Crypto News: Money Stuff: Purple Dumps Its PRPLS

Most US public corporations are mostly controlled by their boards of directors, who sort of loosely answer to the shareholders. [1] The shareholders get to vote to re-elect the directors every year, but the directors generally run unopposed, serve as long as they want and choose their own successors. And most big corporate decisions are made by the directors, or by the executives they appoint and supervise; the shareholders only rarely get a vote on those decisions. [2] The shareholders are in some loose sense the owners of the corporation, and in some loose sense they get to supervise the directors, but in most practical senses, most of the time, the directors are in charge and the shareholders are pretty much along for the ride.

Not always, though. Some companies have controlling shareholders who do have the practical power to remove directors. Sometimes an activist will buy a big stake in a company, run a proxy fight, and try to get its own proposed directors elected instead of the incumbents. And some corporate decisions do have to be ratified by a shareholder vote. Most notably, the decision to sell the company requires a shareholder vote, and the decision to authorize new shares — to let the board issue more shares than are currently authorized in the corporate charter — also requires the approval of a majority of the shares.

But at most public companies these situations are rare enough that, when they do arise, the board and also the shareholders can find them kind of annoying. If you are a director at a public company who has been used to having collegial quarterly meetings with the other directors, getting reports from a chief executive officer whom you like and admire, guiding the company's pursuit of a strategy that you believe in, and selecting new directors to improve the board's expertise while maintaining its effectiveness and collegiality — you might be annoyed when someone shows up and says "I'm gonna fire all of you and take the company in a different direction" just because they happen to own a bunch of stock. Who put them in charge? Why do they think that just buying some stock gives them the right to manage the company?

Or if you are a director at a company in some financial trouble, you might have a series of difficult and thoughtful board meetings at which you all agree, based on a great deal of analysis and soul-searching, that the only way to solve the company's troubles is to sell a lot more stock — more stock, as it happens, than is authorized by the charter. And you might be annoyed to have to go out and make the case to underinformed retail shareholders that they should vote to approve new shares. "What about dilution," they will ask, and you will roll your eyes and say "yes we discussed this in some detail and we already decided that this is what's best for shareholders, just vote for it."

Also though those retail shareholders themselves might not bother to vote on anything, because their vote so rarely matters that the share ownership system is not really set up to make voting easy and practical for them.

Most US public corporations also have "blank-check preferred stock," which means that their charter authorizes the board of directors to issue shares of preferred stock with any terms that the directors want. And there has been a fun small recent trend of boards of directors making novel use of blank-check preferred to, as it were, fix shareholder voting, to soften the shareholder voting requirements and make shareholder votes go the way the boards want.

This was kicked off last year by AMC Entertainment Holdings Inc.'s APEs. AMC was a meme stock, it needed money, it got money by selling stock, it ran out of authorized shares, and its largely retail shareholder base wouldn't approve more. So AMC's board used its ability to issue blank-check preferred stock to issue APEs, which are preferred-stock units that are meant to be equivalent to common stock. This got around the shareholder voting requirement in two ways. First, if APEs are more or less equivalent to common stock, then the board could issue more common-stock-equivalents without a shareholder vote: It could go to investors and say "we have some APEs, they're just as good as common stock," and sell them to raise money. Second, if APEs are not just as good as common stock — and they have traded at a big discount to the common — then at least they vote like common stock, and the board can go out and ask all shareholders (common and APE) to authorize new common shares. The board did that, and also, uh, optimized that vote: It structured the APEs so that even APEs that didn't vote were counted as voting, to make it easier to get a majority of all shares; it also placed a big block of APEs with a friendly investor who agreed to vote to authorize more shares.

AMC's basic theory here was that its shareholders (1) should want to authorize more shares (to avoid financial distress, etc.) and also (2) do want to authorize more shares: It's just that they are overwhelmingly retail investors, and retail investors mostly don't vote even for things that they want. But some shareholders don't like it; they sued, AMC held the vote, AMC basically won the vote, the shareholders and AMC came to a settlement agreement, but the court has not yet signed off on it and some shareholders have objected.

