Opinion

Alison Frankel

Sotheby’s shareholders defend activist investors in suit vs board

Alison Frankel
Apr 2, 2014 20:13 UTC

The heat surrounding so-called activist investors — hedge funds that buy up big chunks of a company’s stock, then leverage their position to mount proxy campaigns or otherwise force boards to change the way the company is managed — could hardly be more intense than it is now. Well, okay, maybe there would be even more controversy if Michael Lewis wrote a book about a genius upstart who defied accepted deal conventions and revolutionized corporate takeover battles. But putting aside the Wall Street tizzy inspired by this week’s publication of Lewis’s new book about high-frequency trading, the deal world’s favorite topic remains activist investors like Carl Icahn, Paul Singer, William Ackman and Dan Loeb.

Just in the last two weeks, Chief Justice Leo Strine of the Delaware Supreme Court published his extraordinary essay on shareholder activism at the Columbia Law Review, the Wall Street Journal did a fabulous story on hedge funds tipping each other off about their targets, and Martin Lipton of Wachtell, Lipton, Rosen & Katz — whose avowed disdain for short-term investors has recently manifested in litigation with Icahn — revealed at the Tulane M&A fest that there are actually a couple of activist funds he respects. (He said he wouldn’t go so far as to say he “likes” them, though.)

A new shareholder derivative complaint against the board of the auction house Sotheby’s is the latest contribution to the furor over activist investors. Two of the most successful shareholder firms in the game, Bernstein Litowitz Berger & Grossmann and Grant & Eisenhofer, filed the class action Tuesday night in Delaware Chancery Court on behalf of St. Louis’s employee pension fund. The suit squarely aligns shareholders with activist investor Loeb and his Third Point hedge fund, which owns nearly 10 percent of Sotheby’s stock and has launched a proxy contest for three board seats at the auction house.

Like Loeb, who brought his own suit against Sotheby’s board last week, shareholders want to invalidate the company’s poison pill, which was apparently enacted in response to Loeb’s stock acquisition and triggers when an activist investor crosses a 10 percent ownership threshold. (One of the purported problems with the pill: It permits passive investors to own up to 20 percent before the pill kicks in so it overtly discriminates against investors like Loeb.)

Shareholders have added an argument that Sotheby’s board members violated their duties when they renewed a debt agreement in which a change of board control triggers default. According to the complaint, that proxy put, as such provisions are known, serves only to scare shareholders from tendering their votes to an activist like Loeb, for fear that he’ll eventually acquire enough board seats to set off the default provision. (Notably, Loeb’s suit focuses only on the poison pill, not the proxy put.)

Strine: Stop shareholder activism from hurting American investors

Alison Frankel
Mar 25, 2014 19:32 UTC

This country’s most important arbiter of corporate law – Chief Justice Leo Strine of the Delaware Supreme Court – believes that shareholder democracy has run amok. In a startling new essay for the Columbia Law Review, “Can We Do Better by Ordinary Investors?” Strine outlines the deleterious long-term effects of subjecting corporate decision-makers to shareholder votes dominated by short-term investors. These ill consequences range, according to Strine, from the outright dollars corporations must spend to educate shareholders about everything they’re entitled to vote on all the way to excessive risk-taking and regulatory corner-cutting by executives and directors worried about delivering quick returns lest they be ousted by shareholders. Strine is deeply worried about a divergence of interests between money managers, who wield the power of shareholder votes, and ordinary investors in their funds, who are typically saving for retirement or their kids’ education. He’s convinced that the entire American economy will suffer unless short-term investors are reined in.

Strine’s diagnosis is interesting enough, though he’s previously written about what he considers to be the cancer of short-term investing. In the new essay, though, he also suggests a cure: eight actual suggestions to restore power to corporate boards and long-term investors (plus a pie-in-the-sky fantasy about changing the U.S. tax code to encourage shareholders to take a long view of their investments). Strine, who calls himself “someone who embraces the incrementalist, pragmatic, liberal tradition of addressing the world as it actually is,” argues that his proposals do not roll back shareholders’ hard-won rights to a voice in corporate affairs. Instead, he says, he’s “trying to create a system for use of those rights that is more beneficial to the creation of durable wealth for them and for society as a whole.”

The proposals make Strine’s paper indispensable reading if you run a corporation or advise corporate decision-makers. Even if you’re put off by his somewhat tedious rhetorical device of styling the essay as a response to Harvard Law professor Lucien Bebchuk – who advocates relentlessly for expanding shareholders’ franchise and apparently plays Dungeons & Dragons – or by the 154 dense footnotes in Strine’s 54-page article, you should take a look at his suggestions, which begin on page 29. Strine has done more thinking, reading and writing about the real-world consequences of shareholder power than anyone I can think of. He spent 16 years, after all, as a judge in Delaware Chancery Court, three of them as chancellor, before ascending to the Supreme Court this year. And based on those 154 footnotes, Strine seems to have devoted most of his time off of the bench to reading academic papers on corporate governance and shareholder rights. (Or, at least, whatever he could spare from keeping abreast of pop culture.)

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