Investor lets loose on Sovereign

(Correction: Because of a reporting error, a graphic accompanying a story in yesterday's Business section about Sovereign Bancorp's agreement with Banco Santander Central Hispano SA mischaracterized the deal. Santander will initially take a 19.8 percent stake in Sovereign; it has the option to buy all of Sovereign as soon as 2008.)

NEW YORK -- Taking its war with Sovereign Bancorp Inc. to a new public forum yesterday, the bank's largest shareholder, Relational Investors, accused its directors of a ''breach of trust" with shareholders, hinted at lawsuits, and appealed to the New York Stock Exchange to force the bank's deal with Spain's Banco Santander Central Hispano SA to be put to a shareholder vote.

At a crowded ''shareholder value forum" they sponsored in Manhattan yesterday, Relational executives plastered a photo of Sovereign's chief executive, Jay Sidhu, on a screen and played audio clips of past speeches he made to analysts. In one instance, Sidhu suggested that he would not hold a shareholder vote on Sovereign's recent deal to let Santander take a 19.8 percent stake in the bank because it would be too expensive, drawing chuckles from Wall Street investors in the room.

Relational also posted quotes from Sidhu in which he told Wall Street analysts that Sovereign was not interested in making material acquisitions -- just months before the bank inked deals. Relational accused Sovereign of a pattern of misleading investors about the company's merger strategy.

''I forgot that old adage my mom used to tell me: Don't do what I Jay, do what I Sidhu," said Ralph Whitworth, a principal at Relational, a San Diego investment adviser that owns about 7 percent of Sovereign.

Later, Relational executives suggested they would consider firing Sidhu if they are successful in their bid to gain two seats on Sovereign's board. Sovereign, headquartered in Pennsylvania, is Massachusetts' third-largest bank by market share.

Relational's fight with Sovereign dates back several months, but it has gained extraordinary attention on Wall Street in the past few weeks. In late October, Sovereign struck a two-part deal to sell a 19.8 percent stake in the bank to Santander, then use the proceeds to acquire Independence Community Bank Corp. of Brooklyn for $3.6 billion. The two deals were structured in such a way that neither required a shareholder vote: The Santander deal fell under the 20 percent threshold required to trigger a vote, while the Independence deal would be paid for in cash.

The two deals also served another purpose: They entrenched the bank's current management and directors, who had come under fierce criticism from Relational. Relational argued that Sovereign's directors were the highest-paid in banking, with annual salaries of $313,000, and said it had discovered that the directors and officers took out more than $90 million in loans, with little disclosure by the bank.

Relational also charged that the bank's stock has underperformed its peers and its directors have been so overpaid that their independence is compromised. (Sovereign has since reformed its directors' compensation system to bring it into line with industry averages. Sidhu also has said that the bank did not lend money to its directors at preferential terms.)

Just as Relational's campaign appeared to be gaining momentum, Sovereign executives struck the deals with Santander and Independence. The agreements ensured key protections for the current management: Sidhu would remain in charge -- and Santander would get the right to veto any attempt to fire him. If Relational continues with its campaign to put two of its own directors on the board, Sovereign would have a friendly 20 percent voting bloc to help it repulse dissident shareholders.

Some Wall Street investors have criticized the deals as too expensive and not in shareholders' interest, and several analysts downgraded Sovereign's stock.

In Manhattan yesterday, Relational's ''shareholder value forum" attracted hundreds of investors, many from big-name firms. The audience grew so large it spilled into an overflow room. Many appeared sympathetic to Relational's campaign. ''I don't think there's anyone in this room who would disagree with most or all of what you said earlier," one audience member told Relational executives before asking a question about their strategy.

Already, another large shareholder, Franklin Mutual Advisers, has voiced opposition to the deal and called for a shareholder vote.

Sovereign issued a statement yesterday that said: ''Our pending transactions were thoroughly reviewed by the advisers to Sovereign, Santander, and Independence, and we are confident that both transactions are in accordance with all applicable laws and regulatory requirements. Nothing that we have heard from Relational today changes that view."

It is not clear how much success Relational will have in its appeal to the New York Stock Exchange. Sovereign believes its shareholders do not need to vote on the deal. But in its letter to the exchange, Relational argues that Sovereign has given Santander so much power in the deal that it essentially has ceded control of the company. Change-of-control deals are subject to a shareholder vote.

Santander gets two board seats at Sovereign, veto power over firing Sidhu, the right to increase its ownership to 24.99 percent, and an option to buy all of Sovereign later, according to Relational. Meanwhile, Sovereign cannot solicit outside bids for the company before next year.

A spokesman for the exchange said there is no timeline for the exchange to rule on the issue, but declined to comment further.

David Cifrino, a partner in the law firm McDermott Will & Emery and a member of the firm's corporate department, said the notion of change of control is an elusive concept in securities law, hinging on whether the acquirer gains the power to direct management policy of the company. He said it is too early to tell whether Relational will be able to sway the exchange.

''It depends on how much influence Santander has," he said.

Sasha Talcott can be reached at stalcott@globe.com.