Proxy Advisers Oppose Activist’s Ethan Allen Board Takeover

ISS wants the board rejected outright while Glass Lewis is willing to back only three of the six-member proposed board.
By Ronald Orol ,

The two main proxy advisory firms are recommending investors oppose activist investor Sandell Asset Management's efforts to take control of Ethan Allen Interiors' (ETH) - Get Report board, though one shareholder adviser is urging voters to back three of the dissident's six-person board slate.

At issue is a proxy battle set to take place Nov. 24 between the fund's founder, Thomas Sandell, and Ethan Allen over the dissident's efforts to drive the interior design and furniture company to hire a financial adviser to help it "extract value from retail and industrial real estate assets." In addition, Sandell wants Ethan Allen to review "credible acquisition proposals, should any be received."

In a report issued over the weekend, Institutional Shareholder Services said it would recommend investors back three of Sandell's six nominees. In the report, obtained by The Deal, ISS argued  Ethan Allen deserves some credit for maintaining a strong balance sheet through a "challenging phase of its history." However, it also argued Ethan Allen's defensive strategies may be inadequate for a "transformational business environment" and that its current board "may still be poorly designed to help the company address the business and evolutionary challenges" or to provide effective oversight over Ethan CEO Farooq Kathwari.

However, the other major proxy advisory firm, Glass Lewis recommended in a report issued privately Friday that shareholders vote for the entire Ethan Allen incumbent board. It said that "overall" it sees a greater reason for shareholders to defer to Ethan's board and management team with respect to strategic and financial matters. Ethan cut its board down by one in advance of the contest and has seven incumbent candidates, including Kathwari, up for election.

Sandell's campaign also may be predicated, in part, on an effort to have Ethan Allen sell itself. In a previous filing, Sandell notes that there would be a "line out the door" of private equity firms interested in buying the company if it were to put itself up for sale. ISS noted that Sandell's nominees, only one of which has furniture industry experience, "does appear skewed towards that proposition."

Among the three Sandell candidates, ISS is recommending investors back Ken Pilot, a former president of ABC Carpet & Home. Pilot, who appears to have the most furniture industry experience, previously was president of Polo Ralph Lauren Factory Stores between 2002 and 2004. Other Sandell nominees include a former private equity managing director, a Sandell managing director, a supermarket chain HR vice president and two REIT experts.

Nevertheless, with divided recommendations it is likely that Ethan Allen's board is unlikely to agree to a settlement in advance of the proxy battle, especially as it is set to take place on Nov. 24.

A key battleground involves Ethan Allen's real estate. In previous comments, Sandell has argued that the company could monetize its real estate through a "series of sale leaseback" transactions or the creation of a publicly traded real estate investment trust. However, a person familiar with the activist acknowledged that a REIT spinoff had been taken off the table in light of guidance issued by the Internal Revenue Service in September essentially saying it will no longer essentially give an advanced blessing for any tax-free treatment of the transactions in advance as it did in the past.

As far as a sale-lease back effort, which is not impacted by the IRS notice, Glass Lewis said Ethan Allen "presented a reasoned defense of its decision not to pursue sale-leasebacks or a REIT structure at this time." The proxy adviser concluded that Sandell's nominees, many of whom have financial or real estate expertise, wouldn't add "significant value" to the company's board.

The battle at Ethan Allen escalated in September when Sandell took issue with a company bylaw - known as a "deadhand" bylaw that only permit a sale of the company to go forward with the approval of "continuing directors." Those who fit that criteria include Kathwari, as well as another current director, Clinton Clark. (Those who fall into this category could include others appointed by the same continuing directors.) As a result, a board composed almost entirely of Sandell nominees could not approve a sale or real estate spinoff if the continuing directors are opposed to it, according to people familiar with the activist.

An Ethan Allen spokeswoman noted that the provision is contained in Ethan Allen's articles of incorporation and may be amended only by a supermajority of two-thirds of the shares entitled to vote. "The company is studying this closely," she said. 

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