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Stockholder Votes Put Brakes on Buyouts, Signal Strength in Stockholder Independence

April 26, 2007

In the first month of 2007, stockholders of two Texas-based public companies voted down or publicly opposed buyout proposals unanimously recommended to them by their respective boards of directors.  In both instances, the cash merger consideration represented a substantial premium over the unaffected price of the stock.  However, in both instances, Institutional Shareholder Services, a leading independent voting advisory service, recommended that stockholders reject the offer. 

In late January, stockholders of the private prison management firm, Cornell Companies, Inc. (NYSE:CRN), rejected a $518.6 million offer from private-equity buyer Veritas Capital.  Almost simultaneously, major stockholders of radio-station chain owner Clear Channel Communications Inc. (NYSE:CCN), including T. Rowe Price, Fidelity Investments and Marathon Asset Management, indicated that they would oppose an $18.7 billion offer from a group of private-equity buyers led by Bain Capital LLC and Thomas H. Lee Partners.  In the latter case, the opposition resulted in an increase in the purchase price per share from $37.60 to $39.00, or an overall purchase increase price of nearly $700 million.  The vote on the increased offer is scheduled for May 8, 2007, but the outcome remains in doubt. 

Are these thwarted transactions early signals of a trend toward increased stockholder resistance to sale transactions recommended by their boards? 

The Stockholder/Management Relationship: A Balance of Power 

Just as many political systems provide a separation between the main branches of government, much of modern corporate governance theory and practice is based upon the separation of management and ownership in widely-held corporations.  Checks and balances have been established:  boards of directors have plenary power and authority to oversee operations and pursue strategic initiatives, including the negotiation of certain corporate transactions, while owners (stockholders) are granted limited but powerful rights to approve or reject those transactions. 

Perspective:  The recent flurry of stockholder votes against proposed transactions should not necessarily be interpreted as a rise in stockholder activism or as reflecting an increase in owner-management hostility.  Rather, this trend validates classic governance theory in which the balance of power and responsibility is shared by managers and owners, with the owners as the ultimate arbiters of most major corporate transactions. 

The Board as a "Watchdog" 

In a similar vein, during the fourth quarter of 2006 the board of directors of Cablevision Systems Corp. (NYSE:CVC) engaged in some public sparring with the company's largest stockholder over an $8.9 billion proposal to take the company private.  The Dolan family, owning over 70% of Cablevision's voting shares, had made a series of offers to acquire the company.  A special committee of the Cablevision board rejected the final offer as being "inadequate" and not representing "fair value for the Company's public shareholders" and not "in their best interest." 

Perspective:  While there is an undeniable tsunami of corporate M&A transactions underway, boards and stockholders are continuing to exercise their independent judgment regarding the advisability of these transactions and the fairness of the consideration offered.  Particularly in situations in which there are substantial institutional investors involved, including hedge funds, the acquiescence of stockholders in the recommendation of a board should not be assumed. 

The Role of Voting Advisory Services 

Third party advisors such as Institutional Shareholder Services and Glass Lewis & Co. have become increasingly influential in the mergers and acquisitions industry.  Articulating "best practices" standards for corporate governance and analyzing in intricate detail proposals submitted to stockholders in proxy statements, these voting advisory services are generally seen as honest brokers of information, and their recommendations are assuming increased significance as institutional and other shareholders rely on them for independent assessments of proposed transactions. 

Perspective:  As boards of directors consider merger and acquisition offers, they should anticipate the reaction of independent advisory services to the transaction and the influence that these third parties may have over stockholders.  Particularly in a change of control transaction, to receive the imprimatur of ISS and Glass Lewis, proxy materials must clearly articulate the board's rationale for the transaction and reasons for the recommendation.  In addition, a board anticipating the possibility of a stockholder vote on a corporate matter might consider in advance whether the adoption of corporate governance practices endorsed by ISS and Glass Lewis might have an effect on their recommendation to stockholders regarding the transaction.