Showdown at HP

How Hewlett-Packard's Carly Fiorina prevailed in the most expensive proxy battle in the history of Corporate America

In a new book, BusinessWeek

Department Editor Peter Burrows describes the wrenching changes that Hewlett-Packard Co. (HPQ ) has undergone in trying to regain its former glory. Despite the sky-high hopes that greeted her appointment as CEO in mid-1999, Carleton S. "Carly" Fiorina struggled to maintain profits and morale. Then, in September, 2001, she proposed the most dramatic move of all: a $25 billion merger with floundering rival Compaq Computer Corp. When skeptical investors drove HP shares down 35% during the next three weeks, Walter B. Hewlett, son of co-founder William R. Hewlett, publicly came out in opposition to the deal, which required shareholder approval. That December, after the David & Lucile Packard Foundation threw its 10.8% stake against the merger, Fiorina faced an opposition armed with 18% of HP's shares before she had gathered one vote.

We pick up the story in early 2002, after Fiorina had decided to use whatever time, money, and legal tactics were necessary to win a fight she felt essential to HP's future. Her ultimate photo-finish victory says much about Fiorina--and about the daunting disadvantages facing any corporate dissident. Here's an excerpt from

Backfire: Carly Fiorina's High-Stakes Battle for the Soul of Hewlett-Packard.

As the day of the shareholder vote, Mar. 19, approached, both sides knew they were in a dead heat. Fiorina had experience selling to shareholders as well as tech buyers, having spearheaded AT&T's (T ) spin-off of Lucent Technologies Inc. (LU ) in 1996. At times, her ability to read investors was downright mystical. In one meeting, Brandes Investment Partners senior analyst Vinit Bodas had wanted to quietly test Fiorina's willingness to break up the company. He'd simply asked for her general thoughts about the printer business. "Before I tell you that, I want to tell you that we're not going to spin the printer business off," she said. "And I know who has put that idea in your head. It was Walter."

As of February, momentum had begun to shift HP's way. Investors who just weeks before had been ridiculing the deal now seemed to be thinking differently. Rather than the damage the deal would do, they were growing more concerned with what would happen if Hewlett did kill it. "What I don't like is complete uncertainty," said Merrill Lynch & Co. portfolio manager Kevin Rendino. "If the deal is voted down, I don't know what I'm left with. I don't know if the board will stay, if management will walk out the door, or what the strategy will be. Sometimes the devil you know is better than the devil you don't." HP management had gladly let such fears fester, or even encouraged them.

And HP had celebrated a huge win on Mar. 5: After weeks of constant courting by both sides, Institutional Shareholder Services, which advises investors on how to vote on proxy questions, had recommended a "yes" vote on the merger. Since roughly 25% of HP shares were held by ISS clients, HP would have surely lost the proxy fight without ISS's blessing. Still, Hewlett was well ahead with individual shareholders, including HP employees. HP would win most of the top 10 investors, but just one or two defectors might be enough to win the day for Hewlett. Hewlett's advisers even hatched a plan to buy up to $500 million worth of HP stock from shareholders who favored the deal. Hewlett nixed the idea. "If we won [by buying shares], how was I going to be able to walk into HP's boardroom and say, `The shareholders have decided?"'

He would come tantalizingly close to getting the votes he needed. In late February, Spencer Fleischer, one of Hewlett's financial advisers, began lobbying Dean Barr, the chief investment officer of Deutsche Bank's (DB ) investment arm. Barr told Fleischer that the bank's policy was to not meet with combatants in a proxy fight; its proxy committees would rely on publicly available information. But on Mar. 15, as Hewlett and his advisers were jetting between investor meetings, Barr told Fleischer that the bank's U.S. and European investment arms had voted to oppose the merger, according to a trial transcript from Walter Hewlett's March, 2001, lawsuit against HP. With more than 17 million shares, it was a huge victory.

That same day, an HP adviser got wind of Deutsche Bank's decision and informed HP Chief Financial Officer Robert P. Wayman. The news stopped the CFO in his tracks. He and Fiorina hadn't even bothered to visit with the bank. While other Wall Street analysts had trashed the merger, Deutsche Bank's George D. Elling had been an enthusiastic supporter. HP had even handed the bank a $1 million contract to investigate how other institutions were voting--including an extra $1 million if HP won the proxy fight. What's more, Deutsche Bank Vice-Chairman Benjamin H. Griswold and a colleague had promised Wayman that the company would vote according to the ISS recommendation. Even on Mar. 15, they reassured Wayman "that everything is fine, that Deutsche Bank is supporting the merger," according to the trial transcript.

At that point, the so-called Chinese wall was holding firm at Deutsche Bank--the wall that separated the investment managers, who have a legal obligation to their mutual fund shareholders, and its dealmakers, who provide financial services to corporations. The bankers are not supposed to have any influence over the investment gurus.

But that wall began to crumble on Sunday, Mar. 17, after Fiorina heard talk of Deutsche Bank's decision. That night, she called Wayman at his home and left a voice mail: "Hi, Bob. It's Carly. It's Sunday night. Call the guy at Deutsche Bank again first thing in the morning. You need a definite answer from the vice-chairman, and if it's the wrong one, we have to swing into action." The message ends with this now famous line: "See what we can get, but we may have to do something extraordinary to bring them over the line here."

On Monday, Wayman called his sources. Embarrassed, and no doubt worried about their banking contracts, one of them told Wayman the bad news. Wayman insisted that HP, having been misled, be given the opportunity to make its pitch. At that point, Griswold slipped through the Chinese wall and asked Barr on the investment side to set up a meeting with HP. To maintain the appearance of fairness, they decided to try to meet with Hewlett as well.

