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Archive for April, 2009

Catalyst Investment Research on Consolidated-Tomoka Land Co (AMEX:CTO)

Posted in Activist Investors, Consolidated-Tomoka Land Co (AMEX:CTO), tagged , on April 9, 2009| Leave a Comment »

Hedge Fund Solutions, which produces The Official Activist Investing Blog, recently announced the launch of a new investment research product, Catalyst Investment Research, which is “dedicated to uncovering undervalued publicly traded companies that could have the potential to generate outsized returns due to an activist investor’s involvement.”

Catalyst Investment Research is a collaboration between Damien J. Park of Hedge Fund Solutions and The Official Activist Investing Blog, and Jonathan Heller, CFA, who writes Cheap Stocks, which was one of the inspirations for this site.

Download a complimentary copy (.pdf) of the recently published Catalyst Investment Research analysis for Consolidated-Tomoka Land Co (AMEX:CTO).

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Tang Capital Partners files proxy statement for VNDA

Posted in Activist Investors, Net Cash Stocks, Stocks, Tang Capital Partners, Vanda Pharmaceuticals Inc (NASDAQ:VNDA), tagged , , , , on April 8, 2009| Leave a Comment »

Tang Capital Partners has filed a preliminary proxy statement for the Vanda Pharmaceuticals Inc. (NASDAQ:VNDA) 2009 Annual Meeting of Stockholders urging stockholders to support Tang Capital Partners’ slate of two director nominees, Kevin C. Tang and Andrew D. Levin, M.D., Ph.D.

We’ve been following VNDA (see our post archive here) because it’s trading below its net cash value and Tang Capital Partners (TCP), has called for the company to “cease operations immediately, liquidate [VNDA]’s assets and distribute all remaining capital to the Stockholders.” The stock is up 16.7% since we initiated the position from $0.78 to close yesterday at $0.91, which gives the company a market capitalization of $24.3M. We estimate the net cash value to be around 75% higher at $42.6M or $1.60 per share. The company is hemorrhaging cash, so the investment turns on TCP’s ability to get control and staunch the bleeding. If TCP cannot get onto the board quickly or at all, the company will continue to burn cash and the investment will be a dud. VNDA has a staggered board, so this will make TCP’s task difficult.

The Background and reasons for the solicitation in the preliminary proxy statement is set out below:

Tang Capital has engaged in discussions with the Company and the Board with regards to the strategic direction of the Company. We believe that in order to maximize value for all stockholders, the Company must cease operations immediately, liquidate the Company’s assets and distribute all remaining capital to the Company’s stockholders.

Since the Company continues to operate as of the date of this Proxy Statement and has not publicly announced any plan of liquidation and dissolution, we believe the Board has rejected our proposal to immediately cease all operations, liquidate the Company’s assets and distribute all remaining capital to the Company’s stockholders. In light of the foregoing, and in order to preserve and maximize the diminishing value of the Company’s assets for the benefit of all stockholders, Tang Capital has nominated Kevin C. Tang and Andrew D. Levin, M.D., Ph.D. for election to the Board at the Annual Meeting and proposed a stockholder resolution to be voted on at the Annual Meeting whereby the stockholders will request that the Company cease operations immediately, liquidate the Company’s assets and distribute all remaining capital to the Company’s stockholders.

On February 13, 2009, Tang Capital delivered a letter (the “Letter”) to the Nominating and Governance Committee of the Company recommending Mr. Tang and Dr. Levin as nominees for election to the Board at the Annual Meeting. On the same date, Tang Capital also delivered a notice (the “Notice”) to the Company of its intention to, among other things, nominate Mr. Tang and Dr. Levin for election to the Board and propose the stockholder resolution described herein.

Since delivery of the Letter and Notice, the Board has failed to engage with Tang Capital in a dialogue on the merits of its recommendations. Tang Capital therefore decided to embark on this solicitation of proxies to elect the Nominees and approve the resolution described herein. See the information under the heading “Proposal 1 – Election of Directors” beginning on page • for additional information about the Nominees. Further, Tang Capital believes that the proposed resolution is the best way for the stockholders to let the Board know what the stockholders consider to be the best direction for the future of the Company in a manner that is quantitative, clear and indisputable.

