Macaroni Defense

Posted in Finance, Accounting and Economics Terms, Total Reads: 591

Definition: Macaroni Defense

It is one of the defensive tactics adopted by the potential target in the case of a hostile takeover. Under this strategy, the target firm issues huge number of bonds with a condition that they must be redeemed at a very high price in case the control of the firm changes. Thus taking over such a huge debt becomes a burden for the acquiring firm and the deal may no longer seem economically fruitful which makes the acquirer to withdraw its attempt to acquire the target. Thus, the target firm has effectively avoided being taken over by the acquirer using this strategy.

It is called as a Macaroni defence because as in the case of macaroni kept in a pot which expands when things get really hot, the redemption value of the bonds in the case of acquisition is very high that it increases the cost of acquisition several times it won’t be in the best interest of the acquiring firm to go ahead and acquire the target.

As an example, let us assume that a company X is trying to acquire company Y. But the Y’s management and board of directors are not in favour of the deal. This may be because of many reasons such as the deal is not attractive for Y or that Y’s board does not believe that X can run the company successfully and may run into trouble and diluting the brand or the board or management fears that they might be fired. In any such case, the company Y can choose to use the Macaroni strategy. Thus, they may issue bonds worth $50 million which can be redeemed at 200% of its face value. Thus an investor who invested $1000 will have to be paid $2000 which will double the cost of acquisition and hence may discourage the acquirer to proceed with his offer.



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