Tender Offer: Definition, How It Works & Example

As a startup founder, you might already know that the path to liquidity can often be longer than anticipated. With IPOs or Mergers and Acquisitions (M&As) potentially years away, your employees and early investors may find themselves holding onto ‘paper’ wealth in the form of stock options or company shares. This wealth represents a future investment that lacks immediate tangible value for the holders.

This is where tender offers come into the picture as an opportunity for investors and shareholders to cash out immediately instead of waiting for several years. While IPOs and other exit scenarios are often the focus when it comes to liquidity events, tender offers are an equally important part of the conversation. In fact, such offers are becoming common among later-stage startups, presenting a viable liquidity path that was earlier unavailable.

This blog explores the key facets of a tender offer, including its workings, different types, tax treatment, benefits, challenges, and more. Read on.

What is a Tender Offer?

A tender offer is a formal proposal from an individual, a group, or a company to buy a substantial number of shares or securities from the shareholders of the company. This offer is usually made at a price higher than the current market price, providing an incentive for shareholders to sell their shares. 

Tender offers are open for a limited time, allowing each shareholder the opportunity to decide independently whether to sell their shares at the proposed price. Due to their serious implications, tender offers are subject to rules and regulations of the US Securities and Exchange Commission (SEC).

Tender offers also have a major impact on the market as they can lead to increased market activity and volatility when investors react to the news. This can cause fluctuations in the share price of both the companies involved and other companies in the same industry.

How Does a Tender Offer Work?

Here’s a step-by-step breakdown of how a tender offer typically works:

• Announcement: The process begins when the bidder or offeror publicly announces its intention to make a tender offer. This announcement is a clear signal to the market about the intention to acquire a significant stake in the target company.
• Offer Terms: Once the intention is announced, the bidder communicates the detailed terms of the offer to the shareholders of the target company. These terms include the offer price, the number of shares sought, and the timeframe for the offer.

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• Regulatory Filings: To ensure compliance with legal requirements, the offeror makes necessary filings with regulatory bodies. These filings provide transparency and protect the interests of the shareholders of the target company.
• Shareholder Response: After receiving the offer terms, the shareholders of the target company have a decision to make. They must decide whether to accept or reject the offer based on the terms and their own interests. This decision is often influenced by factors such as the offer price, the perceived future value of the shares, and the strategic implications of the offer.
• Completion: If enough shares are tendered in response to the offer, the transaction is completed. The offeror acquires the shares and pays the agreed-upon price to the shareholders who accept the offer.

Eligibility for a Tender Offer

When it comes to participating in a tender offer, there are specific criteria that both companies and shareholders must meet.

Companies

Any company, whether publicly listed or private, can initiate a tender offer to gain control over another company by acquiring a significant number of shares. This is generally done with the intent to influence management decisions, strategic direction, or consolidate market presence.

However, it is not as simple as just announcing the offer. There are certain criteria that a company must meet to initiate a tender offer. These criteria, often referred to as the Wellman test, include:

• The company actively seeks security holders to acquire the company’s securities.
• The offer depends on receiving a specific number of securities through the tender.
• Solicitation is made for a substantial percentage of a company’s securities.
• An offer to purchase the securities at a premium over the prevailing market price.
• The security holders are not subjected to pressure to sell their securities.
• The offer is open only for a limited period.
• The conditions of the offer are set and are not open to negotiation.
• The transaction is publicly announced before or at the same time as a rapid collection of a large number of the relevant securities.

Shareholders

Shareholders, including employees and early investors, are typically eligible to participate in a tender offer. However, companies often set specific qualifying criteria for participation. For example, some companies may only permit shareholders to participate if they have used their stock options and kept the resulting stock for a minimum of six months. 

It is important to note that the specifics of these criteria can vary based on the circumstances and the regulatory environment.

Tender Offer Examples

To better understand the concept of a tender offer, let’s look at examples involving well-known companies:

• Microsoft’s Acquisition of LinkedIn (2016): One of the largest tech deals made via a tender offer was Microsoft’s acquisition of LinkedIn, valued at $26.2 billion. Microsoft offered LinkedIn shareholders $196 per share, a % premium over the company’s prevailing market value. The deal was notable not only for its sheer size but also for its strategic importance to Microsoft’s enterprise services ecosystem. The offer was friendly, meaning LinkedIn’s board was in agreement, thereby speeding up the acquisition process. 
• Tender Offer for Macy’s (2023): An investing group made a tender offer in December 2023 to purchase all outstanding common stock of struggling retail department store Macy’s for $5.8 billion. The offer price was $21 per share, a 32% premium over the current market price. The investment group comprised Arkhouse Management (a real estate investment firm) and Brigade Capital Management (an asset management firm). However, Macy’s rejected the tender offer, saying that they were not interested. 