[Full Disclosure:  We do not have a holding in VNDA. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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5 tips for the next generation of activist investors

Posted in About, Activist Investors, Eric Jackson, Ironfire Capital, Yahoo! (NASDAQ:YHOO), tagged , on April 7, 2009| Leave a Comment »

In an article on his Breakout Performance blog, Activist Investors Sidelined by Brutal Market, Dr. Eric Jackson gives some advice to the next generation of activist investors. Jackson is the founder of Ironfire Capital, an activist fund manager that uses “Internet-based social networking tools to gather information and amplify the impact of current focus campaigns,” and is perhaps best known for his campaign against Yahoo! Inc (NASDAQ:YHOO). Jackson believes that, to be successful, the next generation of activists must do the following:

  1. Hedge, in order to preserve partner capital in the event of terrible years like 2008. The days of long-only are over.
  2. Build a reputation for always doing right for shareholders (especially long-term holders). Some of the “quick fix” activists of the last five years never won the trust of large mutual funds and pension funds, who tend to be the biggest holders of stock of the large-cap companies. As a result, proxy contests failed to win over the support of this important constituency, for fear of how these activists would represent their interests properly.
  3. Focus more on strategy and operations, less on single events. There will always be a place for activist investors to go after a company, advocating they sell a single division, or do a quick dividend to shareholders. However, these situations tend to be more prevalent in small-cap companies. Large-cap companies, by definition, have more complex problems and require more complex solutions. The next generation of top activists will understand this and have deep expertise in their firms on strategy and operations.
  4. Use the tools of the Internet and social networking. In 2007, when I ran a successful activist campaign against Yahoo!, which resulted in unseating Terry Semel as CEO after a large “no” vote at the annual meeting, I owned 96 shares of Yahoo! However, I was able to get my message out to large and small shareholders via my blog, YouTube, wikis, Facebook and Twitter. More than calling attention to my ideas, these social networking tools allowed fellow shareholders to pledge support to my group and encouraged them to suggest additional ideas for how Yahoo! could improve. I was most surprised and pleased with how many existing Yahoo! employees participated. Yet, their interests were perfectly aligned with our groups: We were all stockholders of Yahoo! and wanted to see the stock price go up through needed changes, which the current board and management were not making. The next generation of large activist investors will be masters at using the Internet to conduct their campaigns.
  5. Be more collaborative, less combative with target companies. It will always be necessary to run successful — sometimes nasty — proxy contests against entrenched boards and management. In my opinion, the Yahoo! board, for example, will never respond to a “nice guy” activist approach. It is so entrenched and disconnected from the opinions of shareholders that it would be impossible to reason with them. There’s a time to knock heads. However, some activists only knock heads. They only know how to hit one key on the piano. The next generation of activist investors will be able to play hard ball but tend to be much more collaborative with the board and the CEO — at least at the beginning, until reasonable dialog leads nowhere. Such an approach is also far less expensive than an “all-negative, all-the-time” approach.

Jackson makes an interesting point. A full blown proxy battle is prohibitively expensive for all but the very biggest stockholders (and even then it is an unappetizing prospect if it will materially reduce returns). If regulatory reform makes nominating directors a simpler and cheaper process – which the SEC’s proposed “proxy access” rules do – then the “tools of Internet and social networking” become potent weapons that act to level the playing field for the smaller investor. Such a change could create a new generation of web-savvy micro activists, who control only a handful of shares but understand how to use social networking media to influence boards, much like Jackson does with Ironfire Capital and his blog. But with a small capital base, how does Jackson make the campaign worth his while? In other words, how does he get paid?

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Previous buyback completion rates matter

Posted in About, Catalysts, Share buy-backs, Stocks, tagged , , on April 6, 2009| Leave a Comment »

Empirical Finance Research Blog has a review of a new paper, Repurchases, Reputation, and Returns, which finds that long-run stock returns are higher for companies announcing buybacks that had substantially completed a previous buyback. In other words, companies with a track record for following through on announced buybacks enjoy higher returns following a subsequent buyback announcement than companies that did not follow through on a previously announced buyback. While that might seem obvious, the paper makes two observations that we find particularly interesting in the context of our investment strategy:

  1. Past buyback completion rates are predictive of future buyback completion rates.
  2. Stocks with high completion rates but low stock returns following previous buybacks enjoy abnormally large returns following a subsequent buyback announcement.

