Hedge Funds |
In Trying to Save Darden,
a Board Sealed Its Own Demise
Steven Davidoff Solomon
30, 2014 6:45 pm
futile nobility seem mostly confined to the movies these days. And yet the
directors of Darden Restaurants, the owner of Olive Garden and other
quintessentially American restaurant chains, may have decided that they
would rather commit corporate suicide than give in to the demands of two
activist shareholders, Starboard Value and the Barington Capital Group. It
would be touching if it didn’t appear to be so inexplicably foolish.
For almost a
year, Darden has paid a steep price for refusing to meet Starboard and
Barington’s sometimes shifting demands. Clarence Otis Jr., Darden’s chief
executive and chairman, announced in July he was resigning, eight of
Darden’s directors have agreed to step down, and the four remaining board
members are engaged in an uphill contest to keep their seats. Against this
onslaught, the Darden directors, who once refused to speak to the
shareholder activists, have been reduced to pleading with Starboard to
negotiate a face-saving resolution.
One has to
wonder how the Darden board allowed the situation to get to this point.
Starboard announced that it had taken a 5.6 percent position in Darden a few
months after Barington announced its 2.8 percent stake. Starboard proposed
spinning off Olive Garden, Red Lobster and LongHorn Steakhouse into a
company separate from Darden’s higher-growth chains like Capital Grille. It
also suggested the usual dash of corporate reorganization because of the
company’s poor results.
nothing unusual about this; shareholder activists love to propose spinoffs
as a way to earn a quick buck. But Darden and Mr. Otis had performed well
until the financial crisis. The company had only recently begun to
underperform while being accused of overpaying its executives.
there was room for compromise, familiar terrain for companies dealing with
the increasing prevalence of shareholder activists.
also has a history of not appreciating criticism, to put it politely. Mr.
Otis, for example, has been accused of barring analysts who were overly
negative in their views from participating in future Darden events.
was that Darden’s board initially tried to ignore the activists, refusing to
speak to them. The company also adopted a host of unfriendly measures to
fight off the activists, including bylaws intended to inhibit shareholder
nominations of new directors.
the Darden board’s most controversial move was to propose spinning off Red
Lobster, but not Olive Garden, as a stand-alone company.
led by Starboard protested this maneuver, arguing that it would sacrifice
value by leaving Red Lobster too small to survive while failing to
capitalize on its real estate. Fifty-seven percent of Darden’s shareholders
called a special meeting to vote on the Red Lobster spinoff. It would not
take a rocket scientist to figure out that if those shareholders made the
effort to call for such a meeting, they most likely did not favor the idea.
It was at
this point that the Darden directors may have drunk their metaphorical
shareholder meeting on the spinoff, Darden’s board agreed abruptly in May to
sell Red Lobster for $2.1 billion to Golden Gate Capital.
This was a
stick in the eye for shareholders. In a situation that seemed ripe for
compromise, the sale of Red Lobster only infuriated the protesting Darden
shareholders led by Starboard. Starboard complained that the deal was at a
fire sale price because $1.5 billion of the value was for Red Lobster’s real
estate, thus valuing the nation’s pre-eminent fast seafood chain at only
$600 million with a tax bill that was $500 million. Starboard has asserted
that after payments related to debt, the proceeds from the actual Red
Lobster business were only $21 million, a fact that Darden heatedly
prompted Starboard to try to replace all of Darden’s directors.
board has been on the appeasement trail ever since, overhauling corporate
governance, appearing to push out Mr. Otis and then desperately pleading
with Starboard to negotiate while offering it four seats and proposing to
add four new independent directors for a fresh perspective. The company’s
argument has essentially devolved into one that says, “We don’t want too
much change at Darden, so please keep at least four of us.” It’s not the
best defense, frankly, to say that the reason you should stay is because you
is why the Darden board would sell Red Lobster so rashly, knowing there was
a strong possibility it would end up in the mess it finds itself in right
now. After all, the board was aware that a majority of Darden’s shareholders
most likely opposed the sale.
last few months, I have spoken to several people close to Darden. They tell
a uniform tale: The board felt that Red Lobster was a melting ice cube and
that if it didn’t sell quickly, it would not get a good price. Moreover, the
directors felt that the board’s fiduciary duties required them to sell Red
Lobster at the time. Darden also tried to make the sale contingent on
shareholder approval, but Golden Gate, as might be expected, refused, so
nothing more could be done.
spent a lot of money on advisers with stellar reputations, including Goldman
Sachs for financial advice and the law firm Wachtell Lipton Rosen & Katz for
legal advice. But the directors’ justification is still puzzling to me.
that a board is forced to sell something because of fiduciary duties may be
warranted, but that would mean no alternatives existed, like in the sale of
Bear Stearns to JPMorgan Chase. That was the only option for Bear Stearns to
corporate law, the sale of an asset like Red Lobster is the board’s
decision, and it has wide latitude to sell or not. I certainly know of no
case that would support the Darden board’s contention that it had no choice.
In fact, one of the seminal cases in corporate law involves the sale of the
TransUnion Corporation in the 1980s to the Pritzkers. In that case, the
lawyer for TransUnion told the directors that if they refused to agree to
the sale, they could be held personally liable for passing up on the bid. A
court found the directors personally liable for following that lawyer’s
advice. Since then, lawyers have been careful to avoid this type of
know what was discussed in the Darden boardroom, but one hopes it wasn’t
phrased the way the directors seem to say it was. We will most likely never
know what caused the board to take this inexplicable path, particularly
because anyone who has watched the shareholder movement over the last few
years could have predicted an all-consuming shareholder backlash.
for a comment, a representative of Darden pointed me to a previous statement
that the decision to sell was about maximizing value. “After careful
evaluation,” the statement said, “the board was certain that halting a
robust Red Lobster sale process midcourse would have negative consequences
for the value” received for Red Lobster.
event, it doesn’t appear from the evidence that Red Lobster needed to be
sold immediately. Institutional Shareholder Services, the big proxy advisory
firm, called the Red Lobster sale “very close to a giveaway.” The Darden
board has also not benefited from the fact that Red Lobster’s management
said in a document prepared by Red Lobster’s buyer related to the financing
of the acquisition
that it believed that the chain’s
problems “are temporary in nature.”
battle with Darden, Starboard, whose stake is now at 8.8 percent, seems to
have momentum. I.S.S. and the other main proxy adviser, Glass Lewis, have
taken the unusual step of recommending that all of the directors be thrown
out at the shareholder meeting, which is scheduled for Monday.
last-minute, face-saving compromise, the likelihood of a full-scale ouster
raises the glaring question: Why would the board pointlessly and perhaps
foolishly invite its own demise?
Steven Davidoff Solomon, a professor of law at
the University of California, Berkeley, is the author of “Gods
at War: Shotgun Takeovers, Government by Deal and the Private Equity
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