Einhorn's hedge fund sues Apple: Show me the money

David Einhorn's Greenlight Capital is suing Apple to block a shareholder proposal that would prevent the electronics giant from issuing preferred shares. Apple fires back, saying that the proposal wouldn't prevent preferred shares and that it will "thoroughly evaluate" Greenlight's plan.

CNET

"Show me the money" might have been the most famous line from the old Tom Cruise movie "Jerry Maguire," but that's exactly what a big Apple shareholder wants.

Greenlight Capital, a hedge fund run by David Einhorn, today filed a lawsuit and issued a letter to Apple shareholders (PDF), urging them to support his push to get Apple to share more of its cash with investors.

"Apple is a phenomenal company ... but Apple has a problem," Einhorn said during an interview on CNBC. "It has sort of a mentality of a depression. In other words, people who have gone through traumas -- and Apple's gone through a couple traumas in its history -- they sometimes feel they can never have enough cash."

He compared the company to his grandmother who wouldn't even leave messages on his answering machine because she didn't want to get charged for the phone call. Einhorn said he understands that Apple wants a large cash hoard to be strategic, make acquisitions, and be secure, but he believes issuing high-yielding preferred shares to existing shareholders would allow Apple to share the value on the balance sheet but still hold a large amount of cash.

Greenlight's letter to shareholders noted the fund in May of last year introduced the idea that Apple could distribute preferred stock to current shareholders. Since that time, the fund has talked with Apple about the idea, but Apple ultimately rejected the idea.

Apple's latest proxy statement, which details items up for a vote at its February 27 shareholder meeting, includes a proposal that would eliminate "blank check" preferred stock.

Einhorn's suit, filed in federal court in Manhattan, seeks an injunction to prevent Apple from bundling that provision with several other items. Rather, he wants each item to be voted on separately.

Here's the full Apple proposal, No. 2 on the roster:

To amend the Company's Restated Articles of Incorporation to (i) eliminate certain language relating to the term of office of directors in order to facilitate the adoption of majority voting for the election of directors, (ii) eliminate "blank check" preferred stock, (iii) establish a par value for the Company's common stock of $0.00001 per share and (iv) make other conforming changes as described in more detail in the Proxy Statement.

Greenlight's letter said it notified Apple yesterday that it would vote against Proposal No. 2. Apple said it would reconsider the idea of preferred stock but refused to withdraw the proxy provision where Apple wants to block preferred stock from its charter.

Apple, meanwhile, fired back later today in a statement posted online. The company defended its use of cash, saying it has already delivered $10 billion of its plan to return $45 billion to shareholders over three years.

Apple said Proposal No. 2 is its effort to serve shareholders' best interests. It noted the changes were recommended independently of Greenlight's proposal and that it wouldn't prevent Apple from adopting Greenlight's ideas. Apple added that the proposal wouldn't bar the company from issuing preferred stock but would prevent the board from issuing "blank check" preferred stock without shareholder approval. If the provision is adopted, shareholders would have the right to approve any issuance of preferred stock.

David Einhorn
"Apple's management team and board of directors have been in active discussions about returning additional cash to shareholders," the company said. "As part of our review, we will thoroughly evaluate Greenlight Capital's current proposal to issue some form of preferred stock. We welcome Greenlight's views and the views of all of our shareholders."

It added that it remains "committed to having an ongoing dialogue with our shareholders to get perspectives around return of capital and driving shareholder value."

Apple has long faced questions about what it will do with its massive cash stockpile. It reinitiated a dividend last year and also has plans to buy back stock. But as of the December quarter, Apple still had $137 billion in cash and securities on its books.

At the same time, Apple's shares have come under pressure amid worries about competitive pressure. The company reported record results in its latest quarter, but the numbers weren't as strong as Wall Street expected. Shares, down 36 percent since their peak of $705.07 in September, today grew nearly half a percent to $456.80.

Einhorn, meanwhile, has a long history of pushing for change at companies his fund invests in. For example, in 2011, he called for Microsoft CEO Steve Ballmer to step down , saying Ballmer's continued presence was the biggest overhang on Microsoft's stock at the time. Clearly he didn't succeed in that push, as Ballmer still runs Microsoft. But Einhorn has made the right bets in other cases, such as shorting Lehman Brothers' stock before the bank collapsed.

Greenlight owns more than 1.3 million Apple shares, which is worth nearly $600 million. However, that's still a tiny percentage of the 939.1 million Apple shares outstanding.

