May 12, 2005
A "grand victory for corporate governance"
Posted by Gordon Smith

Carl Icahn's ascension to the Blockbuster board of directors is another huge corporate governance story on many levels. Icahn and two compatriots ousted three incumbent directors, including Chairman and Chief Executive John Antioco, whose fate is still unclear (though a $54 million severance obligation argues in favor of his reappointment as CEO). Anytime the shareholders vote against the incumbent CEO, that's big news. When 77% of the shares voted are in favor of the dissidents, that is simply incredible.

In this instance, Icahn has announced that he may attempt to take control of the board next year if the company doesn't make headway in the meantime. Blockbuster has a staggered board of directors, meaning that only one-third of the board is up for election each year. (Actually, because Blockbuster had seven directors, the number up for election each year would be 3-2-2.) Launching a takeover that is contemplated to last two election cycles is extremely rare, so it will be interesting to watch this unfold. In most instances, something happens between the first election and the second to resolve the conflict.

Perhaps the most interesting part of this story, however, is the role played by hedge funds. We have touched on hedge funds only briefly here, but I have a feeling that the topic of hedge funds and corporate governance will become a recurring theme at Conglomerate. Consider this from today's W$J:

Mr. Icahn's victory starkly demonstrates the growing willingness of hedge funds to wield clout in corporate boardrooms. A number of the large, private investment pools rank among Blockbuster's biggest shareholders and were enthusiastic backers of Mr. Icahn. "The people have spoken," said Ricky Sandler, managing member of hedge fund Eminence Capital, which owns 3.8% of Blockbuster's combined voting stock.... Mr. Sandler said there is no doubt hedge funds are gaining power, in part because the lightly regulated funds are able to challenge companies without the restrictions that can encumber mutual funds and other institutional investors.

Obviously, shareholders other than hedge funds were dissatisfied with the incumbent managers, but  I must confess that I don't understand Icahn's end game. At one point, he suggested that Blockbuster pay a huge dividend and then sell itself. That makes some sense, given the prospects for the video rental industry. On the other hand, Icahn wanted Blockbuster to acquire Hollywood Entertainment -- and Blockbuster tried. This deal made sense for Icahn because he is a big shareholder in Hollywood, though I cannot imagine why owning the two biggest companies in a dying industry would be better than just having the biggest. Now, after the vote, it appears that Icahn is equivocating on early plans and wants time to evaluate Blockbuster's strategy.

On a side note, I happened to know one of Hollywood Entertainment's top executives when I lived in Oregon. This fellow was in charge of expansion. I asked why they kept building stores when the industry's future looked so dim. He didn't have a good answer for that, though he left the company as a pretty wealthy man.

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