It’s worth remembering that a buyback announcement does not bind a company to undertake a buyback, a situation we encountered recently: RACK suspends buyback and enters agreement to acquire Silicon Graphics; Greenbackd exits position. Companies frequently fail to follow through on announced repurchase plans. Empirical Finance Research cites a 1998 study by Stephens and Weisbach that found that firms on average repurchase only about 80% of the sum announced.

Empirical Finance Research summarizes the paper as follows:

This author measures the level of completion of previous buybacks, as measured by the shares bought as a fraction of the amount specified in the announcement, then uses this to explain how well various stocks do after subsequent buyback announcements. What she finds is that companies that had low completion rates on a previous share buyback experience much lower returns upon the announcement of another buyback. She interprets this as evidence of the company’s credibility, that investors don’t really believe a company about a share buyback when the company has failed to complete one in the past.

First the author confirms that past buyback completion rates are predictive of future buyback completion rates. Next she shows that the stock returns to a company making a buyback announcement are much higher for those with high past completion rates. Companies in the 90th percentile of past completion rate see returns 2.5% higher than those in the 10th percentile of past completion rate in the three days after a the new announcement.

Despite the size of these returns, this isn’t a very good trading strategy, because buyback announcements are clearly unexpected. However, in the next part of the paper the author finds that long-run returns are also reliably higher for repeat buyback companies with high past completion rates. Two year returns are 13.64% for those companies with above-median past completion rates versus 7.43% for those below the median. We should be leery of these results, however as they are not statistically significant.

Next the author splits her sample of repeat buyback companies into quintiles based on the return to the stock during the previous buyback. The two-year abnormal returns to companies in the lowest quintile (those with the lowest returns after their last buyback) are 17.33% after their subsequent buyback. This result is very statistically significant too.

But if we split this quintile in half based on past completion rates, and buy only those stocks with above-median past completion rate, the returns explode to 27.13% for the two year period.

Empirical Research Blog’s takeaway?

The value of this paper is not necessarily in a specific investment strategy but rather in the insight it provides in to a trading strategy we already knew about. I would be hesitant to implement this stand-alone for the practical difficulty in doing so. But any trading strategy that already uses share buybacks as a signaling factor might benefit from an augmentation that accounts for past buyback completion rate.

(Emphasis added)

Quite.

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Tweedy Browne updates What Has Worked In Investing

Posted in About, Greenbackd, Liquidation Value, Net Current Asset Value, Net Quick Stocks, Net Quick Value, Stocks, tagged , , on April 3, 2009| 39 Comments »

Tweedy Browne, the deep value investment firm established in 1920, has updated its booklet, What Has Worked In Investing (.pdf). First published in 1992 and now updated for 2009, the booklet discusses over fifty academic studies of investment criteria that have produced high rates of investment return. Our interest in the booklet stems from its examination of a group of investment styles falling under the rubric, “Assets bought cheap,” in particular, Benjamin Graham’s “Net current asset value” method and the “Low price to book value” method.

Graham’s “Net current asset value” method

Says Tweedy Browne of Graham’s “Net current asset value” method:

The net current asset value approach is the oldest approach to investment in groups of securities with common selection characteristics of which we are aware. Benjamin Graham developed and tested this criterion between 1930 and 1932. The net current assets investment selection criterion calls for the purchase of stocks which are priced at 66% or less of a company’s underlying current assets (cash, receivables and inventory) net of all liabilities and claims senior to a company’s common stock (current liabilities, long-term debt, preferred stock, unfunded pension liabilities). For example, if a company’s current assets are $100 per share and the sum of current liabilities, long-term debt, preferred stock, and unfunded pension liabilities is $40 per share, then net current assets would be $60 per share, and Graham would pay no more than 66% of $60, or $40, for this stock. Graham used the net current asset investment selection technique extensively in the operations of his investment management business, Graham-Newman Corporation, through 1956. Graham reported that the average return, over a 30-year period, on diversified portfolios of net current asset stocks was about 20% per year

The booklet discusses a study conducted by Henry Oppenheimer, an Associate Professor of Finance at the State University of New York at Binghamton, in which he examined the returns of such stocks over a 13-year period from December 31, 1970 through December 31, 1983. Oppenheimer’s study assumed that all stocks meeting the investment criterion were purchased on December 31 of each year, held for one year, and replaced on December 31 of the subsequent year by stocks meeting the same criterion on that date. The total sample size was 645 net current asset selections. The smallest annual sample was 18 companies and the largest was 89 companies.

