August 5, 2014 6:17 pm

Corporate acquirors take early aim at their target’s investors

By Ed Hammond in New York

To win investor support for last month’s $53bn takeover of rival drugmaker Shire, AbbVie delivered a blunt message to its target’s shareholders: if you want a deal, speak now or risk us walking away.

To stress the importance of their response, AbbVie pointed to the example of AstraZeneca, the UK pharmaceutical company that in May fought off attention from US rival Pfizer – and has faced disgruntled shareholders ever since.

Abbvie’s tactic worked. Days later – and with its shareholders voicing support for a deal through the press and directly to its board – Shire agreed to sell itself to AbbVie.

The willingness of Shire’s shareholders to speak up so early in a takeover fight highlights a shift in the relationship between companies and their investors. The shareholder passivity that has long allowed companies to keep the rump of serious decision making in the boardroom is ebbing. Increasingly, shareholders want to be part of a wider discussion about what is best for all those invested in the future of a company. The debate has been enlivened by the recent surge in dealmaking and activist investment.

At the end of 2013, and with transaction markets still lumbering, the thought of shareholders interposing their own views on to any M&A decision-making process was not one stirring many company directors from sleep.

One example where it did happen was Charter Communications’ $61bn unsolicited – and, ultimately, unsuccessful – offer for Time Warner Cable. The two US cable companies had been jousting for a full seven months when T Rowe Price, a top 20 shareholder in TWC, wrote to its board urging it to engage with its suitor. Even so, the decision to communicate its views directly marked T Rowe out as a dissenter in an otherwise largely submissive pool of shareholders.

This year the game has changed: with M&A at healthy levels, shareholders – and their opinions – have gone from sitting on the sidelines to centre stage in transactions on both sides of the Atlantic.

The question is why has their role changed?

One explanation lies with exchange traded funds. Holding less than 3 per cent of the market value of the US’s 500 largest public companies five years ago, ETFs represent about 7 per cent of that shareholder base today. The increase has coincided with a rich run for funds that passively track the stock market – the S&P 500 has risen almost 50 per cent in the past three years. The remainder of publicly traded stock is mostly held by asset managers, such as BlackRock and T Rowe Price. They, too, have reaped the fruits of the flourishing market.

But a big difference between ETFs and asset managers lies in the fees they charge.

On average, ETFs charge investors an annual fee of 0.47 per cent, whereas asset managers ask for 1.24 per cent, according to data from Thomson Reuters.

To justify those higher fees, asset managers cannot passively hold the same stocks as the ETFs. Instead, they are having to push the companies whose stock they hold to make better decisions.

Jim Woolery, head of the Shareholder-Director Exchange, a working group that hopes to foster better discussion between boards and shareholders, says passivity among asset managers is a thing of the past.

“There has been a tectonic and permanent shift in the American shareholder base that is creating an economic pressure for asset managers to be more thoughtful and more vocal about how the companies they invest in should be run,” said Mr Woolery, who is also chairman-elect of Wall Street law firm Cadwalader, Wickersham & Taft.

Companies, for their part, seem increasingly willing to listen – and with good reason. Activist investing and hostile takeover attempts, both of which have soared this year, prosper when companies and their investors are out of sync.

“The practice of using investor relations or other arm’s length methods for speaking to your largest shareholders is fading fast,” says John Studzinski, global head of Blackstone Advisory Partners. “Chief executives and directors are realising that they have to be out there themselves, understanding and addressing the key concerns of shareholders. It is morphing from something that happens in a crisis towards being accepted best practice.”

An obvious benefit of these pre-event conversations is in learning the right balance between the competing interests of different investor groups.

As news of deals reach the market, short-term investors known as merger arbitrageurs often pile into the shares of the target company, betting on the likelihood of a deal closing. Arbs are typically more vocal than traditional long-term investors which can put disproportionate pressure on boards and influence other shareholders to enact decisions that run counter to what the board sees as being in the best interests of the company.

To defend against this, companies can redefine the rules that govern the rights of their shareholders.

In July, the board of Time Warner, the television and film company (unconnected to Time Warner Cable), changed its bylaws to block its own investors from forcing it into a $73bn takeover by Rupert Murdoch’s 21st Century Fox. In a move that reflects that changing pace and degree of shareholder involvement – and the expectation of it – Time Warner waited just five days after Mr Murdoch’s public approach before rewriting its rule book.

It was, according to advocates of shareholder-director dialogue, an indelicate solution to an unnecessary problem. Their hope is that the increasing tendency of investors to voice their opinions, and of companies to listen, will lead to decisions that better address the interests of those stakeholders beyond the boardroom.