Coup to Reshape AOL Board Baseless

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AOL’s (NYSE: AOL) annual shareholders’ meeting, scheduled to be held on June 14, is shaping up to be anything but normal. Some stakeholders want drastic changes to the board of directors, and what’s striking is that they are calling for members to be replaced as the company is enjoying some of its strongest earnings in years.

The effort is being led by Starboard Value LLP, which has carved out a 5.3% stake in AOL since September 2011. At Starboard’s helm is Jeffrey Smith, who founded the company and is its chief executive officer and chief investment officer. He’s voiced frustrations about a number of issues dealing with the company’s financial health that he says can only be addressed through new leadership. He’s recommending three people be elected to AOL’s member board.

And who do you think would make for a great new leader? Ding, ding, ding, ding, ding…you’re correct if you answered, Jeffrey Smith, or so he seems to think.

At the time of writing, he had been able to get two proxy advisory firms to agree with him – sort of. Glass, Lewis & Co. and Institutional Shareholder Services (ISS) gave their blessings for change, but they differed on who should be nominated. Glass Lewis recommended Smith, but not Dennis Miller and James Warner. ISS recommended Smith and Miller, but not Warner.

Not surprising at all to me is that Smith is one of the nominees on the ballot to replace one of the sitting board members. I know there are situations where board directors should be replaced, such as when they lavishly spend money on personal items taken from the coffers of the company. However, I do not think that AOL’s situation rises to that level. While it has had its struggles, and will continue to face challenges, I see enough positives about the company that outweigh the negatives. I do not see radical changes, such as unseating the board members, as necessary.

For the sake of not taking any of Smith’s concerns for granted, I examined some of the points he raised. One that caught my attention related to AOL losing money and that the loss was $500 million in EBITDA during the 2011 calendar year. A significant amount of the loss, $150 million, was due to the poor performance of Patch, the hyperlocal network, and the loss of that amount was likely to continue, according to Starboard.

It is true that Patch has strained the company’s revenues, but that was to be expected, as disclosed by AOL in 2011. Although I see problems with Patch’s ability to generate sizable revenues from advertising, I do not see it costing the company $150 million a year moving forward as Smith suggests.

I could see efforts like Starboard’s to make changes in AOL’s leadership coming in 2010 when, in the second quarter, it lost a staggering $1 billion. That was largely due to its acquisition of The Huffington Post and TechCrunch. I could even partly agree with changes being needed after the company’s stock fell 30% to $10 following its announcement that it loss $11 million during the second quarter of 2011. The company admitted that starting Patch was the reason for that revenue loss.

AOL is making other moves that I think are important to its bottom line. In April, it announced that it was selling $1.1 billion worth of its patents to Microsoft (NASDAQ: MSFT) Not only was the deal important because it provided AOL with cash, but the deal also has far reaching implications on the tech sector. Shortly after buying the patents, Microsoft entered into an agreement with Facebook for $550 million. This deal allows for Facebook (NASDAQ: FB) to own 650 AOL patents and patent applications.

Microsoft gets to keep ownership of about 275 AOL patents and applications. Facebook execs note that the transaction is another significant step in its “ongoing process of building an intellectual property portfolio to protect Facebook’s interests over the long term.”

AOL plans to return to its stockholders a significant portion of the proceeds from its patent sale to Microsoft. On that news, the stock price rose over 40%, reaching its 52-week high.

AOL noted that normally this kind of positive news about a stock price increase would be celebrated by shareholders. However, it seemed to aggravate Starboard. Shortly after the market opened the next day following the sale announcement, Starboard sent and publicly disclosed a letter to the board of directors claiming that the patent sale did "little to address our serious concerns with the Company's poor operating performance and substantial losses in the Display business."

Also, last week a shareholder filed a lawsuit against AOL charging that the company had been deceptive in informing investors about the extent of its patent sale to Microsoft. AOL misled investors, and artificially lowered their own stock price, according to the lawsuit. The lawsuit purports that AOL then purchased a large number of its own shares on the open market before the price increased almost 33% over the span of four days. The lawsuit alleges market manipulation and fraud on the part of AOL. Stockholders who bought shares of AOL between Aug. 11, 2011 and April 9, 2012 are affected by this lawsuit. This matter won’t be settled before AOL’s shareholders’ meeting this week. Stockholders have until July 4, to join the suit.


TwillyD has no positions in the stocks mentioned above. The Motley Fool owns shares of Microsoft. Motley Fool newsletter services recommend Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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