Oppenheimer’s conclusion about the returns from such stocks was nothing short of extraordinary:

The mean return from net current asset stocks for the 13-year period was 29.4% per year versus 11.5% per year for the NYSE-AMEX Index. One million dollars invested in the net current asset portfolio on December 31, 1970 would have increased to $25,497,300 by December 31, 1983. By comparison, $1,000,000 invested in the NYSE-AMEX Index would have increased to $3,729,600 on December 31, 1983. The net current asset portfolio’s exceptional performance over the entire 13 years was not consistent over smaller subsets of time within the 13-year period. For the three-year period, December 31, 1970 through December 31, 1973, which represents 23% of the 13-year study period, the mean annual return from the net current asset portfolio was .6% per year as compared to 4.6% per year for the NYSE-AMEX Index.

Perhaps most intriguing, though, was Oppenheimer’s conclusion about the relative outperformance of the loss-making stocks over the profitable ones:

The study also examined the investment results from the net current asset companies which operated at a loss (about one-third of the entire sample of companies) as compared to the investment results of the net current asset companies which operated profitably. The companies operating at a loss had slightly higher investment returns than the companies with positive earnings: 31.3% per year for the unprofitable companies versus 28.9% per year for the profitable companies.

We believe that Oppenheimer’s study presents a compelling argument for such an investment approach.

Low price in relation to book value

The second investment method falling under the rubric of “Assets bought cheap” is the “Low price in relation to book value” method. The booklet discusses a study conducted by Roger Ibbotson, Professor in the Practice of Finance at Yale School of Management and President of Ibbotson Associates, Inc., a consulting firm specializing in economics, investments and finance. In “Decile Portfolios of the New York Stock Exchange, 1967 – 1984,” Working Paper, Yale School of Management, 1986, Ibbotson studied the relationship between stock price as a proportion of book value and investment returns. To test this relationship, all stocks listed on the NYSE were ranked on December 31 of each year, according to stock price as a percentage of book value, and sorted into deciles. Ibbotson then measured the compound average annual returns for each decile for the 18-year period, December 31, 1966 through December 31, 1984.

Ibbotson found that stocks with a low price-to-book value ratio had significantly better investment returns over the 18-year period than stocks priced high as a proportion of book value. Tweedy Browne set out Ibbotson’s results in the following Table 1:

tweedy-table-1

A second study conducted by Werner F.M. DeBondt and Richard H. Thaler, Finance Professors at University of Wisconsin and Cornell University, respectively, examined stock price in relation to book value in “Further Evidence on Investor Overreaction and Stock Market Seasonality,” The Journal of Finance, July 1987. DeBondt and Thaler ranked all companies listed on the NYSE and AMEX, except companies that were part of the S&P 40 Financial Index, according to stock price in relation to book value and then sorted them into quintiles on December 31 in each of 1969, 1971, 1973, 1975, 1977 and 1979. DeBondt and Thaler then calculated the investment return against the equal weighted NYSE Index over the subsequent four years for all of the stocks in each selection period. The four-year returns against the market index were then averaged.

The stocks in the lowest quintile had an average market price to book value ratio of 0.36 and an average earnings yield (the inverse of the P/E ratio) of 0.10 (indicating a P/E of 10). DeBondt and Thaler found a cumulative average return in excess of the market index over the four years of 40.7%. Meanwhile, the stocks in the highest quintile, those with an average market price to book value ratio of 3.42 and an average earnings yield of 0.147 (a P/E of 6.8), returned 1.3% less than the market index over the four years after portfolio formation.

Perhaps the most striking finding by DeBondt and Thaler, and one that accords with our view about the difficulty of predicting earnings with any degree of accuracy, was the contrast between the earnings pattern of the companies in the lowest quintile (average price/book value of 0.36) and the highest quintile (average price/book value of 3.42). Tweedy Browne set out DeBondt and Thaler’s findings in Table 3 below, which describes the average earnings per share for companies in the lowest and highest quintile of price/book value in the three years prior to selection and the four years subsequent to selection:

tweedy-table-3

In the four years after the date of selection, the earnings of the companies in the lowest price/book value quintile increase 24.4%, more than the companies in the highest price/book value quintile, whose earnings increased only 8.2%. DeBondt and Thaler attribute the earnings outperformance of the companies in the lowest quintile to the phenomenon of “mean reversion,” which Tweedy Browne describes as the observation that “significant declines in earnings are followed by significant earnings increases, and that significant earnings increases are followed by slower rates of increase or declines.”