So the legality of the APEs is still unclear. On the one hand, the board of directors of AMC does have the blank-check power to issue new preferred stock with whatever terms it wants; by the letter of the law and the charter the APEs seem fine. And the board does seem to have done this for good, loyal, acting-in-the-best-interests-of-the-company reasons: It considered AMC's financial situation, decided that raising more money by selling stock was the right move, and concluded that the APEs were the best way to achieve that goal. On the other hand, though, it seems clear that the board was trying to get around the requirement that its shareholders vote to authorize new shares: The directors really were rigging the vote to achieve a result that they (reasonably, loyally, thoughtfully) wanted. And rigging the shareholder vote to get the directors' preferred outcome — even if the directors' preference is good — seems like a tough thing for a court to endorse.

And the APEs inspired copycats. We have talked about Soligenix Inc., a micro-cap biotech company that needed shareholder approval to do a reverse stock split to remain listed on the Nasdaq. It's apparently hard for Soligenix to get its penny-stock retail holders to vote for anything, and it needed a majority of all of its shares to vote for the reverse split: Shares that don't vote count as votes against. So it issued a new blank-check preferred stock that give each shareholder an extra 1,000 votes per share. This new stock would be automatically redeemed right around the time of the shareholder vote: Any shares that voted would be counted in the vote, and then redeemed immediately afterwards; any shares that didn't vote would be redeemed right before the votes were counted. The result is that, at the exact moment of the shareholder vote, only shares that actually voted would be outstanding, so if most of them voted yes Soligenix would get its majority. The extra-voting preferred stock is a way to get around the requirement that a majority of all outstanding shares have to vote for the reverse split, for Soligenix as for AMC.

Or there is Tilray Brands Inc., a publicly traded cannabis company with a lot of retail investors that also needed shareholder approval to collapse a dual-class share structure and authorize new shares. It created a new blank-check preferred stock and sold all of it to a friendly buyer called Double Diamond Holdings Ltd. The preferred stock had super-voting rights, but it had to vote in proportion to the common shares that actually vote: If 45% of the common voted yes and 5% voted no, then 90% of the super-voting preferred shares would vote yes. After the vote, the preferred would automatically convert into common stock; again, the extra-voting preferred stock was a way around the requirement to get a majority of the common shares to vote. (It worked; Tilray got a majority.)

And then there are Purple's PRPLS. We talked in February about Purple Innovation Inc., a publicly traded mattress company that is 45% owned by Coliseum Capital Management LLC. Purple's board is mostly independent of Coliseum, though Coliseum's managing partner is on the board. Last year Coliseum proposed to buy the rest of Purple, and Purple's board formed a special committee that considered the proposal and turned it down, creating a poison pill to block Coliseum from buying more stock. In February, Coliseum launched a proxy fight, nominating five candidates to the seven-member board of directors. With 45% of the stock, Coliseum seemed likely to win.

So Purple's board announced a new blank-check preferred stock thing called PRPLS, Proportional Representation Preferred Linked Stock, which would give each shareholder 100 extra votes per share, and would make those votes cumulative, meaning that a shareholder with one share of stock (and 100 extra PRPLS votes) could give 101 votes to each of seven candidates for the board of directors, or 707 votes to a single candidate, or any other combination. This would make it easier for the existing board to get at least three, and maybe four, of its candidates elected to the board: All of the non-Coliseum shareholders could concentrate their voting on a few incumbent candidates and get them elected, even though Coliseum has a near majority of the votes.

