Wednesday, July 29, 2009

A birthday in the econoblogosphere

I understand that Credit Slips has recently turned three years old.

Happy birthday to them, then.

Tuesday, July 28, 2009

Important Delaware decision

Wayne County Employees v. Corti. The Court of Chancery has confirmed that judicial review in the corporate sales context is limited to the boards' "decision making process," not to the substance of what the board decided.

Wayne County Employees' Retirement System, the pension fund for the named Michigan county (which includes the city of Detroit) was invested in Activism in 2007, when that company, a video game producer, developer of Guitar Hero and Call of Duty, agreed to combine with Vivendi Games, of World of Warcraft fame. Both W of W and Guitar Hero have inspired memorable South Park episodes, but I suppose that is neither here nor there, legally. Sigh.

To simplify just a bit: Activism agreed to sell itself to Vivendi, and the pension fund managers in Michigan didn't think they as shareholders were were getting a very good deal. In the usual phrasing, they objected that the shareholders weren't getting a "control premium," and tha the failure to insist on one in negotiations was a breach of their duty of loyalty. Nor (since shareholders had to vote on the combination) did they believe all the crucial information about the deal had been disclosed prior to that vote.

The first-named defendant is Robert Corti, one of the members of the board of directors.

The Court dismissed all of the counts of the complaint. It dismissed the substantive (control-premium related) counts because there is no rule of law requiring a premium for a change of control, and making that a test for satisfaction of the duty of loyalty.

The court's objection to the process-based claim of the same complaint apparently was that the allegedly undisclosed facts were not material.

"Materiality is the essence of a successful disclosure claim, and
plaintiff has failed to demonstrate how any of the alleged omissions
would significantly alter the total mix of information that is already
available in the nearly 300-page definitive proxy released by the

So Delaware once again polishes its reputation as the great management-friendly state. I think there are counter-pressures in existence that will over time weaken Delaware's dominance, but IMHO this decision shows its institutionalized determination to hang onto it.

Monday, July 27, 2009

Enron ... ah, memories

Yes, in discussing yesterday the Tollgrade proxy fight I said that Rhythm NetConnections, a company on the resume of a member of one of the contending boards, had had something-or-other to do with the Enron collapse of 2001, but I couldn't be more specific.

I've now found the specifics. Enron did have a large long equity position in RN, an Englewood-Colo. based tech company. One of Enron's infamous special-purpose entities(SPEs), LJM1, was created specifically to hedge this position out of a (well-founded) concern that RN's price might fall. The arrangement was (typically) Byzantine for Enron. But the general idea was that the SPE, which was itself funded in part by Enron's stock, would agree to compensate Enron if the value of RN's stock declined.

Rebecca Smith and John R. Emshwiller, in their book about Enron, 24 DAYS, related a conversation between Enron's chief risk officer, Rick Buy, and the head of its research group, Vince Kaminski. The story is told on the authority of Kaminski alone -- Buy doesn't remember the conversation (which is rather different of course from denying that it happened).

Anyway, the story goes that Kaminsky looked into the LJM/NC deal and said, "This is so stupid only Andy Fastow could have thought of it."

Fastow was the CFO, and directly in the chain of command above Buy, who was in turn Kaminski's boss. Kaminski thought of him as a lightweight in financial matters, but not until this point as dangerous.

Buy replied by saying that yes, it was Andy's idea, and that Andy was also going to run LJM1 as its general partner. This seemed like an absurdly bad idea to Kaminsky. An SPE is supposed to be an independent entity, or else the company spinning it off is merely (in this case) giving its stock to itself as an accounting trick. For the CFO of the parent company to be the general partner of the SPE makes it clear that is exactly what it was -- at best!

Anyway, Kaminsky expressed roughly that idea to Buy. Buy agreed but said there was nothing he could do about it, and said, "Next time Fastow is going to run a racket, I want to be part of it."

So the rather tenuous connection between RN is that a fear of a drop in RN's sales price set the above machinations into motion, and they contributed to the greater rot in that organization. Interesting, and a nice nostalgic blast, but not really a help to stockholders in Tollgrade I think.

Sunday, July 26, 2009


The annual meeting of shareholders of Tollgrade Communications will take place on August 5.