What are the Different Types of Tender Offers?

Tender offers come in various forms, each serving a unique purpose and offering different benefits and implications for the companies and shareholders involved. Let’s explore three common types of tender offers: share buyback, third-party tender offer, and hostile takeover.

Share Buyback

A share buyback tender offer is a mechanism where a company repurchases its own shares from existing shareholders. Companies often use this kind of tender offer to support the share price, pay surplus cash to shareholders, increase the Earnings per Share (as buyback lowers the number of shares outstanding), and safeguard against a hostile takeover bid. 

The effects of a stock buyback on share prices and shareholder value can vary. Generally, a share buyback can lead to an increase in the share price as the number of shares available in the market decreases. This can enhance shareholder value as the earnings per share increase due to a reduction in the number of outstanding shares.

Third-Party Tender Offer

A third-party tender offer refers to a situation where an entity other than the company itself (the third party) makes a tender offer to the shareholders. This type of tender offer is typically made when the third party seeks to acquire a significant stake in the company. Unlike a share buyback, a third-party tender offer involves the transfer of ownership from the current shareholders to the third party.

An example of when a third-party tender offer might occur is when an investor or another company sees potential value in acquiring a stake in the company. The third-party might believe that the company is undervalued, or they might see strategic benefits in owning a part of the company.

Hostile Takeover

A hostile takeover tender offer is a specific type of third-party tender offer where the offer is made directly to the shareholders, effectively bypassing the board members. This type of tender offer is typically utilized once the board has expressed their strong opposition to the takeover attempt.

A hostile takeover can have significant implications for the target company. If successful, the acquirer gains control of the company, which can lead to changes in the company’s strategic direction. Notable examples of hostile takeovers include the attempted takeover of Yahoo by Microsoft in 2008 and the successful takeover of Cadbury by Kraft Foods in 2010.

What is the Tax Treatment for Tender Offers?

The tax treatment for tender offers can vary based on multiple factors, such as the types of shares involved, how long they have been held, and whether any tax elections have been made.

For the Offering Company

For the company making the tender offer, the tax implications are typically related to the cost of acquiring the shares. The purchase of shares through a tender offer is usually considered a capital investment. Therefore, the cost of the shares is added to the company’s capital base rather than being treated as an immediate tax-deductible expense.

For the Shareholders

For shareholders, the tax implications of participating in a tender offer can be more complex. Usually, shareholders might need to pay capital gains tax on the profit they make from selling their shares. The rate of this tax can depend on several factors, including:

• Holding Period: The tax rate can vary depending on how long the shares have been held. Long-term capital gains rates typically apply to shares held for more than one year, while short-term rates apply to shares held for one year or less.
• Type of Shares: The type of shares can also affect the tax treatment. For example, common shares and preferred shares may be subject to different tax rules.
• Tax Elections: Certain tax elections, such as an 83(b) election, can affect the tax treatment of shares sold in a tender offer.

What are the Rules and Regulations Governing Tender Offers?

Tender offers are governed by a set of rules that are enforced by regulatory bodies like the SEC. Here are the major provisions governing tender offers:

• Disclosure Requirements: Companies initiating a tender offer are required to disclose detailed information about the offer to shareholders and regulatory bodies. This includes the price being offered, any conditions or contingencies attached to the offer, and the duration of the offer period. The aim is to provide shareholders with a clear understanding of the terms and conditions of the offer.
• Filing Requirements: Companies must make necessary filings with regulatory authorities like the SEC. As soon as a tender offer starts, the bidder needs to file a document called a Schedule TO with the SEC. The bidder also needs to share a copy of this document with the target company, any other bidder who has filed a Schedule TO for an ongoing offer, and each national securities exchange where the target company’s securities are traded.
• Timelines: There are specific timelines that must be followed during the tender offer process. A tender offer needs to stay open for at least 20 business days from the start. However, if the conditions of the offer are not met within these 20 business days, the tender offer often doesn’t get completed within this period. Also, after certain significant changes, an offer needs to stay open for at least an additional 10 business days.
• Anti-Fraud Provisions: There are rules set up to stop dishonest actions and make sure everything is clear and open. The Williams Act has certain rules that don’t allow unfair and misleading actions related to tender offers. Every tender offer has to follow these anti-fraud rules and certain process requirements. These requirements include how long the offer has to stay open, how fast the people who have tendered their securities must be paid, and what conditions are needed for a bidder to extend an offer.

