The following article is adapted and reprinted from the M&A Tax Report, Vol. 10, No. 9, April 2002, Panel Publishers, New York, NY.


By Robert W. Wood

Poison pills seem to be in the news again with several notable examples. WorldCom, Inc. recently adopted such a plan, quickly saying that it was doing so even though it wasn't aware of any takeover attempts. WorldCom apparently had one or more poison pill plan in the past. The most recent plan expired last Fall. Bear in mind that WorldCom stock was as high as $64.50 in 1999, but the stock recently has been below the $10 mark. Maybe that low stock price is causing fears, since WorldCom accompanied its pill plan adoption with the notion that someone might try to snap up this "undervalued" company. See Young, "WorldCom, Inc. Renews Expired Poison-Pill Plan," Wall Street Journal, March 11, 2002, p. B5. This particular pill plan would work by quickly diluting the stake of any shareholder who bought a stake larger than 15% or launched a tender offer without the approval of a majority of board members who are not company executives.

Another pill plan in the news concerns ImClone Systems, Inc., the biotechnology company. Dreaded financier Carl Ichan is reportedly looking to buy a sizable chunk of ImClone. Not to be outdone without a fight, ImClone quickly installed a poison pill plan to make it prohibitively expensive for an unsolicited bidder to acquire more than 15% of the company's stock. Again, a low share price is certainly an issue, too. See Sidel, "ImClone Sets 'Poison Pill' as Ichan Weighs Big Buy," Wall Street Journal, Feb. 19, 2002, p. B4.

Tax Effects

The tax status of poison pill plans was much debated until Revenue Ruling 90-11, 1990-1 C.B. 10. There, the IRS ruled that contingent rights awarded under poison pill plans do not create income. The typical poison pill plan awards rights to existing shareholders that are contingent upon a tender offer or acquisition. Under the facts there present, the ruling finds that the rights awarded to shareholders are not income. Furthermore, the ruling concluded that a plan of this nature does not constitute an option for purposes of Section 382.

Revenue Ruling 90-11 does not address poison pill plans in general, but only the specific plan considered in the ruling. The test for whether a pill plan will have no tax effects (as indicated in Revenue Ruling 90-11), is whether the rights in the plan at issue are "similar" to those in the plan described in Revenue Ruling 90-11. Rights are "similar" if the principal purpose for adopting the plan is to establish a mechanism by which a publicly-held corporation can provide shareholders with rights to purchase stock at substantially less than fair market value as a means of responding to unsolicited offers to acquire the corporation.

Perhaps this will be an easy test to meet in virtually every case. After all, that is surely what poison pills are about. It should typically be easy to establish that the principal purpose of a plan is to provide rights to public shareholders to buy stock at a discount, as a means of defeating the hostile bidder. However, in determining that the adoption of the poison pill plan will not constitute a distribution, exchange or other taxable event to the company or its shareholders, Revenue Ruling 90-11 does not address the need for similarity to the model plan described in the ruling.

There will probably always be new defensive measures created, and ultimately some will be tested in the courts. What seems odd is that there has been virtually no discussion in the professional literature about the tax treatment of pill plans, apart from the initial wave of interest in the wake of Revenue Ruling 90-11. In the meantime, tax advisors should give at least some thought to the tax impact of pill plans, even though pill plans are virtually always adopted (or amended) in the heat of a takeover battle.

More Poison Pills, Vol. 10, No. 9, The M&A Tax Report (April 2002), p. 4.