Here's a link to Tollgrade's recent communication with its shareholders.

As you can see there, Ramius has set out three dissident nominees: Scott C. Chandler, Edward B. Meyercord III and Jeffrey M. Solomon.

Tollgrade has focused its return fire especially on Chandler. His telecommunications experience, they tell us, consists in "leading Rhythm NetConnections Inc. first into an 'internet bubble' valuation of $9 billion and thereafter into a bankruptcy and liquidation where shareholders ultimately received $0 for their shares...."

Rhythm NetConnections? If memory serves, that was a minor player in the Enron saga, was it not? I'll look into it later this week.

Wednesday, July 22, 2009

Not-so-stealth trading

What happens when the same management groups runs two very different funds, one targeted to more sophisticated investors and the other to suckers ... um, retail customers?

What happens, to be more concise, if one group runs both a hedge fund and a mutual fund?

For many years there has been a widespread assumption that the danger in uch arrangements is this: the hedge fund will frontrun the mutual fund, taking advantage of its opportunties.

In 1993, Michael Barclay and Jerold Warner set out this theory in respectable academic form in an article in the JOURNAL OF FINANCIAL ECONOMICS. The gist of their hypothesis was that when these "concurrent managers" became aware of a really good profitable opportuntiy, they would trade in it first for the hedge fund account, because after all the fees they take from a hedge fund are very high and tied to profits. The mutual fund and its investors would get at best the left-overs from these opportunities.

Recent research, though, indicates the opposite is the case. Concurrent management is more likely to be biased AGAINST the hedge fund than in its favor. The empirical data is summarized in an article in the August 2009 issue of the Journal of Banking & Finance. How could this happen? Why bias your activity against the source of the larger set of fees?

The authors of that paper, Li-wen Chen and Fan Chen, hypothesize that concurrent management is often an effort to use in the hedge fund domain the "reputational capital" developed in the mutual fund domain. The mutual fund results are by far the more transparent, the more widely available, in any such case, so they work as advertising for both of the funds.

At the margin, then, the concurrent managers favor their mutual fund.

Tuesday, July 21, 2009

An academic paper

I'm just going to slide by today with a link and a question.

The link is to an academic paper written it appears nine years ago by a student at the Wharton School, University of Pennsylvania, "Strategic Voting and Proxy Contests."

click here

If you don't wish to click, here's the gist of it: How do non-contending shareholders act during a proxy fight? How is it rational for them to act, in terms of their own interest?

Is it rational for them to vote for the slate of directors they believe best for the company? Often, Bilge Yilmaz writes, it is not.

The question: has there been further work on this point? Something more recent?

Monday, July 20, 2009

Herb Greenberg is Alive and Visible

If you're reading this, Herb, hello.

My name has from time to time become involved in controcversies over "naked short selling," or "phantom shares" and the like. I covered such contentions for my former employer, and under the moniker of Christofurio I sought to ensure that Wikipedia articles touching on the point were accurate.

One result of this was that I came to know, slightly, the CEO of Overstock, Patrick Byrne, who sees himself as a crusader in the anti-nakedness cause. Another result was that I also came to know, very slightly, Herb Greenberg, now a research analyst, formerly a prominent journalist and columnist, and among those who expressed skepticism that nakedness was actually a problem.

One key component of the skeptical view is that complaints about the nakedness of shorting generally come from the managements of failed or corrupt companies, like AremisSoft or CMKM Diamonds. What is a predatory practice from the POV of the crusaders is a red herring from the POV of the skeptics. Here is Floyd Norris blog entry that will get you up to speed if you are new to all this.

Anyway, the reason all this comes to mind is that the website Deep Capture, a forum for Patrick Byrnes and his knights, recently ran a lengthy article about a company named Dendreon, which back in 2007 sought financing throguh a PIPE deal that was to be arranged by Acqua Wellington Asset Management. Then the sentence that caught a few eyes, including my own:

Acqua Wellington is controlled by a “prominent” investor named Isser Elishis. In an otherwise flattering article, Herb Greenberg – a journalist whose entire career was devoted to granting “courtesies” to hedge funds in the Milken network – described Elishis as the “banker of last resort.”