The booklet continues to discuss Tweedy Browne’s own findings confirming those of the studies described above, and a range of other studies that confirm the findings over different periods of time and in different countries. The findings form a compelling argument for an investment philosophy rooted in deep value and focused on assets, such as Greenbackd’s.

Buy my book The Acquirer’s Multiple: How the Billionaire Contrarians of Deep Value Beat the Market from on Kindle, paperback, and Audible.

Here’s your book for the fall if you’re on global Wall Street. Tobias Carlisle has hit a home run deep over left field. It’s an incredibly smart, dense, 213 pages on how to not lose money in the market. It’s your Autumn smart read. –Tom Keene, Bloomberg’s Editor-At-Large, Bloomberg Surveillance, September 9, 2014.

Click here if you’d like to read more on The Acquirer’s Multiple, or connect with me on Twitter, LinkedIn or Facebook. Check out the best deep value stocks in the largest 1000 names for free on the deep value stock screener at The Acquirer’s Multiple®.

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ARC Wireless Solutions (NASDAQ:ARCW) 10K update; Greenbackd exits

Posted in Activist Investors, ARC Wireless Solutions (NASDAQ:ARCW), Net Cash Stocks, Stocks, tagged , , , on April 3, 2009| Leave a Comment »

ARC Wireless Solutions (NASDAQ:ARCW) has filed its 10K for the year ended December 31, 2008. In a disappointing development, ARCW has entered into a “financial advisory engagement” with a Brean Murray Carret and Mr. Hassan Nemazee for “financial advisory and business consulting services, including restructuring services,” pursuant to which ARCW pays fees for services. Over the life of the agreement to 2013, ARCW will pay no less than $1.5M. The agreement means that Brean Murray Carret will earn more than other shareholders by running the business and has no incentive to create a catalytic event in ARCW. That means our investment thesis is gone and we’re exiting on that basis. We opened the ARCW position at $2.86 and it closed yesterday at $2.75, which means we’re down 3.85% on an absolute basis. The S&P500 Index was at 845.71 when we opened the position and closed yesterday at 843.88, which means we’re down 3.63% on a relative basis.

We started following ARCW on January 28, 2009 (see our post archive here) because it was a net cash stock with an activist investor, Brean Murray Carret, disclosing a 13.9% position on November 3 last year. ARCW closed yesterday at $2.75, giving it a market capitalization of just $8.5M. We initially estimated its liquidation value to be around $13.9M or $4.49 per share. After reviewing the 10K, we’ve now reduced our estimate of the liquidation value to $12.4M or $4.00 per share. The decrease is mostly attributable to cash used to fund operating losses in 2008. Brean Murray Carret’s original 13D filing disclosed its intention to tip out ARCW’s board and “nominate an alternative slate of directors for election to [ARCW’s]’s Board of Directors at the earliest possible opportunity.” Its subsequent 13D filing indicated that this occurred quickly, and Brean Murray Carret’s nominees were elected by the board of ARCW on November 12, 2008. Unfortunately for us, it seems Brean Murray Carret will run the business rather than realize the assets.

The value proposition updated

ARCW is a loss-making, generally cash-consuming company. The company’s balance sheet has, however, retained some value (the “Book Value” column shows the assets as they are carried in the financial statements, and the “Liquidating Value” column shows our estimate of the value of the assets in a liquidation):

arcw-summary-2008-12-31

Off-balance sheet arrangements and contractual obligations

According to the 10K, ARCW has no off-balance sheet arrangements and its contractual obligations are $0.9M in total.

The value remaining on ARCW’s balance sheet is as a result of its sale in 2006 of its wholly owned subsidiary Winncom for $17M. The company has since burned through some of that cash, but it does still have a net cash value of $11.0M or $3.56 per share.

The catalyst

We missed this in our initial analysis, but fortunately commenter Chad was awake. One disappointing development in ARCW since Brean Murray Carret got control of the board has been the company’s entry into a “financial advisory engagement” with Quadrant Management, Inc., which is under common control with Brean Murray Carret and Mr. Hassan Nemazee. Between them, they beneficially own 27.5% of ARCW. Pursuant to the “financial advisory engagement,” Quadrant provides to ARCW “financial advisory and business consulting services, including restructuring services.” ARCW pays the following: 1) an initial cash fee of $250,000; 2) an annual fee of the greater of (i) $250,000, or (ii) 20% of any increase in reported earnings before interest, taxes, depreciation and amortization after adjusting for one-time and non-recurring items for the current financial year over preceding year, or (iii) 20% of reported EBITDA for the current financial year, and; 3) all reasonable out-of-pocket expenses incurred by Quadrant in performing services under the engagement.

