A 3-D hedge fund suit: Dollars, dividends and a dame
Boston Business Journal - June 1, 2007
by Craig M. Douglas
Journal staff
Tales of sweet, innocent little companies being poked and jabbed and taken to the cleaners by black-hatted hedge funds are an easy sell these days to the media. So it was with precious-little hesitation last week that I accepted a call from a Virginia firm claiming it was getting squeezed by a Boston-area activist investor.
Upon closer inspection, there appears to be enough crocodile tears on both sides here to water my garden.
The story involves Telos Corp., a small, publicly traded technology services company, and its ongoing legal tangle with Costa Brava Partnership, a Boston hedge fund notorious for stirring the pot. The $200 million investment fund is run by Roark Reardon & Hamot Capital Management LLC and is headquartered on Boylston Street.
The two sides have been duking it out in court since late 2005, when Costa Brava sued Telos and a handful of executives and directors for, among other things, failing to pay dividends on its preferred stock.
The hedge fund is seeking $68 million in damages, and its legal complaint ticks off a number of issues -- including Telos' executive pay and some cozy financial arrangements with its largest stock owner -- it alleges weigh on the company's cash accounts.
In fact, Costa Brava goes so far as to charge Telos and its auditors, Goodman & Co. in Virginia, conspired to use off-balance sheet arrangements and other financial gimmicks to sidestep the covenants laid out in its preferred stock offering.
At last count, Costa Brava owned around 16 percent of Telos' 3.2 million preferred shares, having acquired the lot for $2.8 million in 2005, according to Telos executives.
Last year, Costa Brava filed a follow-on motion to its original complaint in the Circuit Court for Baltimore City to have its securities recognized as debt and Telos thrown into receivership, aka court-ordered bankruptcy protection. Such a scenario would likely leave a Costa Brava managing partner, Seth Hamot, calling the shots. The court has since rejected that and a second, similar motion.
Still, Costa Brava's complaint points out some interesting facts. For one, Telos has had only had four profitable years -- and not one since 2002 -- during the 13-year tenure of its CEO, John Wood. Nonetheless, the company has paid Wood handsomely in recent years and recently arranged for a hefty severance package if he's ever fired.
During an interview last week, Wood said the company, which provides security technologies to government agencies and the military, turned a profit last quarter and is growing. He contends that the Costa Brava litigation is an unnecessary financial and operating distraction. "It's just been out of control. It's Robin Hood in reverse," he said.
Nonetheless, Telos has a handful of arrangements with a majority shareholder, John R.C. Porter, that have raised claims of conflicts of interest. One agreement pays Porter $260,000 a year in unspecified consulting fees.
Another deal allows him to charge a whopping 17 percent interest rate on an old loan he extended to the company in 1995. Telos has repeatedly renewed and extended that note, according to court records and a Telos executive.
Costa Brava declined to comment for this story. The hedge fund has also sued Goodman & Co. for allegedly fudging its audits to help Telos achieve its goals. That suit is slated for trial in Maryland June 4. Goodman did not return calls.
But it doesn't end there. Costa Brava's court filings also contend that Telos' financing arrangements with Porter are part of a larger network of trusts and accounts to hide money for Porter's mother, former British politician and tabloid favorite Dame Shirley Porter.
A wealthy heiress to a U.K. supermarket chain, Dame Shirley was implicated in a public corruption probe that resulted in millions of dollars in fines.
The British press has written extensively about how, to avoid those penalties, Dame Shirley transferred much of her wealth to her son and then cried poor. She settled the case in 2004 and just recently moved back to London after a long exile in Israel.
Dame Shirley resigned from politics and left England in 1993. That same year, her son John and a Panamanian company linked to a family trust bought a majority stake in Telos for $15 million.
Some coincidence.
Telos was to hold a May 31 meeting to determine whether two Costa Brava partners will assume seats on its board, a situation that could further shake up the decision making at the Virginia company. Stay tuned.
Craig M. Douglas is the banking and finance reporter for the Boston Business Journal. He can be reached at cdouglas@bizjournals.com.
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