Herb, who disappeared from public sight after he was exposed by Deep Capture, now owns a company that ostensibly sells financial research to hedge funds in the Milken network (or, arguably, merely receives payment from them for the extensive string of “courtesies” that Herb extended while working as a journalist).

That Herb had "disappeared" seemed like distressing news. Like in Chile during the Pinochet era? Or like a magician's assistant rendered invisible by a wave of the wand? Actually, of course, he didn't disappear. He stopped writing his blog for MarketWatch last spring. But in that final blog posting he provided the URL for the website of his new concern, and he can be contacted through that website by anyone keen on doing so.

William Wolfrum valiantly went in search of Greenberg, and reported results after an arduous four seconds.

Greenberg reported: “I am Currently living in a cave in Bolivia. I FLED San Diego after having been humiliated and revealed by the Pulitzer Prize-bound journalists of Deep Capture, and the fear that they would reveal that my entire career was devoted to granting courtesies to hedge funds in the Milken network.”

I am amused, and will follow Wolfrum's blog more closely in the future.

Sunday, July 19, 2009

Insider Trading: Three Cases

1. SEC v. Mark Cuban

On Friday, July 17, 2009, Judge Sidney Fitzwater, of the US District Court, Northern District, Texas, in Dallas, ruled in Favor of Mark Cuban, dismissing a lawsuit that the SEC had brought against him. Fitzwater found that the SEC had failed to state a claim on which relief could be grantred.

It did so without prejudice, i.e. the SEC may replead.

The case involved Cuban's knowledge of a forthcoming PIPE -- a private investment in public equity. When all other things are equal, a PIPE will cause a reduction in a stock's price, simply because it increases the supply of that company's stock in the marketplace. Without some corresponding increase in the demand for it, the price should fall.

Cuban was an investor in the company in question but he was not an "insider" to it in the strictest sense -- he was not a board member, officer, etc. On the SEC's theory, he was a fiduciary, and the insider trading was thus a breach of a fiduciary responsibility, i.e. his agreement to keep confidential the information that an issuer's CEO provided to him about a forthcoming PIPE.

But the agreement to keep the information confidential that the SEC alleges does not amount, the court said, to an agreement to refrain from a sale of stock. A sale may hint, to those who learn of it, that the seller has just received some information, but it is hardly a clearcut case of communication. "The complaint asserts no facts that reasonably suggest that the CEO intended to obtaion from Cuban an agreement to refrain from trading on the information as opposed to an agreement merely to keep it confidential," the court said.

2. US v. Ralph Cioffi

Cioffi, who is a criminal defendant in the case arising from the failure of two Bear stearns affiliated hedge funds in 2007, has not been so fortunate as Cuban. His trial judge has rejected his motion to dismiss.

In New York, on Tuesday, July 14, Judge Frederic Block refused to dismiss the criminal case against him that arose because Cioffi transferred a portion of his own holdings out of one of these funds without telling investors. In contrast to Fitzwater, Block has not prepared a written opinion giving us the reasons for this decision. But hsi situation isinherently different from that of Cuban's, and as I've noted here before, I thought the motion to dismiss was a matter of slicing the Oscar Meyer pretty thin.

It is still a rum business -- prosecuting "insider trading," at all. But thinking within the box of the law as now exists, Cioffi's position is much worse than that of Cuban's so the difference results of their motions was to be expected.

3. SEC v. Anthony Perez et al. This is a new one. The SEC has charged 5 individuals with insider trading on the ground that they learned that Liberty Mutual was about to announce a bid for Safeway Corp., and acted naturally, buying Safeway themselves.

There are actually three separate complaints, because this information leaked out at least that many times. In two of the three complaints arising out of the safeway bid, a tippee as well as the tipper are named.

The first-named defendant of one of these three complaints, Perez, acquired this information through his work at Goldman Sachs. His tippee? His brother. Ach! the government is now criminalizing brotherly love!

It is also enabling Goldman conspiracy theories. Personally, I much prefer Cerberus conspiracy theories, but Cerberus seems to have had nothing to do with Safeway.

