Fourth in a series. See Hedge Fund Activism and Corporate Governance.
CSX Corporation (“CSX”) is one of the oldest and largest railroad companies in North America. Founded in 1827, CSX serves 23 states, the District of Columbia and the Canada provinces of Québec and Ontario.
In 2007 a United Kingdom- based Hedge Fund Activist The Children’s Investment Fund (“TCI”), and another Hedge Fund Activist 3G Capital Partners (“3G”) announced that they had acquired about 9 percent of the CSX equity securities, and derivative securities (“TR Swaps”) equal to another 11 percent of the CSX equity securities. Thus, TCI and 3G controlled about 20 percent of the votes of CSX. TCI and 3G then launched a hostile attack on CSX by initiating a proxy contest, nominating five candidates to the CSX Board.
CSX filed a lawsuit in the United States District Court in New York against TCI and 3G (“CSX v. TCI”) with two claims[i]:
- That TCI and 3G had violated the Williams Act by failing to timely file Schedule 13(d) when it had attained 5 percent control of CSX voting equity securities. Even though TCI and 3G each had less than 5 percent direct ownership of the voting equity securities, CSX claimed that the TR Swaps gave TCI and 3G effective voting control beyond 5 percent; thus, Schedule 13(d) should have been filed.
- That TCI and 3G acted as a “group” by coordinating their actions; thus, the Schedule 13(d) should have been filed when the “group” exceeded 5 percent voting control.
In June 2008 the Federal District Court agreed with CSX that TCI and 3G had violated the Williams Act Schedule 13(d) filing requirements. The Court noted that TCI and 3G effectively controlled the voting securities through their TR Swaps since they had arrangements with the banks on the other side of these derivatives, which had hedged their own positions by taking long positions in the equity securities. In addition, the Court agreed that the coordinated timing of their purchases and public announcements made it clear that TCI and 3G were acting as a “group”.
However, the Court held that, despite this finding, the only penalty that could be imposed on TCI and 3G was injunctive relief; meaning, he ordered TCI and 3G to make their Schedule 13(d) filings, which they had, by then, already done. The Court said that it was powerless to grant the relief sought by CSX, which was to nullify the 20 percent voting control held by TCI and 3G.
Thus, the annual meeting was held and TCI and 3G elected four of their five candidates to the CSX Board. The result was a disaster for the corporation and its equity security holders: CSX shares declined by 50 percent after the annual meeting. By that time, TCI and 3G had sold all their shares. All of the TCI and 3G Directors then resigned from the CSX Board.
Two years later, in 2011, the United States Court of Appeals for the Second Circuit released its opinion in the appeal of CSX v. TCI. By that time, the parties had ceased to have interest in the outcome. The CSX v. TCI decision did not rule on whether the holder of the TR Swaps should be considered a beneficial owner. The Court also ruled that the District Court did not have sufficient basis to find the concerted actions of TCI and 3G formed a “group” as required under the Williams Act. However, the Court did concur with the District Court decision that the shares held by TCI and 3G could not be “sanitized”.
CSX v. TCI was important to the development of case law because it essentially cleared the way for other Activists to use collusive Wolf Pack tactics to amass substantial voting ability in a target without making public disclosure of their intentions. The only relief available to a targeted corporation and its shareholders is an injunction preventing the Activist from acquiring more securities until the appropriate filings had been made, which, of course, the Activist typically has no intention of doing anyway. It also left open whether or not TR Swaps or other derivative securities would be counted for purposes of requiring the mandated disclosure.[ii]