When a management-led group makes a bid for a public company, it raises treacherous conflict-of-interest issues for the board, especially a board with management directors.
“The board has a duty to act on behalf of the shareholders,” said Jim Weisz, a Rutan & Tucker partner in the corporate finance practice in Costa Mesa. “Non-management board members have to negotiate the deal. This can put independent directors in an adversarial position to the management members.”
“It’s OK if you have a nine-member board and three are key management,” said Rick Weiner, an attorney and president of The Busch Firm, Irvine. “But if you have a 10-member board and it’s five-and-five, you’re playing a basketball game with yourself, and that’s no good.”
The board will retain an independent third party, typically an investment banker, to evaluate the management offer and render an opinion on whether it is a fair price.
Meanwhile, the board also must entertain competing offers. This is what has happened with Irvine-based BNC Mortgage Inc.: a management-led group offered $47 million for the firm last month, but New York-based Greenlight Capital Inc. came in a couple of weeks later with a $55 million bid.
All of this “is a big burden on the independent directors,” said Fred Jager of Newport Beach-based Hunter Wise Financial Group LLC.
When a management group’s offer is accepted, a shareholder suit “is almost inevitably going to happen,” said Weisz.
How big a problem that is depends on whether the suit is based on deeply felt concerns or a desire to drive up the price, Weisz said.
“If you have founding shareholders unhappy with the price, then it could drag on for a while,” he said. “If it’s brought by a plaintiff firm, it will settle out quickly.”
In the first case, “the assumption is that the independent directors have cut a deal with management to give a discounted price,” Weisz said.
In the second scenario, he said, typically “the price is announced, the suit occurs, and there’s a negotiation of a somewhat higher price at the time the suit is settled.”
“I wouldn’t say it’s inevitable,” Weisz concluded, “but it’s fairly common.” n