Wednesday, July 15, 2009

The Investor Protection Act of 2009

The Treasury Department has released (as of July 10) the administration's proposed Investor Protection Act of 2009. If enacted, it will implement parts of the financial-reform proposals contained in the recent White Paper.

Under existing law, there is an important difference between investment advisers on the one hand and broker-dealers on the other. Both can be held to certain standards in terms of the fiduciary and anti-fraud obligations, but the broker-dealers get to police themselves through self-regulatory organizations, which historically they have found quite comfortable.

The Fact Sheet included in the Treasury Department’s press release announcing the Act states that in the department's view the distinctions are "no longer meaningful," that investors rely upon recommendations from BDs in the same way that they rely upon recommendations from IAs. The Act would authorize the SEC to create a unified set of standards. In the words of a "client newsflash" posted on the webpage of the Davis Polk law firm, "The inclusion of these provisions in the Act may presage greater involvement by the SEC, in addition to FINRA, in directly regulating sales practices of broker-dealers."

By the way (have I mentioned this lately?) nothing you have read or are ever going to read in this blog is to be taken by any rational or even vaguely conscious being as a piece of investment advice to any degree whatsoever.

I'm so glad we've cleared that up.

Tuesday, July 14, 2009

Faint Praise for Chi-X

Celent, the financial research firm, has studied Europe's stock exchanges, and the new breed of multilateral trading facilities (MTFs) that has developed to feed into them.

In a report published July 8, Celent says that only a few of these MTFs will survive the hypercompetitive environment. Of those it discusses it singles out for praise, though it seems to me for rather faint praise, Chi-X.

The report said that only Chi-X was "close" to hitting the break even point.

So they'll probably survive simply because they're the best of a bad lot? If that doesn't get you to breakout the confetti, what will?

Two pie graphs are illuminating about changes in how the equity volume in Europe is processed. Most of the growth in dark pools over a recent period of 15 months was at the expense of the exchanges, not at the expense of over-the-counter trading, which has stayed nearly static.

Monday, July 13, 2009

A "special meeting" outside the office door.

CNS Response Inc., a company based in Costa Mesa, California, describes itself as the developer of "A patented data-analysis capability that, with the help of a simple, non-invasive EEG, will analyze a patient's brain waves and compare the results to an extensive patient outcomes database."

It is engaged in a dispute with Len Brandt, its own former chief executive officer. And some wild stuff seems to have happened in that regard over the Independence Day weekend.

Brandt mailed out a "Notice of Special Meeting of Shareholders of CNS Response Inc.," purporting to call a meeting on July 3, at the office of the company's registered agent in Dover, Delaware. July 3 was a federal and a Delaware state holiday.

According to the company's filing with the SEC, Brandt didn't go to the meeting he had called, but he gave his proxy to his attorney, and the attorney went to the Dover office. Finding the registered agent's office closed for the holiday, the attorney "attempted to call the purported meeting to order in the hallway outside of the office and adjourn the meeting when it became clear that the necessary quorum to conduct business was not present."

Hmmm. If he was doing this in an empty office building corridor, how do the company officials who filed this know about it? Because they had sent somebody to that corridor, too. So it appears there was some sort of gathering (if not a "meeting") in the corridor on the holiday.

"CNS' counsel was present to object to the attempt to call the purported meeting, the attempt to adjourn the purported meeting, and other matters."

Was it just these two in the hallway? Apparently the incumbent CEO, George Carpenter, was somewhere around, although perhaps not at the epicenter of the excitement. The filing says he was "ready outside of the purported meeting...."

The purported meeting was outside a closed office door in a corridor. Where was Carpenter if he was "outside" of that? In the corridor a floor below? In the building's lobby?

I don't know what is going on, but I am amused. Thanks, corporate America!

Sunday, July 12, 2009

CPI Corp.

The preliminary count indicates that the incumbents of CPI have prevailed over the challenge from Ramius.

CPI is the operator of the PictureMe Portrait Studios, which canbe found in Sears and WalMart locations.

Ramius had nominated Peter Feld and Joseph Izganics, and has complained that the company's current board is too much under the influence of Knightspoint Partners.