[Full Disclosure:  We do not have a holding in ARCW. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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RACK suspends buyback and enters agreement to acquire Silicon Graphics; Greenbackd exits position

Posted in Rackable Systems Inc (NASDAQ:RACK), Stocks, tagged , , on April 2, 2009| 3 Comments »

Rackable Systems Inc (NASDAQ:RACK) has announced that it is suspending its buyback and acquiring substantially all the assets of Silicon Graphics Inc (NASDAQ:SGIC) for “approximately $25 million in cash, subject to adjustment in certain circumstances, plus the assumption of certain liabilities associated with the acquired assets.” Without the buyback, our investment thesis is gone, so we’re exiting our position in RACK. We opened it on March 11, 2009 when it was trading at $3.56, so we’re up 9.0% on an absolute basis. The S&P500 Index was trading at 719.60 when we opened the position in RACK, and closed yesterday at 811.08, which means we’re down 3.7% on a relative basis.

We started following RACK (see our post archive here) because it was an undervalued asset play, and had announced a plan to repurchase almost 40% of its stock. That buyback is now suspended. If the buyback had been completed at the current stock price, the company’s per share liquidation value would have increased by around 17% to $6.72. The acquisition of SGIC’s assets is also almost certain to reduce RACK’s liquidation value. The likely reduction in liquidation value combined with the suspension of the buyback is fatal to our investment thesis, and that’s why we’ve exited. On the whole, a disappointing outcome for us, but the stock is up to $3.95 in after hours trading, so the market clearly disagrees with our assessment.

The Asset Purchase Agreement makes for interesting reading, and the deal may well turn out to be a good one for RACK. It’s certainly buying at the right time and from a distressed seller, which are indicators, but not conclusive, that the deal is good for RACK. It also seems from the Asset Purchase Agreement that RACK is cherry picking the assets it wants and avoiding the liabilities it doesn’t. Whether the deal works for RACK, we have no idea. This sort of analysis is beyond us, so we focus on the liquidation value. Prior to the company entering into the agreement with SGIC, we estimated the liquidation value at around $171.6M or $5.74 per share. Although it is difficult to predict with any precision the effect of the acquisition on RACK’s liquidation value, we are almost certain that it will be reduced by the $25M cash payment plus whatever liabilities are assumed less a smaller increase for the assets acquired. It is likely that RACK’s liquidation value will still be somewhat above its present stock price, but, without the buyback catalyst, our reason for holding the stock is gone, and so we’re out. There’s a chance that the deal will fall over, so we’ll revisit RACK in that event.

The company’s press release is set out below:

Rackable Systems Announces Agreement to Acquire Silicon Graphics Inc.

FREMONT, CA and SUNNYVALE, CA., April 1, 2009 – Rackable Systems, Inc. (NASDAQ:RACK), a leading provider of servers and storage products for medium to large-scale data centers, today announced its agreement to acquire substantially all the assets of Silicon Graphics, Inc. (SGI) (NASDAQ: SGIC) for approximately $25 million in cash, subject to adjustment in certain circumstances, plus the assumption of certain liabilities associated with the acquired assets.

The combined businesses will provide customers with market leading hardware and software technology within large-scale x86 cluster computing, HPC, Internet, Cloud Computing, large-scale data storage environments and visualization platforms across many verticals and geographies. This combination is also expected to result in a stronger global services organization; reaching commercial, government and scientific sectors on a worldwide basis.

“The combined company will be positioned to solve the most demanding business and technology challenges our customers confront today,” said Mark J. Barrenechea, president and CEO of Rackable Systems. “In addition, this combination gives us the potential for significant operational synergies, a strong balance sheet, and positions the combined company for long-term growth and profitability.”

“We have been working very hard to strengthen our company, and today, we’ve taken another big step in that direction,” stated Robert “Bo” Ewald, CEO of Silicon Graphics. “This transaction represents a compelling opportunity for Silicon Graphics’ customers, partners and employees, who can all benefit from the emerging stronger company with better technologies, products and markets reach.”

