Darden Restaurants' CEO Swap Won't Quench Investor Thirst for Blood

Monday was a big news day for Darden Restaurants (NYSE: DRI  ) as it announced that it had completed the sale of its Red Lobster chain; said that Chairman and CEO Clarence Otis will be stepping down; and, with a nod toward the activist shareholders waging a proxy battle against the restaurant operator, said that it will nominate only nine candidates for the 12 director seats up for election this year, ensuring the Starboard Value L.P. hedge fund will have representation on the board.

All that will likely not be enough to quell the dissension in its investor ranks, and when it finally agrees to hold its annual shareholder meeting, it will face their full fury. Having its Italian eatery Olive Garden turn around and lead Darden on the road to recovery will look like a picnic compared to the challenge it faces tamping down the investor revolt.

Darden undertook a damn-the-torpedoes attitude with its plan to spinoff or sell the seafood chain. Under pressure from hedge fund Barington Capital to completely transform its business by splitting itself into two companies -- one housing its mature restaurants Red Lobster and Olive Garden, the other a growth business featuring Longhorn Steakhouse and its various specialty chains -- Darden chose to cherry pick the bit it liked best and moved forward with separating Red Lobster.

Some say that move did nothing to change some fundamental problems Darden exhibited, namely that with all the acquisitions it had made over the last few years, its brands had lost their focus and the lagging mature chains needed their own management team to oversee them. Barington was joined in its effort by private equity firm Starboard Value, which said to slow down and consider a more full-bodied approach to remaking the business. Pleas from both, however, fell on deaf ears and in May Darden enraged the investors by announcing it had agreed to sell Red Lobster to Golden Gate Capital for $2.1 billion.

Starboard called it an egregious violation of shareholder trust, and announced it would mount a proxy challenge to the board, running a full slate of candidates whenever Darden decided to schedule the annual meeting. Among the actions the restaurant operator took over the past few months that were deemed hostile to shareholder interests, indefinitely delaying the shareholder gathering until after it completed the Red Lobster sale was seen as among the worst.

Now with the deal done, though, Darden seems willing to extend an olive branch to its activist investors, but don't fancy you'll see any rapprochement. Starboard's not about to accept Darden's half-a-loaf peace offering when it believes it can get the whole thing. The restaurant operator may feign cooperation now at the end, saying it will provide "continuity of experience and expertise," but the hedge fund isn't going to want that so-called steady hand on the tiller any longer than needs be.

Starboard responded by calling the company's board nomination decision "a transparent tactic designed to manipulate and maintain the problematic status quo majority following the 2014 Annual Meeting. ... It is clear that such token Board change is not sufficient given the depth of the value destruction and the abominable corporate governance that this Board has overseen." 

Darden Restaurants' Chairman and CEO Clarence Otis. Source: Darden Restaurants.

And Otis' stepping down isn't appeasing them either. Starboard added in a statement that the changes are only coming about after the fact, "only after the board sanctioned the destruction of a billion dollars in shareholder value by approving the Red Lobster sale against the vehement objections of its shareholders." Getting Otis' head on a platter is the least of what the activists are seeking.

Darden Restaurants only has itself to blame. Its willful ignorance of investor wishes, adoption of policies that rankled even prestigious proxy services like Institutional Shareholder Services and Glass Lewis, and running roughshod over the express demands of even common shareholders has set it up for a monumental proxy battle that will fully occupy all of management's time and attention. 

You have to wonder why they acted with such single-minded purpose. Boards are often accused of being out of touch with shareholder interests, with critics saying the clubby attitude of the boardroom insulates them from much of the barbs hurled their way. And since most directors are routinely re-elected, perhaps they felt they could rule with impunity without consequences. Proving now that they were right to do so will be the biggest challenge Darden Restaurant faces.


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