Coliseum sued, saying that the PRPLS were illegal because they were "designed solely to prevent Coliseum from electing its nominees and removing existing directors." Last week Coliseum and Purple settled the lawsuit. The terms of the settlement include:

The board will have eight members, four from Coliseum's slate, three from the existing non-Coliseum directors and one new member.
Coliseum's managing partner becomes chairman of the board; the previous chairman of the board will resign.
Coliseum will vote for the agreed nominees in 2023 and 2024.
The board will terminate its special committee and its poison pill, and promise not to do another poison pill without Coliseum's consent.
The board will get rid of the PRPLS and never do them again.
Purple will pay Coliseum up to $4 million to reimburse it for the costs of suing over the PRPLS.
They drop the lawsuit.

It's a bit of a mixed bag: The old board does get to keep four board seats through 2024, but it has given up its ability to block Coliseum's actions with weird preferred stock or a poison pill.

When we first talked about the PRPLS, I wrote that we "live in a golden age of blank-check preferred stock with weird voting rights and fun acronyms." Starting with the APEs, boards decided that they could shape shareholding voting in ways that they wanted. But I think that golden age is ending? Boards saw the opportunity to take a bit more power by adjusting shareholder voting rights, but they kept getting sued, and they seem to have backed away from it.

Incidentally the poison pill is also a weird blank-check preferred stock designed to keep the board in power over shareholder objections. We talked about poison pills in detail back when Twitter Inc. did one, but the main idea of the poison pill is that if some acquirer wants to buy a majority of the company's stock — in a tender offer, or in the open market — the board can block it with "shareholder rights plan" that issues zillions of shares to everyone other than the acquirer, diluting the acquirer; the effect is to prevent the acquirer from buying stock from shareholders who want to sell it. That's weird! And Delaware courts have, for decades, allowed it: Yes, the pill lets directors basically overrule shareholders' desires (to sell the company), but if the directors use it in good faith — if they use a pill to prevent a real "threat" to the company, like a takeover offer that they think is too low — then they're mostly allowed to use it. In some sense APEs and PRPLS and the rest are an extension of that idea, that boards of directors can use blank-check preferred stock to maintain control of their companies even when shareholders are being difficult. But they might have extended the idea too far.

The basic logic is that trees capture and store carbon dioxide, which is good for the environment. This means that cutting down a tree is worse for the environment than not cutting down that tree, and planting a tree is better for the environment than not planting that tree. [3] And then, when you are evaluating the environmental impact of some person or project or company, you have important questions of baselines:

If a company does not chop down trees, is that just a neutral fact (it changes nothing about the environment one way or the other), or a positive fact (it could have chopped down trees, but didn't)? Or for that matter a negative fact (it could have planted trees, but didn't)? What is the carbon benefit of not chopping down trees? How many trees did you not chop down? Everyone in the world who is not currently engaged in chopping down a tree is not chopping down any of the billions of trees in the world, but they can't all get credit for conserving billions of trees.
If a company does chop down trees, is that a bad fact (chopping down trees) or a good fact (not chopping down other trees)? Even if you are chopping down trees, how many trees did you not chop down? Everyone in the world who is currently engaged in chopping down a tree is not chopping down any of the billions of other trees in the world.

I realize all of this is sort of dumb and juvenile but here is the Wall Street Journal on Weyerhaeuser:

Weyerhaeuser Co. has cut down more trees than any other American company since its founder started logging before the Civil War. Environmentalists have long treated it as an enemy.

Now, the new math of carbon emissions is enabling the lumber producer to cast itself as something quite different: a force for environmental good.

Its 10.6 million acres of U.S. timberland act as a giant sponge for carbon dioxide, which Weyerhaeuser says more than compensates for the greenhouse gases it emits by felling trees, sawing them into lumber and distributing wood products.

Although Weyerhaeuser is cutting down as many trees as ever and plans to increase lumber production 5% in the next few years, it says its net carbon footprint is negative—so much so that it is offering carbon dioxide storage capacity to other companies. Weyerhaeuser expects a new unit dedicated to helping other firms offset their emissions to generate $100 million a year in profit by the end of 2025. …

Weyerhaeuser is America's largest private landowner. Its timberlands range from expanses of Douglas fir in the Pacific Northwest to pine plantations across the South to the North Maine Woods. Altogether, its trees cover an area roughly twice the size of New Jersey.