Here's Einhorn's full letter:

February 7, 2013

VOTE AGAINST PROPOSAL 2 AT THE FEBRUARY 27 ANNUAL MEETING TO PROTECT YOUR INVESTMENT IN APPLE

Oppose Apple's Effort To Restrict The Company's Ability To Unlock Substantial Shareholder Value

Dear Fellow Apple Shareholder,

Greenlight Capital, Inc. (and affiliates, "Greenlight") has been a significant shareholder of Apple Inc. ("Apple" or the "Company") since 2010. We believe Apple is a phenomenal company filled with talented people creating iconic products that consumers around the world love. We are long-term shareholders of Apple.

However, like many other shareholders, Greenlight is dissatisfied with Apple's capital allocation strategy. The combination of Apple's low (and shrinking) price to earnings multiple and $137 billion (and growing) hoard of cash on the balance sheet supports Greenlight's contention that Apple has an obligation to examine all options to create and unlock additional value.

We understand that many of our fellow shareholders share our frustration with Apple's capital allocation policies. Apple has $145 per share of cash on its balance sheet. As a shareholder, this is your money. Though Apple recently commenced paying a common dividend and initiated a nominal share repurchase program, we believe that there is much more that the Board should do for shareholders.

We believe that it is important for shareholders to send Apple's Board the message that the current capital allocation policy is not satisfactory, and that after considering all options, Apple's Board should act to unlock the latent value of Apple's balance sheet and franchise. If you share our frustration, please join us in blocking the Company's effort to restrict its value creation options by voting AGAINST Apple's plan to amend its corporate charter in Proposal 2 to eliminate preferred stock.

Send Apple And Its Board A Message That We Want Apple To Change Its Capital Allocation Policy To Unlock Value For Shareholders -- VOTE AGAINST PROPOSAL 2

At a May 2012 investment conference, Greenlight introduced the idea that Apple could unlock several hundred billion dollars of shareholder value by distributing to existing shareholders a perpetual preferred stock.

Since then, Greenlight has had discussions with Apple encouraging the Company to distribute perpetual preferred stock as an innovative method of rewarding all shareholders for the Company's strong balance sheet and substantial cash flows. Put plainly, Greenlight is encouraging Apple to distribute a perpetual, high-yielding preferred stock directly to shareholders at no cost. This would enable shareholders to own and separately trade the new preferred shares and Apple's existing common shares. Importantly, Greenlight believes these preferred shares represent a simple, low-risk way to reward shareholders without compromising the financial and strategic flexibility of the Company, or forcing the company to incur tax on repatriating its offshore cash balances.

Greenlight suggested an initial preferred share distribution, whereby dividends could be funded on an ongoing basis by a relatively small percentage of the Company's operating cash flow. Apple rejected the idea outright in September 2012. Yesterday, after Greenlight notified Apple of its intention to vote against Proposal 2, Apple said it would reconsider the idea, but refused to withdraw the proxy provision where Apple seeks to eliminate preferred stock from its charter.

The recent, severe under-performance of Apple's shares, which are down approximately 35% from their peak valuation, underscores the need for the Company to apply the same level of creativity used to develop revolutionary technology for its consumers to unlock the value of its strong balance sheet for its shareholders.

We believe our suggestion of distributing perpetual preferred stock, while innovative, is also quite simple. Apple could distribute high-yielding, tax efficient preferred stock to existing shareholders at no cost. This new type of easily tradable preferred security would allow Apple to take advantage of the market's appetite for yield while preserving future operating and strategic flexibility. Importantly, we believe this strategy would require no immediate use of cash other than the ongoing dividend, and would not pose any maturity, re-financing, balance sheet, or default risk.

For example, Apple could initially distribute to existing shareholders $50 billion of perpetual preferred stock, with a 4% annual cash dividend paid quarterly at preferential tax rates. Once a trading market is established and the market recognizes the attractiveness of a highly liquid, steady yielding instrument from an issuer backed by Apple's unmatched balance sheet and valuable franchise, the Board could evaluate unlocking additional value by distributing additional perpetual preferred stock to existing shareholders. With this conservative action, Greenlight believes the Board could unlock hundreds of billions of dollars of latent shareholder value.

Assuming Apple retains its price to earnings multiple of 10x and the preferred stock yields 4%, our calculations show that every $50 billion of perpetual preferred stock that Apple distributes would unlock about $30 billion, or $32 per share in value. Greenlight believes that Apple has the capacity to ultimately distribute several hundred billion dollars of preferred, which would unlock hundreds of dollars of value per share. Further, Greenlight believes additional value may be realized when Apple's price to earnings multiple expands, as the market appreciates a more shareholder friendly capital allocation policy.

Apple's Attempt To Remove A Potential Means Of Value Creation Should Concern ALL Shareholders

As holders of more than 1.3 million Apple shares, Greenlight is alarmed that Apple is attempting to eliminate preferred stock from its corporate charter, hindering its ability to unlock value for shareholders. This is an unprecedented action to curtail the Company's options. We are not aware of any other company that has ever voluntarily taken this step. Furthermore, over 90% of the S&P 500 companies have the flexibility to issue similar preferred shares.

