from January/February 2008
by Craig Mellow
It didn’t take long for Richard Breeden, newly minted activist hedge-fund manager, to cross the path of Richard Breeden, corporate governance top gun once called upon by shareholders and courts to salvage value from the wreckage of WorldCom and Hollinger International.
Breeden’s $1 billion investment vehicle, launched in 2006 from his Greenwich, Connecticut, home base, soon amassed almost 2% of the shares in price-stagnant tax preparer H&R Block, a $60 million stake. He demanded three board seats and pushed the company to hive off noncore divisions such as its bank and mortgage unit.
Wait a minute, countered H&R Block’s board in an August letter to shareholders. Wasn’t this the same Richard Breeden whom the court had appointed as a monitor of the accounting giant and recent tax-evasion defendant KPMG, H&R Block’s auditor? The scourge of interest conflicts had one of his own, the Block board argued.
Breeden’s many admirers dismissed the charge as a desperate stratagem on the part of a team that had overseen a share slump of more than 20% over the previous two years. H&R Block went on to cede Breeden the three board seats in September, and the stock bounced back somewhat, from $18 a share in August to $20 in early November. “The whole thing with him and KPMG is a tempest in a teapot,” pronounces Charles Elson, who heads the Center for Corporate Governance at the University of Delaware. “Breeden has always had the guts to call a situation what it should be called.”
But other governance gurus are less comfortable with the tangled webs. “It feels like a conflict to me,” says Michael Feiner, a professor of management and business ethics at Columbia Business School. “Breeden is presenting himself as a shareholder Robin Hood but acting like Gordon Gecko.”
Breeden, 58, who declined an interview for this article, brings a unique résumé to his late-blooming financial career. He is the highest-ranking former government official ever known to run a hedge fund, having headed the Securities and Exchange Commission under the first President Bush. He struck significant blows in that office against imperial managements, broadening the disclosure of executives’ compensation and overhauling proxy rules to give shareholders the ability to nominate “short slates” of dissident directors.
Breeden left the government in 1993 and took on his first corporate cleanup assignment three years later as court-appointed trustee for Bennett Funding Group, a collapsed $570 million pyramid scheme run from upstate New York. A federal judge called on him again in 2002 to guide WorldCom through its spectacular, criminally induced bankruptcy. The reported $800-an-hour fee he charged for performing this public service raised some eyebrows. But the result wowed observers. MCI paid out $1.5 billion to shareholders and then sold itself to Verizon Communications for $5.3 billion in 2005. Says Nell Minow, editor of the watchdog Corporate Library: “The work he did at WorldCom was a great triumph. The reforms when they came out of bankruptcy turned the ceiling in governance into a new floor.”
Breeden’s early forays as a financier suggest that he has learned to spot suboptimal managements on his own and fight his way onto their boards with an expertly brewed mixture of public and private remonstrance. H&R Block was the second corporate fight he picked. The first was at underperforming family-restaurant chain Applebee’s, where he took a 5.2% stake in late 2006 and managed to force a sale to the IHOP pancake empire some nine months later. In 2007 he bought into two other companies with enfeebled stock, scooping up 9.7% of Acco Brands Corp., an office-products supplier, and 7.7% of jewelry chain Zale Corp.
Pouncing on eclectic stocks is one thing, maximizing the payoff quite another, professionals in the Wall Street-Greenwich money corridor grumble. Breeden started buying Applebee’s shares at $17.50 and sold at $25.50. But he probably could have gotten more if he had not bullied the board into a quick deal with IHOP. The $2.1 billion sale came to less than 10 times the Applebee’s EBITDA, compared with multiples between 10 and 11 on recent buyouts of steakhouse chains Outback and Lone Star, notes Michael D. Smith, a restaurant-industry analyst with Oppenheimer & Co. “I can’t say why they didn’t get full value for Applebee’s,” Smith says. “The insiders voted against the sale, but the outside shareholders voted for it.”
Data from the California pension-fund giant Calpers, which put up $400 million of the $1 billion Breeden has under management, show that his fund earned 20.1% compared with 20.6% for the S&P 500 for the 12 months through June 2007, effectively the fund’s first year in business. But Calpers is willing to stick with Breeden for five more years, believing that “his ability to get the ear of corporate managers and help them improve performance will pay off for investors,” says Clark McKinley, a spokesman for the mammoth investor.
Worse yet for directors at sleepy companies, in June Calpers doubled its allocation for “corporate governance and hedge funds” to a maximum of $10 billion. Its pension-fund cousin, California State Teachers’ Retirement System, already a Breeden backer, may be more than tripling its investment, from $1 billion to $3.5 billion. Perform or else!