Barrenechea added, “Together, we believe we will be a much stronger entity with great products and people offering a compelling proposition to compete more effectively in, and across, our collective markets.”

Rackable has signed an Asset Purchase Agreement to acquire substantially all the assets of SGI, and to assume certain liabilities relating to the assets, pursuant to Chapter 11 of the U.S. Bankruptcy Code, under which SGI filed its petition in New York on April 1, 2009. Completion of the transaction is subject to a number of closing conditions, including the approval of the Bankruptcy Court, and other uncertainties. Subject to such conditions and uncertainties, the transaction is expected to close within approximately 60 days. It is expected that SGI’s business operations will continue during the pre-closing period. SGI’s international operations would be part of the sale, but would not be part of the bankruptcy process.

Rackable also announced today that it had suspended its previously announced program including the repurchase of up to $40 million of the company’s stock.

Hat tip to shp.

[Full Disclosure:  We have a holding in RACK. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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The Deal Professor looks at the Pershing Square vs Target proxy fight

Posted in About, Activist Investors, Pershing Square Capital Management, Stocks, tagged , , on April 2, 2009| 2 Comments »

Steven M. Davidoff, The Deal Professor, has an analysis of the proxy fight between William. A. Ackman’s Pershing Square Capital and Target Corporation (NYSE:TGT) in his NYTimes.com DealBook column, Target’s Challenge.  Pershing Square has fund dedicated to its investment in TGT, which Davidoff says controls 7.9% of the company through stock and call options. TGT has a staggered board with twelve directors, four of whom are up for reelection for this year’s meeting, which is scheduled for May 28. Pershing Square, claiming that TGT’s board really comprises thirteen members, has submitted a slate comprising five nominees.

Davidoff writes that Pershing Square’s claim of an extra member relates to Robert J. Ulrich’s resignation from the board in January this year:

Pershing contends that, under Target’s articles of incorporation, the board does not automatically shrink as a result of a resignation; rather, a vacancy is created – in this case, a vacancy for a 13th director to be elected this year.

Pershing bases its claim on Article VI of Target’s articles of incorporation. The article states that:

The business and affairs of the corporation shall be managed by or under the direction of a Board of Directors consisting of not less than five nor more than twenty-one persons, who need not be shareholders. The number of directors may be increased by the shareholders or Board of Directors or decreased by the shareholders from the number of directors on the Board of Directors immediately prior to the effective date of this Article VI; provided, however, that any change in the number of directors on the Board of Directors (including, without limitation, changes at annual meetings of shareholders) shall be approved by the affirmative vote of not less than seventy-five percent (75%) of the votes entitled to be cast by the holders of all then outstanding shares of Voting Stock (as defined in Article IV), voting together as a single class, unless such change shall have been approved by a majority of the entire Board of Directors.”

(emphasis added)

Pershing bases its argument on the italicized language, which states that only a 75 percent vote of the shareholders can reduce the size of the board. Target has disputed this claim, presumably relying instead upon the clause after the italicized language, which provides the power to the board to approve the change.

Target is claiming that the clause modifies the entire requirement for shareholder approval. In contrast, I presume that Pershing is claiming that this language modifies only the part about a 75 percent vote requirement, and otherwise a shareholder vote is mandatory. The ambiguity is certainly there, and given the penchant of courts to interpret articles and bylaws against the drafting companies and in favor of the shareholder franchise, Pershing has a viable claim. It would be more certain if Target were incorporated in Delaware, but it is actually incorporated in Minnesota.

Last week, Pershing offered to arbitrate the issue. Instead, Target has simply and rather cleverly put the matter to its shareholders in its proxy filed Monday. Target has ceded the issue to its shareholders, and asserted that because the change has been approved by a majority of the board of directors, it now only needs the affirmative vote of the majority of the outstanding shares of Target common stock voting at a meeting where the quorum requirement is met. Thus, Target has avoided an initial litigation skirmish that it had a real chance of losing, while appearing shareholder-friendly at the same time. A nice trick.

