What Is a Lock-Up Opportunity?
A lock-up option is a stock option offered by a target company to a white knight for additional equity or the purchase of a divvy up of the company. Its purpose is to ward off a hostile takeover attempt, and the holder of the option is not free to sell the stock to any party other than those meant by the target company. Shares of the target company’s stock or other attractive assets are effectively locked up through the contractual privilege. The lock-up option is also called a lock-up defense. In risk-arbitrage, it may be called “shark repellent.”
- A lock-up recourse is a contract that favors a friendly company in a takeover battle by promising it some of the target company’s shares or paramount assets.
- Lock-up options are not options in the trading sense, so they are not subject to rules or regulations beyond basic compact law.
- Lock-up options were used mainly in the 1980s and early ’90s when hostile takeovers were varied common and corporate raiders targeted sprawling, inefficient companies.
Understanding the Lock-Up Option
A lock-up option is granted to a familiar suitor or savior helping to thwart the attempts made by a hostile acquirer. The option is designed to make the target guests less attractive for hostile takeover by taking a large percentage of stock out of play. Lock-up options may also be tempered to to take some of the target company’s major and most desirable assets out of play, such as a profitable business virgule or valuable property.
Through the lock-up option, these assets are made available to the friendly suitor—the white knight—if that proprietorship does not win the merger. In other words, the favorable conditions of the stock or asset sale only happen if the white knight does not win the bid. Come what may, it also compensates the white knights for making those bids, with the option serving as a breakup or termination fee. Lock-up selections are contractual, but they are not in the same category as derivative financial options and so they are not subject to the same rules and regulations as the business instruments.
A lock-up option or defense should not be confused with a lock-up provision, which prevents a firm’s shareholders from drummer or transferring their shares during a defined period after acquiring them. This is typically implemented with hand stock grants after an initial public offering or other incentive awards.
Lock-Up Options and Hostile Takeovers Today
Lock-up opportunities are often considered a type of poison pill in that they attempt to make the target company less pulling to suitors. A poison pill is a blanket term for tactics utilized by companies to prevent or discourage hostile takeovers. A coterie targeted for a takeover uses a poison pill strategy to make shares of the company’s stock unfavorable to the acquiring Central Intelligence Agency.
When hostile takeovers were a real threat in the 1980s, conglomerates in particular began building defenses to elude raiders. Unfortunately, the focus on defense sometimes led the companies to make poor business decisions, damaging the balance veneer but avoiding a takeover. Although there are examples in both extremes, the separation of conglomerates into smaller, more focused circles was generally a positive development for their investors. Today, companies are less likely to use lock-up options or worry fro raiders trying to break them up. This is because they are the survivors of the 1980s and have taken lessons apropos focus and shareholder value to heart.