Hedge Fund Activism April 7, 2006 Stephen Fraidin

1
Hedge Fund ActivismApril 7, 2006Stephen
Fraidin
KIRKLAND ELLIS LLP
2
Increased Hostile Activity

• Surge in Hostile Activity
• Hostile / Unsolicited Activity as of Total MA
  Volume

3
A. Selected Factors

• Hedge Funds - Over 1 Trillion
• Increased Availability of Other Equity Capital
• Private equity
• Cheap Financing
• Debt financing still relatively cheap based on
  historic standards
• Deleveraging
• Companies have accumulated cash and paid down
  debt - Buyers can use targets assets to finance
  deal
• Increased Disfavor of Takeover Defenses
• Increased corporate governance initiatives have
  discouraged adoption

4
A. Selected Factors (cont.)

• Reluctance of Boards to Reject Deals
• Boards less likely to reject publicly-made
  premium value bids
• Sarbanes-Oxley Twist
• One effect is decreased risk of undisclosed
  accounting irregularities of Target even without
  due diligence
• Outward Focus of Companies
• After years of completing internal reviews,
  cleaning up balance sheet and achieving internal
  efficiencies, companies are more acquisitive and
  are looking for outward growth

5
B. Hedge Fund Activity

• Funds Committed to Hedge Funds (billions,
  approx.)

6
B. Hedge Fund Activity (cont.)

• Number of Hedge Funds (approx.)

7
B. Hedge Fund Activity (cont.)

• Traders Mentality
• Less focused on long-term value appreciation
• More unspoken cross-firm communication
  (conscious parallellism)
• Eye for Value and Arbitrage Opportunities
• Increased Metrics-Based Analysis
• Mastery of Derivative/Hedging Strategies
• Flexing Muscles with MA and Activism
  Opportunities
• Willing to employ hostile bidding techniques (vs.
  many private equity firms that are expressly
  prohibited from hostile activity and vs. mutual
  funds that typically do not engage in this
  activity)
• Competing for attention as define/distinguish
  themselves

8
C. Common Form Hedge Fund Tactics

• Purchase Toehold Position in Target
• Purchase quickly (usually following period of
  poor stock performance)
• Use of derivatives to decrease actual exposure
• Make filings announcing position (potential
  influential role)
• Pressure Management for Near-Term Value Enhancing
  Changes
• Force sales of Target or under-performing
  businesses
• Force monetization of assets
• Force distribution of excess cash to
  shareholders/stock buybacks
• Block pending transactions

9
C. Common Form Hedge Fund Tactics (cont.)

• Other Hedge Funds Accumulate Shares - Conscious
  Parallel Activity
• Force Change of Un-Cooperative Management/Board
• Request removal of takeover defenses to
  facilitate
• Shareholder proposals
• Threaten proxy fight to remove directors
• Use of Press to Sway Other Shareholders to Adopt
  Hedge Funds Strategy
• Note Additional press also helps attract
  publicity/distinguish fund for raising of next
  fund
• General Trend Escalation of Tactics Until
  Achieve Goal

10
D. Examples of Recent Activist Activity

• Blockbuster/Carl Icahn
• Icahn (largest shareholder) objects to management
  of Blockbuster
• Critical of failure to acquire rival Hollywood
  Video
• Critical of CEO Antiocos pay package and other
  uses of funds
• Demands that greater dividends be paid to
  shareholders
• Demands that offers for the company be duly
  considered
• Icahn commences proxy fight
• Dissident slate of directors elected
• Classified board, but can take control of Board
  next year

11
D. Examples of Recent Activist Activity (cont.)

• Kerr-McGee/Carl Icahn and Jana Partners
• Icahn and Jana (collectively 7.6 shareholders)
  want changes at Kerr-McGee
• Divest its chemical business and monetize future
  production
• Use the proceeds to buy back stock
• Icahn and Jana announce proposing slate of
  directors
• Kerr-McGee agrees to divest chemical business and
  commence 4 Billion share repurchase
• In exchange for agreement of Icahn and Jana to
  withdraw dissident slate of directors

12
D. Examples of Recent Activist Activity (cont.)

• Wendys/Pershing Square
• Pershing Square (9.9 shareholder hedge fund)
  wants value-enhancing changes at Wendys
• Spin-off Tim Hortons (Canadian brand)
• Refranchise several Wendys-owned locations
• Repurchase shares with proceeds of refranchising
• Avoid acquisition of Quick Service
• Pershing Square Escalates Public Attention
• Announces intention to make proposals
• Announces retention of Blackstone to evaluate
  strategic transactions for Wendys
• Files letter with rationale for proposals and
  requests meeting
• Ongoing

13
E. Observations - Preparedness

• Activism Can Come in Any Context Most
  Frequently
• Following period of weak stock performance
• When easily monetizable assets or large amounts
  of cash
• In connection with transaction (either as buyer
  or Target)
• Annual meetings or proposals to shareholders
• Swarming Effect of Activist Activity When Comes
• Approach companies when at weakest
  (undervalued/vulnerable)
• Act quickly and together
• Disputes are often made public

14
E. Observations Preparedness (cont.)

• Recent Transactions Have Shown Positioning is
  Helpful to Confront Activists
• Being prepared
• Exposing activist vulnerabilities
• Developing and communicating Board strategy
• Legal challenges to tactics
• Companies Need to Continually Monitor
  Vulnerability
• Evaluate Corporate Governance Posture
• Identify Key Constituencies/Shareholder Base
• Monitor Market Sentiment
• Examples market reaction to news, press, chat
  rooms, etc.
• Develop Communications Plan for Strategy

15
E. Observations Preparedness (cont.)

• Example Consider some Corporate vulnerabilities
  and develop strategy
• Corporate Governance Posture has vulnerabilities
  to proxy fight
• Non-classified board elected by plurality
• Ability of stockholders to call special meeting
• Ability to remove directors and act by written
  consent
• Poison pills generally prevent stock accumulation
  but not proxy fights
• Financial position
• Recently depressed stock performance vs. market
• Large pre-acquisition cash position
• FY2003 and FY2004 restructurings
• Large market capitalization companies and
  technology sector no longer immune from
  shareholder activism/hostile activity/hedge fund
  activity

16
F. Take-Aways

• Significant influence of hedge funds on todays
  MA environment
• Continued role of Board in determining Targets
  long-term strategy
• Need to review vulnerabilities and have
  approaches/defenses ready (particularly in
  transaction context)
• Need to keep eye out for first signs of activity
  given common m.o. of escalating tactics