The company’s proxy filing tells us some details about how the Drahi deal came together.

This commentary by Marion Maneker is available to AMMpro subscribers. (The first month of AMMpro is free and subscribers are welcome to sign up for the first month and cancel before they are billed.)

Now we know a great deal more about how the Sotheby’s deal came together. But the more we know, the more it raises other interesting questions. According to Sotheby’s SEC filing late last week, we now know how the deal between Patrick Drahi and Sotheby’s came together, how the price was determined and what the likelihood is of a late play from another buyer or investor group might be.

Beginning in November of 2018, Sotheby’s was in play as different groups of potential buyers coalesced and fell apart in pursuit of the firm. Two of the potential buyers were led by private equity firms (one having held conversations with past and current Sotheby’s employees) and the third originally began as what the private equity people call a “club deal.” That one ended up both winning the prize (for now) and being led by a sole acquirer but the levels of bank debt involved make it all but indistinguishable from a private equity deal.

While we wait to see what happens, the narrative Sotheby’s provides in the proxy statement it filed leading up to a special meeting of shareholders to approve the current deal tells us, “From time to time in the preceding four years, the Company’s senior management has had discussions with parties about the possibility of investing in the Company.”

It’s Coming from Inside the Auction House

It wasn’t until Sotheby’s stock (BID) price fell below the historic floor/ceiling level of $40 that “from time to time” turned into the right time. BID broke through the $40 floor on November 5th. Sometime later that month, “a representative of a private equity fund informed Mr. Michael Goss, the Chief Financial Officer of the Company, that Party A would be interested in investing in the Company alongside a private investment firm unaffiliated with any members of the Board.”

Goss informed Sotheby’s CEO, Tad Smith, of the interest and tried to arrange a meeting between Smith and the investors. Smith told his boss, Domenico de Sole, Sotheby’s chairman. But it wasn’t until December 13th when Smith was approached by an investment banker who communicated Patrick Drahi’s interest in putting together a deal in partnership with two other investors that the action really started.

Spooked by the news—and one of the important lacuna in this narrative is how the investor group learned of Drahi’s interest—the first group elevated their outcome from investing to buying. “Following the discussion with Mr. Goss in November 2018, the representative of Party A did not pursue a meeting with Mr. Smith and Mr. Goss, but called Mr. De Sole on December 16, 2018 and informed him that the Party AB Group had an interest in jointly acquiring the Company. […] In January 2019, representatives of the Party AB Group called Mr. De Sole to request a meeting […]. On February 5, 2019, Mr. De Sole and Mr. Harry Wilson, a director of the Company and the chair of the Board’s Business Strategy Committee, met with representatives of the Party AB Group, who made a presentation regarding their background research on the Company based on publicly available information and interviews with former and current employees of the Company (which interviews had not been authorized by the Company, Mr. Smith or any other member of the Board).”

That last bit is underplayed but it offers a bit of stunning confirmation that the internal politics of Sotheby’s is fraught with factions and dissension. Some current employees were sharing information out of school with potential buyers. That’s a real no-no in business.

Straight to de Sole

Just two days after the first investor group went straight to de Sole, Patrick Drahi (the other bidder)  and Smith met for the first time. Much has been made of the fact that Drahi’s Altice bought Cablevision, Tad Smith’s former employer, three years ago. But that deal happened long after Smith had left the company. The proxy is emphatic on this point. This was the first meeting ever between the two.

At the Feb 5 meeting between the AB group and Chairman de Sole, the investors told Sotheby’s they thought the company was worth $50 per share. Considering the stock had traded at $59 just seven months earlier, it was unlikely that Sotheby’s was going to take that offer.

Nonetheless, the board now had a stalking horse. Three weeks later, Sotheby’s had its regular board meeting where the members discussed the offer and other expressions of interest and “the possibility of facilitating transactions that would result in a holder of a significant number of shares of the Company’s common stock transferring its stake to a potential investor.” It’s these kind of tantalizing statements that make you see the extent which Sotheby’s was being actively discussed.

One of the biggest shareholders, activist investor Daniel Loeb, then gave the board a little push. He “provided the directors with a financial analysis of a hypothetical private equity buyout of the Company that his firm had prepared following the receipt of the Party AB Group’s proposal. Mr. Loeb made clear that neither he nor Third Point LLC was interested in proposing such a potential buyout and that the analysis was intended to be illustrative only.”

The chum was now in the water; Smith tried to get the sharks to bite. “During this discussion, Mr. Smith informed the other directors that, in his capacity as a stockholder of the Company and based on his knowledge of the Company as its Chief Executive Officer, he would be willing to vote in favor of a sale of the Company at a price between $55 and $60 per share.”

Waving the White Flag

This pricing was something of a watershed moment for the activist campaign to transform Sotheby’s. Twice in the last five years Smith had been able to present a good story to Wall Street about Sotheby’s digital transformation that got momentum among investors. Twice the stock price rose within sniffing distance of $60. If BID could break through that $60 ceiling, the stock would be in a new universe and might potentially rise much higher. Twice it fell back.

Smith and Goss had done a lot to give Sotheby’s a sense of momentum in the art market. Eschewing money-losing battles for top-end works, Smith and Goss had cleaned up Sotheby’s balance sheet. That should have made the company more attractive to shareholders; instead it attracted private equity buyers who could service more debt with the added cash flow.

Wall Street had fallen for the idea of a digital transformation at Sotheby’s. But few of the digital initiatives were showing up in the financials. The head of digital development, who was also in charge of marketing, left the company last month, an acknowledgement that the executive had failed to deliver much earlier. Nonetheless, the deal with Drahi ended up giving the failed executive a $2.5m exit package.

If the corporate irony bothered Loeb—as a major shareholder the money was coming from Loeb’s pocket, after all—he hasn’t shown it. Perhaps Loeb was more concerned with his shrinking investment horizon. Already six years into this investment, each additional year would require a greater return on his Sotheby’s stake to be considered even a passable investment. So when Smith anchored a sale price in the $55 to $60 band, he was marking the exits for Loeb.

Getting a Bid for BID

Smith was also raising the bar for the first bidders to meet, the AB group, as the proxy calls them, to approach Sotheby’s. Perhaps he was traveling; or Smith might have been sending a signal to the group that chose to go over his head and directly to the Chairman with their expression of interest; whatever the reason, Smith sent his General Counsel and CFO to meet in March with the AB investors who had dangled $50.

Meanwhile, Patrick Drahi sent a representative to meet with Smith and re-iterate the Drahi group’s strong interest in buying the company despite one of the investors dropping out.