When Dan River Inc. set out to foil a takeover bid by Wall Street financier Carl Icahn last fall, lawyers for the textile maker included a new weapon in the usual legal arsenal: They called Icahn a racketeer.
Dan River's lawyers made the charges under RICO, the Racketeer Influenced and Corrupt Organizations Act, a federal law aimed at preventing organized crime from infiltrating legitimate businesses.
But RICO's sweeping language has been interpreted to cover ordinary business people as well as Mafia bosses. As a result, the law has become the latest tactic in fighting high-stakes, no holds barred takeover wars.
"It's the newest fad," said University of Pennsylvania professor William C. Tyson, who is writing a law review article on the subject. "RICO has been around since 1970, but it has only been in the last couple of years that attorneys have realized it might be helpful to thwart a takeover."
Marshall Field & Co. used RICO last year to combat Icahn's unsuccessful attempt to gain control of the Chicago retailer. Bayly Corp., a Colorado maker of jeans and casual wear, invoked the law during a losing proxy struggle against Detroit stockbroker David T. Marantette III.
When Canadian conglomerate Norcen Energy Resources Ltd. made a bid for Hanna Mining Co., the Cleveland firm charged various Norcen officials of violating RICO--and later, in a settlement, put the very men they had labeled racketeers on the company's board.
The racketeering charges are possible because RICO's reach is not explicitly limited to organized crime figures and because the law specifically includes securities fraud among the acts that constitute "racketeering."
RICO makes it illegal to acquire or operate a business with funds derived from a "pattern of racketeering." A "pattern" is established under the law if two racketeering charges are proved within 10 years.
"There is a great deal of concern in the business community that the law is so broad that a lot of legitimate businessmen get sued under RICO and get their reputations smeared," said Arthur F. Mathews, a Washington securities lawyer who is heading an American Bar Association task force studying the use of RICO in various civil suits. "Is it fair to brand ordinary business defendants as racketeers?"
Not surprisingly, the business people who get hit with RICO charges don't think so.
"I consider it an abomination that a company's management should resort to these gutter and smear tactics," Icahn said in a statement at the time of the Dan River charges. "These allegations are completely unfounded and are simply designed to dissuade me from continuing my interest in the company."
In making the RICO charges, Dan River pointed to Icahn's treatment of Bayswater Realty & Capital Corp., a real estate holding company, as an act of racketeering.
Dan River claimed that Icahn bought Bayswater, stripped the company of its real estate assets, and used the funds to finance previous takeover attempts--without registering Bayswater as an investment company with the Securities and Exchange Commission, as required by federal law.
Dan River also claimed that Icahn's practice of buying up a company's stock but agreeing not to attempt to gain control if the company would repurchase its stock at a sufficiently high price--what Dan River termed a "buy-me-out-or-face-a-takeover ultimatum"--was an extortionary scheme that violated the federal securities laws.
The Fourth Circuit Court of Appeals cast doubt on this use of RICO in an opinion last month in the Dan River case. The court said a lower court had erred in issuing an order, based in part on the RICO claim, barring Icahn from exercising his voting rights in Dan River stock.
"We note the mounting controversy in the federal courts over the proper limits, if any, upon the use of RICO in cases far removed from the context which Congress had in mind when it enacted that statute," the court said. "Congress was out to attack the problem of organized crime, not the problems of corporate control and risk arbitrage."
But other courts have allowed such RICO claims to proceed, and there are several factors that make the law an attractive tool. First, it is uncertain whether the regular securities laws give target companies a legal right to sue to block takeovers. RICO, which clearly confers such standing, lets target companies circumvent this possibly fatal procedural hurdle.
Second, unlike the regular securities laws, RICO allows winning parties to collect treble damages and attorneys fees. "And while no target company's suits have yet progressed to that stage, securities lawyers say those potentially hefty sums could induce a bidder to think more seriously about settling out of court."
And, in what many lawyers cite as RICO's most important function in takeover battles, RICO gives a target company the chance to paint the opposition as racketeers--and to generate the negative publicity that such inflammatory charges inspire.
"It's a sort of lawful libel," said Michael R. Klein of Wilmer, Cutler & Pickering, who successfully fended off a RICO charge in the Bayly, Marentette battle. Klein noted that federal securities laws required Marentette to tell shareholders deciding whether to vote for him or for the existing management that he had been charged with racketeering.
"We had one substantial elderly shareholder who was just scared to death about Marentette as a result of that," he said.
But lawyers for target companies take the position that all is fair in takeover wars. "You use whatever legitimate defenses you have," said John C. Fricano of Skadden, Arps, Slate, Meagher & Flom, one of the country's leading takeover firms.
"The plain fact is that the statute says securities fraud specifically," added Fricano, who used RICO in the Bayly proxy contest. "Maybe Congress blundered, but unless and until Congress or the Supreme Court decides otherwise, plaintiffs in these suits will use it, and defendants will continue to scream foul ball."
Law professor Tyson agreed. "Congress knew it was going to be hitting nonorganized crime when it drafted the statute," he said. "If there is a problem, Congress ought to deal with it. It's not appropriate for the courts to unscramble a mess that Congress created."
Fricano noted, however, that companies that charge their opponents with violating RICO may be taking a risk.
"RICO could become a two-edged sword," he said. "The defendant could very well say this is a smear campaign and try to reach the shareholders' minds and hearts with that kind of argument. If you use RICO, you have to be prepared for the consequences."