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Hudson’s Bay Co.'s independent directors shot back at an influential proxy advisory firm on Monday, saying its recommendation that shareholders reject a $1.1-billion privatization offer from the retailer’s executive chairman is based on flawed assumptions about a previously unpublicized agreement.

In its report issued late Friday night, Institutional Shareholder Services revealed the existence of a waiver granted by HBC’s board in the spring to shareholder Fabric Luxembourg Holdings. The investment firm, which owns 23.5 per cent of HBC’s shares, had signed a standstill agreement with the retailer in 2017, which prevented it from acquiring more than 45 per cent of the stock, effectively barring it from joining a bigger group that collectively would acquire all of the shares.

However, in the weeks leading up to the announcement of the offer by major shareholders led by HBC chairman Richard Baker, HBC’s board granted Fabric Luxembourg a waiver of the standstill so it could participate. The waiver was not publicized, and investors who bought stock in HBC prior to the June announcement of the bid would likely have benefited from knowing the standstill was no longer in place, ISS said in its report.

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The decision to grant the waiver was one “significant defect” in HBC’s sale process, ISS said, and a factor that prompted the advisory firm to urge minority shareholders to vote “no” to the $10.30-a-share bid.

In its response on Monday, the special committee of HBC directors – which has given its blessing to the offer – argued that the waiver had no impact on its bargaining influence, and even without it, the Baker group would have had a large enough position to block any competing proposals. A successful alternative offer would require the support of holders of two-thirds of the shares, and even without Fabric Luxembourg, the Baker group would control 34.7 per cent.

“We are disappointed by the ISS recommendation and the errors and flawed rationale of ISS," special committee chairman David Leith said in a statement. "The $10.30-per-share cash offer is in the best interests of HBC and fair to minority shareholders.”

The ISS report is a blow to Mr. Baker and his allies, who also include Hanover investments and Abrams Capital Management LP. Together they control 57 per cent of HBC shares. Their bid is scheduled to be put to shareholders on Dec. 17, and a majority of the minority investors must vote in favour of the plan for it to proceed. Institutional investors such as pension and private-equity funds take their cues in such contests from proxy advisory firms such as ISS, as well as Glass Lewis & Co., which has yet to issue its own report.

ISS’s recommendation against the Baker group bid came amid a flurry of contretemps in the battle for HBC, whose retail operations have struggled against online rivals such as Amazon.com. The executive chairman aims to take the retailer private so the company can work on its turnaround without the requirement to continually report progress to public investors.

It faces a fight from dissident investments, especially Catalyst, the Toronto-based private equity fund that has a 17.5-per-cent stake. This week, Catalyst will take its case to the Ontario Securities Commission, arguing that the bidding process was “flawed and coercive” and should be stopped or postponed.

In its response to ISS, the special committee also took issue with the advisory firm’s characterization that the independent directors “handcuffed” themselves when they negated the potential for superior offers by ruling that no competing bid – even a higher one – could be successful as long as Mr. Baker’s group refused to sell. The group has stated it has no intention to sell.

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“No board of directors, having concluded that an arrangement is in the best interests of the company, would terminate an arrangement [that it has already recommended] in order to enter into an alternative transaction which is not reasonably capable of completion," it said.

An ISS spokesman declined to comment.

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