On Wednesday, the shareholders voted for the company slate of James Abel, Paul Finkelstein, Michael Glazer, Michael Koeneke, David Meyer and Turner White. All but Finkelstein, who is a new nominee, and Glazer, who joined the board last year, have served on the board since 2004.

Feld has tried to put the usual good face on this. "At the end of the day, the company is stronger than it was before our investment," he said. "We were an active shareholder and board member for five years and we did make substantial changes."

Andrew Freedman, a lawyer for Ramius, has a less sportsmanlike take. The "record daye" was May 9, i.e. anyone who owned shares as of that date were eligible to vote, but Freedman said a confusing process may have put ballots in the hands of people who acquired shares after that date. “We see the potential for double voting.” So we may hear more of this matter yet.

Wednesday, July 8, 2009

Insider Trading: Cioffi's Motion to Dismiss

A motion to dismiss is pending with regard to count four of the indictment of Ralph Cioffi (Eastern District, NY, case #08-cr-00415 FB).

Cioffi, as my readers may remember, is one of two men arrested last year in connection with the collapse in 2007 of two hedge funds within Bear Stearns that had made huge bets on subprime mortgages.

Both Cioffi and his alleged co-conspirator, Matthew Tannin, are charged with securities fraud, in that they continued to present their funds to the investing public as an "awesome opportunity" even while privately concerned about their sustainability.

Cioffi, but not Tannin, is also accused of insider trading (Count Four) in that he "sold shares he owned in the Enhanced Fund while in possession of material non-public information regarding the Funds' liquidity," etc.That is the count with which this motion to dismiss deals.

The motion to dismiss itself seeks to make a distinction between the hedge funds themselves as an entity and their investors. Inside trading, it contends, is not an offense against the public at large but against a particular entity with which the insider has a fiduciary relationship. If the hedge fund in question had been a public corporation, Cioffi would have had a fiduciary duty to its shareholders. But as it was a hedge fund, his duty runs to the fund as such, not to its investors, so the government's case is "flawed as a matter of law."

Filing #116 includes this motion (May 22) and its supporting memorandum.

Filing #133 gives the district attorney's reaction (July 7). The DA accepts the defense characterization of Cioffi's duty as running to the fund, and claims that this is the duty that was criminally violated. The violations vis-a-vis the other investors are derivative of that.

Although I oppose the whole idea of "insider trading" as a criminal offense, thinking "within the box" of established legal concepts, I have to say the defense counsel's point seems a bit weak to me here.

Tuesday, July 7, 2009

Europe's Draft Directive

On April 29, 2009, the European Commission issued its "Directive on Alternative Investment Fund Managers," in essence a set of rules for the regulation of a broad range of alternative asset managers, the firms that manage hedge funds and similar vehicles.

At the time, the general expectation was that the rules would be enacted in some form similar to that of the draft, though with some tinkering. Pursuant to my employment, at that time I contacted some HF managers and some of the attorneys who work for them in Europe, They explained how the process works -- the draft rules would have to move through two parallel tracks toward implementation. This has the amusing name of the Lamfalussy Process, never mind now why.

One track is an executive one, so to speak -- the Council of the European Union. The other track of Lamfalussy is legislative -- approval of the Parliament.

Everyone I spoke to on this subject told me that tightening hedge fund regulations, through this draft or something more severe than this draft, would be a pretty straightforward matter in on the legislative track, because they all expected socialist victories in these elections. (These conversations were taking place in middle of May.) These were people involved in the hedge fund industry, so they weren't happy about that expectation, but it WAS their settled expectation. But they also thought the regulatory draft might run into trouble in the executive Council.

They were wrong about the legislative end. There might be any number of reasons why. Personally, I suspect they were probably right about sentiment when we spoke, but there was likely a quick shift in sentiment in late May.

The election took place over four days in early June, and they resulted in a rightward-shift of the balance of power in the EU. The situation, in terms of which parties are associated with which, is very confused and confusing, so I'll say very little about it, seeking the safety of this simplicity: the "right" may be roughly defined as consisting of those parties that are suspicious about the role of the Parliament they are joining: the "left" as those that see a need for a more activist EU, as against both separate national agendas on the one hand and global business interests on the other.

In the Czech Republic, the election saw the victory of the Civic Democrats, a group zealous of Czech sovereignty vis-a-vis the EU.

