Posted by Gregory Taxin, Spotlight
Advisors, on Thursday, September 28, 2017
activism in the US has increased greatly over the past decade, measured not only
in scope and the pools of capital dedicated to it but also in sophistication and
in the range of tactics employed. There is currently more than $120 billion in
dedicated activist funds at work, and these funds launched nearly 300 activist
campaigns globally in 2016. Another 400 campaigns were launched by “occasional”
activists. Indeed, a fair number of companies should expect a knock at their
door soon—21% of the S&P 500 were approached publicly by an activist in 2016
according to FactSet (and many others received quiet, private overtures). Such
activism will likely grow more prevalent, as it has proven to generate alpha
(i.e. uncorrelated returns) for these funds’ investors.
Activists and activism draw sharp emotional responses: some cheer
activists as appropriate scolds of lazy and under-performing Boards;
others paint activists as locusts focused solely on short-term
strategies. Activism is a natural outgrowth of our market’s structure
and can be a force for good. All capital markets need a mechanism to
“police” strategy selection and Board performance in those rare
instances when the corporate governance system does not work.
For the most
part, our system of corporate governance does work and Boards self-correct to
put companies on the optimal strategic path. But the Board mechanism is not
perfect: Not all boards are as independent as they ought to be and directors
also have some interests, such as director fees and job continuity, that differ
For these reasons
and others, activists can and do play an important role as last-resort overseers
of the shareholders’ interests, but as in every human endeavor, some perform
better than others.
techniques were once used only by specialist funds. Now, traditional, long-term
investors are adopting (and adapting) activist techniques, increasing the volume
of shareholder engagements. They’ve seen that engagement at companies with
sub-optimal strategies or under-performing management teams can help generate
alpha. It can also help justify the larger fees charged by active managers. At
the same time, some specialized activist funds are taking a longer term view of
All of these
factors are driving a new wave of shareholder activism, with campaigns often
reaching outside traditional targets. Companies of all sizes and types can have
Today, in fact,
even good stock performance does not immunize a company. Take the
recent example of restaurant chain Buffalo Wild Wings. Over the 14 years
since the company went public in 2003, the stock compounded shareholders' money
by 24% per year, dramatically outperforming its casual dining peers. On
operating metrics, the business also outperformed nearly all of its peers. In
the three years before this spring’s proxy battle, the stock was up 18% in a
difficult sector, where many of its peers had gone belly up. Yet, even strong
performance like this did not protect Buffalo Wild Wings from Marcato Capital’s
advances and demands.
What are the
drivers of activist campaigns? Activists are, first and foremost, investors.
They seek great returns and they propose changes that they believe will drive
better future performance than the market expects. In this way, the driver of
activist activity is really perceived suboptimal plans, not suboptimal past
performance. The tactical focus is often on strategy, operations, the balance
sheet, business configuration, the board, and M&A.
often extremely knowledgeable about the company, very invested in future
outcomes, and equipped with analytical tools that can outstrip even a
activist must be able to answer the question: why hasn’t the board adopted the
proposed changes? And so, activists necessarily focus on perceived deficiencies
in board composition or on a claim that the board is “stale.” Naturally, then,
boards with longer average director tenure are significantly more vulnerable to
campaigns. If there is a deficiency in strategy or business configuration and
the Board is seen as “stale,” the activist can claim the staleness has led to
the suboptimal choices.
campaigns are remarkably successful, in part because activists get to pick their
targets. In well over half of the campaigns, significant changes are driven by
the activist. CEO tenures are shorter and, according to some academics, stock
performance is better, once an activist appears.
A 2017 survey by
FTI Consulting finds that settlements have become more prevalent and have come
quicker than in the past. Nevertheless, more fights in absolute numbers went to
a final vote in 2016 than at any time since 2010.
number of companies facing activist campaigns has been driven by non-traditional
activists. Mainstream, long-only institutional investors and first-time or
“occasional” activists account for nearly all the increased volume in activism.
Recent examples include campaigns by Neuberger Berman, T. Rowe Price, and PAR
Capital Management, all three of which had been regarded as traditional
investors that “vote with their feet” rather than vocally.
becoming a tactic deployed by all types of investors rather than a “strategy”
that defines a fund. Along with its broader adoption, the practice of activism
has professionalized, with a bevy of advisors that help both investors and
companies to engage in these campaigns.
willingness of more investors to use activist tactics, every public company may
have “activists” in its shareholder base. The lurking activist may not have a
familiar activist fund name: it may be your long tenured shareholder that wants
to be heard. Some “activists” are hidden in plain sight.
company board members, these changes bring a new reality of engaged investors,
with heightened reputational stakes for directors. Noisy, public campaigns
challenge the judgment and composition of the board. And proxy fights are more
distracting and expensive than is often imagined. In fact, it’s hard to
overstate the all-consuming nature of such battles. Having been involved in more
than fifty activist campaigns, we can tell you definitively that once embroiled
in a proxy fight, the CEO. CFO, and board members will be forced to spend
substantial time dealing with tough, daily decisions, and the costs often run
between $4 million to $6 million for a full campaign at a mid-cap company. These
costs have been escalating as campaigns go on longer and often involve many
advisors: some protracted fights will cost a company well over $20 million.
Obviously, some battles are worth fighting, but remember the odds: Companies
very often lose—and will get stuck with the bill and distraction anyway.