Dean Barr's secretary called Fleischer at 5:30 a.m. on Mar. 19, the morning of the shareholder vote. They wanted to speak with Hewlett for 15 minutes at 7:45, just 15 minutes before the shareholder meeting was to begin. Since Hewlett would then be en route, they decided instead on a 6:30 a.m. meeting. It had to be quick, because the bank was going to speak to HP at 7. If the bank was going to change its vote, it had to do it before 10, when the proxy-vote polls closed.

At 6:30, Hewlett and Fleischer made an abbreviated version of their hour-long pitch. After they got off the line, Barr had a quick chat with colleagues, including Klaus Kaldemorgen, a member of the bank's European proxy committee. According to a transcript of the conversation later filed in court, Barr explained that he would ask them to reconsider their votes based on the two conference calls. "You may or may not be aware that we have an enormous banking relationship with Hewlett-Packard," Barr told them.

The bank officials remained on the line until Wayman and Fiorina joined the call. As usual, Fiorina shone. Whereas Hewlett had at times meandered and stammered, she was clear and persuasive, speaking in compelling sound bites. And she pulled no punches. When asked about Hewlett's alternative plan, she reminded them that "you must bear in mind that Mr. Hewlett's advisers have a large success fee tied to whether or not they can kill this merger."

Then she called up the old chaos theory: If not Compaq, then what? "The cost of a failed deal is real," she warned. Before hanging up, she uttered some words that would later fall under a legal microscope: "This is obviously of great importance to us as a company. It is of great importance to our ongoing relationship. We very much would like to have your support here. We think this is a crucially important decision for the company."

Then she left for the shareholder meeting.

With Fiorina and Wayman off the line, five Deutsche Bank officials began discussing what they had just heard. Barr brought up the point about Hewlett's paid advisers. "You've got to ask the question whether the dissident shareholder's advisers are in this really for the benefit of the shareholder or are they really trying to protect their own fee?" Barr said.

An unidentified speaker on the line then pointed out the obvious flip side of Barr's question, regarding the bank's role as an adviser to HP. "Do we know what the advisers for HP are getting now? I mean they--I didn't want to ask the question because I was afraid it might be us, but"

"I believe the answer is we are one of the advisers," Barr answered.

"Isn't there some sort of performance fee associated with that as well?" the unidentified speaker continued.

"I don't--I have no way of knowing, and I'm not even going to ask the question," Barr answered.

It quickly became clear that Fiorina had managed to win the contest. One executive grabbed hold of the chaos theory theme. "I think it's disastrous, in a way," if the deal fails, she said. With that, they took another vote. This time, it came out 4-to-1 in favor of HP. After reiterating the need for careful documentation to explain the switch, Barr urged someone to get the vote changed "as fast as humanly possible."

Before they hung up, Kaldemorgen got back on the line from Germany. Before he could get a word in, Barr explained that the U.S. unit had changed its vote. After "a very considerable discussion with Carly Fiorina and Bob Wayman," the group had become concerned about "what happens if the merger doesn't go through." Kaldemorgen, clearly not buying the change of heart, shot back. "Well, I firmly disagree with that," he said. He pointed to the fact that HP's stock rose whenever there was news that put the deal in doubt. But others quickly jumped in. One cited how impressive Fiorina and Wayman had been, and worried that Fiorina and some directors would quit. Kaldemorgen held his ground, but Barr broke in: "The group here has changed the vote. Obviously if you don't want to change your vote, that's your call. I'm not trying to put undue pressure, but make sure that you have a very strong documented rationale for why you voted the way you did as it relates to this merger. This is extremely sensitive to people likeDr. Ackermann."

The mention of Josef Ackermann, the bank's chairman, seemed to do the trick. Kaldemorgen immediately changed his defiant tune. "I don't want to be smarter than you people in New York. So if the majority of you came to the conclusion that it's better for our customers to vote in favor, I'll try to change our vote here."

A few days later, Fiorina called Griswold to thank him for arranging the conference call. "Thanks for going to bat for us," she said, according to the trial transcript. "You know, I'd like to thank you personally. Look forward to doing business with you in the future." Three days later, a colleague advised Griswold to erase the message, which he did.

In so many ways, it was a prime example of the difficulties a shareholder--even one with Walter Hewlett's money and name--has in taking on the corporate world. Just days before, the same group of Deutsche Bank representatives had felt strongly enough to break from corporate policy and not follow ISS's recommendation. What was different? They'd heard pitches from each side, to be sure. But was it any wonder that a career salesperson and a veteran CEO would do a more compelling job in 45 minutes than an "academic and musician" such as Walter Hewlett would do in 15? More likely, the switch had less to do with the merger's merits and more to do with the fact that banking business was at stake.

In the end, Deutsche Bank's flip-flop probably did not decide the proxy fight. HP, which prevailed by just 3%, probably won by a slightly larger margin than the bank's total holdings. But it was a fitting, final skirmish in a messy affair. Fiorina had played her cards right. Her victory was not a testament to the deal, or to investor confidence in her. It was a testament to her ability to play the game, to win the fight. Whether it will be good for anyone else remains to be seen.

Adapted with permission of the publisher John Wiley & Sons Inc. from Backfire: Carly Fiorina's High-Stakes Battle for the Soul of Hewlett Packard, which will be available in bookstores February, 2003. Copyright 2003 by Peter Burrows.

    Before it's here, it's on the Bloomberg Terminal.