Sale of Sculptor Capital on cusp of approval after hedge fund brawl

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Shareholders of Sculptor Capital Management are poised to approve a $720mn buyout by Rithm Capital, ending an unusually contentious fight for the once high-flying hedge fund valued at $12bn when it went public in 2007.

The shareholder vote scheduled on Thursday comes a year after Sculptor, formerly known as Och-Ziff Capital Management, launched a sale process intended to ease tensions between its billionaire founder Daniel Och and chief executive Jimmy Levin, a one-time Och protégé.

Instead, the process resulted in litigation and rhetorical combat, highlighting the corporate governance challenges of companies set up as partnerships that subsequently list in public markets.

Sculptor’s board in July agreed to sell the hedge fund to Rithm at $11.15 a share. Och attacked the deal, saying it undervalued the business. He later joined ordinary shareholders in suing the Sculptor board in Delaware state court over claims of breach of fiduciary duty.

Sculptor also rejected a rival buyout offer of $13.50 a share from a group that included the hedge fund luminaries Boaz Weinstein and Bill Ackman, saying that the group had failed to demonstrate that it could complete a transaction. Och disagreed with the decision at the time, alleging the board remained beholden to Levin, who is to remain at Sculptor after the deal with Rithm closes.

Rithm boosted its proposed price for the second time to $12.70 a share last month, leading Och to withdraw from the shareholder litigation and back the amended deal.

In court papers, the ordinary shareholders described Och’s change of heart as a “betrayal” stemming from Och receiving what they described as “significant unique consideration.” On Tuesday, however, the shareholders withdrew their request for the court to halt the shareholder vote after agreeing to a settlement with Sculptor whose terms have not yet been disclosed.

Och and other founders held special units separate from ordinary shares, a legacy of Sculptor’s former life as a privately owned partnership, a structure that can introduce tensions among different stakeholders scrambling to get their portion of a fixed pot of cash offered by a buyer. 

According to securities filings, Rithm agreed to reimburse Och for $5.5mn of his expenses such as legal fees. It also agreed to guarantee an existing “tax receivable agreement”, $294mn worth of payments to Och and a group of early Och-Ziff colleagues, payable over several years.

The TRA represents the value of tax deductions that arise from the exchanges of the Och group’s partnership units into common stock. The value of the deductions to Rithm depends on the company’s ability to first generate taxable profits. Rithm, however, has agreed to make the TRA payments to the Och group regardless of its financial performance.

“TRAs can create additional complexity to an acquisition,” said Saish Setty, a former corporate lawyer now at the hedge fund Parallaxes Capital. “Since it is typically held by pre-IPO owners who may still exercise substantial control over the company’s destiny, the TRA can create a web of conflicting incentives for stakeholders. Och had substantial value in his TRA and he played a high-stakes game of chess to protect that value.”

Not all holders of Sculptor economic stakes will take home a windfall if the Rithm buyout closes. In 2019, Sculptor’s founders shifted some of their ownership interests to newer leaders. A new “Class E” unit was then created at the time as a form of deferred pay for top Sculptor employees who had sacrificed near-term cash. 

The Class E units were rendered worthless under the terms of the Rithm deal, according to Sculptor, prompting four holders to sue, claiming they are now worth $127mn.

On Tuesday, a New York state judge declined to grant a preliminary injunction to halt the shareholder vote, ruling that the foursome could pursue monetary damages from any contractual breach in the future.