An Activist Investor Shakes Things Up

When Ralph V. Whitworth disclosed recently that his investment firm had taken a large position in National Semiconductor Inc. and would press for an improvement in its results as well as for a couple of seats on its board, the Santa Clara, Calif., company responded with -- let’s call it for what it is -- a snub.

No big problems here, said the company, which has returned negative 18% to shareholders over the last two years. Business is looking up. We’re happy with the board just as it is.

“This has been one of the most intransigent situations we’ve seen,” Whitworth told me recently in his La Jolla office.

A betting person might say past performance would dictate placing your money on Whitworth in this contest. He is the antithesis of the passive investor. When his firm, Relational Investors, takes a major position in a public company (or even a small position), that’s an indication that he sees something awry in what has come to be known as corporate governance.

Although this could mean simply that the company is reinvesting its profit miserably (among his beefs with National Semiconductor), more often it means that its board has been dithering by the side of the road and needs to feel the thwack of the knout. Whitworth insists that his objective is rarely to “kick the guys out.” Instead, “we purchase shares where we think the current management and board will be able to do the right thing ... if they have an interest in doing it.”

Once he has acquired enough of a shareholding to be heard, he typically will offer a series of operational proposals and sometimes insist on a board seat or two. As a general rule, his arrival has presaged, or been coincident with, a new direction in the company’s strategy, and not infrequently in its leadership.

Over the years, this style has proved highly lucrative. Shares of Apria Healthcare Group Inc., a troubled Costa Mesa company in which Whitworth started investing in 1997, have soared 63% since April 1998, when he became chairman to resolve a boardroom dispute and moved to install new management. Mattel Inc. shares have nearly doubled in price since February 2000, soon after Whitworth bought into the company and Chief Executive Jill Barad was forced out. (Whitworth joined the board but has announced that he will step down this year.)

The roots of Whitworth’s strategy lie in the 1980s, when a similar approach was widely reviled as “corporate raiding.” As it happens, Whitworth cut his teeth as an employee of the original swashbuckling raider, T. Boone Pickens, who dressed up his acquisition attacks on underperforming oil and gas companies as blows on behalf of shareholder rights.

The idea that shareholders could directly address management laxity was a novel one at the time. Whitworth, who left Pickens’ employ in 1988 and ultimately went into partnership with another Pickens lieutenant, David Batchelder, is very different from his old mentor.

For one thing, he’s not out to acquire companies and fold them into his own -- the way Pickens built up his Mesa Petroleum -- but rather to profit as a shareholder, which tends to mean enhancing a company’s value for all owners and staying invested for several years. For another, his strategy, which has acquired the name “relational investing,” today conforms closely with a business orthodoxy that smiles on demure corporate behavior.

Prominent as he may be in corporate management circles, Whitworth doesn’t occupy much space in the public mind. He gives media interviews largely when they serve his business purposes, such as when he is launching a shareholder campaign against a recalcitrant management. If his name rings a bell, it’s probably for the birthday party he threw this year for his wife, Wendy, the executive producer of CNN’s “Larry King Live,” or more precisely for the hired entertainer: Paul McCartney, who performed in acknowledgment of a million-dollar gift Whitworth had made to his favorite charity. (Whitworth says he intended to keep the performance secret, but McCartney’s people spread the word.)

In person, the 47-year-old Nevada-raised Whitworth comes off as a blunt-speaking connoisseur of corporate culture. He’ll occasionally interrupt an anecdote about some episode of corporate misrule to exclaim, in bemused astonishment, “It was amazing!”

There’s no question that what amazes him most is the behavior of corporate boards. Poor governance, Whitworth says, is characterized by “a dysfunctional board, with unhealthy relationships, conflicts of interest, ossified, passive.”

The model is the board of Tyco International Ltd., which stood by ignorantly as CEO L. Dennis Kozlowski and several of his lieutenants allegedly looted the company through excessive pay and perks. (The former executives have pleaded not guilty to various criminal charges arising from their tenure.)

Whitworth was among the large shareholders who insisted last year that the entire board resign in the course of a restructuring. Two directors insisted on staying, arguing that “it would be a terrible precedent to fire the whole board, because you have to have continuity and historical perspective,” Whitworth recalls. “I said actually we wanted no continuity, because I didn’t want anything that happened here in the past to continue.” In the end the directors withdrew their appeal. Tyco, the restructuring of which is still a work in progress, has lost about 10% in value since last August.

Whitworth’s experience as a hands-on corporate restructurer has left him with little regard for corporate behavior rules that periodically waft from Washington, like spritzes of cheap disinfectant. Take the Sarbanes-Oxley Act, which was enacted last year to outlaw some of the misdeeds made famous by the Enron Corp. and WorldCom Inc. scandals.

That’s mostly about process and appearance, Whitworth argues. The boards of most of the egregious corporate wrongdoers of recent vintage “probably practiced 90% of what the new laws require,” Whitworth says. They hired directors with stellar reputations, they had the right ratio of “independent” directors to members of management, they formally signed off on their financial statements, they didn’t employ known felons as corporate officers.

So what happened? The answer, he says, is that board members still are chosen largely by top management from among a small universe of interchangeable candidates with predictable mind-sets. How many chief executives willingly judge potential directors by their determination to disagree? “Human nature is such that it takes a very special person to bring in his own devil’s advocate,” Whitworth observes.

A new rule that might actually make a difference, and one he has been advocating for years, would require companies to present the names of alternative board candidates on the corporate proxy statements mailed to all shareholders. Under the current rule, anyone waging a private campaign for a board seat must distribute his or her own proxy, which can cost hundreds of thousands of dollars. Changing that rule would turn contests for directorships into genuine referendums on the performance of the board, Whitworth contends, and place real power in shareholder hands. That’s the only way to keep managements in check.

“Government,” he says, “is never going to be able to pinpoint all the different places that somebody can screw the shareholders.”

Golden State appears every Monday and Thursday. Michael Hiltzik can be reached at [email protected].