Apple is attempting to package this provision with two positive corporate governance reforms that we would normally support. Apple is asking shareholders to approve or disapprove of all three changes in a single bundled vote.

We believe that the Securities and Exchange Commission ("SEC") proxy rules require that Apple provide for a separate vote on each matter presented to its shareholders for approval at the shareholder meeting. This 'unbundling' rule is designed to permit shareholders to express their vote on each individual matter and to not be forced to vote on a combined package of items. This prevents companies from forcing shareholders to approve matters that they might not vote for if presented independently.

In our view, Apple's Proposal No. 2 violates the SEC's 'unbundling' rule because it ties together three separate matters (majority voting for directors, elimination of preferred stock, and establishing a par value for the Company's common stock) into one proposal. Apple should be required to unbundle these items into separate proposals to allow the shareholders to make an independent choice on each matter. Accordingly, Greenlight has initiated a legal action in the U.S. Federal District Court for the Southern District of New York seeking to have the Company unbundle the various components of Proposal 2 so that shareholders can rightfully vote on each individual provision as mandated by SEC rules.

We cannot support the two desirable governance reforms at the expense of limiting Apple's ability to potentially unlock hundreds of billions of dollars of shareholder value. Importantly, in its current form, voting AGAINST Proposal 2 does not affect the 'majority voting' reform in the short-term, as Board members have already agreed to resign from the Board if they fail to receive a majority of votes cast "for" their election. As a result, we will vote AGAINST Proposal 2 in Apple's proxy and we urge you to vote AGAINST the proposal, as well.

Proposal 2 Is Value Destructive, Impedes The Board's Flexibility, And Does Not Merit Shareholder Support

Your vote is extremely important, regardless of how many shares you own. Apple shareholders of record as of January 2, 2013 are entitled to vote at the annual meeting. Proposal 2 requires the affirmative vote of a majority of the outstanding shares. If you were an Apple shareholder on the record date, you can still vote AGAINST Proposal 2, even if you already voted your shares.

Greenlight is not asking for your proxy card, so please do not send us your proxy card. If your Apple shares are held in your own name, please vote AGAINST Proposal 2. If you hold your Apple shares in "street name" with a bank, brokerage firm, dealer, trust company or other nominee, only they can exercise your right to vote with respect to your shares and only after receiving your specific instructions. IT IS CRITICAL THAT YOU PROMPTLY GIVE INSTRUCTIONS TO YOUR BANK, BROKERAGE FIRM, DEALER, TRUST COMPANY OR OTHER NOMINEE TO VOTE "AGAINST" PROPOSAL 2. If you have any questions about voting your Apple shares, please call our proxy solicitor, D.F. King & Co., Inc., toll-free at (800) 949-2583 (banks and brokerage firms should call (212) 269-5550), or email apple@dfking.com.

Thank you for your consideration and support.

Sincerely,

David Einhorn, Greenlight Capital

And here's Apple's statement:

By early last year, Apple's cash balance had built to a point beyond what we needed to run our business and maintain flexibility to take advantage of strategic opportunities, so we announced a plan to return $45 billion to shareholders over three years. As of next week we will have executed $10 billion of that plan.

We find ourselves in the fortunate position of continuing to generate large amounts of cash, including $23 billion in cash flow from operations in the last quarter alone. Apple's management team and Board of Directors have been in active discussions about returning additional cash to shareholders. As part of our review, we will thoroughly evaluate Greenlight Capital's current proposal to issue some form of preferred stock. We welcome Greenlight's views and the views of all of our shareholders.

As a part of our efforts to further enhance corporate governance and serve our shareholders' best interests, Proposal #2 in our proxy includes some recommended changes to our articles of incorporation. These changes were recommended independently of Greenlight's proposal and would not preclude Apple from adopting their concept. Contrary to Greenlight's statements, adoption of Proposal #2 would not prevent the issuance of preferred stock. Currently, Apple's articles of incorporation provide for the issuance of "blank check" preferred stock by the Board of Directors without shareholder approval. If Proposal #2 is adopted, our shareholders would have the right to approve the issuance of preferred stock. As such, Proposal #2 has the support of many of our shareholders.

We remain committed to having an ongoing dialogue with our shareholders to get perspectives around return of capital and driving shareholder value.

CNET's Josh Lowensohn contributed to this report.

Updated at 10:10 a.m. PT with additional details about Einhorn and his stake in Apple and again at 1:05 p.m. PT with Apple's statement.

 

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