” or “passive institutional investor” is defined as a stockholder who reported or is required to report its beneficial ownership of a company on Schedule 13G under the Exchange Act, but only so long as the stockholder (i) is eligible to report such ownership on Schedule 13G and (ii) has not reported and is not required to report such ownership on Schedule 13D. If, at any time, a passive investor no longer qualifies as such, the formerly passive investor will need to quickly sell down its stake below the general triggering percentage (typically within 10 days of no longer qualifying as a passive investor). Otherwise, the formerly passive investor will become an acquiring person under the rights plan.

[5] C.A. No. 9469-VCP (Del. Ch. May 2, 2014).

[6] This data set excludes NOL rights plans.

[7] Deal Point Data.

[8] Glass Lewis did not recommend voting against The Williams Companies’ directors.

[9] Some states other than Delaware have enacted rights plan endorsement statutes. These statutes give the board wide latitude in selecting the plan’s terms, including the triggering percentage.