Malone-Diller court case hinges on duty

NEW YORK (Reuters) - When John Malone and Barry Diller face off in court next week, their dispute will hinge on whether Diller owes his highest allegiance to all shareholders of IAC/InterActiveCorp as its chief executive, or to the controlling investor, Liberty Media, whose trust he holds.

Diller is chairman and CEO of Internet conglomerate IAC (IACI.O) and holds the proxy for Liberty's (LINTA.O) 62 percent voting control in the company. Malone's Liberty owns about 30 percent of IAC, but has majority control through a second class of super-voting shares.

The two sides filed dueling lawsuits over who will control four of IAC's largest units under a proposed spin-off, with trial scheduled to begin in Delaware Chancery Court on Monday.

Many on Wall Street believe it would have been in the best interest of both parties to settle well in advance, as IAC shares have slid more than 20 percent since the legal battle began in late January.

But with no apparent settlement in the works, two of the media industry's biggest personalities face a novel predicament based on their proxy agreement, which lies at the heart of their battle after more than a decade of working together.

"I can't see how he could serve both those masters at the same time," said Beth Young, a senior research associate at the Corporate Library, referring to Diller.

"There is a potential conflict of interest embedded in that arrangement," she said. "If you are the CEO, your paramount responsibility has to be to the company and shareholders."

The deal was first conceived to allow Diller, a former film and television impresario, to build and control a network of media and Web assets with the backing of cable mogul Malone.

That alliance began to weaken as IAC's shares shed their value over the last several years and Malone sought a way to shore up his investment.

IAC proposed in November that it focus on its fast-growing Web media businesses and spin off of the HSN shopping network, LendingTree mortgage site, Ticketmaster box office service and Interval time-share exchange.

A SIMPLE ARGUMENT

The full-blown dispute erupted in January when Diller proposed to eliminate the super-voting shares for the spun off units, arguing a single-tier share structure would make them more attractive for new investors to buy into the companies.

Liberty opposed ceding control over these businesses just because they have been carved into separate entities. It could cite previous experience on that claim, as a similar spinoff of IAC travel site Expedia (EXPE.O) in 2005 preserved Liberty's voting control after it became a separate public company.

"The Liberty argument is a fairly simple argument, which is that Diller is obligated to act in ways that are consistent with the views and the interests of what is after all the majority shareholder of the company," said Thomas Dewey, a lawyer who specializes in governance issues and advises boards at Dewey Pegno & Kramarsky LLP. "It's always better to have a simple argument."

While Diller maintains he had not taken concrete steps to act on the proposal, Liberty contends that he violated their proxy agreement by showing his intent to vote its shares against Liberty's interests.

Where Diller may have a case is that the potential for a conflict was clear from the very genesis of the proxy agreement with Liberty, Dewey said.

The fact that the two sides, both of them savvy dealmakers, agreed to such an arrangement could make it more difficult for Liberty to cry foul over Diller's actions, unless it can be proved he did so in bad faith.

Malone and his fellow representative on IAC's board had also approved the spin-off plan before details of the control structure emerged.

"They will argue factually that initially Liberty thought this was a good idea and then changed (its) mind and attempted to completely disavow the arrangement ... and to override a business decision made not only by Diller but also the full board," Dewey said.

Some experts said that companies today would not be able to strike such an arrangement, in which a proxy holder also serves as CEO, under the prevailing view of good governance.

"You kind of wonder how the whole thing came together like that to begin with," said Charles Elson, director of the Weinberg Center for Corporate Governance at the University of Delaware. "Whatever happens, it probably needs to be rethought."

(Editing by Brian Moss)