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Over the last week, Endurance Specialty Holdings Ltd.  received bad news in its battle to take over Aspen Insurance Holdings Ltd.  Three proxy advisory firms recommended against Endurance’s attempt to ask shareholders to authorize proposals to push its deal forward.

But that isn’t as much of a setback as it might seem. Institutional Shareholder Services Inc., the leading proxy advisory firm, based its recommendation on its view that a more direct approach was possible at next year’s annual meeting. As a result, it looks like one of Aspen’s key defenses has collapsed, and shareholders will be able to elect a majority of the board far sooner than a strict reading of Aspen’s corporate documents might have otherwise indicated.

To understand why ISS’s reasoning may actually be good news for Endurance, one needs to understand some fundamentals of the strategy of a hostile takeover. To win a bid while directors are resisting, the buyer needs to hit two goals. First, of course, it needs to offer a high enough price so that shareholders want to try to overrule the directors. Second, it needs to set up an endgame in which shareholders will have the ability to overrule the directors.

Getting to a timely endgame can be a bit tricky. Aspen is a Bermuda company, but in certain respects Bermuda law is similar to Delaware law. Thus, Aspen has adopted a poison pill defense plan that basically blocks Endurance’s hostile exchange offer unless Aspen’s board approves it. In addition, Aspen has a staggered board, which means generally only about a third of the directors are up for election each year and directors serve for three-year terms.

If Endurance wanted to replace a majority of directors in the normal course, it would take until the 2016 annual meeting. Spending two years to get a deal done is probably not a realistic strategy for Endurance.

But Endurance found a way around this. Although shareholders cannot remove directors, they can expand the size of the board. At first glance, that wouldn’t appear to permit Endurance to gain a majority of the board any sooner because vacancies can only be filled by the existing directors.

But here is where Bermuda law diverges from Delaware’s and the ISS report contains good news for Endurance. At Aspen, directors elected to fill those vacancies must be put up for reelection at the next annual meeting. So Endurance proposed to call a special meeting of shareholders to increase the number of directors so that, although the current board (and not shareholders) would fill those positions, a majority of directors would be up for election at the 2015 annual meeting .

ISS opposed that proposal. Why? It said Endurance can combine its proposal to expand the board and ask shareholders to fill the new seats with its candidates at next year’s annual meeting without losing anything. That is not how I read the Aspen bylaws, which clearly say vacancies on the board are to be filled by the directors. I think Aspen could have argued (and I believe Endurance was concerned) that it would have put Endurance on the two-year track rather than resolving matters in 2015. If I were Aspen I might have argued that an expansion of the board in 2015 would give the current board the right to fill those new seats through 2016.

Aspen is not in a good position to refute ISS’s reasoning that everything can come to a head at the next annual meeting. The company’s own proxy materials opposing Endurance’s solicitation had put forth the theory that Endurance could wait and ask shareholders to do both at next year’s meeting.

With both of them discouraging the call of a special meeting to expand the board using this argument, it would now be hard for Aspen to change course at next year’s annual meeting and claim Endurance needs to wait until 2016 to change a majority of the board.

ISS has effectively lit a fuse on the Aspen board and eliminated the takeover defense benefits of having a staggered board. Endurance has a potential endgame set at the 2015 annual meeting. In doing that ISS gave Endurance some good news.
