Wednesday, October 10, 2012

Activist Investors Are Cautioned on Passive vs. Active Filings (with the FTC and the SEC)

Biglari Holdings (Ticker: BH), which has been an investor in Cracker Barrel Old Country Store (Ticker: CBRL) since last year agreed to pay an $850,000 fine to resolve allegations that it continued to file as a “passive” investor under Hart-Scott-Rodino (HSR) when BH had in fact intended to become actively involved in the management of the Company. (Note: BH is currently seeking two seats on CBRL’s board for a second year in a row and now owns 17.5% of CBRL at an average cost of $48.59 per share.  Read our recent activist research report on CBRL.)

BH’s settlement made it clear investors need to stay on top of not only Securities and Exchange Commission filings but also Federal Trade Commission HSR filings as well.


BH changed its filing status from “passive” (13G) investor to “active” (13D) investor with the SEC on June 13 last year disclosing a 9.7% ownership in CBRL, but neglected to file with the FTC or observe the HSR waiting period, which is intended to provide the FTC enough time to examine the competitive (i.e. antitrust) dynamics of any large investment.

The sanction hinges on a complaint the FTC filed alleging BH’s abuse of the HSR's passive investor exemption.

According to a press release issued by the FTC on September 25:

“The Hart-Scott-Rodino Act contains an exemption for acquisitions of up to ten percent of voting securities if the acquisition is made solely for the purpose of investment.  The HSR Rules state that such transactions are exempt from premerger filings, if ‘the person holding or acquiring such voting securities has no intention of participating in the formulation, determination, or direction of the basic business decisions of the issuer.’  However, if the buyer intends to be actively involved in the management of the acquired asset, the exemption does not apply and an HSR filing may be required.”

The Department of Justice confirmed that the issue was indeed related to the passive investor exemption:

According to the complaint, “…in May and June 2011, Biglari Holdings acquired approximately 8.7 percent of the outstanding voting securities of Cracker Barrel.  On June 8, 2011, Biglari Holdings exceeded the then-$66 million threshold for HSR filings, and continued to acquire additional voting securities through June 13, 2011.  The complaint alleges that, at the time of its acquisitions, Biglari Holdings intended to actively participate in the management of Cracker Barrel, including seeking a seat on the company’s board of directors.  As a result, Biglari Holdings was ineligible for the passive investor exemption and was required to submit an HSR notification before acquiring shares of Cracker Barrel in excess of $66 million.”


BH took a different view of the situation. According to a company press release BH argued its plans were never “active”, stating, "Biglari Holdings has made clear in all of its public filings that it has no intention of becoming actively involved in day-to-day management or in seeking control of the Board of Cracker Barrel."

Obviously, HSR's opinion of the passive investor exemption is very much at odds with BH’s interpretation.  BH’s effort to seek representation on the Cracker Barrel board alone appears to be enough to make the FTC see it as a move towards seizing control of the company, regardless of BH’s claims to the contrary.  In addition, since BH operates in the restaurant business, the FTC considers it a competitor - which will strip an investor of its passive status, as does (i) submitting a proposal for shareholder approval, (ii) soliciting proxies, or (iii) investing when a company creates a shareholder rights plan (which CBRL did after BH began acquiring shares last year).

Analysis from the law firm of Wachtell Lipton highlights the FTC's view: "The FTC’s complaint and press release allege that Biglari Holdings’ actions, including the request for two board seats, were inconsistent with investment-only intent . . . ."

Another assessment from Proskauer Rose notes a variety of actions likely to raise eyebrows at the FTC and focuses on one particular issue in the case of Biglari and Cracker Barrel: "According to the agency, seeking representation on the target company's board of directors, as Biglari did, creates an irrebuttable presumption of intent inconsistent with a passive investment."

In another view, Schulte Roth & Zabel advises investors to talk to their attorneys about anything that could signal a change from passive to active investing: "While the Agencies acknowledge that investors’ intent may change over time from passive to active, the allegations in this matter show the Agencies' willingness to question and challenge an investor's reliance on the passive investment exemption."

Posted by Paul Springer