DST Systems’ largest shareholder wants to shake up the Kansas City-based company, citing “strategic missteps” and “material deficiencies” in the way it is governed.
The financial services company openly questions the large shareholder’s motives. In a statement last week, DST said success on the part of the shareholder’s “public campaign” would come “at the expense of the company and all other DST shareholders.”
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Analysts agreed that the emerging battle could reshuffle DST’s mix of businesses and investments, as well as remove some of its best defenses against a hostile takeover.
In play is one of the Kansas City area’s largest publicly traded companies with thousands of local employees and a meaningful role in the city’s real estate scene.
The call for change comes from an investor group involving California billionaire George Argyros, whose family, businesses and trusts own 21.8 percent of DST.
Argyros, who serves on DST’s board of directors, had been seen as the primary force behind DST’s efforts in recent years to sell some of its real estate and investments in other companies.
DST’s real estate arm is no longer active as a developer — it was behind the 1.1 million-square-foot Internal Revenue Service facility in Kansas City — but still has substantial property in the area.
Its sales of various assets began to increase after a shift in DST’s board membership and particularly after longtime chief executive Tom McDonnell retired from DST in September 2012. McDonnell is now chief executive of the Ewing Marion Kauffman Foundation in Kansas City.
Last Wednesday, the Argyros group issued a statement that criticized DST’s handling of shareholder rights. It also announced its own candidates for two board seats and called for four changes to the company’s corporate rules.
The push follows Argyros’ recent retirement from his California real estate company called Arnel Affiliates LLC. It is now led by Julia A. Argyros, his wife. They’ve been together more than 50 years.
His term as a DST director expires at the company’s upcoming shareholders meeting, and he has decided not to stand for re-election, according to the letter.
Julia Argyros now controls most of the more than 9 million DST shares the group holds, according to filings with the Securities and Exchange Commission.
“Julia Argyros is re-evaluating the current investment in DST,” said an email from the group’s spokeswoman. “Julia believes these proposed reforms are in the best interest of all stockholders.”
The statement targeted DST’s board of directors as showing too little independence from the company’s management.
“In our view, this board’s failure to act independently of management with respect to board composition and structure, and stockholder rights generally, has led to corporate governance deficiencies and strategic missteps,” it said.
The spokeswoman said the group would address specific issues in the near future.
Regarding shareholders’ rights, the announcement referred to a leading investor proxy service’s poor opinion of DST’s practices.
“In particular, we note that DST has received the lowest possible ISS Governance QuickScore rating with respect to shareholder rights,” said the statement, which the group included in a regulatory filing.
Success would strengthen the group’s voice in the next steps DST takes, which may target some of the company’s key operations.
The “aggression” from DST’s largest owner “could signal larger strategic changes for DST,” analyst David Koning said in a note to clients at Baird Equity Research.
“We think this could lead to more aggressive asset sales and/or business reviews,” Koning wrote. “These could include real estate transactions and/or sales of various subsidiaries or joint ventures.”
His candidates for possible sale include DST’s printing and mailing business, formerly called DST Output and now named Customer Communications. It accounts for about a third of DST Systems’ operating revenues and has operations principally in Kansas City, California, Connecticut and England.
Credit Suisse analyst Georgio Mihalos agreed. In a note to clients, he said the Argyros group’s proposals could lead to sale of some DST businesses.
Mihalos offered what amounted to price tags on DST’s core mutual fund services business, its collection of health care operations that includes Kansas City-based Argus Health Systems, DST Output, the real estate holdings and other investments.
“We would expect strategic acquirers of select operating businesses to potentially ascribe higher values to the business lines,” Mihalos’ report said.
He said some of the changes that the Argyros group seeks also would “effectively weaken anti-takeover provisions” that DST could use to fend off a hostile takeover, should one arise.
DST had said in 2011 that it turned away more than one private equity firm interested in negotiating a purchase of DST. The company said at the time that its board determined a sale was not in shareholders’ best interest.
DST issued a rebuttal last Wednesday, essentially taking up the fight for shareholders’ support by targeting the Argyros group.
“We believe that this is an attempt by the Argyros group to distract DST shareholders from the Argyros group’s true desire to re-evaluate its current investment in DST in light of the recent significant changes occurring at the Argyros group,” the company said. DST did not describe those changes.
DST said its “best efforts to engage productively with” the Argyros group included discussions about “options for its investment that would benefit not just the Argyros group, but all shareholders.”
Instead, DST’s statement said, the shareholder group has chosen to criticize the company’s governance practices publicly and seek shareholder support “to gain leverage in these discussions for its own purposes.”
And DST challenged the group’s motives.
The public criticism, DST’s statement said, is focused on governance rules approved by the Argyros group, by George Argyros as chairman of DST’s governance committee and by five of DST’s eight directors who were supported by the Argyros group.
Nevertheless, DST’s statement said it would submit all the Argyros group’s proposals to shareholders. Furthermore, it said other institutional investors in DST shares recently had made “identical” proposals to the company, with one exception.
Here are the proposals the Argyros group said it wants shareholders to vote on:
• Require all of DST’s directors to stand for election every year. Currently, directors serve for three years, and their terms are staggered so only a few face a shareholder vote each year.
• Eliminate DST’s “poison pill,” which is a common corporate agreement aimed at preventing hostile takeovers of public companies. The group said it would voluntarily agree not to exceed the ownership limit set by the company’s current poison pill. Others have not offered this proposal, DST said.
• Prohibit one person from serving as both chairman and chief executive of DST. The company does not appoint a chairman, which allows chief executive Stephen C. Hooley to chair the board meetings.
• Implement a “majority vote” standard.
The group’s two nominees for director are John W. Clark and Janet E. Kerr.
Clark is a managing member of a private equity group, Westar Capital Associates in Costa Mesa, Calif., that George Argyros helped found.
Kerr is the executive director of an entrepreneurship and law center at Pepperdine University in California. Kerr is on the boards of other public companies and serves as an advisory board member of Exemplify, which helps lawyers do research for corporate transactions.