Weyerhaeuser says those trees remove about 14 million metric tons of carbon dioxide from the atmosphere each year. It says an additional 10 million metric tons are held in timberlands owned by others that supply its mills, and in the logs it sells to others.

Yes! Sure! If you buy a million acres of forest and don't chop down the trees, then you are — relative to some baseline — improving the environment and capturing carbon and you can sell carbon credits. [4] If you buy a million acres of forest and do chop down the trees, as long as you don't chop them down all at once, then you are still, relative to some baseline, improving the environment and capturing carbon and you can sell carbon credits. Why not!

Even if you do chop down all of the trees, there is still carbon in the trees you chopped down, so relative to some baseline you are still capturing carbon and can sell carbon credits:

Weyerhaeuser produces about 950,000 miles of lumber a year and more than enough wood panels to cover Manhattan four sheets thick. Even though lumber doesn't continue absorbing carbon dioxide, the company takes credit for an additional 11 million tons of carbon held in those wood products. It reasons that carbon continues to be stored in the lumber after it goes into houses and other structures, which wouldn't be the case if a tree fell and decayed on the forest floor.

Taking credit for carbon in harvested wood, manufactured products and on timberlands owned by others is inconsistent with guidelines other companies use for their emissions accounting. Ara Erickson, Weyerhaeuser's vice president of corporate sustainability, said the company is pushing its case with the organizations that set carbon standards.

Yes! A tree in the forest captures carbon, but it might fall and decay and release that carbon! Better cut it down quickly to prevent that!

If you are a private equity fund and you buy a company and hold it for five years and then sell it at twice the equity valuation you paid for it, that's an annual return of roughly 15%. If your investors wire you the money to buy the company the day you buy it, and you wire them back the money the day you sell it, then they have an annual return of 15%; if they evaluate you based on your annual returns then you score a 15%. But if they don't wire you the money the day you buy the company — if you just float the company for the first, say, year, and only ask them to put up their money after one year — then their annualized return goes up. Doubling their money over four years, instead of five, gives them a 19% annual return. If they evaluate you based on your annual returns then your score goes up.

Of course you have to find the money to float the company for a year. A year ago, though, that was fine! Cash was basically free! A bank would lend you the money to buy the company, secured by your ability to call capital from your investors, at a very low interest rate. You'd pay a little bit of money to the bank in interest, and get a much better performance for your investors, and they would like you more and give you more money. Good trade.

Now, though, not so much:

Reduced bank lending and higher interest rates are chipping away at a practice that investors have complained about for years: private-equity firms' use of bridge loans to artificially enhance performance.

Nearly all private-equity firms use the loans, called subscription lines of credit or sub lines, to smooth out the process of buying companies without tapping investors for every deal. But the credit arrangements have become harder to obtain and much more expensive as banks have cut lending and interest rates have climbed. …

Sub lines make it easier for private-equity firms to do deals. Rather than asking dozens of limited partners to wire cash every time a firm wants to make an acquisition, it can tap a sub line instead, and only needs to ask investors to send cash every quarter or two. The credit lines allow firms to close transactions quickly and without the risk that a fund investor will forget to send a wire.

This use of sub lines has become standard practice and that is unlikely to change even if borrowing costs continue to rise, industry observers said.

But a more controversial use faces challenges. Buyout firms have discovered that borrowing money for longer—in effect, drastically postponing the day when they ask investors for money—makes paper fund returns look higher by increasing a metric called the internal rate of return. Calculations of IRR depend on the length of time investor money is used to achieve a profit. By using sub lines to reduce this length of time, fund managers can pump up the apparent returns of their funds.