How to Prepare Your Company for a Tender Offer?

Here is a step-by-step guide to help prepare your company to navigate the tender offer process effectively:

• Conduct Due Diligence: This involves researching the target company, including its financial health, market position, and potential risks. Due diligence is an important step that helps you collect important details about possible suppliers or vendors. This helps you make smart choices and lessen risks linked to the buying process.
• Engage Advisors: Navigating the complexities of a tender offer can be challenging. Therefore, it’s advisable to engage financial and legal advisors. These experts can offer actionable insights and guidance across different stages of the process. This helps you understand the legal framework of tender offers, evaluate the fairness of the offer, and ensure compliance with regulatory requirements.
• Prepare Documentation: This includes preparing the terms of the offer, regulatory filings, and any other documents required for the tender offer. The documentation should be clear, concise, and in compliance with all relevant laws and regulations.
• Develop a Communication Plan: The communication plan should clearly state what details should be shared, when it should be shared, who should receive it, and how it should be shared. Having a good communication plan will help make sure that your company’s communication goals are achieved and that everything you send out matches your company’s main communication strategy.
• Secure Financing: Before initiating a tender offer, it is important to ensure that the necessary funds are available to complete the transaction. This involves assessing whether your company has sufficient cash on hand or whether there are other effective liability management alternatives.
• Anticipate Challenges: Identifying potential obstacles and planning strategies to address them is a crucial part of the preparation process. This could involve anticipating defensive measures from the target company, understanding the tax implications, and preparing for potential legal or regulatory hurdles.

Benefits and Challenges of a Tender Offer

Here is a comparative analysis of the benefits and challenges of a tender offer to help you make informed decisions about initiating or participating in one.

Benefits

• Debt Reduction: Companies can use tender offers to reduce their debt. By buying back bonds through a tender offer, a company can decrease its debt load and potentially improve its financial health and credit rating.
• Tax Efficiency: In some cases, returning cash to shareholders via a tender offer can be more tax-efficient than paying dividends. This is because the proceeds from a tender offer are generally treated as capital gains, which can have a lower tax rate than ordinary income.
• Market Confidence: A tender offer can signal confidence in the target company’s future prospects. The fact that a company is willing to pay a premium to acquire shares can be seen as a positive sign by the market.
• Efficient Method: Compared to other means of acquisition, a tender offer is often a quicker and direct method. It allows the offering company to bypass the board of directors and make an offer to the shareholders directly.

Challenges

• High Cost: The costs involved in a tender offer are not just limited to the premium paid for the shares but also include SEC filing fees, attorney costs, and fees for other specialized services. These expenses can considerably enhance the overall cost of the transaction.
• Time-Consuming: The process of executing a tender offer can be quite time-consuming. This is due to the various steps involved, such as verifying tendered shares and issuing payments on behalf of the investor. 
• Market Reaction: The announcement of a tender offer can lead to increased market volatility. This can affect the share price of both the offering and target companies. Managing this market reaction and its potential impact on the tender offer can be a significant challenge.
• Element of Uncertainty: There is always a degree of uncertainty involved in a tender offer. For instance, shareholders may be indecisive about whether to accept the offer. If enough shareholders decide not to sell their shares, the tender offer may fail. 

Conclusion

Navigating the intricacies of a tender offer can be a complex process, requiring expert advice and guidance. As a startup founder, you must understand the workings of a tender offer to make informed financial decisions that align with your company’s strategic goals.

At Qapita, we understand the challenges you face and are here to help handle all equity-related matters for your company from inception to IPO. We are rated as the #1 Equity Management Software by G2, and our platform is designed to automate workflows around the equity management process for CapTables, ESOPs, Due Diligence, and Transactions.

When it comes to tender offers, our in-house equity management experts provide all the support and informed insights you need. Whether you are considering initiating a tender offer or preparing to respond to one, our platform and services are designed to guide you through the process.

We offer a platform of record for managing ownership, an efficient equity workflow management, and a structured marketplace to offer liquidity to stakeholders. This means that whether you are on the giving or receiving end of a tender offer, we offer the tools and expertise required to navigate the process effectively.

So why wait? Contact our experts today to learn more about our services.