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Source: Corporate Secretary, January 17, 2013 article

Corporate Secretary


Why activists are winning proxy fights

by Matthew Scott

17 Jan 2013

Activists have been taking advantage of the struggling economy driving down the share price of many companies to make the case that they can do a better job – if they can get representation on the board.

Issuers need to take note because when it comes to proxy fights, the activists are winning. Activist shareholders seeking representation on the board of directors or trying to take over companies have been enjoying significant success over the last few years – either wining proxy battles outright or forcing companies to settle disputes by handing over board seats.

Activists have been taking advantage of the struggling economy driving down the share price of many companies to make the case that they can do a better job – if they can get representation on the board. It’s a strategy that seems to be working because Innisfree chairman Arthur Crozier says, this year, many firms are simply settling their proxy contests and giving up seats before they begin generating attention.

‘When you look at the statistics for proxy fights by activists in prior years, the statistics are a little scary,’ says Crozier. In contests over board seats, ‘ISS recommends in favor of the dissident in those situations two thirds of the time, and the dissident gets elected two thirds of the time as well, so if you decide to fight it out, the odds are stacked against you.’ He also notes that if you add in proxy fight settlements during the same period of time, the ability of dissidents to obtain seats on the board multiplies even further.

Innisfree has been tracking proxy fights over the last six years, focusing on companies with a market cap of at least $100 million where the proxy contest is over directors and it does not involve a merger or acquisition. The company tracks the trading in company stocks, checking to see whether there are any activists moving in, then advises companies on what steps they should take to prevent a shareholder action. Innisfree also provides proxy advisory services and counseling on other corporate governance matters.

‘We study the movement of stock from one custodian to another,’ explains Jennifer Shotwell of Innisfree. ‘We know what kinds of shareholders tend to hold shares at particular banks or brokers, so we can analyze very accurately the composition of the shareholder base. We can tell things like the percentage [of shares] held by a fundamental type of institutional investor or the percentage held by hedge fund arbitrage investors, and the percentage held by retail.’

Of particular interest to clients, however, is the fact that, ‘with other sources of information we can track pretty accurately increases at specific custodians that we know represent hedge funds,’ Shotwell says.

Information analysis

Analysis of that information can tell a company when it may be time to begin engaging a particular investor to head off a shareholder action, especially if it happens to be an activist hedge fund with a reputation for pushing for board representation. The analysis of that information can be helpful in other ways, too. ‘Because we have very extensive experience with proxy fights, we can give the company a realistic assessment of what its real risk is,’ points out Innisfree director Larry Miller. ‘We say to it, Do you have to settle or not? Do you have to do something else and if so, when and how?

Lately, activists have been much more aggressive about putting forth director candidates who can change the strategic direction of the company – a very different approach from years past when activists obtained minority representation on the board and were satisfied to have a fresh voice on the board or to shake things up a bit. Now, activists are putting forth detailed plans of things they want to do with the company to improve shareholder value. These types of attacks are more difficult to fend off.

‘In the past, it was always easy to say, Don’t vote for this hedge fund because it is a short-term investor, it doesn’t have our interests at heart, but that’s not going anywhere as an argument anymore,’ says Crozier. ‘The activists and hedge funds have become very, very sophisticated. They do a lot of deep down analysis and it really strikes a chord with the fundamental institutional investors, so I don’t think there is that wedge anymore that you can drive between the goals of the activist hedge fund and the goals of the institutions.’

Given that many institutional investors have been sitting on certain stocks that haven’t been able to recover from the economic downturn since 2008, they are ready to make changes. Companies whose stocks have been devalued or undervalued in the marketplace may find themselves very vulnerable to proxy contests in the coming year. As of July this year, SharkRepellent FactSet reported that 27 percent of the 66 proxy contests filed were settled. ‘The number of settlements shows the realization of management that you can’t fight because you’re going to lose,’ Crozier says.

Winners and losers

The statistics also show another 6 percent of the proxy contests were won outright by activist dissident shareholders and an additional 3 percent were split decisions, results that aren’t very good for issuers, either. This points out just how much corporate boards have to consider before entering into proxy fights, which can be very expensive to wage. Given that reality, Crozier and Shotwell suggest companies should review their investor relations strategy focusing on:

1. Analyzing and getting to know the shareholder base inside and out

2. Understanding why shareholders may be unhappy and what their key concerns are

3. Creating an outreach program to take steps to try to address shareholder concerns and demonstrate that you are responsive to shareholders.

The approaches taken to avoid a proxy contest will vary depending on the situation.

‘Sometimes it is a question of engaging with the activists, sometimes it’s a question of engaging with your fundamental investors so you will be ready to talk to them when the activist comes in,’ says Crozier. If you develop a healthy relationship with your core shareholder base, the activists ‘won’t have fertile ground to go to because you will have already been responsive to them,’ he explains.

Even if companies do the investor relations outreach that is required, they still may face activist investors challenging for board seats. Shareholder activism is here to stay, so the best defense is to stay connected to your shareholder base and have a solid corporate strategy for improving shareholder value that investors can support.

© Copyright Cross Border Ltd. 1995–2013.



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