What is Poison Pill? Why is Southwest Airlines practicing this?

New Delhi: Southwest Airlines implemented a poison pill plan in response to activist efforts by Elliott Management which will be triggered if Elliott, which currently holds approximately 11 per cent stake in Southwest. Or in case, another investor acquires at least 12.5 per cent of the company.

What is poison pill?

Poison pill refers to a defensive technique used by a target firm to avoid or deter an acquiring business from taking the risk of a hostile takeover. Prospective targets use this strategy to make the potential acquirer appear less appealing to them.

Southwest Airlines announcement

On Wednesday, July 3, 2024, Southwest Airlines announced that it has implemented a shareholder rights plan, commonly referred to as a "poison pill," in response to Elliott Management's investment in the company and its efforts to replace CEO Bob Jordan and chairman Gary Kelly.

Following the announcement, Southwest's shares remained flat in pre-market trading.

When can the poison pill be triggered?

The poison pill provision will be triggered if Elliott or another investor acquires at least 12.5% of the company. If this threshold is reached, all other shareholders will have the right to purchase one additional Southwest share for every share they currently hold at a 50% discount.

Elliott revealed in June that it had accumulated a $1.9 billion stake, representing about 11% of Southwest. The activist investor looked down upon and criticized Southwest for underperforming compared to larger rivals that offer more premium services.

According to sources, Elliott and Southwest management met in person two weeks ago.

What is the purpose of poison pill?

The poison pill is intended to dilute Elliott’s influence and voting power. Companies typically adopt such plans in response to activist threats; for example, Hertz adopted a poison pill in 2013 due to unusual trading activity that management believed signaled an activist move.

Southwest explained that the poison pill was partly adopted because Elliott had made antitrust filings that could permit it to increase its stake further.

Why these steps are taken?

The Dallas-based airline has faced challenges including an oversupplied domestic market and delays in receiving new planes from Boeing. Southwest has been under pressure to increase revenue even before Elliott’s involvement and has been considering major changes to its business model, such as introducing seating assignments and premium seating options. Historically, Southwest has been highly successful, generating profits for most of its over five decades of operation.