In Austria, where five years ago the EU election was a virtual dead heat, this time the People's Party -- the more rightward of the two major parties there -- won the clear victory though against a background of low turnout, and voter dissatisfaction with both major parties. The People's Party had gotten 33% of the vote in 2004, but were down to 30% this year. That wasn't as far a distance to fall though as the Socialists, who had gotten just over 33% in 2004, but just 23.5% this time.

In Portugal, the Social Democrats (PSD) defeated the Socialists. That country's Socialists, who had polled 44.5% in the 2004 EU elections, polled only 26.58% this time around. The PSD ended up first past the post with 31.68%.

And so it went. The bottom line? Anyone in Brussels looking forward to reguatory authority over hedge funds may have to settle for something less than only quite recently seemed inevitable.

Monday, July 6, 2009

NRG Energy

Here's some new information on the proxy contest over NRG Energy, which I discussed briefly a couple of weeks ago.

Although the suitor, Exelon, was passed over in the US government's recent allocation of loan guarantees ($18.5 billion worth of them) for the next generation of U.S. nuke power plants, NRG is on the list of those receiving said guarantees, which is one good reason why it is a pearl worth sea-diving to acquire.

Exelon's first bid, last fall, valued NRG at $6.2 billion. It has since sweetened that (as of last week) to $7.7 billion, which it says is its final offer.

NRG says simply what it has to say in such a situation. It is aware of the new sweetened offer, and "NRG shareholders are advised to take no action at this time pending the review by NRG's Board of Directors."

What's this "next generation" stuff,. though? Isn't that the series with Captain Picard?

No, as I understand it, there have been three "generations" of reactor so far. There were the prototypes of the 1950s and early 1960s, a time of great "Atoms for Peace" enthusiasm.

The Gen 2 reactors were the early commercial plants, the sort all the shouting was about back in the days of a Jane Fonda movie and the Three Mile Island scare. They were designed for 40 years of operation, extendable to 80.

The Gen 3 reactors so far constructed at in Japan -- others have been approved for construction in europe, though no shovels have been filled with dirt there yet. They are designed for 60 years of operation, extendable to twice that.

A move to Gen 4 in the US would of course involve leapfrogging Gen 3 entirely. That seems to be the goal. And as I've said, NRG is on board. Exelon wants to get onto that team by buying NRG.

Sunday, July 5, 2009

Ramius makes its case

I spoke last week about CPI Corp., and its planned stockholders' meeting July 8 (Wednesday).

Today I wish only to add that this is the case that Ramius is making. It objects to the fact that Turner White chairs the compensation committee, and that James Abel chairs the Nominating and Governance Committee.

Turner White, in particular, Ramius claims, has:

* No retail experience
* Limited financial experience
* Is a Knightspoint recommended director (a bad thing itself in their view)
* and as head of the Comp Committee has proposed and supported exorbitant compensation packages.

In general, the "outsized and undue influence" of Knightspoint supposedly throws into question "all aspects of the company's corporate governance."

CPI is arguing that Ramius has tried to force a desperation sale of the company. Ramius replies that this is "highly misleading," a phrase that usually means "not entirely wrong."

Wednesday, July 1, 2009

CPI Meeting, July 8

CPI Corp., a Missouri-based photography-services concern, hosts its shareholders meeting one week from today.

Its largest shareholder is Ramius LLC, which owns 23% of the equity and controls one board seat.

CPI's chairman, David Meyer, through his own investment firm, Knightspoint Partners, controls 1.5%, and two board seats.

A story in the St Louis Business Journal yesterday offers a scorecard.

The company is traded on the New York Stock Exchange (CPY). As you can see above, ithas a very dramatic looking price chart. Until the credit crunch of last autumn it was trading in a range between $14 and $18. About the time Lehman Bros declared bankruptcy in mid-September, CPI's price began a serious slide that took it down to $6. Then in mid October it recovered a good deal of that ground, which it lost again by the end of the month.

All that was but a bag-of-shells compared to the collapse of November, though. Through late Novemver and early December it was trading below $2.

the story since then has been one of recovery. So why the proxy fight? We'll talk Sunday.