A nice trick indeed. It seems to us that the net effect of TGT’s fancy footwork is to reduce the threshold for the resolution to shrink the board from 75% of the votes entitled to be cast to a simple majority, which could have been their intention all along. As we’ve discussed recently in the context of the Biotechnology Value Fund (BVF) proxy fight for the board of Avigen Inc (NASDAQ:AVGN) (see our post archive here), achieving a supermajority is nigh on impossible. In BVF’s case it was two-thirds, rather than three-quarters, of the votes entitled to be cast. BVF was unable to get over the line, even at that slightly lower threshold, though they held around 30% of AVGN’s stock and therefore only needed the support of a little over half of the other stockholders. We believe that BVF was ultimately unsuccessful because 30% of AVGN’s stockholders neglected to vote at all, and those votes not cast counted for the incumbents. TGT is clearly concerned it might find itself in a similar position. Even though TGT has the distinct advantage of being the incumbent, they clearly recognize that the 75% threshold is improbably high. At such a high threshold, votes not cast can be fatal to the resolution, so they’ve taken measures to reduce the threshold to a simple majority. We think this will still prove too high for the incumbents, but it’s a nice card to play if you have it in your hand to do so. Davidoff notes that only Pershing Square has nominated a fifth director to take office. This means that if the resolution does not pass and TGT’s board remains at thirteen members, one of Pershing Square’s nominees is automatically elected. We’ll watch the outcome with interest.

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MathStar Inc (OTC:MATH) 10K update

Posted in Activist Investors, MathStar Inc (OTC:MATH), S. Muoio & Co, Salvatore Muoio, Stocks, Zachary McAdoo, tagged , , on April 1, 2009| 4 Comments »

MathStar Inc (OTC:MATH) has filed its 10K for the year ended December 31, 2008.

We’ve been following MATH since December last year (see our post archive here) when it was trading at $0.68. We initiated the position because MATH is a net cash stock with two substantial stockholders lobbying management to liquidate. The stock is up 21.3% to $0.825 yesterday, giving it a market capitalization of $7.6M. We initially estimated MATH’s liquidation value to be $14.4M or $1.57 per share. The balance sheet had around $14M or $1.52 per share in value at December 31. Adjusting for contractual obligations and another quarter of cash burn at say $0.6M per quarter, we now estimate MATH’s liquidation value to be around $12.0M or $1.31 per share. That value is predominantly cash and short term investments and doesn’t take into account any further value that the sale of the FPOA technology and intellectual property may yield. The two activist investors, Mr. Zachary McAdoo of The Zanett Group and Mr. Salvatore Muoio of S. Muoio & Co., have been urging MATH’s board to consider liquidation rather than a merger. MATH’s board seems to agree, twice rejecting unsolicited merger proposals, suspending the company’s operations and exploring “strategic alternatives, which could include merger, acquisition, increasing operations in another structure or liquidation.” From the 10K:

During the three months ended June 30, 2008, we announced a curtailment of operations as our Board evaluated strategic alternatives. Strategic alternatives that are being evaluated by our Board of Directors and management include, but are not limited to, restarting the company; merging with or acquiring another company, including or excluding our intellectual property (IP); increasing operations in another structure; or liquidation. The primary criteria for determining the strategic alternative is to maximize shareholder value, which may or may not include the use of the accumulated net operating losses (NOL). Although we have curtailed operations, we have met all financial obligations with vendors, key suppliers, and strategic partners. We have engaged a third party investment banking firm to explore the sale of intellectual property and patents and potential merger and acquisition alternatives.

The value proposition updated

MATH has rapidly burned cash throughout the year, mainly on research and development. The company has now put a stop to its R&D activities, which has reduced the cash burn significantly from $1.6M in the September quarter to $0.4M in the December quarter. The company’s value rests on its vestigial holding of cash and equivalents (the “Book Value” column shows the assets as they are carried in the financial statements, and the “Liquidating Value” column shows our estimate of the value of the assets in a liquidation):

math-summary-2008-12-31

Off-balance sheet arrangements and contractual obligations

According to MATH’s 10K, it has no off-balance sheet arrangements, but has around $1.4M in non-cancellable commitments for design licenses and operating leases.

Adjusting for the $1.4M in non-cancellable commitments for design licenses and operating leases and another quarter of cash burn at around $0.6M, we estimate the liquidation value to be around $12.0M or $1.31 per share.

Conclusion

At its $0.835 close yesterday, MATH has a market capitalization of just $7.6M. Our updated liquidation valuation is still some 60% higher at $12.0M or $1.31 per share, so we believe that MATH still represents good value. With other potentially valuable assets and Messrs. McAdoo and Muoio pushing the board to liquidate the company, we’re going to maintain our position in MATH.

[Full Disclosure:  We do not have a holding in MATH. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]

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