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Definition: Freeze Out
Also referred to as Squeeze Out, a freeze out is an action taken against the minority shareholders to part with their share position with the company. The minority shareholders usually get cash compensation for loss of their equity with the company.
This is one of the procedures followed for a merger of two firms. Though leveraged buyout (LBO) is another option where the price for the merger is financed by debt, freeze out merger is preferred. As the acquiring company “freezes out” the non- voting (i.e. minority) shareholders from obtaining the gains of the original company, it is called a Freeze Out merger.
The process is as follows:
The acquiring company which is a wholly owned company, say X inc, forms a new corporation, say X1 inc. The corporation, X1 inc, wants to merge with Y inc, which is a publicly owned company. As the board of directors of Y inc agree to this merger, X1 inc votes in favor of the merger. The minority shareholders in Y inc are given cash compensation or debt securities for their shares. Therefore, the merger process takes place successfully merging Y inc. into X inc.
This effectively means that the controlling shareholder (i.e. the acquiring company) bid for the remaining minority shares in the company and this transaction is termed as a “Freeze Out”.
Advantage over an LBO:
Full cash payments are not required as in a LBO. Instead, the minority shareholders of the company to be merged can be compensated by offering shares in the new merged company
The Freezing Out of minority shareholders can either be with approval or by force. Hence, sometimes, this process is considered illegal.
In UK, the law states that the takeover company which has already 90% of the shares can opt for a freeze out. The law also states that minority shareholders can rightfully ask the company about their stakes.