Now that borrowing costs have risen, though, the artificial boost to a fund's paper performance might no longer be worth the expense of the loan, said Oliver Gottschalg, a professor at the HEC School of Management in Paris, who studies private equity.

Crudely speaking, private equity funds have a cost of equity of, say, 15% or 20%, and that cost isn't that sensitive to interest rates. If the cost of debt is 2% and the cost of equity is 20%, borrowing is a great substitute for equity. If their cost of debt is 7% and the cost of equity is 20%, it's less good.

I guess this is the glass-half-full way to put it:

Crypto exchange Coinbase Global Inc. may consider moving its headquarters outside the US unless the country changes its approach to regulation, Chief Executive Officer Brian Armstrong said.

"Anything is on the table," Armstrong said when asked by former UK Chancellor of the Exchequer George Osborne at a fintech conference in London on Tuesday whether San Francisco-based Coinbase would consider moving to Britain. "Including, you know, relocating or whatever is necessary."

While Armstrong has been vocal about his opposition to current US crypto regulation, raising the possibility of relocating marks an escalation of the rhetoric. ...

"The US has the potential to be an important market in crypto, but right now, we are not seeing that regulatory clarity needed," Armstrong said, adding that the UK is Coinbase's second largest market globally by revenue. "I think if a number of years go by where we don't see regulatory clarity emerge in the US, we may have to consider investing more in other regions of the world."

"Regulatory clarity" is largely a euphemism, though there is some literal truth to it. I think it is crystal, crystal, crystal clear that:

the US Securities and Exchange Commission believes that most crypto tokens are securities and that Coinbase is breaking the law by operating as securities exchange that is not registered with the SEC;
the SEC is going to bring more lawsuits, including probably one against Coinbase, saying that;
the SEC has a pretty strong case under basic, long-established US securities law; and
the SEC's answer to Coinbase's question of "okay well how do we comply with the law and operate a US crypto exchange that is registered with the SEC?" is "hahaha you don't, get outta here, enjoy England."

We have talked about this a lot. These are answers that Coinbase doesn't like, for obvious reasons, and they are also answers that the SEC doesn't always come out and say directly, but they are nonetheless very clear.

That said there are some uncertainties:

When is the SEC going to bring a case against Coinbase, and exactly what will it say?
Will it win in court on its arguments that basically all crypto tokens are securities? Again I think the case is quite strong, but there do seem to be crypto lawyers who disagree with me — including at Coinbase — and eventually judges will decide and there is always some uncertainty there.

But the biggest uncertainty is, like, is this it? Is the SEC's current posture the final answer on US crypto regulation? If we assume that the SEC is going to be maximally aggressive about, not "regulating" crypto, but cracking down on crypto, and if we assume that the SEC will win in court because it has a pretty strong case under existing law, then the basic path for crypto in the US is "it's going to be more or less illegal to raise money for a crypto project, or to offer a new crypto token widely, or to operate a crypto exchange that trades anything other than Bitcoin and Ether." It will take some time to get there, since the SEC moves kinda slowly and the courts move even more slowly and crypto people seem very committed to this bit of complaining about "regulatory uncertainty" rather than "the regulators are clearly and fully committed to stamping us out." But the long-term path that we are currently on is pretty clear.

So the uncertainty is, will anything about the law or the political situation change? Will Congress step in and say to the SEC, "nah you can't fully stamp out crypto"? Will a presidential election bring a new head of the SEC who will say "ehh actually crypto is fine, go ahead"? These outcomes all seem possible; the fact that Europe seems more welcoming to crypto than the US suggests that there is nothing inevitable about the US crackdown. But, again, the political situation for crypto right now seems bad; Coinbase's argument that the SEC is stifling innovation is less appealing after last year's crypto meltdown, where much of the innovation in crypto once again turned out to be new ways to steal money from customers.