The best defense
is to make smart governance moves in times of peace. Since long-tenured boards
have proven to be an easy wedge for activists, boards must proactively consider
their refreshment, casting a critical eye on the mix of tenures and expertise.
Think about setting a target “average tenure” for the board as a governance
policy. It’s rare to find a well-composed, self-refreshing board come under
successful attack from an activist.
strategic moves also help avoid activist campaigns before they begin. The board
and management should lead an active, objective review and analysis of popular
activist hot-button issues (e.g., capital allocation, capital structure,
strategy, operational plans, executive compensation, business configuration,
personnel, etc.). One good option is to bring in a third party to help the board
“think like an activist” to provide fresh input and objective thinking and
identify vulnerabilities (which can be opportunities for improvement) ahead of
on investor relations is also crucial. Consider “radical transparency” with
investors about the roads taken and the roads not taken. Why did your company
take a different path than peer companies? Directors must be prepared to provide
rationales about choices made and differences in operating models, strategies,
Response Tactics That
Even with the
above tactics, a surprise activist campaign involving your company is always
possible. How do you respond? As a first step, the board should be immediately
informed, ensure there is a response team, and designate a representative to
liaison with the team.
turn to their corporate counsel first. And while counsel is critical in these
situations, remember that an opinionated investor is not primarily a legal
problem. Advisors can be helpful, but too many can be unwieldy.
It is critical to
know where your other shareholders stand on the points raised by the activist.
But, be cautious in assuming management knows the true feelings of your
shareholder base. Investors don’t always tell their true feelings to management.
team should actively engage with would-be activists to understand their thesis
and points of view. At first, activists almost always seem friendly and express
a desire to engage “constructively.” Be wary. At the same time, always remember
that being gracious pays off.
The company must
contemplate its approach and words carefully, depending on the activist. Your
board can prove a great asset in this engagement. Ensure that one or more
directors are designated to speak to investors, should the need arise. (We
recognize that many corporate advisers prefer to hide the board from investors.
This approach, though common, has serious risks in our experience. Directors are
shareholders’ representatives and should be willing to meet with those whom they
represent.) Whoever speaks for the company should know that there may be a
tricky dance required to be both open and compliant with disclosure rules. This
is especially true because activists often suggest things that are actively
being considered or are under way, which makes for difficult conversations if
the company’s activities are not already public.
Six Questions You Should Address Before an Activist
today are professionals who know your company inside and out—sometimes
better than management. Here are six questions the board and management
should answer Internally before they find themselves on the defensive with
the company’s performance compare with its peers? How do valuation
metrics compare, as well as executive compensation programs?
the buy side think of your strategy and operational prowess (not what
you’d like to hope they think)?
the competition say, and what do its leaders think are your company’s
strengths and weaknesses?
your incumbent directors and management vulnerable?
guidance has the management team provided that proved too optimistic?
impediments to board self-evaluation and refreshment?
In meeting with
the activist, avoid defensiveness and a closed mind. Consider elements from an
activist’s agenda that you can adopt, leaving him or her with fewer complaints
investors often have reasonable ideas worth considering, so be open to
contemplating those ideas objectively.
“suggestions” usually are requests for changes to the board. As noted earlier,
preemptive board refreshment is often the best medicine. Post-activist
unilateral appointment of new directors is certainly not as good as preemptive
board refreshment, but it’s still better in many cases than remaining static
with a board slate that is difficult to defend. Consider the options of agreeing
to a third-party board candidate approved by both sides, setting a plan of
refreshment, or appointing an alternative stockholder representative.
If you find
yourself embroiled in a full, public proxy battle, early moves and press
releases will set the tone and shape the future course, so contemplate them
carefully with input from advisors.
believe that canned press releases or attacks on the activist do not work.
Today’s capital markets are sophisticated about activism, and these tactics,
along with ad hominem attacks or pro forma pledges of fidelity to shareholders,
no longer help a company.
from a bygone era are usually received poorly by shareholders and likely will be
counterproductive. Suing an investor, for example, is almost always a bad idea.
Adopting a poison pill, changing advance notice provisions, or adopting
last-minute bylaw changes to thwart a shareholder also generally backfire.
expect a substantive response to criticisms and suggestions. Respond to the
shareholder on the merits.
work include the following:
transparent, honest disclosures about the board’s rationale for its decisions
recognition of performance challenges with a clear plan for fixing them; and
show how value
will be created with the current plan, capital structure, management, and
of your shareholder base can prove critical in knowing how to shape the message
and win votes. Stock surveillance services can aid in watching trading to ensure
management knows where the stock is.
Finally, be sure
to use the independent directors’ voice, especially if there is a strong history
of board self-refreshment and shareholder board support. Use a director to sit
down with shareholders and explain strategy (and paths not taken), operational
performance, executive pay plan design and succession planning. Show the
shareholders that the Board is thinking actively about all of these critical
areas and working hard on behalf of shareholders.
Be Proactive and
There’s no doubt
the past decade has seen enormous change in the relationship between
shareholders, management teams.and boards. In this new era, more than ever, it
is important for boards to be well composed, for companies to contemplate all
value creation opportunities and for all capital market actors to recognize that
good ideas can originate both inside and outside the company.
corporations take the lead, shaking up their own strategies, boards, governance,
and engagement rules before activists force them to.
Harvard Law School Forum
on Corporate Governance and Financial Regulation
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