If you are a successful entrepreneur in some industry, you might at some point decide to open a private investing firm to make bets on other companies in that industry. After all, you apparently have some nose for what works, some practical experience in taking a company to the next level, a lot of relevant contacts and industry knowledge; why not scale all of that and apply it to a bunch of businesses instead of just the ones you started? And if you were successful in the industry you probably know some people with private investing experience — people who invested in your companies, etc. — who respect you and would like to work with you; you may not have a lot of investing experience, but you can probably hire people who do. You're not going to be a huge firm right away, and you're not necessarily going to be able to immediately compete with, like, Blackstone and Apollo for top talent. But you can try to get some good people and build a good business and grow over time.

Or if you are Kim Kardashian that speeds things along a bit:

Kim Kardashian's private equity firm hired a half-dozen financial-industry professionals, including a new chief operating officer who previously worked at alternative investment giant Apollo Global Management Inc.

SKKY Partners now has almost a dozen employees and expects to surpass 15 by the end of this year, according to former Carlyle Group Inc. partner Jay Sammons, 47, who co-founded the firm with Kardashian last year.

"We've made a lot of headway in only a few months and are looking forward to seeing our first investments come to life," Kardashian, 42, said in an emailed statement, stressing the firm has "an incredibly diverse team and dynamic culture."

I don't know, I love it? It just feels like there should be a bit more celebrity branding in financial services? Like plausibly 90% of top private equity professionals think "ugh I can't imagine telling my Wharton friends that I work for Kim Kardashian," but the other 10% think "it would be so cool to tell my friends that I work for Kim Kardashian," and you don't need to hire everyone. Being the Kim Kardashian private equity firm is a recruiting advantage for some candidates.

Goldman Traders Miss Out on Wall Street's Fixed-Income Boom. BofA Tops Estimates as Fixed-Income Traders Fuel Profits. Apple, Goldman Sachs Debut Savings Account With 4.15% Annual Yield. Depositors pull nearly $60bn from three US banks as Apple raises pressure. Deutsche Bank Targets Asia's Rich as Credit Suisse Clients Flee. HSBC urged to break up by largest shareholder and accused of 'exaggerating' risk. Brookfield Defaults on $161 Million Debt for Office Buildings. Pension fund Calstrs braced for writedowns in $50bn property portfolio. Elon Musk Says His AI Project Will Seek to Understand the Nature of the Universe. Crypto Dealmaking Reaches All-Time High as VC Funding Remains Scarce. New York Finance Regulator to Bill Crypto Firms for Annual Supervision Fees. Americans Using Buy Now, Pay Later for Groceries Risk 'Cycle of Debt.' Ultrarich Hamptons Residents Surge 2,700% in Seasonal Wealth Migration. Trump Spac pays $15,000 a month for office in Caribbean home. "[Twitter] feels a little emptier, though certainly not dead. More like the part of the dinner party when only the serious drinkers remain."

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[1] I think a version of this story like "most US public corporations are mostly controlled by their chief executive officers, who sort of loosely answer to the board of directors, and who also get a lot of say in choosing those directors" would not be entirely inaccurate; here I am focusing on the directors/CEO as a unit as opposed to the shareholders, but there are some distinctions between the CEO and the board as well.

[2] Obviously the shareholders can *sue* if they don't like those decisions, and the US legal system is big on governance by lawsuit, but I'll ignore that to just talk about the internal mechanics of the corporation.

[3] I feel like I am going to get emails quibbling with this — the actual science is more complex than this, and it takes a long time for a tree to grow to maximize carbon sequestration — but this seems like a fair statement of the stylized facts.

[4] To be fair: "Weyerhaeuser logs about 2% of its land each year and plants more than 130 million saplings a year to replace much of what it cuts. Company scientists have selectively bred trees over the decades to grow bigger, faster and better for lumber-making than the ones they replace. The company says those new breeds will sock away carbon dioxide faster than the ones cut down, allowing it to boost sequestration and wood production at the same time."

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